Regarding the deep correction in listed diagnostic player’s stocks, following are the views of Aditya Khemka.
we conclude that there is no evidence that suggests the incumbents of diagnostics could be disrupted by traditional or modern / digital / low-priced players.
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We at InCred Healthcare Portfolio believe that even if there were to be a potential disruption due to online players, it is highly improbable to be significant in next 5 years. We currently infer so from the financial performance data of companies like Healthians and Pathkind Labs.
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Further, data suggests that the fabric of the business is akin to that of a branded generic business where the doctor’s trust on the brand is key to business prosperity. Trust can’t be built over short time frames and can only be done through a consistent and quality service at reasonable price, in our view.
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Further, in our view, true potential disruption occurs when the proposition is win – win for both the buyer and the seller. So far, it seems that while the end consumer might benefit from the lower prices, the provider in the absence of critical mass, is unlikely to be cash flow positive any time soon.
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We believe that the recent stock price actions of diagnostic companies could be driven by normalization of trading multiples post Covid and an optical slowdown in business as Covid revenues subside. Hence, we would expect the stocks to start doing well once the base normalizes (goes ex Covid) and multiples might also revert to mean as the street sees lack of evidence of any potential slowdown in the sector.
https://embudo.in/2022/incred/InCred-newsletter-14-july-22-v1/images/InCred_PMS_Newsletter_July.pdf
Also, following is the view of Marcellus
A key current concern in the stockmarket for Dr Lal is the impact from new entrants like Tata 1mg which are supposedly ‘digitally savvy’ and have announced aggressive pricing campaigns in certain metro cities.
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The diagnostics sector can be divided into two main segments: (1) testing related to an illness which is 90% of the market; and (2) testing related to wellness (preventive measure) which is 10% of the market**.**
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In cases, where a patient is suffering from an ailment, the test results/diagnosis become the starting point for treatment. Also, the costs associated with diagnostics is relatively low compared to the total treatment costs such as hospitalisation charges, doctor fees, medicines etc. Thus, the Turn Around Time (TAT) of test reports, their accuracy and doctor’s trust in them become the most important drivers in the patients’ decision making behind choosing a diagnostics partner.
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The wellness segment (which accounts for just 10% of the market), on the other hand, is more about preventive healthcare and hence is discretionary in nature. As a result, pricing of the tests (and discounts offered) become the most critical decision-making parameter for deciding on a diagnostic partner rather than the three factors mentioned above. This is where most of the competitive intensity is being felt.
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With respect to any edge that new age ‘digital’ firms may have over Dr. Lal from a technological standpoint, it is important to reiterate the importance of TAT, the accuracy of results and the doctor’s trust in the test results – these are key variables which determine the patients’ decision making in the Illness segment about which vendor to choose. These factors in turn are dependent on the efficiency of back-end processes. Our channel checks suggest that Dr. Lal has been implementing automation in sample testing with intelligence fed from in-house data analytics to enable faster & less variable TAT and further improving accuracy of results. For example, the firm’s ‘control tower’ initiative which enables monitoring of a sample lifecycle and identification/correction of bottlenecks has allowed Dr. Lal to meet the ETR (Estimated Time for Report) more than 90% of the time vs. 80% earlier. Additionally, the scope for real time tracking of samples by hospitals has also been increased substantially allowing for better management of the doctor’s time, further building the stickiness of the firm with these doctors.
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Secondly, price competition has for a long time been commonplace in the diagnostics space and Dr. Lal has successfully warded off aggressive price competition in the past as well. As discussed in our May’22 Consistent Compounders newsletter, “even as Dr. Lal Pathlabs’ share price has compounded at an impressive 20% CAGR between Dec’15 to Apr’22, the stock delivered an absolute return of negative 8% over the 3 years from Oct’16 to Jul’19. One of the key reasons was that Dr Lal Pathlabs faced a major price war during 2016-2017 from Thyrocare, which it was able to defend successfully due to the moats created around convenience to the customer. Over subsequent two years from Aug’19 to Aug’21, Dr. Lal Pathlabs delivered share price CAGR (i.e., annualized return) of ~80%, catching up with the fundamental progress made over the preceding three years.”
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The other concern on Dr Lal Pathlabs is surrounding its recent quarterly results. In 2HFY22 Dr Lal Pathlabs witnessed a significant decline in PBT (down 31% YoY), after recording 27% YoY PBT growth in FY21 and 100% YoY PBT growth in 1HFY22. We have already addressed this point in our June 2022 newsletter. The fall in PBT in 2HFY22 was primarily on account of tapering down of Covid-19 testing related revenues in 2HFY22 (decline of 50% YoY) as Covid-19 cases dropped significantly in India. Covid-19 related revenues were never expected to be sustainable and hence tapering down was expected by us and by the broader market. The more sustainable non-Covid revenues have grown for Dr.Lal by 35% YoY in FY22 (30% YoY even after excluding Suburban Diagnostics acquired in October 2021). This growth was despite the increase in Covid cases affecting normal business for around four months during FY22.
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