Indian hospital operator sees modest demand for its IPO

Support from long-term investors who are keen on the sector allows Fortis Healthcare to price its offering close to the top of the range.
Indian hospital operator Fortis Healthcare has priced its initial public offering towards the upper end of the indicative range for a total deal size of Rs4.97 billion ($119 million), following fairly modest demand from all categories of investors. In total, the deal was about 2.8 times subscribed.

Given that this is only the second IPO of size in India this year after IDEA CellularÆs $555 million offering in February, one might have thought that the investor interest would be greater. Especially since IDEA has risen 53% since its listing, compared with a 1% gain in the Mumbai Sensex index since the beginning of the year.

Fortis, which started its hospital operations in 2001, has yet to turn a profit, however, and one observer notes that the deal was also quite aggressively priced, which likely contributed to the tepid demand.

However, the fact that Fortis was marketed as a medium- to long-term story may also have put off investors looking for quicker returns. Domestic investors have previously shown that as a group they arenÆt very keen on companies where most of the earnings growth lies a couple of years into the future or whose business models make analysts value them on a net asset value or enterprise value (EV) basis, rather than on a more straight forward price-to-earnings basis.

On the other hand, the deal did attract investors who want to play the healthcare theme, and since there arenÆt too many Indian alternatives available in this sector, the Fortis offering did benefit from a bit of a scarcity effect.

Investors also liked the management, which was being described as young, professional and hungry for growth. Health care services are ôtotally underpenetrated in Indiaö which should offer growth opportunities for several years to come, argues one source. ôThere is a sector opportunity here for at least 10-20 years,ö he adds.

Fortis is part of the same promoter group as Indian drug maker Ranbaxy Laboratories, which may have helped attract some retail investors to the deal. However, the source says for institutional investors ôthe sector was more important than the Ranbaxy nameö.

According to the World Health Organisation, India lags behind other developing nations in several health categories, including life expectancy and infant mortality and as of 2003 total healthcare spending amounted to only 4.8% of gross domestic product. This compares with 7.6% in Brazil, 5.6% in China and 6.2% in Mexico, according to data published in FortisÆ listing document.

Fortis sold 46 million shares, or 20.3% of its enlarged capital, at a price of Rs108 per share after marketing them to investors at Rs92 to Rs110 apiece. Of the total amount, 60% went to qualified institutional buyers (QIBs), 9.9% to non-institutional investors û typically high net-worth individuals û and 30% to retail investors. About 0.6% was also set aside for employees of the company.

The deal was jointly arranged by Citigroup, JM Morgan Stanley and Kotak Mahindra.

Subscription data on the National Stock Exchange of IndiaÆs website show that the QIB tranche was 2.7 times covered with 64% of the order amount coming from foreign investors. About 80-90% of these investors were said to have been long-term players, who are expected to give the stock support when it starts trading.

High net-worth individuals asked for 1.73 times the shares available to them, while retail investors subscribed for 3.3 times their allocated portion.

At the final price, Fortis is valued at a 2009 EV/Ebitda multiple of about 12. This puts it at a slight discount comparables like Apollo Hospitals, which trade at about 13-14 times, the source says.

Fortis have been expanding aggressively since it set up its first hospital about six years ago and now operates 11 hospitals as well as 16 heart centres, of which one is located in Afghanistan. In September 2005 it bought 90% of the Escorts Heart Institute & Research Centre for about $140 million, which more than doubled its gross income. The acquisition is said to have increased the groupÆs expertise and prominence, especially within the cardiac care specialty area.

At the same time though, Escorts is the subject of ôsignificant outstanding litigationö on various issues, including its entire corporate existence, its business operations, tax payments and land rights which could have a materially negative impact on FortisÆ operations and financial condition, the company notes in the prospectus. It is also bound to have added to the scepticism among some potential investors at least.

M&A activities will continue to feature as part of the companyÆs growth strategy, the source says, noting that a greenfield hospital may take three years to build and then another two to three years until breakeven, while an acquisition can be turned around pretty quickly. The company is also looking for further opportunities with regard to entering into operating & management contracts for hospitals that it doesnÆt own itself and will be seeking to expand its geographic reach. At present most of its hospitals are located in northern India.

In the nine months to September 2006, Fortis reported a consolidated loss of Rs749.7 million ($18 million), which was up from Rs577 million in the fiscal year to March 2006.

Part of the reason for the increasing loss, sources say, is the high interest expense incurred in connection with the acquisition of Escorts. In the nine months to September its total interest costs amounted to Rs454 million ($11 million) and by the end of 2006, close to 92% of its borrowings were based on floating rates.

According to the prospectus the company is planning to spend Rs5.6 billion ($134 million) to repay the loans taken up to buy Escorts, and will use the majority of the IPO proceeds, or Rs4.7 billion, for this purpose. This will reduce its gearing down to the single digits and help to improve its bottom line, remarks the source.

The date for the trading debut has yet to be finalised, but will happen by May 11 at the latest.
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