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HMA: Expected Q2 Numbers, Sale Announced

CYH WOOF

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Health Management Associates Inc. recently revealed expected, unaudited results for the second quarter of 2013 and updated outlook for 2013. In a parallel development, the company disclosed a sellout agreement.

Q2 Results Preview

The company expects second quarter 2013 adjusted earnings per share in the range of 10-11 cents. Adjusted earnings in the quarter exclude interest rate swap charge of about 5 cents. The current Zacks Consensus Estimate is pegged higher at 21 cents. Revenues are forecast in the neighborhood of $1,464 million. The Zacks Consensus Estimate of $1,484 million is higher than the company’s expectations.

Same hospital admissions were down 6.7% while adjusted admissions dropped 2.4% in the quarter due to sustained decline in uninsured admissions and higher observation stays. Health Management expects same hospital net revenue to decrease by about $74 million. This reflects decline in surgeries, higher bad debt, considerable increase in observation stays (up 12%), lower revenue per adjusted admission due to adverse shift in payor mix and the impact of sequestration.

Outlook for 2013

Based on the unaudited second-quarter results and ongoing weakness in admissions, Health Management updated its guidance for 2013. Net revenue (before bad debt expense) is envisaged in the band of $6,800−$7,000 million. This includes the positive impact from the company’s stake in Bayfront Health System. The current Zacks Consensus Estimate of $5,970 million is well behind the company’s expectations.

Health Management forecast EPS from continuing operations in the range of 59−70 cents. However, this does not take into account the interest rate swap expense of $75−$85 million. The Zacks Consensus Estimate, considering the interest rate swap charges, is pegged at 86 cents for 2013.

An Attractive Takeover Target

In a separate story, Health Management and peer Community Health Systems Inc. (CYH - Snapshot Report) disclosed a definitive merger agreement. Per the agreement, Community Health will take over Health Management for about $7.6 billion (including the latter’s debt of $3.7 billion) in cash and stock. The acquisition is expected to complete in the first quarter of 2014.

According to the terms of the agreement, Community Health will acquire Health Management’s issued and outstanding stock in cash and CYH stock. Based on the closing price on Jul 29, the valuation is adjudged as $13.78 per HMA share. This valuation for each HMA share includes $10.50 in cash plus 0.06942 of a share of CYH common stock.

The total cash and stock consideration for the acquisition reflects an 8.3x multiple of trailing cash flow. Management of Health Management asserts that the company will receive a higher multiple than the most recent industry transaction. Following closure, Health Management stockholders will own about 16% shares of the combined entity.

Community Health management expects the transaction to have a neutral impact on its earnings per share in the first year after the completion of the acquisition. Thereafter, the acquisition is envisaged to be considerably accretive to Community Health’s earnings per share.

According to Community Health, the acquisition of Health Management is a coherent effort to gain from the health care reforms in the U.S. (Affordable Care Act) and the attractive industry dynamics. Further, the takeover is a strategic fit for CYH as HMA’s operating structure complements its business. Community Health also expects to extend its geographic foothold in the country on the back of this lucrative buyout.

Our Take

In our opinion, the deal limits the upside potential of HMA stock as it represents a 20.25% discount to the 52-week high share price of $17.28. Our view is also reflected in the market trend for Health Management as the stock price tanked 10.86% on Tuesday as the news failed to boost investor optimism.

Stockholders also believe that the acquisition agreement undervalues the stock. According to Gainey McKenna & Egleston, the deal reflects a discount of almost 8% based on the closing price of HMA stock on Jul 29.  

At $13.30 (closing price on Tuesday), the stock has climbed over 40% higher year-to-date. Based on the closing price, the shares remain 3.5% below the acquisition price tag.

A possible explanation for the takeover agreement might be that of late, it has not been smooth sailing for Health Management as it struggled with lower profits and sluggish market conditions. Rising observation stays remain a cause of concern as it leads to lower same hospital admissions for the company. Furthermore, the quantum of debt on the balance sheet remains sizeable.

Given the preview of the quarterly performance, the second-quarter results might fail to soothe fears. The expected earnings per share and revenues for the second quarter lag well behind the respective Zacks Consensus Estimate.

The company’s operating statistics have been adversely affected over the recent past. We believe that the slowdown in the inpatient business is on account of lower growth in jobs in the concerned markets. Although the acquisition is an effort to gain from the healthcare reforms in the U.S. for the combined entity, we prefer to remain on the sidelines as this consolidation effort is currently plagued by uncertainties.

The stock carries a Zacks Rank #3 (Hold). While we tread with caution for Health Management, we are positive about other industry stocks such VCA Antech Inc. (WOOF - Snapshot Report) and Vanguard Health Systems Inc. . These stocks carry a Zacks Rank #2 (Buy).

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