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ResMed - Growing Business with Consistent Cash Flow Generation at Lowest 10-Year Valuation

January 24, 2012 | About:
Value investors might sleep well at night when parking money over the long term in a company which has good fundamental economics, a consistent growing trend in revenue, net income and operating cash flows as well as free cash flow.

One of those situations which investors should look into deeper is ResMed Inc. (RMD), a developer, manufacturer and distributor of medical equipment for treating, diagnosing and managing sleep disorders and other respiratory disorders. Since 2002, the share price has been as low as $6.25 per share, and it has gradually risen to $30-$35 in 2010. Now it is staying at $26.7 per share. Since 2002, if any investors took a long position at $6.25 per share and kept holding it until now, they would realize an annualized gain of more than 15.6% for the last 10 years.

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RMD was formed in 2004, and the firm is currently selling products in over 70 countries through wholly owned subsidiaries and distribution relationships, and employs 3,450 people. The company believes that given the single-market focus of its operations in the sleep-disordered breathing sector of the respiratory medicine industry, it operates as a single operating segment.

Out of products sold, masks, accessories, motors and diagnostic products together have accounted for around 42-44% of the total revenue for the last three-year period. The firm relies most on marketing efforts in 70 countries using a network of distributors, independent manufacturers’ representatives and the company’s direct sales force.

In terms of region, North America accounts for 50% of total sales, 37-38% are from the Europea, and the remaining 9-10% are from Asia Pacific. In terms of manufacturing, it has a principal facility in Sydney, Australia, a assembly and distribution facility in South Carolina, a manufacturing facility in Singapore and in Paris, France, as well as a high-quality electric motor manufacturing site in Chatsworth, Calif.

Normally, the cost of medical care in many countries in which the company operates is funded by government and private insurance programs. Especially in Germany, it receives payments directly from these payers. Outside Germany, although the firm does not receive payments directly from these payers, its customers do. In the U.S., products are purchased mainly by home-health care dealers, hospitals or sleep clinics, which rely on third-party payers directly for reimbursement, including Medicare, Medicaid and corporate health insurance plans. So the health care reform to reduce the reimbursement rate would indirectly affect the company’s performance.

Over the years, the operating performance of RMD has been satisfactory in all aspects of revenues, profitability, and cash flow generation.

USD million 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011
Revenue 204 274 339 426 607 716 835 921 1,092 1,243
Operating Income -51 67 85 97 131 90 143 190 240 267
Net Income 38 46 57 65 88 66 110 146 190 227
Operating Cash Flow 36 59 77 71 99 91 138 239 188 283
Free Cash Flow 7 34 19 31 -4 14 62 125 127 210


The net margin has been around double digits for most of the years, staying at a 10-year average of 15.6%, and the same trend occurred with the same average number in the return on equity ratio.

For financial health, RMD has a conservative and liquid balance sheet, with D/A of nearly 16.5% only, including nearly 5% in long-term debt. On the asset side, the cash and cash equivalent takes more than 35% of the total company’s assets. Now with the total capitalization of $3.93 billion, adjusting the cash and debt, the enterprise value of RMD is around $3.3 billion. The market is valuing the company at 18.9x P/E, 250% above the book value, and the cash flow yield is at 7.5%. It sounds expensive in the absolute number but it seems to be the cheapest in its 10-year period.

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Currently, the company is facing tough competition, especially from Phillip Electronics (formerly Respironics). Competitors have shown their aggressiveness to compete on price by penetrating deeper in the market with free samples during the previous several product launches. So the price erosion in the near future is in eyesight, meaning RMD can be preemptive over the long run in reducing costs.

In terms of business, it would be better for RMD to move its manufacturing site from the developed economies to developing economines to reduce its cost structure and to improve profitability. RMD has proved itself during the past with its technical edge, and used to be the second mover in the field.

With the new product development capabilities, recurring customers and the untapped potential customers pool, I believe that there is high probability that RMD can keep delivering solid returns to shareholders in the future. Being one of the leaders in the industry, with this cheapest historical valuation, the growing cash-generating business and conservative balance sheet, RMD can be considered to fit well in the long-term value portfolio.

Disclosure: No position at the time of writing

About the author:

Anh Hoang
Money manager into global equities, especially with US and Vietnam markets. CFA level 3 candidate. Lecturer for Stalla - CFA course in Vietnam

Visit Anh Hoang's Website


Rating: 3.4/5 (10 votes)

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