WAT - Waters: Great Growth Gem A Bit Pricey

2023-03-07 11:53:43 ET

Summary

• Waters is a very interesting long-term steady growth gem, combining bolt-on dealmaking with organic growth and continued share buybacks.
• This is to be applauded, although shares are awarded a current steep 27 times forward multiple.
• Modest leverage around 1 times will increase to nearly 2.5 times following an interesting bolt-on deal.
• I would be happy to buy this player at a low 20 times multiple, just above the $250 mark.

Waters (WAT) is a very interesting business, operating somewhat under the radar to create tremendous value in the long haul, quite frankly being under-covered on this platform.

An Introduction

Waters is a company which focuses on liquid chromatography, mass spectrometry and thermal analysis innovation. The company ensures that medicines and vaccines obtain the efficacy, safety and quality which they require. These products furthermore ensure purity of food and water, and durability of products and services.

On a $3 billion revenue base, the company posts very compelling margins of around 30%. About 60% of these revenues are generated from the wider pharma industry, 30% from industrial and applied (which includes food and materials) and the remaining 10% from academic and government clients. Revenues are split roughly equally between equipment sales on the one hand as well as services and materials on the other hand.

Great Value Creating Machine

A $100 stock a decade ago in 2013 has seen a steady but relentless rise in its share price as the solid positioning resulted in solid organic growth, accompanied by bolt-on dealmaking. Shares had risen to the $200 mark in 2018, to rally to a high of $420 in September 2021. Ever since, shares have stabilized, having traded in a $250-$350 range ever since, now trading at $320 per share.

These gains have been driven by a very strong performance as revenues have risen from $1.9 billion to $3.0 billion over the past decade, as cumulative revenue growth of nearly 60% works down to 4-5% per annum. Operating margins have been stable in the mid-twenties, but the real growth has come from a reduction in the share base, as the company has bought back 30% of its shares over this time frame, resulting in solid growth on a per-share basis.

For the year 2021, the company generated $2.79 billion in sales on which net earnings of $692 million were reported, equal to $11.17 per share, with adjusted earnings coming in three cents higher. Net debt of $944 million was equal to roughly the reported EBITDA number. For 2022, the company guided for a 5-7% increase in sales with non-GAAP earnings seen up to $11.75-$12.00 per share.

The company handsomely delivered on these results, as reported early this year, with sales up 7% to $2.97 billion, although net earnings only advanced to $708 million, equal to $11.80 per share amidst slightly higher tax rates and interest expenses. Continued buybacks made that net debt rose a bit to $1.1 billion, still very manageable of course.

The company guides for another solid year in 2023 with organic sales up 5.0-6.5%, although reported sales are expected to see a point headwind from the strong dollar, with adjusted earnings seen at a midpoint of $12.65 per share. With 60 million shares trading at $320, the equity valuation comes in at $19.2 billion, for a $20.3 billion enterprise valuation, equal to nearly 7 times sales and 27 times earnings.

A Deal

Alongside the fourth quarter earnings release, the company announced a bolt-on deal as well. Waters reached a $1.36 billion deal to acquire Wyatt Technology, a light scattering instruments and software company. With this deal, the company will obtain significant exposure to the bioanalytical characterization business, including cell and gene therapies.

With a revenue contribution of $110 million in 2020, the resulting multiple of 12 times sales does not come cheap, albeit that the company expects 10% revenue growth for this business to come. That said, the company has seen 20% revenue growth in recent years as 40% margins reveals a very profitable contribution, with interest expenses to be incurred largely eating up the acquired earnings power.

Moreover, the company sees $70 million in revenue synergies in the fifth year as this could boost pre-tax earnings by around half a dollar based on the margin profile of sales. Pro forma net debt will jump to $2.5 billion, as leverage will remain controllable at around 2.5 times. Hence, this is not a game changer, albeit that this will add nicely to the revenue profile of the business, while leverage will increase a bit from the get go.

Concluding Thought

Based on forward earnings power, I believe that a 20 times multiple looks quite compelling which translates into a $250 per share entry mark. Remember that shares came close to this level, trading at $270 in October. At these levels, I am happy to place shares of Waters on my watch list, waiting for this steady value creator to trade at more compelling levels (earnings yields) after a recent increase in risk-free rates makes me non-appealed to the shares as long as they start with a $3 handle.

For further details see: