Apollo Hospitals: Margin expansion holds key

Capacities turning Ebitda positive, with margins expected to rise gradually

The Apollo Hospitals stock has gained five per cent over the past couple of trading sessions on expectations of higher margins and revenue growth across verticals. With bed capacity added earlier expected to witness higher occupancies, coupled with focus on super-speciality centres and secondary care, should aid revenue and profitability.

While the low-margin pharmacy business and recent capacity additions have been a drag on profitability, these are expected to stabilise and improve over time as they reach a certain size.

Analysts believe the margins now are at an inflection point and over a period of time will move upwards.

In the September quarter both the health care and pharmacy verticals grew 5.3 per cent and 71.3 per cent, resulting in overall revenue growth of 18.2 per cent at the standalone level. However, the healthy growth in average revenues per occupied bed (ARPOB) in key clusters such as Chennai and Hyderabad, on business rationalisation and operating efficiencies, are encouraging.

The Chennai and Hyderabad clusters, where the company’s operating beds are almost 41 per cent of total capacity, has seen ARPOB per day grow 12.6 per cent and 15 per cent, respectively, during the first half of this financial year. The Vanagaram and Jayanagar hospitals in the Chennai cluster have moved into positive earnings before interest, tax, depreciation and amortisation (Ebitda) trajectory, a major gain for the company. The two hospitals had been commissioned in financial year 2013 when Apollo started major expansions. However, the margins started their downward trajectory, with fixed costs increasing considerably, while occupancy increases at a slower pace. In the previous quarter, new hospitals displayed good growth. Revenues grew from Rs 76.7 crore in the first half of FY15 to Rs 140.7 crore in first half of FY16.

Further, FY14/15 commissioned facilities at Trichy, Nashik and  Nellore, among others, as also the product or specialty mix are likely to benefit the company in the coming days. Nevertheless, return on capital employed (RoCE) at 13.2 per cent during the first half of FY16 is lower than the 15 per cent seen in the first half of FY15 as per HSBC, largely due to capital employed at the new facilities where returns will pick up gradually. The management has targeted 16 per cent RoCE for new hospitals by the fifth year of their operations, which will boost overall returns.

With 1,300 beds added in 24 months and 895 more planned in FY16, analysts at HSBC believe the company is almost at the end of the current investment cycle. FY17-18 will bring consolidation and much needed recovery in margins and RoCE. Analysts at HSBC remain excited about long-term investment drivers.

Analysts at Espiroto Santo securities too see Apollo’s all-inclusive strategy as capable of driving multi-year growth as well as valuations and see the benefits of recently commissioned beds as capable of driving significant leverage. Given the target prices of various brokerages, expect 12 to 24 per cent upside from the current levels of Rs 1300.50.