Category: Shares

Business Strategy and Outlook

Wesco operates in very fragmented markets, but its large scale, global footprint, expansive product portfolio and supplier base, and service offerings differentiate it from smaller local and regional competitors. Service offerings, such as vendor-managed inventory, efficiency assessments, product repairs, and training, generate a meaningful portion of Wesco’s sales and are key components of the firm’s value proposition to customers. Wesco’s size is also an important competitive advantage because the company has the scale to serve large, multinational clients anywhere in the world. Wesco doubled in size after it completed its acquisition of close peer Anixter in June 2020.

Financial Strength

Wesco’s $4.7 billion acquisition of close peer Anixter International in June 2020 caused the firm’s net debt/EBITDA ratio (excluding synergies) to swell to 5.7. However, Wesco’s elevated free cash flow generation in 2020 allowed the firm to reduce net debt by $389 million, finishing 2020 with a 5.3 net leverage ratio. Wesco’s leverage ratio continued to decline as 2021 progressed, and the firm finished the year with a 3.9 net debt/adjusted EBITDA ratio. At the end of 2021, Wesco had $4.7 billion of debt, but modeling about $4.2 billion of free cash flow over the next five years. Wesco has a proven ability to generate free cash flow throughout the cycle. Indeed, it has generated positive free cash flow (defined as operating cash flow less capital expenditures) every year since its 1999 initial public offering, and its free cash flow generation tends to spike during downturns due to reduced working capital requirements. 

Wesco delivered 16% organic revenue growth during the fourth quarter, and gross profit margin and adjusted EBITDA margin expanded 120 and 140 basis points to 20.8% and 6.6%, respectively. All three of Wesco’s segments delivered revenue growth and adjusted EBITDA margin expansion during the quarter, and the firm’s backlog has reached a record level, which bodes well for 2022 growth prospects. Management expects revenue to increase 5%-8% in 2022, adjusted EBITDA margin of 6.7% to 7.0% (20-50-basis point improvement), and adjusted EPS of $11.00-$12.00

Bulls Say’s

• Wesco’s transformative acquisition of Anixter should result in stronger growth and profitability, which should help the stock fetch a higher multiple. 
• Wesco’s global footprint and focus on value-added inventory management services help the firm take market share from smaller distributors and support pricing power. 
• Despite serving cyclical end markets, Wesco’s business model generates strong free cash flow throughout the cycle. The firm will likely continue to use its cash flow to fund organic growth initiatives, acquisitions, and share repurchases.

Company Profile 

Wesco International is a value-added industrial distributor that has three reportable segments, electrical and electronic solutions, communications and security solutions, and utility and broadband solutions. The company offers more than 1.5 million products to its 125,000 active customers through a distribution network of 800 branches, warehouses, and sales offices, including 42 distribution centers. Wesco generates 75% of its sales in the United States, but it has a global reach, with operations in 50 other countries.

(Source: Morningstar)

General Advice Warning

Any advice/ information provided is general in nature only and does not take into account the personal financial situation, objectives or needs of any particular person.

Business Strategy and Outlook

As the global leader in the cleaning and sanitation industry, Ecolab provides products that help its hospitality, food-service, and healthcare customers do laundry, wash dishes, and maintain regulatory compliance. With unmatched scale and a solid razor-and-blade business model, Ecolab’s competitive advantages are firmly in place. The company’s cleaning and sanitation scale dwarfs the competition. Ecolab generates over 3 times the revenue of its largest rival. Its industries are fragmented, with many markets made up of regional and local competitors. Ecolab controls roughly 8% of the $152 billion global market. 

With its unrivaled scale and breadth of product offerings, the company is an attractive partner to global hospitality and food-service firms. We think it will continue to grow from market share gains and expanding into new markets. The firm uses a razor-and-blade business model by providing cleaning equipment to customers that solely uses Ecolab’s proprietary consumables. This model creates a steady stream of consumables revenue. The installed base and consumables model also leads to high customer switching costs, as clients are generally reluctant to switch out equipment and retrain staff.

Financial Strength

Ecolab is in decent financial health. Net debt/adjusted EBITDA was 3.1 times as of Dec. 31, well above below the company’s long-term goal of 2.0 times. The company’s leverage ratios are currently elevated as it recently closed the $3.7 billion Purolite acquisition, which was mostly financed with debt. Ecolab’s leverage ratio will likely remain elevated throughout 2022. The institutional business continues to recover, with operating income up 73% in 2021 versus 2020, on 11% revenue growth. Segment operating margins expanded 500 basis points to 14% in 2021. While this is still well below pre-pandemic levels above 21%, it shows how volume recovery translates to an outsized profit rebound. This level of margin expansion likely is a result of management’s decision to maintain its workforce throughout the COVID-19 slowdown, despite the sharp decline in volumes.

