TURKISH HEALTH SECTOR

Transcription

1 TURKISH HEALTH SECTOR Secular growth rather than cyclical June 2018 Analyst: Baris Ince +90 (212) Sales Contact: +90 (212)

2 Table of Contents EXECUTIVE SUMMARY 3 Acloser look at Turk sh health sector 4 Med cal tour sm 9 Compet t on 10 Public Private Partnership Investments (PPPs) 11 M&As 13 Turkish Pharmaceutical Market 15 Pricing Mechanism in Turkey 16 Compet t on 17 M&As 18 Lokman Hek m (LKMNH) 19 Investment Pos t ves 21 Investment Negat ves 24 Valuat on 25 Peer Compar son 27 Company Overv ew 28 Buss ness Overv ew 29 New nvestments & Projects 34 MLP (MPARK) 58 Investment Pos t ves 40 Investment Negat ves 47 Valuat on 49 Peer Compar son 51 Company Overv ew 52 Buss ness Overv ew 60 MPARK vs. LKMNH 65 Selcuk Ecza (SELEC) 68 Investment Pos t ves 70 Investment Negat ves 71 Valuat on 72 Peer Compar son 74 How we stand alongs de the consensus 74 Company Overv ew 75 Model Outlook 76 D scla mer 78 2

3 , TURKEY EQUITY Sector Report TURKISH HEALTH SECTOR June 11, 2018 Executive Summary Strong growth momentum after the healthcare reforms After the reforms implemented in the Turkish health sector between , we have observed private sector growth as the government started to reimburse treatment expenses at private hospitals and to provide surcharge levels for treatments in those hospitals. Furthermore, in 2014, the introduction of top-up insurance to cover for these surcharges was another positive for the sector. care spending has shown a CAGR of 14% since 2013 driven by governmental policies that provide universal social security coverage allowing patients to choose which hospitals they want to go to. Given that the total Turkish healthcare spending is at 5% of GDP vs. the OECD s 9% and the number of beds per 10K people stands at 27 vs. Europe s 46, the market is underpenetrated. Favorable demographics, improving affordability of insurance policies and greater access to the healthcare system should continue to drive growth. On the pharmaceutical front, Turkey is the 16th largest pharmaceutical market in the world and the sixth largest in Europe. Similarly, Turkey s pharmaceutical market also presents significant growth opportunities driven by: i) its population dynamics (rapidly growing, but ageing), ii) urban migration, iii) improved hospital infrastructure with increased access to healthcare services and iv) the rising burden of chronic diseases. Meanwhile, demand for generic medicines will expand rapidly given the government s focus on sustainable pharmaceutical expenditures. High entry barriers favor the well-established existing players Since 2008, the government has not issued new hospital licenses except for underdeveloped cities and pre-approved certificates licences before Therefore, consolidation is likely in the sector given the existence of a number of stand alone hospitals lacking a brand name and financially solid balance sheet. There are around 560 private hospitals in Turkey and the top five players are estimated to own 70 hospitals. On the pharmaceutical side, the top two hold 70% of the market. This means that there is an oligopolistic structure in the market. This structure also discourages new entrants to the market. MLP (MPARK) is the largest private hospital chain in Turkey with 29 hospitals with a bed capacity of 5,330 (2x that of its closest rival) in 17 different cities as of end MLP has 11% in the private and 2% in the total sector bed capacity in Turkey. Lokman (LKMNH) is the largest player in Ankara and Van with five hospitals having 649 beds. Selcuk Ecza (SELEC) is the number one distributor in the Turkish pharmaceutical sector with a massive 42% share which is likely to be 43% due to the recent shutdown of a player in Aegean region. MPARK & SELEC initiated with an Outperform recommendation, while Outperform maintained for LKMNH With this report, we are maintaining our positive stance on LKMNH, while initiating our coverage of MPARK and SELEC with an Outperform recommendation for each. Our valuations for all three are based on DCFs. On a multiple comparison basis, all the stocks look cheap as well compared to their peers. MPARK and LKMNH trade at 60% and 66% discounts on the basis of their 2018 EV/EBITDA vs. emerging peers, while the discount for SELEC is around 50%. All the names offer stronger revenue growth compared to their peers. Overweight in the sector act tactically in the coming quarters SELEC for 2Q18, LKMNH for 3Q18, MLP is LT pick Given the declining global liquidity conditions and uncertainties regarding the upcoming elections in Turkey, we believe that SELEC is likely to outperform the hospitals due to its more defensive characteristics with ample cash, cheaper multiples and stronger 2Q18 expectations given the full reflection of the price hikes. For 3Q18, we believe LKMNH will be an outperformer among our coverage as the positive contributions from its investment in 2016 will start to become more visible after the seasonally weak second quarter coupled with the Ramadan and election impact. On the other hand, from 3Q18 onwards, MLP looks very attractive as we expect the Company to generate a black bottom line in 2018 first time after three years along with its reduced leverage as well as high growth profile. MLP s current price is now 29% below to its IPO price of TL19.00 in February Regarding financial FX balance, SELEC and LKMNH have no FX exposure while MLP s half of net debt is FXdenominated. Risks Risks include regulatory changes, unexpected disruptive impact from ongoing Public Private Partnership (PPP) investments, execution on integrating capacity additions, an economic slowdown, overpaying for an acquisition and illiquidity. 3M Avg Net debt to Company Ticker Business Revenue Recommendation Mcap Volume Closing Target Price (TL) Upside EBITDA EV/EBITDA P/E (TLmn) Old New (TLmn) (TLmn) (TL) Old New (%) (x) 2018E 2019E 2018E 2019E 2018E 1M 3M Lokman Hekim LKMNH Hospital 246 Outperform Outperform % % -3% 4% MLP MPARK Hospital 2,576 - Outperform 2, % % -16% -14% Selcuk Ecza SELEC Ph. Disributor 10,686 - Outperform 2, % % 13% 24% Source: Garanti Securitires EBITDA margin BIST-100 Relative

4 A closer look at the Turkish Sector Turkish Hospital Market All health care and related social welfare activities in Turkey are coordinated by the Ministry of (MoH). The Ministry is responsible for providing health care for its citizens and organizing preventative health services, building and operating state hospitals, supervising private hospitals, training medical personnel, regulating the price of medical drugs nationwide and controlling drug production and all pharmacies. The MoH, founded in 1920, is the largest healthcare provider and is still the country s only preventative healthcare services provider. It is also the main provider of primary and secondary care. policy and services are MoH s responsibility at the national level. At a provincial level, the health services provided by the MoH are administered by provincial health directorates, which are accountable to provincial governors. A massive transformation since 2003 is ongoing The healthcare system in Turkey has entered a long period of development under the Transformation Program. The purpose of this program has been to increase the quality and efficiency of the healthcare system and enhance access to healthcare facilities. Turkey s health care system used to be very complex because of the existence of different plans and departments. The social security system in Turkey was composed of three different major organizations: Social Insurance Institution (SSK) Pension Fund for Civil Servants (Emekli Sandigi) Social Security Institution for the Self-Employed (Bag-Kur) However, the government unified all these institutions under one roof- the Social Security Institution (SSI)- in Today, health care in Turkey is better than it was in the past, but still has not reached the expected quality, especially in most of the state hospitals. Recently, private hospitals have been doing a better job at increasing the quality of their physicians and medical equipment. Most of the hospitals and doctors are concentrated in the cities and large towns, where there are more people and economically more feasible to operate. Meanwhile, there are limited health services in the countryside and rural areas. Consultations and treatments at private hospitals and clinics are on an upward trend mainly in developed and large cities on the back of: i) lagging health outcomes as compared to other OECD and middle-income countries, ii) inequalities in access to health care, iii) fragmentation in financing and delivery of health services, which contributes to inefficiency and undermines financial sustainability and iv) poor quality of care and limited patient responsiveness. 4

5 care system and key participants Source: MLP presentation Total health spending accounted for c.5% of GDP in Turkey in 2016, well below the average of c.9% across the OECD countries. The U.S. is by far the country that spends the most on health as a share of its economy (with 16.4% of its GDP allocated to health) followed by Switzerland and Germany according to 2015 OECD statistics. Total health expenditure share in OECD countries' GDP (2015) Source: OECD,Turkstat *2016 data for Turkey The publ c sector cont nues to be the ma n source of health fund ng n all the OECD countr es, except Ch le, the U.S. and Mex co. In Turkey, 78% of health spending was funded by public sources, slightly above the OECD average of 72%. Expenditures by breakdown in OECD countries Public Pocket Other Source: TURKSTAT, OECD Data 2017 Note: Turkey s data belongs to the year The country values belong to year of 2015 or nearest. Some countries total does not give 100% due to having some other financing types 5

6 As a percentage of total government expend tures, healthcare spend ng has been follow ng an upward trend n l ne w th the dec s on by the Turk sh government to mplement a Un versal Insurance system (UHI). Primary care is free of charge for all citizens and almost the entire population in Turkey (98%) is covered by UHI. Public care spending has tended to overshoot the budget targets in recent years due to wider access without effective measures to limit the increase in spending on pharmaceuticals. In 2007, under the Budget Law (SUT), the SSI developed a bundled price for outpatient and inpatient health services. The introduction of the same price across all health insurance funds and public and private hospitals was the first step in moving towards a prospective payment system in which money would follow the patient. Services are provided by both public and contracted private hospitals with SSI being the key payer. Turkish Sector Scheme Source: MLP presentation care expenditure in private providers by payer type 120% 100% 80% 43% 58% 60% 40% 20% 57% 42% 19% 0% CAGR % Public (SSI+MoH) Private Source: MLP presentation 6

7 Private hospitals are able to charge higher rates than public hospitals with some payments required from SSI patients. SSI reimburses private hospitals using SUT prices (stable since 2008). Private hospitals have the right to charge +200% over and above SUT prices. However, we estimate that private hospitals' surcharge levels are between 50-70% in Turkey. SUT scheme Source: MLP presentation Permissible Surcharge over SUT prices 350% 300% 250% 200% +200% 150% 100% MLP's current levels: +30% +70% +90% 50% 0% SUT price Permissible Surcharge Source: MLP 7

8 Top-up insurance introduced in 2014 is another milestone in the private healthcare sector Top-up insurance is attractive funding for private healthcare treatment with increased accessibility. Top-up insurance is complementary to UHI and is a cheaper form of Private Medical Insurance (PMI) to cover SSI patients co-pay costs. Policies are almost one-third of normal PMIs. This type of insurance can only be used at hospitals that have signed a contract with SSI. Top-up insurance is the fastest growing segment of the health insurance market with a CAGR of >100%. Top-up vs comprehensive health insurance Top-up health insurance Comprehensive health insurance Annual Premiums SSI affiliated Other private TL 500 On top of SSI coverage: Inpatient: any other expenses that are not fully covered by SSI Outpatient co-payments X No co-payment required for both inpatient and outpatient treatments Number of visit limitation for outpatient services TL 1700 Inpatient coverage Typical add-on options for: Outpatient Birth Dental Inpatient generally fully covered Outpatient, dental w ith copayment deductible charges and w ith usage limitation Source: MLP presentation Number of insurance policies sold ('000) CAGR % 119% % Comprehensive insurance Top-up insurance Source: MLP presentation care spending per capita in mature markets is relatively much higher than in emerging markets, mainly as a result of a higher income per capita in the mature markets. 8

