NETCARE 30 September 2018 results transcript

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19 November 2018

Netcare Limited

Audited Group Results for the year ended 30 September 2018

Dr Richard Friedland

Good morning Ladies and Gentlemen, and welcome this morning to Netcare Limited’s audited annual results for the year ended the 30th September 2018. Allow me also to welcome the Chair of Netcare Thevendrie Brewer, other members of the Netcare Board, and senior management who are present this morning.

This has been a particularly busy and somewhat frenetic year for Netcare and I really want to pause, and acknowledge the extraordinary commitment and work done by our respective management teams across the country and here at head office. I also want to thank our nursing teams, our paramedics and our clinical staff throughout South Africa for the incredible service they deliver. Yesterday our teams were on duty the entire day looking after

25 thousand cyclists in incredibly hot conditions. Lastly I want to pay tribute to Noeleen

Phillipson, who after 22 years of dedicated service, initially to Clinic Holdings and then to

Netcare, has decided to take a break. Noeleen joined us as a dialysis nurse rising to become the CEO of National Renal Care, later the CEO of Netcare 911 and then radically changed our cancer division, and we wish her well.

In terms of today’s presentation, as is our custom, I’m going to give you an overview of how we performed over the last year and what has been transpiring in Netcare. I will then delve into the operational performance of our two major divisions, before handing over to our Chief

Financial Officer, Keith Gibson, who is going to unpack the numbers in more detail, and provide guidance for the 2019 financial year.

We spent most of this last year, on really defining and refining our strategy and I think that strap-line summarises where we are at. We’re absolutely firmly focused on leading positive change in health and care, both in the way we do this within Netcare but also in making a constructive and meaningful contribution to addressing the issue of inequity in healthcare delivery, and access to quality healthcare for all. At our interim results presentation we set out very clearly our operating pillars and our priorities, with an absolute focus on South

Africa. We have also committed to investing substantially in digitising our entire network and all of our clinical platforms throughout Netcare. We strongly believe this will deliver enhanced value to our nurses and clinicians, and also improve the quality, safety and the care of the patients that we treat.

As a result of our exit from the United Kingdom, we committed to relooking at our capital structure and distribution policy. We also committed to our shareholders, and to the market, to provide absolute clarity and transparency in this regard. This I believe we’ve done, and

Keith will unpack this in more detail later. So what has really kept us busy here at Netcare over the last year? As you know we acquired Akeso Clinics and we’re delighted that the organisation is now part of Netcare. We have spent the last six months successfully integrating Akeso’s back office functions, HR, finance, administration and IT into Netcare.

We also exited from the United Kingdom and deconsolidated BMI Healthcare, effective the

28th March this year. Someone this morning mentioned we had effectively performed our own version of Brexit, except this was called Nexit.

I’m delighted to announce that after a three year period of preparation, and evaluation we were also accredited by the British Standard Institute with an ISO 9001 accreditation across all of our operating platforms. This is the oldest accreditation agency in the world. We remain

-2- incredibly busy behind the scenes continuing to design the Netcare of tomorrow through the digitisation of our entire organisation.

Looking at a financial overview of continuing operations. Revenue rose 8.4% to R20.7 billion. Normalised EBITDA was up 5.9% to R4.2 billion and our adjusted headline earnings per share from continuing operations remained relatively flat with a very small increase of

0.6% to 171.6 cents. Now in line with the distribution policy that we issued in our SENS this morning, and the evaluation of our capital structure, we are declaring a final dividend of 60 cents per share, up 5.3% on the same period last year, and a total dividend of 104 cents per share, up 9.5%. That’s equivalent to a distribution of R1.4 billion in the 2018 financial year.

We’re also returning to shareholders, R1 billion in additional shareholder value, made up of a special dividend of 40 cents per share, equivalent to R550 million, and also as you would have noticed in the SENS announcement this morning, share repurchases, or buybacks, equivalent to R450 million. When you add up the R823 million of this final dividend together with the R1 billion, we’re effectively returning to shareholders, approximately R1.8 billion in value post year end.

Turning now to an operational overview. As a reminder of our extensive platform, and array of services we provide in Netcare, I want to point out one item to you, the number of employees in Netcare has really bucked the national trend, in that it’s increased by 5.1%.

That’s largely due to the acquisition of Akeso but also due to the number of people we’ve brought in to drive a lot of the projects that are underway within Netcare, and in particular our digitisation process.

So turning now to the hospital and emergency services segment. As we declared in our trading update to the market towards the end of September, unfortunately the very good levels of growth we saw in the first half were not sustained in the second half, and we had a particularly poor fourth quarter. Demand for mental health continued throughout this second half and was also strong in the fourth quarter. As a result of all of this, including Akeso patient days for these past six months, patient days were up by 5.9%. If we strip out the contribution from Akeso, our hospital patient days for the year increased by 1.7%.

