Company Reports

GLP-1 drug use is increasing materially in patients with diabetes and obesity, and uncertainty around GLP-1 expansion has added risk to dialysis stocks even as pandemic challenges, including excess mortality and labor costs, are easing for the narrow moat dialysis companies we cover—Baxter, DaVita, Fresenius Medical Care, and Fresenius SE. Despite the concerns, new data rolling in on GLP-1s appears roughly in line with our view that GLP-1 expansion should not materially affect dialysis demand for at least the next decade, as mildly extended kidney disease progression to dialysis may be largely offset by cardiac and first-year survival, or "crash," benefits. Considering this roughly neutral outlook, we find the significant discounts to fair value in dialysis-related stocks compelling.

Shares of dialysis-related narrow-moat companies Baxter, DaVita, Fresenius Medical Care, and Fresenius SE rose materially on news from a kidney-related trial of Novo Nordisk's obesity drug Ozempic (semaglutide). Similar to the 20% reduction in cardiac events seen in another trial for semaglutide (Novo Nordisk's Wegovy) in 2023, Ozempic was found to reduce the risk of major kidney disease-related events by 24%, including cardiac events, deaths, and kidney disease progression. Dialysis investors appear relieved that the reduction in all of those events wasn't much larger than the cardiac event benefits already seen in recent trials, suggesting that GLP-1s like semaglutide probably are not ushering in a paradigm shift in kidney disease progression. Baxter, Fresenius Medical Care, and Fresenius SE all trade at material discounts to our fair value estimates even after their shares' rise in early trading March 5.

Narrow-moat Baxter turned in fourth-quarter and full-year 2023 results that were roughly in line with our expectations. Positively, Baxter's 2024 outlook looks a bit stronger than we were anticipating, and we are keeping our $67 fair value estimate intact. However, shares may be reacting to a weak outlook relative to FactSet consensus, suggesting that some analyst estimates may decline, although our profit expectations are rising slightly on improving trends.

Shares of narrow-moat Baxter appear heavily discounted below our $67 fair value estimate because of recent cost and contractual pressures that have eaten into the firm's profitability. However, we expect many of those pressures to ease by 2025, which should improve the outlook and market sentiment for its undervalued shares, eventually.

Although the 2015 Baxalta spinoff was successful, Baxter's financial results fell substantially in 2022-23 on external pressures, such as inflation and weak medical utilization trends. We see these external pressures easing. Also, we suspect Baxter's financial prospects will improve, especially in 2025 and beyond, as hospitals renegotiate their reimbursement deals with third-party payers, and as Baxter renegotiates significant contracts, a key group purchasing organization among them.

Narrow-moat Baxter mildly exceeded expectations in the third quarter, and management largely maintained its 2023 outlook. Our near-term estimates remain roughly in line with these expectations, and we are keeping our $67 fair value estimate intact, well above recent trades.

Following the spinoff of Baxalta in mid-2015, Baxter's new management team has focused on increasing efficiencies and innovating in medical products, which resulted in much-improved profitability and cash flow generation. But in 2022-23, management has faced significant external challenges and internal execution issues that, in our opinion, have caused Baxter's results to fall substantially.

Shares of dialysis-related narrow-moat companies—DaVita, Fresenius Medical Care, Fresenius SE, and Baxter—all declined substantially on news that a kidney-related trial of Novo Nordisk's obesity drug Ozempic slowed the progression of kidney disease in patients with chronic kidney disease and diabetes. These results suggest the new obesity drugs may slow the incidence rate of patients needing dialysis in the long run, which we plan to account for in new fair value estimates by reducing our long-term growth assumptions in this group. With the most exposure to dialysis patient growth, we plan to reduce our fair value estimates on DaVita and Fresenius Medical Care by about 10%. Fresenius SE holds a large stake in Fresenius Medical Care, but the diversity of its operations constrained our fair value decline to the midsingle digits. Baxter's business diversity also helps blunt the impact of this news along with recently generated cash flows, and we do not plan on making any change to our Baxter fair value, although market sentiment around its 2024 kidney care spinoff valuation may be lackluster. Even with these challenges and lower fair values, we continue to view shares in these firms as significantly undervalued.

Narrow-moat Baxter mildly exceeded expectations in the second quarter, and management provided scenarios for bottom-line results that depend on the timing of the Biopharma Solutions, or BPS, sale and look slightly higher than its previous 2023 outlook. Our near-term estimates look in line with these expectations, and we do not intend to change our $67 fair value estimate. Shares remain undervalued.

Narrow-moat Baxter mildly exceeded expectations in the first quarter, and management raised its outlook for 2023. We increased our expectations for 2023 slightly, but that did not have a material impact on our $67 fair value estimate. Shares remain undervalued.

