1. The health of healthcare June 2011 Jerry Brimeyer Wealth Management Research Senior Equity Research Analyst This report has been prepared by UBS Financial Services, Inc. Analyst certification and required disclosures begin on page 28.

2. 1 The health of healthcare The 2010 Healthcare Diagnosis  US Healthcare reform  Uncertain regulatory changes  European austerity measures  Lower healthcare utilization  Pricing/reimbursement pressures  Sparse new product innovation Diagnosis: Poor health!

3. 2 The health of healthcare 2010 S&P 500 Sector Performance Source: Bloomberg

4. 3 The health of healthcare 2010 US Healthcare Subsector Performance Source: Factset

5. 4 The health of healthcare The 2011 Healthcare Prognosis  Better healthcare utilization?  Stable pricing/reimbursement?  Clarification of reform regulations?  Stabilization in Europe?  Product/service innovations?  More stable political environment? Prognosis: Not lookin’ so good!

6. 5 The health of healthcare 2011 Year-to-date S&P 500 Sector Performance Source: Bloomberg

7. 6 The health of healthcare What’s changed? Behavioral changes: – higher patient deductibles and copayments – less discretionary healthcare consumption – more patient price shopping Decision maker changes: – more physicians employed by hospitals – shifting in some healthcare decisions (e.g., vendor selection) from physicians to cost-conscious hospital administrators Reform changes: – recent reform was mostly insurance company and coverage reform – almost certain to be additional reform measures, such as tort/malpractice reform

8. 7 The health of healthcare Behavioral changes Utilization trends are weakUS Physician Office Visits – Fewer hospital admissions – Declining physician office visits – Lower medical device utilization – Lower prescription drug use Reasons for low utilization – Lower flu incidence – COBRA roll-off – Weak economy – Changing insurance benefit designs Source: IMS

9. 8 The health of healthcare Changing insurance benefit designs Source: Kaiser 2010 Survey of Employer Health Benefits; HDHP – High Deductible Health Plan; SO – Savings Option

10. 9 The health of healthcare Winner and losers of low healthcare utilization Biggest winner – Health insurers/MCOs Biggest losers – Hospitals – Physicians – Labs/Diagnostics – Medical supplies and devices Moderate losers – Pharmaceuticals – Biotechnology – Drug distribution

11. 10 The health of healthcare Decision makers changes Costs/reimbursement pressure physicians – High cost of physician practices – Continually constrained reimbursement – New payment schemes (e.g., “bundling”) More physician alliances with hospitals – Greater physician employment by hospitals – More hospital acquisition of physician practices – Hospital-physician affiliations to coordinate care and lower costs – Preparing for ACOs and new payment schemes (e.g., “bundling”) Implications – Gradual decision maker shift from physician to cost-conscious hospitals – More pricing pressure (devices, pharmaceuticals, medical supplies) – Tougher vendor selection (orthopedic implants, cardiovascular devices) – Hospitals to allocate new payment schemes (decides who gets paid for bundled services) – Possibly more coordinated and efficient care – Possibly more standardized care (cookbook medicine?)

12. 11 The health of healthcare Dialysis bundled payment Source: US Renal Data System (USRDS) and UBS estimates

13. 12 The health of healthcare Balance of power changing Shift in balance of power away from vendors to hospital purchasers – Hospital consolidation – Hospital-physician affiliations – Physician employment by hospitals – Hospital consolidation of vendors – Reimbursement constraints – Lack of meaningful innovation – New payment schemes (bundling)

14. 13 The health of healthcare Healthcare reform changes 2010 reform – Largely coverage and insurance company reforms Insurers gain more power via reform – 32 million potential enrollees via insurance exchanges Insurers squeeze providers – MLR (medical loss ration) effect; MLR = medical expenses/premiums – Reform mandates: 80% MLR for individuals and small groups; 85% MLR for large groups and Medicare Advantage – Reform encourages insurers to squeeze physicians and hospitals Hospitals and physicians react to insurance company pressures – Hospitals and physicians squeeze vendors (medical supplies/devices, etc.) – Providers create integrated networks and alliances to fend off insurer/government pressures More pricing competition for medical vendors (supplies, devices, labs, pharma, biotech) – Hospitals and physicians pressure vendors for greater price concessions – More pricing pressure on medical devices, labs, pharma, biotech, etc.

15. 14 The health of healthcare Commercial reimbursement key to covering healthcare costs Hospital payment-to-cost by payer 1988-2008* Source: Avalere Health analysis of American Hospital Association Annual Survey data; Community hospitals 2008

16. 15 The health of healthcare Effect of healthcare reform by subsector Near-term losers: – Pharmaceuticals and managed care organizations face significant reform costs prior 2014 Mixed effect: – Most healthcare subsectors will have a mixed effect due to reform, including biotechnology, medical technology and hospitals Long-term winners: – Cost cutters: generic drugs, pharmacy benefit managers (PBMs), drug distributors, dialysis providers – Efficienatos: healthcare IT, robotics, new service models (vertically integrated healthcare) etc. – Innovators: select companies within med tech, pharma, biotech, but also MCOs, hospitals, other health services, new technologies,

17. 16 The health of healthcare Effect of healthcare reform by subsector Pharmaceuticals – Increased Medicaid rebates (starts 2010); New Medicare discounts (starts 2011); Reform fees (starts 2011) – Implications: All brand drug companies and some biotechs take an earnings hit approx. 1-6% in 2010 and 2-10% in 2011; generics, PBMs and distributors relatively untouched by benefit in 2014 Biotechnology – Follow-on” biologics: Reform legislation permits generic-like follow-on biologics; 12 years of exclusivity – Implications: Similar to pharmaceutical companies, depending on level of innovation and competition Medical devices – Beginning in 2013, 2.3% excise tax on sales of medical devices; – Implications: EPS impact on medical device companies varies considerable depending on geographic mix, product mix, profit margins (tax is based on revenues, not profits; lower margins, higher EPS impact Generic drugs – Slightly higher Medicaid rebates, but far offset by increased drug use – Implications: Generic drug mfgs, PBMs and drug distributors benefit

