BDX - Becton Dickinson: Ahead Of Schedule Undervalued And With Some Positive Drivers

2023-08-30 07:21:40 ET

Summary

• Becton, Dickinson has exceeded expectations in recent quarters, particularly with respect to faster-than-expected margin improvement.
• The reintroduction of the Alaris drug pump portfolio is a material positive, and the company is leveraged to strong (and growing) demand for injectable GLP-1 drugs.
• Products for peripheral interventional procedures could offer some upside, as could lower input costs, but I'd like to see more work done to improve the diagnostics business.
• BDX shares still look priced for some outperformance, and I see lower operating risk in this company's business model.

Becton, Dickinson (BDX) has never been my favorite name among med-techs, but there is something to be said for a company with commanding share in many essential med-surg markets and where price and technological competition aren't major issues. True, BDX has made some questionable capital allocation decisions in the past and there are still some definite areas of weakness, but I think BDX has appeal for investors who aren't inclined to try to pick the winners among new emerging technologies where guessing wrong can lead to meaningful losses.

These shares have done well since my last (positive) write-up - rising more than 20% and outperforming the broader medical device space, including comps like Abbott ( ABT ), Baxter ( BAX ), bioMerieux (BMXMF), and Teleflex ( TFX ), though not keeping pace with faster-growing comps like Boston Scientific ( BSX ) and Stryker ( SYK ). At this point I still see BDX as undervalued and with some potentially underrated positive drivers; it still isn't my favorite name, but it's a name worth consideration all the same.

Upside From The Fat Of The Land

One of the drivers that I find particularly attractive right now is the company's leverage to growing uptake of injected GLP-1 drugs like Novo Nordisk 's ( NVO ) Wegovy and Ozempic and Lilly 's ( LLY ) Mounjaro . Approved for diabetes and obesity, demand has been running strong for these drugs and the surprising success of a recent study of Wegovy in heart failure (surprising in the magnitude of the positive effect) is only going to add to the appeal of this drug class.

Becton, Dickinson is the clear leader in prefilled syringes and related components like needles, with an estimated two-thirds share of this $3 billion or so market. Other companies like West Pharmaceutical Services ( WST ) and Stevanto ( STVN ) could still be worth a look as other plays on this trend, but I believe BDX is well-placed to benefit from this surge in GLP-1 prescriptions, not to mention the ongoing growth of injected biologics as a class.

Better still, I don't see much near-term risk to this growth driver. There is an oral alternative, and I'm sure there will be additional oral GLP-1 drugs in the future, but for now oral therapy is a much less convenient option for many would-be users. I also don't see much risk from competition, as switching vendors requires a cumbersome re-validation process that is seldom worth the trouble.

Will Peripheral Interventions Live Up To Past Expectations?

A driver that I'm less confident about, but could nevertheless still contribute materially, is the company's leverage to growing peripheral interventional procedures. Drug-coated balloons have proven more disappointing than not in below-the-knee procedures, but the company's Highlander balloon ( not drug-coated) should nevertheless be a share-winning product in a market that is still growing at a mid-to-high single-digit rate.

I'm more bullish on the Venclose opportunity. Venclose is basically a better mousetrap for the chronic venous insufficiency (a condition which can be painful and disfiguring), a $1B or so market growing at a high-digit rate. Venclose has already grabbed around 25% market share in just two years post-approval and I think this can be a solid contributor in the context of mid-single-digit overall revenue growth outlook.

Costs Should Improve… Can Diagnostics Improve Too?

A third positive driver I want to note is the company's leverage to an improving input cost situation. BDX is leveraged to inputs like resin that should continue to see moderating costs. To that end, margin improvements have come in ahead of schedule in recent quarters and I believe there is still some upside here over the next 12-18 months.

Last and not least, the company will start benefitting next year (and beyond) from the reintroduction of its Alaris drug pumps. After multiple Class I recalls and company remediation efforts, the FDA approved the company's 510(k) application back in July, allowing BDX to commercialize these pumps again.

Looking at results, it doesn't appear as though Baxter or ICU Medical ( ICUI ) were able to leverage this situation to shift meaningful market share - that's actually not so surprising, as recalls have been a "when, not if" issue in infusion pumps for years and hospitals are reluctant to replace their systems and retrain staff. With that, I think BDX has probably held on to much of its 60%-70% installed base market share and three years off the market (the company was only allowed to sell under a medical necessity exemption) has likely built a backlog of something like $1 billion that could boost revenue for several years starting next year.

On a less positive note, there's still work to be done in several businesses. The diagnostics business just doesn't impress me much; I do think that a renewed focus on hospital-acquired infections could boost the Microbiology business (where it enjoys strong share alongside bioMerieux), but I'm just not impressed with the company's efforts in molecular diagnostics. Likewise, much of what the company acquired in the Bard deal has generated "okay" performance as opposed to something more positively transformative for the company.

The Outlook

I'm still pretty confident that BDX can generate long-term revenue growth in the neighborhood of 5%. This company enjoys strong share in a lot of key markets (like needles/syringes, PICCs, surgical disposables, and IV components) - around 30% overall and higher in some select markets (like prefilled syringes and needles). Moreover, with a significant chunk of the company's revenue coming from products that sell for less than $100, there's less risk here to government or insurer-led pushbacks on pricing, and the combination of low ASPs, strong established market share, and regulatory barriers to entry make many of these markets unappealing to new entrants.

I think the "base business" at BDX is pretty comfortably set for 3% to 4% growth and add-on opportunities like GLP-1-driven syringe demand, Alaris backlog harvesting, growth opportunities in peripheral intervention markets, and so on can boost that growth rate to 5%.

On the margin side, I'm looking for EBITDA margin to improve from the 26%-27% range to the low-30%'s over the next three to five years, and I expect free cash flow margin to improve from the mid-to-high teens to the mid-20%'s relatively quickly (five years), driving high single-digit adjusted FCF growth. I'd also note that management is ahead of schedule with its margin improvement plans and will have the choice between reinvesting more resources into growth projects or driving even more margin leverage over the next few quarters (and possibly years).

Discounting the cash flows back, I do think the shares are modestly undervalued (suggesting a long-term total annualized potential return in the high single-digits) and "modestly" is about as good as it gets for most quality med-tech names. I also use a growth and margin/return-driven (EBITDA margin, ROIC, ROTA, et al) EBITDA approach; this approach suggests a fair forward revenue multiple of 5x, or a roughly $300 fair value on my 12-month sales estimate.

The Bottom Line

BDX shares aren't "super cheap", but I think they still offer some worthwhile upside, particularly next to what I believe is a lower-risk operating environment. I do see some opportunities for upside to my estimates, but I also note that BDX has its issues - including a mixed history with larger M&A deals - and med-tech valuations are still a little stretched on an historical basis. I think BDX is a worthwhile name to consider here, though I won't argue that it's the best-run or best growth story in larger med-tech.

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