Choclear: Oticon acquisition expands install base on the cheap

About the author:

Author name:

By Dr Derek Jellinek

Job title:

Senior Analyst

Date posted:

04 May 2022, 8:35 AM

Sectors Covered:

Healthcare

• COH is looking to pick up Demant's Oticon hearing implant business for DKK850 (A$170m), funded on a cash and debt-free basis, after the Danish company's strategic decision to divest the business, with closure 2H22.
• While the acquisition is expected to add A$75-80m in revenue, the business is loss making, with management's post-closing priority to “determine and implement a plan that returns the business to profitability as quickly as possible”.
• We view access to a 75k+ installed base, which COH has agreed to provide ongoing support, and fortifying its position in the bone-anchored hearing aid segment, as the driving force behind the deal, as sound processors/services can be developed to leverage this platform over time.
• At c2.2x sales, the deal looks attractive and we view few impediments to closure.
• We make no changes to our estimates, with our target price increasing to (Morgans clients login to view) on a multiple roll forward. Add.

Event

• COH intends to acquire Oticon Medical's hearing implant business (comprises cochlear implants (CI) and bone anchored hearing systems (BAHS)) from Denmark-based Demant (OMXC: DEMANT.CO) for DKK850m cash (cA$170m; 88% at closing; 12% within 18 months after closing), following Demant's decision to divest the business.
• Integration costs, which include the development of compatible next generation sound processors, are yet to be determined and could range from A$30-60m. 
• Closing is expected 2H22, subject to regulatory approvals and other customary conditions.

Analysis

• While the Oticon business was established 15 years ago and has built an installed base of more than 75k hearing implant recipients, which COH has agreed to provide ongoing support as part of the transaction, Demant has struggled to realise its full potential, despite leveraging its strong hearing aid franchise, with the final straw likely last year's recall of two implants (Neuro Zti EVO and CLA) due to communication loss with sound processors.
• Although Oticon controls a substantial share of the BAHS market, the entire implant business comprises c5% global market share, so we do not foresee any regulatory impediments to close.
• The acquisition would add A$75-80m in revenue (which represents c4% topline uplift), but the business is unprofitable, with management stating a post-closing priority is to “determine and implement a plan that returns the business to profitability as quickly as possible”.
• As such, the acquisition is earnings and return dilutive, at least in the near/medium term, but management reiterated its long-term 18% NPM target, suggesting it believes it can succeed where Demant failed in turning around the business, and at 2.2x, the hurdle looks low to generate an adequate return, in our view.

Forecast and valuation update

• We make no changes to earnings forecasts as this time.
• We roll forward our multiples, which sees our blended DCF, PE and EV/EBITDA based price target increase.

Investment view

• While we continue to believe a full recovery from COVID-based disruptions still has time to play out, improving demand and strong pipeline, coupled with management's increasing confidence, is all suggestive of an improving earnings profile.

Price catalysts

• Sonova (SOON.SW - not covered) FY22 results 17 May-22.

Risks

• COVID impacts; faster/slower growth across product lines; Services volume driving/slowing market penetration; decreased/increased costs; FX impacts; and increasing/lessening competitive threats.

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