The New World Of The Old

This story features ESTIA HEALTH LIMITED, and other companies. For more info SHARE ANALYSIS: EHE

– Government support
– Strong growth opportunity
– Highly fragmented market
– Long term thematic

By Greg Peel

There is no need to explain the thematic – Australia’s population is getting older. The result is growing pressure on the healthcare industry and on accommodation for the aged. Whereas once Australia’s older citizens either elected to live out their lives at the family home, or were packed off to a nursing home when it all became too much, today sees a boom in the provision of alternatives.

Enter the retirement village, providing housing options, healthcare services, community services and social facilities for the elderly to the not-so-old. Such facilities become more attractive when retirees realise the value of the property they likely now own outright and can sell in today’s market.

There are three providers of residential aged care (RAC) listed on the Australian stock exchange – Estia Health ((EHE)), Japara Healthcare ((JHC)) and Regis Healthcare ((REG)). Over the course of 2015, major Australian stockbrokers have been recognising the growth opportunities for these companies in what previously had been a fractured private market, and commenced coverage accordingly. Having already initiated coverage on Estia, UBS has now added both Japara and Regis to its universe, joining Deutsche Bank and Macquarie as FNArena database brokers to cover all three, and Morgans and Morgan Stanley to cover one or two.

Critical to the aged care industry is government policy, which of course offers up the risk of changes to government regulations. However, government policy has become increasingly supportive of residential aged care given subsidising retiree accommodation provides a beneficial outcome as the government negotiates its way through the realities of the impact of an ageing population on the economy. While future governments may fiddle about at the edges, it is unlikely the principal of government support would be tampered with and it would not be politically popular.

Regulatory changes made around twelve months ago provide three payment options for those entering a facility.

One option is to pay a refundable accommodation deposit (RAD), which is an upfront lump sum payment to the facility. It acts like an interest-free loan to the facility, which will draw upon the lump sum to cover the daily cost of accommodation and refund the balance when the resident departs, one way or the other.

Another option is to pay a daily accommodation payment (DAP) which is basically the same as paying rent and is typically paid in one month instalments in advance.

The third option is to pay a RAD/DAP combination of one’s choosing. In all cases, the government will subsidise all or some of the cost of accommodation in whichever form, depending on means testing.

DAPs clearly provide residential operators with a cash flow stream. RADs also provide a cash flow stream on the basis of resident turnover. UBS believes the market has overestimated the financial risks associated with shifts in accommodation payment preferences towards DAPs and RAD pricing. Funding policy settings and resident turnover rates moderate the impact of these risks, UBS notes.

The timing of cash flows means there is greater accretive value available to operators through acquisition of existing facilities rather than greenfield development, although both provide accretion, the broker notes. Acquisition delivers a higher internal rate of return, although development delivers a higher return on invested capital.

Whichever the case, UBS believes all three listed RAC operators boast highly accretive growth strategies in place that will continue to play out over the longer term. The industry is highly fragmented, thus “longer term” may be in excess of fifteen years.

Among the three, UBS’ initial recommendations come down to valuation versus current stock price. Not everyone in the market is yet to stumble upon this new investment sector. Otherwise, the story is relatively homogenous among all three.

UBS retains a Buy rating on Estia and has initiated with a Buy on Japara and a Neutral rating on Regis due to a full stock price.

Four FNArena database brokers now cover Estia, for the equivalent of three Buys and a Hold. The consensus target is $7.55.

Five brokers cover Japara, for four Buys and one Hold. Consensus target is $3.23.

And four cover Regis, for one Buy and three Holds. Consensus target is $6.09.
 

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