Pundits Are Wrong: Healthcare Reform Will Increase Profits 24 comments
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Questions surrounding final legislation have forced institutional investors to the sidelines in healthcare stocks. Given the most recent quarterly filings of major institutional investors, money managers are widely underweight the healthcare sector versus the benchmark S&P 500.
In today’s Boston Globe, the article “Health costs to rise again” makes the front page fold – and should be required reading for investors.
In U.S. history, healthcare reform has included the creation of Medicare, Medicaid, Part D and SCHIP. At each stage, reform has increased the population of insured and failed to control cost.
In 2008, Mitt Romney, former Governor of Massachusetts, ran for the Republican Presidential nomination. His credentials include negotiating the universal coverage of Massachusetts’s residents. The plan has been widely touted as a boilerplate for the current legislation making its way through Congress. Massachusetts plan mandates insurance for all citizens and imposes fees on non-complying residents and businesses.
In one measure, the program has been widely successful. Only 2.5% of Massachusetts’s residents are without coverage. In another measure, controlling costs, Massachusetts plan has been ineffective; despite the prevalence of non-profit insurers.
In the study cited in the Globe, the Kaiser Foundation found insurers would raise plan prices by about 10% next year; well above the 5-7% national average. Overall, premiums in Massachusetts have doubled in the past 10 years.
When asked about rising premiums, leading insurers in the State referenced the age-old economics theory of supply and demand: a shortage of doctors and an influx of newly insured patients demanding treatment.
As such, our history of reform has two distinct accomplishments:
- Increasing the population of the insured.
- Increasing the profits of healthcare companies.
At each juncture of reform, pundits question the sustainability of free-market economics. To date, free markets have both evolved and thrived thanks to rising demand.
We believe current and likely legislation will prove similarly over time. We expect a higher population and corporate profit growth.
- We assume mandated coverage will get the U.S. insured population to 97.5%, roughly the rate in Massachusetts.
- This adds 38 million newly insured, who, at a conservative $2,000 annual premium, will add $76 billion in annual healthcare insurance payments to the industry. NOTE: as of 2006, there were 633k physician and surgeon jobs in the U.S. As of 2005, 12.3% worked in family medicine and general practice (see here). This suggests an additional 488 patients per family physician.
- At an 85% Medical Care Ratio, $64.6 billion annually will flow into payment for healthcare services for the insured.
- For the healthcare insurance industry itself, assuming a 3% profit margin, an additional $2.2 billion will end up in profits each year.
As a result, as the risk pendulum swings from fear toward greed, expect investors to move back into the basket. Post legislative clarity allows market differentiation of winners and losers, increasing volume and providing upside. Healthcare short interest remains too high, providing upside as focus shifts back to business models and away from legislative risk. The focus on gross margin risk is priced-in and somewhat offset from cost cuts. We also believe margin compression will prove far less than feared. On higher revenue growth, this allows more dollars to drop to earnings per share; suggesting prices are cheaper to earnings than they appear.
As a result, we have been advising our institutional clients to increase healthcare weights, believing differentiation of winners and losers post legislation will drive volume and upside returns.
Disclosure: Long ALXN, BCR, CVD, DVA, HCN, HMSY, IBB, IDXX, MCK, MIL, MYL, PRXL, RHHBY.PK, STJ
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This article has 24 comments:
On Sep 17 10:51 AM Shotei wrote:
> The only problem is "Public Option" will run those private insurance
> companies out of busness in a few years. Being forced to cover everyone
> and pre-existing conditions would be enough to close them all down
> but to also have to compete with the government that is more than
> willing to take a lose for many many years (see post office) will
> make it impossible for them to stay in busness. If your long on all
> those drug companies my advise is to run don't walk to your broker
> and sell like there's no tomorrow because there may not be.
This is a very refreshing article that helps balance the whole healthcare reform debate. I can't tell what the final impact will be but I think you are right that a positive outcome is also possible and not just varying degres of negative outcomes. I have just written an article on SKH (waiting for it to get published) here on SA where I didn't factor this positive outcome in. Given that I saw it as a buy anyway this makes an even stronger case to go long.
Thanks,
Jan
On Sep 17 11:04 AM skwestorange wrote:
> This claim/opinion is just seems to be a misinformed fear. Many States
> now have for-profit and not-for-profit insurance providers competing
> and doing so with profit, growth and innovation. New Jersey is one
> such State and so are CA and WA.
In addition, over 500,000 jobs will be lost to Obamacare. In my industry, medical sales, we have already lost 20,000 medical sales jobs this year as companies prepare for reform. Learn more at www.gorillamedicalsale... .
Lets slow down and find out all these abuses in the current system the President spoke about last week in his joint session with congress. If I remember right he said much the new single payer system would be paid by the abuse and fraud of the current system.
Shouldn't we find the abuses before we proceed with the new?
if socialized medicine is so great, why can't euro and japanese corps compete with US corps? not only is your theory ridiculous on its face, evidence directly contradicts you. embarrassing
At the moment when they should have been questioning "Whether or Not, and finding the correct answer, "NO" ", they were scrambling around answering the opposition's schoolyard taunt, "You haven't got one of your own, nya,nya!".
So now we will see a $1trillion disaster with Republican fingerprints all over it, instead of the $1.5trillion disaster suggested by the Democrats...
And Obama will claim victory, while the Republicans wonder what the number was on that truck that just ran them over.
After the "co-operatives" quickly metamorphose into quasi-government options, we can all watch as the truck stops, and then backs OVER them again.
If the experiences of Massachusetts, Californai, MediCare, MedicAid, and the VA system are insufficient to decide that maybe, just maybe, we need to figure THEM out before lumping another large chunk of the system into the lap of government...
