Allied Healthcare: Looking at past transactions in the sector

I discussed Allied Healthcare a few weeks ago as an interesting investment opportunity.  Other than being cheap on an absolute basis, I mentioned a transaction that took place in January 2011 that gave me confidence that the value was much higher than where the shares are currently trading.

I said:

Acromas, a company looking to consolidate the homecare industry through its Saga subsidiary, recently acquired Nestor Healthcare Group, a competitor of Allied Healthcare, for £124m or £136m including debt.  Nestor generates more than two thirds of its revenue from social care of patients in their home and about a third from primary care of patients.  Three private equity groups own Acromas: CVC Capital Partners, Charterhouse and Permira.  Below is a table comparing the valuation of the buyout based on annualizing the first six months of Nestor’s results in 2010.  The initial offer was made in August 2010.  The deal closed in January 2011 offering an optimal comparison for Allied.

Nestor Healthcare*    AHCI    Implied AHCI Share Price Upside 
Price/Sales      0.8          0.4    $4.54                                      89%
EV/EBITDA   11.5         5      $4.32                                      80%
EBITDA         10.5         8      $3.22                                      34%
P/E                  16          12      $3.20                                      33%
EV/E               18            8     $4.40                                        83%

I did some additional digging, because a recent investor presentation (they don't have it on the website and you have to email investor relations for a copy of the most recent one which is odd and annoying.  They also stopped publishing transcripts of conference calls a few quarters back, so I had to listen to several hours of audio for what could have taken 30 minutes of reading during my research) had this chart in it:

 

So I checked out those companies to see what was up with them. This is what I came up with those who have been involved in fairly recent acquisitions:

Mears (Careforce) is a roll up that started with a company called Careforce in 2007 for £23.8m, but went on to acquire 8 more domestic care companies for a total of £10.6m.  The Careforce segment of Mears did £54.6m in revenue and £3.1m in operating profits for 2008.  The buyout valuation to follow is based on full year 2008 results in order to use a full year of consolidate financial data and uses an implied purchase price of £34.4m.  Careforce only makes up 15% of Mears’ operating profit, so the current market valuation doesn’t reflect the value of the division.  The earnings calculation is derived from operating profit taxed at 35%.

Housing 21 (Claimar) is also a roll up of care providers.  Claimar was a debt laden roll up that was then bought by Housing 21, a non profit for £19.5m with £21m in net debt.  The acquisition was announced mid 2009, and full year 2008 figures are used in the comparison calculation.  The company reported £2.4m in operating profit and £.5 in net profit on £52.6m in revenue.

As you can see, some personal judgment was involved with the calculations so they aren't perfect.  I tried to explain my steps so that you can see I'm not going out of my way to produce overly optimistic takeover valuations.  The Housing 21 valuation is really only good for the P/S ratio, as the company was especially debt laden relative to the others.   If you were to assume Claimar was debt free and operating profit was taxed at 35%, the company would have earned £1.5.  If you still use the same £19.5m purchase price, the company was bought for 13x earnings, which is still higher than where Allied trades without even accounting for the cash on the balance sheet.

Talk to Andrew about AHCI

Allied Healthcare International, a cheap international company

Allied Healthcare International (AHCI) is interesting company.  It’s a UK company that does no business in the US but only has a listing on the NASDAQ.  As a result of the exchange rate of GBP:USD, earnings and revenue seem a lot more volatile than they really are.  The company is cash rich and a consistent earner as a result of operating on 3-5 year contracts.  The sector it operates in is going through a period of consolidation and recent buyouts have been at valuations much higher than the current price of Allied.  The company is a consistent earner, has a strong balance sheet, generates high returns on capital, is scalable, and is benefting from many trends in the UK healthcare sector, economy and demographics.

Business Overview:
Allied Healthcare is a provider of domestic healthcare staffing.  They get contracted to provide the staff for home visits to elderly and special needs individuals to assist them with basic living functions such as bathing and dressing through 115 branches around the UK.   The company operations are mostly decentralized with branch managers tasked with meeting targets for operations.  The contracts through which services are provided are negotiated on 3-5 year basis with local government social services.  The government comprises 80% of the company’s revenue with private work making up the remainder.  Government revenue is much more fragmented than first glance, as it is comprised of many contracts at the local level with local governments.  The company derives its revenue entirely from the UK and Ireland. 

