Greenfield, brownfield expansion to drive KPJ Healthcare growth

This article first appeared in The Edge Financial Daily, on January 17, 2019.
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KPJ Healthcare Bhd
(Jan 16, RM1.02)
Maintain add with an unchanged target price (TP) of RM1.27:
We hosted KPJ Healthcare Bhd at our Malaysia Corporate Day held recently.

During the meeting, KPJ indicated that it will further expand its network of 25 hospitals this year through the opening of four new hospitals — KPJ Bandar Dato’ Onn (150 beds), KPJ Miri (90 beds), KPJ Batu Pahat (150 beds) and KPJ Kuching (150 beds).

Coupled with its brownfield expansion plans, we are positive on this as it will further strengthen its presence nationwide and provide space to capture more patient volumes in the future.

We estimate that KPJ’s capacity of over 3,000 beds will grow approximately 8% year-on-year (y-o-y) by end financial year 2019 forecast (FY19F) following its planned capacity expansion activities.

We are not overly concerned about the start-up losses from the opening of the greenfield hospitals as we expect a turnaround in two out of the three hospitals in FY19F, on the back of an improved outlook and a ramp-up of its operations.

Separately, our analysis shows that most of its recent greenfield hospitals took about three years to turn around at the bottom line.

This is positive for KPJ due to its shorter gestation period and compares favourably with the industry’s three to five-year turnaround period on average.

The ramp-up in its hospitals which are in the growth phase (less than 10 years old) could also partially offset the start-up losses from the greenfield expansion currently in the pipeline. We gather that these hospitals will be able to deliver healthy double-digit revenue and patient growth following the ramp-up in its operations.

KPJ also spoke about its plans to explore capital expenditure-lite opportunities, including shifting its focus to brownfield expansions after the existing greenfield developments are rolled out.

This shift in strategy is positive as it will reduce the need to fund heavy development expenditures which should help KPJ manage its borrowings.

We project core earnings of RM58 million to RM60 million in the fourth quarter of  FY18F on the back of patient growth of 2% y-o-y.

This is 2% to 4% lower y-o-y due to a one-off patient boost in the corresponding quarter, and as KPJ has to absorb additional start-up losses from the commencement of KPJ Perlis in May 2018.

This translates into FY18F net profit of RM183 million, up 15% y-o-y and 1.6% higher than the Bloomberg consensus, on account of its improving operational statistics.

We maintain our “add” recommendation with an unchanged TP of RM1.27, pegged at its five-year historical mean of 28 times FY20F price-earnings ratio.

Our valuation is derived based on an assumed full conversion of its warrants and Employee Share Option Scheme, which will expire in January 2019 (exercise price of RM1.01) and Febuary 2020 (exercise price of 91 sen), respectively. — CGSCIMB Research, Jan 15