9 care spending per person is expected to increase at a faster rate in Turkey and other developing countries like China and India than in many developed countries. This is mainly the result of the increase in annual per capita income, a gradual rise in life expectancy and improvements in healthcare. The main indicators, such as population growth, demographic ageing and treatment demands from patients, along with an economic recovery, are expected to generate an acceleration in healthcare spending growth. Turkey s healthcare spending per capita, USD1,056, is still low relative to more developed countries. However, it is expected to grow in line with: The gradual introduction of the universal healthcare insurance scheme, Increase in per capital annual income, Growing health awareness, A steady rise in life expectancy and the size of the elderly population, Medical tourism potential. Strength Turkish Sector SWOT Analysis Weakness -Falling morbidity & mortality rates -Low per capita healthcare spending of USD1,056, putting Turkey in a position behind many European countries -Grow ing population and improving demographic indicators -Domestic patent law and intellectual property remaining below international standards -Improving healthcare aw areness -High dependence on the import of hi-tech drugs -Availability of a skilled w orkforce -Lack of new licenses -Grow ing healthcare investments -Market regulations increasingly in line w ith EU -Government's commitment to healthcare industry improvements Opportunities Threats -Harmonization w ith the EU and sector modernization leading to a considerable potential -Negative effect of government price controls/reimbursement lists on market attractiveness -Significant scope for grow th, given the size of the population and current low -The costs of modernization to potentially deter the harmonization of the domestic regulatory infrastructure and consumption rate industry standards w ith international norms -One of the fastest grow ing markets in the w orld -Need to address the substantial deficit of the healthcare system -Room for grow th in medical tourism revenues -Currency risks -care reforms, such as centralized health insurance/social security, leading to better and w ider access to healthcare Source: Garanti Securities Medical Tourism also enhances the growth prospects of private health sector in Turkey In , the medical tourism sector grew at a 15% CAGR in the number of visitors, which signaled promising growth for private providers. Furthermore, we anticipate further growth in the sector thanks to the geographical proximity of Turkey to patients from the CIS, Europe and MENA and the low prices of some selective treatments, such as organ transplantation, oncology, heart valve replacements etc. SSI patients margins are lower than medical tourism margins, around 1-2 ppts, therefore, medical tourism revenues are crucial to increase margins. Turkey s location is within reach of Europe, Middle East/Africa and India with short-haul flights from its Istanbul hub. The highly developed Turkish private hospitals will be an attractive distribution for patients from those countries. The medical tourism to sales ratio is 7% for MLP, while negligible for Lokman. 9

10 Estimated savings on cost of treatment vs USA in some selected countries Mexico 40% 65% Malaysia 65% 80% Taiwan 40% 55% Singapore South Korea 25% 30% 40% 45% India 65% 90% Turkey Thailand 50% 50% 65% 75% 0% 20% 40% 60% 80% 100% 120% 140% 160% Cost savings - lower end Cost savings - higher end Source: Joint Commission International, 2016 Large private hospital groups started to get a larger share of the market recently In terms of bed capacity, MLP is the largest in the country and in Istanbul, while Lokman is the largest in Ankara and Van. There are around 560 private hospitals in Turkey and the top five players are estimated to own 70 hospitals. Istanbul is the biggest city in Turkey with residents of more than 15mn while Ankara is Turkey s capital and the second biggest city. On the other hand, Van is a city in southeastern part of Turkey and neighbor to Iran. Lokman is the only private hospital provider in the city. Market position as of 2017 Source: MLP # of hospital # of beds Locations covered MLP Acıbadem Memorial Medicana Lokman Total Turkish Private Sector Total Turkish Public Sector ~970 ~

11 Geographical distribution of major hospital groups as of 2017 Location # of hospital # of beds # of hospital # of beds # of hospital # of beds # of hospital # of beds # of hospital # of beds Istanbul Ankara Izmir Bursa Mersin Antalya Adana Konya Gaziantep Kocaeli Diyarbakir Kayseri Samsun Mugla Eskisehir Trabzon Ordu Sivas Tokat Zonguldak Elazıg Batman Canakkale 1 75 Usak MLP Acıbadem Memorial Medicana Lokman Van Total Source: MLP presentation Are the new PPPs a threat for private hospitals? Turkey has undertaken an amb t ous healthcare PPP program n wh ch a total of 27 health campuses and c ty hosp tals n 24 c t es w ll be bu lt us ng the bu ld-lease-transfer model. The health campuses and c ty hosp tals w ll add 40,000 beds to Turkey s ex st ng healthcare nfrastructure. The compan es bel eves that the government s strategy to bu ld large hosp tal complexes w ll not have a major mpact on pr vate hosp tals. These complexes effect vely replace the state run hosp tals w th n the c ty centers. The re-locat on of med cal staff may pose some r sk due to the remote locat on of the c ty hosp tals. A s gn f cant ncrease n travel t me, espec ally for outpat ent or unplanned v s ts, may h nder demand as well. 11

12 Furthermore, The target populat on for pr vate hosp tals s s gn f cantly d fferent than that of PPP hosp tals. PPPs are l kely to attract pat ents from publ c hosp tals and less compet t ve smaller pr vate hosp tal operators. However, w th ncreas ng compet t on on that front, the emergence of large PPP hosp tals can accelerate consol dat on n the ndustry, result ng n smaller hosp tals hav ng just a l cense value be observed by hosp tal groups. As such, pr vate hosp tal groups are expected to be m n mally mpacted by the MoH s PPP n t at ve City Hospital Projects-PPP Tendered Projects Bed Capacity Note Ankara Bilkent 3660 to be open in 2018 Ankara Etlik 3566 to be open in 2019 İstanbul İkitelli 2682 to be open in 2020 FTR & YGAP & PH 2400 to be open in 2019 İzmir Bayraklı 2060 to be open in 2020 Gaziantep 1875 to be open in 2019 Şanlıurfa 1700 to be open in 2021 Kayseri 1584 opened in 2018 Adana 1550 opened in 2017 Bursa 1355 to be open in 2019 Mersin 1250 opened in 2017 Konya 1250 to be open in 2019 Elazıg 1038 to be open in 2018 Kocaeli 1180 to be open in 2020 Eskişehir 1081 to be open in 2018 Isparta 755 opened in 2017 Kütahya 600 to be open in 2020 Manisa 560 to be open in 2018 Tekirdağ 480 to be open in 2019 Yozgat 475 opened in 2017 Total In the tender process Samsun 900 Denizli 1000 Total 1900 Preparing for tender process İzmir Yenişehir 1200 Aydın physiotheraphy and rehabilitation 150 Antalya City Hospital 1000 Diyarbakır Hospital 750 Aydın Hospital 800 Total 3900 Pending for approval İstanbul Sancaktepe 4200 Ordu 900 Total 5100 Pre-feasibility process Trabzon 1100 Sakarya 1000 Rize 800 Total 2900 Source: MoH 12

13 Geograph cal breakdown of PPP hosp tals MLP Hospitals Lokman Hospitals Source: TOBB, MLP, Lokman International interest in health sector through M&As has been strong since 2004 Turkey has been attracting many high profile multinational firms operating in different sub-sectors of the healthcare industry, especially since Many international companies have established a strong presence production bases in the country to benefit from Turkey s geographical position, highly skilled human resources in production and management and the unsaturated domestic market with a high growth potential. There has been ongoing interest in the Turkish healthcare sector in the last decade. We have seen many deals completed so far and interest in them is still ongoing. However, the transaction details of most M&As have not been disclosed. According to Mergermarket, the Acibadem and Safak Group were acquired at a 17.5x EV/EBITDA and 12.0x EV/EBITDA in 2012 and As shown in the table below, the known transactions, point to a 12.6x median EV/EBITDA multiple and 2.3x EV/Sales vs. MLP s 8.2x and 1.2x and Lokman s 7.0x and 0.4x. 13

14 Completed Date Deals in the sector Target Company Target Country Reported Date Revenue (mn) EBITDA (mn) EV/Sales EV/EBITDA Deal Value USD(mn) Jan-16 Medi-Clinic Corporation Ltd South Africa Mar-15 2, ,371 Feb-17 Quironsalud Spain Dec-15 2, ,428 Oct-14 Ramsay Generale de Sante France Dec-13 2, ,041 Jul-15 Spire care Group plc (29.9% Stake) United Kingdom Dec-14 1, Jun-17 NMC Plc (4.89% Stake) United Arab Dec-16 1, Dec-14 Median Kliniken GmbH & Co. KG Emirates,United Germany Dec ,280 Dec-14 Luz Saude, S.A. Portugal Dec Dec-13 Terveystalo care Oyj Finland Dec Feb-17 Oasis care Limited United Kingdom Mar ,034 Oct-14 Grupo Hospitalario Quiron, S.A. (61% Stake) Spain Dec ,032 Mar-17 Al Zahra Hospital United Arab Dec Hygeia Diagnostic & Therapeutic Center of Athens SA (30% Stake) Emirates Greece Dec Median 2.3x 12.6x Source: Mergermarket Average 3.0x 19.4x 14

15 Turkish Pharmaceutical Market Turkey is the 16th largest pharmaceutical market in the world and the sixth largest in Europe. In 2016, Turkey spent ~5% of its GDP on healthcare, which is well below the 9% median of the OECD countries. From , Turkey s healthcare expenditures showed around 14% CAGR growth in TL terms. Turkey s pharmaceutical market presents significant growth opportunities driven by: i) its population dynamics (rapidly growing, but ageing), ii) urban migration, iii) improved hospital infrastructure with increased access to healthcare services and iv) the rising burden of chronic diseases. Meanwhile, demand for generic medicines will expand rapidly given the government s focus on sustainable pharmaceutical expenditures. Pharmaceutical sales are forecasted to increase at a 10-year CAGR of 4% in USD terms by 2026 (in per capita terms from USD119 to USD126). World Pharmaceut cal Market (2015, USDbn) Public Expenditure as % of GDP OECD 9.0% UAE 4.2% India 5.1% Singapore 6.1% UK Sweden South Africa 8.3% 8.8% 8.9% Australia 10.0% Germany France 11.2% 11.6% Turkey 4.5% Source: BMI, IMS 0.0% 2.0% 4.0% 6.0% 8.0% 10.0% 12.0% 14.0% 15

16 The government is the main buyer in the pharmaceutical market as around 80% of the market is reimbursed by the Social Security Institution (SSI). Therefore, pharmaceutical pricing is regulated by the Turkish Medicines and Medical Devices Agency (TMMDA), which is a part of the MoH. Co-payments are 20% for employees and 10% for seniors. The government fully reimburses pharmaceuticals for chronic diseases and inpatients. Pricing Mechanism in Turkey Turkey uses a reference pricing system, in which the price of a pharmaceutical product is set at the lowest sale-to-warehouse price of the five EU reference countries (i.e. France, Greece, Italy, Portugal and Spain). EUR prices are converted to TL with a fixed currency rate, which is disclosed in the first 45 days of every year by the Pricing Commission of the MoH as 70% of the average EUR/TL currency rate of the previous year. However, on February 10, 2018, through a temporary article, the government put a 15% cap for the increase in the EUR/TL level to determine the pharmaceutical prices for Otherwise, the increase would have been 23%. The announced currency rate comes into effect five days after the announcement. Prices of branded products which have generic counterparts available in the domestic market shall be max 60% of their reference prices, whereas branded products without generics available in the domestic market shall be a max 100% of their reference prices. There shall be a price cap of 80% of the reference prices for branded products which have remained in the market for over 20 years and wholesale prices over TL7.32. Based on the current regime, wholesalers and pharmacies are remunerated via regressive mark-ups with margins regulated by the decree on the pricing of products. Pricing mechanism Producer Price = International Reference Price x EUR/TL Periodic Exchange Rate x Reference Price Factor Producer price (TL) Distributor Distributor Pharmacy Pharmacy Price Retail Price M ark-up Price M ark-up (excluding VAT) (including VAT) A= % Aa= A x % Aaa= Aa x 1.25 Aaaa= Aaa x 1.08 B= % Bb= B x % Bbb= Bb x 1.25 Bbbb= Bbb x 1.08 C= % Cc= C x % Ccc= Cc x 1.25 Cccc= Ccc x 1.08 D= % Dd= D x % Ddd= Dd x 1.16 Dddd= Ddd x 1.08 E= % Ee= E x % Eee= Ee x 1.12 Eeee= Eee x 1.08 Source: Selcuk Ecza Presentation 16

