Transcript Health Care Sector Presentation JOSEPH FARFSING DAVID GARMAN ASH YIJUN GU SCOT HELTON TIMOTHY KEITH Overview  Size and Composition  Business Analysis  Economic Analysis  Financial Analysis  Valuation.

Health Care
Sector Presentation
JOSEPH FARFSING
DAVID GARMAN
ASH YIJUN GU
SCOT HELTON
TIMOTHY KEITH
Overview
 Size and Composition
 Business Analysis
 Economic Analysis
 Financial Analysis
 Valuation Analysis
 Recommendation
Size and Composition
Portfolio
Composition
Health Care is the
most overweight
sector in the SIM
portfolio when
compared to the
S&P500.
Sector
Information Technology
Health Care
Energy
Financials
Consumer Staples
Industrials
Consumer Discretionary
Utilities
Telecommunication Services
Materials
Cash
SIM
19.921%
17.735%
11.312%
8.139%
13.063%
9.437%
7.931%
2.496%
2.396%
3.883%
3.687%
S&P500
18.403%
13.835%
12.510%
12.186%
12.045%
10.441%
9.517%
3.982%
3.715%
3.366%
0.000%
Over/Under
1.518%
3.900%
-1.198%
-4.047%
1.019%
-1.004%
-1.586%
-1.487%
-1.319%
0.517%
3.687%
SIM Portfolio Composition
Telecommunication
Services, 2.396%
Materials, 3.883%
Cash, 3.687%
Utilities, 2.496%
Consumer
Discretionary,
7.931%
Information
Technology, 19.921%
Industrials, 9.437%
Health Care, 17.735%
Consumer Staples,
13.063%
Financials,
8.139%
Energy, 11.312%
Sector
Performance
So far this year, Health
Care has not performed
well when compared to
other sectors.
Sectors Sorted by QTD
QTD
YTD
Sectors Sorted by YTD
YTD
S&P 500
9.39%
Financials
22.17% -13.86% Information Technology
12.04% 16.48%
Consumer Discretionary
18.54%
15.09% 11.85%
Industrials
17.72% -7.91% Consumer Discretionary
Materials
15.09% 11.85% Telecommunications Services 2.23% -6.43%
Information Technology
12.04% 16.48% Energy
4.81% -7.85%
Energy
4.81%
-7.85% Industrials
17.72% -7.91%
Consumer Staples
3.03%
-8.62% Consumer Staples
3.03% -8.62%
-6.43% Health Care
-0.89% -9.34%
Telecommunications Services 2.23%
-3.37% S&P 500
QTD
8.33% Materials
9.39% -3.37%
18.54% 8.33%
Utilities
0.42% -11.49% Utilities
0.42% -11.49%
Health Care
-0.89% -9.34% Financials
22.17% -13.86%
Global Industry Classification Standard
(GICS 35) – Health Care Industries
Industry Group
Health Care Equipment & Services
Industry
Health Care Equipment &
Supplies
Sub-Industry
Health Care Equipment
Pharmaceuticals, Biotechnology &
Life Sciences
TOTAL S&P500 Mkt Cap
7,585,482,000,000
TOTAL Health Care Mkt Cap
1,077,528,094,000
Mkt Cap as % Mkt Cap
of Healthcare as % of
Sector
S&P500
174,919,930,000
16.233%
2.306%
4,276,556,000
0.397%
0.056%
Health Care Distributors
32,223,194,000
2.990%
0.425%
Health Care Services
58,752,216,000
5.452%
0.775%
Health Care Facilities
1,075,043,000
0.100%
0.014%
Managed Health Care
82,570,936,000
7.663%
1.089%
2,181,728,000
0.202%
0.029%
Health Care Supplies
Health Care Providers &
Services
Market
Capitalization
Health Care Technology
Health Care Technology
Biotechnology
Biotechnology
142,130,526,000
13.190%
1.874%
Pharmaceuticals
Pharmaceuticals
577,124,533,000
53.560%
7.608%
Life Sciences Tools &
Services
Life Sciences Tools &
Services
2,273,432,000
0.211%
0.030%
Companies
within the
Health Care
Sector
Market Cap
(in Billions)
Companies
Industry
Johnson & Johnson (JNJ)
Pharmaceuticals
151.50
Pfizer Inc. (PFE)
Pharmaceuticals
97.13
Abbott Laboratories (ABT)
Pharmaceuticals
69.43
Wyeth (WYE)
Pharmaceuticals
58.79
Merck & Co. Inc. (MRK)
Pharmaceuticals
52.31
Amgen Inc. (AMGN)
Biotechnology
47.72
Eli Lilly & Co. (LLY)
Pharmaceuticals
41.31
Bristol-Myers Squibb Co. (BMY)
Pharmaceuticals
40.41
Gilead Sciences Inc. (GILD)
Biotechnology
40.04
Medtronic, Inc. (MDT)
HC - Equipment
38.30
Schering-Plough Corp. (SGP)
Pharmaceuticals
37.56
Unitedhealth Group, Inc. (UNH)
Managed HC
34.93
Baxter International Inc. (BAX)
HC - Equipment
30.85
WellPoint Inc. (WLP)
Managed HC
24.35
MedcoHealth Solutions Inc. (MHS) HC - Services
21.69
Business Analysis
A LOOK AT THE COMPONENT INDUSTRIES
Component
Industries:
-Diversity among levels
of maturity
- Portfolio and Sector
weighted toward the
more mature
Looking at P/E:
Equipment*
Biotechnology
