KPJ expects the recovery in demand for its services, particularly non-Covid-related ones including elective surgeries, to extend into coming quarters which is also likely to surpass our expectation as the pandemic comes to an end. We raise our FY22-23F net profit by 5% each, lift our TP by 8% to RM1.16 (from RM1.02) and reiterate our OUTPERFORM call.

We came away from KPJ’s 3QFY22 post-results briefing feeling positive. The key highlights are as follows:

1. KPJ expects the recovery in demand for its services to extend into coming quarters which is also likely to surpass our expectation as the pandemic comes to an end. There has been a strong return of domestic patients as well as foreign patients. The group is seeing pent-up demand for elective surgeries with both local and foreign patients returning.

To recap, key operating indicators showed mark improvement in both 9MFY22 and 3QFY22. 9MFY22 earnings were driven by higher patient throughput (+12%), bed occupancy rate (BOR) (of 55% compared to 41% in 9MFY21) and health tourism revenue (+53%) as the group saw a rebound in non-COVID related services including elective surgeries. Generally, its Malaysia operation (which anchors >96% of earnings) registered a higher BOR of 56% against 42% in 9MFY21 as surgeries rose 15%. QoQ, 3QFY22 earnings were driven by higher key operating indicators across the board including BOR (64% vs 43% in 2QFY22), number of surgeries (+22%), inpatients (+59%), outpatients (+13%) and operational beds (+3%).

2. The group is targeting FY22 EBITDA margin at 25% compared to 24% in 9MFY22 vs. our FY22 assumption of 22% and thereafter, 27% in FY23 (vs. our assumption of 22%). Due to better operational efficiencies and overhead absorption rate as a result of incremental revenue underpinned by higher patient throughput, the group expect hospitals under gestation namely KPJ Perlis, KPJ Bandar Dato’ Onn and KPJ Batu Pahat to turn EBITDA positive in end 2022 compared to narrowing EBITDA losses in 9MFY22.

3. Damansara Specialist Hospital 2 (DSH2) has been successfully launched in Sept 2022 and is seeing gradual ramp-up in activities. The group aims to ramp up bed capacity from 60-123 beds in year 2023 to 205-265 beds in year 2025. The group is targeting DSH2 to be EBITDA-positive within 3 years by deploying 50% of capacity towards health tourism coupled with offering high revenue intensity services to reduce the gestation period including elective surgeries like neurosurgery, cardiac surgery, gastroenterology & endoscopy procedures and orthopaedics.

Forecasts. We raise our FY22F-FY23F net profit by 5% each (as we raise our assumption on respective patient throughput from 12-10% to 14--12% and EBITDA margin assumption from 22% to 23%).

We continue to like KPJ for: (i) the low “price elasticity of demand” for healthcare service, which mean players are less vulnerable to high inflation as they could pass on the higher cost, (ii) it being a reopening play, especially for elective surgeries, and (iii) its strong market position locally with the largest network of 28 private hospitals (vs. only 16 of IHH healthcare Malaysia operation in the second place).

We raise our TP by 8% to RM1.16 (from RM1.02) based on 27x FY23F EPS, at a 10% discount to the average of its regional peers to reflect KPJ’s smaller market capitalisation. We reduce the discount to 10% from 20% due to KPJ’s improving earnings prospects. There is no adjustment to our TP based on ESG given a 3-star rating as appraised by us (see Page 4). Reiterate OUTPERFORM.

Key risks to our call are: (i) regulatory risk, (ii) the lack of political will to roll out a national health insurance scheme, and (iii) longer-than-expected gestation periods for its newer hospitals.

Source: Kenanga Research - 29 Nov 2022