Healthcare

SSR Index of Current-Quarter Healthcare Demand Growth: Final 2Q14 Estimates

Written July 28th, 2014 by

We expect 4.1% (nominal) y/y growth in US health services demand during 2Q14, the product of 2.6% growth in demand intensity and 1.5% growth in price. Following the BEA’s nearly unprecedented downward revision of its 1Q14 demand estimate, our projection of intensity is sharply lower than our initial 2Q14 estimate

The surprise demand spike reported by BEA for 1Q14 has been completely revised away in the agency’s final reported figures. We speculated recently that BEA had erred in using its judgmental trend to call for an immediate ACA-driven uptick in services consumption. Final reported numbers – which rely on more rigorous survey data than the preliminary numbers – showed that our final 1Q14 estimate was a mere 10bp off, and that there was actually a sequential dip in consumption from 4Q13. In short, whether because of late enrollment, plan features or other reasons, the ACA does not appear to have materially impacted demand in the first 3 months of 2014

Independent of our quarterly growth rate models, we handicap the odds of a trend break, i.e. a significant acceleration or deceleration in demand. The trend-break model indicates that sequential acceleration in demand intensity during 2Q14 (from 1Q14) is only slightly more likely than a deceleration (66%); i.e., quarter on quarter movement is very nearly a toss-up

Pricing growth remains anemic, although we expect observed y/y price dynamics to improve substantially this quarter as sequester-related cuts to Medicare reimbursement annualize out of the base period observations. In spite of this (mathematical) improvement in government pricing, commercial pricing is weakening

We continue to believe intensity of demand will grow as ACA enrollment gains play through and as employment improves. However, consistent with our observations throughout 2014, and with the BEA’s about face on the impact of the ACA in 1Q14, the timing of demand growth remains unclear. We still favor healthcare sub-sectors that are: 1) positively levered to gains in US per-capita intensity; and 2) have stable pricing, such as Non-Rx Consumables (e.g. BDX, BCR, COV, CFN, OMI)

For our full research notes, please visit our published research site

SSR Health New Product Approval Portfolios & Supporting Data Update

Written July 10th, 2014 by

Drug, biotech, and research-based spec pharma stocks tend to outperform their peers in the year or so before and after regulatory actions (‘PDUFA’ dates) on major new products, with a large portion of total risks being concentrated in the days immediately preceding and following the PDUFA date

Since November of 2011 we’ve run model portfolios consisting solely of names with pending (i.e. ‘pre-PDUFA’) or recent (i.e. ‘post-PDUFA) major-product regulatory actions, respectively. Within each broader ‘pre-‘ and ‘post-PDUFA’ portfolios are three sub-portfolios that differ only in terms of how large the new product is as a percentage of the company’s total sales forecast. E.g. the ‘1% pre-PDUFA’ portfolio consists of all names with pending regulatory decisions on products that account for at least 1% of the company’s total sales forecast, and so on for the ‘5%’ and ‘20%’ pre- and post-PDUFA portfolios. To moderate risks, all portfolios follow rules to limit long positions in the days immediately before and after regulatory actions

Since inception, the 1% pre-PDUFA portfolio has produced greater returns (56% v. 39%) at a lower standard deviation of returns (12% v. 14%) than an ‘innovator index’ of all companies eligible for inclusion in these portfolios. The 5% pre-PDUFA portfolio has outperformed by an even greater margin as compared to the innovator index (70% v. 39%), though at a higher s.d. of returns than the innovator index (26% v. 14%)

We expect US real pricing power for pharmaceuticals to fade, which will increase the importance of new product flow to relative performance. Thus screening for names with attractively priced new product flow is an appropriate first step to stock selection across the drug, biotech, and spec pharma sub-sectors. We offer two related tools, the first being these portfolios of names with major pending or recent regulatory actions (published monthly); the second being our Hidden Pipeline series of reports that identify undervalued phase 2 and earlier pipelines (published quarterly)

Please note: regularly included in this series of reports are detailed tables of all (major or not) pending new drug applications (NDAs) and biologics license applications (BLAs) for all US-listed drug, biotech, and research-based spec pharma companies; and, detailed tables of all phase 3 products under active development by these companies

