The COVID-19 pandemic impacted business in nearly every industry on the planet in 2020, and hospice care was no exception. Chemed Corp (NYSE:CHE) saw year-over-year revenue take a hit due to a decreased inability to access nursing homes- one of their major acquisition sources. Yet good news is on the horizon, as the company’s CEO is confident that admissions from senior housing will rebound sometime in 2021. This, combined with a recent extension on the moratorium on Medicare payment sequestration until the end of the year, means Chemed Corp could be set up for a strong financial showing in 2021.
When considering these current stories about Chemed Corp, we need to determine which news topics will have a long-term and ongoing effect on the company and its share price. CHE is positioned in a market predicted to see strong growth over the next decade, which will likely have a long-term positive impact on the company’s share price.
While current news stories, good or bad can sway our opinion about investing in a company, it’s good to analyze the fundamentals of the company and to see where it’s been in the past and in which direction it’s heading.
This article will focus on the long-term fundamentals of the company, which tend to give us a better picture of the company as a viable investment. I also analyze the value of the company versus the price and help you to determine if CHE is currently trading at a bargain price. I provide various situations which help estimate the company’s future returns. In closing I will tell you my personal opinion about whether I’m interested in taking a position in this company and why.
Snapshot of the Company
A fast way for me to get an overall understanding of the condition of the business is to use the BTMA Stock Analyzer’s company rating score. It shows a score of around 86/100. Therefore, Chemed Corp is considered to be a good company to invest in, since 70 is the lowest good company score. CHE has high scores for 10 Year Price Per Share, ROE, Earnings per share, Ability to Recover from a Market Crash or Downturn, and Gross Margin Percent. It has a low score for PEG Ratio. A low PEG Ratio score indicates that the company may not be experiencing high growth consistently over the past 5 years. In summary, these findings show us that CHE seems to have above average fundamentals since the majority of categories produce good scores.
Before jumping to conclusions, we’ll have to look closer into individual categories to see what’s going on.
(Source: BTMA Stock Analyzer)
Fundamentals
Let’s examine the price per share history first. In the chart below, we can see that price per share had been steadily increasing for nearly a decade, with the annual growth rate accelerating over the last five years. Overall, share price average has grown by about 700.49% over the past 10 years or a Compound Annual Growth Rate of 26%. This is an impressive rate of return.
(Source: BTMA Stock Analyzer – Price Per Share History)
Earnings
Looking closer at earnings history, we see that earnings were relatively flat from 2011 to 2017. The last three years have seen a stark increase, however, with EPS nearly quadrupling from 2017 to 2020.
Consistent earnings make it easier to accurately estimate the future growth and value of the company. So, in this regard, CHE is a decent, but not ideal candidate of a stock to accurately estimate future growth or current value.
(Source: BTMA Stock Analyzer – EPS History)
When we break down the main businesses of Chemed Corp, it gives us a better picture of how VITAS Healthcare and Roto-Rooter are doing individually. We can see that Roto-Rooter’s adjusted net income (earnings) have grown by 26.5% over the past three years. In addition, VITAS’s adjusted net income (earnings) has grown by 25.9% over the past three years. I believe that Chemed Corp flies under the radar of many common investors, because some don’t realize that Chemed Corp is the parent company of VITAS and Roto-Rooter. Also, I feel that a great deal of investors haven’t noticed how well these two businesses have grown their earnings over the past several years.
Since earnings and price per share don’t always give the whole picture, it’s good to look at other factors like the gross margins, return on equity, and return on invested capital.
Return on Equity
The return on equity jumped from around 20% to the mid 30%s in 2018 and has maintained this higher level for the last three years.
For return on equity (ROE), I look for a 5-year average of 16% or more. So, CHE easily meets my requirements. The five-year average ROE is decent at around 30%, and it’s a good sign that the ROE has been fairly steady over the last three years.
(Source: BTMA Stock Analyzer – ROE History)
Let’s compare the ROE of this company to its industry. The average ROE of 129 healthcare support service companies is 16.60%.
Therefore, Chemed Corp’s 5-year average of 29.68% and current ROE of 39.25% are well above average.
Return on Invested Capital
The return on invested capital has been consistent over the last three years following a big increase in 2018, a trend that mirrors the ROE chart above. Five-year average ROIC is around 25%. For return on invested capital (ROIC), I also look for a 5-year average of 16% or more. So, CHE exceeds this benchmark.
(Source: BTMA Stock Analyzer – Return on Invested Capital History)
Gross Margin Percent
The gross margin percent (GMP) has steadily increased over the last five years. Five-year average GMP is above par at around 31.38%. I typically look for companies with gross margin percent consistently above 30%. So, CHE has proven that it has the ability to maintain acceptable margins over a long period.
(Source: BTMA Stock Analyzer – Gross Margin Percent History)
Looking at other fundamentals involving the balance sheet, we can see that the debt-to-equity is less than 1. This is a good indicator, telling us that the company owns more than it owes.
