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Healthcare Ruling: Buy Hospital Stocks, Avoid Insurers

 June 29, 2012 11:08 AM

(By Mani) In a landmark move, the Supreme Court ruled that individual mandate (IM) as constitutional under the Patient Protection & Affordable Care Act (PPACA), which is also called as Obamacare.

The Affordable Care Act (ACA) requires individuals not covered by an employer or government-sponsored insurance plans to maintain minimal essential health insurance coverage or pay a penalty unless exempted for religious beliefs or financial hardship.

The healthcare ruling is a major victory for President Barack Obama, who vowed to provide all Americans, irrespective of the state they live, basic insurance protection against sickness and disease. The landmark decision is expected add 16 million people to the rolls of the insured and the ACA will reach about 32 million of the 50 million Americans who are now uninsured.

This massive health insurance coverage expansion is about to playout in the U.S., beginning in earnest in 2014, and is expected to benefit providers uniquely since the coverage expansion will yield fewer uninsured/uncompensated patient encounters, while also spurring higher demand for services.

The only nuance to the decision is the Court ruled that the Federal Government may not revoke a State's existing Medicaid funds if that State opts out of the Medicaid expansion mandated by law. In other words, there would be no penalty for a State that refuses to comply with the mandatory Medicaid expansion in the healthcare law.

The decision upholds Obamacare and sets the stage for a political and legislative showdown during and beyond the 2012 election cycle.

The ruling came against market expectations, which were predicting for the IM to be overturned.The ruling is a positive for certain health care providers, with the biggest beneficiaries being hospitals, followed by labs and certain physician management firms.

Hospitals stand to benefit most for the simple reason that more people with insurance means more business for them, coupled with higher reimbursement rates.

Investors should try to build positions in hospital stocks such as Community Health Systems, Inc. (NYSE:CYH), HCA Holdings, Inc. (NYSE:HCA), Health Management Associates Inc. (NYSE:HMA), Universal Health Services Inc. (NYSE:UHS).

Meanwhile, Lifepoint Hospitals Inc. (NASDAQ:LPNT), Tenet Healthcare Corp. (NYSE:THC) and Vanguard Health Systems Inc. (NYSE:VHS) are also expected to benefit meaningfully in this scenario.

"We believe hospitals would see, on average, 25% upside to EBITDA and 82% upside to 2016 EPS (using 2012 estimates as the baseline).

Our reform model for the hospital sector points to a 2014-2016 margin lift of approximately 400 bps," Deutsche Bank analyst Darren Lehrich wrote in a note to clients.

From a valuation perspective, the analyst believes that hospital sector could benefit as much as 80 percent plus, but don't expect this big a move over the short-run given the uncertainties of the elections and budget reform in 2013.

In the laboratory sector, Quest Diagnostics Inc. (NYSE:DGX) and Laboratory Corp. of America Holdings (NYSE:LH) is well positioned to benefit from the ruling.

"We see 6-8% earnings upside risk, and we continue to prefer Buy-rated LH," Lehrich added.

Within the physician management space, IPC The Hospitalist Company, Inc. (NASDAQ:IPCM) and Mednax, Inc. (NYSE:MD) could see about 9 percent percent lift to earnings due to the Medicaid parity provision for 2013-2014, while Team Health Holdings, Inc. (NYSE:TMH) could see about 60 percent earnings lift due to this provision as well the potential to improve upon its high uninsured mix.

Among the losers would be insurance firms as they would now be obligated to pay more to hospitals, including patients with preexisting conditions. Insurers most exposed to this scenario include United Health Group, Inc. (NYSE:UNH), Aetna, Inc. (NYSE:AET), WellPoint, Inc. (NYSE:WLP) and Cigna .


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