2023-07-13 11:40:57 ET
Summary
- Agilent Technologies, a $35 billion leader in global life sciences, is trading 30% below its all-time high and 20% down year-to-date, presenting a potential growth/value opportunity.
- Despite challenges with conversion rates and macro uncertainties, Agilent's focus on resilient areas like pharmaceuticals, aggressive R&D spending, and global presence makes it a compelling investment.
- The company is benefiting from tailwinds in MedTech, biotechnology, and life science tools, and anticipates a continued increase in recurring revenue or consumables over time.
Introduction
In the past few weeks and months, we have discussed a wide range of healthcare companies. This included high-yield pharmaceutical companies, low-yielding suppliers of various laboratory equipment, and fast-growing next-gen technology companies without a dividend.
In this article, we'll discuss one of the biggest players in the Diagnostics & Research industry. With a market cap of $35 billion, Agilent Technologies ( A ) is a leader in global life sciences with strong secular tailwinds, a 0.8% dividend yield, and accelerating free cash flow.
Furthermore, the company is trading roughly 30% below its all-time high. It's down 20% year-to-date.
This underperformance begs the question if we're dealing with an attractive growth/value opportunity.
So, let's find out!
The Company Behind The "A" Ticker
Agilent is a fascinating company. Founded in 1999, the company offers comprehensive solutions tailored to specific healthcare applications, including instruments, software, services, and consumables that cover the entire laboratory workflow.
Headquartered in Santa Clara, California, Agilent operates through three distinct business segments.
USD in Million | 2021 | Weight | 2022 | Weight |
---|---|---|---|---|
Life Sciences and Applied Markets | 2,823 | 44.7 % | 4,007 | 58.5 % |
Agilent Crosslab | 2,200 | 34.8 % | 1,452 | 21.2 % |
Diagnostics and Genomics | 1,296 | 20.5 % | 1,389 | 20.3 % |
- The first is the life sciences and applied markets business, which delivers application-focused solutions that include instruments and software . These solutions allow customers to identify, quantify, and analyze the physical and biological properties of substances and products.
- The second segment, the diagnostics and genomics business, covers six areas of activity. It supplies active pharmaceutical ingredients (APIs) for oligo-based therapeutics . Additionally, it offers a range of solutions, including reagents, instruments, software, and consumables that enable customers in clinical and life sciences research to analyze samples at the cellular and molecular levels.
- The third business segment is the Agilent CrossLab business. It covers the entire laboratory ecosystem through a broad services portfolio aimed at improving customer outcomes.
Agilent also operates the order fulfillment and supply chain organization ("OFS"), which provides centralized support to its businesses by managing manufacturing, engineering, and strategic sourcing operations.
Furthermore, the company is an aggressive spender on R&D. Over the past ten years, Agilent has spent between 6.8% and 9.5% of its revenues on R&D. Over the past four quarters, it has spent more than $480 million on R&D.
The company has more than 18,000 employees and a global presence, with R&D and manufacturing sites in the US, Australia, China, Denmark, Germany, the UK, and many other nations.
Agilent Technologies
With that in mind, the company is benefiting from a number of tailwinds.
Agilent's Challenges & Tailwinds
During the recent Goldman Sachs ( GS ) Annual Global Healthcare Conference, participants were asked which healthcare segment they expect to outperform in the second half of this year.
The clear winner was MedTech, followed by small and mid-cap biotechnology companies and life science tools. These are exactly the areas that we have focused on in the past few weeks (MedTech & life sciences).
Goldman Sachs
During this conference, Agilent presented as well.
The company started off by mentioning that it achieved good results in the second quarter, with 9.5% core growth and 12% earnings per share. However, due to order volume not materializing into actual purchase orders, the full-year guidance was lowered by about 200 basis points. The second half of the year is expected to have slower growth on the top line, while earnings per share are still anticipated to grow due to cost measures.
This is what the company said during its 2Q23 earnings call (not the GS conference):
In an increasingly challenging market environment, the Agilent team delivered very solid results in the second quarter . Revenues of $1.72 billion are up 9.5% core above our expectations with growth across all end markets and regions. Our results are driven by an innovative and broad portfolio, a differentiated customer experience and outstanding execution by the Agilent team.
One of the problems facing Agilent is that the conversion rate from potential requests for proposals ("RFPs") or proposals to binding purchase orders has been longer than expected. While the RFP activity and engagement with customers remain high, the actual conversion to orders has been slower.
These problems are particularly felt in the large pharmaceutical segment.
According to the company, multiple factors contribute to this delay, including general macro uncertainty, caution on the capital side, potential impacts of the Inflation Reduction Act, and funding challenges for emerging biotech companies.
