Note: This report contains substantially new material. Subsequent reports will have changes highlighted.
Reason for Report: 2Q07 Earning Updates Prev. Ed.: May 31, 2007
Recent Events
On July 24, 2007, AMSG announced 2Q07 earnings. Highlights of the quarter are:
· Total revenues were $131.7 million versus $118.5 million in 2Q06, an increase of 11.1% y/y.
· Earnings per share were $0.35 versus $0.33 in 2Q06, an increase of 6.2% y/y.
Overview
According to analysts, investors in AMSG should make an investment decision based on their assessment of the following issues:
Key Positive Arguments / Key Negative Arguments· The company is a dominant player in the single-specialty, practice-based ambulatory surgery centers (ASCs) in the United States.
· The company enjoys regional diversification and economies of scale.
· The company is well positioned to fund its operations and future development activities.
· In the long run, AMSG is well positioned to benefit from anticipated consolidation in its key markets.
· The long-term strength of the surgery center industry remains a key driver of AMSG’s growth. AmSurg could continue to experience stable growth attributable to the increase in the aging demographic and favorable industry fundamentals.
· AMSG has been able to drive double-digit earnings growth in the past. With a relatively solid development and acquisition pipeline in place, supported by a strong cash position, AMSG’s growth will continue over the medium term. / · Increased competition from ASCs, hospitals, and physician groups could have an adverse impact on AMSG’s same-store admissions growth and reduce returns.
· AMSG’s comps growth is highly dependent on its physicians, and unplanned departures or vacations can have an adverse impact on results.
· There may be reimbursement pressures from the government and commercial payors, and regulatory and legal inquiries.
· Overpaying for growth is a potential risk for any ASC facing pressure to meet earnings expectations while operating in increasingly competitive markets.
· Approximately 33% of AMSG’s hospitals are concentrated in Florida, Tennessee, and California, exposing the company to potential changes in those local markets, such as increased local competition, Medicaid cuts, increased labor costs, and adverse state legislation.
· In addition, an increase in regulatory oversight could limit growth and heighten risks.
NOTE: AMSG’s fiscal references coincide with the calendar year.
Based in Nashville, Tennessee, AmSurg Corp. (AMSG) is engaged in the development, acquisition, and operation of practice-based ambulatory surgery centers (ASCs) in partnership with physician practice groups in the United States. Its surgery centers commonly perform colonoscopy and other endoscopy procedures in the area of gastroenterology; cataracts, and retinal laser surgery in the area of ophthalmology; knee arthroscopy and carpal tunnel repair in the area of orthopedics; and myringotomy and tonsillectomy in the area of otolaryngology. Each of the surgery centers provides a narrow range of high-volume, low-risk surgical procedures in a single specialty unit. As of July 31, 2007, the company owned a majority interest in 165 continuing centers in operation, primarily in the areas of gastroenterology and ophthalmology. AMSG partners with more than 1,250 physicians in more than 32 states. The company’s practice-based ambulatory surgery centers are outpatient surgery centers generally equipped and staffed for a single medical specialty. Further information on the company can be found at the website: www.amsurg.com.
Revenue
AMSG reported total revenue of $131.7 million in 2Q07 versus $118.5 million in 2Q06, representing y/y growth of 11.1%. The growth in revenue was driven by strong acquisition and development activity. The Zacks Digest average revenue for 2Q07 was $131.7 million (inline with the company reports), an increase of 9.9% y/y. In 2Q07, revenue from same center grew by 3% y/y in line with the company guidance of 3%-4%.
In terms of pricing, the company experienced sequential declines in revenue per procedure, as the company was negatively impacted by the changes to after-cataract laser reimbursement from the Deficit Reduction Act of 2005 (as well as a recent mix shift to gastro-enterology (GI) procedures given its acquisition activity year-to-date. Management estimates that $3 of the reduction in revenue per procedure was attributed to the new Medicare rules, which negatively impacted earnings by $0.01 per share during the quarter. Management expects this to continue throughout 2007.
AMSG completed the reported quarter with 4 centers under development, 2 of which it expects to open in 4Q07, and 8 centers under letter of intent. During 2Q07 the company opened a new GI facility and acquired 2, but sold off a low-growth ophthalmology center for a net increase of 2 facilities.
