October 28, 2014 Healthways Inc. Current Recommendation Prior Recommendation Earnings Update SUMMARY DATA Healthways report Q3 OUTPERFORM Neutral Date of Last Change 08/06/2014 Current Price (10/27/14) $15.05 Target Price $18.00 52-Week High $18.37 52-Week Low $9.62 One-Year Return (%) 31.90 Beta 0.69 Average Daily Volume (sh) 288,464 Shares Outstanding (mil) 35 Market Capitalization ($mil) $532 Short Interest Ratio (days) 32.85 Institutional Ownership (%) N/A Insider Ownership (%) 8 Annual Cash Dividend $0.00 Dividend Yield (%) 0.00 5-Yr. Historical Growth Rates Sales (%) -1.1 Earnings Per Share (%) -45.1 Dividend (%) N/A using TTM EPS N/A using 2014 Estimate 71.7 using 2015 Estimate 37.6 Zacks Rank *: Short Term 1 3 months outlook * Definition / Disclosure on last page 2 - Buy SUMMARY Risk Level * Type of Stock (HWAY-NASDAQ) Healthways third-quarter 2014 results were consistent with the Zacks Consensus Estimates and demonstrated continued growth momentum. The company maintained its earnings and revenue guidance for 2014. Healthways has a substantial and active pipeline of potential contracts with new and existing customers in both domestic and international markets. Revenues continue to be driven by new business wins, timing of recognizing performancebased fees and expansion of existing contracts. Furthermore, the company is making consistent progress with four large contracts scheduled for renewal in 2014. Healthway also sees increased demand for its population health services, which is expected to drive margin expansion and revenue growth going forward. We maintain our Outperform recommendation and set a price target of $18.00. Average, Small-Blend Industry Medical Service Zacks Industry Rank * 96 out of 267 ZACKS CONSENSUS ESTIMATES Revenue Estimates (In millions of $) Q1 Q2 Q3 Q4 Year (Mar) (Jun) (Sep) (Dec) (Dec) 2012 165 A 170 A 167 A 175 A 677 A 2013 165 A 162 A 167 A 169 A 663 A 2014 177 A 181 A 186 A 198 E 742 E 2015 190 E 196 E 202 E 222 E 810 E Earnings Per Share Estimates (EPS is operating earnings before non-recurring items, but including employee stock options expenses) Q1 Q2 Q3 Q4 Year (Mar) (Jun) (Sep) (Dec) (Dec) 2012 -$0.08 A $0.15 A $0.15 A $0.05 A $0.27 A 2013 -$0.12 A -$0.03 A $0.05 A -$0.12 A -$0.19 A 2014 -$0.07 A $0.01 A $0.08 A $0.19 E $0.21 E 2015 -$0.02 E $0.06 E $0.14 E $0.22 E $0.40 E Projected EPS Growth - Next 5 Years % 12.5 2014 Zacks Investment Research, All Rights reserved. www.zacks.com 10 S. Riverside Plaza, Chicago IL 60606
RECENT NEWS Third Quarter 2014 Highlights Oct 23, 2014 Healthways Inc. s (HWAY) third-quarter 2014 adjusted earnings remained flat at $0.08 per share compared with the year-ago level. Adjusted earnings were also in line with the Zacks Consensus Estimate. Notably, adjusted net income for the quarter improved 11.2% from the year-ago quarter to $3.0 million. Revenues for the quarter came in at $185.7 million, increasing 11.4% from $166.6 million in the year-ago quarter and meeting the Zacks Consensus Estimate of $186 million. Contract Activity Healthways signed 23 contracts in the third quarter, including 5 with new customers, 5 related to expansions and 13 to extensions. These contracts were broad-based among the company s four domestic customer markets: commercial health plans; Medicare Advantage plans; large employers; and health systems, hospitals and physicians. Margins In the third quarter of 2014, gross profit rose 3.4% to $36.7 million; however, gross margin contracted 150 basis points (bps) to 19.8% from 21.3% a year ago. Operating earnings in the quarter spiked 23.8% to $7.6 million from $6.1 million in the third quarter of 2013. Operating margin increased 40 bps to 4.1% from 3.7% a year ago. Healthways reported adjusted earnings before interest, tax, depreciation and amortization (EBITDA) of $50.4 million for the first nine months of 2014, up 13.5% from $44.4 million in the comparable year-ago period. Adjusted EBITDA margin improved 30 bps to 9.3% from 9.0% in the first nine months of 2013. Financial Position Healthways had cash and cash equivalents of $1.7 million as of Sep 30, 2014, down 33.9% from $2.6 million as of Dec 31, 2013. Long-term debt stood at $237.4 million, down marginally by 0.1% from $237.6 million as of Dec 31, 2013. However, the long-term debt-to-capitalization ratio increased 20 bps to 44.2% from 44.0% as of Dec 31, 2013. In the first nine months of 2014, cash flow from operations totaled $32.3 million, down significantly by 37.1% from the comparable year-ago period. Meanwhile, capital expenditures stood at $31.9 million, down 2.8% from the year-earlier period. 