Patterson Companies, Inc. Has Proven Itself

Summary

• In the last earnings report, Patterson Companies, Inc. saw a small increase in sales but instead managed to increase the net margins and impress investors.
• The management has a focus on giving back to shareholders in the shape of dividends.
• Operating in a growing market filled with tailwinds I believe the company offers a good entry point right now, especially after a broader market downturn.

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Investment Thesis

Patterson Companies, Inc. (NASDAQ:PDCO) has shown steady performance and growth, with increasing net sales and operating margin expansion. They have a strong market position and benefit from tailwinds such as the growing demand for animal health products and services. However, investors should be aware of risks such as potential supply chain disruptions and regulatory changes. A margin expansion is possible in such a rapidly growing market where a company like Patterson will be able to pass down costs to customers.

When comparing Patterson's valuation metrics to peers in the industry, the company appears undervalued and has the potential for further growth.

Overall, Patterson Companies presents a compelling investment opportunity for long-term investors seeking exposure to the animal health and dental products markets. With its solid financial performance and growth prospects, Patterson Companies is a buy.

Market Tailwinds

Patterson Companies operates in the dental and animal health markets, which are both expected to grow in the coming years. In the dental market, factors such as increasing awareness of oral health, rising demand for cosmetic dentistry, and the growing aging population are driving growth. In the animal health market, there is an increasing focus on pet health and wellness, as well as growing demand for livestock production.

Patterson Companies has some tailwinds working in its favor. The company's strong value proposition to customers, strategic focus on operational excellence, improved mix, and disciplined expense management are driving operating margin expansion in both business segments. This has led to an increase in adjusted net income attributable to Patterson Companies, Inc. in the third quarter of fiscal 2023, primarily due to operating margin expansion in both business segments.

Company Highlights (Investor Presentation)

According to research by MarketsandMarkets, the global dental market is expected to grow from $24.7 billion in 2020 to $36.8 billion by 2025, at a CAGR of 8.4% during the forecast period. Similarly, the animal health market is projected to grow from $53.2 billion in 2020 to $71.7 billion by 2026, at a CAGR of 4.8% during the forecast period.

Market Outlook (Earnings Report)

Overall, Patterson Companies is well-positioned to benefit from the growth in both the dental and animal health markets. With a strong focus on operational excellence and disciplined expense management, the company is well-equipped to drive further margin expansion and increase shareholder value.

Revenue Breakdown

Patterson Companies continues to demonstrate steady growth, with reported net sales increasing 0.3 percent YoY to $1.6 billion, and internal sales increasing 1.8 percent. The company also delivered third-quarter GAAP earnings of $0.55 per diluted share and adjusted earnings of $0.62 per diluted share, representing a 13 percent increase over the prior year. The company's strong value proposition to customers, strategic focus on operational excellence, and disciplined expense management have helped drive operating margin expansion for the business overall and within both the Dental and Animal Health segments.

Revenue Highlight (Earnings Report)

Don Zurbay, President and CEO of Patterson Companies, expressed confidence in the company's ability to achieve its goals, stating, "Our guidance reflects confidence in our ability to achieve our goals to deliver year-over-year internal sales growth and adjusted operating margin expansion in fiscal 2023."

The company's balance sheet and capital allocation also demonstrate a strong commitment to returning value to shareholders. During the first nine months of fiscal 2023, Patterson Companies returned $91.0 million to shareholders through cash dividends and share repurchases. The company declared a quarterly cash dividend of $0.26 per share and returned $25.2 million in cash dividends to shareholders in the third quarter of fiscal 2023.

In conclusion, Patterson Companies' steady growth, commitment to operational excellence and disciplined expense management, and dedication to returning value to shareholders make it a solid investment choice.

Risks

The company's ability to compete effectively could be impacted by factors such as pricing pressure, product availability, and changes in consumer behavior.

Another risk is the potential for supply chain disruptions. The COVID-19 pandemic has highlighted the vulnerability of global supply chains, and any disruptions in the supply chain could impact the company's ability to deliver products to its customers. In addition, the company is exposed to foreign currency exchange rate risk, which could impact its financial results.

The company's dependence on a few large customers is also a risk factor. A loss of a major customer could significantly impact the company's revenue and financial performance. Moreover, the company operates in a highly regulated environment, and changes in regulations could affect the company's operations and financial results.

Besides the risks stated above, the negative operating cash flows are a concern. Looking at just the way operating cash flows are, they seem like a glaring red flag as they moved from negative $834 million to a negative $728 million. An improvement but not necessarily enough. But when we take into account and adjust for working capital then the operating cash flow would have increased to a positive $212 million. A step in the right direction for the company, but one has to admit that the operating cash flows are a thorn in the side of an investment, but with the estimated growth the industry is expected to have, some risks might not be avoidable to capitalize on these trends.

Overall, while Patterson Companies operates in a growing market with several tailwinds, investors should be aware of the risks and challenges the company faces in a highly competitive and regulated industry.

Valuation and Conclusion

Patterson Companies, Inc is currently trading at a forward price-to-earnings (P/E) ratio of around 11.63, which is slightly below the industry average of 15.8x. The company's forward price-to-sales (P/S) ratio of 0.4 is also below the industry average of 1.5x.

When compared to its peers, Patterson Companies seems to be undervalued. Its P/E ratio is lower than many of its competitors, including Henry Schein, Inc. (HSIC) and DENTSPLY SIRONA Inc. (XRAY), which have P/E ratios of 20.9x and 28.4x, respectively. Additionally, Patterson's P/S ratio is lower than that of many of its competitors, including Henry Schein and Benco Dental Supply Co., which have P/S ratios of 1.1x and 1.0x, respectively.

Stock Price (Seeking Alpha)

Overall, Patterson Companies seems to be undervalued when compared to its peers. While the company faces some headwinds in the short term, it also benefits from tailwinds in the form of a growing dental and animal health market. However, investors should also be aware of the risks associated with Patterson's dependence on a small number of large customers, as well as potential regulatory and economic risks.

Given the undervalued position of the company and the tailwinds expected in the market, we believe that Patterson Companies presents an attractive investment opportunity for investors with a long-term investment horizon. Therefore, I would recommend a buy stance for the company.

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.