A Tough Macro Environment Makes Dentsply Sirona's Turnaround Even Harder

seekingalpha07-03 05:56

The dental market is sluggish, with higher out-of-pocket costs driving sluggish volumes and trading-down for this macro-sensitive segment of healthcare.Dentsply Sirona Inc. is seeing these trends ...

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Harder\n</h2>\n\n<h4 class=\"meta\">\n\n\n2024-07-03 05:56 GMT+8&nbsp;&nbsp;&nbsp;<a href=https://seekingalpha.com/article/4702132-a-tough-macro-environment-makes-dentsply-sirona-turnaround-even-harder><strong>seekingalpha</strong></a>\n\n\n</h4>\n\n</header>\n<article>\n<div>\n<p>The dental market is sluggish, with higher out-of-pocket costs driving sluggish volumes and trading-down for this macro-sensitive segment of healthcare.Dentsply Sirona Inc. is seeing these trends ...</p>\n\n<a href=\"https://seekingalpha.com/article/4702132-a-tough-macro-environment-makes-dentsply-sirona-turnaround-even-harder\">Source Link</a>\n\n</div>\n\n\n</article>\n</div>\n</body>\n</html>\n","isBrief":false,"type":0,"news_type":1,"symbol":"LU0061475181.USD","symbol_name":"THREADNEEDLE (LUX) AMERICAN \"AU\" (USD) 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INC"},"translate_title":"严峻的宏观环境让登士柏西诺德扭亏为盈难上加难","themeId":null,"isJumpTheme":false,"ttsUrl":null,"symbols_score_info":{"XRAY":1,"ALGN":1,"SAUHY":1,"NVST":1,"HUM":1,"HSIC":1,"CVS":1,"N0Z.SI":0.68},"content_text":"The dental market is sluggish, with higher out-of-pocket costs driving sluggish volumes and trading-down for this macro-sensitive segment of healthcare.Dentsply Sirona Inc. is seeing these trends hitting its own volumes, but the company's CAD/CAM and aligner businesses continue to grow.Management has implemented a lot of the strategic changes I hoped to see, including meaningful SKU reductions, a manufacturing/distribution footprint revision, and a cost efficiency program.Dentsply shares look undervalued on what should be achievable assumptions, but weak revenue growth and a challenging macro is likely to limit investor enthusiasm in the near term.   Fly View Productions/E+ via Getty Images These are challenging times to sell into the dental market. With a much higher out-of-pocket component to costs, dental care is far more economically sensitive than other areas of healthcare, and market volumes have been soft despite a surge in Medicare spending/visits. With sluggish volumes and patients trading down from premium to value products, to say nothing of higher interest rates making it more expensive to bring equipment into practices, it’s a tough market. Dentsply Sirona Inc. (NASDAQ:XRAY) is down about a third since my last update, much worse than the broader medical device space (up low single-digits), worse than Align (ALGN) (down about 25%), and worse than Straumann (OTCPK:SAUHY) (down 13%), but better than Envista (NVST) (down 58%). Management has taken a lot of the steps I outlined in that last article as things I wanted to see, but there hasn’t been enough time yet for efforts like manufacturing and logistics efficiency initiatives and SKU reductions to really impact results. These shares do look cheap, but with a tougher macro environment likely to weigh on volume, it’s tough to get excited about buying in today. Dentistry Is Macro-Sensitive, And That’s Not Good  It’s tough to get accurate, real-time information on volume trends in dentistry. However, between the results and commentary of distributors like Henry Schein (HSIC), third-party dentist surveys, and the results of the dental equipment/supply companies, it seems clear that the industry is barely growing now, and that’s been true for a while now – while there was a surge after the pandemic as people looked to catch up on regular care, that has since faded to virtually no growth and contraction in some segments. What makes this arguably worse is that there’s evidence that Medicare, specifically Medicare Advantage, has been a positive driver recently. The CMS reported that Medicare spending on dental care more than tripled from 2019 to 2022 ($1.9B to $6.2B) and the number of enrollees into Medicare Advantage plans with dental benefits has more than doubled. It’s entirely possible, then, that Medicare patients added a 100bp-200bp tailwind to an industry growth rate that has been dolphining around zero for a couple of years. I don’t see these pressures getting any easier in the near term. Out-of-pocket costs for dental care have risen around 15% over the last five years according to some surveys, but there’s a widespread there depending on the type of insurance (if any) that the patient has. With everything else getting more expensive as well, that has made dental costs more meaningful as a percentage of discretionary income, and many people are electing to either not go or trade down to cheaper services. Likewise, with CMS proposing a 3.7% average rate increase for MA programs in 2025, I won’t be surprised if insurers like CVS (CVS) and Humana (HUM) change their plans in ways that reduce coverage / increase out-of-pocket obligations for dental care. On top of all that, dental equipment is far from cheap, and the combination of higher interest rates (and less willingness in general from banks to lend now) and weaker volumes doesn’t exactly incentivize dentists to invest in new capex for their practice unless it has a compelling payback argument. Dentsply Doing What It Can On