Dr. Lal PathLabs - LKP Sec Path labs... · Dr. Lal Pathlabs (DLP) is a leading player in the fragmented & competitive Indian diagnostics market, an industry estimated to grow at a

Yashas Bhat

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+91 22 6635 1220

January 3, 2017

Ini Buy

Dr. Lal PathLabs

Industry: Healthcare Services Initiating Coverage

Healthy Growth Prospects

Dr. Lal Pathlabs (DLP) is a leading player in the fragmented & competitive Indian

diagnostics market. Established in 1949, this Delhi based company has been able to

widen its reach to a pan-India network on the back of a strong brand and scalable

hub & spoke model. This network boasts of a National Reference Laboratory in

Delhi, over 172 clinical laboratories, 1,559 patient service centers & 4,967 pick-up

points. DLP possesses capabilities to carry out a comprehensive range of ~ 1,110 test

panels, organized into ~ 1,934 pathological tests and ~ 1,561 radiology &

cardiology tests & services in its quality laboratories which tested over 15.5 mn &

26.3 mn samples and 7.0 mn & 12.0 mn patients in H1 FY17 & FY16 respectively.

Indian healthcare industry - a long term structural growth story

At just ~ 4.0 % of GDP, India lags in healthcare spends with changes in

demographics, increasing incomes, rising penetration of healthcare & medical

insurance and opportunities from medical tourism expected to boost demand for the

~ ₹ 3.8 tn Indian healthcare delivery industry. This primary demand driver for

diagnostic services is expected to grow at ~ 12.0 % CAGR to ~ ₹ 6.9 tn by FY20.

Rise in evidence based treatment and increasing incidence of lifestyle diseases offer

immense potential for Indian diagnostics.

With ~ 85.0 % of the diagnostics market held by the unorganized segment, pan-

India diagnostic chains like DLP look to differentiate themselves by focusing on

building brand equity based on quality & trust, cost efficiencies from standardization,

latest technology, robust IT infrastructure & economies of scale. Enormous potential

for growth exists for these organised players with Indian diagnostics expected to

clock a steady ~ 16.8 % CAGR to a ₹ 601 bn market by FY18E.

Asset light model significant advantage to DLP, offers huge potential for scalability

DLP has mastered the hub & spoke model, especially in its core North & East markets

by strategically positioning its clinical laboratories, patient service centers & pick-up

points to ensure maximum coverage. This business model is scalable as well as asset

light, with ~ 94.0 % of its patient service centers under franchisee revenue sharing

contracts and most of its diagnostic equipment being sourced through reagent

rental agreements. This has enabled DLP to clock ~ 27.2 % CAGR in revenues

despite its fixed asset base expanding at a mere CAGR of ~ 6.4 % during FY11 - FY16.

Valuation & Outlook

We believe that DLP is the perfect pick to bet on the structural long term growth

story of Indian healthcare & diagnostics industry, considering its market leadership in

the organized space, pan-India presence, quality testing capabilities and asset light

model of network of franchisees & sourcing of equipment through reagent rental

agreements generating robust free cash flows. Considering its 6 decades of

experience in diagnostics, inherent strength of its business model, market potential

especially in the organised space, debt free status & robust return ratios, we initiate

coverage on DLP with a BUY rating and a 15 month price objective of ₹ 1,250

(15.7 % upside).

Stock Data

Current Market Price (₹) 1,080

15 month Target Price (₹) 1,250

Potential upside (%) 15.7

Market Cap (₹ bn) 89

52-Week Range (₹) 1,273 / 697

Face Value (₹) 10

Reuters DLPA.NS

Bloomberg DLPL IN

BSE / NSE Code 539524 / LALPATHLAB

Shareholding Pattern

Financial Snapshot

YE Mar FY15 FY16 FY17E FY18E FY19E

Revenues(₹mn) 6,596 7,913 9,376 11,364 13,648

EBITDA Margin (%) 23.6% 26.5% 26.6% 26.6% 26.4%

PAT Margin (%) 14.2% 16.3% 16.7% 17.1% 17.5%

EPS (X) 16.8 16.1 19.4 23.9 27.4

P/E (X) 64.3 67.1 55.6 45.2 39.4

P/B (X) 17.1 17.5 14.2 11.6 10.2

EV/EBITDA (X) 4.0 4.3 3.6 3.0 2.7

ROCE (%) 37.5% 35.8% 34.7% 34.4% 33.9%

ROE (%) 28.1% 26.1% 25.5% 25.7% 26.0%

Relative Price Performance

Promoter 58.6%

FPI 5.6% MF

5.1%

Others 30.7%

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Dr. Lal Pathlabs BSE Sensex

http://www.lkpsec.com/

Dr. Lal PathLabs

LKP Research 2

Company Profile

Dr. Lal Pathlabs (DLP) is a leading player in the fragmented & competitive Indian

diagnostics market, an industry estimated to grow at a robust 16.8 % CAGR to

~ ₹ 601 bn by FY18. Established in 1949, this Delhi based company has been able to

widen its reach to a pan-India network on the back of strong brand equity and a

scalable hub & spoke model, whereby specimens are collected from multiple

locations within a catchment area or region for shipment to a predesignated clinical

laboratory for centralized diagnostic testing. This network boasts of a National

Reference Laboratory in Delhi, over 172 clinical laboratories, 1,559 patient service

