The key message in the conference call was a recovery at Apollo will take at least couple of quarters and even then FY19 margins in the mature hospital will be lower than historical margins. This implies the impact of higher competition which has constrained Apollo’s ability to increase prices and offset increasing costs. Near-term results will be hurt by higher-than-expected impact from price cap on stents. Apollo initially expected to offset the impact in six months but now guides for a year. Further, the government today, has announced price caps on knee replacement caps and it will further impact profits.
Further delay in recovery comes from volume growth in Chennai cluster may remain low as Apollo is renegotiating contracts with low paying corporates, AHLL breakeven likely being pushed out by a year, slower revenue growth, lower utilisation at Gleneagles should continue for more quarters. Positive was a 3% price increase taken in Chennai main hospital which should stem further margin erosion. We factor in lower margins and cut FY18/19 EPS by 28/18% and cut TP to Rs 1,075.
Existing hospital margins for Apollo were weak and have dropped to a low level of 20.1%. Margins were impacted due to “guarantee-money” paid to doctors, 100 bp, higher stent prices impacted margins, 30 bp q-o-q and once in three years wage settlement for blue collar workers by 25-30%. Stent price impact has been more than previously guided by Apollo, Rs 80-100 million for Q1FY18 vs Rs 50 mn guided in the Q418 earnings call and now will take about a year’s time to recoup vs earlier expectation of six months.
Management guided for FY19 existing hospital margins to improve to 22-23% as “guarantee’money” doctors start contributing and revenue growth leads to operating leverage kicking-in. Chennai cluster has seen a very modest recovery with in-patient volume growth of only 1% y-o-y and 1% q-o-q. Chennai main hospital growth was strong at 6% y-o-y. Volumes were impacted due to renegotiations of contracts with corporates (account for 15% of volumes) – this is likely to take two-three quarters to resolve, volumes at Vanagram were impacted as couple of doctors went on leave and volumes at Chennai OMR hospital were impacted due to poaching of a key gynaecologist.