The Health and Medical Insurance industry is an integral part of
the U.S. economy. According to the Centers for Medicare and
Medicaid Services, U.S. health expenditures account for about 18%
of U.S. GDP. Money spent per person on healthcare in the United
States is more than in any other nation in the world, according to
the World Health Organization.
Despite rapidly growing spending on healthcare over the past few
decades, health insurance industry has been characterized by
growing premium, limited policy choice and lack of transparency.
Over the past 10 years, health insurance premiums have persistently
increased, outpacing the growth of wages and cost of living. The
surge in premiums -- due mostly to complex connections among health
insurance companies, health care providers, pharmaceutical
manufacturers and the medical technology industry -- has been
witnessed in both employer-sponsored insurance as well as
Total premiums for employer-sponsored insurance doubled in the
1999-2009 period. The individuals market also saw rapid growth in
the cost of premiums. Insurance companies have also been known to
denying coverage because of pre-existing conditions, and for
charging higher premium in the individual market.
Increasing industry consolidation also left lesser insurance choice
for Americans, who were reeling under rising health care costs.
Since 1996, the industry has witnessed acquisitions worth about $90
billion, resulting in dominance by just a few players.
Consolidation and market dominance consequently led to a decline in
competition. Big insurers dominating large markets hardly ever
bothered to provide even the basic information to consumers, such
as the performance of health insurance policies, procedures to
claim, the size of provider network and cancellation procedure.
Moreover, in the absence of any reasons or incentives to lower
policyholders' cost, insurance companies went on making increasing
profits year after year. According to HealthReform.gov, profits of
the ten largest insurance companies increased 250% between 2000 and
2009 -- ten times faster than inflation. Though the industry saw
lower enrollment (medical membership) due to the latest recession,
major health insurance companies managed to remain profitable by
increasing their insurance premiums.
Looking at the other end of the spectrum, health insurance
companies also benefited from low utilization amid recessionary
conditions. A high deductible and high out-of-pocket cost kept the
cash-strapped Americans away from the clinics, leading to lower
utilization of health care services. A recent analysis from the
Kaiser Family Foundation revealed that even people with insurance
are opting for medical checkups less frequently, with the number
actually dropping most dramatically after the recession technically
ended. Patients made 17% fewer doctor visits in the second quarter
of 2011 than in the second quarter of 2009.
Over the past couple of years, lower utilization has played a very
prominent role in helping the profitability of the major players in
the health insurance sector. Most of the carriers continued to beat
earnings estimates in recent quarters, benefiting from lower claim
According to insurance majors like
), medical utilization trends haven't moved much. Since these
insurers hold major market share, any indication from them confirms
the fact. But, some uptick in utilization rate can be expected in
data for the final quarter of the year as policyholders try to go
for the long delayed checkups.
However, low medical utilization is a short-term factor affecting
the industry. Over the longer term, issues including the effects of
health care reform and negative economic consequences will reshape
Health Care Overhaul
The year 2010 marked the passage of the Patient Protection and
Affordable Care Act, and the beginning of a multiyear
implementation process. It is the most substantial overhaul in the
history of the nation's health care system.
The primary stated goals of the reform were to provide coverage to
the 32 million uninsured Americans, make healthcare facilities more
affordable, expand coverage for customers with pre-existing
conditions and keep a tougher oversight over the health insurers.
The legislation's detractors contest many of its stated benefits
and consider it another entitlement program that the country can
Certain significant provisions of the legislation pertain to
mandated coverage requirements, rebates to policyholders based on
minimum benefit ratios (which measures underwriting profitability
and is computed by taking the total benefit expenses as a
percentage of the premium revenues), adjustments to Medicare
Advantage premiums, the establishment of state-based exchanges,
greater investment in health IT and an annual insurance industry
premium based assessment. The individual mandate requirement of the
legislation is being contested in the courts, with the final
outcome of that adjudication process far from certain at this
Possible Outcomes of the Reform
The proponents of the legislation claim that upon its full
implementation in 2018, the reform will end discrimination by
insurance companies, create competition amongst insurers through
health exchange, ensure value in the overall healthcare system and
lower the premium.
Some of the provisions and their possible effect on the health
insurers are as follows:
- According to the law, any proposed rate increase above 10%
will be reviewed more closely by both state and federal
governments, and approval will be granted only if the increase
seems justified. This is expected to slow down insurers' premium
escalation, thereby restricting top-line growth.
- Beginning 2011, the provision of maintaining 80% of minimum
loss ratio (
) on individual policies became effective. Also, the requirement
of 85% MLR for commercial policies will be effective from 2012.
These provisions will lead to limited bottom-line growth as
carriers will be forced to spend a minimum amount on insured. A
failure to abide by the MLR rule will force carriers to rebate
the excess cash back to the insured or to lower the premium.
- The law also requires insurance coverage for people with
pre-existing conditions at the standard rates. This will lead to
lower profit per policy compared to earlier where individuals
with pre-existing conditions were charged two to five times more
than people with average health for the same policy.
