Investor Essentials Daily

Quidel is a potential winner for a hidden theme in 2022

Quidel Corporation (QDEL:USA)
January 4, 2022

History has shown that the world’s greatest investors, past and present, understand the simple fact that as-reported financial metrics are unreliable.

To be successful, they account for arbitrary accounting rules by adjusting the financials, providing a true picture of economic reality and allowing them to find companies that exhibit three characteristics: high quality, strong growth potential, and low valuations.

Today, we highlight our QGV 50, which emulates this investment strategy to produce outsized returns in excess of the market over long periods of time.

We’ll take a look at one company in particular on this month’s QGV 50, describing how as-reported metrics distort the firm’s historical performance and paint an overly pessimistic picture of its future.

Also below, the company’s Uniform Accounting Performance and Valuation Tearsheet.

Investor Essentials Daily: 
Tuesday Tearsheets
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Throughout financial market history, many of the world’s most successful investors have been candid in their belief that Generally Accepted Accounting Principles (“GAAP”) distort economic reality.

Investors who neglect the very real issues with as-reported accounting can find themselves caught up investing with the crowd, blindly following hot “themes” without a thorough grasp of how to understand the businesses in question.

The only true way to consistently beat the market over the long run is to develop a clear picture of how a business operates, something that can only be done by adjusting financial statements to reflect the arbitrary nature of certain accounting rules that leave much to discretion.

The world’s best investors understand the need to make these adjustments, which allows them to focus not on picking out the most popular companies, but rather looking for great names in sleepy areas that the market isn’t paying much attention to. From there, the goal is to then identify quality companies with significant growth potential at reasonable prices.

That’s exactly what we’ve set out to do with the QGV 50, our monthly list of 50 companies that rank at the top for high quality, high growth, and low valuations.

This list has outperformed the market by 300bps per year for over 20 years now, effectively doubling the performance of the market by focusing on the real fundamentals and valuations of companies with our proprietary Uniform Accounting framework.

See for yourself below.

A top QGV 50 name this month is Quidel Corporation (QDEL), a leading provider of diagnostic testing solutions, such as those used for detecting COVID-19.

As much as everyone hates to admit it, one of the clear lessons of 2021 as we enter this new year is that pandemics are hard to eradicate.

The emergence of new strains of the virus such as the Omicron variant showcase that all governments and health authorities can hope to do is make the disease more manageable.

In other words, COVID-19 is likely to be an endemic issue that is here to stay.

This means we must all learn to live with the virus, and one of the best ways to do so is getting accustomed to testing.

Taking a COVID-19 test before seeing loved ones or after potentially being exposed is quickly becoming the norm, especially as rapid antigen tests become more ubiquitous in the developed world.

The best known of these rapid tests is probably Abbott Laboratories’ (ABT) BiNax test, but a close second comes from Quidel’s QuickVue solution.

While many are already familiar with Abbott—it is, after all, a $230 billion company—demand for rapid antigen tests has helped place much smaller Quidel on the map in the diagnostics space.

The company has benefited immensely from demand for COVID tests, but even before the pandemic began Quidel was emerging as a growing player in the space.

Yet, a look at as-reported metrics paints a much different picture. The company’s as-reported return on assets (“ROA”) in the years leading up to 2020 were barely above cost of capital levels.

In fact, in 2016 Quidel’s as-reported ROA was actually in negative territory. This suggests a company burning through cash only to yield no results.

See for yourself below.

In reality, Quidel had been running a healthy business in the testing space well before COVID-19 struck.

Uniform Accounting shows the company was generating an impressive 27%-28% Uniform ROA in 2018 and 2019, right before skyrocketing demand for tests pushed the firm’s returns to the stratosphere at 107% in 2020.

Not only is Quidel a much more profitable business than as-reported metrics suggest, but it’s also forecast to sustain a great deal of strength as demand for testing remains hot.

This means the company needs to invest in itself to keep generating capacity, which is exactly what it’s been doing. Quidel has been investing aggressively to support growing demand, with over 25% Uniform asset growth in 2020 and 2021.

Despite this strong growth and robust returns, the market seems far too pessimistic on Quidel’s future. 

Investors appear concerned that demand for Quidel’s testing will fall off a cliff once the pandemic comes under control, hence why it is valued at a Uniform price-to-earnings ratio (“P/E”) of just 21.0x.

But as we mentioned earlier, COVID-19 is likely to be an endemic disease. As unfortunate as that reality may seem, it means societies will need to adjust and adapt by continuing to test their citizens.

It also means the tailwinds for testing providers like Quidel should continue going forward. This makes pessimistic market expectations appear unwarranted, hence why the company is on this month’s QGV 50 list.

If it were easy to find great companies with growth potential trading at favorable prices, professional investors would be out of the job. And yet, with Uniform Accounting it is, and that’s why the QGV 50 has had such tremendous success beating the market over the years.

To learn more about the QGV 50 and see the other 49 companies on the list this quarter, click here to get full access today. 

SUMMARY and Quidel Corporation Tearsheet

As the Uniform Accounting tearsheet for Quidel Corporation (QDEL:USA) highlights, the Uniform P/E trades at 21.0x, which is below the global corporate average of 24.0x but above its historical average of 13.8x. 

Low P/Es require low EPS growth to sustain them. In the case of Quidel, the company has shown a 709% Uniform EPS growth in the previous year.

Wall Street analysts provide stock and valuation recommendations that provide very poor guidance or insight in general. However, Wall Street analysts’ near-term earnings forecasts tend to have relevant information.

We take Wall Street forecasts for GAAP earnings and convert them to Uniform earnings forecasts. When we do this, Quidel’s Wall Street analyst-driven forecast is a 29% and 66% EPS decline in 2021 and 2022, respectively.

Based on the current stock market valuations, we can use earnings growth valuation metrics to back into the required growth rate to justify Quidel’s $152 stock price. These are often referred to as market embedded expectations. 

The company is currently being valued as if Uniform earnings were to decline by 15% annually over the next three years. What Wall Street analysts expect for Quidel’s earnings growth is below what the current stock market valuation requires through 2022.

Furthermore, the company’s earning power is 18x the long-run corporate averages. Moreover, cash flows and cash on hand are over 7x its total obligations—including debt maturities and capex maintenance. All in all, this signals a low credit risk.

Lastly, Quidel’s Uniform earnings growth is below its peer averages, and the company is also trading below peer average levels. 

Best regards,

Joel Litman & Rob Spivey

Chief Investment Strategist &
Director of Research
at Valens Research

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