Surprising how the writeup did not make reference to any anticipation around the recent US Supreme Court ruling. How does this effect your thesis? Not much I assume given the asymmetric revenue channel mix towards commerical?
I didn't anticipate that the ruling would be a big deal and still don't think it is. Though, it would have been better had SCOTUS ruled the other way.
The majority opinion basically says that this is a loophole Congress needs to fix so that the letter of the law aligns with the spirit of the law. The spirit of the MSPA was to force commercial payers to cover the first couple of years of dialysis before the government steps in to cover the rest.
There are a few reasons why I am not too worried.
First, DVA's contracts run for several years and only a few will be up for immediate renegotiation. This buys the dialysis industry a few years to lobby Congress to fix the loophole. Though Congress isn't known for swift, decisive action, it might move quickly if it its dialysis expenses explode higher and there's less money available for other pet projects.
Second, private insurers won't necessarily take advantage of the loophole. Will the buyers of health plans demand dialysis be included? If so, the first insurer to exclude dialysis will see their business go to a competitor.
Third, you can't own DVA unless you believe that they provide the high quality service at the lowest cost *and will be compensated for that.* Even if dialysis is nationalized (i.e. Medicare pays for all of it), DVA must be able to make a reasonable return on its assets or else it will shut down and no one will get dialysis. Since DVA is the lowest-cost producer, if they can't make a return, no one can, and there will be no dialysis.
This is the same situation with monopoly utilities today. Society has agreed that mission-critical monopoly services are entitled to a reasonable return on their capital. That's likely to be the end state for DVA in a worst case scenario.
Nice writeup but I'm a little confused on your ROIC figure. According to Bloomberg for FY21 this was 9.53% rather than the 50% you cite. How are you calculating this? They use 100 x (T12M Net operating profit after tax / Average invested capital). Many thanks
I used Value Line's numbers. But it looks like I used their ROE figure, not their ROIC figure. Thanks for catching that mistake. DVA's ROE is much higher than its ROIC because its leverage. Thanks for reading!
One other question though Matt - why do they resort to leverage if they're generating so much free cash flow from earnings? Are they committing that mortal sin of funding buybacks through debt?
I'm not 100% sure why they use so much debt. I assume it is to optimize their capital structure and reduce their taxable income. Their business is steady and non-cyclical, so I don't think their leverage is particularly dangerous. Their long-term debt has been steady for about 10 years, so they've not leaned on debt to fuel their recent buybacks.
Surprising how the writeup did not make reference to any anticipation around the recent US Supreme Court ruling. How does this effect your thesis? Not much I assume given the asymmetric revenue channel mix towards commerical?
Hi Bob.
I didn't anticipate that the ruling would be a big deal and still don't think it is. Though, it would have been better had SCOTUS ruled the other way.
The majority opinion basically says that this is a loophole Congress needs to fix so that the letter of the law aligns with the spirit of the law. The spirit of the MSPA was to force commercial payers to cover the first couple of years of dialysis before the government steps in to cover the rest.
There are a few reasons why I am not too worried.
First, DVA's contracts run for several years and only a few will be up for immediate renegotiation. This buys the dialysis industry a few years to lobby Congress to fix the loophole. Though Congress isn't known for swift, decisive action, it might move quickly if it its dialysis expenses explode higher and there's less money available for other pet projects.
Second, private insurers won't necessarily take advantage of the loophole. Will the buyers of health plans demand dialysis be included? If so, the first insurer to exclude dialysis will see their business go to a competitor.
Third, you can't own DVA unless you believe that they provide the high quality service at the lowest cost *and will be compensated for that.* Even if dialysis is nationalized (i.e. Medicare pays for all of it), DVA must be able to make a reasonable return on its assets or else it will shut down and no one will get dialysis. Since DVA is the lowest-cost producer, if they can't make a return, no one can, and there will be no dialysis.
This is the same situation with monopoly utilities today. Society has agreed that mission-critical monopoly services are entitled to a reasonable return on their capital. That's likely to be the end state for DVA in a worst case scenario.
Fantastic insight, thanks for taking the time to outline your thoughts Matt
Nice writeup but I'm a little confused on your ROIC figure. According to Bloomberg for FY21 this was 9.53% rather than the 50% you cite. How are you calculating this? They use 100 x (T12M Net operating profit after tax / Average invested capital). Many thanks
I used Value Line's numbers. But it looks like I used their ROE figure, not their ROIC figure. Thanks for catching that mistake. DVA's ROE is much higher than its ROIC because its leverage. Thanks for reading!
One other question though Matt - why do they resort to leverage if they're generating so much free cash flow from earnings? Are they committing that mortal sin of funding buybacks through debt?
I'm not 100% sure why they use so much debt. I assume it is to optimize their capital structure and reduce their taxable income. Their business is steady and non-cyclical, so I don't think their leverage is particularly dangerous. Their long-term debt has been steady for about 10 years, so they've not leaned on debt to fuel their recent buybacks.
Ah! That makes more sense...I just couldn't make those numbers work! Keep up the great work guys...
Clear points as always, thank you for your time!