ResMed's power nap
| PORTFOLIO POINT: Taking a pause from its strong growth trend, the sleep equipment maker has become a value stock, and may me a 2008 story. |
Shares of former market darling ResMed (RMD) have missed out on this year's extension of the global bull market. Compared with a local sharemarket gain of approximately 12% so far this year, ResMed shares have lost more than 6% in value since early January.
Fisher & Paykel (FPH): ResMed’s much smaller competitor across the Tasman Sea, Fisher & Paykel Healthcare Corp steals the show in Citi's latest survey of the obstructive sleep apnoea market in the US. This is mainly a result of the fact that F&P Healthcare equally continues to win market share but from a much lower base than ResMed's. Citi analysts currently rate the stock Buy, Medium Risk with a price target of $NZ4.35. However, they suspect "significant upside" if management is able to tackle new markets successfully. A clear disadvantage however is the strong NZ dollar.
Paladin Resources (PDN): Uranium stocks received a new boost from renewed takeover speculation this week as Russian billionaire Vladimir Potanin, who shares joint control of metals giant Norilsk Nickel, announced a deal with the Russian Federal Atomic Energy Agency "to help the country mine uranium deposits at home and abroad". Market watchers have been following the Russian government's ambitions closely as President Vladimir Putin plans an increased role for uranium in the country's energy policy in the decades ahead. Spot prices for uranium have stalled at $US135–138 a pound but four auctions from this week onwards are widely anticipated to cause prices to rise further.
Rio Tinto (RIO): This week saw Rio Tinto become the first stock to cross the $100 mark since Australia's stock exchanges merged in April 1987. Tuesday's surge was helped by a bullish report from Credit Suisse on iron ore. The broker jumped to the top of the market with the expectation that next year's annual negotiations will see prices rise by a further 25%. Rio Tinto's price target lifted by 10% to $110 as a result.
Asciano Group (AIO): The Toll spin-off has already attracted its first stockbroker recommendations and most are positive. Citi analysts placed a $13.79 target on the stock this week while arguing investors better consider Asciano as a clear growth stock. We counted four brokerages who initiated coverage thus far, generating two Buys, one Accumulate and one Neutral rating.
Hastie Group (HST): Results season is drawing nearer and securities analysts have already started to nominate the first potential re-rating candidates. This week saw Deutsche Bank push Hastie Group into the spotlight. Deutsche believes that if the company can deliver at its upcoming results release, it will be re-rated. At least three other experts seem to agree.
This makes ResMed one of the logical candidates for investors looking for value, especially given management's excellent track record and mostly positive broker views in the market.
Most stockbrokers rate the shares a Buy with price targets suggesting upside potential of up to 64% from Tuesday's closing price of $5.20. So why aren't investors jumping on the opportunity?
The developer of medical equipment for diagnosing and managing sleep disordered breathing has surprised the market with some uncharacteristic flaws over the past few quarters, including a voluntary product recall.
The story of ResMed over the past decade had been one of constant technological innovations and peer outperformance. It used to be its competitors that suffered from technological mishaps, and ResMed was constantly the one to benefit.
But what caught most observers by surprise is that the company's growth rhythm of 20% per annum came to a sudden halt this year. Some securities analysts believe this year's earnings per share growth figure might come in single figures only.
As a result, the ResMed share price fell from a peak of a little over $7 in February to $6 and again to $5 when the product recall was announced in April. The market's scepticism towards the stock is probably best illustrated by the fact that while most shares in Australia booked solid gains over the past few trading days, ResMed shares weakened further.
The result is a large gap between the intrinsic value of the shares as calculated by securities analysts and what the shares currently are trading at. This is also why most of these analysts rate it a Buy.
Data provided by Thomson Financial show 12-month price targets in the market currently vary between $8.52 and $6.33, suggesting share price upside between 22% and 62%.
A recent study by Citigroup into the obstructive sleep apnoea (OSA) market in the US may have contributed to investors' caution towards the stock. Among other things, the survey indicates the growth rate for the important US market may have plunged to a historically low 16%. Further, the amount of respondents to the survey who continue to foresee growth of 20% or more has fallen sharply: from 43% last year to 30% this year.
The fact that the top three players in the market – Respironics, ResMed and Fisher & Paykel Healthcare (FPH) – now account for 73% market share is seen as possible further proof of this. Moreover, the latest survey indicates that product price, and no longer service or technological superiority, has become the key determinant in choosing the product supplier.
Add reports that founding chief executive Peter Farrell is looking to step aside to concentrate on the chairmanship of the board and it would seem there are plenty of reasons to not jump on board of the seemingly obvious ResMed value opportunity just yet.
This may even be more the case since the internal experiment of sending Farrell's touted successor, former chief financial officer Adrian Smith, to Europe backfired. Under Smith, ResMed consistently gave up market share to Respironics while growth figures fell short of market expectations. Some analysts had already started to describe the European businesses as "the consistently underperforming geography". Smith recently left the company.
Analysts at Macquarie believe Kieran Gallahue, current president of the company's global operations, would now seem the most logical candidate to succeed Farrell.
A stronger Aussie dollar is another negative.
Citi analysts, for instance, recently recommenced coverage with a Neutral rating and a price target of $5.30 only. The survey also suggested ResMed continues to win market share.
However, given the above mentioned challenges and the fact the company is trailing some high growth figures achieved in 2006, chances are its share price recovery may become more of a 2008 story instead of the months ahead. All those Buy recommendations are likely best interpreted as "long-term Buys". Expect lower price targets later in the year as well.
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