Raffles Medical Group - UOB Kay Hian 2015-10-27: 9M15 ~ Lacklustre Results Due To Cost Pressure; Look Forward To 2016

RAFFLES MEDICAL GROUP LTD R01.SI

Raffles Medical Group (RFMD SP) 9M15: Lacklustre Results Due To Cost Pressure; Look Forward To 2016

RMG’s 9M15 results were lacklustre and broadly in line. 9M15 net profit rose only 2.1% yoy on cost pressure, particularly staff costs.
Although long-term prospects remain upbeat on its promising expansion plans, near-term earnings will be dampened by cost pressure.
Maintain HOLD with an unchanged target price of S$5.05. Entry price is S$4.30.

9M15 net profit of S$46.5m (+2.1% yoy) was broadly in line with our expectations. Earnings accounted for about 66% of our full-year estimate but we expect a seasonally stronger 4Q15 to lift profits closer to our full-year estimate.
3Q15 revenue growth from hospital and healthcare services was at 11.7% yoy and 3.5% yoy respectively. The solid growth in hospital turnover was attributable to higher revenue intensity (helped by segments such as transplant) as well as higher domestic admissions (which helped offset an estimated 5% yoy decline in foreign patients).

9M15 operating margins dipped 1ppt to 18.7%. Cost pressure remains a concern as staff costs grew 10.2% yoy, faster than 9M15 top-line growth of 7.7% yoy. As a percentage of turnover, staff costs was 49.6% in 9M15 compared with 48.4% in 9M14.
Other than the annual wage increment, we think the higher staff costs are attributable to new hires for the expansion of its clinics and new medical centres.
In addition, higher depreciation and operating lease expenses also led to elevated costs. The increase in depreciation and lease cost was mainly due to new and expanded operations at Raffles Hospital and the newly opened Raffles Medical Centre Orchard (Shaw Centre).

We think staff costs will remain elevated ahead of the group’s expansion plans given the lead time (of up to 1-2 years) needed to train and assimilate new hires. On this basis, we estimate staff costs as a percentage of revenue is likely to be slightly over 50% from 2016 onwards.
However, contributions from new facilities such as its medical centres at Shaw Centre (soft opening in Jun 15) and Holland V medical centre (1Q16) may need time to build up utilisation and new medical centres will need at least one year to break even.
Other than new hires, wage pressure for nurses (7-8% annual increments) remains high, given the global shortage of nurses.

Management is confident that the completion of the hospital extension wing at its flagship hospital would be in 1H17. Raffles Holland V is expected to be completed (with temporary occupation permit) in 1Q16 and to commence operations in the same period.
As for its new China JV, there will be a ceremony on 18 November to mark the laying of foundation works and the full commencement of construction will start in early-16. The targeted completion of its new China hospital is in 1H18.
In addition, management also plans to open one new medical centre in Shanghai every year ahead of 2018 (one each in 2016 and 2017) to expand its presence there.

The group's cash balance decline from S$150.2m to S$89.5m (S$0.16/share) as at Sep 15 is due to capex for its Raffles Hospital extension, payment of interim dividends (1H15) as well as the construction of Raffles Holland V. Otherwise, its cashflow generation remains strong, with circa S$16.6m net cash from operations generated in 3Q15.

We reduce our 2015-17 net profit forecasts by 2-8% to reflect higher staff costs ahead of its new capacity increase and slower topline growth as a result of weaker regional economies.
On our latest assumptions, RMG is projected to deliver a 3-year EPS CAGR of 10.7% (2015-17F). This could accelerate from 2018 onwards upon the completion of its new China hospital, which has a 400-bed capacity.

Although we remain sanguine on RMG’s long-term prospects and its good execution track record, we think a lot of positives have been priced in. We have a DCF-based target price of S$5.05 (unchanged) with an entry price of S$4.30.
At our target price, the implied 2016F PE is 39.1x, which is slightly more than its +2SD to mean PE of 36.2x which implies that the market is factoring in the premium for its long-term expansion into China.

Andrew Chow CFA UOB Kay Hian | http://research.uobkayhian.com/ 2015-10-27

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