CIF Stock Recommendation Report (Fall 2012)

Transcription

1 Date: 10/11/12 Analyst Name: Matthew Landen CIF Stock Recommendation Report (Fall 2012) Company Name and Ticker: UnitedHealth Group Inc (UNH) Section (A) Summary Recommendation Buy: No Target Price: Stop- Loss Price: Sector: Healthcare Industry: Managed Healthcare Market Cap (in Billions): $ # of Shrs. O/S (in Millions): 1, Current Price: $ WK Hi: $ WK Low: $42.86 EBO Valuation: $63.35 Morningstar (MS) Fair Value Est.: $65.00 MS FV Uncertainty: Medium MS Consider Buying: $45.50 MS Consider Selling: $87.75 EPS (TTM): 4.93 EPS (FY1): 5.02 EPS (FY2): 5.58 MS Star Rating: 4 Next Fiscal Yr. End Year : 2012 Month : December Last Fiscal Qtr. End: 9/30 Less Than 8 WK: Yes If Less Than 8 WK, next Earnings Ann. Date: 10/16 Analyst Consensus Recommendation: Outperform Forward P/E: Mean LT Growth: PEG: 0.96 Beta: 0.90 % Inst. Ownership: 88.23% Inst. Ownership- Net Buy: No Short Interest Ratio: 1.71 Short as % of Float: 1.02 Ratio Analysis Company Industry Sector P/E (TTM) P/S (TTM) P/B (MRQ) P/CF (TTM) Dividend Yield Total Debt/Equity (MRQ) Net Profit Margin (TTM) ROA (TTM) ROE (TTM)

2 Investment Thesis The higher valuation metrics imply that the potential growth is already priced in. This makes it difficult to realize growth that would significantly boost its stock price. The growth assumed to happen because of the new regulation could actually be more of a liability. The 34 million new customers will drive down operating margins because many of them will already be in relatively poor health. The regulations are expected to benefit the Optum business and hurt or have no impact on the UnitedHealthcare business. Optum accounts for less than 25% of total revenues. They have already conceded that significant investments in the Optum business will decrease earnings and operating margins sooner rather than later. Operating margins will continue to decrease as pricing pressures from competitors and regulatory hurdles make it difficult to increase premiums. M&A activity works against UNH when compared to competitors. New expansion into Brazil could divert management attention away from the US at a critical time Looming budget cuts could drastically reduce revenues Continued high unemployment stifles growth in their commercial insurance business. Using the highest analyst estimates only gives us a 14% margin of safety between the current price and the implied price. Even when using a 5 year abnormal growth rate (instead of 2) the stock price is only valued at $68.51, only a 19% margin of safety. Summary Provide brief summary of your analysis in each section that follows Company Profile: Large managed health care company that operates on two different business platforms, UnitedHealthcare and Optum. The former provides health benefit needs for individuals while the latter services health care participants. Fundamental Valuation: The valuation assuming a two- year abnormal growth is $ That is only marginally higher than the current stock price of about $ The sensitivity analysis did not affect much. Relative Valuation: The relative valuations implied UNH was overpriced relative to its 3 of the 4 competitors. The prices suggested were right around the 52- week low of UNH at $ Revenue and Earnings Estimates: The revenues are very consistent with analysts estimates while earnings consistently outperform. This has been met with a stock price that seems relatively indifferent. Analyst Recommendations: The recommendations have stayed nearly identical over the time frame. The majority recommend a buy, with no analyst suggesting lower than a hold. Institutional Ownership: There is significant institutional ownership at about 88%, with only one institution holding a greater than 5% share. Most recently, there has been a net sell off despite more buyers than sellers. Short Interest: Short interest has been minimal, with the days to cover never really straying to far from the 1 to 2 range. This could be because of the uncertainty expected in the coming months. Stock Price Chart: Pre- crisis UNH consistently underperformed its peers, but post- crisis was able to outperform. However, this has not been the case in the last 3 months where it has not faired as well. 2

