IPO Watch – Healthscope is no Ramsay

Co-founder of the Switzer Report
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The case for being an investor in Australia’s health system is pretty strong. A growing and ageing population, increasing wealth per capita and increasing medical treatment capabilities are strong growth drivers. Between 2002 and 2012, overall health expenditure in Australia grew at an impressive compound annual growth rate of 8.3% – and this doesn’t include the impact of the ‘baby boomer’ generation ageing ever more gracefully.

Private hospital operators play a key role in the provision of health services. Although they only account for 33% of the total number of hospital beds, they perform a higher share of elective surgery and total hospital separations, and are growing in market share compared to public hospitals. The two largest operators are Ramsay Health Care (ASX Code RHC) with 68 hospitals, and Healthscope, with 44 hospitals.

Healthscope also has an Australian pathology business (6% of operating EBITDA), which has a market share of 12%, compared to Primary (PRY) with 37% and Sonic Health Care (SHL) of 33%, and an international pathology business. The latter business brings in 12% of EBITDA, and is mainly based in New Zealand and Malaysia.

Through an IPO, which involves Healthscope’s current private equity owners (TPG and Carlyle) selling down, investors are being offered the opportunity to invest in Australia’s second largest private hospital operator. An obvious question is – how does this opportunity stack up against Ramsay Health Care? Before we come back to this question, let’s review the IPO.

The Healthscope IPO

The IPO is seeking to raise approximately $2.4 billion from new shareholders, which will be used principally to pay down debt (approx. $1.7 billion) and repay the current owners (approx. $0.63 billion). Following the completion of the offer, the current owners TPG and Carlyle, through their vehicle CT Healthscope Holdings, will still own at least 25% of Healthscope, and potentially as high as 40%. This holding will be subject to a voluntary escrow, which will last until the announcement of the FY15 results (in approximately 13 months’ time).

The offer involves a retail component (broker firm and priority), institutional component and an exchange offer to holders of Healthscope Notes. An indicative price range of $1.76 to $2.29 has been set, with the final price to be determined by way of an institutional book build. Applicants in the retail offer will apply for a fixed “$ value” of shares.

At a price of $1.76 per share, the company is priced on a multiple of forecast FY15 earnings (PE ratio) of 20, and at the top end of the range of $2.29, at 23. The forecast dividend yield is between 3.0% and 3.5%. The company does not expect to be able to frank any dividends at least until FY18.

Details of the offer are as follows:

How does Healthscope stack up against Ramsay?

There aren’t too many companies that can boast a chart like the one below.

Source: Ramsay Health Care ‘FY13 Year in Review’

While it is a few months out of date, the overall trend has continued into 2014. It is no wonder that those pricing the IPO for Healthscope are looking over their shoulder at Ramsay and saying this is a similar business, and hence considering “Ramsayesque” pricing.

Ramsay is an expensive stock – and deservedly so. According to FN Arena, it is trading at a multiple (PE) of 27.9 for FY14, and with forecast earnings growth, a multiple of 23.4 for FY15. On the other hand, Healthscope is pitched at a multiple in the range of 20 to 23 for FY15.

Following Ramsay’s recent move to acquire 83% of the French hospital operator Générale de Santé, the two companies are starting to look a little different. The French business will now account for 40% of Ramsay’s revenue, with Australia/Asia falling to 52%.

In the directly comparable area (Australian hospitals), Ramsay has grown both revenue and margin at faster rates than Healthscope. For the first half of FY14, Ramsay grew revenue at 10.2% while Healthscope grew revenue at 5.5%. EBIT for Ramsay increased at 13.2%, while for Healthscope, it managed a 10.1% increase.

In a “whole of business” comparison, the ‘track records’ also tell quite different stories. Profit growth at Ramsay is running at a compound rate of growth of around 17.7%, at Healthscope, it is around 11.9%.

¹ Based on Healthscope pro forma historical and pro forma forecast NPAT
² Based on Ramsay ‘Core EPS’ (historical), and forecast EPS from FN Arena

Our view

You don’t get to be a “Ramsay” overnight, and while the management team at Healthscope looks like they are doing a good job, it is too early to put them in this class. Healthscope hasn’t yet demonstrated the impressive growth rates that Ramsay has been able to sustain, and hence doesn’t deserve the same premium price.

Given that pretty well all the major broking firms are involved in the deal, you are probably not going to hear anything too negative about it and there is no doubt it will find a home.

However, it is an expensive IPO at a multiple in the twenties and with a voluntary escrow that comes off in only 13 months, it is not for us. No thanks.

Important: This content has been prepared without taking account of the objectives, financial situation or needs of any particular individual. It does not constitute formal advice. Consider the appropriateness of the information in regards to your circumstances.

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