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I have followed InfuSystem (NYSE:INFU) since my first investment in the company in December 2019. Despite the fact that INFU’s share price has been a bit of a roller-coaster ride, the company’s management team has been nothing but consistent in their execution of the business plan. And that execution continues in 2Q22 with the official signing of their new Master Service Agreement (“MSA”) with GE Healthcare.
Yet, due to multiple circumstances I have covered in previous articles on INFU, and will summarize again in this one, shares stumbled throughout much of 2021 and into 2022. While this price depreciation was difficult to watch, I have confidence to now be overweight in the name given the fact that almost all apparent company-specific headwinds have passed, or will soon be gone.
In fact, the company now has multiple tailwinds in its favor, most of which I will discuss in more detail below, including:
- A short-term investment phase completed, now leading to significant top and bottom-line growth for years to come;
- Strong FY22 guidance, with additional upside likely;
- A buyback program in place, and being used aggressively at low prices; and
- A removal from the Russell 2000 index that should soon relieve related selling pressure.
I discuss all of these key points in more detail in my article below, as well as in a more summarized format on my recent Breakout Investors 10-Minute podcast on INFU with fellow Seeking Alpha contributor Florian Buschek.
Major Contract with GE Healthcare
It seems one of the main reasons INFU shares dropped precipitously since late 2021, is due to the unexpected delay in the company finalizing the execution of a big contract. Last year on the Q3 call, INFU management noted they had won this new business through a stringent process and expected the deal to be finalized by EOY21. Well, that didn’t happen. So, investors waited. Then, in early February, INFU released preliminary 4Q and FY21 results, noting that the contract had still not been finalized, although management appeared confident the contract signing had simply been delayed.
Although management proved to be absolutely correct in the long-run, investors seemed to become impatient and head for the exit. Shares plummeted nearly 30% immediately on this February news that the contract had yet to be finalized. That slide continued even further, as investors and institutions saw that INFU was unlikely to remain in the Russell 2000 index and began selling or hedging against that position (I will discuss this issue in more detail below, while also arguing that this scenario now creates the potential of significant future upside for INFU shares).
An Explanation For The Delay
Now that INFU is able to discuss their biomedical services deal with GE Healthcare, the company was able to explain the reason for the delay, as well as their broader strategic plan for this new indication. On the 1Q22 conference call, CEO Rich DiIorio noted that INFU had been working towards this biomedical services opportunity since 2020.
According to DiIorio, in 2020 INFU conducted an internal review that concluded its small biomedical services offerings had “high return characteristics” for the company. He further explained that the company realized this new service offering would require low capital investment by the company. This realization is what ultimately led to INFU acquiring two biomedical services companies, extending their capabilities beyond infusion pumps and significantly increasing INFU’s access into hospitals. As INFU’s management predicted, these acquisitions helped open doors to some hospital business, and DiIorio believes additional biomedical services opportunities will be converted into revenue for the company in the near future.
To that end, DiIorio stated: “Our biomedical services business will likely be the first to catch and pass the revenue contribution of our Oncology business.” To put that in perspective, the revenue contribution for oncology, by my estimate, is roughly $60M annually. For further perspective, note that INFU recorded just over $100M in TOTAL revenue in FY21. Thus, the biomedical services opportunity alone represents a stunning 60% growth driver over the next couple of years! To sum this up, let me quote CEO DiIorio from the conference call: “Our DME segment, now led by our biomed service business, is in position for long-term sustainable growth beyond anything that could have been imagined for the segment just one year ago.”
GE Deal Better Than Expected
In the Q&A on the 1Q22 call, DiIorio allayed my only concern with the GE contract and the delay. Specifically, I asked if the terms of the contract with GE were according to INFU’s previous expectations (I had slight concern that part of the delay may have been due to GE negotiating a deal less favorable to INFU). DiIorio remarked: “We wouldn’t have signed the agreement if the terms weren’t good. As tough as it would have been to come back to you guys and said we walked away from the agreement, we would have done it. At the end of the day, we want to grow, but we want to grow smartly and profitably.” As it turns out, the delay in signing the deal with GE was nothing more than GE having bigger issues to deal with—namely, splitting into three separate companies.
