ATEC - Alphatec: Not Having My Back (Yet)

Summary

• Alphatec has seen solid growth in its spine business.
• Strong growth is very encouraging, yet lack of margin developments make me very hesitant.
• I am anxious to learn more about margin developments here, as Alphatec continues to have a prominent position on my watch list.

Earlier this summer, I concluded that Alphatec ( ATEC ) did not have my back, even as it has regained commercial traction within its spine business. Strong growth is unfortunately accompanied by poor margins, substantial losses and lack of operating leverage, which is creating real headaches given the prevailing cash burn and limited financing options.

A Recap

Alphatec is a smaller medtech player which operates in the global spine business, a huge business which is still dominated by industry giants like Medtronic ( MDT ) , Stryker (SYK) and Zimmer ( ZBH ) . The promise of Alphatec is that it is a small, nimble and disruptive player, fighting against these larger incumbent names.

The company went public in 2006 at $9 per share and has managed to stabilize revenues around the $200 million mark in the years thereafter, accompanied by operating losses. Following the continuation of losses, which triggered a strategic reset, revenues fell to $90 million by the end of the 2010s, as shares were down to $1 per share.

In 2019, there was a breakthrough with the FDA approving the SafeOp neuromonitoring system for real-time intraoperative nerve location. This meant that revenues rose 24% to $113 million, although a $47 million operating loss was still quite steep. After initially guiding for 2022 sales to increase to $130-$140 million, Alphatec managed to end the year with a run rate of $180 million in sales, although operating losses still trended at $50 million.

Shares rose from low single digits to $17 in spring of 2021, pushing up the valuation to more than a billion, or about 5 times sales. This looked reasonable given the rapid growth, but losses were still substantial. The company reported strong growth again in 2021, as revenues rose to $243 million as a huge operating loss of $128 million was reported.

First quarter sales for 2022 rose 61% to $71 million, as the company hiked the full year sales guidance to $316 million. The issue was that a first quarter operating loss rose to $41 million. The losses meant that shares fell to $7 per share, for a $700 million equity valuation, or $900 million enterprise valuation as the company has been incurring $200 million in net debt. A 3 times sales multiple in combination with reported sales growth looked compelling, but losses are substantial, creating continued dilution.

And Now?

After voicing an upbeat tone above on the back of the sales multiple and growth back in July, I erred on the cautious side given the continued and substantial losses. In the meantime, shares have risen from $7 to $9 per share.

In August, Alphatec posted second quarter sales of $84 million, up 35% on the year, as the company hiked the full year sales guidance to $325 million. The company posted a GAAP operating loss of $35 million that quarter, albeit that part of the loss stems from litigation and amortization expenses, as this marks a small improvement on a sequential basis.

In October, the company posted preliminary third quarter sales with revenues up 42-43% to $89-$90 million, as full year sales growth is now seen around 40%. Unfortunately, no margin details have been announced, albeit the company confirmed that cash balances came in above the $100 million mark by the end of the third quarter. Around the same period of time, Alphatec announced some product innovations as well, all being encouraging signs.

With a current $1.2 billion enterprise valuation, sales multiples remain low, certainly as topline sales growth is still very sold. In the meantime, losses remains very substantial at a run rate of $140 million, or more than $100 million if we back out some amortization and litigation charges, still a huge amount. While I can understand why investors are upbeat given the sales momentum, and reflect this in the shares, the underlying margin performance remains dismal here even after having seen some green shoots in the second quarter.

Hopefully, a strong third quarter should be accompanied by stronger operating margins performance, but for that we have to await of course, as limiting cash burn could reveal further upside, but that all depends on the near to medium term margin developments. Given all of this, I am still upbeat based on the sales multiples, although I could see further upside if margins improve in the coming quarters.

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