Importantly our occupancy for the full week increased by 80 basis points to 66.6%, and by

210 basis points for our week day occupancy up to 72.6%. Now in line with our strategy to move away from bricks and mortar, and focus on innovative healthcare systems and IT, we have only opened 6 acute new beds during the year, and 23 mental health beds. In order to improve our capacity utilisation, we converted 62 beds to higher demand disciplines and I’m pleased to say that 149 specialists were granted practising privileges in Netcare.

So how does this translate into the numbers? We saw an 8.7% increase in revenue to exactly R20 billion, and that includes Akeso consolidated for the past 6 months. What drove hospital revenue was a 5.5% increase in net revenue per patient day, and the growth in patient days of 1.7%. Our EBITDA increased to R4.1 billion or 7.4%, and this excludes the once off costs around the acquisition of Akeso and our UK advisory fees of R63 million. Our

EBITDA margin declined by 30 basis points to 20.8, largely as a result of the particularly weak fourth quarter that we experienced.

So looking forward our focus remains on increasing capacity utilisation and investing only in very select projects. We’re not opening any additional acute beds in 2019, but again we’ll be converting 52 beds to higher demand areas. We’ll be opening at least 44 mental health beds in Parktown, Randburg and the new Akeso Clinic in George, which has undergone a significant refurbishment, will open with 35 beds. 12 beds have already been included in our number of beds this year, and the additional 23 will be added in the 2019 financial year. We

-3- continue with our expansion at Netcare Milpark Hospital, and will hopefully commission a hundred additional beds in the 2020 financial year, with a very strong focus on cancer care and other higher demand disciplines. We’re increasing our cardiac care services at Netcare

St. Augustine’s Hospital and will be opening 28 beds in 2020.

We announced to the market this morning that we will be consolidating Netcare Union

Hospital and Netcare Clinton Hospital into one new site in Alberton. Construction of that will commence in the 2019 financial year, it is a three year project. The background to these two hospitals is on the slide, they are literally a stone’s throw away from each other. Netcare

Union Hospital has grown into a very large multi-disciplinary hospital, with a world class level one accredited trauma facility, and Netcare Clinton Hospital has become a centre of paediatric excellence and oncology. We’re currently managing the two facilities as one. We are experiencing significant capacity constraints, and also very significant rises in repairs and maintenance, particularly on our Netcare Union Hospital site. As we did for the Netcare

Christiaan Barnard Hospital, we’ve under gone an extensive analysis to determine the merits of either renovating or relocating, and I can tell you that the outcome of that analysis was overwhelmingly to relocate to a single site.

Turning now to Primary Care, you will see that revenue year on year was relatively flat at

R717 million, up 0.8% and EBITDA equally flat at R109 million, up 0.9%. This was really as a result of a myriad of factors. We had a poor second half as we saw in the hospital division, and particularly the last quarter. We also opened three new Medicross facilities, but we closed two as well.

I’m delighted to announce that we have also opened our 15th day clinic in Richards Bay, and that brings the total number of day theatres we have in this network to 20. We are growing our occupational healthcare platform. Margins were held firm at 15.2%.

We continue to externally bench mark our performance in Netcare, and as you know we were accredited with an ISO 9001 certification for all of our facilities, and their listed services.

I’m pleased to announce that for the third consecutive year, we were awarded the overall winner in the private hospital category of the Ask Africa Orange Index Awards. This is an announcement we are making today, and unfortunately couldn’t get it into our SENS in time.

As you know we announced at our interims we received international recognition for our sustainability programs. The 2020 Healthcare Climate Challenge Awards are for a group of hospitals representing 14 thousand hospitals across the world that signed up to the 2015

Paris Accords, regarding climate. We were awarded, together with Destiny Health in the

United States, the two top awards out of those 14 000 hospitals. I’m delighted to announce that just this past week we received local recognition for our sustainability programs. The

South African Energy Efficient Confederation, awarded us the Commercial Corporate

Company of the year, and the Commercial Project of the year for 2018. The award for the

Commercial Corporate Company of the year resulted from their review of our more than 63 energy efficiency and renewable energy projects that we’ve initiated since 2013. The Energy

Projects of the year award was awarded for our lighting project. This is a project where we’ve replaced 108 000 inefficient lights, and standardised fittings throughout the whole of

Netcare and our operating platforms. This is at a cost of R130 million, and it resulted in a reduction of our lighting load by 40%, in the electrical or intensity terms, that’s 17 gigawatt hours or 17 million kilowatt hours. It also reduced our carbon foot print by 16 thousand tons of co2 per year.

Lastly we announced in our SENS this morning, that Netcare has been selected by the

World Health Organisation to participate in the Global Patient Safety Challenge, which really looks at medication safety and medication errors, and this will run over five years.

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Given the myriad of questions I’ve answered, mainly from our shareholders, regarding our digital strategy, I want to spend a few moments outlining for you the rationale behind this vision, and why we believe it’s going to substantially differentiate and deepen our quality and value proposition. Our strategy is really driven by both new and emerging global trends in healthcare delivery. It is also driven by a fundamental conviction, based on an ever growing body of international evidence, that if we’re able to appropriately digitise the clinical platforms throughout Netcare, we can lead in a paradigm shift in making available to our patients, enhanced quality and substantially improved safety and ultimately outcomes.

