A Few Brief Thoughts on United Health Group, Inc.
This is a stock I purchased in my IRA on September 1, 2010, when it was trading at $32.48/share. Today it trades at $58.92/share. Needless to say, it has been a big winner for me. However, it was always a small position, at a $617.12 original cost basis. I only bought 19 shares. By comparison, I own over $4,000 in XOM stock, and have similarly “large” (for me) positions in MSFT, INTC, and BRK.B.
The position has remained small because I have been guilty here of price anchoring. I think I got afraid of the increased nominal price, and have failed to pay attention to the underlying business.
It’s time for an update. In my update, I conclude that the company is not wildly undervalued. It would be a strong buy at $54.88, not far below where it is today. If it goes above $82.32/share, and the fundamentals have not changed, it is time to say adios. It is obviously nowhere near that level.
Here is my most recent sheet. As you can see, I keep things fairly simple.
I have used a WACC of 11% here, which is in-line with consensus. I assume no debt or cash. (The actual net cash/debt position is about $4 billion of debt, but I assume based on its cash generation it can basically maintain that in perpetuity.) For my free cash flow growth rate, I’m only assuming 3% growth over the next ten years, even though in last nine years it has averaged 9.67% annualized growth. The problem is in the last three years that stalled to 7.59%, and in the last year, the annualized growth was only 3.12%. I attribute most of this decline to recent regulatory changes, but I never assume higher growth than present growth. In fact, even my 3% growth assumption may prove too optimistic, and is the thing I’m most worried about in my analysis.
On the other hand, it matches Morningstar’s analysis closely, and even if you assume 1% growth, the stock is worth around $61/share. My pessimism is also tempered by the fact the company has reduced its diluted share count by 16.2% in the past four years, which is great, and future such reductions should prove accretive to the value of future free cash flows attributable to my shares.
Substantively, my thesis from 2010 has not been blown: Obamacare will not destroy this company, its scale confers massive advantages in such a highly-regulated industry, and it is well-run. Nothing since 9/2010 has changed these basic assumptions. I actually think Morningstar in evaluating United Health’s ”moat” is probably being too pessimistic in assigning the company only a narrow moat, given the regulatory environment in which it operates. They likely attribute the declining free cash flow growth to moat issues, whereas I attribute it to regulatory changes.
That said, I think the massive gains here are likely done. That is because these gains were to be had before the world had digested Obamacare as fully as it has now. I do think the stock remains somewhat artificially depressed because of lingering and overblown concerns about the full implementation of Obamacare, which is why opportunity remains.
Also, the dividend is quite low — 1.44%, even after it was increased from a quarterly $0.13 dividend to a $0.21 quarterly dividend, or a 61.5% increase, in the time I have owned it. That seems to be the level this company wants to be at, and it is not enough to attract all those seeking yield in a ZIRP environment, so I do not attribute its share appreciation to a hunt for yield. The fact that its P/E ratio has not really increased much at all since 2011 (in a time when the S&P P/E ratio has gone from under 14 to the 18 neighborhood) supports this view.
In short, I think this company remains highly investable. I should consider doubling my position notwithstanding the recent share price appreciation I have seen, particularly since the share price has basically been stalled for the past year. However, before doing so I should conduct a deeper analysis of Humana (HUM), which appears to be performing even better than UHN has been.