Will IPOs in Healthcare Sink or Soar?

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Updated: May 10, 2016 11:40 AM

IPOs in healthcare have gained momentum, with four players going down this route in the past few months. An analysis of the trend and its sustainability By Raelene Kambli

IPOs in healthcare have gained momentum, with four players going down this route in the past few months. An analysis of the trend and its sustainability By Raelene Kambli

201605ehm11On April 27, 2016, Thyrocare technologies’ initial public Offering (IPO) hit the capital market and got off to a good start. On the very first day, the IPO covered 55.13 per cent crossing halfway mark and garnering Rs 144 crores. Market analysts say that the IPO has attracted retail individual investors (RIIs) and Non-institutional investors  during its premiere. On the second day, the IPO got  fully subscription by receiving bids for 84.53 lakh shares against a total issue size of 75.21 lakh shares. The IPO was up for sale till April 29, 2016.

Thyrocare is the fourth consecutive IPO that has got a good ride in the stock market.

In December 2015, the Rs 638-crore Dr Lal Path Lab’s IPO made a blockbuster debut with an overall subscription of 33.41 times of the issue size in the first three days.  The company came into the market with an price band of Rs 540- 550 per share on the National Stock Exchange (NSE) and was trading at around Rs 966.80 per share (till April 25, 2016).  Narayana Hrudayalaya’s IPO, which got on to a slow start, managed to appreciate by 30 per cent by the issue closing date, resulting in the promoters’ wealth rising by nearly Rs 1,000 crore. Narayana Hrudayalaya had fixed its price band between Rs 245-250 per share and is trading at Rs 300 per share (till April 25, 2016).

This demonstrates that the stock market, even though battling with volatility, has been conducive to the growth of healthcare companies in India. It also reflects that the current IPOs in healthcare are driven by private equity players wanting to exit as most of these IPOs are structured using the offer for sale mechanism. In the case of Alkem Laboratories, a total of 18 individuals diluted their stake in the company by selling the shares as part of the IPO. Similarly, Dr Lal Pathlabs saw a few promoter entities selling their shares along with investors such as Wagner, WestBridge Crossover Fund, and Sanjeevini Investment Holdings. Meanwhile, Narayana Hrudayalaya saw JP Morgan Mauritius Holdings, among others, selling its shares to the public to make an exit from its holdings.

But  after  achieving initial success, will these IPOs continue their strong run on the stock market listing? Moreover, will this present momentum stimulate more healthcare companies to take the IPO route in 2016? What has led to the emergence of this trend?

Let’s understand how healthcare companies stand to benefit from going IPO.

Going IPO: A good move?

According to a report published by FICCI and KPMG, India’s healthcare sector is poised to grow at 16 per cent to reach $280 billion by 2020. The report also mentions that investment opportunities in the sector have increased significantly and the overall healthcare industry is expected to be one of the most attractive investment targets for private equity (PE) and venture capital (VC) companies. The growth story is  backed by innovation within the sector, corporatisation of hospitals, numerous acquisitions, expansions and partnerships, increasing focus on infrastructure, rising NCDs that leads to increased demand for specialised health services and the need to address gaps within the current healthcare system.

Going IPO can be a good option to further this growth momentum. Usually, IPOs help a company to increase its profit margins, brand building, expansion of its current business, and capturing market share. As Purvi Shah, Pharma Analyst, informs, “An IPO offer is mostly used by companies to raise capital for expansion, possibly to monetise the investments of early private investors, and to become publicly traded enterprises. A company selling shares is never required to repay the capital to its public investors. An IPO, therefore, allows a company to tap into a wide pool of potential investors to provide itself with capital for future growth (availability of cheap funds help boost profitability), repayment of debt, or working capital (strengthens balance sheet). It also helps to increase the company its exposure, prestige and build a public image or brand, which in turn helps them capture larger market share.”

