Company Reports

Philips is a one-stop shop for imaging-related devices with an established footprint in many hospitals, which positions it to benefit from long-term healthcare trends like the transition to noninvasive or minimally invasive procedures and increased hospital demand for efficiencies. Through several divestitures and acquisitions, Philips has transformed itself from an industrial medical conglomerate into a healthcare company and primary supplier across hospitals, which facilitates the introduction of new products and the displacement of smaller suppliers with more depth in a single product line but lack of breadth. In many of its underlying markets, the company operates in an oligopoly where significant market share is controlled by a few players. Several of Philips' products require proprietary software or service; this provides stability to cash flows and helps to lock in customers. In addition, the company has carried out several divestments and acquisitions, which we believe has reinforced its positioning.

Narrow-moat Philips' shares jumped 30% in early April 29 trading after the firm reached an agreement to resolve economic loss, personal injury, and medical monitoring litigation for sleep therapy devices in the US for $1.1 billion or EUR 982 million. The stock market liked the news as investors were likely anticipating a higher settlement amount. This agreement ends a large amount of Philips’ litigation uncertainty as the majority of cases were related to sleep apnea patients. Philips also admitted no fault, liability, or that any injuries were caused by the devices. Management estimates most of the claimants have already submitted a claim given the long period since the recall was initiated and the case has been advertised for three years. Philips still needs to be investigated by the Department of Justice, which management did not comment on, and reach an agreement over ventilation devices although the number of affected patients from ventilation devices is significantly lower than for sleep devices. We maintain our EUR 21 fair value estimate after adjusting our forecasts and given the settlement amount was aligned with our estimates.

Narrow-moat Philips' shares were down 6% at the time of the writing as the firm has provided new details on the consent decree it agreed on with the U.S. Food and Drug Administration. The consent decree will prevent Philips from selling new respiratory devices in the United States for several years, although the exact timing is still uncertain. The firm can still sell consumables and replacement parts, and outside the U.S. it can still sell new devices if certain conditions are met. However, this is a big blow for Philips, given that the U.S. accounts for more than 50% of its sleep business under normal conditions. The firm has recorded an additional EUR 363 million provision from remediation activities and still faces uncertainty from litigation brought by patients. Although Philips' reputation in sleep and respiratory devices had already been severely hurt, we now believe it will be very difficult for the firm to ever recover its competitive position in this market. The new restrictions will curtail the growth profile of this business for several years. Sleep and respiratory revenue has declined from a record EUR 2.7 billion in 2020 to around EUR 1 billion today. We are lowering our sales and EBIT margin forecasts and reducing our fair value estimate to EUR 21 per share from EUR 25. Our Morningstar Uncertainty Rating is High.

Philips is a one-stop shop for imaging-related devices with an established footprint in many hospitals, which positions it to benefit from long-term healthcare trends like the transition to noninvasive or minimally invasive procedures and increased hospital demand for efficiencies. Through several divestitures and acquisitions, Philips has transformed itself from an industrial medical conglomerate into a healthcare company and primary supplier across hospitals, which facilitates the introduction of new products and the displacement of smaller suppliers with more depth in a single product line but lack of breadth. In many of its underlying markets, the company operates in an oligopoly where significant market share is controlled by a few players. Several of Philips' products require proprietary software or service; this provides stability to cash flows and helps to lock in customers. In addition, the company has carried out several divestments and acquisitions, which we believe has reinforced its positioning.

Philips is a one-stop shop for imaging-related devices with an established footprint in many hospitals, which positions it to benefit from long-term healthcare trends like the transition to non- or minimally invasive procedures and increased hospital demand for efficiencies. Through several divestitures and acquisitions, Philips has transformed itself from an industrial-medical conglomerate into a healthcare company and primary supplier across hospitals, which facilitates the introduction of new products and the displacement of smaller suppliers with more depth in a single product line but lack of breadth. In many of its underlying markets, the company operates an oligopoly where significant market share is controlled by a few players. Several of the company’s products require proprietary software or service, which provide stability to cash flows and help to lock in the customer. In addition, the company has carried out several divestments and acquisitions, which we believe has reinforced its positioning.

