Saturday, April 4, 2020

A Current AIM Small Cap Equity Holding: LHC Group Inc. (LHCG, $133.86): “Almost Family Reunites as One”

LHC Group Inc.  (LHCG, $133.86): “Almost Family Reunites as One”
By: Alexander Warstler, AIM Student at Marquette University

Disclosure: The AIM Equity Fund currently holds this position. This article was written by myself, and it expresses my own opinions. I am not receiving compensation for it and I have no business relationship with any company whose stock is mentioned in this article.

LHC Group Inc. (NASDAQ: LHCG) is a national provider of in-home healthcare services providing quality, value-based healthcare to patients primarily within the comfort and privacy of their home. LHC Group’s services cover a wide range of healthcare needs for patients and families dealing with illness, injury, or chronic conditions.  The company was founded in 1994 and is headquartered in Lafayette, LA.

• LHCG’s shares have experienced near term negative volatility from coronavirus fears, changes in PDGM (Patient Driven Groupings Model), and elimination of RAP (Request for Anticipated Payment).

• For the 2019 fiscal year ended February 26, 2020, revenue increased 14.9% YoY, adjusted free cash flow was $115.4 million, and home health admissions exhibited 9.1% organic growth.

• LHCG established an COVID-19 task force as the company joins the nation’s healthcare industry in confronting the virus. The home environment remains the best setting for the isolation and recovery of patients exposed to or currently experiencing symptoms of COVID-19.

• Management has made significant improvements to the companies clinically driven evidence based operating model, which focuses on comorbidities, functional scores, remote patient monitoring, and industry leading patient outcome and satisfaction.   

Key points:

The Center for Medicare & Medicaid Services (CMS) updated payments for home health agencies under the new patient driven groupings model (PDGM), which focuses on patient characteristics to more accurately pay for home health services, rewarding value over volume. In addition, the CMS is proposing to publicly report Total Performance Scores (TPS) and TPS percentile ranking for each home health agency as well as removing request for anticipated payment (RAP).  The government is clearly committed to increasing utilization of in home health care as it continues to be the most appropriate and cost effective care setting.  PDGM and elimination of RAP payments are expected to result in the closure of 30% of smaller competitors beginning in 2020.

LHC Group is in the strongest position out of the top five home health agencies to benefit long term from these changes. Across all of the operations of LHC Group, quality and patient satisfaction scores continue to exceed the national average and outpace industry peers. These scores are driving strong organic growth, higher reimbursement tied to those scores, bonus payments, and market share gains. In addition, the company’s management team made significant improvements to the companies clinically driven evidence based operating model and realigned home health and sales personnel in FY 2019 to better prepare for 2020 and beyond. During 2019, LHC Group acquired 27 home health, 11 hospices, three home and community based services locations, and one LTAC hospital. These acquisitions represent approximately $114.3 million in annualized revenue. Moving forward, management expects to take advantage of the highly fragmented market to deliver record M&A activity during FY 2020. At the same time, the company should capture additional market share through organic growth and expand hospice and community based services across the United States.   

In November of 2017, LCH Group merged with Almost Family. LHC Group has been steadily focused on bringing Almost Family’s assets up to par with LHCG’s quality and patient satisfaction scores since the merger occurred. In FY 2019, the company began to see incremental organic growth from Almost Family. In Q2 2019, the combined home health growth for LHC Group (including Almost Family) was 1.7%. In Q3, it rose to 3.3% and in Q4 it rose to 5.5%. Management expects there to be 8-10% growth for the combined home health organic admissions in Q1 2020 compared to the company’s longstanding target of 5% to 7% growth for home health. The increasing organic growth demonstrates Almost Family’s current and future success from bringing all locations up to the operational and clinical standards of LHC Group as well as possibly early indications on the effect of PDGM market share gains.

What has the stock done lately?

After reporting earnings on February 26th, the stock fell 20% due to weaker than expected earnings and FCF numbers. The company cited increasing investments were made to position the company for success under PDGM. In addition, the company forecasted lower FY 2020 guidance for EPS and EBITDA (although probably very conservative given the changing environment). The stock continued to fall another 15% on March 16th on COVID-19 fears. Since March 16th, the stock has since recovered to $133.86.  The stock continues to trade at a 1.67x PE premium to the S&P 500.

Past Year Performance:

On February 13th, 2019 LHCG hit an all time high at $159.48. The stock gained strong momentum from the current in-home healthcare industry tailwinds created by PDGM and RAP as well as improved organic growth from the Almost Family home health division. At its high, the stock had a P/E ratio of 52. The stock currently trades at $133/share and has a P/E ratio of 44. Over the past year, LHCG has significantly outperformed the Russel 2000. LHCG is up 23% compared to -26% from the Russel 2000 index.

1 Year Stock Chart vs. Benchmark
Source: FactSet

My Takeaway:

LHC Group is well positioned for continued growth ahead. The top five home health providers only represent 20% of the current market and recent PDGM and RAP rulings create a strong market consolidation opportunity for LHCG in 2020 and beyond. While the high valuation creates significant pressure on the company to execute in the near term, the longer term view remains intact. LCH Group’s industry leading quality and patient satisfaction scores are driving referral growth, recent regulatory and reimbursement changes should accelerate hospital and health systems needs for an experienced partner, and incremental contributions from recent joint ventures and other acquisitions set the stage for additional market share gains.  LHC Group continues to foster a favorable company culture and standard for excellence that is driving organic growth and bodes well for the new transition into value based care. As we look into the future, LHC Group should see strong results from their co-location strategy, incremental pull through from raising Almost Family quality scores, and growth resulting from high performing post-acute networks for ACO partners. In addition, the company has a strong balance sheet, generated $115 million FCF in FY 2019, and has $450 million in available liquidity to go after bolt on acquisitions.      

1 Month Stock Chart
Source: FactSet