The Wrap: Dentists, Aged Care, Outdoor Media

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Weekly Broker Wrap: Housing; dentistry; Commonwealth budget; aged care; insurance; and outdoor media.

-Negative aspects of the housing market are increasing
-Corporatisation of Australia's dental market is growing
-Upside from a better budget position likely to be returned to households
-Royal Commission likely to focus on deteriorating standards in aged care
-Recent consolidation should improve profitability in the outdoor media sector
 

By Eva Brocklehurst

Housing

The Australian Prudential Regulatory Authority has instructed lenders to develop internal risk limits for the share of loans that have debt-to-income ratios at very high levels. UBS believes APRA may want first loans that have ratios over 6x down to a 10% share of business, far below current estimates of 33%.

The broker has polled clients and is surprised most were unaware that borrowing capacity for anyone with existing debt can be reduced sharply. Major banks are expected to start sharing over 65% of lending data in coming weeks ahead of comprehensive credit reporting the system that is required from July 2019.

In addition, the Labor Party proposes to limit negative gearing to new housing if it wins the upcoming federal election. UBS points out, when negative gearing was limited in 1985, investor home loans fell -30-40%.

The impact on the broader housing market could be magnified this time around, the broker asserts, as the investor share of loans has tripled since 1985. Several negative aspects are playing out in the broker's credit tightening thesis which could weaken housing sentiment and demand and raise the risk of a credit crunch.

Dentistry

Wilsons suggests the corporatisation of Australia's dental market could extend to 40-50% from the current 15%. There remains a large pool of targets for consolidation as well as alternative avenues for growth.

Dental services organisations dominate in terms of building greenfield sites and bringing new practices to the industry, while the growth of independent practices is marginal and sub-scale. Expanding the market and patient access depends on improving awareness of oral health and overcoming the perception of higher costs.

The analysts note digital marketing in the sector is becoming more sophisticated as it seeks to attract new patients and optimise service levels. Investment in technology is key to differentiating from the small independent competitors. Elements of specialty practice such as orthodontics, periodontics and aesthetics are becoming increasingly accessible to general dentistry.

Commonwealth Budget

The Commonwealth government's final budget outcome for 2017/18 was better than UBS expected, with a -$10.1bn deficit, or 0.6% of GDP, a significant improvement versus the May budget estimate. Along with the recent strength in jobs and commodity prices UBS expects a better starting point for 2018/19.

The government has indicated a mini budget may be prepared ahead of the election that is due by May 2019. Hence, UBS suspects upside from the better budget position will be returned to households via an additional income tax reduction from July 2019.

However, in terms of household cash flow, this expected tax cut is already offset by the recent re-pricing of mortgage rates and surging petrol prices. UBS believes the tax cuts are not enough to lift the consumer outlook or change its view that the Reserve Bank of Australia will maintain official rates on hold until 2020.

Aged Care

While the terms of reference for the Royal Commission into Aged Care are yet to be decided, UBS expects a focus on what the government perceives to be a deteriorating standard of resident care. Similar to the 2016 reductions to the aged care funding instrument, the Royal Commission was announced with minimal prior consultation, which the broker reminds investors emphasises the level of political risk the sector bears.

UBS notes deteriorating financial health in the sector as the main for-profit operators now account for around 60% of pre-tax profit. The number of operators in the sector declined between FY14-17 by 152 and the staff cost/revenue ratio has increased to 66.4%.

The broker's analysis suggests that, if the nursing union's staffing ratios are adopted, the cost imposition on the sector could approach over $3.6bn and this policy looms as a focal point for the Royal Commission. UBS envisages the potential financial impact on the listed operators is limited.

The ongoing need to attract private capital to the sector signals any material cost imposition would need to be met with additional government funding and/or deregulation of basic daily resident fees. The broker also does not envisage material headwinds to sector occupancy rates and potential 'flight to quality' may actually benefit listed operators.

Insurance

Macquarie suggests cash settlement, customer communication and mis-selling are likely to be the focus of recommendations from the Hayne Royal Commission. The broker does not believe changes will have a material impact on insurance industry profitability.

Should the Commission seek to limit full cash settlement of home claims, the broker estimates this could add around $150-350m in additional claims to the industry. To address customer communication the broker expects internal audit and compliance costs to be added.

Limits to incentives for agents could make distribution via certain channels uneconomical and change the mix in the industry. The broker's analysis suggests this is already happening in the motor dealer channel.

Macquarie understands the interim report will not cover insurance but the final report, due in February, is likely to include recommendations for the industry. Now the Royal Commission is behind the insurance industry the broker believes the focus will return to fundamentals.

As lower margins roll through the NSW CTP portfolio and commercial lines take longer to improve incumbents are likely to struggle to hold market share. Macquarie maintains Underperform ratings for Insurance Australia Group ((IAG)) and Suncorp ((SUN)).

Outdoor Media

Citi expects, after recent consolidation, there will be a long-term improvement in profitability for the outdoor media industry. The broker believes both QMS Media ((QMS)) and oOh!media ((OML)) are attractive ways to play the structural growth in the sector.

The broker updates forecasts for oOh!media to account for the Adshel acquisition, raising the target to $5.75 and maintaining a Buy rating. The tender for Adshel's largest contract, Brisbane City Council, is currently underway and the outcome is expected to be a key catalyst for the stock.

The share price of QMS Media has fallen -6% since the ACCC approved the recent oOh!media mergers, despite the FY18 results coming in at the top end of guidance. While the weakness could be explained by some takeover premium departing the share price and reports of a possible acquisition of Val Morgan, Citi suggests negative sentiment surrounding the company's prospects as a smaller third player in the industry is also playing a part.

Meanwhile, the broker adjusts its forecasts for HT&E ((HT1)) to account for the sale of Adshel. The company will undertake a strategic review of its corporate structure and the broker envisages significant scope for cost reductions.

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