Then we will have to just wait for the truck to hit us.
3 years isn't a long time. It is barely enough time to have people move there for the cheap healthcare or have companies leave because of the tax burden from it. It isn't enough time to abstract the MA experience to that of the US as a whole.
You really have no idea how the healthcare debate will unfold, and you are making stock recommendations on how to take advantage of it. Some people are going to say that you buy before the news. Others are going to say that you have no real guess what the law will look like or how it will play out at which point you are simply gambling.
I am interested in the "At an 85% Medical Care Ratio, $64.6 billion annually will flow into payment for healthcare services for the insured." stat. Where does this stat come from and over what period was it taken. Our country is aging, and costs are likely to reflect the changing demographics.
I'm long Humana and keeping an eye on other insurers.
How do you square the per capita spending numbers between US and Europe? The answer is that they have a national budget for health care services and we don't. We effectively have a bubble in the health care sector that is unsustainable. The gov is already half of the system. no one is burrying their head in the sand they are looking for solutions to a problem. Quit bitching at your straw men and contribute a workable solution. how would you structure the system? laissez-faire is an option but does it prioritize a budget? single-payer is an option but can it guarantee competition? there is a solution out there but we are too lazy and corrupted by ideals to figure it out?
So in case you didn't notice, we already have a quasi-socialist system without competition and rising prices of ~10% per year. What makes you think that this is sustainable? What makes you think that the current US system is capitalist? Our healthcare results are comparatively inferior to countries!
So what are you defending, except for an unsustainable system that does not provide adequate care and will strangle the USA with rising costs!!
On Sep 17 07:00 PM Wisdom vs. Information wrote:
> check the scoreboard: european standard of living has steadily been
> falling behind the US since we pulled the defense nurse bottle away
> and is now 30% lower; japan has been in recession since 1990, same
> time frame. what do you socialist not get about 'does not work'?
> you have the evidence in your face and you just keep plowing along
> with your head in sand, loving the taste of dirt
>
> if socialized medicine is so great, why can't euro and japanese corps
> compete with US corps? not only is your theory ridiculous on its
> face, evidence directly contradicts you. embarrassing
With $10's of TRILLIONS of additional " unfunded liabilities" for this grossly inefficient system (just over the next generation), the U.S. health-care system is GUARANTEED to bankrupt the U.S.
The REASON this system is so grossly inefficient is because of the profits put into the pockets of private insurers (not to mention DOZENS of over-lapping bureaucracies), along with the windfall profits the multinational pharmaceutical companies receive through gouging Americans more for their drugs than anyone else in the world.
Anyone who continues to spout the ridiculous drivel that a single-payer government-run system would NOT be a huge improvement is ignoring one of the fundamental principles of capitalism: economies of scale.
As for the author's absurd premise, the ONLY way that profits can increase in this sector is if the U.S.'s mad dash toward bankruptcy ACCELERATES. Thus, presumably most people would hope this author is totally wrong with his prediction.
The US is the only first-tier economy in the world without a nationalizied healthcare system (or even a national option for people that are otherwise uninsurable) and we have seen the effects play out. How can anyone defend the status quo in this debate? Its an absolute failure. As a percent of GDP we pay twice per capita as other nations such as Germany, and hold no advantage in qaulity of care... And the situation is getting worse every year.
Its a ridiculous situation; the do-nothing-bury-our-he... approach has been tried for the last how many years? Industry hasn't solved its own problems. Are we going to let the rest of the world surpase us in healthcare, just as in manufacturing?
Free markets can work in healthcare. Consider Lasik surgery. As out of pocket expense, the consumer (patient) has to choose wisely. The result is that technology, efficacy, and choices have gone up, and prices have gone down. Why? Because the person getting the procedure has to pay for it. And, the person providing the procedure has to compete with other providers.
Why not take the tax break now given to employers on health insurance, have them pay the employees the equivalent difference of healthcare cost to them as salary, give the tax break to the employee, and open up insurance options across the country? Indigents, widows, and orphans can be taken care of by tax credits on 'pro-bono' care. Portability and pre-existing issues could be dealt with by letting the individual buy and keep their policy forever if they like.
The problem is that this will never occur, and furthermore our moral constraints would never allow us to go to this extreme.
Competition on healthcare in the USA is a non-achievable pipedream.
On Sep 18 01:19 PM Guitanguran wrote:
> two things:
>
> Free markets can work in healthcare. Consider Lasik surgery. As out
> of pocket expense, the consumer (patient) has to choose wisely. The
> result is that technology, efficacy, and choices have gone up, and
> prices have gone down. Why? Because the person getting the procedure
> has to pay for it. And, the person providing the procedure has to
> compete with other providers.
>
> Why not take the tax break now given to employers on health insurance,
> have them pay the employees the equivalent difference of healthcare
> cost to them as salary, give the tax break to the employee, and open
> up insurance options across the country? Indigents, widows, and orphans
> can be taken care of by tax credits on 'pro-bono' care. Portability
> and pre-existing issues could be dealt with by letting the individual
> buy and keep their policy forever if they like.
But, what about insurance? Why not get the employers out of the business of buying it and put it AND the tax break in the hands of the individual?
On Sep 18 02:36 PM JCC wrote:
> Guitanguran - I agree with you that free markets might work in healthcare,
> but not under the current situations. For a free market to work,
> you would need to get rid of the FDA and all of the regulation. Let
> the buyer beware and let capitalism do it's thing!! If someone can't
> afford care they pay the price. If a treatment fails, they buyer
> loses it all.
>
> The problem is that this will never occur, and furthermore our moral
> constraints would never allow us to go to this extreme.
>
> Competition on healthcare in the USA is a non-achievable pipedream.
>
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