Tag Archives: Health Care and Biotech

article 3 months old

Weekly Broker Wrap: Aged Care, Consumer Electronics, Housing, Tourism And El Nino

-Short-term funding risk in aged care
-Dick Smith woes unlikely to spread
-House building firm despite affordability decline
-Bright outlook for tourism with AUD decline
-Extreme weather supporting electricity demand
 

By Eva Brocklehurst

Aged Care

Operating conditions appear sound in aged care, featuring high occupancy and rising bond inflows supported by a buoyant property market, in Deutsche Bank's observation. Still, funding reforms overshadow the sector. The broker believes the over-run relative to budget estimates makes it a priority for the government to address the issue.

Hence despite other attractive elements in the sector, the broker has downgraded Estia Health ((EHE)) and Regis Healthcare ((REG)) to Hold from Buy and Japara Healthcare ((JHC)) to Sell from Hold. The reflects adjustments to forecasts to allow for the impact of a freeze on aged care funding indexation from early 2016.

UBS also observes the short-term funding risk for residential aged care but suspects the impact on earnings will be contained to 2-3% at the bottom line. The broker believes if the government were to freeze indexation, currently at 1.3%, that would go some way towards addressing the gap. The government's Mid Year Economic and Fiscal Outlook (MYEFO) due next week may present a possible timetable for any changes.

Consumer Electronics

The efforts to clear excess inventory began in earnest late last week at Dick Smith ((DSH)). Deutsche Bank conducted a number of store visits to get some idea of what was being moved and the depth of discounting.

The majority of products were private label accessories, particularly under the MOVE brand. A large amount is aged with the majority of promotions on accessories to suit superseded hardware. The broker has also observed the depth of discounting is more aggressive in New Zealand.

UBS observes a difficult few months in store for Dick Smith but suspects the risks for the sector are overplayed. An irrational competitor with a 6.0% share does create a risk, nevertheless, and UBS suspects a 30 basis point impact to gross margins for JB Hi-Fi ((JBH)) and Harvey Norman ((HVN)), which would translate to a 3.0% and 1.0% negative impact on first half earnings respectively.

The issue highlights the strength of the JB Hi-Fi and Harvey Norman brands which suggests to UBS a significant opportunity exists over time to take market share from Dick Smith. The broker retains a Buy rating on Harvey Norman and upgrades JB Hi-Fi to Buy from Neutral.

Housing

Deutsche Bank expects growth in FY16 housing starts of around 6.0%, with NSW and Victoria being the drivers partly offset by weaker conditions in Western Australia. Investor finance now represents 73% of total loan values in Australia versus the historical average of 47%, the broker observes.

In contrast first home buyers represent 12%, down from the peak of 29% in October 2009 and from the historical average of 19%. The broker notes some investors may be first home buyers but this is difficult to quantify with certainty.

Nevertheless, home affordability remains below historical averages for all states except Western Australia and Queensland, although the broker does not believe this is at trough levels in any capital city. Housing is expected to remain robust over 2016, with no change to the official cash rate until December next year.

Beneficiaries of this robust environment, in the broker's view, include CSR ((CSR)), although aluminium is a detractor for the stock, Fletcher Building ((FBU)), given its exposure to robust markets in both New Zealand and Australia and Boral ((BLD)), in a strong position given 30% of its sales relate to Australia housing. Deutsche Bank retains Buy ratings on all three stocks.

Tourism

The Australian dollar depreciation has marked an end to cheap overseas holidays, UBS notes, with international travel prices at a record high. While the level of departures is still 25% above arrivals, net arrivals are the best since 2000, which provides some support to consumption, UBS observes. The broker expects, in a subdued economy tourism, at 6.0% of GDP, is likely to become a bright area in 2016.

UBS also expects the Australian dollar to fall to US68c in 2016 as the US Federal Reserve hikes rates and commodity prices remain soft. A lower Australian dollar is expected to underpin strong growth in tourist arrivals, supported by scheduled increase in international airline capacity of 8-10%.

El Nino

Morgan Stanley's El Nino update suggests, thus far, there is an impact on average electricity pool prices. Year-to-date average pool prices are higher in both NSW and Victoria. AGL Energy ((AGL)) is the most leveraged to pool prices, the broker notes.

That company has argued a structural rather than a cyclical view on prices, based on re-pricing of coal and gas supply contracts. Morgan Stanley, however, suspects a cyclical impact. Low rainfall has curtailed Tasmanian hydro production and hotter southern weather means lower demand-coincident wind production in South Australia.

Extreme weather tends to support electricity demand although, longer term, the analysts envisage declining demand and a dampening of prices amid new entrant renewables.
 

