This article is part of Bain’s 2020 Global Healthcare Private Equity and Corporate M&A Report. Explore the contents of the report here or download the PDF to read the full report.

Regulation has been a key factor impacting the healthcare industry for decades. Although investors constantly assess the potential effect of regulation on specific investments as part of due diligence, we have not seen a material shift in investor behavior as a result of some of the recent regulatory rumblings, in part because of a belief in the continued positive macro fundamentals and increasing likelihood that new, game-changing regulations won’t be forthcoming anytime soon.

With that context, let’s turn first to the US. In any US election year, issues of regulation and reform surface. With the November US presidential and congressional election, potential reforms span the payer landscape, drug pricing and other administrative and legislative changes, and are particularly relevant if a Democratic candidate and a Democratic-majority House and Senate are elected. Europe and the Asia-Pacific region also have ongoing regulatory efforts that could have mixed effects on investors. Let’s examine the US situation first.

US payer reform

Several federal-level reforms could come after the November elections. Most options would increase the number of people covered by government or government-supported plans and would be likely to result in some compression of rates depending on the specific plan enacted. Here is a rundown of key options: single payer, private insurance retained with a buy-in option, and reversal of the Affordable Care Act (ACA).

The single payer option

A single federal program for all US residents would replace private insurance and Medicare for covered benefits, though it probably would not restrict supplemental insurance for noncovered benefits. While much of the discussion has focused on a publicly paid, publicly administered plan, one option would use private insurers to manage the single payer program—akin to Part D, Medicare Advantage or Medicaid managed care. A single payer system would be the most disruptive option, but many view that option as not politically feasible. Possible effects on each sector follow:

• Payers: Single payer legislation would largely eliminate the need for private major medical insurance, including Medicare Advantage programs, outside of supplemental insurance, assuming that it is publicly administered.
• Providers: Providers would see a potentially substantial negative effect on prices, but potentially higher volumes and somewhat streamlined costs.
• Medtech: Most medtech companies would be affected indirectly as providers pass on costs to suppliers, though this will vary by product type. A single payer plan might also reduce the willingness to pay for innovation.
• HCIT: The fallout would vary by type of technology. IT that spurs efficiency might get a boost, depending on adoption. Other areas, such as the revenue cycle, would be negatively impacted, with an open question on any potential transition plan and the required technology to support this option.

Private insurance retained with a buy-in option

Private insurance with a buy-in option could be publicly or privately run. The publicly run version would be a federal health insurance option offered to eligible residents that competes with private insurance options—probably akin to the public option entertained during the Affordable Care Act debates in 2009–10. The privately run version would include buy-in options for all eligible residents, such as a Medicare buy-in to expand eligibility. Across all options, there is also a question on whether employers would be allowed to subsidize a buy-in for employees, potentially affecting the coverage of more lives. Possible effects:

• Payers: If the outcome is a Medicare buy-in, broadening the scope of privately run public plans, this could expand the opportunity for Medicare Advantage payers.
• Providers: Expanded coverage could mean higher covered volumes, with an open question on the rate impact depending on the chassis (private or public) and who is allowed to buy in. The consequences for rates are unclear.
• Medtech: There is some risk of derivative pricing pressure if providers are compressed. On the other hand, greater volume uplift from a newly insured population could benefit medtech companies.
• HCIT: There could be a positive effect given the added complexity of managing populations from new or expanded plans.

Reversal of the Affordable Care Act

The ACA increased access to insurance for those who were previously uninsured. It’s possible that a Republican administration would further roll back many of these changes. Possible effects:

• Payers: If the ACA were repealed, payers with an exchange presence would potentially lose those patients and the associated margin (public data indicates that many payers are margin-positive on this population).

• Providers: The effect of volumes and rates would vary by specialty but would probably depress volume as more people are thrown onto the rolls of the uninsured. Hospitals would be likely to return to higher levels of uncompensated care.
• Medtech: There could be some risk of derivative pricing pressure if providers’ profits get squeezed.
• HCIT: By contrast, HCIT firms would probably experience limited effects. Reversal might benefit patient-pay-focused solutions.

