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Margin surprise highlights core strength

Dr Lal PathLabs (‘DLPL’) reported 15%YoY growth in Non-Covid revenues with margins expanding to 26.9% (adjusted 28%) aided by seasonality and improving realisation. Average realisation per patient (‘ARPP’) improved to INR 746 (vs. INR 729 QoQ) as Swasthfit contribution increased to 20% (INR 950mn), a new trend emerging post pandemic supported by marketing focus. Patient volumes (ex-Covid) grew 11%YoY to 7mn. Growth (exSuburban) was 6%YoY mainly due to pent-up demand in base quarter, trending slightly below management expectations and expected to normalise to pre-pandemic levels over medium term. Suburban contribution was INR 401mn (INR 375mn non-Covid revenue) up 6%QoQ with normalised EBITDA margins of 17.5%. The management continues to work on integration, rationalising and optimising business processes which are expected to reflect in the subsequent quarters. The management remained confident of volume growth and sustaining pre-Covid margins. While 3Q is likely to be soft for the industry due to festivities, 4Q is expected to be better particularly on a low base. DLPL has sufficient headroom to grow inorganically with INR 4.2bn net cash. While some moderation is now visible in metro cities, DLPL’s focused expansion in Tier2/3 provides continued growth momentum over and above Suburban integration and increasing contribution from high-margin Swasthfit. Given the margin sustenance, mid-teen growth on an expanding base and high cash flow generation, we maintain BUY and roll forward to Mar’25 earnings to derive a Price Target of INR 2900.

* Non-Covid business grows despite high base: Patient volume (incl. Covid volumes of c.0.1 mn) grew 4%YoY to 7.2mn (4% miss). Non-Covid volumes grew by c.11% YoY including Suburban to c.7 mn (5% miss), can be considered as pandemic fatigued. Realization per patient improved 4% YoY (+2%QoQ) to INR 746 (5% beat). Realization per patient for non-Covid tests stood at c. INR 734 (+3%YoY, 4% beat). Covid revenues plunged 61%YoY (above expectations) contributing a mere 4% to total revenues. High-margin ‘Swasthfit’ portfolio contributed c.20% to non-covid revenues. According to the management, bundled test offerings seem to be an emerging trend which will continue to reflect via increasing Swasthfit contribution. Suburban revenues in 2Q were INR 401mn (INR 375mn non-covid) with 17.5% normalized EBITDA margins. The revenues were on a net-basis due to IndAS adoption, ex of which Suburban revenues were INR 550mn. The management is in the process of optimizing business processes which should reflect in growth going forward.

* Growth and margins to sustain: The management indicated that peer growth in metro cities is moderating however multiple many new competition is also moderating the price war. DLPL’s expansion in Tier2/3 cities is driving high growth. The company continues to focus on penetrating deeper in North, build in West (Suburban) and expand in South (Bengaluru lab doing well). While 2Q is the best quarter seasonally for the industry, the management cautioned against extrapolation of current margins of 26.9% (which will remain around pre-Covid levels) and growth due to uneven base in FY22. Accordingly, 3Q will be soft and 4Q will be a strong base (4Q22 was weaker due to Omicron).

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