A year ago, I concluded that investors in Silk Road Medical (NASDAQ:SILK) have been on quite a road over the past year, as the premium valuation had come down quite a bit. This pullback was welcomed as the business appeared to be a secular winner, which started to look compelling. However, lack of operating leverage displayed meant that I was not pulling the buy trigger yet.
Ever since, Silk has delivered on continued growth; in fact, a small growth acceleration, although that operating leverage is slow to emerge. That said, the combination of continued growth and a further reset in the valuation creates for an interesting proposition for those with an above average tolerance to risks.
A Focus On Strokes
Silk Medical Road is a medtech business which focuses on the development of devices which both reduce the risk and impact of a stroke under the so-called “TCAR” approach, standing for transcarotid artery revascularization. The company hopes that this technology becomes the standard in the field. Progress in this area is very much welcomed with stroke being the 5th most common cause of death, leaving millions of survivors with permanent disability, resulting in huge costs to society and impact on quality of life.
The basic premise behind the technology is that of a minimally invasive direct carotid access in the neck in order to protect the brain. This product and technology is the only FDA-approved technique based on TCAR, demonstrating on both a reduction in the chance of a stroke while improving the mortality profile.
Ahead of the IPO in 2019, the company performed 4,600 procedures in 2018 on which it generated $35 million in revenues, although operating losses were reported at $21 million. With shares trading at $35 on the first day of trading, a billion valuation meant that the company traded at 28 times sales.
Trading in the $30-$50 range in the first year of trading, shares fell to the $20 mark amidst the outbreak of the pandemic and rose to the $70 mark later in 2020. With a resulting $2 billion enterprise valuation, multiples were very demanding as revenues still trended below the $100 million mark. I urged a word of caution.
In 2021, revenues rose by more than 30% to $101 million, although operating losses of $47 million were still significant and not really coming down. With shares down to $44 in April 2022, the resulting $1.5 billion operating asset valuation came in at 11-12 times sales, based on a guidance which called for sales of $129 million that year. This was based on an 8% market share of the TCAR technique, and while the sales multiple has come down a lot, I was still cautious given the losses reported.
Continued Share Price Pressure
Trading in the mid-forties in April, shares rallied to the $50 mark by late in 2022 and have traded in the low fifties earlier this year. Ever since, shares have gradually come down to the $30 mark at this point in time.
Fortunately, the company took advantage of the relative strong share price as it sold 2.3 million shares back in October of last year at $43 per share, in an effort to raise $99 million in gross proceeds.
By February, the company posted its 2022 results. Revenues rose 37% to nearly $139 million, nearly ten million ahead of the preliminary full year outlook, as the penetration of TCAR approached 12% of the market. That is encouraging as it essentially confirms that the company and technology is gradually gaining share in a more than a billion market, although some analysts disagree with the size of the market opportunity, standing at the basis of a recent downgrade.
While operating losses expanded from $47 million to $52 million, relative losses are coming down. Operating leverage should be seen at some point as years of training and achieving a critical mass means that incremental profits from additional procedures will have a big contribution to the bottom line.
Fourth quarter sales of $40 million trend at a run rate of $160 million already as operating losses stabilized at a rate of $50 million. For the year 2023, the company guided for sales at a midpoint of $180 million, as it did not provide a margin guidance.
Early in May, the company posted first quarter results, as this was a mixed bag. First quarter sales growth of 43% was very convincing, although revenues were flat at $40 million versus a seasonally strong fourth quarter. Disappointing is that operating losses ticked up a bit to $17 million, after it appeared that progress was made on this front in the fourth quarter (at least compared to the quarter a year ago).
With 38.5 million shares now trading at $30, the company now commands a $1.15 billion equity valuation. This includes about a $125 million net cash position following the equity raise last fall, as the operating asset valuation comes in around a billion. This values the business at roughly 6 times sales, which looks like a very reasonable multiple amidst >40% sales growth number, albeit some operating leverage is badly needed.
Concluding Thought
Traditionally being awarded a >20 time sales multiple, valuations have come down to about 6 times sales here which looks compelling, certainly if we account for current growth rates in excess of 40%.
That all looks quite promising, yet the lack of operating leverage seen here makes me a bit cautious, not because the company will quickly run out of cash but more to provide some fundamental support to the valuation.
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