General Electric Co (GE, Financial) separated its health care technology business on Jan 4, 2023, and the stock of the stand-alone company began trading on the Nasdaq under the name GE Healthcare Technologies Inc. (GEHC, Financial). The spin-off was executed as a tax-free transaction with every three GE shares spinning out one GE Healthcare Technologie share. GE Healthcare's market capitalization is $26.81 billion.
This spin-off is the first of two spin-offs General Electric has been planning on executing. The second spin-off will be its Power and Renewable business, which is planned for 2024.
GE Healthcare is the business which manufactures MRI machines, ultrasound machines and other high value medical equipment and related services. It has about $18 billion in annual revenue, compared with parent GE’s total revenue of $74.2 billion in 2021. The new company will compete most directly with Siemens Healthineers AG (FRA:SHL, Financial), Royal Philips NV and Fujifilm Holdings Corp. (FSE:4901, Financial), among other companies making large capital medical equipment.
GE Healthcare Technologies has been added to the S&P 500 index, according to S&P Dow Jones Indices. The parent company GE is also still a component of S&P 500.
GE Data by GuruFocus
By spinning out GE Healthcare, GE is hoping to bring "greater focus and accountability in order to better serve patients and customers, improved capital allocation and strategic flexibility, and team alignment, including dedicated talent and a board of directors, to support the needs of investors."
The parent company will hold on to 19.9% of GE Healthcare stock for now, and GE's CEO Larry Culp will be the non-executive chair of the new company. Peter Arduini is the CEO of GE Healthcare.
Let's take a closer look at this company to see whether it could be a good option for value investors.
Main markets
GE Healthcare will compete in four key markets, outlined as follows:
• Imaging: This segment has a total market size of $44 billion, and the market is growing at 4% to 6% according to GE's estimates. The company's revenue for this segment in 2021 was 9.2 billion.
• Ultrasound: This segment has a total market size of $12 billion, and the market is growing at 4% to 7%. Revenue for this segment in 2021 was $3.1 billion.
• Patient Care solutions: This segment has a total market size of $18 billion and the market is growing at 3% to 6%. Revenue for this segment in 2021 was $2.88 billion.
• Pharmaceutical Diagnostics (PDX): This segment has a total market size of $10 billion and the market is growing at 4% to 5%. Revenue for this segment in 2021 was $1.94 billion.
Overall, GE Healthcare says that it will address a total market of $84 billion which is growing because of aging demographics, increased demand for insight and productivity and a push for alternative sites for care outside acute care hospitals like satellite, ambulatory and home care. The company's financial goals include organic revenue growth in the mid-single digits, an adjusted Ebit margin of high teens to 20% and free cash flow conversion of over 85% in the next three years.
GE Healthcare says that it is positioned to be a leader in what it calls precision medicine. Precision medicine, or precision care, is explained in the following slide from the company's earnings results. It expects to use its digital platform and artificial intelligence as a key glue to deliver insights to clinicians.
Financials
General Electric's health care division plans to reduce debt and costs and make small acquisitions after the separation. GE Healthcare also plans to streamline its product lines by reducing the number of stock keeping units (SKUs) and configurations, and will focus on improving working capital and lowering logistics costs by relying less on airfreight and shipping more products by other means. The division, which has about $18 billion in annual revenue, will also review its real estate holdings and target over 100 sites for efficiencies.
Recently, GE Healthcare sold $8.25 billion in bonds and agreed to take on an additional $2.5 billion in credit and will take on another $5.2 billion in pension costs on its balance sheet. Analysts have noted that this will result in the company having a slightly higher debt ratio, measured by the ratio of net debt to earnings before interest, taxes, depreciation and amortization, compared to some of its competitors in the medical technology industry. However, this ratio of roughly 2.5 times Ebitda is considered comfortable for the business, as it has a high percentage (around 50%) of recurring revenue and will generates significant amounts of cash.
GE Healthcare's debt has been given an investment-grade rating of BBB by S&P Global (SPGI, Financial), Baa2 by Moody's (MCO, Financial) and BBB by Fitch. These ratings are all considered to be just above the lowest investment-grade ratings of BBB-, Baa3 and BBB-, respectively, for S&P, Moody's and Fitch.
Valuation
Based on the above, I estimate the company's enterprise value will be around $43 billion. Looking at the historic operating earnings (which is similar to Ebit), the company reported an Ebit of $2.915 billion for 2021. Rounding this out to $3 billion for 2023, we get a enterprise-value-to-Ebit ratio of around 14.3. This is reasonable when compared to a set of global competitors and undervalued for company this size which is expected to grow in the low single digits. Only FujiFilm appears to be a cheaper on a enterprise-value-to-Ebit basis. This compares favorably to data compiled by GuruFocus.
| Ticker | Company | CurrentPrice | Market Cap($M) | EV-to-EBIT | EV-to-EBIT (10yMedian) |
| GEHC | GE HealthCare Technologies Inc | 58.95 | 26,805.15 | 14.3 | |
| FUJIF | FUJIFILM Holdings Corp | 51 | 19,936.57 | 10.93 | 10.47 |
| SMMNY | Siemens Healthineers AG | 25.11 | 56,371.96 | 18.78 | 18.92 |
| PHG | Koninklijke Philips NV | 16.47 | 14,581.72 | -14.70 | 24.65 |
Morningstar (MORN, Financial) estimates that the equity value of the health care business is worth between $32 billion and $33 billion based on comparable market multiples. This valuation is based on a multiple of 12 times expected Ebitda of over $3.9 billion in 2024, resulting in an enterprise value of over $46 billion. The health care business will also assume $10.2 billion in debt and $5.2 billion in pensions but will have a cash balance of $1.8 billion. According to Morningstar valuation estimates, the health care business, which is trading at a market cap of $26.8 billion, is currently undervalued by about 20%.
However, since the company has not given any firm guidance as an independent entity, nor officially revealed details of its balance sheet, the above exercise is based on external estimates, which maybe in the end be off the mark.
My take
I believe GE Healthcare is in a recession resistant business, so I think the downside is limited. But it is also a mature business. so the upside is also limited. From what we know, the balance sheet is reasonably strong and does not have too much leverage. The company appears to have an economic moat around some of its businesses, particularly imaging, given the high technical and regulatory barriers.
There is also a solid network effect built around the digital interface of its capital equipment, because once a hospital or health system has invested behind major capital equipment from a particular manufacturer like GE Healthcare or Siemens., it gets locked in, as many complex systems such as, digital work-flow, records and business processes such as billings and payments, are then integrated around it. It then gets very expensive and difficult to replace the core imaging systems. Also, the hospital then tends to buy other capital equipment from the same manufacturer. GE Healthcare has a very large installed base of 4 million plus equipment installations, serving more than 1 billion patients. About 50% of GE Healthcare revenue comes from value added services and after sales service it provides to its customers.
It is too early to value the business with any great precision, but overall, I believe the market is valuing GE Healthcare reasonably correctly for now and it makes sense to wait until more details are revealed. We also don't know anything about dividend policy. I estimate the current price-earnings ratio of GE Healthcare to be about 15. The price-earnings ratio of the entire S&P 500 is around 20.
However, spin-offs do tend to be sold off by the market due to uncertainty, by impatient investors who don't fully understand the business or by institutional businesses who want to rebalance their portfolios following the spin-off. In addition, the current bear market and volatility might shake off some weak handed investors if they are forced to raise cash. If the stocks dips too much from where it is now, there may be a value opportunity.
