After a shocking set of interim results were released two weeks ago, Lifehealthcare shares fell off a cliff, losing 45% of their value in the past month to a low of $1.28.
Shares subsequently recovered by soaring 15% on Friday to $1.52 as some investors took advantage of the low prices to top up their holding – but is the company really good value, or could things deteriorate further?
(For full disclosure, I had a buy order in at $1.28 – which I've now cancelled – but missed out on shares by a whisker)
The 'Buy' case
- Defensive healthcare demand is a 'macro' tailwind for the company, supported by a robust health insurance system
- Room to grow through acquisition in a fragmented market
- Each acquisition expands the company's footprint and allows cross-selling as well as expansion into adjacent segments
The 'Sell' case
- Funding situation is unattractive with poor cash flow and rising debt, as well as potentially paying a (reduced) dividend through debt
- Potential for government review into healthcare to impact prosthetic pricing, which would hurt a major source of high-margin sales
- Blowout in operating costs including working capital suggests business is not particularly scalable
If we double Lifehealthcare's recent Net Profit After Tax to approximate full-year earnings, this suggests shares are decent value at today's levels, trading on a Price to Earnings (P/E) ratio of around 10, substantially below the market average.
At least, it looks as though the potential for a hit to profitability from changes to the healthcare system is already priced into the company. Management has implied they do not believe Lifehealthcare's prosthetics business is at risk from this review, as a result of media reports that have 'misrepresented implant price inflation and overestimated public / private price variation'.
Lifehealthcare is small, and even at share prices of $3 apiece the company has a market cap of only ~$130 million. This means that additional expenses like the recent $1.1m in acquisition costs can have a big impact on profitability. Looking through the results to future periods, shareholders might expect Lifehealthcare profits to experience a rebound as these one-off expenses work their way through the business.
Shareholders might also take some heart from management's statement that $3.8m of the $8.7m increase in working capital costs was to 'support stronger second half pipeline'. A further $1.1m came from higher receivables from the recent MVA acquisition.
Interestingly, similar business Paragon Care Ltd. (ASX: PGC) also reported poorer cash flow during the half, which it attributed to timing differences and an increase in inventory expenses, just like Lifehealthcare. This could indicate a wider industry trend rather than poor performance at Lifehealthcare.
Nearly all businesses promise improvement after a disappointing set of results, but it currently appears that much of the downside is already priced into Lifehealthcare shares. Based on the known facts and management statements, Lifehealthcare could be set to see improving business performance over the next 12 months or so, and I am looking to top up my holding, when Foolish trading rules permit.
