Chart of the Week: Is CSL finally turning the ship around?
The beaten down healthcare giant remains cheap on turnaround potential.
Mentioned: CSL Ltd (CSL)
The week’s insights come from equity strategist Lochlan Halloway’s latest analysis of CSL Ltd (ASX.CSL).
CSL faces headwinds but shares remain cheap ahead of expected margin recovery
CSL is a global leader in plasma therapies, influenza vaccinations, and iron and kidney products. Shares have plummeted over 60% in the last two years on several earnings downgrades, significant impairments and fiercer competition.
Shares are undervalued as we are likely more optimistic than the market on plasma demand and margins. We forecast immunoglobulin revenue to grow at a 10-year compound annual growth rate of 5% based on flat pricing but higher volumes from population growth, rising diagnosis rates, longer duration on therapy, less mature markets and expanding use in immunodeficiencies.
We also expect plasma gross margins to lift a modestly over the next 10 years through to fiscal 2035. Most of this uplift is from efficiency initiatives enabling faster and greater yield and rationalisation of high-cost collection centers, offsetting pricing headwinds.
The big picture
The market for plasma products has become increasingly competitive and challengers have made strides at CSL’s expense. We think most cost savings will be offset by price competition on industry efficiency gains and CSL will need to be more flexible on pricing for competitive tender bidding.
The next milestone investors should look for is a meaningful reduction in blood plasma collection costs. This may include some rationalisation of capacity. CSL is also refocusing on lifecycle management of products and novel modalities to revitalise revenue growth.
The separation of CSL Seqirus is taking longer than initially planned but should eventually help CSL to turn a page and refocus on the core business. Hiring a credible new CEO and unveiling a compelling vision will be important steps on the path to a revival.
CSL has work to do but turnaround is credible
CSL is one of three Tier 1 plasma therapy companies that benefit from an oligopoly in a highly consolidated market. All the players are vertically integrated, as plasma sourcing is a key constraint in production. The plasma sourcing market is currently largely balanced with demand. CSL is well positioned, having rationalised its plasma collection centers.
One major threat to plasma products is recombinant products. Recombinants are quickly replacing plasma products in haemophilia treatment despite being more expensive. CSL has an excellent R&D track record and has developed recombinant products for haemophilia. However, we expect modest revenue growth in the haemophilia segment based on competitor Roche’s recombinant Hemlibra.
Immunoglobulin product sales are key to CSL. The use of immunoglobulins is currently growing due to improved diagnosis, rising affordability, and gaining approval for increased indications. CSL and competitors are pursuing R&D in Fc receptor-targeting therapy to treat autoimmune diseases.
However, gene therapy represents the biggest risk to the plasma industry as it aims to cure rather than treat diseases. While the potentially prohibitive cost may result in slow adoption, CSL has strategically expanded its scope via the acquisition of Calimmune in fiscal 2018 and licensing a late-stage Haemophilia B gene therapy, Hemgenix, from UniQure in fiscal 2020.
CSL is the second-largest influenza vaccine manufacturer, behind Sanofi, and is at the forefront of changes in influenza vaccines, where manufacturing is shifting from egg-based to cell-based culturing. CSL also operates an iron deficiency and nephrology business where the strategy is to increase global access to therapies, receive label expansions, and defend against generic competition.
The company evaluates R&D spend based on the commercial outlook. The strategy for CSL Behring has been to target rare diseases, a typically low-volume, high-price, and high-margin business. There is little reimbursement risk in this area or in the vaccine business, Seqirus.
Overall, we retain our $165 fair value estimate and narrow moat rating. We also retain CSL’s Standard Morningstar Capital Allocation Rating and High Morningstar Uncertainty Rating.
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