Between September 26th and September 28th, Berkshire Hathaway (BRK.A) purchased 283,403 shares of DaVita Inc. (DVA), in the price range of $100.96-$103.7272. Lately, it has been observed that Berkshire continues to purchase shares, and the latest figures show that the current holdings of Berkshire amount to $10,547,040. DVA has also been reported to be a consensus buy among hedge funds in the second quarter of 2012. DVA currently trades at all time high prices of 16x its forward (2013) earnings.
DVA is a provider of kidney dialysis services, chiefly within the U.S., for patients suffering from chronic kidney failure (end stage renal disease or ESRD). It served a total of 142,000 patients throughout the U.S. 93% of the consolidated net operating revenue was accounted for by the company's dialysis and lab related services, while the remaining was chipped in by other ancillary services, which related to the core business of providing dialysis services.
DVA's biggest competitor is Fresenius Medical Care AG & Co. (FMS). FMS trades at 18.5x its forward earnings, and it is the largest dialysis company in the U.S. DVA does not pay any dividends.
ESRD is an advanced stage kidney impairment which requires dialysis; artificial removal of toxins, salts and fluids from the blood at least three times a week. ESRD is caused by several other diseases such as type -I and type-II diabetes, high-blood pressure and polycystic kidney disease. The federal government, since 1972, provided coverage for ESRD patients regardless of age and financial circumstances. After January 2011, the Congress established a new single bundled Medicare payment rate system. The system features a single bundled payment rate that accounts for inflation adjustment and productivity improvement factors.
The reimbursement program does limit the allowable charge per treatment, but on the other hand, provides industry players with a more predictable revenue stream with its recurring revenue. For the last full year, 89% of the patients were covered by the government programs.
The brain behind the acquisition of large holdings in DVA is that of Ted Weshler. In the previous hedge fund that Weshler managed, his favorite holding included DVA. Some have reason to believe that the dependence on government payments is a negative for the company and the rate they get will depend on the shift to Medicare. In our earlier article on the fiscal cliff, we highlighted that programmed changes, unless changed, will lead to a reduction of $11 billion in Medicare. This change will negatively impact DVA's earnings.
Changing lifestyles and the rise in obesity are followed by unfortunate outcomes, which increase the risk of ESRD. More cases of diabetes and high blood pressure in people are likely to lead to increased cases of ESRD. In the U.S. alone, 8% of the population has diabetes. Furthermore, one in three Americans is suffering from high blood pressure. Given that dialysis is a long-term treatment for kidney failure and the prevalence of its leading causes, we forecast substantial expansion in the dialysis market. The situation for the patients is made worse by the fact that there exists a shortage of kidney donors, which compels patients to rely on dialysis for the rest of their lives.
Currently, the largest market for dialysis remains North America and Asia Pacific and experts predict that the emerging economies of China and India will fuel the demand for dialysis treatment as their economies expand and health care spending in the region increases.
To conclude, given that no cure exists for ESRD and the fact that dialysis provides a steady and recurring revenue stream for the providers of the treatment, coupled with the rising incidence of the leading causes of ESRD, we believe the industry will face substantial expansion in the future. Possible threats to the industry include changes in government-sponsored programs which limit the revenue of these companies.