Metropolis IPO: Valuations factor in all the positives

Price caps on tests and competitive nature of the sector could test the high valuations

The country’s second largest diagnostics player by profits, Metropolis, will become the third player to be listed post its IPO after Thyrocare and Dr Lal Pathlabs. The company is seeking to expand its presence in a large under-penetrated market which is dominated by smaller, unorganised players.

The company has been utilising both organic and inorganic opportunities (15 acquisitions over 10 years) to grow its business. The company has also followed a strategy of concentrating on a few large cities with higher growth. Metropolis derives 62.75 per cent of revenues from five focus cities, which are amongst the top eight highest GDP cities in India. In addition, it is working on at least six more cities to bring them to them on a par with the top five to drive future growth.  

The company is concentrating on growing its retail business (cash business) as compared to business-to-business or institutional business that has a longer credit period (about 60 days). The company is expanding its more profitable retail segment, which currently contributes about 43 per cent to revenues.

Its other key strengths are a well-diversified tests portfolio, no products/clients concentration and the ability to conduct critical and specialised tests.

Metropolis revenues over the past have grown 16.3 per cent annually, and the same is expected to continue. The focus cities revenues, however, have grown 20.7 per cent annually. To grow B2C business, company, however, needs to invest. Given this, if the operating profit margins can be maintained at 27-28 per cent, it will suggest good execution, believe analysts.

Given the asset-light nature of the business, returns ratios have been strong with return on equity at 24.8 per cent as compared to 21-22 per cent of Dr Lal Path labs and Thyrocare. While the company’s growth and return metrics are superior, 

given the IPO pricing, there is little left for the investors on the table. Analysts at Sharekhan say while it is a quality company with a proven track record and can be looked at as an investment option for the medium- to long-term investment horizon, the issue priced at 42.6-42.7 times its FY18 earnings, leaves little upside in the near term.

Analysts say that Dr Lal Path labs and Thyrocare trade at close to 50.6 times and 30.6 times FY18 earnings, respectively, and Metropolis issue is priced between the two. While rich valuations of pathology companies can be justified, however, market conditions need to remain positive, too, for valuations to sustain. Further, some analysts say that any challenges such as a change in government policy (price caps on testing) could lead to a derating.