1.

Summary: Avoid at current valuation

Metropolis Healthcare Limited (MHL; CMP 1030; MCap INR 51,699 Mn)

• MHL is a diagnostic chain that provides pathology services across ~10 countries with its major business concentrated in India

• MHL represents an attractive opportunity to build a large organized player in a fragmented but attractive industry growing at ~12-15%

• However, pan-India diagnostics chains, MHL, Dr Lal Pathlabs and Thyrocare have struggled to grow revenues > 20% CAGR

• MHL offers strong financial metrics ~INR 7,600 mn revenue @ 76% GM and 26% EBITDA and is a cash generating company ~45% cash
conversion with minimal debt (FY19A)

• MHL generates attractive returns 29% RoE and 42% RoCE (FY19A)
• However, MHL is currently fully valued and is trading at ~35x PE ; 17% premium to IPO (Apr’19)

• Investment as this multiple shall generate sub-par returns ~20%

• Accordingly, recommend to avoid the transaction at current valuation

• Alternatively, transaction can be considered if available at ~27x PE i.e. at a discount of ~25% to the current value ; subsequently, 25% IRR can
be achieved
2A.
Industry: Attractive, with opportunity to consolidate

Diagnostics - India

• India’s diagnostics business is a USD 9.6 Bn market (FY20), expected to grow at ~12-15% CAGR
• Pathology (56%): in-vitro diagnosis using laboratory equipment and samples ; scalable business
• Radiology (44%): imaging diagnosis / radiology / x-rays / ultrasounds

• Fragmented industry: top 9 players (revenues > INR 1 Bn) accounting for ~7% market share; industry largely dominated by unorganized
players ~75% market share
• Organised market split between diagnostic chains (47%), hospitals (36%) and standalone players (17%)
• Shift to organised players due to quality services and unavailability of complex tests with standalone centres

• Urban cities comprise ~65% of diagnostics market ; Growth led by eight major cities and increased volumes in tier II / III towns
• Industry has a long growth runway, driven by improving affordability, under penetration of healthcare services, and productivity gains (tests /
patient). Preventive testing and insurance coverage can result in quicker growth

• Scalable, profitable, cash generating and high ROE earning business: Scalable for market leaders in their core markets as high volumes drive
cost benefits; local referral ecosystem can drive growth
2B.
Industry: Global trends; possible risks

Diagnostics - Pathology ; Global

• Global pathology industry ~USD 65 Bn growing at ~7% CAGR

• India ranks #3 globally @ USD 5.1 Bn after USA (USD 14.3 Bn) and China (USD 5.3 Bn)
• Globally, eg. USA and Japan: consolidated market through inorganic acquisitions eg. LabCorp and Quest Diagnostics in USA

• Insurance coverage can spur growth inflection eg. boom in 1980’s in USA
• MNCs are unlikely to enter India: Quest USA exited India due to quality standardisation and scale issues

Industry risks

• Policy risk
• Draft NEDL (National Essential Diagnostics List) policy (2018) can hit high profitability (25-30% RoEs) by capping prices, targeting
~35% of total product portfolio
• such caps can be offset by premiumising offerings eg. home collection
• no major impact envisioned for large chains ; may adversely impact smaller independent labs

• Technology: minimal risk to advancements in personal use medical devices which may reduce pathology requirements
3. Company

Metropolis

• MHL offers a range of clinical laboratory tests and profiles, which are used for prediction, detection, screening, and monitoring of diseases.
Services range across routine tests (blood cell counts, urine examination), semi-specialized tests (thyroid, viral and bacterial cultures,
infectious disease tests) and specialized tests (coagulation, autoimmunity, molecular diagnostics)
• It also assists clinical research organizations and provides wellness packages to institutional customers

