The U.S. spends more on healthcare than any other country, yet the results that our system produces are comparatively mediocre. Are Americans paying premium prices for average outcomes? That's what Amazon.com (NASDAQ:AMZN) CEO Jeff Bezos, Berkshire Hathaway (NYSE:BRK.A)(NYSE:BRK.B) CEO Warren Buffett, and JPMorgan (NYSE:JPM) CEO Jamie Dimon seem to think.
Those three industry titans announced this week that they're joining forces to improve the quality of U.S. healthcare and rein in its costs. Can they succeed where others have failed? In this episode The Motley Fool's Industry Focus: Healthcare, analyst Kristine Harjes sits down with Motley Fool contributor Todd Campbell to discuss the current state of healthcare in the U.S. and what companies could be winners and losers if Bezos, Buffett, and Dimon's efforts pan out.
A full transcript follows the video.
This video was recorded on Jan. 31, 2018.
Kristine Harjes: Welcome to Industry Focus, the podcast that dives into a different sector of the stock market every day. It's Wednesday, Jan 31. I'm your host, Kristine Harjes, and I'm joined via Skype by Fool.com healthcare writer Todd Campbell. Todd, what's new and exciting?
Todd Campbell: The sun is shining and I get to talk to you, so this is a good day!
Harjes: Beautiful, love it. I hope that's not a terribly new phenomenon, that it's both sunny and a Wednesday.
Campbell: Good point. I think, hopefully, hopefully, we're getting closer and closer to mud season, and then maybe some flowers bloom and New England gets nice and warm for us at some point. I can only hope.
Harjes: Looking forward to it here, as well. The new year is flying by already. It's the last day of January, that blows my mind.
Campbell: I can't believe how quickly it's moving, Kristine, right?
Harjes: It's just crazy. Anyway, last night, President Trump delivered his State of the Union address, so we're kicking off today's show with a discussion of the weather, first, as usual, but after that, we're going to turn to a State of the Union for U.S. healthcare. Todd, catch us up. Where do we stand?
Campbell: I was thinking about how to frame the discussion, how to get us kick-started. And one of the things that jumped to mind in trying to figure out, what's the state of the union when it comes to healthcare in 2018, is, maybe take a look through a consumers' lens at the situation. And that made me think of a book by a guy named Phil Barden, he wrote a book called Decoded: The Science Behind Why We Buy. And in that book, he said that we base our decisions on the perceived value that we get from purchasing something. He defined that as the outcome that we get minus the cost to get that outcome. If you'll bear with me for a second, Kristine, I have a slightly imperfect analogy that maybe will help us frame the conversation.
Harjes: OK, let's hear it.
Campbell: Last week, my very high-mileage Volvo broke down. And I'm not going to buy a new car, I want to keep this car, so I was faced with three choices: I could go to the dealer and pay a premium price and get a premium part that theoretically would last me forever; or, I could go to my local independent shop and I could get a fair price for a quality product; or, I could go the cut-rate route and have somebody throw in a used part that could last a day or three years. Now, I chose option No. 2 because, for my situation, that was my best perceived value, the outcome minus the cost associated with it. And I started thinking, how do you extrapolate that out to the current situation of healthcare in 2018 in the United States? And I couldn't help but wonder if we're paying a dealership premium, but not quite getting a dealership quality premium part for it.
Harjes: At least if you look at it relative to the rest of the world, that kind of seems like it's the case. The United States pays so much on healthcare costs, more than any other developed nation. Our spend on healthcare is 17.9% of our GDP according to the CMS [Centers for Medicare & Medicaid Services]. But when you compare that to other developed countries around the world, that's usually around 10% of GDP, so we're almost double relative to the size of our economy. Meanwhile, the quality, as you alluded to, Todd -- that's a really important part of this because many people would be happy to pay an exorbitant amount for the best quality -- we don't really have the greatest quality of care. With an average lifespan of 80 years, the United States is ranked 43rd in the world on that metric. And on many other measures as well, we don't quite stack up in terms of outcomes.
