Brokers believe ResMed is reliant on pandemic-related ventilator sales offsetting any slump in the base sleep apnoea business.

-Ventilator sales expected to double in the June quarter
-Unlikely to offset the drop in revenue from sleep apnoea diagnosis
-Weaker global economic conditions likely to weigh
 

The coronavirus pandemic has boosted demand for ventilators and ResMed ((RMD)) has been a major beneficiary. However, the outlook is not completely positive. Management has reported double-digit declines in sleep apnoea diagnosis rates as sleep laboratories are closed.

The increase in home sleep testing will only provide a modest offset. As new patients account for about 50% of revenue, the downward pressure on earnings could be substantial.

ResMed has estimated a US$35m benefit from pandemic-related ventilator purchases in the March quarter but gross margins were -35 basis points below Ord Minnett's estimates, possibly signalling stronger sales in lower-margin regions.

Stockpiling measures and an ongoing response to the pandemic should mean a revenue uplift and UBS assesses ResMed has the ability to ramp up flow generator capacity, although input supplies for higher-end ventilators are constrained.

Over April ResMed was awarded a contract by the US health department for 2550 ventilators by July 13. The company produced 52,000 during the March quarter, although sales were lower. This represents a three-fold increase on normal production, Morgan Stanley points out.

Sales of these devices are expected to almost double again in the June quarter, countering an equally dramatic drop in revenue from the core sleep devices. UBS points out diagnostic rates in sleep apnoea have declined in double digits in some areas and relevant flow generators are likely to experience no growth in the short term.

Slowdown

Morgan Stanley's channel checks with US-based CPAP (continuous positive airway pressure) suppliers suggests, while demand for product in March was strong, there is an expectation that April and beyond will slow because of reduced doctor referrals.

Beyond this, Ord Minnett, too, expects much weaker economic conditions across the world will weigh on any recovery. This is particularly the case in the US where individual health expenditure is more closely correlated with economic conditions.

Mask re-supply and software revenue is less exposed to the issues as the bulk of revenue comes from existing customers. Software service sales are sticky and should hold during a recession but growth in new customers is expected to slow.

Macquarie notes a new telehealth video chat has been rolled out, allowing patients and physicians to view data and communicate virtually. Management expects this will reduce the need for a recovering patients to return to hospital for follow-up.

The long-term strategy and growth potential remains intact, Credit Suisse ascertains. The increased investment in platforms outside the hospital means the company can benefit from any behavioural shift after the pandemic has passed, amid greater demand for home health care.

Moreover, Wilsons asserts, in some respects, the pandemic may accelerate aspects of the company's respiratory care strategy that were already in play, such as the increased use of ventilators in the long-term and harvesting treatment data from those devices to optimise the economics of delivering care.

Diagnosis of sleep apnoea is under-penetrated on a global basis as is treatment of chronic obstructive pulmonary disorder. While ventilators sales may contract once pandemic-related purchases subside, UBS also expects growth as take-up of in-home therapy resumes for chronic indications.

Valuation

Ord Minnett believes the weaker earnings outlook is not reflected in the share price and downgrades to Lighten from Hold, and Macquarie agrees multiples are elevated, while the stock can retain its premium rating, in Morgan Stanley's view, as long as the market continues to believe upside in pandemic-related ventilators sales will offset any erosion of the base sleep apnoea business.

Goldman Sachs, not one of the seven stockbrokers monitored daily on the FNArena database, believes the trends warrant a premium valuation. Even excluding the pandemic-related growth, margins still expanded and earnings grew 47%.

The broker acknowledges the composition of ResMed's performance is more nuanced now but retains a Buy rating with a $27 target. Wilsons, also not one of the seven, has an Overweight rating and $29.36 target.

The database has one Buy (Morgans, yet to comment on the quarter), four Hold and two Sell ratings. The consensus target is $23.95, suggesting -1.3% downside to the last share price.

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