17 Currently Selcuk Ecza is the leader of Turkish pharmaceutical market Selcuk Ecza carries out its distribution activities via its 105 warehouses. It enlarged its headcount to 6,537 employees in 2017 from 5,162 in 2010 and its fleet by 11% to 2,417 vehicles. The company started to provide cold chain logistics services in 2013 and has built the appropriate infrastructure, both in terms of warehouses and trucks, to service the pharmacies. Selcuk Ecza has positioned itself to stand out from the competition as regional cooperatives and small-scale warehouses have to invest in the cold chain logistics service platform. Capitalizing on its strong distribution network and reaping the organic growth opportunities as some of its competitors have been forced to scale down their operations or have been forced to exit the business, Selcuk Ecza has consistently improved its market share both in value terms and volume terms, capturing a 42% market share in Selcuk Ecza market share evolution 39.0% 40.0% 40.2% 41.6% 34.4% 36.1% 35.4% 35.7% 34.4% 35.1% Source: The company Selected operational stats for SELEC Source: Garanti Securities Number of warehouses Vehicle fleet Employment size Having captured a large market share from its competitors in 2014 and having improved its position in each quarter, Selcuk Ecza proved to be persistently dominant in the market. Today, the two largest players form c.70% of the wholesale market. There are around 300 distributors and only 13 of them have a share larger than 1%. We think that these small distributors have little opportunity to improve their position given the financial strength and economies of scale of the top two players. 17

18 M&As in the region might be indicative for valuations In the region, we have seen many deals completed so far. However, the transaction details of most M&As have not been disclosed. According to Mergermarket, (as shown in the table below), the known transactions point to an 8.9x median EV/EBITDA multiple and 26.1x P/E vs. SELEC s 4.5x and 5.5x. Deals in the sector Completed Date Target Company Target Country Reported Date Revenue (mn) EBITDA (mn) EV/Sales EV/EBITDA P/E Deal Value USD(mn) Apr-14 Celesio AG (75.93% Stake) Germany Dec Jul-13 DOC Generici s.r.l. Italy Dec SERB Laboratories Belgium,France Dec Mar-17 Farmacol S.A. (45.62% Stake) Poland Dec Sep-14 Imres B.V. (70% Stake) Netherlands Dec Jun-17 Laboratorios Diafarm S.A. Spain Dec Jan-17 ABC Pharmacia LTD Georgia Dec May-16 JSC GPC Georgia Dec MEDIAN 0.6x 8.9x 26.1x AVERAGE 1.2x 9.2x 25.6x Source: Mergermarket 18

19 Lokman Hekim Outperform (Maintained) June 11, 2018 Ready to reap fruits with new opportunities Lokman Hekim deserves a fresh look as: i) its EBITDA margin improved by 2.6 pps in 1Q18 given that its investments in 2016 have started to pay off due to increased occupancy rates, ii) the company has no FX exposure, iii) low/diminishing leverage, iv) better cost management and v) new businesses and opportunities on the agenda which are not in our valuation. We believe Lokman Hekim is a potential M&A target and acquirer. Its share buy-back program is ongoing and we believe there is a limited downside. We are maintaining our Outperform rating and 12-month target share price of TL8.35, indicating a 54% potential return. Two investments from 2016 to pay off. Lokman Hekim acquired the upscale Akay Hospital and opened a policlinic in Those investments were reflected to its financials in 2017 and its EBITDA margin declined by 3.6 pps. The Akay Hospital is in the heart of Turkey s capital and is a very well-known hospital as it had been catering to the high income segment of the population, but was loss making at the time of acquisition. With this acquisition, Lokman has gained a foothold in the premium segment and its management decided to upgrade its technology, infrastructure and service quality to make the hospital more profitable. Since Akay s size was one-third that of Lokman s before the acquisition, the initial burden of the investments took its toll on Lokman s financials along with the negative impact of the policlinic, which was also cash churning, but turned profitable in 1Q18. Since the ramp-up period of hospitals is two-three years, we expect a major recovery in margins starting from 2H18. New projects: 1) Elazig PPP Lokman Hekim has recently signed an agreement to provide physiotherapy and rehabilitation services at the Elazig City Hospital with 1,038 beds for five years. The company assumes an annual TL2.5-3mn in revenues with an EBITDA margin of 25% from this agreement. Given the PPPs in the pipeline, there might be similar opportunities for Lokman Hekim in the coming period. 2) Medical School Establishment The company formed an affiliation with the Sevgi Foundation and donated an 8,567sqm plot to the foundation to establish a university. The affiliation will be positive in the long term providing higher patient tariffs (1.5x), a more qualified/reasonably paid workforce and improved prestige. Being a university hospital could thus yield an additional TL10-15mn in annual revenues, in our view. 3) Etlik Hospital expansion Given the scarce space in its most profitable hospital, the company decided to treble its capacity by Etlik generates 14% of Lokman Hekim s sales. M&A potential. Lokman Hekim could expand its hospital network in the Anatolian region and in the east through acquisitions of hospitals which lack a brand name or are not financially solid. Lokman Hekim could also be an M&A target itself. In addition to the Turkish healthcare sector s growth prospects, stringent regulations that make it hard to acquire a hospital license could result in avid interest in private hospital providers. Transactions which have been disclosed in the sector suggest a median 12.6x EV/EBITDA vs. Lokman s 7x. Valuation & Risks. The stock trades at around 66% and 37% discount to its peers on 2018 EV/EBITDA and P/E. Risks include regulatory changes, Public Private Partnership investments, overpaying for an acquisition and illiquidity. Share Price TL5.42 TL130mn Stock Market Data Bloomberg/Reuters: Rel. Performance: 1 mth 3 mth 12mth 12M Range (TL): -3% 4% 11% YTD TL Return: -12% Beta (2year, w eekly) 0.82 Weight in BIST The Company in Brief Current M ago 35% 39% Buy-back 6% Other 23% Free Float 71% Financials & Ratios E 2019E Net Sales (TLmn) YoY 55% 26% 20% 15% EBITDA (TLmn) YoY 120% -4% 46% 22% Net Income (TLmn) YoY 320% -18% 8% 53% EBITDA margin 15.1% 11.5% 14.0% 15.0% Net margin 3.6% 2.4% 2.1% 2.8% P/E (x) Adj.EV/EBITDA (x)* Adj. EV/Sales (x)* EPS (TL) DPS (TL) Div. Yield 2.2% 3.1% 1.8% 2.0% ROE 9% 9% 7% 8% Analyst: Baris Ince Sales Contact: +90 (212) (212) bince@garanti.com.tr Mcap Average Daily Vol (TLmn) 3 mth: Shares Outstanding (mn): Foreign Ow n. in Free Float : *Adjusted w ith minorities 12M Target Price icm@garanti.com.tr Potential Return TL % USD29mn EV TL206mn LKMNH.TI / LKMNH.IS 4.21 / 7.87 Lokman Hekim is a hospital chain headquartered in Ankara, Turkey. Currently, the company operates five hospitals, three in Ankara and tw o in Van in Eastern Turkey. Ankara accounts for c70% of medical revenues w hile Van does c30%. The Company's total bed capacity is 649. It also has presence in Erbil, Iraq w ith an imaging center. It served 1mn outpatient and 60k inpatient in It also has husbandry business but its share in total revenues is negligible (4%). Shareholders Structure

20 SUMMARY FINANCIALS (TLmn) Income Statement E 2019E Net Sales Operat ng Expenses Operat ng Prof t Consol dated EBITDA Net Other Income/ Expense Prof t (Loss) from Subs d ar es Net f nanc al Income/ Expense Prof t (Loss) before Tax Tax M nor ty Interests Net Income Rat os EBIT Marg n 11.3% 7.7% 10.2% 11.4% EBITDA Marg n 15.1% 11.5% 14.0% 15.0% Net Income Marg n 3.6% 2.4% 2.1% 2.8% Sales Growth 38% 26% 20% 15% EBITDA Growth 58% -4% 46% 22% Net Income Growth 33% -18% 8% 53% Balance Sheet E 2019E Current Assets Cash and Cash Equ valents Short-Term Trade Rece vables Inventor es Other Current Assets Long Term Assets Total Assets Short Term L ab l t es Short-Term F nanc al Loans Short-Term Trade Payables Other Short-Term L ab l t es Long Term L ab l t es Long-Term F nanc al Loans Other Long-Term L ab l t es Shareholders Equ ty T. L ab l t es & S.holders Equ ty Cash Flow Summary E 2019E EBITDA WC Change Operat ng Cash flow Capex Invest ng cash flow D v dends pa d Change n debt CF from f nanc ng act v t es Change n cash Cash at the beg nn ng of the year Cash at the end of the year Key metr cs E 2019E Net Debt/EBITDA (x) Net Debt/Equ ty (x) Capex/Sales (%) 7.6% 7.8% 9.0% 4.0% WC Change/Sales (%) 11.0% 12.2% 10.5% 11.5% ROCE (%) 5.6% 4.2% 3.7% 5.1% ROIC (%) 21.4% 21.9% 25.6% 29.9% FCF y eld (%) 18.5% -5.6% 5.4% 15.7% 20

21 INVESTMENT POSITIVES Exposure to the attractive Turkish healthcare market Turkey offers strong growth prospects in the healthcare sector. care spending s share in GDP lags far behind that of most of developed countries. It is 5% compared to the OECD average of 9%. Moreover, Turkey has a limited capacity in terms of the number of hospitals and beds. The number of beds per 10K people stands at 27 vs. Europe s 46. Strong brand recognition in the regions in which it operates Lokman Hekim is the leading private healthcare provider in Ankara and Van with a 649-bed capacity. Lokman Hekim was founded in 1996 in Turkey s capital Ankara. Its first hospital became operational in Etlik, Ankara in Lokman Hekim then went on to open the largest private hospital in Ankara s Sincan region in Etlik Hospital is very dominant in its region and works at full capacity. On the other hand, the Sincan Hospital is located in a developing region of Ankara. There is increasing healthcare demand in Sincan and Lokman Hekim s popularity in the region is growing. After the IPO in January 2011, the company established a 51% owned entity in the eastern Turkish city of Van and opened one hospital in January 2012 and another in February Lokman Hekim s Van hospitals are very well-known in the city and serve the majority of patients in the region since many private hospital operators either left the city/region or their hospital buildings became useless after the earthquake in 2011 (inc. some state-owned ones). Lokman is the only private hospital in Van. Finally, in addition to its low-to-mid income level hospitals, the company acquired an upscale hospital in Ankara, the Akay Hospital and opened a policlinic in We believe that Lokman Hekim s position in the regions in which it operates will further strengthen going forward as it offers quality services at favorable prices in unsaturated locations in the growing Turkish healthcare market. Growing player in Turkey Lokman Hekim initiated its operations with a 37-bed hospital in a 2,900 sqm closed area in It now has 649-beds and provides healthcare services in a 39,400-sqm plot. Its top line noted a 21% CAGR in driven by the growth in patient figures, which grew from 538k to 1mn as of 2017 (CAGR of 9%). We believe that Lokman Hekim could expand its hospital network through the acquisition of hospitals which lack a brand name or are not financially-solid in the Anatolian region and eastern Turkey. Lokman Hekim is not new to acquisitions as it had taken over two hospitals in Van and the Akay Hospital in Ankara. The company is always in search of organic and inorganic growth opportunities. Given the high utilization of Etlik Hospital, the company will be increasing its capacity to 100 beds from the current 37 beds. The company does not prefer to invest heavily in construction as obtaining a hospital license is becoming harder and harder after the new law took effect in However, our projections do not include a potential acquisition which could yield a further upside depending on the deal price. 21

