News Analysis date published New: 
Monday, November 5, 2012 - 11:30
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Monday, November 5, 2012 - 11:30
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Monday, November 5, 2012 - 11:30

The Expanding Health Care Industry Could Send This Small Cap Stock 70% Higher

Monday, November 05, 2012 11:30 AM

When a stock runs up fast, it's natural for investors to want to just close their eyes, hang on and hope it'll go even higher. And a lot of times it does. But we all know we're taking a chance if we play investments like that. Surging stocks are often overbought and ready to reverse course quickly.

That's why I think the best approach to a surging stock is to step back, take a deep breath and do some research. A little extra homework should quickly give you a good sense of whether a high-flyer has more room to run or could soon crash back to Earth.

Take the well-known small-cap stock AMN Healthcare Services Inc. (NYSE: AHS), for example. The nation's top player in the permanent and temporary health care staffing industry has projected revenue of $935 million for 2012 and the shares have been hot, rising 129% so far this year. But after that big a move, I wouldn't touch them without closely examining fundamentals to confirm substantially more growth is possible.

And for AMN, it is possible. Indeed, the stock could jump around 70% in the coming three to five years, in my opinion. Take a look at the chart below…

As you might imagine, demographics and macroeconomics are apt to provide strong tailwinds for AMN. As the graying of the population continues -- there are more than 40 million people over the age 65 in the United States compared with 35 million in 2000 – health care will be a progressively larger part of the economy. It's already 18% of U.S. gross domestic product (GDP) and economists project it could grow to 40% by 2050.

Thus, I'm sure there will continue to be high demand for nurses and physicians -- the two main types of caregivers AMN helps to place. Physical therapists and medical technicians only make up a small portion of the firm's 5,300 contract health care professionals. I prefer the focus on doctors and nurses anyway, because they're the most thoroughly educated, trained and skilled health care workers and therefore the most valuable. What's more, they're almost always in short supply. And it's precisely why AMN has a better chance of charging a premium to place them in permanent or temp positions with its nationwide client base. That base includes many kinds of health care providers such as hospitals, managed care companies, community health centers and physician practice groups.

The temporary nursing division, which handles physical therapists and techs in addition to nurses, currently accounts for 64% of revenue ($598 million). The temp physician segment generates 31% of revenue ($290 million) and the permanent physician division accounts for 5% ($47 million).

It's estimated that 5.6 million new health care jobs will be created by 2020, according to the Georgetown University's Center on Education and Workforce. Because of this, AMN has wisely been preparing for the trend by building its contract workforce through recruiting and acquisitions. On Sep. 1, 2010, for instance, the company paid $186 million for its main rival Nursefinders, a private health care staffing service with 80 offices nationwide. Besides growing AMN's contract workforce, the acquisition enhanced the firm's managed services -- an especially fast-growing aspect of health care staffing where a provider like AMN assumes control over a client's entire staffing and employee evaluation process.

Considering the broader trends I mentioned and AMN's leadership position in the health care staffing industry, I agree with analyst projections for earnings per share (EPS) to more than triple from 30 cents in 2012 to 95 cents by 2017. That would be an impressive 26% annualized growth rate.

Risks to Consider: The health care industry may be set for enormous expansion, but AMN could still face obstacles that drag down its own long-term performance. The possibilities include factors like lower hospital admission rates, decreased Medicare and Medicaid reimbursement, and even the inability to find enough quality health care workers to place.

Action to Take --> Yes, there's uncertainty in the market today, especially at the moment since the two U.S. presidential candidates have such different health care policies. But the industry will increasingly need doctors, nurses and other caregivers no matter who wins the election and I'm confident AMN can remain a leader in terms of keeping the industry staffed.

Thus, I'm also confident analysts are in the ballpark with their estimates for EPS of 95 cents by 2017 and a typical price-to-earnings (P/E) ratio of 18 during that time. Investors are currently paying 22 times 2013's projected EPS of 45 cents, so a five-year average of 18 seems more than reasonable.

If you multiply that figure by 2017's projected earnings, then you get an estimated stock price of $17.10 (18 x $0.95). That would be a 71% increase from the current stock price of about $10 a share and an annualized rate of return of 11.2% for the next five years.

Tim Begany does not personally hold positions in any securities mentioned in this article.
StreetAuthority LLC does not hold positions in any securities mentioned in this article.