These Stocks Will Profit From the Health-Care Controversy

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The national debate on the proposed "Obamacare" legislation has -- especially with last night's speech -- reached fever pitch. Every point on the political spectrum has already voiced its opinions at town hall meetings, in the media, and in the blogosphere, so I'll refrain from doing the same here.

Instead, let's remove our political hats for a moment and look at how the potential health-care outcomes might affect us as investors -- and how we might profit. 

You game? Great!
Government-run programs like Medicare and Medicaid pay less to health-care companies for goods and services than private insurers like UnitedHealth (NYSE: UNH) and Aetna (NYSE: AET). So it's understandable that the prospect of the government assuming a larger role in this sector -- which could put pricing pressure on titans like Johnson & Johnson (NYSE: JNJ) and Pfizer (NYSE: PFE), thus forcing margins and profits lower -- would cause some market uncertainty.

But that market uncertainty is the contrarian investor's best friend.

It's no surprise that health-care stocks have been left behind in the recent rally. But as rough as it has been on larger health-care stocks, it has been just as rough -- if not rougher in some regards -- on smaller health-care stocks.

Consider:

Stocks	Median Price-to-Earnings (ttm)	Median Price-to-Free Cash Flow (ttm)	Median Price-to-Book
Large Cap Health Care	15.3	13.5	2.7
Small Cap Health Care	18.4	12.8	1.9

*Source: S&P 500 Healthcare and S&P 600 -- Healthcare Sector, as of Sept. 4; ttm = trailing 12 months.

At this point, the market seems more comfortable taking the "safer" bet in large health-care companies, since it stands to reason that they'll be steadier during a major storm. Even though smaller companies have greater growth potential than their larger kin, they also don’t have access to the same resources that a larger company does. And that gives you an opportunity.

Yes, there are still a number of questions about health-care reform that haven't been answered. But by the time the market gets its answers, many of the opportunities to profit from the controversy will be long gone. So let's find today's small-cap values in the sector while Wall Street sits transfixed by C-SPAN.

What we can go on now 
No matter what comes of the Obamacare debate, here are four trends that will remain true:

1. Demand for health care has mighty demographic tailwinds. Most importantly, some 78 million baby boomers are either in or rapidly approaching retirement and will need more health-care goods and services over the next decade and beyond.
2. Health-care spending is not immune to broader consumer sentiment. Just as there's a difference between consumer discretionary and staple items, there's also a difference between elective health care and need-based health care. According to the American Hospital Association, 60% of hospitals have not met their goals for elective procedures thus far in 2009. You might put off liposuction when times are tough, but you can't put off taking care of an advanced wound.
3. Health-care costs are expected to grow at a rate much faster than our overall economy, and companies that can help reduce costs through improved efficiencies will continue to be in demand, whether or not a government plan is signed into law.
4. Demand for home-based health-care services and technology will be on the rise. Already a $3 billion-a-year market, it is expected to grow to $7.7 billion in just three years. In April, General Electric (NYSE: GE) and Intel (Nasdaq: INTC) announced a joint venture to improve home health-care monitoring technologies.

The best small-cap health-care values will cater to one, two, or ideally all four trends.

One such company is home-based care provider Almost Family (Nasdaq: AFAM), a $230 million company that provides visiting nurse and personal care services. In 2008, 92.2% of its revenues came from Medicare, Medicaid, or another government program, so it's already well-versed in a government-payer system.

Even better, the demand for home-based health care is relatively inelastic -- families caring for an infirm family member don't have many alternatives, and home-based care costs much less than hospital-based care.

From a financial standpoint, Almost Family has a manageable amount of debt, margins have been improving, and it has positive free cash flow. Moreover, management is tenured (CEO William Yarmuth has been in his role since 1992), and insiders own nearly 17% of shares outstanding.

Trading at just 14.8 times trailing free cash flow and 11 times last year's earnings, Almost Family is a great place to begin your small cap health-care research.

Plenty of other fish in the sea
Almost Family is just one shining example of a smaller health-care company with mighty demographic and economic tailwinds that the market is simply overlooking amid the Obamacare debate. There are more to be found.

That's why our Motley Fool Hidden Gems team recently announced that it would ramp up its research in this sector. One name it just added to its real-money portfolio is inVentiv Health, a $500 million company that provides, among other things, sales, staffing, and marketing consulting services to pharmaceutical and biotech companies.

If you'd like to read more about how Hidden Gems is looking to profit from the health-care controversy, just click here for a free 30-day trial. There is no obligation to subscribe.

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Fool analyst Todd Wenning has a fever and the only prescription is … more cowbell! He does not own shares of any company mentioned. inventive Health is a Hidden Gems and Stock Advisor choice. UnitedHealth Group is a Stock Advisor recommendation. Intel, Pfizer, and UnitedHealth Group are Inside Value recommendations. Johnson & Johnson is an Income Investor pick. The Fool owns shares of inVentiv Health and UnitedHealth Group and has a disclosure policy.