More analysts are rushing out to test the pulse of the health care sector.
This week alone, two firms initiated coverage of health care stocks with a generally upbeat view. Credit Suisse First Boston favors drug distributors and pharmacy benefit managers. Meanwhile, Deutsche Bank believes hospital companies could recover sooner than many people think. Both firms have offered a bright prognosis for their individual picks.
For starters, CSFB analyst G. Santangelo believes that all three major drug distributors --
-- could finally be on the mend. Thus, he has put outperform ratings on all of the stocks. CSFB seeks to do business with companies covered in its research reports.
Santangelo singles out McKesson as the strongest performer so far, pointing out that the company has managed to grow earnings this year even while adopting a challenging fee-for-service strategy that reduces its dependence on rising drug prices for profits.
In recent years, Santangelo adds, the company has successfully added major accounts -- including a big one with Veterans Affairs -- while inking new, longer-term deals with existing customers. Going forward, he says, the company now faces no significant contract renewals and should have the majority of its deals with manufacturers converted to FFS arrangements in a matter of months.
Shares of McKesson fell 12 cents to $43.47 on Thursday.
Meanwhile, Santangelo says "the worst may be over" for McKesson competitor AmerisourceBergen. Indeed, he believes that several positive catalysts could lift the company instead.
"We believe the anniversary of two major contract losses (VA and AdvancePCS), continued operating leverage from the company's DC consolidation efforts and its more highly levered impact from the Medicare drug benefit all represent potential near-term positives for the company," Santangelo wrote. "With disappointing industry fundamentals out in the open and consensus estimates sitting below the midpoint of company guidance, we believe ABC shares offer an attractive risk/reward scenario."
AmerisourceBergen slipped 40 cents to $66.95 Thursday afternoon.
Santangelo even likes Cardinal despite lingering, company-specific issues. To begin, he says, investors already have low expectations for the company. But he, for one, sees better times ahead. He believes that drug distribution margins may have already hit bottom and expects new FFS agreements to add more visibility to those margins going forward. He also seems less worried than some about Cardinal's struggling sterile manufacturing and Pyxis business lines.
"We acknowledge Cardinal still has issues to contend with, but these two businesses contribute less than 15% to consolidated operating profit," he explained. "Additionally, these issues are well-known by the market and appear to be already factored into investor expectations."
Cardinal's stock rose 30 cents to $60.80 on Thursday.
Prescription for Growth
Santangelo also recommends two of the three major PBMs.
He believes that
, which has already rocketed more than 25% so far this year, still has room to run. He points out that the company has grown more aggressive on the contracting front and scored some recent wins as a result. He also applauds the company's recent acquisition of Accredo -- a major player in the growing specialty pharmacy space -- and expects that deal to increase earnings more than some people think.
Similarly, Santangelo feels that
( CMX) gained some important strength through its own merger with AdvancePCS. Going forward, he looks for favorable industry trends -- such as increasing mail-order business, rising generic drug use and continued growth in specialty pharmacy -- to keep helping the company's margins.
Still, Santangelo seems less enthused than some about another big driver of PBM stocks.
"Expectations from the Medicare drug benefit
are creeping into estimates," he wrote. "While Medicare offers a potential near-term benefit to the PBM industry (2005-07), we are more cautious longer term."
Santangelo is cautious on
for other reasons. For one thing, he notes, Express Scripts' stock already trades ahead of the Street's projected growth rate for the company. In addition, he says, Express Scripts faces some company-specific challenges going forward.
"Contract renegotiation risk represents
the biggest challenge," wrote Santangelo, who has a neutral rating on the company's stock. "After a period of relatively low contract renegotiation risk, the 2006 selling season represents a period of relatively greater renegotiation risk, including some high-profile contracts -- like the state of New York -- which, at the very least, could create some headline risk."
Express Scripts has been accused of bilking customers by New York Attorney General Eliot Spitzer. The two other major PBMs face government investigations as well. All have denied any wrongdoing.
The group weathered stock market losses on Thursday. Medco spiraled $1.19 to $53.74. Caremark fell 71 cents to $43.46. And Express Scripts tumbled 85 cents to $102.39.
Meanwhile, Deutsche analyst Darren Lehrich is focusing his attention on the hospital industry.
