Jeffrey C Smith isn’t the everyday billionaire known to all as Warren Buffett is, but he’s no slouch when it comes to investing nonetheless. According to some, his net worth is estimated at close to $2 billion.
In his most recent filings, it appears he’s developed such a high conviction for one healthcare stock that he’s bet 10.6% of his portfolio on it.
We investigate why he accumulated such a big position in Humana (NYSE:HUM) and whether it’s worth following in his footsteps.
Why Makes Humana Special?
What is it about this healthcare company that attracted Jeffrey Smith’s interest. One noteworthy reason is that Humana has been to the forefront of the tectonic shift in value-based care. Traditionally, fee-for-service models incentivized providers to increase their volume of services whereas a value-first approach is believed to lead to higher patient outcomes and better cost savings.
Another key factor in Humana’s favor is the demographics trend towards an aging population because the healthcare firm is a significant player in the Medicare Advantage market. As the population ages, the market size of eligible Medicare enrollees increases, and in turn Humana benefits.
It can sell its wide range of products from basic health insurance to dental and vision to a growing number of people, offering both revenue growth and diversification all at once. And it can do so quite seamlessly having investing heavily in technology, and specifically in health records, telemedicine and analytics. These investments have the added benefit of benefiting patient care and increasing efficiency to lower costs.
Given its focus on aging populations, it’s no surprise to discover that Humana has also expanded to the home health care sector, which is forecast to be a significant growth driver as it taps into patient preferences.
So too does Humana have a pulse on the increased trend toward preventive care that both resonates with patients and can lead to lower long-term health costs.
Add to the mix strong industry partnerships with Microsoft to leverage cloud technologies with a view to modernizing health records and boosting patient engagement, as well as Salesforce to integrate patient data across various health systems and you have a recipe for a moat, the kind that attracts a billionaire.
Humana Financials Are Impressive
One clear reason Humana is an attractive investment is its top line growth has been stunning. Year-over-year revenue growth each quarter has been positive for five year straight. In Q4 2018, management reported $14.1 billion in top line sales. As of the most recent quarter, that number is $26.4 billion.
Over the same time span, the company has only reported one quarter with negative operating income back in Q4 2020 but most recently the number stands at $1.2 billion.
So, Humana is a $63 billion market capitalization firm, generating $102 billion in revenues annually, and posting solid earnings consistently and trading at a 21x price-to-earnings ratio.
It’s clear that collectively its strategic initiatives have been paying off. They include teaming up with Doctor On Demand, a telemedicine provider, to deliver virtual primary care services, and collaborating with Walgreens to open senior-focused primary care clinics.
So too has it partnered with Amgen to identify opportunities to improve health outcomes through insights derived from real-world health care experiences and with Fitbit to integrate health and wellness solutions into Humana’s wellness and rewards programs.
Why Did Jeffrey Smith Buy Humana?
Jeffrey Smith likely bought Humana because it is 39.2% undervalued according to a discounted cash flow forecast analysis and has a wide economic moat as evident from its 13.6% return on invested capital. The ROIC encapsulates the sustainable competitive advantage the firm has established.
Both analysts and management appear to side with the bullish outlook calculated by a DCF forecast. For example, analysts have a price target of $580 per share on the firm, representing upside opportunity of 12.9% if realized. So too the Board of Directors has approved an equity share buyback scheme of $3 billion.
Trading at just 0.6x last twelve months sales while growing sales by an additional 11.9% over the past year, it’s no surprise insiders are optimistic.
Building on the investment case for Humana is the growth in earnings per share. From five years ago, earnings per share have virtually doubled too, from $12.16 EPS to $24.07.
Another reason to view the shares through rose-tinted glasses is the cash-rich balance sheet that has $15.1 billion of liquid reserves offset by a comparably small $9.4 billion in long-term debt.
Humana is the type of healthcare stock a billionaire could really whet their appetite over. The stock generally trades with low volatility and yet continually builds upon its already strong revenue base. As the top line grows, the bottom line tends to follow in tandem quite predictably.
The firm’s long list of strategic partners and collaborators ensures that it widens its moat from up-and-coming firms and rivals, like United Healthcare, aiming to dislodge it. And its target customer base, an aging population, continues to grow so demographic trends favor Humana too.
Add to all that a stock that is undervalued according to the consensus estimate of 19 analysts, as well as a discounted cash flow forecast analysis plus a share buyback authorized by the Board, and you’ve got a compelling investment opportunity.
If there were a couple of drawbacks to note, one is the relatively modest dividend yield of just 0.68% and the other is the series of analysts revisions lower for the upcoming quarter, fifteen in total.
Nonetheless, Humana stock is up just 3.55% for the year versus the market, which has run up by 19.2%, so it seems a lot of pessimism has already seeped through to the share price and perhaps, next year, should the market performance taper, Humana will take the baton and keep running.
The author has no position in any of the stocks mentioned. Financhill has a disclosure policy. This post may contain affiliate links or links from our sponsors.