The Wrap: Optus, Construction & Healthcare

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Optus's acquisition of Amaysim may be positive for the industry; the health insurance industry's gross margins fell in FY20; backlog in elective surgery saw reduction in the September quarter.

-An analysis of Optus's acquisition of Amaysim
-Falling profits across the health insurance industry
-Covid-19 testing providing a boost to pathology volumes

By Angelique Thakur

Following a “dual-brand strategy”

UBS believes Optus’s acquisition of Amaysim ((AYS)) could be positive not only for Optus but the entire telecom industry. Recall Amaysim is Australia’s largest Mobile Virtual Network Operator (MVNO) business.

The Singapore based telecom also launched a budget mobile brand called Gomo, a “no-frills" service, if you may, aimed primarily at customers seeking budget-friendly telecom services.

The rationale behind the move? As Goldman Sachs puts it, the deal is a “defensive investment to accelerate [the telco’s] dual-brand strategy”

The fact the company did not have a sub-brand in the MVNO market was at odds with the likes of peers Telstra ((TLS)) and TPG Telecom ((TPG)), both of which have their own sub-brands (Telstra's Belong and TPG's Felix) in the segment.

In CEO Kelly Bayer Rosmarin’s own words:

“Optus has been rated Australia’s strongest brand, and is competing well in the market, but we have not had any sub-brands competing in the growing MVNO segment of the market. That’s why we are so excited to extend our reach and appeal by adding Australia’s largest and most successful MVNO brand, Amaysim, and a new digital brand, Gomo, to our line-up.”

UBS is pleased with Optus' Amaysim acquisition and believes the deal will be good for industry pricing since Optus will be able to “premiumise” its head brand, something the telco wasn’t able to do earlier due to the fear of cannibalisation by Amaysim.

A similar strategy was followed by Telstra when it launched its Belong brand for the lower end segment and also allowed the telco to lift the prices for its head brand – essentially covering both the markets.

The deal will also eliminate what is considered by UBS an unfavourable contract structure between Optus and Amaysim wherein Optus had committed a certain amount of capacity at a specific price to Amaysim. Both UBS and Goldman Sachs agree Amaysim had more pricing flexibility under the contract than Optus would have liked.

Goldman Sachs is Neutral on TPG Telecom and rates Telstra as Buy.

Health insurance policy growth softened in FY20

In FY20, the private health insurance industry saw a broad-based deterioration in profits, as confirmed by the annual report released by APRA.

The overall policy growth softened to 0.4% in FY20. Market share gains were skewed towards the smaller funds, HCF Health Insurance and nib Holdings ((NHF)) with Bupa ceding -0.4% of its market share. nib Holdings' market share rose 0.6% to 9.2% in FY20. 

The report sees policy downgrading as a constant headwind throughout the year. Revenue growth also lagged despite a lower increase in premium rates. What increased across the industry were claims growth, which rose to 3.1% in FY20 from 2.4% in FY19.

All in all, the industry gross margins fell to 12% as compared to 14% in FY19. This was instrumental in a higher proportion of the industry posting operating losses, with 16% of the total policies loss-making as compared to a puny 1% last year.

Goldman Sachs believes the fallout from the pandemic remains hard to judge currently with many moving parts. Even then, the broker feels the risks are now better reflected in valuations and is Neutral on both Medibank Private ((MPL)) and nib Holdings.

Pathology boosted by covid-19 testing 

UBS has taken a look at the Medicare data released for September 2020. With Medicare contributing about 85% of Healius’ ((HLS)) revenues and 60-70% of Sonic Healthcare’s ((SHL)) revenues, Growth in availing Medicare is regarded as a proxy by UBS for understanding operating trends of these health care providers.

Covid-19 PCR tests have been a major boost to pathology volumes, finds UBS after comparing the September quarter numbers with last year's growth rates. Pathology benefits also jumped (27% growth year on year). 

In fact, pathology benefits outgrew the pathology volumes quite significantly (27% versus 9.3%), a feat UBS believes was helped by the higher reimbursement per patient for covid PCR tests versus the routine tests.

Growth in GP attendance was robust at 4.9%, assisted by telehealth. Imaging volumes were down -0.3% during the quarter.

Private hospitals have something to cheer about with elective surgery volumes bouncing back. The September quarter saw surgical volumes grow 6.4% as backlogs start to reduce.

While covid-19 testing has definitely benefited a lot of health care providers, in particular Sonic Healthcare and Healius, UBS is not sure for how long the tailwind will persist. For now, the analysts are happy to remain Neutral on both Sonic Healthcare and Ramsay Health Care ((RHS)).

Engineering construction activities: More to come

According to a BIS Oxford Economics study, the value of construction activity to be undertaken over FY21 in Australia is expected to increase to $94.6bn, a rise of 11.1%.

This outlook is supported by strong growth in transportation, mining engineering construction and also by the end of the downturn in the oil and gas construction activity, the report states.

While the pandemic wreaking havoc across the globe dominates the economic narrative both domestically and internationally, the BIS study shows engineering construction activity over the June quarter in Australia remained comparatively insulated. The value of work done (construction activity that was undertaken) over the quarter was up 5% versus last year.

Project commencements were a different story though, noting a sharp fall of -31% year on year, implying the recent activity was mostly a result of the existing projects. A classic example is the publicly funded transportation commencements that fell -54% year-on-year to $3.7 billion over the June quarter, its lowest since the December 2003 quarter.

This is despite the investment-centric FY20 federal budget and, the report notes, shows it takes time for stimulus plans to actually translate into on-the-ground construction activity.

Over the next year, BIS Oxford believes utilities construction is expected to take a tumble since the loss in activity from the completion of the initial phase of the NBN rollout will more than offset the recently announced upgrades to the network.

Supported by a rebound in oil and gas work and a continuation of the construction of a number of large iron ore projects, mining investment is likely to rebound.

Oil and gas construction continues to have a major influence on the total engineering construction activity in Australia. At $6bn in FY20, the oil and gas sector has come a long way after peaking in FY14 at $49.5. BIS Oxford economists believe the current trough is likely to end soon with the next cyclical peak in FY25 at $15.7bn.

Major projects driving this forecast rebound include Gorgon 2, Pluto 2, Scarborough Gas Field, the Surat Gas Project and the Barossa gas field.

If the oil and gas construction is excluded, the report notes the engineering construction activity has grown quite a lot since FY16 although slowed down over FY20, growing bu just of $100m. The analysts expect stronger growth from FY21 onwards with the sector hitting a peak of $96bn in FY23.

What about the Australian housing construction market?

Things seem to be looking up for construction markets, assesses Goldman Sachs, weighed down throughout the first half of FY21 amid covid-19 led uncertainty.

Early signs of recovery make Goldman Sachs bullish enough to revise its housing forecasts upwards for detached and multi-residential housing starts with forecasts for FY21-23 increased.

This view is further corroborated by the more resilient than anticipated lead indicators like housing finance, approvals and house prices.

Reflecting the stock’s operating leverage to housing starts, CSR ((CSR)) has been upgraded to Neutral from Sell. Putting somewhat of a damper on things, Goldman Sachs concedes it sees limited upside beyond the anticipated recovery.

When it comes to stocks exposed to residential construction markets, Goldman Sachs prefers both James Hardie Industries ((JHX)), which has outperformed via market share gains, margin expansion and volume growth, and BlueScope Steel ((BSL)), which is exposed to domestic markets.

Improved Australian end-market demand is expected to underpin further earnings revisions.

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