22 as well as abroad Lokman Hekim is also striving to increase its international presence. It invested in a diagnostic center in Erbil, Northern Iraq. Northern Iraq is an untouched market in terms of healthcare services and offers a strong growth potential in the long term, in our view. The company has been transferring its patients from Erbil to Ankara. It is also worth noting that the company benefits from the incentives provided by the Turkish government. Accordingly, half of the diagnostic center s rent is being paid by the government and half of the revenues from Iraqi patients will be exempt from taxation. Once the number of Iraqi patients has reached a sizable share in the total, the company will become much more profitable. Lokman Hekim also has healthcare tourism sales offices in Azerbaijan, Iraq, Sweden and the Netherlands. Better pricing due to the maturity on the table Almost all private hospitals in Turkey work with the Social Security Institution (SSI). As of 2017, sales to SSI accounted for 55% of Lokman Hekim s medical revenues vs. 70% in The current law allows for extra billing by private healthcare providers, whereby, based on the detailed criteria adopted by the Council of Ministers, private healthcare providers are being allowed to charge up to 200% (vs. 100% before 2014) above the price paid by SSI. The extra charges have to be paid by patients on an out-of-pocket basis. Recall that that the hospitals in Van had started to pay off after two-three years and Van accounted for 39% of total revenues (48% of EBITDA) in 2015 vs. 32% (EBITDA loss) in A similar improvement in investments in 2016 (Akay and Demet) is likely, in our view. Therefore, we expect the contribution from those investments to become more visible starting from 2H18. New growth areas The company is also eyeing other sectors that offer opportunities. In addition to its hospital business, Lokman Hekim has recently signed an agreement to provide physiotherapy and rehabilitation services at the Elazig City Hospital for five years. Recall that Turkey has undertaken an ambitious healthcare PPP program in which a total of 27 health campuses and city hospitals will be built using the build-lease-transfer model. The health campuses and city hospitals will add 40,000 beds to Turkey s existing healthcare infrastructure. The developer of the PPPs will be outsourcing some medical services such as labs, physical therapy, sterilization and an imaging center. Lokman Hekim is planning to provide these services at the PPPs. The Elazig PPP with a 1,038-bed capacity will be the first of such planned ventures for Lokman Hekim. The Elazig PPP is expected to open in late The company assumes an annual TL2.5-3mn in revenues with an EBITDA margin of 25% from this agreement. Given the PPPs in the pipeline, there might be similar opportunities for Lokman Hekim in the coming period. Lokman also has an animal husbandry business, but it is currently negligible compared to its core hospital business. Its husbandry operations accounted for only 4% of its overall revenues in

23 An M&A target There has been increasing interest in the Turkish health sector by domestic and international players given the lower share of healthcare spending compared to developed countries, rising GDP per capita and the increasing health awareness of Turkish citizens. We have seen many M&A deals in recent years that have materialized at a 12.6x EV/EBITDA multiple based on those that have been disclosed, according to mergermarket (see page 14). We believe that Lokman Hekim could be a target company given its multiple at 7x. Share buy-back program limits downside risks The company has an ongoing share buy-back program with no upper share price limit up to 10% of its paid in capital. Lokman Hekim has bought back 1.3mn shares so far, implying 5.6% of its paid in capital. The program limits the downside potential of the shares. Until the company finds a value accretive investment opportunity, a share buy-back seems plausible, in our view. Dividend payer The company has been a consistent dividend payer since Its average pay-out ratio has been c.50% over the past three years. It will distribute 38% of its 2017 earnings, implying a 2% yield. We have assumed a 50% pay-out ratio for 2018E earnings, indicating a 2% yield. Dividends E 2019E 90% 80% 70% 60% 50% 40% 30% 20% 10% 0% Gross Dividends Pay-out ratio Source: Garanti Securities Establishing a university hospital Affiliation with the Sevgi Foundation According to the draft law on the foundation of universities, the Lokman Hekim University in Ankara was presented to the Turkish Grand National Assembly. The university will have medicine, health sciences, dentistry, pharmacy, sport sciences, vocational colleges and health sciences institutes. Recall that the company formed an affiliation with the Sevgi Foundation and donated an 8,567sqm plot to the foundation to establish a university. The affiliation will be positive in the long term providing higher patient tariffs (1.5x) due to current regulatory scheme, a more qualified/ reasonably paid workforce and its improving prestige will make the company more competitive in the sector. Lokman is likely to receive the necessary approval in 1H18. After the approvals, Lokman Hekim could trans- 23

24 form its Ankara and Akay hospitals into university hospitals within two years. Being a university hospital could thus yield an additional TL10-15mn in annual revenues, in our view. INVESTMENT RISKS Public Private Partnership (PPP) Investments The government is continuously making huge hospital investments across the country with private sector participants. It believes that the government s strategy of building large hospital complexes will not have a major impact on private hospitals as those complexes will effectively replace the state run hospitals within the city centers. Those hospitals cater to a different segment and do not pose a threat to the private hospitals in the city centers. There is a city hospital construction in Etlik, Ankara (where Lokman Hekim generates 14% of its revenues) with 3,566 beds which is expected to be completed in Regulatory risks The Turkish government is the main supplier of healthcare in the country and controls the sector. Due to the high burden of health expenditures in the budget, the government had not adjusted patient tariffs for seveneight years until However, private hospitals might suffer from the increase in their cost base. Prolonged unadjusted tariffs would result in contracting margins for private hospital operators. Overpaying The company has a 2.4x Net Debt/EBITDA and 0.9x Net Debt/Equity as of 1Q18. It is looking for inorganic growth opportunities. Overpaying for an acquisition or a deterioration in profitability due to newly acquired companies or high investment in a sector deemed as promising would lever the company. That could result in more financial expenses. The company has TL76mn in net debt and a TL1.7mn long FX position mainly stemming from USD as of end-1q18. Risk of new supply The main shareholders of the company are several individuals from different occupations like doctors, businessmen and academicians. There could be some share registrations to be sold in the Bourse Istanbul. There are two types of shares, namely A and B. A shares account for 0.81% of its paid-in capital and hold the privilege of appointing 51% of the Executive Committee. Eight individuals hold A type shares. Low liquidity Lokman Hekim s three-month average daily trading volume was TL2mn, which could result in sharp price changes and bring additional volatility to the shareholders. 24

25 VALUATION DCF We set a 12-month target price of TL8.35/share for Lokman Hekim and employed DCF as our preferred valuation methodology. We used a riskfree rate of 13.0%, a WACC of 15.8% and a terminal growth rate of 7%. We arrived at a 12-month target price of TL8.35/share for Lokman Hekim, indicating 54% upside potential over the current share price. D scounted cash flow project ons WACC Assumptions (%) 2018E 2019E 2020E 2021E 2022E Risk-free Rate (RFR) Cost of Equity Cost of Debt Tax Rate Cost of Debt after Tax Weight - Equity Weight - Debt WACC Source: Garant Secur t es est mates *tax rate has been temporar ly h ked for , however, we have conservat vely kept the rate unchanged n our project on hor zon Lokman Hek m DCF (TLmn) 2018E 2019E 2020E 2021E 2022E Revenue EBIT Taxes on EBIT NOPLAT Depreciation Gross Cash Flow Change in Working Capital (-) Capital Expenditures (-) Gross Investment (-) Free Cash Flow Assumptions (%) Revenue grow th (TL) EBITDA margin Depr/Sales Chg in Working Capital/Sales Capex/Sales Source: Garant Secur t es est mates DCF Sensivity mth Target Price per share (TL) Perpetuity Grow th Rate 6.5% 7.0% 7.5% WACC + 1% WACC WACC - 1% Source: Garant Secur t es est mates 25

26 Valuation Summary (TLmn) PV of FCF 79 Terminal Grow th 7.0% PV of Terminal Value 225 Adj. Net Debt 62 Minorities 73 EV M Target Mcap 200 Source: Garant Secur t es est mates Main Assumptions The key assumptions in our valuation are listed below: Revenue: We predict that Lokman Hekim will attain a E revenue CAGR of 13%. We expect inpatient and outpatient numbers to grow by a CAGR of only 5% during the same period. We increased our average revenue per patient parallel to our inflation expectations. We did not include any inorganic growth in our model. EBITDA margin: We conservatively believe that Lokman Hekim s EBITDA margin will be 14% in 2018, up from 11.5% in 2017 and then stable at 15.0%thereafter which is in line with the management s guidance. Working capital: We calculate that the company s working capital cycle was 16% of sales in We project a gradual improvement in the ratio materializing at 13% in E. Capital expenditures: We expect Lokman Hekim s capex/sales ratio to be 9% in 2019 due to the Etlik expansion and are keeping it at 4% until GUIDANCE vs. OUR 2018 FORECASTS Lokman Hek m has prov ded the r expectat ons for 2018E as follows. Except for 2017 due to the higher initial burden from new investments, Lokman Hekim has achieved its guidance. Our estimates are provided alongside the company s estimates for comparison. We are in line with the company s guidance (mntl) Targets Realization Targets Realization Targets Realization Targets Garanti Revenues EBITDA* EBITDA margin 11.8% 12.1% 14.3% 14.0% % 11.5% % 14.0% Source: Garanti Securities 26

27 Peer Comparison We tabulate below the hospital operators multiples to provide a perspective as to where Lokman Hekim stands vis-à-vis its international peers due to the absence of listed peers in the Bourse Istanbul. On the international front, Lokman Hekim trades at a substantial discount to its peers both on EV/EBITDA and P/E terms even though it offers stronger earnings growth prospects. However, its size is smaller, so we refrained from using a multiple comparison in our valuation. International Comparison Company Market Revenue CAGR EBITDA CAGR Earnings CAGR EV/Sales EV/EBITDA P/E EBITDA Margin (%) Name Currency Cap (m) E (%) E (%) E (%) 2018E 2019E 2018E 2019E 2018E 2019E 2018E 2019E Emerging Markets South Africa Life care ZAR 39, Netcare ZAR 43, Asia Pacific/Middle East Bangkok Dusit Medical THB 387, Bumrungrad International THB 139, IHH care MYR 49, Apollo Hospital INR 141, n.a KPJ healthcare MYR 4, NMC health AED 35, Developed Markets North America Community Systems, Inc. USD HCA Holdings Inc. USD 36, Lifepoint Hospitals USD 2, Acadia care Co. USD 3, Europe Biomerieux SA EUR 9, Austrialia scope AUD 3, Japara care AUD Ramsay Care AUD 11, Monash IVF AUD Lokman Hekim TRY Prem/(disc) to South Africa -80% -81% -32% -40% 20% -2% Prem/(disc) to Asia Pacific/M iddle East -91% -91% -68% -70% -41% -50% Prem/(disc) to North America -71% -74% -14% -27% 107% 52% Prem/(disc) to Europe -88% -89% -62% -65% -39% -51% Prem/(disc) to Austrialia -75% -77% -39% -46% 17% -12% Prem/(disc) to Emerging M arkets -91% -91% -66% -69% -37% -48% Prem/(disc) to Developed M arkets -77% -78% -32% -40% 38% 5% Source: Bloomberg, Garanti Securities 27