For our full research notes, please visit our published research site

The Bull Case for Specialty Drug Pricing

Written July 7th, 2014 by

Average prices for traditional drugs (e.g. drugs for common chronic conditions, and for relatively non-serious acute conditions) grow rapidly because manufacturers steadily inflate existing drug prices over time. In contrast, average prices for specialty drugs (e.g. for less common debilitating and/or life-threatening conditions) have risen because new products (e.g. Sovaldi) tend to be launched at substantial premiums to the products they replace. Unlike traditional drugs, once launched the prices of specialty drugs tend not to rapidly inflate (though exceptions plainly exist)

Manufacturers’ ability to inflate traditional drugs’ (net) pricing faces serious threats: Medicare eventually is likely to make low-income Part D beneficiaries’ drug spending subject to Medicaid pricing rules, which eliminates any potential for real price gains on these sales (which are 55% of Part D sales, and 18% of total US drug sales).

Commercial payors are likely to shift toward co-insurance and away from fixed dollar co-pays; this too seriously limits manufacturers’ ability to achieve real (net) pricing gains on traditional drugs (because co-insurance makes consumer out-of-pocket costs grow at the rate of drug prices)

Specialty drugs face the prospect of new rebates (but not launch price pressure, see next). Beginning in 2018 – 2019, we believe Medicare is likely to require rebates on sales of higher margin products (e.g. drugs, devices) to beneficiaries in Parts A and B. And, as commercial beneficiaries opt for cheaper plans with more restrictive formularies and higher out-of-pocket cost sharing, this puts commercial formulary managers in the position of demanding rebates even from relatively unique and high-need specialty products

Crucially however, despite the likelihood of paying new rebates over the mid- to longer-term, we see no feasible means by which either public (generally Medicare) or commercial payors will put effective pressure on the launch prices of new specialty products

It bears emphasizing that Medicare has no authority to influence new product prices under current law, and that historic attempts to gain such authority have routinely failed. Under current law Medicare payment is contingent only upon: “… a determination that a service meets a benefit category, is not specifically excluded from coverage, and the item or service is ‘reasonable and necessary.’” And, to the specific question of whether CMS considers cost-effectiveness in determining whether a given product will be covered, they do not: “Cost effectiveness is not a factor CMS considers in making NCDs (national coverage determinations). In other words, the cost of a particular technology is not relevant in the determination of whether the technology improves health outcomes or should be covered for the Medicare population through an NCD.”

Because commercial payors (e.g. PBMs, HMOs) earn relatively predictable percentage margins on the baskets of goods and services they cover, within limits* commercial payors benefit when the ‘given basket’ includes products and services whose starting prices (before negotiations) are as high as possible.A 15% margin on a $10,000 drug obviously is worth more than a 15% margin on a $5,000 drug. The key to (commercial payor) success isn’t making the $10,000 list price drug into a $5,000 list price drug, it’s being able to buy the $10,000 drug for less than its competition

Thus as concerned as we are that traditional drug pricing power (specifically the ability to inflate prices of existing products) will be seriously impaired, we have very little concern that specialty drug pricing power (the ability to launch new products at substantial premia to the products they replace) faces any major threats in the near- to mid-term. New rebates that may be owed on specialty drugs are relatively far off (2018 – 2019 for Medicare), or will only come into place gradually (as a rough estimate, it should take 5 or more years for most commercial beneficiaries to move into cheaper plans where specialty drug rebates are likely to apply)

Our pricing thesis argues for holding companies with pending new product flow, which we systematically identify in our ‘SSR Health New Product Approval Portfolios’, published monthly

For our full research notes, please visit our published research site

SSR Index of Current-Quarter Healthcare Demand Growth: Interim 2Q14 Estimates

Written June 25th, 2014 by

We expect 6.8% (nominal) y/y growth in US health services demand during 2Q14, the product of 5.2% growth in demand intensity and 1.5% growth in price. Our estimate of demand intensity is sharply higher in 2Q14 – reflecting an expectation that Affordable Care Act (ACA) related enrollment gains will increase intensity by approximately 2% – but moderated by 30bps sequentially from the initial 2Q14 estimate