Bulls Say’s

• Ecolab’s focus on delivering savings on labor, energy, and water for customers makes the firm’s products and services attractive even during economic slowdowns. 
• Ecolab’s customers are willing to pay a premium to protect their own brand reputations. For example, a restaurant knows what a food contamination incident can do to its standing with customers. 
• Rising fresh water costs will drive demand for industrial water management systems. Ecolab’s water management systems will be able to save its customers water and energy costs, which will increase water business profits.

Company Profile 

Ecolab produces and markets cleaning and sanitation products for the hospitality, healthcare, and industrial markets. The firm is the global market share leader in this category with a wide array of products and services, including dish and laundry washing systems, pest control, and infection control products. The company has a strong hold on the U.S. market and is looking to increase its profitability abroad. Additionally, Ecolab serves customers in water, manufacturing, and life sciences end markets, selling customized solutions. 

(Source: Morningstar)

General Advice Warning

Any advice/ information provided is general in nature only and does not take into account the personal financial situation, objectives or needs of any particular person.

Business Strategy and Outlook

After selling the DaVita Medical Group in 2019, DaVita focuses almost exclusively on providing services to end-stage renal disease, or ESRD, patients primarily in the United States with an expanding international footprint. Over several decades, DaVita has built the largest network of dialysis clinics in the U.S., and although COVID-19-related mortality concerns look likely to constrain results through 2022, Morningstar analysts view DaVita’s long-term prospects as solid. 

Once COVID-19 concerns dissipate, Morningstar analysts expect DaVita to get back to more normalized growth trends driven primarily by ESRD trends. Analysts think low- to mid-single-digit revenue growth is likely for DaVita in the long run based on the continued expansion of the U.S. dialysis patient population, mild revenue per treatment growth, and ongoing international expansion. These expectations include ongoing expansion of at-home treatments, and we think DaVita can even benefit from extending the at-home treatment stage for patients, despite its clinic infrastructure. At-home patients still have relationships with clinics and are more likely to continue working and, in turn, remain on more profitable commercial insurance plans for a more substantial part of the 33 months where that is possible before Medicare automatically takes the lead on reimbursement for ESRD treatments. Eventually, most ESRD patients will need in-clinic therapy, too, unless they receive a kidney transplant. Of note, supply and demand for transplants remain greatly mismatched with the average wait list time around four years. But if those dynamics change, DaVita may even be able to benefit, as it has invested in early-stage initiatives to improve transplants. And in general, we think DaVita stands to benefit from the continued growth in the ESRD population however they are treated, and it is even pursuing integrated care models to gain a bigger piece of the treatment pie in the long run. 

With these factors in mind, management has highlighted mid-single-digit operating income and high-single-digit to low-double-digit earnings per share growth targets from 2021 to 2025, which is roughly in line with our assumptions during that period, as well.

DaVita Stays Steady on Cautious Guidance for 2022; Shares Fairly Valued

After trimming guidance for 2021 and expressing caution on 2022 during its third-quarter call, DaVita turned in solid operating results and guided in line with our 2022 expectations on its fourth-quarter call. Morningstar analyst   boosts its fair value estimate to $116 per share from $110 primarily to reflect a change in our long-term U.S. corporate tax rate estimate after previously assuming the tax rate would rise on Democratic policy initiatives, which appear unlikely now. Also, our fair value depends on business conditions normalizing in 2023 and beyond, and despite the near-term constraints, Morningstar analysts continue to see significant intangible assets and cost advantages around DaVita’s top-tier position in dialysis services, which informs our narrow moat rating on the firm. 

Financial Strength 

Like many healthcare services providers, DaVita operates with significant leverage, especially when considering lease obligations. DaVita owed $8.9 billion of debt and held $1.2 billion of cash and short-term investments as of September 2021, or in the middle of its net leverage target range of 3.0 to 3.5 times. Its operating lease obligations of $3.1 billion add another turn, roughly, to leverage. After refinancing many of its obligations, DaVita’s maturity schedule appears easily manageable, though, with big maturities in 2024 ($1.4 billion) and 2026 ($2.6 billion) but limited maturities otherwise. During that time frame, Morningstar analysts expect DaVita to generate at least $1 billion annually of free cash flow, so the company could handle those maturities as they come due through internal means. However, given the firm’s large share repurchase plans, Morningstar analysts think DaVita will seek to refinance its obligations coming due. After $2.4 billion of share repurchases in 2019, the company made another $1.4 billion of share repurchases in 2020 and $0.9 billion of repurchases through September 2021. The company anticipates making significant share repurchases going forward to boost its adjusted EPS growth (8% to 14% goal from 2021 to 2025) above its operating income prospects (3% to 7% goal from 2021 to 2025). It had $1.0 billion remaining on its share repurchase authorization as of September 2021.