It is also going to enable us to embrace participatory care. This is a concept I’m going to refer to a bit later. It will remove the fragmentation of services across our various divisions, again I’ll go into this in detail. Importantly it’s going to provide our clinicians with very valuable information in order to improve on their care pathways, and in their treatment protocols for our patients. We hope to complete the project by 2022 and I’ll show you a road map in this regard at the end.

We’re aiming to position Netcare in the top 2% of hospitals globally, in terms of the level of our digital offering. This is important not because we want to be in the top 2% for the sake of it, but because there’s an absolute correlation between the type of electronic health record and the integration thereof, and its application in terms of really producing outstanding care and outcomes, including patient safety and care.

What is participatory health? I think we all know that there’s been a shift globally in terms of a focus towards wellbeing and wellness. We are seeing something quite incredible, in the transformation of the patient and provider relationship. Individuals want to take responsibility for their healthcare, and want to become equal partners together with providers. The digital revolution that’s been slow to come to healthcare, is now changing the way people engage with the healthcare delivery systems, and manage their health. In order to really provide an empowered relationship for patients you need an electronic health record, and it is the combination of these that is known as participatory health.

What do we mean by this fragmentation of services? Well if we look at it in Netcare, and this is not unique, you see this across the world, healthcare is often delivered in very disconnected forms. This diagram really demonstrates how disconnected our own network and array of services are. Unfortunately clinicians and doctors don’t have access to all the relevant information that’s required to make an informed decision at the point of care, and that can lead to inefficiencies and replication of tests, increase in costs, and disconnected care. However if we’re able to automate the entire system and remove fragmentation you can immediately see, we’re able to seamlessly share information across our own platforms, and provide our patients with their own health records, and it ultimately delivers on our core purpose, which is person-centred health and care that is digitally enabled.

Just a brief reminder of what we’re doing. We are providing a mobile solution to our nurses and clinicians, and will be issuing them with iPads. We are going to automatically record all of the monetary information that we normally record manually; be it from an anaesthetic machine, a ventilator, a monitor, or a cardiac catheterization machine. There will be a very efficient interface for our nursing, and our clinical teams, and most importantly because this is digital and mobile, it’s going to be available 24 hours a day to clinicians away from the bedside, and even outside the hospital with access to laboratories and pathology results. We have access, through IBM Watson and Micro Medics, to the largest pharmaceutical database in the world, and as a drug is being dispensed or written up and prescribed for a patient, it automatically indicates whether there is a reaction between drugs, how severe that reaction might be, whether the dosage is correct or whether in fact we’ve got the medication

-5- wrong. These are the businesses we‘re partnering with Apple, Deutsche Telekom,

Qualcomm and as I mentioned IBM Watson to roll out this digitised platform.

This is the time table; we’ve already completed digitisation in Netcare 911 and we’re able to show significantly improved patient care and the ability to analyse every episode that’s occurred, and improve on it, because of the full end to end digitisation and records. We’re in the process at Medicross and should complete the project in 2020, and the programme includes National Renal Care and Akeso. On the right hand side there’s just an example of what the screen shots look like for our electronic medical record in our hospitals.

Now, before I come to the health policy, you will notice in your printed booklets there are three additional slides, but for purposes of saving time I’m not going to go through them in detail. The first slide describes the organisation that we’re going to be working with over the next five to ten years to externally validate our progress on electronic medical records. It’s a non-profit global organisation called HIMSS that has data on 20 000 hospitals. The second slide demonstrates their way of evaluating electronic medical health records, and the degree of sophistication from zero to seven. We’re obviously aiming to achieve level seven, because it has a correlation with care, and the quality of care, safety and outcomes. The third slide you’ll notice in your pack is just an example of one of the outcomes of patient safety from

Leapfrog, this is an organisation in the United States that evaluates 2 600 hospitals twice a year. You can see the absolutely perfect correlation with electronic records as they advance in maturity, but for the purposes of saving some time I’m going to leave it there.

I said right at the beginning that we want to lead in positive change in health and care. Both in the way we deliver this in Netcare, but also making a very meaningful and constructive contribution to addressing the inequity of healthcare in our country, and the issue of quality access for all. The question is, how do we really do that? I think we all recognise this inequity, but we also need to acknowledge that no matter how big the contribution is of the private sector, the public sector remains the bed rock of healthcare delivery in South Africa, unfortunately it suffers from enormous challenges to capacity and delivery.

I want to show you this graph which I think illustrates one of the huge problems we’re facing.

