Primary Refinancing Removes Perceived Overhang

This story features SONIC HEALTHCARE LIMITED. For more info SHARE ANALYSIS: SHL

The company is included in ASX50, ASX100, ASX200, ASX300 and ALL-ORDS

By Chris Shaw

When Primary Health Care ((PRY)) acquired Symbion it took on additional debt and the need to refinancing this debt has in the view of UBS been weighing on the share price of the company. The stockbroker thus suggests news the company has signed an agreement for a new facility for $1.2 billion should be viewed as a positive by the market.

Bank of America Merrill Lynch agrees the debt issue has been overhanging the shares, so the refinancing clears up this issue. As Credit Suisse points out, the move also de-risks the group’s balance sheet so it too sees positives, though as JP Morgan notes the refinancing is likely to be at a higher rate than the previous debt, which suggests some downside risk to earnings per share forecasts depending on the actual interest rate of the refinancing.

JP Morgan is assuming a margin of 325 basis points, but it is not sure this will be achievable. Its numbers show for every 50-basis points the rate is above this estimate, there would be around $6 million in additional interest costs, translating into a negative earnings per share impact of around 2%.

With the refinancing process underway Bank of America Merrill Lynch expects the focus of the market will now turn to the company’s ability to offset recent Budget cuts, something BA-ML expects the group will be able to achieve via a combination of higher medical centre co-payments, cost cuts in the pathology operations and HCN fee increases.

The other likely focus for the market in the broker’s view is the potential for margin and leverage upside in the medical centre operations going forward, with Credit Suisse seeing upside from an ongoing rollout of greenfield medical centres and the backfilling of recently opened sites.

This supports its view there is value in the stock at current levels, the broker’s numbers showing the stock is currently trading at a multiple of around 14 times 12-month forward earnings, which is a 16% discount to its five-year average of 17 times earnings. As well, the broker estimates the stock is currently trading at a 1% discount to the ASX200 index, which is below its five-year average of a 16% premium.

This is based on the broker’s earnings per share forecasts of 42.6c in FY10 and 46.9c in FY11, which compares to Bank of America Merrill Lynch estimates of 43.7c and 49.2c and JP Morgan at 42.8c and 46c respectively. Consensus forecasts according to the FNArena database are 42.5c and 47.9c.

While RBS Australia has lifted its valuation by a little more than 3% to reflect higher multiples generally in the healthcare sector, a move that sees its price target increase to $6.35 from $6.15, it has downgraded to a Hold rating on the stock from Buy previously to reflect recent strong performance in share price terms.

JP Morgan also sees the stock as reasonable value given the earnings growth outlook, so post the refinancing announcement the broker retains its Neutral rating. Others are more positive, Credit Suisse rating the stock as a Buy on valuation grounds as noted above and UBS agreeing, seeing scope for the stock to trade at multiples closer to those of peers like Sonic Healthcare ((SHL)) and Healthscope ((HSP)).

News of the refinancing has seen some increases to price targets and the average price target according to the FNArena database now stands at $6.52, up from $6.23 previously. Among those brokers to have updated their models for the refinancing news there are a wide range of targets, with JP Morgan among the lowest at $6.21 and Credit Suisse the most aggressive at $7.55. The database shows five Buy ratings, one Accumulate and four Hold ratings.

Shares in Primary Health Care today are down slightly and as at 11.50am the stock was 6c lower at $6.31. Over the past year the stock has traded in a range of $3.46 to $6.56.

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