On the same lines, Munish Aggarwal, Director, Equirus Capital expounds, “While over the immediate term, the IPO money has to be deployed in keeping with the objective of IPO- which may seem restrictive, over a medium to long term, public markets offer equity capital without exit related obligations which provide significantly higher flexibility to managements as compared to private capital. Being listed, the company has broader avenues to fund expansion and invest in medium to long term goals. Like for other consumer companies, the investor universe and consumer set overlap, and thus an investment in building brand for one set of audience has a rub-off effect on the other set.”

So what can be derived from the successful IPOs in the last few months?

Amit Mookim, Services Head, South Asia, IMS Health, replies, “It shows that a number of these companies have scaled and matured to a level that they can go public. It is a confirmation of a fact that healthcare can be a sustainable and scalable business in India. Further, given the recent companies going for IPOs were backed by PEs, it will also help generate funding for companies in the growth phase and vying for private equity. However, given the success of the IPOs, the valuations may rise in the short term”.

So how do investors look at the current trend?

Investors’ take

Most of the investors call healthcare a defensive bet. They are of the opinion that healthcare as a sector is recession-proof, less prone to market risk and can have long term gains. Also, there is a paucity  of listed assets in the healthcare sector. According to a leading business journal, Apollo Hospitals and Fortis Hospitals are the only large listed assets; other larger assets have stayed away from the market up till now. There are three other listed firms – Lotus Eyecare, Kovai Medical Centre and Fortis Malar but analysts are of the opinion that these companies are more micro-caps with concentrated risks which may or may not contain long term gains for the investors.

Jaya Sankar, Senior Executive Director, during the HCG’s IPO road show had spoken about the benefits of investing in healthcare stocks. He had mentioned that healthcare IPOs is a welcome trend.  Healthcare is a burgeoning sector with long term gains for investors. He also said that these healthcare companies have a very strong track record which makes reduces market risk to certain level.  Nishant Tiwary, Senior Vice President, Head of Consumer and Healthcare, Edelweiss during the Thyrocare road show also confirmed that IPOs give a good push to the sector. He finds immense potential for future growth of the sector and for healthcare companies. He reiterated the successes of the healthcare companies who have received positive results on the stock markets and said that he hoped for better prospects for companies such as Thyrocare.

This makes it certain that the healthcare IPOs get a  thumbs up so far. Yet, it is  definitely not risk-proof.

Risk factors

In an IPO, the risk is mainly borne by the investors. Which is why every red herring prospectus warns of the risks entitled to the offering and investors are therefore, urged to analyse them well. Explaining further, Aggarwal says, “Equity is inherently risky and company specific risks are something that the investors need to consider before making an investment. Specific to healthcare, the investors need to understand the capital intensity of the business – if the business is too capital intensive or making cash losses then the investment horizon has to be longer, till the business stabilises. Moreover, there may be a subsequent dilution which can impact investor returns.”

Does this mean that healthcare companies which are highly capital-intensive may not fare well in the stock market?

Well, this is an area of concern and raises doubts on the sustainability of the trend. Also, do all healthcare companies’ stocks perform well in the stock market after the issue is closed for sale? Not really.

The HCG IPO

Healthcare Global Enterprises (HCG) IPO entered the market this March with a price band of Rs 205 – Rs. 218 per equity share. On the first day, the IPO received a muted response from investors, nevertheless managed to sail through. However, currently the company’s stock have slumped(the stocks have been trading between 180-188 points in the last week of April 2016). The reason could be due to the capital-intensive nature of its business as the hospital chain caters to cancer care. Setting up a full-fledged cancer hospital of around 100-beds in a metro city could reportedly cost as much as Rs 50 crores. According to analysts, HCG’s IPO seems pricey and only long term investors with   high-risk appetite would consider bidding for the issue.

