Regulation is a mounting concern across many industries, particularly those directly affected by healthcare reform, financial legislation and environmental changes. Adhering to new regulations can increase risk and potentially reduce profit, but depending on the industry and the policies in place, regulation may actually be advantageous for some operators as well. Because individual businesses have little power to change escalating regulation within their industries, investors and business owners alike should evaluate how these changes will play out to minimize losses and maximize profitability.
Industry research firm IBISWorld analyzed more than 1,000 US industries and identified 10 where increasing regulation is an imminent concern for small- to medium-size operators. This information can help deal makers be more proactive and strategic, cultivate relationships, increase returns, establish credibility and procure new deals.
The healthcare sector
Healthcare reform provisions and rising regulation have affected and will continue to impact virtually all healthcare industries to varying degrees. Unless Congress chooses to delay the individual mandate, beginning in 2014, all US citizens and legal residents must have qualifying health coverage. Those without coverage will, in most cases, have to pay a penalty tax. As more people gain access to healthcare, demand for the services of health-related industries will increase.
Although positive changes are expected for the $630.1-billion Health and Medical Insurance industry as more citizens receive coverage, potential issues regarding regulation exist. A ban on preexisting exclusions for adults and children, a ban on all annual or lifetime limits and a ban on charging higher rates to sick customers each pose risks to insurance industry operators. To adhere to new rebate requirements, health insurance carriers will likely adjust their pricing and change product features and benefits.
Additionally, healthcare reform will expand the social insurance programs Medicare and Medicaid, as well as provide states with the opportunity to refocus their long-term care programs toward home- and community-based care. Because many people needing long-term care prefer to receive care at home or in a community setting rather than at an institution, which tends to be more expensive, demand for such services will increase as a result of reform. Consequently, the Home Care Providers, Nursing Care Facilities, and Elderly and Disabled Services industries will all benefit from an uptick in demand thanks to the boost to Medicare and Medicaid. Revenue for the Home Care Providers industry is expected to increase from $74.2 billion in 2013 at an average annual rate of 5.2% in the next five years, while the $120.6-billion Nursing Care Facilities industry will grow at an annualized rate of 3.6% over the period. During this time, the Elderly and Disabled Services industry’s revenue will rise from $37.7 billion in 2013 at an average rate of 8.1% per year in the five years to 2018. Nevertheless, the same industries are also expected to endure tailwinds along the way, such as reimbursement cuts. For example, many healthcare reform provisions allow states to easily add home-care services to their Medicaid programs while making new services permanent Medicaid benefits. On the other hand, the legislation also reduces reimbursement to these industries, so the reform. Consequently, the Home Care Providers, Nursing Care Facilities, and Elderly and Disabled Services industries will all benefit from an uptick in demand thanks to the boost to Medicare and Medicaid. Revenue for the Home Care Providers industry is expected to increase from $74.2 billion in 2013 at an average annual rate of 5.2% in the next five years, while the $120.6-billion Nursing Care Facilities industry will grow at an annualized rate of 3.6% over the period. During this time, the Elderly and Disabled Services industry’s revenue will rise from $37.7 billion in 2013 at an average rate of 8.1% per year in the five years to 2018. Nevertheless, the same industries are also expected to endure tailwinds along the way, such as reimbursement cuts. For example, many healthcare reform provisions allow states to easily add home-care services to their Medicaid programs while making new services permanent Medicaid benefits. On the other hand, the legislation also reduces reimbursement to these industries, so the home health sector will receive less Medicare and Medicaid money for the same work. Consequently, companies will look to other areas of the business, such as specialized services and community-based services, to diversify operations and increase revenue as a mean of staying profitable upon compliance. The Home Care Providers industry has a profit margin of 5.6%, which is below the 9.0% average for the healthcare sector. To address the shortage of health care practitioners, the healthcare reform offers additional payment to those providers that service rural, underserved areas. More home care providers will likely refocus their operations to service rural areas to take advantage of this incentive and, in turn, boost profitability.
The financial sector is no stranger to increasing levels of regulation. But the increased need for accountability and transparency in the financial system has spurred changes in regulation in the past five years. One regulation in particular, the Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010, includes stricter enforcement and disclosure requirements, affecting industries such as Private Equity, Hedge Funds and Investment Vehicles, Credit Counselors, Surveyors and Appraisers, and Debt Collection Agencies. This act changes continually, and the new requirements have increased risk within these industries, which together account for $148.7 billion in revenue. For example, with new regulation, debt collection agencies must disclose and provide accurate information, have a consumer complaint and dispute resolution process, and communicate civilly and honestly with consumers. Private equity and hedge funds have found it more difficult to invest, and debt collection agencies have had difficulty collecting on defaulted accounts. Although the Private Equity, Hedge Funds and Investment Vehicles industry has one of the highest profit margins of the financial services sector at 30.0% of revenue (compared to 13.4% profit for the financial sector), the Dodd-Frank Wall Street Reform and Consumer Protection Act will pressure the industry’s profit margins by requiring all operators with more than $150.0 million in assets under management to register with the Securities and Exchange Commission (SEC), hire a chief compliance officer to design and monitor a compliance program and be subject to intermittent oversight from the SEC. The effects of this compliance can be costly, but noncooperation carries a higher penalty.