GE Healthcare
If anything, the GE deal was sweetened for INFU over and above their expectations when they first communicated to the market the possibility of this contract. In the end, INFU ended up signing an MSA, which gives them preferred vendor status with GE. That means INFU will have further opportunities with GE beyond the infusion pump space, which again is in part related to acquisitions the company made in 2021. In the meantime, INFU expects the current arrangement with GE to result in at least $10-$12M of annual revenue for 2023 (and perhaps about half that amount in FY22). But as the CEO noted: “There is definitely upside” beyond that.
Although investors clearly became impatient with INFU management, the team has clearly proven themselves. I believe this situation will strengthen Wall Street’s trust in the company. In the grand scheme of operating a business, INFU made a short-term pivot that will pay off in spades for years to come.
Pain Management Investment Paying Off
As discussed in more detail in some of my prior articles, in 2021 INFU took advantage of market changes in pain management. To wit, INFU was able to hire multiple, experienced salespeople, with an eye on increasing their share of that market. While this was obviously a positive move for the company overall, it was a drag on INFU’s 2021 financials. The reason is that INFU needed to hire, and therefore pay, these salespeople, while the revenue they generate takes at least 6-9 months to start hitting INFU’s books. In other words, for most of 2021, the work of these new reps primarily showed up on the expense side, temporarily blunting AEBITDA margins. But that has already started to change.
On the 1Q22 call, CEO DiIorio stated: “I actually think Pain is going to outpace Wound Care this year, even with the first couple of months being effectively offline with Omicron. They had such a good month in March that we’re kind of seeing what this business can do without all the noise of COVID.” Further, DiIorio said he believes that the Pain & Wound combo (both relatively new and growing businesses for INFU) in FY22 could lead to nearly $20M in revenue. For comparison, I believe Pain & Wound in FY22 was likely below $10M in revenue. As I will discuss in the “Valuation” section below, INFU’s guidance is clearly factoring in potential disruptions due to another Covid wave, so it is possible—if not probable—that INFU could outpace this $20M number.
As with the biomedical services division, INFU’s 2021 investment into Pain will be paying multiples in revenue and AEBITDA for years to come, beginning in FY22.
Russell 2000 Removal
As I noted multiple times in this article, INFU faced several headwinds throughout 2021 and into 2022. So far, I have only mentioned the headwinds related to their investments in their business, which resulted in a disappointing 2021 and early 2022, but sets up INFU for at least a half-decade of robust top and bottom-line growth. Yet, in addition to that, and perhaps the strongest headwind INFU stock faced, was its impending removal from the Russell 2000 index (IWM).
FTSE Russell 2000
The IWM tracks the smallest 2,000 publicly-traded US companies among the top 3,000 of such companies. In other words, among the top 3,000 publicly-traded US companies by market cap, the IWM tracks companies number 1,001 through 3,000. The IWM, therefore, is a good gauge of small-cap American companies. Because of this, many funds offer investors the option to mirror the IWM. To do that, these funds must buy companies that are added to the index annually and sell companies that are removed.
Officially, the IWM reconstitutes itself each year in late June. However, to make this a more orderly process and blunt the one-day volatility, many funds contract with third parties to prepare well in advance. This means that the volatility in terms of both price and volume is spread over several months instead of one day. Still, being added to the Russell 2000 index creates a months-long tailwind, while being removed does the exact opposite. And this is the situation INFU has been facing.
After INFU pre-announced 4Q21 results in February and the stock dropped, it became clear that INFU’s market cap would almost certainly fall below the threshold needed to remain in the IWM (likely to be around $250-275M this year). This, in turn, created artificial selling pressure on the stock as funds jockeyed to hedge for INFU’s expected upcoming removal. I call this pressure “artificial” because the selling was not related to INFU’s fundamental value, but simply to position funds to properly track the IWM.
The good news about this situation is that the selling pressure is almost finished. The IWM will officially be reconstituted on Friday, June 24. While there could still be some selling pressure into that date, and especially around that date, I believe the vast majority of that selling has already been completed. In other words, I am not holding off on going overweight the stock now, but will also look to add aggressively if there is volatility leading up to or on June 24. In any case, after June 24, INFU should be free to start moving back towards what I believe is a fair valuation, without this artificial selling pressure. In fact, I would not be surprised to see this IWM situation with INFU reverse itself in 2023. I say that because I believe by next year at this time, there is a high probability INFU will be added back to the IWM, in which case these same funds mentioned above will be creating artificial buying pressure. With that in mind, investors would be wise to be buying now in order to lock in long-term capital gain status on any shares they may desire to sell next year if the buying pressure leads to overvaluation for INFU.
