Financial Times

Underperforming health stocks seen having growth potential
Healthcare stocks have underperformed the market considerably during the recent past, mainly due to the moderate growth in earnings. "Part of the reason for this is that with the upturn in the economy, investors are turning to economically sensitive stocks that are in their up-cycle," HNB Stockbrokers said in a recent research report on the health sector.

Despite strong demand and potential for further growth, most hospitals have shown moderate profits, with the exception of Asiri whose earnings stand ahead of the others. Asiri is one of the few stocks to continuously outperform the ASPI.

Although there has been an increase in public sector spending on healthcare, the country has hardly witnessed an improvement in terms of the quality of service provided.

This can be largely seen in the rural areas where there is a huge mismatch between demand and supply, especially due to the lack of competition in the absence of private sector participation.

HNB Stockbrokers said private healthcare institutions are restricted to urban areas with Central Bank statistics showing occupancy rates over 100 per cent in most public hospitals. "This has resulted in the deterioration of quality of the state healthcare services thus enabling private sector health care providers to expand their operations profitably. However these investments are limited to the key towns such as Colombo and Kandy."

The stock brokers suggested the government introduce subsidies for private investors who are prepared to start such business ventures in rural areas. "We feel the government should encourage a larger private sector participation to develop the health sector. This should be done through tax holidays, subsidies, providing land at concessionary rates."

Among the other barriers towards the sector growth, is a severe manpower shortage, especially with regard to nurses, it noted adding that the government should step in to improve training.

The stock brokers said that private investors may not be attracted to building hospitals in rural areas because profitability of the sector may not be good enough."This is clearly evident when observing the positioning of the leading private healthcare institutions," HNB Stockbrokers said. "Most of them are located in urban areas where the consumer spending is reasonably high and the patients are less price-sensitive. In our view this is the main reason for stiff competition among the private sector hospitals, which are saturated in the main towns."

HNB Stockbrokers said selected picks in this sector offer good investment opportunities. Apollo had under performed HNB Stockbrokers' original expectations but has recorded a steady growth in revenue and EBITDA, over the last eight quarters in operation.

However, short term earnings multiples are not expected to reach attractive levels. PER is expected to decline from 19.5x to 11.7x over the next two years. HNB Stockbrokers rated Asiri as the "best value prospect" and said it has an "attractive and consistent dividend yield."

However, it warned that lack of liquidity and free float is the main concern. Durdans has maintained its market share over time with its successful pricing strategy and would benefit in the medium and long term from their expansion projects, which would enable Durdans to remain competitive in its target market.

Despite the drawbacks and threats, the healthcare sector remains a definite place for the emergence and expansion of private healthcare institutions. This is because of the gap in demand for and available supply of hospital beds, an aging population, and increasing awareness of healthcare with people becoming more health conscious and beginning to demand higher standards and more sophisticated healthcare.

"Furthermore, 60 percent of the population is in the middle to high-income bracket, making them prime customers for private medical services," HNB Stockbrokers said.

Changing lifestyles and nutrition habits had also led to a perceptible increase in lifestyle diseases such as diabetes and hypertension while regular strikes in government hospitals has lowered confidence in the public health sector.

HNB Stockbrokers described the key private hospitals as follows: Apollo Hospitals - A newly built hospital, in operation for just over 23 months. Apollo has clearly made its intention to address the void in the high end of healthcare services, which is totally unique in the Sri Lanka market.

Asha Central - This newly listed private hospital has shown a growth in revenue, occupancy and profitability. Asha mainly caters to the middle and lower end of the market.

Asiri Hospital - Asiri caters more towards the lower and middle end of the market and currently enjoys 30 percent of the lab test market and 15 percent of the private sector healthcare.

Durdans Hospital- Durdans is a leading healthcare provider in the country with 60 years experience in the industry. The hospital mainly caters to the urban population.

Nawaloka Hospital - This is the first large-scale private hospital to be established in Sri Lanka. It initially captured a significant market share during the early stages but has lost this edge with the new competitors taking market share.

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