Weekly Musings – NFO Pick (Kotak Mahindra Healthcare Fund)

13 Nov 2023 , 01:36 PM

SECTORAL PUSH – THE CASE FOR HEALTHCARE FUNDS

At a time when the mutual fund NFO (new fund offering) scene is dominated by small cap funds, mid-cap funds, multi-cap funds and selected sectoral funds, Kotak Healthcare Fund does look out of place. However, scratch the surface, and it is a bet on the geometric growth that is expected for the Indian pharma space in the coming years. Apart from the lucrative US market still being the mainstay for Indian pharma, the pharma sector is also likely to see the benefits of a growing Indian pharma market, the risk of CDMO and a big shift to health tourism into India. The healthcare fund will also look into health insurance, which is still a huge untapped potential in India. That is what the fund is betting on. It is not a story for the faint-hearted or for the investors with a pump-and-dump mentality. This is a fund for the long haul. Investors who have a perspective of 6-8 years alone should look at this NFO. The results could be flattering if things fall in place for the Indian pharma and healthcare sector.

WHAT EXACTLY DOES HEALTHCARE IN INDIA COMPRISE 

Most of us tend to look at the healthcare sectors as a combination of manufacturers of generics and companies that offer healthcare services like hospitals. However, today the healthcare segment is much broader and encompasses the following.

• Pharmaceuticals, which includes the manufacture of bulk drugs and formulations. It includes the manufacturing, extraction, processing, purification, and packaging of chemicals for use in medicines for humans and animals. 

   

• APIs or Active Pharma Ingredients are specialized manufacturers who focus purely on making the key intermediates for the generics that are manufactured. This is a cyclical business with high competition but APIs have been an integral part of the India pharma story for a long time.

   

• CDMOs or contract developers are a subset of the pharmaceutical segment, but in the last few years they have seen rapid growth. CDMOs are contract manufacturers on behalf of large manufacturers who can leave the manufacturing to specialized CDMO players in India and focus on research, development, branding, and marketing.

   

• Hospitals, which comprise of healthcare centres, general hospitals, specialized hospitals, nursing homes as well as mid-tier and top-tier private hospitals. This industry is high capital intensive in the initial years with replication happening in later years.

   

• Supply of medical equipment is another area where the Indian healthcare industry is showing traction. It includes medical equipment and supplies of surgical kits, dental kits, advanced hospital equipment, laboratory instruments etc.

   

• Diagnostics and Telemedicine are another emerging area wherein the entire range of testing laboratories are converted into a stand-alone business model with high capacity and scalability. Telemedicine has much larger implications in terms of its ability to delivery medical care at low cost to even remote locations.

   

• Medical insurance is somewhere between insurance and healthcare, but acts more as a confluence. For the pharma and healthcare industry, rapid growth in health insurance is a road to institutionalization of the healthcare business.

That in a nutshell is the universe of business that the Kotak Healthcare Fund will invest in.

HOW BIG IS THE INDIA HEALTHCARE OPPORTUNITY?

Let us first look at the big opportunity matrix for the Kotak Healthcare Fund and how it fits into the overall investment story.

• The Indian pharmaceutical market (domestic market) has grown from $42 billion in 2021 to $65 billion in 2023. By the year 2030, this is expected to double to $130 billion. Clearly, much of the incremental growth is going to come from domestic demand and not from the traditional markets of US and Europe. That is an approximate growth of more than 3X in the decade from 2020 to 2030.

   

• India is already the world’s largest supplier of generics and accounts for 20% of global generics exports. For most of the global companies, India continues to be the preferred supplier. In addition, with the China plus one policy adopted by most of the Western companies, India is likely to see a lot of business shifting towards India.

   

• There are some other macro triggers too. For instance, the spending on medicines in India is expected to grow at around 12% CAGR by 2025. In addition, India got cumulative FDI of $21 billion into pharma and healthcare sector in the previous two years and that trend looks all set to accelerate in the future.

   

• India delivers world class healthcare services at a price that is anywhere between 60% and 80% lower than global counterparts in the West. Most of the large hospital chains in India offer easy registration process combined with top class medical facilities. That opens up the window for healthcare tourism in a big way in India.

   

• There are some other major triggers to for the pharma sector in India. The digital healthcare market is expected to grow to $485 billion by the year 2024. India currently spends just about 2.1% of GDP on healthcare and this is much lower than Asian and Western counterparts. Government has also been working on developing pharma parks, R&D centres, encouraging FDI with credit incentives for healthcare infrastructure. .

One piece of statistics that highlights this opportunity is the insurance penetration in the healthcare space. In terms of life insurance penetration, India at 3.2% is comparable with the global average. It is more than US/Canada and higher than emerging APAC, although much lower than advanced APAC nations. However, India lags in non-life insurance with just 1% penetration, against the global average of 3.9% and much below even emerging APAC That is an indication of the big opportunity for Indian healthcare.

STORY OF HEALTHCARE INDEX IN INDIA

Obviously, if the healthcare funds have to do well, then the pharma index performance comes into play. Here is what you must know about how the pharma & healthcare index has performed in the Indian context.

