This article first appeared in The Edge Financial Daily, on December 4, 2015.

KPJ Healthcare Bhd
(Dec 3, RM4.24)
Maintain buy with an unchanged target price (TP) of RM4.85: After KPJ Healthcare Bhd’s third quarter ended Sept 30 of financial year 2015 (3QFY15) results were released, we met up with the management for latest updates. We left the meeting with updates on its expansion progress and performance of its overseas operations (i.e. Australia and Indonesia). Overall, despite the slight delay in near-term openings (KPJ Pahang), subdued patient volume growth post-goods and services tax (GST), and the persisting weakness of its overseas operations, we remain positive on the long-term prospects of the group’s core operations in Malaysia. 

We believe KPJ is set to maintain its market leadership in the private healthcare space via its long-term expansion plans.

At present, KPJ has nine new hospitals (+750 beds) in the expansion pipeline. Coupled with renovation at its existing hospitals (+689 beds), the group’s capacity is expected to increase to 4,350 beds by 2019 (from 2,911 beds currently). 

New hospital openings in the near term include KPJ Pahang in 1QFY16 and KPJ Perlis in 3QFY16. The management highlighted that with minor regulatory setbacks delaying the issuance of an operating licence, the opening of KPJ Pahang may be pushed forward to 1QFY16 as a result. We are neutral on the slight delay as our assumptions have been conservatively aligned to the management’s guidance.

Year to date, while inpatient volumes increased by 0.9% year-on-year (y-o-y; +1,763 patients), outpatient volumes fell by 1.3% y-o-y (-23,984 patients). We opine that the decline in outpatient volumes could be due to the increased cost of seeking private healthcare post-GST. To highlight, post-GST implementation, inpatient and outpatient volume growth in 2QFY15 and 3QFY15 was softer than that of corresponding periods. Note that, however, in 3QFY15, inpatient volume registered a 1% y-o-y growth. Going forward, we are positive for a gradual recovery in patient volume growth as rising healthcare costs will likely spur an increase in demand for medical insurance.

Year to date, the group’s performance abroad in Australia and Indonesia has not been encouraging. In Australia, its aged care and retirement resort village facility, Jeta Gardens Aged Care Facility, remained unprofitable with nine months ended Sept 30, 2015 (9MFY15) losses widening to RM5.8 million (+86.6% y-o-y). 

This was due in part to the start-up costs associated with the addition of 72 new beds to its aged care facility in May. Nevertheless, with increasing economies of scale, the management is targeting a turnaround for Jeta Gardens in the second half of 2016. Moving on to Indonesia, its 9MFY15 earnings of RM100,000 were largely offset by losses of RM1.2 million in 3QFY15. Y-o-y, Rumah Sakit Medika Permata Hijau’s 9MFY15 occupancy rates dropped by 8.4 percentage points to 43.2%. This was partly due to the downturn in patient traffic following the resignation of a reputable doctor. In spite of the persisting weakness, note that the group’s earnings have traditionally been largely driven by its core operations in Malaysia.

We maintain our earnings estimates. We maintain our TP for KPJ at RM4.85 per share based on a discounted cash flow valuation (weighted average cost of capital: 7.8%; term growth: 3%). 

All in, we are positive on the group’s long-term prospects premised on its domestic expansion plans, which will be supported by sustained demand against the backdrop of compelling domestic demographic trends i.e. increasing life expectancy and proportion of the ageing population. We maintain our “buy” recommendation. Total upside for the stock is 15.3%. — TA Securities, Dec 3