Hopeful for Greater Traction in FY18 BUY. Last Traded: RM0.995 COMPANY UPDATE

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1 COMPANY UPDATE Wednesday, December 27, 2017 FBMKLCI: 1, Sector: Healthcare THIS REPORT IS STRICTLY FOR INTERNAL CIRCULATION ONLY* KPJ Healthcare Berhad TP: RM1.12 (+12.6%) Hopeful for Greater Traction in FY18 Last Traded: RM0.995 BUY Wilson Loo, CFA Tel: Notwithstanding competition from general practitioners and competitors newer hospitals as well as delays to the group s upcoming hospitals, we opine that supported by tie ups with corporate clients, the group s patient traffic in FY17 should at least sustain YoY. Besides, noting that the group s cost-plus pricing model is intact amidst rising cost, we have revised our FY17/FY18/FY19 earnings estimates by +10.6%/+6.7%/+3.5% to RM149.8mn/RM159.8mn/RM177.7mn on expectations for it to achieve better margins. Looking into 2018, we are hopeful for the group to achieve greater traction given upside to patient traffic from the commencement of 5 new hospitals and completion of expansion of 4 existing hospitals. We also expect the group s high gearing level to remain in check with CAPEX to be largely supported by its cash flow from operations. Maintain Buy with a TP of RM1.12/share. FY17: Patient Traffic and Profitability Should at least Sustain YoY To recap, KPJ s 9MFY17 net profit growth of 4.1% YoY was mainly driven by higher revenue per patient (outpatient +3.7% YoY, inpatient +5.4% YoY) rather than patient traffic (outpatients -0.3% YoY, inpatients +1.6%). Key contributing factors attributed to the subdued patient traffic include: 1) Poor consumer sentiment making general practitioners a more economical option as a first point of contact, 2) Competition from newer hospitals in urban areas (i.e. Columbia Asia, Gleneagles) and 3) The group s absence of new hospital openings. Indeed, FY17 will be another year since FY15 whereby the group has missed targets to extend its network as we note that KPJ Perlis which was slated to commence operations in 4QFY17 is still awaiting the green light from the Ministry of Health. Notwithstanding, we opine that FY17 s patient traffic should at least sustain with management alluding that tie ups with corporate clients are pretty much intact, continuing to account for the bulk of its revenue at about 60% to 70%. On another note, noting that the group has been able to keep its cost-plus pricing model intact amidst rising cost, we now expect the group s FY17-FY19 GP margins to be higher towards the 29%-30% range from the 28%-29% range before. Correspondingly, our FY17/FY18/FY19 earnings are revised by +10.6%/+6.7%/+3.5% to RM149.8mn/RM159.8mn/RM177.7mn. Share Information Bloomberg Code KPJ MK Stock Code 5878 Listing Main Market Share Cap (mn) 4,264.9 Market Cap (RMmn) 4, wk Hi/Lo (RM) 1.14/ mth Avg Daily Vol ('000 shrs) 2,243.2 Estimated Free Float (%) 19.4 Beta 0.4 Major Shareholders (%) Johor Corp EPF Waqaf An-Nur Corporation Bhd Forecast Revision (%) FY17 FY18 Forecast Revision (%) Net Profit (RM mn) Consensus TA/Consensus (%) Previous Rating Buy (Maintained) Financial Indicators FY17 FY18 Net gearing (x) CFPS (RM) P/CFPS (x) ROAA (%) ROAE (%) NTA/Share (RM) Price/ NTA (x) Share Performance Price Change (%) KPJ FBMKLCI 1 mth (1.5) mth (4.3) (0.2) 6 mth (5.2) (1.1) 12 mth (4.1) 8.7 (12-Mth) Share Price relative to the FBMKLCI Source: Bloomberg Page 1 of 6

