Analyst Note, Alex Morozov, 14/11/2014
William Demant reported interim results and offered an outlook for the remainder of 2014, which showed noteworthy deterioration in its U.S. business due to Sonova's recent decision to sell its premium brand at Costco. We've been speculating that this strategic move could be disruptive for the stable U.S. marketplace, and William Demant's admission that the pricing in the U.S. for its Oticon brand is being pressured confirms our concerns. While Sonova's decision will undoubtedly help that firm gain volume in the U.S. private payer market, it is likely to have repercussions beyond the near future as the entire audiologist-patient relationship may come under duress. We've been hearing that audiologists are very unhappy with Sonova's move, and William Demant alluded to market share gains in the independent channel. A pickup of few independent audiologists' shelf space share, however, wasn't sufficient to make up for the shortfall in premium pricing and declines in Bernafon's volume. While this dynamic isn't likely to affect our narrow moat rating given still fairly attractive economics and dominant global share for both players, the positive trend in competitive positioning is now more questionable.
We're adjusting our models for both companies to reflect recent developments, which is most likely to result in a small downward move in our fair value estimate for William Demant. In addition to our dialing down U.S. projections, we are also incorporating DKK 100 million in charges the company has taken in the quarter. William Demant found a few inaccuracies in the balance sheets of retailers that the company acquired over the past few years, and it also had to write off a loan to an optician chain that declared bankruptcy. While not overly material, these charges, in addition to a 3% revision to earnings from the negative business developments, precipitate the fair value revision. However, the shares are still likely to be undervalued at current levels.
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Bull og Bear scenarier for William Demant
Bulls say
- Approximately 16% of the world's population suffers from hearing loss, expected to grow to 20% over the next decade. Even in developed countries, penetration rates only reach 20% on average.
- William Demant's direct presence in retail channels adds another barrier to entry for new technologies. It also pressures the firm's existing rivals that lack resources needed to make a dent in the retail market.
- Emerging markets represent a robust opportunity for William Demant due to the rising middle class in these countries, and the currently low adoption rate of hearing aid technology.
Bears say
- The company's slow product refresh caused it to cede some market share and profitability.
- The cost of a hearing aid is borne nearly in its entirety by the patient, which may cause some to defer the purchase of a new device or downgrade to a cheaper substitute.
- Participation in the U.K.'s National Health Services program is beneficial to revenue but detrimental to ASPs, as NHS includes mainly bare-bones devices in its program and demands notable discounts from manufacturers.
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