The U.S. healthcare industry should brace for continued attacks on its pricing power next year, according to a new report from Fitch Ratings.
In its 2019 healthcare outlook, Fitch predicted an overall stable outlook for the sector, thanks to good economic conditions, favorable demographic shifts and growing emerging-market demand. The report excludes the health insurers and not-for-profit companies.
But the pressure on pricing and profit margins healthcare companies have experienced the past several years will continue, according to the report. The threats come from disruptors touting cheaper alternatives, government policies that approach price setting and consumers and large employers forcing the industry to accept lower prices using products like high-deductible health plans, which affect demand.
"What it comes down to is more and more healthcare companies are being challenged to really articulate and defend the value proposition around the service they're providing and whatever they're innovating and manufacturing," said Megan Neuburger, a managing director with Fitch Ratings.
Among providers, that's meant more competition among low acuity settings as patients continue to opt for ambulatory surgery centers and urgent care clinics in lieu of expensive hospital visits.
The sector could see an impact from regulatory efforts to curtail the growth in drug pricing as well as the ongoing political debate around access to and affordability of healthcare, the report said. Litigation surrounding the industry's role in the opioid epidemic is another factor that could affect companies' finances.
Another trend to watch: how the vertical consolidation among health insurers, providers and pharmacy benefit managers will play out.
Credit downgrades outweighed upgrades two-to-one in 2018, and Fitch expects that pattern to continue next year, according to the report. Currently, 76% of the U.S. healthcare companies Fitch rates have a stable outlook, 19% have a negative outlook, 3% are positive and 2% are evolving.
If the current pattern continues, Fitch predicts downgrades will be most prevalent among companies whose balance sheets are stretched for strategic deals that face declining pricing power, such as those in the generic pharmaceutical, medical and drug distribution and healthcare services sectors.
Fitch expects aggregate cash flow from operations to grow by 4% next year among the U.S. healthcare companies it rates. That's due to demand growth, tax reform and solid underlying macroeconomic conditions. The biggest threats to that forecast include litigation costs, restructuring charges and pricing power erosion, according to the report. The report also projects 3% aggregate revenue growth for the sector in 2019.
Fitch also predicts aggregate gross leverage for the sector to be steady at the end of 2019 compared with the end of 2018. The improved flexibility under federal tax reform will help companies like Pfizer, Inc. and Johnson & Johnson pay down debt, according to the report. Mostly, though, Fitch expects companies to put their tax reform savings toward increased shareholder payments and capital deployment rather than repaying debt.
For the most part, Neuburger said Fitch predicts a continuation in 2019 of trends that have prevailed over the past several years.
"A lot of the problems that we're seeing crop up around pricing and headwinds to profits are really because there is so much demand, which is a good situation to be in from the perspective of the outlook for top-line (revenue) growth in the industry," she said.