In an effort to reduce the rising cost of drugs for seniors, Congress passed the Medicare Prescription Drug, Improvement, and Modernization Act (MMA) in 2003. The drug benefit plan, known as Part D, is the biggest expansion of Medicare since the program was created in 1965.

Today we offer the first installment in a three part series in which we'll take a closer look at the implications of the historic change in Medicare for the managed care, PBMs and drug retailers.

The official launch of the Medicare Part D drug prescription plan took place on January 1st, effectively changing the way seniors pay for prescription drugs. For the first time, Medicare would help pay for medications seniors depend on. What they weren't counting on was the total confusion the program would cause.  

The convoluted and overly complicated structure resulted in much confusion for seniors causing long lines and difficulties for some in getting prescriptions due to system glitches. It's still too early to assess the plan's process accurately, but there have been some initial figures released by the government.

December figures showed 21 mln enrollees, but this figure is not comparable with the Street's forecasts as it includes enrollment in other plans other than Part D, including employer-sponsored and federal employee plans. The 21 mln includes stand-alone Part D applications of 7.2 mln.

Still, according to CSFB, numbers from UnitedHealth, PacifiCare, and Humana, indicate there are many applications still in the midst of being processed. Taking these into account, CSFB estimates the figure is more in the range of 9-10 mln stand-alone Part D applications and 4.7 mln MD-PD - in line with its industry estimates.

The anticipation of the launch has propelled many stocks, and/or entire industries, within the Health Care sector. The best performing groups include the managed care providers, pharmacy benefit managers (PBMs), and less so, the drug retailers on expectations of accelerating enrollment trends. 

By far, the managed care providers, which includes Aetna (AET), Cigna (CI), Coventry Health (CVH), Humana Inc. (HUM), UnitedHealth Group (UNH), and WellPoint (WLP), have been the biggest benefactors of the new plan even as the spread between premiums and cost trends narrows. The S&P 500 Managed Care Index has returned over 119% since January 2004, including a 35% gain over the last 52 weeks, compared to 15% and 6.4% returns, respectively, for the broader market.

Understanding Part D (Well...We Tried)

For those not familiar with the plan here is a bit of background. Part D is part of the Medicare Prescription Drug, Improvement, and Modernization Act (MMA) passed in Congress in 2003. The drug benefit will not be part of the traditional Medicare program, but is offered instead through private insurance plans, which in turn are reimbursed through the Centers for Medicare & Medicaid Services (CMS).

What makes the plan different is its commercialized health system approach. Parts A and B of Medicare, which cover hospital services and doctor visits, are directly covered by the government providing payment to the providers. Under the Part D program, the government pays 260 private insurers, including the HMOs, pharmacies, and pharmacy benefit managers. So it's clear to see the connection between stock performance and expectations of ramping enrollees.

The Specifics...

The Medicare beneficiaries must actively enroll in the plan as coverage is voluntary, choosing between two programs. These include the Medicare Prescription Drug Plan (PDP), which only covers drugs and beneficiaries retain their original Medicare coverage...  OR...  they can join Medicare Advantage Program (MA), or other Medicare Health Plan that covers hospital visits, doctors, and drugs all in one.  There will be 34 PDP regions and 26 MA regions in the US.  The plans will then control the cost of drugs through a system of formularies (a list of covered drugs for which they will make payment) in which lower cost drugs are assigned to lower ties, and thus, are easier to prescribe. It's expected that eleven million people will be covered by the Medicare Part D program. Of that, 6mln people are eligible for Medicare Part D and Medicaid.  These people are called "dual eligible."

For a monthly premium, seniors can apply for two levels of coverage: standard and catastrophic. After a $250 deductible, Medicare pays 75% of the cost of covered drugs until costs run up to $2,250. When yearly out of pocket expenses reach $3,600 Medicare steps in and pays up to 95% of drug charges for the rest of the year. The variance between the two coverage levels is known as the "doughnut hole" during which seniors must pay the full cost of medicines. At the $3,600 level, the beneficiaries pay $2 for generics, or preferred drugs, and $5 for others, or 5% for coinsurance - whichever is larger. The limit for total costs is $5,100. These levels are calculated on a yearly basis from Jan-Dec. For low income individuals there are smaller deductibles, or premiums lower than $32 according to the CMS.

What makes this system so confusing is the fact that there are multiple entities going after multiple goals leading to a lack of standardization. The formularies are different between plans, meaning a tier 2 drug may be a tier 3 drug on another plan (higher costs, higher tier).  Seniors have to wade through a vast array of plans, co-pays, coinsurance, and deductibles to find the one that gives them the best reduced out-of-pocket costs. Not to mention, the best way to find support/answers is to get online and the Internet isn't easy to navigate, or even accessible, for all seniors.

The Managed Care Providers

Plan D will have the biggest impact on the managed care industry, as more money will flow into the sector and the payment structure changes. Additionally, converting seniors into Medicare Advantage plans (Part C) will provide additional growth opportunities.

Initial indications have been positive. WellPoint posted fourth quarter results (Jan 25) a penny above consensus at $1.05 per share, and additionally, raised FY06 guidance by three cents. The company reported strong Part D enrollments, stronger than national account growth, while slightly lowering cost expectation trends. WLP currently has 1.2 mln Part D members (including 600k+ duals), mostly likely higher than most on the Street expected after initial applications reported on Dec. 6th were only 32k. CSFB estimates that many seniors appear to be defaulting to the Blue Cross brand, which heightens expectations WLP should be able to reach its full year target of 1.5-2.0 mln members.

Shares in UnitedHealth Group sold off on weak headline numbers and organic membership growth. As of January 17th, UNH had 4.3 mln Part D members, including PacifiCare and MA-PA, up from 3.7 mln on December 21st - a 16% increase. The company forecasts enrollment to come in at the high end of its forecasts of 5.5-6.0 mln total Part D members, including at least 4.3 mln stand-alones.

On Friday Credit Suisse First Boston downgraded Humana (HUM) to Underperform from Neutral. The analyst cited concerns that patients may be losing their patience following the initial system glitches, causing a possible drop off  in January enrollment levels from December. Considering Humana's lack of brand name appeal, it may be losing out as disgruntled enrollees hesitate in choosing the more "upscale" plans (MA or Private Fee for Service). The firm slashed two cents off its FY06 EPS estimates due to a 90k cut in enrollees.  

Pharmacy Benefit Managers

For the PBMs, like Express Scrips (ESRX), Medco Health (MHS) and Caremark (CMX), the bill prohibits the government from negotiating with the drug companies, therefore the PBMs will have direct connection with drug companies that will drive volumes higher. The PBMs have dramatically altered the way they do business by becoming drug suppliers, offering mail order pharmacy services for patients and effectively bypassing local pharmacies. The drug retailers, including CVS (CVS) and Walgreen (WAG), are fighting back, acquiring their own PBM businesses. PBMs have continued to expand their product catalog by purchasing specialty pharmacies and will continue to supply more and more drugs directly to consumers.

Drug Retailers

Both Wal-Mart (WMT) and its Sam's Club pharmacies have equipment to fill prescriptions for customers enrolled in the drug plan, including dual eligibles. Each of its pharmacies have a dedicated technician to answer Part D questions. Walgreen should be a main benefactor of higher enrollments due to its PBM relationship with UnitedHealth Group.

While there are certainly going to be some companies that benefit more than others for whatever reason, we do agree that the Part D plan offers considerable profit opportunities.

Have a great weekend!

--Kimberly DuBord, Briefing.com