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Published: August 24, 2010
It's an old investing axiom that you can make money when
stocks are hated. The rule also applies to the broader stock
market and beaten-down sectors. It always pays to check out
stocks and sectors that have fallen sharply to see if
emotion-based selling has pushed them so far down that they have
become true bargains.
This year's poster child for investor loathing is the home
health sector, which has been dogged by
Securities and Exchange Commission (SEC) investigations,
profit-sapping reimbursement changes from Medicare, and
management teams that appear flat-footed. Yet looked at in
another context, the home health care sector should hold great
appeal, thanks to the rapid aging of our society and the fact
that treating patients in their home is always far more
cost-effective than treating patients in a hospital. It's quite
possible that near-term pain may well yield some impressive
long-term gains for these unloved shares.
These stocks include Amedysis (Nasdaq: AMED), Gentiva Health
(Nasdaq: GTIV), LHC Group (Nasdaq: LHGC) and Almost
Family (Nasdaq: AFAM). All of these stocks have lost -35% to
-55% of their value in the last six months. Their troubles began
in late April when The Wall Street Journal reported that some
home health-care providers -- most notably Amedysis -- were
pushing for extra home care visits in order to meet a
Medicare-induced threshold that awarded bonus reimbursement
fees. Two weeks later, the Senate invited company executives to
come and testify.
That was followed up with a July 1 announcement of an SEC
investigation. As a final kicker, Medicare announced that it
would cut reimbursement for home health care visits by roughly
-5% in 2011 and by a similar amount again in 2012.
For investors, it's time to separate the one-time problems from
the long-term impacts. In the near-term, the SEC may issue some
pretty steep fines for overbilling. Amedysis appears to be the
most egregious violator, and could face the steepest fines. And
Medicare is likely to change reimbursement rules in order to
remove the incentive for too many home health care visits. As it
stands, Medicare is taking much longer to re-certify patients
that have already been receiving home health care visits. That
could have a fairly immediate impact on near-term results,
although it's curious to note that 2011 profit forecasts for
these firms have barely budged in the last 90 days. Forecasts
will need to come down before these stocks are safe to buy.
For some investors, those -5% reimbursement cuts in 2011 and
again in 2012 are the main reason to avoid this sector. Those
cuts may seem onerous, but still leave ample room for profit.
These providers can bill roughly $250 for each visit, though it
only costs them about $80. So they can easily handle some price
cuts. These companies typically had 55% gross margins and 15%
operating margins. Gross margins in the high 40s and operating
margins may become the "new normal." That's still fairly
impressive -- especially when you consider that demographic
changes should lead to steadily higher patient volumes. And
these companies have ample means to buy their way into growth as
this remains a very highly fragmented industry with roughly
10,000 players.
Action to Take --> The sharp
fall in sector shares means that all of these stocks now sport
single-digit price-to-earnings (PE) ratios. Yet there's no
reason to rush out and buy shares simply because they are cheap
-- especially since we haven't heard the last of the SEC
investigations. Instead, this is a sector to watch and prepare
to move in when the time is right.
As noted, Amedysis looks to be the most egregious violator of
billing practices, and its shares should probably be avoided, no
matter what. Gentiva Health may also see more troubles as it may
be unable to raise the funds to pay for its May, 2010 $1 billion
acquisition of Odyssey Health care.
In contrast, Almost Family looks fairly appealing thanks to its
50% revenue concentration in increasingly geriatric Florida,
apparently cleaner billing practices, and a relatively strong
balance sheet which should fuel acquisitions. LHC Group is
also seen as a relatively clean operator and management has a
strong track record of garnering strong returns on invested
capital. Both of these firms trade for about eight times
projected 2011 profits.
Whenever a sector has been badly-bruised, you have nothing to
gain by being the first one to wade back in. Instead, I prefer
to see these shares start to rebound a bit -- perhaps +10% to
+15% above current levels. Sure you're leaving some upside on
the table, but at least you avoid waiting for several quarters
before seeing your investment start to appreciate.
-- David Sterman
Staff Writer
StreetAuthority |