3 Section (B) Company Profile (two pages maximum) Company Summary UnitedHealth Group is a health and well- being company that began in January of The company operates in two different business platforms; the UnitedHealthcare segment serves the health benefits of individuals and consumers, while the Optum segment serves the health system participants. UnitedHealthcare is further broken down into UnitedHealthcare Employer & Individual, which provides health plans to employers and individuals, UnitedHealthcare Medicare & Retirement, which provides health services to individuals age 50 and older, and UnitedHealthcare Community & State, which provides Medicaid managed care solutions to states. The Optum segment is broken down into OptumHealth, OptumInsight, and OptumRx. OptumHealth focuses on health management and wellness, clinical services, and financial services. OptumInsight is essentially a consulting company for the healthcare industry. OptumRx provides a multitude of pharmacy benefit management services. UnitedHealth Group had revenues of about $102 billion last year. The breakdown of that based on segments is as followed: 36.62% UnitedHealthcare Employer & Individual 29.12% UnitedHealthcare Medicare & Retirement 11.13% UnitedHealthcare Community & State 5.41% OptumHealth 2.15% OptumInsight 15.55% OptumRx The company primarily operates within the U.S. They do have a few subsidiaries that do business in places like Ireland, Canada, and China, but not enough to warrant a separate breakdown in their financial disclosures. This could change in the coming months, however, as they just acquired a 90% stake in the Brazilian healthcare company, Amil, for $4.9 billion. Being such a large diversified company, UnitedHealth Group operates in numerous industries. Its official industry is managed health care, but it also operates within integrated care delivery, care management, consumer engagement and support, distribution of benefits and services, health financial services, operational services and support, health care information technology, and pharmacy. 3

4 Business Model, Competition, Environment and Strategy The company s major competitors are relatively numerous as they are quite a diversified company. The UnitedHealthcare segment competes with companies like Aetna Inc., Cigna Corporation, Coventry Health Care, Inc., Humana Inc., WellPoint Inc., and some regional players like Blue Cross Blue Shield Association. The Optum business competes with Medco Health Solutions, Inc., CVS Caremark Corporations, Express Scripts, Inc., among others. A primary way UnitedHealth Group differentiates itself from these companies is by its size. It is the largest of its competitors and thus has economies of scale and scope that allow it to have better network capabilities with more efficiency in its administrative operations. It is also large enough to expand into other areas that smaller companies cannot. This is one of the reasons they entered the Brazilian market through their recent acquisition. The company operates in a primarily mature industry but may see some growth because of the new regulations that will increase the customer base of Medicaid participants. The business is not very cyclical and is generally considered a quite defensive sector. However, the company is adversely affected by poor economic growth, especially when it comes to unemployment and government spending. As mentioned before, the UnitedHealthcare Employer & Individual segment of the company represents about 36.62% of revenues annually, and much of this comes from corporate health plans. As unemployment increases, and fewer individuals are covered under these plans, UnitedHealth Group s revenues could take a hit. In much the same way, the UnitedHealthcare Medicare & Retirement and the UnitedHealthcare Community & State segments are very dependent on continued government spending in the space. There are a couple of general environment issues that are really driving the industry right now. The first of which is the new health reform regulations. This overhaul of the health care industry will have numerous affects on such a diversified company as UnitedHealth Group. It will increase its customer base by about 34 million people; however, many of these will come in with pre- existing conditions and have generally poorer health, resulting in decreased operating margins. It is expected that the reforms will increase its Optum business, while having a muted affect on its UnitedHealthcare business. Another driver is the increased M&A activity that has been happening within the industry. Many of UnitedHealth Group s biggest competitors have recently acquired smaller companies in order to beef up their exposure to the Medicare and Medicaid market as well capturing economies of scale. 4

5 Revenue and Earnings History This information is available in Reuters.com, Financials tab. Copy/paste the quarterly revenue and earnings per share numbers for the most recent three years. Add the numbers over four fiscal quarters to get annual revenue and earnings. For the current fiscal year, go ahead add up as many quarters as are available. NOTE: revenue numbers are in millions. Discuss any pattern in revenue and earnings (e.g., increasing year over year; seasonal; etc.) REVENUE Periods March June September December Note: Units in Millions of U.S. Dollars Total EARNINGS PER SHARE Periods March June September December Note: Units in U.S. Dollars Total

6 Although the revenue and earnings have increased year over year, it seems as though the rate decreased from 2011 to 2012 when compared to the increase from 2010 to I think this could be in part because the financial crisis may have suppressed revenues and earnings and when the economy began to recover, it increased at a greater rate than it would in future years. Section (C) Fundamental Valuation (EBO) Include the following here: Copy/paste completed Fundamental Valuation (EBO) Spreadsheet Inputs (provide below input values used in your analysis) EPS forecasts (FY1 & FY2): 5.02 and

