Activist Ananym calls on Henry Schein to cut costs. what happens | Real Time Headlines

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Activists commented: Ananym Capital Management is a New York-based activist investment firm launched on September 3. Committee) operating P2 Capital Partners members). Ananym looks for high-quality but undervalued companies, regardless of industry. The firm prefers to work amicably with its portfolio companies but is also willing to engage in proxy fights as a last resort. It holds about 10 positions in its portfolio and currently manages $250 million.

Henry Schein is a leading global distributor of healthcare products and services for office-based dental and medical practitioners. The company operates through two segments that provide distinct products and services to the same customer base: (i) healthcare distribution and (ii) technology and value-added services. Healthcare Distribution covers Henry Schein’s distribution of dental and medical products such as laboratory products, pharmaceuticals, vaccines, surgical products, dental specialty products and diagnostic tests. This segment accounted for 93.5% of net sales and was broken down into dental (61.1% of total net sales) and medical (32.4% of net sales). While the company’s primary go-to-market strategy is its distribution capabilities, it also sells its own portfolio of corporate brand products and manufactures certain dental specialty products. In terms of size, the company is the global leader in dental distribution and ranks second in medical distribution, behind office-based physicians. Henry Schein’s Other segment, Technology and Value-Added Services (6.5% of net sales) covers the sale of practice management software and other value-added products. The company has a market capitalization of approximately $9 billion and generates approximately $1 billion in free cash flow annually.

Despite its leading market position, attractive market structure, differentiated value proposition and strong profitability, Henry Schein has delivered no value to shareholders in terms of total shareholder return over the past five years ( 0% as of November 15), compared with 59% for the S&P 500 Healthcare Index and 105% for its agency peers. The main reason for poor performance is obvious: cost control. Since 2019, the company’s revenue has grown at a compound annual growth rate of 5%, and its gross profit has grown at a compound annual growth rate of 6%. But the company has spent all of the additional revenue and some of its expenses on operating expenses, resulting in an 8% increase in annual operating expenses and a drop in adjusted EBITDA from 10% to 8%. In other words, in 2019 the company had revenue of $10 billion, gross profit of $3.1 billion, and EBITDA of $916 million. Today, the company has revenue of $12.5 billion, gross profit of $3.9 billion, and EBITDA of $815 million. Part of the reason for this is that the company has spent more than $4 billion (nearly 45% of its current market capitalization) on bad acquisitions that delivered returns on invested capital that were well below the company’s cost of capital. Additionally, management failed to integrate these acquisitions, resulting in inflated selling, general and administrative expenses. The first thing Henry Schein needs to do is implement the company’s announced comprehensive cost restructuring plan of more than $100 million. Potential actionable savings of $300 million could increase earnings per share by 35% or more.

Next, the company needs to do a good job in capital allocation. It must stop using cash flow to make acquisitions or pay down debt that costs 6%, and start using cash flow to buy back stock at those prices. The company’s price-to-earnings ratio for the next 12 months is 13 times, close to a 15-year low. Henry Schein has stable cash flow and a strong balance sheet. In addition to cash flow, it can increase net leverage from 2.6x to 3.0x to acquire more than 10% of its current outstanding shares and 40% of its outstanding shares by 2026, instead of doing a meager $300 million to $400 million in share buybacks (<5% of market cap) it announced a target for 2025. In addition to these steps, the company's healthcare business offers strategic opportunities. While Henry Schein has successfully broken into the office physician market as the second largest player, the business environment is much more competitive, favoring larger distributors. The sale of the asset could be worth $2.5 billion or more, which would add to the stock price and could be used to further buy back the company's discounted shares.

Many companies have serious problems that require activists to put up with. This is a company that doesn’t need activists to survive, but would benefit greatly if one could help optimize its operations and balance sheet. Henry Schein was a great company that floundered and was left alone at a time when it could have grown dramatically. Part of the reason the market allowed this was because of comparisons to sleepy peers Patterson and Undergraduate. Benco is a private company, and Schein’s three-year return of -12% far exceeds Patterson’s -41%, but Schein should be benchmarked against the largest U.S. healthcare distribution companies, such as Cardinal Health (+135%), Cencora (+) 93%) and Maxon (+173%). Maybe not in terms of size or end market, but in terms of desire and dedication to shareholders. This requires updating the circuit board. Several directors had been with Henry Schein for more than a decade, and the board lacked top-notch distribution expertise. A new board could come on board and develop a succession plan for Stanley Bergman, who has been CEO for 35 years. This is easier when the company can retain senior management. But under the current board, the company has experienced worrying levels of senior executive turnover since 2021.

Ananym doesn’t have a history as an activist yet, but knowing Charlie Penner and Alex Silver as well as we do, we expect them to work hard to work amicably with management to create value for shareholders. We don’t expect the company to insist that the Ananym chief get a board seat. However, we do expect Ananym will recommend several qualified industry executives who can help make the necessary changes to create significant shareholder value from the board level. But don’t confuse investor friendly demeanor and friendly interactions with weakness. The company is a fiduciary to its investors and will take all necessary steps to create value for its portfolio companies. The director nomination window will not open until January 21, 2025, and we expect the parties to reach an agreement before then.

Ken Squire is the founder and president of 13D Monitor, an institutional research service on shareholder activism, and the founder and portfolio manager of the 13D Activist Fund, a mutual fund that invests in activist 13D portfolios.