Aetna Inc (NYSE:AET) leaves Obamacare scream the headlines – if you have not been in a cave the past 24 hours you likely have heard the headlines – if you like Fox you probably heard how this is proof that Obamacare is a disaster, if you watch MSNBC you probably heard this is good news and the greedy health insurers (who helped craft the ACA) are getting their payback – let the millions who have no healthcare now be damned because they are middle class not poor – and if you are in the middle you probably know this is a bad sign for the ACA but do not understand the details. Anyway, you can shut off the TV – here is what the analysts who at the end of the day only care about the bottom line are saying.
In the low income portion of the market the incentive from the individual mandate works in our opinion, such that the fine exceeds the cost of insurance. We believe this drove the market to stabilize in 2014, requiring minimal price changes in 2015 which further stabilized the market. In the higher income, lower subsidy range where the large cap insurers compete the fine is less than the consumers cost of insurance driving a higher risk mix. This combined with the failure of the government to follow through with the downside protection drove price increases which further shift mix to higher risk members and further destabilizes the market each year in our opinion. Looking to 2017 we believe Anthem has the highest risk for exposure to adverse selection. We believe if the exits (insurers and co-ops) drive higher prices, less marketing and outreach, we could see pressure on the market size overall and this could pressure hospitals. We estimate in the range of 25-35% of the earnings growth seen by hospitals since 2014 was driven by reform.
Stepping back, we believe both hospital and managed care investors lose if the ACA marketplaces further deteriorate. HHS estimates year-end 2016 effectuated ACA exchange enrollment will approximate 11 mln lives – well below the initial baseline projection of 24 mln. More importantly, premium increases are likely to remain substantial in 2017 (in part due to the elimination of 2 of the 3 Rs), which in our view suggests additional enrollment growth is not a given. The takeaways being: 1) for hospitals – lower enrollment/lack of coverage growth leads to higher bad debts/uncompensated care costs; and 2) for managed care – shorter term profit improvement at the expense of longer-term growth via ACA membership growth.
Specifically, the company will reduce its participation on the exchanges formed through the ACA to 242 counties from currently 778, dropping out of 11 of its 15 states, maintaining an on-exchange presence in Delaware, Iowa, Nebraska and Virginia.
– Aetna noted that 55% of its 838K public exchange members are new for the 2016 plan year, and during 2Q16 it experienced a higher percentage of this population in need of high-cost care. When combined with the current inadequate risk adjustment mechanism, this dynamic is causing premiums to rise and bringing the sustainability of the market into question.
Aetna joins both UNH and HUM in taking decisive actions to reduce their presence in the capital destructive public exchanges for 2017. Recall, HUM plans to reduce its individual exchange participation from 1,351 to 156 counties for the 2017 plan year; UNH will exit 31 of 34 states where it currently operates on the public exchanges. We estimate that Aetna, UNH and HUM combined served 2.255 mln exchange lives as of 1Q16, or ~20% of the total 11.1 mln effectuated enrollees. Hence, the remaining insurers on the exchanges in 2017 could experience a previously unexpected influx of new members; these lives will produce ~$1.5-2.0 billion in losses for AET, UNH and HUM this year. ANTM, CI, CNC and MOH are among the public MCOs that at this point remain committed to as least maintaining their current footprints on the exchanges for 2017. While CI outlined plans to expand its exchange presence for 2017, its footprint will still remain relatively small. ANTM has yet to announce any plans to reduce its current 14-state exchange footprint; however the company has requested 20%+ rate hikes across many of its markets for 2017.
Credit Suisse (on Humana and exchanges)
Among key tailwinds are further MA margin recovery back to LT 4.5-5.0% target (but with bulk of MA improvement already achieved in 2016), accelerated individual MA membership growth, and a reduction in exchange losses on the pullback from individual market. However, HUM expects to still lose money on the exchanges in 2017 and anticipates some negative SG&A leverage from the individual market withdrawals. HUM also assumes the level of favorable reserve development achieved in 2016 on faster than expected MA margin repair will be difficult to repeat in 2017. HUM’s CFO also warned that the Group MA market is becoming increasingly price competitive; particularly on the jumbo employer accounts where they are seeing “extraordinary aggressiveness” from competitors.
Absent significant administrative changes, material premium hikes and/or a material increase in the individual mandate penalty, we expect the 16m individual market to shrink by as much as 25-30% over the next several years as non-subsidized enrollment is priced out of the market and total underwriting capacity exits the marketplace. The 2016 Election could have tremendous impact on the future of the exchanges; we’d expect Democrats to be far more supportive of preserving the ACA Exchanges than Republicans. At this juncture, the exchanges primarily represent an earnings tailwind as our Big5 universe reduces its collective footprint.
Aetna had to make a final decision regarding HIX participation by 09/23. However, many states require participation on the off-exchange mkt to participate in the on-exchange mkt (decisions on off-exchange filings have to be made by end of this month). Thus we were expecting AET to announce its plans this week or next week. Additionally, AET
also noted during our HQ trip last week that it did not believe that its decision on 2017 HIX offerings would have any bearing on its pending court case related to the HUM deal. Finally, we believe by maintaining an off-exchange mkt presence, Aetna avoids the five-year penalty and maintains the long-term optionality to re-enter the market.
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