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Business Introduction & Background

U.S. Physical Therapy (USPH), founded in 1990 and based in Texas, is the third largest physical therapy company in USA. It provides pre- and post-operative care for a variety of orthopedic-related disorders, sports-related injuries and also rehabilitation of injured workers. Besides this, the company also manages several physical therapy facilities for third parties. Each of USPH's clinics are directed by a licensed physical therapist.

The company has 425 clinics in 42 states at the moment, as shown in the slide below. The slide was from the USPH Investor Presentation dated 25th February 2013.

(click to enlarge)

Courtesy of USPH Investor Presentation

Snapshot

Price (08.04.2013)$24.28
Market Cap$293.06M
Income (Trailing 12-mths)$17.93M (P/E: 16.19)
Sales (Trailing 12-mths)$252.1M (P/S: 1.16)
Book Value Per Share (BVPS)$9.84 (P/B: 2.46)
Return On Equity (ROE)19.39%
Debt/Equity Ratio0.15
EPS Growth Past 5 Years12.72%
EPS Growth Next 5 Years (est.)11.25%
Current Ratio2.78
Dividend$0.40 (1.64%)
Payout Ratio26.67%

Review Of Past EPS Growth

U.S. Physical Therapy has delivered very impressive earnings over the past 10 years, having grown by 9.8% annually over the past 10 years and 12.7% over the past 5 years. This includes its only two EPS decreases over the last decade, one in 2004 and the other in 2006. Although this is the case, this growth could be attributed to the fact that it is a small cap, and also that it had made a number of acquisitions over the period, which I will elaborate on later.

YearEPS ($)Growth
20030.61-
20040.53(-13.1%)
20050.7643.4%
20060.70(-7.9%)
20070.757.1%
20080.8310.7%
20091.0020.5%
20101.3232.0%
20111.35*2.3%
20121.5111.9%

*The EPS number for 2011, supposedly $1.75, was actually $1.35, as it was adjusted for a gain of $4.8 million related to a purchase price settlement of an outpatient physical therapy group.

Although the company has strong past growth, what is past is past, now we will talk about some sources of future growth.

Future Growth

Firstly, favorable demographics will result in an earnings increase for the company. For example, the number of Americans aged 65 and above has been growing over the past 50 years, and is estimated to grow further into the future, especially the number of Americans aged above 85, as shown in the diagram below from the US Census Bureau. Therefore, it would be reasonable to expect a sustained growth in the number of patients seeking or requiring treatment in the future.

(click to enlarge)

Courtesy Of The US Census Bureau

Although this is the case, senior citizens are not the only ones who may need treatment. This can be seen through the following quote on the company's website, which show that some of the injuries may not be only caused by old age. It can also be caused by exercise or other accidents, which can also happen to younger people:

The most common conditions treated with physical therapy and rehab are lower back pain, spine, shoulder and rotator-cuff injuries, knee disorders as well as sprains and strains of various types.

The young and middle-aged, who may now stick to a frequent exercise schedule after realizing the need to keep fit, may also drive demand for such services - as many will inevitably hurt themselves while exercising.

Secondly, the company has a strategy for growth, as shown in the slide below. I will also elaborate on some of the points later.

(click to enlarge)

Courtesy Of USPH Investor Presentation (25/2/2013)

  • Drive organic growth through occupational and physical therapy clinic openings.

This simply means opening more clinics under brand names that the company already has. Having only 425 clinics in 42 states, the number of clinics per state on average is only around 10, which provides the company with a tremendous amount of potential for growth in terms of the number of clinics across the USA.

  • Maximizing profits through efficiency & higher clinical productivity.
  • Acquiring other clinics to supplement organic growth.

The company has acquired many other smaller clinics over the past few years, with one of the most significant being 52-clinic Star Physical Therapy a few years back. In addition, the physical therapy industry in the USA is highly fragmented, with no single corporation owning more than 6% of market share (and USPH is the third largest company, not even the largest, which means that it does not even have 6% of the market share), giving the company a lot of opportunity to grow further by acquiring new companies. Of course, one must also bear in mind that acquiring other companies also has its risks. The slide below shows the newly acquired clinics in 2012.

(click to enlarge)

Courtesy Of USPH Investor Presentation (25/2/2013)

Although it can be seen that USPH acquires many clinics, acquiring other companies is not USPH's only way of growing. It also forms partnerships with physical therapists, either by sharing profits with them or owning the clinic itself. U.S. Physical Therapy states on this page that 70% of the company's clinics were formed this way - by startups. Besides this, the company estimates each start-up clinic to be profitable within 6-12 months.

