Published: 29 Aug 2024
CHEMED - Short
Chemed (NYSE: CHE — $8.59 billion) brands itself as a provider of hospice care (57%) and maintenance services (43%). In reality, Chemed is an overpriced company mired in a slew of lawsuits across both its VITAS Healthcare and Roto-Rooter segments. The company’s frequent changes in audit firms related to retirement filings over the past three years only add to the red flags.
With escalating (i) labor costs, (ii) persistent labor shortages, and (iii) mounting margin pressures, Chemed is on a downward trajectory, with a bleak outlook over the next few quarters.
The people though: The Labor costs and burnout
Labor remains a significant issue for Chemed, particularly in their VITAS Healthcare segment. The challenges have been so severe that the company implemented retention packages totaling $19.6 million in 2022 and $9 million in 2023. Beyond the tight labor market for healthcare workers, with about a third of hospice industry employees experiencing burnout, the emotionally taxing nature of the job is placing additional strain on the VITAS workforce. We anticipate a 1.3% decline in gross margins for the business in 2024, with further deterioration expected in the following years.
Commercial Real Estate: Where is the bottom
The weak commercial real estate market impacts Chemed’s Roto-Rooter business which provides maintenance services. The reality is that Roto-Rooter is operating in a new paradigm where people in the US are not going back to work. In their last two earnings calls, they noted that their commercial real estate segment (offices) especially is struggling across all geographies. ​
Management noted that customers are increasingly requesting concessions, and in some cases, Chemed has had to walk away from deals. Given the precarious state of the commercial market, we have accounted for a further increase in concessions.
Lastly, internet marketing and sales training costs have ballooned, as noted in the most recent earnings call. While management notes this is a temporary issue - we disagree, given the shrinking nature of the market, we expect the margin pressure to continue (as seen below).
Given these challenges, we are adjusting our margin expectations down by 3% year-over-year from 2023 to 2024 (as seen below). With ongoing concessions, adverse market conditions, and rising marketing and sales training costs, the segment is less resilient.
​Lawsuits, Lawsuits and more lawsuits
Scouring the internet for lawsuits involving Vitas and Roto-Rooter felt like diving into a bottomless pit.
Both of Chemed’s subsidiaries have been entangled in numerous lawsuits over the years, with the legal troubles facing VITAS being far more severe than those confronting Roto-Rooter. According to their 2023 10-K filing, VITAS paid nearly $50.3 million in 2022 to settle various cases, with several more still ongoing.
Robot-Rooter’s lawsuits ranged from overcharging (it seems like the customers use the Better Business Bureau’s website as a customer support forum), to all sorts of wage disputes. Additional customer complaints can be found on Consumer Affairs and Reddit. Also, note that the management rarely makes a comment about Robo-Rooter lawsuits in their earnings call or 10Ks.
VITAS, though, has gained notoriety for egregious sales practices, falsifying claims, and wage disputes. One of the most shocking offenses occurred during the height of COVID-19, when VITAS allegedly required sales agents to enter nursing homes despite restrictions on movement, leading to a lawsuit from the California government. This incident is part of a broader pattern of misconduct by VITAS, including overcharging under the False Claims Act, with the U.S. Department of Health and Human Services estimating that VITAS overbilled Medicare by $140 million. These legal issues are likely to persist, especially as President Biden's extension of the statute of limitations from 5 to 10 years could lead to more cases being filed. Also, note they only comment on a handful of lawsuits in their 10K.
We especially expect the lawsuits to continue increasing, especially for the VITAS segment as Medicare crackdown on hospice misconduct and overbilling practices.
We expect these ongoing legal challenges to weigh heavily on VITAS’s margins, projecting a 15% year-over-year increase in accrued legal fees, which may be a conservative estimate given the current landscape. The settlements range from a few thousand dollars to millions of dollars.
Overvalued Books in need of care
Our discounted cash flow (DCF) analysis shows that the company is grossly overvalued, with a valuation of $182.41 compared to its current trading price of $576.28. Relative to its peers, Chemed trades at a hefty 26.9x multiple, significantly above the peer average of 13.4x (see table below). We view this as a prime short opportunity. At best, we foresee no growth for the company, primarily due to ballooning legal expenses, rising labor costs, and the tough macroeconomic environment facing the Roto-Rooter segment.
Conclusion
While the market perceives Chemed as a stable company benefiting from a growing Medicare population, we strongly disagree. The fraudulent practices that have allowed VITAS to inflate its profits are likely to come to an end. Additionally, in the Roto-Rooter segment, customers are becoming increasingly aware of the poor service, further threatening the company's outlook.
Overall, the combination of legal troubles, rising costs, and a challenging market outlook paints a grim picture for Chemed’s future growth
Note1: We do not hold or have ever held stock in CHE or competitors
Note2: This is solely an opinion and should not be considered as investment advice