2 Figure 1: Inpatient YoY Growth Figure 2: CSI 10% 8% 6% 4% 2% 0% -2% 140 KPJ IHH MFY Optimism Threshold MFY17 Source: Companies, TA Securities Source: MIER, TA Securities Hopeful for Greater Traction in FY18 We are hopeful for the group to achieve greater traction in FY18. Barring delays, we view upside to patient traffic from the commencement of 5 new hospitals (KPJ Perlis, KPJ Bandar Dato Onn, KPJ BDC, KPJ Miri and KPJ Batu Pahat) and the completion of expansion of 4 existing hospitals (KPJ Seremban, Sri Manjung, KPJ Johor and KPJ Ampang Puteri). The new hospitals will widen and extend the group s network and leadership in Malaysia from 25 hospitals and 3,052 operating beds currently as well as enable it to tap on opportunities in underserved areas. Of note, with KPJ Perlis, the group will be a step closer towards completing its footprint across Malaysia, leaving Melaka and Terengganu as the only states it has yet to penetrate. Furthermore, we imagine that the hospital could garner encouraging reception in view that it will be the first private hospital in Perlis. As for the expanded hospitals, we believe that KPJ Seremban, KPJ Johor and KPJ Ampang Puteri could ride ahead of the gestation curve given their exposure to matured areas and track record of occupancy rates of above 70%. Our base case which accounts for delays projects inpatient traffic growth for FY17/FY18/FY19 at 2.5%/3.0%/4.0%. Table 1: Expansion Plans in 2018 Hospital Location Operating Beds Opening New KPJ Perlis Perlis 60 1Q CY18 KPJ BDO Johor 90 2Q CY18 KPJ Kuching Sarawak 114 3Q CY18 KPJ Miri Sarawak 61 4Q CY18 KPJ Batu Pahat Johor 90 CY18 Sub-total 415 Expansion KPJ Seremban N. Sembilan 90 1Q CY18 Sri Manjung Perak 30 2Q CY18 KPJ Johor Johor 31 2Q CY18 KPJ Ampang Puteri Selangor 150 2Q CY18 Sub-total 301 Total New Beds 716* * The new beds will be commissioned on a progressive basis, not all at once. Source: Company, TA Securities Page 2 of 6

3 High Gearing Level Expected to Be in Check Management reiterated its CAPEX guidance for FY17-FY19 at RM250mn to RM300mn per annum, mainly to be expended for expansion of its network. And of note, this would have been higher if not for upcoming hospitals like KPJ Damansara 2, KPJ Batu Pahat and KPJ Kluang being pursued under an asset light model whereby the group will be leasing the hospitals from the developer. With expectations for FY17-FY19 s cash flow from operations to CAPEX ratio to remain above 1.0x, we expect the group s highly geared balance sheet to be in check with net gearing hovering about its latest of 0.7x as at 3QFY17. Besides, if the group intends to unwind its balance sheet, we opine that likely alternatives in FY18 include the disposal of non-core and unprofitable assets (i.e. Jeta Gardens in Australia) or the pare down of its 38% stake in Al-Aqar Healthcare REIT worth RM384.6mn. Management alluded that the sale and leaseback of its 5 newer hospitals worth RM488.0mn is unlikely in the near term as the group has yet to fully utilise their investment tax allowances. Table 2: Newer Hospitals Hospital Opened In EBITDA PBT Market Value RM (mn) KPJ Pasir Gudang May ve +ve 70.0 KPJ Sabah December ve -ve KPJ Rawang March ve -ve 80.0 KPJ Bandar Maharani June ve -ve 65.0 KPJ Pahang May ve +ve 83.0 Total Source: Company, TA Securities Enhancing Oncology Capabilities Recall that the group had in November 