CREDIT SUISSE: Australian private health industry profits are in decline

Christopher Furlong/ Getty Images.

Earnings in the private health sector are unsustainable, according to analysts from Credit Suisse, so the bank has downgraded its ratings for Medibank Private and NIB Holdings.

The downgrade is based on the Australian Prudential Regulation Authority’s (APRA) March quarter statistics for the private health sector.

They show that net margins earned on premiums paid continue to face downward pressure, falling 76 basis points over the year from 5.57% to 4.81%:

Australian Prudential Regulation Authority

Although HIB premium revenue grew by 5% annually, the Credit Suisse analysts said that was below the historical average of 7-9% growth.

In addition, net margins were being pressured by lower gross profit margins combined with higher expenses.

The analysts said that as policy-holder growth slows, it’s creating extra costs as competing insurers spend more to attract new clients.

“The number of net new policies in the 12 months to March 2017 was 78k which is down 35% from a year ago, however up 9% on the December 2016 quarter,” they said.

More worryingly for the industry, the nature of growth is skewed towards older customers.

“As we have highlighted in previous APRA statistics, there’s two-tiered growth between those who benefit the most from a community rated private health insurance system and those who benefit the least,” the analysts said.

Community rating requires health insurers to offer the same price for health insurance to a given consumer base, regardless of past medical history.

This chart shows the annual growth in private health policies by age group:

Source: Credit Suisse

The decline in new customers among younger age groups “highlights the affordability and value proposition that the health industry is facing, particularly with younger customers”.

Credit Suisse highlighted this trend as a major headwind for the industry.

“If this trend continues, it creates a very negative operating environment for the health insurance industry. Under the community rating system, generally premiums from younger insured persons subsidise the rising health care costs of the older generations.”

“However, with 70+ year olds accounting for most of the growth in insured persons over the past 12 months, this could put pressure on growth in benefits which would require larger premium increases and further discourage younger users from taking up private health insurance,” the analysts said.

The bank noted that despite increasing claims payouts and higher operating expenses, NIB Holding’s share price “is up by over 25% in recent months which has not been justified in our view”. They issued a downgrade on the stock with a price target of $5.50.

While Medibank Private’s growth has not been as pronounced in that time, it too received a rating downgrade with a price target of $2.80.

The analysis wiped millions off the value of the two companies today, with NIB falling 8.7% to $5.54 and Medibank Private losing 3.7% to $2.81 today.

NOW WATCH: Money & Markets videos

Business Insider Emails & Alerts

Site highlights each day to your inbox.

Follow Business Insider Australia on Facebook, Twitter, LinkedIn, and Instagram.