Top 3 Hospital Stocks Well Positioned for Healthcare Reform

Anindya is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.

The healthcare reform law aims to expand insurance coverage to roughly 30 million uninsured Americans. The Affordable Care Act will provide millions of Americans with access to healthcare, creating new revenue streams for companies across the sector. The Act requires every American to acquire health insurance by 2014 or be subjected to a tax. Those who can't afford health insurance will be offered subsidies or Medicaid. With more patients becoming eligible for Medicare and Medicaid coverage, hospitals are expected to see a reduction in bad debt expenses as more patients will be able to pay for their care.

Total healthcare spending is projected to grow from an estimated $2.8 trillion last year to $4.8 trillion by 2021, an increase of 70%. As a result, the stocks of private hospital operating companies are expected to outperform the S&P 500 index by a significant margin. I think this is the right time to pick up some fundamentally solid stocks in the sector.

I’ve screened three stocks based on one key metric, EBITDA Margin, which essentially measures the operating profit that a company is able wring out of each dollar of sales. The stocks I favor should have at least 12% EBITDA Margin consistently for the past four quarters, which ensures they are well positioned to benefit from the healthcare reform in 2014. I hope you will find the stocks listed below rather interesting.

My top pick based on EBITDA Margin is HCA Holdings (NYSE: HCA), which is one of the largest private operators of health care facilities in the world. It is based in Nashville, Tennessee and currently manages 163 hospitals comprised of 157 general and acute care hospitals, 5 psychiatric hospitals, and 1 rehabilitation hospital. In addition, it operates 112 freestanding surgery centers. Its operations are structured into three geographically organized groups: National, Southwest, and Central.

Barclays Capital assigns it an “overweight” rating in an industry on which it has a neutral assessment overall. Jefferies Group raised their price target on shares of HCA Holdings from $30.00 to $45.00. They now have a “buy” rating on the stock. Deutsche Bank also raised their price target on HCA Holdings from $40.00 to $44.00 with a “buy” rating. 

HCA’s strong margins have translated into spectacular FCF (free cash flow) growth. Strong FCF should help to inoculate HCA against a difficult operating environment for the industry.

HCA Holdings released its latest earnings data recently. The company reported $0.92 EPS for the quarter, beating the Thomson Reuters consensus estimate of $0.83 by $0.09. The company had revenue of $8.43 billion for the quarter, compared to the consensus estimate of $8.95 billion. During the same quarter in the previous year, the company posted $0.94 earnings per share. The company’s revenue for the quarter was up 13.2% on a year-over-year basis. The company has set its FY13 guidance at $3.00-3.30 EPS. Analysts expect that the company will post $3.63 EPS for the current fiscal year.

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EBITDA Margin TTM data by YCharts

The no. 2 pick is Health Management Associates (NYSE: HMA), which is a company that operates hospitals and health care facilities in the southern United States and is spreading across 15 states, with more than 10,000 physicians on staff. Health Management presently touches more than 3.5 million lives a year, and continues to grow.

Health Management reported 3rd quarter 2012 earnings of $0.18 per share. The company also had revenues of $1.7 billion. This beat the $1.6 billion consensus of the 14 analysts covering the company, and was 18.8% above the prior year's 3rd quarter results.

The company's strengths can be seen in multiple areas, such as its robust revenue growth, solid stock price performance, and notable return on equity.

The no. 3 pick is Tenet Healthcare Corporation (NYSE: THC), which is an investor-owned health care services company whose subsidiaries and affiliates own and operate acute care hospitals, ambulatory surgery centers, diagnostic imaging centers, and related health care facilities.

Tenet Healthcare through its subsidiaries operates 49 hospitals, over 100 freestanding outpatient centers, and Conifer Health Solutions, a leader in business process solutions for healthcare providers serving more than 500 hospital and healthcare entities nationwide.

The company reported third-quarter 2012 earnings of $40 million, or 37 cents a share, up from $6 million, or 5 cents a share, a year earlier. EBITDA increased 40% to $269 million, in line with analysts' forecasts. Net operating revenue rose 5.8% to $2.22 billion, helped by improved terms in contracts with commercial managed care payers, Tenet said. 

For 2013, the company forecast EBITDA in a range of about $1.33 billion to $1.43 billion, slightly above analysts' consensus estimates. Tenet has been very strong on cost control. Their “Medicare Performance Initiative” is continuing to deliver great results in controlling costs.

Anindya7 has no position in any stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. Is this post wrong? Click here. Think you can do better? Join us and write your own!

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