centers and 4,967 pick-up points. DLP possesses capabilities to carry out a

comprehensive range of ~ 1,110 test panels, organized into ~ 1,934 pathological

tests and ~ 1,561 radiology & cardiology tests & services in its quality laboratories

which have been accredited by the College of American Pathologists (CAP) and

National Accreditation Board for Testing & Calibration Laboratories (NABL). Its

customer mix of individual patients, hospital tie-ups and other healthcare providers &

corporates enabled DLP to test over ~ 15.5 mn & ~ 26.3 mn samples and ~ 7.0 mn &

~ 12.0 mn patients in H1 FY17 & FY16 respectively. Its centralized information

technology platform is the backbone of its efficient operations as it integrates its

network through a common logistics & payments system, thereby allowing efficient

collection of samples & payments and offers convenience to healthcare providers &

patients in locating patient service centers, booking tests and accessing test results

online through their website & mobile app. DLP has established an international

presence as well through its partners in the Middle East, Africa & South East Asia.

Organizational Structure of DLP

Source: Company, LKP Research

100% Subsidiary in Ahmedabad, Gujarat

Turnover - ₹ 37.4 mn

PAT - (₹ 0.3 mn)

80% Subsidiary in Kanpur, UP


PAT - ₹ 8.4 mn

80% Subsidiary in Kanpur, UP


PAT - ₹ 26.2 mn

Turnover - ₹ 7,654.0 mn

PAT - ₹ 1,257.5 mn

Paliwal Diagnostics Paliwal Medicare APL Institute of Clinical Laboratory & Research

Standalone Operations Subsidiaries

Dr. Lal PathLabs

LKP Research 3

Dr. Lal Pathlabs : A pan-India diagnostics chain

North & East focus markets for DLP A healthy mix of institutional & individual clients


North India 72%

East India 13%

South India 7%

West India 7%

International 1%

Individual 60%

Institutional 40%

Dr. Lal PathLabs

LKP Research 4

At ~ 4.0 % of GDP & 32.2 %

government share, India lags behind

major economies in healthcare

spends.

Investment Argument

Indian healthcare industry - a long term structural growth story

The Global Health Expenditure Database compiled by the World Health

Organization approximated India’s total expenditure on healthcare at ₹ 4.2 tn in

FY14. This pegs Indian healthcare spends at just ~ 4.0 % of India’s GDP, trailing not

only developed countries such as USA & the UK but also developing countries such

as Brazil, Russia, China & Thailand. Government expenditure on healthcare has a lot

of catching up to do as well with India ranking lower to other developing countries

like China, Brazil, Russia, Indonesia & Malaysia at only ~ 32.2 % share of total

healthcare spends in FY13. Thus private healthcare spends, which represent

expenditure from resources with no government control, such as voluntary health

insurance and direct payments for health by corporations & households, continue to

be major driver of the healthcare sector in India.

India lags behind other major economies in healthcare spends

NHA Indicators- Global Health Expenditure Database- World Health Organization, LKP Research

Government stepping up its healthcare spends

Source : NHA Indicators- Global Health Expenditure Database- World Health Organization, LKP Research

17.1%

9.7% 9.1%

6.6% 6.0% 5.6%

4.6% 4.0% 4.0%

3.1%

0.0%

2.0%

4.0%

6.0%

8.0%

10.0%

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16.0%

18.0%

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83.5% 80.1%

55.8% 54.8%

48.2% 48.1% 47.1%

41.9% 39.0%

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21.9% 23.1% 24.6% 25.8% 27.5% 30.0% 30.2% 29.8% 30.5% 32.2%

78.1% 76.9% 75.4% 74.2% 72.5% 70.0% 69.8% 70.2% 69.5% 67.8%

0%

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30%

40%

50%

60%

70%

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100%

2004 2005 2006 2007 2008 2009 2010 2011 2012 2013

Private GovernmentShare of Public & Private Sector on healthcare spends

% of Government share on Healthcare Spends Healthcare Expenditure % of GDP

Dr. Lal PathLabs

LKP Research 5

Market Segmententation of the Indian healthcare sector

*As on FY15 **As on FY14

Source: CRISIL, IRDA, Company, LKP Research

Demographics, rise in income,

improving healthcare awareness to

drive healthcare delivery to a ~ ₹ 6.9

tn market by FY20.

The ₹ 3.8 tn Indian healthcare delivery industry is the primary demand driver for

diagnostic services. ~ 81.0 % of this industry comprises of the in-patient segment,

which generates revenues from hospital room or bed rentals, operation theatre &

ICU charges, consultancy & surgery fees and charges for supportive services like

nursing, pharmaceutical, diagnostic & pathology labs and other consumables. The

remaining 19.0 % of this industry belongs to the out-patient segment which services

those patients who are not required to stay at the hospital overnight. Revenues from

this segment typically comprise of fees from consultancy, day surgeries &

diagnostics.

We have a positive outlook on the healthcare delivery industry as it looks to clock in

a CAGR of ~ 12.0 % to a ~ ₹ 6.9 tn market by FY20. Changes in demographics, rising

incomes, improvements in health awareness, increase in life related ailments, rising

penetration of healthcare & medical insurance and increasing opportunities from

medical tourism are expected to propel demand for the healthcare sector in India.

Within the healthcare delivery industry, expansion plans by major private players are

expected to be skewed towards illnesses related to the in-patient segment, with its

share by value set to rise from ~ 81.0 % in FY15 to ~ 83.0 % in FY20 and average

costs for in-patient treatments at a CAGR of ~ 8.0 % in FY20.

