Masimo Closes a Questionable Acquisition

The medical device company acquired a consumer products company, which confused investors

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May 15, 2022
Summary
  • Masimo is a medical device company with products such as pulse oximetry readers, acute care patient monitoring and advanced thermometers.
  • The high-margin company acquired low-margin Sound United, whose products include audio devices such as speakers and sound bars.
  • Masimo appears overvalued at this time based on management's guidance.
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Masimo (

MASI, Financial) is a relatively unknown mid-cap medical technology player which focuses on the development, manufacturing and marketing of non-invasive patient monitoring technologies. Founded in 1989, Masimo is a leading player in this niche market. The company develops and produces a wide array of monitoring technologies, measurements devices, sensors, patient monitors and automation and connectivity solutions.

The company’s product lineup includes pulse oximetry readers, acute care patient monitoring, advanced home temperature monitoring devices, hemodynamic monitoring systems (blood flow), brain monitoring devices and airway management systems. The company went public in 2007, has a market capitalization of $7.5 billion and generated $1.24 billion in revenues in 2021.

Sound United acquisition

In April 2022, the company closed on the $1.0 billion acquisition of Sound United, which is a consumer technology company specializing in premium audio and home entertainment brands. Sound United operates iconic consumer audio brands such as Bowers & Wilkins, Denon, Polk Audio, Marantz and Boston Acoustics.

On the surface, the acquisition makes no sense as their products are not related to the medical device business. Investors are confused about this, resulting in the share price dropping.

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However, Masimo's management stated that its legacy product line, which involves advanced signal processing, biosensing and photonics technologies, may bring advancements to Sound United’s products. In addition, Sound United's established expertise across consumer channels may accelerate their legacy portfolio of consumer facing health care products. These include pulse oximetry readers, continuous thermometer devices and sleep monitors.

The company stated that for the second quarter of 2022, it expects Sound United will generate revenues in the $180 million to $190 million range and gross margins of approximately 35%. For the full year, Sound United is expected to generate revenues of approximately $680 million at the midpoint of company guidance and operating profits in the $33 million to $49 million range.

Financial review

The company has show decent revenue growth over the past three years as well as good profitability. Counting backwards, net profit margins over the past three years have been 18.4%, 21.0% and 20.9%.

For the first quarter of 2022, the company was not immune to the macro issues affecting most businesses in the U.S. Revenue growth slowed down to 2.0% and earnings per share grew 3.0%. The company stated they encountered shortages of critical components (mainly semiconductors) as well as supply chain issues and labor availability problems.

The end customer demand was still present, but the company was unable to produce and ship the products that were ordered. For the revenues that were generated, gross margins and operating margins held up and did not show any deterioration from the prior-year period. The company’s balance sheet is very solid with $720 million in cash and no debt aside from capital lease obligations. However, that will change after the Sound United acquisition.

Valuation

The company projects total revenues of approximately $2.0 billion and EPS in the range of $4.46 to $4.73 for 2022. Consensus analyst EPS estimates are at the low end of that range at $4.48. That puts Masimo stock at a forward price-earnings ratio of 30. The forward price-earnings ratio for 2023 estimates is 27, which still seems elevated. The current enterprise-value-to-Ebitda ratio is 15 using 2022 estimates.

Using the GuruFocus DCF calculator with this year's estimated earnings of $4.87 as the starting point and assuming a 10-year growth rate of 10%, the derived value comes out to approximately $100 per share. In order for the current stock price to be justified, it would need to achieve 15% EPS growth over the next 10 years. That seems unrealistic to me at this time.

Guru trades

Gurus who have purchased or added to their positions in Masimo stock recently include Ballie Gifford and

Ray Dalio (Trades, Portfolio). Gurus who have reduced their holdings include Mario Gabelli (Trades, Portfolio) and Jim Simons (Trades, Portfolio).

Conclusion

Masimo may have higher hopes for the Sound United acquisition than its investors, but the stock still appears to be overvalued at this time based on current guidance and analyst estimates. The Sound United product set has margins that are substantially lower than Masimo legacy products, so it's hard to see how this will be an accretive acquisition. It may be better to wait and see how the rest of the year plays out for the company, or at least wait for a lower price to account for the potential risks the company is experiencing.

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Disclosures

I/we have no positions in any stocks mentioned, and have no plans to buy any new positions in the stocks mentioned within the next 72 hours. Click for the complete disclosure
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