Good morning Hospitalogists, Today we're diving back into the world of vertical integration since it's such a dominant and fascinating strategy amongst the incumbent empires of healthcare. But also - this week, I want to recommend another fantastic, data-driven newsletter. It's called Research Corner - and it's published by the national health policy news outlet Tradeoffs and authored by Dr. Soleil Shah, who I've connected with several times and produces great content. Every Tuesday, Soleil notable health policy research and breaks it down into need-to-know info, like just how much those new Alzheimer's drugs could cost Medicare. Hospitalogists, go ahead and support Dr. Shah & drop him a subscription. |
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THE VERTICAL INTEGRATION IMITATION GAME |
Checking in on Vertical Integration: Where are we halfway through 2023? At the start of 2023, I noted (rather obviously) that vertical integration would be a key area to watch throughout the year and beyond. For payors, the strategy is a no brainer and it's why we've seen UnitedHealth Group triple down on Optum while observing CVS, Humana, and payors even at more local and regional levels set up a payvidor structure. My assertion is that at the right level of scale, with the right assets and market density, the payvidor model is a can't-lose strategy. To that end, we've seen a number of deals and strategies form around vertical integration in 2023 - not only among payors (Optum <> Amedisys; Humana <> CenterWell; CVS <> Oak Street Health) but also among health systems (Kaiser/Geisinger <> Risant) and even drug distributors (AmerisourceBergen <> OneOncology). It's a trend that will continue until someone forces it to stop. |
The Vertical Integration Playbook. When thinking about vertical integration, how exactly does someone like Optum get ahead and generate competitive advantages? What's the financial component driving the incentive here? At the end of the day, it's all about leveraging your scaled assets to lock in margins. Using UnitedHealth Group as a marquee example here, there's a ying and yang between healthcare services (Optum) and medical spend / medical loss ratios (UnitedHealthcare). But combine these segments into one company, and you create something different entirely. Services unlock profits for insurers. Quarter over quarter, you can see the movement of profit and cash flow to Optum - whose profits are uncapped and unregulated - when compared to UnitedHealthcare - whose profits are capped and regulated under its health insurance segment. It's an unstoppable machine and an incredible business. And that's the vertical integration game: the ability to lock in margin on a core business segment, whether that's a PBM, drug margin, medical loss ratio, or anything in between. Accountants be working overtime. |
Through intercompany eliminations between UnitedHealthcare (Insurance Co) and Optum (Service Co), UnitedHealth Group's organizational structure and long-term bet on Optum drives growth in the bottom line for the broader organization: |
For UnitedHealth Group, the hyper-focus on Optum as its future growth engine has been working like a charm. In fact, Optum now comprises 50% of UNH's total operating margin, up from a mere 15.6% 10 years ago: |
The Imitation Game Given Optum's massive success over the past decade, growth in Medicare Advantage lives, CMS policy pushing healthcare toward accountable care, and increasing sophistication of value-based care arrangements, As a CVS or Humana, seeing business results like these and doing nothing would be akin to witnessing your favorite college football program getting steamrolled by Alabama year in and year out and not trying to copy their best practices. Their training sessions, the players they recruit, the coaching scheme, etc.. No - these payors are catching up quick and want to build the next Georgia (or…hear me out…Texas?…alright…bad joke yall). The strategy is there for the taking, and healthcare is plenty fragmented still. Throw the weight of your organization, all the resources you can muster, and your entire bag at the problem until you reach critical mass for the flywheel to take effect. And because they're playing from behind (most people are when playing against 'Bama), panic set in. Which is why we witnessed the very juicy multiple that we did for Oak Street Health. But beyond that acquisition, the general demand for services along with the competitive and financial forces at play are why we're seeing so much activity across primary care, behavioral health, home health, and virtual care. The economics of risk work way better in a fully integrated care delivery model as opposed to a standalone primary care player. Look for payors to continue to make strategic acquisitions across their portfolios (Humana-CenterWell, United-Optum, CVS-CVS Care, Cigna-Evernorth). |
Antitrust and Local Market Considerations The final point I'd like to cover, and one where I don't really have a conclusion, is the FTC's ability to regulate vertical M&A activity. Historically, there has been no ability to do this. It's something to keep an eye on as the FTC continues to ramp up scrutiny in mergers - but at the end of the day, what power does the agency have? The burden of proof is on them to prove out that these deals are anticompetitive. It's a tall task. To this end, and perhaps an exercise I'll dive into one day, is thinking about how markets might shift or change when they are dominated by a vertically integrated player, or when a market is heavily influenced by Medicare Advantage penetration (similarly to how highly concentrated hospital markets are studied) Most notably: - How are clinician wages affected?
- How do clinical / quality outcomes differ? How are patients affected by being treated or directed by a vertically integrated giant? Recent research has indicated that Kaiser does a decent job of improving quality here, but do patients like the potential downstream affects of care rationing, the narrow networks?
- To that point, what is the quality of provider networks and ability to access care?
- How do referral patterns differ between a heavy-MA market versus a 'normal' healthcare market? E.g., are we seeing a higher level of patient steerage, discharging to the home rather than a SNF or IRF, etc.
I'm sure there's plenty more to consider and plenty of nuance to be had in the above conversation, but my whole goal is to get more people to talk and think about trends like these.
So…what do you think? What's the end game for vertical integration? Respond to this e-mail with your thoughts and I'll include the replies at the bottom of this essay on the web version! |
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Tomorrow is the Board Room's next Executive Briefing, and I'm excited for it - I'm hosting an 'analyst style' call for the community to cover the top trends and themes emerging in healthcare in 2023. I'm looking forward to hearing from the community and what they're seeing across the healthcare ecosystem, including hospital dynamics, payor activity, digital health & AI, and more. If you want to learn more about the Board Room, a vetted community of healthcare executives full of networking opportunities, and valuable discussions on healthcare, check out the community at the link below. |
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Thanks for the read! Let me know what you thought by replying back to this email. — Blake |
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