Fastest Growing Health Stocks Predicted Along With Top Line Figures; Kevin Ellich Of RBC Capital Markets Answers The Tough Questions Investors Have
February 17, 2010 - The Wall Street Transcript has just published Medical Research, Diagnostic Substances, Life Science Tools Report offering a timely review of the Health Services sector. This Special Report contains expert industry commentary through in-depth interviews with public company CEOs, Equity Analysts and Money Managers. Please find an excerpt below.
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Kevin Ellich is a Senior Research Analyst at RBC Capital Markets. With 10 years of experience, Mr. Ellich's universe encompasses the industries of dialysis, home health, diagnostic imaging, outpatient surgical centers, senior living and health care business services. Prior to joining RBC Capital Markets in 2006, Kevin worked at Minneapolis firm Miller Johnson.
Earlier in his career, he worked on the buy side for three years at American Express (Riversource) before moving to the sell side at Wachovia Securities. He was also a Principal and the health care sector Analyst for almost two years at hedge fund Aplos Advisors, where he generated 500 bps of alpha above the health care sector benchmark before the fund closed.
TWST: Will health care reform affect this sector?
Mr. Ellich: Yes, the bill will make changes to reimbursement rates. They're also trying to provide more coverage for people who don't have it now, and that includes those who are unemployed or don't have another form of health care insurance. There are also individuals who have jobs, and their employers offer them health care insurance and they decline it; they would be considered the "young invincibles," or people who want to take home more money in their paycheck. But the government is proposing an individual mandate saying that if you don't have insurance, you will pay an additional tax.
TWST: Within health care services, what are the fastest-growing areas?
Mr. Ellich: Within the coverage that I have, home health care is the fastest growing. Organic admission or volume growth in home health is roughly 10% to 15% long term. Home health providers have nurses and therapists that go into the home of the patients to provide skilled medical care versus having that patient in a hospital or a nursing home. Of the 19 companies I follow, I'd say the average top-line growth rate is roughly 10%.
Clinical labs, like Quest (DGX) and LabCorp (LH), and the dialysis companies, like DaVita (DVA) and Fresenius (FMS), they grow top line 4% to 5% organically. I think DaVita can grow their top line closer to 6% to 7%. Other providers, like the imaging providers, home health companies, a company called MEDNAX (MD), their growth is derived by organic growth and acquisition growth. Because these companies generate good returns and they generate a lot of cash flow, they use their discretionary capital to make accretive acquisitions and to increase their market share.
TWST: Why?
Mr. Ellich: First, health care reform could hurt some of the smaller mom-and-pop providers. Let's use the home health industry as an example - there are only four publicly traded companies in that industry, and they have roughly 10% to 12% market share. Roughly 35% of the small providers are currently unprofitable. So if they're losing money now, they might lose more money once health care reform is done. Once everything is finalized, I expect the home health companies to go on a shopping spree.
They might be able to buy these smaller home health agencies at cheaper valuations and increase their market share. That is part of the long-term growth strategy for the public companies. Amedisys (AMED), the largest company in the space, with a 1.4 billion market cap, just presented at a conference today, and they indicated that they will be aggressive and very active on the acquisition front. Actually, all four of the companies have more or less stated more development and acquisitions is part of their strategy.
TWST: Who do you like in the sector right now?
Mr. Ellich: There are a few companies that I like right now, and I'm focusing on high-quality companies. I've been recommending companies like the lab companies Quest and LabCorp. They're stable, good business models. They could see some benefit from health care reform if there are more people with health care insurance, even if it is Medicaid. This could increase testing volume for Quest and LabCorp since the overall testing market could increase, and these patients might not have been using health care services in the past.
Both Quest and LabCorp generate tremendous free cash flow - free cash flow yields around 10%. For Quest that's almost 1 billion that they can use to buy back stock; they can deleverage their balance sheet, or they can look for strategic acquisitions. And the long-term trends for the clinical lab testing business are good. We see more genetic or esoteric testing, and that is a higher-price, higher-margin business. And then a long-term opportunity for the lab companies is personalized medicine.
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