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ResMed, 1300 Smiles, Cochlear: The bull case for 2014

When you look over an industry it’s smart to start at the top of the company rankings by market capitalisation and performance to get a gauge of a stock’s outlook. Not that you shouldn’t consider smaller companies because they can be real growers with the right business model. The market leaders are the standard and give you an idea of whether the industry is price competitive or attracts a premium.

Looking at healthcare equipment and services, I screened out companies that have net profit margins over 15% and then chose two market leaders and an up-and-coming business to see which may be a better bull case.

Cochlear (ASX: COH) and ResMed (ASX: RMD) are major industry leaders with respective market caps of $3.4 billion and $7.4 billion. 1300 Smiles (ASX: ONT) weighs in at just $141 million.

Cochlear deals in bionic hearing devices, while ResMed concentrates on respiratory disorder-related devices, so not much competitive overlap there. 1300 Smiles provides dental professionals with dental surgeries, practice management and other administrative services.

Investor earnings

Looking at investor earnings, the highest dividend yield is Cochlear’s 4.2% and for net profit margin ResMed leads with 20.3%. High net profit margins are doubly good when a stock has a high earnings growth rate. This is where ResMed squeaked out ahead of 1300 Smiles, with a past five-year earnings per share annual growth rate of a compound 24.7%, versus 18% for 1300 Smiles. Cochlear was way back in third place.

Value levels

The market is expecting good growth from all three and all have PE ratios in the mid 20s, with Cochlear the highest at 25. Due to that and Cochlear’s lower five-year EPS growth rate of a compound annual 2.3%, I think ResMed and 1300 Smiles are better value at current prices.

Forecast earnings prospects

2014’s analyst forecasts favour 1300 Smiles, projecting the largest earnings percentage gains of the three. 1300 Smiles is a small business that grows by adding more dental practices to its service network. There are also many private practices that can be either acquired or attracted into its circle. Forecast earnings gains are 16% to ResMed’s 13%. Cochlear’s performance is also expected to improve in 2015.

Foolish takeaway

Based on the topics here the race is mostly between ResMed and 1300 Smiles. I like 1300 Smiles’ EPS growth prospects. It also has a longer history of paying dividends and a higher dividend yield (currently at 2.8%) than ResMed.

Of the three, I am most bullish about 1300 Smiles. Although it is not an international company like ResMed and Cochlear, it has a lot of room to grow domestically and there’s a large number of privately practicing dentists and orthodontists that could join the network over time. Like a chain store growing across a country, 1300 Smiles can do the same with not a lot of competition.

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Motley Fool contributor Darryl Daté-Shappard does not own shares in any company mentioned. 

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