Investment Highlights

• We are NEUTRAL on the private healthcare sector in the next 12 months. While we are positive on the healthcare players’ growth and recovery prospects, we believe that valuations are not attractive. We reckon that the multi-year growth riding on positive prospects for healthcare providers has already been priced in. Similarly, vaccination-led sentiment has led to positive re-ratings in multiple pharmaceutical counters, leaving limited room for further upside.

• Hospital provider recovery play in 2022F. In 2022F, healthcare providers can look forward to sustained patient volume recovery, pent-up patient demand for higher-cost invasive treatments and deliveries, as well as a decent diagnostic revenue contribution. However for this year, healthcare providers are expected to suffer from low occupancy rates due to the pandemic, although private vaccine administration and Covid-19-related services will provide a small lift to lacklustre earnings.

• Falling health insurance uptake and spending power may exert some downward pressure. The lower-to-middleincome patient base relies mostly on employee health insurance to pay their medical bills. Public healthcare may be a more attainable and viable option for this customer segment as the MoH’s patient burden returns to normalcy after the inoculation programme. Still, we doubt that this would cause a significant drop in the sector earnings, although anecdotal evidence points towards a larger revenue contribution from lower income patients in less affluent areas.

• In terms of growth prospects, there is less room for new hospitals, though considerable potential to pivot and transform. Following the end of their latest greenfield expansion cycles, players possessing sizeable local hospital portfolios such as IHH Healthcare (IHH) (HOLD, RM5.64) have chosen to forego future greenfield expansions in lieu of less capital intensive, quick-return yielding projects and brownfield expansions. On the other hand, smaller players such as Sunway and Ramsay Sime Darby Healthcare are still actively building and acquiring new hospitals.

1. Centres of excellence and ambulatory services as a means to extend patient outreach. With cluster strategies and a divestment from non-profitable ventures, capital can be rerouted to other areas. These include establishing centres of excellence (in the case of IHH), giving it a competitive edge over regional players in healthcare tourism.
   
   Another focus is on ambulatory services, an effective method in expanding patient outreach and capitalising on a surge in diagnostic service demand, without any significant gestation costs or time. Unlike greenfield expansion, which relies on surrounding population density for a sustainable yield, the leaner business format is able to function in both areas already saturated with healthcare providers and less urbanised locations.
    
2. Players with fewer hospitals adding new hospitals to their portfolio. While RSDH has recently acquired Klang Manipal Hospital, Sunway has the benefit of setting up hospitals in budding townships, which are suburban areas poised for sharp population growth. In truth, there is limited room for newer hospitals within Malaysia, as structural factors act as limiters with lacklustre urbanisation and poor insurance take-ups limiting potential patient intakes.
   
   The local bed-to-total population ratio (BPR) stands at c.2.05 in 2021F. While still far from the OECD countries’ average of 4.70 (Exhibit 2), we believe that a more realistic goal is c.2.80–3.00, which leaves less room for growth. The UK, Canada and other countries with positive healthcare outcomes (e.g. low infancy mortality rates, high life expectancy), are estimated to be within this range.

• Specialty healthcare service providers to face similar recovery. Cosmetic surgery, optometrist, senior nursing, confinement and fertility service providers will likely follow a similar route to recovery. As providers of niche, highmargin healthcare services (catering mainly to the upper-class and foreign customers), this group would be a core beneficiary of international border reopening. Still, we believe that the valuations of a majority of such companies (TMC Life Sciences, Optimax Holdings, both UNRATED) have already priced in the upside.
   
• The exception is LYC Healthcare (UNRATED), which has yet to return to the black. Recent acquisitions and expansions in Johor have contributed to the group’s sharp rise in revenue in recent quarters. The group’s outlook is positive underpinned by high pregnancy rates (due to high conception rates during periods of lockdown), which would benefit LYC’s confinement centre business and new facilities in Johor that will allow the group to tap into the lucrative JohorSingapore customer base. We reckon that there is potential for LYC to return to profitability in FY22F.

• Negative sentiment to cloud hospital provider’s share price. In spite of high earnings growth potential and exposure outside the Malaysian market, we reckon that IHH’s share price will continue to be constrained by poor investor sentiment stemming from the Turkish lira’s weakness and high expansion costs. In addition, we believe that the group’s planned forays in Serbia and Parkway Life REIT’s expansion within “a third key market” are contradictory to a strategy of short gestational period projects.

• Pharmaceutical demand to skyrocket. We expect earnings to recover on the back of a return of hospital and clinic patient volumes, medical device demand recovery, an improvement in export orders and the prospects of lucrative tenders with the MoH when its Covid-19-induced budget constraints ease.

• Possible sector rerating due to vaccination supply chain association. Currently, the sector PE mean of 24.0x FY22F is well above the 1-year pre-pandemic PE of 15.9x. Going forward, we expect valuations to hover at this level as the sector continues to be supported by structurally favourable drivers such as further participation in the vaccination supply chain, as well as more traditional trends associated with wider healthcare.

• Moving forward, a persistently choppy vaccination rollout will further strengthen our NEUTRAL stance. The highly transmissible Delta variant is wreaking havoc across countries with far higher inoculation rates. Past MCOs have not been successful and we believe that subsequent attempts may face similar outcomes. We believe that the only lasting recourse is for the population to achieve near-herd immunity.
  
  Malaysia’s pandemic situation is still bleak, given the high current positive rates of 7% (rates of 1–3% indicate the pandemic being under control). We believe that a decline in reported Covid-19 cases may not be indicative of an improvement, given the low testing rates, as well as asymptomatic individuals being responsible for 60% of all transmissions.
   
• Our top pick for the sector is Apex Healthcare (BUY, RM3.33). Having foregone vaccine sentiment-driven upswings in May, its current PE of 23.3x FY22F EPS is closer to the pre-pandemic average than that of its peers. Its lack of a role in the current vaccine supply chain can be compensated with a substantial recovery in its surgical and orthopedic contract-manufacturing arm and SPP NOVO, its oral solid dosage manufacturing plant. Newly completed in 2019, the onset of the pandemic has prevented Apex Healthcare from tapping into SPP NOVO’s true potential. The state-of-theart facilities and prime accreditation status make the group a solid competitor in lucrative government tenders and Western markets.

Source: AmInvest Research - 9 Aug 2021