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This is when he sees our global head of strategy at Credit Sites. And today, we are going to be talking about all things health care. We have Eric Aksen, who is our co-head of High Yield and also our senior health care analyst, leading the charge in all things, pharma, hospitals, all those great sectors. Eric, thank you so much for joining me.
Yeah, awesome. Thank you for having me on. I'm happy to have you as well. You know, this is a lesser-known fact about me, but I started my research career as a junior health care analyst.
It's been a long time. Yeah, it's been a long time. I'm going to pretend like I remember any of the things that I used to model. But let's start with pharma.
I was on the high yield side, so we didn't have any pharma companies at the time. And pharma represents a really big chunk of the US investment grade healthcare index. With your 2025 pharma outlook, you did move to an underperformed recommendation on the sector. What's going on here?
What are the fundamental drivers of your view? Is there something just going to cure everything? What's the only drug we'll need? I mean, honestly, it seems like it at this point given the news flow on that drug.
But yeah, as you mentioned, we did move to an underperformed wreck on IG Pharma. Really a handful of fundamental drivers there underpinning that wreck change. For starters, on the operational side, the sector is facing intensifying pressure from losses of exclusivity. There's a wave of Eloise that really kicked off in starting in 2023 with Avi's loss of Humera.
That was a big one, actually one of the biggest ones in recent history in terms of patent expirations. But as we look forward through the end of the decade, really almost every large pharma company under coverage is going to face some degree of patent expiration. We spent a lot of time internally trying to quantify those exposure levels. Some data just out from evaluate pharma actually suggests that the sector could see almost 420 billion of pharma revenues at risk from patent losses between now and 2030.
So obviously a huge number there. And then you're looking at companies under coverage names like Pfizer, like Bristol Myers, Novartis. They could all see 30 to 50% of their revenues at risk from patent losses. So some really massive portfolio turnover underway there that that has to happen.
And then the second big operational headwind, it comes from pricing provisions included in the inflation reduction act, specifically with respect to Medicare and price negotiation. The government just released their second round of drugs subject to price negotiation. That'll start in 2027. Included on the list, GLP1 therapies from Novartis, Mozart because on that list, but also some big drugs from the name of Bristol, Pfizer, AstraZeneca.
And so what I think here on the rack is really that these are operational pressures that are coming to a head, they're obviously collectively, they have some impact on revenue growth trajectories. And it's going to influence M&A activity and M&A decisions over the near term. Traditionally, M&A is the big driver of spreads in the sector. Leveraging M&A and then oftentimes jump on new issuance that goes along with it.
And really the last thing a drug maker wants is to have acquisition needs or wants while they're losing e-bitttoff from patent expiration. And so our thinking is that management teams are going to try to be proactive about M&A, get ahead of their losses of exclusivity, and that could potentially lead to some leverage deterioration in the space. And so that's really underpinning of the underperform wreck. Yeah, that makes a lot of sense.
And it's really consistent with our broader strategy view that a lot of companies in a number of sectors will be moving into this more consolidation type phase of the credit cycle, seeing more M&A, seeing more spin-offs, just more financial engineering, increasing that execution risk, and definitely increasing the potential for some net new issue supply overhang. Now you did bring up Medicare price negotiations and the political side of it all. And the day that we are recording this is the day after Trump announced his 25% tariffs on Mexico and Canada, and then pushed off the Mexico tariffs for a month. Lots of moving pieces, lots of uncertainty.
And I would imagine that there is some uncertainty in the pharmaceutical sector. Now since you brought it up, let's start with the Medicare price negotiation as, you know, this is actually kind of a hot topic, no matter who is in charge in the US government. How are you thinking about the potential impact on the pharmaceutical sector as a whole? Or are we just going to like cuddle our pharma costs and that's how we close the deficit?
Yeah, I mean, I think maybe starting with specifically Medicare price negotiation, I think overall the Trump victory is probably a better outcome for the sector than Harris Win. Harris had spoken freely about wanting to add to the list of drugs that are currently eligible for price negotiation. And obviously the more drugs that end up on that list, the worse it is for the drug makers, particularly over time. As the pricing provisions currently stand, we do see them as a manageable headwind for drug makers, at least from a credit perspective.