Additionally, the company also mentioned a potential shift from organic investments to mergers and acquisitions (M&A) in the large pharma sector, which could likely impact capital allocation and instrument purchases.
In other words, elevated interest rates make large investments less attractive. The same goes for regulatory uncertainties and the aforementioned fact that large biotech firms seem to favor M&A over in-house R&D growth - at least for the time being.
The chart below visualizes that on an annualized basis, 2023 is shaping up to be the best year for M&A since 2019.
Financial Times
While this may be a bit of a drag on growth, I expect healthcare R&D to remain in a fantastic spot, as biotech companies are faced with a wave of patent losses in the next few years. While this is certainly great news for M&A, I have little doubt that this will also fuel R&D demand across the board.
Financial Times
Having said that, Agilent Technologies has undergone significant changes over the past five years. Previously, the company was more focused on instruments and had a lower emphasis on resilient areas.
However, there has been a shift towards the pharmaceutical industry, which is considered a more resilient end market.
Currently, consumables and services make up more than 60% of Agilent's business, compared to around 55% five years ago. While the instrument side has also experienced growth, the expectation is that services and consumables will continue to increase in importance.
Furthermore:
- Within the applied markets, there are new secular growth drivers emerging. The chemical and advanced materials market, which now accounts for roughly 20% of Agilent's overall end-market revenues, has expanded. The shift from a focus on chemicals and energy to advanced materials, such as semiconductors, has been significant. Governments are funding these advancements, as semiconductors have become a national security concern.
- The trend of vehicle electrification and clean energy is also contributing to the demand for advanced materials.
- Additionally, emerging areas like PFAS (Per- and Polyfluoroalkyl Substances) are driving more durable growth in the applied markets.
Currently, the market for PFAS-relevant instruments is valued at approximately $200 million, with double-digit growth rates. Agilent expects the market to expand in the next 5 to 10 years, driven by regulations, government funding, and litigation. PFAS testing is mainly focused on water, but it is expected to extend to other areas like food packaging. The company is currently the leader in this area.
Here are just three recent headlines that show how important this topic is:
Google News ("PFAS")
Adding to that, Agilent anticipates a continued increase in recurring revenue or consumables over time. The company has made significant investments in this area, both in research and development and capital.
With the expansion of the ACG (Agilent CrossLab Group) business and other consumable streams, Agilent expects the proportion of recurring revenue to grow further.
Looking five years ahead, the company anticipates the recurring revenue portion to be higher than the current 60%.
Outperformance, The Dividend & Valuation
Despite its recent poor performance, Agilent has outperformed the Health Care Select Sector ETF ( XLV ) and the S&P 500 by a considerable margin over the past ten years, returning roughly 300%.
With regard to its dividend, the company has a 0.8% yield. That's not high. However, it is protected by a 16% payout ratio, and it came with 8.9% average annual dividend growth over the past five years.
On November 16, 2022, the company hiked by 7.1%.
The 2014 dividend decline was caused by a spin-off.
Having said that, Agilent remains in a fantastic spot to further boost its dividend.
After 2023, Agilent is expected to significantly boost its free cash flow, potentially resulting in a 5.0% free cash flow yield in 2025.
Leo Nelissen
These numbers support the dividend, buybacks, and any (major) investments in its business and M&A - if needed.
It also means that the company is attractively valued. Agilent is trading at 21x 2024E free cash flow, which is highly attractive. The same goes for the 2024E 16x EBITDA valuation.
Furthermore, the company has a sub-0.6x net leverage ratio. The company has a BBB+ credit rating, which is one step below the A-range.
Hence, I agree with the consensus price target of $142, which implies 18% more upside.
FINVIZ
While I also expect the company to struggle a bit with elevated rates, I have little doubt that the stock is in a great spot to generate outperforming total returns on a prolonged basis.
Takeaway
Agilent Technologies presents an attractive growth/value opportunity in the Diagnostics & Research industry. With a market cap of $35 billion, Agilent is a leader in global life sciences, offering comprehensive solutions for healthcare applications.
Thanks to recent underperformance, the company is trading at a discount, presenting an opportunity for investors.
Agilent's focus on resilient areas, such as the pharmaceutical industry, along with its emphasis on consumables and services, positions it well for future growth.
The company is benefiting from tailwinds in MedTech, biotechnology, and life science tools.
Although it faces challenges with conversion rates and macro uncertainties, Agilent's strong financials, aggressive R&D spending, and global presence make it a compelling investment option with the potential to generate outperforming total returns.
For further details see:
Agilent Technologies - A Wealth Compounder 30% Below Its Highs