2023-04-11 03:21:30 ET
Summary
- Strong financial growth in 2022, with healthy key performance metrics.
- Risks are contract cancellations, drug development unpredictability, and industry consolidation.
- DCF value at $215.94, potential 22.5% margin of safety with buybacks.
Medpace Holdings ( MEDP ) is a leading clinical research organization ((CRO)), offering comprehensive Phase I-IV clinical development services to the biotech, pharmaceutical, and medical device sectors. Medpace stands out with its disciplined operating model and expertise in specific therapeutic areas. This report examines the company's background, financial performance, and risks.
Overview of the Business
Medpace is a top-tier CRO that specializes in providing scientifically-driven outsourced clinical development services exclusively for the biotechnology, pharmaceutical, and medical device industries. The company's mission to accelerate the global development of safe and effective medical therapeutics aligns with its commitment to delivering high-quality and timely results for its clients.
As a full-service CRO, Medpace covers a wide range of clinical development services, spanning from Phase I (early-stage safety testing) to Phase IV (post-marketing surveillance). This comprehensive approach allows the company to support clients throughout the entire drug development lifecycle. Medpace's service offerings include project management, regulatory consulting, data management, biostatistics, medical writing, clinical monitoring, and more.
Medpace's strength lies in its ability to conduct clinical trials across various major therapeutic areas, enabling the company to cater to a diverse clientele. The company boasts particular expertise in Oncology, Metabolic, Cardiology, Antiviral and Anti-infective (AVAI), and Central Nervous System ((CNS)) research. This focused expertise, combined with a disciplined operating model, ensures that Medpace can provide clients with specialized knowledge and support tailored to their specific therapeutic needs.
Financial Performance
In February, Medpace reported its fiscal year 2022 results , so our focus will be primarily on annual figures. The company's investor relations website indicates that first quarter 2023 earnings will be revealed on April 24th.
Chart: Annual revenues for MEDP
Revenues for 2022 reached $1.46 billion, a 27.8% increase compared to 2021. After accounting for operating expenses and taxes, the net income stood at $245 million, approximately a 35% increase over the previous year.
Medpace closely tracks two metrics that investors should monitor: Net New Business Awards and Backlog. These are often referred to as "Key Performance Metrics" by the company.
In short, new business awards represent the anticipated future net revenue recognized in backlog during a given period. In simpler terms, this refers to the value of all signed contracts if everything goes as planned. However, things rarely unfold as expected (see the risks section).
Backlog comprises the total uncollected net new business awards that the company still expects to collect at some point in the future. Exclusions from the backlog include study amounts extending beyond three years from the measurement date and any significant regulatory hurdles, among other factors.
As both metrics appear healthy, let's examine the risks this business faces, as these risks could potentially undermine the considerable revenue yet to be earned.
Risks Medpace Faces
As mentioned in the previous section, Medpace emphasizes new business awards and its backlog. Investors can rely on these values to envision the company's future and understand management's guidance.
These numbers result from committed work. For example, if a drug company signs a contract for multiple phases with Medpace, valued at $10 million, that amount will be included in the backlog.
That $10 million could be spent on work that is never paid for, depending on the outcomes and structure of specific events. Furthermore, if a drug company cancels a contract, Medpace may have to bear the costs of winding down that contract.
Considering the challenges of drug development, bringing drugs to market, and the ever-evolving compliance landscape, investors should be cautious of these risks. Nevertheless, Medpace effectively mitigates these risks by maintaining a diverse customer base without excessive concentration on any specific medical issue.
Another risk the business faces is industry consolidation. While it may not be an immediate threat, consolidation could result in large pharmaceutical firms performing much of the work that Medpace currently handles, thereby eroding its market position, revenue, and future growth potential.
Valuing Medpace
When valuing a company, it's important to acknowledge potential biases. We all dream of finding a diamond in the rough, and that can cloud vision. To minimize this, I use a checklist to determine if a company is worth evaluating further.
Chart: MEDP ROIC and ROE
In the case of Medpace, it meets all my criteria. Let's begin with ROIC and ROE. The company has shown consistent and significant growth on both of these metrics, as outlined in the chart above. I'll generally look to check the box of 15% (or more) on ROIC, and 20% (or more) on ROE before even diving into a company. MEDP meets these criteria.
Chart: Quarterly revenue growth (YoY)
I also prefer companies that are still growing their top and bottom lines. Medpace easily checks these boxes. Revenue has grown from $704 million in 2018 to $1.46 billion in 2022, with consistent growth throughout those years (except for a dip during the COVID pandemic when growth dropped to a still admirable 7.5%).
Chart: Shares outstanding MEDP
Lastly, I like to ensure that all this positive performance isn't accompanied by a ballooning share count, and ideally, insiders should hold a significant stake in the company. Medpace meets both criteria, as the company is actively retiring shares, and insiders own >20% of the company .
With all my boxes checked, I start considering Aswath Damodaran's questions of possible, plausible, and probable while building a roadmap for the company.
Medpace has guided revenues with a top-side of $1.75 billion for 2023. This is the starting point for my valuation, and the value I'll assess for next year (we should see how accurate this is on April 24th when the company announces Q1 earnings). Analysts expect the firm to grow its top line at 15.7% annually over the next five years, which is below the company's last five-year average, making it possible, plausible, and probable.
I personally lean more conservative, so I've settled on a slightly lower CAGR revenue growth of 13.1% through 2028 in the model we'll see below.
Over the last five years, Medpace has averaged an 18.9% FCF margin. There's no reason to expect this to decline. In fact, it may grow over time as the company commands a larger market share or establishes greater mindshare in an area. To remain conservative, my model assumes an 18.5% average.
Image: DCF valuation for MEDP
With a 3% terminal growth rate, $21.7 million in net debt, and 31.092 million shares outstanding, we arrive at a DCF value of $215.94, which is ~13.1% above the price at the time of writing. Although this doesn't meet my required margin of safety, it does present an attractive opportunity for investors seeking exposure in the medical space without the risk of a single major drug failing to progress through phases I-IV.
It's also worth noting the company's still outstanding $452.8 million in authorized buybacks. If executed at an average price of $200 per share ($10 higher than today), this could reduce the overall share count by 2.25 million shares. A 2.25 million share reduction would result in a per-share value of $232.79, a 22.5% margin of safety.
Closing Thoughts
Medpace is a fantastic opportunity for those looking to get exposure to the medical space. The company has been steadily growing for many years, and has some consistent growth ahead of it.
At a discount rate of 9.5%, you have a margin of safety in this company of around 13% today. Factoring in 2.25M shares being bought back gets you to a 22.5% margin of safety. Again, I believe my numbers to be on the conservative side, but this makes the whole story even more plausible.
For further details see:
Medpace Holdings: Promising CRO With Strong Growth And Excellent Fundamentals