Labcorp: Clinical profits

Posted Dec 8th 2009 4:15PM by Steven Halpern
Filed under: Newsletters, Stocks to Buy, Recession

"Laboratory Corp. of America Holdings (NYSE: LH), which offers 4,400 tests, ranging from routine blood and urine analysis to specialty and esoteric tests," has been added to our buy list," says Richard Moroney.

In Dow Theory Forecasts, he says, "As the country's second-largest independent clinical laboratory, LH enjoys cost advantages that elude smaller rivals. Throughout the recession, it posted higher quarterly sales, extending a growth streak that stretches back to 1998.

Moroney continues, "LabCorp operates in a $52 billion market dominated by hospital-afﬁliated laboratories. LabCorp controls about 9% of the U.S. market, second only to Quest Diagnostics' 14% share.

"The other 5,100 independent labs control 12% of the market, with the rest in the hands of labs afﬁliated with hospitals and physicians' ofﬁces. LabCorp enjoys cost advantages that elude smaller rivals.

"Esoteric testing represents one of LabCorp's most promising growth avenues. Esoteric tests, which tend to be more expensive than other tests, focus on infectious diseases, allergies, identity (DNA testing), and oncology.

"The esoteric business accounts for about 36% of revenue, and LabCorp sees that slice widening to 40% in the next three to ﬁve years. The remaining 64% of sales come from core operations, such as blood analysis, HIV tests, microbiology cultures, and substance-abuse tests.

"In past years, LabCorp has increased sales through acquisitions and organic expansion, placing less signiﬁcance on price hikes.

"Management sees plenty of opportunities to expand its esoteric-testing business and push into new geographic markets through acquisitions. Should proﬁ table opportunities become scarce, LabCorp is expected to push harder for price increases.

"An exclusive 10-year contract with UnitedHealth Group generates about 9% of LabCorp's annual revenue. LabCorp received an estimated 7% price increase from UnitedHealth in October, well above last year's 4% hike.

"The new rate eases fears that big managed-care contracts are tied to inﬂ ation benchmarks and also suggests that LabCorp may have the leverage to squeeze higher rates out of other, smaller clients.

"A couple of challenges could weigh on LabCorp shares. First, high unemployment rates tend to pressure testing volumes because fewer patients are covered by insurance and companies order fewer employee drug tests.

"Second, Medicare payments are slated to fall 2% in 2010, and health-care reform could impose deeper rate cuts. At the same time, a mandatory insurance system would probably make testing services available to more patients. Medicare accounts for about 12% of LabCorp's revenue.

"Consensus estimates, propelled by an increase in LabCorp's proﬁ t guidance, anticipate proﬁ ts will climb 6% to $4.89 per share this year and jump 11% next year. At 15 times trailing earnings, LabCorp trades 9% below the three-year average P/E ratio.

"If the 2010 consensus estimate proves accurate, a return to the three-year average valuation would equate to a stock price of $92 at the end of next year. Despite its operating momentum, the stock appears modestly priced. LabCorp is being added to the Buy List."

Steven Halpern's TheStockAdvisors.com offers a free daily overview of the favorite stock picks and investment ideas from the nation's leading financial newsletter advisors.

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