The champagne has been popped, toasts have been made, and the fireworks have long since disappeared from the sky. And as we said goodbye to 2016 and welcomed 2017, we started a new count down. Instead of counting down minutes, we now find ourselves counting mere days until President-elect, Donald Trump, is inaugurated as the 45th President of the United States on January 20th. And while Trump, alongside a Republican-dominated House and Senate, have been accused of having more ideals than plans, one thing we seem to know for certain is that the new Cabinet will implement some variation of healthcare reform. As for the extent, or the timing of the reform, all guesses are fair game. However, the most publicized guess is that the reform will be kick-started through the repeal of the Affordable Care Act (ACA), known to many as “Obamacare”. At this point, you may be asking: “What does the repeal of a national healthcare plan have to do with investments?” Our answer: more than you think.
To start, it is important to understand that should the incoming administration and congress decide to repeal the ACA, the next step will be to decide if they will replace it, and how. And this is where the plan starts to breakdown because a replacement has yet to be disclosed, though House Speaker, Paul Ryan’s, A Better Way healthcare proposal could be a start. And perhaps the most prominent feature of Ryan’s plan is the repeal of Medicaid expansion – which has been characterized as unsustainable due to high costs for what many argue, is a reduced level of care. And thus far, this proposal seems to be in-line with President-elect Trump’s preferred Medicaid block grant program, which in its most simple form would lead to lower federal funding to states. In fact, the findings from an assessment of the proposed Medicaid block grant proposal, conducted by the Congressional Budget Office, show anywhere from a 4% to 23% reduction in federal funding over the next 10 years. And it is here, the reduction in federal funding to hospitals, that investors should direct their attention.
When examining an ACA repeal scenario, alongside an unclear replacement strategy, and what appears to be a strong desire to reduce Medicaid grants, many hospitals are concerned that they will soon find themselves picking up the tab for a large amount of uninsured individuals (some figures project approximately 30 million will become uninsured with the repeal of the ACA) on a reduced budget. An increase in uninsured individuals alongside a reduction in funding and cash flows would likely result in a reduction of service, employees, and revenues for large urban hospitals, teaching hospitals, and safety net providers that rely on the supplemental funding from Medicaid. Translation? If Medicaid reform comes to fruition, those states which had received additional funding under the expansion of Medicaid, through the ACA, will likely see an increase in unpaid bills (bad debt) alongside a decrease in federal assistance. As a result, these states will have to reevaluate how, and to what extent, those obligations can be repaid at a state level. Non-Medicaid expansion states will also see an increase in bad debt but is likely to be moderate in comparison. And as we all know, with bad debt comes a potential for credit deterioration.
So what do healthcare investors need to know as we move into 2017? If you are a municipal bond investor, you should keep Medicaid reform top of mind because if the proposals we have heard from Trump and those we have seen from a Republican-dominated Congress come to fruition, municipal hospital profit margins will be squeezed. This is important because healthcare makes up 10% of the entire municipal index.
If you are an investor in healthcare credits, it is important to know that:
- After two years of extraordinary growth associated with Medicaid expansion, cash flow growth is moderating but remains positive;
- Patient volume growth is expected to be stable at about 1%, as the uninsured population stabilizes and;
- The present healthcare environment has accelerated the pace of mergers and acquisitions, which has produced many large multi-state systems that are capable of surviving the present, and likely challenging, future environment.
And while there will certainly be losers in what appears to be a repeal-delay-replace healthcare reform strategy, there will also be winners, they just may become more difficult to identify.
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