Laboratory Corp of America (NYSE:LH) is the nation's second largest healthcare lab services company, yet it owns just 10% of the $60 billion market for its services in the United States.
That suggests that there's a significant opportunity for growth; however, insurers and government payers are increasingly tightening their belts on payments and that's pressuring LabCorp's top and bottom line.
In the third quarter, higher test volume tied to ageing America was partially offset by falling payments tied to cost-conscious payers, yet LabCorp's results were generally positive as revenue of $1.55 billion and earnings per share of $1.80 both exceeded analyst estimates by $60 million and $0.05, respectively. Since LabCorp's quarter suggests its navigating payer push back better than in previous quarters, let's take a closer look.
By the numbers
LabCorp's year-over-year sales growth accelerated from 3.3% in the second quarter to 6.1% in the third quarter thanks primarily to a 6.9% jump in lab volume. Acquisitions and demand tied to an older and increasingly insured population were the primary drivers of that volume growth.
However, pricing pressure from payers and currency translation on its overseas business resulted in average price per test dropping by 0.7% from a year ago.
In addition to price headwinds and currency conversion, the company's bottom line was negatively affected by spending tied to the company's ongoing restructuring, which increased spending on special items to $11.3 million from $3.7 million last year. As a result, the company's operating income totaled $241.4 million, down from $244.6 million a year ago.
Even after adjusting operating income for those additional expenses, margin remains pressured. Operating income as a percentage of sales dipped from 17% of sales last year to 16.3% of sales in the quarter.
Overall, LabCorp's performance led to unadjusted EPS of $1.59, below the $1.63 reported in the third quarter of 2013, and adjusted EPS of $1.80, unchanged from last year.
Comparing results through the first nine months of 2014 to a year ago shows that LabCorp continues to struggle to contain costs and deliver bottom-line growth. For example, operating income was 17.75% of sales at this point a year ago, but is just 15.37% of sales this year.
Despite operating headwinds, LabCorp does continue to generate significant cash flow and that's fueling bolt-on acquisitions and share buybacks. In the third quarter, LabCorp's operating cash totaled $175.6 million last quarter, lending support to the company's $85 million purchase of LipoScience, a lab that focuses on metabolic and cardiovascular testing, and $66 million in share buybacks.
Accelerating year-over-year revenue growth and a drop-off in the rate of decline in pricing is encouraging, but there's plenty of work that still needs to be done.
LabCorp is guiding for fairly anemic 3% revenue growth for the full year 2014, but it has steadily increased its EPS guidance this year. Exiting 2013, the company predicted EPS in 2014 would total between $6.35 and $6.65. That was increased exiting the second quarter to between $6.50 and $6.75. And exiting the third quarter, the company now expects that it will deliver full year EPS of between $6.70 and $6.80. However, that may not be enough for investors given that LabCorp delivered EPS of $6.95 in 2013.
In order for LabCorp to get back to bottom-line growth, it's going to have to contain costs and regain pricing power. Offering additional IT services like data analytics and expanding its product line of next-generation genetic tests and companion diagnostics may help, but with a fragmented market and new competitors coming onto the scene, a lot of challenges remain.
Todd Campbell has no position in any stocks mentioned. Todd owns E.B. Capital Markets, LLC. E.B. Capital's clients may or may not have positions in the companies mentioned. Todd owns Gundalow Advisors, LLC. Gundalow's clients do not have positions in the companies 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.