Should Investors Be Fans of Team Health (TMH)?
This is a relatively recent IPO (December 2009). About 30% of the company was offered to the public, with the rest being retained by Ensemble, a part of Blackstone Group (BX). At the end of February, Ensemble sold another 8 million of its shares to the public in a secondary (non-dilutive) offering.
There are a lot of things to like about TMH. The company is easily one of the largest suppliers of hospital staffing, and one of the few national providers (most are local or regional). The business is stable and predictable. Contract terms are initially for (usually) 3 years and then automatically renew, with a renewal rate of 95%. The average tenure of TMH's current contracts is 9 years. Also, this is a business that is protected from deep recessions, as most emergency medical care is not discretionary. As such, operating margins have been very stable between 9-10%, and management can rely on a steady and predictable flow of cash into the business, regardless of macro-economic conditions.
Growing the business is a bit more difficult proposition. There are two ways to grow: by increasing the revenues from current contracts and by increasing the volume of contracts. Current contract revenue can be increased by servicing more patients or earning more money per patient. Both are difficult, as reimbursement rates are largely controlled by insurance payers and driving increased hospital volume is not something TMH can really proactively engage in. Usually, the firm reports small existing contract growth in the 1-2% range each year.
The main way to grow contract volume is by acquiring existing local and regional providers. In 2010, Team bought Anesthetix Management (a national anesthesia practice), Southwest Emergency (1 hospital), and Morningstar Emergency (15 facilities). Still, "mediocre" is the best word to describe growth expectations for Team. Their 5-year compound average growth in revenue is just 6.8%, and in operating earnings 7.2%.
Unfortunately, there are also a number of things to not like about Team Health. Stability of cash flows allow a firm to be aggressive with the balance sheet, but Team Health's balance sheet is too aggressive for my tastes. Only $30 million in cash offsets over $400 million in total debt, and book value is a negative number (meaning the company is worth theoretically nothing in liquidation). On the positive side, the firm has been aggressively paying down the debt and interest coverage is not a major concern (the coverage ratio is 6.8).
A bigger concern is health care reform. The Centers for Medicare Services (CMS) announced in November their intention to cut Medicare physician payments by as much as 30%, starting in 2012. 17% of TMH's revenues come directly from Medicare, and Medicaid and many private insurers set their reimbursement rates based on it. If it goes through as written, the impact will be tangible on Team Health's results. However, it is also true that Congress has pushed back rate cut implementations every year for the last 8 years, so we will see what happens this time. The 2010 health care bill also contained reimbursement cuts that could affect the firm.
Team Health is not a terrible Magic Formula choice by any stretch. I expect the pace of acquisitions to increase as the company cleans up its balance sheet and smaller providers elect to sell-out instead of face increasing government tightening. A snap 30% haircut in reimbursement seems a bit draconian to actually go through - it will probably be delayed again, or watered down. But even modeling for some growth, I don't see Team Health being worth much more than $21. A 23% premium to current trading prices is enough to give the stock a "positive" rating, but not quite enough margin of safety to place it into Top Buys consideration.
Disclosure: Steve owns no stocks referenced here.
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