GE HealthCare Technologies: Stable Business, But Future Upside Seems Limited (GEHC)

Last year, General Electric (GE) completed the spinoff of its healthcare division GE HealthCare Technologies (NASDAQ:GEHC) which makes medical imaging devices and related products. Its main line of business includes medical imaging technologies such as MRI (Magnetic Resonance Imaging), CT (Computed Tomography) scans, X-ray, and ultrasound systems. These technologies are crucial for diagnosing and monitoring a large variety of medical conditions such as cancer, cardiovascular diseases, and neurological issues such as brain trauma. Since the spinoff in January 2023, the shares of GEHC have risen over 40% as shown by the chart below.

This article will analyze GEHC, the general healthcare market for medical devices, and the broader competitive landscape. While we note positive tailwinds for healthcare-related investments, we argue that there is little upside remaining for GEHC after the large price appreciation of last year. Investors with a higher risk tolerance might find Philips (PHG) to be a more appealing investment but should be aware of significant legal challenges.

General Trends Supporting Medical Devices

Ageing populations are expected to increase the demand for healthcare services and related products in the long term. As people get older on average, they need more medical care. The market for medical imaging devices is expected to grow at about 4-6% annually in the coming years.

In addition to this structural long-term tailwind, healthcare companies have a strong moat due to significant barriers to entry. Medical imaging devices are not easily replaced by cheap Chinese products due to tight regulation, the need for high-quality devices in a medical context, and data privacy concerns.

In general, healthcare is an attractive market with stable revenue that is not dependent on economic cycles. Moreover, established players in this market make relatively high net profit margins of about 10%.

Competitors in Medical Imaging

GE HealthCare Technologies is the largest player in this market by free cash flow metrics, which is a spinoff of General Electric that focuses on electrical equipment in multiple uses such as consumer products, energy, and aviation. The spinoff is part of a broader play to break up GE into a number of separate companies and unlock shareholder value. They are also planning to spin off their energy business.

Similarly, Siemens Healthineers (OTCPK:SEMHF) is the second player that is also a spinoff of Siemens (OTCPK:SIEGY). Siemens still owns about 75% of Siemens Healthineers, while General Electric only owns about 15% of GEHC. Siemens Healthineers seems to be more advanced on the front of AI and data services based on their medical imaging devices. For example, Siemens Healthineers offers very advanced data services, such as a digital twin that is a computer model of a patient’s organs and informs healthcare professionals.

Finally, Philips is in third place and lost market share due to their issues around respirators, their reputation is damaged and they have lost credibility. Instead of spinning off its health division, Philips has instead spun off all of its other divisions, such as ASML (ASML), Signify (OTCPK:PHPPY), and NXP (NXPI). These spinoffs, especially ASML valued at about $400b, have now grown larger than Philips itself. Philips is relatively cheap trading at $20b market cap, but they face litigation due to faulty respiratory devices which can have severe consequences. So there is a good reason why Philips is so cheap.

Relative financial performance and valuations

Despite General Electric having the largest market share and doing about the same in revenue as Siemens, they are selling for about half of what Siemens is selling for, suggesting that GEHC is undervalued on a relative basis. Philips is much cheaper than both, but that comes with substantial risk and uncertainty.

Similarly, balance sheets are comparable between GE and Siemens. GE has a slightly better balance sheet position than Siemens, with more cash and less debt. Furthermore, GEHC makes more in free cash flow to cover its debt.

According to this comparison, GEHC makes twice the free cash flow that Siemens is doing. Furthermore, their capex is about half of Siemens. This could be positive in the sense that they are more efficient, or negative in the sense that they are underinvesting. In this market, you need to keep investing to deliver state-of-the-art equipment in order to remain as the market leader. Siemens Healthineers is valued more highly than GEHC, but it also seems like they have a technological edge over GEHC because of their higher investments.

Philips has fallen behind both GE and Siemens because of their crisis and poor performance. Lawsuits could mean big expenses for Philips similar to Bayer (OTCPK:BAYZF), who had to pay $2.5b to just one person who (allegedly) developed cancer as a result of their herbicide product Roundup. To me, it seems wise to stay away from Philips for now, given these potential fines and expenses.

GEHC seems to be fairly valued, but in my opinion, there is not much to get excited about; the growth was only a few percentage points with a PEG ratio above 2 which should be below 1.5 ideally, and the dividend yield is below 2%. In terms of valuation, Siemens seems considerably overvalued, while Philips is undervalued. However, just looking at these numbers ignores the fact that Siemens has a technological advantage and Philips is facing a lot of issues.

Downside Risk Analysis

Because of skyrocketing healthcare costs around the world, there is downward pressure on prices, with governments looking to reduce expenses where possible. While the industry has significant barriers to entry for various reasons, the recent emergence of competitors from China poses a risk for Western manufacturers. There is a similar dynamic at play in EVs for Tesla (TSLA), who now have to compete against cheap Chinese EVs from BYD (OTCPK:BYDDF) which results in decreasing profit margins for Tesla.

Similarly to Philips, it is possible that a medical device from Siemens or GEHC malfunctions or does not work as intended. Given the high-stakes medical context of life and death, such events can have devastating consequences for both patients and shareholders of such companies providing equipment.

Finally, there is always the risk of technological disruption. While GEHC invests a considerable amount in R&D, its developments are relatively stagnant. In comparison to GEHC, Siemens seems to have more technologically advanced products and services that could make GEHC’s products obsolete. Importantly, GEHC makes most of its revenue from servicing the equipment after it was sold. This business model creates a financial incentive for the company to sell mediocre products that require a lot of repairs. According to previous employees at the company, this structure does not stimulate the development of innovative and high-quality products, which is a long-term disadvantage.

Conclusions

At its current market cap, GEHC seems fairly valued to me, and perhaps even a little expensive. The potential upside of buying the spinoff at the start of 2023 seems to have disappeared, with the share price rising over 40% last year. The right time to buy GEHC and/or GE was at the start of 2023, now it might be time to take some profits. At the current price, my rating for GEHC is a “hold” because it is still a stable and profitable business. However, future upside seems limited after the recent share appreciation and there is substantial downside risk. An increased dividend might help to create more value for shareholders. Moreover, my rating for Siemens Healthineers is a “sell” because it seems to be considerably overvalued compared to its peers despite its technological edge.

Investors looking for more risk and reward might be interested in Philips because it is relatively cheap compared to its peers. However, Philips is facing a lot of issues due to their respiratory devices, and they lost market share. Litigation is ongoing, so an investment in Philips, while it may appear cheap, comes with substantial risks. The possibility of large fines is weighing on Philips, and this problem can take years to resolve with substantial impact.

In general, while healthcare is a stable and profitable industry, these three companies do not seem like great investments currently, other healthcare-related investments, such as pharmaceuticals, healthcare providers, or biotechnology companies, might have a better risk/reward profile.

Editor’s Note: This article discusses one or more securities that do not trade on a major U.S. exchange. Please be aware of the risks associated with these stocks.