Narrow-moat Philips reported healthy 11% organic sales growth in the third quarter, supported by higher pricing, which contributed to an EBITA margin expansion of 540 basis points to 10.2% of sales. Shares are down 2% at the time of the writing though, as strong earnings were offset by a 9% decline in order intake, which created uncertainty. The largest decline in orders was in the diagnosis and treatment division, which sells expensive magnetic resonance and computer tomography machines. Hospitals tend to defer purchasing decisions on these machines in times of economic weakness, creating some cyclical swings in demand. We believe investors in Philips can see a bumpy road in the following quarters due to macroeconomic uncertainties, swings in demand, or changes in the supply chain. However, we still see shares as undervalued and maintain our EUR 25 fair value estimate. However, investors might need patience until the gap between the share price and our fair value estimate converges.

Narrow-moat Philips beat company-provided consensus expectations for the second quarter and also raised its financial outlook for the full year. The company achieved a 9% organic growth rate driven by all segments and geographies. The strongest contributor was the diagnostics and treatment division (almost 50% of revenue), which reached 12% organic growth thanks to ultrasound and image-guided therapy devices. In the personal health division, sales grew 3% organically with a 13.4% EBITA margin, up 100 basis points year over year.

Narrow-moat Philips reported a very strong first-quarter performance that exceeded company-compiled consensus. Philips achieved adjusted EBITA of EUR 359 million, equivalent to an 8.6% margin, a significant improvement from 6.2% in the same period last year and also compared with previous years. Margin expansion was primarily driven by robust organic sales growth of 6% year over year, which resulted in operating leverage and productivity enhancements that resulted in total savings of EUR 190 million and supply chain improvements that enabled double-digit growth in diagnostics and treatment. We are pleased with Philips' cost-cutting efforts; the company has already laid off 5,400 workers out of its target of 10,000. On the supply chain front, we believe easing will come from overall global improvements rather than company-specific action as Philips has struggled with supply chain management for years. We maintain our EUR 25 fair value estimate.

Philips reported fourth-quarter 2022 results together with a medium-term strategic update. Shares are up 7% on Jan. 30 as Philips announced an extra 6,000 job cuts (in addition to 4,000 already announced in October) and organizational changes. Investors have been concerned in recent months about Philips' company-specific issues such as the sleep and respiratory product recall, ongoing supply chain issues, and lack of action. Management has also taken a more conservative stance on midterm guidance compared with what it did in its 2020 capital markets day. The guided range for sales growth and margin expansion is now wider, providing more room for inaccuracies in forecasting. Philip’s management has been weak in meeting its own financial targets recently, which were either too optimistic or didn’t consider external factors like supply chain issues. We maintain our EUR 25 fair value estimate.

As already announced last week in a profit warning, Philips' results for the third quarter were weak. Supply chain issues are affecting product deliveries and installations, which has resulted in an organic mid-single-digit decline in sales. Management also downgraded its previous 2022 adjusted EBITA margin guidance of 10%, which would indicate a margin in the midsingle digits for the full year. Last week, we reduced our fair value estimate to EUR 25 per share from EUR 33, as we have trimmed our midterm revenue growth and margin expansion forecasts. Philips also announced Oct. 24 it will cut 4,000 jobs worldwide (the employee base is around 80,000), a measure we look favorably upon given the poor performance seen recently.