Our population has more than doubled since the seventies, from 25 million people to just under 60 million people. The number of beds in the public sector has declined by 25%. Now add to that the rapid urbanisation we’ve seen, and the massive increase in the burden of disease, and it’s no wonder that our public healthcare system is hugely overburdened. We think there’s a real opportunity to assist with this situation, and we have two solutions to put on the table. In preparation for the Presidential Health Summit, Netcare commissioned its own research to understand how much capacity there really is in the private sector. We know that the week day occupancy is 72%, while weekend occupancy is 52%, and the research we conducted showed that we can cater for another 7.7 million South Africans if we increase our occupancy to 85%. We think this is a very real opportunity for calibration in tackling these very extensive waiting lists and surgery backlogs, including oncology.

The second proposal that we’re suggesting is around how we can capacitate public healthcare. We’re really calling for a National Training Program, for want of a better word, a martial plan around skills development in South Africa, across public and private sectors to build capacity. What do I mean by that? Well, we put a proposal forward on behalf of the private sector to train 50 000 nurses, eliminate the shortfall of nurses in our country, and this formed part of the job summit framework agreement that was signed in October by our social partners and the Presidency. There is a lot more we can do in terms of training, and the private sector can play an enormous role in the training of undergraduate and postgraduate doctors, and we’re now evaluating this together with the South African Committee of Medical

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Deans, representing the deans of all medical schools across South Africa, to see if we can try accredit many of the private hospitals, and provide a platform to increase the number of doctors that are required in South Africa. We have less than 50 000 doctors in South Africa.

We need at least another 50 000 to provide care equivalent to global norms.

Thirdly we can provide support for hospital managers, sector leadership through twinning programs and many other programs such as sharing of best practice. These are just two major examples of what we believe we can do practically to address the inequity of healthcare in South Africa.

Ladies and gentlemen that really ends my section, and I’m going to call on Keith Gibson to take us through the financial numbers. Please don’t misread this slide if you thought that the finance department is lagging behind in digitisation. I can assure you that they’re not.

Thanks Keith.

Keith Gibson

Thanks Richard, and good morning ladies and gentlemen. I hope that by the time we present the next set of results our picture will be holding an iPad. So let’s now turn our attention the

Group financial results for the full year ended 30 September 2018. The 2018 year was characterised by encouraging growth for the first nine months of the year, but unfortunately the year closed out with an unusually weak last quarter. With respect to the presentation of our financial results, two large transactions are noteworthy, and they’ve had a structural impact on our accounts.

Firstly, we successfully completed the acquisition of Akeso Clinics effective the 27th March

2018 and this gives Netcare a national foot print in the mental healthcare sector. Secondly, and also in March 2018, we decided to exit from the UK. The deconsolidation from BMI

Healthcare, and the related impairments of Netcare’s contractual economic interests in the debt of BMI Healthcare, have both had material impacts on our results. However the Group balance sheet remains in good health, and the cash flow generation of the business remains very strong. Finally, during the course of the year, we’ve undertaken an extensive review of our capital structure, our capital distributions, and our cash flow generation, and this has allowed us to formalise our policies with regard to capital allocation, and distributions, and

I’m going to talk you through this in more detail a little later on.

Now in unpacking the financial results for 2018, I think it’s important to deal upfront with the accounting impact of some of these structural changes to the Group. These impacts have been stripped out from the statement of profit or loss that we’re going to look at shortly, in order to allow for a more meaningful comparison of period on period performance. These accounting impacts can be classified into two groups, namely, discontinued operations and secondly exceptional items.

The results of discontinued operations amounted to a loss of R467 million for the 2018 financial year, and these relate almost solely to the UK, as compared to a loss of approximately R5.3 billion in 2017. This large period on period variance can be explained by three factors.

Firstly, the trading results of BMI Healthcare in the UK, which amounted to a net R550 million loss after tax, representing the six month period prior to the deconsolidation of the business at the end of March 2018, as compared to a loss of R641 million, which was incurred across the full twelve months of 2017. Secondly you may recall that in 2017, BMI

Healthcare impaired its assets, goodwill, and also recognised an onerous lease provision in respect of its rental obligation to GHG Propco 1, and this resulted in a large non-cash loss of

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R5.6 billion recognised in the 2017 numbers. Thirdly, due to a change in UK inflationary expectations, a very large non-cash fair value credit to the income statement arose in 2017, amounting to R937 million in respect of BMI’s RPI swap instruments. The corresponding non-cash fair value adjustment relates to a less significant R85 million in 2018. If we then have a look at the exceptional items, you may recall that in 2017 we had the cash realised profit on the sale of the old Netcare Christiaan Barnard Memorial land and buildings, of R169 million after tax. With respect to the 2018 exceptional items, all of these relate to our exit from the UK, and they are non-cash.

You may recall that at the half year, in accordance with the accounting standards, and also based on factors in existence at that time, we elected to adopt a very conservative approach with regards to the accounting valuations, and we impaired Netcare’s contractual economic interests in the debt of BMI Healthcare in full. There has been no changes to the factors or circumstances surrounding this debt instrument in the second half, and accordingly it remains fully impaired in our September 2018 accounts. Therefore we have a non-cash impairment charge of R1.5 billion in the 2018 numbers.