For biopharma, the question is tied up with separate drug pricing reform, although the sector could feel effects under a single payer scenario or as part of broader healthcare reform. A single payer model would most likely mean that the government plays a larger role in establishing rates, which would probably lower prices. Other options depend on what prescription drug reform looks like and the number of lives affected by the reform.

Drug pricing reform

Government officials have been discussing a number of options to reduce drug prices. The structure of future programs will hinge on several choices:

• Whether price increases will be controlled. The most likely option here would copy what already exists in Medicaid—the government recoups any price increases above inflation through increased statutory rebates from pharma companies. Democratic proposals have used this mechanism, including rolling back the past couple of years of price increases by backdating the baseline price.
• Whether list price will be controlled. The most extreme option here is international reference pricing, though that might not be feasible. A more likely route is statutory rebates off list price, again copying current Medicaid.
• Whether all branded drugs are affected. Some proposals (such as international reference pricing) apply only to the top 50 or top 250 drugs based on government spending.
• Whether the private market is included. One Democratic House proposal extends Medicare price reforms to the private market, so that private payers automatically get the same price as the government sets.
• Whether patient out-of-pocket spending is controlled. As is current practice, the main options are an out-of-pocket cap (either per prescription or annual), or moving to share rebates with patients by basing co-pays on the net price of the drug rather than the list price. The latter does not always require eliminating rebates; that is what the Trump Administration proposed for Part D, which it could do through administrative rulemaking rather than requiring legislation. If legislation passed, the rebate system would have a better chance of being retained. Anything that reduces patient out-of-pocket spending would have positive effects for pharma companies.

There is a range of possible effects on the biopharma sector. Severely negative reforms would include the imposition of European-style health technology assessment-based price caps, as well as the extension of government pricing into the private market. Reforms limiting patient out-of-pocket spending would generally benefit the industry.

In addition, a debate continues over drug importation, mainly from Canada. Importation comes with its own concerns, such as the security of the supply chain, and actions that manufacturers could take on drug prices in Canada to close the arbitrage opportunity.

Other potential US regulatory and administrative changes

Outside of major payer reform, other areas could see movement on reform, including some that do not necessarily depend on the outcome of the elections. Potential incremental reforms would have mixed effects on investment, although across all sectors, being on the “correct” side of the cost curve, and continuing the digital and data evolution in healthcare will be advantageous. 

The efforts below represent a selection of reforms that are now under discussion, ranging from comprehensive (pricing transparency reform) to narrow (increasing scrutiny of the Institutional Review Board).

Surprise billing

This topic has been hotly debated over the past year. Reform of the unexpected charges that hospital patients face when they unknowingly receive treatment from a doctor who doesn’t accept their insurance would mostly affect out-of-network providers. In that situation, the rate billed typically exceeds in-network rates. Select provider specialties will most likely be affected, with minimal effect in HCIT, medtech and pharma. Depending on the final rule, payers may see modest increases in cost in the short term, but these are easily priced into premiums in subsequent years.

Pricing transparency

The federal government might require hospitals to display prices in a consumer-friendly format. This would include list prices that hospitals use as the charge master as well as negotiated, discounted prices that providers agree on with insurers.

While reform proposals have not yet taken shape, interest in transparency is mounting. Advocates argue it would promote competition and reduce costs as consumers gain the choice to move to lower-cost facilities and more providers compete on price.

While the concept makes sense, a few aspects make the execution difficult or nuanced:

• No procedures are exactly the same, which has allowed providers to justify charging different prices.
• In theory, transparency would lower overall prices across providers in a region, but some lower-cost providers might decide to raise rates to be more in line with higher-priced providers.
• Consumers don’t always decide based solely on pricing. Insurance coverage and perceived quality matter as well. Historically, transparency tools haven’t achieved their penetration ambitions, raising a question on the ultimate effect of transparency, particularly for more complex services.
• Powerful provider health systems will continue to resist sweeping reform on transparent pricing.

