Apollo Hospitals: Margin concerns weigh

Strong expansion plan is positive for revenue growth, but it is taking a toll on margins

Apollo Hospitals Enterprise has risen 20 per cent from its closing lows of Rs 966 on August 6 to its 52-week high of Rs 1,164 currently. While strong revenue growth driven by expansions is likely to continue, it is also leading to increasing fixed costs and, hence, lower margins and profit growth in the interim. This is what makes analysts cautious on the near-term outlook for the stock, whose consensus target price, according to a Bloomberg poll after the June quarter results, stands at Rs 1,098.

The company’s revenues have grown 16.4 per cent in FY14 and 17.7 per cent year-on-year in the June quarter driven by both health care and retail segments. However, earnings before interest, taxes, depreciation, and amortisation (Ebitda) margins that stood at 16 per cent plus in FY12 and FY13 have dropped to 15.3 per cent in FY14 and 14.8 per cent in Q1 of FY15. Profit growth thereby has been slower - 8.6 per cent in FY14 and 4.8 per cent in Q1 of FY15. While the trend is likely to continue in FY15, profitability will rebound with a lag.

Apollo's expansions in FY13 are now seeing better profitability, but FY14 expansions are still to show the benefits. Apollo had added new hospitals in Vanagaram (Chennai), Jayanagar (Bangalore) during FY13, and in Trichy and Nasik in FY14. During the June quarter, while Vanagaram and Jayanagar hospitals reported impressive growth in occupancy and profitability leading them to break-even on the Ebitda front, hospitals at Trichy and Nasik reported an Ebitda loss of Rs 1.6 crore.

The company plans to operationalise 1,000 beds in FY15. Suneeta Reddy, managing director of Apollo Hospitals, told analysts the planned expansion is in progress with projects at Nashik, Nellore and Vishakhapatnam scheduled to be on stream in six months. Apollo plans to operationalise another 300 beds in Chennai and had acquired 51 per cent controlling stake in a 125-bed hospital in Indore in April.

Analysts at JPMorgan Asia Pacific equity research say they are positive on the long-term growth opportunity of Apollo and the strong revenue visibility. However, they believe near-term profitability will be impacted by its expansion pipeline. Near-term trends are likely to be lumpy with the commissioning of new hospitals. Analysts believe Ebitda margins in FY15 will remain lower than 15 per cent, restricting profit growth.

Meanwhile, the pharmacy business, with lower profitability, can add to margins, but only marginally. A potential induction of a partner, though, could be a catalyst for the stock.