Aetna, Anthem, Cigna Corp. and UnitedHealth Group have headlined a frenzied round of consolidation speculation among health insurers. But many of the rumored mergers would face significant external and internal hurdles.
The sheer size of combined insurance companies would immediately prompt strict review from the Department of Justice, which investigates insurance antitrust cases. Any deal also would be costly and would complicate some companies' stated long-term goals.
“It strikes me as lack of strategic focus,” Sheryl Skolnick, a managing director at Mizuho Securities USA, said of the rumored mergers. “I just don't get the feeling that there is that kind of thoughtful, disciplined, controlled process, and that concerns me.”
The Wall Street Journal has published several stories outlining merger discussions among the nation's largest publicly traded health insurers. UnitedHealth is reportedly looking to buy out Aetna, a combination that would result in a giant with more than $200 billion in projected annual revenue. However, Aetna and Cigna are rumored to be interested buyers for Humana, a dominant Medicare Advantage company. Anthem, meanwhile, is reportedly seeking a takeover of Cigna.
Health insurance companies have undoubtedly been performing well since the Affordable Care Act was passed five years ago. Annual revenue growth for many has hit double digits, although profit margins have not grown as quickly. The law's individual mandate created a subsidized market for insurers. Private Medicare and Medicaid plans have become a larger focus as more baby boomers age and as more low-income people gain coverage through Medicaid expansion. Consequently, health insurer's stock prices have been trading well above the rest of the market.
However, health insurers have battled with hospital systems, which are ballooning through mergers and are commanding higher rate increases. Prescription drug prices have escalated beyond inflation, especially for specialty drugs such as Harvoni that treat expensive, chronic conditions like hepatitis C. And the law's medical-loss ratios put a cap on how much money insurance companies can spend on executive salaries, marketing and other administrative costs.
Financial analysts and experts predicted mergers and acquisitions among health insurers would pick up this year after a relatively quiet two-year period. Insurance executives also have been upfront about their willingness to pursue deals, but they have been clear any transaction must make strategic sense. Increased scale and volumes are viewed as the sure-fire way to offset pressures.
“By getting larger, they have the ability to fight back on some of these price increases,” said Jeffrey Loo, equity analyst at S&P Capital IQ. “They could also cut out a bunch of administrative costs and grow their margins.”
But the reported negotiations have raised some eyebrows. “We caution investors to be careful about every media report that cites, 'sources close to the situation,' because it is clear that not all of these combinations can occur,” Barclays Capital analyst Josh Raskin wrote in a research note Monday. “It is quite obvious to us these media reports are not catching the whole story, and there are significant pieces of information that need to be confirmed.”
UnitedHealth's play for Aetna comes as it is acquiring Catamaran Corp., a pharmacy benefits manager that will become part of the company's OptumRx division. UnitedHealth is paying $12.8 billion in cash for Catamaran. Taking over Aetna would require UnitedHealth to shell out roughly $64 billion, using average industry valuation multiples. Purchasing Cigna would take about $50 billion.
Skolnick notes that a UnitedHealth deal can't be imminent because Gail Wilensky, the former CMS administrator under President George H.W. Bush and a UnitedHealth board director, recently filed to sell stock. Selling stock on important nonpublic information would constitute illegal insider trading.
Although a UnitedHealth deal could occur down the road, the company is a market leader with its commercial health plans and Optum, meaning it “doesn't need to do anything,” Skolnick said.
“Clearly, United can generate organic growth, and they have Optum,” she said. “It's not as if they have to have a health plan consolidation in order to continue to grow.”
A UnitedHealth-Aetna deal may also be “highly challenging from an antitrust perspective,” notes Brian Wright, an analyst at Sterne Agee. Both companies have sizable overlap in Medicare Advantage and commercial markets. That could hypothetically lead to mandated divestitures and, therefore, fewer immediate financial gains. Wright estimates a combined company would have a health premium market share of 20% or more in 24 states.
Many industry experts have questioned the basis of a tie-up between Cigna and Anthem, the Blue Cross and Blue Shield insurer. Raskin said Anthem doesn't appear to be a logical buyer of Cigna because it would face licensing and branding issues from the Blue Cross and Blue Shield Association. With Cigna's assets, Anthem would be competing with many other local Blues plans, which may not fly with the association, he said.
Any other combination of Aetna, Anthem, Cigna or Humana would bring about certain advantages and disadvantages, depending on what business segment is desired. For example, an Anthem-Humana transaction has been viewed favorably by some analysts because Anthem has expressed a desire to boost its Medicare Advantage market. It would also gain Humana's in-house pharmacy benefits business, which could provide cost savings. But Anthem would again face Blue Cross branding restrictions.
Beyond federal oversight and other internal stakeholder questions, insurance companies will have to pay large sums of money for their targets. Higher expected interest rates may prompt buyers to borrow while debt is still cheap.
However, given the current debt load of some insurers, stock equity will likely be required for any deal. “The acquirers will take on a lot of debt, but they will use a lot of stock as well,” Loo said.