Favorable demographics, rise in evidence based treatment and increasing

incidence of lifestyle diseases offer immense potential for Indian diagnostics.

Diagnostic services play the role of an information intermediary providing useful

information for correct diagnosis & treatment of patients’ diseases. The wide range

of healthcare tests & services can be classified into two basic categories - imaging

diagnostics & pathology testing services. Pathology testing or in vitro diagnosis,

comprising half of the domestic diagnostics market, involves reporting useful

diagnostic information on the analysis of collected samples whereas imaging

diagnostics, or radiology, help mark anatomical & physiological changes inside a

patient’s body to help doctors diagnose the disease. While urban areas typically have

modern facilities at public & private hospitals, clinics, standalone centers & diagnostic

chains and command higher prices for these tests, centers in rural India generally

have small-scale facilities and carry out basic tests where ticket sizes are usually lower

than those charged in the urban centers.

Healthcare Delivery (eg. Hospitals)

₹ 3,800 bn*

Pharmaceuticals

₹ 746 bn*

Diagnostics

₹ 377 bn*

Health Insurance

₹ 175 bn**

Healthcare Sector

Dr. Lal PathLabs

LKP Research 6

Urban centric Indian diagnostics industry poised for robust growth

Source: CRISIL, Company, LKP Research

Health checkups related to lifestyle

diseases & preventive healthcare

emerging trends in Indian diagnostics

The dawn of the 21st century witnessed a significant uptick in demand for

diagnostics services with the rise in chronic diseases such as diabetes &

cardiovascular problems, where doctors are prescribing more tests to identify them.

For example, biochemical testing for HbA1c levels in the blood helps pinpoint the

risk for diabetes in patients. Similarly, tests for lipid profiles are increasingly being

prescribed for patients to identify the risk of cardiovascular diseases. It is estimated

that blood sugar & lipid profile tests have a dominant share within the biochemistry

segment which in itself is the largest segment within pathology testing services.

These two types of tests contributed 29 % - 31 % of overall revenues from

biochemistry testing as on FY15 and are expected to continue to grow more rapidly

than tests such as urine, routine & microbiology tests.

Market share of major pathology testing services


Another interesting trend seen in mid - sized to large diagnostic chains & hospital

based diagnostic centers is the packaging & marketing of their available test menu in

the form of preventive & wellness test packages. These health packages help to

identify pre-existing diseases or the likely risk of particular diseases before the onset

of actual symptoms. This is expected to help people take corrective action before any

chronic conditions take hold. It is estimated that the overall market for wellness &

preventive diagnostics was 6 % - 8 % of the total diagnostic services market in FY15.

This segment is expected to grow at a robust CAGR of 23 % - 25 % over the next

three years as rising literacy levels increase awareness of preventive & curative

healthcare and diagnostic chains push for higher growth through this segment for

improving their capacity utilization levels. In value terms, the preventive & wellness

segment of the diagnostic industry market is estimated to grow from ~ ₹ 26.4 bn in

FY15 to ~ ₹ 48.0 bn in FY18E.

377

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FY15 FY18E

Rural, 33% Urban, 67%

Hematology 18%

Others 22%

Biochemistry 39%

Other Tests

69-71%

Sugar &

Lipid Profile

29-31%

-----------------------------

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Market Size (in ₹ bn) Geographic Segmentation (as on FY15)

Dr. Lal PathLabs

LKP Research 7

Diagnostic chains to capture market

share from unorganized players

through strong brand equity, quality

services & cost efficiencies.

Indian Diagnostics - a fragmented, competitive market


In terms of market composition, the Indian diagnostics industry is highly fragmented

where ~ 85.0 % market share is held by standalone & hospital based diagnostic

centers. While hospital based centers have the advantage of a captive patient base,

this competitive industry has witnessed the rise of regional & pan-India diagnostic

chains such as Fortis Healthcare owned SRL Diagnostics, DLP, Metropolis &

Thyrocare as well. These diagnostic chains look to differentiate themselves from the

unorganized segment on the back of a strong consumer facing brand built on

quality & trust and cost efficiencies from standardization, latest technology, robust IT

infrastructure & economies of scale. These diagnostic chains have the resources &

expertise to invest in the latest technology and bring in the latest methods &

specialized tests which would not be available with the standalone centers.

The 2013 World Health Statistics showed the need for substantial investments in

Indian healthcare infrastructure with ratio of beds to patients in India at a meager 7

beds per 10,000 people, as compared to the world median of 27 beds per 10,000

people. While lifestyle diseases such as cardiac diseases, diabetes, hypertension &

cancer are on the rise with growing income & changing lifestyles, evidence-based

treatment is slowly becoming the norm for many doctors as the right diagnosis

ensures correct therapy & faster patient recoveries. Moreover, as literacy rates,

urbanization & disposable incomes rise, households would increasingly demand

better healthcare facilities, quality of care and higher health insurance coverage. This

offers enormous potential for growth in the Indian diagnostic sector, a market

expected to grow at a robust ~ 16.8 % CAGR to ₹ 601 bn by FY18E, directly

benefiting regional & pan-India diagnostic chains like DLP.

