Say there's a business making $100 of EBITDA. (Earnings before interest, taxes, depreciation, and amortization). John wants to buy it, and demand for the business sets the price at 6 times EBITDA this year, or $600. That's an EBITDA multiple of 6.0x. Next year, more people want to buy it and so the purchase price jumps to 6.5 times EBITDA, or $650. That's how Houlihan Lokey Howard & Zukin, whose product is financial advice, computes the industry's earnings potential.
"Earnings quality and margins within managed care are very attractive and that has led to a robust mergers and acquisitions environment," says Mark Francis, director of the health care group at Houlihan.
Profit margins aren't the only healthy indicator. Stocks in managed health care plans and preferred provider organizations all posted second-quarter gains.
Managed care stocks rose 17 percent, compared with 15 percent for the S&P 500. Small managed care organizations did best, up 37 percent, while large MCOs posted gains of 14 percent. There were exceptions, however: Pacificare and Humana appreciated 104 and 57 percent, respectively.
Houlihan reports that the sector's "earnings quality remains generally good."
The company says that "Managed care companies continue to report strong operating results. The sector is seeing commercial rate increases of 13 to 14 percent net of benefit buy-downs and moderating medical cost trends in the 11 to 12 percent range. The slower growth in medical costs is a direct result of slowing drug costs and decreasing inpatient medical costs."
SOURCE: HEALTHCARE QUARTERLY UPDATE, HOULIHAN LOKEY HOWARD & ZUKIN, 2003