The healthcare industry has faced a series of challenges in recent years, with 2022 being a tough year for provider organizations while payers initially remained sheltered. However, conditions have worsened for payers in 2023 and continue into this year, with limited relief on the horizon. In contrast, the pharmacy services sector has shown more nuanced trends, with some organizations benefiting from pharmaceutical innovation and new delivery models while others struggle with increased regulatory scrutiny.

Unraveling the Complexities of the Healthcare Industry

Healthcare Industry Challenges and Trends

The healthcare industry has been buffeted by a growing number of challenges over the past few years. Supply cost inflation and workforce shortages have weighed on provider performance, with aggregate annual EBITDA growth from 2019 to 2024 estimated to be around 2 percent, well below the 6 percent growth in national health expenditures. Many providers have taken steps to boost their operating performance, and some have been helped by CARES Act funding and Medicaid expansion. Provider performance has already recovered in some states, and we anticipate that it could recover by the end of this year. Through 2028, mid-single-digit EBITDA growth for providers is expected, in line with overall NHE increases.Despite evidence that cost increases are abating, a focus on performance improvement remains critical. Median unrestricted days' cash on hand for large not-for-profit health systems declined in 2023 compared to 2019. Many provider organizations have relied on investment income to offset operating losses, but this may not be sustainable if returns fall. Organizations not targeting productivity improvements in core operating functions each year are likely falling behind.Leading provider organizations must pursue next-generation transformation enabled by emerging technologies like generative AI to support performance improvement across various applications. By one estimate, AI adoption within the next five years could result in net savings of 5 to 10 percent of healthcare spending. Providers need to discern their existing technology capabilities and data governance requirements to determine which use cases are best positioned to take advantage of gen AI.Digital tools should build on established solutions to enhance operations and improve patient and physician experiences. For example, new technologies like AI can predict patient volume and create more flexible schedules. It can also ease the administrative burden, with estimated annual net savings of $24 billion to $48 billion for hospitals and $10 billion to $30 billion for physician groups in the next five years.As operating performance stabilizes, providers can explore new strategies in high-growth areas. Ambulatory surgery centers and home health are two such areas with projected 7 percent annual revenue growth through 2028. Care delivery is expected to structurally change as economic pressure and patient preferences shift. These shifts could lead to a reduction of $114 billion to $148 billion in overall healthcare spending annually.

Payers' Struggles and Opportunities

For payers, challenges intensified in 2023 and continued in 2024. Many payers have focused on margin recovery and overcoming challenges based on earnings calls. Some plans have been performing below breakeven profitability, and headwinds include accelerating utilization, inflationary pressure, end of pandemic health emergency measures, changes in risk adjustment regulation, and a tightening of government reimbursement.In government lines of business, MA plans face revenue and cost challenges from new guidelines and changes to the Star Rating methodology. Utilization rates remain high, and these factors could create revenue and cost pressures. In Managed Medicaid, enrollment declined after eligibility redetermination, but there are growth opportunities in states transitioning to managed care and potential Medicaid expansion.In the commercial market, payers are expected to increase premiums, but employers are unlikely to absorb all costs. Small and medium-size businesses are seeking more budget-friendly alternatives, and the self-insured sector is expected to grow. As a result, employers may reduce plan options and shift to defined-contribution plans. Payers can offer nontraditional plan types like individual coverage health reimbursement arrangements (ICHRAs), which are already experiencing double-digit growth.

Pharmacy Sector Dynamics

While some pharmacy service organizations have faced obstacles, others have benefited from favorable conditions. Retail pharmacies face margin compression due to inflation, labor shortages, and rising real estate costs. Pharmacy benefit managers have faced calls for greater transparency, and the high cost of broad-population drugs like GLP-1s is creating tension.However, the biosimilars pipeline is robust, and launches have gained more market traction. Innovative models like direct-to-consumer delivery and integrated medical and pharmacy care delivery are starting to gain traction. Specialty pharmacies are on the rise, with an 8 percent CAGR in specialty drug spending expected between 2023 and 2028. Within specialty drugs, approvals of cell and gene therapies are expanding, and while the cost remains high, spending per patient could decrease as indications expand.The value chain for pharmacy services may evolve, with many organizations investing in more integrated care delivery models. A recent study found that medically complex Medicare Advantage members in a pharmacy care management program had lower cost of care per member per month.

Healthcare Services and Technology Sector Growth

Unlike other healthcare sectors, healthcare services and technology has grown steadily to meet the rising demand for new data, analytics, and software. Revenue and EBITDA in the sector have experienced a CAGR of about 9 percent since 2019, and similar growth rates are expected through 2028.The HST landscape is highly fragmented, with the top ten companies accounting for approximately a quarter of the sector's revenue and the next 100 companies contributing an additional 15 to 18 percent. Limited interoperability between data sources and systems, regulatory complexity, and a diverse customer base contribute to this fragmentation.Many value creation opportunities accompany the growing demand for more advanced technologies. Technology advances may help vendors lower customer acquisition costs and build deep vertical expertise. There is also a need for technology integration to create a more seamless user experience and address cybersecurity risks.The challenges in the healthcare industry are far from over, but they also offer an opportunity to reimagine the future of care and create sustainable improvement for healthcare organizations, patients, and communities.