Independent of our quarterly growth rate models, we handicap the odds of a trend break, i.e. a significant acceleration or deceleration in demand. The trend-break model indicates that sequential acceleration in demand during 2Q14 is likely (92%)

Pricing growth remains anemic, although we expect observed y/y price dynamics to improve substantially this quarter as sequester-related cuts to Medicare reimbursement annualize out of the base period observations. In spite of this (mathematical) improvement in government pricing, commercial pricing is weakening

We continue to believe intensity of demand will grow as ACA enrollment gains play through and as employment improves. For this reason, we favor healthcare sub-sectors that are: 1) positively levered to gains in US per-capita intensity; and 2) have stable pricing, such as Non-Rx Consumables (e.g. BDX, BCR, COV, CFN, OMI)

For our full research notes, please visit our published research site

Net HIE Premiums Growing Faster Than Incomes; This is Likely to Accelerate

Written June 24th, 2014 by

The average premium increase thus far proposed by health insurance exchange (HIE) plans for 2015 is 10%; this compares to 4% to 5% expected income growth for subsidy eligible households

We encounter a common misperception that the Affordable Care Act (ACA) keeps households’ net premiums constant as a percent of income. In reality, the first of two health insurance subsidy indexing provisions – ‘regular’ indexing – keeps households’ share of premiums constant, until and unless the second indexing provision (‘additional’ indexing) applies. Thus beginning in 2015 households should expect their net premiums to rise (at least) at the rate of overall premium inflation

Additional indexing applies in 2019 and after if total federal premium (and cost-sharing) subsidies paid exceed 0.504 percent of GDP, as is likely. Additional indexing serves to keep total federal premium and cost-sharing subsidies at or near this percent of GDP, in which case households purchasing subsidized health insurance on the HIEs will see their net premiums grow even faster than the underlying rate of premium inflation

Most current beneficiaries will have enrolled at a point in time at which their exchange could not offer a great deal of information regarding the nature of the coverage they were purchasing – other than the price. As beneficiaries have begun to gain experience with their coverage, we believe many will be disappointed by features such as narrow networks and high levels of cost-sharing. In effect, we believe beneficiaries’ (and potential beneficiaries’) assessment of the value of coverage may be falling, just as the cost of coverage (as a percent of incomes) begins rising. This feeds our conviction that the HIEs are subject to adverse selection pressures that will force policy changes, and leads us to believe that enrollment growth in 2015 may be limited

For the HIEs to succeed (both in terms of avoiding adverse selection and enrolling sufficient numbers of persons to meaningfully reduce the ranks of the uninsured), we believe at least one or more of the following policy steps will be taken: (re-)allowing greater premium differences based on age, (re-) allowing higher out-of-pocket maximums, reducing the scope of mandatory benefits, increasing subsidies, increasing penalties, and/or forcing the merger of adverse HIE risk pools into larger, better balanced risk pools

For our full research notes, please visit our published research site

Early Look at 2015 HIE Rates: Avg. Increase = 10%

Written June 17th, 2014 by

11 states have disclosed insurers’ proposed rates for plans to be sold on the health insurance exchanges (HIEs) in 2015. The enrollment-weighted average rate increase thus far is 10.0%. These states’ 2014 HIE beneficiaries represent 14.6% of nationwide 2014 HIE enrollment

Although it’s too early in the process to know how 2015 actual rates will shape up nationally, it’s notable that proposed rate inflation outstrips the underlying medical cost trend (+/- 5.4%) in all 11 states except Maine, which suggests insurers are facing greater-than-expected claims costs

If realized rate increases are on par with early figures, growth in net premium costs will easily outpace income growth for subsidy-eligible households, owing to the Affordable Care Act’s (ACA) subsidy indexing provisions. This imbalance would further diminish the value of HIE coverage for younger / healthier enrollees – who are already under-represented on the HIEs – resulting in mounting adverse selection pressures

In this case, HIE-related gains in per-capita demand intensity and hospitals collections are likely to disappoint; and HIE rules and regulation ultimately must be modified by (re-)allowing greater premium differences based on age, (re-)allowing higher out-of-pocket maximums, reducing the scope of mandatory benefits, increasing subsidies, increasing penalties, and/or forcing the merger of adverse HIE risk pools into larger, better balanced risk pools

For our full research notes, please visit our published research site

Large Pharma’s ‘Established’ & ‘Growth’ NEWCOs: A Solomonic Path to More Efficient R&D?

