Austin, Texas, -based Hanger (HGR), the nation's leading provider of orthotic and prosthetic (O&P) patient care services, has seen its stock appreciate by more than 65% in the last one year. However, in the last few weeks the stock corrected almost 20% from the top at $37.39, and currently it is hovering around $31. Hanger is currently focusing on expanding its geographical footprint through complementary acquisitions. I believe that the recent correction offers an excellent buying opportunity with ~30% upside in the near-term.
Company Overview
Hanger is a leading distributor of O&P devices in the U.S. Effective from January 2013, the company has realigned its reporting segments into two groups, which are: 1) Patient Care and 2) Products and Services. Hanger owns and operates O&P patient care clinics. The company proactively partners with suppliers in the design and development of new and proprietary components, clinical processes, tools and products.
As the leading provider of prosthetics, orthopedic supports and braces in the U.S., Hanger serves more than 650,000 people each year. Its nationwide network of over 640 patient care centers spans 45 states and the District of Columbia. A group of more than 1,000 skilled practitioners supports Hanger's entire operation.
Why Hanger Is Worth Looking Into
I feel Hanger is worth considering primarily because of two reasons. First, Hanger accounts for 19% of the estimated $4.3 billion spent each year in the U.S. on O&P products and services. Second, being the leading player in O&P products and services, the company enjoys economies of scale its competitors can't match. To take advantage of the economies of scale, Hanger is looking to expand its geographical footprint outside the U.S. through complementary acquisitions.
Hanger's top-line has been growing on a consistent basis, supported by healthy contributions from both reporting segments of the company. Going ahead, I believe Hanger's top-line and market share will increase further due to the company's policy to build strong patient relationships by offering comprehensive total care packages that physicians can rely upon.
Hanger's Growth Drivers
Hanger's Patient Care segment is its primary growth driver. Hanger's superior offerings coupled with unmatched technology ensure steady revenue generation, which is expected to continue going ahead. Moreover, the company's high-margin Accelerated Care Plus ("ACP") business seems to be turning around as it is delivering increasing returns. Hanger generates revenue primarily from two sources, orthotic care and prosthetic care.
Orthotic Care: Hanger's orthotic care business comprises of designing and fabrication of a range of custom-made braces and other devices, such as spinal, knee, and sports-medicine braces that provide external support to patients suffering from musculoskeletal disorders, including ailments of the back, extremities or joints, and injuries from sports or other activities. Hanger's Insignia laser scanning, a completely noninvasive technology, ensures a precise fit for many orthotic devices. Using a hand-held scanner and a computer, a practitioner can capture and store three-dimensional images of the affected area. Insignia images are perfect within one millimeter and the scanning process is quick, easy and painless.
Hanger's National Orthotics Program is the largest provider of orthotic patient services in the U.S. Under the program Hanger offers some specialty orthotic services with high margins, which are described below:
Diabetic Foot Care: People with diabetes often experience medical issues with their feet and legs. The associated neuropathy, loss of sensation and poor vision present significant challenges to proper care. Diabetic Foot Care is a comprehensive approach to maintain healthy feet.Pediatric Orthotics: Hanger has a special pediatrics orthotics program that includes all types of orthoses for infants and older children as well as cranial helmets and cranial bands for the treatment of plagiocephaly.Burn Treatments: Burns create scars physically and emotionally. Hanger's innovative technology, coupled with advancements in medical procedures, has made it possible to get rid of scars. Hanger's approach to comprehensive wound care, from acute in-patient management to out-patient rehabilitation and reintroduction of the patient to their daily life helps build patient's self esteem.Postmastectomy Services: Mastectomy products and postmastectomy services are Hanger's specialized offerings within its orthotics program. These include mastectomy forms, custom mastectomy prostheses, and mastectomy bras/undergarments. The practitioners who specialize in mastectomy products are sensitive and discreet in providing patient care services.Prosthetic Care: In prosthetic care, Hanger offers custom-made artificial limbs to patients with loss of limbs due to vascular diseases, diabetes, and cancer or congenital disorders. Traumatic limb injury can also lead to amputation of limbs. Most of these injuries occur due to motor accidents, through on-the-job or recreational injuries, and during military service in combat zones. In all of the above situations, the removal of a limb is usually a life-saving procedure.
There are approximately 1.7 million people in the U.S. living with limb loss. Each year more than 150,000 people face the amputation of a limb, among which about 70% are older adults. Hanger offers specialized programs, such as Upper Extremity Prosthetics Program ("UEPP") and Lower Extremity Prosthetics Program ("LEPP") that are part of its prosthetic care business line.
International Expansion to Fuel Future Growth
As I mentioned above, Hanger is seeking to expand its geographical footprint and international revenues through complementary acquisitions. Smaller companies often approach Hanger to help them grow as Hanger's associates, because they find it difficult to progress alone due to administrative and regulatory obstacles. If Hanger sees synergy with such companies, it acquires them. Hanger made many small tuck-in acquisitions in 2012 worth $60 million, which exceeded the company's previously announced goal to generate revenues of $20 million by year-end.