More than offsetting this non-cash loss, is a very sizable non-cash profit of R4.2 billion, which arises on the deconsolidation of BMI Healthcare, and if we split this up into its components, this comprises approximately R2.2 billion in respect of the reversal of the negative net asset value of BMI Healthcare, and the balance is attributable to the realisation of the cumulative foreign currency translation reserves of approximately R2 billion, which the accounting standards require to be recognised through the income statement. Consequently the exceptional items for 2018 amounts to a net non-cash profit of R2.9 billion.

Having sketched that context let’s now move onto the Group statement of profit or loss for the year ended 30 September 2018. The top section of the income statement here represents our continuing operations which comprise our South African businesses. Group revenue amounted to R20.7 billion, and has grown by 8.4%. EBITDA amounted to R4.2 billion, as compared to just under R4 billion in the prior period, and increased by 5.9%.

Operating profit has increased by 4.7%, from R3.3 billion to R3.5 billion.

With respect to the recognition of interest income on our contractual economic interest and the debt at BMI Healthcare, this amounted to R195 million for the full twelve months of 2017.

The corresponding interest income in the 2018 numbers amounts to a R104 million, and represents only six months’ worth of interest income. We ceased to recognise this interest income in the second half, following the decision to impair the underlying debt instrument in full.

Other net financial expenses have increased from R338 million to R431 million, largely as a result of higher average debt balances across the period. Profit before taxation decreased marginally by 1.4% to R3.2 billion, and the Group’s tax charge has reduced to R904 million, representing an effective tax rate for the Group of 28%. The profit for the year from continuing operations, amounted to R2.3 billion, reducing slightly by 1.7% against the 2017 result.

Below the line we then have the results from the discontinued operations and also the impact of the exceptional items, which we’ve already covered in detail, and therefore we have reported a full year profit of R4.7 billion as compared to a loss of R2.7 billion in 2017.

Moving on now to headline earnings per share, which given the structural changes in the business we present on a continuing operations basis, and on the slide we’ve set out the

HEPS metric which has been determined and calculated in accordance with the regulatory

-8- requirements, but as usual we’ve also disclosed an adjusted HEPS figure, in which we strip out unsustainable and exceptional items.

Now the profit arising on the deconsolidation of BMI Healthcare, as well as the capital profit on the sale of the old Netcare Christiaan Barnard Memorial Hospital land and buildings, as well as the impairment of BMI’s goodwill, and its assets, are by definition excluded from headline earnings, and therefore none of these figures have any impact on either of the metrics on this slide. However I must point out that the significant non-cash impairment of

Netcare’s interest in BMI’s debt, along with onerous lease provisions and the impacts of RPI swap adjustments, are included in headline earnings. The inclusion of these factors creates a negative year on year swing in terms of Group headline earnings of half a billion rand, and consequently we see that HEPS has decreased by 59.3%, from 169.2 cents to 68.8 cents for the 2018 financial year. I would submit that this is not a reliable indicator of underlying performance.

Group adjusted HEPS from continued operations, and for clarity this would strip out the impact of the impairments of Netcare’s interest in BMI’s debt as well as onerous lease provisions and RPI swap adjustments, along with other less significant items of a non-trading or non-recurring nature, has increased marginally, by 0.6%, to 171.6 cents for the year. I should point out that the 2018 number includes interest income on BMI Healthcare’s debt for only six months of the year, as compared to 2017, which includes the same interest income for the full year. So if we strip out this interest income all together, which is appropriate because it’s not going to feature going forwards, we see that the underlying increase in

Group adjusted HEPS amounts to 3.8%, and amounted to 166.2 cents for the year. This is a more solid indicator of the underlying performance, and also represents the base against which future earnings should be measured.

Next we’re going to take a look at the Group statement of financial position, and we can see that the total assets of the Group amounted R20.5 billion at 30 September 2018 and this has reduced from R28.1 billion at September 2017. The strengthening of the rand against the pound during the period prior to the deconsolidation has deducted R605 million from our asset base. The next column deals with the impacts of our exit from the UK, which would include the deconsolidation of BMI, as well as the impairment of our interest in their debt, and this has reduced the Group’s asset base by R8.9 billion. The acquisition of Akeso has added almost R1.6 billion to the asset base. Items in the other movement’s column are not significant, the only thing I want to call out here is that the South African operations invested

R1.2 billion in capex during the 2018 financial year.

Our assets classified as “held for sale” include the Netcare Rand and Bell Street Hospitals, which are required to be disposed of following the Competition Tribunal’s approval of the

Akeso acquisition, as well as our emergency services business in Mozambique. It also includes our 56.9% stake in GHG Propco 2, which owns six hospital properties in the UK, which are leased to BMI Healthcare. Finally with respect to this slide, total shareholders’ equity has grown by R1.6 billion during the course of the year to R10.4 billion at September

2018.

