Ramsay Healthcare’s (RHC) FY17 results were of lower quality than usual with revenue and EBITDA misses against consensus expectations offset by lower interest and tax expense. Core NPAT of $542.7m was in line with guidance but the result missed on revenue, EBITDA and cashflow. The 13% increase in the final dividend signals directors’ confidence in the future.
RHC guided FY18 core EPS (not NPAT) growth of 8-10% whereas consensus had 11%, hence the share price selloff since the result. UK earnings will fall in FY18 due to earlier tariff reductions and despite volume growth, while management spoke only of uncertainty in France with no guidance yet from the new Macron administration on private hospital funding. Australian earnings are still growing at high single-digit while global procurement cost savings, and refinancing on superior terms, push FY18 NPAT into the guidance range.
RHC’s domestic hospitals are obviously unaffected by the problems that drove competitor Healthscope’s earnings downgrades, and management confirmed this with conviction. There is a slowdown in industry volumes/patient episodes as young people leave private health insurance but scale and operating model still matter most. RHC is not overexposed to Victoria as HSO is. There is monthly volatility, driven partly by today’s financial pressures on households, around a long-term uptrend in volumes.
RHC’s highly successful brownfields expansion strategy continues, with 500 beds, 27 operating theatres and three private emergency centres opened in the year. There is a smaller development pipeline on page 25 of the result presentation, suggesting natural limits are being reached.
Management also spoke about out-of-hospital growth opportunities. RHC’s move into pharmacy implies growing interest in community-based healthcare which is a natural move into lower-acuity settings. Pharmacy earnings are not yet material.
FY19 should be a better year as the first UK tariff increase for some years is applied and the country’s shortage of nurses, which forced RHC to incur the costs of expensive agency nurses, is resolved.
Frustratingly, there is ample brownfields expansion potential in France but the funding and political environment are not conducive to large-scale investment at this time.
We downgrade adopted NROE from 35% to 34% and RI from 12% to 11% but we also lower RR from 10.3% to 9.8% to reflect RHC’s large market cap and the low volatility of its earnings growth.
On 30 August we bought 34 shares for the StocksInValue Model Portfolio at $67.90, then we bought another 24 shares at $65.40 on 31 August. We are taking a longer-term view than the market, which is currently focused on the lower-quality 2H17 result and slowdown in guidance. We see a company that can steadily compound earnings faster than most other large ASX names, with favourable long-term demographic trends. A modest disappointment in one year’s earnings is an opportunity to buy a typically expensive quality stock.