Owens & Minor Inc.: Irresistible Yield, Irresistible Valuation
Recently, I have had several requests to write an article about Owens & Minor Inc (OMI). I had not looked at this company in a while, and boy oh, boy, was I surprised at what I found. Owens & Minor is on the “Dividend Contender” list produced by David Fish. Owens & Minor has raised its dividend for 20 consecutive years which leaves it only 5 years away from “Dividend Champion” status. Therefore, I consider Owens & Minor a classic dividend growth stock that is extremely undervalued.
Nevertheless, the majority of high-quality dividend growth stocks (Champions, Contenders and Challengers) are being richly-valued by the market today, but not Owens & Minor. Consequently, I was thrilled to discover that Owens & Minor was available at a very attractive blended P/E ratio of only 12 and is currently available at the highest dividend yield the company has ever offered in its history. Both of those valuation metrics are too compelling to ignore.
As a result, I believe that Owens & Minor represents a compelling long-term investment opportunity. Moreover, I further believe that the market has dramatically overreacted to negative issues that I contend are mostly temporary in nature. Yes, Owens & Minor did lose an important customer (Kaiser), and yes, their industry has suffered from price pressure and competitive bidding. However, they have made several acquisitions that promise to replace those revenues, and management has reported that pricing is beginning to normalize.
Therefore, the bottom line is that Owens & Minor is currently a compelling long-term dividend growth and total return opportunity. Moreover, I want to be clear that the most compelling opportunity I see with Owens & Minor is with its valuation. Simply stated, it is Owens & Minor’s low valuation that has created the highest dividend yield that the company has ever offered. Furthermore, it is Owens & Minor’s low valuation coupled with its current reorganization and numerous acquisitions that has created a rare and compelling total return opportunity with an above-average current and growing dividend yield.
Owens & Minor, Inc. At a Glance
Owens & Minor is the smallest of the premier healthcare distributors. Healthcare is undeniably a high growth industry due to compelling demographics. However, Owens & Minor does business in a segment of the healthcare industry that offers highly commoditized medical consumables. Owens & Minor sells low tech consumable medical products such as disposable gloves, surgical gowns, syringes, sterile trays, etc.
Consequently, Owens & Minor generates razor thin net profit margins and only moderate gross profit margins. However, thanks to the demographic forces referenced above, the company has been steadily-increasing gross revenues at approximately a 5% rate. Additionally, I consider the company a quasi-cyclical earnings and cash flow generator but with a strong dividend growth record.
“Owens & Minor Description Courtesy Zacks:
Owens & Minor, Inc. is a global healthcare solutions company dedicated to Connecting the World of Medical Products to the Point of CareSM by providing vital supply chain services to healthcare providers and manufacturers of healthcare products.
Owens & Minor provides logistics services across the spectrum of medical products from disposable medical supplies to devices and implants. With logistics platforms strategically located in the United States and Europe, Owens & Minor serves markets where three quarters of global healthcare spending occurs.
Owens & Minor’s customers span the healthcare market from independent hospitals to large integrated healthcare networks, as well as group purchasing organizations, healthcare products manufacturers, the federal government, and healthcare patients at home through the Byram Healthcare subsidiary.”
Note: my series of articles for 2018 will be written to present what appear to be attractively valued research candidates that also reflect a timeless value investing principle. Therefore, my secondary objective for 2018 articles will be to provide pre-screened and apparently attractively-valued research candidates available for different investment objectives. I decided to do this because one of the biggest complaints I am hearing from investors today is that it’s hard to find attractively-valued investments in this overheated market. Keep in mind that in every market – whether it is a bull market or a bear market – there will be attractively-valued stocks to be found.
Consequently, my 2018 articles will be oriented towards providing a “buy the numbers” fundamental evaluation of each candidate presented. Therefore, my goal is to screen and provide attractively-valued common stock investments that investors can research deeper on their own. Importantly, many of these candidates will be presented prior to my conducting a comprehensive research and due diligence process. As a result, I will be able to provide loyal readers with many more opportunities than I could if I waited to write the article after I spent the time and effort to conduct extensive research.
Nevertheless, I offer the following 2 links that can get the reader started on a more comprehensive research and due diligence process on Owens & Minor Inc. The first found here is to an article authored by William Knox Lang that I feel provides a great overview and summary of Owens & Minor.
This next link found here directs you to Owens & Minor’s presentation at the J.P. Morgan healthcare conference on January 10, 2018.
Hopefully, these links can give the reader a jumpstart on understanding Owens & Minor, its business and its investment opportunity. However, my primary goal is to provide the reader a foundation of fundamental analysis by the numbers. My secondary objective is to provide the reader with candidates that are worthy of them spending the time and energy to research deeper. On the other hand, the underlying theme of all of my 2018 articles is to present an attractive investment opportunity that simultaneously articulates an important value investing principle. The value investing principle presented in this article is:
Value Investing Principle: Price and Value are Different Things
This is the first of a two-part series introducing the principles behind valuation, a/k/a intrinsic value. This discussion is offered as a common sense based look at the essence of valuation, how it applies to the investing process and why it’s important. Rather than present a how to calculate valuation course, I will discuss how to recognize value and how to align expectations based on what valuation dictates future potential returns will be. In short, I am going to look at what is the proper P/E ratio that a stock should trade at and why. I believe the best way to understand this is from the perspective of owning your own private business.