2017 officiated its adoption of IBM s Watson for Oncology. In a nutshell, Watson for Oncology is a renowned cognitive platform developed with Memorial Sloan Kettering Cancer Centre, a world leader in cancer treatment, which serves to assist oncologists in the delivery of improved and effective treatment options based on a patient s key medical attributes. Combined with its growing body of cancer research, patients stand to benefit from accelerated and personalised treatment. KPJ is the first hospital in Malaysia to adopt the service, which is currently available at 5 of its hospitals (KPJ Damansara, KPJ Ampang Puteri, KPJ Johor, KPJ Ipoh and KPJ Sabah). While it is rather early to ascertain reception to the group s enhanced oncology capabilities, we opine that its efforts are commendable given that cancer is the third deadliest disease in Malaysia. And encouraging for drawing patient traffic, management alluded that the group will not be passing on its cost of investment to patients. Recommendation Our TP is raised slightly to RM1.12/share (RM1.09/share previously) based on SOTP valuation. We still like the group for its market leadership and growth ambitions in Malaysia s private healthcare services space. The realisation of its on-going expansion plans will be the impetus for near-to-medium term growth. Reiterate Buy. Key risk includes delays to expansion plans and prolonged gestation of new or expanded hospitals. Page 3 of 6

4 Figure 3: Forward PER x Jan-13-1SD: 26.4x Apr-13 Jul-13 Oct-13 Average: 29.6x Jan-14 Apr-14 Jul-14 Oct-14 Source: Bloomberg, TA Securities Jan-15 Apr-15 Jul-15 Oct-15 Jan-16 Apr-16 Jul-16 Oct-16 +1SD: 32.7x Jan-17 Apr-17 Jul-17 Oct-17 Figure 4: Forward EV/EBITDA x Jan-13-1SD: 13.7x Apr-13 Jul-13 Oct-13 Jan-14 Average: 15.1x Apr-14 Jul-14 Oct-14 Source: Bloomberg, TA Securities Jan-15 Apr-15 Jul-15 Oct-15 Jan-16 Apr-16 Jul-16 Oct-16 +1SD: 16.5x Jan-17 Apr-17 Jul-17 Oct-17 Table 3: SOTP Valuation Segment Valuation Method Value (RM mn) Stake (%) Hospital Operations DCF (WACC: 8.0%, LT: 3.0%) 4, Al-Aqar Healthcare REIT Equity Market Value (RM1.39/share) ,773.2 Shares outstanding 4,254.3 Target Price/share RM1.12 Table 4: Peer Comparison Company Price TP Recomm. Country Mkt Cap EPS Growth (%) PER (x) EV/EBITDA (x) ROE (%) Dividend Yield (%) (MYR CY17 CY18 CY17 CY18 CY17 CY18 CY17 CY18 CY17 CY18 IHH Healthcare Bhd RM5.83 RM6.40 Buy Global 48, Ramsay Healthcare Ltd AUD N.R. N.R. Australia 44, Primary Healthcare Ltd AUD 3.64 N.R. N.R. Australia 5, Phoenix Healthcare Group Co Ltd HKD 9.71 N.R. N.R. Hong Kong 6, Harmonicare Medical Holdings Ltd HKD 2.92 N.R. N.R. Hong Kong 1, Apollo Hospitals Enterprise Ltd INR 1,176 N.R. N.R. India 10, Fortis Healthcare Ltd INR 151 N.R. N.R. India 4, Mitra Keluarga Karyasehat Tbk PT IDR 1,820 N.R. N.R. Indonesia 7, Siloam International Hospitals Tbk PT IDR 9,975 N.R. N.R. Indonesia 4, KPJ Healthcare Bhd RM0.995 RM1.12 Buy Malaysia 4, Ryman Healthcare Ltd NZD N.R. N.R. New Zld. 15, Bangkok Dusit Med Service THB N.R. N.R. Thailand 40, Bumrungrad Hospital Rub Co THB N.R. N.R. Thailand 17, Vibhavadi Medical Centre PCL THB 2.60 N.R. N.R. Thailand 4, Bangkok Chain Hospital PCL THB N.R. N.R. Thailand 4, Chularat Hospital PCL THB 2.14 N.R. N.R. Thailand 2, Weighted Average 30, Weighted Average Small Mkt Cap (<RM10bn) 4, Weighted Average Large Mkt Cap (>RM10bn) 36, Page 4 of 6