We don't anticipate price-related downgrades or anything like that. And in any kind of worst case, the drug maker is going to have a pretty long line of visibility on upcoming price reductions for drugs and their portfolio. So they'll have the ability to prepare both from a drug portfolio perspective, but also under a really adverse outcome from a balance sheet perspective. But yeah, I think that said, drug pricing will hinder revenue growth in the space for certain drugs that are heading towards the end of their exclusive lives.
And then the list is additive. And so the more drugs that land on that list every year, it's going to become more impactful for revenue growth for those companies that do have multiple drugs landing on the list. And there are quite a few of them now that do have multiple drugs on those lists. But I think pulling back a little bit in terms of just Trump and Republican policy towards drug prices in particular, it's certainly an area where there has been bipartisan support and agreement in the past.
During Trump's first administration, he tried to address high drug prices in various ways, most notably he put forth a most favored nation plan via an executive order. That plan was ultimately rescinded by the Biden administration. But it is something that drug pricing is something that Trump has looked to take on in the past. It's a little less clear if he would pursue a most favored nation policy again, kind of in tandem to what already exists for Medicare price negotiation.
Robert Kennedy, last week at his confirmation hearing, teased the most favored nation concepts. And then Trump also, late last week, somewhat cryptically posted about drug prices on Truth Social. And a lot, as you mentioned, it's a very fluid situation. A lot could change.
There's going to be a lot of headlines and then it's our job to figure out what's substantive and what could stick from policy perspective. Obviously, there are initial sense right now has been that this administration has other priorities that perhaps sit front burner, obviously taxes, tariffs, immigration. We also think it's possible that Republicans might view the drug pricing provisions that currently exist as good enough for now. After all, we have a growing list of medicines that are eligible for negotiation.
We have list price reductions anywhere from 40 to 80% through round one of the program. We'll see where we're round two lands, but probably something similar. And so I think that there is some cover for Republicans to say that drug pricing is not perfect, but progress has been made thus far and perhaps allow that to then sit on the back burner. But again, it's all TBD.
Yeah, I understand it's TBD, but are there any specific issuers that you're kind of watching as potentially being vulnerable to changes here? Yeah, I mean, I think if you look at names that have material exposure to the Medicare price negotiation list, there's a number of them. But Pfizer jumps out, Merck, Eli Lilly, Bristol Myers, AstraZeneca, Amgen. I mean, it's a long list.
Glaxewismic line was really prevalent on the second round list that came out last month. I wouldn't categorize any of their exposures as severe. But again, as one, two, three plus drugs start to hit that list, it does become a more material headwind to growth come 26, 27, 28. I think in almost all cases, the price negotiation for Medicare is going to come towards the very end of exclusive lives for these drugs.
And so it doesn't limit the financial impact to some extent, but still it is going to become more material. All right. So we know that some of these moves from the Trump administration that we've seen so far, especially related to healthcare, have been deemed somewhat unconventional. We've seen a withdrawal from the World Health Organization, changes in leadership across HHS, CMS, and the CDC, and then also a pretty high profile communications freeze on a number of these agencies as well.
Now, I know that this is also a pretty speculative question, but what are some things that you're kind of looking that the Trump administration may try to do with infarma, or at least what are you watching for? Yeah, certainly unconventional. Certainly a lot of headline volatility around the Trump's nominations for heads of HHS, CMS, and CDC kind of tackling some of those issues you mentioned, but withdrawal from the World Health Organization certainly adds to that volatility. That could certainly alter how that body sets health priorities and makes decisions during international health emergencies around things like data sharing, medicine sharing.
The US had been a leading voice in that organization, so something, you know, things will change there. The decision last week to freeze federal grants and loans, another disruptor for the healthcare space, you know, obviously that was quickly reversed and has now been blocked at least temporarily by the courts. But going forward, you know, if those actions are pursued, it could impact things like drug research funding for the NIH, funding for various health programs through the HHS and the CDC. So a good amount of uncertainty there.
