Owens & Minor - Improved, But Extreme Care Is Still Warranted

Summary

• I wrote about OMI, an investment I actually owned years ago, back in March. Since then, the company has been volatile, and some say the value is fair.
• I respectfully disagree with this assessment. There is a price where I'd buy OMI and call it a bargain.
• However, that price needs to consider the credit rating, history and other variables. I'll show you what price that is.
• For now, OMI is a "HOLD".

alvarez/E+ via Getty Images

On the surface, Owens & Minor (NYSE:OMI) is a decent company. Prior to the company catastrophe, it could be considered a "good" one, if it had managed its dividend better.

The company's prospects have certainly improved since I wrote about it last - and one could be excused for considering OMI positively here - but I'll show you why you should be careful with this.

(Source: Owens & Minor)

Owens & Minor - How has the company been doing?

So, the company has performed pretty well since the last article. We've seen some appreciation, and OMI has also gotten its credit rating bumped, to a junk-grade BB-. Not the greatest, but one step at a time here. Since my last article, the stock has declined almost 12% - meaning my call was the right one. However, at times, since that article, the company was up somewhat.

(Source: Seeking Alpha Article, Owens & Minor)

However, there's a case to be made that Owens & Minor might become investable in the future, once things turn around more strongly. The company has some things on its side which are not to be underestimated. These include a long, long history of 140 years, 15,000 employees, 1,200 branded manufacturers, 4,000 major customers, 95 facilities worldwide, and a portfolio of excellent products and an emerging home health care business that might drive the company towards growth once again.

It is incorrect to simply count a company like OMI out entirely. While it definitely stumbled and its dividend is now essentially zero.

However, the company has certain advantages that can't be underestimated - and COVID-19 has certainly enhanced them.

(Source: Owens & Minor)

The turnaround in terms of EBITDA and EPS is also ongoing.

(Source: Owens & Minor)

The company now has a new leadership and a new strategy and targets long-term growth through conservative leverage, increased volume, strong patient capture in direct markets, excel through good organization, and new diversification into new channels and markets.

We've already seen the results of the company's strategy. 2020 saw an impressive 277% EPS growth YoY, due to COVID-19 and the existing relationship for the company which they were able to leverage and gain further volume.

2021E is expected to improve this even further, coming in at a 70%+ EPS growth for the year compared to 2020 - though, after this, things are expected to drop off.

The company is in the midst of its transformation - and these are what the company is currently focusing on. Another focus is manufacturing capabilities - with a specific focus on nitrile gloves, where the company has improved its cost structure, with new capacities going live early 2022E.

The company is also revamping its entire product line - it has doubled its wound care product line, and intends to do similar things to its incontinence portfolio, as well as identifying more product opportunities for expansion of its proprietary products going forward.

Obviously, the company's own products sell at a distinctly higher margin than competitors selling brand products, such as Cardinal Health (CAH). The company is expanding into new end markets for its products, selling its branded gloves as cleanroom gloves, as well as launching a consumer brand of gloves.

Overall, the company's plans are going forward - and quarterly results confirm it. The company beat EPS expectations by $0.07 for 2Q21, and revenue by over $2.48B. As a result of this, the company reaffirms its 2021 guidance with an increase of nearly $0.75 per share at the top end.

In short, OMI expects to outperform for the year.

The company's global solutions segment performed well, with medical distribution, posted much improved results, with new wins, increased volumes due to in part elective procedures returning towards post-pandemic levels. Global Products, meanwhile, performed even better. Sales of surgical products and prevention products stayed stable at very high levels, which included PPE. The company's strong sales are a result of massively increased output capacity, which the company added.

The company furthermore reports a strong balance sheet, with a net leverage of 1.8x and a net debt of less than $1B at this time. Far from being unsafe, except compared to more qualitative companies, OMI even has room to expand through M&As, should they desire.

The company has an interesting perspective of post-pandemic PPE markets. Once the PPE emergency use authorization is over, the company sees this enable opportunity for the company's American-made, medical-grade PPE. The FDA has already revoked emergency use authorization for certain products without certain qualifications - and signs are clear that this is continuing.

Second, the CDC has recommended that healthcare facilities return to conventional practices, and no longer use crisis capacity strategies like bringing in non-medical grade supplies.

And third, the EUA for Decontamination and Bioburden Reduction System has been revoked. All of these actions by the federal agencies bring to light the significance of authorized medical-grade PPE in the health care setting.

(Source: Owens & Minor)

While you might expect the company to suffer when things normalize, OMI views it as an opportunity to get in on the ground floor supplying customers with America-based manufacturing capacities.

There's no mention yet of a dividend increase - though I think it will only be a matter of time before the company decides to put some of these earnings to use and right-size the dividend. Prior to the catastrophe in 2018, the company had a yield of over 5%. While I don't expect these levels for some time, investors should continue what the company "could be" - this is part of the thesis.

Let's look at valuation.

Owens & Minor - What is the valuation?