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article 3 months old

Integral Diagnostics Charts Strong Course In FY16

-Supportive ageing demographics
-Attractive specialist model
-Strong presence on Gold Coast 
 

By Eva Brocklehurst

Growth prospects in Australia's diagnostic imaging industry are solid, brokers contend, and several have initiated coverage of the new kid on the ASX block, Integral Diagnostics ((IDX)).

The company's outlook is supported by an ageing demographic, requiring more diagnostic intervention in health care. Around 50% of procedures are performed on persons over the age of 55. As training periods are lengthy, qualified personnel are in short supply but brokers maintain the company's specialist model is conducive to attracting and retaining radiologists.

Morgan Stanley estimates 5.0% industry volume growth will continue in 2016 and Integral's shift to high-end imaging should enable its top line to outpace volumes, with 6.0% growth envisaged. The broker expects earnings margins should increase by another 50 basis points in FY16.

Long-term discounted cash flow is considered the most relevant valuation methodology for the business and Morgan Stanley initiates with an Overweight rating and a $2.15 target. There is some regulatory overhang from the Medicare review but the broker considers this accommodated in the share price since the IPO a month ago.

The company services the medical community through 44 sites including 12 hospitals. There company has three main brands, Lake Imaging in Victoria, South Coast Radiology in Queensland and Global Diagnostics in Western Australia.

Primary Health Care ((PRY)) is considered the next largest competitor in these regions. The market is fragmented and brokers envisage opportunities for consolidation, with the top five accounting for just 44% of the market.

Risks centre on contract expiries - although Integral's typical hospital contracts are at least five years - and changes to government funding. Brokers note increased government scrutiny of expensive Magnetic Resonance Imaging (MRIs). Regardless, conditions are expected to remain supportive of the industry.

Reports suggest diagnostic imaging can help shorten hospital stays and reduce the cost burden. Morgan Stanley also cites disease specific studies, which have found that increased imaging could elicit savings in the treatment of stroke patients, while CT scans have been found to reduce the rate of unnecessary appendectomies and hospital admissions.

The company has a well credentialled team and a model, brokers observe, whereby 54% of radiologists have equity in the listed vehicle, a combined 30% shareholding. This is subject to a staged escrow arrangement.

UBS estimates the company will achieve a 3-year trailing revenue growth rate of 7.2% and an earnings growth rate of 22.3%. The broker also notes the diagnostic imaging is the most capable segment in terms of levying patient co-payments. UBS is of the view the sector will revert to higher co-payments to offset any impact from reform or demand.

UBS believes the Medicare review only carries “sentiment” risk and no fundamental change to the diagnostic imaging proposition. The broker initiates coverage with a Buy rating and $2.30 target.

One of the main attractions for Credit Suisse is consistent growth in the sector over an extended period of time, with industry growth in revenues at a compound 7.2%. However, growth has pared back in FY15, with IBES estimating system growth of 5.5% and this softer growth has continued into FY16.

Despite valuation support and the favourable funding environment and demographics, Credit Suisse is inclined to initiate with a Neutral rating and $1.95 target. The broker contends that industry growth has been weaker in recent months amid the overhang of the Medicare review.

While aware of placing too much emphasis on monthly Medicare data, the broker does believe the market needs to stabilise and there is the potential for softness to continue in the short term. Credit Suisse acknowledges that 48% of revenue is non-Medicare and the company has an overweight presence in locations with an ability to levy co-payments, so pro-forma guidance for growth of 6.0% remains reasonable.

Specifically, Integral is overweight in Queensland, with that state accounting for 45% of revenue. Moreover, the focus is largely on the Gold Coast and that region, supported by tourism, appears to have the strongest economic outlook over the next three years.

Integral is also overweight in terms of hospital/specialist referrals, with 46% of its revenue derived from services rendered in hospitals, a supportive factor in Credit Suisse's opinion. Industry feedback has suggests GP referrals to diagnostic imaging are the main source of market weakness, with many suggesting the softness stems from changed referral patterns.

Credit Suisse also believes the company is well placed to participate in market consolidation, with few competing buyers in terms of scale. Integral could deploy up to $140m in capital and derive earnings accretion of over 25% with gearing not exceeding twice earnings.

Integral is adding two MRI machines to hospital sites in FY16. The two are expected to contribute a combined $1.45m in revenue in the second half of FY16 and 0.9% growth to the group.

FNArena's databases shows two Buy ratings and one Hold. The consensus target is $2.13 which suggests 18.2% upside to the last share price. Targets range from $1.95 to $2.30. The dividend yield on FY16 forecasts is 3.4% and on FY17 5.4%.
 

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article 3 months old

Clouds Gather Over Primary Health Care

-Longer-term outlook more stable
-Yet weakness across all divisions
-Opportunity if market overshoots?
 

