NHC Stock: Finally Some Upside, Hold For Further Valuation Growth

Investment Overview

I last covered National Healthcare Corporation (NYSE:NHC), the Murfreesboro, Tennessee-based provider of senior health care services, in a note for Seeking Alpha back in May 2020 – nearly four years ago.

At that time, National Healthcare stock had fallen to what I considered to be an artificial low, of ~$60 per share, down from an (at that time) all-time high price of ~$86 per share.

I felt that NHC stock would recover from a pandemic induced market sell-off thanks to its strong fundamentals as a business – growing revenues, long-term profitability, almost no debt, a good dividend payment, and a base of over 100 skilled nursing or assisted living facilities.

What ultimately happened is that nearly four years on, NHC stock has indeed risen in value – by over 50% since my note was published, and by nearly 70% on a total return basis, compared to the S&P 500’s 77% gain over the same period.

The vast majority of that share price growth has come in the past few months, however – as recently as October, the stock price, which is over $90 at the time of writing, traded at $64, up less than 10% since my note, and prior to that, in mid-July, as low as ~$57 per share. In fact, between May 2020 and December 2023 the stock price never achieved a value greater than $80.

As we can see above, NHC has continued to grow revenues in every year since 2020, although operating income has been dwindling, falling in every year between 2013 and 2021, which is clearly not an encouraging sign for investors.

As above, although net income spiked to $139m in 2021, this was due to a one-off event – the acquisition by NHC of the remaining interest in Caris Healthcare, which “provides hospice and palliative care to over 1,200 patients per day in 28 locations”, according to a press release issued at the time of the purchase, in June 2021. According to NHC’s 2022 10K submission/annual report:

In June 2021, a gain of $95,202,000 was recorded on the acquisition of the remaining ownership interest of Caris. We previously held a noncontrolling interest in the partnership. Upon acquiring the remaining ownership interest in Caris, we valued the business and our previously held equity position (75.1%) based upon Caris’ fair value at the acquisition date.

If we attempt to value NHC’s business on an historic price to sales basis, we can say that the company’s current market cap valuation of $1.38bn looks a little low, based on a P/S ratio of ~1.34x – in other words, NHC earns nearly as much money in a single year than the market says it is worth as a business, which the market usually views as a good sign.

If we consider price to earnings, however, the picture changes. The company’s earnings per share in 2022 – essentially whatever money is left after all costs and expenses, tax and interest are deducted – net income – divided by the share count – was $1.46 in 2022. Take the share price – presently $90, and divide it by $1.46, and we have a price to earnings ratio of 61x.

That is a high ratio, that generally indicates one of two things – either the market is expecting explosive growth in revenues and profitability due to a new company development, hence it is prepared to pay a higher price for shares, or, simply that the company is overvalued – it may earn a lot of revenues, but the costs of earning those revenues are somewhat prohibitive.

National Healthcare Corporation In 2023 – Good Year Or Bad?

When assessing the valuation of any company, it is a good idea to consider past, present, and future, so, having considered past performance of NHC, let us now consider the present – for example, the company’s next earnings announcement, which will take in Q4 and FY 2023 performance, and will be shared in the next few weeks. NHC hasn’t announced an exact date and time for the earnings release.

In Q3, NHC shared data on performance across the first three quarters of 2023. Revenues came to $841m, up ~2.5% year-on-year, from $821m in the prior year period. Total costs and expenses rose incrementally, to $804m, up 0.75% year-on-year, but income from operations rose to $37m, up 62% year-on-year.

Income before tax rose $52m, versus $19.8m in the prior year period, but NHC paid $14.75m in taxes, versus $5.4m in the prior year, so ultimately, net income increased from $14.4m in 2022 to Q3, to $37.3m in 2023 to Q3 – a gain of 159%.

While the percentage gain sounds impressive, and translates to an increase in earnings per share from $1.04 in 2022, to $2.51 in 2023, a +140% gain, if we assume Q4 earnings per share (“EPS”) are an average of the first three quarters, and assume a full year EPS figure of $3.35, this translates to a more impressive forward P/E ratio, which would be ~26x – a figure I would take to mean a business is valued fairly.

In Q3 only, NHC was able to post EPS of $0.68, versus $(0.16) in the prior year. In terms of the business itself, in its Q3 earnings press release, management ascribes improved bottom-line performance to the following factors:

The increase in non-GAAP earnings for the quarter ended September 30, 2023 compared to the third quarter of 2022 was primarily due to the continued occupancy increase in our skilled nursing and assisted living facilities, skilled nursing per diem increases from some of our government payors, and the continued reduction of nurse agency staffing expenses within our operations.

All of these factors appear to be undeniably positive developments – NHC’s buildings have fewer empty rooms earning no revenues, is commanding higher fees for its staff’s services, and is spending less on administering those services. The Q3 2023 10Q submission/quarterly report provides more detail:

The total census at owned and leased skilled nursing facilities for the quarter averaged 88.1%, compared to an average of 83.7% for the same quarter a year ago. Overall, the composite skilled nursing facility per diem increased 7.6% compared to the same quarter a year ago. Our Medicare per diem rates increased 3.0% and managed care per diem rates increased 14.0% compared to the same quarter a year ago. Medicaid and private pay per diem rates increased 7.9% and 6.7%, respectively, compared to the same quarter a year ago.

In terms of buildings managed, NHC has also been shuffling its pack. The 10Q reveals that it ceased to operate seven skilled nursing facilities in Massachusetts and New Hampshire in September 2022, while also noting that:

New operations, which include one skilled nursing facility acquired May 1, 2023, three assisted living facilities that we began operating on July 1, 2023, two behavioral health hospitals, two hospice agencies and two homecare agencies, have attributed to an increase of $9,625,000 in net patient revenues for the three months ended September 30, 2023 compared to the same quarter last year.

