Australia | Jun 23 2020
Healius is simplifying its business, divesting medical centres, to enable a focus on pathology and imaging as restrictions related to the pandemic are gradually lifted.
-Profitability should improve in pathology
-Capital raising concerns removed
-Need to focus on reducing rental costs
By Eva Brocklehurst
Healius ((HLS)) is at a crossroads as it sells its medical centre business to focus on its pathology and imaging divisions. Management has also indicated that activity levels in June have started to return to normal. Firm growth has been recorded in the diagnostics business since mid April, in line with an easing of pandemic-related restrictions. Day hospitals are also improving as clinical restrictions are removed.
Credit Suisse can envisage a path to improved profitability in pathology. Historically, the broker notes the company's pathology department has operated at a lower earnings (EBIT) margin compared with rival Sonic Healthcare ((SHL)).
Healius is less profitable because of its larger collection centre footprint, higher rents and less complex mix of testing. Occupancy costs relative to sales have increased steadily over the past 10 years in contrast to Sonic Healthcare where they have fallen.
The transition to a specialist diagnostic and day hospital operator is far from complete, Morgans suggests. There is risk around GP referrals, while work on the cost base is required and growth initiatives are unclear.
Citi believes the divestment of a complex medical centre business will mean earnings are less volatile and less capital intensive and assumes normalised earnings in FY21. The broker does not make changes to forecasts yet, given the long settlement period of the transaction.
The company has divested the medical centre business to private equity firm BGH Capital for $500m, to be completed by the end of the year. No objection is expected from the Foreign Investment Review Board. The proceeds are being used to support growth initiatives and pay down debt.
The medical centre division comprises 62 dental clinics, 69 medical centres and 13 Health & Co practices. Healius will retain day hospitals, IVF, pathology and imaging. Citi considers this a positive move for shareholders, primarily because the level of gearing was uncomfortably high.
Moreover, the company has had a history of “one-off” costs that have reduced reported earnings and the broker now assumes this will cease and management can generate a profit at the underlying level.
Macquarie agrees the balance sheet should improve and the operating structure will be simpler as a result, while concerns about a capital raising have been removed. Revised forecasts imply FY21 gearing of 1.3x and, on the broker's calculation, there is around 15% upside to the current share price.
Credit Suisse concludes that the greatest opportunity to improve the profitability of pathology is through rationalising the cost base, particularly collection centres. Hence, reducing rental costs is a key area of focus. Healius has officially closed around 50 collection centres during FY20 and during the height of the pandemic up to 500 were temporarily closed to manage costs.