By Eva Brocklehurst

Several factors have heightened uncertainty for Primary Health Care ((PRY)), which has guided to FY16 earnings of around 5.0% below FY15.

The company cited the impact on pathology from the cycling of vitamin D cuts, weaker diagnostic imaging and inadequate GP recruitment. Progress is being made on these factors, and asset sales and the refinancing of bonds are expected to help drive debt levels down.

JP Morgan is cautious on the stock, considering regulatory and operational headwinds. Medical Centres are experiencing flat revenues because of the freeze on the indexation of Medicare rebates and lower healthcare practitioner numbers.

Diagnostic imaging has also been subdued, likely as a consequence of the uncertainty surround the Medicare Benefits Schedule review, the broker maintains. There is also a risk to the pathology business as well as imaging, as the Productivity Commission has recommended a review of items to reduce overuse.

JP Morgan believes the company will face challenges in obtaining health practitioners in the wake of the Australian Taxation Office decision on the acquisition of doctor practices. The focus is now on how the company intends to change its recruiting model to meet the challenge. Citi is negative about the trading update and reduces estimates sharply, taking it as a warning and downgrading to Neutral from Buy.

In contrast, UBS suspects new management has obtained control of the direction of earnings and this could be the low point. The broker's view is based on longer-term expectations for improved remuneration for primary health providers, in order to reduce hospitalisation and bring about better health outcomes.

Part of the weakness for Primary Health Care is due to the uncertainty prevailing with the current reviews underway in the health system. Precedent suggests to UBS that the market will try and price the risk but this is difficult to quantify and the market invariably overshoots.

Hence, precedent can also create a value opportunity. The broker's stance on the longer term is not supported by the negative direction of short term trading. Eventually the strategic value of the stock will be acknowledged, UBS asserts.

While disappointed, Morgan Stanley was not surprised at the slightly softer earnings outlook. Fewer GPs working from the beginning of FY16 raises risks around GP retention and the broker assumed this was a given. So the new GP acquisition strategy is considered a positive step.

The broker maintains an Overweight position on the basis that the company’s strategy to reduce debt and improve cash flow will deliver meaningful results. The share price reaction encapsulates the earnings advice and Morgan Stanley now questions whether this reaction is overdone.

Credit Suisse tempers assumptions and envisages the earnings risk is still to the downside. It may be too early to call a structural slowing of diagnostic services but, noting its substantial contribution to overall volume growth in the past decade, the broker believes this area is a key risk to current operating margins.

There is valuation appeal but Deutsche Bank is also cautious, suspecting earnings may deteriorate further before the benefits of the company's new model become apparent. There is added risk from the government funding reviews. All up, the outlook is cloudy.

What is more worrying, in Macquarie's view, is the lack of revenue increases despite expenditure on doctor up-front payments last year. The broker is also concerned about the extent of weakness implied in the guidance, given it extends across all divisions.

The consensus target on FNArena's database is $3.97, suggesting 21.5% upside to the last share price. Targets range from $3.25 (Macquarie) to $4.95 (UBS). The stock has a dividend yield on FY16 estimates of 5.3%. On FY17 it is 5.7%. There are two Buy, four Hold and two Sell ratings.
 

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article 3 months old

Weekly Broker Wrap: Property, Supermarkets, Hospitals, Starpharma, LatAm Autos And HUB24

-Opportunity in property developers
-Cleaner, brighter underpins Aldi
-No alarm in hospital data
-Potential in dendrimer study
-LatAm Autos secures funding
-HUB24 gains scale
 

By Eva Brocklehurst

Property Development

Morgans asks if weak sentiment towards stocks with direct exposure to residential building presents an opportunity. In the broker's view, current strong conditions provide a supportive backdrop for the retirement sector as bullish house prices allow retirees to trade property and move into retirement. Aveo Group ((AOG)) is highlighted in this regard.

Also, the main driver of building approvals is not the main driver of earnings for developers. The broker perceives, across the small developers, valuations and dividend yields are at attractive levels for long-term investors willing to ride out poor sentiment. In this aspect, Villa World ((VLW)) and Cedar Woods ((CWP)) stand out for Morgans.

Across the states the broker believes Queensland is best placed to maintain solid and steadily improving demand. Villa World and Sunland ((SDG)) have the highest exposure to this state and are best placed over the next two years, in Morgans' opinion.

Supermarkets

Morgan Stanley's analysis suggests Woolworths ((WOW)) has not kept its stores as up-to-date as Coles ((WES)). Woolworths has a significantly older network at 9.4 years versus 7.2 years for Coles. Aldi's stores are, on average, just 2.5 years old.

