Each week I’ll be picking a random ASX stock that I (personally, yes I’m aware it may have been covered at some point in history) rarely see discussed online – and that I do NOT hold – that you voted for, for us to dive into for some Due Diligence (“DD”).
This is for us to have a look at what it does, comb over their financials, and conduct some polling on general sentiment. Not all of these stocks may be sexy or appealing; the whole point is to shine a light on what companies are doing out there on the ASX which never get much coverage – for good or bad.
The main purpose being to add some more variety in coverage to the standard blue chips or meme stocks we see pumped day in and day out, and hopefully discover some hidden gems or innovative companies on the Aussie market.
Here’s this week’s Random Stock of the Week.
Company name: Australian Clinical Labs
Ticker: ACL
Industry: Medical
Headquarters: Melbourne, VIC
Market cap: ~$1b
Current share price: ~$5.14
1-year Performance: +28.5%
What they do, smoothbrain version: pray for new Covid outbreaks to make big $$.
What they say they do, wanky version: “At Clinical Labs, we are focused on our mission of combining talented people, and medical and scientific leadership, with innovative thinking and technologies to empower decision making that saves and improves patients’ lives.” 🍆👋
What they do, actual version: One of the largest pathology networks in Australia, Melbourne-based Australian Clinical Labs (ACL) specialise in providing a wide range of blood testing & pathological analysis services with over 1,300 individual pathology sites across the country.
The company also services over 90 public and private hospitals, offering a wide range of testing services for doctors and corporate clients – ranging from standard blood tests to molecular cancer testing, genetic screening, and all other sorts of blood-related goodness.
ACL also owns a clinical trials lab in Queensland, which serves as a centre for conducting Phase 1 clinical hospital trials for all your dodgy biotech penny stocks which you hope will someday send their share prices ‘to the moon’.
The company also operates the SunDoctors line of skin cancer centres (including ~30 clinics) which it acquired to coincide with its IPO, which cover testing for skin & gastro as well.
The company only listed on the ASX in May 2021, after having existed privately as a singular entity since 2015 when several individual pathology companies combined into one consolidated organisation. It was incorporated as Australian Clinical Labs Limited late in 2020, and began its listed life trading at a $4 share price.
Since it began trading on the ASX, ACL has had the ongoing benefit of an absolutely massive tailwind behind it for basically the entire time: Covid-19.
Testing for Covid has become a routine part of life throughout the course of the pandemic, and pathology services have benefited greatly from increased testing requirements as the various outbreaks & different variants of the virus have continued to affect Australian society.
As a result, attempting to assess the company as a stock without the overlaying spectre of Covid is speculative at best. What is clear, however, is that the spikes in the virus certainly haven’t hurt ACL’s financials.
In its first round of financial results since listing, the company smashed the numbers issued in its initial prospectus. It broke the revenue targets set out upon listing by 75% – including 61% above first half of FY2021 – with NPAT increases of 466.4% and 200.7% respectively.
As a business ACL generates over 70% of its revenue from community pathology, with Medicare funding the majority of its sales, and Covid testing continues to be a major boon.
Testing volumes for the virus were up hundreds of percentage points in the latter portion of calendar year 2021, and at its peak ACL’s operations processed almost 50,000 tests a day in late December.
Things got so bad in terms of testing requirements over this period that the company actually had to close many of its testing sites due to overwhelming demand; they simply weren’t able to fulfil the backlog of tests despite maxing out capacity and running results processing 24/7.
Following this unprecedented surge in demand for testing, the company took extra steps such as implementing processing around-the-clock over this peak period, and also implemented an e-commerce platform for people to be able to order Covid testing travel kits online.
ACL also dumped some money into the acquisition of company Medlab Pathology in December 2021 for $52m, which enabled the company to double market share in NSW (their key market) and serve as an entry point into the QLD market as well.
This combined with spending a capex of $8.2 million for the period to build an additional lab for clinical trials in Brisbane, instantly increasing their geographical footprint & adding more potential revenue sources.
Following all of these positive tailwinds, the company released an increased profit guidance in the same month (estimating between $116m to $128m profit). As the new year rolled around, its share price hit its to-date all-time-high of $6.20 to kick off 2022 with a bang for shareholders.
However as 2022 got underway and both vaccination rates climbed & government Covid testing requirements started to ease, the price of ACL’s shares began to decline seemingly in lock-step as society perceived a ‘new normal’ of living with the pandemic.
