USA: Kindred - A Smart Health-Care Play

. NEW YORK CITY (BusinessWeek), September 30, 2008 Focus Stock Kindred: A Smart Health-Care Play Standard & Poor thinks the provider of long-term acute care is poised to benefit from demographic shifts and ranks the shares strong buy by Jeffrey Englander, CFA From Standard & Poor's Equity Research We believe Kindred Healthcare (KND), recently trading at 28 a share, is uniquely positioned to benefit from the demographics of an aging U.S. population. Kindred is the U.S.'s largest provider of long-term, acute care and third-largest skilled nursing facilities chain. It is also one of the nation's largest providers of rehabilitative care. The stock carries Standard & Poor's highest investment recommendation of 5 STARS (strong buy). According to the U.S. Census Bureau, between 2007 and 2015 the percentage of the population aged 65 and older is projected to grow from 12.6% 14.5%, eventually reaching 18.2% in 2025. During that same period, according to the Centers for Medicare and Medicaid Services (CMS), total Medicare enrollment is projected to increase almost 23%, from approximately 44 million in 2007 to approximately 54 million in 2015. Given what we see as Kindred's deep market penetration in key markets, breadth of services along a continuum of care, and strong reputation among the physician and hospital referer base, we believe the company is one of a handful of providers who will perform well in this market. In addition, following Medicare's rate-setting decision in July, which included more favorable than anticipated reimbursement terms for skilled nursing facilities, we view the regulatory environment as more benign and stable than it has been for a while, providing improved visibility to Kindred. As a result of this change, for the fiscal year beginning Oct. 1, 2008, and ending Sept. 30, 2009, the company's skilled nursing facilities will receive a 3.4% rate increase from Medicare, as opposed to a 0.3% cut previously anticipated. We believe this, when combined with the recent long-term acute care hospital rate decision in January of this year, which effectively fixed rates for a 15-month period (because of a transition to a Sept. 30 yearend), provides Kindred with a greater degree of regulatory stability and earnings visibility than it has had in some time. We also anticipate that Kindred's reinvigorated cluster market strategy, whereby it seeks to penetrate specific geographic markets with multiple service offerings across the post-acute-care landscape (skilled nursing, in-patient rehabilitation, and long-term acute care), will drive revenues and earnings by increasing economies of scale, market reputation, and referral base. Following a period of limited growth during the three years between 2004 and 2006, the company has opened six independent long-term care hospitals since the second half of 2007 and plans to open seven additional hospitals between now and yearend 2010, including two additional hospitals in 2008. Although these moves should initially dilute Kindred's earnings per share, by the second year of operation these new hospitals should allow the company to leverage fixed costs over a broader base, increasing margins and returns, in our view. Lastly, we believe that the disposal of the company's institutional pharmacy business, as well as the renegotiation of facility leases with principal lessor Ventas, has removed a drain and distraction on management time and talent and has allowed the company to refocus on growing its core operations. For example, because of the renegotiation of the Ventas leases, Kindred is now able to convert a number of facilities that were previously three-to-four bed units geared toward lower-paying Medicaid patients, to one-to-two bed units geared toward higher-paying Medicare patients, which also increases margins. Read more... Englander is an analyst for Standard & Poor's Equity Research Services. Copyright 2000-2008 by The McGraw-Hill Companies Inc.