Asset light model significant advantage to DLP as it offers tremendous

potential for scalability

DLP is a leading diagnostic chain which clocked operational revenues of ~ ₹ 7.9 bn

& after tax profits of ~ ₹ 1.3 bn as per its consolidated FY16 financials. A lot of credit

for its impressive ~ 20.0 % yoy growth in its operational revenues & 38.2 %

expansion in its adjusted PAT in FY16 is attributable to its pan-India network which

includes its national reference laboratory in Delhi, 172 clinical laboratories, 1,559

patient service centers and 4,967 pick-up points. This extensive network has been

built using a hub & spoke model, a strategy adopted by leading diagnostic chains

like DLP to widen their reach to a nationwide presence in pathology testing services.

Standalone centers, 48%

Hospital based, 37%

Diagnostic chains, 15%

Regional Chains

60-65%

Pan-India 35-40%

Dr. Lal PathLabs

LKP Research 8

DLPs hub & spoke model


Reach of a typical satellite lab


Typically, individual patients come to one of DLPs 1,559 patient service centers with

a prescribed test request from a physician, other qualified healthcare professional or

a hospital, clinic or nursing home. Based on the particular test request, the staff at

these patient service centers collect the specimens required for testing, which are

then delivered to a clinical laboratory predesignated to process the type of test

requested. If the test requested is of a certain nature or complexity, the sample is

directed to the National Reference Laboratory in New Delhi for processing.

Satellite Lab Satellite Lab

Reference Lab

Patient Service Center Patient Service Center Patient Service Center Patient Service Center

Satellite Lab

2,000 tests a day

PSC

PSC

PSC

PSC PSC

Most collection centers do not have testing

facilities

Collection centers help

increase catchment area & lab utilisation

rate

Primary Catchment Area

5 km 15 km

Dr. Lal PathLabs

LKP Research 9

Exclusive revenue sharing franchisee

contracts enable DLP to widen its

pan-India network.

Wide coverage of over 4,967 points

help DLP service healthcare delivery

providers like hospitals, nursing

homes & polyclinics.

Significant expansion witnessed in DLPs patient service centers network


Over 94.0 % of DLPs patient service centers are not owned by it but are under 5 - 9

year long exclusive revenue sharing agreements. The ratio of revenue sharing

between the franchisee & the company is usually 20:80, although this ratio can

differ depending on competitive pressures in its existing markets or in order to make

inroads in new regions. These contractual agreements specify conditions such as

arrangement & maintenance of proper service center space, basic diagnostic

equipment & other infrastructure requirements, recruitment of phlebotomists, other

specimen collection staff & front office staff etc. DLP in return agrees to provide the

necessary technical, personnel & marketing support to these franchisees in respect

of establishing & operating the patient service center, and in certain cases, the

requisite consumables & collection materials as well. The number of patient service

centers has increased by ~ 16.3 % from 1,340 in FY15 to 1,559 in FY16, exhibiting

the company’s commitment to ramp up its pan-India presence.

Pick-up points help to service healthcare delivery providers.


DLP has a wide coverage of over 4,967 pick-up points where large and small-scale

hospitals, nursing homes, physician practices, laboratories & other healthcare service

providers can deliver specimens for testing. This is a cost-effective way for healthcare

providers that have specimen & sample collection capabilities, but may lack the

resources, expertise, scale or the requisite licenses possessed by larger clinical

laboratories like DLP to provide testing services for their patients. Test reports are

either issued to patients under the Dr. Lal Pathlabs brand name or are white-labeled

by the requesting entity or professional. Samples & specimens are collected from

pick-up points on a periodic basis and delivered via courier to DLPs clinical

laboratories or the Delhi National Reference Laboratory, depending on the nature &

824

1,064

1,340

1,559

500

700

900

1100

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1500

1700

FY13 FY14 FY15 FY16

Number of patient service centers

2,879

4,225

5,668

4,967

2,000

2,500

3,000

3,500

4,000

4,500

5,000

5,500

6,000

FY13 FY14 FY15 FY16

Number of pick-up points

Dr. Lal PathLabs

LKP Research 10

Network of 172 quality clinical labs

act as mini-hubs to surrounding

patient service centers & pick-up

points.

complexity of the tests required. The number of pick-up points declined from 5,668

in FY15 to 4,967 in FY16 as the company realigned some pick-up points from direct

coverage to coverage by franchisees in order to ensure better local service as well as

to optimize on logistics costs.

With 6 decades of experience to its credit, DLP has mastered the hub & spoke model

by strategically positioning its clinical laboratories and effectively spreading out its

patient service centers to ensure maximum coverage, helping it deepen its presence

in its core markets of North & East India from where it generates ~ 86.0 % of its top-

line. Going forward, we expect the company to not only widen its reach through

expansion of its franchisee network, but also effectively compete both in terms of

quality & pricing in its core & non-core markets.

Ramp up of testing capabilities in core markets with investments in regional

reference labs & clinical labs.

~ 96.0 % of the 172 clinical laboratories in DLPs network are owned by the company

itself and are strategically located in metropolitan areas, tier I & II cities in India to

serve as mini-hubs to surrounding patient service centers & pick-up points. These

1,500 - 2,000 square feet laboratories receive test requests & related specimens from

patient service centers & pick-up points via courier and are equipped to conduct &

process a wide range of routine diagnostic tests onsite. Clinical laboratories also

collect specimens for more complex, specialized testing to be conducted in the Delhi

National Reference Laboratory. Some of these laboratories are equipped to provide

basic imaging & radiology services including echocardiograms, X-rays & ultrasound

which are usually provided by third parties pursuant to a revenue sharing

agreement. These clinical labs require ₹ 8 - 12 mn to set up, depending on the size &

test menu on the location. The lab net lab count increased by 8 in FY16.