Campbell: By and large, we pay more per person for our healthcare than other developed nations. And when you look at the fact -- you try to figure out, how do you rate the quality of healthcare? For me, the most important thing would be that average lifespan stat. How long am I going to live in this country for the cost of the healthcare that I'm getting? And the fact that there are 42 other countries that are ahead of us, that says something. You could also look at infant mortality statistics. In the case of infant mortality, the U.S. does a very good job. Yet, despite doing a very good job, it still trails on that metric Canada, most of Scandinavia, most of Europe and Japan. So, I think you look at it and say, we're obviously spending a lot of money, we're throwing a lot of money at healthcare, to the tune of, in 2016, $3.3 trillion -- as you mentioned, 17.9% of GDP. And I guess you could argue that you're not really getting what you would hope to get in 2018 for all of that money. And unfortunately, it doesn't look like there's any end in sight to that spending. If you look at what the CMS is saying, we're looking at much higher costs for our nation going forward.
Harjes: Absolutely, the trend definitely points to even higher costs. Over the last six years, premiums for employer-provided insurance, for example, have shot up 19%, but employee pay has only increased around 12%. By the same token, healthcare cost inflation continues to outpace general inflation as well as wage growth. I do, on one hand, understand that one component of that is a slightly higher value, particularly when you think about innovative drugs that are more complex and can make the quality of life better for a lot of patients. But drugs are only about 10% of healthcare costs. The vast majority of the rest of it has nothing to do with the actual drugs themselves. It's stuff like spending on hospitals and doctor services, and long-term care is a huge component. So, I do think, even though it's a very much widely talked about phenomenon, and it's largely attributed to the cost of drugs, there are so many other elements to this.
Campbell: Yeah. More than half of all of healthcare spending -- this $3.3 trillion-plus that we're paying out -- goes toward hospitalization, which I think is 32%. Another 20% goes to physician care. So, yes, you're right. While the headlines may point to drugs as being the big cost problem with healthcare in the United States in 2018, proportionally, it's not necessarily what's the big problem. I think we look at this and say, if we have baby boomers turning 65 at a pace of 10,000 per day, and we do have trends toward longer lifespans, then you're getting greater and greater demand into the system without a corresponding increase in supply, and that's putting pressure on costs, it's pressuring these costs higher. I think CMS thinks in 2018, healthcare spending is going to increase by nearly 6%, so an acceleration from last year. And it really begs the question, what can be done to move the needle and finally get the kind of quality that we would hope to get for the price that we're paying?
Harjes: Especially because a ton of the expenses are considered wasteful. There was one article in the Harvard Business Review that estimated that clinical waste, administrative complexity, excessive prices and fraud and abuse caused an estimated $1 trillion in wasteful spending in the U.S. healthcare system.
All this is to say, with higher costs and worse outcomes, this is a market that's ripe for major disruption. And yesterday, there was some news announced that some of the biggest companies in this country -- that are not healthcare companies -- are taking a look at how they could potentially disrupt.
Campbell: Yeah. Enter stage left, Amazon, Berkshire Hathaway, and JPMorgan -- three of the premiere, biggest companies in the United States. Huge employers, with more than 1 million employees combined. They've decided they're going to take all of their resources and deep pockets, and try and tackle this problem and come up with some new solutions with the goal of giving people better quality care at a lower price.
Harjes: And it's pretty unclear what exactly they're going to do. The only details that we really know is, they're going to form a company of sorts that's free from profit-making incentives and constraints -- so, a non-profit. They're going to be trying to come up with technology solutions. And it's pretty clear that they'll be using their enormous base of employees -- as you mentioned, it's around 1 million employees, plus when you add in their dependents, that's almost 2 million total people -- to try to figure out how they can lower their own costs, because these are companies that self-insure their own employees. It's a huge cost item for these companies, so it's a win-win if they can figure out how to lower those costs.
