# A Fistful Of Valuations In The Style Of Warren Buffett & Charlie Munger – Chapter 5

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Chapter five of A Fistful Of Valuations In The Style Of Warren Buffett & Charlie Munger by Bud Labitan

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### A Fistful Of Valuations - Chapter 5

An estimated valuation of UnitedHealth Group Inc., UNH was first performed on 5/6/2010.

UnitedHealth Group Incorporated (UnitedHealth Group) is a diversified health and well-being company. The Company operates in four business segments: Health Benefits, which includes UnitedHealthcare, Ovations and AmeriChoice; OptumHealth; Ingenix and Prescription Solutions. On June 1, 2009, the Company completed the acquisition of AIM Healthcare Services, Inc. (AIM). In March 2010, the Company acquired QualityMetric Incorporated.

Last Price 29.49 52 Week High 36.07 52 Week Low 22.80

Does UnitedHealth Group make for an intelligent investment or intelligent speculation in 2010? The 2015 discussion starts at the end of this chapter.

Let’s do a rough estimation of intrinsic value per share for 2010. Starting with a base estimate of annual Free Cash Flow at a value of approximately \$4,800,000,000 and the number of shares outstanding at 1,153,000,000 shares (In 2015, the current number of shares outstanding is 952,000,000.); I used an assumed FCF annual growth of 7 percent for the first 10 years and assume zero growth from years 11 to 15. Review the Free Cash Flow record here, and think about its sustainability:

http://financials.morningstar.com/cashflow/cf.html?t=UNH®ion=USA&culture=en-us

The resulting estimated intrinsic value per share (discounted back to the present) is approximately \$61.97.

Market Price = \$29.49 Intrinsic Value = \$61.97 (estimated) Keep in mind, and compare that Coca Cola’s Debt/Equity ratio is .47 or 47 percent; the Debt/Equity ratio here = .47 Price To Value (P/V) ratio = .45 and the estimated bargain = 52 percent.

More importantly, before we make a purchase decision, we must decide ( filter #1 ) if UNH is a high quality business with good economics. Does UNH have ( filter #2 ) enduring competitive advantages, and does UNH have ( filter #3 ) honest and able management. The current price/earnings ratio = 9.5 It ‘s current return on capital = 10.55

Using a debt to equity ratio of .47, UnitedHealth Group shows a 5-year average return on equity = 19.3

The biggest threat to profitability is: Competition and Government regulations that impose additional costs. The main competitors are: WellPoint Health Networks (WLP), Aetna (AET), Health Care Service Corporation, Humana (HUM), CIGNA Corporation (CI), Kaiser Permanente, Highmark, Inc., Blue Cross Blue Shield of Michigan, HIP Health Plan of New York, Centers for Medicare & Medicaid Services Private, Blue Cross and Blue Shield Association Private, UK National Health Service Private, Medco Health Solutions, Inc. Private, Caremark Pharmacy Services Private.

The Main Competitive Advantage currently is: The company generates 90% of its revenues through three health insurance organizations: one for private clients, one for Medicare recipients, and one for Medicaid beneficiaries. The government-sponsored clients represent an important source of business for UNH, so government can significantly impact United's profitability.

Further discussions on competitive pressures can be viewed here: http://www.wikinvest.com/stock/UNH

You the reader can insert your notes about management here: United has a number of other products and services. Ingenix is a data gathering and analysis division. United uses the data to evaluate the effectiveness of its doctors and hospitals. UNH sells this information to other health industry professionals.

Some industries have higher ROE because they require no assets, such as consulting firms. Other industries require large infrastructure builds before they generate a penny of profit, such as oil refiners. Generally, capital-intensive businesses have higher barriers to entry, which limit competition. But, high-ROE firms with small asset bases have lower barriers to entry. Thus, such firms face more business risk because competitors can replicate their success without having to obtain much outside funding.

Growth benefits investors only when the business in point can invest at incremental returns that are enticing; only when each dollar used to finance the growth creates over a dollar of longterm market value. In the case of a low-return business requiring incremental funds, growth hurts the investor. The wonderful companies sustain a competitive advantage, produce free cash flow, and use debt wisely.

Does UnitedHealth Group make for an intelligent investment or speculation today? Time is said to be the friend of the wonderful company and the enemy of the mediocre one. Before making an investment decision, seek understanding about the company, its products, and its sustainable competitive advantages over competitors. Next, look for able and trustworthy managers who are focused more on value than just growth. Finally ask: Is there a bargain relative to its intrinsic value per share today?

Great investment opportunities come around when excellent companies are surrounded by unusual circumstances that cause the stock to be misappraised. In terms of Opportunity Cost, is UNH the best place to invest our money today? Or, are there better alternatives? How will UnitedHealth Group compete going forward? Technologies change and new technology can emerge. Keep in mind that a financial report like this is a reflection of the past and present. It may be used to project a future, but it may not account for factors yet unseen. Therefore, pay attention to competitive and market factors that may affect changes in profitability.

On Apr 27, 2010, BUSINESS WIRE reported that the UnitedHealthcare company has been selected to administer Colorado state's self-funded health insurance plans, which are offered to about 32,000 Colorado state employees and their families. The five-year contract is effective July 1, 2010.

In summary, using a debt to equity ratio of .47, UnitedHealth Group shows a 5-year average return on equity = 19.3 . Based on a holding and compounding period of 10 years, and a purchase price bargain of 52.4 percent, and a relative FCF growth of 7 percent, then the estimated effective annual yield on this investment may be greater than 14.6%. Going forward, are there any transformational catalysts or condition indicators imaginable on the horizon? Technologies change and new technologies will appear on the scene. Would brand loyalty keep customers buying here?