The broker calculates that Woolworths would need to refurbish 430 stores over the next three years to reduce the average age of its network to the equivalent of Coles and this would cost around $1.3bn. Coles' renewal program is also coming to an end and Morgan Stanley expects, as this becomes less of a driver, it will lead to lower like-for-like sales growth for the supermarket.

Aldi's newer store base provides a couple of benefits, none the least being they are cleaner and fresher looking. Morgan Stanley believes this generates like-for-like sales growth as the store matures and is one of the reasons why consumers are making the shift to Aldi.

Private Hospitals

September quarter data on private hospitals signals a further slowing in benefits growth driven by both reductions in episodes and benefits per episode. Hospital treatment membership, as a percentage of the population, fell slightly to 47.3% from 47.4%.

Credit Suisse suspects the decline in episode growth could be due to the confluence of several factors but, nonetheless, current outlays remain robust and a reasonable proxy for revenue growth in both Ramsay Health Care ((RHC)) and Healthscope ((HSO)). The broker retains an Outperform rating for Ramsay and a Neutral rating for Healthscope.

Macquarie is not concerned about slight moderation in growth and retains Outperform ratings for both stocks. Hospital claims grew by 4.7% in the quarter and, on a 12-month rolling view growth was 7.0% compared with the 7.4% reported three months ago. The broker attributes this to inherent volatility in the data rather than any slowdown in the industry.

The broker observes net margins for insurers were solid at 4.5%. Policy downgrades continued, as the percentage of policies carrying exclusions rose to 38.2% from 37.6% in the June quarter. Macquarie notes the rate of increase has flattened.

Starpharma

Starpharma ((SPL)) has published pre-clinical data from a targeted cancer drug which has impressed Canaccord Genuity. The drug uses one of the company's proprietary dendrimer polymers which links a toxic cancer drug with the antibody that specifically binds to cancer cells.

The broker notes significantly improved activity compared with established therapeutics. It suggests the dendrimer polymers may be useful as scaffolds for building a number of targeted drug conjugates. Canaccord Genuity has a Buy rating and $1.12 target for Starpharma.

LatAm Autos

LatAm Autos ((LAA)) has completed a $20.2m capital raising and this provides certainty of funding, such that management can invest in growth, Ord Minnett observes. The company intends to become the dominant regional site owner in automotive online classifieds.

The broker envisages the network becoming a powerful online advertising channel for manufacturers, with expanding dealer and consumer penetration. Ord Minnett is increasingly confident in the company's continued operational improvement and reduces its risk discount to 15% from 20%. The broker retains a Speculative Buy rating and target price of 42c.

HUB24

Investment and superannuation service HUB24 ((HUB)) is accelerating. Ord Minnett resumes coverage of the stock with a Buy rating and $3.72 target. The company has demonstrated an ability to win large-scale business, and the broker notes the deal with Fortnum represents a 30% boost to funds under administration.

Following the signing of a white label agreement with WilsonHTM in March, the broker expects flows to commence in FY16 and factors in $300m for the year but holds open the possibility that this could be closer to $1bn.

Ord Minnett also believes the corporate appeal is underscored by the bid (now withdrawn) from IOOF ((IFL)). The broker expects interest to build as the company achieves scale.
 

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article 3 months old

Cochlear To Join $100 Club?

By Michael Gable 

In the wake of the recent events overseas, markets showed themselves to be resilient and there was only a slight movement down in the Australian dollar. A market at 5000 is less scary than a market at 6000 so expect buying to come back in. The question investors are asking is whether we can get a sustained movement up from current levels or not. We still target a move up towards 5450 although it remains to be seen whether we can squeeze that in before the end of the year. If the market can make a swift move beyond 5100 at least, then attention needs to turn back to potential buying opportunities.

Today we look at Cochlear ((COH)).
 


COH appears fully valued, but is starting to look more positive from a charting perspective. Several weeks ago it appeared to be breaking down but it has gone on to make a higher low instead. You will notice that the price action for the last year has seen it form a symmetrical triangle. This means that we are likely seeing a continuation pattern where a possible break to the upside could see COH resume the uptrend and attempt one final move towards $100 to complete the uptrend that commenced early last year.

 

Content included in this article is not by association the view of FNArena (see our disclaimer).
 
Michael Gable is managing Director of  Fairmont Equities (www.fairmontequities.com)

Michael assists investors to achieve their goals by providing advice ranging from short term trading to longer term portfolio management, deals in all ASX listed securities and specialises in covered call writing to help long term investors protect their share portfolios and generate additional income.

