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On Oct 9, 2013, we downgraded our recommendation on Tenet Healthcare Corp. (THC - Analyst Report) to Underperform from Neutral following the mixed second quarter results.

Why the Downgrade?

Estimates for Tenet Healthcare, have been declining ever since it reported preliminary second quarter results on Aug 6. Tenet Healthcare’s second-quarter earnings came in at 66 cents per share that missed the Zacks Consensus Estimate of 69 cents per share by 4.3%. However, results surpassed the year-ago quarter’s earnings of 41 cents per share by 61%.

Following the release of second quarter results, the Zacks Consensus Estimate for 2013 has gone down 2.2% to $2.25 per share. With this reduction in Zacks Consensus Estimates for 2013, this healthcare services company now has a Zacks Rank #3 (Hold).

Tenet Healthcare has a high level of uncollectible accounts and rising bad debts as it caters to a large number of uninsured and underinsured patients who have high burden of co-payments and deductibles. The first half of 2013 also suffered the same fate that more than offset the improvement in collection rate within self-pay accounts.

Moreover, the inpatient volumes of Tenet Healthcare has also been declining since the beginning of 2013 and a near term improvement to this situation is unlikely owing to a decline in adjusted admissions. This is also reflected in the company’s projection about inpatient volume for 2013 (a decline of 2%–4%) and the subsequent lowering of 2013 adjusted EBITDA guidance.

The elevated levels of operating expenses added to the concerns. Particularly, physician employment expense coupled with salaries, wages and benefits, supplies influenced the heavy expenses. Until physician employment are streamlined and patients fill out in their office practices, there would be no improvement in the scenario and Tenet Healthcare also expects to witness rising expenses through 2013. Furthermore, high financial leverage and overhang of lawsuits remains a matter of distress for the company.

Other Stocks to Consider

Among other healthcare companies, MEDNAX Inc. (MD - Snapshot Report), Avita Medical Limited (AVMXY), and Acadia Healthcare Company Inc. (ACHC - Snapshot Report) with a favorable Zacks Rank #2 (Buy) are worth considering.

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