Look beyond the panic selling: Healthscope is a great long-term story
Last month, Healthscope (ASX:HSO) announced it had experienced slower-than-expected hospital revenue growth for the quarter. The announcement prompted a wave of selling, with the share price falling around 30%. Does this present a buying opportunity? Given the metrics of the private hospital industry, we think so.
Roger Montgomery is the Founder and Chairman of Montgomery Investment Management. Roger has over three decades of experience in funds management and related activities, including equities analysis, equity and derivatives strategy, trading and stockbroking. Prior to establishing Montgomery, Roger held positions at Ord Minnett Jardine Fleming, BT (Australia) Limited and Merrill Lynch.
This post was contributed by a representative of Montgomery Investment Management Pty Limited (AFSL No. 354564). The principal purpose of this post is to provide factual information and not provide financial product advice. Additionally, the information provided is not intended to provide any recommendation or opinion about any financial product. Any commentary and statements of opinion however may contain general advice only that is prepared without taking into account your personal objectives, financial circumstances or needs. Because of this, before acting on any of the information provided, you should always consider its appropriateness in light of your personal objectives, financial circumstances and needs and should consider seeking independent advice from a financial advisor if necessary before making any decisions. This post specifically excludes personal advice.
David Welsh
:
Thanks Roger,
I looked at Morning Star data and compared HSO and RHC’s cash flow and capital expense to try to get a handle on the free cash flow.
While HSO data was only 2 years, the free cash flow was -3 cps in 2015, and -11.4 cps in 2016.
This compared very badly with RHC which has over the last 10 years always been free cash flow positive except for 2008 and 2009.
I suppose this is because HSO is building the new hospital, wheras I believe Ramsay tend to take over existing hospitals.
However it struck me that maybe RHC is wise not building hospitals, which like Casinos, tend to suffer huge cost blow outs and delays?
David
Roger Montgomery
:
People over the age of 65 now make up 16% of our population (up 2 % from 2011). The median age is now 38 years old (was 37 in 2006)
Average life expectancy increased to 84.5 for women and 80.4 for men. The movement of the baby boomer generation through the age spectrum is clear with strong growth of persons aged 65-74 years in particular. In fact, the 65-69 year cohort (in 2016 those born 1947-1951) showed the most growth of all five-year cohorts over the ten years covered by the last Census’, increasing by 57%. 50-74 year olds grew by 45% between 2006 and 2016. As this generation continues to move through the age spectrum they will continue to shape policy, particularly around health care and housing. Now seesm like a very sensible time to investing in a hospital on Sydney’s Northern Beaches. The NSW state governments decision to construct a tunnel under the spit bridge will also increase property values there and the number of people living there making a private hospital a very lucrative proposition. There’ll be bumps along the way but investors looking back in 15-20 years should be rewarded.
David Welsh
:
Thanks Roger, that does sound compelling! The sale of the medical center business was a good move.
It is heavily shorted at 8% of the stock outstanding, and I wonder what the thesis of the shorts are? The debt does not seem too high, although they are paying dividends out of debt given the negative free cash flow at the moment.
As at 14/8/17
HSO shares sold short 142,411,180 8.18%
Maybe the shorts are gambling on cost blow outs at the hospital construction?
David
Rod Forrest
:
Roger,
Great article.
I know this company & industry very well. My wife has been a Physio contractor at Healthscope & family are doctors.
… i hope the Fund is buying more!!!! I am exceptionally happy my investment with your fund holds this stock.
Rod
Akash
:
Hi Roger,
Was curious about your opinion on the debt HSO currently has. If Interest rates make their way upwards, wouldn’t companies like HSO be in trouble?
Thank for the article.
Roger Montgomery
:
Healthscope are spending $700 million building a new hospital. $400 million will come back from the government to cover the completion of the public part of the hopspital. That cash can be used to reduce the debt. The current debt of $1.5bln can be seen in this context. We would expect significant debt reduction and growing revenues to be a positive development.
Romesh
:
Thanks for the great insight Roger, including your comments on HSO on Switzer. Following on from your response to Peter’s note, I understand that ROE is being diluted by the legacy intangibles, however isn’t it also true that:
1. Adjusting metrics for Intangibles (ie writing off Intangibles against equity), makes debt-to-equity seem dangerously high
2. RHC still delivers ~23% ROE with an even higher proportion of Intangibles.
Related to point 1, I was also interested in (and couldn’t quite get my head around) HSO’s reporting of “net finance costs” where $18m of capitalised interest costs (~10% of NPAT) appear not to be expensed through P&L.
Mark
:
Great article Roger. It is very hard to find quality analysis these days, let alone free of charge. If only more analysts were like Roger and the Montgomery team. Keep up the great work.
Anthony
:
Great article Roger. I am long term holding of HSO and a firm believer in their growth story. Healthcare is one of those expenses that people are prepared to pay top dollar for the best in the business. As you said its in a sweet spot with the ageing population.
Peter Zhang
:
Hi Roger,
Last 2 years ROE was only 6.7% and 8.3%, that figures are not justified even at current share price based on your method of your book, am I wrong?
How is your future earning growth estimate?
Regards!
Peter
Roger Montgomery
:
The ROE is reduced by the large intangible that was created many years before the resisting. Arguably you should think about returns on incremental equity as a guide.