Michael is RG146 Accredited and holds the following formal qualifications:

• Bachelor of Engineering, Hons. (University of Sydney) 
• Bachelor of Commerce (University of Sydney) 
• Diploma of Mortgage Lending (Finsia) 
• Diploma of Financial Services [Financial Planning] (Finsia) 
• Completion of ASX Accredited Derivatives Adviser Levels 1 & 2

Disclaimer

Michael Gable is an Authorised Representative (No. 376892) and Fairmont Equities Pty Ltd is a Corporate Authorised Representative (No. 444397) of Novus Capital Limited (AFS Licence No. 238168). The information contained in this report is general information only and is copy write to Fairmont Equities. Fairmont Equities reserves all intellectual property rights. This report should not be interpreted as one that provides personal financial or investment advice. Any examples presented are for illustration purposes only. Past performance is not a reliable indicator of future performance. No person, persons or organisation should invest monies or take action on the reliance of the material contained in this report, but instead should satisfy themselves independently (whether by expert advice or others) of the appropriateness of any such action. Fairmont Equities, it directors and/or officers accept no responsibility for the accuracy, completeness or timeliness of the information contained in the report.

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article 3 months old

Upside For Ramsay Health Care

By Michael Gable 

The prospect of a rate rise in the US finally happening in December has sent the Australian dollar lower over the last few days. This means that those foreign investors lured by the cheaper Aussie can put off their purchases for a little longer. If, say, the $US value of the Aussie market will be getting a little cheaper, then it makes sense for some foreign investors to jump out now and get back in later when their currency is more powerful. Hence the sell-off yesterday on the Australian market, which was pretty broad based.

We still believe a low for the year has been found but a retest here could be the foundation for the much anticipated "Christmas rally". Healthcare stocks are bucking the recent move down in the market, so we show you a trading opportunity today in Ramsay Health Care ((RHC)).
 


RHC has had a fairly flat correction since peaking earlier this year, which is a good sign. We can see it come back towards the longer-term uptrend line and price action the last few weeks has been particularly bullish. A trend change has also occurred on the weekly MACD (circled). There will be some resistance just above $65, but a break of that will see it head into the $70's.
 

Content included in this article is not by association the view of FNArena (see our disclaimer).
 
Michael Gable is managing Director of  Fairmont Equities (www.fairmontequities.com)

Michael assists investors to achieve their goals by providing advice ranging from short term trading to longer term portfolio management, deals in all ASX listed securities and specialises in covered call writing to help long term investors protect their share portfolios and generate additional income.

Michael is RG146 Accredited and holds the following formal qualifications:

• Bachelor of Engineering, Hons. (University of Sydney) 
• Bachelor of Commerce (University of Sydney) 
• Diploma of Mortgage Lending (Finsia) 
• Diploma of Financial Services [Financial Planning] (Finsia) 
• Completion of ASX Accredited Derivatives Adviser Levels 1 & 2

Disclaimer

Michael Gable is an Authorised Representative (No. 376892) and Fairmont Equities Pty Ltd is a Corporate Authorised Representative (No. 444397) of Novus Capital Limited (AFS Licence No. 238168). The information contained in this report is general information only and is copy write to Fairmont Equities. Fairmont Equities reserves all intellectual property rights. This report should not be interpreted as one that provides personal financial or investment advice. Any examples presented are for illustration purposes only. Past performance is not a reliable indicator of future performance. No person, persons or organisation should invest monies or take action on the reliance of the material contained in this report, but instead should satisfy themselves independently (whether by expert advice or others) of the appropriateness of any such action. Fairmont Equities, it directors and/or officers accept no responsibility for the accuracy, completeness or timeliness of the information contained in the report.

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article 3 months old

The New World Of The Old

- 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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article 3 months old

ResMed Faces Challenges In FY16

-Further signs of accelerating sales needed
-Margin pressure from re-mix of product
-FX may underpin rebound towards FY17
 

By Eva Brocklehurst

Sleep and breathing specialist ResMed ((RMD))  delivered strong revenue growth in the September quarter. Sales in flow generators grew 20%, while masks were up 9% in the quarter after a flat performance through FY15. Subsequent quarters are expected to remain challenging given a key competitor, Philips, is launching new products and competitive bidding rolls out in the US from January 1.

Morgan Stanley notes the company began its discount mask strategy in June last year and this was a low hurdle that was successfully cycled this quarter. The pricing strategy enabled a gain in market share, ahead of the launch of a competitor's product. Signs that sales are accelerating after growth in the installed base are now needed for the broker to be comfortable that the company's discounting is translating into a commercial outcome.

If ResMed can sustain high single digit US mask growth for two quarters against a market that is growing 6-8%, the strategy may have worked, and UBS intends to review assumptions at that time. Given precedent, flow generator growth should retreat below 10% now, with the company cycling significant growth amid the upcoming offering of the Philips' DreamStation.