Campbell: Yeah. From a business standpoint, Kristine, you and I were talking about this pre-show, this is a major expense for these companies. It's a drag on the economy. If you look at the press release that was issued by these three companies -- and Warren Buffett is always great with a folksy wisdom, right, he equated it to a hungry tapeworm. [laughs] Obviously, healthcare expenses are diverting money from areas that would be otherwise more productive in the economy.
Harjes: Yeah. And this is something that Charlie Munger, Warren Buffett's investing partner, also agrees with. The two of them have said previously that companies in the United States are not as competitive as companies in other countries because of the enormous cost burden of our healthcare system. Even more so than taxes, which, oftentimes, you will hear a lot of business executives harping on the tax structure when really, a bigger needle mover would be to fix the U.S. healthcare system.
Campbell: A lot of attention has been placed on healthcare over the years though, right, Kristine?
Campbell: This is a system that's pretty well embedded. You're talking about having to change something that's been in place for decades. And it's not going to be easy. They even, in the press release, they all came out and said, "It's very important that we do this," but they all also said, "We don't know exactly how we're going to do it yet." I think that that's important, because if you look at the stock market, and the way healthcare stocks reacted this week to this news, you would think that they were going live with a brand-new system today that was going to get all 300 million-plus Americans the best healthcare in the world at the lowest cost right out of the gate, and that's just not the case.
Harjes: We will, of course, dig into what this means for the stocks in the healthcare industry and the market beyond just healthcare right after this quick break.
Todd, as you mentioned, the announcement from Amazon, Berkshire Hathaway and JPMorgan on Tuesday sent ripples throughout the stock market. Within the first two hours of the announcement, the market value of 10 large health insurance and pharmacy stocks dropped by a combined $30 billion.
Campbell: $30 billion, wow!
Harjes: And on one hand, Amazon coming for you as a business or an investor in a business, that shouldn't really be that surprising. But, there are valid concerns for a handful of different categories of companies.
Campbell: I think so. You and I did a show previously talking about how Amazon was rumored to be kicking the tires on either creating its own pharmacy benefit manager or somehow getting involved in drug distribution, so it probably isn't a surprise to see that, when the news broke on these companies teaming up to work together, a lot of the market cap that was lost this past week came at the expense of companies like McKesson and AmerisourceBergen and Cardinal Health, who are big drug distributors. The pharmacies took it on the chin. Walgreens, CVS (NYSE:CVS) and Rite Aid all traded down on the news. The pharmacy benefit managers, Express Scripts, etc., traded down on the news. I suppose those are the kind of companies that are most obvious potentially at risk for disruption. It makes sense. The more hands, Kristine, that touch a good, the more profit margin that needs to be built in to reward each one of those hands. So, you could argue that all these intermediaries and these middle men are increasing costs. But the savings that may be associated with disrupting that -- and again, we don't know what this trifecta of companies has planned -- may not be as large as some people think. These are already huge companies that are deeply embedded. They have significant pricing power and negotiating power with drugmakers. And, as we said earlier in the show, drugs only represent about 10% of total healthcare spending in the U.S. anyway. So, I almost wonder whether or not that will even be the primary focus of this new entity.
Harjes: I want to add on a couple of things to that. First of all, I don't see any sort of change in any of these companies' negotiating power. As you already mentioned, they're big, but they're not huge. They're nothing compared to, say, the number of people that UnitedHealthcare covers. And I really don't think that these guys are ready to play hardball. Can you imagine if Amazon is going to negotiate even harder now, and they're going to squeeze drugmakers and not offer services that are deemed too expensive? I just don't see that going over well with their employees. And meanwhile, the other thing that I want to make sure we mention is, employer coalitions on healthcare already exist. In fact, Amazon and JPMorgan are part of the National Business Group on Health. And also, a Warren Buffett company called BNSF Railway is part of the Health Transformation Alliance, which has over 40 companies, and their whole idea is to advocate for transparency in drug pricing. But they really haven't transformed much in their existence. So, to me, I see this market reaction as a bit of an overreaction, at least initially, although I do think it's something to watch out for. I also don't see how you could lose so much in market cap at the drop of a hat based on a somewhat vague PR announcement.