5 Earnings Summary P&L (RM mn') Balance Sheet (RM mn') 27-Dec-17 FYE Dec 31 FY15 FY16 FY17F FY18F FY19F FYE Dec 31 FY15 FY16 FY17F FY18F FY19F Revenue 2, , , , ,955.5 PPE 1, , , , ,235.4 Gross profit , ,145.6 Associates EBITDA Intangible assets Depr & Amor Others Finance income LT Assets 2, , , , ,300.0 Finance costs (64.2) (83.1) (85.0) (86.8) (88.6) Net finance costs (50.4) (66.8) (69.8) (71.0) (72.2) Inventories PBTZ Receivables PAT (-MI) Cash Core PAT (-MI) Others EPS (sen) ST Assets 1, , , ,210.1 DPS (sen) DPR (%) Total Assets 3, , , , ,510.1 Cash Flow (RM mn') Payables FYE Dec 31 FY15 FY16 FY17F FY18F FY19F Borrowings PBZT Others Non-cash ST Liabilities 1, , , ,194.6 Changes in WC (120.3) (194.5) (2.3) Others (57.3) (69.4) (13.1) (17.7) (25.2) Borrowings 1, , , , ,321.9 CFO Others LT Liabilities 1, , , , ,401.4 Purchase of PPE (344.6) (258.0) (301.7) (252.2) (250.8) Purchase of inv. properties (0.1) Share capital Others Treasury shares (54.8) (54.8) (54.8) (54.8) (54.8) CFI (252.1) (131.5) (261.6) (210.2) (207.4) Reserves , , , ,325.6 NCI Borrowings 1, Total Equity 1, , , , ,914.1 Repayment (915.3) (132.2) (135.5) (138.3) (141.2) Issue of shares Liabilities + Equity 3, , , , ,510.1 Interest paid (64.2) (83.1) (85.0) (86.8) (88.6) Dividends paid (83.5) (70.9) (86.0) (91.8) (102.0) Ratios Others (25.2) FYE Dec 31 FY15 FY16 FY17F FY18F FY19F CFF (85.8) (138.1) (144.9) (156.3) Valuation ratios PER (x) Net cash flow (74.1) EV/EBITDA (x) Opening cash flow Dividend yield (%) Forex (4.1) Closing cash flow Profitability ratios Gross margins (%) EBITDA margins (%) PAT margins (%) ROAA (%) ROAE (%) Leverage ratios Total liabilities/equity (x) Net debt/equity (x) Int. coverage ratio (x) Growth ratios Sales (%) Gross profit (%) EBITDA (%) PAT (-MI)(%) Page 5 of 6

6 (THIS PAGE IS INTENTIONALLY LEFT BLANK) Stock Recommendation Guideline BUY : Total return within the next 12 months exceeds required rate of return by 5%-point. HOLD : Total return within the next 12 months exceeds required rate of return by between 0-5%-point. SELL : Total return is lower than the required rate of return. Not Rated: The company is not under coverage. The report is for information only. Total Return is defined as expected share price appreciation plus gross dividend over the next 12 months. Gross dividend is excluded from total return if dividend discount model valuation is used to avoid double counting. Required Rate of Return of 7% is defined as the yield for one-year Malaysian government treasury plus assumed equity risk premium. Disclaimer The information in this report has been obtained from sources believed to be reliable. Its accuracy and/ or completeness is not guaranteed and opinions are subject to change without notice. This report is for information only and not to be construed as a solicitation for contracts. We accept no liability for any direct or indirect loss arising from the use of this document. We, our associates, directors, employees may have an interest in the securities and/or companies mentioned herein. As of Wednesday, December 27, 2017, the analyst, Wilson Loo, who prepared this report, has interest in the following securities covered in this report: (a) nil Kaladher Govindan Head of Research TA SECURITIES HOLDINGS BERHAD (14948-M) A Participating Organisation of Bursa Malaysia Securities Berhad Menara TA One 22 Jalan P. Ramlee Kuala Lumpur Malaysia Tel: Fax: Page 6 of 6