Fisher and Paykel FY24--adjusting to post Pandemic world

 FISHER and PAYKEL FY24

Understandable business?

FPH was created out of the old appliance business, fridges and freezers, as bizarre as that sounds now. It was a case of the tail wagging the dog after some time.

The business is now a medical device business successful MD businesses are usually built upon leadership in a certain field, ongoing product development in R&D to maintain the lead, capable GTM and large FCF that allows reinvestment and the ability to fund acquisitions when they make sense. A strong and repeatable model in the right environment. RMD is another example.

The business is broken down into two segments and three geographies. The main business is the Hospital products biz, which involves the supply of hospital capital and consumable equipment that would be seen in an ICU room. The revenue growth has been 12 %pa over 10 years and is 62% of total revenues. The basic value add is the humidifying of the oxygen to patients, making breathing easier for distressed patients. The split between capital and consumables is interesting as C19 greatly moved the mix around.  Since the model is dependent firstly on getting the hardware into hospitlas then encouraging the use of consumables and finally replacing the hardware, the growth of hardware during C19 was phenomenal with revenues rising from $77m in 2019 to $554m in 2021 as the system build up capacity to battle the pandemic.  The revenues have now reverted to the LT trend with 2024 revenues of $101m. The positive is that FPH equipment is now in the hospitals, the question remains on the use of consumables, that is, will the hospitals use the h/w or leave it underutilised? Secondly, will they replace the equipment in time and extend the growth trend? Management is keenly aware of these issues.

The Homecare division makes face masks for sleep apnea and competes with RMD and Philips. Again it is a hardware and consumables business with FPH focussed on consumables. Importantly there is interoperability between hardware and consumables, allowing FPH masks to be used with a competitor’s hardware. Management has stated that RMD is the leader but FPH is a strong competitor in masks (the high-margin part of the chain) and benefited from the Philips recalls. The business comprises 37% of revenues with a 10y revenue growth rate of 8%.

Geographically, the mix is North America at 46% with a 10y growth rate of 12%, Europe at 27% with an 8% growth rate and APAC at 21% with a  12% growth rate. The difference, I suspect, is due to salesforce and GTM strengths.

Operating History

Over time the numbers for FPH are strong with the pandemic causing some volatility. Over the last 7 years, TA and SHF have both increased at 15% pa. the increase has been accompanied by an ROE averaging 24%, but is currently 15%. Similarly, the NPAT margin has averaged 20% but is only 15% now. Likewise, the turn averaged 0.87X and is 0.76 now. These figures point to a strong business with weak current numbers.

Debt has not been an issue with usually a net cash position being maintained, currently ND $33m (small).

The negatives come from slowing growth and working through the disruption caused by the pandemic. As we have seen with various health companies the pandemic provided a significant boost to profits and revenues, like here, working through the post-period has been difficult. Part of the issue, imo, is that we are working with highly sensitive human testing and health environments, that don't lend themselves to quick fixes, those quick fixes could risk undermining the quality of the underlying provision of service. As opposed to a manufacturer that can quickly cut. Certain numbers point to this issue with FPH.

The EPS growth was consistently strong but slowing pre-C19 then has been volatile through this period. That volatility differentiates the business from others in this field. Understandable given the hospital business is through a pandemic but makes estimating a base rate of growth a bit tricky.

The reconciliation of NPAt to CFO+D&A is a coverage of 83% over 3 years (not great), but 90% over 5 years and 92% over 8 years. The stress of the business through C19 can be seen here. The CFI/CFO again is higher over the last period, this can be either lower returning investment or returns awaiting to be generated.

GM has averaged 63.9% over 8 years, but with some volatility and is 59.3% in 2023. The reasons mentioned above may be at fault here.

Management guidance is probably more useful than normal in these circumstances. They point to longer-term GM and Operating margin targets as the business normalises post-C19 and growth and efficiency gains are made. The GM target is 65% and the operating margin is 30%. The operating margin has averaged 27.5% over 8 years and is currently 21.4%. the improvement to 30% is comprised of the GM improvement and the scale benefits of SGA and R&D. These numbers are understandable given the history but are quite aggressive on the surface.

Management

Management has been stable and points to long-term goals. They clearly understand the importance of R&D leadership and SGA strength. They are managing the business with LT goals and almost all capital allocation has been internally driven growth such as new factories. Execution excellence is important in all these areas to continue the growth process.

Balance Sheet

No issues, conservative balance sheet.

Other

Reasonably clean accounts, as with most medical device companies. Low SBC and amortisaiton charges. The accounting is quite straightforward.

The historic PE has been 43X and a std dev of 10. Therefore the expectations have been quite high and are comparable to other medical device companies given the large, growing and profitable markets they usually operate in.

The market is quite rightly, interested in the trajectory towards the LT targets regarding GM and operating margin. Although they make sense as the business can run at a normal cadence post the pandemic, the path and attaining these goals in time is critical. The market has been prepared to give the company some benefit of the doubt, given the track record and favourable markets.

CONCLUSION - VALUATION

At $27.20 and assuming a 17% compounding of EPS growth for 5 years, as well as a 33x exit PE, plus dividends gives a 4% total return. Similar TR as RMD but RMD numbers are stronger at this point, imo.

FPH becomes a strong buy for me at $21. Existing average entry price $19.57. would add more at $21 given the holding size, all things equal.

 

Please note the disclaimer.