Increase in clinical laboratories acting as mini-hubs to surrounding PSCs & PUPs


The company also offers laboratory management services to hospitals & those

independent labs which lack the resources, licenses or scale to operate onsite clinical

laboratories efficiently. While the agreements with hospitals typically provides access

to rent-free space, utilities & other infrastructure, agreements with independent labs

usually involve lease rentals for physical space & existing diagnostic equipment. DLP

is responsible for all costs relating to personnel, consumables, transportation of

samples & maintenance of the laboratory and in case of hospital agreements,

diagnostic equipment as well. While some of clinical laboratory arrangements are on

a fixed management - fee basis, majority are operated on revenue - sharing basis.

DLP had 18 hospital management contracts as on FY16, this number being included

in its count of 172 clinical laboratories.

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Number of Clinical Laboratories

Dr. Lal PathLabs

LKP Research 11

Opening reference labs in Kolkata &

Lucknow would help in building

brand equity and reduce reliance on

its Delhi facilities.

Renting of diagnostic equipment &

instruments through reagent supply

agreements help DLPs business stay

scalable & asset light

Set up in 2010, the 80,000 square feet National Reference Laboratory in Delhi serves

as the main hub for the rest of DLPs pan - India network, where the entire panel of

routine & specialized tests offered can be conducted. In addition to walk-in patients,

this lab receives test requests & related specimens via courier from its clinical

laboratories, patient service centers & pick - up points and through home collection

services.

With an aim to ramp up its capabilities in routine & specialized tests in its core

markets similar to its Delhi clinical facilities, the company has decided to construct a

50,000 square feet regional reference lab in Kolkata. This lab is expected to be

commissioned by September 2017 at a capex of ₹ 400 - 500 mn. A second such

venture is expected to come up by FY19 in Lucknow. The Lucknow facility would

enhance DLPs visibility in this medical hub situated at the heart of UP, a state with a

population of more than 200 mn people. DLP expects that building such advanced

capabilities in these medical hubs would help in stepping up its engagement with

the medical fraternity in these areas. This would have twin benefits of raising DLPs

brand equity in a big way and de - risking its business with reduced dependency on

its Delhi facilities for specialized testing.

National Reference Laboratory, Delhi

DLP also receives / collects samples for diagnostic testing in compliance with ICMR

guidelines from other countries like Bhutan, Sri Lanka, Nepal, Bangladesh, Myanmar,

the United Arab Emirates, Oman, Qatar, Kuwait, Kenya, Tanzania & Nigeria. While

the company does not currently have testing facilities outside India, they may

consider clinical laboratory expansion in the neighboring countries of Nepal,

Bangladesh & Sri Lanka, as well as selective entry into certain African & Middle

Eastern countries. In fact, the regional reference lab to be commissioned in Kolkata is

expected to benefit its operations in neighboring export markets. Its overseas

business constituted only 1.0 % of its top - line as on FY16.

The company follows an asset light model for the procurement of diagnostic

equipment & instruments used in its clinical laboratories also as it typically rents the

requisite equipment & instruments from various vendors under reagent rental

arrangements. Their key suppliers are manufacturers of automated analyzers,

reagents & diagnostic kits. These reagent supply agreements provide for minimum

purchase levels for each month that and also include volume discounts if these

minimum requirements are exceeded by a specified amount. Equipment is

purchased only when it is not available under a reagent rental basis and / or

Dr. Lal PathLabs

LKP Research 12

Home collection of samples can be

availed through telephone & online

media

renting is less cost-effective. Maintenance of equipment under reagent rental

arrangements are done by the vendors in accordance with the terms of agreed

service level agreements with the instruments regularly recalibrated by the company

as well.

DLP has benefited tremendously from centralized testing as economies of scale &

operating leverage have helped it to earn superior margins & robust free cash flows.

This has made ample resources available with the company to acquire newer

technologies & IT systems that has allowed it to improve the overall efficiency of its

diagnostic testing services. Its laboratories & testing facilities meet high quality

standards, evident by its CAP & NABL accreditations, which when combined with its

robust logistics network, ensure accurate test reporting at faster turnaround time. In

a market where accuracy & timeliness of test reports could be the difference

between life & death, DLP has built a brand synonymous with quality, reliability &

trust in Indian diagnostics.

A strong IT system backbone of DLPs hub & spoke business model

The economies of scale that DLP has managed to achieve with the implementation

its hub & spoke model would have not been possible without the IT systems in place

to handle the huge volume of data, sensitive or otherwise. A short summary of its

comprehensive IT systems is given below.

Laboratory Information

Management System

Stores & manages all clinical

laboratory data

Allows tracking of specimen

collection, shipping & testing in real

time

ERP System

Maintenance of payables,

receivables, inventory, banking &

general ledgers

Allows better control of finances,

inventories & purchases real time

Customer Program

& Interface

Interface designed to book & view

test results immediately when ready

Available in both website & app

formats

Data Analysis, Privacy,

Security & Recovery

ISO 27001:2013 accreditation for IT

security management

Data analytics initiative in its early

stages

DLP offers home collection services to patients, whereby specimens would be

collected from the customers’ locations, such as homes or offices. This enables the

company to provide convenient, quality services to patients & help alleviate potential

high traffic periods in clinical laboratories & patient service centers. This home

collection service can be availed either by calling the closest patient service center in

the patient’s vicinity or booking a test through their website www.lalpathlabs.com

or their mobile app.

