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In the summer of last year, I believed that shares of Teleflex (NYSE:TFX) were flexing their muscles a bit, as operating momentum accelerated a bit again after a tougher 2022. The company announced its next bolt-on acquisition, although this strategic acquisition was rather expensive.
After shares witnessed a swift 20% return, which was not really backed up by the business performance, I was inclined to sell a position on rips at levels around the $250 mark. Fast forward nearly a year in time, shares have fallen back to the $200 mark again, as many names in the medical device industry see slower growth and an overhang of GLP-1 drugs.
All this seems somewhat of an overreaction, yet even as Teleflex has lost some of its past touch, multiples look too compelling to ignore.
Medical Device & Instruments Play
Teleflex is a medical device and instrument manufacturer. The company generates nearly $3 billion in sales from a wide range of medical devices and instruments, with some 23,000 products being used in thousands of surgical procedures being performed every day, as well as aiding emergency responders and benefiting IC patients.
The company is quite diversified with about a quarter of sales generated from vascular access products, nearly 20% from interventional products, and the remainder from anesthesia products, general surgical products, interventional urology, OEMs and others.
The company has seen a very strong decade in the 2010s, a decade long period during which it grew sales from a billion to $2.5 billion, while the company expanded operating margins by five points towards 25% of sales. These achievements were recognized and awarded by investors, as a $50 stock in the year 2010 rose to the $400 mark in 2020.
Pre-pandemic, the company posted GAAP earnings at around $10 per share, with adjusted earnings coming in slightly higher, but the nature of the business (reliant on consumables) meant that the business saw tough times because of the pandemic when the number of procedures came down a lot.
Shares recovered to the $400 mark, but arguably these levels translated into demanding multiples, with earnings power trending around $10 per share pre-pandemic. The laws of valuation gravity caught up with the stock as well, with shares down to the $200 mark by year-end 2022.
In the meantime, the company grew 2021 sales to $2.8 billion, with earnings reported at $13.33 per share, as the combination of mostly a declining share price as well as modest earnings growth, massively reduced expectations in the form of lower valuation multiples. 2022 sales came in flattish at $2.8 billion, with adjusted earnings down slightly to $13.06 per share. For 2023, the company guided for sales to be up around 4%, with adjusted earnings seen between $13.00 and $13.60 per share. On top of the lack of real growth, adjustments compared to GAAP earnings were on the increase in recent years.
With shares having risen to the $250 mark last summer, multiples expanded to roughly 20 times earnings, or a bit less. Furthermore, the company acquired Palette Life Sciences AB in a $600 million deal, adding $56 million in interventional urology sales. Net debt would increase up to $2 billion, as the company saw a dilutive impact of the transaction, as the valuation multiple looked much full around those levels, which left me willing to sell some shares on rips.
Expectations Come Down
Since last summer, shares of Teleflex have traded in a $180-$250 range, now trading hands at $200 and change. The company closed on the deal with Palette in October, as it indicated high-teens to low-twenty percentage sales growth, with the deal actually being dilutive to the tune of $0.35 per share for 2024 (up from a $0.25 per share dilution number anticipated in the remainder of 2023).
In February, Teleflex reported its results for the fourth quarter of 2023, and all the year, with Palette contributing for most of the final quarter. Fourth quarter sales were up some 2% on a reported basis to $774 million, with full year sales up 6% and change to $2.97 billion. Constant currency growth came in at less than 1% for the final quarter, with the results impacted by five fewer shipping days.
The company reported full year GAAP operating earnings of $506 million, largely at par compared to the 2022 numbers, although GAAP earnings were impacted by a substantial $45 million pension settlement charge in 2023. The company reported GAAP earnings of $356 million, with diluted earnings down 15 cents to $7.53 per share, as the fall is largely attributable to higher interest expenses.
Adjusted earnings were reported at $13.52 per share, which was up from a $13.06 per share number in 2022. The reconciliation between both earnings metrics includes some eight factors, the vast majority being a $3.46 per share amortization charge, which I am happy to adjust for. Other adjustments related to the medial device regulation, restructuring costs, ERP implementation costs, and legal entity rationalization.
Net debt came in at $1.59 billion by year-end, which is coming down rapidly, as leverage ratios are in check. The sum of GAAP operating earnings as well as depreciation & amortization charges comes in at three-quarter of a billion, for a roughly 2 times leverage ratio, or a bit below that on an adjusted basis.
A Look Forward
For 2024, Teleflex originally guided for sales to increase at a midpoint of 4.1%. Despite the modest topline sales growth, adjusted earnings are seen up between flat and 3%, with adjusted earnings seen at $13.55-$13.95 per share. What is somewhat concerning is that GAAP earnings are set to come down to $5.69-$6.09 per share, as the increase in the gap between both earnings metrics is largely due to higher pension termination charges.
In May, Teleflex reported a near 4% increase in first quarter sales to nearly $738 million, with adjusted earnings coming in twelve cents higher at $3.21 per share. While the company lowered the midpoint of the full year sales guidance by a quarter of a percentage point to 3.85% (entirely on the back of adverse currency moves) the company hiked the lower end of the adjusted earnings guidance by five pennies to $13.60 per share. Promising is that GAAP earnings are now seen between $6.87 and $7.22 per share, aided by lower charges relating to the pension settlement charges.
Net debt came down to $1.52 billion, comforting with leverage ratios rapidly coming down, in fact, a 1.7 times leverage ratio was reported alongside the first quarter results.
And Now?
With leverage ratios down below 2 times, while valuations have come down a lot to 14-15 times adjusted earnings, appeal is readily seen (although some investors wonder how clean the definition of adjusted earnings really is). Even if we strip out some of the adjustments, I am comfortable with a $10-$12 per share number, resulting in a realistic earnings multiple of 17–20 times.
The truth is that investors grow cautious with the business as GLP-1 drugs might have an impact on the business as well, with the business delivering on slower growth in recent times, while incurring some restructuring charges as well. Right now, shares are down to levels last seen in 2017, levels seen some 7 years ago already, when Teleflex was just a +$2 billion business.
With the business now trading at a much more reasonable earnings multiple, and a rapidly deleverage balance sheet allowing for some additional bolt-on M&A, now is the time to get more upbeat on the business (again). This is the case, even as some of the organic growth performance of the business has been lagging in recent times.
