Investment Highlights

• We reiterate BUY on Apex Healthcare (Apex) with an unchanged fair value (FV) of RM4.21/share, based on FY23F target PE of 20x, at parity to its 5-year average. There is no ESG-related adjustments based on our 3-star rating.

• Our forecasts are maintained following an analyst briefing yesterday. These are the salient highlights:

• Apex’s own product brands, which enjoy a superior FY2 PBT margin of 27.4% vs agency/general’s 4.6%, registered a 31% YoY increase in FY22 sales to RM271.4mil, spurred by stronger demand for cough and cold products. This raised the segment’s share of group revenue to 31% in FY22 from 27% in FY21.

• Agency brands, which accounted for almost half of FY22 group revenue, rose by 7% YoY to RM431mil, thanks to strong demand for cough, cold, flu and throat lozenges. However, the share of this segment’s revenue to the group decreased to 49% in FY22 from 52% in FY21 as own product brands grew as a faster pace.

• General brands, accounting for 20% of FY22 group revenue, improved by 15% YoY to RM175mil, mainly propelled by the sale of face masks, Covid test kits, paracetamol and cough/flu medication.

• Notably, influenza (flu)-related medications are the major drivers across the 3 segments. We believe these were due to Covid-19 transitioning to a general respiratory illness amid the return of flu cases in Malaysia and Singapore (Exhibit 1 & 2).

• Going forward, Apex guided that the demand trend for flu-related medications from both manufacturing and distribution segments in Jan and Feb 2023 is comparable to FY22, and that this momentum could sustain at least through 1HFY23.

• Indian-based IIFL Securities’ (IIFL) API/KSM pricing index revealed that API import costs (mostly from China) have declined 12% QoQ in 4QFY22 and 4.5% QoQ in 3QFY22.

• However, the group noted that procurement costs of active pharmaceutical ingredients (API) have not improved meaningfully. We believe this was owing to the fact that 20% of API was sourced from Europe, where inflation is still strong (>10%).

• In addition, the recent rise in electricity surcharge from 3.7 sen/kwh to 20 sen/kwh for the period of Jan-Jun 2023 could increase Apex’s manufacturing cost structure by RM2.1-2.7mil (or 2%-3% of FY23F profit). Nevertheless, Apex plans to pass on these cost increases to customers by raising product prices.

• To recap, Apex raised product prices by 4% for its own brands in Malaysia in early FY22 and further increased another 4–5% in Jul 2022 to preserve margins amid rising production costs. For FY23F, we believe the group could increase product prices at a similar or slightly higher quantum to pass on elevated API costs and electricity surcharges.

• Separately, Apex acknowledged that drug shortages still persist at this juncture. To recap, elevated flu cases coupled with Omicron becoming a community respiratory illness have led to drug shortages (mainly flu-related medicines) in Malaysia since the end of 1Q2022 (Exhibit 3).

• 40%-owned Straits Apex, which manufactures orthopaedic devices and surgical instruments for global multinationals, registered an impressive FY22 pretax profit surge of 4x YoY to RM30mil, mainly underpinned by:
  (i) No disruptions from Covid infections and quarantine measures as in FY20-21;
  (ii) A resurgence in hospital surgeries;
  (iii) Customers seeking Asian alternatives in view of rising production costs (ie. energy costs) especially in Europe. Despite the recent improvement in European energy costs (Exhibit 4), we believe customers’ regional risk diversification/management decisions could maintain demand; and
  (iv) Being a beneficiary of multinationals’ China+1 outsourcing strategy.

• Furthermore, Apex guided that Straits Apex’s FY23F performance will be stronger YoY, based on current outstanding orderbook and guidance from customers. However, we have conservatively assumed that the associate’s performance to be similar to FY22. To recap, Straits Apex plans to expand production space by 30% in 1QFY23F to cater for higher expected orders this year.

• Apex has been enjoying strong CAGR earnings growth of 12% over the past 20 years, anchored by an ageing population, public health education advancement and steady healthcare expenditure increase. In the near term, Apex is poised to ride on the prevalence of Covid-19 and elevated flu cases in Malaysia and Singapore amid ongoing drug shortages, especially in Malaysia.

• Apex also exhibited resilience and flexibility during the Covid-era via rapid identification and supply of in-demand products. Additionally, Apex’s net cash position of RM158mil represents a significant 9% of its market cap.

• The stock currently trades at a compelling FY23F PE of 17x – 15% discount to its 5-year average of 20x while offering a decent dividend yield of 2.2%.

• On a positive note, Apex proposed a 1-for-2 bonus issue, which could increase trading liquidity and improve the affordability of the stock, hence potentially broadening its shareholder base and mitigate the valuation discount.

Source: AmInvest Research - 24 Feb 2023