• Founded in 1980, listed in Apr’19 and 3rd largest Indian diagnostic chain; serving ~9 Mn patients across 210 cities in 19 states
• MHL ~17% revenue CAGR has outperformed the overall diagnostics markets ~12-15% revenue CAGR
• Attractive business which is
• asset-light : third party PSCs
• scalable : expanded service network 5.5x in 3 years
• profitable : 26% EBITDA, 16% PAT
• cash generating : ~50% cash conversion
• high RoE : ~30%
• 5 focus cities continue to drive growth (Mumbai, Pune, Chennai, Bengaluru, Surat): ~25% market share with a relatively strong brand >50%
business from B2C customers
Risks:
• Competition: highly competitive industry
• national players: Dr Lal Pathlabs and Thyrocare
• several private equity-backed regional players
• hospitals entering this market eg. Apollo’s investment of Rs 2 Bn to set up 200 labs
• Revenue growth via price increase at threat due to draft NEDL proposal
• Institutional business: ~60% of business flows from hospital labs and tie-ups ; business could be at risk of delayed payments
• Geographical concentration: ~80% of business from West & South India ; efforts to scale up international business and other parts of India
• Surge in third-party franchisees may lead to dropouts before channel matures
4. Opportunities: Prefer inorganic growth

Organic vs. Inorganic

Recommend to grow MHL’s business by a mix of organic and inorganic

• Organic :
• expansion in offerings (preventive healthcare / wellness diagnostics, genetics, molecular and oncology testing, chronic disease
management, corporate tie-ups)
• increased focus on North and East India , overseas
• Target volume growth (especially tier-2 and tier-3 cities)
• Inorganic :
• Target market share gain by value-accretive M&A by acquiring / partnering with regional chains
• MHL has a demonstrated history of growing via acquisitions / ventures:
• 2017: Sanjeevani Pathology Labs (Saurashtra) - Acquisition
• 2014: Bramser (Mauritius) - Venture
• 2014: Wellness Labs (Africa) - Acquisition
• 2013: Kenya - Acquisition
• 2013: Assam - Acquisition
• 2012: Dr. Patel (Nasik) - Acquisition
• 2008: R. V. (Bengaluru) - Acquisition
• 2007: Desai (Surat) - Acquisition
• 2005: Golwilkar (Pune) - Acquisition
• 2002: Sudharma (Kerala) – Acquisition

• MHL’s proven acquisition track record, availability of multiple standalone players for acquisition / partnership and the company’s ability to
generate free cash flow makes inorganic opportunities a quick and reliable fix for future growth

• Since 2013, trend indicates a reduction in PE deals and increase in M&A deals for diagnostics
5. Key Business Drivers

Revenue / test trend (INR) • Simple business with volume and price drivers
• Volume: impacted by # patients , and # tests / patient
• Price: impacted by revenue / test

• MHL is a relatively premium offering and has historically had a difficulty in scaling
volumes, however, it has successfully grown by increasing prices with an increased
focus on semi-specialized and specialized services (~40% of total)

• Operationally, the pathology business model is driven by the hub and spoke approach
with 1 global reference laboratory (main hub), regional reference labs and multiple
satellite and express labs serviced by pick up points and referral centres
6. Forecasts: Base Case
7A.
Valuation: Comparable transactions

• Comparable transactions have occurred at ~20x EV/EBITDA multiple

• Private equity players have a keen interest in the diagnostics space > 40 transactions in 20 years
7B.
Valuation: Comparable companies
• MHL trades at a higher multiple than peers,
however it offers attractive return metrics

• Trading at 17% premium to IPO (Apr’19)

• Other Indian Diagnostic chains

• Hospitals with diagnostics business

• Global diagnostic chains

8. Returns
• If a transaction is made at the current trading
multiples ~35x PE (excluding premium), and such
investment is held for ~5 years, expected IRR is
20%

• However, to achieve the target 25% IRR, the

transaction needs to be done at 27x PE i.e. 21x
EV/EBITDA multiple i.e. at a discount of ~25% to
the current value