CSL: An outperformer to beat the street

Stuart Welch

Alphinity Investment Management

In the following video, I sat down with Andrew Grimes to break down the many-facets of the Australian healthcare sector, while also providing a snapshot of where Alphinity is seeing value in what is typically an expensive segment of the Australian share market. 

Welcome to all Alphinity Australian insights. With me, I have Stuart Welch, one of the investors in the Australian team who also covers the healthcare sector. Stuart, why should I invest in Australian healthcare, particularly given how expensive it is?

That's right. The healthcare sector typically screens as expensive relative to the rest of the market and the key reason for that is the defensive structural growth that the industry displays.

There's a number of different raises for the drivers of that demand and a lot of those are a growing and ageing population, increasing prevalence of chronic conditions and new innovative treatments that are improving the standard of care and getting better health outcomes in.

The key factor is that a lot of those different drivers of growth independent of the economic cycle. And so irrespective of where we are in the economic cycle, that growth is still there and that structural growth story is what makes it quite powerful and it's particularly attractive during economic downturns or periods of growth scarcity, which is what we've had recently.

It's for those reasons that the sector trades at pretty rich multiples.

Just describe the sector to me.

Well, the short answer is varied. The Australian healthcare sector is pretty varied. You have hospital operators, you've got pathology providers, you've got diagnostic imaging companies, you've got aged care providers. Then, we've got some global leaders that operate in even more defined sub-segments of the healthcare sector.

You've got CSL (ASX:CSL) in the blood plasma products sector. You've got Cochlear (ASX:COH) doing cochlear implants and Resmed (ASX:RMD) in sleep apnoea for example. Each one of those different sub-segments has a very different set of industry drivers and earnings drivers that are specific to those sub-segments.

It's very difficult to look at the Australian healthcare sector as one. As some other sectors are homogenous, the healthcare sector is not. And that definitely requires a lot of bottom-up stock picking and analysis to be able to understand the different companies, the products they offer and the markets in which they offer them.

Great. What are some of the factors to consider when investing within healthcare?

When we look at stocks, we obviously do a lot of bottom-up research just as I mentioned, so we're out meeting with the company, meeting with our competitors, suppliers, customers and various things like that.

We're always examining the supply/demand balance, the competitive dynamics. We're always thinking about the lifecycle of products and the competitive threat from new product releases. We're very interested in the quality of management.

We're looking for companies that have good quality management and we definitely like companies that have good reinvestment opportunities. Companies that can reinvest capital at high rates of return are typically good compounding companies over a period of time, and that's the type of thing that we look for.

The thing that's quite unique about healthcare is that governments are typically the largest payer for healthcare products and services. That makes things a little bit different.

They are always under pressure to constrain costs and get their books to balance and budget balances and all that sort of stuff. That's always quite a challenge and so, there's always a regulatory risk hurdle out there in the healthcare sector.

Governments have the ability to influence prices in healthcare, but they could also set regulation that curbs demand or supply of healthcare. That's something you have to have your eye on all the time in the healthcare sector.

That said, there's always demand for innovative new treatments that improve healthcare outcomes. There's a lot of pressure on governments to supply those. If you can find companies that are investing and able to bring new products to market that can improve healthcare outcomes, governments typically find the money to be able to provide those. They can be a good opportunity to invest.

Good. Give me one example of a company that we think is going to do well in this space.

Sure. Here at Alphinity, we're always looking for companies that can surprise positively in terms of earnings relative to street expectations. A company that we think fits in that basket is CSL. So, we think CSL is probably going to outperform market expectations both in the CSL Behring business and in the Seqirus Business.

Stepping through each one of those, looking at CSL Behring, there's a base product which is immunoglobulins that is enjoying very strong system growth at the moment at a time when one of CSL's key competitors in that space is experiencing shortages.

CSL has fortuitously invested ahead of peers in terms of capacity and is well positioned to be able to respond to that and we think that they're going to outperform our market expectations there.

We also think their specialty portfolio could do better than what are relatively muted market expectations at the moment. With CSL, typically people get too worried or too exuberant about the outlook for their products and competitive threats. I think we're probably at the point when people are too worried about the competitive threat to their specialty portfolio.

Then, they also have another business that does flu vaccine, Seqirus. And we think the outlook for that business is bright as well.

For that reason, CSL is in the portfolio and we think that the stock is likely to outperform as we move through time, and some of these sorts of earnings drivers become more apparent and visible and appreciated by the market.

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Stuart Welch
Portfolio Manager
Alphinity Investment Management

"Stuart joined Alphinity in July 2017, focusing on health care, transport and infrastructure. Prior to joining Alphinity, Stuart spent seven years as an Investment Analyst at Fidelity International Australia covering a range of sectors, including...

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