7 Long- term growth rate: Book value /share (along with book value and number of shares outstanding): Book value: 28,292,000,000 # of shares outstanding: 1,039,000,000 Book value / share: Dividend payout ratio: Next fiscal year end: 2012 Current fiscal month: 10 Target ROE: Output Above normal growth period chosen: 2 years EBO valuation (Implied price from the spreadsheet): $63.35 Sensitivity Analysis EBO valuation would be (you can include more than one scenario in each of the following): $70.29 if changing above normal growth period to 5 Years $63.35 if changing growth rate from mean (consensus) to the highest estimate $63.35 if changing growth rate from mean (consensus) to the lowest estimate $67.67 if changing discount rate to 8.3% $60.59 if changing discount rate to 9.2% $63.35 if changing target ROE to Section (D) Relative Valuation Copy/paste your completed relative valuation spreadsheet here 7

8 From the top panel Discuss whether your stock and its competitors have very different multiples. Point out if any of the five stocks have multiple that is far off from the others. Make an attempt to explain why (you would want to read analyst research report in Morningstar Direct; you should also look for comments from other financial sites). The discussions should address all of the following valuation metrics: forward P/E, PEG, P/B (MRQ), P/S (TTM), and P/CF (TTM). Out of the four competitors, WellPoint, Aetna, and Cigna Corp all have very similar valuation metrics. The only outlier seems to be Coventry Health Care, which has valuation metrics that would indicate an overpriced stock. Presumably, this is because it was announced in late August that Coventry would be acquired by Aetna. Coventry s stock price jumped from about $32 to about $45. UnitedHealth Groups valuation metrics are all higher than the three competitors, but slightly lower than Coventry. The PEG ratio isn t as high as the forward P/E ratio might suggest because UNH has a bit higher long term growth rate compared to the other companies, which is only going to continue because of its acquisition of the Brazilian healthcare company, Amil. Their P/S and P/CF are also higher, but P/S seems to not be as significant. This could mean that they have a high volume of sales but have lower operating margins so don t have as large of cash flow. 8

9 Compare the implied prices derived from various valuation metrics. Also compare those implied price to the stock s current price, and 52- week high and low. The Forward P/E ratio suggests a stock price of $ The PEG ratio suggests a stock price of $ The value ratio suggests a price of $ These are very close to the current stock price. As a result, they are also fairly close to the 52- week high, which is only about $3 more than the current stock price at $ In contrast, it is quite far from the 52- week low of $ From the bottom panel Discuss the various implied prices of your stock derived from competitors ( comparables ) multiples. How different are the prices derived from the various valuation metrics? Note any valuation metrics that seem to yield outlier prices and explain why (HINT: is that because that particular valuation metrics is not very relevant for the industry? Do you best to provide convincing arguments). The implied prices from the PEG are slightly higher than the other metrics. This can most likely be explained because the healthcare sector anticipates greater growth as new regulation will seemingly increase the customer base. On the other end of the spectrum, the P/B ratio would suggest lower prices than the other metrics. This can be attributed to the fact that the metric isn t very relevant for this industry because health insurance companies generally have very little tangible assets. For each valuation metrics, Compare the current price and 52- week high /low of your stock to the High- low range derived from multiples of its competitors. The implied prices derived from the valuation metrics all suggest that the current stock price is overpriced, with the exception of the P/E ratio and the PEG ratio of Coventry Health Care. The 52- week low of $42.86 is right around the implied prices of all the metrics with the exception of the PEG ratio, which is even lower than that. The 52- week high of $60.75 is well above the implied prices, as well. Again, this is with the exception of the P/E ratio and the PEG ratio for Coventry Health Care. Among the valuation metrics analyzed, which ones do you think are most relevant as a valuation tool for your stock? 9

10 The PEG ratio is probably the most important metric because the next couple of years are anticipated to bring huge growth within the industry. The P/S is also pretty relevant when used in tandem with the operating margin because new regulations will begin squeezing those margins and thus putting more emphasis on sales. Section (E) Revenue and Earnings Estimates Copy/Paste the Historical Surprises Table from Reuters.com, Analysts tab (include both revenue and earnings; make note that revenues might be in millions ) Estimates vs Actual Estimate Actual Difference Surprise % SALES (in millions) Quarter Ending Jun , , Quarter Ending Mar , , Quarter Ending Dec , , Quarter Ending Sep , , Quarter Ending Jun , , Earnings (per share) Quarter Ending Jun Quarter Ending Mar Quarter Ending Dec Quarter Ending Sep Quarter Ending Jun Review recent trends in company s reported revenue and earnings, and discuss whether (1) the company has a pattern of surprising the market with numbers different from analysts 10

