KEY INVESTMENT HIGHLIGHTS

• 3QFY20 earnings came in at RM34.0m, lower by -28.7% year-over-year

• Revenue and earnings rebounded quarter-over-quarter as movement restrictions were loosened during the quarter

• Decline in earnings was arrested by prudent cost savings initiatives in various forms

• Recovery in BOR to an average of 51% from 34% in April and May 2020 a positive sign of recovery

• International operations remain in loss making position

• Maintain BUY with a higher TP of RM1.05 per share

3QFY20 earnings missed estimates. KPJ Healthcare Bhd’s (KPJ) 3QFY20 earnings came in at RM34.0m. This brought its 9MFY20 earnings to RM85.2m which was below ours and consensus expectations, accounting for 51% and 59% of our and consensus’ full year FY20 forecasts respectively. During the quarter, revenue declined slightly by -6.1%yoy whilst earnings dipped by -28.7%yoy mainly attributable to the lower revenue recorded by the Malaysian hospitals year-over-year – which was driven by the decline in patients visits by -11.0%yoy as patients remain wary of engaging in activities outside their home. That said, KPJ did stage a rebound in 3QFY20 from the dip it experience in 2QFY20 – growing by +35.8%qoq and >100%qoq in both revenue and earnings. However, despite the rebound, its financials has yet to recover to its pre-Covid19 level and we opine that this will only be possible in FY21.

Earnings impacted by lower patients visit and admission. As previously mentioned, the group’s decline in revenue during 3QFY20 was mainly attributable to lower revenue recognition from its Malaysian hospitals by -6.5%yoy following the continued enforcement of RMCO during the quarter. This had resulted in the: (i) decline in number of patient visits by -11.0%yoy; (ii) delay in non-critical procedures as well as; (iii) drop in bed occupancy rate (BOR) to an average of 51% during the quarter from 64% in 3QFY19. Consequently, PBT margin was also reduced to 6.6% in 3QFY20 (from 7.9% in 3QFY19). That said, on a quarterly sequential basis, operating and PBT margins improved to 10.2% and 6.6% respectively from 8.2% and 3.0% respectively in 2QFY20 – which was in-line with improved patients visit during the quarter.

Cost optimisation arrested the decline in earnings. That said, the impact on earning was also cushioned by various cost savings initiatives undertaken during the quarter. In particular, cost of sales and admin expenses recorded a decline -2.9%yoy and -14.3%yoy as a result of this. This was despite fixed costs continued to be incurred to ensure smooth running of the hospitals.

During the quarter, cost of sales against revenue was recorded at 69.5% similar to that of 3QFY19 at 67.2% whilst admin expenses was recorded at 20.8% vs 22.8% in 3QFY19 – which is in proportion to the lower revenue. Furthermore, we understand that KPJ has also benefitted from: (i) salary subsidy; (ii) rebate on rental from Al-Aqar REIT and; (iii) six months loan moratorium introduced by the Government which have helped to support its daily business operations despite the decline in business activities during the quarter under review.

Lacklustre performance from international operations continues. Meanwhile, revenue from its Indonesian operations dipped by -54.9%yoy due to the implementation of Pembatasan Sosial Berskala Besar (PSBB) which had impacted patient visits in Indonesia. Patients visit to its Indonesian hospital reduced by -50.0% YTD to 48,675 from 93,908 in FY19. This has resulted in the widening loss before tax of –RM6.4m vs -RM1.93m in 3QFY19. Meanwhile, Jeta Gardens’s revenue and earnings were down by -6.6% and >100% year-over-year respectively which dragged the contribution from the international segment further.

Impact to earnings. Due to its earnings coming in below our estimates, we are reducing our FY20 by -33.4% to RM111.0m (from RM166.6m previously) to account for a challenging fourth quarter as the Malaysian government introduces conditional movement control order (CMCO) back in October 2020. Our previous estimate did not take into account the implementation of CMCO. That said, we remain optimistic on KPJ’s earnings recovery trajectory hence, we made no changes to our FY21-22F earnings at this juncture.

Target price. Revised upwards to RM1.05 per share as we adjust our future revenue and earnings assumptions upwards. Our target price is derived from DCF valuation with terminal growth of 3.0% and WACC of 9.6%.

Maintain BUY. We reiterate our positive view on KPJ’s future earnings trajectory. While FY20 will prove to be a challenging year for private hospital operators however; we view the post-MCO recovery in terms of BOR (at 51% in 3QFY20 vs 34% in 2QFY20) and increase in procedures undertaken by +52.0% to 22,858 cases in 3QFY20 from the low of 3,377 in April positively given that the pent up in restriction of non-medical services will finally be relieved albeit, gradually towards the remainder of the year given the easing of Covid-19 measures. We would advise investors to look beyond FY20 given that after stripping out the impact from Covid-19, it is set for an upwards earnings trajectory with ongoing ramp up of its newly opened hospitals and addition of new ancillary businesses such as: tele-medicine and medication delivery services expected to contribute positively towards in FY21 earnings.

Furthermore, we are expecting the adverse impact from the international operations to be kept at a minimal level as the total YTD revenue contribution remains below 5.0%. The key risks to our recommendation are: (i) delay in the execution of expansion plan; (ii) lower-than-expected revenue per patient and; (iii) increase in operations cost.

Source: MIDF Research - 1 Dec 2020