Thirdly, the company is also trying new initiatives for growth. As stated in this latest full-year 2012 conference call dated March 7th, 2013:

Next, we have a new orthopedic home care initiative that is moving forward, which we believe will open us up to some patients that we might not otherwise get, allowing us to see them for a few visits in the home generally following bigger orthopedic surgical procedures within a rapid transition into the clinical setting.

This is one of the new initiatives the company have been taking to try and increase revenues. I believe that, if they continue upon this track of constantly innovating and testing out new methods for growth, the company will prove to be a great investment over the long term, especially since it is still in its early days.

Management & Shareholder Value

The slide below shows a few of the company's executive management officers. As seen in the slide below, this team of management started leading the company since late 2003-early 2004, after a management reshuffle when CEO & Founder J Livingston Kosberg stepped down as CEO. He has remained a board member ever since. The company has done very well in terms of revenue growth just through these 8 years. From fiscal year 2004 till now (fiscal year 2012), the company's revenue has increased from $111.71M to $254.8M, representing an impressive 10.9% growth per annum since they assumed their positions.

(click to enlarge)Courtesy Of USPH Investor Presentation (25/2/2013)

In addition, current insiders (management & board members) own a total of about 4% of USPH stock float, which equates to approximately $11.78M worth of shares. I find this a benefit, as it ensures that the interests of its management are in line with its shareholders, and that management would strive to govern the company to the best of its abilities. As shown here, the two biggest holders, Vice Chairman Daniel Arnold and CEO Chris Reading owns 119,654 shares (approx. US$2.90M) and 87,211 shares (approx. US$2.11M) respectively.

In terms of creating shareholder value, the company has also put in effort to do so, even though it is a small corporation. If one compares the company's dividends to its other competitors, the dividend would look like a great bonus in itself, even though its 1.64% dividend yield is by no means high. Select Medical (SEM), the largest company in the industry, does not pay a dividend at all.

The company's dividend growth rate over the past 2 years have also been rather impressive. In 2011, the company initiated a $0.32 per share dividend, and in 2012 increased dividend payments to $0.36, representing a 12.5% increase. In fiscal year 2013, the company has announced for dividends to be increased further to $0.40 per share, representing another 11.1% increase.

The chart below shows U.S. Physical Therapy's past dividend payments.

(click to enlarge) Financials

1. Debt

The company has maintained a record of having a rather low amount of debt over the past 10 years. At the moment, the company has a meager $17.58M in debt, which represents around 6% of its current market capitalization and a debt/equity ratio of 0.15 (a decrease from 0.23 in fiscal year 2011). These numbers are fabulous in my view, especially that its debt/equity number is below my personal limit of 0.5.

This shows that the company is earning enough to not consistently rely on debt to expand itself. The debt/equity ratio, on the other hand, shows the proportion of equity and debt the company is using to finance its assets, and the higher the ratio, the more debt, rather than equity, is financing the company. A high level of debt compared with equity can result in volatile earnings and large interest expenses.

The table below shows the company's debt and debt/equity numbers over the past 10 years:

YearDebt ($)Debt/Equity RatioYearDebt ($)Debt/Equity Ratio
200383,0000.06200812.41M0.17
200400.002009400,0000.02
2005483,0000.0120105.75M0.06
2006797,0000.02201123.78M0.23
20077.96M0.13201217.58M0.15

2. Book Value Per Share (BVPS)

The company has also seen a rapid increase in BVPS over the past 10 years, from $3.90 in fiscal year 2003 to $9.84 today, representing a reasonable 9.8% growth rate per annum over the past 10 years. The BVPS value is calculated by subtracting all liabilities from all assets (shown as total equity on the balance sheet), then dividing it by the total number of outstanding shares. A growing BVPS number ensures that the company is increasingly worth more over the years. The table below shows the company's BVPS value over the past 10 years.

YearBVPS ($)YearBVPS ($)
20033.9020086.85
20044.2120097.46
20054.4920108.93
20064.7520119.06
20075.9620129.84

3. Balance Sheet

First, USPH's assets grew much faster than its liabilities over the past three years, as shown in the table below. From fiscal year 2008 to fiscal year 2012, the company's total assets had increased from $118.25M to $171.71M, an increase of $53.46M over five years. On the other hand, its total liabilities had increased from $36.64M to $54.39M, an increase of merely $17.75M over the past five years.

In addition, the company had evidently made efforts to reduce its total liabilities in fiscal year 2012, with the number declining $1.81M from 2011 to 2012.