During the reported quarter management discussed its new direct-to-consumer advertising program, which it expects to roll out over second half of 2007. More specifically, management disclosed following comments on the program; (1) the company will selectively roll out the program in several test markets during 2H07; (2) purpose of the test phase is to gauge current consumer interest and to develop an effective message; (3) this would be more cost effective to the consumer with higher quality service; (4) given the associated expense with a direct-to-consumer advertising approach, management reiterated that the company would be selective in its medium (newspaper, television, etc.) choice, depending on the market.
AMSG expects to add 18-20 centers during 2007, which includes 2 additional centers expected to open in 2007 and 3 de novos (1 of which was added in 2Q07).
Provided below is a summary of revenue as compiled by Zacks Digest:
($ in Million) / 2Q06A / 2006A / 1Q07A / 2Q07A / 3Q07E / 4Q07E / 2007E / 2008EZacks Consensus / $130.0 / $136.0 / $528.0 / $578.0
Digest High / $120.0 / $466.7 / $127.6 / $131.7 / $133.3 / $141.6 / $533.5 / $588.3
Digest Low / $118.9 / $464.6 / $120.1 / $131.7 / $126.5 / $131.3 / $517.1 / $559.3
Digest Average / $119.9 / $465.8 / $127.0 / $131.7 / $129.5 / $135.4 / $524.1 / $576.5
Digest YoY Growth / 18.4% / 11.8% / 9.9% / 13.4% / 13.9% / 12.5% / 10.0%
Digest Sequential Growth / 5.5% / 6.8% / 3.2% / -1.7% / 4.5%
Based on its same-center performance for 2Q07, management has reiterated the guidance for same-center growth in the range of 3%-4% for 2007. Management affirms the revenue guidance in the range of $510 million-$530 million for 2007.
Please refer to the Zacks Research Digest spreadsheet on AMSG for more details on revenue estimates.
Margins
In 2Q07, AMSG reported operating income of $45.8 million versus $43.0 million in 2Q06, representing y/y growth of 6.5%. As per the company, operating margin was 34.8% in 2Q07 (the Zacks Digest average operating margin is 35.0%) versus 36.3% in 2Q06.
EBITDA (after minority interests) totaled $24.6 million (18.6% of revenue) in 2Q07 versus $22.8 million (19.3% of revenue) in 2Q06, an increase of 7% y/y. EBIDTA margin decline by 70 bps y/y, and fell 30 bps sequentially. The shortfall in EBIDTA margin was mostly due to the higher other operating expenses as the company experienced several non recurring expenses (impairment charge and gain on sale of asset) which pressured results by as much as 100 bps. One firm (Raymond James) believes that excluding the non recurring expenses, EBIDTA (after minority interests remains) margins were consistent with the prior year results.
Salaries and benefits were 28.9% of revenue in 2Q07 versus 29.0% in 2Q06, down by 10 bps from the year-ago period. Supply costs were 11.5% of revenue in 2Q07. Other operating expense increased to 21.2% of revenue, up 200 bps y/y from 2Q06. Increase in other operating expense was primarily due to the inclusion of non-recurring expenses. Minority interest expense was 19.7% of revenue, down 100 bps y/y. Decline in minority interest expense is due to the lower level of same store growth reported during 2Q07.
In 2007, management expects the minority interest expense to increase 20-30 basis points year over year.
Provided below is a summary of margins as compiled by Zacks Digest:
2006A / 2007E / 2008E / 2009EGross / 88.3% / 88.5% / 88.3% / 88.3%
Operating / 35.1% / 35.2% / 35.1% / 32.6%
Pre-Tax / 13.4% / 13.7% / 13.6% / 13.5%
Net / 8.2% / 8.3% / 8.3% / 8.2%
Please refer to the Zacks Research Digest spreadsheet on AMSG for more details on margins.
Earnings per Share
Net income from continuing operations in 2Q07 was $0.35 per diluted share (in line with the Zacks Digest average) versus $0.33 per diluted share in 2Q06, representing y/y growth of approximately 6.2%. The earnings per share reported during the quarter include a negative impact of $0.01 per diluted share from the effect of the Medicare Deficit Reduction Act of 2005, which was implemented at the beginning of 2007. AMSG reported GAAP EPS of $0.36 in 2Q07. GAAP EPS includes $0.01 per share of profit form discontinued operations.