Written June 10th, 2014 by

We divided the large cap pharmaceutical companies into ‘established’ and ‘growth’ NEWCOs; we then compared the combined value of the ‘established’ and ‘growth’ NEWCOs to the legacy parent companies, and found no compelling evidence to believe the combined NEWCO values are any higher than the market values of their respective ‘legacy’ parents

The growth NEWCOs are dramatically smaller (average 32 percent of legacy revenues) than their parents. For the growth NEWCOs to have R&D / sales ratios on par with comparable existing biopharma growth companies, the average growth NEWCO would have to reduce its absolute R&D spending to a level 53% below that of its legacy parent. The negative implications for research tools and services companies (e.g. CRL, CVD, ICLR, LIFE, PLL, PRXL, QGEN, TECH, TMO, WAT) are obvious

The growth NEWCOs are much more reliant on US real pricing power than comparable existing biopharma growth companies … that is to say the ‘quality’ of the growth NEWCOs’ growth arguably is less than that of the comparables. This raises the question of whether the growth NEWCOs would be valued at par with the comparables, and challenges the core value-creation logic of proposed splits

The only benefits we see from breaking legacy companies into ‘established’ and ‘growth’ NEWCOs derive from the impact this has on R&D spending. Simplistically, because economic returns to R&D spending are on average negative, as long as this is true less R&D spending obviously is (economically) better. And, because economic returns to R&D spending are negatively correlated with scale, the significant rescaling of R&D implied by splitting legacy companies into ‘established’ and ‘growth’ NEWCOs might reasonably be expected to raise the productivity of the R&D spending that remains

Splitting legacy companies into ‘established’ and ‘growth’ NEWCOs is not the only path to lower R&D spending, and lower R&D spending is not the only path to better R&D productivity. We prefer the more ambitious approach of tackling R&D productivity by alternative means that do not require sacrificing non-R&D scale advantages

For our full research notes, please visit our published research site

SSR Health New Product Approval Portfolios & Supporting Data Update

Written June 3rd, 2014 by

Drug, biotech, and research-based spec pharma stocks tend to outperform their peers in the year or so before and after regulatory actions (‘PDUFA’ dates) on major new products, with a large portion of total risks being concentrated in the days immediately preceding and following the PDUFA date

Since November of 2011 we’ve run model portfolios consisting solely of names with pending (i.e. ‘pre-PDUFA’) or recent (i.e. ‘post-PDUFA) major-product regulatory actions, respectively. Within each broader ‘pre-‘ and ‘post-PDUFA’ portfolios are three sub-portfolios that differ only in terms of how large the new product is as a percentage of the company’s total sales forecast. E.g. the ‘1% pre-PDUFA’ portfolio consists of all names with pending regulatory decisions on products that account for at least 1% of the company’s total sales forecast, and so on for the ‘5%’ and ‘20%’ pre- and post-PDUFA portfolios. To moderate risks, all portfolios follow rules to limit long positions in the days immediately before and after regulatory actions

Since inception, the 1% pre-PDUFA portfolio has produced greater returns (53% v. 37%) at a lower standard deviation of returns (12% v. 14%) than an ‘innovator index’ of all companies eligible for inclusion in these portfolios. The 5% pre-PDUFA portfolio has outperformed by an even greater margin as compared to the innovator index (66% v. 38%), though at a higher s.d. of returns than the innovator index (24% v. 14%)

