Valuation gap has closed

• Raffles Medical reported a 14.9% YoY increase in 2Q12 revenue to SGD76.9m while corresponding net profit rose by 6.9% YoY to reach SGD12.4m. Results were within our expectations with 1H12 net profit making up 44% of our FY12F forecast. The company also declared an interim dividend of 1.0 cents per share.

• As expected, the company experienced margin compression due to higher staff cost, following wage and headcount increases. However, Raffles Medical has the capacity to raise pricing and we expect it to do so in the following quarters, which would mitigate the effects of the higher staff cost.

• We previously highlighted the deep valuation discount between Raffles Medical and its peers. Given the 18% surge in share price after our last BUY call, the valuation gap has now closed. While we maintain our SGD2.71 DCF-based target price, we downgrade the stock to a HOLD given that potential upside is now 5%. Implied FY12F/13F PERs based on our target price are 26.7x and 23.3x respectively.

Valuation gap has closed

• Raffles Medical reported a 14.9% YoY increase in 2Q12 revenue to SGD76.9m while corresponding net profit rose by 6.9% YoY to reach SGD12.4m. Results were within our expectations with 1H12 net profit making up 44% of our FY12F forecast. The company also declared an interim dividend of 1.0 cents per share.

• As expected, the company experienced margin compression due to higher staff cost, following wage and headcount increases. However, Raffles Medical has the capacity to raise pricing and we expect it to do so in the following quarters, which would mitigate the effects of the higher staff cost.

• We previously highlighted the deep valuation discount between Raffles Medical and its peers. Given the 18% surge in share price after our last BUY call, the valuation gap has now closed. While we maintain our SGD2.71 DCF-based target price, we downgrade the stock to a HOLD given that potential upside is now 5%. Implied FY12F/13F PERs based on our target price are 26.7x and 23.3x respectively.

Valuations appear rich

Raffles Medical achieved PATMI of S$12.4m for 2Q12 (+6.8% YoY), as revenue grew 14.9% YoY. The results were in line with expectations. Revenue growth was boosted by an increase in both patient volume and revenue intensity. Staff cost was higher as expected, as Raffles Medical hired more staff in preparation for operations at Thong Sia to begin in mid-2013. Management remains confident that it would be able to maintain its dividends (4.0 S¢/share in FY11). We remain optimistic of Raffles Medical’s outlook, with growth drivers coming from its Specialist Centre @ Thong Sia and its hospital extension in FY14. We have tweaked our FY12 earnings estimate to S$55.9 (previously S$55.2m), as Raffles Medical revises its charges and patient volumes remain healthy. Our DCF-based TP has been raised slightly to S$2.72 (previously S$2.67). The stock has rallied 18% in recent weeks, on the impending listing of IHH Healthcare, and is now trading at a P/E of 25x FY12F earnings (vs historical PE band of 18x – 26x). Downgrade to NEUTRAL.

Room to raise fees and grow revenue. Besides hiring more staff, management also recently adjusted the salaries of its doctors, contributing to 19.1% YoY higher staff costs. As a result, 2Q12 EBIT margins were slightly lower at 19% (vs 21% in 2Q11). Management expects to be able to recover this cost, as it progressively raises its charges. Its price point is currently closer to what the public hospitals are charging, and ~20% below that of its competitors (historically ~10% lower), which gives Raffles Medical room to grow its revenue further.

Growth drivers expected from 2014. Once its 102,480 sq ft hospital extension and the Specialist Medical Centre fully come on stream (expected in FY14), Raffles Medical would be able to expand its range of healthcare services and further drive growth.

Strong balance sheet. Raffles Medical has a net cash balance of S$63.9m or 11.7 S¢/share as at 2Q12, helped by its stable cash flows from operations.

