2023-09-25 17:54:07 ET
Summary
- Masimo Corporation shares fell after announcing a "diworsification" move for Sound United, causing concerns about the company's core expertise.
- Despite a recovery in share price, the company's second quarter results revealed a significant shortfall, leading to caution among investors.
- The company's full-year guidance has been revised downwards, leading to a decline in share price and concerns about earnings power and leverage.
In March of this year, I believed that the re-rating for shares of Masimo Corporation ( MASI ) was nearing its completion. This came after shares fell off a cliff in 2022 as the company announced a "diworsification" move for Sound United.
Recognizing the long-term track record of the business, and firmly believing that $5 billion in shareholder value destruction was an overreaction to a billion deal, I bought the dip, only to see shares re-rate through spring of this year. The shortfall in the (second) quarter results was so big, however, that concerns are really large here, as I am not yet buying the dip again.
Medtech - Non-Invasive
Founded in the late 1980s, Masimo has focused on the development, manufacturing and marketing of non-invasive monitoring technologies. Key expertise of the business is measurement through motion and lower perfusion arterial blood oxygen saturation and pulse rate monitoring. Performing such tasks in stable conditions is relatively easy, but when patients are moving/on the move, such practices yield unreliable results.
The company went public at $17 per share in 2007, as shares have steadily risen to break through the $100 mark in 2017, and to hit highs of around $300 in 2021. The relentless rise in the share price was based on a business which steady grew 2021 sales to $1.2 billion, with earnings posted around $4 per share, resulting in nosebleed valuations.
Shares fell from the $300 mark to $210 in spring of 2022 amidst a reversal in momentum names, only to fall to $135 overnight as the company announced a $1.025 billion deal for Sound United. With a $12 billion valuation ahead of the transaction announcement, the extent of the price action was evident. This came as investors wondered if the company should move into consumer sound technology, and whether this was too far removed from its core expertise.
The deal was set to add a billion in sales and $125 million in EBITDA, and given the fact that shares lost five times the value of the acquisition amount, it felt like a huge reaction, prompting me to buy the dip around $135 in spring of 2022.
In the year which followed, shares actually fell to the low $100s, but they recovered to $175 by March 2023. After seeing a decent 30% return in the time frame of a year, all in a difficult market, it was time to take some profits in March.
In the meantime, the company grew 2022 sales in a spectacular fashion to $2.04 billion, with core healthcare revenues up 8% to $1.34 billion, and the remainder of the result being due to the contribution of Sound for part of the year. Full-year earnings were reported at $459 million, as net debt of $740 million looked quite manageable. Moreover, the 2023 guidance looked decent, with sales seen up to $2.44 billion, comprised out of a $1.46 billion healthcare revenue number (seen up high single digits) with Sound revenues seen just shy of a billion dollars.
The $4.75 per share earnings guidance was a bit modest, as this observation and the leverage taken on made it easy to take profits in the $170s. This comes as valuations were high and the Sound deal has not delivered on its expected earnings multiples, making me a lot more cautious.
All Downhill
Since March, shares actually rallied to levels just shy of the $200 mark in April as shares moved lower to the $150s in July, overnight falling to just $110. After a tough summer, shares have fallen to fresh lows at $91 at the moment of writing.
In May, Masimo posted first quarter sales of $565 million, as GAAP earnings per share were more than cut in half to $0.39 per share. Despite the softer results, as the company maintained the guidance for the year. Later that month, the company got involved with a visible proxy fight with Politan Capital Management.
By mid-July, Masimo posted very soft preliminary second quarter revenue results with revenues seen at a midpoint of $455 million, with healthcare revenues seen at a midpoint of $281 million and non-healthcare revenues seen at around $174 million. Both segment showed meaningful softness compared to previous expectations, with healthcare revenues hurt by delayed large orders, elevated sensor inventories, and lower-than-expected U.S. hospital inpatient census, as well as strained hospital budgets. Non-healthcare revenues were hurt by lower demand in premium and luxury audio categories.
In August, the company posted second quarter sales of $455 million with segment revenues in line with the preliminary revenue numbers, with total revenues down substantially from a $565 million revenue number in the second quarter of 2022. Given the shortfall in earnings, the fall in adjusted earnings, down from $1.35 per share to $0.62 per share looked quite reasonable.
The company cut the full year sales guidance from $2.44 billion to $2.15 billion, with adjusted earnings per share down from $4.75 per share to $3.45 per share. With 54 million shares now trading at just $91, the market value of Masimo has fallen just below $5 million, while net debt is reported at $738 million. Clearly the market is worried about the impaired earnings power, but moreover some leverage concerns, with shares trading at the lowest levels since 2017.
What Now?
With third quarter sales seen between $475 and $525 million, marking healthy sequential revenue growth, adjusted earnings are seen between $0.50 and $0.64 per share, marking some sequential declines. It is the shortfall in the health business and non-healthcare business, management distortion, questions around the deal for Sound and incurred leverage which makes the situation quite dire, but moreover uncertain.
Hence, Masimo Corporation shares are in free fall, and with current adjusted earnings trending at $2, it is hard to see the appeal here, with management having something real to prove here. Given this, I am quite cautious to buy the dip, as the shortfall is quite serious. Given all this, I am more upbeat on Masimo Corporation shares after the valuation setback, although I require still another larger setback before getting involved.
For further details see:
Masimo: Lots Of Questions