Owens & Minor carries, despite an earnings reversal, a relatively cheap level of normalized P/E valuation. The current multiple is around 9.13x, and the upside based on 5-year normalized P/E multiples of around 12.3x is around 16% per year. This is not bad.

(Source: F.A.S.T. Graphs)

You may be excused for considering the company a solid "BUY" at these valuations because, when viewed in exclusivity, this company presents an appealing upside. However, given the credit rating, the dividend yield, the forecast accuracy - all things to consider - things are more complex.

The company doesn't have an IGC rating. It doesn't have a real dividend (yes, 0.03% exists, but it's laughable). The company has over 40% 1-year failure to meet estimates based on 10% MoE-adjusted FactSet forecasts. None of these things are good - and there are many alternative investments that offer dividends, investment-grade credit, and safer upsides than does OMI here.

At what valuation could we then consider this "risk" to be worth taking?

That depends on what sort of returns you want. If you're fine waiting for this company to make a turnaround, then it could be around 40% returns on a 2-3 year basis. However, given that there are companies - in adjacent fields - that are expected to make more than that, and safer, I fail to see the appeal here.

The only option I would consider interesting would be if the upside was actually greater than the one offered by other companies. This would be the case if the company traded under 6-7x P/E under similar circumstances, which would give the company a price target of around $24-$26/share.

This puts us into a position where we see the company as overvalued to such a price target. Not overvalued in general. It's not - not to its profit expectations - but because you can get better returns from similar companies, I would highly suggest you consider alternatives if you want the best sort of returns and dividends from your investments.

Here are the current estimates and targets for the company.

(Source: S&P Global, Google Sheets)

Obviously, you see the differences in these targets. But you can also see the way the targets have more than doubled in less than a year. I can't say that the company won't reach these targets - they might. The safety, the dividends, and the quality we're looking for, however, that's not something we're getting if we invest with the expectation of these returns.

So, I'd buy anything at the right price.

That also includes Owens & Minor. But my price for the company to invest my hard-earned capital into the business, that's a steep demand I have. I don't want to pay more than $26/share.

And that is my thesis here for the time being. If the recent 3-5 months is any indication, we might see the company reach that price target.

Thesis

My thesis for OMI is as follows:

• Owens & Minor is a "broken" company, in the sense that it has no investment-grade credit, no dividend, and troubled history. However, there's a definite turnaround to be had here - and one that might be of interest to you, at the right price.
• I consider OMI a "BUY" at $24-$26/share, which makes the company a "HOLD" Today.
• While the price target is definitely demanding and conservative, consider for a moment what you're investing in, and I believe it will make sense to you.

Remember, I'm all about :

1. Buying undervalued - even if that undervaluation is slight, and not mind-numbingly massive - companies at a discount, allowing them to normalize over time and harvesting capital gains and dividends in the meantime.

2. If the company goes well beyond normalization and goes into overvaluation, I harvest gains and rotate my position into other undervalued stocks, repeating #1.

3. If the company doesn't go into overvaluation, but hovers within a fair value, or goes back down to undervaluation, I buy more as time allows.

4. I reinvest proceeds from dividends, savings from work, or other cash inflows as specified in #1.

This process has allowed me to triple my net worth in less than 7 years - and that is all I intend to continue doing (even if I don't expect the same rates of return for the next few years).

If you're interested in significantly higher returns, then I'm probably not for you. If you're interested in 10% yields, I'm not for you either.

If you however want to grow your money conservatively, safely, and harvest well-covered dividends while doing so, and your timeframe is 5-30 years, then I might be for you.

Owens & Minor is currently in a "HOLD" position due to valuation.

Thank you for reading.

Analyst’s Disclosure: I/we have no stock, option or similar derivative position in any of the companies mentioned, and no plans to initiate any such positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

While this article may sound like financial advice, please observe that the author is not a CFA or in any way licensed to give financial advice. It may be structured as such, but it is not financial advice. Investors are required and expected to do their own due diligence and research prior to any investment. Short-term trading, options trading/investment and futures trading are potentially extremely risky investment styles. They generally are not appropriate for someone with limited capital, limited investment experience, or a lack of understanding for the necessary risk tolerance involved. I own the European/Scandinavian tickers (not the ADRs) of all European/Scandinavian companies listed in my articles. I own the Canadian tickers of all Canadian stocks i write about.

Comments

[jlabate101]

So the stock went from $3.00 to $ 48.00 by doing a complete turnaround! Cut debt , increase margins , improve shipping issues etc and you’re staying away because they cut the dividend? Did you notice that Medline was partially brought out by Blackrock at a 15.5 multiple? Personally I thought Owens turn around story was amazing yes they still have some runway left for improvement but come on ! Just saying lol - Here I thought this article was going to talk about cost of raw material increase and possible shipping issues with China !

[Ron1634]

I also owned OMI and sold it after the dividend cut.
Niche distributor. Won't touch it again.

[strangern]

Thanks for the dive...Your work gives me something priceless ie more TIME.