28 COMPANY OVERVIEW Lokman Hekim was founded in 1996 in Ankara. Lokman Hekim operates five hospitals, three in Ankara and two in Van. Lokman Hekim has a policlinic in Ankara and a diagnostic center in Erbil, Iraq. The company has a 649-bed capacity and could serve 1mn patients (inpatient + outpatient). Lokman Hekim provide services to foreign patients as well and works with major insurance companies all over Europe and in the region. Initial Public Offering (IPO) IPO price was TL2.48/share (adjusted). Lokman Hekim s shares started trading on the Istanbul Stock Exchange on January 20, % of the company was offered to the public. However, its effective free float is 71%, according to the Central Registry Agency because of share registrations, in our view. There are two types of shares, namely A and B. A shares account for 0.81% of its paid-in capital and hold the privilege of appointing 51% of the Executive Committee. Eight individuals hold A type shares. Shareholder structure Share type Value (TL) % of total A 112, % B 11,018, % Total 11,130, % Source: The company Key Milestones The company was established with five shareholders A first hospital was opened in Ankara s Etlik region Lokman Hekim s largest hospital became operational in Ankara Lokman Hekim shares started to trade on the Bourse Istanbul - Lokman Hekim acquired Van Medisina Hospital Its second hospital in Van became operational in 1Q13 - It opened a diagnostic center in Erbil Northern Iraq Its acquired Akay Hospital in Ankara in August It opened a policlinic Demet It decided to expand the Etlik Hospital It agreed to provide third party services for the Elazig PPP - Establishment of a medical university approved 28

29 TOP MANAGEMENT Top Management Position Occupation Mustafa Sarıoglu Chairman & CEO MD Mehmet Altug Deputy Chairman MD Celil Gocer Member MD Ibrahim Ugur Member & Director of Medical Services MD Omer Goktas Independent Member Law yer Yavuz Kocamis Independent Member Businessman Suleyman Inceoz CFO Accountant Ali Yakut Director of Business Development and Project MD Source: The Company BUSINESS OVERVIEW Facilities Lokman Hekim employed 2,022 employees as of Apart from the Sincan Hospital, the other hospitals are leased in TL terms. Facilities in summary Source: The company Revenue Lokman Hekim generally caters to the low-to-middle income segment of the population, which is mostly publicly insured. 55% of Lokman Hekim s medical revenues came from SSI as of As such, the impact of any possible governmental measures to reduce healthcare expenditures on the company s revenues would be major. On the other hand, inpatient revenues comprise 56% of Lokman Hekim s medical revenues, while the remaining is outpatient. On a hospital basis, in 2017, the company generated 68% of its revenues in Ankara vs. 31% in Van. With the acquisition of the Akay Hospital in 2H16, Ankara s share in the total increased. We 29

30 believe that there is an upside risks to our revenue projections as we do not incorporate any sales which might come from possible acquisitions into our model. Hospital topline evolution (TLmn) Q18 Etlik Revenues growth -1% -5% 11% 2% 6% 15% 9% 7% 6% Ankara (Sincan) Revenues growth 16% 7% 6% 3% 10% 10% 14% 10% 12% Van Revenues growth 2622% 9% 12% 22% 24% 1% -3% Hayat Revenues growth 195% 92% 117% Erbil Revenues growth 615% 73% 6% 110% 47% Akay Revenues growth 200% 18% Demet growth 3796% 296% Total growth 9% 5% 53% 7% 13% 18% 37% 25% 13% Breakdown (%) Etlik 39% 36% 32% 23% 22% 21% 20% 16% 14% 13% Sincan 61% 64% 66% 46% 44% 43% 40% 33% 29% 31% Van 0% 0% 2% 31% 32% 31% 32% 29% 24% 21% Hayat 0% 0% 0% 0% 2% 4% 7% 11% 7% 8% Erbil 0% 0% 0% 0% 0% 1% 1% 1% 1% 1% Akay 10% 23% 23% Demet 0% 2% 3% Source: The company SSI revenues (TLmn) Sales to SSI Other Total Breakdown (%) SSI 70% 70% 65% 61% 55% 54% Other 30% 30% 35% 39% 45% 46% Source: The company When we look at the average revenue per patient (ARPP), growth in ARPP has been very volatile and we cannot establish any relationship to inflation or any other parameters. We attribute this situation to the different locations of the hospitals and hospital openings. The company s Akay Hospital could generate better pricing given its upscale status. 30

31 OUTpatient INpatient Number of patients evolution E 2019E 2020E 2021E 2022E # of patient 765, , , ,443 1,001,101 1,051,156 1,114,225 1,169,937 1,228,434 1,289,855 growth -3% 0% 5% 19% 5% 5% 6% 5% 5% 5% Revenue (TLmn) growth 31% -9% 10% 45% 27% 20% 15% 13% 12% 12% # of patient 41,684 42,222 48,190 50,271 59,512 62,488 66,237 69,549 73,026 76,677 growth -12% 1% 14% 4% 18% 5% 6% 5% 5% 5% Revenue (TLmn) growth 5% 41% 25% 31% 25% 20% 15% 13% 12% 12% Total patient 807, , ,261 1,005,714 1,060,613 1,113,644 1,180,462 1,239,485 1,301,460 1,366,533 growth 0% 5% 19% 5% 5% 6% 5% 5% 5% Source: The company Average revenue per patient (ARPP) evolution (TLmn) E 2019E 2020E 2021E 2022E ARPoP growth 35% -9% 5% 21% 21% 14% 8% 8% 7% 7% ARPiP growth 19% 39% 9% 26% 5% 14% 8% 8% 7% 7% ARPP growth 22% 13% 12% 16% 19% 14% 8% 8% 7% 7% Source: Garanti Securities estimates Meanwhile, the company has a 74% stake in Hay Sut, a dairy company. Hay Sut was established in 2008 and started to operate in As of 1Q18, Hay Sut has 1,473 cattle The company records husbandry revenues which are a very miniscule portion in total (4% of consolidated revenues). We project a 20% increase in 2018 revenues and a 13% CAGR for E. Gross margin Lokman Hekim s gross margin averaged 13.3% from , but we see the scope for higher gross margins in 2018 as its expenses should diminish proportionally because Akay and Demet in Ankara have started to pay off after employing new doctors and enhancing their marketing efforts coupled with lower prices to raise traffic and revenues. Labor costs have the lion s share (51%) of revenues followed by equipment and raw materials (24%). According to the management, 50-60% of labor costs are derived from doctors salaries even though they account for c.13% of the total number of employees. With the increasing operational leverage backed by higher capacity utilizations, we believe there is further room for an improvement in costs. We expect the company s gross margin to normalize at around 16% throughout our forecast horizon. 31

32 Cogs (TLmn) E 2019E 2020E 2021E 2022E Salary growth 24% 5% 18% 37% 31% 11% 10% 9% 9% 9% as % of sales 52.4% 47.2% 49.5% 49.2% 51.2% 47.7% 45.8% 44.0% 42.6% 41.3% Equipment and raw materials growth 19% 10% 4% 39% 32% 20% 15% 13% 12% 12% as % of sales 25.7% 24.2% 22.3% 22.5% 23.5% 23.5% 23.5% 23.5% 23.5% 23.5% Other growth -163% 38% -14% 15% 34.3% 32.6% 24.9% 29.8% 24.4% 23.0% as % of sales 11.9% 14.0% 10.7% 8.9% 9.5% 10.5% 11.4% 13.1% 14.6% 16.0% Depreciation (inc. severance) growth 58% 23% 15% -8% 31% 21% 6% 7% 8% 4% as % of sales 5.0% 5.3% 5.4% 3.6% 3.7% 3.8% 3.5% 3.3% 3.2% 3.0% Depreciation under Opex growth 28% 90% 17% -13% -3% 21% 6% 7% 8% 4% as % of sales 0.1% 0.2% 0.2% 0.1% 0.1% 0.1% 0.1% 0.1% 0.1% 0.1% Overall Depreciation+ severance growth 57% 24% 15% -6% 27% 21% 6% 7% 8% 4% as % of sales 5.1% 5.5% 5.6% 3.8% 3.8% 3.9% 3.6% 3.4% 3.3% 3.0% Source: Garanti Securities estimates Gross margins (TLmn) E 2019E 2020E 2021E 2022E Medical Cogs growth 17% 10% 14% 32% 31% 16% 13% 13% 12% 12% Other Cogs Total Cogs growth 97% 12% 9% 32% 32% 16% 13% 13% 12% 12% Gross Profit Medical margin 5.9% 8.4% 11.9% 15.1% 11.1% 13.7% 15.0% 15.3% 15.4% 15.6% Other margin -12.1% 19.8% 16.8% 33.2% 31.5% 31.5% 31.5% 31.5% 31.5% 31.5% Overall Gross Profit margin 5.1% 9.3% 12.1% 15.8% 12.0% 14.5% 15.8% 16.0% 16.1% 16.3% Source: Garanti Securities estimates Operational expenses The company managed to keep its operating expenses under control compared to revenues with a share of around 4-4.5% over the years. We assumed a 4.3% ratio going forward. 32

33 Opex (TLmn) E 2019E 2020E 2021E 2022E Selling & Marketing Advertisement growth 80% -11% 16% 15% 2% 20% 15% 13% 12% 12% as % of sales 0.9% 0.7% 0.7% 0.6% 0.5% 0.5% 0.5% 0.5% 0.5% 0.5% Other growth -97% 304% 2419% 90% 56% 20% 15% 13% 12% 12% as % of sales 0.0% 0.0% 0.5% 0.6% 0.8% 0.8% 0.8% 0.8% 0.8% 0.8% General Administrative # of personel MDs Other Salary growth 28% 57% -4% 39% 22% 20% 15% 13% 12% 12% as % of sales 1.7% 2.3% 2.0% 2.0% 1.9% 1.9% 1.9% 1.9% 1.9% 1.9% Rent growth 28% 74% 30% 2% 8% 20% 15% 13% 12% 12% as % of sales 0.1% 0.2% 0.2% 0.2% 0.1% 0.1% 0.1% 0.1% 0.1% 0.1% Maintenance growth 28% -78% -39% 39% 14% 20% 15% 13% 12% 12% as % of sales 0.1% 0.0% 0.0% 0.0% 0.0% 0.0% 0.0% 0.0% 0.0% 0.0% Consultancy growth 28% 33% 46% 61% 40% 20% 15% 13% 12% 12% as % of sales 0.3% 0.3% 0.4% 0.4% 0.5% 0.5% 0.5% 0.5% 0.5% 0.5% Other growth -8116% -25% 51% 18% -4% 20% 15% 13% 12% 12% as % of sales 0.8% 0.5% 0.7% 0.6% 0.5% 0.5% 0.5% 0.5% 0.5% 0.5% Overall Opex growth 62% 19% 24% 37% 22% 20% 15% 13% 12% 12% as % of sales 4.0% 4.1% 4.5% 4.5% 4.3% 4.3% 4.3% 4.3% 4.3% 4.3% Source: Garanti Securities estimates A 2.5 pps improvement in the EBITDA margin in stable at 15% thereafter Lokman Hekim s EBITDA margin rose from 6% in 2013 to 15% in 2016 and fell to 11.5% in The decrease in its EBITDA margin in 2017 stemmed mainly from its new investments. We project the EBITDA margin to increase to 14.0% in 2017 with a more profitable contribution from its Akay and Demet operations. We believe that the company will be able to keep its EBITDA margin at a normalized 15% in E. Working capital requirement Lokman Hekim had days payable ranging between in the last three years with days receivable of days, according to our calculations. 55% of the company s revenues come from the Social Security Institution and there are 75 legal receivable days. Thus, the company will always be in need of short-term financing. We assumed the last four-years average of days in our forecast horizon. 33