Dr. Lal PathLabs

LKP Research 13

There is an increasing awareness of preventive healthcare, especially in urban India

which constitutes ~ 67.0 % of the industry where the general public are getting

more open to the idea of screening tests in order to prevent the onset of diseases &

take measures to ensure a better quality of life. We believe that the convenience

offered by home collection facility serviced through DLPs growing network of more

than 1,500 centers either through the online or telephone media would help in

sustaining the momentum in the areas it operates, enhancing its growth prospects.

Mobile app - a move towards going digital

Dr. Lal PathLabs

LKP Research 14

Company to continue to deliver

healthy growth through prudent

expansion of pan-India network

Financial Position

Revenues

The operational revenues of DLP have grown at a steady ~ 27.2 % CAGR from

~ ₹ 2,373 mn in FY11 to ~ ₹ 7,913 mn in FY16. This commendable growth can be

attributed to its intensive efforts to widen its reach to a pan - India network of 1,559

patient service centers & 4,967 pick-up points.

Operational Revenues to continue to exhibit healthy growth


DLP is at a sweet spot given the present under - penetration of healthcare in India,

the company’s strong presence in metros & other dense population clusters, brand

equity and construction of regional reference labs in the medical hubs of central &

eastern India. Its NABL accreditation also opens up opportunities to participate in

government health schemes where it is a mandatory eligibility condition for

diagnostic centers’ empanelment under the scheme. We expect the company to

continue to deliver healthy growth as it looks to increase the breadth of its

diagnostic healthcare testing & services platform, expand its presence in areas in

which it operates and enter into strategic acquisitions & partnerships, as seen from

its recent acquisition of Bhopal based Delta Ria and Pathology Private Limited and

increase in its stake in subsidiaries Paliwal Diagnostics & Paliwal Medicare. We expect

its top-line to expand at ~ 19.9 % CAGR to ~ ₹13.6 bn by FY19E.

EBITDA & EBITDA Margins

Impressive growth in EBITDA testament to DLPs asset light model


DLP has maintained its EBITDA margins upwards of 20.0 % in FY11 - FY16 while

growing its operational profits at an impressive ~ 30.0 % CAGR from ~ ₹ 566 mn in

FY11 to ~ ₹ 2,097 mn in FY16. A key reason for its healthy EBITDA & margins is the

2,373 3,422

4,517 5,579

6,596 7,913

9,376

11,364

13,648

-

2,000.0

4,000.0

6,000.0

8,000.0

10,000.0

12,000.0

14,000.0

16,000.0

FY11 FY12 FY13 FY14 FY15 FY16 FY17E FY18E FY19E

566 865 977

1,386 1,560

2,097 2,494

3,020

3,609

23.9%

25.3%

21.6%

24.8% 23.6%

26.5% 26.6% 26.6%

26.4%

0.0%

5.0%

10.0%

15.0%

20.0%

25.0%

30.0%

0

500

1000

1500

2000

2500

3000

3500

4000


EBITDA (₹ Mn) EBITDA Margins (%)

Dr. Lal PathLabs

LKP Research 15

DLP to protect EBITDA margins

through asset light strategy of

franchisee & reagent rental

agreements.

Rise in other income to offset

incremental charge on depreciation

from Kolkata & Lucknow investments.

scalability of its hub & spoke model and expansion of its pan-India network. We

expect DLP to protect its margins through prudent expansion of its network,

especially in its core North & East markets as it looks to tide over the impact of

demonetization & competitive pressures through its existing asset light strategy of

conducting business through revenue sharing franchisee agreements & reagent

rental arrangements. Going forward, DLP is expected to maintain EBITDA margins

and deliver a healthy 20 % annual growth to ~ ₹ 3,609 mn by FY19E.

PAT & PAT Margins

Debt free status and rise in other income lift PAT & PAT margins


PAT & PAT margins has grown at a ~ 35.5 % CAGR from ~ ₹ 291 mn in FY11 to

~ ₹ 1,322 mn in FY16. PAT margins have also improved over this 6 year period from

~ 12.1 % in FY11 to ~ 16.3 % in FY16. This further highlights the asset light nature of

this business where the company has been able to achieve ~ 20.0 % top line growth

and ~ 30.0 % EBITDA growth despite its fixed asset base growing at ~ 6.4 % CAGR,

thereby keeping its depreciation & amortization charge in check. This has enabled

DLP to generate ample free cash flows & reserves, a significant part of which is being

increasingly parked in short term investment vehicles, whose returns have caused its

other income to expand from ~ ₹ 25 mn in FY11 to ~ ₹ 198 mn in FY16.

Going forward, we believe that the increasing returns from short term investments

would help partially offset incremental depreciation charge from the commissioning

of the regional reference labs in Kolkata & Lucknow. We expect DLP to expand its

bottom-line at a CAGR of more than 20.0 % while maintaining healthy PAT margins

in the range of 16 - 18 %. This will enable the company to generate robust return

ratios of ~ 34.0 % ROCE & ~ 26.0 % ROE in the period between FY17E - FY19E.

