A dive into Clover Health (CLOV) and their business model. It may be an undervalued giant in the making. To understand Clover Health’s business model we first need to understand what Medicare Advantage is, because that’s Clover’s primary business model (though they also have expanded into Direct Contracting Medicare which is somewhat similar).
Medicare Advantage was created by the government to try and fix a lot of the broken incentives in our healthcare system that have lead to rampant inflation in the cost of healthcare in the US.
Have you ever wondered why healthcare costs per person have more than doubled in the last decade? Healthcare costs have been growing for a long time and have worsened wealth inequality due to growing 5X since 1980, but this inflation has accelerated the last decade so we’re going to focus on the primary cause of this for simplicity.
Right now, literally everyone in the existing healthcare system has had financial incentives to continue driving up costs, from consumers to hospitals to physicians to drug companies to insurance companies. Focusing on insurance though, the crazy thing is that insurance companies only make more money if healthcare costs more money.
Wait a minute you say, “That makes no sense! Why would insurance companies make more money if they’re paying out more money?” That might have been the case in the past but over most of the last decade insurance companies have been restricted by the 80/20 rule, a frankly economically stupid regulation that was ironically pitched as a way to bring costs down in health insurance. You’ll often see this referred to as a “Medical Loss Ratio” especially when talking about earnings for insurance companies. But basically the law was changed so that insurance companies could only keep 20% of whatever money they charged for an insurance policy and had to pay out at least 80%.
So what did health insurance companies do? With this new law it meant that every insurance company was now aligned with higher payouts to hospitals, physicians and pharmacies and stopped trying all that hard lower healthcare costs because the higher their payouts were the more money they could charge on their insurance policies the next year. That’s become the primary way for health insurers to grow their profits and revenues. Letting healthcare costs grow out of control is a big part of why United Healthcare stock has rocketed up in a straight line up for the last decade-up more than 1300% since Obamacare passed in 2010.
Clover Health is a “pure” play where focusing on improving healthcare by preventing health problems before they become catastrophic will always improve Clover’s profitability. Clover only covers patients with either Medicare Advantage, or Medicare Direct Contracting (to avoid this being 80 pages long, this is a type of hybrid of traditional Medicare with incentives for quality and cost reduction). This means that they can aggressively focus on improving healthcare quality, preventing patients from needing to be hospitalized, preventing patients from having those heart attacks, strokes, cancer. If other insurance companies aggressively improved the health of their patients they would actually make less money over time because the majority of their profits come from patients on plans where they only make more money if you’re less healthy and requiring more and more expensive healthcare.
If United Healthcare or Anthem successfully got their patients to be healthier they’d actually make less and less money due to the 80/20 rule! So they literally cannot be aggressive in pursuing a focus on preventing those terrible healthcare problems because they’ll actually annihilate their own profits if they succeed. Any company that’s attempting to do both traditional health insurance and also Medicare Advantage will be fighting with itself, either they do really well with Medicare Advantage or they do really well with their traditional insurance business.
They can’t actually succeed in both because the path to profitability for each are completely different. With Clover, if they succeed it’s literally a win for everyone. It’s a win for shareholders with larger profits, it’s a win for patients because they have better health, it’s a win for physicians because their patients are healthier which actually means less of a workload and physicians actually getting paid to keep people healthy, it’s a win for the entire United States because we can maybe stop setting all our money on fire and maybe do something other than spend a quarter of a our salaries on healthcare while having our healthcare system ranked last place against similar nations.