STE - Steris: Continuing To Grow The Product Lineup

2023-06-20 19:47:51 ET

Summary

• Steris plc has digested the Cantel deal from 2021 reasonably well.
• The company has seen growth subsequently and has deleveraged the balance sheet as well.
• The company has made another bolt-on deal which looks rather interesting.
• Overall, Steris valuations look a lot better, but still not too compelling.

At the start of 2021, I took a look at Steris plc ( STE ) . I called Steris a long-term value creator which combined organic growth with bolt-on dealmaking, although 2021 started with a big deal for Cantel. The near-term earnings accretion was set to be relatively low, while leverage would increase quite a bit, although synergies were promised to be substantial.

A Look At The Cantel Deal

Early in 2021, Steris announced a massive $4.6 billion deal for Cantel Medical , that is the enterprise valuation awarded to that business. Cantel's strength in infection prevention products in endoscopy and dental products attracted Steris to add to its portfolio of medical solutions.

The deal did not come cheap, as Cantel was set to add about a billion dollars in sales and EBIT of around $134 million, although synergies were expected at as much as $110 million over time (that is, four years after closing).

As the upfront multiple was a bit expensive, shares of Steris fell from $200 to $192 per share, implying that its valuation fell by about $350 million on the back of the deal announcement, although synergy potential was substantial. The Cantel contribution came in on top of Steris' own business, which generated about $3 billion in sales and adjusted EBIT around $600 million at the time.

Pro forma, I pegged revenues around $4.2 billion, EBITDA around $800 million, and net debt at $3.2 billion, as part of the Cantel deal would be paid for by the issuance of new shares with a pro forma share count coming in at 100 million shares. Leverage ratios would come in around 4 times EBITDA, as I calculated pro forma earnings around $5.80 per share amidst the moving parts, that is ahead of synergies.

While leverage would increase quite a bit, there was a roadmap for earnings to rise from $5.80 per share to $6.80 per share upon the realization of those synergies, although this still translated into a high 27-32 times earnings multiple, all while leverage was high. Amidst all this, I have been rather cautious.

Steady

Since early 2021, shares of Steris have gradually recovered to trade with a $200 handle again. In fact, Steris shares approached the $250 mark in the first half of 2022. Shares fell to $160 in the fall of 2020 following some disappointments, but since have rebounded to $212 per share. This marks 10% capital gains since early 2021, a modest return over a near two and a half year period.

In the spring of 2022, the company posted its fiscal 2022 results, with revenues of nearly $4.6 billion coming in comfortably ahead of the pro forma revenue calculations. The company posted GAAP earnings of $244 million, or $2.48 per share on a diluted basis as adjusted earnings of $7.92 per share (mostly adjusted for amortization charges) came in far ahead of the pro forma calculations. Moreover, net debt of $2.6 billion came in much lower than estimates as well, all positives.

Moreover, the company guided for fiscal 2023 earnings per share between $8.55 and $8.75 per share. In May of this year, the company reported continued growth with fiscal 2023 sales up to nearly $5.0 billion. That was about the only good news, though, as adjusted earnings improved just very modestly to $8.20 per share, and moreover the gap with GAAP earnings rose on the back of larger amortization charges, with GAAP earnings reported at a mere $1.07 per share. The company guided for 2024 earnings at a midpoint of $8.65 per share.

Net debt was pretty stable at $2.8 billion as leverage ratios only come in just over 2 times. With 100 million shares trading at $212 per share, the company commands a $21.2 billion equity valuation, or $24 billion enterprise valuation. With earnings coming in stronger than seen at the time of the deal and leverage being a bit lower, the company still trades at a premium 24-25 times adjusted earnings multiple.

Later in June, Steris announced that it has reached a deal to acquire Surgical Instrumentation assets from Becton, Dickinson and Company ( BDX ) in a $540 million deal. The bolt-on deal will add some $170 million in sales (about 3.5% of total revenues), while the purchase price comes in at just over 2% of the own enterprise valuation. Moreover, the company sees $60 million in tax benefits and expects an adjusted EBIT contribution of around $45 million, which looks quite compelling, I must say.

What Now?

Truth be told is that I am quite upbeat on Steris stock here. The deal for Cantel has played out reasonably well, although the full synergies are still not seen, and the latest bolt-on deal seems like a nice addition as well. The issue is that overall valuations are still quite demanding at around a 24-25 times earnings.

Therefore, I conclude that the company has grown largely into its valuation post the Cantel deal, yet the expectations were simply too demanding from the get-go. While the latest move seems nice, I simply look for a more compelling entry point, requiring Steris shares to fall towards a 20 times earnings multiple given the growth seen here. This worked down to an entry point around the $175 mark, levels actually last seen last fall.

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