The stock letting the numbers do the talking

Despite the turmoil fallen healthcare darling ResMed (ASX: RMD) has faced thanks to increasingly popular weight-loss drugs, the company's result overnight has proven it can continue to deliver in spades.  

ResMed beat analyst estimates on both revenues and operating income, while non-GAAP gross margins also surprised to the upside, increasing by 90 basis points (bps) quarter on quarter to 56.9%.

The stock's share price soared 6.4% on Thursday. And while Airlie Funds Management's Vinay Ranjan believes ResMed is now a HOLD, at 25 times earnings, he argues there's still some upside for investors. 

"The irrational fear that we saw in August and September which caused the stock to derate - that value gap has clearly closed after some solid financial results over the last two quarters," he told Livewire. 

"When we talk to sleep physicians, and some of the distributors in the value chain, they're telling us that demand is still very high for these products. So, the outlook for ResMed is quite positive over the next six to 12 months." 

In this piece, Ranjan takes investors through ResMed's latest result and explains why the team at Airlie believes the company is the "most attractive" stock within the healthcare sector. 

Key results

• Revenues increased 12% to US$1.16 billion, up 11% on a constant currency basis (compared to analyst estimates of US$1.15 billion)

• Gross margin contracted 50 bps to 55.6% (non-GAAP gross margin grew 10 bps yoy to 56.9%)

• Income from operations decreased 2% (non-GAAP operating profit up 20%)

• Operating income of US$365.5 million compared to analyst estimates of US$331.9 million 

• Operating cash flow of US$272.8 million 

• Diluted earnings per share of US$1.42, non-GAAP diluted earnings per share of US$1.88

• Dividend of US$0.48 per share

Note: This interview took place on Thursday 25 January 2024. 

Airlie Funds Management's Vinay Ranjan 

1. In one sentence, what was the key takeaway from this result?

The key takeaway is that ResMed continues to win market share. It posted double-digit revenue growth and there's no sign yet of any impact from GLP-1 drugs.

2. Were there any major surprises in this result that you think investors should be aware of?

Gross margin was the key positive surprise. So if you look at consensus, they were expecting gross margin to come in at 56.1% and ResMed delivered about 80 bps above that consensus figure. That's the company starting to see the benefit of lower freight costs feeding through to the cost of sales, as well as the benefit of some recent price increases coming through.

The interesting thing is the gross margin is still below its historical 57-59% range, so I think investors should be watching that pretty closely. It's a source of further earnings upside.

3. Would you buy, hold or sell this stock on the back of this result?

Rating: HOLD

ResMed is probably a hold for us. It's a larger position for us in the Fund. The value gap has probably closed a little bit after today's move - it's up around 7%. But from a positive point of view, the stocks trading about 25 times P/E, which is still well below its long-term average of around 28 times. 

Given that we're expecting earnings growth in FY25 from some of that gross margin recovery we've touched on, there's potential for a re-rate plus earnings growth. So, we think the stock's worth north of $30 a share, so there's still some decent upside there.

4. What’s your outlook on this stock and the sector over the year ahead?

For ResMed specifically, the irrational fear that we saw in August and September (see below) which caused the stock to derate, that value gap, has clearly narrowed after some solid financial results over the last two quarters. Overall, we're still positive on the outlook for the company.

RMD 1-yr share price performance versus S&P/ASX 200. (Source: Market Index) 

If you go back to our original thesis, Philips, which was the number two competitor, is still out of the market in the key US region and there's a backlog of patients waiting to be sleep-tested.

When we talk to sleep physicians, and some of the distributors in the value chain, they're telling us that demand is still very high for these products. So, the outlook for ResMed is quite positive over the next six to 12 months.

In terms of healthcare - the sector has lagged some of its peers, so it's probably a good hunting ground for opportunities. But in our view, ResMed is still probably the most attractive of the lot just given that multiple - it's pretty cheap relative to some of the other healthcare names.

5. Are there any risks to this company and its sector that investors should be aware of?

I think the business is humming operationally, as you've seen in this result. But the key risk is still the news flow around GLP-1s and the impact they might have on the treatment of obstructive sleep apnea. 

The market is still waiting for the results of the SURMOUNT-OSA trial, which is due to come out in March. So, that's potentially going to be negative for the company. But if you're a long-term investor and you're looking at the numbers the business is publishing, I think you can look through that.

6. From 1-5, where 1 is cheap and 5 is expensive, how much value are you seeing in the market right now? Are you excited or are you cautious about the market in general? 

Rating: 4 

I'd say four - towards the expensive side. I think valuations for large-cap companies look expensive. There are plenty of companies that we follow that are trading towards the upper end of their historical multiple range. 

So whether that's in consumer discretionary, industrials, or building materials - they're probably some of the key sectors where we're seeing some optimistic valuations. 

We're probably leaning towards being a bit more cautious at this point. And a lot of that re-rate has come from optimism around rate cuts coming this year. So potentially any delay to the narrative around rate cuts would be negative for valuations.