DLP to continue to deliver robust return ratios


291 447 551 796

957

1,322 1,609

1,996

2,461

12.1%

13.0%

12.1%

14.1% 14.2%

16.3% 16.7% 17.1%

17.5%

0.0%

2.0%

4.0%

6.0%

8.0%

10.0%

12.0%

14.0%

16.0%

18.0%

20.0%

0

500

1000

1500

2000

2500

3000


PAT (₹ Mn) PAT Margins (%)

44.4%

57.5%

47.7% 48.1%

37.5% 35.8% 34.7% 34.4% 33.9% 31.4%

38.6%

34.0% 34.4%

28.1%

26.1% 25.5% 25.7% 26.0%

20.0%

25.0%

30.0%

35.0%

40.0%

45.0%

50.0%

20.0%

25.0%

30.0%

35.0%

40.0%

45.0%

50.0%

55.0%

60.0%

65.0%

70.0%


ROCE (%) ROE (%)

Dr. Lal PathLabs

LKP Research 16

Peer Group

The stellar debut of DLPs ~ 33.4 times oversubscribed IPO which gained ~ 50.0 % on

the day of its listing in December 2015 brought the attention of the investing

community to the Indian diagnostics industry. Investors are buying into the massive

potential that the industry has to offer, evident by the success of the subsequent

Thyrocare IPO in May 2016 and plans of other big peers in the organised segment

such as Metropolis & SRL Diagnostics to enter the listed space. We believe that the

aggressive competition & brand building of the organised players in Indian

diagnostics would help in increasing the size of their market pie by snatching share

from the unorganized segment, ultimately benefiting all players in the listed space. A

peer comparison of DLP & Thyrocare is given below.

Particulars DLP Thyrocare

Market Capitalisation 88,985 37,386

Consolidated Revenue 8,111 2,475

Consolidated EBITDA 2,097 935

EBITDA Margins 26.5% 38.8%

Consolidated PAT 1,322 518

PAT Margins 16.3% 20.9%

FY16 P/E 66.7 69.4

Risks & Concerns

The performance, growth & integrity of the Dr. Lal Pathlabs brand name relies

on the performance of franchisees which control more than 94.0 % of the 1,559

centers as on FY16. A case in point would be the unconfirmed allegations that

one of their franchisees at Jalandhar has contravened certain provisions of the

Human Organs Transplantation (Amendment) Act, 2011, by swapping blood

samples to match the DNA sample reports of donors & recipients for kidney

transplants. Such allegations can be severely damaging to the brand equity of

DLP which functions in a competitive B2C market where quality & trust play a

major role.

Competitive pressures from both unorganized players which form ~ 85.0 % of

market as well as rise of more regional & pan-India chains can lead to

undercutting of prices, suppressing margins.

While the diagnostic healthcare services industry in India is presently not subject

to extensive governmental control, the government could introduce more

stringent regulations. Any changes in regulations or introduction of price

controls for the larger benefit of society could have a material adverse effect on

DLPs business, operating revenues & cash flows. We have seen imposition of

price caps for tests of epidemics such as dengue & malaria in the past.

Any interruptions in DLPs Delhi national reference laboratory or its information

technology systems which form the backbone of its entire business model could

lead to serious disruptions in operations & profitability.

While service tax is not currently levied on diagnostic testing services, it is

uncertain whether these services would continue to be exempt or zero rated

under the proposed GST regime. This leaves a risk of tax led price hikes putting

organised players like DLP at a disadvantage in this fragmented & competitive

industry.

Dr. Lal PathLabs

LKP Research 17

Outlook & Valuation

The Dec '16 IPO of DLP opened up an opportunity to the investors to buy in the

demand inelastic diagnostics industry where quality, accuracy & efficiency command

a premium. The oligopolistic organized space enjoys a significant upside potential to

capture market share from the fragmented standalone players as structural trends of

growing urbanization, rise in evidence based treatment and increasing health

awareness, especially preventive healthcare are expected to give a fillip to the

demand for diagnostic testing services. While the listing of DLP & Thyrocare have

excited markets towards the diagnostic space, valuations are not cheap as only two

more players are likely to be listed in the near future. Scarcity of quality players from

organised segment coupled with huge conversion opportunity from unorganized

segment would in our view prevent players like DLP being available at very

compelling valuations.

We believe that DLP is the perfect pick to bet on the structural long term growth

story of Indian diagnostics, considering its market leadership in the organized space,

pan-India presence, quality testing capabilities & asset light model of network of

franchisees & sourcing of equipment through reagent rental agreements generating

robust free cash flows. We expect the company to continue on its high growth

trajectory with its operational revenues & PAT set to grow at CAGR of ~ 20.0 %

during FY17E-19E, delivering an average ROCE of ~ 34.0 % & ROE of ~ 26.0 %.

Considering its 6 decades of experience in diagnostics, inherent strength of its

business model, market potential especially in the organised space, debt free status &

robust return ratios, we initiate coverage on DLP with a BUY rating and a 15 month

price objective of ₹ 1,250 ( 15.7 % upside).

