ResMed in a Holding Pattern
ResMed (ASX: RMD) has released its second quarter result for 2014, and once again it was a tale of two cities: the top line growth disappointed, while the bottom line growth impressed. So, amid these two opposing forces, which direction will the company likely take?
ResMed is a global manufacturer of products for sufferers of Obstructive Sleep Apnoea (OSA), with earnings that are divided equally between the United States and the rest of the world.
During the December 2013 quarter, the American market experienced a 5 per cent decline in flow generator sales, while mask sales remained flat. For the rest of the world, flow generator sales increased by 9 per cent and mask sales increased by 6 per cent. Management estimates that the global market for sleep apnoea can grow by 6 to 8 per cent annually, which means that the United States is a headwind to overall growth.
These headwinds have primarily been attributed to changes in the country’s Medicare system. Medicare in the US was grossly inefficient, providing reimbursements to distributors at rates that were well in excess of those paid by private insurers. Because of this, the US Government moved to a market-based approach, with the rates determined through bids by distributors. The bidding was far more competitive than the market anticipated, and has resulted in considerable consolidation within the industry.
Yet the trend of declining growth in mask sales in the US began before competitive bidding was implemented. So is there a deeper issue?
Increased competition is certainly impacting sales. ResMed has acknowledged that it’s been caught on the back foot by successful mask launches from its two primary competitors, Philips Respironics and Fisher & Paykel Healthcare. While management has often commented on the strength of ResMed’s product pipeline, it has been slow to release upgraded products to market.
ResMed has historically achieved double-digit growth after the launch of a new mask, but management has acknowledged that much of this growth was a result of market expansion (as more people became aware of sleep apnoea and sought treatment for the condition, ResMed did a good job in attracting these new customers). But now that the public is more informed of the condition, ResMed must regain its lost market share in order to attain double-digit revenue growth.
With that said, the company impressed once again with its margin expansion. The gross margin improved from 63.7 per cent in the prior quarter to 64.7 per cent, primarily driven by the weakening Australian dollar. This was most impressive in the context of the disruption in the US market, which has forced the company to lower its prices.
Margin expansion can have a positive effect on a company’s earnings in the short term, but in order to generate sustainable long-term value, ResMed must grow its top line. After several uninspiring quarters, the onus is on management to invigorate sales with successful mask launches. Unfortunately, we may not get a clear read of these initiatives until the full year results, as the market disruption in the US is likely to persist. We remain confident in both the long-term prospects of this quality company and the industry’s tailwind, and so have maintained a holding in the funds.
This post was contributed by a representative of Montgomery Investment Management Pty Limited (AFSL No. 354564). The principal purpose of this post is to provide factual information and not provide financial product advice. Additionally, the information provided is not intended to provide any recommendation or opinion about any financial product. Any commentary and statements of opinion however may contain general advice only that is prepared without taking into account your personal objectives, financial circumstances or needs. Because of this, before acting on any of the information provided, you should always consider its appropriateness in light of your personal objectives, financial circumstances and needs and should consider seeking independent advice from a financial advisor if necessary before making any decisions. This post specifically excludes personal advice.
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Michael Brydon
:
Where is the value is in this company.? I am struggling to understand why RMD enjoy the attractive status they do on this site (apart from sharing the initials RM) given the history of its performance and recent SP falls. See figs shared here (from Bell direct website)
Trailing one year
The value of $1,000 invested one year ago is $650 [vs $1,050 for the All Ordinaries index], for a capital loss of $350. The total return to shareholders for 1 year is -35.0%.
Trailing five years
The value of $1,000 invested five years ago is $730, for a capital loss of $270.
Its tax adjusted dvd yield is 1.1%
BTW I am a shareholder in RMD bought in July 2013 @ $4.80
Roger Montgomery
:
Hi Michael, why does the historical share price performance have anything to do with value investing? Moreover the share price appears to have improved over the last year.
Matthew
:
Michael, the returns in AUD inclusive of divs have been 1yr +22.4%, for 5 years 10.7% p.a., for 10 years 14.3% p.a.
Graeme Cox
:
Hi Roger. how’s that ‘in-house’ testing of Resmed’s product going that one of your researchers wrote about towards the end of last year?
Roger Montgomery
:
Hi Graeme,
Thanks for your comment. I am still looking to try out their new masks when they are released this year. ResMed are spruiking these as the next growth drivers, so stay tuned for an update of events here on the blog.
Ben
Matthew
:
Great post Ben. Possibly a great opportunity for the patient investor to take advantage of near term weakness and get exposure to a business with a stellar track record of growing its intrinsic value, very strong balance sheet and superb long term growth prospects. The new mask sounds impressive and could take back some market share and hopefully the competitive bidding issues will be resolved soon, with an uplift in revenues. Also sounds like the balance sheet will be utilised for the benefit of shareholders. Disclosure, I own RMD shares.
konanastasiou
:
Enjoyed your comments on Resmed. Both as a shareholder and a user of there devise, I have some concerns.I think their appliance is expensive and not the easiest thing to use.( sleeping with masks on your face sometimes defeats the purpose of what they are trying to achieve…….a good nights sleep.Also , I think with other manufacturers such as Phillips ,LG, etc, there is scope for someone to improve the application technology. If that someone is not Resmed then their market share will quickly dissappear in my opinion.
In saying that I think there is huge potential for growth as I think the sleep apnoea problem is still in its very early stages in terms of awareness and of its impacts, its just a matter of who produces the best technology to address it.