Profit warnings seem to be the norm rather than the exception in Philips’ fiscal 2022. In a short press release and a call, management downgraded its 2022 guidance as a result of supply chain issues that are affecting product deliveries and installations. It is the fourth profit warning in 10 months. We expect sales to decline by midsingle digits organically year over year, compared with management’s previous guidance of 1%-3% organic growth. Management also downgraded its previous 2022 adjusted EBITA margin guidance of 10%, which would indicate a margin in the midsingle digits. Philips took a EUR 1.3 billion goodwill-impairment charge based on a consent decree proposed by the Food and Drug Administration for the settlement of the sleep apnea product recall and changes in financial assumptions. Our model includes a more than EUR 1 billion cash charge for potential legal settlements derived from this issue. We are trimming our medium- and long-term sales growth and margin assumptions, which leads us to reduce our fair value estimate to EUR 25 per share from EUR 33, as Philips' 2025 original sales and margin ambitions seem unreachable to us at this point. Management indicated that weakness will spill over to 2023, given the macroeconomic environment, but did not quantify any impact.

Philips is a one-stop shop for imaging-related devices with an established footprint in many hospitals, which positions it to benefit from long-term healthcare trends like the transition to non- or minimally invasive procedures, increased hospital demand for efficiencies, or detection of sleep apnea. Through several divestitures and acquisitions, Philips has transformed itself from an industrial-medical conglomerate into a healthcare company and primary supplier across hospitals, which facilitates the introduction of new products and the displacement of smaller suppliers with more depth in a single product line but lack of breadth. In many of its underlying markets, the company operates an oligopoly where significant market share is controlled by a few players. Several of the company’s products require proprietary software or service, which provide stability to cash flows and help to lock in the customer. In addition, the company has carried out several divestments and acquisitions, which we believe has reinforced its positioning. The company continues to narrow its business focus, selling its domestic appliances business in 2021.

Narrow-moat Philips' second-quarter results were weak. The company had already highlighted expected supply chain constraints and inflationary issues three months ago, but the hit was harder than expected. Sales declined 7% organically, with China the main detractor from performance, as prolonged lockdowns made sales and order intake decline 30% year over year. Some Philips factories in China had to suspend production for two months because of component shortages. Management reduced its 2022 outlook to 1%-3% organic sales growth and around a 10% adjusted EBITA margin. Our forecasts already assumed 2.2% organic sales growth in 2022 (more conservative than management’s previous guidance of 3%-5%) and an EBITA margin below 10%. Management also moderated its midterm guidance, which it set in November 2020, from 5%-6% annual sales growth to 4%-6% until 2025.

Philips is a one-stop shop for imaging-related devices with an established footprint in many hospitals, which positions it to benefit from long-term healthcare trends like the transition to non- or minimally invasive procedures, increased hospital demand for efficiencies, or detection of sleep apnea. Through several divestitures and acquisitions, Philips has transformed itself from an industrial-medical conglomerate into a healthcare company and primary supplier across hospitals, which facilitates the introduction of new products and the displacement of smaller suppliers with more depth in a single product line but lack of breadth. In many of its underlying markets, the company operates an oligopoly where significant market share is controlled by a few players. Several of the company’s products require proprietary software or service, which provide stability to cash flows and help to lock in the customer. In addition, the company has carried out several divestments and acquisitions, which we believe have reinforced its positioning. The company continues to narrow its business focus, selling its domestic appliances business in 2021.

Narrow-moat Philips' first-quarter results highlighted, once again, the delicate situation the company is going through, with a set of risks coming from different directions. On top of the ongoing respiratory device recall, where provisions were augmented by EUR 165 million, the company faced a 250-basis-point margin headwind from supply chain issues and inflationary pressures, with management highlighting the poor visibility on this front. The U.S. Department of Justice has also sent a subpoena requiring information about the product recall, for which the company faces several class-action lawsuits. Although Philips met consensus expectations in the first quarter, our feeling is that the financial guidance is hanging on a thread, as any minor turbulence on any of the different fronts could put at risk the company's 2022 and medium-term guidance. We believe the market shares our concerns, as the shares have slid more than 10% at the time of the writing.

