EUR 850.00 For Business Accounts Only

Morningstar | Premier's Fiscal 2Q Results Meet Our Expectations; Maintaining FVE

Narrow-moat Premier reported fiscal second-quarter results that largely tracked our expectations for consolidated revenue growth and profitability. While the drivers of these results were somewhat different than expected--continued margin deterioration in the firm's products business with stronger growth out of its performance services segment--we anticipate making only slight tweaks to our model. As a result, we're likely to keep our $40 fair value estimate unchanged for now. We believe investors would be well served to await a larger margin of safety before considering the shares.

While an increasingly small component of Premier's overall profitability, the products segment has been disappointing over the last handful of quarters. Reimbursement compression in the company's specialty pharmacy business had led to persistent gross margin declines. We don't believe this asset contributes meaningfully to Premier's narrow economic moat, but we're disappointed to see investments in this area fail to pay off. That said, strength in the firm's consulting operations led to better-than-anticipated revenue growth and gross margin expansion in the performance services segment, offsetting weakness elsewhere in the business. Administrative fee revenue continues to expand at a low- to mid-single-digit clip, driven by increased contract penetration and the conversion of a few new clients. That said, group purchasing organization market share gains are likely to decelerate over time after experiencing meaningfully above-market growth rates over the last four years.

Despite the in-line quarter, we'll probably lower our adjusted EBITDA and earnings forecasts slightly as management suggested investment levels will be modestly higher than expected in the second half of the fiscal year. The integration of recently acquired Stanson Health along with the expansion of Premier's generic drug and product sourcing initiatives account for the bulk of these expenditures.

Premier remains well positioned to take advantage of the slow but inevitable shift toward more prevalent value-based payment systems in the U.S. healthcare system. Regulatory policy continues to push providers toward taking on more risk, illustrated by the recent changes to Medicare's accountable care organization program design published by the Centers for Medicare & Medicaid Services last month. In essence, CMS is requiring ACOs to participate in two-sided risk-sharing agreements much more quickly than under prior guidelines (within two years, on average, versus six), which should help increase accountability and savings for the Medicare program. While the transition from fee-based to value-based arrangements will be slow and methodical, we're encouraged that CMS has continued to push for progress across multiple administrations.

Finally, we applaud management's flexible and disciplined approach to share repurchases. After noting the decline in buyback activity last quarter as the stock largely traded in 2-star territory, we're encouraged to see Premier return to the marketplace over the last few months to buy over $90 million in stock at a modest discount to our estimate of fair value.