34 WC assumptions E 2019E Receivables days Inventory days Payables days Cash conversion cycle Source: Garanti Securities estimates Capital expenditures Lokman Hekim s business is not normally capital intensive. According to our calculations, the company spent 4% of its revenues on capital expenditures in , but capex peaked at 17% in 2016 due to the acquisitions and then fell to 7% in 2017 given its refurbishing expenses. New hospital openings and renovations were the main reason behind the capex requirement. The company does not envisage any new hospital start-up investments in the near term except for the Etlik hospital expansion. As a result of this expansion, we assumed a capex at 9% of revenues in 2018 and a capex at 4% of revenues going forward. Capex evolution E 2019E 2020E 2021E 2022E 20% 15% 10% 5% 0% -5% -10% -15% -20% Capex (TLmn) as % of sales (rhs) Source: Garanti Securities estimates Balance Sheet/Financial Expenses Lokman Hekim has TL76mn in net debt and a TL1.7mn long FX position as of end-1q18. It generates all of its revenues in TL terms and borrows in TL terms. Furthermore, according to the agreed terms, Lokman Hekim is exposed to some fees in its credit card receivables in exchange for reimbursement by the banks 30-day average. Lokman Hekim works with all the major banks via credit cards, where the credit risk is transferred to the banks and clients benefit from extended payment terms. We expect net financial expenses/sales at c.3% through our forecast horizon. 34

35 Selected balance sheet items (TLmn) E 2019E Cash and cash equivalents Total Financial debt Short-term debt Long-term debt Net Debt Net Debt / Equity Net Debt / EBITDA Source: Garanti Securities New Investments & Projects Ankara Akay (acquired in 2H16) The Akay roll-out, including additions and room refurbishments, should be complete by the end of the year according to the company. Ankara Demet (opened in 2H16) The roll-out is nearing its end with a new dental clinic now in operation. Demet turned profitable in 1Q18 according to the company s management. Ankara Etlik Expansion A second hospital building adjacent to the existing facility will be built, which should nearly treble the capacity at the location. Recall that expansion efforts kicked off in Etlik commands the highest sales per square meter of floor space in the network. Etlik operates on 2,900 sqm of floor space (7.4% of the group as a whole) or 35 beds (7% of the group s total bed capacity). From these, Etlik generated 20% of its group sales in 2015, which makes the location three times more profitable than the group average. We are using full-year 2015 figures to exclude Akay and Demet, which became operational in late

36 Etlik Expansion Medical School Project With the plot acquisition completed and the regulatory approvals obtained, the project is progressing as planned. Lokman Hekim and the Sevgi Foundation have secured the regulatory approvals to establish the Lokman Hekim University in Ankara. The university will offer a range of graduate degrees in medical sciences and related disciplines. The programs should start admitting students in Two Ankara hospitals to become research hospitals. Sincan and Akay, two of Lokman's Ankara locations, will be affiliate hospitals to house the research and practical training activities of the medical school, which will be the source of much needed talent and top quality medical staff supplying the Lokman group of hospitals. A major milestone in Lokman s history. The school will help Lokman grow its footprint in the sector, improve brand recognition, and above all, raise the quality of its product and services to become a key provider in the Turkish healthcare industry. The work is underway to establish the academic units. The school will have its own P&L. The medical school will have its own balance sheet and revenue sources tuition and fees, donations and rental income. It will be a non-profit organization. The academic staff will not be in Lokman s payroll. They will be in the school s payroll irrespective of their involvement in patient-care at the Lokman Hekim hospitals. Any revenues generated by doctors with academic titles net of the doctors shares will go through Lokman Hekim s P&L. The company expects the project to become earnings accretive by

37 Elazig Project The company signed an agreement with the Elazig City Hospital (PPP) to operate a physiotherapy and rehab center. Elazig City Hospital mandate. The company has obtained a service outsourcing mandate from Ronesans Holding, the company managing Elazig City Hospital PPP. Lokman will be the sole provider of all physiotherapy and rehabilitation services to be offered at Elazig for a five-year period. Elazig to operate 1,038 beds. Ronesans, through its sister company ELZ Saglik, has a 28-year concession from the MoH to design, build, finance, equip and maintain a 1,038-bed hospital campus in Elazig. The hospital is expected to become operational in 4Q18. Third location in eastern Turkey. The Elazig project effectively adds a third location to Lokman s growing presence in eastern Turkey, an underserved region in the country. The company plans to generate TL2.5-3mn in annual revenues with an estimated EBITDA margin of 25%. Strategy & Objectives Strategic priorities Improve operating leverage Gain market share by selective acquisitions in Anatolia Gain efficieny w ith data and analytics Lokman Hekim Grow into low -capital outsourcing business seizing opportunities at City Hospitals Medical School Maintain leadership in Ankara Source: The company Lokman s long-term EBITDA margin objective is 15%. The company intends to achieve this target without compromising on its service quality and brand name 37

38 LT objectives Turning regional cost differentials to advantage Raising gradually the contribution of higher margin PMI business to the sales Improving pricing power with suppliers by taking advantage of economies of scale as the company acquire and grow business Using the experience gathered in underpenetrated regions of the country to position in Central and Eastern Anatolia Source: The company 1Q18 Results Lokman Hekim Summary Financials Change (mn TL) 1Q17 2Q17 3Q17 4Q17 1Q18 1Q18/1Q17 1Q18/4Q17 Net Sales % 5% Gross Profit % 31% Operating Profit % 44% EBITDA % 31% Net Other Income/Expense n.m. n.m. Financial Inc./ Exp. (net) n.m. n.m. Tax n.m. n.m. Minority Interests % -23% Net Income % -13% Net Cash Working Capital Shareholders Equity Ratios Gross Margin 13.9% 6.6% 14.1% 13.3% 16.5% 2.7 pp 3.2 pp Operating Margin 9.4% 1.7% 10.2% 9.0% 12.3% 2.9 pp 3.3 pp EBITDA Margin 13.2% 5.7% 13.6% 12.7% 15.8% 2.6 pp 3.1 pp Net Profit Margin 4.1% n.m. 2.5% 4.5% 3.7% -0.4 pp -0.8 pp Source: Garanti Securities 38

39 MLP Outperform Market leader in attractive Turkish health sector MLP is the largest private hospital chain in Turkey with 29 hospitals with a bed capacity of 5,330 (2x that of its closest rival) in 17 different cities as of MLP has 11% share in the private and 2% in the total sector bed capacity in Turkey. MLP s well established business model is to capture share from the growth potential in the market going forward. MLP operates under three concepts addressing all price points with a strong brand name. The company s revenue sources are well balanced among payer groups. The emergence of higher margin medical tourism revenues is another source of income (7% share in total). We forecast a 17% and 23% CAGR in revenues and EBITDA for the period driven by capacity additions and better pricing along with the maturity of the hospitals. We also project that the company will return to black at its bottom line after three years given its increased operational profitability and lower financial expenses due to reduced FX-denominated debt after the usage of its TL600mn IPO proceeds. Initiating coverage with an Outperform recommendation and a 12- month target price of TL20.90 indicating a 56% upside potential. The stock is trading at 29% below its IPO price at TL19.00 and at a discount to 60% on 2018 EV/EBITDA compared to its peers. Market leader with a unique business model: MLP is the leader among Turkish private healthcare providers with an 11% market share in terms of bed capacity. MLP s strong brand name, market leader status, well balanced revenue portfolio, proven track record of capacity growth and healthier balance sheet following its IPO suggest a high growth potential given the low healthcare spending in Turkey (5% of GDP vs. 9% in the OECD) coupled with the favorable demographics and better affordability of its insurance policies. Proven track record in organic and inorganic growth: MLP recorded a 19% and 18% CAGR in revenues and EBITDA in MLP acquired six hospitals in 2014 and then added four new hospitals to its network. MLP s strategy now hinges on adding two news hospitals with 500 beds every year. We expect its total bed capacity to reach 7,830 in 2022E vs. 5,330 in Well established network & formats: MLP functions through a unique multi-format network: i) Medical Park, ii) VM Medical Park and iii) Liv. The three concepts target three different price points with consistently outstanding medical service quality. The company also has a balanced portfolio of source revenues with a distribution of Social Security Insurance (SSI) at 35%, Self-Pay at 33% and Private Medical Insurance (PMI) at 17% as of Declining share of SSI sales in total to drive the top line and profitability: Self-pay and PMI sales are more profitable compared to SSI sales. SSI s share in the total has declined from 44% in 2014 to 35% in We believe that rising top-up insurance penetration in Turkey and MLP s growth plans in Istanbul (40% of the total capacity) are likely to drive non-ssi revenues. MLP s average prices are c.70% above the prices determined by the government, while the company has more room to raise its prices (up to 200%). We assume a 20% CAGR in revenues and 26% in EBITDA for E. Risks: Regulatory changes, Public Private Partnership investments, overpaying for an acquisition, execution on integrating capacity additions, an economic slowdown and illiquidity. Share Price TL13.44 TL2,796mn Stock Market Data Bloomberg/Reuters: Rel. Performance: 1 mth 3 mth 12mth 12M Range (TL): -16% -14% - YTD TL Return: 0% Beta (2year, w eekly) 0.82 Weight in BIST % The Company in Brief Current IPO 78% 84% Lighyear care BV 32% Sancak Insaat 16% Hujori Financieringen 4% Muharrem Usta 9% Other 6% Free Float 32% Financials & Ratios E 2019E Net Sales (TLmn) 2,160 2,576 3,140 3,775 YoY 17% 19% 22% 20% EBITDA (TLmn) YoY 41% 10% 22% 35% Net Income (TLmn) YoY n.m n.m n.m 602% EBITDA margin 15.4% 14.2% 14.2% 15.9% Net margin n.a n.a 0.7% 3.9% P/E (x) Adj.EV/EBITDA (x)* Adj. EV/Sales (x)* EPS (TL) DPS (TL) Div. Yield 0.0% 0.0% 0.0% 0.0% ROE -17% -17% -117% 2% Analyst: Baris Ince Sales Contact: +90 (212) (212) bince@garanti.com.tr Mcap Average Daily Vol (TLmn) 3 mth: Shares Outstanding (mn): Foreign Ow n. in Free Float : *Adjusted w ith minorities 12M Target Price icm@garanti.com.tr Potential Return TL % USD621mn June 11, 2018 EV TL3,725mn MPARK.TI / MPARK.IS / MLP w as founded in With its 29 hospitals, MLP is larger than the combined #2 and #3 competitor in the sector as of The company s bed capacity of 5,830 is 2x of the closest rival. Being present in 17 different cities across the country, the company has strong brand name. MLP has 11% share in the private and 2% in the total sector bed capacity in Turkey.

