• Stay BUY and MYR1.46 TP (DCF), 26% upside and c.2% FY23F yield. We are upbeat post KPJ Healthcare’s 2Q23 results briefings, driven by continued improvements in operating efficiency and robust health tourism (HT) segment growth. The strategic move to upscale existing hospitals into tertiary and quaternary care centres should transform KPJ’s ability to tap into more complex and uncommon procedures, resulting in better revenue intensity ahead. Our TP incorporates a 0% ESG premium and represents 26x 2023F P/E, 0.5SD below its 28x pre-COVID-19 5-year historical mean.

• Better operating efficiency achieved. Damansara Specialist Hospital 2 (DSH2) achieved average bed occupancy rate (BOR) of 41% in 2Q23 (1Q23: 34%) despite a seasonally weaker quarter. We are positive on the improving BOR as we believe this was mainly driven by successful empanelment of AIA in 1Q23 and pick-up in health tourist visitation. DSH2’s monthly average revenue improved to MYR5m in August (1Q23: MYR3m), close to the MYR7m target guided by management. On average, DSH2’s BOR hit 56% and, accordingly, management expects EBITDA losses to continue narrowing sequentially. In total, the group only has three hospitals that incur EBITDA losses – KPJ Miri, KPJ Perlis, and DSH2 – totalling MYR18m in 1H23 (DSH2 alone: -MYR15m), whereas LAT of MYR72m also included KPJ Batu Pahat and KPJ Perlis.

• HT spiked 46% YoY to MYR45m in 2Q23, accounting for 5.6% of quarterly revenue (highest ever in terms of relative revenue contributions). The robust HT performance was mainly on the return of affluent Indonesian patients (49% vs 48% in 1Q23). KPJ is currently in talks with its regional channel partner to explore potential services and procedures to be offered to ASEAN and Middle East-North Africa or MENA patients. Besides cost competitiveness, its solid brand reputation (four out of its 29 hospitals are Joint Commission International accredited) are expected to offer high levels of integrity and value prepositions to attract medical tourists.

• Earnings revision. Post briefing, we keep our forecasts unchanged, as we expect a sequentially better 2H23 – underpinned by robust patient volumes coupled with fewer festive events vis-à-vis 1H23.

• Valuation. Maintain BUY and MYR1.46 TP. We like KPJ for its healthy organic patient growth, encouraging return of medical tourists, and transformation plan to offer more tertiary care services. We expect the group to sustain its earnings growth momentum moving forward, anchored by the improvements in operating efficiency (with new hospitals nearing the end of their gestation periods) and stringent cost-control measures. Key downside risks: Lower-than-expected patient visits/revenue intensity growth, and higher-than-expected operating costs.

Source: RHB Securities Research - 1 Sept 2023