Buy, sell, hold: Profit Threshold

By Jenny Ruth

Thursday 1st July 2004

Abano Healthcare morphed out of former oil and gas explorer New Zealand Petroleum in 1999. Formerly called Eldercare, it's a creation of entrepreneur Eric Watson, who brought the company to the sharemarket via a backdoor listing through New Zealand Petroleum. Since then Abano has diversified into rehabilitation, diagnostics and dental care services, employing more than 1300 staff in 43 facilities in New Zealand and three dental practices in Australia.

Management
Managing director Alan Clarke, who took over in early 2000, previously worked for Swiss-based multinational SGS where, over a ten-year period, he built up a collection of pathology and radiology businesses in Australia and New Zealand with sales of over $400 million and 5000 staff. That business was sold to Australian listed company Sonic Healthcare before he joined Abano.

The numbers
Clarke says the business wasn't viable when it was listed, being too heavily geared and lacking a core earnings stream to service that debt. The profit reported in the year ended May 2000 was made up of one-off landbank sales. Although EBITDA (earnings before interest, tax, amortisation and depreciation) have gone from $3.8 million in 2000 to $8.5 million in 2003, the company has suffered yet another setback, warning that this year's EBITDA will be below last year's, and that the net result will be yet more red ink. Back in November, the company was forecasting that core net earnings would be between 60% and 100% higher than last year.

Current strategy
Paradoxically, the company's diversification strategy has become more urgent since the government announced plans to lift the threshold of assets rest home occupants can keep before having to contribute to their costs.

From July 2005 the threshold will increase from $15,000 to $150,000. Currently 60% of Abano's Eldercare division's funding comes from the government, and 40% is private. Once the asset threshold goes up, Clarke estimates government funding will account for 90%. He says the trouble with government funding is that it is inadequate to provide quality care. While the government pays about $186 a day to keep someone in prison, it will pay a maximum of $86 a day for aged care, he says. Eldercare is particularly disadvantaged by this compared with the other listed retirement companies because its business is concentrated at the nursing care end of the market, rather than on those who can live relatively independently.

Clarke's view is that unless the government increases funding, nursing home operators will have to increase the size of their facilities to spread the costs. Already, the company can expect only a 5% to 10% EBITDA return on capital from Eldercare.

While most of the rehabilitation division's revenue also comes from the government, 83% of it comes indirectly through ACC, and the EBITDA return on capital ranges from 15% to 25%. About 90% of the diagnostics division's revenue also comes from the government, with returns similar to the rehabilitation division. In the dental division, dependence on government funding is only 15% and Abano hopes once a current IT installation phase is over, returns will equal that of the diagnostics and rehabilitation divisions.

Recent performance
The only division expected to perform to plan this year is diagnostics. The dental business expects improvements, but the aged care and rehabilitation divisions will produce lower results than last year. The change to district health boards has brought a whole new set of rules and people, resulting in "soft referral trends", although Clarke says this has improved in recent months. While the results have been disappointing to date, Clarke remains convinced the current portfolio of businesses will begin to pay off. In the meantime, the poor results have meant the company has had to postpone a planned capital raising to fund further acquisitions.

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