NVST - Envista: Consider Revenue Mix And Portfolio Transformation

2023-08-22 05:09:47 ET

Summary

• Envista is estimated to have about 80% of its revenue generated from consumables, which limits the downside risks for its top line.
• NVST's portfolio transformation is still in progress, and the company expects further margin improvement and sales growth acceleration in the years ahead.
• Envista's shares are still rated as a Buy, in consideration of its defensive sales mix and the portfolio restructuring potential for NVST.

Elevator Pitch

I continue to rate Envista Holdings Corporation ( NVST ) stock as a Buy.

My prior April 20, 2023 initiation article touched on the long term growth prospects for Envista.

With this latest update, I write about NVST's defensive revenue mix and its portfolio transformation potential. Envista's downside is protected by the company's high proportion of consumables sales, while the company has decent upside considering its corporate restructuring levers.

Defensive Revenue Mix

The market is concerned about the potential revenue downside for companies operating in the dental industry as the economic environment gets worse, and Envista's share price and valuations have been negatively impacted by such worries.

NVST's share price has dropped by -22% from its 2023 year-to-date peak of $42.50 registered on February 2 this year to close at $33.09 as of August 21. Envista's consensus forward next twelve months' Enterprise Value-to-Revenue multiple has de-rated from 3.0 times to 2.3 times during this period, while its consensus forward next twelve months' normalized P/E was compressed from 22.4 times to 16.5 times in the same time frame.

In my opinion, the sell-off in Envista's shares and the stock's valuation de-rating in recent months are unwarranted.

The company boasts a defensive revenue mix as evidenced by its management commentary at past investor events. At the Envista Summit on February 24 this year, NVST highlighted that "over 80% of our business is consumables, everyday use." Envista also mentioned at the Jaws & Paws Conference on May 31, 2023 that "60-some percent of our business are orthodontics and implants" which are "very specific premium segments" whose "books are already scheduled for the next 2 or 3 months." This means that a meaningful proportion of NVST's sales are recurring in nature with reasonably high visibility.

Recent key metrics indicate that Envista's top line has held up well in tough times. Revenue for NVST expanded by +5.6% QoQ and +2.6% YoY to $662.4 million in the second quarter of 2023, and its actual recent quarterly sales was +1% above the analysts' consensus estimate of $665.8 million . Also, NVST recorded a "core sales growth" rate (adjusted for M&A, divestments, and foreign exchange) of +2.1% YoY for Q2 2023, as per the company's second quarter results presentation .

Looking forward, Envista stressed at the company's Q2 2023 results briefing on August 2 that "demand remains resilient" based on its conversations and checks with "doctors, group practices, DSOs (Dental Support Organizations)." This explains why NVST has the confidence to leave its full-year FY 2023 core sales growth guidance in the low single digit percentage range unchanged.

In a nutshell, concerns about NVST's future revenue outlook appear to be overdone. Envista's revenue mix is pretty defensive, as seen with the company's recent quarterly top line metrics and the management's comments.

Portfolio Transformation Potential

Envista has been restructuring the company's business portfolio in recent years and this has already paid in the form of positive sales growth and an improvement in operating profitability. There is still significant potential for NVST to further transform its portfolio in the coming years.

Prior to the company's public listing in 2019 and the pandemic in 2020, NVST was reporting lackluster revenue growth rates of +0.9% and +1.2% for FY 2017 and FY 2018, respectively. The company also previously achieved EBITDA margins at the mid-teens percentage level before COVID-19 and its listing. These financial metrics are sourced from S&P Capital IQ .

After Envista completed its public listing on the NYSE in September 2019 , the company ventured into new market segments like premium implants and aligners, and also executed on a couple of acquisitions (e.g. Osteogenics Biomedical and Carestream's intra-oral scanner business ) and divestitures (e.g. KaVo Treatment Unit & Instrument business ). NVST's portfolio transformation efforts were successful, as its core sales growth and EBITDA margin improved to +4.1% and 20.1%, respectively for fiscal 2022.

In its February 2023 Envista Summit investor presentation slides , NVST noted that there are ample opportunities for the company to realize revenue growth acceleration and operating profit margin expansion via further portfolio transformation.

Firstly, Envista has increased the proportion of the company's businesses selling direct to clinicians from under 50% for 2019 to over 60% in 2022. NVST is targeting to raise this direct selling percentage to in excess of 70% by 2026.

Secondly, the company aims to generate a higher proportion of sales from its Specialty Products & Technologies business segment, as opposed to its Equipment & Consumables business segment. The Specialty Products & Technologies business segment has good potential for margin expansion, and only accounted for more than 60% of Envista's revenue last year.

Thirdly, there are still high-growth areas that NVST doesn't have a presence in. At Bank of America ( BAC ) 2023 Health Care Conference on May 9 of the current year, Envista specifically mentioned that the company is interested to "deploy capital" to "value implants" and "biomaterials".

In summary, Envista is of the view that the company can deliver an EBITDA margin in the low-twenties percentage range and a high single-digit percentage core sales growth in three years' time, assuming it executes well on its portfolio transformation initiatives as detailed above.

Closing Thoughts

I remain bullish on Envista, taking into account the risk-reward for the stock. Negative surprises relating to NVST's future revenue are less likely, thanks to the company's defensive revenue mix. On the other hand, Envista has a good chance of realizing a faster pace of top line and superior profitability in the intermediate term.

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