acquisition growth key for sonic healthcare

Pathology group Sonic Healthcare (SHL) delivered a solid full year profit result last Friday, normalised earnings of $315.1 million coming in about 4% higher than broker RBS Australia had forecast. The result beat the average consensus earnings forecast in the market of $304.7 million.

Post the result RBS has made minor increases to its forecasts in coming years, largely as a result of factoring in higher market share and margin expectations in line with what was achieved in FY09. This brings the broker into line with guidance from management, which is for an increase in earnings in FY10 of 10-15% in constant currency terms.

In earnings per share (EPS) terms the broker is now forecasting 89.6c in FY10 and 103c in FY11, while Bank of America Merrill Lynch is at 89.6c and 101c respectively and Citi is at 91.6c and 102.5c. Consensus forecasts according to the FNArena database are 92.2c and 103.1c for FY10 and FY11.

As well as lifting its numbers RBS has updated its model for higher healthcare multiples, the end result being its price target on the stock has increased to $14.10 from $13.65. But with the stock having rallied in recent weeks the broker suggests the earnings outlook is now priced into the stock, so post the result it has downgraded to a Hold rating from Buy previously.

JP Morgan made the same move, lifting its price target to $14.76 from $13.89 but downgrading to a Neutral rating to reflect the recent share price gains the company has enjoyed. UBS also downgraded the stock to Neutral from Buy post the result, while increasing its price target slightly.

But others disagree and continue to suggest there is value in the shares, with Macquarie and Bank of America Merrill Lynch in particular arguing the case for the company. According to Macquarie, there is still upside from current levels as the company's acquisition policy is creating scale and this is being achieved more successfully than by the its competitors.

As a result, Macquarie argues there is something of a free option in the share price at present given the expectation this process continues to be successful and the company further strengthens its competitive position as it expands its global footprint.

Bank of America Merrill Lynch offers a similar argument as on its numbers the company has as much as $775 million available for acquisitions, a war chest big enough to deliver on the broker's long standing expectation of acquisition-led growth.

The other point BA-ML makes is the company is most likely to target existing markets where deals imply a higher level of synergy benefits, which in turn implies better margins. Organic growth is also likely in the broker's view as it expects the market share gains made in the second half of FY09 will stand the company in good stead from an earnings growth perspective.

While recent budget cuts imply some earnings pressure, BA-ML notes the company has moved to privately bill non-concession pathology patients in NSW and Queensland and while this is yet to prove itself as the correct strategy, the broker notes some competitors have made similar moves. This suggests there may not be a major market share impact from the change.

Post the profit result the FNArena database shows a total of five Buys and five Holds, with an average price target of $15.17, up from $14.09 prior to the earnings announcement. Shares in Sonic Healthcare today are weaker and as at 12.25pm the stock was down 17c at $13.73. This compares to a trading range over the past year of $9.96 to $14.98.

http://www.sharecafe.com.au/fnarena_news.asp?a=AV&ai=14142