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Apollo Hospitals: Furious expansion on all sides - Outside View by Luke Verghese
 
 
Apollo Hospitals: Furious expansion on all sides

Creating wealth for itself

If there is one message that Apollo Hospitals sends out loud and clear it is that a medical care services company can create wealth for itself, and riches for its shareholders, by tending to the sick and the needy, in an ethical manner. And after smelling blood, it is now expanding furiously in every which side of medical care. What really helps here is that it also makes do with some superb funds management skills, which goes a long way in getting the numbers right. But the massive investments in the last two years, both in gross block additions, and in investments in the equity of group companies, may put some pressure on its resources in the short term. Helping Dr Pratap Reddy, the Chairman of the Board, create the wealth are his four offspring on the distaff side. Between the fivesome, they collectively drew a remuneration of Rs 194 m in FY10, for rendering their value added services.

Knowing a good thing or two well in advance, the Chairman also upped his stake in the company during the year by acquiring 1.5 m additional shares by exercising the conversion option on preferential warrants at a price of Rs 497 per share. The whole exercise has cost him a cool Rs 771 m. At year end, the promoters controlled 33.5 % of the total voting capital of Rs 617.8 m in the company. But, curiously, foreign bodies control another 21.4% of the company's equity. And, more importantly, foreign Institutional Investors hold a very impressive 24% stake. In all possibility, the promoters can always depend on the stake holding of the 'foreign bodies' to keep their flock together.

High capex, long gestation industry

The medical care sector like the hospitality sector suffers from the twin issues of high capex and long gestation periods. Add to this the high operating costs, and the insurance costs, and it is not exactly the glam sector that one wants to venture into. It took Apollo Hospitals years of endeavour to find its feet. But 29 years after the seeds were first sown; the company is now on song, and firing on all cylinders. Between FY09 and FY10 the company purchased fixed assets, including capital work in progress, of close to Rs 7.2 bn. Further it has purchased investments in subsidiaries, joint ventures, and associates to the tune of Rs 2.5 bn over the two years. It has added 6 hospitals and 166 stand alone pharmacies alone during FY10. A gross block of Rs 12.5 bn helped the company generate a turnover of Rs 18.3 bn in FY10, excluding a sizeable other income. Capex work in progress at year end stood at Rs 2.7 bn. Debt at year end was in the region of Rs 7 bn. Besides, the estimated amount of contracts to be executed on capital account and not provided for amounted to Rs 4.4 bn (Rs 5 bn.) Other income at Rs 330 m was a very healthy 15% of pre-tax profit, against Rs 224 m or 12.7% in the preceding year. The constituents of other income were a judicious mix of interest receipts, dividend income, income from treasury operations, and profit on sale of current investments and profit on sale of assets. This 'other income' should in reality be lower by Rs 21 m (Rs 6 m ) as the loss on sale of assets, and the loss on sale of current investments are debited separately under the heading of 'Administration and other expenses'! Thankfully, it is also one of the few companies out of the lot surveyed so far with no book entry figures in the other income agglomeration of the P&L account.

The company on song

Starting with a 150 bed hospital in 1983 in Chennai, the group has grown to over 8,000 beds across 47 hospitals, along with diagnostic clinics, pharmacies, medical BPO, health insurance services and, clinical research. However the annual report mentions the names of only 23 hospitals in India, and one outside India - in Mauritius. It also lists the names of 13 Life Style Centres. The company is humungous in its scope of operations. It boasts of 10 subsidiary companies where control exists, 7 joint venture companies, 5 associates, and a stupendous 64 enterprises over which key management personnel are able to exercise significant influence. (One subsidiary, and one associate, is incorporated in the UK and Mauritius respectively.) The book value of its investment portfolio at end FY10 at Rs 4.9 bn was appreciably less than the figure of Rs 6.3 bn in the preceding year, but that was only because it sold its holdings worth Rs 2.4 bn in other debt securities to fund its cash flow requirements. In reality the book value of its holdings in group company securities rose to Rs 4.9 bn from Rs 3.9 bn in the preceding year. The book value of its investments in its subsidiaries is Rs 866 m, while the book value of its investments in its joint ventures is Rs 966 m .The balance investments are in affiliates and associates. However, in the process of reaching out thru its subsidiaries, joint ventures and affiliates, the parent may be spreading itself thin.

