Detailed Rationale

CRISIL Ratings has removed the rating on the bank facilities of Dr. Lal Pathlabs Limited (DLPL) from 'Rating Watch with Developing Implications' and has reaffirmed the rating at 'CRISIL AA-/CRISIL A1+’; while assigning a 'Positive' outlook to the long term rating.

 

The ratings were placed on watch as DLPL announced acquisition of 100% equity of Suburban Diagnostics (India) Pvt Ltd (SDIPL). In accordance with available information and clarity received from the management, SDIPL was acquired at Rs 925 crore and DLPL will not make any further payment apart from that done in the first tranche; the balance payment (Rs 225 crore) was based on performance of SDIPL as audited in fiscal 2022. The performance of SDIPL got impacted due to decline in Covid tests during the second half of fiscal 2022. DLPL has funded the acquisition of SDIPL majorly through cash accrual and partially from debt. Now that the acquisition has been completed, there will be no further investment made. SDIPL is now a 100% wholly owned subsidiary of DLPL. Hence, the ratings have been removed from ‘watch with developing implications’.

 

The outlook revision reflects continuous improvement in the business risk profile of DLPL, with yearly revenue growth of more than 8-10% expected over the medium term, driven by strong market share in the organised diagnostic sector, reputed brand equity, established presence in the business-to-consumer (B2C) segment, healthy franchise model, highest pick-up points on Pan-India basis and improving test portfolio; revenue was Rs 2,087.4 crore in fiscal 2022. Revenue growth was led by 32% year-on-year increase in the portfolio; non-covid portfolio formed 81% of the total revenue. The group served 2.73 crore patients in fiscal 2022, registering a growth of 34.7% from 2.03 crore patients in fiscal 2021, with non-covid business nearly returning to pre-covid levels. Non-covid revenue continued its growth momentum with increasing patient inflow, driven by strong brand recall, quality results offering and customer-centric services. Revenue per patient increased by 10% to Rs 765 in fiscal 2022 (Rs 695 in fiscal 2018), driven by better test mix and higher proportion of specialised tests. Revenue is expected to further improve by around 10% during fiscal 2023; the group has achieved revenue of Rs 503 crore during the first quarter of fiscal 2023, supported by improving geographical diversity in the western region post acquisition of SDIPL.

 

Operating margin of the group remained steady at 26.91% in fiscal 2022 against 27.63% in fiscal 2021. The margin declined during the fourth quarter of fiscal 2022 due to the consolidation with SDIPL, which had a low margin (16-17%). Operating margin should however remain healthy over the medium term due to strong presence in the B2C segment, sustenance of pricing despite intense competition from new players in the diagnostics market and increase in the share of specialised tests (radiology, non-covid-related diabetes, blood pressure, etc) having regular and better realisations.

 

Financial risk profile has been robust, with strong networth of Rs 1,423 crore as on March 31, 2022, supported by healthy accretion to reserve. The group remained debt free for the four fiscals through 2021, leading to a strong capital structure. Despite, debt-funded acquisition of SDIPL, gearing was very low at 0.24 time as on March 31, 2022. Liquidity reserve was healthy at Rs 436 crore as on June 30, 2022. Strong balance sheet and healthy liquidity provide the flexibility to absorb modest-sized acquisitions without significantly impacting the key credit metrics. However, any large, debt-funded acquisition will be a key monitorable.

 

The ratings reflect the group’s leading position in the pathology laboratory (path lab) industry in India, supported by established brand equity, strong infrastructure, healthy operating efficiency and return on capital employed (RoCE) levels and robust financial risk profile. These strengths are partially offset by exposure to intense competition.

Analytical Approach

CRISIL Ratings has combined the business and financial risk profiles of DLPL and its subsidiaries: Paliwal Diagnostic Pvt Ltd, Paliwal Medicare Pvt Ltd, APL Institute of Clinical Laboratory & Research Pvt Ltd, Dr Lal Pathlabs Nepal Pvt Ltd, Chanre Laboratory Pvt Ltd, Dr Lal Pathlabs Bangladesh Pvt Ltd, Dr Lal Ventures Pvt Ltd, PathLabs Unifiers Pvt Ltd, Dr Lal Pathlabs Kenya Pvt Ltd, Centrapath Labs Pvt Ltd and APRL Pathlabs Pvt Ltd and SDIPL.  All these entities are collectively referred to as the DLPL group.

 

Please refer Annexure - List of Entities Consolidated, which captures the list of entities considered and their analytical treatment of consolidation.

