RadNet (RDNT) is a company that is ensconced in the diagnostic imaging, medical laboratory business segment of the healthcare industry. With the Affordable Care Act upon us, the Government is going to have a full court press to reduce costs.
The largest areas of cost savings come from prevention and early detection. This is where the diagnostic imaging, medical lab business enters. Not only will the new law focus on this segment, but the law will mandate that companies be paid less for these services than ever before.
While this could well be a double edged sword, the advantage that RDNT has is that the company offers a low cost option for patients, hospitals, doctors, as well as the new government payment structure for their national programs.
To wit: In this industry report there appears to be concern that many of the independent diagnostic centers simply might not survive due to the cost of scale.
Pam Kassing, senior economic advisor to the American College of Radiology, states that there could be a substantial shift in services offered by both private practices and hospitals.
"We're hearing from those that have their own imaging centers and provide services in-office that they're barely hanging on," she said. "A lot of sites have been sold to hospitals, and many just don't exist anymore. Of those in business, they're not making much of a profit margin. They're providing a diverse mix of services to the community, but if they're on the verge, I don't see them sustaining for the next year."
Basically, the survival of the fittest will stand to profit greatly. The business model that RadNet has employed is positioned extremely well to gain market share, revenues and profits. The focus has, and continues to be, gobbling up the most beneficial independent labs to broaden its exposure, reduce its costs, increase revenues and profits, and add shareholder value in the form of capital appreciation.
Keep in mind that an independent lab, whether by a total buyout by RDNT, or some sort of partnering agreement, will be accretive immediately to RadNet's bottom line.
In the long run, this presents an extremely strong potential for shareholder value of RDNT investors.
Let's Look At The Healthcare Business Overall Right Now
Does anyone think that the healthcare industry is not one of the largest business sectors in the US? Most folks would say that the energy sector is the largest, but in terms of rapid growth, I believe that between all of the combined segments, the healthcare industry is perhaps the most dynamic in terms of potential for rapid growth. Especially given the fact that we are an aging nation, and the "boomer" generation keeps the industry quite profitable as it stands right now.
Not to mention that our Federal (and States) Government is perhaps the single largest "customer" of the healthcare industry. Just by the fact that Medicare, Medicaid, and now the Affordable Care Act has, and will continue to pour astronomical amounts of money into the entire industry. Most specifically the areas that can actually help prevent disease from spreading to the point of even more astronomical treatment costs.
Take a look at this chart (courtesy of the CFSA):
Projections of Federal Health Care Costs (percent of GDP)
(click to enlarge)
The continued growth of federal health programs represents the single largest threat to the nation's fiscal health. By 2015, Medicare, Medicaid, exchange subsidies, and other federal health spending will reach 6 percent of GDP under the CBO's Alternative Fiscal Scenario. The revenue loss from the tax exclusion on employer-provided health care will equal another 1.3 percent of GDP. And these costs will only grow. The Congressional Budget Office projects direct federal health care costs will total 9.7 percent of GDP by 2030, and 13.7 by 2050.
Preventive care, early detection processes, and wellness approaches will all play a vital role in potentially reducing costs for everyone, including the Governments budget. For now, the largest of these areas is the early detection procedures and facilities that can find terrible diseases early enough to treat them before they become financial nightmares.
It is also one of the largest, and fastest growing segments of the healthcare industry, and the segment that might benefit more from the Affordable Care Act than almost any other.
There are several enormous players in this sector such as Laboratory Corp. of America (LH) which sells for about $98.00/share and is a global company with enterprise value of over $11 billion, and Quest Diagnostics (DGX) which sells for about $60.00/share, also a global business, with an enterprise value of over $12 billion. The estimated revenues of this business was roughly $110 billion in 2012 alone. Operating margins approach roughly 20% for both LH and DGX.
While there are some smaller players who do quite well in this business, the one that caught my attention is RadNet, Inc. (RDNT).
RadNet: The Basics
RDNT: Price: $2.96/share, Dividend Yield: N/A, ESS Rating: Bullish
Enterprise value of about $700 million.Forward P/E ratio of only 6.1.55% of all outstanding shares are held by insiders, and 19% of all outstanding shares are held by institutions.A current market cap of just $119 million, which looks very undervalued to my eyes.A price to sales ratio of just .19.A short float of only about 2.4%.Cash flow is over $75 million right now.Let's also take a quick look at their business summary as provided by the company itself:
Founded in 1984, RadNet, , is a national leader in providing high-quality, cost-effective diagnostic imaging services through a network of 248 owned and/or operated outpatient imaging centers. With operations in six states, including California, Maryland, Delaware, New Jersey, New York, Rhode Island and Florida, we believe we are the largest owner and operator of fixed diagnostic imaging centers in the United States.
RadNet offers to its patients and referring physicians the full spectrum of diagnostic imaging exams, including PET/CT, MRI, CT, Nuclear Medicine, Mammography, Ultrasound and X-ray, as well as numerous other procedures. RadNet utilizes best of breed technology to appropriately serve the medical communities in which it operates.
