Outset Medical (OM) intends to raise $175 million from the sale of its common stock in an IPO, according to an amended registration statement.
The company has developed an improved kidney dialysis device for institutional and home use.
OM is growing quickly from a low base but is producing high operating losses and cash burn.
San Jose, California-based Outset was founded to design improved hemodialysis technologies to reduce the infrastructure required to operate traditional dialysis machines.
Management is headed by president and Chief Executive Officer Ms. Leslie Trigg, who has been with the firm since November 2014 and was previously in several senior roles at Lutonix, a medical device company acquired by CR Bard.
Below is a brief overview video of the firm’s system:
The company sells its integrated system, called Tablo, which is composed of a console with integrated water purification, a single use cartridge and Tablo connectivity and data sharing.
The benefit of the system to clinics and other healthcare facilities is that they no longer need a dedicated water cleaning system just for hemodialysis machined purposes.
Outset has received at least $538 million from investors including Warburg Pincus, Fidelity, D1 Capital Partners, T. Rowe Price affiliates, Aurora Investment, Partner Fund Management and Perceptive Life Sciences.
The firm sells the Tablo system for use in either clinical settings or in the home.
In addition, the firm generates revenue from selling per-treatment consumable products related to its operation as well as services via annual service contracts.
Sales & Marketing expenses as a percentage of total revenue have been dropping as revenues have increased.
The Sales & Marketing efficiency rate, defined as how many dollars of additional new revenue are generated by each dollar of Sales & Marketing spend, rose to 0.8x in the most recent reporting period.
According to a 2017 market research report by Grand View Research, the U.S. market for hemodialysis and peritoneal dialysis reached $60 billion in value in 2015.
The report forecasts a CAGR of 6.0% from 2015 to 2025.
The main drivers for this expected growth are a rise in the incidence of renal system failure among an aging population and increased availability of services and new devices.
Also, North America accounted for 35% of total revenue in 2015, while the Asia Pacific region is expected to grow at the fastest rate by region through 2025.
Major competitive or other industry participants include:
- Fresenius Medical Care AG (FMS)
- Baxter (BAX)
- B. Braun
- Nipro (OTC:NISOF)
Outset’s recent financial results can be summarized as follows:
- Growing topline revenue
- Negative gross profit and gross margin
- High operating losses
- High cash used in operations
Below are relevant financial results derived from the firm’s registration statement:
Source: Company registration statement
As of June 30, 2020, Outset had $148.4 million in cash and $67.2 million in total liabilities.
Free cash flow during the twelve months ended June 30, 2020, was negative ($81.8 million).
OM intends to sell 7.6 million shares of common stock at a midpoint price of $23.00 per share for gross proceeds of approximately $175 million, not including the sale of customary underwriter options.
Assuming a successful IPO at the midpoint of the proposed price range, the company’s enterprise value at IPO would approximate $791.9 million.
Excluding effects of underwriter options and private placement shares or restricted stock, if any, the float to outstanding shares ratio will be approximately 19.19%.
Per the firm’s most recent regulatory filing, the firm plans to use the net proceeds as follows:
approximately $77 million to expand our sales and support organization;
approximately $34 million for research and development activities; and
the remainder for working capital and other general corporate purposes.
Management’s presentation of the company roadshow is available here.
Listed underwriters of the IPO are BofA Securities, Morgan Stanley, Goldman Sachs, SVB Leerink, and Stifel.
Outset is seeking public investment to continue commercialization of its Tablo dialysis system.
OM recently received approval to place the system into end user homes, increasing the total addressable market significantly.
The firm’s financials show strong revenue growth from a low base, high operating losses and operating cash burn.
Sales and marketing expenses as a percentage of total revenue have been dropping and the company’s sales and marketing efficiency rate has grown, even during the Covid-19 pandemic.
The market opportunity for dialysis is extremely large and expected to grow at a moderate rate in percentage terms, but substantial growth in nominal terms.
BofA Securities is the lead left underwriter and IPOs led by the firm over the last 12-month period have generated an average return of 80.1% since their IPO. This is a top-tier performance for all major underwriters during the period.
As to valuation, management is asking IPO investors to pay an EV/Revenue multiple of 27.6x.
By comparison, a Q4 2019 valuation study by Mercer Capital for the Medical Devices and Healthcare Technology sectors indicated a 3Q 2019 high multiple of 9.05x and 6.65x respectively.
While I expect Outset to continue its growth trajectory, I have strong concerns about paying such an apparent 3x to 4x premium at IPO, especially for a firm that is producing such high and increasing operating losses and operating cash burn.
Given my concern, my opinion on the IPO is NEUTRAL due to excessive valuation.
Expected IPO Pricing Date: September 14, 2020.
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(I have no position in any stocks mentioned as of the article date, no plans to initiate any positions within the next 48 hours, and no business relationship with any company whose stock is mentioned in this article. IPO stocks can be very volatile in the days immediately after an IPO. Information provided is for educational purposes only, may be in error, incomplete or out of date, and does not constitute financial, legal, or investment advice.)
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