So let’s assume you own a business that generates $100,000 per year of net income for you based on profits. Question: Would you sell it to me for $100,000? The answer should be obvious and illuminate the primary principle behind valuation. Any company, public or private, is worth more than one times earnings or a P/E ratio of one. The question is how much or how many times more?
The correct answer to this critical question of valuation can only be determined relative to the growth of the business. Remember that a business, any business, gets its value from the cash flow it generates for stakeholders. Also take note that even a no-growth fixed income investment, bond, CD, etc., sells at a multiple of its income stream. For example, a 5% bond is technically being issued at 20 times interest, an 8% bond at 12 ½ times interest. This establishes a base line of valuation, since all income streams are obviously worth a multiple of themselves even when there is zero growth.
When there is growth, there are three primary calculations of valuation relative to growth to consider. The first level is from zero to 5%. The second is from 5% to approximately 15% (note: this is where the majority of stocks fall), and the third and final is for 15% growth and above. In the classic investing book, “The Intelligent Investor”, Ben Graham offered a rule of thumb formula to determine the fair P/E ratio, and it works beautifully for companies growing at low or below average rates.
As an aside, although Ben’s formula is quite useful, it is not perfect. The reason the formula is not perfect is due to the dynamic nature of a company’s earnings growth rates. For example, as in the case of a quasi-cyclical like Owens & Minor, earnings growth rates vary dramatically over different time frames measured. As a result, there will be periods of time when earnings growth is above average, average, and below average. These varying rates of earnings growth can and will dictate relative valuation levels as they pertain to each respective time frame (I will be covering this principle more comprehensively in the video portion of this article).
The following is a condensed version: PE = 8.5 + 2 times the growth rate. Graham surmised that any company, even a slow grower, was worth at least 8.5 times earnings, plus its growth rate kicker. I developed a version of the fundamental analyzer tool to calculate Graham’s view and use it for a perspective of valuation when analyzing a stock for potential investment that grows at less than 5%. Remember, your capital appreciation (price gain) will correlate to the company’s growth rate and will be highly dependent on the valuation you pay. Additionally, it is quite common for slower growing stocks to pay a dividend, and the dividend and its growth rate will also be functionally related to the company’s earnings growth.
The moral of the story is that price is what you pay, value is what you get. The idea behind today’s post is to provide insight into fairly valuing a stock based on the P/E ratio to growth rate analysis. If you pay too high of a P/E ratio you assume higher risk for a lower return. If you pay a lower P/E ratio you assume less risk for a potentially higher return. In my next installment I will examine true growth of 15% or higher.
FAST Graphs Analyze Out Loud Video: OMI
There are many so-called investors who eschew reviewing historical fundamental operating results on the notion that history is merely rear-view mirror thinking or 20/20 hindsight. I believe they are drastically short-changing themselves. Although it is true that we can only invest in the future, it is equally true that we can learn a great deal from carefully examining the past. Because, as Sir Winston Churchill so eloquently put it: “Those who fail to learn from history are doomed to repeat it.”
They say that a picture’s worth 1000 words, but if true, then how many words is a video worth? I don’t have an exact answer, but I assure you that a well-produced video analyzing a company’s fundamental strengths and weaknesses is worth many many more. With the video format and the utilization of FAST Graphs – the fundamentals analyzer software tool – I know that I can provide a more comprehensive fundamental evaluation than I could with a long article comprised of thousands of words. Therefore, the following video highlights the compelling high-yield and total return investment opportunity I see with investing in Owens & Minor Inc.
Summary and Conclusions
With a market cap of just under $1.4 billion, Owens & Minor Inc. is a small player in a huge industry. However, Owens & Minor’s industry itself is huge and growing. Furthermore, due to political and economic pressures, the industry is rapidly consolidating. Consequently, Owens & Minor, thanks to its small size, could potentially be a takeover target for bigger and financially stronger competitors. This in itself represents an interesting reason to speculate in Owens & Minor.
However, the most compelling reason to invest in Owens & Minor is its extremely low valuation. Negative market sentiment on Owens & Minor, and the healthcare industry in general for that matter, have driven the stock price below any reasonable calculation of intrinsic value. Consequently, Owens & Minor currently offers a high dividend yield of 4.8% – which is also its highest yield in recent history.
Additionally, Owens & Minor’s P/E ratio of 12 is especially compelling when you consider the company’s recent acquisitions and the initiation of their rapid business transformation strategy. These market dynamics and business initiatives suggest a rapid acceleration of earnings and/or cash flow growth over the next couple years.
Consequently, Owens & Minor today represents a rare undervaluation opportunity in today’s mostly overheated stock market. But best of all, Owens & Minor – thanks to its low valuation – is paying you lavishly to wait for their business transformation to take effect. Therefore, I offer Owens & Minor as a compelling research candidate offering above-average yield and strong midterm capital appreciation potential.
Disclosure: No position at the time of writing.
Disclaimer: The opinions in this document are for informational and educational purposes only and should not be construed as a recommendation to buy or sell the stocks mentioned or to solicit transactions or clients. Past performance of the companies discussed may not continue and the companies may not achieve the earnings growth as predicted. The information in this document is believed to be accurate, but under no circumstances should a person act upon the information contained within. We do not recommend that anyone act upon any investment information without first consulting an investment advisor as to the suitability of such investments for his specific situation.