Health Care Sector Presentation

1. Health CareSector Presentation Joseph farfsing David GaRMAN Ash yijungu Scot helton Timothy keith

2. Overview • Size and Composition • Business Analysis • Economic Analysis • Financial Analysis • Valuation Analysis • Recommendation

3. Size and Composition

4. Portfolio Composition Health Care is the most overweight sector in the SIM portfolio when compared to the S&P500.

5. Sector Performance So far this year, Health Care has not performed well when compared to other sectors.

6. Global Industry Classification Standard(GICS 35) – Health Care Industries

7. Companies within the Health Care Sector

8. Business Analysis A look at the component industries

9. Component Industries: Equipment* -Diversity among levels of maturity - Portfolio and Sector weighted toward the more mature Biotechnology Distributors* Life Science Tools Pharmaceuticals* Looking at P/E: Biotechnology……… 14.4 Life Science Tools… 13.4 Equipment………….. 12.9 Distributors…………. 10.0 Pharmaceuticals…… 9.4 Managed H.C……….. 7.0 Supplies………………. 3.3 Ratios from Thompson Baseline Managed Health Care* Supplies * Industry represented in SIM portfolio

10. Porter’s Forces Threat of Substitutes: Relatively low in mature industries. Most competition comes from within the same industry. Threat may be more moderate in emerging or growth industries (Biotech). Power of Suppliers: Moderate to high for industries on forward part of value chain (services). Low for industries not dependent on large medical suppliers (i.e., the suppliers themselves, pharmaceuticals). Component Industries: Business Analysis

11. Porter’s Forces Power of Buyers: Moderate to high for all industries. Economic drivers aside, the possibility of nationalized healthcare would give much power to a single buyer: the U.S. Government. Rivalry: Generally moderate. Entry barriers retrain industry concentration. Late movers can piggy-back off early movers, though (generic drugs, U.S. patent laws). Mature industries see the most competition (pharmaceuticals, suppliers, etc) Component Industries: Business Analysis

12. Porter’s Forces Barriers to Entry: High • Very strict and long process for FDA approval • High R&D costs ; cannot be capitalized • High capital requirements to meet expenses • Strict regulation; Food and Drug Admin. • Large firms already established in markets • Political risk (Nationalization) Component Industries: Business Analysis Industries’ Opportunities Ability for established firms to carve out niches under barrier protection => Growth opportunity Threats Risk of increased buyer power. Difficult to evaluate current political risk. Sector very sensitive to government policy.

13. Business Drivers: Demographics -Baby boomers progressing in age -50+ age group expected to increase substancially

14. Economic Analysis Recession and regulations

15. Unemployment and health care coverage Recessions historically have little impact on the number of people insured. While the demand for coverage is relatively inelastic the current recession is causing a large number of in-group changes. Consumers and businesses switch coverage to less expensive policies leading to losses for all healthcare industries.

16. Households spend less in slow economy While demand stays relatively inelastic for health insurance patients opt out of medical services that require payment contribution This can lead to lower MCR’s for Managed Care companies. Adversely affects all other industries within healthcare

17. Consumer Confidence Medical care spending is being driven by consumer confidence, especially on expected conditions. With 5 years of data the correlation is r=.77. For 2 years of data it rises to r=.83.

18. Sector performance As consumers spend more on health care the sector rises. Another rather high correlation with r=.58.

19. Unemployment Vs. Sector With five years of data we see a negative correlation with the unemployment rate where r=-.81 Investors worried about declining membership in health care plans.

20. Medical Costs The costs for drugs and Medical supplies growing faster than the overall price index

21. Medical Costs Prescription drug costs rising steadily through all economic conditions Consumers defer treatment or substitute with generic drugs

22. Health Insurance Costs Health care coverage is on the rise while insurance companies attempt to protect their profit margins Government regulations such as lowering premiums and deductibles paid by individuals will deteriorate profit margins in the industry

23. Healthcare Reform: cost controls IT could save up to $77 billion a year Preventive care can lead to adverse selection and impose pay for performance standards that deteriorate profits Administration plans to increase competition by limiting how much premium revenue can be spent on profits and administration expenses. Also, want to enhance the generic drug market by blocking patents and allowing foreign competition in the U.S.

24. Financial Analysis

25. Net Profit Margin Health care sector greater than S&P 500 Biotechnology and pharmaceuticals has the highest profit margin

26. EBITDA Margin S&P 500 greater than health care sector Biotechnology and pharmaceuticals have the highest EBITDA margin

27. Return on Equity Health care sector greater than S&P 500 Pharmaceuticals has highest ROE Biotechnology's ROE grows fast

28. Cash flow per share Health care in the range of 22 to 35 Biotechnology has the largest CF per share

29. Price relative to S&P 500 1. HCX 2. Biotech 3. Pharmaceuticals

30. Price relative to S&P 500 1. HCDIS 2. HCEQP 3. LFSCT

31. Valuation Analysis

32. Valuation Multiples Forward P/E Current: 11.0 Median (5yr): 17.3 Median (10yr): 18.2 P/B Current: 2.6 Median (5yr): 3.9 Median (10yr): 4.3

33. Valuation Multiples • P/S • Current: 1.1 • Median (5yr):1.8 • Median (10yr): 2.2 • P/CF • Current: 8.4 • Median (5yr):13.6 • Median (10yr): 14.7

34. Health Care Relative to S&P 500 Forward P/E Current: .70 Median (5yr): 1.1 Median (10yr): 1.1 P/B Current: 1.3 Median (5yr): 1.3 Median (10yr): 1.5

35. Health Care Relative to S&P 500 P/S Current: 1.3 Median (5yr): 1.2 Median (10yr): 1.4 P/CF Current: 1.1 Median (5yr): 1.3 Median (10yr): 1.4

36. Industry Performance Relative to Sector Forward P/E Pharma: 0.9 Equipment: 1.2 Biotech: 1.2

37. Industry Performance Relative to Sector P/B Pharma: 1.1 Equipment: 1.0 Biotech: 1.3

38. Industry Performance Relative to Sector P/S Pharma: 2.0 Equipment: 2.0 Biotech: 4.1

39. Industry Performance Relative to Sector P/CF Pharma: .9 Equipment: 1.2 Biotech: 1.4

40. Industry Variation Forward P/E High: HC Services Low: HC Supplies Price/Book High: HC Facilities Low: HC Managed Care Price/Sales High: Biotech Low: HC Distr./Fac. Price/Cash Flow High: HC Serv./Supplies Low: HC Facilities

41. Trends Health Care Sector Price Momentum Better Than 71% of the Stocks on the S&P 500. Earnings Momentum Better Than 58% of the Stocks on the S&P 500.

42. Recommendation

43. Currently we are overweight by 390 basis points • We recommend that this overweightedness be cut in half to 195 bps over the S&P500 • Reason? SIM Portfolio Weight Recommendation