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Tickers in this Article: HGRD, WBMD, HEW, JSDA
I don't know a single person who hasn't experienced a healthcare snafu at one time or another. The medical system can be opaque and nearly impossible to navigate as a lone consumer, but luckily there are a few companies out there that actually make the system better. Healthcare ratings provider Health Grades (Nasdaq:HGRD) is doing its part by providing consumers with valuable information about how their hospitals and doctors measure up.

The company has been in business since 1995. It got its start under the name Specialty Health Care Network; it then changed its name to Health Grades in 2000 to more accurately reflect a major part of its business. Today the company provides ratings and cost profiles for 5,000 hospitals, 16,000 nursing homes as well as backgrounds of the nation's 650,000 physicians. It's basically the Consumer Reports of healthcare. (For help finding a plan and provider for your family, read How To Chose A Healthcare Plan.)

How Health Grades Pays The Bills
Health Grades operates in two major segments: Provider Services and The Internet Business Group. Provider services sells hospitals useful marketing materials to promote their services including objective ratings, etc. It accounts for 76% of revenue. The Internet Business Group generates an additional 19% of revenue by providing consumers with ratings over the internet, helping physicians acquire new patients and from online advertising. The remaining 5% comes from licensing fees paid by benefit consultants and employers accessing the company's databases.

The business model provides recurring revenue producing 19 consecutive quarters of sales growth. Each month more than five million people go to the company website, and more than 400 top hospitals use Health Grades ratings to promote their healthcare excellence. It has little competition except for WebMD (Nasdaq:WBMD), which provides consumer health and wellness information.

Business is Healthy

Total revenue in 2007 increased $4.9 million, or 17.6%, to $32.7 million from $27.8 million. This excludes a $3.4 million dollar arbitration award from Hewitt Associates. Health Grades and Hewitt Associates (NYSE:HEW) entered into a three-year agreement with each other in July 2005, which Hewitt terminated leading to the extraordinary item in the company's second quarter report.

Operating income in 2007 increased 21% from $4.82 million in 2006 to $5.82 million (exclusive of Hewitt award) in 2007 and the operating margin (exclusive of Hewitt award) was 17.8%, up slightly from 17.4% a year earlier.

Its major source of revenue, Provider Services, accounted for $25.1 million, increasing 25% year-over-year. The Internet Business Group did $6.1 million in revenue in 2007, a 20% increase or $1 million more than in 2006. It expects both divisions to grow more than 20% in 2008, producing revenue of $41-46 million and operating margins near 20%. (To learn more about revenue reports, check out Understanding The Income Statement.)

Analyst Survey Says...
Currently, four analysts rate it a 'buy' and one rates it as 'overweight'. Roth Capital rates Health Grades a 'buy' with a target price of $7.50. It estimates 2008 EPS will be 17 cents per share and 25 cents for 2009.

magazine ranks it 35th on the July/August 2008 list of fastest growing small companies. With a three-year annualized revenue growth rate of 37.6% and EPS growth rate of 44.6%, who can blame them? However, these lists are somewhat dubious. Case in point: Jones Soda (Nasdaq:JSDA) is on the list at number 76. Jones lost $11.6 million last year as it struggled to find its way. Awards like these should be taken with a heavy dose of salt.

Most importantly, Health Grades' management and board are behind it. Since June 2006, the company has repurchased $16.5 million in company stock, and CEO Kerry Hicks and his brother David, who is executive vice-president, own 20% of the outstanding shares. That's putting your money where your mouth is. (Find out how repurchases can adjust the company's Earnings per share and other ratios in How Buybacks Warp The Price-To-Book Ratio.)

Bottom Line
Four years ago, Health Grades was losing money on $8.8 million in sales. This year it will potentially go over the $40 million-dollar mark producing a nifty profit while providing a useful service that helps educate and inform consumers. It's not too often you find a business that does well by doing good, but Health Grades is the exception. I could stand behind this micro cap.

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