In March, I believed that serial compounder Danaher Corporation (NYSE:DHR) had started to look attractive. The company benefited greatly from the Covid-19 period, seeing strong growth while it was well-positioned to keep growing in the future. These excess earnings were in part aided by bolt-on deals being made, as leverage was quite reasonable.
With shares trading at a 22-23 times multiple in the spring, appeal was improving, although this earnings yield had to compete against ever higher interest rates. With shares doing quite well ever since, and the operating performance coming softer than anticipated, the risk-reward has deteriorated in my view, which has led me to take some modest profits.
About Danaher
Danaher made a huge move when it acquired the biopharma business from General Electric (GE) in 2019 in a huge $21 billion deal, adding $3 billion in highly profitable and lucrative sales to the business. The deal was set to create a pro forma business with $23 billion in sales and $6 billion in EBITDA, and shares rose to the $120s on the back of the announcement of the transaction.
With leverage ticking up a bit and the company trading around 27 times earnings, multiples were demanding. With the business – due to the nature of the activities – benefiting from the pandemic, as well as lower interest rates, shares of Danaher broke the $300 mark in the summer of 2021.
As the business thrived during the pandemic, the company acquired privately held Aldevron in a $9.6 billion deal in order to gain manufacturing capabilities in plasmid DNR, mRNA, protein and other applications. Since the peak around $330 later in 2021, DHR shares have traded range bound in a $250-$300 range, trading at the lower end of the range in March of this year, marking stagnation for a near two-year period. This comes as the business remains well positioned, with or without the pandemic, positioned to long-term growth areas like biotechnology, diagnostics, and life sciences.
These much higher share price levels were supported by strong results. 2021 sales rose to $29.5 billion, with GAAP earnings of $6.3 billion coming in at $8.50 per share, as adjusted earnings per share came in around the $10 per share mark. Despite the pandemic being on its retreat, Danaher posted a solid 7% increase in 2022 sales to $31.5 billion, with net earnings advancing to $7.1 billion as adjusted earnings came in a few pennies short of $11 per share. Moreover, the company quickly deleveraged again, with net debt down to less than $14 billion, all while EBITDA improved to $10 billion.
Trading at $253 per share in March, the enterprise valuation came in at 6 times sales and 23 times adjusted earnings, with more growth seen in 2023.
Believing that earnings power came in at $11 per share in 2022, I no longer was fearful that earnings were (hugely) inflated by the pandemic, as the multiple has compressed to 23 times. Note, however, that there were some triggers coming up, including the spinoff of the smallest environmental and applied solutions business, spun-off in a near $5 billion business to be called Veralto. Another potential trigger was the fact that the company was rumored to be in the bidding race for Catalent (CTLT), although that has not materialized.
Given the great positioning and track record, I believed value was emerging around the $250 mark, so I was happy to dip my toes below the $250 mark going forward.
Holding Steady
Since March, shares of Danaher have traded in a $225-$265 range, and I have added twice on the dip, holding a modest position at an average of $240 here. In the meantime, shares have re-tested the higher end of this trading range at $264, as there have been some moving parts since I last looked at the shares in March.
In April, Danaher posted a 7% fall in first quarter sales to $7.2 billion, with GAAP earnings down 15% to $1.4 billion and earnings falling to $1.94 per share, with adjusted earnings per share down forty cents to $2.36 per share.
By July, Danaher posted a 7.5% fall in second quarter sales to $7.2 billion as the company posted a 34% decline in GAAP earnings to $1.1 billion, with earnings posted at just $1.49 per share. Adjusted earnings fell to $2.05 per share, with the reconciliation being fair, largely related to amortization charges. In the meantime, net debt fell to just over $11 billion.
With the 744 million shares trading at $264, the company now commands a $196 billion equity valuation, and $207 billion enterprise valuation. Contrary to the observation in March, it is understood that 2023 earnings are set to fall this year. With earnings down a dollar per share in the first half of the year, it seems that the weakness is not just isolated to Covid-19-related revenues which enjoyed a boom over the last couple of years.
About Those Moving Parts
In August 2023, the company announced that the spinoff of Veralto, its environmental unit, will likely be completed on the 30th of September. Days later, the company announced that it had reached a $5.7 billion deal to acquire Abcam plc, a supplier of protein consumables. Its technologies are used by hundreds of thousands of researchers, yet is truly a bolt-on deal, with the purchase price coming in below 3% of Danaher’s own valuation.
With a $600 million revenue contribution, the deal does not come cheap, although this is compensated by the fact that EBITDA margins are expected to be comfortably coming in the forties.
And Now?
As I am sitting on gains of around 10% since I initiated the Danaher Corporation position during spring/early summer, I find myself performing a balancing act. These gains are relatively modest, but in the meantime, I have not been impressed with the first two quarterly earnings reports, amidst the decline on the top line as well as the greater declines on the bottom line.
Given all this, I am cautious, as my $11 per share earnings number, or even higher, now comes in at $10 per share at best. This means that the Danaher Corporation risk-reward has certainly not improved, so I cut out of a modest long position here. I am somewhat surprised by the weakness seen so far this year, as I had hoped that the business was more resilient.
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