Earning Scorecard: Quest Diagnostics – Analyst Blog

The announcement of Quest Diagnostics’ (DGX) second quarter results on July 21, 2010, has triggered a downward revision of estimates among the analysts.

 

 

Quest Diagnostics reported an EPS of $1.07, beating both the Zacks Consensus Estimate by a penny and the year-ago quarter’s earnings by 7 cents. Results for the previous quarter included benefits associated with an insurance recovery (5 cents), offset by charges related to debt repurchase and investment write-off (4 cents).

 

Revenues for the quarter declined 1.4% year over year to $1.9 billion, driven by a decline in physician office visits. However, the EPS improved over the year-ago period due to the 3.3% reduction in the number of outstanding shares.

 

Clinical testing revenues, which account for most of Quest’s sales, declined 1.6% compared to the prior year driven by a decline in both volume and pricing. While clinical testing volume (measured by the number of requisitions) during the quarter declined 1.3% primarily due to a general slowdown in physician office visits, revenues per requisition were lower by 0.3% compared to the year-ago period.

 

Based on weak outlook of the company, Quest lowered its outlook for 2010. The company now expects earnings from continuing operations in the range of $3.90 – $4.00, down from the earlier guidance of $4.00-$4.20. Moreover, revenues are expected to decline by 1% compared to the earlier projection of 1%–2% growth.

 

For a full coverage on the earnings, read: Quest Beats, But Lowers Guidance

 

 

Following the release of second quarter results, estimate revision trends among the analysts depict a clear negative bias for the company’s earnings in the forthcoming period. Over the last 30 days, 13 of the 19 analysts covering the stock have made downward revisions for the next quarter, with estimates for fiscal 2010 and fiscal 2011 being lowered by 14 analysts. The same trend has persisted for the last 7 days with 7 analysts lowering their estimates for the next two quarters and fiscal 2011.

No upward revision has taken place for Quest since the release of earnings.

We believe although the decline in volume was expected, the decline in pricing came as a surprise.

 

The 1.3% decline in revenue per requisition compares to a 2.6% decline in volume during the first quarter, of which severe weather conditions contributed 1%. As a result, the improvement in volume is very modest. Quest derives about 80% of its clinical testing revenues from the doctors. As a result, if the decline in physician office visits continues, the company’s top line will suffer. Moreover, volume may take a hit following changes in the nature of contract with Empire Blue Cross Blue Shield. Although this contract has been exclusive to Quest, but shortly this contract will lose exclusivity and other players will be brought into the network. Even though Quest is confident of its performance irrespective of competition, we apprehend volumes will be affected.

 

As a proactive measure during the quarter, Quest extended contracts with some managed care operators (MCO) at lower prices. As contracts were extended beyond 2012, no significant contract is left for renewal for the next 18-24 months. Although this gives visibility, the near-term impact on overall pricing scenario was negative. Revenues per requisition declined by 0.3% compared to the year-ago period. Pricing benefited from higher proportion of gene based and esoteric testing coupled with an increase in the number of tests ordered per requisition. Despite this, a 1.9% decline in medicare fee schedule (effective since the beginning of 2010) had a negative impact of 0.5% on pricing.

Revenue per requisition was 1% down sequentially with half of the decline due to changes in business and payor mix with the other half driven by renewal of contracts. Moreover, it seems, renewal of one particular MCO contract effective from April 1 was primarily responsible for the 0.5% sequential decline in revenue per requisition. While low priced drugs-of-abuse testing was up 5%, higher priced anatomic pathology testing continued to deteriorate, thus affecting revenue per requisition growth.

Magnitude of Estimate Revisions

 

The magnitude of revisions is quite significant following the second quarter results. Overall, estimates for the next two quarters have gone down by 8 cents and 9 cents to $1.02 and $0.98, respectively. A similar trend can be seen for 2010 and 2011, with estimates going down by 19 cents ($3.99) and 23 cents ($4.36), respectively, over the last 30 days.

 

 

Quest is targeting strategies such as suitable acquisitions in the areas of cancer, cardiovascular and infectious disease, increased sales force and targeting additional geographies to drive its top line. If acquisitions are not available, Quest will repurchase shares and pay dividends to drive shareholder value.

 

The company continues to remain focused on gene-based and other esoteric testing, which are generally reimbursed at higher levels than routine tests. However, we believe in the near term volume and pricing outlook will continue to remain under pressure.

 

We have an Underperform recommendation on the stock which corresponds to the Zacks Rank # 5 (Strong Sell).