Campbell: [laughs] Yeah. The devil will be in the details on this. I think, we look at this and hear the word "Amazon" and we immediately think, this company is going to disrupt this market substantially. And hey, it might. We don't know. There's obviously no company that's better at supply-chain management than Amazon. Theoretically, if they can figure out a way to get a product from a drugmaker to a patient quicker, faster, more conveniently, with less friction costs, yes, there will be savings there.
To your point, though, yeah, UnitedHealthcare already has tens of millions of members that they're negotiating for. McKesson is massive, AmerisourceBergen is massive, Walgreens is massive. These companies already have significant negotiating power. So I wonder just how much of a savings they're going to get. And like you said, you're not going to be able to really successfully play hardball with the maker of a life-saving medication, and that's because patents protect these drugs and give them a de facto monopoly. They're not competing if they have a small-molecule drug that's going to solve a problem for a patient. They don't have competition until those patents expire. So, they have, I guess you would say, the pricing power necessary to play hardball with the insurer, in this case, this new entity. I think, what you may end up seeing is these three companies looking at drugs and saying, "We can save some money there, but where we're really going to have to try to innovate is using technology to improve the access to care, to drive down those hospital and physician services charges."
Harjes: I also want to make sure we talk about potential winners here. When you talk about avoiding hospital charges, I immediately start thinking about the walk-in clinics. CVS' stock lost, I believe it was around 4% yesterday in its market cap. I actually think they could be a winner here if this coalition drives their employees to seek out lower-cost care, such as that you would find in a walk-in clinic, rather than seeking out emergency room care. Other than that, Todd, do you see potential beneficiaries in the market?
Campbell: I absolutely do. There are three areas in particular that I think could be on the table as an early on focus from these three companies. One kind of touches on what you were just talking about with the Minute Clinics and the in-store clinics, but it takes it one step further, and that's telehealth. I think telehealth really is going to be the big way that we can disrupt how much people have to pay for healthcare services like primary care visits, specialist visits, and second opinions. And if I'm right, then these three companies could look toward a telehealth provider -- for example, Teladoc (NYSE:TDOC), which we talked about on the show a few weeks back -- and try to partner up with them to roll out telehealth more widely and make it the default choice among consumers. So, your first choice isn't to go to your primary-care physician, your first choice is to dial them up on speed dial and say, "I think I have the flu, can I get a prescription airdropped via a drone at my front door?"
Harjes: I think that you're right that the telehealth sector will definitely benefit from this. But when you're thinking about specific companies, I kind of think you could go either way. For Teladoc, for example, they could certainly wind up partnering with this gigantic three-company conglomerate, or maybe they would even be bought out by them. But you could also find the opposite, where Amazon and JPMorgan and Berkshire create their own version and it blows up and knocks Teladoc out of the market.
Campbell: I'm skeptical of that, Kristine, only because you're talking about hundreds of thousands of providers, and Teladoc already has those relationships in place. It already has the system in place to be turnkey and start delivering real results relatively quickly. Yes, theoretically, you might be able to build up, from scratch, a system like this. But it would just seem to make much more sense to use Teladoc, especially since Teladoc is already working with 300 of the Fortune 1,000 companies out there. It's even working with CVS. So, rather than CVS competing against it, CVS actually has a relationship with them. So I agree with you that there's a risk there to that, but it would seem to me, at this point, anyway, that the savvier, quicker-to-marker solution would be to embrace a player like Teladoc.
Harjes: Yeah, but if anybody is going to build it from scratch, it's going to be Amazon. But we won't dwell on that. That's speculation. You mentioned that you have two more areas that you think might be ripe for disruption and actually benefit from this.
