Motley Fool Australia

Why Healthscope Ltd shares could be at bargain prices

Healthscope Ltd (ASX: HSO)  is the second-largest provider of private hospital services in Australia and a leading provider of pathology services in New Zealand, Malaysia, and Singapore. 

Over the last 12 months, its share price has plunged 46% to $1.67 following two major announcements made by the company.  

Firstly, in October 2016, Healthscope announced that it was experiencing weaker-than-expected volumes which would translate to flat earnings growth for the year when annualised.

At that point, consensus analyst forecasts were anticipating at least 10% growth.  Subsequently, the full year FY 2017 results showed that the Group’s operating net profit after tax from continuing operations was down 5.6% to $180m.  

Secondly, in August 2017, the company announced the sale of its medical centres for $55m, a massive discount to book value which resulted in a non-cash impairment loss of $54.7m in relation to the sale.

The medical centres had contributed approximately 2% of Group operating EBITDA in the first half of FY 2017 and following a strategic review, management felt that it was better to dispose them and focus on the core hospital & international pathology operations.  

Overreaction? 

If you are wondering how these two announcements could lead to Healthscope losing close to half its market capitalisation, you wouldn’t be alone.

The defensive nature of the healthcare sector is well understood. We all need good quality healthcare and the long-term macro trend of an ageing population means that in the long run, there is an expectation that there will be increased demand for the services of private healthcare operators.

This expectation is why the healthcare stocks tend to have very high price-to-earnings multiples and when there are indicators that this expectation might not be met, the market tends to react quite harshly. 

Warren Buffett’s mentor  Benjamin Graham, in his book ‘The Intelligent Investor’ conceptualised the stock market as a business partner named Mr Market who approaches investors on a daily basis with a quote at which they can buy or sell a security. He characterised Mr Market as a very moody individual. On some days, he is quite euphoric and offers up a very high price. On other days, he is quite depressed and quotes very low. To me, this is what appears to be happening with Healthscope.

Foolish takeaway 

Despite the short-term challenges, the long-term prospects for Healthscope appear to be favourable: 

  • There is likely to be long-term demand for private health care due to an ageing population and the government’s support for private health operators via the Medicare levy surcharge.  
  • Healthscope continues to pursue growth through brownfield hospital expansion projects.  
  • Healthscope has a strong balance sheet with freehold ownership of 30 of its hospitals.

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As of 2.11.2020

Motley Fool contributor Kevin Gandiya has no financial interest in any company mentioned.

You can find Kevin on Twitter @kevingandiya 

The Motley Fool Australia has no position in any of the stocks mentioned. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. This article contains general investment advice only (under AFSL 400691). Authorised by Bruce Jackson.

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