Sonic Healthcare: Anatomical pathology expands; COVID testing uptick

About the author:

Dr Derek Jellinek
Author name:
By Dr Derek Jellinek
Job title:
Senior Analyst
Date posted:
20 December 2021, 10:00 AM
Sectors Covered:

  • Sonic Healthcare (ASX:SHL) has strengthened its US anatomical pathology presence with the purchase of Propath, funded via existing cash/debt.
  • While transaction details were not disclosed, the acquisition is earnings accretive, expected to exceed return hurdles in the first year and largely income tax deductible over time.
  • We view the transaction as more strategic than material, well aligned with a strategy to expand and integrate AP and clinical laboratory offerings, expand scale efficiencies and open the door to new partnering opportunities.
  • Beyond Propath, COVID testing remains the key focus, with a surge in the more transmissible Omicron variant just beginning and underappreciated by the market.
  • We increase our FY22-24 estimates materially, mainly on COVID testing, with our DCF/SOTP based target price moving to (login to view). Add.


Sonic Healthcare (ASX:SHL) has acquired Propath, a 55 year old US-based anatomical pathology (AP) company with an exceptionally strong brand, reputation and leadership team.

Propath has c50 pathologists, serves over 1k physicians through more than 20 hospital groups across 45 States and has an annual turnover of cUS$110m.

ProPath’s pathologists will join SHL’s existing group of 330 US pathologists (more than 1,300 pathologists worldwide), with ProPath’s leadership team to remain.


The US AP market represents a sizable market opportunity (>US$10bn), in addition to the >US$70bn clinical laboratory market, with SHL already one of the largest participants following previous acquisitions, including the US$540m Aurora Diagnostics transaction in 2019.

While the transaction details were not disclosed, it appears this small bolt-on is more strategic than material (albeit it’s good to be earnings accretive day one, above return hurdles in the first year and mostly income tax deductible over a 15- year amortisation period).

We believe this acquisition is well aligned with SHL’s strategy of expanding and integrating AP and clinical laboratory offerings, while it should help broaden its US footprint in AP, offers both revenue and cost scale efficiencies, and opens the door to new opportunities to partner with hospitals and healthcare networks.

Beyond the benefits of Propath, COVID testing remains the key focus, with a surge in the more transmissible Omicron variant just beginning and we believe underappreciated by the market.

Omicron was first detected in southern Africa last month, but has since been confirmed in dozens of nations around the world, with the CDC recently noting a doubling of cases every two days, significantly faster than prior variants.

We continue to believe PCR will remain the ‘go to’ diagnostic for COVID testing into the foreseeable future. While demand will eventually slow, the trajectory and timing remains uncertain.

Forecast and valuation update

We have incorporated Propath and adjusted COVID testing and margin assumptions, resulting in FY22-24 underlying earnings increasing up to 31.5%.

Our blended DCF and SOTP valuation-based target increases to (login to view).

Investment view

We view COVID uncertainty as likely to continue to cloud the near and medium term, but believe SHL remains in a strong position for continued organic growth and continued (albeit slowing) COVID testing on the emergence of new variants.

Price catalysts

1HFY22 results 21 Feb-22.


Lower COVID testing volumes, changes to base business testing, margin compression, changes in the degree of competition, slower acquisition integration and synergy capture, regulatory intervention and market share loss.

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Disclaimer: The information contained in this report is provided to you by Morgans Financial Limited as general advice only, and is made without consideration of an individual's relevant personal circumstances. Morgans Financial Limited ABN 49 010 669 726, its related bodies corporate, directors and officers, employees, authorised representatives and agents (“Morgans”) do not accept any liability for any loss or damage arising from or in connection with any action taken or not taken on the basis of information contained in this report, or for any errors or omissions contained within. It is recommended that any persons who wish to act upon this report consult with their Morgans investment adviser before doing so.

Solid top-line outcome: BAP’s 1Q22 revenue was flat on the pcp, an extremely resilient result given the extent of lockdowns in the period (~70% of stores impacted) and the strength of the pcp (cycling 27% growth). Composition comprised: Trade +2%; NZ -10%; Retail -12%; and Specialist Wholesale +7%. Overall, BAP stated that non-lockdown areas are outperforming expectations. ▪ 1Q22 trade & retail: Trade/Burson revenue was up +2% on the pcp (LFL sales - 1%; cycling 8% pcp); NZ/BNT revenue was down -10% (LFL sales -15%; cycling +4%); and Retail/Autobarn revenue was down -12% (LFL sales -16%; cycling +36%). Within the Retail segment, online sales were +80% on the pcp. Stores percentages impacted by lockdown were: Trade 70%; NZ 100%; and Retail 50%. ▪ Specialist segment results: Specialist wholesale revenue is up 7% on pcp, with Auto electrical/Truckline divisions ‘performing strongly’; and WANO underperforming. ▪ GM pressure expected to be temporary: BAP stated GM was stable across Wholesale and NZ (45% of FY21 revenue); and down ~50bps Trade and Retail (~55% of FY21 revenue), driven by promotional and online pricing in lockdown areas (we assume no margin pressure witnessed in non-lockdown areas). BAP expect margins to revert once lockdowns ease. ▪ The cost base has increased vs pcp, a function of duplicated DC costs (commencement of new VIC DC), and higher group and team member support (covid related) costs. BAP noted FY22 store rollouts and refurbs are on track.

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