Here's how the healthcare system overhaul could cost health stocks a fortune

Bad news for Sonic Healthcare Limited (ASX:SHL) and Capitol Health Ltd (ASX:CAJ), while insurance changes could be a boon to Medibank Private Ltd (ASX:MPL) and NIB Holdings Limited (ASX:NHF).

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The Productivity Commission, one of my favourite government organisations, today released a damning report on the state of the Australian healthcare system.

'Governments and patients spend a considerable amount of money on health interventions that are irrelevant, duplicative or excessive; provide very low or no benefits; or, in some cases, cause harm.'

Ouch!

'A 2007 study by the Commonwealth Fund found that 15 per cent of Australians reported undergoing unnecessary repeat imaging'

'Runciman et al. (2012) reviewed over 1,000 Australian adults and… found that 43 per cent received inappropriate care…'

You get the picture.

(The report can be accessed for free on the Productivity Commission website)

That's bad news for a whole pile of ASX-listed companies, including Sonic Healthcare Limited (ASX: SHL) and Capitol Health Ltd (ASX: CAJ).

Sonic in particular provides extensive screening services through its pathology businesses, while Capitol Health provides cardiac and other forms of diagnostic imaging.

With unnecessary and/or excess screenings being identified as a major source of waste, it's easy to see a potential hit to earnings for Sonic and Capitol.

The commission also called for a review of the Medical Benefits Scheme (i.e. which treatments are subsidised by the government), and the Pharmaceutical Benefits Scheme (PBS).

Fortunately most companies with treatments on the PBS are foreign-listed, while Sigma Pharmaceutical Limited (ASX: SIP) produces mostly generics.

There is also room for some more positive improvements, with the commission investigating ways that better public health can be encouraged.

Two of the most surprising companies with the potential to make a serious contribution to healthcare reform are Medibank Private Ltd (ASX: MPL) and NIB Holdings Limited (ASX:NHF), two major ASX healthcare insurers.

The productivity commission review found that there is substantial scope for private health insurers to promote 'preventive health' activities.

Preventive health refers to activities now that reduce the likelihood of major health costs later. It's way cheaper to convince kids not to smoke than it is to treat lung cancer and emphysema, and the same goes for a variety of other conditions like obesity, dental decay, and skin cancer.

While a little light on details, the report indicated insurers could encourage improved health with incentives like discounted gym memberships for customers (some of them do this already).

The real question is just how much of an impact all these recommendations could have on your health stocks.

Right now the answer is none, but if changes are implemented investors could see slower growth or even a decline in imaging and similar services.

On the other hand Medibank and NIB are likely to benefit from a steady increase in the number of private health insurance customers, and as the biggest provider and most familiar name Medibank is likely to get the lion's share of these.

There's no reason to panic over the report, but it's a good reason not to get too aggressive on your healthcare stock purchasing, since many look expensive at today's prices.

As with any company, 'price is what you pay, value is what you get' – there's no point paying a stiff price if you're facing leaner growth prospects.

However despite the potential for affected earnings, many healthcare companies continue to enjoy a good list of 'Buffett indicators' – strong demand, recurring earnings, long-term tailwinds, an economic moat, and the ability to (sort-of) set prices,  which means they remain good vehicles for growing your wealth.

Find out more about precisely what multi-billionare Warren Buffett looks for in a stock with The Motley Fool's free report, How to Invest Like Buffett.

Simply click on the link below and enter your email address – it takes less than 30 seconds – to get the full inside scoop on the 'Oracle of Omaha', completely FREE!

Motley Fool contributor Sean O'Neill has no position in any stocks mentioned. The Motley Fool Australia has no position in any of the stocks mentioned. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. This article contains general investment advice only (under AFSL 400691). Authorised by Bruce Jackson.

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