Valuations appear rich

Raffles Medical achieved PATMI of S$12.4m for 2Q12 (+6.8% YoY), as revenue grew 14.9% YoY. The results were in line with expectations. Revenue growth was boosted by an increase in both patient volume and revenue intensity. Staff cost was higher as expected, as Raffles Medical hired more staff in preparation for operations at Thong Sia to begin in mid-2013. Management remains confident that it would be able to maintain its dividends (4.0 S¢/share in FY11). We remain optimistic of Raffles Medical’s outlook, with growth drivers coming from its Specialist Centre @ Thong Sia and its hospital extension in FY14. We have tweaked our FY12 earnings estimate to S$55.9 (previously S$55.2m), as Raffles Medical revises its charges and patient volumes remain healthy. Our DCF-based TP has been raised slightly to S$2.72 (previously S$2.67). The stock has rallied 18% in recent weeks, on the impending listing of IHH Healthcare, and is now trading at a P/E of 25x FY12F earnings (vs historical PE band of 18x – 26x). Downgrade to NEUTRAL.

Room to raise fees and grow revenue. Besides hiring more staff, management also recently adjusted the salaries of its doctors, contributing to 19.1% YoY higher staff costs. As a result, 2Q12 EBIT margins were slightly lower at 19% (vs 21% in 2Q11). Management expects to be able to recover this cost, as it progressively raises its charges. Its price point is currently closer to what the public hospitals are charging, and ~20% below that of its competitors (historically ~10% lower), which gives Raffles Medical room to grow its revenue further.

Growth drivers expected from 2014. Once its 102,480 sq ft hospital extension and the Specialist Medical Centre fully come on stream (expected in FY14), Raffles Medical would be able to expand its range of healthcare services and further drive growth.

Strong balance sheet. Raffles Medical has a net cash balance of S$63.9m or 11.7 S¢/share as at 2Q12, helped by its stable cash flows from operations.

Downgrading to HOLD

● 2Q12 PATMI of S$12.4m (+7% YoY)

● 1 S cent/share interim dividend

● Upside likely limited after recent share price surge

2Q12 revenue in line but PATMI misses slightly

Raffles Medical Group (RMG) reported its 2Q12 results with revenue within our expectations but PATMI was slightly below due to higher-than-expected operating expenses. Revenue rose 14.9% YoY and 5.5% QoQ to S$76.9m. PATMI was up 6.8% YoY and 6.9% QoQ to S$12.4m. Topline growth was driven by both its Hospital Services and Healthcare Services divisions, which increased 19.1% and 9.1% YoY, respectively. For 1H12, revenue jumped 14.0% to S$149.9m, forming 48.0% of our full-year estimates; while PATMI increased 8.7% to S$24.0m, or 42.8% of our FY12 forecast. 2H is typically a seasonally stronger half for RMG, and we expect this trend to be maintained in FY12. An interim dividend of 1 S cent/share was declared (payable on 31 Aug 2012), similar to 1H11 and is in line with our expectations.

Cost pressures higher-than-expected

Staff costs grew 19.1% YoY on the back of salary increments and a 14% increase in headcount in anticipation of its expanded operations. The former was in line with industry-wide wage adjustments. The group also incurred higher operating lease expenses (+23.6% YoY) and inventories and consumables costs (+23.1% YoY) which rose faster than revenue growth. As a result, RMG’s net margin eased from 17.4% in 2Q11 to 16.1% in 2Q12.

Growth still expected, but downgrade to HOLD

RMG’s share price has accelerated 16.7% since the start of July (+21.7% YTD), far outpacing that of the broader market (+3.6%). We believe this has been buoyed largely by positive sentiment from the impending dual-listing of IHH Healthcare Berhad; although the group’s defensive earnings quality has also found flavor amongst investors given the still-volatile macroeconomic landscape. We maintain our revenue projections but adjust our PATMI estimates downwards by 4.2% for FY12 and 3.0% for FY13 on lower margin assumptions.

This correspondingly decreases our fair value estimate from S$2.73 to S$2.63 (24x blended FY12/13F EPS). While we expect RMG’s earnings growth to remain fairly resilient despite cost pressures, we see limited upside from current price level. Downgrade RMG from Buy to HOLD.