While June 24 is the “magic date” on which any artificial selling pressure should be fully relieved, there is another component to this scenario that may blunt the selling pressure: INFU’s current buyback program, which to date, has been used aggressively.
Active Buyback Program
Mid-year 2021, INFU’s Board of Directors instituted a $20M stock repurchase program. And with the company’s share price lagging in 1Q22, for the reasons stated above, the buyback program was used aggressively. As of March 31, 2022, the company’s CFO, Barry Steele, noted the company had used $4.6M under this authorization to repurchase its stock. The vast majority of that—about $4M—came in 1Q22.
Further, on the 1Q22 call, Steele hinted the company would continue to strategically use that program if the stock remained undervalued. With 1Q22 operating cash flow increasing 54% year-over-year, it seems INFU is well-positioned to buy back shares under the current repurchase program. Given the CFO’s commentary and the strong increase in operating cash flow, I would not be at all surprised to learn that INFU is currently still repurchasing shares (we will not know for sure, of course, until the 2Q22 results are released). Regardless, it is quite possible that the selling from the IWM rebalancing will be at least partially offset by INFU buying back its own shares, another long-term positive move for current shareholders.
Risks
In my opinion, at current prices, the biggest risk for an INFU investor right now relates to the possible short-term volatility surrounding the IWM rebalancing situation mentioned in the section above. For me, personally, I am long-term focused with INFU, and so temporary movements are of little relevance. In fact, because of the short-term nature of this situation, I would view any major drop between now and June 24 as an incredible buying opportunity.
From a longer-term perspective, the biggest risk is that INFU stumbles operationally. We are talking about a company growing from well under $100M in revenue a couple of years ago to likely over $300M in the next five years. This will definitely create some challenges for the management team, as we saw already in 2021. Still, I believe management is up to the task given how they have handled the recent situation, and seeing in hindsight how the delay and short-term pivot is setting the company up for long-term success. It should also be noted that INFU plans to grow systematically and organically. Management has consistently highlighted this systematic approach; for example, they have noted that Lymphedema—their largest TAM opportunity—will not be a major focus until 2023, once they have integrated Pain & Wound Care as a normal part of their business operations. So while this operational risk remains, it seems INFU management is taking a wise approach to ensure the company grows smoothly and consistently.
Valuation
The typical valuation metric for companies in INFU’s space is enterprise value (EV) over adjusted EBITDA (AEBITDA). I will, therefore, use this metric as my basis for valuation. Typically, companies like INFU trade for at least 8x EV/AEBITDA if they are a relatively stable business. For growing companies in this space, we can use 12x EV/AEBITDA to obtain a reasonable valuation. I would note that, in the past, when INFU was a reliable “cash cow,” constantly beating and raising and increasing cash flows—something I expect to see again throughout the remainder of FY22 and beyond—they traded for well above this 12x EV/AEBITDA multiple. All that to say that I believe the 10-12x EV/EBITDA I will be using is a fair and reasonable metric for INFU at this time.
Before providing some quantitative analysis, I believe it is important to highlight some qualitative comments from the recent 1Q22 call. Specifically, on multiple occasions, management noted their guidance of $118-$123M in top line revenue for FY22 contained numerous contingencies that, if avoided, could lead to INFU beating the $123M. CEO DiIorio stated: “We have accounted for the possibility of scenarios outside of our control. For example, another COVID surge that may affect Pain or any new long-term supply chain disruptions. Even if these were to occur, we are comfortable that we will be within our range of $118 million to $123 million of top line revenue.” Later, CFO Steele echoed that sentiment: “The way we build our model, we have contingencies in there that we sometimes need, sometimes we don’t. So I think that we’re giving ourselves the ability to be successful on the guidance, for sure.”
Further, the company indicated they expect AEBITDA margins to return to historic norms, with the run-rate to exit the year in the mid-20s range “with additional accretion potential to be gained as the GE revenue continues to grow to the annual amount of $10-$12M into 2023,” according to Steele. I believe these qualitative factors are important to consider and further support my valuation metric of 10-12x EV/AEBITDA as the base case for INFU.
