Private Health Insurers Remain Vulnerable
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The Australian government has announced the lowest premium rate increases in 17 years for private health insurers, at 3.95% for 2018, largely driven by intervention on prosthesis pricing. Moreover, the Labor opposition has flagged a 2% premium increase ceiling for two years if elected, undermining the government's record of gradually lowering premium increases.
Brokers expect the political pressure on the industry's margins will not abate as the election year unfolds. This is underscored by benign inflation and affordability concerns. Morgan Stanley assesses that the sector largely exists because a "carrot & stick" policy is supporting participation and struggles to find a regulated market globally where the returns on equity are more than 25%.
As its base case for the sector, the broker assumes insurers are vulnerable to a squeeze on premiums amid benign inflation, elevated margins and falling participation rates.
Hospital benefits grew at 2.9% in the March quarter, which on face value suggests a positive data point for private health and industry margins in the second half. However, UBS points out that some of this momentum should correct in the June quarter as the Easter effect normalises.
Regardless, momentum is still below the 4.7% five-year average growth rate, and in line with Medibank Private's ((MPL)) comments earlier this month that suggested a continued period of soft utilisation.
UBS expects the trends will support solid margin outcomes in the second half but not lead to material upside because of the political scrutiny. The broker retains an underweight view regarding private health insurance stocks and has both listed health insurers with Sell ratings.
Hospital policies fell by -8,000 in the March quarter after almost two years of stagnation, and participation in private hospital insurance is now -1.5% lower over two years. Reforms to encourage participation are not expected to materially change this trajectory.
Unless efforts are made to tackle deeper issues in the delivery of hospital services UBS suggests this trend will be around for years to come. The broker considers Labor's proposed 2% cap is only a short-term instrument to address affordability.
Credit Suisse believes the main reason for lower volume growth in the private hospital industry is affordability. Hence, the broker considers it unlikely there will be a recovery in utilisation in the short term as long as private health insurance premiums and out-of-pocket costs continue to grow above wages.
APRA has released detailed data on private health/hospitals, which serves as a proxy for assessing private hospital performances domestically. There are three main drivers of claims cost inflation in the industry, Macquarie observes from the data, and these include the average cost per claim, claims per person and length of hospital stay.
Each of these metrics continued to track below long-term averages in the March quarter. Meanwhile, industry profitability was at all-time highs.
Macquarie finds that there are levers to control costs growth among private insurers, which could be used to moderate the squeeze on margins. The largest cost pool is claims through hospitals, around 68% of costs, and better use of data in hospital contracting could assist in slowing this driver.
Gross margins in the health insurance industry reached an all-time high in the March quarter. The broker believes this adds weight to the argument that insurers can address their costs, despite the potential for limits of 2% to premium price increases, which could be imposed in FY20 and FY21.
While the risks to margins are not completely priced into the stocks, current valuations appear supportive and, thus, Macquarie maintains a neutral stance on the sector.
Credit Suisse notes growth in the number of patients choosing to utilise their private health insurance in public hospitals. In the March quarter 29.9% of total private patient overnight admissions and 17.1% of total private day surgery procedures were in public hospitals. These rates remain high relative to historical levels, although also reflect the slower growth occurring in private patients in private facilities.
The broker points out that public hospitals are targeting patients in their emergency departments who have private health cover, as a means of boosting revenue. While overnight episodic growth for private patients in public hospitals has been slowing, growth remains ahead of overnight patients in private facilities.
FNArena's database shows three Sell ratings, three Hold and one Buy (Deutsche Bank) for Medibank Private and a consensus target of $2.98, signalling 2.3% upside to the last share price.
There are five Hold ratings and three Sell for nib Holdings ((NHF)) with a target of $6.09 that suggests 15.1% upside to the last share price.
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