EUR 850.00 For Business Accounts Only

Morningstar | Transfer of Analyst Coverage on Ebos Group

We have transferred analyst coverage of narrow-moat-rated Ebos Group.

We maintain our current forecasts and the NZD 20 per share fair value estimate is unchanged (AUD 18 per share using an NZD/AUD exchange rate of 1.10). Shares in Ebos are currently trading around 12% above our intrinsic assessment.

We acknowledge the potential margin dilution the new My Chemist/Chemist Warehouse, or MC/CW, contract (commencing in fiscal 2019) may have on the group. However, the contract's approximate AUD 1 billion per year revenue will account for only around 10% of group revenue and earnings in fiscal 2020, and as more volume will flow through Ebos' existing distribution centre and supply infrastructure, the lower margin nature of the new contract is partly offset.

Our fair value estimate for Ebos Group of NZD 20 per share is based on a discounted cash flow analysis of future cash flow, using a weighted average cost of capital of 8.1%. Our intrinsic assessment incorporates five-year revenue CAGR of 6.5% and average EBIT margin of 3.2% for the next five years, driven by continued growth in the Australian business units and stabilisation of the Pharmaceutical Benefits Scheme, or PBS, pricing and synergies from recent acquisitions.

At an industry level, our long-term stance on the pharmaceutical wholesale industry remains cautious. The nondiscretionary nature of pharmaceuticals, coupled with the ageing general population, implies defensive earnings streams. However, we expect earnings growth will be limited, given current government PBS policies, and could be further eroded, should direct supply distribution by drug manufacturers drive structural change through the disruption of the traditional pharmaceutical wholesaler business model.

To date, the company's strategy has focused on making complementary acquisitions of brands that offer cross-selling opportunities. Notwithstanding potential synergies at both the revenue and cost lines, the overall business remains highly leveraged to the Australian pharmaceutical wholesale market, as we estimate over 50% of revenue is generated from this space.

This is the reason why group average EBIT margin is relatively low, offsetting intense competitive dynamics, increasing throughput, additional hospital contracts and community pharmacy client wins are likely to aid in maintaining margins. We forecast group EBIT margin to remain at just above the 3% level over the next five years.