Highlights

• The sector’s fundamentals remain intact in 2018 which will continue to support the growth of healthcare companies; i.e. ageing demographics, population growth and rising affluence.

• In 2018, we can expect the healthcare sector to be elated by the appreciating RM vs USD which should translate into better margins on their cost of drugs (which accounts for c.30% of cost of sales) for the hospital players. For Pharmaniaga, the stronger RM will result in lower raw material prices.

• We opine that healthcare related stocks will maintain their premium valuations due to it’s the defensive nature and lack of variety within the sector.

• Pharmaniaga : Whilst we expect higher contribution from its Indonesia and non-concession segment in 2018, earnings would be pressured by the evolving pattern of government hospital procurement partially offset by a stronger RM.

• IHH Healthcare: Inflow of c.470 beds, ramp up of hospitals opened in 2017 and those acquired in 2016 will support revenue growth. Expect contribution ramp up from GHK in 2018. Gleneagles Chengdu, the group’s maiden tertiary hospital in China is expected to open in 2H18.

• KPJ: Inflow of c.600 beds from greenfield and brownfield hospitals. Expect a ramp up in operations from hospitals opened in 2016 and potential disposal of 51% stake in Jetta Gardens.

Risk

• Risks to the sector include; (1) a depreciation in the RM (2) prolonged recovery in consumer sentiments (3) ongoing geo-political conflicts destabilizing operating markets and (4) regulatory hurdles.

Rating

NEUTRAL ( ↔ )

• We maintain our neutral view on healthcare sector due to (1) lack of any major rerating catalysts; (2) competitive pressure on margins; and (3) risk of prolonged subdued sentiment. We opine that the downside risks of the healthcare counters under our coverage are reflected at current levels.

Top Picks

• Top Picks: We like KPJ (BUY; TP:RM1.18) as our sector top pick. We are of the opinion that earnings could surprise on the upside driven by the ramping up of greenfield/brownfield hospitals opened in 2016 and potential disposal of Jetta Gardens. We believe that the market has discounted the stock heavily and any earnings downside may be capped. In terms of valuation, the group is trading at FY18 EV/EBITDA of 12.5X, which is a discount of 40% to its Asian healthcare peers and a 37.5% discount to IHH (see figure #5).

Source: Hong Leong Investment Bank Research - 19 Jan 2018