This time it may be different, the broker suspects. ResMed's AS10 is now part of the distribution process for US Durable Medical Equipment (DME) suppliers and this makes switching to competitor products more difficult. UBS suspects Philips will continue to lose flow generator share and if so, it will be a turning point for long duration sales and valuation for ResMed.

The high growth hurdles driven by the launch of the company's AS10 over FY16 will be more difficult to overcome now so Morgan Stanley suspects the September quarter US devices growth of 39% will probably be the last strong number for some time. The broker suspects there will be a drag on sales outside of the US from FX over the first half. The competitive product launch and competitive bidding in the US could make growth hard to come by. The  risk in the competitive bidding process is of an unknown magnitude at this stage.

Gross margins occupied broker attention in the quarter, as these dropped 440 basis points to 58%. The removal of Adaptive Servo-Ventilation (ASV) sales to patients with congestive heart failure presents a headwind to margins, as Morgan Stanley notes these devices are higher margin compared with the CPAP (continuous positive airway pressure) and bi-level products. This is because of a relatively small difference in costs but a large difference in headline price. The company has maintained guidance for gross margins of 57-60% for FY16, with a smaller contribution from ASV sales likely going forward.

Goldman Sachs, not one of the eight brokers monitored daily on the FNArena database, is confident gross margins will rebound but, offsetting this, acknowledges the lost ASV sales in Europe. Now that pricing cuts in masks have been cycled this should provide further momentum although flow generator sales are expected to moderate with the rival product launches. The broker retains a Buy rating and $9.30 target.

The issue of gross margin leverage should extend into subsequent quarters as mask growth outstrips growth in flow generators, JP Morgan asserts. At the same time, FX should assist in savings in logistics, procurement and manufacturing. R&D will obtain a benefit from a weaker Australian dollar and effective tax rates will improve as ResMed moves more capability to Asia. Hence, JP Morgan expects a move back to double digit growth and margins to track back quickly to the top end of guidance (60%).

Credit Suisse is not so sure. The broker expects strong revenue growth will be met with limited margin recovery because of the relatively high growth in flow generators versus masks, and in the Americas versus the rest of the world. Still, with cash flow growing at around 40% and a healthy balance sheet, the broker believes the company can maintain the pace of its buy-backs and increase dividends in the near term.

Deutsche Bank is another broker that is wary of the outlook for the rest of the year. Price pressure will increase with the rollout of competitive bidding in the US and the mix of sales is likely to adversely affect margins. While earnings growth is expected to be modest in FY16 the broker expects a return to double digit growth in FY17, supported by a weaker Australian dollar.

Morgans remains confident that the September quarter marks a nadir for earnings and momentum should increase throughout the rest of the year. Sales outside the US maybe affected by the disappointing SERVE-HF trial (ASV product), but the impact is limited and should not detract from growth. Strong US flow generator uptake and continued strength in masks means the company should beat market growth rates and the broker expects the company to maintain its market leadership across the segment.

FNArena's database has four Buy ratings, three Hold and one Sell (Macquarie, yet to update on the quarter). The consensus target is $8.48, signalling 8.3% upside to the last share price.
 

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article 3 months old

Vitaco Energised For Healthy Chinese Demand

-Strong industry fundamentals
-Well placed to exploit Chinese demand
-In-house manufacturing a plus
 

By Eva Brocklehurst

The nutritional supplement industry in Australasia is strong... and healthy. Local producers of vitamins and supplements are further supported by Asian consumers, who consider such products manufactured in Australasia are "clean and green". Three brokers recently initiated coverage on vitamin, sports nutrition and supplement manufacturer, Vitaco Holdings ((VIT)) citing the opportunity in China, in particular.

The company manufactures most of its product in Auckland, New Zealand, and exports a range of products to over 30 countries. Its well-known brands include such names as Nutra-Life, Wagner, Healtheries, Musashi, Balance, Aussie Bodies and Abundant Earth. These products are in categories that are primed for substantial growth, Morgans maintains. On a per capita basis Australasia is among the largest consumers of these products globally. Vitaco Holdings listed on ASX last month.

Morgans initiates coverage with an Add rating and $3.25 target, noting the company is benefiting not only from growing sports participation and gym attendances but also from Chinese demand for locally manufactured products.The opening up of China's trade, e-commerce and a falling Australian dollar are also factors in Vitaco's expansion.

Morgans expects double-digit growth for many years to come. FY17 should also include removal of duplicated costs following the Musashi acquisition. This year the catalysts include profit upgrades, expansion and further accretive acquisitions.

Morgans believes the main risks are rising input costs, adverse FX, and competition. The stock is also considered an attractive takeover target, especially to international groups seeking an entry point in Australasia or, alternatively, domestic pharma/nutrition companies wanting a more dominant footprint along with the ability to leverage strong Asian demand. There are barriers to entry for offshore suppliers to the Australasian market, with high levels of regulation and certification required.