Key Rating Drivers & Detailed Description

Strengths:

• Leading market position backed by established brand equity and strong infrastructure network: The group has maintained its dominant position in the Indian path lab services industry, reflected in operating income of Rs 2,087.4 crore in fiscal 2022; and improved pan-India network of 277 clinical laboratories (including national reference lab in Delhi and regional reference lab in Kolkata), 4,731 patient service centres (PSCs) and 10,599 pick-up points. The group is regularly enhancing its laboratory footprint to cater to extant and emergent sampling. The market is highly fragmented, with almost half of it being catered by unorganised standalone centres, while hospital-based diagnostics centres account for 37%. Organised diagnostic chains such as the DLPL group account for just 17% of the total market.

 

With strong presence in the Western markets post-acquisition of SDIPL, performance of the group should further improve over the medium term. With 38 labs and 177 PSCs  in Maharashtra and well-established operations in Mumbai and Pune, SDIPL provides DLPL a robust platform to strengthen and penetrate its geographical presence in the western region.

 

• Robust financial risk profile: The financial risk profile is supported by steady cash accrual, absence of any significant debt-funded capital expenditure (capex), and minimal reliance on the working capital limit. Capital structure was healthy, reflected in strong networth and low total outside liabilities to tangible networth ratio of Rs 1,423.00 crore and 0.54 time, respectively, as on March 31, 2022. Debt protection metrics were comfortable, indicated by interest coverage and net cash accrual to adjusted debt ratios of more than 20.00 times and 0.99 time, respectively, in fiscal 2022. The group has remained debt free for the four fiscals through 2021, thereby strengthening the capital structure. However, to partially fund the acquisition of SDIPL, the group has availed debt of Rs 250 crore, which will likely be repaid entirely within a year.

 

• Healthy operating efficiency and RoCE: The group has healthy operating efficiencies, reflected from strong operating margin of 26-28% for the three fiscals through 2022, supported by efficient quality controls, improving revenue per patient, cost-optimisation measures and continuous process improvement through an in-house research and development set up. Further, low capital intensity (focus on asset-light model) and strong margin led to robust RoCE of 35.2% in fiscal 2022; the ratio is projected at 25-26% over the medium term. Increasing share of sales from the B2C segment with aggressive network expansion should sustain the earnings before interest, taxes, depreciation, and amortisation (EBITDA) margin at 26-27%. Though the portfolio of SDIPL has lower margin, the EBITDA margin of the group should remain healthy owing to higher contribution from DLPL, shift of customers towards quality health diagnostics along with better test mix, cost-rationalisation measures undertaken, and a significant increase in specialised testing.

 

Weakness:

• Exposure to intense competition: Intense competition in the diagnostic services market, comprising several players offering similar services, results in pricing pressure. The diagnostics market is highly fragmented, with almost half of it being catered by unorganised standalone centers, while hospital-based diagnostics centers account for 37%. Organised diagnostic chains such the DLPL group account for just 17% of the total market. However, DLPL provides attractive test packages to customers in the B2C segment to increase its clientele; the group served 2.73 crore patients in fiscal 2022, registering a growth of 34.7% from 2.03 crore patients in fiscal 2021.

Liquidity: Superior

Cash accrual, expected at more than Rs 320-350 crore per annum, will be sufficient to meet incremental working capital requirement and yearly repayment obligations of Rs 83 crore over the medium term. Net cash and investments were healthy at Rs 436 crore as on June 30, 2022. Bank limit utilisation was negligible during the 12 months through March 2022. Low gearing and moderate networth aid financial flexibility. However, any further large, debt-funded acquisition and deployment of liquid funds will remain key monitorables.

Outlook: Positive

The DLPL group will continue to improve, driven by increase in demand post the acquisition of SDIPL.

Rating Sensitivity factors

Upward factors

• Revenue growth of 10-12% per annum and operating profitability steady at 25% owing to improved geographical presence, leading to better-than-expected cash accrual
• Improvement in the working capital cycle and maintenance of a healthy capital structure

 

Downward factors

• Revenue declining by more than 20% each fiscal and operating margin dropping by 400 basis points, resulting in lower-than-expected cash accrual
• Large, debt-funded capex or acquisition, with gearing increasing above 0.5 time
• Stretch in the working capital cycle or considerable fall in cash and liquid investments

About the Group

DLPL is the flagship company of the DLPL group. Set up as a partnership firm in 1949 by the late Dr S K Lal, it was reconstituted as a private-limited company in 1995. The entity got converted to a public-limited company before being listed on the National Stock Exchange and the Bombay Stock Exchange in December 2015. DLPL operates its own path labs, while collection centres are run on franchisee model. Though operations are spread across the country, north India accounts for around 62% of the total revenue.

Key Financial Indicators*

As on / for the period ended March 31		2022	2021
Operating income	Rs crore	2087.4	1581.1
Reported profit after tax (PAT)	Rs crore	350	296
PAT margin	%	16.7	18.74
Adjusted debt/adjusted networth	Times	0.24	0.00
Interest coverage	Times	20.16	30.44

*The above figures are CRISIL Ratings-adjusted numbers

Any other information: Not applicable