Infection Prevention Demand And International Expansion Will Support Stronger Long Term Earnings

Catalysts

About Covalon Technologies

Covalon Technologies develops and commercializes infection prevention and advanced wound care products that help clinicians improve patient outcomes in demanding care settings.

What are the underlying business or industry changes driving this perspective?

• Growing clinical focus on reducing catheter associated bloodstream infections, supported by peer reviewed data on VALGuard and advocacy from leading clinicians, is likely to accelerate adoption in top tier hospitals and expand average revenue per account.
• Heightened health system pressure to avoid costly hospital acquired infections and length of stay is increasing demand for proven prevention bundles. This is positioning Covalon’s portfolio as a potential cost saving solution that may support higher pricing power and stronger gross margins.
• House wide and multi unit rollouts, such as the recent CovaClear indication win at a major children’s hospital, demonstrate a scalable land and expand model that could drive deeper penetration of existing customers and support sustained revenue growth.
• Operational automation, digital quality systems and process streamlining are reducing waste and scrap. These efforts are expected to structurally lower unit costs and support improved gross margins and EBITDA as volume scales.
• Expansion of international distribution and new strategic partnerships in advanced wound care, including a large initial purchase order, are broadening the revenue base beyond the U.S. and may help smooth channel volatility while supporting total earnings over time.

Assumptions

How have these above catalysts been quantified?

• Analysts are assuming Covalon Technologies's revenue will grow by 10.1% annually over the next 3 years.
• Analysts assume that profit margins will increase from 6.3% today to 11.2% in 3 years time.
• Analysts expect earnings to reach CA$4.9 million (and earnings per share of CA$0.17) by about December 2028, up from CA$2.1 million today.
• In order for the above numbers to justify the price target of the analysts, the company would need to trade at a PE ratio of 19.4x on those 2028 earnings, down from 24.4x today. This future PE is lower than the current PE for the CA Biotechs industry at 24.4x.
• Analysts expect the number of shares outstanding to remain consistent over the next 3 years.
• To value all of this in today's terms, we will use a discount rate of 6.26%, as per the Simply Wall St company report.

Risks

What could happen that would invalidate this narrative?

• Reliance on continued outperformance in the U.S. Vascular Access and Surgical channel, which is currently growing at 8 to 10 times the market rate, may not be sustainable over the long term if competitors respond with similar infection prevention offerings or aggressive pricing, which would slow revenue growth and pressure earnings.
• Ongoing margin compression from product and geographic mix shifts, including faster growth in lower margin international sales and SKU mix changes in U.S. Advanced Wound Care, could structurally cap gross margins in the low 50s rather than the mid to high 50s, limiting future net margin expansion and earnings growth.
• Channel concentration and partner specific disruptions in U.S. Advanced Wound Care, evidenced by inventory build, ownership transition and short term demand volatility at strategic partners, highlight a recurring risk that distributor or partner issues could again reduce advanced wound care revenue and weigh on total company revenue and EBITDA.
• Dependence on a narrow set of flagship technologies and key opinion leader advocacy, such as VALGuard and support from leading vascular access clinicians, exposes the company to the risk that new clinical data, shifting guidelines or rival technologies could reduce clinical enthusiasm, slowing adoption rates and constraining revenue growth.
• While current cash generation and a CAD 17 million cash balance with no debt provide a strong foundation, any misstep in scaling automation, digital systems and manufacturing capacity or an unexpected setback in quality or regulatory audits could increase operating expenses and capital needs, eroding net margins and free cash flow over time.

Valuation

How have all the factors above been brought together to estimate a fair value?

• The analysts have a consensus price target of CA$2.9 for Covalon Technologies based on their expectations of its future earnings growth, profit margins and other risk factors.
  
• In order for you to agree with the analysts, you'd need to believe that by 2028, revenues will be CA$43.8 million, earnings will come to CA$4.9 million, and it would be trading on a PE ratio of 19.4x, assuming you use a discount rate of 6.3%.
  
• Given the current share price of CA$1.83, the analyst price target of CA$2.9 is 36.9% higher.
  
• We always encourage you to reach your own conclusions though. So sense check these analyst numbers against your own assumptions and expectations based on your understanding of the business and what you believe is probable.