11 estimates; (2) Were they positive(actual greater than estimate) or negative (actual less than estimate) surprises? (3) Were surprises more notable for revenue or earnings? (4) Look up the stock chart to see how the stock price reacted to the surprises. NOTE: Reuters does not put the sign on the surprise. You need to put a negative sign when it is a negative surprise. 1. UNH reports actual sales that are right around the analysts estimates but they consistently surprise the market with actual earnings per share that are greater than the estimates. 2. The sales were pretty well in line, while the earnings per share were all positive. 3. The surprises were more notable for earnings. 4. The reaction is mixed with the stock price rising, like in March of 2012, but also declining, like in June of Copy/paste the Consensus Estimates Analysis Table from Reuters.com, Analysts tab (include both revenue and earnings) Review the range and the consensus of analysts estimates. (1) Calculate the % difference of the high estimate from the consensus (mean); (2) Calculate the % (negative) difference of the low estimate from the consensus; (3) Are the divergent more notable for the current or out- quarter, FY1 or FY2, revenue or earnings? (4) Note the number of analysts providing LT growth rate estimate. It that roughly the same as the number of analysts providing revenue and earnings estimates? For the sales, it is more notable for the out- quarter and FY2, which is opposite from the earnings where the current quarter and FY1 have the greatest difference. This could be because of the upcoming regulations that make it difficult to foresee sales in the future. The number of 11

12 analysts providing a LT growth rate estimate is significantly less than the number of analysts providing revenue and earnings estimates. Copy/paste the Consensus Estimates Trend Table from Reuters.com, Analysts tab (include both revenue and earnings) Current 1 Week Ago 1 Month Ago 2 Month Ago 1 Year Ago SALES (in millions) Quarter Ending Dec , , , , , Quarter Ending Mar , , , , , Year Ending Dec , , , , , Year Ending Dec , , , , , Earnings (per share) Quarter Ending Dec Quarter Ending Mar Quarter Ending Dec Quarter Ending Dec Review recent trend of analysts consensus (mean) estimates on revenue and earnings. (1) Are the consensus estimates trending up, down, or stay the same? (2) Is the trend more notable for the near- or out- quarter, FY1 or FY2, revenue or earnings? The consensus estimates increased from 1 year ago but have stayed the same for the past two months in every category. 12

13 Copy/paste the Estimates Revisions Summary Table from Reuters.com, Analysts tab (include both revenue and earnings) Last Week Last 4 Weeks Number Of Revisions: Up Down Up Down Revenue Quarter Ending Dec Quarter Ending Mar Year Ending Dec Year Ending Dec Earnings Quarter Ending Dec Quarter Ending Mar Year Ending Dec Year Ending Dec Review the number of analysts revising up or down their estimates (both revenue and earnings) in the last and last four weeks. (1) Note whether there are more up or down revisions; (2) are 13

14 the revisions predominantly one directional? (3) Any notable difference last week versus last four weeks, revenue versus earnings? 1. There have been a lot more up revisions than down ones. 2. Yes, the majority are one directional. 3. The only difference is that one analyst revised the quarter ending Dec- 12 down four weeks ago, while last week they didn t. You will need to incorporate what you see here with Morningstar s analyst research report (you can access Morningstar Direct at the Financial Markets Lab.) and other readings/analysis you found from various on- line financial sites. Discuss whether you think the company has a good chance of making or beating analyst consensus estimate, and why. Based on how the stock has been trading lately, do you think market has already anticipated strong or lackluster financial outlook from the company? I think the company might be able to beat earnings estimates in the near future (quarter ending Dec- 12) but won t beat estimates later on (FY2). The regulations being imposed through the Affordable Care Act will negatively impact the company more so than analysts and investors are pricing in. Although they will gain a number of new customers, the majority of those customers will not be very profitable for the company because they come in with things like pre- existing conditions and generally poorer health. This squeezes its margins in a time when the regulations will already make things difficult. This includes the significant income tax increase that will take place in The company has already stated that this will adversely affect their earnings. These admissions don t seem to have been priced in as earnings estimates continue to grow. Section (F) Analysts Recommendations Copy/paste the Analyst Recommendations and Revisions Table from Reuters.com, Analysts tab. NOTE: Make sure you copy the entire table including the Mean Rating at the bottom of the table. 1-5 Linear Scale Current 1 Month Ago 2 Month Ago 3 Month Ago 14

