Margin gains likely to further boost Aster DM Healthcare stock price

The company had been keen to sell the stake in the GCC business for some time now given a hypercompetitive environment, lower growth (a third of the India business) and lower margins

Healthy valuations for its West Asia business led to a rally in the stock of healthcare services provider Aster DM Healthcare.

The company recently announced the sale of its stake in its West Asia operations for $1.3 billion, which was higher than what the Street was expecting.

The stock has gained about 20 per cent over the last three trading sessions. Going ahead, its ability to scale up India operations and improvement in margins are key to further gains for the stock.

The West Asia business, which comprises a chain of hospitals, clinics and pharmacies across Gulf Cooperation Council (GCC) nations, accounted for three fourths of Aster’s consolidated revenues.

The company had been keen to sell stake in the GCC business for some time, given a hypercompetitive environment, lower growth (a third of the India business) and low margins.

For FY23, while the consolidated business posted a 16 per cent sales growth, the India business grew by 25 per cent.

The company highlighted that the deal, which is expected to be completed by the end of financial year 2023-34 (FY24), will unlock value for shareholders. It will also improve capital allocation and tap into the higher growth potential of the India business.

The GCC business has been acquired by Fajr Capital, which will own 65 per cent while the rest will be held by the promoters of Aster DM.

Given that the promoters will continue to hold a stake in the West Asia business after the transaction and are thus a related party, higher valuation (Street was expecting $1.1 billion) for the stake came as a surprise.

While deal value was above estimates, the GCC business, however, trades at a discount to peers in the region.

At an enterprise value of $1.3 billion, the deal is valued at 9.9 times the company’s FY25 operating profit.

Analysts led by Alankar Garude of Kotak Institutional Equities, said, “We note that Aster DM’s GCC peers are trading at 16-26 times their FY25 enterprise value to operating profit. This is at a premium to the deal valuation with the gap being explained by Aster DM’s much lower margin profile.”

The focus will be on India operations. The operating profit of the company’s India operations increased sharply, registering a growth of 30 per cent annually over FY20-23.

Prabhudas Lilladher Research estimates a 23 per cent annual growth over the next three years, aided by a scale up in margins, healthy average revenue per operating bed (ARPOB) and capacity (bed) additions.

The brokerage has also increased its operating profit estimates for FY24 and FY25 by 1-3 per cent. The Street will keep an eye on the capital allocation strategy as this will be key to fund the expansion.

While its current bed count is 4,855, the company seeks to add 1,479 beds by FY27. This will take its overall bed count to 6,334. The bed additions will be a combination of leased, owned, and operation and management (O&M) agreements. The company seeks to fund the Rs 850-crore expansion through internal accruals.

Kotak Research expects better case mix, payor mix and tariff hikes to drive an 8 per cent India ARPOB annually over FY23-26. It believes that a rerating will hinge on the ability of the company to improve margins.

“Currently, India hospital operating margins at 18 per cent are much lower than its listed peers, most of whom operate in the 23-34 per cent range. Improved profitability over the medium term will be critical to drive a further rerating in domestic valuations,” said the brokerage, which has an add rating.

At the current market price — adjusted for GCC stake — the India business is trading at an enterprise value of 19 times and 15 times its operating profit for FY25 and FY26, respectively. This is a 15- 30 per cent discount to listed peers, said Param Desai and Sanketa Kohale of Prabhudas Lilladher Research.

The brokerage has a ‘buy’ rating and believes that a timely closure of GCC divestment and utilisation of proceeds will be key monitorables in the near term.