While the sector still faces significant challenges -- especially weak patient volumes and bad debt from the uninsured -- Lehrich, at least, sees clear reason for hope. Indeed, he says, first-quarter results "clearly demonstrate" that hospitals have begun operating in a more favorable environment. Going forward, he expects steady volume growth in the second quarter and rising profits for the entire year.
Specifically, Lehrich forecasts the sector's 2005 profit growth rate at 23% -- or nearly three times the expectations for the Standard & Poor's index.
Lehrich is especially bullish on
. He believes that LifePoint could beat Wall Street expectations as it "unleashes synergies" resulting from its merger with Province. Moreover, he points out that all but four LifePoint hospitals enjoy monopoly power. He does highlight potential Medicaid cuts in two LifePoint markets -- Kentucky and Tennessee -- as threats but generally believes that investors have priced Medicaid reductions into hospital stocks already.
Nevertheless, LifePoint's stock tumbled 66 cents to $47.70 on Thursday.
Meanwhile, Lehrich claims that Triad is "not stuck in the middle" anymore. In the past, he says, investors have viewed Triad's midmarket assets as being lower-quality than some. However, he says, the company is strengthening its position in places such as Alabama, Arkansas, Indiana, Oklahoma and Texas. In addition, he says, the company's unique joint-venture strategy distinguishes it from its peers. Thus, he considers Triad one of his top picks in the group. Deutsche Bank seeks to do business with companies covered in its research reports.
The stock fared poorly on Thursday, however, dropping 78 cents to $55.27 a share.
Lehrich also likes industry leader
, which ended Thursday with a 80-cent loss at $57.60.
"We believe HCA's 190-hospital portfolio is comprised of the strongest and most cohesive urban healthcare facility assets in the country," wrote Lehrich, who has a buy recommendation on the stock. Moreover, "HCA maintains meaningful market share in 16 of the 20 fastest-growing U.S. cities and has invested capital aggressively to preserve its competitive position."
Lehrich has a buy recommendation on
as well. He is more cautious, however, on
Health Management Associates
and "the big wild card,"
. He believes that Community has already approached its fair value. Meanwhile, he says that HMA's "deceleration of growth in recent years is problematic."
But he feels that Tenet -- which has struggled for years to turn itself around -- presents the greatest uncertainties of all.
To be fair, Lehrich strays from the crowd when predicting that Tenet will finally ink a global settlement -- resolving multiple government probes -- "during the next 90 days." Even so, he questions whether Tenet can ever achieve profitability levels that are "remotely comparable" to those at HCA in the future.
Tenet dropped 15 cents to $12.60 on Thursday.
Notably, Lehrich does acknowledge other risks associated with the group in general. For example, he notes that the industry faces increasing competition from specialty hospitals that focus on lucrative outpatient procedures. He also points to potential changes in government reimbursement as an ongoing concern. Moreover, he highlights one well-known threat that still looms large in the minds of many.
"If there is further growth in
uninsured patients, the sector could be required to increase its bad-debt reserves," he acknowledged. "In addition, as employers and health plans seek out ways to reduce premiums, the self-pay components associated with co-payments and deductibles may increase, potentially placing additional burden on the industry to collect accounts due directly from the patient."
Peter Young, a business consultant at HealthCare Strategic Issues, believes that Wall Street should be focusing more on such concerns.
Young points to a number of recent developments suggesting that challenges still loom. For starters, he says, HCA has secured meager increases -- averaging just 6% or 7% -- on the majority of its commercial contracts. Similarly, he says, Calpers has secured average rate increases of just 8%.
Meanwhile, he says, HCA's own trend line for bad debt from the uninsured has actually risen from a year ago. In addition, he says, hospitals now face the added challenge of collecting out-of-pocket payments from people who do have insurance but under less generous plans.
Thus, Young questions whether a recovery can be realistically in sight.
"Will bad-debt improvement be real or accounting mechanics such as we saw last year?" he asks. In addition, "given cost-containment strategies of commercial payers to lower-paying products with higher co-pays, I don't see a golden egg under the goose. ... The market is only concerned with a very near-term, three-month perspective, but when you look forward, it seems clear why insiders have been selling" their stock.
As noted previously by
, senior executives at several hospital companies -- especially HCA -- have, indeed, been