Provided below is a summary of EPS as compiled by Zacks Digest:
EPS($ in Million) / 2Q06A / 2006A / 1Q07A / 2Q07A / 3Q07E / 4Q07E / 2007E / 2008EZacks Consensus / $0.35 / $0.37 / $1.41 / $1.51
Digest High / $0.33 / $1.26 / $0.34 / $0.36 / $0.35 / $0.38 / $1.43 / $1.59
Digest Low / $0.33 / $1.24 / $0.34 / $0.34 / $0.34 / $0.36 / $1.38 / $1.47
Digest Average / $0.33 / $1.25 / $0.34 / $0.35 / $0.35 / $0.37 / $1.41 / $1.53
Digest Y/Y Growth / 3.6% / 17.2% / 6.2% / 12.1% / 12.6% / 12.4% / 8.4%
Digest Q/Q Growth / 13.8% / 3.9% / 3.1% / -0.9% / 6.1%
In midweek of July, 2007, Centers for Medicaid and Medicare services (CMS) issued a final rule for ASC reimbursement. The CY08 rates in the final rule are approximately 65% of the 2008 OPPS (outpatient prospective payment system) rates (and about 67% of 2007 rates), up from 62% as proposed by CMS in August 2006. The final rules are to be implemented January 1, 2008, consists of 4 year phase-in period compared to 2 years under the original proposal, which should further lessen the impact to providers. Management reiterated the impact of the final ASC Medicare and ASC/OPPS rules issued in July, 2007. According to one firm (Stifel Nicolaus), AmSurg has the highest Medicare mix and the highest mix of procedures receiving the highest rate cuts, because of its concentration in GI and Opthalmology. AMSG stated that under the new proposal, the rule’s impact would result in an EPS reduction of $0.04-$0.05 in 2008 and $0.04-$0.05 in 2009. After 2009, further reductions in EPS would be negligible due to a CPI (consumer price index) increase beginning in 2010.
The final rule expands access to procedures in the ASC setting by providing ASC payment for approximately 790 additional surgical procedures in CY08, suggesting a potential opportunity to boost volumes over time. One firm (Wachovia) indicated that most of the added procedures were not necessarily practical for the company to perform.
Management reiterated 2007 EPS guidance to be in a range of $1.40-$1.42, including a negative $0.03 impact from the effect of the Medicare Deficit Reduction Act of 2005. In 3Q07, management expects EPS to be in a range of $0.34-$0.35, including a negative impact from the effect of the Medicare Deficit Reduction Act of 2005.
Please refer to the Zacks Research Digest spreadsheet on AMSG for more details on EPS estimates.
Target Price/Valuation
Rating DistributionPositive / 6.3%
Neutral / 81.3%
Negative / 12.5%
Avg. Target Price / $25.72
The average Zacks Digest price target provided by analysts is $25.72 (↑ from the previous report and approximately 0.82% upside from the current price). The price targets range between $23.50 (Wachovia) (↑ to the previous report and approximately 7.88% downside from the current price) and $28 (Stephens) (↔ to the previous report and approximately 9.76% upside from the current price), with a median price of $26.00. Most of the analysts have used a P/E based valuation methodology and EBIDTA based valuation methodology to calculate the target price.
Of the sixteen analysts rating the stock, one had given a positive rating, thirteen have given neutral ratings, and two analysts have rated the stock negatively.
Metrics detailing current management effectiveness are as follows:
Metric (TTM) / ValueReturn on Assets (ROA) / 6.62%
Return on Equity (ROE) / 11.94%
Return on Invested Capital (ROIC) / 7.67%
ROA, ROE and ROIC all lag the overall market averages (measured by the S&P 500) of 8.44%, 21.14% and 12.49%, respectively.
Please refer to the Zacks Research Digest spreadsheet on AMSG for more details on valuation.
Capital Structure/Solvency/Cash Flow/Governance/Other
Cash flow from operations declined 6% y/y to $13.4 million in 2Q07 versus $12.6 million in 2Q06. However, cash flow from operations continues to exceed net income, with cash flow representing 1.2 times of the net income reported this quarter. Cash on the balance sheet was $18.4 million at the end of 2Q07 versus $20.1 million in 4Q06. Long term debt stood at $151.8 million at the end of the reported quarter. Management expects to generate $80 million cash flow from operations during 2007. Management plans to use this cash to pursue acquisitions and pay down debt.