Highlights

• All companies within our coverage saw margins decline by an average of 1.65ppts as at 9M16 due to various reasons. Chiefly, a tougher operating climate and the weathering through of the gestation period of an investment cycle.

• Moving on to 2017, amidst the environment of heightened uncertainties, we can expect the share price performance of healthcare stocks to do relatively well comparing to other sectors. However, we expect moderate growth for the healthcare sector in 2017 given the lingering economic uncertainties.

• We continue to expect sentiments to gradually normalize in 2017. However a myriad of global macro factors could further stymie the normalization. Nonetheless, the domestic macro factors that continue to support the growth of healthcare companies are still intact: (1) Ageing demographics and population growth; (2) Increasing MOH budget allocation

• We maintain our Neutral view on healthcare sector due to (1) limited upside to our target price (2) low dividend yield; (3) lack of rerating catalysts; and (4) pressure on margins due to the weaker RM.

• Pharmaniaga : Whilst we expect higher contribution from its Indonesia and non-concession segment in 2017, earnings could be partially hampered by the weaker ringgit on the back of higher input costs and ineffectively passing on the price increases to the government.

• IHH Healthcare: Inflow of c.1700 beds spread across FY17-18 both domestically and internationally should support earnings growth in the near term.

• Adventa: Continue to expect higher expenses for Lucenxia Intellis. The distribution segment to the public sector remains coy, partially offset by a better product mix and inroads towards the private sector.

• Sector Strategy: If sector exposure is a must, our choice would be IHH Healthcare for its global footprint and structural natural hedge. FY18 EV/EBITDA of 15.6x is reflexive of the group’s recent expansionary drive coming to fruition. Whilst we do expect higher pre-operating costs and start up losses for its greenfield ventures, the group is on track with its expansionary plans and its global footprint across key gateway markets would be hard to replicate.

Risks

• Risks to the sector includes the weaker RM vs. USD, prolonged recovery in consumer sentiments, ongoing geo political conflicts destabilizing operating markets and regulatory hurdles which could hamper the efficiency or realization of an investment in a foreign domicile.

Rating/ Valuation

NEUTRAL ( ↔ )

• IHH (HOLD ↔ , TP: RM6.32 ↔ , based on SOP valuation).

• Pharmaniaga (HOLD ↔ , TP: RM5.26 ↔ , 15.8x FY17 EPS)

• Adventa (HOLD ↔ , TP: RM0.66 ↔ , 14x CY18 EPS)

Source: Hong Leong Investment Bank Research - 6 Jan 2017