CHE’s Current Ratio of 1.1 is also good, indicating that it has a sufficient ability to use its assets to pay its short-term debt. Ideally, we’d want to see a Current Ratio of more than 1, so CHE exceeds this amount.
According to the balance sheet, the company appears to be in good financial health. In the long term, the company is stable in regards to its debt-to-equity. In the short-term the company’s financial situation is also adequate.
The Price-Earnings Ratio of 23.1 indicates that CHE might be selling at a high price when comparing CHE’s PE Ratio to a long-term market average PE Ratio of 15. The 10-year and 5-year average PE Ratio of CHE has typically been between 25.7 and 32, so this indicates that CHE could be currently trading at a low price when comparing to CHE’s average historical PE Ratio range.
CHE currently pays a dividend of 0.30%.
(Source: BTMA Stock Analyzer – Misc. Fundamentals)
The Story Behind The Dividend
(Source: Morningstar)
In regards to dividend history, I’m first interested in knowing if the payout ratio is sustainable. At this time, it’s around 7%, which means that there is still tons of room to grow the dividend. Also notice that CHE has a regular history of buying back shares, which contributes to higher payout ratios.
If we look only at the dividend yield, we see a range of 0.25% to 0.79%. This stock pays out a small dividend. Dividend payouts have increased consistently over the 5 year period, therefore this stock may be desirable for dividend investors. However, dividend yields have been trending downward during the same period. This is not a concern though, since the declining yield has been simply caused by the strong climb in share price over the past five years.
Although CHE participates in share buybacks, sometimes buybacks don’t make sense, as according to Warren Buffett: “There is only one combination of facts that makes it advisable for a company to repurchase its shares: First, the company has available funds — cash plus sensible borrowing capacity — beyond the near-term needs of the business and, second, finds its stock selling in the market below its intrinsic value, conservatively calculated.”
In the example of CHE, the company appears to have adequate equity as indicated by its satisfactory debt-to-equity ratio and its short-term cash seems sufficient as indicated by its current ratio. Now let’s consider its borrowing capacity.
As of December 31, 2020, the Company had approximately $412 million of undrawn borrowing capacity. More recently, on February 24, 2021, the company CFO, David Williams stated:
…if you look at the cash on our balance sheet of $200 plus million or $300 plus million of free cash flow, we have $500 million of cash flow to play with in terms of share repurchase and other investment opportunities and we fully intend to put that to work if we’re able to in 2021.
Therefore, it seems safe to say that Chemed Corp. has no issues with its availability of funds including cash plus sensible borrowing capacity.
In addition, more buy backs were executed when the share price was lower and less buy backs were made in past 5 years of share price growth. This indicates that Chemed Corp’s management has done a sensible job of buying back shares to return value back to shareholders.
If I were currently interested in buying CHE now for the dividend, I would be trying to buy when the dividend yield was highest relative to its past. From the chart below, we can see that the dividend yield is near a low point relative to the past 10 years. Therefore, it would seem that it’s not an ideal time to buy now if my priority is a better than average return through dividends. But keep in mind that the yield has been declining because of the share price growth over the past 5 years, as stated previously.
(Source: gurufocus)
Overall, the dividend situation with CHE is positive. On the pro side, the stock pays a consistent dividend. The dividend share has been increasing consistently over the past 7 years at a compound annual growth rate of 7.3%, which is impressive. Also, the payout ratio leaves plenty of room for the dividend to grow and share buybacks aim to return value back to shareholders.
On the con side, the dividend yield is small (currently 0.30%), but its growth rate shows much potential for the long-term dividend investor.
This analysis wouldn’t be complete without considering the value of the company vs. share price.
Value Vs. Price
For valuation purposes, I will be using a diluted EPS of 19.48. I’ve used various past averages of growth rates and PE Ratios to calculate different scenarios of valuation ranges from low to average values. The valuations compare growth rates of EPS, Book Value, and Total Equity.
In the table below, you can see the different scenarios, and in the chart, you will see vertical valuation lines that correspond to the table valuation ranges. The dots on the lines represent the current stock price. If the dot is towards the bottom of the valuation range, this would indicate that the stock is undervalued. If the dot is near the top of the valuation line, this would show an overvalued stock.
(Source: BTMA Wealth Builders Club)
According to this valuation analysis, CHE is undervalued.
- If CHE continues with a growth average similar to its past 10 years earnings growth, then the stock is overpriced at this time.
- If CHE continues with a growth average similar to its past 5 years earnings growth, then the stock is greatly undervalued at this time.
- If CHE continues with a growth average similar to its past 10 years book value growth, then the stock is overpriced at this time.
- If CHE continues with a growth average similar to its past 5 years book value growth, then the stock is undervalued at this time.
- If CHE continues with a growth average similar to its past 5 years total equity growth, then the stock is undervalued at this time.