Dr. Lal PathLabs

LKP Research 18

Financials (Consolidated)

Income statement

YE Mar (₹ mn) FY15 FY16 FY17E FY18E FY19E

Op. Revenue 6,596 7,913 9,376 11,364 13,648

Material Costs 1,392 1,729 2,063 2,501 3,007

Employee Benefits 1,344 1,368 1,628 1,984 2,379

Other Expenses 2,301 2,718 3,191 3,860 4,654

Op. Expenses 5,036 5,816 6,882 8,345 10,039

EBITDA 1,560 2,097 2,494 3,020 3,609

EBITDA Margins 23.6% 26.5% 26.6% 26.6% 26.4%

Dep. & Amort. 282 283 303 347 399

EBIT 1,278 1,814 2,191 2,672 3,210

EBIT Margins 19.4% 22.9% 23.4% 23.5% 23.5%

Finance Costs 4 5 5 6 6

Other Income 124 198 239 323 450

PBT 1,397 2,007 2,425 2,990 3,654

Tax 433 675 803 978 1,173

Minority Interest (8) (10) (13) (16) (20)

Adjusted PAT 957 1,322 1,609 1,996 2,461

Adjusted PAT Margins 14.2% 16.3% 16.7% 17.1% 17.5%

Key Ratios

YE Mar FY15 FY16 FY17E FY18E FY19E

Per Share Data (₹)

EPS 16.8 16.1 19.4 23.9 27.4

CEPS 22.0 19.5 23.1 28.0 31.9

BVPS 63.1 61.7 76.3 93.0 105.5

DPS 1.5 2.5 2.0 2.6 3.1

Growth Ratios (%)

Revenues 18.2% 20.0% 18.5% 21.2% 20.1%

EBITDA 12.6% 34.5% 18.9% 21.1% 19.5%

PAT 20.2% 38.2% 21.8% 24.0% 23.3%

Valuation Ratios (X)

P/E 64.3 67.1 55.6 45.2 39.4

P/CEPS 49.1 55.3 46.8 38.5 33.9

P/B 17.1 17.5 14.2 11.6 10.2

EV/ Revenues 0.9 1.1 1.0 0.8 0.7

EV/EBITDA 4.0 4.3 3.6 3.0 2.7

FCF/EBITDA 0.3 0.4 0.3 0.3 0.2

Net Debt/ Equity (0.4) (0.5) (0.4) (0.4) (0.3)

Profitability Ratios (%)

ROCE 37.5% 35.8% 34.7% 34.4% 33.9%

ROE 28.1% 26.1% 25.5% 25.7% 26.0%

Dividend payout 8.8% 15.3% 18.6% 22.8% 27.9%

Dividend Yield 0.1% 0.2% 0.2% 0.2% 0.3%


Balance sheet


Share Capital 813 827 828 835 897

Reserves & Surplus 2,598 4,239 5,488 6,937 8,571

Net Worth 3,411 5,066 6,317 7,772 9,468

Share Appn. Pending Allot. - 7 62 66 68

Minority Interest 23 29 24 29 32

L.T. Borrowings - - - - -

Other L.T. Liab. & Provn. 202 242 292 353 426

Sources Of Funds 3,636 5,344 6,694 8,221 9,994

Fixed Assets 1,095 1,280 1,694 1,984 2,289

Goodwill on Consol. 416 417 418 419 426

Other L.T. Assets 426 318 376 405 439

Current Assets

Cash & Cash Equivalents 1,481 2,296 2,700 3,149 3,261

Current Investments 379 643 1,126 1,970 3,447

Inventories 143 145 198 247 305

Trade Receivables 310 363 442 548 673

S.T. Loans &Advances 457 723 820 909 998

Other S.T. Assets 46 66 78 92 108

Current Liabilities & Provisions

S.T. Borrowings - - - - -

Trade Payables 342 423 537 637 750

Other S.T. Liabilities 586 175 180 222 266

S.T. Provisions 190 310 442 643 937

Net Current Assets 1,699 3,329 4,206 5,412 6,840

Application of Funds 3,635 5,344 6,693 8,220 9,994

Cash Flow


Profit Before Taxes 1,397 2,007 2,425 2,990 3,654

Minority Interest (8) (10) (13) (16) (20)

Depreciation 282 283 303 347 399

Finance cost 4 5 5 6 6

Other Income (124) (198) (239) (323) (450)

Change in Working Capital (360) (398) (472) (757) (1,316)

Tax Paid (433) (675) (803) (978) (1,173)

Other Operating Activities (21) 149 (8) 32 39

CF from Operations (a) 739 1,163 1,198 1,301 1,140

Net Capital Expenditure (392) (468) (718) (637) (704)

Goodwill on Consolidation (0) (1) (1) (1) (7)

Other Income 124 198 239 323 450

CF from Investing (b) (269) (272) (479) (315) (261)

Free Cash Flow (a+b) 470 891 719 986 878

Proceeds / (Buyback) of Eq 106 161 1 7 62

Share Appn pending allot. - 7 54 5 2

Inc / (Dec) in MI 5 6 (5) 5 3

Equity Div. & DDT (102) (246) (360) (548) (827)

Pref Div. & DDT (49) - - - -

Finance cost (4) (5) (5) (6) (6)

CF from Financing (c) (45) (76) (315) (537) (766)

Change in C & CE (a+b+c) 425 815 404 449 112

Closing C & CE 1,481 2,296 2,700 3,149 3,261

Dr. Lal PathLabs

LKP Securites Ltd, 13th Floor, Raheja Center, Free Press Road, Nariman Point, Mumbai-400 021. Tel -91-22 - 66351234 Fax- 91-22-66351249. www.lkpsec.com

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Dr. Lal PathLabs - LKP Sec Path labs... · Dr. Lal Pathlabs (DLP) is a leading player in the fragmented & competitive Indian diagnostics market, an industry estimated to grow at a