But on the nominations themselves, RFK is the big one confirmation process happened just last week. I think we're going to see additional movement on that this week. The Senate Finance Committee, I think, is scheduled to vote on whether they move forward with that nomination tomorrow, Tuesday. And if it does, then that would go to the Senate floor.
Not a huge surprise from Kennedy last week. He largely downplayed some of his past skepticism around vaccine safety and efficacy. He tried to persuade Congress that he wouldn't limit access to vaccines as the head of the HHS. You know, from our point of view, it's kind of hard to say where he really stands on these matters.
I mean, he's been vocal, and he's had seemingly deeply held positions on vaccines in the past. And then also, you know, he just doesn't have a healthcare background, which, you know, obviously raises some flags in our view. And he was quite vague on how he thinks about priorities for Medicare and Medicaid during his hearing. He was also pretty vague on how he was thinking about enhancing subsidies through the individual marketplace.
So again, just a lot we don't know about his positions if he's confirmed. Another controversial figure, David Weldon, he's Trump's picked ahead the CDC. He's raised questions in the past as well about vaccine safety and efficacy. So, you know, I think that's important because insurance companies and state and federal programs do take their lead from the CDC when they think about coverage decisions around vaccines.
So certainly some potential for volatility there if guidance on vaccines were to change. And so, you know, what this all adds up to is in recent months, some of the vaccine have been under some pressure, names like Laxos and Klein, Merck, Pfizer, two or less extenculate and AstraZeneca. These are large, well-defined pharma companies, but they do derive a lot of their revenues from vaccines. And so that's certainly something we're going to have to watch specifically for those companies.
If we do get vaccine accessibility or guidance on vaccines moving in the wrong direction. Yeah, the vaccine topic is really interesting. I remember when I was a kid, I had a friend who was immunocopromised, or she got a flu shot every year, but none of the rest of us did, it's children. And then it became like a very just baseline, everybody gets a flu shot.
And now I think post-COVID vaccine fatigue has become a bit more broad-based or at least some degree of vaccine skepticism. And it's been very interesting to see how that has trickled up into the broader political landscape as well. And it has some meaningful implications for the broader femur sector that is for sure. Now we mentioned a little bit about M&A.
You know, this is one of those things where it can be both a positive and a negative. Sometimes there are beneficiaries who are taken out. How do you think about kind of single-name winners and losers within pharma M&A? And when are you kind of expecting things to start to pick up?
Yeah, I mean, I think maybe broadly before getting into winners or losers or those names that could be active, you know, certainly we on the Farm team here expect less friction for M&A activity in pharma in the year ahead. That said, we don't really expect to see massive deal sizes in 2025. There's just less interest from management teams and those types of transactions. I think most of the names that have wanted to go big with M&A have already done so in recent years.
But I think that being said, you know, under the past administration and the last head of the M&A, there was material pushback on even medium-sized transactions in the pharma space. And so I think there was kind of, you know, it did kind of freeze some activity or potential activity. I think a big notable example there was the Amgen Horizon acquisition. That was a deal with really limited drug overlap between those two companies.
But the FTC pushed back considerably on that transaction. And so I think, you know, management teams certainly took notice of that kind of activity. Yeah, as you mentioned, the pharma sector historically has been quite active with M&A. A lot of that has to do with the fact that the failure rate in drug pipelines is so high.
So there's almost a 90% failure rate from pre-clinical to phase three drug development. And as a result of that, companies really need to regularly supplement their internal R&D efforts with M&A. You know, given those upcoming losses of exclusivity that I discussed earlier, you know, that need to bolster late stage pipelines in particular is just more intense right now. So we do, you know, net net, we do expect an active year for bolt-on and even medium-sized M&A, which in the pharma space can range anywhere from 10, 20, 30, 40 billion and still be kind of considered bolt-on category.
You know, they can get quite big in the pharma space. On a name-specific basis, those companies that we expect to be highly acquisitive, Merck is first and foremost on that list. That's really the one company that we think could go big with M&A. But their capacity for M&A at their current ratings tier is also considerable.
