Hologic, Inc.

Moat: 3/5

Understandability: 3/5

Balance Sheet Health: 4/5

Hologic, Inc. is a medical technology company primarily focused on women’s health through its diagnostic and surgical products, and their related services, offering products across the continuum of care.

Investor Relations Previous Earnings Calls

The moat, understandability, and balance sheet health scores reflect a conservative evaluation to ensure a margin of safety in any assessment.

Hologic, Inc., primarily recognized for its women’s health products and diagnostics, has evolved to become a key player in the medtech space. While not a traditional consumer brand, its products and services, including breast health imaging systems, surgical solutions, and diagnostic tools, are essential to healthcare professionals and institutions.

Business Overview

Hologic operates through four main segments:

  1. Diagnostics: This segment provides diagnostic tools and tests for women’s health, including molecular diagnostics for sexually transmitted infections (STIs) and cervical health, as well as blood screening products for infectious disease.
  2. Breast Health: This division produces mammography systems, breast biopsy devices, and other related products for early cancer detection.
  3. Gyn Surgical: This area develops and markets minimally invasive surgical solutions, including hysteroscopic devices for various gynecological procedures.
  4. Skeletal Health: This smaller segment focuses on products for bone densitometry, primarily used in the assessment of osteoporosis.

Hologic’s revenue streams are quite diverse:

  • Product revenue: In the recent earnings call, product revenue was at 59%. Products include both disposables and capital equipment and is mostly driven by the Diagnostics and Breast Health divisions.
  • Service and other revenue: These accounted for 41% of the revenue in the latest quarterly filing. This is recurring revenue from service and maintenance contracts of their products, as well as training and installations.

The trend in their revenue is that it has been increasing overall driven by the volume of their Diagnostic and Breast Health segments and their sales of their products. The increase in services and other revenues is somewhat tied to that, as it is often due to installation and maintenance of equipment

Analyzing the earnings call and the latest 10-K filings also highlights the following:

  • Geographically, the US continues to be their largest market, and also growing, but international has started to become a larger portion of the revenue mix.
  • The diagnostics division remains their biggest segment, generating nearly half of their revenue, with Breast Health not too far behind.
  • The company is strategically looking to build the long-term growth of their GYN Surgical unit and the recent acquisition of Bolder Surgical (to be discussed below) appears to be strategic to this end.
  • Hologic’s management highlighted that they are making investments to support long-term revenue growth with new product launches and focus on emerging opportunities in molecular diagnostics, breast health, and surgical areas.

Financial Analysis

Earnings & Profitability

Hologic’s financials are quite impressive, as it has been consistently profitable. While net margins have fluctuated due to non-recurring charges, their operating margins are quite stable and very high.

  • Profitability: Hologic maintains above-average gross margins due to pricing power with their key products. Their operating margin, adjusted for the acquisition of GenMark, has increased year-over-year in 2023 and is projected to remain relatively high for 2024 as well. They have recently taken prices, especially in Breast health that have boosted operating margin.
  • Revenue Growth: Revenue growth has been improving after some weakness earlier in the year and has been growing across most of the company’s product portfolio, led by their Diagnostics and Breast Health segments.
  • Diluted EPS: Hologic reported impressive results in Q4 2023, above analyst consensus. They have continued stock buybacks, which boosts earnings per share.

Management is focused on controlling expenses and focusing on margin expansion. Their cost-cutting programs are having a positive impact and help the company in retaining profitability in the face of global inflation and a difficult business climate.

Balance Sheet Health

Hologic’s balance sheet is generally strong, despite several acquisitions that have increased their debt level:

  • Liquidity: The company maintains a healthy level of cash and short-term investments, providing a comfortable cushion to navigate the normal course of operations.
  • Debt Levels: Long-term debt has increased in recent years, but it is manageable in the context of their earnings and free cash flow. They do have debt outstanding as a result of financing several acquisitions but it has not gone over a level that makes them overly leveraged.
  • Equity: Equity levels are good, which means they have low risk of going insolvent. Share repurchases have also positively impacted equity, even though they have reduced total liquidity and also shareholder control.

Hologic, while heavily leveraged and with increasing intangible assets, has proven that it can manage its obligations and continue to be very profitable. They have been reducing debt over the last few years, which makes their balance sheet a very healthy 4, but not a perfect 5.

Recent Concerns/Controversies and Management Response

Here are some recent issues that the management team at Hologic has addressed in recent quarters:

  • Restructuring: The company implemented a large restructuring plan to reduce operating costs after its acquisition of Mobidiag. Management expects the benefits of this restructuring to be realized in the coming quarters as costs are lowered and profits increase.
  • Supply Chain Issues: Like many companies, they have been affected by the global supply chain disruption. There have been shortages of components, which have driven up the costs of production. Management believes these issues have now been dealt with and they do not anticipate them becoming a problem again for the time being.
  • Inflation: Inflation is a major concern, and they expect continued challenges regarding input costs. Management is focusing on reducing other costs, like streamlining operations and improving supply chains, to offset any negative impact.

