From a financial perspective, a Cigna-Humana megamerger makes a lot of sense.
Cigna has a huge pharmacy benefit management business, but has been largely missing out on the highly lucrative Medicare Advantage industry.
Humana has the second largest Medicare Advantage business after UnitedHealth Group.
Combining the two businesses would create a healthcare powerhouse that could go toe-to-toe with that industry behemoth.
A stock-and-cash deal, with the larger Cigna presumably acquiring the smaller Humana, would likely be dilutive for Cigna’s shareholders, which could explain why its stock dropped sharply on Wednesday when The Wall Street Journal reported that the two companies were in merger discussions. (Humana’s shares also fell.) But in the long-term, it also could solve Cigna’s low multiple problem. The company trades at less than 10 times forward earnings partly because of worries over its PBM business. Diversifying into the high-growth Medicare business would give investors a better outlook.
Investors also are nervous about potential antitrust scrutiny of this deal, no matter what divestitures take place to placate regulators. If the companies go ahead, it will almost certainly be challenged by the Justice Department.
The reason it is hard to fathom such a deal sailing through without opposition from the Biden administration is that both insurers have sizable PBM businesses, a toxic three-letter acronym in Washington these days. Cigna is number two in the business in terms of prescriptions managed while Humana is number four, according to Drug Channels. Combining two large PBMs might raise concern that the middlemen would become even more concentrated.
To be fair, though, the companies’ PBM divisions handle different customers, with Cigna focusing on commercial clients and Humana on Medicare. But “the issue will be market concentration and impacts on pharmacies and other suppliers, as opposed to limiting choice to employers who wouldn’t typically use Humana for PBM services,” wrote Lance Wilkes, an analyst at Sanford Bernstein.
Although Congress remains divided on nearly everything, tackling the role PBMs play in America’s misaligned healthcare industry has become a bipartisan effort these days. A number of bipartisan bills are working their way through the legislative process, the Federal Trade Commission has launched an investigation of PBM practices and several state governments have begun probes.
Regulatory scrutiny over such deals also has plenty of precedent. Cigna and Humana previously held talks in 2015, but Humana instead struck a deal with Aetna. That wound up being blocked by a judge, leaving Aetna to be scooped up by CVS in 2018. Another deal that would have combined Cigna with Anthem, now known as Elevance Health, also died after an adverse antitrust ruling.
But a Cigna-Humana deal makes so much strategic sense that it might be worth taking a chance. “Put the deal on the tape, endure the regulatory overhang in hopes you can consummate a transformative transaction,” wrote Gary Taylor, an analyst at TD Cowen. He expects a regulatory challenge to create an “18-24 month overhang.”
Besides the PBM businesses, the two companies have little overlap. Cigna has a relatively small Medicare Advantage business and it is trying to pre-empt regulatory concern by exploring a sale of the unit, which the Journal estimates could be worth several billion dollars. That could be enough for the deal to prevail in court.
“If Cigna is able to divest their Medicare Advantage business and figure something out with Humana’s relatively small PBM, I think it’s hard to make an argument that this deal is anticompetitive,” said analyst Chris Meekins of Raymond James.
A Cigna-Humana merger will be a headache for everyone involved and great business for the lawyers on both sides. But at the end of the day, it is too compelling for either side not to try.