Campbell: Yeah. Electronic records, Kristine, would be a second one. Data, data, data, it's all about data. If you can leverage information and create predictive algorithms that can be used to treat patients before they get sick, to prevent hospitalizations, to prevent illness, to prevent chronic disease, wow, the potential savings there could be massive. Now, we've talked in the past on the show about how a lot of these legacy electronic records systems are siloed systems that don't play nicely with one another. There have been some pretty big barriers to entry as a result toward the concept of unifying, centralizing all that information in one place that can be analyzed. I don't know what the final solution will look like, but I imagine they're looking at it and trying to figure out, can we use something like blockchain to completely disrupt the health records market, so everything is in one centralized and verified and approved location? The potential there could be significant.
Harjes: Absolutely. OK, what's the last one, No. 3?
Campbell: The last one would be wearables. Using technology to provide real-time healthcare data that can then be analyzed to track patient health, and intervention by doctors where necessary. We're already starting to see evidence of this. We talked about in the past, Apple (NASDAQ:AAPL), and some of the things Apple is doing with its Watch and with its Healthcare app. CEO Tim Cook said he was tracking his diet's impact on his blood sugar levels. Theoretically, if you can build in a blood glucose monitor into a watch, that would be great if you could team that up with an insulin pump or something like that. Then, in December, Apple came out with a heart study where they're going to use technology to be able to evaluate for abnormal rhythms in your heartbeat, and possibly be able to determine if you're at risk of a heart attack or a stroke. These kinds of things are potentially massively disruptive, because, as you can bet, chronic disease is gobbling up a significant amount of that healthcare spending that we talked about at the start of the show, and emergency treatment for heart disease, such as a heart attack or stroke, can cost up to $1 billion a day, according to the Centers for Disease Control.
Harjes: Yes. This seems like the continuation of a trend. For, example, when you look at Fitbit, one of their biggest areas for growth is potentially partnering with more and more insurance companies and large employers, particularly those that are self-insured, to provide the devices for their employees at a discounted rate or free because of the opportunity that they have to then lower healthcare costs by better chronic disease management and catching, say, anomalies in your heartbeat early. So, a lot of opportunity there for wearables, I completely agree.
Campbell: And I don't think that just because Amazon is involved that there isn't room there for Apple to also be involved. You could argue, why would I be asking Siri about my health if I have Alexa? But I think there will be enough interoperability to support all of these companies. And when it comes to wearables right now, I think Apple and some of these others, Fitbit, etc., they're the ones that could really start to move the needle more quickly than others. I don't know if you saw this news this past week, but Apple actually announced in its Healthcare app that you're going to be able to now store your patient healthcare data in it, and it's inked deals with athenahealth and Cerner, some of the largest providers of these record systems to hospitals and providers, to integrate their data onto your app. That's where this market needs to go.
Harjes: Yeah, that's huge. The integration between the tech sector and the healthcare sector, we're already seeing it in spades, and it's clearly only going to advance from here.
Campbell: And I think that, from an investment standpoint, trying to figure out how this all shakes out, just think about transparency, initiatives that would increase transparency throughout the healthcare system, improve access, allow people to shop for products. Access and cost and transparency, those are probably the three things that you want to be focusing on.
Harjes: I think that's a great note to end on. As we wrap up today's show, I wanted to give a shout out to a new scholarship that The Motley Fool is offering. It's open to everyone aged 18 and older that's attending college. All you need to do is write up an article based on a prompt, and you can win up to $10,000. Please, listeners, encourage the students in your life to check out this opportunity at fool.com/competition, where you can also find more details. Terms and conditions apply. As always, people on the program may have interests in the stocks they talk about, and The Motley Fool may have formal recommendations for or against, so don't buy or sell stocks based solely on what you hear. This show is produced by Austin Morgan. For Todd Campbell, I'm Kristine Harjes. Thanks for listening and Fool on!