Australian Pharma Strategy Spotlight (API.AX)

Summary

  • Buy for value in the price range $1.62-$1.73
  • Buy for momentum below $1.94 when price is rising

Potential alpha

Aus Pharma is recently a high earnings growth, medium volatility stock with a market cap of $1b and turnover of $4m per day. Because of the relatively lower turnover to market cap ratio, it may take a large investment fund an entire month to get in/out of a position. This potentially increases the predictive power of price action and the profitability of trend following. Therefore there’s probably more alpha in momentum than pure value.

Qualitative notes

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  • Largest wholesaler of pharmaceuticals in Aus/NZ
  • One of the largest pharmacy franchise operators (Priceline + others), competing with Sephora
  • Total revenue of 3.8b, split is 2.7b wholesale (8% gross margin), 1.1b retail sales (21% gross margin)
  • # of Priceline stores growing at ~5% per year, same store sales growing at 3%, target is to grow retail sales to 50% of API total sales
  • Net profit increasing at 15% per year
  • WHSP sold 25m shares of their 120m holding @ a price of $2.30 (sold $50m of the company) during the spike after recent earnings
  • Senior director purchased 10k shares @ $1.89 in the recent dip
  • Vinva Investment Management announced on 14-Jun-2017 that they had built a substantial holding of 10m shares (5% of the company, $22m) at average $2.10 per share
  • Another SSH announcement, Vinva bought 119k shares and sold 402k shares @ $1.87

Valuation

Our simple model assumes a base case of API.AX revenues growing at 5% per year (current 3yr average) with profit margin unchanged. The second part of the valuation is used to estimate how many years of earnings growth at the current rate of 15% the company will see. This “growth” would likely be a result of higher profit margins from increased retail sales if their strategy to continue to improve Priceline pays off.

api valuation

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We see current intrinsic value to be around $1.70. If the company fails to deliver on their retail strategy then its more like $1.50. Because profit margin in % terms is so low, keep in mind that a small change can drastically change the calculated intrinsic value.

Strategy

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It probably pays to be more conservative on a pure value strategy for a couple of reasons:

  • Our intrinsic value calculation is super-sensitive to changes in profit margin
  • Turnover is only $4m per day and is such a low % of market cap that larger investment funds accumulating or liquidating positions can exacerbate price moves

Perhaps a better reference is the previous EV/Sales ratio of 0.225. If we assume that  this valuation is liquid, then a 5-10% discount is an obvious buy which is a price range of $1.63 – $1.72.

Our momentum strategy in the absence of news releases is to buy on rising prices up to $1.94 (5-year growth price).

 

2 thoughts on “Australian Pharma Strategy Spotlight (API.AX)

  1. Pingback: Value-Momentum Watchlist | Know Your Alpha

  2. Pingback: Value-Momentum Watchlist | Know Your Alpha

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