Life Science
Tools
Distributors*
Pharmaceuticals*
Managed Health
Care*
Supplies
Biotechnology……… 14.4
Life Science Tools… 13.4
Equipment………….. 12.9
Distributors…………. 10.0
Pharmaceuticals…… 9.4
Managed H.C……….. 7.0
Supplies………………. 3.3
Ratios from Thompson
Baseline
* Industry represented in SIM portfolio
Porter’s Forces
Component
Industries:
Business Analysis
Threat of Substitutes: Relatively low in mature
industries. Most competition comes from
within the same industry. Threat may be
more moderate in emerging or growth
industries (Biotech).
Power of Suppliers: Moderate to high for
industries on forward part of value chain
(services). Low for industries not dependent
on large medical suppliers (i.e., the suppliers
themselves, pharmaceuticals).
Porter’s Forces
Component
Industries:
Business Analysis
Power of Buyers: Moderate to high for all
industries. Economic drivers aside, the
possibility of nationalized healthcare would
give much power to a single buyer: the U.S.
Government.
Rivalry: Generally moderate. Entry barriers
retrain industry concentration. Late movers
can piggy-back off early movers, though
(generic drugs, U.S. patent laws). Mature
industries see the most competition
(pharmaceuticals, suppliers, etc)
Porter’s Forces
Component
Industries:
Business Analysis
Barriers to Entry: High
- Very strict and long process for FDA approval
- High R&D costs ; cannot be capitalized
- High capital requirements to meet expenses
- Strict regulation; Food and Drug Admin.
- Large firms already established in markets
- Political risk (Nationalization)
Industries’ Opportunities
Threats
Ability for established
firms to carve out niches
under barrier protection
=> Growth opportunity
Risk of increased buyer
power. Difficult to
evaluate current political
risk. Sector very
sensitive to government
policy.
Business
Drivers:
Demographics
-Baby boomers
progressing in age
-50+ age group
expected to increase
substancially
Economic Analysis
RECESSION AND REGULATIONS
Unemployment
and health care
coverage
Recessions historically
have little impact on the
number of people
insured.
While the demand for
coverage is relatively
inelastic the current
recession is causing a
large number of ingroup changes.
Consumers and
businesses switch
coverage to less
expensive policies
leading to losses for all
healthcare industries.
Households
spend less in
slow economy
While demand stays
relatively inelastic for
health insurance
patients opt out of
medical services that
require payment
contribution
This can lead to lower
MCR’s for Managed
Care companies.
Adversely affects all
other industries within
healthcare
Consumer
Confidence
Medical care
spending is being
driven by
consumer
confidence,
especially on
expected
conditions.
With 5 years of
data the
correlation is
r=.77. For 2 years
of data it rises to
r=.83.
Sector
performance
As consumers
spend more on
health care the
sector rises.
Another rather
high correlation
with r=.58.
Unemployment
Vs. Sector
With five years of
data we see a
negative correlation
with the
unemployment rate
where r=-.81
Investors worried
about declining
membership in
health care plans.
Medical Costs
The costs for drugs
and Medical
supplies growing
faster than the
overall price index
Medical Costs
Prescription drug
costs rising
steadily through all
economic
conditions
Consumers defer
treatment or
substitute with
generic drugs
Health
Insurance
Costs
Health care coverage
is on the rise while
insurance companies
attempt to protect
their profit margins
Government
regulations such as
lowering premiums
and deductibles paid
by individuals will
deteriorate profit
margins in the
industry
Healthcare
Reform: cost
controls
IT could save up to $77
billion a year
Preventive care can lead
to adverse selection and
impose pay for
performance standards
that deteriorate profits
Administration plans to
increase competition by
limiting how much
premium revenue can be
spent on profits and
administration expenses.
Also, want to enhance the
generic drug market by
blocking patents and
allowing foreign
competition in the U.S.
