Defensive Healthcare In Focus

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This story features CSL LIMITED, and other companies.
For more info SHARE ANALYSIS: CSL
The company is included in ASX20, ASX50, ASX100, ASX200, ASX300 and ALL-ORDS

Girding their loins for an economic downturn, brokers are casting their eyes to healthcare companies spying a winning formula of defensive attributes with quality and growth prospects.

-Fundamentals considered solid for healthcare companies
-Sector proving a defensive growth option during downturns
-The trifecta: valuation, quality and earnings upside
-Wilsons believes healthcare sector looks cheap
-UBS also eyes up the healthcare sector
-Brokers have their say

By Sarah Mills

Brokers Eyeing Up Healthcare Sector

Several brokers are turning their gaze to the healthcare sector as inflation cools and the economy comes off the boil.

Healthcare is defensive and brokers expect defensive stocks will remain in favour as the risk of economic recession rises.

Yet, fundamentals underpinning the healthcare sector are only improving. Brokers believe the healthcare sector’s winning combination of defence and growth heading into the next few years will likely attract investor interest.

Baby boomers are still ageing; government spending on healthcare services and products continues to rise; as does demand for healthcare services and products. Companies that suffered during covid are also likely to enjoy a gradual recovery, post-covid tailwinds expected to continue for several years.

Medical innovation is also being encouraged as part of ESG imprimaturs and companies with strong innovation pipelines are likely to benefit.

This article focuses on defensive, well-established companies, as opposed to the high-risk innovation end of the market, although FNArena observes pockets of upward movement in minnows in the June half as some investors place their bets.

Wilsons Favours Healthcare Sector

Wilsons recently published a Portfolio Healthcheck of the healthcare sector and expects the sector will outperform the broader market over the next 12 months (having underperformed over the past year).

The broker appreciates the sector’s quality and structural-growth options, noting its defensive nature, secular earnings growth, quality and value.

The broker also observes the healthcare sector is relatively inexpensive to other defensive sectors such as consumer staples while offering "exceptional quality". Australian players are observed to be very profitable, with strong balance sheets and cash flow.

Wilsons notes in past downturns healthcare earnings have proved resilient relative to other sectors, driving outperformance over such periods.

The sector tends to offer quality management teams combined with global growth prospects.

The Trifecta: Valuation, Quality And Earnings Upside

Wilsons is looking for defensive companies that offer growth at reasonable valuations with earnings upside. 

CSL ((CSL)), ResMed ((RMD)) and Telix Pharmaceuticals ((TLX)) all fit these criteria, and qualify as the broker’s top picks. 

CSL and ResMed are the most defensive sector picks, says the broker, while Telix offers above average growth prospects.

But CSL and ResMed are no earnings slouches either.

The broker expects CSL’s plasma recovery still has a way to go, and the company is also benefiting from favourable supply demand dynamics in CSL’s therapeutics business (HemGEnix, garadacimab, and CS112), which also offers strong pricing power.

Wilsons observes CSL has historically traded at a premium to Woolworths ((WOW)), but that premium has been sharply eroded, suggesting strong relative valuation appeal.

Add to that CSL’s forecast 21% EPS compound annual growth rate, which compares to 7% for Woolworths, and the argument appears compelling.

When it comes to ResMed, Wilsons believes competitor Phillips' recalls are just too big an opportunity to miss, expecting the company will enjoy major and permanent market share gains as a result. 

ResMed’s global market share is anticipated to top out at 75% in FY25, compared with 56% in FY20.

Wilson also notes the CPAP market remains non-discretionary with private/pubic payer reimbursement support.

Telix, meanwhile, is outpacing expectation on the take-up of its first commercial product, Illucix (a diagnostic imaging agent for prostate cancer), in the US.

The broker appreciates the company’s product-launch pipeline, the next cab off the rank being a kidney cancer imaging agent, TLX150-CDX in FY24. All this adds up to strong growth prospects.

While Telix also looks pricey, the broker observes its earning growth prospects are much higher than those of Cochlear ((COH)) and Fisher and Paykel Healthcare ((FPH)), which could lay the ground for upgrades to consensus forecasts.

Other stocks in Wilsons’ portfolio include Pro Medicus ((PME)), Nanosonics ((NAN)), and Ramsay Health Care ((RHC)). All three companies are believed to have reasonable valuation for their growth outlook.

UBS Runs The Ruler Over Health Sector

UBS expresses a similarly positive view on the local healthcare sector, favouring ResMed, Telix and CSL; same names, in different order of preference.

This broker posits the market continues to underestimate the competitive advantage handed to ResMed through the Phillips recall, and labels ResMed its No.1 sector pick. 

UBS observes ResMed is also growing market share in OSA devices while the share price does not appear to reflect the true value in the company.  The broker expects the company will achieve an EPS CAGR of 9% to 10% over the years ahead.

Telix takes second place on UBS’s buy list, the broker believing the market is underrating the company’s pipeline, while observing the company still offers value at current prices, regardless of future earnings. But if the pipeline proves a winner, the broker forecasts big upside.

CSL comes in at a respectable No.3 on the list of sector favourites. UBS expects the company will continue to benefit from top-line tailwinds in all its divisions.

The broker observes a strong recovering in Behring plasma collections and forecasts total IG sales growth of 29% in FY24 (4% ahead of consensus forecasts). 

