A healthy IPO?

With a wave of Initial Public Offerings (IPOs) hitting the market, it can be hard for investors to wade through pages and pages of prospectuses to find the companies that are actually worth investing in.

And while the big name IPOs such as Nine Entertainment (ASX: NEC), Dick Smith Holdings (ASX: DSH) and Freelancer (ASX: FLN) are garnering all the attention, some smaller IPOs are sliding under the radar of many investors, but could be better long term investments than the big-name IPOs.

One such IPO, due to list on the ASX today, December 5, is LifeHealthcare Group (ASX: LHC). While the IPO is only being offered to some selected brokers and their clients, institutional investors and employees, should the company’s shares trade anywhere close to its initial offer price of $2.00, it could be an attractive opportunity.

LifeHealthcare is issuing 38.3 million shares to the public, with around 5 million shares to be held by directors, senior management and some existing investors. The indicative market capitalisation at the $2.00 issue price will be just $85 million.

What is attractive is that the sellers of the IPO, Macquarie Investment Management and private equity group Crescent Capital Partners appear to have left a fair amount of upside on the table for investors. According to the prospectus, LifeHealthcare is being offered at an attractive P/E ratio of 11.7 times, and is expected to pay a fully franked dividend yield of 6.9%.

Additionally, the company has been growing net profit by an average of more than 20% each year, despite average revenue growth of just 6%. That suggests that as revenues grow, a larger percentage should fall through to the bottom line.

So what exactly does LifeHealthcare Group do?

Current CEO Daren McKennay founded LifeHealthcare in 2006 through the acquisition of six medical device companies.

The company is a specialised distributor of high end medical devices, selling its products to surgeons, hospitals and other medical specialists in Australia and New Zealand. Many of the company’s products are highly technical in nature, with many being used in spine surgery, neurosurgery, orthopaedic and general surgery. The company also sells capital equipment such as hearing aids, ultrasound, CT, MRI and X-ray equipment, along with consumable products like syringes, needles, bandages and dressings.

LifeHealthcare Group is well positioned to take advantage of demographic and social factors that should drive further growth, including product innovation, a growing ageing population, a more active older population – leading to more surgery for things like knees and hips – as well as increased demand for health services. The company has 1,300 customers and sources its products from 60 suppliers.

Healthy growth

The medical devices market has grown by 5.2% annually since 2008, but is expected to grow at around 6.9% annually over the next five years, according to Epsicom, a UK-based global medical devices researcher. Within that market, the orthopaedic and prosthetics segment, which represented 55% of LifeHealthcare’s revenue in 2013, is expected to grow by 7.7% in Australia and 12% in New Zealand.

Much of that growth will be driven by an ageing population, with the number of people aged between 65-84 years expected to more than double by 2050, while those aged over 85 will increase six-fold. A growing number of older Australians are also participating in sport and physical activity, and leading more active lifestyles, which means they are more likely to seek medical intervention than previous generations.

LifeHealthcare expects to post revenues of $82.6 million in the 2014 financial year, and a net profit of $7.3 million. But the company says $4.8 billion will be spent on medical devices in Australia and another NZ$1 billion in New Zealand this year, suggesting there is plenty of scope for the company to grow its market share. The market is widely fragmented with 65% consisting of small third party distributors offering a small range of products.

Additionally, LifeHealthcare expects to introduce new products, including seven in the 2014 financial year, as well as adding new customers.

Competitive advantage

LifeHealthcare has entered into exclusive agreements with a number of suppliers, and its sales representatives are generally highly trained experts in the products they supply. Established relationships with a number of surgeons, and clinicians who are responsible for purchasing products, creates a barrier to entry for new competitors.

Customers tend to be sticky, and often require a high level of ongoing support from LifeHealthcare as well as training, particularly for newer products and devices. In some cases, LifeHealthcare representatives are required to attend surgery to provide assistance and advice.

Foolish takeaway

IPOs can be an investment graveyard – who can forget Myer’s (ASX: MYR) float. Investors are right to be wary. That said, with significant potential for continued growth over many years through a range of factors, and seemingly priced attractively, LifeHealthcare could be one stock to add to your watchlist.

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Motley Fool writer/analyst Mike King doesn't own shares in any companies mentioned. You can follow Mike on Twitter @TMFKinga

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