Investment Highlights

• We maintain our OVERWEIGHT call on the private healthcare sector in Malaysia. Although a recovery in inpatient volume is only expected to be modest in 2021F, earnings prospects for the sector are positive. This is due to potential public-private collaborations, improved margins as a result of cost-cutting measures and a focus on low-capex and shorter gestational period projects. Over a longer time period, the recovery in medical tourism, improved public health awareness and an aging population would drive the next level of growth in the healthcare sector.
• We affirm BUY on IHH Healthcare with an unchanged fair value (FV) of RM6.25. Our valuation is based on DCF with a WACC of 7.0%. We foresee a strong rebound in both local and foreign markets. Cost-streamlining measures and disposals of loss-making assets are expected to support IHH’s earnings in FY21F.
• We maintain our HOLD call on KPJ Healthcare with an FV of RM1.04. Our valuation is based on an FY21F PE of 23x. We believe that KPJ’s recovery in 4QFY20E and FY21F has largely been priced in by the 39% increase in its share price from a low of RM0.75/share on 19 March. Despite an effective cost-cutting exercise, a decent 1HFY21 recovery potential and incremental ramp-ups from earlier hospital openings, KPJ’s lacklustre hospital pipeline and foreign operation performances put a cap on its growth trajectory.

Outlook and developments

• Muted volume recovery in 1H2021. Although we expect a recovery in inpatient volumes and occupancy rates in 1H2021, we believe that it would be muted. This is due to the 3 rd wave effects of Covid-19: (1) continued avoidance of visits to hospitals and clinics as daily cases of Covid-19 remain elevated; (2) fewer treatments of general illnesses due to the Covid-19 SOP (standard operating procedures); and (3) lesser foreign patients due to travel restrictions.
• A sustained recovery is contingent on two major events. First, a permanent reduction in Covid-19 cases, which is anticipated to take place only in 2H2021 as effects of the mass vaccination and quarantine SOP help reduce daily new cases. Second, a recovery in regular international travel, which would restore foreign patient volumes.
• Private hospitals may benefit from the administration of Covid-19 vaccinations. For now, private hospitals are making do with alternative sources of income such as: (1) Covid-19 swab testing; (2) telemedicine services; and (3) treatment for public sector patients. In 2021F, there are two potential revenue boosters to private institutions, subject to government cooperation: (1) assisting in the administration of Covid-19 vaccines; and (2) treating larger volumes of non-Covid-19 patients from the public sector for a fee.
• Potential private-public partnerships in 2021F. With the public sector overworked by the Covid-19 burden, private institutions have offered services for public sector non-Covid-19 patients for a fixed fee from the government. We foresee private hospitals treating rising volumes of public sector patients as the public sector is faced with the dual burden of vaccination administration and treatment. We believe that KPJ is seeking to tap into a possible lasting customer base of public sector patients.
• Currently, the country’s two-tiered healthcare system is in dire need of reforms. The public sector caters to the bulk of the population (~65%) but is served by just ~45% of all registered doctors. As the pandemic continues to further push the public sector to its limit, we believe such public-private partnerships could potentially act as a prelude towards a single-payer approach in the healthcare system.
• Single-payer healthcare is a form of universal healthcare in which the costs of essential healthcare for all residents are covered under a single public system. In Malaysia’s case, it can look to the Taiwan and Canada models instead of the UK. Both countries utilise income taxes and have most services provided by private entities in contrast to the UK, which has largely public-owned providers.
• Healthcare tourism to recover in 2021F. Foreign patients account for 5% to 6% of IHH and KPJ’s Malaysian revenue in FY19. In countries like Singapore and Turkey, contribution from foreign patients is larger. We predict a more significant recovery in international travel in 2022F, which will bring in higher volumes of foreign patients, although still below pre-pandemic figures. In the long term, we are positive on this segment’s outlook due to Malaysia’s highly competitive charges, efficient hospitalisation costs (vs. those in developed countries), an Englishspeaking population and various government incentives.
• Higher income yielding case mix in 2021F. In 2Q2020, which was the height of pandemic fears, case mix was elevated by a greater proportion of higher-charge urgent cases. In 3Q2020, revenue per inpatient continued to rise as the proportion of elective surgeries and deliveries grew. We expect revenue per patient to stay robust in 2021F as a result of pent-up demand, further bolstered by improving foreign patient figures in 2022F. Also, outpatient volumes have seen a stronger recovery than inpatient volumes, although we expect growth to moderate in the coming months. Notably, the average stay duration in Malaysia of two to three days remain relatively unchanged.
• Operating profit margins are expected to sustain in 1H2021. Despite lower revenue, KPJ and IHH’s EBITDA margins in 3QFY20 held up as result of government grants and reliefs and extensive cost-cutting exercises. The cost reduction methods included procurement method refinement and increasing digitalisation of services. While government aid is expected to wane as the pandemic situation improvements, the effects of cost-reduction exercises are expected to remain in 2021F.
• Higher margin expansion plans. Going forward, we believe that there would be a trend towards quick-yielding projects that have shorter gestational periods and lower capex requirements. Although KPJ and IHH have not shared detailed expansion plans, we think that these would include non-hospital services such as ambulatory care and home care.
• More than two new Malaysian hospitals coming onstream by 2022F. Within the mature Malaysian market, we feel that there would be fewer greenfield expansions in the next three years. Capex plans primarily involve expanding the current capacity and hospital acquisitions. With KPJ at the tail end of its previous expansion phase, the group is slated to open one new Malaysian hospital (barring relocations) in the next three years – KPJ Damansara II Specialist Hospital. Columbia Asia is also slated to open a hospital in Batu Kawan, Penang within the next three years. Sunway Bhd has six new hospitals in its pipeline slated to open in the coming five years, though only 1 is expected to be completed by 2022F. The six hospitals would be located in Sunway Bhd’s integrated townships.
• IHH recently completed the acquisition of Prince Court Medical Centre, Kuala Lumpur, to further complement its Klang Valley geographical cluster. It is set to acquire Gleneagles Penang in the next three years. Both IHH and KPJ are deploying a metro cluster strategy to improve brand recognition, achieve greater economies of scale, enhance patient access and deepen clinical capabilities.
• KPJ and IHH’s foreign operations are also expected to see more action in the coming years, given their large growth potential. IHH has plans to acquire, expand and set up new hospitals in India and China, whereas KPJ is planning to restructure its Indonesian and Australian operations.
• In another development, the listing of Ramsay Sime Darby Healthcare (RSDHC) is expected to take place in 2021F, potentially raising at least RM500mil in proceeds. The IPO proceeds would allow RSDHC to expand its assets portfolio. Currently, RSDHC is building its brand name in Hong Kong and mainland China.
• Long-term prospects are bright. Looking past short-term hiccups, the long-term outlook for the healthcare sector is positive, underpinned by an ageing society, rising affluence, strong healthcare tourism potential, rising public health spending and increasing life expectancy. Given the current trajectory of public-private collaboration, we foresee further partnerships between the two sectors as the healthcare system inches towards a potential reform in the single-payer system direction.

Source: AmInvest Research - 17 Dec 2020