• If you compare the BSE Healthcare Index with the Sensex, since its inception in 2008, then the Sensex has grown money 4.97X in these 15 years while the BSE Healthcare Index has grown money 7.72X in the same period, clearly outperforming the Sensex by a rather huge margin.

   

• The average P/E of the BSE Healthcare index over the last 10 years is 26.7X. However, what should be noted here is that the P/E ratio of the sector has been very volatile at different points of time. For instance, between 2008 and 2014, the pharma industry traded at P/E of 11X to 20X on an average as India pharma companies were venturing into global markets. In the 2014-2015 period, the P/E shot up to the range of 20X to 28X as the benefits of these US investments started trickling in. However, with the challenges facing the pharma industry, the P/E of the sector got derated back to the 15-20 levels in the period 2018-20. Post 2020, the COVID related demand has kept the P/E above the historic average, which is where it stays even now.

   

• Recent quarters have seen Indian pharma companies reporting a spike in gross profit margins. For example, between Q1FY23 and Q1FY24, the gross profit margins spiked by 440 basis points from 62.3% to 66.7%. Further price increases are expected to expand the gross refining margins further for Indian pharma companies.

   

• India has been reducing its reliance on the US generics market. Between 2017 and 2023, the share of US generics in the revenue mix of Indian pharma sector has fallen from 37.4% to 29.3%. This flows from diversification of revenues to other geographies as well as a sharp spike in the domestic India business.

   

• If you consider the BSE Healthcare index as the universe, the mix is 73.3% in favour of pharma and biotech; 20.6% in favour of healthcare services, 3.1% for chemicals and 2.8% for health insurance. About 50% of the healthcare universe in terms of market is large cap with the balance being small and mid-caps. Choice is wide enough.

The Kotak Healthcare Fund will maintain at least 80% of its corpus in healthcare and healthcare related industries with leeway for the other 20%.

HIGHLIGHTS OF THE KOTAK HEALTHCARE FUND NFO

Here are some key takeaways that investors should know about the NFO.

• The Kotak Healthcare Fund NFO opens for subscription on November 20, 2023 and closes on December 04, 2023. Shibani Kurian, Dhananjay Tikariha and Abhishek Bisen will be the fund managers. 

   

• It is an open ended mutual fund scheme which is classified as a Sectoral / Thematic scheme under SEBI classification norms. Any sector / thematic fund runs the dual risk of equities as and asset class and the risk of enhanced exposure to just one sector.

   

• The performance of Kotak Healthcare Fund will be benchmarked to the Nifty Healthcare TRI. The TRI index is the total returns index, which not only factors the capital gains but also the dividends received by the components of the index.

   

• The objective of Kotak Healthcare Fund is to generate long term capital appreciation in the portfolio by investing in companies that directly  or indirectly benefit from the growth in pharma, healthcare, diagnostics, health insurance etc.

   

• Lumpsum purchases in the NFO entail a minimum investment of Rs5,000 per application. However, the restrictions are far lower once the fund opens for continuous purchase and redemption post the closure of the fund.

   

• There will be no entry load on the fund. However, being a high-risk and long term sectoral / thematic fund, the Kotak Healthcare Fund will impose an exit load of 1% if redeemed within 30 days of the allotment of units. There is no exit load after that. 

   

• The Kotak Healthcare Fund offers Regular Plans and Direct Plans to investors with the TER adjusted accordingly. In addition, the fund also offers investors the growth option, the IDCW payout option and the IDCW reinvestment option.

It must be noted that in the equity funds, the dividends are taxable at the marginal rate of tax while capital gains are taxed at concessional rates of 15% for short term capital gains and 10% for long term capital gains.

UNDERSTANDING THE HEALTHCARE FUND UNIVERSE IN INDIA

Here is a quick look at the other pharma & healthcare fund universe in India. 

Scheme  Name	NAV  Direct	1-Year  Returns (%)	3-Year  Returns (%)	Return Since Launch (%)	Daily AUM  (Rs Crore)
DSP Healthcare Fund	29.13	24.03	16.75	24.03	1,813.58
Mirae Asset Healthcare Fund	28.71	23.20	18.44	21.74	1,891.31
ABSL Pharma & Healthcare Fund	23.48	27.96	16.87	21.74	536.42
ICICI Prudential P.H.D. Fund	26.46	26.97	16.87	19.91	3,214.16
LIC MF Healthcare Fund	21.29	16.94	11.55	17.44	51.54
Nippon India Pharma Fund	396.21	27.16	19.38	17.33	5,878.05
SBI Healthcare Opportunities Fund	318.05	27.87	19.51	16.56	2,085.87
UTI Healthcare Fund	210.20	26.13	16.29	14.63	807.07
Tata India Pharma & HealthCare Fund	23.60	25.15	18.45	11.52	706.13
ITI Pharma and Healthcare Fund	11.74	18.98		8.32	134.43

Data Source: AMFI

As can be seen above, there are just about 10 dedicated pharma and healthcare funds in India. The enthusiasm has not been too great in recent months. In the last 8 years since 2015, the only time the pharma funds have genuinely done well is during the post COVID period. The overall AUM of pharma and healthcare funds in India is around Rs17,119 crore, so it is still quite still small in India as an asset class. But the message is that with the underlying shift in Indian pharma industry and the quest for defensives at higher market levels, pharma could be a good long term story.