The point is also that the total dividend return from its long term investments totalling Rs 4.9 bn, is as yet minuscule, at Rs 26 m. Dividends from other current investments came to another Rs 94 m. It will be years before the company gets anything called a reasonable return on its outstanding portfolio. And besides, the company is expanding its portfolio by the year.

The investment schedule

The investment schedule shows up some very interesting asides about the company. For starters one schedule says that it has 10 subsidiaries where control exists, while the schedule of investments shows the company's investment in only 8 such subsidiaries. Two subsidiaries, ISIS Healthcare India and Mera Healthcare Pvt. Ltd, do not appear to figure in its investment schedule, and they may be step down subsidiaries or some such. Interestingly, the company's single biggest investment by far in any company is in Apollo Health Street, an associate of all things, which is also its BPO offshoot. The total book value of its investment, in the form of equity (Rs 1.2 bn), and debentures (Rs 589 m) together, is over Rs 1.8 bn. The shares in this associate were acquired at Rs 110 per share, or a premium of Rs 100 per share on the face value of Rs 10, for whatever reason. It is not known what percentage of the total voting capital it owns in this venture. Apparently in the eyes of the management the right way forward in medical care, is through the BPO route. For those who wish to know what this company is all about, it specialises in 'revenue cycle management'. In simple English it means that it does the back office work of admissions, billing, medical transcription and such like. Judging from the auditor's qualifications however, this company also appears to be in a serious spot of trouble.

The next biggest single investment, and which appears to figure way down the list, in terms of cash outlay, is a joint venture, Apollo Gleneagles Hospitals Ltd, in which it has a total equity stake of Rs 393 m. The company's stake represents a 50% interest in the venture. This appears to be its newly opened cancer hospital in Kolkata. But the investment which really catches the eye is in another joint venture called Aollo Lavasa Healthcare Corporation (or is it Apollo Lavasa?) with an equity outlay of Rs 50 m, or a per share acquisition price of Rs 1,000 on a face value of Rs 10 per share. What was the need to dish out such a freaking premium on the face value for a brand new hospital? And what pray does this worthy do? It is a 100 bed facility wellness and rejuvenation destination at Davse, Lavasa, in India's biggest planned township. With the presumed fees that it charges, nirvana must be only a short distance away. What is particularly interesting here is that this Rs 50 m capital outlay represents only 6.8% interest in this offspring. In other words, going by this yardstick, the total capital base of this company should be Rs 739 m. It also has a 16.7% interest, or Rs 216 m, in an insurance joint venture called Apollo Munich Health Insurance. This would infer a total capital base of Rs 1.3 bn for this venture. (Since the foreign partner cannot hold more than 49% stake in such ventures, there is obviously some other Indian partner too in this venture.)

The inter-se dealings

What value the parent sees in wanting to have inter-se dealings during the year with some 40 group companies, which fall under various categories, is not easily decipherable. It is of course impossible to put a finger on the net fallout of these transactions. But a few transactions still standout. It has during FY10 affected purchases worth Rs 1.7 bn from a company called Keimed Ltd, an 'affiliate'- if one could so call it. Presumably this is a part of the total purchases of Rs 9.7 bn under the head of 'Operating Expenses'. If so, then these purchases account for 17% of all such purchases labelled under this heading. Then there are also numerous entries for transactions with several group companies, coming under a whacko heading called 'Transactions during the year'. Such transactions add up to a little over Rs 230 m during the year. What these transactions pertain to, and whether they are on revenue account or capital account, or what, is not known. It is also in a bit of a situation on the export front. It has availed of excise duty concessions on import of equipment. This infers that the company has to collectively earn export income of Rs 905 m over 8 years as a quid pro quo. In FY10 it could earn Rs 180 m.