Vitamins and supplements make up 44% of Vitaco's revenue with sports nutrition a further 38%. The products are exported through a broad range of channels. By sales revenue, Healtheries is the number one brand in the vitamins category in New Zealand and Aussie Bodies the number one brand in sports nutrition in Australia.

Citi also believes the company is well placed to exploit growing Chinese demand and forecasts FY16 earnings of $22.5m, 12% ahead of prospectus forecasts. The company generated $14m in product demand in Asia (mostly China) in FY15, the broker observes, and this is expect to rise to $52m by FY18. The company is the only listed NZ-based manufacturer and is lifting its marketing intensity towards Chinese consumers.

Citi considers the trading multiples are fair, with a price/earnings ratio of 27 on the back of forecast compound earnings growth rates at around 29% out to FY18. Upside should be driven by better sales growth in China, which has boosted the multiples for relevant comparable companies, the broker observes. Citi has initiated coverage with a Neutral rating and $2.85 target.

Of most interest to the broker is the fact the company does most of its own manufacturing and sports categories have significant sales and margin growth. The Chinese market represents 23% of Citi's valuation. Sales of products for consumption in China, which is 8.0% of total revenue, are handled by Chinese traders which purchase the product in Australia, largely via e-commerce platforms.

The broker also expects the brand profile to improve through marketing expenditure. The company is at a disadvantage to large competitors such as Blackmores ((BKL)) and Swisse in terms of its size but its security of supply is a potential advantage, in the Citi's opinion, because of in-house production and a unique NZ heritage. Still, the lack of marketing scale needs to be addressed in order to build the brand profile, the broker asserts.

Risks include customs and registration in China. There are proposed changes in the wings, but the restrictions still appear to Citi to be tight regarding imports of vitamins. If they become easier, however, there may be more global competition for vitamin sales in China.

JP Morgan takes up coverage with an Overweight rating and $3.00 target, noting that over the last five years the vitamin and supplements category in Australia has grown at a 9.6% compound annual rate with sports nutrition growing at a 14% rate. An ageing population and growing awareness of the importance of preventative health measures are a trend which the broker believes will underpin further growth for Vitaco.

Vitaco's vertically integrated business model is a key feature of the company, the broker contends. It controls a large portion of its manufacturing base and this is a key strategic advantage given the majority of its competitors rely on third-party contract manufacturers. The benefits of this in-house production include lower cost of goods sold, quality control and the speed to market.

A total of two Buy ratings and one Hold feature for Vitaco on FNArena's database. The consensus target is $3.03, signalling 10.3% upside to the last share price.
 

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Weekly Broker Wrap: Oz Economy, Profits, Drought, Housing, Hardware, Hospitals And Insurers

-Low non-financial profit growth
-Drought in a vulnerable economy
-Westpac move may impact housing
-Operating theatres key to performance
-Online earnings forecasts diverging
-Insurance margin correction factored in
 

By Eva Brocklehurst

Australian Economy

Financial conditions suggest to Citi that Australia's economic growth is weak. The influence of lower official interest rates is waning and the recent moves by Westpac ((WBC)), if followed by other banks, could work to tighten conditions. The broker cites recent sales activity in the property market which supports a view that house price growth has peaked.

The broker forecasts GDP growth at 2.3% by the end of 2015 and averaging 2.4% over 2016. Citi suspects the Reserve Bank will shave 25 basis points off its growth forecasts in its November statement on monetary policy.

Corporate Profits

Non-financial company profit share of GDP has declined by over 3.5% since 2011, Citi maintains. Lower commodity prices are not the only reason for the weakness as, stripping out mining profits, the decline is still noticeable and the profits have underperformed the US. Citi suspects this could, at least partly, reflect lower productivity growth. Consensus has profits recovering strongly, at around 10%, in 2017 whereas Citi is more cautious, expecting around 6.0%.

The broker believes the longer-term outlook is predicated on how successfully the economy re-balances and diversifies its export base. Still, the broker believes the combination of low profit growth and high dividend pay-out ratios is toxic for investment spending and should maintain the prospect of further easing from the Reserve Bank.

Drought

Goldman Sachs wonders whether drought will be the straw that breaks the camel's back for Australia. A rare combination of an intense El Nino event in the eastern seaboard is coinciding with a strong positive phase for the Indian Ocean temperatures which has occurred on only seven other occasions since the 1950's and is consistent with severe deficiencies in rainfall and high temperatures.

Currently, government forecasts assume flat farm production in 2015-16 compared with the median decline of 20% during a drought year. Goldman notes, fortuitously, the severe droughts of 2002-03 and 2006-07 coincided with robust economic growth.

