In the second quarter, the firm’s managers found 9 new opportunities for their portfolio of 130 stocks. The largest new buys are: CareFusion Corp. (CFN), Health Net Inc. (HNT), Ares Commercial Real Estate Corp. (ACRE), Enzon Pharmaceuticals Inc. (ENZN).
CareFusion Corp. (CFN) is a pharmaceuticals and biotechnology company that helps hospitals increase the quality of their care. FPA bought 3,695,000 shares of the company at an average price of $25, in between its narrow 52-week range of $22.30 and $27.29 per share, and near the same price it was trading at the beginning of 2010, $26, several months after it began trading on the NYSE subsequent to spinning off from Cardinal Health in August 2009. In 2011 it underwent a major restructuring and divided into two segments: Medical Systems and Procedural Solutions, and involved the laying off of 850 employees.
According to filings, CareFusion’s revenue has been rising since the spin-off in 2009, while net income has been mixed. In the most recent quarter ended March 21, 2012, the company’s revenue increased by $77 million to $919 million, due to strong performance in its Medical Systems segment, helped by its acquisition of Rowa in August 2011, while revenue from its Procedural Solutions segment declined, impacted by its sale of Onsite services in 2011.
The company also had to increase reserves in its Medical Services segment due to costs associated with problems in some of its AVEA ventilators in the quarter ended Sept. 30, 2011. The total charge was about $9 million for the nine months ended March 31, 2012.
CareFusion is a cyclical company and typically has higher sales in its second and fourth quarters and lower sales in its first and third quarters of its fiscal year. (FPA bought during its fiscal fourth quarter.)
Romick comments on CareFusion in his second-quarter letter: “In this country, it has dominant market positions in a majority of its businesses. CFN's products and services are particularly attractive because they help lower hospitals' operating costs. With new, highly motivated and experienced management at the helm, we believe CFN could improve its R&D productivity and grow international sales at a faster rate. This should translate into better long-term EPS growth. Management's actions to date should increase the company's operating margin to a level more commensurate with its strong share position and in line with similarly positioned medical device companies. The company is trading at ~10x cash earnings and it has minimal net debt leverage, so we find CFN to be an attractive investment.”
Health Net Inc. (HNT) is another health care company, which focuses on administering health benefits through group, individual, Medicare, Medicaid and the U.S. Department of Defense. In April, it sold its Medicare PDP business to CVS Caremark (CVS). FPA previously made a significant profit on this stock. It bought a total of 2,881,700 shares in the third and fourth quarters of 2009 at average prices of $15 and $19.50, then sold out in the first and fourth quarters of 2010 at average prices of $24.50 and $27.
Their new investment is of 508,000 shares at an average price of $30. The stock has since slumped 31% from that price.
After a run of top-line growth from 2002 to 2009, the company’s revenue has been in decline, and earnings dipped to $72.1 million or 80 cents per share in 2011, compared to $204.2 million or $2.06 per share in 2010. The decline was due to the setback of a legal judgment in the first quarter of 2011 that cost $177.2 million pretax in charges and resulted in a $108.2 million net loss for the quarter.
In the second quarter ended June 30, 2012, the company warned that its future results would be negatively impacted by higher medicare and Medicaid costs. It lowered its GAAP EPS projections for 2012 to a range of $1.45 to $1.55, down from the previously expected $2.85 to $3.00 per share. The company particularly struggled with lower Western Region Operations and Government Contracts net earnings from higher than expected commercial health care costs and higher than expected Medicaid health care costs.
“We currently are actively engaged in what we believe are productive discussions with the state of California’s Department of Health Care Services (DHCS) on a wide range of issues, including rates for Medi-Cal and the SPDs,” said Jay Gellert, Health Net’s chief executive officer. “Based on our experience to date, current SPD rates are inadequate. We are hopeful that these discussions with DHCS will result in a process intended to ensure adequate rates going forward.
In the second quarter, the company’s revenues increased 7.1% year over year due to an increase in health plan services premiums. For the six months ended June 30, its revenue was down 5.7% primarily due to a decline in Government Contracts revenue from a change in one of its contracts.
Ares Commercial Real Estate Corp. (ACRE) is a commercial real estate loan company located in Chicago, Ill. It is one of three investment teams of Ares Private Debt Group. FPA bought 218,112 shares of Ares in the second quarter, so it accounts for just 0.048% of his portfolio. The company began trading on the NYSE in April 2012, and shares are down more than 7% to date. Its IPO price was $18.50 per share, and shares sell on Wednesday for $16.68.
In its only SEC filing so far, the company reported financial results for the first quarter of 2012. Ares Commercial reported that it had cash of $4.6 billion at March 31, 2012, compared to $1.2 billion at Dec. 31, 2011. Net earnings for the quarter were $508 million. Commencing with the year ended Dec. 31, 2012, the company intends to be taxed as a real estate investment trust (REIT).
Enzon Pharmaceuticals Inc. (ENZN) is a biopharmaceutical company that develops and commercializes therapeutics for the treatment of cancer and related diseases. FPA bought 379,826 shares of the company at an average price of $6.50. Seth Klarman owns 18.63% of shares outstanding, and 12.2% is owned by Carl Icahn. FPA’s new position accounts for a mere 0.033% of their portfolio.
The company has been trading on the NASDAQ since 1984 and around the turn of the millennium traded for more than $70 per share. Over the last five years the stock has declined a little more than 2%.
Its financial history shows that during this relatively stagnant period for its stock, the company’s revenue per share declined at an annual rate of 25% and it suffered net losses in 2010 and 2011. However, the company in 2010 sold its specialty pharmaceuticals company, which affected its financial reporting so that without the divested company, it earned $51.4 million in 2009 and $57 million in 2008. Enzo has since repositioned itself as a research and development company.
Enzo has four product candidates: PEG-SN38 and mRNA antagonists targeting the Androgen Receptor (AR), Hypoxia-Inducible Factor-1a (HIF-1a) and Survivin. Its strategy is to advance its pipeline as quickly as possible. Currently it derives revenues from royalties and licensing agreements with other companies for sales of products including its Customized Linker Technology. The majority of its royalties revenue came from royalties on a product called PEGINTRON® which is marketed by Merck & Co. (MRK).
For the six months ended June 30, 2012, the company’s royalty revenue decreased 4% year over year to $20.1 million, largely due to reduced foreign sales of PEGINTRON. The company reduced expenses through several restructuring programs over the last year which reduced salary and benefits expenses, and other cost savings measures. The company also repurchased 0.8 million shares for a cost of %5.3 million during the second quarter.