Insulet: Enthusiasm Might Be Too High (NASDAQ:PODD)

Insulet Corporation (NASDAQ:PODD) recently announced a small bolt-on deal, sufficient of a reason to start covering this company. With a new device launch announced last year, investors are anticipating strong (earnings) growth, badly needed as valuations are extremely demanding here.

Starting From Scratch – Diabetes

Insulet has a mission to simplify the lives of people who have diabetes. Through its Omnipod platform, it focuses on reducing the burden of diabetes and improving outcome for patients.

The opportunity is huge, as more than half a billion people in the world suffer from diabetes, of which some 64 million (estimated) require insulin. The company thinks that it focuses on a total addressable market (“TAM”) which measures 11 million people, 40% of whom are diagnosed with type 1 and the remainder with type 2 diabetes.

The company’s developed Omnipod solution is adopted by a low percentage of the market, still dominated by multiple daily injections. No longer requiring needles, tubes, easily accessible, wearable and discreet are some other advantages of the Omnipod platform, as automated administration results in improved therapeutics results as well.

The company has seen huge growth over the past decade, having grown from a revenue base of just over $200 million in 2012 to surpass the billion mark in 2021. Even more so, the company turned GAAP profitable from 2018 onwards, although losses made that shareholders have seen some 50% dilution over this decade long period of time.

With revenues having more than five-folded over this period, in part offset by the dilution incurred, Insulet Corporation shares have seen huge returns. A $20 stock has risen to the $300 mark, marking a 15-times bagger over this period of time, indicating that investors are aggressively pricing in growth and the achievement of profitability.

2021 – A Base Case

In February of last year, Insulet posted a 21% increase in sales to $1.10 billion, as operating earnings rose 144% to $126 million. GAAP earnings only came in at $17 million, or $0.24 per share, following high interest expenses and debt extinguishment expenses.

Net debt was reported at $456 million, as the near-70 million shares outstanding valued shares around $17.5 billion at $250 at the time. The near $18 billion enterprise valuation was steep, equal to about 16 times reported sales, a huge multiple given the 20% growth and still somewhat modest profitability.

For 2022, the company guided for an increase in full year sales between 12 and 16%, to be accompanied by a point increase in operating margins. The company was off to a great start, with first quarter sales up 17%, including a two-point headwind from the strong dollar. In August, the company launched the Omnipod 5 automated insulin delivery system. The same month, the company posted a 14% increase in second quarter sales, this time accompanied by a four-point headwind from the strong dollar.

In November, third quarter results showed a massive acceleration in sales growth, with revenues up nearly 24%, this time including a near 5-point headwind from currency moves. Strong growth was driven by the launch of Omnipod 5, as the company raised the full year sales growth guidance to 18-19%, albeit accompanied by some margin pressure following higher manufacturing costs and supply chain issues.

That is just part of the story, as the company incurred $37 million in voluntary medical device correction and $27 million in legal costs, meaning that GAAP operating earnings for the first three quarters of the year fell from $76 million to $14 million. Lack of profitability, or better said, modest losses after interest expenses, meant that net debt rose to $685 million.

Even if we adjust for all these items, adjusted EBITDA only rose ten million to $153 million, indicating genuine margin pressure. Despite the uneven profit picture so far, enthusiasm among investors has only risen. The near 70 million shares now trade at $300, for a $21 billion equity valuation, and a slightly higher enterprise valuation. With revenues now trending near $1.4 billion, the valuation is still huge at 15 times sales, amidst 20% sales growth and lack of real margin progress, let alone profits.

2023 – Starting With Small Deals

It is clear that Insulet Corporation is regarded by the market as a topnotch player, but truth be told is that the valuation looks quite rich given the sales multiple and margin developments seen in recent times. To ignite some further growth, but more so capabilities, Insulet announced two bolt-on deals early in 2023.

In February, the company announced the acquisition of Bigfoot, or at least its assets, which focuses on pump-based automated insulin delivery technologies in a deal valued at $25 million. A day later, Insulet acquired the assets of Automated Glucose Control, another automated insulin delivery technology at the same $25 million price tag.

While these companies are not going to change the investment proposition, Insulet Corporation leverage is fairly high, and the reality is that there is a potential game changer in the house. The Omnipod 5 has been the cause of the strong growth in the third quarter, as the question is how far sales will run higher given the very receptive reaction by the market. This means that spectacular growth could be seen in 2023 (and beyond), this time likely seen by real earnings as well, but valuations are still demanding based on the current numbers, even as growth will continue for a while.

Give this dynamic, I see no reason to be involved with Insulet Corporation stock just yet. On the other hand, Insulet might be a dangerous short as well, given the superior reception of the number 5, making Insulet Corporation an interesting stock to watch, but not yet to be involved.