SEC Filings online: http://www.sec.gov/cgi-bin/browseedgar?company=&CIK=UNH&filenum=&State=&SIC=&owner=include&action=getcompany

Now, let’s discuss UnitedHealth Group Incorporated, UNH, results over the past five year period. As a business, the Net Profit Margin of UnitedHealth Group was in the range of 4.92% in 2010. In 2015, the Net Profit Margin is 4.42% TTM. This indicates that UnitedHealth Group as a business has narrow profit margins. Is this because of growth motivated capital spending, higher costs, or higher debt levels?

UnitedHealth Group’s Debt to Equity Ratio (Quarterly) was 0.95 for Sept. 30, 2015. This helped to produce a Return On Equity in the range of 18.75% in 2010. In 2015, the Return On Equity is 18.52%. This indicates that UnitedHealth as a business.

Its latest annual report of 2014, UnitedHealth Group management claims there are more than 9 million individuals eligible for both Medicare and Medicaid. This group has historically been referred to as dually eligible or MMP. These beneficiaries typically have complex conditions with costs of care that are far higher than typical Medicare or Medicaid beneficiaries.

While these individuals’ health needs are more complex and more costly, they have been historically served in unmanaged environments. This market provides UnitedHealthcare an opportunity to integrate Medicare and Medicaid funding and improve people’s health status through close coordination of care.

Total annual expenditures for MMPs are estimated at more than \$390 billion, or approximately 13% of the total health care costs in the United States. As of December 31, 2014, UnitedHealthcare served more than 315,000 people with complex conditions similar to those in an MMP population in legacy programs through Medicare Advantage dual Special Need Plans.

The main competitors of UnitedHealth Group are: Centers For Medicare and Medicaid Services (Government), Blue Cross & Blue Shield Association (Private), NATIONAL HEALTH SERVICE (Private), Caremark Pharmacy Services (Private), KAISER FOUNDATION HEALTH PLAN, INC. (Private), HCA Holdings, Inc. HCA, Anthem, Inc. ANTM, and Aetna Inc. AET.

In summary, UnitedHealthcare Global participates in international markets through national “in country” and crossborder strategic approaches. UnitedHealthcare’s OptumHealth works to optimize the care delivery system through the creation of high-performing networks and centers of excellence by working directly with physicians to advance population health management and by focusing on caring for the most medically complex patients.

UnitedHealthcare OptumHealth offers its products on a risk basis, where it assumes responsibility for health care costs in exchange for a monthly premium per individual served, and on an administrative fee basis.It manages or administers delivery of the products or services in exchange for a fixed fee per individual served.

Complex population management services is focused on building and executing integrated solutions for payers, governmental agencies, accountable care organizations and provider groups for the highest cost patient segment of the health care system. It focuses on optimizing patient outcomes, quality and cost effectiveness. Its mobile care delivery business provides occupational health, medical and dental readiness services, treatments and immunization programs. These solutions serve a number of government and commercial clients including the U.S. military. OptumHealth serves nearly 38 million people through population health management services, including care management, complex conditions (e.g., cancer, neonatal and maternity), health and wellness and advocacy decision support solutions.

Hospital systems, physician practices, commercial health plans, government agencies, life sciences companies and other organizations that constitute the healthcare system use UnitedHealthcare’s OptumInsight to help them reduce costs, meet compliance mandates, improve clinical performance, achieve efficiency and modernize their core operating systems.

Many of OptumInsight’s software and information products, advisory consulting arrangements and outsourcing contracts are delivered over an extended period, often lasting several years. OptumInsight maintains an order backlog to track unearned revenues under these long-term arrangements. The increase in 2014 backlog was attributable to a revenue management services acquisition and general business growth, partially offset by services performed on existing contracts.

UnitedHealthcare’s OptumInsight serves approximately 300 health plans by helping them improve operational and administrative efficiency, meet clinical performance and compliance goals, develop strong provider networks, manage risk and drive growth. OptumInsight’s services use real-world evidence data to support market access and positioning of products, provide insights into patient reported outcomes and optimize and manage risk.

UnitedHealthcare’s OptumRx provides full spectrum pharmacy benefit management (PBM) services to more than 30 million Americans nationwide, managing more than \$40 billion in pharmaceutical spending annually and processing nearly 600 million adjusted retail, home delivery and specialty drug prescriptions annually. OptumRx also provides PBM services to non-affiliated external clients, including public and private sector employer groups, insurance companies, Taft-Hartley Trust Funds, TPAs, managed care organizations (MCOs), Medicarecontracted plans, Medicaid plans and other sponsors of health benefit plans and individuals throughout the United States. Its distribution system consists primarily of health insurance brokers and other health care consultants and direct sales.

UnitedHealth Group’s health and well-being businesses are subject to comprehensive federal, state and international laws and regulations. These regulations can vary significantly from jurisdiction to jurisdiction, and the interpretation of existing laws and rules also may change periodically.

From this case, I have learned to appreciate the macroeconomic and government forces that can stimulate growth in an industry. So, is UnitedHealth Group a business that I would invest in today? I am not sure. This business works in a highly regulated and a highly competitive industry. While it is a leader in the healthcare industry, I would prefer a higher margin business with less regulations.

In my view, I believe that UnitedHealth Group will play a major role in managing and attempting to reduce overall healthcare costs. As of October 20th, 2015, Valuepro.net estimates the intrinsic value per share of UNH at: \$152. The market price is at: \$121. Therefore, UnitedHealth Group appears to be a mild bargain at this time.

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