News and Commentary: Universal Health Services Under the Weather

Universal Health Services Under the Weather

By Richard McCaffery (TMF Gibson)
September 17, 1999

Shares of Universal Health Services (NYSE: UHS), the country's third largest hospital management company, lost 15% today after the company disclosed Q3 earnings could fall more than 40% below last year's mark of $0.51 per share. That's about 54% shy of the $0.58 analysts were expecting.

Universal said results from operations at its hospitals in Las Vegas and Amarillo, Texas were way below expectations because of bad debt expenses, indigent care expenses, higher staffing levels, and the high cost of certain procedures that aren't reimbursed by Medicare. The company said it's taking corrective action to fix the problems but expects it to be several months before earnings return to normal.

The King of Prussia, Pennsylvania company operates 44 hospitals nationwide, including 21 acute care centers, 20 behavioral health centers, and three women's centers. It also operates or manages 24 surgery and oncology centers in 13 states.

The company has performed well historically, posting eight consecutive years of increased earnings and moving quickly to adjust to trends such as the boom in outpatient services.

How much is healthcare changing? Every which way. The Balanced Budget Act requires the government to trim Medicare spending $115 billion and Medicaid by $13 billion over the next five years. Medicaid and Medicare accounted for 46% of Universal's net revenue last year. In addition, federal reimbursement for bad debt and other costs has also been reduced. This is putting the squeeze on healthcare companies that must absorb cuts and yet create value for shareholders.

Universal's recent performance has suffered because of these trends as well as costs related to acquisitions and other expenses, such as $2.5 million in charges last year related to Hurricane Georges.

Net margins slipped to 4.2% in 1998 from 4.7% in 1997. This took a bite out of return on average equity, which slipped to 13.1% last year compared to 13.5% the year before. Also, the company's total debt-to-capitalization ratio has grown to 40% in 1998 from 38% in 1996, largely due to the acquisition of new hospitals and facilities.

So is there value in Universal? Stockholder's equity is increasing steadily, debt is under control, and management seems well aware of its responsibility to shareholders. For a simple example of this, go to the company's website and check out its financial reports. Kudos to the company for making it easy for investors to compare income statements from different periods, and for breaking out ratios such as return on equity as well as other useful metrics. That kind of effort should make a difference to shareholders.

Universal is trading at a trailing P/E of around 9.5 -- less than its projected five-year annual growth rate of 18% -- and is within a stone's throw of book value, though some discounting of its tangible assets is probably in order.

No question it's weathering a storm right now. And it's not alone. One of its rivals, Columbia/HCA Healthcare (NYSE: COL), which is the largest hospital chain in the United States, has problems of its own. It's struggling through a federal investigation into its Medicare and patient referral procedures. These kind of investigations are part of doing business in the heavily regulated healthcare business, but it's also an opportunity for Universal to grab marketshare.

A healthcare play isn't for the fainthearted investor, or anyone looking for a quick buck. But for the investor interested in the healthcare sector -- familiarity with the industry is a must -- Universal Health Services could be worth another look, especially at these values.

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