40 SUMMARY FINANCIALS (TLmn) Income Statement E 2019E Net Sales 2,160 2,576 3,140 3,775 COGS+OPEX -1,980-2,386-2,889-3,389 Operat ng Prof t EBITDA Net Other Income/ Expense Prof t (Loss) from Subs d ar es Net f nanc al Income/ Expense Prof t (Loss) before Tax Tax M nor ty Interests Net Income Rat os EBIT Marg n 8.3% 7.4% 8.0% 10.2% EBITDA Marg n 15.4% 14.2% 14.2% 15.9% Net Income Marg n n.m. n.m. 0.7% 3.9% Sales Growth 17% 19% 22% 20% EBITDA Growth 41% 10% 22% 35% Net Income Growth n.m n.m n.m 602% Balance Sheet E 2019E Current Assets 1,016 1,161 1,441 1,911 Cash and Cash Equ valents Short-Term Trade Rece vables ,099 Inventor es Other Current Assets Long Term Assets 1,420 1,560 1,561 1,568 Total Assets 2,435 2,721 3,001 3,479 Short Term L ab l t es 1,031 1,261 1,369 1,536 Short-Term F nanc al Loans Short-Term Trade Payables Other Short-Term L ab l t es Long Term L ab l t es 1,139 1, Long-Term F nanc al Loans 962 1, Other Long-Term L ab l t es Shareholders Equ ty ,133 T. L ab l t es & S.holders Equ ty 2,435 2,721 3,001 3,479 Cash Flow Summary E 2019E EBITDA WC Change Operat ng Cash flow Capex Invest ng cash flow D v dends pa d Change n debt CF from f nanc ng act v t es Change n cash Cash at the beg n ng of the year Cash at the end of the year Key metr cs E 2019E Net Debt/EBITDA (x) Net Debt/Equ ty (x) Capex/Sales (%) 5.5% 8.6% 6.2% 5.9% WC Change/Sales (%) 0.9% -7.3% 3.9% 1.9% ROCE (%) -3.2% -8.4% 1.3% 7.6% ROIC (%) 18.5% 25.3% 24.6% 32.2% FCF y eld (%) 5.6% 10.4% 2.6% 8.0% 40

41 INVESTMENT POSITIVES The leader in the sector with strong brand recognition MLP was founded in 1993 and has 29 hospitals, which surpasses its combined second and third ranked rivals in the sector as of end The company s bed capacity of 5,330 is twice that of its closest rival. Being in 17 different cities across the country, the company has a strong brand name. With its multi format structure (Medikal Park, VM Medikal Park, Liv Hospital), the company caters to all the price segments in the market. Among private hospitals, MLP has an 11% share in the private and 2% in the total sector bed capacity in Turkey, while its share in complex surgeries is higher. Based on DOR insight s survey, MLP s brand awareness is 90%. MLP s service/infrastructure/facility quality have been globally recognized. MLP has three JCI accreditations and three SRC Center of Excellence Awards. MLP at a glance as of Hospitals; More than the #2 and #3 Competitors Combined Beds; 2x the size of 2nd Largest Competitor 17 Cities Staff Doctors Adressess All Price Segments in the Turkish Market Source: MLP presentation 3 JCI Accredited Hospitals 3 Centers of Excellence Revenues: TL 2.6bn EBITDA: TL 409mn MLP s share in beds in private sector and complex surgeries 11% 48% 36% 19% 17% 16% 15% 14% 14% MLP share in private beds 2% MLP share in total beds Bone Marrow Transplant Chemotherapy Radiotherapy Stent By-Pass Invasive Procedures Angio A-type surgeries Source: MLP presentation Proven track record in organic and inorganic growth The company recorded a 19% and 18% CAGR in revenues and EBITDA in MLP acquired six hospitals in 2014 and then added four new hospitals to its network. Generally, a greenfield hospital investment takes three years to reach break-even -at the EBITDA level, but one-two years for acquisitions. MLP s 2015 financials showed that the acquisitions in 2014 hurt its financials with a 1.7pps drop in its EBITDA margin. That said, its EBITDA margin subsequently improved by 2.6 pps to 15.4% in Recently, the company opened its Pendik hospital in March

42 and Mersin Hospital in May. Given the maturity levels in the hospitals, we saw a 0.7 pps increase in MLP s EBITDA margin in annual terms in 1Q18. The company targets to open two new hospitals every year with a total bed capacity of 500. Accordingly, we project the company s total bed size to reach 7,830 by 2022E vs. 5,330 as of end Given the fragmented structure of the Turkish private hospital sector (the top five players have around c.30% of the total bed capacity) and the lack of new hospital license issuances by the government, consolidation is likely. MLP would stand out as the main beneficiary of consolidation opportunities considering its market leader status and financially healthier balance sheet following its IPO. MLP s growth outlook E 2019E 2020E Total Hospitals At Year End Total Beds Added to Portfolio Cumulative Total Beds Acquired 6 hospitals (of which 2 in İstanbul) Opened one managed university hospital in İstanbul 2 new hospitals opened in Mersin and İstanbul Bed expansion in Goztepe Two potential hospital openings / acquisitions E 2019E 2020E Opened 2 greenfield hospitals in Ankara Opened 2 greenfield hospitals in İstanbul and Kocaeli Opened one managed hospital in İstanbul and one greenfield hospital in Samsun Two greenfield hospital developments under construction Acquisitions Greenfields Expansions Pipeline Sector s growth prospects Turkey offers strong growth prospects in the healthcare sector. care spending s share in GDP lags far behind that of most developed countries. It is c.5% compared to the OECD average of c.9% of GDP. Moreover, Turkey has a limited capacity in terms of the number 42

43 of hospital and beds. An ageing population and faster growth in the number of affluent Turkish citizens are other positives for the sector. Sector drivers in chart Turkish care Spending to Providers (TLbn) care Spending Per Capita ($'000) Turkey OECD Median care Spending % of GDP 9.2% Hospital Beds Per Capita ('000) MoH Goal: 3, % 2.7 Turkey OECD Median Turkey OECD Median Growth in Aging Turkish Population (millions) Growing Levels of Affluence in Turkey- Income Bracket Distribution (%) % 24% 27% 17% 24% 15% 31% 24% 13% 17% Low (<$10k) Lower Mid ($10-15k) Mid ($15-25k) Upper Mid ($25-50k) High (>$50k) Source: MLP presentation 43

44 Well established network & formats MLP functions through a unique multi-format network: i) Medikal Park, ii) VM Medikal Park and iii) Liv. The three concepts are targeting three different price points with consistently outstanding medical service quality. Liv is the premium and its prices are 1.7x that of VM s and 3.9x that of Medikal Park s for inpatients, while the figures are 1.9x and 5.3x that for outpatients. The company also has a balanced portfolio of source revenues with a distribution of Social Security Insurance (SSI) at 35%, Self-Pay at 33% and Private Medical Insurance (PMI) at 17%. MLP s business model addressing different patient segments Liv Premium segment Number of hospitals: 3 P r e m i u m VM Medical Park Medical Park Premium mass segment Number of hospitals: 13 Upper mass segment Number of hospitals: 22 Relative Average Price-Inpatient Relative Average Price-Outpatient 3.6x 5.3x 1.8x 1.9x 1.0x 1.0x Medical Park VM Medical Park Liv Medical Park VM Medical Park Liv Source: The company Medical tourism revenues and ancillary business to grow Medical tourism revenues correspond to c.7% of MLP s total revenues which are in cash and FX. The company also records ancillary revenues from laboratory services, imaging services, hospital management services, insurance and catering. Those revenues are likely to grow as 44

45 Turkey is an emerging medical tourism hub thanks to its competitive prices and growing network. Those sales are higher margin, hence, positive for profitability. The aforementioned accreditations and awards are also important to attract patients as part of the medical tourism. We conservatively opt to keep the share of those revenues in the total at the same level in our forecasts. Medical tourism revenues were high in 2014 as Libyan patients came to Turkey due to the unrest in their region. Medical tourism revenues evolution 100% 90% 80% 70% 60% 50% 40% 30% 20% 10% 0% 15% 11% 5% 7% 7% 7% 7% E 2019E 2020E Hospital Revenues Medical Tourism revenues Other ancillary revenues Source: MLP, Garanti Securities estimates Estimated savings on cost of treatment vs USA in some selected countries Mexico 40% 65% Malaysia 65% 80% Taiwan 40% 55% Singapore South Korea 25% 30% 40% 45% India 65% 90% Turkey Thailand 50% 50% 65% 75% 0% 20% 40% 60% 80% 100% 120% 140% 160% Cost savings - lower end Cost savings - higher end Source: Joint Commission International, 2016 Reduced leverage after the IPO in February MLP raised TL600mn from its public offering in February 2018 to reduce its FX-denominated debt. During 1Q18, MLP s net debt declined to TL931mn from TL1.382mn. Net debt to EBITDA diminished to 2.4x in 1Q18 from 3.8x at end We project a further deleveraging given its increased operational profitability and lower financial expenses. Our 2019E net debt to EBITDA forecast is 0.9x. 45

46 Deleveraging 1,600 1,400 1,200 1, E 2019E Net debt (TLmn) as of EBITDA (rhs) Source: MLP, Garanti Securities estimates Declining share of SSI sales in total to drive top line and profitability Self-pay and PMI sales are more profitable compared to SSI sales. SSI s share in the total has declined from 44% in 2014 to 35% in We believe that rising top-up insurance penetration in Turkey and MLP s growth plans in Istanbul (already has 40% of total capacity) are likely to drive non-ssi revenues. MLP s average prices are c.70% more than the prices determined by the government, while the company has more room to hike its prices (up to 200%). We assume a 20% CAGR in revenues and 26% in EBITDA for E. High margin patient s share in total is rising 100% 90% 80% 70% 4% 4% 6% 7% 7% 15% 11% 5% 7% 8% 10% 12% 16% 17% 20% 60% 50% 40% 27% 31% 34% 33% 34% 30% 20% 10% 44% 41% 39% 35% 31% 0% Q18 Source: MLP presentation SSI Self-Pay PMI Medical Tourism Anciallary 46

47 Number of insurance policies sold ('000) CAGR % 119% % Comprehensive insurance Top-up insurance Source: MLP presentation Bottom line turn back to black in 2018 after three years TLmn 5,000 4,500 4,000 3,500 3,000 2,500 2,000 1,500 1, E CAGR Revenues: 19% EBITDA: 29% Net Income: 321% E 2019E 2020E Revenues EBITDA Net income Source: MLP presentation 47

48 INVESTMENT RISKS Public Private Partnership (PPP) Investments The government is continuously making huge hospital investments across the country with private sector participants. The company believes that the government s strategy to build large hospital complexes will not have a major impact on private hospitals as those complexes are effectively replacing state run hospitals within the city centers. Those hospitals cater to a different segment and do not pose a threat to private hospitals in the city centers. Regulatory risks The Turkish government is the main supplier of healthcare in the country and controls the sector. Due to the high burden of health expenditures in the budget, the government had not adjusted patient tariffs for seveneight years until However, private hospitals might suffer from the increase in their cost base. Prolonged unadjusted tariffs would result in contracting margins for private hospital operators. Delays in new hospital investments In line with the company s expansion plans, we assume two new hospitals with 500 beds every year going forward. Therefore, any delay in the investments could present a risk to our valuation. FX exposure According to the latest footnotes, the company has a short FX position of TL365mn. Every 10% increase in the EUR and USD against the TL would result in a TL49mn loss and a TL12mn profit. Operationally, the company is hedged in terms of FX exposure given that c.7% of its revenues are from medical tourism and FX-linked costs (due mostly to rent and materials) to total revenues at 5%. The Company has already turned its majority of rent to TL before IPO. Via IPO proceeds, the company closed some of its FX denominated loans and plans to reduce lower FX debt. A sudden/sharper depreciation in the TL could pose downside risks to our forecasts. Geopolitical risks Since the company generates c.7% of its revenues from medical tourism, regional developments may affect this segment despite MLP s diversified country exposure. Overpaying or value decretive acquisitions The company has always been looking for inorganic growth opportunities. Overpaying for an acquisition or deterioration in profitability due to newly acquired companies or high investments in a sector deemed as promising would lever up the Company. That could result in more financial expenses. Risk of new supply One of the main shareholders of the company is a private equity firm. Therefore, there could be some stake sales, but we do not attach a high probability to this in the near term given that the current price is less than 48

49 the IPO price. There is one year lock-up period for the selling shareholders to further sale below the IPO price. IPO was held in the beginning of February Potential cost inflation Since Turkey lacks medical staff, it is likely that at some point there could be cost pressures given the better pay in private healthcare providers. Around 40% of the costs are related to personnel in MLP. Low liquidity MLP s three-month average daily trading volume is USD1.1mn, which could result in sharp price changes and bring additional volatility to the shareholders. Recently, the company has mandated a brokerage house for liquidity providing Covenants on debt Based on the company s syndicated loan raised in 2016, there are some covenants for the company. Accordingly, the covenants are net debt/ reported EBITDA below 3.5x in 1H18, below 3.0x for 2018 and 1H19 and below 2.5x from 2019 to Furthermore, the debt service coverage ratio should be higher than 1.1x until Any weakness in operational profitability could result in a breach of these covenants. Collect on of receivables: MLP had TL133mn in receivables related to patients from Libya in It collected TL62mn from the Libyan government in January 2017-March There could be some risk in the collection of the remaining receivables. 49

