ASX healthcare shares have underperformed the broader market since the pandemic-induced market lows in March 2020.
Over the last three years, the S&P/ASX 200 Healthcare index has returned just 5.5% per year compared to the S&P/ASX 200 index (ASX: XJO) which has returned 17.5% per year, due to a higher weighting to resources and bank stocks.
With elective surgeries returning, earnings growth for healthcare shares should return to historic levels. Valuations for shares are yet to catch up, presenting an opportunity for investors.
While some investors are being drawn to gold shares for defensive portfolio positioning, healthcare shares typically enjoy a resilient earnings stream, where spending is non-discretionary and tailwinds from Australia’s aging population support demand.
ResMed CDI (ASX: RMD)
Resmed CDI (ASX: RMD) enjoys a strong market position in its core respiratory device market, selling CPAP machines to assist breathing while sleeping at home or in the care setting of the patient’s choice.
It is a mature company — RMD shares typically pay unfranked dividends each quarter.
However, ResMed estimates a large and largely underpenetrated (<20%) serviceable addressable market of 500 million people who have sleep apnea, or associated breathing/sleeping conditions.
Resmed’s market position has been strengthened in recent times, with competitor Phillips suffering from a product recall in June 2021. Phillips machines had a certain foam (to minimise noise) that was defective and adversely affected air quality — not a great combination for a breathing device! This should lead to market share gains for Resmed.
By way of comparison, Cochlear Ltd (ASX: COH), which sells hearing implant devices, took four years for sales revenue to increase back to the levels achieved prior to its product recall in 2011.
Other inflationary cost pressures (chip shortage, freight, FX headwind, labour) should begin to ease in 2023. Historically gross margins have come in at ~58-60%. In the first half 2023 result, RMD gross margins were reported at 56.8%. An upwards reversion to historic margins would significantly increase RMD earnings per share.
In times of market uncertainty, RMD shares have achieved ultra-reliable growth, with revenue growth of greater than 8% in each of the last 8 years. Paired with a below historical average of 30x forward P/E ratio, RMD shares look attractive at current levels.
Monash IVF Group Ltd (ASX: IVF)
Monash IVF Group Ltd (ASX: MVF) is a small-cap share operating in the IVF and fertility space.
MVF is the market leader, with 27 fertility clinics across Australia (where it has approximately 20% market share), Singapore, Malaysia and Indonesia. As the business grows in Asia, we expect similar advantages of scale which it has enjoyed in Australia. That is, greater brand name trust and the ability to attract and retain skilled clinicians.
IVF has structural tailwinds as the demand for IVF services is growing due to workforce and lifestyle trends.
The average maternal birth age has increased by two years over the last 20 years. Chances of conception decline steeply with age, so IVF will be an important option for many to consider.
IVF as a science has been improving in terms of pregnancy rates. MVF achieved clinical pregnancy rates of 38% in 2022, up from 32.6% back in 2018.
MVF’s closest competitor, Virtus Health (ASX: VRT) was taken over by private equity firm BGH capital on a valuation of 12.4x EV/EBITDA. Private equity likes the defensive, predictable nature of the earnings in the IVF sector.
Recent merger discussions between Australian Clinical Labs (ASX: ACL) and Healius (ASX: HLS) highlight the acquisitive interest in the sector.
MVF shares trade on a forward EV/EBITDA of 8.9x, so a re-rate to Virtus’s share price would translate to +39% upside from current prices. MVF also has a greater market share and lower net debt than Virtus.
