This morning (10/16/17), DVA put out a press release that downplayed the likelihood of charitable premium assistance (“CPA”) being banned and estimated a net $100-$250M negative impact to operating income in the event that CPA was banned. While DVA previously disclosed gross exposure of $45M-$90M for individual market AKF patients and ~$450M for its employer/COBRA AKF patients, this latest release further splits the those patients into those on employer group plans (55% of 4,000 patients) and those on COBRA (45% of 4,000). In estimating the net impact, DVA is assuming that most employer group AKF patients would maintain their current coverage and that COBRA patients that could not afford to maintain their current coverage without AKF funding would migrate to the individual market where they would likely qualify for premium tax credits. DVA is also backing out “related cost offsets” which we assume to consist primarily of AKF contributions although this is not perfectly clear. While DVA expects that government segment patients would be at significant risk of losing their Medigap coverage, this ultimately is expected to have a limited impact given that the patients would likely spend down their savings to qualify for Medicaid to avoid copays / deductibles.
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Heading into 3Q17 earnings, we took a fresh look at 2017 / 2018 EBITDA estimates given the number items pressuring results in the near-term, which we do not believe are fully reflected in consensus estimates. All said, our EBITDA estimates decrease by ~2% in 2017 and ~1.5% in 2018, essentially embedding a placeholder for hurricane pressures in Q3 as well as previously announced Texas Waiver cuts. For now we continue to model 3% core growth in 2018, below HCA’s LT target of 4-6%, and lower our price target from $89 to $82. Finally, while HCA is expected to release Q3 earnings at the end of the month, it’s worth noting the company has previewed earnings 2 of the last 3 quarters and we expect there could be a preview of results out next week.
Late Thursday (10/12/17) evening Politico reported that President Trump planned to stop making cost-sharing reductions (CSR) payments to exchange plans. This was confirmed by a subsequent release by the White House Office of the Press Secretary (see Exhibit 1 on page 2). This follows the executive order that Trump signed on Thursday directing government agencies to evaluate making several changes to insurance regulations. We recently analyzed exchange rate filings and state department of insurance releases for the 20 largest exchange states and found that 65-70% of the enrollment analyzed fell in states requiring plans to assume CSRs weren’t paid. Based on each company’s geographic exposure we estimate ~80% of ANTM and CNC’s premiums and ~60% of MOH’s premiums will be in states requiring plans to assume CSRs aren’t paid. See pages 5-6 for details by state.
This morning (10/10/2017) DVA put out a press release that for the first time provides a more complete (but not totally encompassing) view of the company’s exposure to the AKF, indicating AKF benefits ~25K patients in total. Approximately 1,800 patients receive AKF support in the Individual market (previous disclosure 1,500 patients) and DVA estimates that more than half would obtain similar coverage without AKF support, leaving OI exposure at $45-$90M which is consistent with previous disclosures. The key new disclosure was for COBRA / commercial group, where approximately 4,000 patients receive AKF support, which is materially lower than the ~7,200 we had estimated previously using market share and public AKF disclosure – see our previous work here. This implies DVA’s share of the COBRA/EGHP AKF funded pool of patients (82K vs 25% = 20.5K) is only 20%, well below the company’s market share of ~35%. This group of patients contributes ~$450M of OI, which at 145 treatments per year implies ~$775 of OI per patient per treatment. Assuming treatment costs of $225 and SG&A per treatment of $28, this implies revenue per treatment of $1,030, above our estimate of commercial avg. rev per treatment of $869. The $450M of exposure here is below our previous estimate of ~$645M. Finally, 18K of DVA’s AKF patients are getting help with Medicare Part B or Medigap. DVA didn’t provide a split here. Splitting the 19k at the industry proportion of Medigap / Part B per AKF, we would estimate this equates to $75M of exposure. This would bring gross exposure (before AKF donations which we estimate at $120M) to $590M vs our previous estimate of $775M and less than half of total pre-tax income.
