Trends in the Valuation of Health Insurers: 2017
Jeff Balcombe | November 17, 2017
This article is an update to "Trends in Health Insurer Valuation: 2015" and considers how current economic, demographic, regulatory, and market trends impact the value of health insurance companies.
Substantial uncertainty persists in the regulatory and competitive environment facing health insurers in the United States. Following the November 2016 elections, the outlook for these landscapes changed significantly on the expectation that the Republican congressional majorities and administration would pursue the repeal and replacement of the Patient Protection and Affordable Care Act (PPACA). While no such overhaul has been passed, funding for the current provisions of the PPACA has been reduced or eliminated. 1 Additionally, various proposals for more substantive changes to the PPACA itself have been offered and continue to be discussed.
Sustained expectations for a more favorable regulatory environment have increased the valuation of domestic healthcare insurers. The returns from a variety of health maintenance organization stocks have more than doubled the performance of the S&P 500 index over the past 12 months. This appreciation in equity prices is primarily attributable to these anticipated policy changes, product diversification, investments in technology, and geographical expansion. 2 These trends in healthcare distribution, alongside the possibility of future changes to the overall legislation governing health care, have and will affect the profitability, risk, and growth of the health insurance industry, and accordingly impact its valuations.
Demographic Trends
While less than 10 percent of the United States was aged 65 or older in the 1950s, this ratio is expected to double to 20 percent by 2050, which may lead to significant expansion in healthcare demand. 3 As the American population ages steadily, more individuals will likely qualify for healthcare subsidies, increasing the demand for both government healthcare programs (e.g., Medicare) and private insurance programs, which complement or supplement existing government healthcare programs.
Concurrently, American life expectancy declined in 2016 for the first time since 1993, with a wide array of potential causes, including heart disease, chronic conditions, and suicides. 4 Americans' overall health levels continue to suffer from high levels of obesity, heart disease, diabetes, and other chronic conditions, with the Centers for Disease Control and Prevention estimating that 36.5 percent of US adults are obese. 5 Mental health issues are also being reported more frequently, with an estimated 1-in-5 adults experiencing some form of mental illness during 2016. 6
Regulatory Environment
Since the presidential election, the number of uninsured Americans has increased by approximately 3.5 million, with the uninsured rate at its highest level since 2012. 7 Approximately 31 percent of US counties are expected to have just one insurer on their PPACA exchanges in 2017, a significant increase from 7 percent in 2016, and some insurers are concerned about whether the government will continue making payments under the current cost-sharing reduction programs. 8
After two unsuccessful attempts to repeal and replace the PPACA in the current session of Congress, analysts perceive the appetite for substantial healthcare reform to be diminished in the near-term. 9 Most industry participants expect the PPACA to remain mostly intact, even if its healthcare exchanges deteriorate. 10 Furthermore, the Senate map favors Republicans in 2018, likely making 2020 the earliest possible date for major changes in the political climate surrounding healthcare. 11
Other Market Trends
Historically, the health insurance industry has trended toward consolidation due to high barriers to entry and natural benefits from risk pooling across a larger number of patients. However, the industry may already be at peak consolidation levels as the federal government has shut down two mega-mergers in the past two years, including Aetna's $37 billion bid for Humana 12 and Anthem's $54 billion bid for Cigna. 13 Companies may now need to be more creative in identifying inorganic growth opportunities in the market, such as CVS Health's recently announced bid to acquire Aetna. 14
Technology and Internet-based retailers also remain a disruptive force in the industry. Amazon recently purchased pharmacy-wholesaler licenses in a dozen states, allowing the company to use its logistical expertise and bargaining power to capture additional market share. 15 Other industry developments that may affect market participants include greater pricing transparency, remote patient monitoring, and more powerful data analytics.
Future growth opportunities may also come from the expansion into new geographies or product categories. McKinsey & Company projects both global and domestic revenues for private health insurance to nearly double by 2025. This growth will be driven by the rapid materialization of new insurance markets in developing areas like Latin America, higher expenditures for chronic conditions, and customized care delivery. 16
Stock Market Performance and Valuation
The health insurance industry continues to be dominated by several large publicly traded insurers (collectively, the "Industry Group").
- Aetna Inc. ("AET")
- Anthem, Inc. ("ANTM")
- Centene Corp. ("CNC")
- Cigna Corp. ("CI")
- Humana Inc. ("HUM")
- Molina Healthcare, Inc. ("MOH")
- Triple-S Management Corporation ("GTS")
- UnitedHealth Group, Inc. ("UNH")
- WellCare Health Plans, Inc. ("WCG")
The Industry Group has declined to 9 companies from 10 in my previous article, as Centene Corp. acquired Health Net, Inc., in 2015 for approximately $6.0 billion. 17
Although Republicans have historically tended to favor a free-market approach to healthcare policy, there is a high degree of unpredictability with the current president, who has at times touted both deregulating health care and reducing the profitability of health insurers. Though, as illustrated in the "Industry Group Stock Returns" example, the market has thus far regarded the current political climate as highly beneficial to health insurers. Anticipated continued deregulation and nonenforcement of the PPACA's key provisions may also positively impact health insurers going forward.
Industry Group Stock Returns
Corresponding with higher stock prices, Industry Group valuation multiples are now approaching record highs, as shown in the "Industry Group Forward P/E Multiples" graph.
Industry Group Forward P/E Multiples
Summary Observations
The current forward price-to-earnings (P/E) multiple for the Industry Group is over 10.0 percent higher than the average level during 2016, despite similar growth expectations. Valuation multiples expanded in the second quarter of 2017 while forecasted long-term growth in earnings-per-share declined from over 14.0 percent to under 12.0 percent. Higher stock values as compared to expected earning potential are not unique to health insurers, with the S&P 500 currently seeing its second-highest P/E ratio since World War II. 18
Technology and shifting demographics also continue to affect the risk and profitability of the industry. Dramatic, unexpected political outcomes could cause rapid changes as well. Overall, low market volatility, favorable industry dynamics, and high investor optimism have pushed valuations upward to near record levels in 2017, but it remains to be seen if such valuation multiples are sustainable in the long-term.
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