Hospital Industry Outlook: Rising Baby Boomers to Drive Growth

The Zacks Medical-Hospital industry comprises for-profit hospital companies that provide healthcare facilities through different types of hospitals such as acute care, rehabilitation and psychiatric

These hospitals are engaged in internal medicine, general surgery, cardiology, oncology, neurosurgery, orthopedics and obstetrics, mental health care, and diagnostic and emergency services among others.

Hospital companies receive payments for patient services from the federal government under the Medicare program, state governments under their respective Medicaid or similar programs, managed care plans (including plans offered through the American Health Benefit Exchanges), private insurers and directly from patients.

Let us take a look at the industry’s three major themes:

•    Increasing Senior Population – According to the U.S. Census Bureau, Americans aged 65 or older in the United States, comprising approximately 15.6% of the total population, are expected to increase to 19.3% in 2030 from 15.6% in 2017. Also, due to the anticipated increase in life expectancy of Americans, the number of people aged 85 years and older is also expected to increase to 9 million by the year 2030 from 6 million in 2015.

This trend should drive demand for healthcare services and, consequently, for innovative, more sophisticated means of delivering those services. Hospitals, as the largest category of care in the healthcare market, will be among those impacted most directly by this increase in demand. Also, increase in healthcare expenditure will fuel demand for hospital services. Per CMS, in 2018, hospital care expenditures are projected to have grown 5.1%, amounting to nearly $1.2 trillion. It further estimates that the hospital services category will amount to nearly $1.3 trillion in 2019 and projects growth in this category at an average of 5.7% annually from 2019 through 2026. This growth is expected to continue in the coming years on a surge in healthcare spending, which is estimated to grow by 5.5% in 2019 and 2020, and an average annual rate of 5.7% for 2021 to 2026.

•    Consolidation – Consolidation activity in the hospital industry, primarily through  mergers and acquisitions involving both for-profit and not-for-profit hospital systems, is continuing. Reasons for this activity include ample supply of available capital, attractive valuation levels, the desire to enhance the local availability of healthcare in the community, the need to recruit primary care physicians and specialists, to achieve general economies of scale and gain access to standardized and centralized functions, changes to healthcare models that emphasize cost-effective delivery of service, and quality of outcomes for an entire episode of care and regulatory changes.

•    Labor Shortage – However, the industry continues to face shortage of labor (labor costs form nearly 50-60% of hospital costs) specially relating to nurses. A decline in the number of nurses has led to an increase in hospital readmissions and stretches the length of stay, which has a negative impact on hospital companies. In order to better face the nursing shortage, which is expected to persist through 2025 (according to the Bureau of Labor Statistics), companies are designing their employee benefits to attract and retain nurses. Despite efforts to retain and expand its nursing staff, players will feel a financial pain, as turnover among nurses remains high and there are not enough new nurses entering the workforce.

Zacks Industry Rank Indicates Bright Prospects

The group’s Zacks Industry Rank, which is basically the average of the Zacks Rank of all the member stocks, indicates bright near-term prospects.

The Zacks Medical-Hospital industry, which is housed within the broader Zacks  Medical sector, currently carries a Zacks Industry Rank #103, which places it in the top 40% of more than 250 Zacks industries.

Our research shows that the top 50% of the Zacks-ranked industries outperforms the bottom 50% by a factor of more than 2 to 1.

The industry’s position in the top 40% of the Zacks-ranked industries is a result of positive earnings outlook for the constituent companies in aggregate. Looking at the aggregate earnings estimate revisions, it appears that analysts are gradually gaining confidence in this group’s earnings growth potential. Since January 2019, the industry’s earnings estimate for the current year has gone up by approximately 2%.

Given the industry’s bright near-term view, we will present some hospital stocks that one should hold on to. Before that, it’s worth taking a look at the industry’s shareholder returns and current valuation.

Industry Beats Sector But Lags the Market

The Zacks Medical-Hospital industry has outperformed the broader Zacks Medical sector, but has lagged the Zacks S&P 500 composite over the past year.

Over this period, the industry has fallen 3.4%gained 10.7% versus the broader sector’s declined of 12.5% rise of just 1.3% and the S&P 500’s growth of 2.518.3%.

One-Year Price Performance

Industry’s Current Valuation

On the basis of trailing 12-month EV to EBITDA ratio, which is commonly used for valuing hospital stocks, the industry trades at 7.6X versus the S&P 500’s 11.1X and the sector’s 9.1X.

Over the past five years, the industry has traded as high as 9.1X, as low as 7.1X and at a median of 7.8X, as the chart below shows.

EV/EBITDA Ratio (TTM)

EV/EBITDA Ratio (TTM)

Bottom Line

Focus on expanding footprint and product portfolio through acquisitions, along with cost-saving initiatives, are expected to drive the industry’s growth. The efforts on the part of hospital companies to expand their healthcare network that provides convenience and choice to patients should drive admissions. Investments in technology will increase the efficiency of operations thus leading to superior care at lower costs, which should benefit all sections of the industry.

However, rising labor costs from shortage of nurses and skilled workforce have weighed on the industry’s labor expense and will continue to do so.

Here we present four stocks with a Zacks Rank #3 (Hold) that investors may want to hold on to for the time being.You can see the complete list of today’s Zacks #1 Rank (Strong Buy) stocks here.

HCA Healthcare, Inc. (HCA): This, Nashville, TN-based hospital operates a network of acute care hospitals, outpatient facilities, clinics and other patient care delivery settings. The Zacks Consensus Estimate for 2019 and 2020 EPS indicates year-over-year growth of 6.45% and 8.42%, respectively.

Universal Health Services, Inc. (UHS): This King of Prussia, PA-based hospital company operates behavioral health facilities, acute care hospitals and ambulatory centers throughout the United States, the United Kingdom and Puerto Rico. The consensus estimate for 2019 and 2020 earnings indicates year-over-year growth of 7.24% and 7.75%, respectively.

Acadia Healthcare Company, Inc. (ACHC): This Franklin, TN-based hospital provides inpatient behavioral health care services. It provides psychiatric and chemical dependency services, including inpatient psychiatric hospitals, residential treatment centers, outpatient clinics and therapeutic school-based programs. The consensus estimate for 2020 earnings indicates year-over-year growth of 13.96%.

Tenet Healthcare Corp. (THC): This Dallas, TX-based company provides technology-enabled performance improvement and health management solutions to hospitals, health systems, integrated delivery networks, physician groups, self-insured organizations and health plans. The consensus estimate for 2019 and 2020 earnings indicates year-over-year growth of 27.4% and 16.7%, respectively.

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