The breadth of possible changes due to the legislation could change
the way insurance companies do their business. This will
potentially impact pricing, product mix, geographic mix and
distribution channels. The fundamental and potentially
game-changing developments could threaten carriers' ability to
achieve top and bottom-line growth.
While the law has put some restrictions on the insurers, other
provisions of the law provide them with new business opportunities.
Health insurers are looking forward to the entry of millions of new
customers into the market place. Emphasis on the use of health IT
opens a new complimentary business for the carriers.
Consequently, Electronic Health Records and Health Information
Exchanges have become an attractive area for the carriers. The
recent string of acquisitions of Picis, an acuity information
systems vendor, A-Life Medical, Computer-assisted coding software
and Axolotl Corp. a health-data network, by
) and Aetna 's buyout of Medicity, a provider of information
technology, reflect the growing potential of this health service
area among the insurers.
Aiming for Global Markets
Carriers in the health insurance sector are also focusing on
international markets, which specifically appear attractive because
of lesser regulations. Additionally, pressure on social healthcare
systems along with increasing wealth and education in emerging
markets are leading to higher demands for health insurance and
financial security. This is providing carriers with a vast market
Companies like Cigna and Aetna, which have an active presence
overseas, believe that their international business is a positive
differentiator and is a key driver of the higher-than-peer growth
Cigna's recent acquisition of UK based First Assist, a joint
venture with TTK Group for selling health insurance products in the
Indian market, reflects the company's urge to grow its
international business. Last year, the company acquired Vanbreda
International, making it a global leader in providing expatriate
Aetna recently finished two-year licensing process to begin selling
policies in Shanghai. Further, in June, the company entered the
Indian market by acquiring Indian Health Organization, a
fast-growing medical discount card provider. The Indian company
serves approximately 80,000 individuals in 18 major cities.
Both the companies are targeting growth mainly in the emerging
economies of Asia and the Middle East. Though the U.S. health
insurance industry currently has little presence internationally,
we expect the presence to grow as players pursue global expansion
Medicare Advantage: A Favorite Market
With the first group of Baby Boomers turning 65 this year, health
insurers see expanding opportunities in this area over the next few
years. In fact, in the next 25 years, compounded annual growth rate
of Medicare population is expected to increase to 2.7% from 1.5% at
Revenue from managed-care plans of Medicare Advantage is
expected to increase significantly over the next few years as baby
boomers retire. Medicare Advantage is a privately run version of
the government's Medicare insurance program for the aged and
Managed-care is expected to get a lot more attention as the federal
and state governments try to reduce costs. The now unsuccessful
Congressional "Super-Committee" looked into cutting some of the
funds out of federal health care programs, but failed to achieve a
bi-partisan agreement. Major cuts to the Medicare program, whenever
it happens, will have to shift some of the costs to the seniors.
This could, in turn, be good for the health insurers, making their
Medicare Advantage plans more attractive than traditional Medicare
plans. Moreover, many individuals would look forward to
supplement government coverage with private insurance, boosting
demand for Medicare Advantage plans. But reforming the government
healthcare program has proven to be very difficult politically.
Until now, only two of the public providers -- UnitedHealth and
) -- controlled more than 10% of the market. However, we expect a
sharp consolidation in this market. Carriers in the health
insurance sector are in a race to win Medicare Advantage market
share and the fastest way of doing this is to acquire a company in
the same business. Following are some of the recent M&A
activities in this arena:
In late October, Cigna announced its intention to acquire
HealthSpring Inc. for $3.8 billion.
UnitedHealth's acquisition of XLHealth Corp, a sponsor of Medicare
Advantage health plans in November, was the next big deal in this
area worth $2 billion. Earlier during the year UnitedHealth
acquired Inspiris, which serves patients in Medicare, Medicaid and
commercial insurance populations.
On October 1, Aetna closed its acquisition of
Genworth Financial Inc.'s
) Medigap business for $290 million.
) also announced to buy Health Plus from Lutheran HealthCare for
Similarly, Humana struck two deals for small Medicare Advantage
plans -- it acquired Arcadian Management Services and MD Care
during the third quarter 2011.
In August 2011, WellPoint successfully culminated the acquisition
of CareMore Health Group.
Some investors think that smaller companies like
Coventry Health Care Inc.
Health Net, Inc.
) along with Medicaid specialists like
Molina Healthcare Inc.
) and Amerigroup may soon become takeover targets.
Though the health insurance industry has been witnessing mergers
and acquisitions for the last several years, the landscape created
by the health care reform has significantly increased the pace of
consolidation. In the changed environment, small insurers are
becoming inefficient. The inability to achieve required scale to be
profitable is forcing these small institutions to get acquired.
Moreover, a continued low interest rate environment is encouraging
the health insurers to seek out more acquisitions as they prefer to
keep money away from their investment portfolio.