They're like 40 billion dollars plus within their existing ratings tier. And so their rating is probably safe at that point, but that's the name that could make a splash with a bigger deal. Pfizer and Bristol are two names that jump out. They were both acquisitive in late 2023.
They've been restoring their balance sheet over the last year, but both arguably have ongoing M&A needs. And so they could be active in the space and pull in the trigger as well. And then other names are a little bit less easy to handicap, but we think will be active. Biogen's on that list, Claxo is on that list.
Eli Lilly are also, Eli Lilly and Gilead are both also on that list in terms of active. And I always try to pick winners and losers, you know, drug due diligence in the M&A process can be tricky. And certainly there are names that do really well. And then there are acquisitions that flop.
We just saw a recent one of those from Abby this last year in Sarabelle. But yeah, those are names that we expect to be active. Yeah, that's super helpful. I'm also really curious to see in the Trump administration, if the regulatory landscape really changes as much as people are currently anticipating it.
You know, I think we have to recall that a lot of the focus on tax started during Trump's first administration. And I don't necessarily view him as a traditional Republican candidate. And I think that that has some implications for what regulatory and antitrust actually looks like. But we still have some time before we can figure all that out.
All right, so let's shift our discussions. And let's talk about hospitals. You know, there's not a lot of them left in the credit markets, but they have some pretty major capital stacks. In fact, when I started as a healthcare junior analyst, HDA was rated CCC has just done its LBO and made its way back to investment grade.
So there's a success story. Investors though have had a pretty wild ride in some of these names over the past few years between tenant and life point and community health. You know, as a quick checkup, let's start there. It's blue season.
It's COVID season. It's RSV season. And we're going to be on with healthcare operations at hospitals. How did they for 24?
And what's the outlook for 2025? Yeah, absolutely. And we just went through the flu in my house. So totally get it.
We've only had two, one hospital report thus far. And so don't have a ton of commentary from the hospitals on at least on the cold and flu season. I think a lot of the activity actually picked up after the end of the calendar year, honestly, as well. So might be a first quarter kind of color coming in, but certainly it's been an aggressive season so far.
In terms of how the hospitals did holistically in 2024, pretty well is the answer. We saw pre-sustained admission volume growth. That was partly due to a tailwind from procedures that were previously deferred through COVID. That tailwind has lasted a lot longer than we expected it to and just the benefit to volumes, particularly on the surgical side has been a real benefit to the hospitals.
Some of that volume growth, I think, was also attributable to the enhanced subsidies in the individual marketplace. So enrollment in that marketplace grew by 30% in 2024. A lot more people getting insurance there. I think that was helpful.
And then the hospital was also benefited from growth in commercial reimbursement rates in 2024 and moderating cost pressures, particularly for contract labor. And those expensive contract labor costs have really pretty much now normalized to pre-COVID levels, which is helpful for margins for sure. In terms of outlook for hospitals in 2025, I think it's a bit more of a mixed bag. We've only again received guidance from one hospital operator, HCA.
They're continuing to guide to continued growth in admission volumes as well as growth in revenue per adjusted admission. So a pretty positive outlook from them. They are the strongest hospital operator. And so that's not necessarily going to translate to some weaker peers in tenant and community health, but a good first read from HCA.
On our side, we're probably a bit more bearish than that. We're concerned that we're going to start to see a pullback in volumes as that post-COVID tailwind finally subsides, again primarily on surgeries. Again, we haven't seen any sign of it. We haven't heard confirmation from management teams.
The medical device players that we follow that have exposure to hospital procedures seem pretty positive still. And so not really any cracks there yet. We think if they do emerge, it'll probably be in the middle part of this year or the later part of this year on that volume piece in particular. And again, that's not a doomsday scenario for the hospitals, but it certainly could lead to a more interesting year and perhaps more volatility on operations.
And then of course, what happens with the new Trump administration is another big wildcard. And a lot of potential policies there could affect the health insurance marketplace and then the hospitals in particular. Yeah, let's talk about that a little. In Trump's first administration, he had campaigned pretty heavily on repealing and replacing Obamacare.