As we usually do, let’s take a more in-depth look at our debt position. Total gross debt for the

Group amounted to R6.2 billion at September 2018, and increased by R680 million against

2017’s net debt levels. The cash position of the Group closed at just under R1.4 billion, as compared to R1.6 billion at September 2017, and consequently net debt ended in 2018 financial year at R4.8 billion. I want to point out that this is after utilising approximately

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R5.1 billion, of which R3.6 billion was paid out in cumulative capex, dividends and tax payments, and approximately R1.5 billion was utilised to settle the Akeso purchase consideration, and also for the debt that was acquired as part of that transaction. The fact that after these outlays our net debt has increased by only R900 million across the course of the year is a signal of the strong cash generating ability of the Group, which has generated

R4.3 billion from operations during 2018.

The leverage of the Group remains comfortable with a net debt to EBITDA coverage of 1.1 times, and the cost of debt has reduced marginally against the prior year to 8.8%. Excluding the impact of the interest received on BMI debt interests other net interest paid has increased by R89 million from R341 million to R430 million, and as I said, this is largely a function of higher average debt levels across the year. However our interest cover remains very comfortable at 10.7 times, and finally I can report that we have retained our GCR credit rating of A+ for long term and A1+ for short term.

With respect to available resources, cash balances and undrawn debt facilities of R7 billion are available to Netcare, and with respect to our debt maturity profile you can see that this is appropriately staggered, reducing refinancing risk to manageable tranches, and we therefore have sufficient capacity from which to manage our future capital requirements. This conveniently now leads us onto the work that we’ve done with regard to our capital allocation, and distribution policy.

I should say up front that we take our stewardship of capital allocation very seriously.

Following our decision to exit from the UK, shareholders and the market have had a number of questions with concern to the future direction of Netcare’s policies around capital allocation and distribution. We have done an extensive piece of work in which we have considered all of the major factors surrounding capital allocation and distribution, which has allowed us to formalise our policies that will guide the Group going forward. This is an iterative process, and a holistic approach is required to ensure that we create an environment from which all stakeholders will benefit.

It might be useful to remind ourselves what we mean when we talk about capital allocation and distribution. Our review of our capital structure portfolio and capital distributions was cognisant of the fact that we operate in a highly capital intensive industry, and certain of the investments that we make may take a number of years before they can show an economic return.

Globally, healthcare is also a rapidly evolving business, and is driven by advances in technology, and locally, changes in regulations and policy introduced the prospect of uncertain outcomes. It’s against this changing backdrop that we need to continually evaluate our business operations and the services that we provide. We’ve had a look at our capital allocation framework across these four pillars, and I’m going to talk to them individually, and then we’ll unpack them in little more detail in the slides to follow.

With respect to capital that is generated internally, we have stress tested our financial and operating metrics to ensure that our outcomes consider our range of various potential outcomes so that our decisions will minimise risks while driving value creation. Then with respect to the capital that we source from markets, we recognise that in an evolving business environment it is necessary for us to retain some headroom in our current capital structure. The cost of financial distress is very high, not only for shareholders but for all stakeholders, and I think recent numerous examples in the broader market are a sober reminder of this fact. Therefore while some changes are warranted, we remain conservative with respect to our capital structure.

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With regard to the deployment of capital, we’ve refined our capital allocation frameworks and we reiterate that when considering projects the future cash flows need to deliver returns that are in excess of the cost of the capital, and finally with regard to the distribution of capital, we’ve now formalised the policies which will guide us with regard to these going forward.

So let’s unpack what we’ve done in our thinking in a little more detail, beginning with our internally generated capital. We have conducted a thorough review of our entire portfolio to help us gain a better understanding of the capital returns profile, and also the lifecycle positioning of each of our hospitals. Most of our assets deliver returns that are comfortably in excess of the cost of capital. However, as with any portfolio we have our star performers and we have those sites that operate below the Group average, and these few low performing sites are the subject of a strategic focus and remedial action plans are being implemented.

All capital allocation decisions are the subject of a thorough analysis, and this considers not only the dynamics of the particular project, but also takes into consideration the economic profit return profile of the related facility. We’re very much aware of the short comings of single point forecasting, so our process involves rigorous scenario and sensitivity checking.

Moving onto the third cog of the wheel, having a large base of hospitals and many years of experience as a hospital operator, we’ve actually got a very rich data set against which we can benchmark performance, and these operational and financial benchmarks help us when setting targets for improving performance. The final part of the wheel relates to the monitoring of our key performance indicators. Two of the main KPI’s that we measure, are economic profits. We believe these are easy to understand and to communicate in our business, and are also well appreciated by the market. Internally the Executive also monitors cash flow return on investments or ROIC.

We’ll continue to maintain strict financial discipline when we deploy capital. Our focus is going to be driven on expanding and digitising our business, on maintaining and upgrading our facilities and on attracting and retaining clinicians to enable us to continue to provide high quality services to our patients. We’ve set some medium term targets for achievements over the next three to five years, and these are in excess of 20%, and we have set a medium term Group EBITDA margin of 20.5%. I want to stress that this is not our guidance for the

2019 financial year, which we’ll come to shortly. It’s obviously incumbent upon management to drive the achievements in these targets and we need to manage the business accordingly.