Moving forward, can ACL use their cash buffers built up during the peak of Covid to continue their strong performance moving forward?
Let’s take a look.
ACL has delivered a ~49% return since listing (including dividends paid) at time of writing.
What looks good:
- The company exceeded profit guidance given for the half ($130m achieved vs. guidance of between $116-$128m), yet the share price still sold down. Assuming even some level of baseline Covid testing remains in place for the foreseeable future, this looks undervalued versus its closest like-for-like ASX-listed industry peers.
- Based on its most recently reported numbers, ACL is trading at a price to earnings ratio of about 5; less than half of that of its same-sector rivals such as SHL and HLS:
- Given that it’s the Australian government subsidising a lot of revenue courtesy of Covid testing & Medicare, this gives the company an underlying baseline of confidence and stability revenue-wise. They’re thus not overly reliant on any specific individual clients etc. where the loss of a contract could greatly hurt revenue.
- They’re also able to command strong margins; an achieved EBIT margin of ~35% and an NPAT margin of ~24% are very strong. They’ve certainly done well with milking their charges to the government for their services (great for ACL, not so great for Aussie taxpayers).
- The company has seen EPS growth from 39c to 64.5c for the half ending December 2021 vs. December 2020, and an increase of net assets to $207m from $82m, yet it’s still only currently trading at around 5$ per share at time of writing (vs. $4 price at IPO).
- Their MedLab acquisition cost them $52m to complete; in FY2021 MedLab produced $93m of revenue & is estimated to contribute around $20m of EBITDA now that it’s been properly integrated. This continues to look like a logical/smart acquisition.
- The company’s integrated singular-software-system business model makes expansion through acquisition look particularly efficient, as they can simply plop newly acquired clinics onto their existing platform.
- ACL used a chunk of their recent strong cashflow to repay ~$55 million of debt which greatly reduced their debt/equity ratio & put them in a much more appealing financial situation within a fairly short turnaround time:
- This is still with the company retaining the ability to access $100m worth of redraw available should they choose to use it to fund further growth.
- Pre-IPO, ACL was initially valued between $1.27 billion and $1.67 billion by Goldman Sachs before listing. It’s currently sitting on a market cap of just over ~$1 billion. That initial valuation figure was also not factoring in recent acquisitions such as MedLab, its clinical trials lab, etc.
- Despite high rates of vaccination & society opening up, Covid doesn’t seem to be ‘going anywhere’, and testing is likely to still be a ‘thing’ moving forward for the foreseeable future. Covid becoming ‘endemic’ (a.k.a, part of daily life) means that the baseline for pathology activity will likely be set higher than pre-pandemic unless the virus is somehow completely eliminated.
- While Covid testing may gradually scale down, the company is expecting a backlog of delayed non-Covid tests to make up for some of the lost volume as people have delayed other necessary testing due to the pandemic, as well as elective surgeries.
- ACL still has plenty of potential for more expansion, within QLD in particular as its market share there remains relatively small.
- Australia’s ageing population works in its favour in terms of increased testing requirements from the pathology industry as a whole. According to estimates from the Australian Bureau of Statistics, the percentage of Australians aged over 65 years old will greatly accelerate through to the year 2040:
- Their major shareholder – Crescent Capital Partners – released a “vote of confidence” letter to the market in December 2021 when the share price was peaking, reinforcing that they had no desire or plans to sell off any of their holding in the company citing strong numbers & faith in future performance.
- This reflects the company’s strong & diversified ownership profile; not only do Crescent continue to hold their sizeable share, but it has strong institutional and company ownership on the register as well:
- Likewise, there’s been net insider buying of shares over the past ~year and minimal selling, which is typically a strong signal of faith by key shareholders:
- Borders opening means more potential testing requirements, more revenue, etc. This includes Western Australia which was previously ‘isolated’ from Covid-19 and the company has a reasonably significant presence.
- Should any new Covid variants emerge, and their business volumes will no doubt immediately rocket back up again.
What doesn’t look good:
- At its core, it’s simply hard to get an idea of where the business sits, and what to expect of its ‘true’ growth moving forward. In its most recent reports to start 2022, the company only cited a 2% increase in non-Covid testing revenue which is not going to blow anyone’s socks off. While this can be somewhat attributed to Covid taking priority & pushing back all non-Covid services, that theory still remains to be seen.
- Overall, ACL has estimated the non-Covid side of the business is expected to grow at a 4%-6% rate annually, which isn’t amazing either.
