UnitedHealth Group Inc. (UNH) Friday reported a 21 percent rise in third-quarter earnings on membership gains and lower-than-expected medical costs.

The health insurer, the nation's largest by market capitalization, forecast strong profit growth would continue through 2006 at a clip of at least 15 percent.

UnitedHealth, whose shares rose nearly 4 percent, predicted the coming Medicare (search) prescription drug benefit would add 2 million to 3 million new members to its rolls next year, potentially boosting 2006 earnings by 5 cents a share.

Goldman Sachs analyst Matthew Borsch said UnitedHealth's quarterly results bode well for the sector. As the first of the big managed-care companies to report earnings, its results are considered a bellwether.

"We expect another strong back half for managed care," Borsch said in a research note. "Continued slowing in medical cost trends should drive upside to projected earnings, setting the stage for favorable industry fundamentals through mid-2006."

UnitedHealth's scale is set to get bigger after the company completes its $8.1 billion acquisition of PacifiCare Health Systems Inc. (search) to augment its position in the market for Medicare. UnitedHealth said it expects to close the deal by year-end or early in 2006.

Shares of UnitedHealth rose $2.05 to $56.25 in morning trade on the New York Stock Exchange. The news lifted shares of rival managed-care companies. WellPoint Inc. (WPT), Cigna Corp. (CI), Aetna Inc. (AET) and Humana Inc. were all higher.

Borsch said strength in the third quarter was driven by a lower medical cost ratio, a key measure of the company's effectiveness in taming costs for doctors, hospitals and pharmaceuticals.

Net earnings rose to $842 million, or 64 cents per share, from $698 million, or 52 cents per share, a year earlier.

The earnings were a penny better than the average forecast among analysts polled by Reuters Estimates.

"The continued strategic and operating advances we are making, combined with strong organic growth now being realized as each of our businesses expands their market share, will drive positive performance into 2006," Chief Executive William McGuire said.

Third-quarter revenue rose 15 percent to $11.3 billion, in line with analysts' estimates.

Operating costs as a percentage of revenue fell to 14.9 percent from 15.1 percent, reflecting advances in quality and productivity, along with the benefits of an increase in business scale, the insurer said.

UnitedHealth said membership increased to 11.4 million as it gained 265,000 members in the quarter.

The insurer forecast full-year earnings of $2.48 per share, up 26 percent from the prior year. It expects earnings per share to grow 15 percent or more in 2006, prior to considering any contribution from the new prescription drug plans for the elderly and the PacifiCare deal.

UnitedHealth said its AARP Medicare Rx prescription drug plan, which is priced below the market average in most of its 34 program regions, will qualify for the automatic assignment of 650,000 seniors from the federal government when the Medicare prescription drug benefit kicks in on Jan. 1.

Based on preliminary indications, the company said in a conference call that it expects that number to grow to 2 million to 3 million new members next year.