KPJ Healthcare - Back on an aggressive expansion mode BUY

- We initiate coverage on KPJ Healthcare (KPJ) with a BUY recommendation and a DCF-fair value of RM6.15/share, offering potential returns of ~ 20%. We see further upside to the share price in a likely sector-wide re-rating from the impending listing of regional healthcare provider Integrated Healthcare Holdings (IHH) which have acquired assets at 16x-26x PERs.

- As it is, KPJ’s current valuations are attractive. Fully-diluted PERs of 17x and 20x are at a 10%-13% discount to closest peer, Thailandbased Bumrungrad Hospital, and a wider 23%-33% discount to regional peers’ average. 

- We like KPJ’s defensive earnings profile. Also, a step-up increase in bed capacity via a pipeline of 7 new hospitals would accelerate earnings momentum to achieve our conservative 3-year CAGR of 17%. Faster-than-expected patient admission growth, coupled with a one-year hiatus from hospital expansion, has led to shrinking ready capacity. Current occupancy rate of 70%-75% is a tad below overcrowded thresholds of 85%-90%.

- With a sizeable 22% market share, KPJ is Malaysia’s largest private healthcare provider with a national footprint and growing scale. It is well placed to capitalise on the booming and lucrative health tourism, with the doubling of the strategic existing hospital chain in Johor – a focal area slated to become the primary destination for medical tourists. 

- Increased demand as spurred by recent regulatory changes on cross border medical reimbursement between Malaysia and Singapore is expected to power the segment’s contribution from 10% currently to 25% of group revenue by 2020F.

- KPJ also operates KPJ International University College of Nursing and Health Sciences (KPJUIC) with annual revenues of RM40-RM50mil. Despite minimal contribution to group earnings, the education arm complements its hospital operations in that it serves to mitigate staffing risks of qualified nurses and  medical staff. Management has earmarked a RM120mil capex for the Nilai branch expansion and commissioning of a new campus at Bukit Mertajam. It aims to quadruple student in-takes to 10,000 in 5 years’ time.        

- The non-core operation in the retirement/aged care  industry will remain insignificant in the medium term. Nevertheless, we reckon the ‘know-how’ attained via KPJ’s 51% stake in Australia-based Jeta Gardens Waterford Trust would be beneficial for future potential opportunities within the niche market.   

- Net gearing is at a manageable level of 12%, aided by the group’s asset-light model. Asset injections of hospitals into 49%-owned AlAqar Healthcare REIT (AQAR Mk Equity, BUY) has enabled for better deployment of free cash flows to fund future expansion, whilst lending support to its dividend policy. We have assumed a dividend payout of 50% p.a., in line with management guidance (yields: 3%-4%).  

Source: AmeSecurities