Consumer Takes Center Stage

Friday, April 27, 2018

In January 2005, healthcare analyst Ryan Daniels published the first of his continuing series of reports on the evolving role of the consumer in the U.S. healthcare market. The report, titled The Power of Choice: On the Brink of a Consumer Revolution in Health Care, provided his expectations for the most significant developments in the healthcare marketplace over the coming years. More than a decade later, our thesis remains intact and continues to unfold rapidly. More specific, he continues to believe that consumers—in tandem with disruptive healthcare technology and services providers—are the key to solving many of healthcare's woes, particularly the unsustainably high cost of care in the United States.

For each of the past 14 years, Daniels's premier research publication has described the "emerging trend" of consumerism in the healthcare marketplace, and how this trend held the potential to radically reshape the U.S. healthcare delivery system for the better. While his conviction in this topic rarely waned, the rate of change was slower than he anticipated—as myriad financial, political, and structural headwinds upheld the status quo, despite a number of emerging market forces. However, Daniels noted, "more recently, a convergence of events has rapidly pushed our thesis forward, and we now believe a tipping point has arrived that is markedly changing the U.S. healthcare landscape."

At the forefront of this change is the increased level of consumer responsibility for healthcare. It bears noting that high-deductible insurance plans—which put markedly more financial responsibility into the hands of consumers—have been the only type of commercial insurance coverage to experience consistent growth over the past decade. Daniels estimates that such plans should account for about 30% of the commercially insured population in 2018, up from only 5% as recently as a decade ago. Moreover, with increasing co-payments and higher co-insurance levels, he is comfortable stating that "the consumer is becoming the largest buyer of healthcare in the United States—a drastic change from a decade ago, when this was merely our thesis of what was to come."

Moreover, despite a slowdown in overall healthcare spending in the United States, consumer spending on healthcare is accelerating to levels not seen in more than a decade. For example, a December 6, 2017, report from the Centers for Medicare and Medicaid Office of the Actuary indicated that U.S. healthcare spending increased by only 4.3% in 2016 to approximately $3.3 trillion; this contrasted with 5.8% growth in 2015 and 5.1% growth in 2014. However, the report also showed that consumers' cost of care rose by 3.9%, its fastest rate in a decade.

And these facts do not appear to be lost on healthcare executives. For example, in discussing a nationwide survey of 183 C-suite executives conducted in 2017 by The Advisory Board Company, Chas Roades (the company's chief research officer at the time of the report), stated, "Improving cost-effective access for consumers, who are likely to bear more direct financial responsibility for the cost of care, will be a growing concern for healthcare providers in the coming decade. Our survey shows executives are considering new strategies to remake their cost structures to respond to the changing environment."

Daniels believes commentary from Aetna and CVS Health executives regarding their recent merger announcement also is highly in line with his long-standing thesis. The term "healthcare consumer" was referenced 23 times in management's prepared conference call comments, and in the press release announcing the transaction, management called the deal "a natural evolution for both companies as they seek to put the consumer at the center of healthcare delivery." Moreover, the deal was described by Aetna CEO Mark Bertolini as "the next step in our journey, positioning the combined company to dramatically further empower consumers."

Daniels continues to believe "that industry leaders recognize that healthcare costs are the key issue for our country." For example, in discussing tax reform, Warren Buffett recently commented that rising healthcare costs, rather than high taxes, are America's biggest issue, calling medical costs "the tapeworm of American economic competitiveness." Similarly, the nominee for U.S. Secretary of Health and Human Services, Alex Azar, has stated that "we will not continue to be the dominant power in the world if we continue to spend so much more on healthcare than other economies."

Accordingly, Daniels believes that investors will look back at 2018 as a tipping point for the U.S. healthcare market, especially as it relates to consumer-centricity and individual responsibility for care. Moreover, migration of financial and quality risk to providers should continue unabated. We believe the need for providers to offset negative patient mix shifts, pending reimbursement cuts, and more price-conscious consumers remains urgent and will progress despite any potential changes in Washington, D.C. He thus expects providers to increasingly bear more financial and quality risk.

Given these dynamics, Daniels strongly believes that consumer-centric healthcare providers (and companies that provide the technology and services to enable more consumer empowerment) will experience strong growth over the coming years. Moreover, he believes that investors in both the public and private-equity markets will achieve superior long-term returns by identifying and investing in these companies. The purpose of this report is to assist in this process.

For a copy of this report or for more information on companies from Ryan Daniels's coverage list, please contact your William Blair sales rep.

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