On Friday (9/22) the Southern Investigative Reporting Foundation (SIRF) released an investigative report that discussed DVA’s relationship with the American Kidney Fund. Our review of the report didn’t find anything qualitative that wasn’t already out in the public domain, but from the stock’s reaction (down nearly 7%), SIRF’s estimate of DVA’s financial exposure to patients with coverage funded by the AKF were larger than most had expected at ~40% of operating profit. While our estimate is generally consistent with SIRF (more on this below), we attempt to take a more balanced view here in terms of the historical reimbursement dynamics (commercial cross-subsidization) and whether charitable premium assistance (CPA) could be at risk. Per CMS’s own data Medicare treatments are already unprofitable for the industry and outlawing CPA would significantly impact the only profit pool available to the industry (comm’l) and make a meaningful # of low vol / rural clinics unprofitable, a serious concern for patient access. That said, while we do not see high probability of a “contagion” around CPA it is clear that the AKF and the dialysis industry made a tactical mistake funding Medicaid beneficiaries to get coverage in the exchanges. That single move has brought a significant amount of scrutiny to the overall CPA topic which will take time to diminish, leaving uncertainty/risk in the meantime. Overall, we acknowledge that commercial cross subsidization in dialysis is uncomfortable at times and CPA is a risk but should not be looked at in isolation. We will host a webcast at 2PM EST (invite should already be in inbox) to review our estimates of AKF exposure, our updated thoughts around demographically driven payer mix deterioration and view on stock performance / catalysts from here. The slides for the webinar are attached to this note starting on page 3.
Wolfe Research's Healthcare Services analyst, Justin Lake, hosted a webcast to share his updated thoughts on DVA, including Charitable Premium Assistance
This afternoon (9/8/17) California State Senator Ricardo Lara, author of Senate Bill 349 (dialysis clinic staffing ratios), announced that he will not seek an Assembly floor vote before the end of the current legislative session which concludes 9/15/17. Lara intends to bring the bill back up for consideration later in the year after stakeholder meetings have been held. While this bill could come back, it would appear that even in the Democratic controlled CA Legislature there may not have been enough support after a full vetting. We view this as a meaningful positive. As of now we are unsure of the status of Assembly Bill 251 (dialysis clinic profitability restrictions) as this was moved to “inactive” status in the Senate yesterday – but can still be recalled for a vote before the end of the session.
There are currently two bills progressing through the California legislature that would add to dialysis industry regulation: Senate Bill 349 (dialysis clinic staffing ratios) and Assembly Bill 251 (profitability restrictions). Both bills have already passed floor votes in their respective introducing chamber and have been making their way through the committee process in the opposite chamber. On Friday both bills cleared appropriations committee votes and will now proceed to floor votes. It doesn’t appear that dates have been set for the floor votes at this time but we note that the deadline for passing final bills this legislative calendar year in California is 9/15/17. If the bills pass those floor votes they will go to the desk of Governor Jerry Brown to sign into law or veto. These bills have received significant support from the Service Employees International Union-United Health Workers (SEIU-UHW).
After market close yesterday (8/31/17), THC announced that Trevor Fetter would be stepping down from his roles as Chairman of the Board and as CEO at the earlier of March 15, 2018 or when a successor is appointed (we would expect a successor sooner). Lead independent director Ronald A. Rittenmeyer is becoming executive chairman immediately and is now the senior-most executive at the company. As a part of this change, THC also announced its intention to “refresh the composition of its Board” indicating a likelihood of further announcements. This change comes about as the Glenview standstill agreement is set to expire. We would expect shareholders to view the management change positively given this should shift the discussion to the best ways to create value.
On Friday (8/25/17) Hurricane Harvey was upgraded to Category 4 status and made landfall between Port Aransas and Port O'Connor, TX around 10PM local time. In addition to the early damage the storm has lingered over the region and many areas have seen catastrophic flooding. Two hospitals have already been reported to have evacuated patients, one of which is owned by HCA. Beyond these hospitals, we would expect many other facilities in this area have effectively shut down and even for those facilities remaining online we would expect a meaningful % of elective procedures to be delayed with some potential that not all lost elective volume is recovered. Amongst the publicly traded hospitals, HCA has the most significant exposure with ~27% of its beds within 250 miles of Houston or in Louisiana. This includes the ~1k Houston beds that HCA recently acquired from THC which greatly reduces THC’s exposure.
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