Extending an arm and a leg

With so many subsidiaries and associates and such like, the company is also forced to extend an arm and a leg in other forms too. The information that it has furnished separately on this account is revealing enough. It says separately that the balances outstanding on account of sundry debtors, loans and advances at year end from group companies etc amounts to Rs 629 m (Rs 450 m). It adds further that the loans and advances dues at year end from group companies are Rs 321 m (Rs 367 m). Extrapolating from this, it infers that the trade debtor dues at year end from group companies are Rs 308 m (Rs 82 m). It is also doubtful whether the company charges any interest on the moneys it has advanced to its group companies, irrespective of whether it is caricatured as loans or advances. What the difference is between 'loans' and 'advances' begs an answer though.

The consolidated entity reported revenues of Rs 20.3 bn (Rs 16.1 bn). That is to say the sales value addition of the consolidated entity for FY10 (including the standalone company, along with its 7 joint ventures, and 10 subsidiaries) amounted to Rs 2 bn against Rs 1.5 bn in the preceding year. But unfortunately, the profit addition was negative. The profit before tax & extraordinary items, of the consolidated entity, was Rs 2 bn compared to Rs 1.4 bn in the preceding year. Looked at it differently, the profit before tax of the consolidated entity is lower by Rs 245 m in FY10, as compared to that of standalone unit. In the preceding year the profit before tax of the consolidated entity is more than that of the standalone entity by Rs 379 m.

Much work to do

The company has much work to do on the subsidiary companies front as the 10 subsidiaries cumulatively had total assets of Rs 3.5 bn. And close to 66% of the total assets of the subsidiaries, or Rs 2.3 bn, is controlled by just one company, Imperial Hospital and Research Centre. Only three of the 10 subsidiaries, Samudra Health Care Enterprises (a 100% subsidiary), Imperial Hospital and Research Centre (a 51% subsidiary), and Apollo Health and Lifestyle (an 86.9% subsidiary) have revenues of any means. Imperial with revenue streams of Rs 704 m, but with a pre-tax loss of Rs 104 m, Samudra Health Care with revenues of Rs 217 m, and a profit before tax of Rs 20 m, and Apollo Health with revenues of Rs 88 m but pre-tax losses of Rs 0.6 m. The only other subsidiary of any relevance in this grouping is the colourfully named Unique Home Healthcare, which appears to the investment arm among the subsidiaries. It has investments of the book value of Rs 295 m and is turning a neat profit on its revenues as a result. None of these siblings have thought it fit to declare any dividend, but then, that is a separate issue. The UK subsidiary with a piddling capital base appears to be wallowing about for the present, and may be shaping up as some sort of an NRI investment arm or some such. But it is still early days here.

There is much work to be done of the big ticket joint ventures front too. Its interest in its seven joint ventures shows a total asset stake of Rs 2.7 bn, and a revenue inflow of Rs 1.08 bn, including other income of Rs 30 m. But it recorded a net loss before tax of Rs 154 m (Rs 196 m previously). These then are the three areas - the subsidiaries, the affiliates, and the joint ventures - where the company should really be concentrating on in the future.

Disclosure: I do not hold any shares in this company, either directly, or under non discretionary portfolio

This column Cool Hand Luke is written by . Luke has been a business journalist, financial analyst and knowledge management head with a professional experience of more than 20 years. An avid watcher of the stock market, he has written extensively on stock market trends. His articles have featured in Business Standard, Financial Express and Fortune India amongst others. He has also been the Deputy Editor, Fortune India and the Financial Editor of The Business and Political Observer.

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1 Responses to "Apollo Hospitals: Furious expansion on all sides"

Pradeep Kumar Nair

Feb 21, 2011

Apollo Hospitals and its owneship being "ethical" - Well, even they may be laughing at being accused of that.

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Equitymaster requests your view! Post a comment on "Apollo Hospitals: Furious expansion on all sides". Click here!
 

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