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Pro-Dex - growing medical device manufacturer with high ROIC

8/31/2020

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Bought  a new stock today for 5% of my portfolio with a stop loss as usual.

The company specializes in the design, development and manufacture of autoclavable, battery-powered and electric, multi-function surgical drivers and shavers used primarily in the orthopedic, maxocranial, and thoracic markets. They have patented adaptive torque-limiting software and proprietary sealing solution. Their customers are mainly primarily medical device distributors and OEMs (original equipment manufacturers). Large companies like Medtronic often outsource their manufacturing of specialized equipment to third-party companies as it's cheaper than developing it in-house.

PDEX has a market cap of $81 million and generated sales of $34 million in the year ending June 2020, with net income of $6.1 million and free cash flow of $5.4 million. The company has no debt, $9 million in cash and short-term investments and equity of $19 million. Its ROE Is therefore 31.6% and its ROIC is above 60%. Medical device companies can be quite profitable, once they pass all FDA tests they can keep customers for a long time and charge premium prices.

The company derives the majority of its revenue from sales of medical devices, however repairs have become a major part of business, increasing from 4% of revenue in FY19 to 17% in Q3 2020 (ending March 2020). Pro-Dex released two new products in Q2, a thoracic driver to one of their existing craniomaxillofacial ("CMF") customers and next generation CMF driver for an existing customer. These products contributed $1.6 million in Q4 revenue which increased their growth to 60% y-o-y. Excluding these new products, revenues would be up 36%. According to their earnings release, customers usually buy  larger quantities upfront, which means that Q4 revenues of new products might not be indicative of their sales in next few quarters: "Additionally, as described above, we released two new products in the second half of fiscal 2020 and while we expect to have future orders for these new products, often the launch or initial quantities are such that our customer can comfortably fill its distribution network and follow on orders may not occur for many months. As a result, fiscal 2020 sales of these products may not be indicative of what sales of these products may be in the future."

The organic growth of the business is still quite impressive and it's a great thing that their R&D efforts are bearing fruit and they are coming up with new products. 

The major shareholder and chairman is Nicholas Swenson, who owns just over 1 million shares translating into 26% of the company. He along with Raymond Cabillot (who owns 10.7% of shares) fought a proxy fight for the company in 2013. Back then, it was a struggling and unprofitable business which lost an important customer and was on its way to bankruptcy. They managed to turn it around by bringing in Richard van Kirk as CEO. Here is an interesting writeup on the past of PDEX on VIC: https://www.valueinvestorsclub.com/idea/PRO-DEX_INCCO/7443796112





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