Bulls Say

• Excluding recent COVID-19-mortality challenges, we expect the ESRD patient population to grow at a healthy rate in the U.S. and around the globe for the long run, which should benefit DaVita. 
• DaVita enjoys top-tier status in the essential dialysis business, and we do not expect competitive dynamics to negatively affect that attractive position anytime soon. 
• While growing at-home care could change its business model a bit, DaVita could also benefit from ESRD patients being able to continue working and staying on commercial insurance plans.

Company Profile

DaVita is the largest provider of dialysis services in the United States, boasting market share that eclipses 35% when measured by both patients and clinics. The firm operates over 3,100 facilities worldwide, mostly in the U.S., and treats over 240,000 patients globally each year. Government payers dominate U.S. dialysis reimbursement. DaVita receives approximately 69% of U.S. sales at government (primarily Medicare) reimbursement rates, with the remaining 31% coming from commercial insurers. However, while commercial insurers represented only about 10% of the U.S. patients treated, they represented nearly all of the profits generated by DaVita in the U.S. dialysis business.

(Source: Morningstar)

General Advice Warning

Any advice/ information provided is general in nature only and does not take into account the personal financial situation, objectives or needs of any particular person.

Investment Thesis:

• Well positioned to benefit from positive healthcare trends and demographics. 
• Optum offers a sustainable cost edge with predictive data and analytics. Management is expecting to achieve a further 20-40bps cost efficiencies through automation and machine learning.
• Consistent top line growth with revenues growing at CAGR ~14% and operating earnings growing at CAGR ~17%. The Company has a very diversified portfolio which seemingly benefits in every market (with the insurer serving employers, individuals, Medicare, and state and local governments).
• Excessive expansion of international business giving UNH some protection from increasing regulations in the U.S. The global business is now earning revenue of ~US$10bn.
• Competent management team.
• Generating very significant cash flow (growing at a CAGR ~15%) and returning a fair amount of that cash flow back to shareholders via a growing dividend (DPS grew at a CAGR 22% over FY15-18) and share repurchase program.

Key Risks:

• Slowdown in customer acquisition if health insurance tax comes back in 2021. 
• Headwinds from potential regulatory reforms like Medicare for all. 
• Value destructive M&A.
• Key-man risk due to management changes.
• Increased competition (pricing pressure & innovative products) from new entrants or existing players like Anthem and Humana.
• Cyber-attacks or other privacy or data security incidents resulting in security breaches.
• Legal proceedings leading to substantial penalties or damage to reputation.

Key highlights:

Management continues to focus their efforts and strategies to build an integrated health care system, aiming at increasing health care delivery efficiencies at lower costs, and is targeting 5 areas to support long-term growth

(1) Value-based Care (comprehensive clinical strategy encompassing growing behavioural, home, ambulatory and virtual care capabilities) – e.g. OptumCare is developing a patient-cantered, value-based care delivery system and 100 health payers to serve more than 20 million patients in the U.S. 

(2) Health Benefits – advancing the quality, innovation and consumer appeal of benefit offerings and bringing value-based strategy to life.

 (3) Health Technology – e.g., NavigateNow health plan, which is an all-virtual care offering, allowing employees to connect with a virtual-based Optum Care team for on-demand care, including for urgent, primary, and behavioral health services, and is currently available in nine cities, with management planning to expand into 25 cities by the end of FY22 and anticipating it to reduce healthcare premiums by ~15% compared to traditional plans. 

(4) Health Financial Services (seeking to improve payment processes for members) – e.g., Optum Financial supports more than 8 million consumers with health bank accounts and processed ~$260bn in payments, up +53% YoY with management seeing additional opportunities to streamline payments for patients and providers, helping to drive increased transparency, reduce administrative burdens, and unlocking capital for providers. 

(5) Pharmacy (with an emphasis on specialty pharmacy) – prioritizing direct-to-consumer offerings with focus on increasing market share in the life sciences market and lowering the cost of specialty drugs by identifying lower-cost treatments earlier in the process.

Company Description: 

UnitedHealth Group (NYSE: UNH) is a diversified health care company offering a broad spectrum of products and services through two distinct platforms: UnitedHealthcare, which provides health care coverage and benefits services and includes UnitedHealthcare Employer & Individual, UnitedHealthcare Medicare & Retirement, UnitedHealthcare Community & State, and UnitedHealthcare Global businesses; and Optum, which provides information and technology-enabled health services through its OptumHealth, OptumInsight and OptumRx businesses.

(Source: Banyantree)

General Advice Warning

Any advice/ information provided is general in nature only and does not take into account the personal financial situation, objectives or needs of any particular person.