2014 Outlook Healthways affirmed its 2014 financial guidance and expects adjusted earnings in the range of $0.11 to $0.26 per share for the year. Revenue guidance for 2014 has been reiterated in the band of $730 to $760 million, reflecting an increase of approximately 10 15% over 2013. The company continues to expect EBITDA margins in the range of 10.5 11.5% for 2014. Operating cash flow for the full year is expected in the band of $75 to $85 million, whereas capital expenditures are anticipated in the band of $40 $45 million, or between 5 and 6% of revenues. Equity Research HWAY Page 2
VALUATION Year-to-date, Healthway shares are down 1.95% compared to 6.13% increase for the S&P 500. Healthway price-to-book value ratio in the last quarter was 1.9x, compared to 3.0x for the industry and 4.6x for the S&P 500. Over the last five years, the company s shares have traded in a range of 0.5x to 2.3x of its book value. Currently Healthways valuations are trading slightly higher than the mid-point of its historical range, indicating a possible downside. However, active pipeline of potential contracts with new and existing customers in both domestic and international markets and new business wins help us to remain bullish on the stock. We maintain our Outperform recommendation and set a price target of $18.00. Key Indicators F1 F2 Est. 5-Yr EPS Gr% P/CF 5-Yr High Healthways Inc. (HWAY) 71.7 37.6 12.5 10.3 N/A 381.6 7.8 5-Yr Low Industry Average 37.6 24.7 18.0 13.2 35.4 89.4 19.3 S&P 500 16.8 15.7 10.7 15.2 18.0 27.7 12.0 Premier, Inc. (PINC) 24.4 22.2 12.2 4.8 30.5 32.2 26.1 Air Methods Corp. (AIRM) 17.9 15.3 17.3 12.0 19.7 35.1 11.6 MedAssets, Inc. (MDAS) 18.7 16.8 12.9 7.6 20.9 38.9 10.2 IPC The Hospitalist Company, Inc. (IPCM) 17.7 15.8 15.7 15.9 17.6 32.8 18.2 TTM is trailing 12 months; F1 is 2014 and F2 is 2015, CF is operating cash flow Healthways Inc. (HWAY) P/B Last Qtr. P/B 5-Yr High P/B 5-Yr Low ROE D/E Last Qtr. Div Yield Last Qtr. EV/EBITDA 1.9 2.3 0.5-1.5 0.8 0.0 12.8 Industry Average 3.0 3.0 3.0-427.7 0.1 0.0 4.6 S&P 500 4.6 9.8 3.2 23.3 N/A 0.0 N/A Equity Research HWAY Page 3
Earnings Surprise and Estimate Revision History NOTE THIS IS A NEWS-ONLY UPDATE; THE REST OF THIS REPORT HAS NOT BEEN UPDATED YET Equity Research HWAY Page 4
OVERVIEW Headquartered in Nashville, Tenn., Healthways (HWAY) provides focused and complete solutions which enable people to improve their physical, emotional and social well-being. The company s programs are designed to encourage people to make favorable lifestyle changes, such as physical activity for elders at the fitness centers (SilverSneakers) or nicotine therapy via the on-line cigarette cessation program (QuitNet). Healthways makes available targeted and tailored intervention for each person, regardless of the individual s health condition, age or health care payor. Its fact-based prevention and well-being services providing specific and personalized intervention are presented to consumers in a variety of formats, such as phone, mail, and Internet. Clients in North America include employers, health plans and governments across all 50 states as well as the District of Columbia. Healthways SilverSneakers program is available at about 15,000 locations in the U.S. Individuals who seek healthcare outside the traditional system may avail from the company s network of 88,000 alternative medicine and chiropractic practitioners. Healthways has been developing its international business and the company currently offers wellness programs in Brazil, Australia and France. Firstly, Healthways programs enable individuals to adopt healthier behavior by disseminating disease prevention through total population screening and assessment of well-being. In this regard, the company also ensures access to health improvement curriculum, such as weight management and fitness solutions. Secondly, the company s programs are intended to help individuals cut down on health-related risk factors by encouraging them to change lifestyle behaviors that lead to chronic conditions. In this regard, the company also imparts education through skilled nurses and