18. 17 The health of healthcare Effect of healthcare reform by subsector Healthcare insurance/MCOs – Minimum medical loss ratios (MLRs; starts 2011): Reform mandated 80% for individuals and small groups; 85% for large groups and Medicare Advantage – New insurance enrollees: ~32m over 2014-19; 16m Medicaid expected enrollees; 16m additional other enrollees – Guarantee issue (starts 2014) – Individual and Employer mandates (starts 2014) – Implications: Insurers likely to wield more power in rates/reimbursement negotiations with hospitals and physicians Hospitals – Reform payments of $155bn (2014-19): $110bn Medicare payment rate reductions; $36bn DSH (disproportionate share hospital) reductions; $7bn hospital readmission reductions – Lower bad debts: Roughly 70% of hospital bad debts are associated with uninsured patients; healthcare coverage for more Americans should considerably reduce hospital bad debt expenses – Implications: Higher utilization/volumes, lower bad debts but significant reform costs and likely increased payer pressure (commercial insurers, Medicare, Medicaid)

19. 18 The health of healthcare Healthcare pricing pressure In the US, pricing pressure taking many forms – Insurer pricing pressure (resulting from new MLRs) – Hospital pricing pressure (low utilization, reimbursement, balance of power) – Government pricing pressure (reimbursement in Medicare, Medicaid, etc) – Generic drugs ($100bn of brand drugs coming off patent) – Alternative payment systems (e.g., dialysis bundled payments Jan. 2012) – In Europe: European austerity measures hurts pricing: – Branded drug prices down ~5-7% – Generic drug prices down ~15-20% – Medical device prices down ~3-5%

20. 19 The health of healthcare The decade ahead Better coordination of care – Providers (hospitals, physicians, etc.) coordinating individual patient healthcare – Coordination essential to lower costs, especially with increase demand from Medicare – Bundled provider payments (away from fee-for-service) – Electronic health records (EHRs) for all – Lots more IT (for clinical intelligence, decision support; payment reform, care coordination) Population of Americans age 65 and over, in millions Source: US Census Bureau

21. 20 The health of healthcare The decade ahead Major physician shortage – Short 90,000 by 2020; half primary care physicians (PCPs) and half specialists – “Primary” provider becomes physician assistant (PA) or nurse practitioner (NP) – Physicians provide more of a consulting role – Lots more IT (for clinical intelligence, decision support; payment reform, care coordination) – Greater use of robotics, especially for more common operating procedures Projected supply and demand of full-time physicians Source: Association of American Medical Colleges; in thousands

22. 21 The health of healthcare The decade ahead Personalized medicine – Changes diagnosis, drug discovery, treatments, etc – Genetic analysis with periodic physicals – Better predict disease predisposition – Tailor healthcare to individual genetics – New treatment regimes (e.g., gene therapy, RNA interference) – Possible cures for various cancers, viral infections, etc.

23. 22 The health of healthcare The decade ahead Political change – More reform still to come – Healthcare as percent of GDP: 18% in 2011; 20% in 2018 – US healthcare costs could approach USD 5 trillion by end of decade Source: Organization for Economic Cooperation and Development

24. 23 The health of healthcare The decade ahead Political change – Need for more reforms: cost reforms (Medicaid, Medicare), structural reform (public plan?), tort/malpractice reform Source: Centers for Medicare and Medicaid Services; 2004 data

25. 24 The health of healthcare The decade ahead Political change – Government funding one-third of healthcare (Medicare, Medicaid, other) – Government will fund nearly half of all healthcare by 2020 Source: Kaiser Family Foundation and UBS estimates

26. 25 The health of healthcare Conclusions Major changes underway – Behavioral changes, decision maker changes, recent reforms, affecting utilization, pricing, vendor selection, etc. Costs still out of control – Healthcare estimated at 18% of US GDP in 2011 – 32 million more Americans entering the insurance market 2014-19 – Healthcare possibly greater than 20% of GDP by 2018 Major changes still to come in the decade ahead – Coordinated care, physician shortage, personalized medicine, political changes More reform likely – Current reform is “coverage” reform; does not address costs or delivery of care – Cost reform? Medicare reform? Medicaid reform? Tort reform? – Republican led: more market-driven reforms – Democrat led: more likely government control Changes lead to threat & opportunities – Change is a treat to those that do not adapt – Change is an opportunity for those that lower costs, create efficiencies or innovate – Lower costs/efficiencies: generic drug companies, pharmacy benefit management companies, dialysis companies, healthcare IT – Innovators: innovative pharmaceuticals, biologics, medical devices, robotics, DNA sequencing

27. 26 Contact Information www.ubs.com Jerome Brimeyer +1-212-713-9698 jerome.brimeyer@ubs.com UBS Financial Services Inc. 1285 Avenue of the Americas New York, NY 10019

28. 27 Q&A

29. 28 Required Disclosures Analyst certification Jerome Brimeyer is responsible for the content of this presentation, in whole or in part, and certifies that with respect to each security or issuer that the analyst covered in this presentation: 1.All of the views expressed accurately reflect his personal views about those securities or issuers; and 2.No part of his compensation was, is, or will be, directly or indirectly, related to the specific recommendations or views expressed by that research analyst in the research presentation

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