Narrow-moat Baxter mildly missed our expectations for 2022 after a weaker-than-expected fourth quarter, but its outlook for 2023 really disappointed us and caused shares to dive. We have reduced our fair value estimate to $67 per share from $85 on the company's weak trends and lower-than-expected run rate on profits and cash flows in the intermediate term. Considering the higher uncertainty around intermediate term cash flows—and consistent with our new uncertainty methodology—we are also increasing our uncertainty rating to High from Medium previously. Finally, we are reducing our capital allocation rating to Standard from Exemplary primarily based on management's weak execution in the face of ongoing challenges, which appears to be the main cause of the disappointing outlook for 2023.

Following the spinoff of Baxalta in mid-2015, Baxter's new management team has focused on increasing efficiencies and innovating in medical products. That focus has resulted in much-improved profitability and cash flow generation since then. At its 2022 investor, the company highlighted a goal for mid-single-digit sales growth primarily through new product launches and for double-digit adjusted earnings per share and free cash flow growth compounded annually. Acquisitions, like the recent combination with Hillrom (medical equipment like hospital beds with digital connection capabilities), could add to those prospects, if executed properly.

As previously signaled, Baxter unveiled divestiture plans, including spinning off its kidney care businesses (renal care and acute care segments that represent roughly 30% of Baxter sales) within the next 12-18 months and exploring strategic alternatives for its BioPharma Solutions business (about 5% of sales) that provides contract manufacturing services and has limited synergies with its other operations. Given that the value of the kidney spinoff will represent nearly all the value of these planned divestitures and flow directly to shareholders tax free, we expect to maintain our $85 fair value estimate for the combined entity at first glance. Despite the Jan. 6 share movement, we think these actions to increase strategic focus through divestitures and then improve underlying execution suggest a desire to unlock shareholder value and reinforce our Exemplary capital allocation rating. Also, considering recent share prices well below the full entity's intrinsic value, we think long-term investors should consider share weakness as an opportunity to invest in this narrow-moat medical supplier at a cheap price.

Narrow-moat Baxter roughly met expectations for the third quarter, but it trimmed its 2022 outlook for the third time in as many quarters to slightly below our expectations on an adjusted basis. Although this mild change has not materially affected our $85 fair value estimate, investors appear to be discounting Baxter shares below fair value because of the company's position on the front lines of any economic slowdown that affects global hospitals. While Baxter's near-term financial prospects are murkier than usual, we suspect its long-term prospects have not changed much. We think long-term investors should consider recent share weakness as an opportunity to invest in a high-quality medical supplier at a cheap price.

While narrow-moat Baxter appeared to roughly meet expectations in the second quarter, supply chain problems cut into its near-term outlook and sent the shares down about 10% in early trading. We are reducing our 2022 and 2023 expectations based on the headwinds Baxter's operations are facing, which has cut our fair value estimate to $85 per share from $90. The shares appear significantly undervalued at recent levels.

Following the spinoff of Baxalta in mid-2015, Baxter's new management team has focused on increasing efficiencies and innovating in medical products. That focus has resulted in much-improved profitability and cash flow generation since then. In the intermediate term, the company aims for mid-single-digit sales growth primarily through new product launches and for double-digit adjusted earnings per share and free cash flow growth compounded annually. Acquisitions, like the recent combination with Hillrom (medical equipment like hospital beds with digital connection capabilities), could add to those prospects.

Narrow-moat Baxter reported first-quarter profits that were better than anticipated. Despite these strong results, Baxter trimmed its guidance for 2022 on an expected delay in an infusion pump approval and supply chain concerns. Those factors only cut into our near-term assumptions for Baxter mildly, though, and we are maintaining our $90 fair value estimate. Baxter shares appear moderately undervalued to us.

Following the spin-off of Baxalta in mid-2015, Baxter's new management team has focused on increasing efficiencies and innovating in medical products. That focus has resulted in much-improved profitability and cash flow generation since then. In the intermediate term, the company aims for mid-single-digit sales growth primarily through new product launches and for double-digit adjusted earnings per share and free cash flow growth compounded annually. Acquisitions, like the recent combination with Hillrom (medical equipment like hospital beds with digital connection capabilities), could add to those prospects.

Narrow-moat Baxter reported fourth-quarter results that helped it roughly meet our 2021 expectations, and management's bottom-line guidance for 2022 was in line with our estimates, too. At first glance, when incorporating a lower long-term U.S. corporate tax rate than we previously expected and including cash flows generated since our last valuation update, we may raise our fair value estimate slightly. However, the shares are declining by midsingle digits in early trading on management's weak outlook for the first quarter related to short-term challenges, including the omicron variant and inflationary pressures. This share movement appears shortsighted to us.

Baxter reported strong third-quarter results, including higher margins than we were expecting. Even after mildly increasingly our near-term profit assumptions, though, our $86 fair value estimate has not changed materially. We continue to view Baxter's moat as narrow and built on its essential dialysis and injectable therapies, which have both intangible assets and switching costs as moat sources.