While identification of a drought does not in itself provide a rationale to ease monetary policy it appears to the broker that, in a period where non-farm growth is already below trend and inflation contained, it may be sufficient reason to warrant additional monetary easing.

Housing & Property

Morgan Stanley believes the 20 basis point increase to Westpac's mortgage portfolio will put a dent in housing sentiment. New investors face higher rates and tighter lending standards and this strengthens the broker's belief that the housing boom has peaked. Already, there is evidence of softening auction clearance rates and investor activity, amid weaker house price forecasts.

Morgan Stanley's forecast for a looming oversupply to housing makes the prospect of rental growth and capital gains particularly uncertain. This is all part of what the broker believes is a deliberate macro prudential strategy to rein in the housing market.

Against this backdrop the broker believes there is limited re-rating potential for the residential Australian Real Estate Investment Trusts (A-REITs).  Based on Morgan Stanley's analysis, interest rates are the dominant driver of house prices and house price growth is the key driver of Mirvac Group ((MGR)) and Stockland ((SGP)), in terms of their free funds from operations.

The two stocks have de-rated over the past 6-9 months. Hence, the broker expects further de-rating is questionable, given merger & acquisition pre-conditions are strong, balance sheets can support buy-backs and there are supportive distribution yields.

Hardware

Hardware retailing sales are robust, with the strongest growth in Sydney and Melbourne, Morgan Stanley observes. At a recent industry conference the broker noted the shift to multi-residential developments is creating a headwind for the sector because these developments are large enough to source product offshore and bypass the retail/wholesale channel in Australia.

Participants at the conference also signalled to Morgan Stanley that Bunnings market share is being understated at around 18% and it is more likely closer to 40-50%, given the Wesfarmers' ((WES)) owned business overstates its addressable market.

Morgan Stanley notes the general view that margins at Bunnings have held up despite like-for-like sale growth because of the extent of new store openings, as the business over-services customers in the first six months of opening. As sales increase and customers become aware of where products are within stores, labour is reduced and, hence, margins improve.

Packaging

Morgan Stanley has initiated coverage on the Australian paper and packaging market with a counter-consensus Cautious industry view. The broker expects structural headwinds will cause Amcor ((AMC)) to underperform while progressive reallocation of capital will mean Orora ((ORA)) outperforms.

Amcor has been rewarded in recent years for its defensive characteristics and high returns but delivering the earnings required to support its premium multiple and value-creation target is becoming harder, Morgan Stanley maintains. In contrast, Orora has a largely unencumbered balance sheet and potential to deliver upside through optimisation of its capital allocation strategy.

Australian Online

Pure online classified companies such as Carsales.com ((CAR)), Seek ((SEK)) and REA Group ((REA)) have experienced two years of price/earnings de-rating although Citi notes they are still trading above the historical valuation lows experienced just after the global financial crisis. Meanwhile, Fairfax Media ((FXJ)) and Trade Me ((TME)) have re-rated recently.

The broker finds REA Group the most attractive in value terms, despite a premium multiple, while Carsales.com, Seek and Trade Me are seen trading near peak relative valuations. At the same time most earnings expectations have been deteriorating, with Seek suffering the largest downgrades but Fairfax enjoying incremental upgrades in earnings expectations. Citi now observes a large divergence in earnings growth expectations across the sub sector.

Private Hospitals

The efficiency of operating theatres is a key component in the overall financial performance of a private hospital, Credit Suisse contends. The broker's analysis suggests Ramsay Health Care ((RHC)) generates 35% more earnings per operating theatre than does Healthscope ((HSO)), for several reasons. These include higher case payments, lower operating costs and more efficient processing of patients, as well as more complex surgical patients which generate higher earnings per case.

The broker believes a reduction in operating costs through procurement and workforce de-leveraging is achievable for Healthscope in the short to medium term and this should facilitate a modest uplift in earnings. Other factors citied above are harder to achieve, Credit Suisse acknowledges, and benefits accrue over a longer term.

Insurance

UBS finds more widespread evidence of personal lines claims inflation and modest price increases. Commercial lines appear soft, still. The broker believes, while the picture is mixed, a healthy underlying correction in margins is now reflected in FY16 estimates. Even if margins trough at 20-30% below their peak, with a subsequent 10% hit to earnings, this could increasingly be tolerated by investors.

Challengers have pulled back share in the highly contested motor class, to 12.7% from 13.4% in the broker's previous review. While the challengers continue to generate superior growth at 18% compared with 3.4% for Suncorp ((SUN)) and 0.4% for Insurance Australia Group ((IAG)) there are some signs of consolidation, UBS observes.
 

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