- We reaffirm our HOLD recommendation on KPJ Healthcare with a higher fair value of RM3.70/share (vs. RM3.40/share previously), based on our DCF valuation, following an earnings revision arising from better-than-expected margins.

-  KPJ registered 2QFY14 core net profit of RM34mil, bringing 1HFY14 core net profit to RM64mil. A dividend of 1.5sen/share was declared. To-date, total dividends of 2.9sen have been declared.

-  The results were slightly above expectations, representing 58% and 56% of our and consensus full-year forecasts, respectively, arising from margins improvement.

-  1HFY14 EBITDA margins improved to 11.6%, compared to 9.8% 1HFY13. This is largely contributed by the improved operational efficiency of its newly opened hospitals. Margins last year were also impacted by pre-operating expenses.

-  Revenue increased by 12% YoY in tandem with the price increase implemented since 3Q last year and ramp-up of existing and new hospitals.

-  New hospitals opened this year are Sabah Medical Centre, Rawang Specialist, and Maharani Specialist.

-  While earnings are expected to recover moving forward on the back of positive healthcare outlook and operational efficiency, we are concerned on whether the current margins are sustainable given the gestation period and margin pressure from eight upcoming new hospitals in the pipeline for FY15F-FY18F.

-  Therefore, we have revised our earnings upwards by 25%-28% for FY14F-FY16F to incorporate better EBITDA margins of 10%-11% (vs. 8.7%-9% previously). We now project FY14F earnings at RM137mil, before expanding to RM146mil in FY15F and RM175mil in FY16F.

-  A potential catalyst for KPJ is its ability to turn around new hospitals faster than expected, in order to significantly improve margins. Although margins on a 1H basis had improved, we expect some pre-operating expense to arise from the pipeline of new hospitals, i.e. Pahang Specialist and Muar Perlis Specialist, which are expected to complete in 4Q.

-  The stock is currently trading at an FY14F PE of 30x, above its 5-year mean of 19x.

Source: AmeSecurities