As reporting season picks up pace, each week Livewire will ask a different panel of Managers for THE standout result of the week. Read on for two small-cap healthcare stocks, and a global funds business. Responses from Dean Fergie, Cyan Investment; John Murray, Perennial Value; and Simon Shields, Monash Investors. 

Capitol Health’s continued recovery and potential unicorn

Dean Fergie, Cyan Investment Management  

Radiology and diagnostic imaging service provider, Capitol Health (CAJ), has announced their preliminary full year EBITDA result of $22m, 10% ahead of prior guidance. Along with the previously announced sale of their NSW assets (settling August 2017), the company’s total debt of $50m will be eliminated taking the business to a net cash balance of close to $45m. Factoring this in, the company has announced both a re-instated dividend and a share buy-back. Importantly, guidance for FY2018 (including just 2 months of the contracted NSW assets) has been set at ~$20m EBITDA. 

Last financial year Capitol Health became another roll-up casualty, expanding too rapidly and making debt funded acquisitions that were not effectively managed or integrated. Adding fuel to the fire, proposed changes to the Medicare rebate scheme saw demand for high-margin MRIs drop, earnings fell and the share-price plummeted, almost 90% from its highs.  New management was brought in in November 2016 and a $38m capital raising was completed in February 2017.  In June 2017, the company announced the sale of their troublesome NSW assets including Southern Radiology to I-MED for ~$80m. Importantly after a year of decline, Medicare system growth is returning to longer-term growth rates.  

There is no doubt Capitol Health’s footprint of over 50 Victorian radiology clinics is a strategic and valuable defensive healthcare asset. On those assets alone, a prospective forward EV/EBITDA multiple of 10x looks fair. Government restrictions for issuing new MRI licenses means barriers to entry are high and Capitol Health’s open register makes it an open takeover target.  Further value can be attributed to Capitol Health’s JV with CITIC in China’s diagnostic imaging market and Capitol Health’s shareholding in US-based artificial intelligence company Enlitic is shaping up to be next tech ‘unicorn’ and could add serious value to Capitol Health shareholders. 

Paragon Care looks particularly cheap now 

Simon Shields, Monash Investors Limited  

Paragon Care (PGC) is a supplier of medical equipment and consumables to Australian hospitals and aged care centres. It reported on Monday 7 August. Organic sales growth grew 15% for the year with acquisition growth adding another 10% to sales. At the same time EBITDA margins have been expanding with increased scale and private label substitution. Paragon beat consensus earnings expectations by about 10% and over the next two days, its share price was up 14%. 

The market had been concerned that organic growth was slowing, with Paragon still digesting previous acquisitions.  Another potential headwind was that Paragon is still working through the impact of its decision to hand back a number of agency products in order to launch its own private label beds. As a result, the 15% organic growth was a positive surprise. Looking forward we expect the roll out of PGC’s proprietary beds in FY18 to generate substantial growth and strong margins, supporting further upgrades. 

Good working capital management resulted in inventories being down 4% while operating cash flow was up 54%.  The balance sheet was strong with Net Debt / EBITDA only 1.1x, leaving plenty of scope for further growth capex without an immediate call on shareholders. 

We see Paragon as being particularly cheap right now at 14x FY18 EPS given the visibility of its earnings (63% of sales are consumables), its growth outlook, and the likelihood of further upgrades. 

AMP clear as mud on capital allocation

Hamish Chalmers, Watermark Funds Management 

Somehow between 25 May and 10 August AMP managed to lose $800m of excess capital down the back of the couch. On Thursday, In an otherwise unremarkable set of full-year results, AMP announced to the market the good news that it had undertaken a reinsurance deal with Munich Re which should release $500m of capital. This was in addition to another $500m released by a similar transaction in 2016, which was soon after ear-marked for a $500m share buy-back. Unfortunately for shareholders, the good news stopped there.  

This year’s $500m would not be spent on another share buy-back. In fact, the original $500m buy-back would be “paused” despite the company having only returned $200m to date. The reason given for the pause was to consider the “range of business growth opportunities”. The company was at pains to point out these are the same opportunities described at its April 2017 investor day. So why do these growth opportunities now consume this year’s $500m reinsurance windfall and require stopping the original buy-back, $300m short? What changed since the May investor day? Currently, nobody on the buy or the sell-side really knows. 

On 14x next year’s earnings AMP still looks inexpensive versus other wealth and investment managers. However, for earnings to grow and the stock to perform the management team needs to demonstrate its credentials allocating its excess capital. Investors could be forgiven for being sceptical, given the company currently seems to be having trouble calculating its excess capital.

Great first result from Janus Henderson post-merger 

John Murray, Perennial Value Management 

The first result of Janus Henderson Group following the recent merger was a great result with almost all key indicators moving in the right direction.    

The highly complementary businesses of Janus Capital Group and Henderson Global Investors merged at the end of May.  The Henderson share price had been sold down substantially since the merger was announced due to a range of concerns, including whether synergies would be achieved and potential client losses during the merger process.  

This provided Perennial Value with an opportunity to increase exposure to the company at an attractive valuation. A number of the market concerns were allayed by the result.  Importantly, the $110million synergy target was reaffirmed and timing of synergy realisation brought forward.  Net fund flows were better than expected and the key leading indicator of investment performance has improved across the group.  This resulted in higher than expected performance fees.  Management fees were also better than expected due to both higher than expected funds under management and a higher fee rate due to the favourable mix of flows. 

In our view, the valuation of the company remains undemanding even after the strong price rise on the day after the result. We see the merger as a rare case where the merging businesses are truly complementary.  

We expect that over time the stronger Janus Henderson Group will shine through – in terms of not just the cost synergies but also in stronger distribution of the products of the respective former businesses.  

For instance, Henderson is strong geographically in Europe and the UK while Janus is strong in the US and Japan.  Henderson is strong in Equities and Alternative asset classes, while Janus is strong in Fixed Interest and Quantitative Investing.  The stronger global distribution teams across the globe will now be able to sell all of the products of the group in their respective markets.

If these benefits are confirmed, there is both earnings and earnings multiple upside for Janus Henderson. 

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