Let’s now have a look at the capital structure and distribution equation. I can say that

Netcare’s overarching policy with regard to capital structure is to maintain a strong balance sheet and to retain an investment grade credit rating, while reducing our cost of capital through a safe level of debt. We’re focused on operational performance rather than financial engineering, we believe that this approach allows us to retain capital flexibility and it also gives us access to the capital markets throughout the economic cycle. When we’ve given consideration to our optimal capital structure, we’ve considered the following constraints.

Our net debt to EBITDA must remain below two times, and an EBITDA to net interest coverage ratio, of greater than five times.

In our feedback and our bench marking with rating agencies, we understand that it is possible to retain an investment grade credit rating at current levels that are far looser than that we’ve set up ourselves. I remind you that Netcare’s current credit rating is A+ for long term, and an A1+ for short term from GCR. We believe that the application of these capital structure policies will enable Netcare’s debt to comfortably remain at investment grade.

Finally with regards to dividend policy. Netcare’s dividend policy is to pay a sustainable income to its investors, and the outcome of our research shows that we can distribute

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Where value enhancing investment opportunities are not available, we will return excess capital to shareholders. Our preferred method of doing so is through share buybacks, and any share buybacks that are implemented will obviously be done within the relevant regulatory frameworks. We will also consider special dividends in certain circumstances where share buybacks are either not optimal or possible. In light of this approach, as Richard has already mentioned, Netcare has embarked on a share repurchase program and we have acquired 18.9 million shares in the market. In addition we’ve also declared a special dividend of 40 cents per share.

Then my final slide on this section, I thought it might be useful to put up a graphical representation of our capital allocation framework in action. We employ a balanced approach to our capital allocation framework. One that we believe will benefit all stakeholders, as we seek to not only sustain but to broaden our competitive advantage by the astute allocation of capital, and the return of excess capital to shareholders. Our business has generated R4.3 billion from operations during the course of the 2018 financial year. We have utilised R1.2 billion to invest in capital expenditure, and Richard has already given us a sense of some of these significant projects. We have also invested R1.2 billion in the acquisition of Akeso, which gives us a large foot print in the mental healthcare space.

With regard to dividend distributions to shareholders, we’ve distributed approximately R1.4 billion, and this represents cash that has already been paid out in the 2018 financial year in respect of last year’s final dividend and this year’s interim dividend. Then after the year end, we have declared a final dividend of 60 cents per share, this takes the total dividend for the year to 104 cents per share and it represents a pay-out ratio of 60.6% which is right in the middle of our policy range guidance.

Then occurring mostly after the year end, we have returned R450 million to shareholders in the form of share buybacks, and then even after the share buyback we remained comfortably within our indicated gearing and leverage and gearing and coverage ratios, therefore a special dividend of 40 cents per share has been declared, and that will see a further return of a net R550 million to shareholders. So therefore, as Richard mentioned, a cumulative effect of the share buyback and the special dividend will return another R1 billion to shareholders, over and above our normal dividend payments. We’re very pleased to be able to reward shareholders in what is otherwise a generally very difficult economic climate.

Let’s now turn our attention to our guidance for the 2019 financial year. We expect demand for mental health services to remain strong and this will further benefit from the inclusion of

Akeso for a full twelve months. Based on our experience throughout the last quarter of 2018, we do believe that patient day growth for acute hospital services is going to remain under pressure in the near term. With regard to EBITDA margins, we will seek to maintain these at current levels across both of our operating segments, and finally with respect to capital expenditure we’re looking to invest R1.6 billion in the 2019 year. Of this, approximately R600 million is expansionary capex and includes the expansion of the Netcare Milpark Hospital, where 100 beds will be commissioned in the 2020 financial year, as well as a multi-year expansion of Netcare St. Augustine’s Hospital, commencement on the construction of the replacement hospital for Netcare Union and Clinton Hospitals, and also investment in digitisation projects.

Finally there a couple of parties that I’d like to thank. Netcare has decided to voluntarily implement mandatory audit firm rotation, and this means that we are going to be saying goodbye to Grant Thornton as our auditors after 22 years. On behalf of Netcare I really want to extend my sincere gratitude and appreciation to all the partners and the staff of Grant

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Thornton for their professional service that they’ve offered to us during their tenure. I also would like to make use of the opportunity to thank the Netcare finance team for all their considerable efforts and their long hours in producing these financial results, and all of the related presentation materials. So thank you very much for your attention, we’re going to open up to the floor for questions.

Questions & Answers

Question

Good morning, its Kane Slutzkin from UBS. Just on your guidance for volumes, you mentioned Q4 was particularly weak. Do you know if it actually turned negative for starters, and then can you give us what the nine month PPD volume was? You also mentioned that it was pretty good until month nine, if you could just give us a sense for that. Then just on your public sector slides, you said you could go to 85% occupancy, and I’m just wondering if that increases volumes to offset the sort of lower revenue per patient, you probably would inevitably take in that scenario, thanks.

