The stock price of Danaher (NYSE:DHR), a conglomerate with products in environmental, life sciences, and diagnostics fields, is up over 43% since the beginning of this year, significantly outperforming the broader markets, with the S&P 500 up 8%. However, at the current price of around $218 per share, we believe Danaher has downside risk. Why is that? The key is DHR stock is now 140% higher than it was at the beginning of 2018. Our dashboard, Why Danaher Stock Moved 140%? provides the key numbers behind our thinking, and we explain more below.
Some of this growth over the last 2 years is justified by the roughly 15% rise seen in Danaher’s revenues, which increased from $15.5 billion in 2017 to $17.9 billion in 2019. This clubbed with net margin expansion of 4.6% from 16.1% to 16.8%, partly offset by a 2.8% increase in shares outstanding, due to issuance of shares, meant that the earnings grew 14.8% from $3.58 to $4.11 on a per-share basis.
The growth in the top line and the bottom line was supported by the expansion of the P/E multiple, which grew from 26x in 2017 to 37x in 2019. Now that Danaher’s P/E is up to about 53x, given the volatility of the current situation, there is a possible downside risk for Danaher’s multiple when compared to levels seen in the past years – P/E of 26x at end of 2017, and 27x as recently as in late 2018.
So what’s the likely trigger and timing for downside?
Danaher is not immune to the current pandemic. The global spread of coronavirus has meant lower sales for the company’s core laboratory and pathology businesses, due to lower patient volumes after deferment of elective procedures and wellness visits. However, Danaher’s rapid diagnostics saw a surge in volume, as Cepheid, a molecular diagnostic company owned by Danaher, received the US FDA’s emergency use authorization (EUA) for its rapid test of Covid-19. This has helped the company post growth in Cepheid’s GeneXpert instruments installed base, which stood at 26,000 by the end of Q2, compared to around 20,000 by the end of Q4 2019. Aided by Cepheid, Danaher was able to deliver 3% top-line growth (core revenues) and 32% growth in bottom-line along with a solid $1.3 billion in cash flows generated from operations. Now with the world economies gradually opening up, the demand for Danaher’s other products is also expected to increase in the near term. While these factors explain the growth in DHR stock price this year, we believe it has now reached levels with little room left for growth. DHR stock at $218 is trading at 40x 2020 average consensus earnings of $5.50 per share. The trading multiple now appears to be high compared to the levels of under 30x seen over the past years.
The actual recovery and its timing hinge on the broader containment of the coronavirus spread. Our dashboard Trends In U.S. Covid-19 Cases provides an overview of how the pandemic has been spreading in the U.S. and contrasts with trends in Brazil and Russia. Following the Fed stimulus — which set a floor on fear — the market has been willing to “look through” the current weak period and take a longer-term view. With investors focusing their attention on 2021 results, the valuations become important in finding value. Though market sentiment can be fickle, and evidence of an uptick in new cases could spook investors once again.What if you’re looking for a more balanced portfolio instead? Here’s a high-quality portfolio to beat the market, with over 100% return since 2016, versus 55% for the S&P 500. Comprised of companies with strong revenue growth, healthy profits, lots of cash, and low risk, it has outperformed the broader market year after year, consistently.
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The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.