That ultimately did not come to fruition and was also not really a core tenant of the 2020 or 2024 campaign. But we are probably going to see at least some changing in the insurance landscape over the next few years, probably especially in the individual marketplace and thinking about funding for Medicaid as well. These things could definitely impact some hospital operations. How are we thinking about hospital issuers being able to withstand higher uninsured volumes?
What's the outlook there? Yeah, maybe just before getting into hospital abilities with Stan, I think overall Trump's proposed policies could absolutely impact the uninsured rate in the US. If you think about Medicaid funding broadly, which could take the shape of a block grant system, if you think about funding for Medicaid expansion, which was a key tenant of the Affordable Care Act, if you think about work requirements for Medicaid eligibility or the expiration of enhanced subsidies in the individual marketplace, each of those proposals could have the effect of raising the uninsured rate in the US. And so the way we think about it is if cost cutting is the big push from this new administration, Medicaid funding and enhanced subsidies could be one of the obvious places to start.
And then again, any funding cuts in those areas would almost undoubtedly raise the uninsured rate, which then means more uninsured admissions for the hospitals, which is clearly bad for margins. And so that's kind of the flow through. I think it's important to raise the point that it's always hard for the government to take away benefits. Things like Medicaid expansion, enhanced subsidies certainly in the individual marketplace.
These are popular benefits with both Democrats and Republicans for the people that actually utilize those benefits. And so any motivation of cost is really going to obviously have to be carefully measured against the impact of stripping benefits. And I think Trump is not blind to that dynamic. But to answer the question, I guess more directly, I think the hospitals are decently positioned for an adverse outcome on the legislative front.
HCA plays heavily commercially insured markets. They're going to fare better than tenant and community. Communities are the lowest quality operator and the smallest arguably weakest markets. They'll likely fare the worst.
But I do think it's important to keep in context about what the downside could look like. I always go back to the years immediately after the Affordable Care Act came into place. The hospitals back then cited anywhere from a 5% to 10% benefit to adjusted EBITDA, specifically from the Affordable Care Act. That came pretty much in equal parts from Medicaid expansion and from the formation of the individual marketplace.
We think that 5% to 10% benefit has probably expanded in the years since enactment due to growth in both of those programs. Medicaid expansion has been picked up by more states. The individual marketplace has grown. But I think even under a worst case, you had a reversal to pre-ACA uninsured levels, which is an unlikely outcome in our opinion.
It would be quite unpopular nationally. But if you did have that kind of reversion of pre-ACA, you'd be looking at maybe a 10% to 15% EBITDA to the hospitals. Again, a really rough estimate, but I do think it helps contextualize some of that downside. And I think that for the most part, that is manageable downside to the hospitals.
But again, the highest quality operators will fare the best and the lowest quality will be a little bit of a different gain for them. Yeah, that makes total sense. 10% to 15% of EBITDA, not great, but also not a necessarily dire outcome. All right, so here's a topic that I am less familiar with.
Site neutral payment legislation. First of all, what is this? And also, what is the likelihood that it comes to fruition? It seems like there is some growing bipartisan support.
Yeah, there's been bipartisan support for site neutral payments for some time now. And I would categorize it as growing. I think it's accurate. I think, frankly, site neutral will be on the legislative agenda, no matter how the elections turned out last year.
But for some background, most simplistically speaking, site neutral policies, what they do is they look to align Medicare reimbursement rates for services performed in different outpatient settings. And so you have hospital outpatient departments, you have ambulatory surgery centers, you have doctors offices, all these places can perform similar procedures. As things currently stand, though, Medicare reimburses at a higher rate for procedures that are performed in certain settings, particularly the hospital outpatient department setting. And so what would happen is legislation would effectively equalize that reimbursement rate for a basket of services.
And that would theoretically be a basket of procedures that are most commonly provided in the outpatient setting. And for the hospitals, what that means is that it would eliminate an important source of revenue for them. And so hospital outpatient departments carry much higher fixed costs than a physician's office. And because of that, they rely on those higher reimbursement rates for Medicare to help offset a portion of those costs.