Keith Gibson

Thanks, I’m going to ask Melanie to talk to the first question and then we’ll hand over to

Richard.

Melanie Da Costa

Good morning everyone. So with respect to patient days, it’s correct that we had really good performance for nine months, and then as we stepped into July onwards, we felt pressure, and we can basically break that up into two categories. The one that’s been pretty well ventilated is with respect to respiratory diseases, and if I can get into a little bit of detail on that. Part of it might have been due to a mild winter, but what we have found is a structural improvement in the compliance strategy protocols for respiratory diseases. Then, more importantly, if we isolate respiratory diseases, we did find in the last quarter there was a general slowdown, pretty much across all medical schemes. Having touched base with some funders we have received feedback that that is their general view, so we’re talking from about July, and even adding October I think we’re looking at a bit of a flat position. I hope that clarifies.

Dr Richard Friedland

Thank you very much. Pricing of that additional capacity has not yet been determined.

We’ve certainly put that offer to Government and the Department of Health at the

Presidential Health Summit, and we’re yet to engage on that. We’re simply doing an exercise to demonstrate, as we did in the United Kingdom, on free choice, the ability of the private sector to assist in the extensive waiting lists that occur.

Keith Gibson

Are there any further questions?

Thanks Richard would you like to close off.

Dr Richard Friedland

There might be on the webcast.

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Lehlohonolo (Facilitator)

This is from Mathew Menze from Citi Bank. How should we think about Netcare’s internal definition of excess capital? I appreciate there is a 2 times ceiling on net debt to EBITDA, but is there a level of net debt to EBITDA you might target? This would help us take a view on how much excess capital is built over time. On slide 37, you referred to a portfolio review, are there business segments that are not currently classed as available for sale, which you might consider divesting?

Keith Gibson

All right, thanks, I think with regards to the capital structure as we indicated, it is an iterative process, and the board will continue to evaluate this going forward. I think what we have achieved is to sketch the book ends and the levels of debt that we will not move beyond.

This is something that we will continue to review during the course of the year ahead.

Thanks, please remind me of the second question.

Lehlohonolo

Are there business sectors that are currently classed as not available for sale, which you might consider divesting?

Dr Richard Friedland

Yes there are and unless our plans to operationally improve those facilities, and efficiencies in those facilities are not met, then they may certainly be put up for sale.

Lehlohonolo

Phillip Short from Old Mutual equities. Could you please comment on SA hospital volumes for October relative to July to September?

Keith Gibson

Thanks, I’m happy to take that. Our experience into the 2019 financial year thus far has been very marginally positive.

One more question.

Lehlohonolo

Hi, good morning everyone, Angela from Legae Securities. I’ve a couple of questions. In terms of volumes, you have disclosed the data for total PPDs and acute hospital PPDs, but for revenue PPD you have mentioned it was 5.5% up at acute hospitals, can you just give us guidance on what total PPD looks like, just to get an understanding of PPD at Akeso. Then second question, you’ve mentioned that EBITDA margin was impacted by weaker trading conditions in H2 and high growth in patient days from low cost hospital networks, this higher growth in patient days, is it only for acute hospitals or even at Akeso hospitals? At mental healthcare you are experiencing high growth in patient days from low cost hospital network.

Then a question on EBITDA margin, during the presentation Keith mentioned that EBITDA margin was impacted by increasing property taxes, so if you could just touch on how. The last question is on case mix, you’ve mentioned that the specialist base grew by 114 doctors, just to give us an idea on the case mix, are you still experiencing higher growth in medical cases versus surgical cases, thank you.

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Keith Gibson

Thanks, Melanie will answer the first question.

Melanie Da Costa

I want to take the opportunity to deal with the Akeso revenue per patient day as well as case mix. The underlying revenue run rate for Akeso is pretty much the same as the hospitals in terms of revenue per patient per day from a case mix perspective. We continue to see the same swing towards medical cases. Surgical however, is still 60% plus of our admissions.

Keith Gibson

Thank you, yes with respect to the margin, assessment rates unfortunately increased and property taxes did have a negative impact on our numbers this year, with the year on year increases exceeding R20 million.

Lehlohonolo

You’ve mentioned that EBITDA margin was impacted by weaker trading conditions in H2 and high growth in patient days from low cost hospital network, this higher growth in patient days, is it only for acute hospitals or even at Akeso Hospitals?

Keith Gibson

Ok, Melanie will take that.

Melanie Da Costa

Sorry, I should have taken that too. You know, because the base of the hospitals is primarily acute, there are fewer networks for mental health, but I would say the bulk of that shift is in the acute business.

Dr Richard Friedland

Good, any more questions ladies and gentlemen.

Well thank you very much for your attendance here this morning and please join us for something to eat, a light snack and something to drink. Thank you very much.