Description

Quipt Home Medical Corp is a provider of in-home respiratory and oxygen devices. The company is growing rapidly through a rollup strategy, similar to one successfully executed by Lincare from 1990 to 2012 and more recently by Apria, which was sold to Owens and Minor earlier this year at roughly 7x EBITDA (versus QIPT at less than 4x 2023 EBITDA). Quipt is able to acquire small device providers for three to five times EBITDA after synergies. Those low multiples arise from Quipt’s purchasing advantages when compared with smaller competitors as well Quipt’s efficient management of consumable sales to patients.

Quipt bills Medicare and private insurance for respiratory, oxygen, and sleep devices, typically targeting a two-year payback on the upfront device cost. Most of the devices create a rental revenue stream for the life of the device, which is typically 5-7 years (implying a mid 20% IRR on devices used for six years – the actual return would be lower due to device discontinuance and loss).  In addition, sleep devices require recurring delivery of consumables such as masks, filters and tubing. Rental revenue and recurring sleep sales make up close to two thirds of the company’s business (sleep consumables are 28% of Quipt’s revenue). Sleep consumables also represent an area of advantage for Quipt over smaller operators, due to better purchasing at scale and better systems for tracking and replenishing customers.

Historically Medicare reimbursement rates have been the biggest risk for home based durable medical equipment (DME) companies like Quipt. Medicare is 38% of reimbursement and 62% is commercial reimbursement which tends to track the Medicare rate. Historically Medicare rates have been subject to periodic competitive bidding, where industry participants submit their best price and Medicare uses those rates to set reimbursement. Medicare and Medicaid represent about half of Quipt’s revenue, and commercial rates tend to track Medicare. That said, the current rate environment appears unusually benign, partly reflecting the fact that reimbursement rates are already low and smaller operators are already operating at very low, or negative, margins. In the most recent round of competitive bidding in 2021, there were no below market bids, leading CMS to abandon the process without setting lower rates. It’s worth noting on this point that even larger operators like Apria were operating at roughly 20% EBITDA margins, making it near impossible for them to propose lower pricing (given negative fixed cost leverage in the model). CMS has not indicated when the next competitive bidding process will occur, but it seems unlikely that the result would be significantly different.

Quipt is on track to acquire $20 million in EBITDA this year, and could accelerate purchases as it grows in size. Quipt’s EBITDA run rate as of year-end 2021 was $24 million ($6 million Dec 21 quarter annualized). The company announced two acquisition that will increase that to $30 million exiting 1Qf 2022, and expects to acquire a further $10 million in EBITDA over the balance of this year, exiting 2022 at a $40 million EBITDA run rate. Using QIPT’s historical free cash conversion of around 50%, that would imply $20 million of free cash flow. The company currently has $30 million net cash on hand, but assuming that is spent on M&A implies a current EV of roughly $160 million on 37 mil shares (assumes 2 mil shares on conversion of debenture and 2 mil net shares on option exercise), which is about 7x estimated 2023 free cash flow and 3.5x EV/EBITDA based on the expected 4Q22 exit run rate and assuming some 2023 growth. Quipt’s current estimated EV/EBITDA is about 5x, based on calendar 2020 estimated EBITDA of around $30 million.

Quipt also has a $100 million credit line approved, which it has yet to access. Between the liquidity on the credit line and the roughly $30 million of free cash flow the company should generate from now to year end 2023, QIPT could finance an additional $130 million of M&A, adding $30 to $40 million more EBITDA. At that point, the company would be generating more than $70 million of EBITDA and close to $40 million of annual free cash flow, at which point I think M&A can be funded through free cash flow and incremental borrowing. That said, the company probably will also use some equity for M&A, although it will probably wait for a higher stock price.

Ultimately, I would expect Quipt to rerate to a higher multiple or to be sold at a premium. For reference Apria was sold to Owens and Minor for 7x EBITDA, closing in March of 2022. I expect Quipt will generate EBITDA north of $100 million by 2026 (assuming $10 million of organic EBITDA growth and $60 million acquired, ie $20 million per year for 2023, 2024, and 2025). I assume that $60 million EBITDA can be acquired for $250 million, financed with $150 million debt, $50 million of free cash flow, and $50 million of equity. At the stock’s current multiple of 6x EBITDA that would imply a 2026 EV north of $600 million. Subtracting $150 million of debt ($450 million market cap) and assuming 8 million additional shares issued (45 million pro forma shares) implies a share price of $10, more than a 100% gain from the current price. If the company were sold at the same multiple as Apria (7x EBITDA) that would imply a sale price of $12.50 price on 2026 numbers. There should also be some SG&A leverage, which could improve EBITDA margins from 20% closer to 25% and potentially lead to more upside.

Other Notes

The company is relatively new, as it split from Viemed into an independent company in 2019, initially trading on the Canadian ventures exchange before listing on Nasdaq. The company is led by Greg Crawford, who sold his prior company, Patient-Aids to the predecessor company. While it’s early days as an independent public company, Greg appears to be competently executing the roll-up strategy.

Other recent reimbursement news: CMS approved a 5% CPI increase for 2022, which is supportive of the company’s 2022 financial guide (exit year with rev run rate of $180-$190 million sales and $38-$43 million EBITDA). Budget sequestration is scheduled to begin in 2023, and would impose a 2% hit to reimbursement, although that is subject to change and could also be offset by a CPI increase.

The company closed a small biomedical acquisition last year which it expects to allow it to self-repair equipment over time, providing a benefit on equipment cost and longevity and margins.

Note that the company has a September fiscal year, but the numbers I’ve referenced are on calendar year.

Catalyst

Growth through M&A, eventual sale