Another piece of regulation affecting the financial sector is the Volcker Rule of 2011. This rule prevents banking entities from investing in or sponsoring private equity funds, venture capital funds or hedge funds. Banks will no longer be able to engage in proprietary trading, where banks use bank funds and customer deposits, sometimes leveraging them, to make bets on securities. The rule will also limit banks to holding a 3.0% stake in private funds, which means hedge fund and private equity managers will have to compete for fewer funds from banking institutions.
Due to increasing regulation in the financial sector as a whole over the next five years, deal seekers must be aware of changes to help make strategic business decisions. Just as the regulatory environment surrounding the Dodd-Frank Wall Street Reform and Consumer Protection Act tightened over the past five years, the act will continue to enforce similar new laws in the future. Losses from regulation generally stem from violating the law and the subsequent fines that must be paid. Companies that do not adhere to legislation changes may also face potentially larger issues, including lawsuits and other litigation.
The $1.8-trillion construction sector is bound by many forms of regulation, such as building standards, competing land usage, and occupational health and safety issues. But the biggest issue facing this sector in the next five years is growing concern for the environment. In particular, the Industrial Building Construction, Apartment and Condominium Construction, and Commercial Building Construction industries are facing increasing scrutiny as these concerns intensify and the public and lawmakers look for greater sustainability in new construction projects. For example, when governments seek contracts for new buildings, they often require sustainable materials and practices of contractors. As sustainable building continues to increase in prominence, the Leadership in Energy and Environmental Design (LEED) certification is becoming more relevant. Although LEED certification is optional in many states, tax incentives are encouraging operators to comply.
Most recently, emphasis has been placed on the regulatory environment for construction materials and equipment. Companies increasingly use renewable materials and seek to reduce emissions from construction machinery to improve their social responsibility and goodwill within the community. Currently, energy-efficiency standards for federal buildings are in place. These provisions cover water heaters, power, lighting and other equipment for different climate zones. The new Energy Efficiency Design Standards for New Federal Commercial and Multi-Family High-Rise Residential Buildings, which includes changes to lowered interior lighting power densities, higher equipment efficiencies and more energy-conserving controls in federal construction projects, illustrates the government’s growing commitment to sustainability. Additionally, a proposed rule based on the sustainable design requirements of the Energy Policy Act of 2005 and the Energy Independence and Security Act of 2007 would require new federal buildings and major renovations to existing federal building to include sustainable design principles. Although private buildings are not mandated to be built according to these federal regulations as of now, builders and developers can use these rules to encourage efficiency and sustainability among contractors.
As this regulation trickles down to the private sector during the next five years, compliance may reduce a firm’s exposure to litigation associated with illegal environmental practices, lowering the associated remediation costs in the long term. However, the costs associated with sustainable materials tend to be higher on average than conventional inputs, demanding an adjustment in cost structure to sustain profitability. As a result, investors must consider the threats and opportunities surrounding a new regulation when looking to companies within the construction sector.
In the meantime, renewables have been increasingly enticing for the aforementioned industries, as the production process for these materials has slowly become more cost effective, allowing prices to converge with the cost of conventional materials. Furthermore, these materials assist in lowering energy costs and are often eligible for tax breaks for the builder. As building activity picks up during the next five years, IBISWorld estimates that the sector will grow at an average annual rate of 5.9% during the period to total $2.4 trillion in 2018. A focus on green building will remain at the forefront of building construction industries in the coming five years as well, as companies aim to maintain their environmentally friendly public image and gain more tax breaks, lowering operating costs. Despite increased regulation, the $33.7-billion Industrial Building Construction industry and the $190.5-billion Commercial Building Construction industry will contribute significantly to this sector’s growth. Companies that use sustainable materials may be eligible for tax benefit programs, thereby providing an opportunity for industry operators. Tax breaks are a large incentive for companies to comply with certification standards, so if done right, companies can capitalize on these opportunities and control their finances.
Regulation that could result in important changes to an industry’s or sector’s cost structure, particularly profitability, poses challenges each year as legislative sessions progress at the local, state and federal levels. From the construction sector, with its slower regulatory changes, to the dynamic healthcare sector, where changes can happen rapidly, regulation can often be complex and costly. Overall awareness of laws and their impacts on an industry help companies prepare themselves, minimizing potential losses and taking advantage of incentives to boost profitability upon compliance. Through greater knowledge, companies can foster new business relationships as well as enrich existing ones.
For a printable PDF of Top Sectors for Regulatory Change, click here.