Financial Crisis Hits Health-Care Companies

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However, we are now seeing a rapid decline in procedures such as laser vision correction and cosmetic surgeries, which are elective and typically not covered by insurance. There are mounting fears that the slowdown will spread to areas not typically considered discretionary.

In our opinion, there are two principal areas of concern for the medical equipment companies as we head into 2009. The first revolves around the general state of global economies, which we think will result in a slowdown in medical procedures, and, we believe, an across-the-board reduction in order backlogs and unit pricing. We are increasingly concerned about the impact of rising levels of unemployment in both the United States and Europe, and the possibility of a significant increase in the number of uninsured Americans. The second area of concern is rising rates on variable interest rate-debt, a phenomenon we think is resulting in some deferred purchasing decisions among the hospital and clinic customer base, particularly for expensive high-end equipment. This is having a meaningful impact not only on demand from the for-profit hospital chains, but also from non-profits that rely on funding through the sale of municipal debt to finance their capital expenditure budgets.

In this environment, we favor Becton, Dickinson (BDX); Stryker (SYK); Covidien (COV); and C.R. Bard (BCR).

Managed Health Care

Managed care organizations (MCOs) are also being impacted by the current economic weakness in a number of ways. The rising unemployment rate has led to membership losses among large commercial accounts, while several individual and small- and mid-sized, employer-based commercial accounts have dropped coverage entirely, due to the financial strains on the business and/or their inability to pass along the cost of increases to employees or customers. One large MCO we see poised to realize net membership gains in 2009, however, is Aetna. In addition, all of the MCOs have been realizing a rise in their medical loss-ratios (medical costs as a percentage of premiums) and have almost universally pointed to the increase in hospital unit costs and/or hospital utilization for both in-patient and out-patient care.

Pharmacy benefit managers (PBMs), including Express Scripts (ESRX) and Medco Health Solutions (MHS), and drug distributors, including AmerisourceBergen (ABC), Cardinal Health (CAH), and McKesson (MCK), have noticed a modest decline in volume growth as consumers make fewer trips to the doctor and decrease their pharmaceutical consumption to save money. However, we see them benefiting from consumers increasing their use of generic drugs, which are less costly but are more profitable for the distributors and PBMs than branded drugs.

Gold is senior portfolio group analyst for Standard & Poor's Equity Research . Englander is an analyst for Standard & Poor's Equity Research Services. Seligman is an equity analyst following managed health care and other health-care companies for Standard & Poor's Equity Research Services .