Mumbai: Stocks of hospital chains hold better prospects than pharmaceutical peers in the healthcare sector because of their attractive valuations and the regulatory and pricing pressure confronting drug makers in the US, analysts say.

For most Indian pharmaceutical companies, the US is the biggest market, accounting for almost half their revenue. The business environment in the US has become challenging as regulatory scrutiny, increased competition and consolidation in distribution channels has raised pricing pressure on generic drug makers.

While government intervention in the pricing of certain services and products is an overhang on the hospital business, a few hospital operators have offset it by increasing the rate they charge on beds occupied by patients and so on.

For example, Bengaluru-based hospital chain Narayana Hrudayalaya Ltd plans to increase charges for performing the angioplasty procedure as a sharp reduction in coronary stent prices by the government has hurt profitability, Mint reported on Thursday.

On 17 August, the country’s drug pricing regulator National Pharmaceutical Pricing Authority (NPPA) capped the prices of knee implants in a move that is expected to reduce product prices by as much as 69%.

“Government’s intervention now and then is not good news, but seems like many hospitals seem to the covering up for these by increasing the cost of other consumables, rent of the bed, costs in the lab," said Surajit Pal, research analyst at Prabhudas Lilladher Pvt. Ltd.

Pal warned that there is always a fear that the government can clamp down on that too, and government intervention does remain an overhang on hospital stocks.

“That said , hospital stocks offer a better opportunity to invest as compared to pharmaceutical producers. Fortis Healthcare, I think is better placed than its peers in this space because it is available at distressed level," he added.

According to data from Bloomberg, Fortis currently enjoys 13 buy ratings and two hold or neutral ratings. There is no sell rating on the stock.

According to Pal, Fortis’s market cap is around Rs7,800 crore, compared to diagnostic services provider Dr. Lal Pathlabs Ltd which is at a market cap of Rs6,700 crore. The former is a bigger business, and counts SRL Diagnostics Ltd as a subsidiary.

“This means that the valuation of hospital business is currently undervalued, and available at an attractive price to investors," said Pal.

On 23 August, Goldman Sachs initiated coverage of Fortis Healthcare with a buy rating, and a target price of Rs190.

“Fortis, post rapid footprint expansion, is consolidating and sweating its key hospital assets," Goldman Sachs analysts wrote, forecasting a compound annual growth rate (CAGR) of 11% in revenue in the fiscal years 2018-20.

The other stock that Pal of Prabhudas Lilladher likes in this space is Healthcare Global Enterprises Ltd (HCG) because its revenue is more dependent on repeat visits by customers, and not on bed rentals.

In a report on Apollo Hospitals Ltd, dated 16 August, Edelweiss Securities said it estimates its earnings before interest, tax, depreciation and amortisation (Ebidta) to expand at a CAGR of 22% and return on capital employed to jump 390 basis points to around 11% over fiscal years 2017-19. One basis point is one-hundredth of a percentage point. The brokerage maintained a buy rating on the stock.

Apollo Hospitals currently has 15 buy or outperform rating, five hold or neutral ratings and one sell rating. Healthcare Global has six buy or outperform ratings, and one neutral rating, while Narayan Hrudayala has seven buy or outperform ratings, and two hold or neutral ratings. The latter two stocks have no sell ratings on them.

For the year to date, Fortis Healthcare, Apollo Hospitals and Narayana Hrudayalaya have fallen 15.92%, 13.09%, and 11.14%, respectively. HCG shares, meanwhile, have risen 10.01%.

In the same period, the BSE Sensex has gained 18.66%, while the BSE Healthcare index declined 10.19%.

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