Tenet Ahead of Zacks Consensus - Analyst Blog

Tenet Healthcare Corporation (THC) reported its third-quarter adjusted income from continuing operations of $932 million or $1.68 per share, way ahead of the Zacks Consensus Estimate of 5 cents per share. This also compares favorably with income of $2 million in the year-ago quarter, on account of deferred tax benefits and early extinguishment of debt losses, though the soft economy continued to challenge the volume growth and exerted pressure on the operating margin.

Tenet's net income was $932.0 million or $1.68 per share in the reported quarter, as opposed to a loss of $3.0 million or 1 cent in the prior-year quarter. The results include a loss from discontinuing operations in the prior-year quarter of $5.0 million or 1 cent per share.

Behind the Headlines

Net operating revenues were flat in the reported quarter at $2.26 billion, lagging the Zacks Consensus Estimate of $2.33 million. However, net operating revenues increased 0.4%, net of favorable prior-year cost report adjustments in both quarters. Commercial managed care revenues also jumped 0.9% in the quarter.

During the quarter, admissions and outpatient visits declined by 3.5% and 2.0%, respectively, while adjusted admissions declined 1.8%.

Tenet witnessed a year-over-year increase of 2.4% in total controllable operating expenses in the reported quarter. This increase includes a $14 million charge due to an 84-basis-point reduction in the discount rates used to calculate malpractice and workers' compensation expenses, along with the surge in healthcare information technology initiative expenses by $4 million from the prior-year quarter. Total controllable costs per adjusted patient day increased 4.9%, driven by a 4.9% rise in salaries, wages and benefits.

Bad debt expense declined 3.1% year over year in the reported quarter, while the ratio of bad debt expense to net operating revenues plunged to 8.3% from 8.5% in the prior year quarter. The decrease was primarily attributable to a year-over-year decline in uninsured admissions and outpatient visits, offset by increases in charity admissions and outpatient visits.

Tenet posted adjusted EBITDA of $203 million in the quarter, down 15.4% year over year from $240 million in the prior year quarter. Adjusted EBITDA margin was 9.0%, a 160-basis point decrease during the quarter. The results were adversely impacted by the continuing effects of the recession, including declining commercial enrollment and the deferral of elective procedures.

Tenet exited the quarter with cash and cash equivalents of $398 million and capital expenditures for the quarter came in at $176 million. Tenet used $274 million of its cash to repurchase debt during the quarter and $42 million for the acquisition of various outpatient imaging centers.

Subsequent to the third quarter of 2010, Tenet received proceeds of $46 million from the sale of a portion of its medical office buildings (“MOBs”) in Florida. Tenet continues to negotiate the sale of 18 additional MOBs.

As of September 30, 2010, total assets of Tenet were $8.54 billion and shareholders equity was $1.71 billion.

Outlook

Exclusive of deferred tax benefits and debt losses, Tenet projects a revised range for normalized net income attributable to its Tenet shareholders of $110 million to $140 million, with a revised range for earnings per share of 22−28 cents. Tenet forecasts net income for 2010 to range from $1.08 billion-$1.11 billion.

Tenet also raised the lower end of its 2010 guidance for adjusted EBITDA to a range of $1.050 billion to $1.100 billion, from the prior range of $1.035 billion to $1.100 billion. Tenet also forecasts the adjusted EBITDA margin in the range of 11.4%-11.8% for 2010.

Management stated that the 2010 adjusted EBITDA outlook will be impacted by the expected $64 million favorable impact from the California provider fee plan and the anticipated effect of the initiatives across a number of other fronts.

Our Recommendation

We believe that volume growth can significantly help achieve future profitability, including growth through the acquisition of hospitals and other health care facilities. We also expect appropriate reimbursement levels and cost control across the portfolio of hospitals to facilitate better cost management and business operations.

Though Tenet has been focusing on cost efficiencies, controlling labor costs in a fluctuating patient volumes environment is a tough challenge for Tenet, as inflation and technology improvements drive supply costs higher, and the efforts to control supply costs through product standardization, bulk purchases and improved utilization become difficult.

Overall, we strongly believe that volume growth can significantly help boost the earnings outlook of Tenet and its labor cost management in future.