- This is a company that hasn’t known anything other than some of the best possible conditions for its business model since it’s been listed. There’s an extremely strong correlation between ACL’s share price & Covid testing rates to the point that it’s pretty striking:
- The emergence of both the efficiency & acceptedness of DIY Covid testing as satisfying compliance requirements is an obvious headwind. Government bodies are increasingly allowing RAT (Rapid Antigen Tests) test results – which are becoming more readily available – to be used to determine subsequent courses of action for positive Covid cases instead of the at-clinic PCR tests which ACL specialise in.
- The fact that management did not provide guidance for FY2022 reflects the company’s board having their own levels of uncertainty moving forward. The market typically rewards predictability & penalises uncertainty, and the share price has been penalised accordingly for much of the start of calendar year 2022.
- ACL have announced they’re expecting a large increase in income tax paid in the rest of FY2022 “due to self revision of required instalment rate”, which will further eat into profits.
- Seeing Covid testing is higher margin than their core business, some of the impressive figures reported in recent financials are likely not sustainable. There’s also always the fear that the government might reassess how much they’re being charged for testing services & look to tighten up the budget as well.
- The company will continue to need to be smart with acquisitions, given they likely can’t rely on Covid testing forever. Likewise, much spending more on subdivisions such as clinical trials end up contributing to the bottom line is as yet fairly unclear.
- While the company has paid 50-70% of their NPAT as a dividend and this has as a result been quite strong, the ability to maintain such a consistent yield if their windfall Covid test numbers tumble may be in question.
Summary: How you feel about ACL as an investment will likely coincide with where you feel Covid testing – and how we handle Covid as a virus in general – will land as part of the ‘new normal’ moving forward.
The pathology sector has been one of the true ‘winners’ of the pandemic as much as it sucks to utter such a phrase, with record-breaking testing volumes pumping up the balance sheets of its constituent companies.
As a result, its share price performance in the future is probably going to be about as unpredictable as Covid itself.
News about new variants could pop up at any time, and in a case such as that then companies such as ACL serve as a potential hedge and instantly become even better value – at least for the short-term.
Outside of Covid-specific operations, the company has at least proven they can both make & integrate solid acquisitions with their cash.
They have also taken steps to future-proof themselves somewhat with more standard testing & clinical trials capacity to hopefully fill some of the shortfall once peak Covid testing volumes remain reduced.
Fundamentally, ACL looks like it’s “good value” versus its immediate listed competitors, but even that “value” valuation is based on it only existing during about the best possible conditions for a viral testing company one could hope for.
Management of the company also looks strong, with massive amounts of medical experience on its board specific to pathology and pretty much all board members with a decent amount of ‘skin in the game’ courtesy of their several-million-dollars worth of shares owned.
In the short time they’ve been listed, they’ve made solid moves between logical acquisitions & expansion, paying off debt, and not going overboard with dividend payments while still being reasonable in terms of yield.
Conclusion: With such a short history behind it on the ASX, and with such fluctuating macro factors taking place for the entire period, this is one of the more difficult stocks to get a handle on we’ve taken a look at.
If Covid (and its PCR testing requirements) continue to recede, then this looks like a stock that is solid fundamentally but doesn’t offer anything spectacular in terms of potential growth.
Attempting to duplicate year on year results increases with such a high baseline of numbers in its previous results may be extremely difficult in terms of getting the share price to rise; especially seeing the market seems to be undervaluing its shares at least slightly already.
If the perception is that the company’s immediate potential has already peaked – and people were only willing to cap it out at a maximum ~$6 share price – then that doesn’t exactly bode well for returns no matter how fundamentally solid it is.
The wildcard for ACL remains to be that there’s always the chance of another Covid variant rearing its ugly head. Wile this is definitely not something anyone should want for society as a whole, it would still reignite strong tailwinds for ACL again.
If this does happen – or at least maintain reasonable test volumes once things normalise – then their profit margins are so strong that this becomes much more attractive.
Otherwise, while there doesn’t seem to be too much negatively about its base business, at best it might simply be a slow-grower that pays a decent dividend and steadily builds a few percent per year over time.
Looks like there’s not much to do other than wait and see what happens with this one, or buy in and take a gamble on the sustained prevalence of Covid moving forward – what do you think?
Let us know in the comments below.
Company website: https://www.clinicallabs.com.au/
MarketIndex page: https://www.marketindex.com.au/asx/acl
Feel free to add your own opinions on ACL in the comments below.
Would you buy this stock? Why or why not? Feel free to vote in the poll.