Financial Analysis
Net Profit Margin
Net Profit
Margin
0.3500
0.3000
•Health care sector
greater than S&P 500
0.2500
• Biotechnology and
pharmaceuticals has the
highest profit margin
HCX
0.2000
sp 500
BIOTK
DRUGS
0.1500
HCDIS
HCEQP
0.1000
0.0500
0.0000
2004
2005
2006
2007
2008
EBITDA Margin
EBITDA
Margin
0.6000
0.5000
• S&P 500 greater than
health care sector
• Biotechnology and
pharmaceuticals have
the highest EBITDA
margin
0.4000
HCX
S&P 500
BIOTK
0.3000
DRUGS
HCDIS
HCEQP
0.2000
0.1000
0.0000
2004
2005
2006
2007
2008
May/09
Return on Equity
0.3500
Return on
Equity
0.3000
• Health care sector
greater than S&P 500
0.2500
• Pharmaceuticals has
highest ROE
HCX
0.2000
SP 500
• Biotechnology's ROE
BIOTK
grows fast
DRUGS
0.1500
HCDIS
HCEQP
0.1000
0.0500
0.0000
2004
2005
2006
2007
2008
May/09
Cash Flow Per Share
80.0000
Cash flow per
share
• Health care in the
range of 22 to 35
• Biotechnology has the
70.0000
60.0000
50.0000
largest CF per share
HCX
DRUGS
40.0000
BIOTK
HCDIS
HCEQP
30.0000
20.0000
10.0000
0.0000
2004
2005
2006
2007
2008
May/09
Price relative
to S&P 500
1. HCX
2. Biotech
3. Pharmaceuticals
Price relative
to S&P 500
1. HCDIS
2. HCEQP
3. LFSCT
Valuation Analysis
Valuation
Multiples
Forward P/E
Current:
11.0
Median (5yr):
17.3
Median (10yr): 18.2
P/B
Current:
2.6
Median (5yr):
3.9
Median (10yr): 4.3
Valuation
Multiples
P/S
Current:
1.1
Median (5yr):
1.8
Median (10yr): 2.2
P/CF
Current:
8.4
Median (5yr):
13.6
Median (10yr): 14.7
Health Care
Relative to
S&P 500
Forward P/E
Current:
.70
Median (5yr):
1.1
Median (10yr): 1.1
P/B
Current:
1.3
Median (5yr):
1.3
Median (10yr): 1.5
Health Care
Relative to
S&P 500
P/S
Current:
1.3
Median (5yr):
1.2
Median (10yr): 1.4
P/CF
Current:
1.1
Median (5yr):
1.3
Median (10yr): 1.4
Industry
Performance
Relative to
Sector
Forward P/E
Pharma: 0.9
Equipment: 1.2
Biotech: 1.2
Industry
Performance
Relative to
Sector
P/B
Pharma: 1.1
Equipment: 1.0
Biotech: 1.3
Industry
Performance
Relative to
Sector
P/S
Pharma: 2.0
Equipment: 2.0
Biotech: 4.1
Industry
Performance
Relative to
Sector
P/CF
Pharma: .9
Equipment: 1.2
Biotech: 1.4
Industry
Variation
Forward P/E
High: HC Services
Low: HC Supplies
Price/Book
High: HC Facilities
Low: HC Managed Care
Price/Sales
High: Biotech
Low: HC Distr./Fac.
Price/Cash Flow
High: HC Serv./Supplies
Low: HC Facilities
Industry
Pharmaceuticals
Equipment
Biotechnology
Health Care Distributors
Health Care FacilitIES
Health Care Managed Care
Health Care Services
Health Care Supplies
Health Care Tech
Life Science Tools
Trailing P/E Forward P/E Price/Book Price/Sales Price/Cash Flows
0.73
0.65
1.4
2.5
1.0
1.0
0.83
1.3
2.5
1.3
1.1
0.84
1.7
5.1
1.5
0.8
0.66
0.8
0.1
1.1
N/A
N/A
5.3
0.1
0.4
0.63
0.52
0.7
0.4
0.9
1.3
1.0
2.1
0.7
1.7
0.27
1.0
1.4
0.5
1.7
0.58
0.5
N/A
1.2
0.7
1.0
0.9
0.7
2.1
1.1
Range
High
Low
1.3
0.27
1.0
0.5
5.3
0.7
5.1
0.1
1.7
0.4
Trends
Health Care Sector
Price Momentum Better
Than 71% of the Stocks
on the S&P 500.
Earnings Momentum
Better Than 58% of the
Stocks on the S&P 500.
Recommendation
 Currently we are overweight by
SIM Portfolio
Weight
Recommendation
390 basis points
 We recommend that this
overweightedness be cut in half to
195 bps over the S&P500
Reason?