Over the next few years, growth opportunity for the players in the
health insurance sector will be driven by:
- Higher health expenditure and increased penetration of
managed care. According to government estimates, national health
spending is expected to grow to $4.6 trillion by the end of this
decade from $2.6 trillion currently, representing a CAGR of
nearly 7%. Going by this forecast, it becomes clear that the
health care industry is very much likely to outstrip broader
economic growth. Moreover, over the same time period, managed
care penetration is expected to grow to about 1/2 of the total
national healthcare spending, up from approximately 1/3rd at
present, driven by increased role of insurers in managing
government's fee-for-service Medicare and Medicaid products.
- 2010 Census figures show that seniors make up a larger share
of the American population than ever before. The trend will only
gain steam in the years ahead. Consequently, the aging population
is expected to drive industry demand as they would aim to reduce
their health-related costs.
We expect most of the companies within our coverage to benefit from
the trend. Among others, Aetna with Zacks #1 Rank, WellPoint,
Cigna, Humana, Amerigroup each with Zacks #2 Rank and UnitedHealth
with Zacks #3 Rank will offer good investment opportunities in the
Let's have a quick look at some of these companies:
Aetna has been beating our estimates for the past several quarters,
due to declining utilization, strong performance across all the
product lines, disciplined pricing and medical cost trends. The
company is also making strong progress in its Medicare business.
The lifting of sanctions from Center of Medicare and Medicaid
Services and the acquisition of Genworth's Medicare Supplement
business will upgrade its Medicare platform.
The company is also aggressively looking to generate incremental
fee revenues by managing the infrastructures necessary for care
organizations. It is growing its international business for
diversification benefits. Moreover, its deployment of $1.2 billion
for acquisitions will position it well to deal with the
consequences of the Health Care Reform. Besides, a solid balance
sheet, well-controlled debt and adequate liquidity will provide
Our next pick would be Cigna. Though the company was heavily biased
towards commercial business, it made timely acquisitions to ramp up
the government business, placing itself in the top five providers
of the Medicare products. Its unique and growing international
presence is also a positive differentiator. A strong balance sheet
and adequate liquidity will further lead to continued share
buybacks, thereby contributing to the bottom line.
WellPoint comes next in line. With over 34 million members, the
company is a dominant player with a vast provider network.
WellPoint has strengthened its portfolio through the acquisition
CareMore Health Group in order to expand its presence in the U.S.
government program for the elderly. The company has been witnessing
substantial earnings growth over the past few quarters, spurred by
membership gains, improvements in operating cost structure,
strategic acquisitions and capital transactions. The company is
also well poised to benefit from economies of scale and favorable
Being the second-largest provider of Medicare Advantage plans,
Humana also offers a solid growth going forward. The company has
been surpassing earnings for the past several quarters and
management raised its FY11 guidance, citing better than expected
UnitedHealth has also been beating Zacks Consensus estimates for
the past several quarters and recently raised its FY11 guidance. It
has strengthened its position in the MA market with XLHealth
acquisition. We believe the company's diversified business model in
the managed care industry with leading market share in the
Commercial, Medicare, and Medicaid markets, along with a solid
balance sheet, a highly conservative investment portfolio and
expansion into higher margin Health Services segments (Optum) will
provide investors with a high risk - return investment opportunity
Though none of the health insurance stocks under our coverage hold
Zacks #4 Ranks or even Zacks #5 Ranks, we expect the following
factors to negatively impact the industry:
- Health insurers are expected to face challenges related to
medical-cost inflation. The Centers of Medicare and Medicaid
Services expects U.S. health expenditures to increase at an
average annual rate of 5.7% to $3.3 trillion during the next five
years. Furthermore, the demand for Medicare is expected to
increase as the baby-boomer generation goes into retirement.
Consequently, insurers will likely face increased pressure to
maintain medical-benefit ratios due to the underfunding of these
programs and the government's initiatives to control costs.
- Weakness in the U.S. economy could lead to medical cost
inflation, leading the employers to exit rapidly from sponsoring
- The U.S. "Super-Committee" is working on reducing overall
budget by $1.2 trillion. This will keep state budgets under
pressure leading to muted rate increases for managed care
AETNA INC-NEW (
With the health care reform standing challenged in the Supreme
Court, there remains an element of uncertainty on the entire
sector. However, the carriers are taking a mid-way approach,
gearing up for remodeling their business. This will lead the nation
to have a stronger and more sustainable healthcare system that
provides expanded access, superior quality, and better health
outcomes for millions of citizens while reducing costs.
): Free Stock Analysis Report
AMERIGROUP CORP (
): Free Stock Analysis Report
CIGNA CORP (
): Free Stock Analysis Report
CENTENE CORP (
): Free Stock Analysis Report
COVENTRY HLTHCR (CVH): Free Stock Analysis
GENWORTH FINL (GNW): Free Stock Analysis Report
HEALTH NET INC (HNT): Free Stock Analysis
HUMANA INC NEW (HUM): Free Stock Analysis
MOLINA HLTHCR (MOH): Free Stock Analysis Report
WELLPOINT INC (WLP): Free Stock Analysis Report