Now, let’s focus on the quantitative aspect of valuing INFU. Given that INFU is a growing company, I tend to focus on my estimated run-rate numbers for the company. In other words, in valuing them now, I look out towards EOY22 to estimate their run-rate numbers at that time versus simply estimating their FY22 results. So, for example, in looking at EOY22, I estimate they will end 2022 on a $130M annual revenue run-rate. This compares to the FY22 guidance of $118-$123M of revenue (with, as noted, potential upside). I believe because of this potential upside, my $130M number is conservative.
In terms of run-rate AEBITDA, at the expected margin normalization of 25% AEBITDA by EOY22, we are looking at a run-rate of $32.5M AEBITDA. At a 10x multiple we arrive at an EV of $325M. We then factor out $38M of net debt to arrive at a market cap of $287M and a share price of $13.95, representing a return of 54%.
One-Year, 10x EV/EBITDA Model
| One Year Revenue Run Rate (in millions) | $130 |
| Forward EBITDA (in millions) | $32.5 |
| Forward EBITDA Multiple (10x) (in millions) (deduct $38M for market cap) | $287 |
| Share Price (“Fair Value”) | $13.93 |
| Current Share Price | $9.06 |
| Implied Return | 53.7% |
Using these same assumptions at 12x EV/AEBITDA, we attain a share price of $17.10, or a 89% return.
One-Year, 12x EV/EBITDA Model
| One Year Revenue Run Rate (in millions) | $130 |
| Forward EBITDA (in millions) | $32.5 |
| Forward EBITDA Multiple (12x) (in millions) (deduct $38M for market cap) | $352 |
| Share Price (“Fair Value”) | $17.08 |
| Current Share Price | $9.06 |
| Implied Return | 88.5% |
In short, I expect INFU shares to appreciate between 55-90% over the next 12 months.
Looking further down the road, and as I have highlighted in previous articles (please refer to them for the detailed assumptions, which have only been strengthened by management’s recent bullish commentary and the company’s performance), I believe within the next 3-5 years, INFU can near $300M in annual revenue. In three years (around EOY25), I think it is reasonable that INFU could be around $250M in annual run-rate revenue. I also believe margins could reach (perhaps even exceed) 27% for AEBITDA.
Running these numbers, and using the same assumptions as above, I have INFU’s market cap at $637M at 10x EV/AEBITDA and at $772M for 12x EV/AEBITDA.
Three-Year, 10x EV/EBITDA Model
| Three Year Revenue Run Rate (in millions) | $250 |
| Forward EBITDA (in millions) | $67.5 |
| Forward EBITDA Multiple (10x) (in millions) (deduct $38M for market cap) | $637 |
| Share Price (“Fair Value”) | $30.91 |
| Current Share Price | $9.06 |
| Implied Return |
241.2% |
Three-Year, 12x EV/EBITDA Model
| Three Year Revenue Run Rate (in millions) | $250 |
| Forward EBITDA (in millions) | $67.5 |
| Forward EBITDA Multiple (12x) (in millions) (deduct $38M for market cap) | $772 |
| Share Price (“Fair Value”) | $37.46 |
| Current Share Price | $9.06 |
| Implied Return | 313.5% |
Based on these assumptions, I value INFU between $30.90-$37.50/share at that time. These numbers represent a share price appreciation of 240% and 315%, respectively.
Obviously, between now and EOY24, we will have greater clarity into INFU’s potential. In the meantime, this valuation exercise provides me with a sense of what INFU shares can do and provide me with a model to help determine my portfolio’s percent allocation to INFU. As you can imagine, with an expected short-term (less than one year) gain of at least 40%, and with what I believe is extremely limited downside potential (in both price and time horizon), INFU is currently an overweight position in my portfolio. Further, since I expect the stock can quite conceivably triple over the next three years, I expect INFU to remain a core position in my portfolio for the foreseeable future.
Conclusion
The stumble in INFU shares over the past nine months provides investors with an excellent opportunity to acquire shares in a fundamentally strong company growing at roughly 20% annually in terms of revenue, and even better in terms of AEBITDA due to its strong operating leverage. The headwinds that faced INFU during this timeframe will soon be entirely relieved, with multiple tailwinds now likely. With an aggressive buyback program in place and operating cash flows shining, I believe INFU will likely return to a more reasonable valuation for a company in its space growing at such a robust pace. With that in mind, I expect short-term gains between 55-90%, with a triple possible over the next three years.