Even absent step-change regulatory reform, investors should expect to see more results from public and private price transparency efforts, especially in consumer-facing aspects of healthcare, such as outpatient MRIs, where people can more easily understand prices. Companies in these markets that choose to introduce transparency even before a mandate might gain a competitive advantage.

Clinical trials acceleration

There has been a change in the FDA administration, and an open question remains on investment posture on clinical trials.

European reform

Except for harmonized centralized product approval processes, no common European reimbursement regulation exists. Rather, each social system acts on its own. Several legislative trends in Europe have a bearing on healthcare companies and investors.

In Germany, DVG, or the Digital Healthcare Act, will allow for a broad range of digital provision of care, such as telemedicine and online consultations or apps that help patients in recovery, to be reimbursed. That will fuel growth in digital health companies and make them more attractive investments.

In the UK, the main regulatory change in 2020 will come through the Community Pharmacy Contractual Framework, which overhauls pricing and reimbursement for certain categories of drugs sold in community pharmacies, disrupting current profit pools involving manufacturers, wholesalers, community pharmacies and payers. The legislation will open the door for generic manufacturers to capture market share from branded drug manufacturers, and will squeeze the margins of some drug distributors.  

While 2020 will be the year of Brexit in the UK, the effect on healthcare regulation is likely to remain limited. Statements by regulatory agencies suggest continued collaboration and alignment between the UK and EU regulatory regimes. The immediate effect on sectors such as medtech might be a need to ensure recognition by the European Medicines Association of dossiers that were submitted through the UK-notified body in previous years.

In France, a subsegment of the market will be affected by the 100% santé law of 2019, which aims to limit the level of an individual’s out-of-pocket spending after the social security reimbursement. The state has also limited the prices for eyeglasses, hearing aids and dental prostheses.

In Italy, after years of drug price contractions due to government interventions, that trend has slowed and prices have flattened. No further drug price cuts are expected in the near term.

Across the EU, Medical Devices Regulation (MDR) and In Vitro Diagnostic Medical Devices Regulation (IVDR) establish a higher data standard on devices approved for use. Key dates are May 2020, when the MDR regulation comes into force, and May 2022, when the IVDR regulation comes into force. Any new market entries will have to undergo the new procedure as of these dates, but could do so voluntarily before then. Noncompliant devices will leave the market at the latest by 2025.

The law has several implications for manufacturers. They will face higher operating costs over the next few years due to investments in data generation and regulatory advisory. They also risk having products taken off the market due to a backlog with the notified bodies, and potentially more complexity in executing clinical trials. Some manufacturers that have planned ahead could take market share, while others are using the occasion to prune their portfolios.

During due diligence, investors should understand the status of compliance for the product portfolio of potential targets, accounting for the costs that full compliance will entail. They should also evaluate whether being late to the game might force some parts of the portfolio out of the market. Conversely, there may be new investment opportunities in regulatory outsourcing organizations.

Asia-Pacific reform

Across Asia, regulators play an increasingly active role in addressing access, cost and quality constraints as evidenced by moves toward universal healthcare in China, Indonesia, India and the Philippines. Many regulators also recognize that digital solutions will be critical to care delivery, which shapes policy reform and raises the value of greater regulatory coordination.

China is in the midst of a multiyear national government reform to increase the quality and affordability of healthcare. A pilot program aims to accelerate the migration away from high-priced, off-patent branded drugs to generics though volume-based procurement. This program could dramatically reduce the cost of drugs through bulk buying in hospital systems, which are the primary distribution channel.

The program is likely to produce a winner-take-all outcome, and while prices will drop substantially, the winners will benefit from large volume increases. The next phase of these pilots covers medical devices and has begun to affect profit pools across the healthcare ecosystem. For investors, of course, this creates a window to identify and invest behind the winners.

In every region and country where regulatory change is underway, diligence and scenario planning around the probable effects of regulation will be essential to mitigate the risks and seize the upside opportunities.

This article is part of Bain’s 2020 Global Healthcare Private Equity and Corporate M&A Report. Explore the contents of the report here or download the PDF to read the full report.