This Health Insurer Is Still Undervalued

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Universal American (NYSE: UAM) is an insurance company headquartered in New York. Its core operations are in Medicare Advantage, but Universal American also has Medicaid operations, and is actively involved in developing ACO's (Accountable Care Organizations). This stock is often forgotten since it doesn't have a big market cap, especially when compared to other, much larger insurance companies.

<img alt="" src="http://media.ycharts.com/charts/d08e60544483d992cd479f50ed2dcb98.png" />

The chart above shows how Universal American's market cap its dwarfed by its larger rivals. But sometimes, being forgotten can be a temporary blessing for investors. For quite some time, Universal American has remained undervalued.

Price to Book Ratio

The Price to Book ratio shows just how undervalued Universal American is. That ratio is currently 0.77, which means that for every dollar you invest in Universal American, you get $1.30 worth of assets (=1 / 0.77). As of the time of writing this article, Universal American's stock price is roughly $9. So, if Universal American were to trade at a price to book value of just 1, then the stock price would be $11.70.

For some perspective, the chart below shows the Price to Book ratio of other insurance companies, as compared to Universal American:

<img alt="" src="http://media.ycharts.com/charts/0dd40c02668af7406134a4f3baa6a5d7.png" />

If you compare this chart to the first one showing market capitalization, you'll notice that there is some correlation to market cap and Price to Book ratio. The larger companies such as UnitedHealth Group (NYSE: UNH), Aetna (NYSE: AET), and Cigna (NYSE: CI) are given higher Price to Book ratios because they are more established companies and less prone to risk in any particular region or business segment. 

UnitedHealth is the biggest company, offering a diversified list of healthcare in about every space you can imagine. So, they have the luxury of offsetting weakness in one segment with strength in another. They also aren't in any big danger of losing a significant chunk of their business any time soon. UnitedHealth is well established and has plans all throughout the country. This stock won't win many sprints, but its low beta of 0.58 and dividend of 1.40% should provide investors with some nice returns and low volatility over the long-term.

Aetna and Cigna aren't quite as large with market caps just over $19 billion, but they still have solid diversification across multiple lines of business. In fact, both have gotten even stronger in the growing Medicare market through some acquisitions, where Aetna purchased Coventry Healthcare and Cigna purchased Healthspring.

Aetna is going to be a little more volatile than UnitedHealth with a beta of 0.99, but it still provides a nice dividend of 1.30%.  Cigna is a bit steadier of a stock with a beta of only 0.58, but provides no dividend. Neither stock provides a very compelling reason for investors to choose it over the likes of UnitedHealth, which has the benefits of stability, dividend, and a huge market share diversified across the country.

All that being said, while their competitors can command a higher Price-to-Book ratio with their stability and market share, there is no good reason for Universal American to continue trading below book value. The company had some compliance issues with CMS (Centers for Medicare and Medicaid Services) a few years ago, which shut-down its sales and marketing options for a while. But, those issues are completely behind the company now and it remains in solid financial position.

Dividends

Typically, Universal American does not pay a dividend. However, late in 2012, Universal American provided a one-time, $1 dividend to its shareholders. Much of that was driven by fears of dividend tax rates rising in 2013. But equally important to note is that Universal American had plenty of cash to make that distribution, and even after that, the stock still trades below its book value.

However, if you're looking for a stock that provides consistent dividends, then you'll have to go with someone like UnitedHealth (1.40%) or Aetna (1.30%). Universal American has plenty of upside, but won't give you that regular income stream as a shareholder.

Operations

Universal American's MBR (Medical Benefit Ratio) for Q1 2013 was 80.3% all-in, and 83.5% if you factor out positive development from prior year. That's solid.

Administrative expenses for Q1 2013 were 11.9%. That's not real great, but at least the trend is positive. In Q1 2012, admin expenses were 12.4%. So, the company is clearly taking steps to get the admin expenses down (hopefully under 10% eventually), but they are still higher than investors would like to see.

The bottom line

If you can handle a little more risk that comes with a smaller company, then Universal American can work for you. Its extremely low price to book value means that you can enjoy a floor under that stock any time there is a sell-off. After all, if you're already getting $1.30 of assets for every $1 that you put in, how much cheaper can the stock really get unless something goes massively wrong.

<img alt="" src="http://media.ycharts.com/charts/d5096f505b87cdb349e552028a91f3e3.png" />

As the chart above shows, thus far in 2013, any time the stock has crept down to around $8.50, you would have had a great opportunity to buy...three times in the first five months! Use this already cheap valuation to your advantage. If the stock sells off from its current levels, then jump on it. It'll be a great long-term ride from there.

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Dave Zaegel owns shares in Universal American. The Motley Fool recommends UnitedHealth Group. 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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