Although merger and acquisition have some inherent risks, I believe Hanger's case is different, as it is consistent with its merger and acquisition policy. Its acquisitions are based on location, quality of practitioners, and efficient product/service mix. In future Hanger is expected to acquire more companies outside the U.S. for expanding revenues and bottom line. The company's strong cash position will help it penetrate further in the overseas O&P market.
More Positive Catalysts for the Stock
Hanger has a robust pipeline. Its upcoming vacuum solutions used to hold prosthetics in place more securely should help capture market share from rivals going ahead. Furthermore, its virtual reality based therapeutic solutions provided by ACP are expected to boost future revenues and profitability significantly.Janus, Hanger's new clinic management system would considerably enhance patient satisfaction, clinical effectiveness and billing efficiency. Linkia, one of Hanger's subsidiaries, helps the company maintain balance between volume and fair pricing for services offered to customers. Linkia is a network management company in the orthotics and prosthetics industry, which tries to seek contracts with national and regional insurance companies.In 2012, Hanger completed its WalkAide INSTRIDE clinical trial. The company said that it expects to submit the results to the Centers for Medicare and Medicaid ("CMS") for coverage decision in the second half of 2013.Hanger's strong sales trajectory in Patient Care combined with the continued execution on its cost savings and efficiency initiatives will help the company offset a good portion of its recent cost increases. This will enable the company to deliver margin expansion and earnings growth going ahead.Valuation and Projected Stock Price
Hanger is a cash rich company with cash and equivalents of $5.77 million as of quarter ending June 2013 against a little debt on the balance sheet. Although the cash position has weakened due to the acquisitions the company made in 2012, the debt to equity ratio has also decreased at the same time, which implies the company remains neutral in terms of net cash. What's encouraging is that the company's revenue per share has been rising steadily. The recent acquisitions coupled with an efficient product-mix helped the company register solid revenue growth.
Hanger is currently trading at a P/E of 17.04x, far below the peer group average of 26x. Among its peers, Integra LifeSciences (IART) is trading at 45.80x, ResMed (RMD) at 23.48x and Hill-Rom Holdings (HRC) at 19.22x. Perhaps Hanger's acquisition related uncertainties are responsible for this discount in valuation. However, I believe that the discount will be narrowed significantly going forward, once the overhang related to the company's recent acquisitions subsides and earnings start beating analysts' estimates.
Hanger's management guided that its EPS would be in the range of $2.02 to $2.09 (up 11.6% to 15.5%) in 2013. I believe in the company's guidance as I am impressed with Hanger's recent initiatives to boost top- and bottom-line performance. Moreover, its realignment plan to report in two separate segments is also an impressive move. On an average I expect that the company will deliver an EPS of $2.05 in the current fiscal. In the last five years, the company's stock has traded in a P/E range between 9.9x and 21.9x based on trailing twelve month earnings. Assigning a P/E of 20x on the expected EPS of $2.05, I arrive at $41, Hanger's projected stock price for the current fiscal. That's ~30% upside from the current level around $31. I feel it will play out within the next six months.
Summary: Reasons to Buy the Stock
Hanger is expanding its business by investing in complementary tuck-in acquisitions, which I believe is quite encouraging.The company enjoys enormous economies of scale that's beyond the reach of its competitors.I feel Hanger's realignment plan to report in two separate segments on the basis of separate end markets is exciting.The company's efficient product-mix in both orthotic and prosthetic segments will lead to significant revenue growth.Hanger has a robust pipeline containing vacuum solutions and therapeutic solutions provided by ACP.The company's shares are trading at a significant discount relative to the peer group average, and hence deserve buying at the current price.Potential Downsides
Hanger's financial performance could be negatively impacted due to sequestration, healthcare reform and measures including Medicare and Medicaid reimbursement cuts.Hanger operates in an extremely fragmented industry, which needs to be consolidated. Until that happens, Hanger may have to face fiercely uncompetitive price, especially from small regional players.Hanger's growth predominantly depends on acquisitions with usual uncertainties and risks. In 2012, Hanger acquired some independent O&P companies that made substantial purchases from Hanger's distribution businesses. After acquisition, those purchases became Hanger's internal inter-company sales on a consolidated basis and therefore negatively impacted the external sales figures of the company's distribution businesses.The Recovery Audit Contractor ("RAC") program run by the Centers for Medicare and Medicaid ("CMS") coupled with the 2.3% medical devices excise tax under Obamacare is putting extra pressure on individual O&P customers, which Hanger should try to offset by offering more efficient product-mix and flexible pricing policy.Conclusion
Hanger's products and services will see robust demand due to an aging population growth, increased incidents of chronic diseases like diabetes due to obesity and other health risk factors, and last but not the least, technological advancements that help live a better life even in difficult situations related to one's health. I would recommend accumulating Hanger's stock at the current price as well as in corrective phases.
Disclosure: I am long IART. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article. (More...)
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