Business Risk
The company derives the bulk of its revenue as a result of government spending on healthcare.  Like the United States, the UK is looking to cut back healthcare spending.  This is a combination of rising healthcare costs and UK government deficits.  The healthcare rules, like the US, are constantly changing.  The risk to Allied Healthcare is minimal.  The service it provides is itself a cheap alternative to other forms of healthcare that would be picked up by the state.  Their homecare services reduce the need for full time residential housing of elderly, which is more expensive.  There are also the increasing trends of outsourcing the work to private firms as well as aging demographics.  The most recent quarter saw pressure on earnings as a result of these changes, but the long term outlook is favorable considering the low cost option that homecare offers. 

Valuation:
There are 43,923 fully diluted shares outstanding and a current market price of $2.40 per share for a market capitalization of $105m.  There is net cash of $35m on the balance sheet.  The enterprise value is $70m.  The company has earning $8.8m in the past twelve months.  The company trades at 8x earnings net of cash and 5x EV/EBITDA.

The company disposed of its last non-homecare business at the end of 2007, paying off all its debt and positioning the company on its current path.  The periods of 2008, 2009, and 2010 saw earnings of  $8.7m, $9.9m, and $9.8m respectively, averaging $9.5m.  The numbers lie when it comes to the telling potential investors about the growing earnings of the company.  The GBP:USD exchange rate fell from an annual average of 1.85 to 1.54 over this period.   In GBP, revenue has been steadily growing.  When translated into USD, the revenue looks very volatile, although that is the exchange rate, not the underlying business.


Acromas, a company looking to consolidate the homecare industry through its Saga subsidiary, recently acquired Nestor Healthcare Group, a competitor of Allied Healthcare, for £124m or £136m including debt.  Nestor generates more than two thirds of its revenue from social care of patients in their home and about a third from primary care of patients.  Three private equity groups own Acromas: CVC Capital Partners, Charterhouse and Permira.  Below is a table comparing the valuation of the buyout based on annualizing the first six months of Nestor’s results in 2010.  The initial offer was made in August 2010.  The deal closed in January 2011 offering an optimal comparison for Allied.

Nestor Healthcare*    AHCI    Implied AHCI Share Price Upside 
Price/Sales      0.8          0.4    $4.54                                      89%
EV/EBITDA   11.5         5      $4.32                                      80%
EBITDA         10.5         8      $3.22                                      34%
P/E                  16          12      $3.20                                      33%
EV/E               18            8     $4.40                                        83%

Upside/Downside
The downside would be management spending the $35m cash balance on an acquisition.  Done at a valuation similar to Nestor, an acquisition at 16x earnings would add $2.2m to net income.  Using the current cash adjusted market multiple, the company would be worth $2.00, a downside of 16%.

A buyout scenario is addressed above, with upsides ranging from 30-90%. 

Even if the company is not bought out, it trades at an absolute low valuation.  The cash on hand could be put to good use in a buyback and management currently has $5m more on its current buyback.  It would be nice to see management focusing on further decreasing the share count.

There would be more upside if the company listed on the UK exchange as well and moved entirely out of the US.  They delisted from the AIM in London due to lack of investor interest.  If you look at the conference where management has presented in the past years though, they are entirely focused on getting a US shareholder based.  This is problematic though since generally speaking the US market doesn’t understand the UK healthcare system and there is currency risk. 

Some things to look out for:
Board compensation has doubled since 2007 from $350,000 to $870,000.  It is the equivalent of 10% of the TTM net income of the company, quite substantial.  Additionally, while I do not know if they officially constitute a “poison pill,” there have been “shareholder rights” amendments to the bylaws that make it harder for the shares to be acquired.  Management’s stated intent was to make sure that a buyer didn’t steal to company on the cheap.  Judging from the Nestor acquisition valuation, and the deep pocketed investor behind it, there is ample interest in the sector and respectful premiums being offered.  Despite this reducing the possibility of a buyout as a near term catalyst, the substantially higher valuation indicates the private market value of the firm.

Disclosure: Long AHCI

Talk to Andrew about Allied Healthcare International