We expect US real pricing power for pharmaceuticals to fade, which will increase the importance of new product flow to relative performance. Thus screening for names with attractively priced new product flow is an appropriate first step to stock selection across the drug, biotech, and spec pharma sub-sectors. We offer two related tools, the first being these portfolios of names with major pending or recent regulatory actions (published monthly); the second being our Hidden Pipeline series of reports that identify undervalued phase 2 and earlier pipelines (published quarterly)

Please note: regularly included in this series of reports are detailed tables of all (major or not) pending new drug applications (NDAs) and biologics license applications (BLAs) for all US-listed drug, biotech, and research-based spec pharma companies; and, detailed tables of all phase 3 products under active development by these companies 

For our full research notes, please visit our published research site

SSR Index of Current-Quarter Healthcare Demand Growth: Initial 2Q14 Estimates

Written May 23rd, 2014 by

We expect 7.1% (nominal) y/y growth in US health services demand during 2Q14, the product of 5.5% growth in demand intensity and 1.5% growth in price. Our estimate of demand intensity are sharply higher in 2Q14, and reflect an expectation that Affordable Care Act (ACA) related enrollment gains will increase intensity by approximately 2%

Independent of our quarterly growth rate models, we handicap the odds of a trend break, i.e. a significant acceleration or deceleration in demand. The trend-break model indicates that sequential acceleration in demand during 2Q14 is likely (96%)

Pricing growth remains low, although we expect observed y/y price dynamics to improve substantially this quarter as sequester-related cuts to Medicare reimbursement annualize out of the base period observations. In spite of this (mathematical) improvement in government pricing, commercial pricing is weakening

We still believe intensity of demand will continue to grow as employment improves, as this serves to move a larger percentage of the population into the most generous form (employer sponsored) of health insurance. For this reason, we favor healthcare sub-sectors that are: 1) positively levered to gains in US per-capita intensity; and 2) have stable pricing, such as Non-Rx Consumables (e.g. BDX, BCR, COV, CFN, OMI)

For our full research notes, please visit our published research site

Poor R&D Productivity as a Self-Inflicted Injury: Who’s Missing the Most Toes, and Why

Written May 15th, 2014 by

R&D productivity can be measured, and thus managed, far better than is reflected in current practice

Using metrics produced with a combination of US patent data and company disclosures, we calculate / identify:

economic returns to R&D spending (the relationship btw Yr1 R&D and Yr10 adjusted earnings)

the number of quality-adjusted ideas produced per $M of R&D spend

the average quality of ideas produced

the pre-phase 3 research areas that account for at least 80 percent of each company’s  innovation; and

each company’s rank v. peers in these key research areas

The related analyses identify 5 addressable causes of poor R&D productivity:

1.       Companies tend to move their own discoveries into development, without fully considering whether externally available compounds would be a better use of development dollars. LLY, AMGN, and AZN are worst in class on this metric; BMY, PFE, and Roche are best-in-class
2.       A large percentage of companies’ research activity takes place in research areas where the company is too low ranking for its efforts to be worthwhile. Across the research areas that account for 80 percent of pre-phase 3 innovation, the typical company has an average rank of 8th. LLY is worst-in-class among the large caps on this metric with an average rank of 12th; BMY and Roche are best-in-class with average ranks of 2nd
3.       Lack of cost discipline:  JNJ, GSK, NVS, LLY and SNY all consistently spend much more than peers to produce a given quality-adjusted amount of innovation; BMY consistently spends less than peers
4.       Poor average quality of innovation: Bayer, GSK, LLY, MRK, and SNY consistently produce innovation that is of less than average quality (‘per unit’ of innovation) than peers; BMY, CELG and VRTX all consistently produce innovation of above average quality
5.       Negative scale economies both across (larger firms are less R&D productive than smaller firms) and within (as firms grow, they become less R&D productive) firms. Only VRTX has been able to substantially grow its real R&D spending without meaningful declines in R&D productivity

These and other R&D productivity metrics covering the 22 largest publicly-traded companies (by R&D spending) are available in a comprehensive benchmarking report at hiddenpipeline.com

 

For our full research notes, please visit our published research site

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