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Why Health Insurers Want to Merge With Retail Giants

Analysis  |  By Jack O'Brien  
   April 16, 2018

While retailers are positioned as corporate disruptors to healthcare, an interesting aspect to these recent developments has been the willingness of insurers to merge with them. 

As retail powerhouses push into healthcare, industry watchers are analyzing the effectiveness of how they're vertically integrating with health insurers and pharmacy benefits managers (PBM).

Over the past six months, CVS Health proposed a $69 billion merger with Aetna Inc., Cigna Corp. and Express Scripts Holding Co. announced a $52 billion deal, and Walmart joined the fray with its reported interest in purchasing Humana Inc. 

While retailers are positioned as corporate disruptors to healthcare, an interesting aspect to these recent developments has been the willingness of insurers to merge with them.

Moody's Investors Service released a report analyzing the vertical integration strategies pursued by several large health insurers, calling the approach a "short-term credit pain, long-term credit gain."

"In the long term, such vertical integration holds the potential for cost reductions, improvements in coordination of care, and increased non-regulated cash flow, all credit positive effects," according to the report. "However, in the short term, the large deals are credit negative overall, given a substantial increase in debt and leverage, along with significant execution risk."

Why vertical integration?

Organizations mainly embrace vertical integration as a way to control costs and diversify revenue streams, since reimbursement rates have fallen in recent years.

UnitedHealth Group Inc. became involved with the healthcare vertical integration trend in 2015, acquiring Catamaran Corp. for $13 billion before folding it into its healthcare services subsidiary, Optum.

UnitedHealth brought in $201 billion in consolidated revenue last year. Moody's characterizes Optum, with $91 billion in operating revenues in 2017, as the benchmark for other healthcare organizations following UnitedHealth's lead.

Related: 3 Reasons Why Health Insurers and PBMs Are Merging

If the $52 billion Cigna-Express Scripts merger is approved, it would create a health insurer-PBM organization worth $140 billion in pro forma annual revenues.

However, the deal could run into regulatory trouble and Express Scripts will have to deal with losing its association to Anthem at the end of 2019.

Retailers take center stage for clinic expansion

Among the proposed mergers, CVS-Aetna is one that can reshape healthcare due to the potential combination of a health insurer, PBM, and retail pharmacy with an estimated $240 billion in consolidated revenues.

The Moody's report indicates CVS will end up losing some PBM customers because of the move but could potentially turn its clinics into low-cost, routine medical treatment options for Aetna customers.

The expanded use retail locations could also be a boon for Walmart, which operates 5,358 stores across the U.S., most of which have pharmacies. Additionally, Humana operates approximately 200 clinics and has a PBM partnership with Argus Health Systems, totaling revenues of $21 billion in 2017.

In the midst of the Walmart speculation, Humana gained partial ownership of Kindred Healthcare, a $6 billion healthcare services company based in Louisville, Kentucky.

Moody's said Humana's private equity stake in Kindred will "greatly enhance" the insurer's vertical capabilities.

The move would also complement Walmart's desire to capitalize on the burgeoning senior Medicare Advantage consumer base since Kindred's primary business strategy is Medicare-focused.

Randal L. Schultz, a partner at the law firm of Lathrop Gage and chair of the firm's Healthcare Strategic Business Planning Practice group, told HealthLeaders Media that Walmart probably views entering the healthcare insurer realm as an inevitable, albeit cost-effective approach.

Schultz added that both CVS and Walmart are unlikely to face the regulatory obstacles ahead of Cigna-Express Scripts because of the vertical integration strategy involved.

Related: Potential Walmart-Humana Deal Resembles CVS-Aetna Merger

Self-insuring to drive down costs for employees

Large-scale deals relying on vertical integration favor those who have the size to handle the increased debt load, which helps retailers as they look to expand in the healthcare industry.

In leveraging their size, CVS, Walmart, and Amazon can form their own health plans, which can lower healthcare costs for their employees, customers, and bottom lines.

The Trump administration's recent decision to loosen rules surrounding association health plans in order to drive competition in the insurance marketplace makes it likely that more self-insured employers will examine this option going forward.

Since insurers benefit from sustained long-term premium increases and spreading fixed costs over a broader market share, Humana and Aetna stand to gain from their respective vertical mergers with large-scale retailers.

Walmart's business model, built on offering low-priced products at high volume, would be a home run for healthcare, according to Schultz, especially if it is paired with a plan to drive down costs through acquiring and selling pharmaceuticals.

Schultz says that doctors and hospitals may complain over lower reimbursement rates from Walmart-Humana, but it would serve as a beneficial disruption to curb the spiraling costs of healthcare.

"Walmart leads the way by showing that this is a methodology for both decreasing the cost of care for its own employees and maximizing its ability to access the market to help deliver products," Schultz. "I think, historically, most employers have been afraid to test it because they didn't understand the healthcare market."

Jack O'Brien is the Content Team Lead and Finance Editor at HealthLeaders, an HCPro brand.

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