Fiscal YearAssetsLiabilities
2008$118.25M$36.64M
2009$111.43M$24.08M
2010$140.86M$36.90M
2011$163.25M$56.20M
2012$171.71M$54.39M
Growth Over 5 Years$53.46M$17.75M

Second, USPH has more current assets than current liabilities. As of the end of fiscal year 2012, it had $45.32M in current assets and a mere $16.31M in current liabilities. This is a good sign as the company is able to pay off its short-term liabilities if it is obliged to pay all of them off at one time. The company had also $11.67M, which equates to around $0.98 per share, in cash as of the end of fiscal 2012. The table below shows USPH's current assets and current liabilities over the past 3 years.

Fiscal YearCurrent AssetsCurrent Liabilities
2008$38.72M$14.61M
2009$33.02M$14.76M
2010$39.28M$14.23M
2011$45.67M$16.32M
2012$45.32M$16.31M
Current Ratio (Current Assets/Current Liabilities)2.78 (Very Healthy)

Third, USPH has no preferred stock, which is a good sign for the company and its shareholders - it does not need to pay extra special dividends, which would only drain its cash reserves, which can be used for other operations. A company that has preferred stock also shows how cash-strapped it is to have to borrow money from its shareholders, technically, at higher interests than normal (being obliged to pay special dividends to shareholders).

Valuation

U.S. Physical Therapy looks like a good buy according to its valuation at the moment. Trading at around 16.2X earnings and 14.5X forward earnings at the moment, it still makes sense to take a position, with its 12.7% past 5 years EPS growth and its estimated 11.25% growth in EPS over the next 5 years. In addition, with its 5-year average P/E at 15.71, as shown here, it is not severely overvalued at the moment.

-Basic Calculations Using Historical P/E Ratio And EPS

USPH has a 2012 EPS number of $1.51 and an estimated EPS growth rate of 11.25% over the next five years. Taking a more conservative 10.5% growth rate, the company will have an EPS number of $2.49 in 2017, after five years.

YearEPS ($)
0 (2012)1.51
1 (2013)1.67
2 (2014)1.84
3 (2015)2.04
4 (2016)2.25
5 (2017)2.49

Assuming that the stock's price reverts to its average P/E of 15.8 in 2017, the company's stock will be worth $39.34 per share, which equates to a 10.2% growth in capital per annum over the next five years (if one buys today), which is a good return. In addition, all the dividends shareholders will get over the next 5 years will only add more color to the capital return shareholders will receive.

Key Risks & Flaws

1. Natural Disasters

Natural disasters, such as Hurricane Sandy, can have an impact on the company's revenues. For example, the company mentioned that their EPS took "an estimated $0.02 hit from Hurricane Sandy" in October 2012. In addition, they also mentioned that same-store revenue numbers were also hit by the Hurricane. Here is what CFO Lawrence McAfee mentioned in the latest 2012 full year conference call dated 7th March 2013:

Same-store revenue visits and the average net rate per visit were flat for the period. Visits would have been higher if it were not for Hurricane Sandy, which impacted more than 50 of the company's clinics.

As natural disasters may get more frequent and more severe, as shown here, the company's revenues will continue getting impacted by natural disasters going forward.

2. Reliance On Medicare & Medicaid

About 25% of the company's revenues comprises of Medicare and Medicaid, as shown in the diagram below.

This is not a good thing, as an adjustment in the regulations (for Medicare/Medicaid) by the US Government would impact on its revenues and earnings. This is exactly what happened. The American Taxpayer Relief Act of 2012, enacted in January 2012, included the reduction of reimbursement for physical therapy services provided to Medicare patients. (Effective April 2012) The new law now has Medicare Multiple Procedure Payment Reduction (MPPR) standing at 50%. More information about MPPR can be found here. The company has estimated the impact on its 2012 EPS to be approximately $0.18 per share.

(click to enlarge)

Courtesy of the USPH Investor Presentation (25/2/2013). As shown, colored in maroon, 25% of the company's revenues are made up by Medicare & Medicaid

In addition, the sequester cuts went into place on March 1st, 2013, and this calls for another 2% cut in Medicare. The company projects the effect on EPS to be another $0.04 this fiscal year.

Conclusion

Overall, U.S. Physical Therapy looks like one great buy over the long term, with a host of merits. Although it has a few flaws, I believe that its merits make up for its flaws and make the company a favorable investment for the long run. With great fundamentals, consistent, fast growth and favorable prospects in place, and an extra dividend to top it up, U.S. Physical Therapy looks like a stock one can get physical with, and rely upon over the long term.

Source: U.S. Physical Therapy: Get Physical With This Fast Growing, Fundamentally Strong Small Cap