Australia | Aug 18 2010
By Chris Shaw
Primary Health Care ((PRY)) delivered a disappointing full year earnings result, profit of $132 million falling short of market consensus of a profit of around $145 million. Revenues were largely as expected but lower volumes in the medical centre business and margin pressure in pathology held back earnings.
As well as being a disappointing result Credit Suisse suggests earnings quality was poor as the result included a lower tax rate, the gain on the sale of a financial asset and a distribution from the Liquidation of Pan Pharmaceuticals.
Along with the result Primary management has guided to FY11 EBITDA (earnings before interest, tax, depreciation and amortisation) of $360 million, an outcome Credit Suisse sees as a stretch, with earnings risk still considered to the downside.
On Credit Suisse's numbers, to achieve the new guidance for FY11 there would need be 15% earnings growth in the Medical centre operations and pathology revenue growth of 4-5% and this, suggests CS, appears unlikely given current conditions in both markets.
This downside risk remains present even after forecasts across the market have been revised lower, Goldman Sachs cutting its earnings estimates by 7% in FY11 and by 10% in FY12 to earnings per share (EPS) outcomes of 29.5c and 32.4c respectively.
Macquarie lowered its net profit forecasts post the FY10 result by 14% in FY11 and by 18% in FY12, the broker agreeing with the Credit Suisse view there is further downside risk should industry conditions across Primary's operations deteriorate further.
Macquarie is forecasting EPS of 29.3c in FY11 and 31.8c in FY12, while BA-Merrill Lynch expects EPS of 28.5c and 35.9c respectively. Consensus EPS forecasts for Primary according to the FNArena database now stand at 27.8c in FY11 and 31.8c in FY12.
The fact any recovery in outlook for the company remains unclear from a timing sense is likely to cause another issue according to WilsonHTM. The broker takes the view Primary is almost certain to need to draw down its $100 million in debt headroom over the course of FY11.
This is because falling margins are impacting on free cash flows, as the move to obtain more GPs to fill Primary's medical centres is a capex intensive exercise and is coming at the same time as the pathology and imaging operations continue to struggle.
The pressure on free cash flows could also impact on dividends, WilsonHTM suggesting Primary could also struggle to sustain a payout ratio of more than 60% going forward. This compares to a payout ratio of 80% previously. As with others in the market, the broker cut its forecasts in coming years on the back of the FY10 result.
In BA-Merrill Lynch's view the fact earnings in FY11 could again disappoint would not change the fact there is value on offer in the stock, but it would continue to put pressure on the share price. Given this, BA-ML sees no reason to be in a hurry to get set in Primary, downgrading its rating to Neutral from Buy.
This was the only change in rating post Primary's profit result, the FNArena database now showing the company as rated Accumulate once, Hold Seven times and Sell twice. One of these is courtesy of Goldman Sachs, who suggests while the company could eventually transition its business model to one generating more cash, the risks in the meantime mean a cautious outlook is appropriate.
WilsonHTM is not in the FNArena database but it has downgraded Primary to a Sell with a reduced price target of $2.94, down from $4.16. This compares to an average price target according to the FNArena database of $3.52, down from $4.22.
Shares in Primary today are weaker and as at 12.05pm the stock was down 17c or 5.3% at $3.07. This compares to a range over the past year of $3.01 to $6.56 and implies upside of a around 13% to the average price target in the database.