“In hospitals, we saw a negative pre-announcement from HCA, its first negative earnings report since Q1 2013, and we also saw a more severe earnings miss at Community Health. This is exceedingly frustrating to us because each company met with the investment community at conferences in mid-September and exhibited no signs of concern or caution regarding the overall environment. Our own industry checks suggested normal operating conditions and gave us no indication or cause for concern. THC has yet to report, but given the extreme share price movements, the company reiterated 3Q15 profitability guidance – despite this reiteration its shares remain 14% lower than prior to the HCA announcement and 48% lower than June 30th.
In a utopian world, all companies would smoothly and soundly meet or beat expectations each quarter. Unfortunately, we have yet to find utopian investments in 15 years that trade at reasonable prices. As you know, we find the hospital industry fundamentally attractive for its overall growth, basic service it provides, industry structure that promotes modest price increases, and the strong opportunities available for capital allocation. During the past 18 quarters during which we have invested in hospitals, there have been 29 significant EBITDA beats (in excess of 4%) and nine significant EBITDA misses (same measure) by and amongst our four hospital holdings. Said differently, in just over half of the earnings reports there is a significant beat or miss. While we understand and accept that there is always timing volatility surrounding admissions and reimbursements, compliance costs and staffing levels, the industry has demonstrated a strong track record of both growth and resiliency across the major hospital chains with 6% organic EBITDA growth over the period, and we expect significant continued EBITDA and free cash flow growth going forward. Furthermore, less than half of this period included the benefits of the Affordable Care Act (“ACA” or “Obamacare”), reflecting the strong and recurring EBITDA growth opportunities driven by demographics, scale and leverage from improving care, quality and reimbursement.
In prior periods, this quarterly volatility was well absorbed by the market, with the exception of HCA in mid-2011 in its first quarter as a returning public company. During the last few months, we have seen peak to trough declines of nearly 60% in the shares of two of our holdings, an unprecedented and unwarranted reaction. We strongly believe that this reflects short-term fears of investor positioning rather than any rational measure of fundamental value, and we will remain engaged with each management team to pursue alternatives for them to create value despite a very weak current equity price. Companies continue to exhibit strong free cash flow and dry powder (for example, industry leader HCA, who repurchased more than 24% of its shares since its re-IPO in 2011, has more than 50% of its market capitalization in dry powder through 2017). With our hospital holdings trading at 6.5x 2017 EBITDA and approximately 9x 2017 earnings, and the coverage expansion from the ACA now proven and accepted, capital allocation opportunities abound.”
Keeping this in mind, let’s take a peek at the key action regarding HCA Holdings Inc (NYSE:HCA).
