Shares of UnitedHealth Group Inc. (UNH, Financial) have greatly underperformed the market so far in 2023, with the stock falling more than 11% year to date.
Over that same time, the S&P 500 rallied nearly 14%. While the stock has not participated in the recent rally, there are several reasons why value investors might want to consider adding UnitedHealth to their portfolio.
Recent earnings highlights
UnitedHealth reported first-quarter earnings results that came in above analysts’ expectations. Revenue for the period improved 14.70% to $91.9 billion, which was $2.15 billion more than projected. Adjusted earnings per share of $6.26 compared favorably to $5.49 in the prior year and was 18 cents ahead of estimates.
Looking at each business segment, UnitedHealthcare’s revenue improved 12.60% to $70.5 billion. Earnings from operations grew 13.50% and the operating margin expanded 10 basis points to 6.10%. Growth in this business was driven by the addition of nearly 2 million more people, with gains seen in all areas.
Optum’s revenue growth was even higher at almost 25%. Earnings from operations improved 16%, though the operating margin contracted 40 basis points to 6.90%. Revenue per consumer surged 34% due to care services related to at-home, digital and in-clinic. Revenues for Optum Rx were up 15% due to new clients and an increase in prescriptions growing from 7.40% to 378 million.
Following strong earnings results, management raised its forecast for 2023. Adjusted earnings per share are now projected to be in a range of $24.50 to $25, up from $24.40 to $24.90 previously. At the midpoint, this would represent an increase of 11.60% from 2022.
Takeaways
Both segments performed well during the period. Growth should continue as the UnitedHealthcare segment recently was awarded Medicaid contracts in Indiana and Texas, which should help increase the number of people served. Management expects to lead the market in the number of people severed through its offerings in Medicare Advantage.
Company-wide earnings from operations did grow 16% to $8.10 billion, but the net margin fell 20 basis points to 6.10% sequentially. Margins contracted for UnitedHealth despite the mid-teens growth rate in earnings from operations as the company is making investments in its businesses. For example, UnitedHealth continues to expand Optum’s services and product offerings. This has resulted in high growth rates in the business. One positive note on this subject is the net margin improved 30 basis points from the fourth quarter of last year.
Additionally, adjusted free cash flow totaled $5.10 billion, more than enough to cover the $3.50 billion the company spent on dividends and buybacks during the period.
The upward revision in guidance for the year is also a positive, though the implied year-over-year growth is below the 10- and five-year compound annual growth rates of 16%. The revised midpoint still shows the double-digit growth that investors have come to expect from UnitedHealth.
GuruFocus rankings
While the quarter was strong on most metrics, it is the overall quality of the company that I find appealing. GuruFocus appears to agree.
Overall, UnitedHealth enjoys a GF Score of 97 out of 100. Stocks with scores in this range have the potential for outperformance based on research conducted by GuruFocus.
With a score of this magnitude, UnitedHealth needs to perform well on every component, and it does. UnitedHealth receives a perfect score in the areas of profitability and growth and solid scores for value, financial strength, and momentum.
For profitability, nearly every current metric is well above the industry as well as near the high-end of UnitedHealth’s decade-long range. This includes top marks in net margin, return on equity and return on assets. The perfect score for growth is largely driven by near-term growth of free cash flow and earnings without nonrecurring items.
If there are areas of concern, it is that debt-to-equity is near the bottom of the industry, but this metric has deteriorated because of recent acquisitions. This includes the $8 billion addition of Change Healthcare last year and the $5.4 billion purchase of LHC Group that closed earlier this year. That said, interest coverage remains very strong and the Piotroski F-score of 8 out 9 means that the fundamentals of UnitedHealth are very healthy.
Dividend and valuation analysis
Good business fundamentals have enabled UnitedHealth to regularly raise its dividend by a high rate. Case in point, the company announced a 14% dividend increase on June 7. This marks the 14th consecutive year of dividend growth.
The last decade has seen a compound annual growth rate of 22%. The most recent increase is down compared to this growth rate, but it is closer to the medium-term CAGR of 16.7%. The dividend is likely secured given the company’s ability to generate cash flow. The projected payout ratio for 2023 is just 29%. Shares yield 1.60%, which is slightly higher than the average yield of 1.54% for the S&P 500 Index.
Shares of UnitedHealth offer double-digit total return potential according to the GF Value chart.
UnitedHealth has a current share price of $459.50, but a GF Value of $543.48, giving the stock a price-to-GF Value ratio of 0.85. Reaching the GF Value from current levels would result in a 15.5% return before factoring in the dividend yield.
Final thoughts
The market has not been kind to UnitedHealth even as the S&P 500 Index has enjoyed a solid rally year to date. I believe this has provided investors with an opportunity to acquire shares in the company at a reasonable price.
The overall company is performing well, even if profitability has eroded some as a result of investments made to grow the business. Recent results were above estimates and UnitedHealth raised its guidance for the year. The company also has a near-perfect GF Score, indicating that shareholders could see outsized gains in the near future.
The dividend was recently raised as well and shares offer mid-teens potential returns, which could make UnitedHealth a name investors may want to consider purchasing.
