Despite the plunge in corporate earnings caused by the coronavirus crisis, S&P has rallied 17% in the last 12 months. As a result, S&P is currently trading at an all-time high and at a trailing price-to-earnings ratio of 38.7 and hence it has become especially hard for investors to identify growth stocks that are cheaply valued. UnitedHealth (UNH) is a bright exception, as it is a growth stock with a reasonable valuation.

UnitedHealth is also a significant holding of Eagle Capital Management, which is well-known for its investing strategy of purchasing growth stocks at a reasonable price.

Thanks to its promising growth prospects and its reasonable valuation, UnitedHealth is an attractive Dividend Achiever for investors with a long-term investing horizon.

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Business overview

UnitedHealth was founded in 1974 and has become the second-largest company in the healthcare sector, with a market capitalization of $325 billion and annual revenues of $257 billion. The company has two major reporting segments: UnitedHealth and Optum. The former provides global healthcare benefits to individuals, employers, and Medicare/Medicaid beneficiaries. The Optum segment is a services business that aims to reduce healthcare costs for its customers.

The healthcare sector is one of the most resilient sectors to recessions, including the ongoing coronavirus crisis, as consumers do not reduce their healthcare spending even under adverse economic conditions. UnitedHealth is undoubtedly not an exception. In 2020, the company grew its revenue 6% over the prior year, primarily thanks to 20% revenue growth in its Optum segment, which has been the primary growth driver in recent years. UnitedHealth also grew its adjusted earnings per share 12% and issued positive guidance, expecting 5%-8% growth in its earnings per share this year.

It is impressive that UnitedHealth has exceeded the analysts’ earnings-per-share estimates for more than 20 consecutive quarters. Extremely few companies can match this performance record. Such a performance record is usually accompanied by impressive performance of the stock price. Indeed, the stock of UnitedHealth has tripled in the last five years.

Growth

UnitedHealth benefits from a strong trend, namely the growing market of Medicare Advantage. The company has grown its earnings every single year in the last decade and thus it has grown its earnings per share at an impressive 15.2% average annual rate over this period.

Some investors may fear that the sheer size of UnitedHealth makes it hard to continue growing at a fast pace but Optum remains a strong growth driver. There are no signs of fatigue on the horizon but a slight reduction in growth expectations over the next five years seems prudent in order to be on the safe side. Overall, we expect UnitedHealth to grow its earnings per share by approximately 10.0% per year on average over the next five years.

Dividend

UnitedHealth has raised its dividend for 11 consecutive years and hence it is a Dividend Achiever. However, it is currently offering just a 1.5% dividend yield. Therefore, the stock is not suitable for most income-oriented investors, particularly for those who are close to their retirement phase.

On the other hand, it is worth noting the low payout ratio, which has hovered around 30% most of the time. UnitedHealth needs to invest very low amounts in its business and thus it enjoys excessive free cash flows. Therefore, it could offer a much higher dividend but it has chosen a low dividend in favor of preserving cash and thus growing its book value. It is thus reasonable to expect that UnitedHealth may attempt to execute a major acquisition in its sector at some point in the future.

Valuation – Expected Return

UnitedHealth is currently trading at a forward price-to-earnings ratio of 18.8, which is slightly higher than our assumed fair price-to-earnings ratio of 18.0 of the stock. If the stock trades at our assumed fair valuation level in five years, it will incur a 0.9% annualized drag in its returns.

Given also the aforementioned 10.0% expected earnings-per-share growth and its 1.5% dividend yield, UnitedHealth is likely to offer a 10.5% average annual total return over the next five years. This double-digit expected return is certainly attractive, particularly given the full valuation of the broad market and the low risk of UnitedHealth.

Final thoughts

UnitedHealth passes under the radar of most investors due to its relatively “boring” business model. However, the company is in a reliable growth trajectory and the stock is reasonably valued. As a result, it is likely to highly reward those who have a long-term investing horizon, with a low amount of risk.