provides educational literature. Finally, Healthways regimen is geared to help people optimize healthcare for specific conditions by including up-to-date evidence-based clinical guidelines for best interventional outcomes. This may be achieved by coordinating the patient s care with his/her healthcare providers and providing local resources to manage acute episodic interventions. REASONS TO BUY Due to its unique scalable business model, Healthways shares may present a compelling, long-term investment opportunity although it may face challenges in the short term. The company is the leader in a strategically critical and rapidly evolving part of the health care services market. Healthways has an impressive clientele of health plans in the U.S. Healthways Well-Being Improvement Solution uses sophisticated abilities to derive enhancement within the population, one person at a time. Healthways composite offering for well-being enhancement curtails health risk, fine tunes care for the chronically ill, and maintains the health of the healthy. The company is able to configure its Well-Being Improvement Solution to meet the unique needs of each client. In Aug 2013, the company was selected to provide well-being services, including related incentive programs, to Georgia s 650,000+ state employees and dependents through the Department of Community Health s State Health Benefit Plan (SHBP). In Oct 2013, Wayne, Pa.-based Renaissance Health Network has also chosen physician-directed population health solution Well-Being Direct from Healthways to improve the quality of its population health management solutions. Renaissance Health Network provides Population Health Management services to 150,000 people, including about 32,000 Medicare Beneficiaries. In Jun 2014, Healthways Equity Research HWAY Page 5
formed a joint venture GenHealth with Genesis Physicians Group, an independent physicians association in North Texas. GenHealth is designed to transform the delivery of healthcare through a scientifically proven population health approach. The new health services organization will provide a comprehensive set of clinical and lifestyle well-being improvement solutions to independent physicians in North Texas. This market-shifting opportunity is designed to help physicians adopt a more economically sustainable model that simultaneously elevates well-being and quality of care for patients. Healthways provides specialized programs such as SilverSneakers, which is a fitness network for the elderly at about 15,000 sites. In Aug 2013, Healthways partnered with Regence BlueCross BlueShield of Utah to offer its award-winning SilverSneaker Fitness Program to Regence s Medigap members. In Oct 2013, Blue Cross and Blue Shield Association expanded its partnership with the well-being solutions provider, under which, Blue Cross and Blue Shield of Alabama will start offering Healthways SilverSneakers Fitness Program to its C Plus Medicare Select members in Alabama from Jan 2014. The association has been offering the SilverSneakers program to Medicare Advantage members since January 2013. Brisk contract activity may enable the company to gradually get over the loss of the Cigna Corp. contract. In the 2014-first quarter, Healthways signed 20 contracts during the first quarter, including 5 with new customers, 7 expansions and 8 extensions. These contracts were broad-based among the company s four domestic customer markets: commercial health plans; Medicare Advantage plans; large employers; and health systems, hospitals and physicians. In the 2014-second quarter, Healthways signed 19 contracts, including 3 with new customers, 3 expansions and 13 extensions. These contracts were broad-based among the company s four domestic customer markets: commercial health plans; Medicare Advantage plans; large employers; and health systems, hospitals and physicians. During the quarter, Healthways executed a major multi-year renewal of its SilverSneakers Fitness program with Highmark, Inc., extending its 10-year relationship with the company. Healthways also expanded its 13-year relationship with the Hawaii Medical Service Association ( HMSA ) to make the Dr. Dean Ornish Lifestyle Management program available to HMSA s eligible commercial and government health plan members. Healthways revealed a positive outlook for 2014. Healthways expects adjusted earnings