Ann: Financial Results Presentation FY2019, page-10

"Not sure about this one. Their normalised profit in 2017 was about $29m, their profit in 2018 was $21m, the figure in 2019 was $20m and, in their outlook, they suggest there's a chance that the departure of the five fertility specialists will reduce the profit for 2020 by an amount between $1.5m and $2.5m, so, maybe a profit of $18m. Those numbers won't provide the sort of graph you usually present in these forums.
I agree that free cash flows are solid for this business and, of course the price may get back to $1.25 but I don't think there's not enough comfort there given the trend. Good luck with this one. "


@gragou02,

You are right; this sector has not exactly covered itself in glory during its relatively short listed life. So your scepticism is justified.

However, I think that a look at some of the detail behind that unfavourable earnings trend that you have referenced, is warranted.

Firstly, you list the "normalised earnings" for FY2017, FY2018 and FY2019 being, respectively, $29m, $21m and $20m.

Without wanting to split hairs, that $20m figure you quote for FY2019 reflects reported earnings (which was $19.81m), which includes a $1.46m provision (Pre-Tax) for the closure of the Mosman clinic (~$1m) and separation costs relating to the previous CEO ($0.46m). Excluding that item normalised profit was $21m, which is on par with FY2018 (which was a clean result and did not involve any one-off items).

This might seem trivial but I think a flat FY2019 result is quite credible given the tough economic climate that prevailed during the year, especially during the second-half, which saw the peak in negative publicity surrounding the falling property market as well as the usual uncertainty around a federal election.

Also, what that result also does, I think, is indicate that the earnings have found a base after being under pressure since the FY2016/17 EBIT peak, which occurred soon after listing.

In that vein, I think it is important to not just look at what the bottom-line has been doing over time, but what the drivers of that bottom-line trend have been doing... see table below which compares the two years (FY2018 and FY2019) since the departure of the much-vaunted, Melbourne-based revenue generating practitioner:



As can be seen, the problem for MVF has not been the top line: Despite the departure of Dr Burmeister (in September 2017, so part way into FY2018), the number of treatments conducted each year by MVF have remained unchanged, although some pricing pressure has seen unit revenues fall by around 2% over that period, resulting in a $3m (2%) reduction in Revenue between FY2017 and FY2019.

In the context of the sluggish demand environment during in FY2019, as well as the anecdotal evidence of increased capacity in the industry from new participants offering low-cost, sub-premium services, I think that stable volumes and 2% decline in revenue are actually quite commendable outcomes.

So the driver for MVF's 28% profit contraction has not really been a revenue problem; rather, it has been more an issue of operating costs, which have risen by $8m (7%) over that period (despite the top-line having not done anything).

Why this cost investment has happened is important to consider because to the extent that it continues, or stabilises, will determine profitability levels over the next two or three years (assuming Revenue remains resilient or even, possibly, increases).

In my view, the increases in the cost base of the company over the past two years has been driven by a combination of two factors:

1.) A degree of "catch-up" of expenditure which would have been ripped out of the business during its period of private equity ownership. (As has been seen many occasions, PE tend to run businesses on the smell of an oily rag in order to window dress them for sale to the public.)

When I look at the individual operating cost segments which have seen the greatest increase in costs, namely raw materials/consumables (up 19% since FY2017, IT (+14%), property (+20%), professional services (+11%) and "Other" 9+26%), then that has all the hallmarks of a prior under-investment in the business.
This is quite common for these kinds of situations.
(Which is why I never bought into this company any time soon after IPO...because I felt the earnings were over-stated. Not to mention the valuation multiples which were very rich at the time (~20x P/E and 12x to 14x EV/EBITDA); so a case of excessive valuation multiples being applied to pumped-up profits... which explains why the share price has more than halved in value over the past three years.)

2.) The creation of hollow-logs by incoming CEO's (and MVF have had their share of those over the past 18 months!)

If my precedent-based suspicions are correct, and the cost base has stabilised, then any increasing revenue will translate quite quickly into bottom-line growth.

And I think we had a foretaste of that in the JH2019 result, in which a Revenue rise of 2%, on unchanged Operating Costs, resulted in a 10% increase in underlying profit.

Which is why I am inclined to give them the benefit of the doubt when they hint at being able to recover the foregone $1.5m to $2.5m in NPAT from the 5 doctors who will no longer be referring MVF's services.

If that turns out to be the case, then we'll have a company, with relatively clean earnings (an appropriately expensed P&L), trading at just 11x P/E.

We've gone from premium-to-market valuation multiples applied to impure earnings three years ago, to a steeply discounted valuation multiples applied to far cleaner earnings today.

The market is clearly brutalised and scarred by this sector, but that is what I think has created the buying opportunity today.

..