ResMed Silences The Doubters

This story features RESMED INC. For more info SHARE ANALYSIS: RMD

A forecast-beating jump in gross margins was the highlight in ResMed’s March quarter result.

-ResMed's quarterly beats on earnings and margins
-Further margin improvement anticipated
-No impact from GLP-1s
-Buy ratings across the board

By Greg Peel

The story over the past several months for medical device company ResMed ((RMD)) has been dominated by the arrival on the scene of GLP-1 weight-loss drugs that, it was initially assumed, would significantly reduce demand for sleep apnoea devices.

From late July to October, ResMed’s share price fell around -37%, before analysts questioned whether GLP-1s would in fact reduce device demand and evidence began to build that not only was this not the case, the opposite could be true.

At the time of writing, ResMed has now regained all of that loss. Reporting March quarter earnings on Friday, the stock jumped 9.6% on the day. In the US, where ResMed is also listed, the stock rose 18.9% on Friday night. As I write, it’s up another 4.8% today in the local market.

Margins Impress

ResMed posted an "impressive" March quarter earnings increase of 27% year on year, easily exceeding broker forecasts. This included a gain on investment, but otherwise earnings were up 24%.

US device growth rose 7% year on year, despite having risen 48% in the same quarter last year.

New patient flow is “steady”, with the overall market tracking in the mid-to-high single digits and focus now turning to driving demand generation and resupply, especially given full availability of the S11 platform expected by end of 2024.

While gross margin improvement was expected in the quarter, the 160 basis point increase was well ahead of forecasts, achieved primarily through a reduction in freight costs and manufacturing efficiencies, including inventory reduction. This was augmented further by product mix and price increases. ResMed also noted inflationary pressures from component costs were no longer a headwind, with pricing remaining stable versus the December quarter.

Strong operating leverage was achieved thanks to lower Sales, General & Administrative (SG&A) expenses, following a -5% headcount reduction in the December quarter, strong cashflows; and further de-gearing of the balance sheet.

Can it Last?

It was the faster gross margin recovery that was the highlight of the results and management remains convinced of ongoing improvement in FY25, even with a -30-50bps headwind from the spike in freight costs following the Red Sea conflict.

Morgans nonetheless believes the gains achieved in the March quarter do not appear repeatable. Management flagged a more “gradual” margin increase into FY25 on further efficiencies and improving costs, including S11 platform roll-out, new masks and automation, but timing remains uncertain and near term headwinds are increasing from the Red Sea impact, SG&A investment in marketing and demand generation activities.

Wilsons suggests the fact the drivers of margin expansion were well flagged and for some investors, late in arriving, could lead some to conclude that expansion is now done. Not the case, says this broker.

Wilsons’ sense is there is plenty more to come. “Seismic” events over the last three-four years, including covid and the Philips device recall, would have left little room for fundamental optimisation. With the business re-scaled and enjoying stability, Wilsons would expect margin-directed efficiency programs to follow.

Back in the day, when ResMed’s continuous positive airway pressure (CPAP) business was undifferentiated and the category was under materially more competitive pricing pressure, margin disciplines saved results.

It will be interesting to see, says Wilsons, what those old habits can achieve in 2024, now the category has been utterly redrawn.

Jarden assumes the gross margin growth remains flat into the June quarter from the March quarter, while management expects improvement throughout FY25 via further manufacturing efficiencies, freight savings and improving component cost terms. This improvement in FY25 will be off the exit rate of the June quarter and not the average margin across FY24.

GLP-1s

In relation to the ongoing debate on GLP-1s Obstructive Sleep Apnoea (OSA) market impact, management presented updated data from 660k (prior 529k) OSA patients prescribed GLP-1s showing not only 10.5% (prior 10%) more likely of starting Positive Airway Pressure (PAP) therapy than patients not prescribed GLP-1s, but also higher PAP re-supply rates post set-up with PAP.

The data on OSA patients prescribed GLP1s continue to show an increased likelihood of not only starting PAP therapy, but also improving re-supply rates over time versus OSA patients not prescribed GLP-1s, Morgans notes.

The claims data presented by ResMed to date suggest little impact from GLP-1 on CPAP usage. The key question from the Surmount-OSA trial, says Citi, is what percentage of participants on Zepbound achieved OSA remission/no longer required CPAP therapy – this secondary outcome should be presented with the full trial results on June 21.

Citi’s forecasts assume a rebasing of the CPAP device market over several years combined with Philips gradually regaining around 20% market share, of which 10% from ResMed.

Philips re-entry into the market was expected in 2024, but is now expected in 2026.

Views

Citi has a Buy rating and has increased its price target to $36.00 from $34.00.

Macquarie maintains Outperform and increases its target to $34.85 from $34.30.

Morgans lifts its target to $34.11 from $32.82 and retains Add.

Morgan Stanley increases to $33.70 from $31.80 with an Overweight rating.

Wilsons (Overweight) has increased its target by 9% to $36.00, while Jarden (Overweight) increases to $32.85 from $31.33.

Ord Minnett has raised its target by 2% to $40.00 and retains an Accumulate rating.

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