Medicare Risks Will Compress Margins Yet Resilience Will Prevail

Key Takeaways

• Shifts in Medicare policy, commission structures, and regulatory scrutiny are creating margin pressures and heightening risks to profitability and revenue growth.
  
• Intensifying competition and slower SelectRx membership growth threaten SelectQuote's broker relevance and may hinder long-term scalability and earnings.
  
• Regulatory investigations, shifting commission structures, and industry headwinds are pressuring profitability, revenue stability, and margins, while operational changes may slow growth.

Catalysts

Operates a technology-enabled, direct-to-consumer distribution platform that sells insurance policies and healthcare services in the United States.

• While SelectQuote benefits from the long-term demographic tailwind of an aging U.S. population and regulatory support for Medicare markets-factors that should support growth in its core Senior and Healthcare Services segments-new eligibility changes during the special election period are expected to create friction for policy volumes and close rates, likely resulting in slower near-term revenue growth and potentially softer longer-term earnings.
  
• Despite ongoing digitalization of insurance distribution and SelectQuote's investment in technology-driven operating capabilities, increasing competition from both traditional carriers moving direct-to-consumer and tech-enabled insurtech platforms threatens to erode the company's relevance as a broker over time, which could compress margins and reduce revenue growth.
  
• Although the SelectRx business achieved impressive scale with over 100,000 members and aims for improved margin consistency via facility investments and member mix optimization, ongoing upfront investment and a slower pace of new membership growth may create near-term margin pressure and drag on consolidated EBITDA.
  
• While rising healthcare costs have historically driven consumer demand for supplemental and Medicare insurance-structurally boosting SelectQuote's addressable market-the recent changes in commission structures (shifting from upfront to ratable payments) are leading to a noticeable decline in lifetime value per policy, potentially impacting future cash flow visibility and net income stability.
  
• Even as SelectQuote's strategic focus on operational efficiency has resulted in improvement in its revenue-to-customer acquisition cost ratio and segment margins, the company remains exposed to persistent industry risks: continued increases in regulatory scrutiny around data privacy and sales practices, and Department of Justice investigations may elevate compliance costs or result in costly settlements, pressuring net margins and limiting longer-term profitability.

SelectQuote Future Earnings and Revenue Growth

Assumptions

• This narrative explores a more pessimistic perspective on SelectQuote compared to the consensus, based on a Fair Value that aligns with the bearish cohort of analysts.
• The bearish analysts are assuming SelectQuote's revenue will grow by 12.5% annually over the next 3 years.
• The bearish analysts assume that profit margins will increase from -0.1% today to 1.4% in 3 years time.
• The bearish analysts expect earnings to reach $28.7 million (and earnings per share of $-0.05) by about August 2028, up from $-2.1 million today. The analysts are largely in agreement about this estimate.
• In order for the above numbers to justify the price target of the more bearish analyst cohort, the company would need to trade at a PE ratio of 21.3x on those 2028 earnings, up from -160.2x today. This future PE is greater than the current PE for the US Insurance industry at 14.4x.
• Analysts expect the number of shares outstanding to grow by 0.75% per year for the next 3 years.
• To value all of this in today's terms, we will use a discount rate of 8.16%, as per the Simply Wall St company report.

SelectQuote Future Earnings Per Share Growth

Risks

• The ongoing Department of Justice investigation into SelectQuote and other participants in the Medicare Advantage system presents a significant regulatory risk that could result in increased compliance costs, reputational harm, or even legal penalties, all of which may pressure profit margins and reduce net income.
  
• Changes to carrier commission structures, particularly the shift from upfront to ratable payments on Medicare Advantage policies, have already led to a decline in lifetime value per policy, and if this trend continues, it will create a persistent headwind to revenues and cash flow from core insurance distribution.
  
• SelectQuote's rapid expansion in Healthcare Services and ongoing investments in new facilities, such as the Kansas distribution center, are resulting in near-term profitability drags and, with the stated plan to slow membership growth in favor of margin improvements, could generate slower top-line growth and compressed EBITDA in the intermediate term.
  
• Persistent industry headwinds, such as policy volume declines due to a 26% smaller agent force and regulatory changes (including new beneficiary eligibility requirements), threaten to lower policy sales and close rates, impacting revenue generation and operating leverage in key business segments.
  
• Heavy reliance on partnerships with a concentrated set of insurance carriers exposes SelectQuote to potential adverse changes in commission rates or carrier exits, which would threaten both the stability of revenues and the company's ability to sustain healthy gross margins over the long term.

Valuation

• The assumed bearish price target for SelectQuote is $2.75, which represents the lowest price target estimate amongst analysts. This valuation is based on what can be assumed as the expectations of SelectQuote's future earnings growth, profit margins and other risk factors from analysts on the more bearish end of the spectrum.
• However, there is a degree of disagreement amongst analysts, with the most bullish reporting a price target of $7.0, and the most bearish reporting a price target of just $2.75.
• In order for you to agree with the bearish analysts, you'd need to believe that by 2028, revenues will be $2.1 billion, earnings will come to $28.7 million, and it would be trading on a PE ratio of 21.3x, assuming you use a discount rate of 8.2%.
• Given the current share price of $1.94, the bearish analyst price target of $2.75 is 29.5% higher.
• We always encourage you to reach your own conclusions though. So sense check these analyst numbers against your own assumptions and expectations based on your understanding of the business and what you believe is probable.