50 VALUATION DCF We set a 12-month target price of TL20.90/share for MLP. We employed DCF as our preferred valuation methodology. We used a risk-free rate of 13.0%, a WACC of 15.4% and a terminal growth rate of 8.5%. We arrived at a 12-month target price of TL20.90/share for MLP, implying 56% upside potential on current levels. D scounted cash flow project ons WACC Assumptions (%) 2018E 2019E 2020E 2021E 2022E TL Risk-free Rate (RFR) 13.0% 13.0% 13.0% 13.0% 13.0% Risk Premium 5.5% 5.5% 5.5% 5.5% 5.5% Cost of Equity 18.5% 18.5% 18.5% 18.5% 18.5% Cost of Debt 13.3% 13.3% 13.3% 13.3% 13.3% Tax Rate* 22.0% 22.0% 22.0% 22.0% 22.0% Weight - Equity 40.0% 40.0% 40.0% 40.0% 40.0% Weight - Debt 60.0% 60.0% 60.0% 60.0% 60.0% WACC 15.4% 15.4% 15.4% 15.4% 15.4% Source: Garant Secur t es est mates *tax rate has been temporar ly h ked for , however, we have conservat vely kept the rate unchanged n our project on hor zon Free Cash Flow Projections (TLmn) 2018E 2019E 2020E 2021E 2022E Revenue 3,140 3,775 4,419 5,125 5,895 EBIT Adjusted taxes NOPLAT Depr & other non-cash charges Gross Cash Flow Working Capital Change (-) Capital Expenditures (-) Gross Investment Free Cash Flow Assumptions (%) 2018E 2019E 2020E 2021E 2022E Sales grow th 21.9% 20.2% 17.1% 16.0% 15.0% Gross margin 16.3% 18.3% 19.2% 19.8% 20.0% EBITDA margin 14.2% 15.9% 16.6% 17.1% 17.2% Operating margin 8.0% 10.2% 11.2% 11.9% 12.0% Change in Working Capital/Sales 3.9% 1.9% 1.3% 1.2% 1.1% Capex/sales 6.2% 5.9% 5.7% 5.6% 5.5% Source: Garant Secur t es est mates DCF Sensivity mth Target Price per share (TL) Perpetuity Growth Rate 7.5% 8.5% 9.5% WACC - 1% WACC WACC + 1% Source: Garant Secur t es est mates 50

51 Valuation Summary (TLmn) PV of FCF 909 Terminal Grow th 8.5% PV of Terminal Value 3769 Adj. Net Debt /(cash) 929 Minorities 80 12M Target Mcap 4348 Mcap 2796 Upside/(dow nside) 56% Source: Garant Secur t es est mates The key assumptions in our valuation are listed below: Revenues: We predict that MLP will attain a E revenue CAGR of 17%. We expect inpatient and outpatient numbers to grow by a CAGR of 5% and 10% during the same period, while our average revenue per bed has exhibited a 9% CAGR. We include two new hospitals with 500 beds every year. EBITDA margin: We conservatively believe that the EBITDA margin will remain at the same level annually at 14% in 2018 then rise to 15.9% in 2019 in tandem with the matured hospitals and will normalize at around 17% in E. Working capital: We calculate that the company s working capital cycle was 5% of sales in We conservatively project a gradual increase in the ratio reaching 9% in E after 8% in Capital expenditures: We expect 3% of sales as maintenance and TL45mn for an investment in a new hospital with 250 beds. Accordingly, our projections suggest an annual capex of approximately 5.5-6% of sales on average during our forecast horizon. 51

52 Peer Comparison We tabulate below hospital operators multiples to provide a perspective as to where MLP stands vis-à-vis its international peers. On the international front, MLP trades at a substantial discount to peers both on EV/EBITDA and P/E terms even though it offers stronger earnings growth prospects. International comparison Company Market Revenue CAGR EBITDA CAGR Earnings CAGR EV/Sales EV/EBITDA P/E EBITDA Margin (%) Name Currency Cap (m) E (%) E (%) E (%) 2018E 2019E 2018E 2019E 2018E 2019E 2018E 2019E Emerging Markets South Africa Life care ZAR 39, Netcare ZAR 43, Asia Pacific/Middle East Bangkok Dusit Medical THB 387, Bumrungrad International THB 139, IHH care MYR 49, Apollo Hospital INR 141, n.a KPJ healthcare MYR 4, NMC health AED 35, Developed Markets North America Community Systems, Inc. USD HCA Holdings Inc. USD 36, Lifepoint Hospitals USD 2, Acadia care Co. USD 3, Europe Biomerieux SA EUR 9, Austrialia scope AUD 3, Japara care AUD Ramsay Care AUD 11, Monash IVF AUD M LP TRY % 0% n.m Prem/(disc) to South Africa -47% -55% -21% -39% -8% -58% Prem/(disc) to Asia Pacific/M iddle East -77% -80% -62% -70% -54% -79% Prem/(disc) to North America -24% -37% 1% -27% 60% -36% Prem/(disc) to Europe -70% -74% -56% -65% -53% -79% Prem/(disc) to Austrialia -36% -45% -29% -45% -10% -62% Prem/(disc) to Emerging M arkets -75% -79% -60% -69% -52% -78% Prem/(disc) to Developed M arkets -39% -49% -21% -40% 6% -56% Source: Bloomberg, Garanti Securties 52

53 COMPANY OVERVIEW MLP, founded in 1993, maintains its strong growth trajectory with the Liv Hospital, VM Medical Park and Medical Park brands. Today, MLP Care is the largest private healthcare group, continuing its operations in 31 hospitals with more than 5,330 beds in 17 cities in Turkey. The company served 5.5mn patients (0.7mn inpatient + 4.8mn outpatient). # of hospitals Source: MLP The company s highly centralized business model supports hospital field operations and central management. MLP has a nationwide network that spans the most populated cities in Turkey. It is a private company with the highest number of beds in almost every city where it operates. 40% of the company s total number of beds are in Istanbul, which is the most attractive market in Turkey. MLP Care network (# of hosp tals and locat ons) Source: MLP presentation 53

54 Key Milestones 1993: Founders Muharrem Usta and Adem Elbasi opened the Sultangazi Hospital in Istanbul. 1995: Istanbul Fatih Hospital was opened. 2005: MLP was incorporated by founders Muharrem Usta and Adem Elbasi together with the Sancak Group on a 50/50 ownership basis, thereby consolidating the two hospitals Sultangazi Hospital and Istanbul Fatih Hospital under one company : Bursa VM Hospital (2006), Istanbul Bahcelievler Hospital (2007), Antalya Hospital (2008), Gaziantep Hospital (2008) and Istanbul Goztepe Hospital (2008) were opened. Batman Hospital (2007), Elazig Hospital (2007) and Tokat Hospital (2007) were acquired. 2009: A 40% stake in the company s share capital was acquired by Summer Investment S.A.R.L., an entity controlled by The Carlyle Group : Ordu Hosp tal (2009), Samsun Hosp tal (2009), Gebze Hosp tal (2011), Tarsus Hosp tal (2011) and the Izm r Hosp tal (2011) were opened. The Usak Hosp tal (2010) was acqu red. 2013: Liv Hospital Ulus was opened, the first hospital under the Liv premium concept. 2014: Sale of The Carlyle Group s stake to funds advised by Turk Ventures Advisory Limited, which acquired an aggregate 53.35% stake (via a share sale and share capital increase) of the company through companies established for this purpose, namely Lightyear (acquiring 47.22%) and Hujori (acquiring 6.13%). Trabzon Yildizli Hospital and Trabzon Karadeniz Hospital were acquired. In addition, Istanbul Silivri Hospital, Eregli Hospital, Canakkale Hospital and Istanbul Avcilar Hospital were acquired from the Arkaz Group. Ankara Liv Hospital and Ankara MP Hospital were opened. 2015: Kocaeli VM Hospital, the first hospital managed under the VM Medical concept and Istanbul Gaziosmanpasa Hospital were opened. 2016: Istanbul Istinye University Hospital commenced operations pursuant to a management contract. 2017: Istanbul Aydin University Hospital started operations pursuant to a management contract. Samsun Liv Hospital was opened. 2018: VM Medical Park Pendik and VM Medical Park Mersin opened 54

55 Brands: MLP provides its services under three different concepts and three different pricing strategies in Turkey. This approach enables the Company to target diverse segments of the population. The Company s three concepts are the Medical Park, VM Medical Park and Liv Hospital. Medical Park 22 Hospitals The first concept introduced by the Company for the upper segment, Medical Park, operates in line with the motto of for Everyone. It is mainly aimed at patients covered by SSI (Social Security Institution) health insurance, who can afford co-payments in addition to that made by SSI for treatment. Currently, 22 of the Company s hospitals operate under this concept. VM Medical Park 13 Hospitals Taking its name from the phrase Value Added Medicine, the VM Medical Park concept was launched in This concept targets patients in higher income groups relying on private health insurance and self-pay patients willing to pay higher prices for high quality services. Under the VM Medical Park brand, the Company provides a higher quality of services in terms of advanced medical technology and equipment, highcalibre physicians, more nursing and administrative staff per patient, an elevated contemporary décor and in-patient suites. The Company operates pure VM Medical Park concept hospitals in Kocaeli and Bursa in addition to the VM Medical Park sections in some Medical Park hospitals such as Goztepe and Bahcelievler. As of end-2017, 15 of the Company s hospitals operate under this concept. Liv Hospital 3 Hospitals Launched in 2013, the Liv concept is the Company s premium segment service. Liv takes its name from the acronym for Leading International Vision. This concept targets the premium segment, consisting mainly of self-pay patients or patients who have private health insurance and are willing to pay more for VIP service. Liv delivers a higher level of comfort and hospitality services in terms of more staff per patient and the latest inroom technology. The Company operates three hospitals under the Liv concept exclusively: Istanbul Ulus, Ankara Cankaya and Samsun Liv. Some of the VM Medical Park hospitals and operated university hospitals have Liv sections. Managed Hospitals Two private medical faculties In addition to the 27 company-owned and operated hospitals, MLP Care also provides management services under a contract to two private medical school hospitals: Istanbul Aydin University Hospital and Istanbul Istinye University Hospital. These two hospitals are owned by their respective universities, but are operated under the MLP Care brands and concepts. Thus, they are included in the Company portfolio. MLP Care does not own these hospitals, but is responsible for their set up and operation pursuant to long-term service contracts. In return, the Company receives a share from the hospitals annual revenues and profit. 55

56 Types of Hospitals On average, hospitals take three years to reach maturity depending on their size. Hence, they are divided into two: Mature Hospitals: Hospitals opened, acquired and integrated into the IT system prior to 2015 Developing Hospitals: Hospitals opened, acquired and integrated into the IT system after 2015 In addition, MLP Care provides consultancy services at two hospitals: Mature Hospitals: The company and its affiliates operate 18 mature hospitals with 3,344 beds. In 2017, the average utilization rate in mature hospitals reached 73.4%. Developing Hospitals: The company and its affiliates operate nine developing hospitals with 1,386 beds. In 2017, the average utilization rate in developing hospitals reached 57.5%. Breakdown of Beds-2017 Revenue Breakdown % Other Ancilliary Business, 7% Developing Hospitals, 16% 26% Mature Hospitals, 18 Developing Hospitals, 9 Managed Hospitals, 2 67% Mature Hospitals, 77% Source: MLP presentation Mature Hospitals-Revenue (mn TL) / Growth (%) 14% 8% 17% Mature Hospitals-Contribution (mn TL) / Margin (%) 18.4% 17.5% 18.8% 19.7% Source: MLP presentation 56