EHTH: Déjà vu

Takeaway: We've been here before. EHTH is ripping on another headline without considering implications. Street setting EHTH up more disappointment

SUMMARY

  1. EHTH stock is ripping on rumors of another delay for ACA plan compliance; implication is that there will be less attrition risk next year.

  2. MCOs may cancel plans on their own and/or push back on commission rates next year in order to recoup profitability on 2014 plans.

  3. Either way, EHTH will not see the upside that the street is baking into its stock today.  

NEWS

The White House is rumored to be extending the waiver on plans that are not compliant with the Affordable Care Act (ACA) in order to avoid cancellation letters being sent ahead of mid-term elections.  EHTH is up 11% intraday on the news 

IMPLICATIONS

The most obvious takeaway is that the waiver will mitigate EHTH's attrition risk next year.  We're not arguing that point; we're debating by how much.

 

Two important considerations on the extended waiver:

  1. It's subject to state approval
  2. MCOs make the final decision.

We can't say what states will do next year.  The bigger risk is the MCOs themselves; some of which have already cancelled existing plans regardless of the state's decision for 2014.  Below we explain the rationale for doing so, and why this will only get worse next year.   

CANCELLATION RISK REMAINS ELEVATED

Carrying both existing and ACA-compliant plans creates an actuarial mismatch for an MCO. Plan prices for ACA-compliant plans are considerably higher in order to offset the series of new costs facing MCOs in 2014 (e.g. Essential Health Benefits/Out-of-pocket limits).  


It's important to note that ACA limits MCOs from charging older (costlier) individual any more than 3x the rate of younger cohorts, which means they could only increase rates so much on the older cohorts, and explains the barbell-shaped rate increases that we have seen for 2014 plans

EHTH: Déjà vu - EHTH   Rate Increases 2

The main issue is that MCO profitability comes from the younger cohorts, and they're not signing up.  From what we've seen to date in terms of gov't exchange (HIX) enrollment, the population signing up for coverage is considerably older than what the industry is currently accustomed (aka Adverse Selection).  In turn, MCOs are seeing a higher proportion of costlier members, and 2014 plans will be less profitable than what the industry is accustomed to (if at all).

EHTH: Déjà vu - EHTH   IFP vs. HHS demo

 In order for MCOs to recoup profitability in 2015, they will have to do one of three things

  1. Raise prices on ACA-compliant plans, or exit markets if unable to do so.
  2. Cancel non-compliant plans to raise collective premiums
  3. See below

IF NOT, COMMISSIONS GET HIT

EHTH has suggested that its 2014 commission rates will be flat to slightly up in 2014.  We would have expected greater pressure on 2014 commission rates given the headwinds facing MCOs, but we believe the reason why commissions have remained stable is because the gov't exchanges (HIX) were having technical difficulties during the 2014 selling season.

That changes next year; the gov't HIX are far more functional now, and should only improve from here.  That makes MCOs less reliant on the private HIX (e.g. EHTH) to distribute their plans, and more likely to push back harder on commission rates.  

It's also worth noting that in order for EHTH to sell subsidized plans, its must offer all subsidy-eligible plans available on the public HIXs, regardless of whether is has a commission agreement with those MCOs.  In a worst case scenario, an MCO could pull its commission agreement with EHTH and still gain new members since EHTH has to offer its plans regardless.  

In short, if the MCOs are experiencing headwinds to profitability, it will be that much easier to push back on commission rates in 2015.

FINAL THOUGHT

EHTH is essentially a distributor without a captive consumer.  It operates in a crowded industry with a growing competitive threat from the public HIXs.  If MCOs are feeling the pressure in 2014, they're going to push back in 2015; and there's not much EHTH can do about it.  

Hesham Shaaban, CFA

@HedgeyeInternet