Self-Help Dentsply’s recent results have not been that special; first quarter sales were down 2% in organic terms, and the company missed on revenue (by 2%), adjusted EBITDA (by 2%), and adjusted operating income (by 9%), with noticeable weakness in equipment/instruments (down double-digits) and preventative/restorative/endodontic consumables (down mid-single-digits) offsetting growth in aligners (up 14%) and CAD/CAM (up high single-digits). The quarter before that wasn’t all that much better (organic revenue up 2%), and management is looking for flat to slightly up revenue for 2024 and modest margin leverage (EBITDA margins up about a half a point). This comes despite multiple management initiatives that, I believe, are necessary and appropriate to improve the business. As I said in my last article, I thought the company needed to address its product portfolio, and indeed the company is looking to reduce SKUs by over 60%. That’s a significant number, but necessary when considering that over 90% of revenue comes from fewer than 15% of the SKUs and there are 375 brands at the company that earn less than $5M/year in revenue Management is also looking to streamline its manufacturing and distribution infrastructure, closing a couple of plants in 2023 and looking to close three more this year as part of a plan to reduce its footprint by 15% to 25%. I’ve heard less than I’d like about refining the sales/go-to-market process, but this could a future target. Management is also looking to reinforce its efforts around key core products that can drive growth. The company’s CAD/CAM platform (over 15% of revenue) is understandably a big part of that, as the company has over 50% legacy share in chairside CAD/CAM, and management is targeting double-digit growth here. DS Core is another significant part of the story. While this cloud-based workflow system likely will never be a significant revenue contributor on its own, it can drive pull-through sales of equipment, software, and disposables by making life easier for dentists – connecting to multiple hardware types and reducing required hardware footprints as well as saving time by virtue of more systems “talking” to each other. Aligners still figure prominently in Dentsply’s growth plans. Both Byte and SureSmile have been growing nicely of late, and management thinks they can continue to grow the business at a strong double-digit rate. The failure of SmileDirectClub late last year puts around 10% of the market up for grabs, and I still think there is a longer-term opportunity here for the company to compete with Align in the orthodontist market, but I can also understand if the considerable share that Align holds here (65% or so) makes it a less promising target for resources today. Last and not least, management has talked about reinvesting at least some of the benefits of cost saving and efficiency initiatives back into the company to drive more innovation. This makes sense to a point, but I think where they target this innovation is important. I don’t think introducing new premium products is the way to go, but I do like the potential of newer products like PrimePrint (a 3D printer designed for dental applications) to drive efficiencies for dental practices. The Outlook Dentsply’s financial performance since my last update has been mixed. Revenue performance has been a little better than I’d expected, while margin performance has been mixed, and free cash flow performance has been worse. With that, my modeling changes are not that drastic but more of the “refining” variety. I’m only looking for around 3% growth over the next five years, with FY ’24 likely to be the weakest of the lot before some reacceleration in FY ’25/’26 on a better macro environment. Longer term, I expect growth to slow toward 3%. I do think Dentsply can get to its “18%-plus” adjusted EBITDA margin target this year, but I’m only at 18%, as I think volume-driven revenue headwinds will make it more challenging. I expect the margin to move above 20% in FY ’26. Furthermore, I’m looking for free cash flow generation to rebound this year back into the low double-digits and move toward the mid-teens over time, pushing FCF growth into the low double-digits. Discounted cash flow gets me to a fair value in the low $30’s today. The shares also appear undervalued on growth and margin-driven EV/revenue, though Dentsply falls into that overlooked segment of med-tech where both the revenue growth and EBITDA margins are too low to attract core growth or value investors. Still, I can argue for a mid-$30’s fair value here. The Bottom Line Dentsply Sirona Inc. could be meaningfully undervalued right now, and I think management’s plan is the right one. I do still think company guidance/expectations for 2026 are too high, and this could be a risk to sentiment (though the Street doesn’t think they’ll make their 2026 targets, so maybe not). I also think that it may be tough to get a lot of investor enthusiasm going when revenue growth is likely to be quite soft and the macro environment is still not good. At best, I’d like to see margin improvements that drive beats versus sell-side expectations for EBITDA. I fear this could be a value trap in the short term, but this is a name worth watching.  Editor's Note: This article discusses one or more securities that do not trade on a major U.S. exchange. 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