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Long-term prospects for medtech sector healthy

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MEDIA RELEASE: Weakened business fundamentals among medical technology companies, coupled with compressed valuations and dampened investor sentiment, have created a perform storm for the sector over the past six to twelve months but the longer-term outlook is looking positive, says SG Hiscock & Company portfolio manager, Rory Hunter.

“Our investment process is based around the evaluation of fundamentals, valuations and sentiment; all of these factors have been down for the medical technology sector, but for those medtech businesses that weather this environment, longer-term returns look very favourable,” he said.

Non -profitable ASX-listed medtech companies have sold off as much as 70 per cent over recent months, predominantly due to expectations of the removal of excess liquidity in the financial system leading to valuation multiple compression. In addition, the pandemic has acted as a short-term headwind for businesses looking to acquire new customers or sell additional product, leading to a weakness in fundamentals. Both of these factors have led to a deterioration in sentiment sector-wide.

“The strong performance of medtech stocks following the onset of the pandemic was more correlation than causation. Yes, the pandemic drew people’s attention to innovative medical solutions, but the flood of liquidity into markets pushed down the discount factor – which the majority of these businesses are modelled on – and, in turn, pumped up valuations.

“The market was looking for longer duration exposures, those companies whose intrinsic values are determined by earnings further in the future.  Now, with discount rates rapidly on the rise, that investor attraction is dissipating at a pace.

“As such, there’s less momentum, but the longer-term fundamental drivers continue to stack up,” Mr Hunter said.

He added that businesses with strong balance sheets and growing cash flows are well placed to weather the near-term storm.

Neuroscience company, Cogstate Limited, is one example. The company optimises brain health assessments to advance the development of new medicines and enable earlier clinical insights in healthcare.

“Cogstate was a major beneficiary of COVID. The company has a digital test used in clinical trials for cognitive diseases like Alzheimer’s. The pandemic pushed big pharma companies to decentralise their clinical trials, and Cogstate is set to structurally benefit from this decentralisation.

In addition to balance sheet strength, It’s a profitable business with growing margins and a healthy pipeline of additional work. We also believe the market has significantly underestimated the proprietary nature of the company’s IP.

“Perpetual market favourites like CSL and Cochlear also have fundamentals which are recovering well. Before we see small companies regain sustainable momentum, large companies will need to lead the market higher. We are seeing green shoots.” he said.

The SGH Medical Technology Fund was launched into the Australian market in June last year, and aims to provide long-term capital growth by investing in a portfolio of medical technology companies where innovation plays a role in improving global health and economic outcomes.

The Fund invests in a mix of established and start-up medical technology companies, listed and unlisted, in Australia and New Zealand. It typically holds between 40 and 60 investments.

SGH has established a registered charitable foundation which will be funded by 10 per cent of net revenue from the SGH Medical Technology Fund, including performance fees.

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