Additionally, RadNet currently provides diagnostic imaging services to over 750,000 lives under exclusive capitation contracts with prominent medical groups and Independent Physician Groups (IPAS).
RadNet performs over 4 million diagnostic radiology and imaging procedures annually.
Obviously, the company is in the middle of the fastest growing segment of the healthcare industry as I explained at the beginning of this article.
In a previous company conference call, from the earnings period prior to the most recent, the CEO, Howard Berger had this to say about some recent weak performance:
As many of you are aware, our business typically feels the effects of seasonality during the first quarter. Generally, we are impacted by winter weather conditions in the northeast, which disrupt patient volumes during and after winter storms. Additionally, our industry, like that of other healthcare services sectors, in recent years, has been increasingly affected by first quarter other phenomenon related to higher patient participation in large deductible health plans. In some cases, the high deductible plans cause patients to delay big-ticket healthcare spending until later in the year when they have satisfied their deductibles. In other cases, the higher deductibles have reduced healthcare utilization in aggregate by causing insured populations to ration their healthcare spending. Over time, insurance companies have shifted increasing amounts of financial burden to patients in return for charging them lower monthly premiums.
We believe our first quarter 2013 results suffered from these two factors, particularly within our East Coast operations which today represents slightly more than half of our revenue. We experienced a general softening of procedural volumes in the east, which we believe is indicative of the general environment for and utilization of healthcare, as opposed to something that is specific to RadNet or RadNet's competitive position in our East Coast markets.
Since both DGX and LH had similarly poor quarters, it stands to reason that the little "pup" here was not spared either. Berger did state this however:
.......with the repricing and the financing that we just completed, if we are continuing to pursue M&A activity, we will have full availability of our revolver. So that is one source of cash, along with the substantial free cash flow that the company is generating which was enhanced also by the repricing. At the current time, there are no larger acquisitions in the pipeline that we are seriously considering. And while I think that there will always be smaller tuck-in acquisitions, they will not use up a substantial amount of cash.
This is the key as to why I am drawn to this company. It is not afraid to spend money to acquire independent diagnostic facilities, as well as using its resources to build its own infrastructure.
As a matter of fact, the company has forged many partnerships, as well as joint ventures with other facilities as outlined in the company press releases. Being that size does matter, as more locations are acquired, RDNT's costs will drop. As Berger states himself, quite clearly:
.......weeding out these smaller or "less state of the art" players......So at some point, the older equipment will lose its accreditation and therefore, I think, force further consolidation. I don't believe that the smarter operators are going to wait until that axe falls. They're likely to either sell or consolidate with other players in the markets, which I believe we are seeing now happening at a much brisker pace than perhaps any time that I've seen in the history of being in this business.......So I think, over the next three to five years, all of these impacts, the lack of capital spending, the probable and likely closing at some point of the in-office exemption, as well as just overall controls on utilization, are going to have substantial impacts in the industry and cause only the strong to survive, which is where RadNet has positioned itself.
By gobbling up many smaller players already (review the company press releases for the plethora of "ventures" to date), I believe that RDNT has positioned itself to begin focusing on generating cash, reducing debt, increasing revenues, and generating profits rather than losses, while still pursuing opportunistic acquisitions that will only add to growth.
With the Government alone spending more and more money of precisely the services that RDNT provides, and with a relatively "smallish" position in the business which will allow them to be "cost sensitive" to the needs of the Government, a slice of that pie could really become interesting.
To top it all off, the company announced that it will be venturing beyond just the diagnostic business as it announced a joint venture in the clinical trials of an Alzheimer's disease drug. Where this might lead is anyone's guess of course. The fact that the company is not afraid to spend and branch out into other areas of the healthcare industry, gives me the opinion that shares of RDNT might be significantly higher in the next 24-36 months.
The Good News Does Not Stop There
As of yesterday, the company reported earnings of $.07/share which beat estimates by at least $.01/share, and revenues came in at $183 million, beating estimates by almost $8 million, or a robust 5%.
During the conference call it was noted by CEO Howard Berger:
Our strategy is to continue to execute on the principal business tenants that will ensure our future success. The first is scale. In our highly-fragmented industry, which is suffering immense pressures of lower reimbursement, decreasing utilization and lower availability of capital, size matters. Our cost structure, leverage with suppliers and payors and industry relationships with powerful joint venture partners set apart RadNet from other industry players. We will continue to make strategic acquisitions in our regions, particularly tuck-in transactions, transactions of single centers and small groups. We will also continue to leverage our scale and expertise to partner with powerful local health systems and hospitals.
While these comments not only support my thesis, they also expand them by the public acknowledgement that RadNet is ready to grow bigger and faster, right now.
Berger also noted....."We expect to generate significantly more free cash flow during the second half of 2013".
How high could they go? Well, the business segment is enormous, and it looks like RadNet intends on being a "player". A two or three bagger over the course of the next 24-36 months, does not seem far fetched to me.
Disclaimer: The opinions of the author are not recommendations to either buy or sell any security, and he is NOT an expert in the medical industry. Please do your own research prior to making any investment decision.
Disclosure: I have no positions in any stocks mentioned, but may initiate a long position in RDNT over the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article. (More...)
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