Canada doesn't factor into discussions about healthcare very often outside of its national single-payer system. Nevertheless, investors looking for rich dividend payers in healthcare have to be willing to go the extra mile, and Canada rewards that search. While CML HealthCare (TSE:C.CLC) is not the easiest stock for American investors to buy or follow, the rich 8% yield, strong margins and growth potential make it worth the effort to consider.
Investopedia Broker Guides: Enhance your trading with the tools from today's top online brokers.
Now All About Canada
While CML HealthCare used to own some healthcare imaging centers in the United States, the company jettisoned though in late 2011 and is now solely focused on providing services within Canada. CML is Canada's largest non-hospital provider of imaging services, but two-thirds of the company's revenue comes from its outpatient lab testing business--a business that is similar in many respects to better-known names like Quest Diagnostics (NYSE:DGX) and LabCorp (NYSE:LH).
CML is focused intensely on serving the province of Ontario, which stands to reason since over one-third of Canada's population lives in that province. That said, the company does operate in British Columbia and Alberta, and expansion (presumably through acquisition) into other provinces could be an avenue to future growth.
Reimbursement a Familiar Challenge
While Canada's healthcare system, in many respects, is different than the U.S., there are familiar reimbursement challenges to service providers in the country. The company has had to contend with fee reductions in the past, and the Ontario Health Insurance Plan (OHIP) recently announced further fee reductions.
It's hard to argue that service fee reductions are ever a good thing for the sector, but the reality is that CML is used to the phenomenon. Moreover, the company has maintained solid margins throughout these revisions--with operating margins over 28%, CML compares very well to lab companies like Quest or LabCorp in the U.S.--and it adds even more value to their scale.
SEE: A Look At Corporate Profit Margins
Results Show More Need for More Growth
I don't doubt that there are investors that would be happy to just cash in dividends from CML for years to come and not worry about the growth potential. Nevertheless, the dividend stocks that tend to perform the best are those with dividend growth.
Growth at CML is so-so. Revenue rose 5% this past quarter, and a solid improvement in gross margin (nearly two points) helped offset some increased operating costs and led to a nearly 6% increase in operating income.
As the company already has an extremely high dividend payout (a legacy of its time as a CanRoy), further growth in the dividend has to be supported by underlying business growth. To that end, management may well look to expand its service offerings into additional provinces (including Quebec), or expand its service offerings into women's health and cancer diagnostics.
It will be interesting to see the extent to which CML copies the blueprint of American diagnostics and service firms. LabCorp and Quest have made it a priority to develop or acquire proprietary tests that bring higher reimbursement rates. Likewise, companies like Sequenom (Nasdaq:SQNM), Exact Sciences (Nasdaq:EXAS) and Myriad Genetics (Nasdaq:MYGN) look to build their business from proprietary novel tests. It would be very un-CML-like to start committing resources to risky proprietary test developments, but expansion into more esoteric testing could make sense given the possibility of leveraging it through the existing infrastructure.
The Bottom Line
CML HealthCare is not going to be the most convenient stock for American investors. The company's ADR is quite illiquid and not all brokerages make it easy to buy stocks trading on the Toronto Stock Exchange. Nevertheless, most brokerages can now handle this business and the relative scarcity of high dividend yields in healthcare (at least outside of Big Pharma) may make the additional hassle worthwhile.
With limited organic growth prospects, CML HealthCare is not going to bail out investors who overpay for these shares. Fortunately, very little growth is priced into these shares; even just very low single-digit growth can support a price close to C$11. That's admittedly not a huge amount of capital appreciation potential, the combination of solid total return prospects (capital gains and dividend) and limited competition make this a name worth considering for more conservative investors.
At the time of writing, Stephen D. Simpson did not own shares in any of the companies mentioned in this article.