Victoria's leading medical diagnostic imaging services provider, Capitol Health Ltd (ASX: CAJ), today announced to the ASX that it had expanded its New South Wales presence with two strategic acquisitions.
Worth a combined enterprise value (EV) of $30 million, Capitol Health will acquire both Eastern Radiology Services and Sydney Radiology as it expands across the state.
Eastern Radiology is located in Bondi Junction, whilst Sydney Radiology is located in Cremorne. Capitol Health said both centres will strategically complement the company's recent push into the large NSW market and both centres have potential for earnings growth.
"Both Eastern and Sydney are high quality businesses with strong radiologists and specialist expertise," Capitol Health Managing Director, John Conidi said. "The businesses have generated strong revenue growth and high margins which we believe we can enhance."
Mr Conidi added the acquisition will complement the group's previous acquisitions and hinted at more to come.
"These sites are strategic in nature and complement the recently acquired Southern network," Mr Conidi said. "We will look to add further clinics to the network on selective basis utilising the existing debt headroom we have."
Is the deal good value for shareholders?
The price paid for the two acquisitions appears meaty on first glance, given the entities achieved earnings before interest, tax, depreciation and amortisation (EBITDA) of just $3.75 million in financial year 2014. That places the deal at an EV/EBITDA multiple of 8x.
Whilst there's nothing wrong with paying a high price for quality assets, in addition to scrutinising the relevancy of the deal to the company's corporate agenda, investors should expect a healthy margin between the price paid for the acquisitions and the on-market valuation of shares.
For example, based on my simple forecasts of Capitol Health's full-year EBITDA and adjusted EV, I estimate its shares currently trade on an EV/EBITDA multiple around 23x. That means, since the new acquisition is at a lower multiple (eight times) than the market value of the shares (23 times), the deal will likely healthily add to Capitol Health's earnings base moving forward.
Of course that's a simplified way to gauge the true 'value' of the business and acquisitions, but forms the rationale for many companies – like Capitol Health – who are conducting an industry 'roll-up' strategy. So long as debt payments are managed prudently, it will likely payoff for Capitol Health shareholders over the medium term. The success of Sonic Healthcare Limited (ASX: SHL) proves the strategy can work.
Should you buy Capitol Health shares?
Capitol Health has provided exceptional returns for shareholders over the past five years and looking ahead analysts continue to forecast reasonable growth. I also expect the group to continue powering earnings higher, over time.
However, personally, I think the company's current valuation appears quite stretched. Indeed, at around 54x financial year 2014 profits per share, I suggest investors wait for the excitement to subside before considering an investment in Capitol Health.