Philips is a one-stop shop for imaging-related devices with an established footprint in many hospitals, which positions it to benefit from long-term healthcare trends like the transition to non- or minimally invasive procedures, increased hospital demand for efficiencies or detection of sleep apnea. Through several divestitures and acquisitions Philips has transformed itself from an industrial-medical conglomerate into a healthcare company and primary supplier across hospitals, which facilitates the introduction of new products and the displacement of smaller suppliers with more depth in a single product line, but lack of breadth. In many of its underlying markets the company operates an oligopoly where significant market share is controlled by a few players. Several of the company’s products require proprietary software or service, which provide stability to cash flows and help to lock in the customer. In addition the company has carried out several divestments and acquisitions, which we believe have reinforced the company’s positioning. The company continues to narrow its business focus, with the sale of its domestic appliances business in 2021.

As expected, Philips’ fourth-quarter results were weak, after a profit warning was released last week due to supply chain issues. Fourth-quarter sales came in at EUR 4.9 billion, a 10% organic decline, whereas adjusted EBITA margin was 13.1%, a 590-basis-point decline compared with the same quarter last year. For 2022 management expects 5% to 6% growth excluding the sleep and respiratory business and 3% to 5% overall, which implies a high-single-digit decline for the sleep and respiratory business in 2022, as the firm continues to address the product recall situation. Quarterly revenue growth trends will differ during the year, with revenue declines in the first part of the year being offset by an acceleration in the second half. Management provided a wide range for margin expansion in 2022, from 40 to 90 basis points, explained by the uncertainty in supply chains and product recall situation. We forecast margin expansion to be in the low part of the guided range for 2022, in line with management’s comments that they remain “cautious as they manage through the headwinds." We are maintaining our EUR 39 fair value estimate, but we will continue to closely monitor Philips during 2022. Our narrow moat rating remains intact.

Narrow-moat Philips announced a profit warning for the fourth quarter of 2021 due to supply chain shortages of semiconductors, logistic issues, and postponement (though not cancelation) of equipment installations in the healthcare business. Management stated the impact of the omicron variant has been higher than expected, as it has strained production and freight globally. Philips expects fourth-quarter sales to be EUR 350 million below initial expectations, which implies a 10% organic decline. We believe the market has overreacted with its 15% decline, burning EUR 5.2 billion in market capitalization, which implies these issues will be structural rather than temporary. Management also announced an incremental provision of EUR 315 million due to an increased scope of the actions taken on the sleep apnea product recall. We are reducing our fair value estimate to EUR 39 from EUR 42 to account for lower sales in 2021 and a slower recovery in 2022. We have also accounted for the additional provision and slightly reduced our midterm margin assumptions, as the next couple of years will be challenging due to COVID-19, supply chain issues, and the sleep apnea product recall still ongoing. Our five-year forecasts are more conservative than consensus and management’s guidance, implying a yearly organic growth in the low part of the 5% to 6% guided range. We also see management’s 2025 target of 60 to 80 basis points of yearly margin improvement as challenging given current conditions, with our model only implying a 50-basis-point yearly improvement from 2020 levels.

Philips is a one-stop shop for imaging-related devices with an established footprint in many hospitals, which positions it to benefit from long-term healthcare trends like the transition to non- or minimally invasive procedures, increased hospital demand for efficiencies or detection of sleep apnea. Through several divestitures and acquisitions Philips has transformed itself from an industrial-medical conglomerate into a healthcare company and primary supplier across hospitals, which facilitates the introduction of new products and the displacement of smaller suppliers with more depth in a single product line, but lack of breadth. In many of its underlying markets the company operates an oligopoly where significant market share is controlled by a few players. Several of the company’s products require proprietary software or service, which provide stability to cash flows and help to lock in the customer. In addition the company has carried out several divestments and acquisitions, which we believe have reinforced the company’s positioning. The company continues to narrow its business focus, with the sale of its domestic appliances business in 2021.

Narrow-moat Philips' shares were up more than 5% at the time of writing after the company gave an update on the product recall situation for its sleep apnea installed base. Philips, together with a third-party medical panel, has conducted further testing on its first-generation DreamStation devices (the majority of the affected installed base) and has concluded that if ozone is not used for cleaning, then the level of exposure to volatile organic compounds when using these devices should not result in any long-term health consequences for patients.