15 (1) BUY (2) OUTPERFORM (3) HOLD (4) UNDERPERFORM (5) SELL No Opinion Mean Rating Review the trend of analyst recommendations over the last three months. Is there a notable change of analyst opinions, turning more bullish or bearish? How many different ratings out of the five possible ones did the company receive currently, one, two, and three months ago? Is there a notable trend of opinion convergence or divergence? Is what you see here consistent to comments in Morningstar analyst s research report as well as various online financial sites you had researched on? NOTE: On a Five- point scale, Reuters assigns 1 to Buy, the most bullish recommendation, and 5 to Sell, the most bearish recommendation. Some other online sites have opposite scale, with their 1 being the most bearish and 5 being the most bullish recommendations. The analyst opinions have stayed almost exactly the same over the last three months. Analysts varied between Hold, Outperform, and Buy, with the majority of analysts recommending a Buy. This is consistent with other sources. I have yet to see a Sell or Underperform recommendation. Section (G) Institutional Ownership Copy/paste the completed CIF Institutional Ownership spreadsheet here. 15

16 Combine information provided in all three sections to discuss whether (1) institutions, on net basis, have been increasing or decreasing ownership and how significant, (2) the stock has sizable institution interests and support, (3) the extent of the (> 5%) owners, and (4) this could be a bullish or bearish indication of future stock price movement. 16

17 1. A larger number of small institutions have increased positions, however those institutions that did sell, sold off more shares than the buyers bought. 2. Yes, the stock has sizable institutional support with about 88.23% of shares being owned by institutional investors. 3. There is only one institutional owner that has a greater than 5% interest in the company. 4. I think this could be a bullish signal in that a lot of institutional investors own the stock but not one of them can move the stock by significant amount single- handedly. Section (H) Short Interest (two pages) From (NASDAQ s website) Copy/paste or enter the data in the following table. You also need to copy/paste the chart to the right. Copy/paste or type the information from short interest table. You will start from the most recent release date, and go back for a year (some stocks may not have data go back for a year) Copy/paste the chart to the right of the short interest table, immediately follow the table below NOTE: You are encouraged to look at the short interest information for two of the companies closest competitors. This will help gauge whether the sentiment indicated in the short interest statistics is company specific or industry- wide. Settlement Date Short Interest Avg Daily Share Volume Days To Cover 9/14/ ,411,819 6,087, /31/ ,050,659 4,893, /15/2012 9,273,203 5,570, /31/ ,706,359 8,839, /13/ ,783,256 6,578, /29/2012 8,760,734 9,336,

18 6/15/2012 9,356,774 6,551, /31/ ,345,093 5,318, /15/ ,054,034 5,154, /30/ ,879,385 7,269, /13/2012 9,876,608 5,971, /30/2012 9,980,347 7,779, /15/ ,323,478 4,936, /29/ ,084,530 6,138, /15/ ,304,891 7,018, /31/ ,324,115 9,797, /13/ ,228,924 5,449, /30/ ,708,207 4,930, /15/ ,288,781 7,522, /30/ ,596,012 6,907, /15/ ,867,231 6,852, /31/ ,562,704 9,718, /14/ ,473,851 7,448,

19 From Complete the following table with information from the share statistics table. Avg Vol Avg Vol Shares (3 month) (10 day) Outstanding Float 6,410,360 5,192, B 1.02B Shares Short Short Ratio Short % of Float Shares Short (Most recent date) (Most recent date) (Most recent date) (2 weeks prior) 10.41M % 10.05M Based on the short interest statistics and its recent trend, how is the market sentiment on the stock? Has the sentiment turned more bullish or bearish over the last year? How about in more recent month and why? The stock market sentiment suggests that there isn t much interest in shorting the stock. The current days to cover is 1.71, which is within the 1 to 2 range that it has been bouncing between for the past year. Occasionally it has risen to about 2.5 like in Dec- 11, Feb- 12, and Mar- 12. I think it has stayed relatively consistent because investors don t want to short a stock that is facing such uncertainty in the near future. 19

20 Section (I) Stock Charts A three months price chart Copy/paste the 3 Mos. stock chart here A one year price chart Copy/paste the 1 Yr stock chart here 20

21 A five year price chart Copy/paste the 5 Yrs. stock chart here 21

22 Additional price chart If you have other stock charts, feel free to copy/paste here Discuss what you observe from the stock charts. This should include comparing your stock to competitors, sector, and SP500 over the three different time horizons. It seems as though UNH has underperformed Aetna, the sector, and the S&P 500 but performed slightly better than WellPoint (the green line) during the last three months. If we look a little farther back, however, we can see that UNH has outperformed all of them while its competitors continually underperformed. This trend is only for the post financial crisis time frame. During the crisis, UNH actually underperformed its competitors and the S&P 500. It has rallied strongly since, and is now near its 52- week high. 22