20 Billion Dollars, Healthcare & India: An Investor's Love Affair For The Ages
AltG's APEX Formula tells us that "Leveraging Fixed Assets" is the ONLY way to create Multi-Billion Dollar opportunities in the Indian Diagnostic Space.
By Taponeel Mukherjee & Poornima Vardhan
As a high-growth sector growing at 2X GDP, the Indian diagnostics market is poised for rapid expansion and handsome returns in the near term.
By implementing the right strategies, companies and investors can truly generate high double-digit returns on their investments while creating value and building businesses of scale more efficiently. As per AltG's Intelligence, the key strategies are:
- Leveraging diagnostics' real estate play.
- Adopting asset-light distribution strategies.
- Creating a platform structure.
- Moving to hybrid investment structures.
The Levered Real Estate Play - Sweat Your Fixed Assets to Win
First, it is vital to recognise and capitalise on the parallels between the diagnostic and real estate industries (particularly with regard to the high CAPEX and OPEX required for regional labs) to sweat the fixed assets as much as possible. The regional lab can produce large returns by incorporating branding and specialised services. Here, the Testing Laboratory is referred to as a Fixed Asset. The secret to earning investment returns in the diagnostic industry in India is to generate the necessary return on the CAPEX required for setting up the Testing Laboratory after the OPEX has been covered. This is essentially the Hub.
The diagnostics chain's distribution nodes, or Spokes, include collection centres, local lab partnerships (third-party labs), and hospital partnerships. Our thorough research has shown that in a Hub and Spoke architecture of this size, selecting the right Spoke can make or break capacity utilisation, determining whether the Hub can generate real estate-type returns. To increase fixed cost yields, it is necessary to collaborate with nearby labs that can produce high FCF yields (at least 15%) and maximise asset utilisation (at the regional lab level).
Asset-Light Partnerships: The Holy Grail of Diagnostics
To expand pan-India, that is, into tier-2, 3, and 4 cities, B2B collaborations with regional labs and hospitals are the way to go. This is because the diagnostics sector is severely under-penetrated and mostly restricted to metros and tier-1 cities.
Such alliances are advantageous because:
- They require little to no upfront capital expenditure.
- They are asset-light, allowing for transferring certain assets or responsibilities to other parties better suited to handle them.
- They allow for rapid volume increases while maintaining targets.
- They open the door for specialised testing, which is expected to be an industry growth driver in the future.
The "Constellation Software" For Healthcare
Future successful diagnostic players are expected to be those who increase their B2B offerings and create a solid platform-based organisational structure.
Consider the US diagnostics market. It increased about nine times, from USD 15 billion to USD 147 billion, between 2000 and 2020. The two largest diagnostics companies in the nation, Labcorp ($16 billion in revenue) and Quest Diagnostics ($7.76 billion in revenue) - are purely B2B businesses.
Additionally, for large organisations, a platform structure with a requirement that the payback period should be between three and five years may be more practical for amassing desirable assets that can produce an unlevered FCF yield of 14 to 15%. As per AltG's Intelligence, a large Private Equity or Large Industry Player can consider consolidation to achieve growth and synergies through enhanced working capital cycles on the balance sheet and cost rationalisation on the income statement.
The Fixed-Income Replacement Tool Via Hybrids
Lastly, to build businesses of scale, it is essential to look at hybrid securities for both investors and companies to get involved. Depending on the return hurdle for the investor/business or the benchmark rate they need, there is a need for innovative financing structures. To this end, a hybrid structure may be pertinent wherein it allows flexibility around coupon payments for the business to add attractive roll-ups by shifting contingent debt coupon payments into a lump sum payment to be paid at a later date while still allowing the security holder/investor to earn a fixed return with some equity upside.
Moreover, in a high-interest-rate world, hybrid models can allow for lower borrowing rates while giving a return at least 5-6% higher than the 10-year Indian government benchmark using an equity kicker.
As per AltG's Intelligence, two strategies are of particular note for investors looking at the diagnostics market. If you're an equity investor, an unlevered FCF yield target of 14-15% is where you may see the value, after which the above strategies can be implemented. Another option would be to look at this as a Fixed Income Replacement play via hybrids. And given the sector's aforementioned parallels with real estate, such an investment strategy is likely a safe bet.
The Indian diagnostics market is slated to grow at 11-12% CAGR figures to become a USD 20 billion opportunity by 2026. We at AltG, through our financial, operational and primary market data analysis, see value creation opportunities through driving Asset Utilisation of fixed assets to create operating leverage to generate high cash flows in a world heading towards higher interest rates and greater cost of capital. The ability to "Leverage Fixed Assets" will be the single biggest deciding factor that separates the winners from the losers.
(The views expressed in this article are personal and that of the authors, Poornima Vardhan and Taponeel Mukherjee. The authors, Poornima Vardhan and Taponeel Mukherjee, head AltG, a firm that offers Proprietary Financial Intelligence)
Disclaimer: No Business Standard Journalist was involved in creation of this content
Topics : Healthcare in India
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First Published: Oct 20 2022 | 5:16 PM IST
