ICU Medical Ends Year With Some Stability

Narrow-moat ICU Medical’s ICUI full-year revenue came in just slightly higher than our estimate due to good fourth-quarter results from Smiths Medical and margins roughly as expected. We reiterate there is a strong runway for growth and margin improvement in the next few years for the newly combined firm. Also, while 2023 guidance looks slightly weaker than anticipated, at first glance, we expect to maintain our $195 fair value estimate.

We were pleased to see another quarter without large, unanticipated issues from Smiths, and with that stability and a low bar set for 2023, we remain hopeful ICU is hitting its trough before a turnaround. Our main focus now is on the length of the integration runway and how fast management can execute. Looking at recent results, there is a significant discrepancy between the firm’s pre- and post-acquisition financials. Nearly 10% of Smiths’ revenue appears to have been lost, likely due to the impact of serious quality and delivery issues in recent years, and margins have been much lower than premerger levels.

We believe the strongest potential for margin improvement will come from price increases to match rising costs. Cost inflation has been significant, and 2022′s gross margin was dragged down about 200 basis points due to increased manufacturing costs, another 200 basis points owing to higher logistics expenses, and 100 basis points from currency headwinds. Management has been hesitant to raise prices in proportion to costs, as the firm is focused on winning back Smiths’ clients. Once the firm regains client goodwill, there is ample room to grow sales and margins through price. The second source of improvement may come from efficiency. This year was spent solving issues related to quality, efficiency, and fulfillment in the Smiths business, leaving little room for planned synergy initiatives. The firm’s plans to unify IT and support infrastructure between both businesses, and once realized should lead to further margin improvement.