And so it's an important source of revenue. It would effectively lower the revenue on a service basis for some of these higher cost outpatient settings. I think the legislation would be more manageable for facilities that play play heavily commercially paid insurance markets. That partially assumes that commercial insurers don't fall in a suit with rate cuts.
But it could be pretty painful for sites that service heavy Medicare populations. And then with the aging demographics, it's ultimately going to represent a headwind to all hospital operators in some way. Unless there's a middle ground outcome where Medicare reimbursement rates can be struck at something higher than the lowest common denominator there. In terms of likelihood, I expect it to gain some steam this year and into next year, for sure.
I think it's going to be a legislative priority. Hard to put odds on it. But I think that, again, this is an area where it's pretty widespread bipartisan agreement. Yeah, I mean, it makes some sense, theoretically.
And in this focus on costs, let's look at it across the board for sure. All right, so we've already identified some wild cards or things that have been unique so far in 2025. Are there any other things that you think are worth mentioning across healthcare? Could be pharma or hospitals?
Investment grader, Hyel, Eric, what is on your 2025 healthcare bingo card? Yeah, I think some differences between IG and Hyel, I think in IG, as we spoke about, it's really all roads lead to pharma M&A activity and whether any company could go large. It's obviously quite hard to predict names that could go really big with M&A. Merck is circled there again, I think is the most likely to reach for something big, but they have the balance sheet to pull it off.
But that's where you could see a big deal announcement, a big jump out debt offering in space. Beyond that, though, and it's lower in credit quality, but within IG, I think wild card, bingo card is a biogenivantress. Both interesting candidates to execute M&A management teams have spoken about M&A needs. They both have really serious strategic needs that they need to solve for biogen that stems largely to over concentration and multiple sclerosis where they've just gotten worked with competitive pressures as of late and patent expiration quickly.
For biometrics, their problems really stem from an aggressive agenda of asset sales that they just executed, which is left them with a puzzling operating strategy, I'd argue. But bottom line is both companies are really unable to grow revenue sustainably from here and they both have limited capacity for M&A at existing ratings. So I think if you see deal announcement, there's the possibility for ratings pressure on the back of an announcement. In hospital land, two wild cards relate to community health and a tenant.
Community health, for those familiar, has really struggled to grow into its capital structure for the last several years. It's got a really heavy interest cost burden, which leaves it effectively free cash flow neutral at best. That company just refied its 2026 maturity last year, which has blossomed some time on operations. The next maturity is 2027.
But I think it's increasingly likely that community is going to have to restructure at some point. The shape of that restructuring will heavily depend on one large holder in that structure. But I think we're moving towards that outcome over time. Just timing is hard to predict, obviously, with any kind of preemptive restructuring.
And then for tenant, the wild card is really on the will day or won't they separate their ambulatory surgery business. That business now counts for almost 50% of EBITDA, so it's kind of grown to a critical mass. That business enjoys better growth rates and better margins than tenants in-patient hospital business. So we would argue that there is a multiple that could potentially be unlocked through a separation of that ASC segment.
But at the same time, management hasn't really suggested that that action is being pursued. They are reducing leverage. And I think that begs the question to what end are they reducing leverage so aggressively. But it's really just speculation in our part right now.
But I think, yeah, the interesting wild cards are really in hospital high yield land for the year ahead. So we have M&A, spin-offs and restructurings all on the bingo card for the world of healthcare in 2025, or perhaps just thereafter. Eric, thanks so much for joining me today. It was fun to have some flashbacks in my healthcare coverage back in the day.
Lots has changed, but also nothing has changed all at once, which I feel like is just the life we lead as credit analysts. For sure. I guess that given that this was a healthcare-focused podcast, I should wish everyone a very healthy 2025. And if you have any follow up questions for me or Eric, you can always reach out to us using that Ask An Analyst button on the credit sites.com website.
Or if you're not a credit site subscriber, you can reach out to the credit sites sales team. Thank you, Eric, for joining me. Thanks so much for having me on.