Nanosonics probes for higher sales

The medical devices company is set to report a maiden profit, and is steadily building sales.

This is the year Nanosonics (NAN) shareholders have been patiently waiting for, as the medical device developer is expected to deliver a maiden profit.

This is a significant milestone because I believe it will be a catalyst for the stock, which has been locked in a fairly tight trading band between 70 cents and 90 cents over the past year.

Companies that post first profit tend to strongly outperform the market. Analysis done by Eureka Report in November last year found that stocks outperformed the broader market by 25% on average in the six-months post their maiden profit result (see chart below).


While this potential catalyst is still a year away based on my estimates, the stock could see a positive reaction when management hands down its 2013-14 results later this week (the company is aiming to announce its results on Thursday August 21), which are expected to show a sharp improvement to its bottom line.

Don’t hold your breath for a profit guidance though, as management isn’t in the habit of giving one. That’s understandable given how challenging it is to predict how many of its disinfection devices (called the Trophon) it can sell to medical facilities.

The Trophon is proven to be a more effective way of disinfecting ultrasound probes. These Endocavity probes (internal probes like those used in gynaecological procedures) are deemed “high risk” apparatuses because they are one of the biggest sources of hospital-acquired infections.

While Nanosonics provides quarterly sales figures, management is “mum” about the number of Trophons sold as it claims the information is commercial in confidence. It’s not straightforward to work out the number of units sold from the quarterly sales numbers as sales of consumables (the cartridge holding the disinfecting agent) is included in the figures. But having some way to quantify the number of units sold is important for two reasons.

The first is so we can work out the “sales mix” to forecast revenue growth more accurately. The other reason is to better assess the “partnership risks”.

Nanosonics has an exclusive distribution partnership with GE Healthcare (GEHC) for the North American market and non-exclusive partnerships with Miele Professional for Germany, and Toshiba and GEHC for the United Kingdom.

The exclusive “take-or-pay” deal with GEHC ends in June 2016, and the global giant is committed to buying a set, but undisclosed, number of Trophons up to that date. There are always risks around such partnerships given the number of examples of small Australian innovators being essentially hamstrung by the “900-pound gorilla” they chose for a partner – think LBT Innovations (LBT) with bioMĂ©rieux and Biota (BTA) with GlaxoSmithKline, to name but a few.

Even Nanosonics had teething issues with GEHC, although it has managed to work these out. The risk around partnership structures and incentives remain relevant for Nanosonics, but I do not think this risk is high because sales of the Trophon are tracking well.


The best defence Nanosonics has is to drive market adoption, and I estimate that the company has sold between 5,000 and 6,000 units to June 2014, with around 80% of sales going to North America. This is only the tip of the iceberg. I am forecasting Nanosonics to sell a further 19,000 units over the next three years, which should push total sales to $86.3 million in 2016-17 (assuming an exchange rate of around US91 cents). Sales should easily surge to over $100 million in the following year – assuming everything goes according to plan.

Even at these figures, Nanosonics would only have captured 20% of the addressable market, if we assumed one Trophon is shared with four ultrasound machines (the Trophon is small enough to be put on a cart and wheeled between exam rooms).

More importantly, it isn’t hard for a medical facility to financially justify purchasing a Trophon, which sells for around $US11,000. Besides being far more effective in disinfecting probes, the Trophon takes less than half the time to complete the task. The current manual process takes around 32 minutes.

The Trophon is also not as damaging to the plastic components of an ultrasound probe, and the cost of the probe will set a hospital back by between $US10,000 and $US30,000.

Nanosonics is expected to report a 44.3% increase in sales to $21.5 million for 2013-14 later this month, while adjusted net loss is forecast to narrow to $4.4 million from $7.3 million in the previous year.

Like all innovators, Nanosonics is only suited for patient investors with a high-risk tolerance. However, I believe the potential rewards outweigh the risks at the current share price.

I have a “Buy” recommendation on the stock with a price target of $1.15, based on a hurdle rate of 13.5%. You can see details of my financial forecast here.

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