It's Time to Buy This High-Growth Health-Care Stock
Lee is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.
The market decided it didn’t initially like dental equipment maker Sirona Dental Systems’ (NASDAQ: SIRO) third-quarter results, and subsequently marked the company down by more than 5%. Investors may well have reacted negatively to the margin declines in each of Sirona’s business segments, but that shouldn’t detract you from its positive long-term prospects. In fact, here's why now looks like a good time to pick up the stock.
Sirona generates growth
I’ve described Sirona as a "dental equipment maker," but this shouldn’t make you think of it as a boring low-growth company. On the contrary, it’s actually a proprietary technology company set to generate long-term growth, primarily thanks to its revolutionary CEREC CAD/CAM system. The system allows for same-day teeth restorations, and generates significant cost savings for dentists. It also allows patients to be treated more quickly, and with less intrusive procedures.
While the benefits of the system are obvious, the CEREC system’s up-front costs can be prohibitive to emerging-market customers. Indeed, it is noticeable that much of the strong growth in the third quarter came from Sirona's U.S. and German operations. Constant currency revenue growth was up 15.7% overall with U.S. growth cited as being up a whopping 28.8%.
Furthermore, Sirona stated in its results presentation that international sales were up 10% in constant currency, “led by an exceptionally strong performance in Germany.” Going forward, it will be challenged to continue generating growth in the U.S. and Germany, while finding a way to increase penetration rates in other markets as well.
Sirona’s growth plans
Sirona’s plans to increase market penetration include its ‘CAD/CAM for Everyone’ initiative. The latter involves trying to segment the market by offering a range of products and solutions. In fact, Sirona has 25 new products in its portfolio to sell through to customers. Dentists can buy the solution best tailored to their needs, at a price point that they find comfortable.
Patterson is Sirona’s exclusive distribution partner in the U.S., and it’s notably bullish on its prospects to generate growth by distributing high-tech products such as the CEREC system. Patterson needs to focus on these areas, because its core equipment sales to dentists have been slowing. Dentists remain cautious in their spending habits.
Sirona’s chief European distributor, Henry Schein, has similar plans. Low growth in its dental consumables sales is spurring it to focus on selling Sirona’s systems in Europe. In summary, both distributors are a large part of the ‘CAD\CAM for Everyone’ plan, and with their distribution expertise, they should be able to sell the new products on successfully.
Margins declining, product mix responsible
Unfortunately, gross margins declined in every one of Sirona’s segments.
However, it’s not time to panic.
Firstly, CAD/CAM margins were down thanks to increased sales of the new Omnicam camera system. Incidentally, you can learn about the differences between Omnicam and Sirona’s older system, Bluecam, in a video linked here.
Omnicam’s ticket price is higher than Bluecam, but its costs are, too. In its conference call, Sirona outlined that while gross profits are similar for the two products, margins are lower on Omnicam because of those higher costs. In other words, the acceleration in Omnicam purchases is likely to create profit growth at margins' expense. That's not a big deal as long as profits are still growing strong.
Second, margins in imaging usually bounce around for Sirona, so the decline this past quarter shouldn't be worrying. It owed to changes in the product mix. Moreover, despite the decline in Sirona's treatment center margins, they remain above its targeted figure of 40%.
And finally, potential investors need not worry too much about small movements in margins with treatment centers and instruments sales, because they only make up around 20% of gross profits at Sirona.
Where next for Sirona Dental?
In conclusion, the margin declines at Sirona are really not a big deal, and the company's long-term plans make good sense. Sirona’s distributors are keen to push its new products, and with CAD/CAM penetration rates in the low teens in the U.S. and low-single-digits internationally, its long-term growth prospects look favorable. Sirona’s technology presents a rare way to get exposure to a secular growth trend in a stable industry like dentistry.
Sirona now trades at a relatively cheap valuation compared to where it has been over the last few years.
The market reaction looks overdone, and this could be a good time to take a position. Analysts have low-teens growth penciled in for the next few years, and the stock looks attractively priced for its long-term prospects. In fact, I found Sirona compelling enough to buy some shares for myself.
Lee Samaha has positions in Patterson Companies and Sirona Dental Systems. The Motley Fool has no position in any of the stocks mentioned. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. Is this post wrong? Click here. Think you can do better? Join us and write your own!