UnitedHealth Group: Dominant Industry Leader on Sale

UnitedHealth Group (UNH) is a strong franchise that benefits from the increasingly important role that managed care plays in the health care industry. The advantages of scale and local market share leadership are the foundations behind UnitedHealth’s position. At current prices in the low $30s, the market is severely underestimating the value of this business.

It is one of two dominant publicly-traded managed care companies (Wellpoint being the other). UnitedHealth is ranked #2 in terms of national membership and #1 in terms of revenue, enabling it to benefit from these benefits of scale. Scale matters in managed care as a large supplier base of doctors, specialists and hospitals makes it more worthwhile for new individuals to become members. As the plan grows its membership, it increases its power to control costs over its suppliers, as they have to contract with the plan in order to access the growing member base. The lower costs that come from these measures help to moderate premium rate growth, making the plan even more appealing to prospective members.

UnitedHealth also has significant local market share. Unlike many other national businesses, managed care success comes from high local market share as well as national market share. Managed care plans need high local market share so that they can effectively control costs. A handful of major hospitals and dominant medical practices tend to provide services in a given market. When a managed care company has high local market share, it becomes imperative for those providers to join its network so that they can access local members. UnitedHealth has a top 5 market share in 36 states (second only to Aetna), and an industry-best top 2 market share position in 15 states.

A discounted cash flow analysis (the present value of the sum of all of the free cash flow expected in the future) suggests that UNH is worth at least $70 today versus its recent quotations in the low $30s. The stock currently trades at 9 times the expected consensus 2008 earning per share of $3.57, well below historical averages closer to 15 or 16 times.

Disclosure: Author holds a long position in UNH stock

Comments

[jotenn:]

I hope you are right. I have been long UNH for some time and am well into the red. UNH needs to convince investors it can deliver profits into the future.

2008 Jun 13 09:00 AM

[prairiedog555:]

What impact will the Democratic health care reform have on UNH and health care industry in General?
It looks to me that a Dem win is likely.

2008 Jun 13 09:10 AM

[Lonnie Deve...:]

New membership trends have not been encouraging and large acquisitions to boost membership are pretty much out of the question now on anti-trust grounds. If anyone wants my shares for what I paid, they're welcome to them.

Colonel Lonnie Devereaux

2008 Jun 13 10:24 AM

[Paul Price:]

From today's price UNH is likely to generate huge gains.

The valuation has never been nearly this cheap based on all current estimates.

Berkshire Hathaway added to its holdings in the March quarter and held 6,400,000 shares as of March 31, 2008.

2008 Jun 13 10:39 AM

[scearybeary:]

As Buffet alway says, it's the long time prospect of a business model that counts. UNH is likely to be around for the next 20 -30 years. Of course it is more favorable to pick 'em up cheap.

2008 Jun 13 11:18 PM

[Fighting Yoda:]

United is not doing well. It is losing business - several big member (employers) have deserted it, its provider network is shrinking. Getting a very bad rap for customer service, claim delays. All result of bad mergers etc. It grew with mergers- dying with it. Its valuation/profitabilit... would come significantly down. Will not recommend buying (or holding) UNH.

2008 Jun 15 03:36 PM

[icandoitdon:]

one reason united is cheap is because of some degree of balance sheet fear (so says credit suisse). health insurers hold lots of short term cash that could be parked in questionable assets....CDOs, etc. this stock is incredibly cheap and just got cheaper this morning.

2008 Jun 19 09:31 AM

[Where the f...:]

There is lots of talks, even Cramer made his guess. But so far the company has been steadily growing its business, EPS grows with nice rate. About a year ago same story was happening to ARO and COH, both were underevaluated, then both grew about 40% in just few months. Both were down on 'fears' and not on real numbers. From numbers, current conservative (!) share value is 38-40$. Good time to buy if you're ready to wait for 2-3 years and double your money.

2008 Jun 19 03:37 PM