in a range of $0.11 to $0.26 per share for 2014. Revenue guidance for 2014 remained in a range of $730 to $760 million, reflecting an increase of approximately 10 15% over 2013. Healthways expects revenues and earnings to grow sequentially through the year from first-quarter levels, primarily driven by new business wins, timing of recognizing performance-based fees and expanding revenues under existing contracts. RISKS Continued high unemployment in the U.S. means fewer lives covered by employer sponsored or commercial health plans. This reduces the number of billable lives using Healthways disease management services, and consequently the company s revenue. Despite a few contract wins, international operations have a relatively minor contribution. Existing contracts come from a handful of countries, such as Brazil, France and Australia. The health care business is highly regulated and payors may provide reimbursement only for a portion of the services given by Healthways. Reimbursement pressure is not expected to ease under health care reform. Equity Research HWAY Page 6
DISCLOSURES & DEFINITIONS The analysts contributing to this report do not hold any shares of HWAY. The EPS and revenue forecasts are the Zacks Consensus estimates. Additionally, the analysts contributing to this report certify that the views expressed herein accurately reflect the analysts personal views as to the subject securities and issuers. Zacks certifies that no part of the analysts compensation was, is, or will be, directly or indirectly, related to the specific recommendation or views expressed by the analyst in the report. Additional information on the securities mentioned in this report is available upon request. This report is based on data obtained from sources we believe to be reliable, but is not guaranteed as to accuracy and does not purport to be complete. Because of individual objectives, the report should not be construed as advice designed to meet the particular investment needs of any investor. Any opinions expressed herein are subject to change. This report is not to be construed as an offer or the solicitation of an offer to buy or sell the securities herein mentioned. Zacks or its officers, employees or customers may have a position long or short in the securities mentioned and buy or sell the securities from time to time. Zacks uses the following rating system for the securities it covers. Outperform- Zacks expects that the subject company will outperform the broader U.S. equity market over the next six to twelve months. Neutral- Zacks expects that the company will perform in line with the broader U.S. equity market over the next six to twelve months. Underperform- Zacks expects the company will under perform the broader U.S. Equity market over the next six to twelve months. The current distribution of Zacks Ratings is as follows on the 1126 companies covered: Outperform - 15.7%, Neutral - 78.2%, Underperform 5.9%. Data is as of midnight on the business day immediately prior to this publication. Our recommendation for each stock is closely linked to the Zacks Rank, which results from a proprietary quantitative model using trends in earnings estimate revisions. This model is proven most effective for judging the timeliness of a stock over the next 1 to 3 months. The model assigns each stock a rank from 1 through 5. Zacks Rank 1 = Strong Buy. Zacks Rank 2 = Buy. Zacks Rank 3 = Hold. Zacks Rank 4 = Sell. Zacks Rank 5 = Strong Sell. We also provide a Zacks Industry Rank for each company which provides an idea of the near-term attractiveness of a company s industry group. We have 264 industry groups in total. Thus, the Zacks Industry Rank is a number between 1 and 264. In terms of investment attractiveness, the higher the rank the better. Historically, the top half of the industries has outperformed the general market. In determining Risk Level, we rely on a proprietary quantitative model that divides the entire universe of stocks into five groups, based on each stock s historical price volatility. The first group has stocks with the lowest values and are deemed Low Risk, while the 5 th group has the highest values and are designated High Risk. Designations of Below-Average Risk, Average Risk, and Above-Average Risk correspond to the second, third, and fourth groups of stocks, respectively. Equity Research HWAY Page 7