ZBH - Alphatec: Still Not Having My Back

2023-11-09 14:47:34 ET

Summary

• Alphatec Holdings, Inc.'s focus on growth rather than improving margins raises caution for investors.
• Despite strong revenue growth, the company continues to experience substantial losses and slow progress on margin improvements.
• The recent share sales and high debt levels contribute to investor uncertainty about the company's commitment to shareholder value.

In May of this year, I believed that there was a balancing act to be made for shares of Alphatec Holdings, Inc. ( ATEC ). This came while the company saw strong growth in the spine market, margins remained the issue, with no real progress expected on that front.

Continued dilution and increasing debt levels made me a bit cautious, although I was still willing to place the shares on my watch list. The same situation is more or less seen today, as the focus on growth rather than growth per share, or shareholder value, is really making me cautious to get involved with margin improvements being painfully slow.

Spine Play

Alphatec is a smaller medtech player which has a focus on the spine, a segment in which it competes against much larger (but at the same time less focused) players like Medtronic ( MDT ) , Zimmer ( ZBH ) and Stryker ( SYK ) , among others.

The business went public at $9 per share in 2006, at the time generating about $200 million in revenues. Amidst continued losses and a decline in revenues, shares fell below the $1 mark in the 2010s. A strategic reset to stop some activities and increased commercial traction made that shares came to life, trading at $7 per share pre-pandemic.

Shares rose to a high of $18 in spring of 2021, as revenues had grown to $243 million again, more than doubling in the time span of just a few years, although accompanied by a huge $128 million (GAAP) operating loss.

After a pullback to the $7 mark in 2022 shares had recovered to $15 in May of this year, when I last picked up coverage again. This came after 2022 revenues rose by 44% to $351 million, as very modest operating leverage was seen with GAAP operating losses posted at $147 million. Promising is that fourth quarter revenues for 2022 had already risen to $106 million and that loses narrowed a bit to $35 million, although a $438 million sales guidance for 2023 looked underwhelming.

With 106 million shares trading at $15, the company commanded a $1.6 billion equity valuation, resulting in reasonable multiples after the company upped the full year sales guidance to $450 million following the release of first quarter results and a bolt-on deal being announced. The issue is that of margins as the company posted a GAAP operating loss of $40 million for the three-month period, reconciling to a $5 million adjusted EBITDA loss. As the company guided for flattish EBITDA for all of 2023, this was rather uninspiring.

While topline growth and the sales multiple look very reasonable, certainly in combination to one another, the issue was that of margins, or the complete lack thereof and the slow progress on that front.

Coming Down Again

Since May, shares have risen to highs around $19 in July, but shares started slipping later in the summer and into the fall, now trading at just $10 and change.

In August, Alphatec posted second quarter results with revenues up 39% to $117 million, as the company reported an EBITDA number of positive one million. This looks positive, but GAAP operating losses rose to $50 million, indicating that the number of adjustments keeps increasing (in their magnitude).

The company hiked the sales guidance to $462 million for the year and saw adjusted EBITDA (for what it is worth) at $2 million for the year.

By mid-October, Alphatec posted preliminary third quarter sales to be up 31-32% to around $118 million, while hiking the full year sales guidance to $472 million, undoubtedly in an attempt to prop up the share price a bit. A few weeks later, the company priced the sale of 14.3 million shares at $10.50 per share in an effort to raise about $150 million in much-needed cash.

Early November, Alphatec reported a 32% increase in third quarter sales to $118 million as EBITDA was posted at $2 million. GAAP operating losses narrowed a bit to $38 million, aided by lower stock-based compensation expenses (sequentially), in part offset by higher interest expenses.

With 122 million shares trading at $10 the market value of Alphatec has come down to $1.2 billion again, but this excludes a net debt load of around $400 million as of the third quarter. This makes that the situation is still similar, in fact shares trade below 4 times sales but still very unprofitable sales.

Moreover, the debt load is substantial, and interest costs are incurred here. While this is in part addressed by the recent share sale (reducing pro forma net debt from around $400 million to $250 million), it came at the expense of more than 10% dilution (again).

And Now?

The truth is that the situation more or less looks the same as it did in May. Strong top line growth is seen, and future possibilities are touted by the business, but at the same time losses remain substantial, even as adjusted EBITDA is painfully slowly starting to improve.

Moreover, the growth (prospects) are in direct conflict with substantial share issues at lower current levels, which makes investors in doubt whether management is in for great growth of the business, or great growth in shareholder value (per share).

Given the lack of focus on investors, or at least perceived lack thereof by myself, I still find myself in a tough spot to commit to Alphatec Holdings, Inc. shares. While high debt and losses are partially tackled by recent share issues, it are these share sales which make me cautious at the same time.

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