Fresenius Medical Care: 2025 Margin Aspirations Depend on Medtech Segment

At its investor day, Fresenius Medical Care FMS provided more insights into its margin improvement goals that surprisingly depend on its medical technology (care enablement) segment, which was decimated during the pandemic. The firm’s margin goals look achievable to us, and we think its competitive positions in its two major businesses remain intact. However, we would highlight that any further missteps by (new) leadership on its path back to economic profitability may cause us to rethink our narrow moat rating, which currently accounts for about 7% of intrinsic value. Even if that rating change were made, though, Fresenius shares would still appear significantly undervalued.

Management continues to shoot for operating margins between 10% and 14% by 2025 from 8% in 2022, and our fair value estimate only depends on the firm reaching the bottom end of that target range by 2025. Specifically, with a 2022 adjusted operating margin of 9.5%, the dialysis services arm (care delivery) looks well within reach of its operating margin goal of 10%-14% by 2025. However, with a 2% operating margin in 2022, the dialysis equipment and consumables business (care enablement) has a lot of room to improve toward its 8%-12% goal by 2025, which appears well below what we would expect from a top-tier medtech firm.

The medtech business appears to be suffering from two key factors. First, management highlighted that its U.S. peritoneal dialysis business, which is a laggard to Baxter, has been operating at a substantial loss and that business needs to at least be optimized and potentially even sold. Additionally, this segment sells equipment and consumables into dialysis clinics under long-term contracts that apparently did not have step-ups in pricing, even as inflationary pressures increased its operating costs. The company is working to improve its pricing and procurement activities, and management noted that it has had some success in those areas, although early days.