Management has admitted that some problems with the supply chain were their own doing. For example, when their products did not sell as well during COVID, they cut inventories, but didn’t anticipate the rapid recovery to the levels that happened. This lack of planning was a mistake from management, and they stated that they have learned valuable lessons to avoid such problems in the future.

Moat Analysis: 3 / 5

Hologic has a decent moat, but it isn’t as wide as some of the best in class firms. Here’s a breakdown of why:

  1. Intangible Assets (Brand and Patents):
    • Hologic benefits significantly from its recognized and trusted brand image, particularly in the Breast Health and diagnostics sectors. They have numerous trademarks and registered branding for their products, all of which create more consumer trust.
    • They have a sizeable and well-protected patent portfolio covering many of their core products that prevent new companies from easily copying their designs and processes.
  2. Switching Costs:
    • Their high switching costs are their biggest source of moat. For medical personnel, changing to a different system for cancer detection, diagnostic testing, or gynaecological surgery can cause considerable costs related to training and integrations with legacy software. Because of this, once they have a customer, most clients are reluctant to switch to a new provider, as the benefits will usually not outweigh the costs.
  3. Cost Advantages:
    • Scale advantage is a positive driver. Their larger operations in some niches allow them to cut costs significantly over competitors. These savings are particularly useful during contract renewal, where they can offer discounts or special pricing to keep customers with them.

Hologic’s moat is not invulnerable, and relies heavily on their technical and product advantage, which has a higher chance of being eroded over time than other sources of moats, such as network economics. While the cost advantage and regulatory approvals are strong, their moat will likely remain at a strong, but not super-wide, level.

Risks To The Moat and Business Resilience

  1. Technological Disruption: The medical technology space is subject to continuous disruption and improvement. The company needs to continually invest and update their product portfolio to keep in step with competitors.
  2. Increased Competition: Competition in areas such as cancer detection and diagnostics is tough, especially with many well-funded competitors trying to come out with new technology that could displace Hologic’s. This could result in margin and profit pressures.
  3. Regulation: The medical technology sector is heavily regulated. Changes in regulations, pricing, reimbursement, or even access to government funded testing could damage the company’s profitability and margins. The recent rule-changes implemented by the FDA and the European health agencies are something that will need careful attention from management.
  4. Macroeconomic Conditions: An economic downturn, high inflation, or increased interest rates could decrease demand for the company’s products as hospitals and healthcare facilities cut capital expenditures.
  5. Product Liability: Given their product portfolio, one that spans across surgery and diagnostic, the risk of liability suits for faulty operation or defects is always present.
  • In the latest earnings calls, the management have focused on how they are working with their suppliers to ensure high quality and reliability of their equipment. This is something they are putting more emphasis on to mitigate the risks of a quality or functionality breakdown.

While the above risks are significant, Hologic’s business is generally resilient because of the strong demand for healthcare products and the non-cyclical nature of medical spending. However, they need to focus on innovating new products and improving their business efficiency to offset some risks.

Understandability: 3 / 5

While Hologic’s financial statements, especially when looking at its segment level and notes, can seem quite complex, but its overall business is still reasonably understandable:

  • The product mix is pretty simple to understand, as most of them involve either diagnostic testing or tools, imaging machinery, and surgical instruments. They are not all connected, and a business that is simply a combination of its parts can be a little difficult to navigate.
  • You can assess the potential for the growth of these divisions rather accurately, if you understand their basic business plan.
  • Their competitive moat and edge is also fairly easy to understand and analyze.

The added layer of complexity comes with multiple acquisitions, the joint ventures they engage in, and also the different and sometimes confusing accounting rules they follow, as well as their use of non-GAAP financial results.

Because of all of this, Hologic’s core business is relatively easy to understand, but its complexities, and how they relate to its value, can make it a 3 on the scale of understandability.

Balance Sheet Health: 4 / 5

Hologic has a good balance sheet, with an adequate amount of liquidity and a manageable level of debt:

  • Their quick ratio is 1.1 which is a healthy level
  • Their debt-to-equity has been high in the past, but has improved recently. It is also tied to the cost of debt, which the company has acknowledged in recent earnings calls and has been actively working to reduce this.
  • Their Altman Z score of 2.6 points to a financially healthy company, which is above the threshold level of distress.

The company’s biggest financial liability and risk would be related to its debt, which has increased in recent years because of the multiple acquisitions they have undertaken. But for now, it is manageable, and does not pose a huge risk to the solvency of the company.

In Conclusion: Hologic has proven that it has good management at the helm, a clear strategy for growth and revenue, a well defined competitive moat (but not very wide), and solid financials. It also has several tailwinds driving growth in its core segments, which should help it expand and benefit from future trends. It makes it a reasonably good buy.