Description
Newly spun-off GE Healthcare's stock price is worth at least 66% higher 1.5 to 2 years from today's price. At 13.5 times forward EV to EBIT multiple, it is trading at a meaningful discount to peers of its size. This write-up is not going to be succinct, clear and direct to the point.
GE Healthcare (GEHC) was spun-off from General Electric (GE) in January 2023. It has 458m shares outstanding, 6.789B net debt. Post spin-off, GE will still own 19.9% of the GEHC.
Description
GE HealthCare is a leading global medical technology, pharmaceutical diagnostics, and digital solutions company with a mission to create a world where healthcare has no limits. With over 51,000 employees, the company provides innovative products, services, and solutions that enable clinicians to make more informed decisions quickly and efficiently, improving patient care from diagnosis to therapy to monitoring. The company is organized into four business segments: Imaging, Ultrasound, Patient Care Solutions, and Pharmaceutical Diagnostics, serving healthcare providers and researchers in more than 160 countries. GE HealthCare generates revenue from the sale of medical devices, single-use and consumable products, service capabilities, and digital solutions, and aims to improve the performance, quality, and customer experience of its offerings through customer-driven innovation, industry-leading service capabilities, and integrated digital solutions.
The business segments of the company operate in large and growing industries, with specific segment-related trends driving their growth. The Imaging business segment operates in a $44 billion global industry growing at a 4-6% CAGR, driven by demand for high image quality, leveraging AI and advanced interventional surgical systems. The Ultrasound business segment operates in a $12 billion global industry growing at a 4-7% CAGR, driven by expanded use of ultrasound in diagnostics, therapy, and monitoring across multiple care settings. The Patient Care Solutions business segment operates in an $18 billion global industry growing at a 3-6% CAGR, driven by demand for integrated solutions to enable better decision-making. The Pharmaceutical Diagnostics business segment operates in a $10 billion global industry growing at a 4-5% CAGR, driven by demand for better visualization to enable more precise diagnoses and therapy selection for patients.
Tailwinds in Macro Trends
The macro healthcare trends are: growing adoption of precision health, digitization of healthcare using AI and machine learning, increasing demand for healthcare driven by demographic trends, and improving access to healthcare in emerging markets due to growing middle class and investments. These trends aim to improve individual outcomes, enhance patient experience, contain costs, customize care, improve provider efficiency, and improve clinical workflow efficiencies.
Management Incentives
Improved incentives for GEHC CEO, Peter J. Arduini (who became CEO in early 2022) is in place. An amendment to his offer letter was made on November 16, 2022, (just before the spin-off) which will provide for a base salary of $1,250,000, an annual target bonus of 150% of his base salary, and an annual long-term incentive grant target of $11,875,000 starting in 2023. This compares to his previous incentive, which was a base salary of $1,250,000, an annual target bonus of 125% of his base salary, and an annual long-term incentive target of $7,000,000. His long-term incentive was granted in the form of PSUs, stock options, and RSUs, and he received a sign-on equity grant of PSUs. He is eligible for severance and has covenants not to compete or solicit employees for 12 months following termination of his employment.
2022 Financial Results
In the last week of January 2023, GEHC announced its 2022 financial results, shown below.
In summary, In 2022, the company's revenue totaled $18.34 billion, a favorable comparison to the $17.59 billion recorded in the previous year. Although the company's profitability declined in the final quarter, dropping from $2.25 billion in 2021 to $1.92 billion in 2022, it's important to consider other profitability metrics. The company's operating cash flow increased from $1.61 billion to $2.13 billion, but if we adjust for changes in working capital, it would have decreased from $2.89 billion to $2.23 billion. Additionally, the company's EBITDA decreased from $3.80 billion to $3.49 billion. For 2023, GEHC guided organic revenue growth range of 5% to 7%, higher adjusted EBIT margin range of 15.0% to 15.5%, and higher EPS range of $3.60 to $3.75. The Free cash flow conversion target of 85% or more for the full year is also a positive sign, although the impact of the R&D capitalization legislation could potentially have an effect on this target.
Competitors:
GEHC is a global leader with Philips Healthcare, Draeger, Mindray, Masimo, and Baxter as primary competitors. In the global imaging marketplace, GEHC competes with Siemens Healthineers, Philips Healthcare, Canon, United Imaging, and Fujifilm. In X-ray, GEHC also competes with Carestream, Shimadzu, and Agfa Healthcare. In Women’s Health, GEHC competes primarily with Hologic. In Digital Solutions, we compete with Philips Healthcare, Siemens Healthineers, Fujifilm, Agfa Healthcare, and Change Healthcare.
Valuation:
To value GE HealthCare Technologies, I examined the trading multiples of five similar companies (Danaher, Thermo Fisher Scientific, Agilent, Mettler-Toledo, and Siemens), ranging from a price-to-earnings multiple of 27 to 41, and an EV to EBITDA multiple of 13 to 30. I evaluated, a conservative and an aggressive scenario that excludes the most expensive firm and averages out the multiples of the other four. Using these scenarios, I estimated that the company's value should range from $55 billion to $65 billion using the conservative approach and $64 billion to $81 billion using the aggressive approach. Taking the midpoint, I get a 64B EV valuation, which equates to stock price of $125 stock price, which is achievable in 18 months to 24 months.
Historically, spin-offs have provided as much as 1000 basis points better performance than the index. GEHC is in the healthcare sector where macro economic issues will not affect it as much. GEHC’s is so dominant that only a few competitors can match its market share. On average, it takes about 18 months to 24 months for the stock price to reflect its intrinsic value.
GE now reminds me of Tyco in the 2000’s who spun-off many divisions after several years of acquiring many companies. Back then, Tyco put in a new management after the previous CEO, Dennis Kowslowski, was fired.
I do not hold a position with the issuer such as employment, directorship, or consultancy.
I and/or others I advise hold a material investment in the issuer's securities.
Catalyst
Spin-off economics
Management incentives in place
New Institutional holders start accumulating.