It is interesting to compare NHC’s portfolio of facilities today, as reported in the Q3 10Q, to four years ago. Today, the company states that:

As of September 30, 2023, we operate or manage, through certain affiliates, 68 skilled nursing facilities with a total of 8,732 licensed beds, 26 assisted living facilities with 1,501 units, five independent living facilities, three behavioral health hospitals, 35 homecare agencies, and 30 hospice agencies.

Back in 2019 the company reported that:

At December 31, 2019, we operate or manage 75 skilled nursing facilities with 9,513 licensed beds, 25 assisted living facilities, five independent living facilities, one behavioral health hospital, and 35 homecare programs located in 10 states.

In summary, NHC’s portfolio appears to have shrunk over the past four years, which introduces a dilemma for investors – can you invest confidently in a business that is not growing?

Certainly, as NHC has, the business is capable of realising operational efficiencies which augment bottom-line performance, but equally, there is no compelling growth story here, and there are only so many operational efficiencies that can be realised – ultimately, you can’t grow the bottom line effectively over the long-term, without growing the top line.

Looking Ahead – Promotion To SmallCap 600 Triggers Gains – Forward Guidance Cloudy

Although performance in Q3, and across 2023, has helped increase NHC’s share price and market cap valuation, the main trigger for gains seems to have been the company’s promotion to the SmallCap 600 Index, which has likely brought NHC to the attention of larger institutions looking to invest money in stable businesses.

On the day the promotion occurred, December 1, 2023, NHC’s share price leapt in value, from ~$77 to ~$87, and continued to rise, peaking at $98 at the end of January this year, before trending downward slightly across the past couple of weeks.

NHC is not a company that shares much information about its business – there are no quarterly earnings calls, investor presentations, or even much in the way of forward guidance. This can be both a positive and a negative. On the positive side, NHC silently rewards shareholders with a reasonably generous dividend payment, which has been raised multiple times in recent years, the most recent hike occurring in April 2023, to $0.59 per quarter.

It is tempting to wonder if management will increase the payout in April this year, also, which would represent a nice fillip for shareholders, and potentially, a good reason to buy stock today.

On the negative side, prospective investors have little insight into the decisions management may make going forward. Is there a genuine desire to grow the business, which is the only way, as discussed, to generate the long-term share price growth investors crave?

What are the headwinds and tailwinds the business is currently experiencing? Who are its clients? Is the company prepared to embrace the “value-based care” revolution in healthcare, that health insurers are using to bolster their income from e.g. Medicare Advantage programs?

We may well learn more when NHC releases its full-year earnings, and perhaps as importantly, its 2023 10K submission/annual report, on or around February 22, which ought to discuss strengths, opportunities, weaknesses and threats in more detail.

Concluding Thoughts – Is National Healthcare Corporation Stock A Buy, Hold or Sell Today?

As discussed in my intro, back in 2020 I was confident that the sell-off in NHC stock was part of a wider market crash, and that under business as usual (“BAU”) conditions, its stock price would recover, and I confidently predicted the company could soon be trading over $100 per share again, a figure justified by the business’ top-line revenues, if not quite by its bottom-line earnings.

Fast-forward four years, and the stock price has only recently recaptured highs over $90 per share, after trading below $80, and often under $60 in the intervening years. I was wrong that the growth would come quickly, but eventually, it has arrived, with an up-listing to the SmallCap 600 index.

What does all this mean for the stock price’s fortunes today? On the plus side, the bottom line has been moving in the right direction in 2023, as operational efficiencies have been realised, and we can make the case that based on most fundamental measures today – price to sales, price to earnings, stability, dividend, debt – the company deserves to be valued at close to $1.5bn, or perhaps higher.

On the negative side, NHC’s business has not really been growing, making it difficult to believe there is major upside potential in the share price. As mentioned, investors tolerate a high PE ratio when they believe major new products, features, or profits are on the way that will transform the business, yet it is difficult to say that with great confidence in relation to NHC, despite its slowly improving performance this year. The company is still substantially less profitable than it was a few years back.

It is tempting to conclude in relation to NHC that while you can’t really lose buying the company’s stock, thanks to its solid business model and competitive dividend, you cannot really win either, as flat growth rarely wins over the market.

Even when we consider the above – sources of funds patients use to fund NHC services – we can see that 33% of all funds received are from Medicare – a potential source of growth, as health insurers embrace “value-based care”, and Medicare Advantage programs allow for greater profitability – while 32% come from Medicaid – an industry that concerns NHC management – as per the 10Q submission:

State Medicaid plans subject to budget constraints are of particular concern to us. Changes in federal funding coupled with state budget problems and Medicaid expansion under the Affordable Care Act have produced an uncertain environment.

Back in 2020, I suggested that discounted cash flow analysis suggested that NHC stock could be worth closer to $150 than $100, and ultimately, despite some red flags – the lack of valuation growth between 2020 – late 2023 – the lack of business growth, and dwindling profitability – I am going to assign NHC a “Buy” rating.

When a company is sufficiently de-risked as NHC is from a valuation perspective, based on revenue generation of over $1bn per annum from a recurring source, and can pay a good dividend, and when there are strongly positive market dynamics in play that offset risks, and signs of improving operational efficiency, I tend to be an optimist.

I don’t see NHC stock slipping as we move into 2024, even after some strong recent gains, whilst a few tweaks to the business model can unlock sufficient profits to support an even higher share price.

Even if NHC, or its management, do not seem to be growth oriented, I am confident that market dynamics will nevertheless make it easier to grow in 2024/2025 than in any year for the past few, pandemic interrupted, years.