Diagnostics players post healthy returns on quick rebound in business

With business normalisation, the stocks of diagnostic companies have also rebounded sharply. Photo: iStock
Diagnostics companies remain in the spotlight, with their business rebounding faster after the lockdown-led disruption that impacted their April-June quarter (first quarter, or Q1) performance.

Thyrocare Technologies, on Tuesday, highlighted that the low revenue seen in Q1 has bounced back in the July-September quarter (second quarter, or Q2), with strong growth of 171 per cent over trailing quarters (up 37 per cent year-on-year). This has lifted the Street sentiment, with the stock surging nearly 38 per cent in two days.

Metropolis Healthcare, on Monday, said it had seen its Q2 revenue nearly double from the Q1 levels, and grow 25 per cent YoY. Not surprising, Metropolis, too, is up 14 per cent in three trading sessions. 

Revenue growth remains encouraging, in part helped by the rise in Covid-19 testing. Non-Covid revenue for Metropolis has improved to 85 per cent; in Q1, the figure was 71 per cent. Interestingly, September has seen normalisation of its non-Covid business, compared to the year-ago levels. Thyrocare has not shared its non-Covid testing details, but the overall trend remains healthy.

With normalisation of business, the stocks of diagnostic companies have rebounded sharply — Thyrocare, Metropolis, and Dr Lal PathLabs are now trading 75–130 per cent higher from their March lows.

Analysts remain confident of further upside in the stocks, looking at the expected growth in business.

While the pandemic did impact volumes in Q1, the Covid-19 testing is proving to be a strong revenue driver. The non-Covid testing reaching normal levels for companies in the December quarter is further lifting the Street’s spirits. 

The pandemic has led to higher health consciousness among people. While on the one hand it will lead to higher preventive testing, a faster shift of business from informal to the organised sector is also expected. The sector is also set for potential consolidation through the inorganic or partnership model, which will be beneficial to the organised players, say analysts. Large organised players are well positioned to benefit from their scale and strong balance sheets, say analysts at ICICI Securities.

As business grows, companies are ramping up their testing wherewithal. Thyrocare has enhanced the capacity to conduct 400 tests per hour of the reverse transcription polymerase chain reaction (RT-PCR), and has got approvals for its new facility at Gurugram by the National Accreditation Board for Testing & Calibration Laboratories. 

However, investors should note that while Covid-19 tests are bolstering revenue, analysts estimate that such tests earn lower gross margin, given the ceiling on prices.

Analysts believe that rising volumes should drive the economies of scale. Credit Suisse says the earnings before interest, tax, depreciation, and amortisation (Ebitda) margin of Metropolis in Q2 was higher, compared to 28 per cent a year ago. This is on the back of operating leverage due to incremental revenue from Covid-19 testing and pruning of fixed and semi-variable cost base.

Scale is an important factor for long-term success in the diagnostic business. A larger base helps in effective negotiation with vendors, driving operating leverage, attracting franchisees to grow business and free cash-flow generation, say analysts.

Against this backdrop, brokerages are revising their estimates. ICICI Securities has increased its revenue and Ebitda estimates by 5-10 and 4-7 per cent, respectively, for Metropolis to factor in sharp and speedy recovery in non-Covid testing business, continuing Covid-19 business, and cost savings. Dr Lal PathLabs is their top pick in this space.

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