- According to CHE’s typical PE ratio relation to the S&P 500’s PE Ratio, CHE is undervalued.
- If CHE continues with a growth average as forecasted by analysts, then the stock is fairly priced.
This analysis shows an average valuation of around $550 per share versus its current price of about $450, this would indicate that Chemed Corp. is undervalued. If you really want to be safe, I would personally lean more towards the conservative side and try not to pay more than the Low Range of the Low Forward Growth and PE valuation of $447.
Forward-Looking Conclusion
According to the facts, Chemed Corp is financially healthy in a short-term sense of having enough cash to cover current liabilities. Also, its debt-to-equity shows that the company is strong in long-term health.
Other fundamentals (EPS, ROE, ROIC, GPM) are all impressive, on the up-and-up, and pretty much a fundamental analyst’s dream.
The dividend situation is very good since the company pays a consistent dividend yield that has been growing at a rate of 7.3% per year. This stock could potentially help to compound an investor’s wealth over the long-term.
Lastly, this analysis shows that the stock is undervalued.
Another pro is that this stock typically performs as good as or better than US stock market. The chart below shows how CHE almost mimicked the S&P 500 benchmark from 2007 to 2014. Then CHE greatly outperformed the benchmark from 2014 to 2021. The stock has proven that it has the ability to provide substantial growth, plus its dividend adds even more impressive growing power.
In my opinion, CHE could be a good match for patient investors looking for a mostly stable growing stock with a consistent dividend to hold for the long-term in order to build wealth. As long as the majority of company is produced in the healthcare industry, there will be periods of volatility. But the patient investor will be able to ride out these waves and continue to collect a growing dividend in the meantime.
(Source: Morningstar)
Predicted Growth
Over the next five years, the analysts that follow this company are expecting it to grow earnings at an average annual rate of 6.95%. This year, analysts are forecasting earnings increase of -4.5% over last year. Analysts expect earnings growth next year of 9.3% over this year’s forecasted earnings. (Source: Forecast Earnings Growth)
If you invest today, with analysts’ forecasts, you might expect about 6.95% growth per year. Plus, we’ll add the current 0.30% forward dividend. This brings the annual return to around 7.25%.
Here is an alternative scenario based on CHE’s past earnings growth. During the past 10-year period, the average EPS growth rate was about 16.8%. Plus, the average 5-year dividend yield was about 0.43%. So, we’re at a total return of 17.23%.
During the past 5-year period, the average book value growth rate was about 8.46%. Plus, the average 5-year dividend yield was about 0.43%. So, we’re at a total return of 8.89%.
But when considering cash flow growth over the past 10 and 5 years, the growth has been 11.4% and 34.9%, respectively. Plus, the average 5-year dividend yield would give us a total return of 11.83% to 35.33%. Considering all of these return scenarios, we have noted a low annual return of 7.25% to a high return of 35.33%.
Therefore, leaning on the conservative side, our annual return could likely be around 7% to 11%., with the potential of much greater returns if we buy at a bargain price.
If considering actual past results of Chemed Corp, which includes affected share prices, and long-term dividend yields, the story is a bit different. Here are the actual 10 and 5-year return results.
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10 Year Return Results if Invested in CHE:
Initial Investment Date: 3/21/2011
End Date: 3/21/2021
Cost per Share: $65.50
End Date Price: $452.37
Total Dividends Received: $9.80
Total Return: 605.60%
Compound Annualized Growth Rate: 22%
_______________
5 Year Return Results if Invested in CHE:
Initial Investment Date: 3/21/2016
End Date: 3/21/2021
Cost per Share: $132.27
End Date Price: $452.37
Total Dividends Received: $5.90
Total Return: 246.47%
Compound Annualized Growth Rate: 28%
_________________
From these scenarios, we have produced results from 22% to 28%. I feel that if you’re a long-term patient investor and believer in CHE, and its existing services (hospice care and plumbing services), you could expect CHE to provide you with a minimum of around 7% to 10% annual return with more significant returns into the high teens and twenties for investors who buy/sell at opportune times.
As a comparison, the S&P 500’s average return from 1928-2014 is about 10%. So, in a typical scenario with CHE, you could expect to earn a similar return result as compared with an S&P 500 index fund, with the upside of more significant returns. Granted, there would be less diversification while invested in CHE vs the S&P 500, but the small risk of investing in this company is offset by its solid business fundamentals, growth potential, and proven returns.
For me, the choice is certain. I would take an objective look at this company and realize that Chemed Corp. is a chance to own a profitable company that is fundamentally sound. Many investors don’t know of this company or that it is diversified as the owner of two prominent and necessary companies (VITAS Healthcare and Roto-Rooter). In essence, it often flies under the radar. But there is no denying that this investment offers great opportunity. It has a growing dividend that can compound wealth. This is an ideal stock to buy at a fair or low price and to hold with a growing dividend to compound your wealth. That being said, the present is a good time for CHE, as it seems to currently be trading at a bargain price.
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