There is no point in sugar-coating it - 2011 was a disastrous year for home health providers following a terrible 2010. The entire industry is under pressure as Congress cuts Medicare reimbursement and looks to implement new rules and regulations to address and punish prior wrong-doing, while the overall economy applies its own pressures. Although Amedisys (AMED) has been hit hard, patient investors willing to take on the risk may see a multi-year turnaround story unfold here.
What Amedisys Does
Amedisys is the largest publicly-traded provider of home health care and hospice services. Active in 45 states (but focused on the East/Southeast), Amedisys operates over 500 facilities offering skilled nursing, home health aides, physical/occupational therapy, and specialty nursing services.
Two common themes in home health care also dominate the Amedisys story - acquisitions and Medicare. Even with consolidators like Amedisys, LHC Group (LHCG), Gentiva (GTIV), and Almost Family (AFAM) out there, this is still an extremely fragmented industry. There are literally thousands of service providers across the country and even the 50 largest comprise less than 25% of the industry. Although Amedisys has built itself in part through organic growth, acquisition has been a major means of growth in this industry.
As mentioned, Medicare is the other dominant them in the Amedisys story. Home health care is most frequently (but not always) a service demanded by elderly patients and Medicare comprises about 86% of the company's revenue base. Not only does this force the company to abide by a host of regulations, but it also subjects the company to frequent Medicare reimbursement revisions. These "revisions" almost always mean cuts and, like Lincare (LNCR) in respiratory care, Amedisys has had to learn how to adapt to cuts in reimbursement.
A Perfect Storm Of Tight Budgets And Bad Behavior
The home health sector was pummeled in 2010 on the revelation by the Wall Street Journal of far-reaching problems with how these companies conduct themselves and the subsequent announcement of federal investigations. To make a somewhat complicated issue simple, Amedisys and others have been accused of pushing to enroll patients who really didn't need health care services and/or assigning them to therapy they didn't need (to maximize billings).
These issues have already resulted in new rules and will likely lead to fines and settlements. One of the newer rules is that potential home care patients must have a face-to-face visit with an independent physician to confirm the patient's eligibility and need for home care services. When it comes to settlements or fines, that's a big unknown for Amedisys. Rival LHC Group settled with the government on claims relating to the 2005-2008 time period and a similar settlement basis for Amedisys (about 10% of relevant billings) would see a payout approximating $325 million. That said, Amedisys has not been found guilty of wrongdoing at this point.
Tight federal budgets is another ongoing issue for Amedisys and rivals like LHC Group and Gentiva. As mentioned, revisions to Medicare reimbursement rates have been negative for this sector. These companies have already absorbed recent rate cuts of around 3% and further cuts seem to be in store. Unfortunately there is as of yet no established mechanism to negotiate a fair rate of return for these companies (like there is for electrical utilities), but the wording and posture of recent recommendations seems to suggest that so long as industry leaders post double-digit margins, there is room for further cuts.
How Amedisys Can Survive And Thrive
Against that sour backdrop, may be tempting to just write off the entire sector and look at alternatives that have less reliance on Medicare and less regulatory overburden. That is understandable, but perhaps a bit hasty as this company has several positive drivers that shouldn't be ignored.
Amedisys is likely to see ongoing difficulties in enrollment throughout much of 2012 as it adjusts to the new regulations, rate cuts, and realities of the economy. Longer term, though, the population of the U.S. continues to age and the lengthening lifespans means more and more people will need and want some sort of home-based medical assistance. In fact, over the next twenty years there will be 80 million Baby Boomers turning 65 and many of these will be future customers of home care providers.
These tough times today are also pushing the company to do something it has never really done before - focus on costs and adjust its facility footprint accordingly. Amedisys had never before closed facilities, but has recently decided to close 28 facilities and consolidate 23 others. Along with the greater efficiency that companies like Amedisys, LHC Group, and Gentiva enjoy due to their size, this should serve to protect margins in the long run - regulators will be careful not to revise reimbursement such that it completely crushes the smaller independents, so that should allow for some margin leverage in these bigger players.
Reimbursement may also be a slight help to the sector. Medicare is starting to implement penalties for hospitals where preventable readmission rates exceed a certain threshold. This is going to incentivize hospitals to work with home care providers and form partnerships - something that hasn't been much of a help to Amedisys before now.
The Bottom Line
Clearly Amedisys management has to walk a tightrope between a surging potential customer base and the fiscal realities and limitations of the Medicare system. There is also arguably a need for much more transparency in the sector, and even if Amedisys did not engage in illegal activities, they will have to pay for those that did in the form of more regulatory oversight and rules.
All of that said, the Street is expecting very very little from this stock. There is still the risk of a multi-hundred million dollar settlement, but even including that with low single-digit revenue growth and minimal free cash flow conversion leverage suggests that the stock is worth something in the high teens. This year is not going to be easy for Amedisys and the news is likely to be more slanted to the negative (low admissions numbers, ongoing challenges in cutting costs, etc.), but for investors willing to consider the long-term possibilities, these shares could offer real value.