Investors in the health-care sector have been spooked. A court battle over medicine pricing regulations, driven by pharmacy and retail group NuClicks and hospital group Netcare, is likely to be followed by more moves by government to bring down prices this year. This will focus attention on costs in the hospital sector.
Hospital groups Afrox Healthcare (Ahealth), Netcare and Medi-Clinic will increasingly be under the watchful eye of the health department, but so far they've continued to earn a tidy return for shareholders. Pharmaceutical company Aspen has also been a good bet for investors.
During the past year a string of mega-empowerment deals were completed in the industry. In a deal worth R645m, Aspen Pharmacare increased its empowerment holding to 18%. In another, Mvelaphanda and Brimstone's long-awaited R3,6bn acquisition of 57% of hospital group Afrox Healthcare was finally completed and Netcare announced its proposed R1bn empowerment deal. The only big player left to announce its deal is Medi-Clinic, which is still smarting after its clash with competition authorities over its efforts to acquire some of Ahealth's most profitable beds.
The health industry continues to be a numbers game. Aspen has won many contracts to provide cheap anti-Aids drugs, including ones with government, the US President's Emergency Fund for Aids and the Clinton Foundation. That will improve economies of scale. On the hospital front, Ahealth CEO Mike Flemming says there are still about 6 000 beds available on the market, and there is strong competition between the three groups for these, especially since government's virtual freeze on certificates of need limits the opportunities for expansion. Netcare has about 7 500 beds and Medi-Clinic and Ahealth have about 6 500 beds each.
But independent stockbroker First South says that despite the risks and constraints, the health sector (dominated by the three hospital groups) earned above-average returns. First South uses a proprietary measure known as cashflow return on investment (CFROI) to calculate cash earned from a firm's operating assets - a measure of how effectively companies use their assets.
It says hospital groups showed CFROI of about 12% over the past three years, compared with about 9% for all other listed SA stocks and 19% for the top quartile of JSE stocks.
"Most investors value a company on its ability to generate cashflows, not on traditional methods of calculating accounting profits," says First South researcher Johan Bierman. However, it's the pharmaceutical sector, with a cashflow return on investment of about 25%, that is the darling of the sector. And it's Aspen Pharmacare that is getting investors excited.
Aspen listed on the JSE in 1998 at just 25c. The counter was trading in May at around R22, though First South researcher Walter Jacobs says Aspen's fair value is probably around R28,50/share.
First South says all three hospital groups achieved returns above their cost of capital, together with mostly sporadic asset growth, resulting in them all outperforming the market.
This year the council for medical schemes will conduct an investigation to see if hospitals are making "excessive" profits.
