(By Balaseshan) Deutsche Bank analyst Darren Lehrich upgraded rating on shares of Gentiva Health Services Inc. (NASDAQ:GTIV) to "Buy" from "Hold" and increased price target to $12.50 from $8, saying he sees risk/reward much improved.
Lehrich said his neutral stance had been underpinned by concerns about the company's debt covenants and, to a greater extent, the potential for Medicare hospice payment reform over the medium-run (2014 timeframe).
While it is well-understood by the market that GTIV successfully amended debt covenants, the analyst believes GTIV shares overly-discount the risk of hospice reform on a nearer-term basis. Based on his glance of CMS' regulations, he believes hospice payment reform is much further out -- thus giving GTIV time to execute better in hospice and de-lever.
Lehrich said GTIV's mix is roughly 50% home health (HH) and 50% hospice. Over the past several years, significant regulatory risks have led to margin/earnings pressure in the HH segment.
Yet, GTIV's HH franchise maintains market-leading organic volume growth and should be poised for higher growth in 2013 due to new hospital re-admission rules (which should increase demand for HH services, in the analyst's view). While HH Medicare rates are expected to step-down modestly in 2013 due to sequestration, he believe rates, overall, will be much more stable versus the prior 2 years.
Furthermore, given the lack of new regulations in the recent CMS HH proposal, Lehrich sees a more stable operating environment. It is still not a "consensus" view that HH could be entering a more stable phase, but he believes investors could adopt that view over the medium-term.
The biggest change to the analyst's investment case relates to his views on the risk for disruptive hospice payment reform over the near/medium-term. His review of the recent CMS fiscal 2013 hospice regulations gives him strong reason to believe that policy development for hospice reform is moving very slowly.
This reduces the risk that hospice rates could change abruptly in 2013-2014, thereby giving Lehrich's greater confidence that GTIV can further "mend" its balance sheet. By year-end 2013, he sees net leverage at 3.8 times versus 4.7 times at Q1-2012; every turn of de-leveraging = $5-$6/share, making upside independent of multiple expansion.
GTIV is trading up 3.27% at $6.31 on Thursday.