The Estia Health Ltd (ASX: EHE) share price has soared 12% to $3.28 in afternoon trading after hitting a 52-week low of $2.18 on Monday.

That’s a 50% gain in the space of 2 and a bit days, suggesting the aged care accommodation provider had been oversold. However, the share price is still down 33.6% in the past week and around 50% lower than the 52-week of $7.84 the shares hit in early December 2015.

It has been a rocky period since, and a rollercoaster in the past month.

On August 29, Estia’s share price crashed 16.7% to close at $4.10, after the company missed guidance on net profit and earnings and reported an outlook that was rather downbeat. That had come after competitors Regis Healthcare Limited (ASX: REG) and Japara HealthCare Ltd (ASX: JHC) had previously met their guidance.

As we reported on the day, the actual results for the 2016 financial year looked fairly reasonable, with revenues up 50% and earnings per share up 16%.

But the big problem for Estia and all other aged care providers is that the government provides most of their revenues through funding via the Aged Care Funding instrument (ACFI). And when the government needs to cut back on its expenses, it’s quite easy to work out where operators like Estia and Japara are making their money and how much they are making.

Already the government has announced a number of cuts to the ACFI, including a number last Friday, which saw Estia’s share price smashed down 30% in early trading on Monday, September 5.

Like pathology and diagnostic imaging providers found when the government tightens the funding tap, aged care providers either face the prospect of having to pass on more costs to their customers, wearing the funding cuts, or a combination of both.

It’s not the only issue the aged care operators face either with several analysts concerned about the companies’ aggressive acquisition strategies, questionable accounting practices and large debt balances.

Foolish takeaway

Investors keen to invest in these companies really need to have a very good understanding of how the companies operate, what the industries’ standard practices are, and where Estia, Regis and Japara fit in that. An understanding of how the ACFI works is also necessary, as well as the ongoing potential for the government of the day to slash funding at any time.

 

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Motley Fool writer/analyst Mike King doesn't own shares in any companies mentioned. You can follow Mike on Twitter @TMFKinga

The Motley Fool Australia has no position in any of the stocks mentioned. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. This article contains general investment advice only (under AFSL 400691). Authorised by Bruce Jackson.