TMO and MTD were laggards last week, pulling the relative PE closer to historic norms. Given the 200bps of outperformance, the group’s EV/EBITDA premium to the market remains inflated at 57% (Exhibit 25). Since 1/23, Tools as a group is down -18% cap-weighted (wide, but narrowing variation in the group, see Exhibit 7) vs the S&P -24% and Devices -20%.
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ALGN is down -32% since 1/23, compared to the S&P 500 at -26%. We adopt a new modeling approach (see page 2) that implies ’09 volumes, depressed by near term practices closures, ‘20/’21 revenues fall 17%/16% below our prior estimates to 12% below consensus for ’20 and 14% below for ’21. Our model now implicitly assumes protracted practice closures and a deep recession. Within that backdrop, we anticipate 39% upside to our price target by E’20, on a multiple that assumes a premium relative to the S&P 500 that is based on a median of the ’14-’16 timeframe.
With NVST shares down 58% since 1/23 and 53% YTD vs our coverage down 32%/28%, the stock embeds fears over leverage covenants and confusion on how US/EU dental will evolve this year relative to China. Device investors note Zimmer Biomet (ZBH, not covered) at a recent conference indicated an 85%-90% decline in elective procedures through February in China and commentary from XRAY that APAC revenues are expected to be down 70% in 1Q; neither dynamic is translatable to US/EU Dental for 2Q unless you assume COVID dynamics last into late May and you assume Dental care is tied to hospital care, which is only true broadly (~70%) in China. Outside of China dental care is almost entirely performed in dental offices, we estimate roughly half the impact per-week seen in China.
Dental video brief 3.25.2020.
While consensus is stale, this is true broadly, Dentals on consensus are at 15+year lows vs the S&P and Healthcare. The moves have also flipped the historic premia that the manufacturers trade at to become discounts, with fears over NVST leverage elevated and XRAY calling for >50% declines in APAC in 1Q that some are extrapolating to Western markets for 2Q. These dynamics likely fade this year, the China/APAC experience is unlikely to repeat in the West, and our preference for the manufacturers is more acute. In the slides available at the link below, we walk through takeaways from our latest calls with dentists and corporates in the space, as all parties consider the implications of practice shutdowns (slides below have details at the country level) and the potential for an increase in unemployment.
The lack of high frequency data in Tools makes assessing trends amidst the current crisis challenging relative to many other industries. To attempt to bookend the possibilities, we reconstructed our customer-level GTMI series to take a look back to 1995 – through multiple recessionary cycles – to inform views on potential impacts of recession on Tools estimates. Our series reflect hard data including pharma production volumes, medical equipment production, and testing instrument production that have passed GTMI statistical filters. Our findings are presented on pages 2 and 3. In coming weeks, we will launch a set of new higher frequency tools as we attempt to compare the current cycle to prior cycles for modeling purposes.
We refresh our data-driven look at Tools positioning in the current environment, looking at fundamentals and recent moves, following on our China Updates. Tools as a category has multiples (even on stale consensus) near 1H19 peaks vs the S&P, up 1,500 bps in 2 weeks on EV/EBITDA, to 61% from 45%, (Exhibit 5). Since 1/23, Tools as a group is -22% cap-weighted (wide variation in the group, see below) vs the S&P -28% and Devices -25%.
As we have highlighted, Biopharma proceeds of $20bn is the single most important de-levering event for GE and a critical driver towards the YE20 industrial leverage target of 2. 5x. We have long viewed deal closure as a formality, given Danaher’s proactive funding for the deal and a clear path to regulatory approval. But the market has been questioning each and every deal under way, in light of the looming recession; especially ones that are critical to lower B/S leverage. As such, this news has to be viewed as a significant positive.
While COVID-19 test provision is a key priority for TMO, there is agreement that the broader environment is under pressure, with 2Q20 more uncertain than 1Q20. As flagged in our Agilent work, this looks less bad than the ’09 cycle and TMO is better positioned. 2Q20 could see TMO ship >5.0mn COVID-19 tests/week for some time, driving $200mn+ revenue on top of accelerated demand in the HC channel and Dx franchises, but bullish views miss the broader picture.
FY20 visibility is still low, but as we flagged last week and last night we have an early sense for relative exposures and some granularity on China impacts thus far. Agilent is unique relative to Tools peers in that the company has far higher exposure to oil prices but also very easy China comps, given FY19 disruptions in Food/Pharma. Our revised estimates assume that the broader environment in ’20 is recessionary, but not as deep as ’09. In FY09, Agilent sales were down MSD (Pharma -8%, Enviro/Forensic -15%, Food up, A&G flat) and EPS compressed by 13%. If Agilent’s comps and business mix in FY20 were identical to FY09, we could imagine revenues down LSD, but 400bps of mix shift to services, the scale-up of NASD, and easy China Food/Pharma comps are in total worth ~300bps to growth. Our revised 1-2% organic growth forecast and flattish EPS outlook are an effort to take these into account. For FY21, we now forecast organic +8%, slower than FY10’s +13%, considering tougher comps (800bps) but also a 150bps mix tailwind.
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