Quick Pitch: Estia Health (EHE.AX)

Potential Takeover – 13%+ Upside

Australian residential aged care services provider Estia Health has received a non-binding proposal from Bain Capital at A$3/share, currently 13% spread. The board called the bid not compelling but still gave Bain access to due diligence on a non-exclusive basis. Any proposal would likely require approval from 75% of EHE shareholders. The largest owner Wilson Asset Management (9.6% stake, ref. WAM) stated that the bid is undervaluing the company. However, several aspects of this setup suggest the deal could get sealed with only a small price bump. The downside to pre-announcement levels is 19%.

Overall, it doesn’t really look like WAM intends to put up a big fight here. Just 3 months ago WAM portfolio manager made an interview, where, he forecasted the potential takeover of Estia and said ‘the intrinsic value is over three dollars’. Thus, it seems like the desired price target is quite close to the current bid. WAM’s recent comment on Bain’s proposal doesn’t read like a strong opposition either, so I think it is quite likely that the largest shareholder would happily settle with a small price bump.

Bain’s proposal comes at a 4-year high price, in line with where the company was trading pre-covid. The offer also doesn’t look low compared to peer valuation and other industry transactions. It values EHE at 10.7x TTM adjusted EBITDA (before the impact of covid grants, covid expenses, and accommodation deposits) vs 8.9x valuation for a close peer Regis Healthcare, which is quite similar to EHE in terms of size, leverage, and property ownership. However, REG operates at slightly lower EBITDA margins – 10% vs 12% for EHE. The TTM financials of both companies are already what could be called ‘normalized’ earnings and are in line with pre-covid performance. Worth noting that EHE has recently made a few acquisitions and also intends to open a few more care homes in the second half of this year – this would increase its operational beds count by 13%. Pro forma for this capacity increase and expected earnings growth, Bain’s offer would value the company under 10x EBITDA or about 1 EBITDA turn lower.

On EV/operational beds metric, Bain’s offer comes at around A$120k (pro-forma for capacity increase) vs REG’s $100k. The only other publicly listed residential aged care player Japara was acquired in 2021 at A$130k per operational bed. Peers’ valuations suggest, that a small offer increase might be sufficient to get EHE’s shareholder support. Another hint in this direction is that the previous largest long-term shareholder Sven Group Holdings sold its 10% stake just 2 months before the offer, at about A$2/share, and marked a 40% loss on the price the shares were acquired.

Aside from WAM, the other remaining shareholders include Regal Funds, which reported a 7% stake (avg. price A$2.06) in the company days before Bain’s proposal. Argo Investments owns 5.5%. Copia Investment Partners holds 5%.

Estia Health operates over 70 aged care homes with about 7k operational beds across Victoria, South Australia, New South Wales, and Queensland. Proforma for capacity increase, Estia will be the third-largest operator in Australia. REG is the 2nd player. The aged care demand in Australia is forecasted to grow by almost 10% annually for the next 20 years and the government is concerned about the demand outpacing the supply. The aged care minister (yes, there is such a position in Australian government) said the country will need 350k operational beds in 2040 vs 200k right now (about 8k annual growth of beds required). Meanwhile, the cost of building a new facility is high – A$325k per bed according to this source and about A$430k according to the cost indicator provided by Australian architecture firm CKA.

Over the past years, the industry has been consolidating. The aforementioned 7th largest player Japara was acquired in 2021. Another two sizeable players Bolton Clarke and Agility also merged in the same year. A few other smaller acquisitions are covered here, here, here, and here.