Growth for newly acquired Vifor might be less exciting but respectable none-the-less, thanks to nephrology launches and a recovery in IV iron markets.

UBS’s target price implies a FY23-FY27 EPS CAGR of 19.6%. 

Not All Sunshine And Roses

Wilsons’ portfolio aims to hold 25-30 Australian well diversified companies offering the best risk-adjusted returns over time. The broker is 4% overweight healthcare with a portfolio allocation of 14%. 

That view comes with a warning: stock selection is critical.

In line with views expressed by others, the broker is cautious about covid heroes such as Sonic Healthcare ((SHL)) and Fisher and Paykel Healthcare, observing opacity on post-covid valuations.

Fisher and Paykel Healthcare and Cochlear both fail Wilsons’ litmus test for defensive/valuation/earnings growth stocks and the broker considers their valuations to be toppy relative to sector peers.

Like Wilsons, UBS is less confident about the prospects of covid winners as the prior benefits from covid unwind.

UBS observes Ansell’s ((ANN)) inventory dynamics remain unstable and visibility poor, but observes that signs of price stabilisation are emerging. 

The company is also only offering a mid single-digit FY23-FY27 CAGR and is trading close to historical valuation norms compared to the ASX200.

Cochlear ((COH)) also fails to inspire UBS, the broker struggling to spy growth prospects at the current valuation, despite the absence of near-term negative catalysts. 

While structural growth prospects remain favourable, the company’s pricing power is labeled "low", and the broker believes investment would require a leap of faith, or at least benefit of the doubt. 

The broker does appreciate Cochlear’s defensive characteristics.

UBS is most negative on Sonic Healthcare, believing high labour costs and disappointing US sales growth will continue to weigh on the company.

The broker believes the FY24 low will be worse than expected, and sits -9% below FY24 consensus EPS forecasts.

UBS observes US sales appear to be slower than market pricing would suggest; the consensus labour cost reduction forecast appears overblown; and annual covid testing revenues will continue to fall.

Meanwhile, the company offers the lowest EPS growth in UBS’s sector coverage while trading at a 60% premium to the ASX200, compared with an historical average of 20%.

UBS’s top pick ResMed attracts a Buy rating and US$290 target price; CSL garners a Buy rating and $340 target price; and Telix Pharmaceuticals nabs a Buy rating and $14 target price.

The broker holds a Neutral rating on Cochlear and Ansell, which attract target prices of $255 and $30 respectively.

No-friends Sonic Healthcare gets a Sell rating and $31 target price.

Brokers Have Their Say

Among FNArena’s daily broker coverage, the healthcare sector has been remarkably stable over the past few months, which makes the sector a stand-out as the trend in earnings forecasts, and in related valuations and price targets, for the market generally is down.

The average target price for CSL is $328.167, and has been fairly steady for most of the past month, easing roughly -3.3% over that period (despite the occurrence of a rare profit warning from the company).

Macquarie holds an Outperform rating and $326 target price and notes CSL's FY24 guidance fell well below its forecast due to a slower than expected recovery in Behring margins and to pre-covid levels, pushing the recovery date out by one year.

The company advised currency movements were likely to hit FY23 profits and higher net interest costs were also weighing.

Goldman Sachs holds a Neutral rating and $295 target price for CSL, observing that while a recovery in volumes is under way, this broker prefers staying on the sidelines given uncertainty over margins and returns.

Jarden remains Overweight CSL and pegs a $322.48 target price considering the company to be largely on track.

Morgan Stanley holds an Overweight rating and $325 target price; and Citi holds a Buy rating and $340 target price.

Ord Minnett (whitelabeled Morningstar research) combines a Hold rating with $315 target price believing investors have time on their side before jumping in, given the company’s stated headwinds.

ResMed’s average target price has been steady for the past couple of months at $38, up 5.6% since late April.

Most brokers hold Buy, Outperform or Accumulate ratings with the exception of Morgan Stanley, which is Equal Weight.

Telix’s average target price of $14 hasn’t changed since last April. Bell Potter holds a Buy rating and $14 target price, as does Jarden.

Ansell’s average target price has been fairly steady for months and most brokers hold Neutral, Hold or Equal-Weight ratings with the exception of Ord Minnett, which holds an Accumulate rating (in between Buy and Hold).

It’s a similar story with Cochlear which appears to have edged ever so slightly higher over May and June, the average target price hitting $223.33.

Brokers hold mixed ratings on Cochlear, Goldman Sachs holding a Buy rating and $247 target price, while Morgans holds and Add rating and $250.60 target price; with Jarden and Citi sitting on Neutral ratings with target prices of $218.09 and $240 respectively. Morgan Stanley is Equal-Weight and holds a $214 target price.

Macquarie holds an Underperform rating and $198 target price; Ord Minnett a Lighten rating and $193 target price.

The average target for Fisher & Paykel Healthcare has fallen -6% since the end of May.  All brokers hold either Neutral, Market Weight, Equal Weight or Hold ratings.

Sonic Healthcare’s average target price has been fairly steady over the past month, easing about -1%.

Brokers are divided on Sonic, Morgan Stanley, Morgans and Citi holding Overweight, Add and Buy ratings respectively; Jarden and Ord Minnett holding Neutral/Hold ratings; and Goldman Sachs and Macquarie rating the shares Sell/Underperform.

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