Sunday, December 19, 2010

A Small Cap Healthcare Pick

Arguably, small caps are the place to be when the economy gets back on its feet. Notwithstanding any changes to healthcare policy in the coming years, healthcare is a growth industry. Amerigroup Corporation (AGP) is a multi-state managed healthcare company that we think will do will in the future. The Company focuses on serving people who receive healthcare benefits through publically sponsored programs, including Medicaid, Children’s Health Insurance Program (CHIP), Medicaid expansion programs and Medicare Advantage.

On December 1, 2010, AMERIGROUP Corporation, through its subsidiary, AMGP Georgia Managed Care Company, Inc., received notice that Amendment #9 to its State of Georgia Department of Community Health contract for the provision of HMO services to Georgia Families is effective following approval by the Centers for Medicare & Medicaid Services.

The most recently reported quarter closed September 30, 2010. Membership increased to approximately 1.9 million representing an increase year-over-year and from the prior quarter. Third quarter revenues were $1,494.9 million, a 14.6% increase y-o-y revenues of $1,304.3 million. The Company repurchased approximately 1.9 million shares of common stock during the quarter for approximately $70.5 million.

The Company has a strong balance sheet. Cash and ST investments totaled $741.1 million while LT debt is $243.1 million. The equity to capital ratio is 82% confirming the low long term debt ratio. The current ratio is 1.2X, about in-line with the industry. LT debt to free cash flow is 1.2X. LT debt to working capital is 145.6%; somewhat higher than we usually like to see.

AGP is a consistent generator of free cash flow. For the trailing twelve months ending 09/10, the Company reported $4.23 per share in free cash flow. The seven year growth rate for free cash flow is flat to down slightly. The Company consistently reports positive operating profit margins. The seven year growth rate for earnings per share from continuing operations is 13.8%. Looking forward, the earnings are projected to growth at the rate of 16.0%. Sales have grown over the past seven years at the rate of 23.9%.

There are sixteen analyst EPS projections. The projections range from $4.63 to $5.10 with a mean of $4.90 for FY ending 12/10. Because of the uncertainty surrounding healthcare reform, seventeen analyst projections forecast a decrease is earnings. The projections range from $3.60 to $4.12 and average $3.87. In the last two quarters, actual reported earnings were more than 100% higher than consensus estimates.

AGP’s valuation metrics appear to be low. The P/E ratio is about 10X vs. 14.5X for the industry. Price to book is aligned with the industry at 2.0X.  The price to sales ratio is a low 0.40X and price to free cash flow is 10.9X. The PEG estimated EPS and growth is 0.6X.

By most of the metrics we use, Amerigroup is a strong company with excellent prospects. We think it is well positioned.

Disclosure: Author has a long position in AGP.
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