ANALYST’S NOTE

Virtus Health Ltd (VRT) reported FY18 results missed analyst expectations, with net income of $30.7m -2.8% below consensus at $31.6m.

Key highlights include:

1. Revenue up +2.2% to $262.1m on prior corresponding period (pcp) but disappointingly group EBITDA was flat at $65.0m.

2. Australian segment EBITDA up 1.6% to $66.8m.

3. Significant improvements to operations completed in FY18 saw VRT’s Diagnostics segment EBITDA growth of +9.1%.

4. International segment saw earnings and cycle growth with EBITDA up +29.5% to $9.2m.

5. NPAT was up +9.4% to $30.8m over the pcp.

6. Final dividend 12cps fully franked.

7. Annualized leverage ratio is 2.4x adjusted Group EBITDA.

Our Buy recommendation is based on a long-term investment thesis:

1. The Company controls ~40% of the domestic market share;

2. Medicare data shows that long-term demographic drivers for IVF remains strong with short term volatility often equating to pent-up demand.

VRT trades on undemanding valuations of 12.9x PE20, 5.1% dividend yield.

• Australian Segment – saw weak conditions. VRT achieved consistent Australian ARS performance despite a softening of the domestic market in 2H18, with Australian eastern state markets in which VRT operates declining 0.7%. Cycle volume in VRT’s Australian clinics decreased -3.4% due to low cost competition in Queensland’s economically challenged market and new competition in a contracting Tasmanian market. Virtus’ IVF Australia, Melbourne IVF and “The Fertility Centre” (“TFC”) clinics in NSW and Victoria achieved cycle volume and market share growth.
• Diagnostics – was the highlight in our view. Revenue increased +3.6% in FY18, translating to +9.1% EBITDA growth over the pcp driven by “increase in the internal utilisation of genetic testing and screening in ARS, an expanding pathology testing platform and collection centre footprint and significant operational improvements”.
• Day Hospitals – poor performer. Despite increased IVF activity of 6.6% from strong IVF first half volumes and higher frozen embryo transfers, VRT’s Day Hospitals saw a quieter year largely attributable to weaker non-IVF revenue (decline -5.3%) in VRT’s Queensland day hospitals.

• International Segment; management remains in search for potential acquisitions. The segment reported revenue growth of +17.6% to $44m. Complete Fertility (UK) and Trianglen (Denmark) was added to VRT in FY18 with management expecting both to be EPS accretive in FY19. VRT also increased its ownership in the Sims Group in Ireland to 85%, during FY18. VRT’s Singapore operation delivered positive EBITDA of SG$350,000 (A$321,000) compared to a prior year EBITDA loss of SG$144,000 (A$120,000). According to management, “International revenue now sits at 17% of Virtus’ total revenue… [with] ambition is for this to reach 30% through organic growth in our international clinics and our continued targeted strategy of international acquisitions in the UK and Europe”.