Path Labs Were Hammered. Now They're Making a Comeback.

Shares of diagnostic and pharma companies are in the limelight once again. The coronavirus is back after all.

Just when the number of cases were down to the minimum and economies around the world staged a recovery, the virus has reared its head again in the very country in which it was identified.

According to a recent article in Bloomberg, nearly 37 million (m) people in China may have been infected with Covid-19 on a single day. This time the culprit is the BF.7 variant, making the country's outbreak by far the world's largest.

The situation is also escalating around the world. There is a sudden spurt in Covid-19 cases in Japan, US, Korea, and Brazil as well.

What about India?

Though the 7-day average of new Covid-19 cases in India is 172, the number could go up if precautions are not taken.

Last week, Prime Minister Modi advised states to audit Covid-specific facilities to ensure operational readiness of hospital infrastructure, including oxygen cylinders, PSA plants, ventilators, and human resources.

Union health secretary Rajesh Bhushan also emphasised the need for testing.

What does this mean for the diagnostics sector?

While rising Covid-19 cases are a cause for concern, they suggest an increase in revenue for pharma and diagnostics companies.

This could ail diagnostic stocks in a big way. Allow us to explain...

The Covid-19 pandemic led to a huge disruption in diagnostics and healthcare services. Pandemic norms like lockdowns and social distancing triggered a change in consumer mindsets.

The change in consumer mindset gave way to the increasing demand for home tests vis-a-vis lab walk-ins, with the sector witnessing a 70% YoY growth in during the pandemic.

Post the lockdown in March 2020, shares of diagnostic companies were on an uptrend as testing for the Coronavirus was in full swing.

Dr Lal Pathlabs shares rose more than 190% from March 2020 to September 2021, while Metropolis shares rose around 120% from March 2020 to December 2021.

The contribution of Covid tests to the overall revenue was also at its peak during the second wave of Covid-19

Covid and Allied contributed 36.4% to the total revenue of Dr Lal Pathlabs in the June 2021 quarter with 11.4 lakh RTPCR tests. Metropolis also saw a 147% jump in number of tests sold at 6.5 m.

However, post the September 2021 quarter, the contribution of Covid-19 testing to overall revenue tapered as the number of infections started declining. In fact, in the September 2022 quarter, the contribution of covid and allied business to total revenue of these companies was at its lowest.

For Dr Lal Path Labs, the Covid and allied segment saw revenues fell 61.3% YoY. It contributed only 3.7% to the overall revenue.

Metropolis also saw an 84% YoY decline in revenue from Covid-19 tests and 48% YoY decline in Covid allied services.

Consequently, shares of diagnostic companies lost momentum.

Tide turns for diagnostic companies

With the increased emphasis on testing by the government, shares of diagnostic companies have seen a jump. The near-term outlook for diagnostic stocks is also expected to be positive.

The trend of governments and corporates liaising with pan India diagnostic chains is a trend that is expected to continue. Also, embracing technology and automation is helping diagnostic chains to better leverage growth.

For long term investors, there is a silver lining.

Listed diagnostic companies are also benefitting from the shift from the unorganised to the organised sector.

Diagnostic Sector Continues to Remain Largely Unorganised

Also, consolidation continues, and companies are expanding their reach and regional presence through organic and inorganic routes.

It all began last year when PharmEasy announced the acquisition of Thyrocare. In October 2021, Dr Lal Pathlabs bought Suburban Diagnostics in an all-cash deal.

Metropolis Healthcare too acquired Dr Ganesan's Hitech Diagnostic Centre (Hitech) along with its subsidiary Centralab Healthcare Services (Centralab) in the same month.

Diagnostic chains have also used the opportunity to strengthen the business during the crisis. They have increased their focus on the non-Covid segment to fortify the product pipeline and offer better customer experience.

Dr Lal Pathlabs recently launched its latest Center of Excellence L-CORD.

L-CORD stands for Dr Lal PathLabs Center of Excellence for Reproductive Diagnostics. The company's mission via the Center of Excellence at LPL is to improve the medical outcomes in infertility, pregnancy and new-borns.

Firms have also taken a price hike. The trend of rising prices is likely to continue providing some respite to price pressures in the industry.

This bodes extremely well for the sector.

How diagnostic stocks have performed recently

Reacting to the news of rising Covid-19 cases, shares of Dr Lal PathLabs, Metropolis Healthcare, Vijaya Diagnostic Centre, Thyrocare Technologies, and Krsnaa Diagnostics rallied up to 6% in early trade on 21 December 2022, as investors bet high on these stocks amid brighter prospects.

Among diagnostics companies, Vijaya Diagnostic Centre topped the chart by rising as much as 8.4% It was followed by Dr. Lal PathLabs, which jumped 6.4%, while Metropolis Healthcare share price gained 4.4%.

The share price of Thyrocare Technologies also soared 3.3%.

However, on a year-to-date basis, shares of Dr Lal PathLabs are now down over 40% while stock prices of Metropolis Healthcare and Vijaya Diagnostic Centre have tumbled over 60% and 25% during the same period, respectively. Thyrocare Technologies shares also dropped 40% in 2022.

To conclude

The diagnostics industry in India is tempting some of the biggest names in the industry and for good reason.

Adani recently announced its entry into healthcare and diagnostics by setting up a subsidiary, Adani Health Ventures. Motilal Oswal's private equity fund also agreed to invest up to Rs 1.9 billion (bn) in Mankind Pharma-backed Pathkind Diagnostics.

Riding the IPO wave is Neuberg Diagnostics, one of India's top pathology laboratory chains, with more than 150 laboratories and over 2,000 collection centres. The company plans to raise Rs 15 bn through an initial public offering to expand its operations in India and abroad.

However, note that stock markets could be under pressure going forward, as the US Fed raises interest rates. So, before investing in any stock, make sure to do your homework. Sustained research must not be compromised despite the positive odds.

Disclaimer: This article is for information purposes only. It is not a stock recommendation and should not be treated as such. Learn more about our recommendation services here...