New Beds And CMS Updates Will Improve Inpatient Care

Key Takeaways

• Expanding capacity and efficient operations are expected to drive revenue growth and enhance earnings potential.
  
• Strategic contracting and workforce investments aim to improve net margins and decrease labor costs.
  
• Regulatory risk, rising medical claim costs, and occupancy issues threaten revenue and margins, with potential execution risks from joint ventures complicating projections.

Catalysts

Provides post-acute healthcare services in the United States and Puerto Rico.

• Encompass Health's commitment to expanding capacity through the addition of new beds and de novo projects is expected to meet the growing demand for inpatient rehabilitation services, which should drive revenue growth.
  
• The health company's ability to sustain strong discharge rates and high occupancy levels indicates efficient operations, enhancing earnings potential as operational leverage improves.
  
• Encompass Health's focus on contracting strategies, particularly securing episodic payment models tied to fee-for-service reimbursement rates, is expected to enhance net revenue per discharge, positively impacting net margins.
  
• The anticipated CMS market basket update, resulting in a 2.7% increase for Medicare patients, should support future revenue growth, particularly when combined with a favorable payer mix shift.
  
• Continued investments in workforce development and reduced turnover are expected to decrease reliance on premium labor and contract labor costs, thereby improving net margins and overall earnings.

Encompass Health Future Earnings and Revenue Growth

Assumptions

• Analysts are assuming Encompass Health's revenue will grow by 8.1% annually over the next 3 years.
• Analysts assume that profit margins will shrink from 9.0% today to 8.6% in 3 years time.
• Analysts expect earnings to reach $598.0 million (and earnings per share of $5.28) by about April 2028, up from $493.9 million today.
• In order for the above numbers to justify the analysts price target, the company would need to trade at a PE ratio of 25.9x on those 2028 earnings, up from 23.7x today. This future PE is greater than the current PE for the US Healthcare industry at 23.6x.
• Analysts expect the number of shares outstanding to decline by 0.18% per year for the next 3 years.
• To value all of this in today's terms, we will use a discount rate of 6.21%, as per the Simply Wall St company report.

Encompass Health Future Earnings Per Share Growth

Risks

• The company faces risks from regulatory developments which could materially impact its revenue if new rules are unfavorable, particularly in the areas like Medicare reimbursements.
  
• Rising group medical claims severity and frequency have increased benefits expense per FTE by 14%, potentially eroding net margins if this trend continues.
  
• High occupancy rates strain available capacity, necessitating costly expansions. If demand fluctuations occur, this could lead to inefficient use of resources and affect earnings.
  
• Uncertainty surrounding the payer mix, with shifts like the unexpected rise in Medicare fee-for-service discharges, can impact revenue projections if these trends reverse.
  
• The reliance on joint ventures and partnership expansions involves execution risks, which, if not managed effectively, could lead to underperformance in planned revenue and profitability targets.

Valuation

• The analysts have a consensus price target of $129.182 for Encompass Health based on their expectations of its future earnings growth, profit margins and other risk factors.
  
• In order for you to agree with the analyst's consensus, you'd need to believe that by 2028, revenues will be $7.0 billion, earnings will come to $598.0 million, and it would be trading on a PE ratio of 25.9x, assuming you use a discount rate of 6.2%.
  
• Given the current share price of $115.91, the analyst price target of $129.18 is 10.3% higher.
  
• We always encourage you to reach your own conclusions though. So sense check these analyst numbers against your own assumptions and expectations based on your understanding of the business and what you believe is probable.