Silverlining beyond short-term

Two issues surfaced in this result announcement. Salary increases appear to be a trend while hiccups in approvals in the new Orchard Specialist Centre were a surprise. We believe the stage is still set for operating efficiency that can come forth with these factors addressed.

3Q12 result was 10% below our expectation with 3Q12 and 9M12 EPS forming 21% and 60% of our previous FY12 forecasts, respectively. FY12-14 EPS estimates are cut by 2-10% for new staff cost adjustments. Still based on 22x P/E (mid-cycle valuations), our target price rolled over to FY14 is higher. Outperform as operating efficiency resume.

Staff cost hikes in play

The slowdown in profit growth was due to the rampant increase in costs, rather than stagnating in revenue. Revenue showed healthy growth of 14% yoy to S$78.7m in 3Q12. Staff costs (+16.8% yoy) was the culprit in this result. The group is merely keeping pace with industry-wide salary increments and staff recruitment to meet its business expansion. In spite of that, EBIT did not suffer but grew 4.4% yoy to S$15m, with the EBIT margin stable at 19.2%.

But operation efficiency would resume

Staff currently deployed at the Singapore Prisons will be redeployed in the new year to other parts of the group as well as to new clinics and services that will be opened in 2013, thereby suggesting that there will be a slowdown in new hiring, reversing the trend of continuous salary increases. Operating efficiency should follow.

Bideford still on for 2013

The application for the change of use of the commercial podium at 30 Bideford Road for medical clinics has not been successful. Management assured us that the group will work with the relevant authorities to amend its plans so as to accommodate such concerns and the resubmission will come forth shortly. Our belief is that clinical operations would still commence sometime in the later part of 1H13, if not early-2H13.

Under-catering for growth

Below expectations. 3Q12 results were slightly below expectations as profit was hampered by cost pressure, especially on the wage front. There were also hiccups on the capacity expansion plans. While revenue growth is still strong currently, the delay is a worry, given that RMG is nearing its capacity limitations in its current single hospital.

Cost pressure resulted in slow profit growth. Despite healthy revenue growth of 14% for the quarter, bottomline was up only 7%, which is a similar trend for 9M12 figures. The main culprit was staff cost, which was up 17%. This is a crucial cost line, which historically made up almost 50% of revenue. There were two factors 1) New staff hired in anticipation of business in the new Thongsia Building 2) An impending 8-10% industry-wide adjustment for nursing and auxiliary staff in Singapore this year. There were also higher expenses generally across the board, such as purchased services and consumables.

Revenue growth remains strong. Both the hospital services and healthcare services (mainly clinics) showed similar growth. Management shared that the 15% growth for hospital services was driven equally by higher pricing and volume. We understand that in terms of pricing, public hospitals have recently caught up with RMG, hence management’s belief that there is pricing upside to mitigate cost increases going forward.

First application to convert Thongsia Building unsuccessful. The application for converting this building, which was purchased for SGD92m in 2011, has not been successful, presumably due to traffic concerns, although earlier discussions with Ministry of Health went smoothly. Management is still optimistic that operations will commence there by 2H13, and has prepared for a second application.

Conservative stance may now scupper growth. The delays at Thongsia Building (especially if 2nd application fails) and capacity expansion at Raffles Hospital imply management may have under-catered for volume growth. This may scupper profit growth going forward, which would result in a possible de-rating of the stock. We maintain HOLD, with a TP of SGD2.55, pegged to 22x FY13F PER.