Timing is another crucial factor that determines the success of an IPO.  Just two months before HCG issued its public offering, Dr Lal’s and Narayana Hrudayalaya’s IPOs had already booked immense profits in their debut and were still ruling the healthcare stocks. This could also be a another reason for HCG’s dip currently at the stock market. Having said this, HCG still got the funds they were looking to raise  and the company is already on the expansion spree. HCG has recently launched their cancer care centre at Visakhapatnam, this April end.

As a word of advice Shah says, “How the IPO is priced matters. If the company is valued the right way, if it’s profitable and growing, then maybe the first-day price on the exchange is a good one”. She adds, “We feel that there is still money to be made in IPOs, but the focus has to be shifted from the quick buck to the long-term outlook. And when it comes to healthcare sector, the investment horizon has to be long term given the nature of business which involves innovation, research and development and patents.”

Pointing out common mistakes that companies commit while going IPO, Aggarwal cautions, “Shift from a closed shareholder group to a listed company is an important transition. At times the company and the promoters are not prepared to cede their hegemony over the operations of the company – something that having minority shareholders requires. Companies that don’t see minority shareholders as partners in company’s growth with proportional ownership and rights, tend to suffer in the medium to long term. Also, over commitments made at the time of IPO, coupled with under-delivery can erode long-term investor interest in the company.”

Dealing with market conditions

With all the pros and cons of taking the IPO route one should also pay heed to market conditions especially, when volatility is depreciating stocks of many industries. “Market conditions do tend to impact IPOs, but IPOs of companies with strong proven track records, good corporate governance and management and good future prospects have been rewarded well by the markets even in weak conditions”, opines Shah.

Meanwhile, the entire IPO buzz has also caused market valuations of some healthcare companies to shoot up. Lately, a business news daily reported that  the sale of 34 per cent stake held by PE investors in SRL Diagnostics, has attracted many large funds in the backdrop of the successful IPO floated by Dr Lal PathLabs. According to this report, fund managers who are in discussions to acquire a stake in SRL, say that the valuation of SRL is too high in comparison to its peers. SRL Diagnostics with a Rs 180 crore EBITDA (earnings before interest, taxes, depreciation and amortisation) is looking for a valuation of 20-22 times EBITDA, as compared to 13-14 times from its earlier valuation.

This also indicates that these healthcare IPOs are also set to disturb the current investment scenario within the sector, with for reaching impacts.

Moving forward

It seems that the IPO fever has caught on and more healthcare companies are gearing to take this path. Next in line, is New Delhi Centre for Sight and VLCC. They have already filed the Draft Red Herring Prospectus (DRHP) and received SEBI approval for the same. Reportedly, both these transactions should hit the market in next six months. Additionally, Aster DM Healthcare is also mulling about going IPO.  However, when contacted, the company choose to not comment on this development. An industry source informed that Aster’s IPO may hit the market this year itself.

Therefore, it’s certain that the heat is on and healthcare companies are geared to take the plunge into the stock market world. But, it’s imperative to have cautious approach. It might serve to remember, that the successes enjoyed by Dr Lal’s, Narayana Hrudayalaya, Thyrocare and so on is because there was a paucity of healthcare stocks in the market for a long time. The moment the number of healthcare companies trading at the capital market increases, investors will get more finicky with their choice of investments. Also, increased number of stock competing in the same market can drive down sales of shares, in turn leading to low share prices of healthcare assets in the stock market.

Moreover, IPOs certainly provide quick money to those companies seeking to have huge expansions. It also helps the brand building; however,  with a brand image comes the need to have  brand equity.

Therefore, healthcare companies seeking to go IPO need to take stock of their business models, financial stability and stay focussed on long term gains.

For those who wish to rethink on IPO, opt for other strategies to provide profitable exists to your PE investors. Aggarwal suggests that a sale of the investment by the PE fund to another PE fund or a strategic sale of the business can be another option if a company does not want to enter the stock market.

Above all, the changing  environment within the healthcare sector has made it essential for every  organisation  to have a sound business model which will propel sustainable development.

raelene.kambli@expressindia.com

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