Planet Health: The King Of An Asset-Gentle Enterprise (NYSE:PLNT)

Funding thesis

Planet Health Inc. (NYSE:PLNT) is without doubt one of the largest franchisors and operators of health facilities in the US. The corporate’s enterprise mannequin is characterised by an asset-light mannequin. By granting licenses to a third-party to make use of the corporate’s model and enterprise mannequin in alternate for charges or royalties, the corporate has enabled speedy development with out heavy capital expenditures.

However lately, the corporate made a massive acquisition of Sunshine Health Development Holdings, which was one in every of its franchisees. The acquired firm owned and operated 114 franchise shops. In consequence, its corporate-owned shops elevated to 234 shops in 2022 from 112 shops, roughly doubled from the earlier yr. Now, the corporate-owned shops account for about 10% of the whole in comparison with 5% previous to the acquisition. Company-owned shops are extra capital-intensive than franchising. The rise in corporate-owned shops made buyers involved as a result of it could worsen the corporate’s money flows and steadiness sheets.

Nonetheless, I imagine that the corporate’s change in its enterprise construction are only a non permanent response to macro-economic modifications reminiscent of a speedy enhance in rates of interest. Its competitiveness stays sturdy, and in reality, its market place has been additional strengthened compared to its direct health heart rivals. I anticipate that the corporate will return to a enterprise construction targeted on franchising inside a brief time frame, and if this materializes, the market will reevaluated the corporate. Due to this fact, I imagine that the present inventory value is enticing to take a position.

Firm overview

Planet Health is a franchisor and operator of health facilities. It recorded revenues of $936.8 million and system-wide gross sales of $3.9 billion in 2022. It has about 17.0 million members and a pair of,410 shops in all 50 states in addition to Canada, Panama, Mexico, and Australia. It operates three most important enterprise segments: Firm-owned shops, franchising, and gear division. The next desk shows the income and EBITDA for every enterprise phase.

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Supply: 2022 Annual report

Every enterprise phase is related to working health facilities, however they exhibit vital variations by way of income and expense patterns, profitability and money circulation high quality. First, franchise phase income contains royalties and price from franchisees. This phase demonstrates the very best profitability among the many three segments as franchise income has little price of products offered and minimal working bills. Moreover, franchise-owned shops are funded by a 3rd social gathering, leading to decrease funding burdens for the corporate, and enabling excessive money circulation technology.

Second, the company-owned shops acknowledge income straight from working the health facilities itself, which ends up in a big income scale. Nonetheless, the profitability shouldn’t be essentially excessive. As well as, increased working bills and capital expenditures for working shops can negatively affect the flexibility to generate free money flows.

Lastly, the gear phase generates income by means of the substitute of train gear in franchise shops. This phase accounts for a good portion of the corporate’s price of products offered. Whereas profitability could also be comparatively decrease, it helps create repetitive money flows by means of periodic gear replacements specified within the franchise settlement with a sure cycle (usually 5 to 7 years).

Contemplating that the worth of an organization is set by the current worth of future money flows, it may be mentioned that the expansion of the franchise phase (the very best profitability and the bottom reinvestment wants, leading to high-quality money flows) may have the best affect on the corporate’s worth.

High quality evaluation

Development

The corporate’s income in 2022 has elevated by about 1.7 occasions in comparison with the 2018 stage, with a median annual development fee of 15%. The corporate has plentiful alternatives for development by means of varied sources, together with rising the variety of shops by means of franchisee recruitment, increasing the member base by means of promoting and advertising and marketing, and venturing into worldwide markets to discover new market alternatives. Within the quick time period, the corporate can materialize the expansion simply with current franchisees. They’ve an obligation beneath contracts to open extra 1,000 franchise shops, with over 500 of them required to be open inside three years. Moreover, in keeping with the corporate’s inner evaluation, it has the potential to develop its retailer base over 4,000 shops in the US alone.

Subsequent, the corporate can obtain development by means of an efficient mixture of pricing methods. It gives two kinds of memberships: Basic Membership which has an annual price of $39 and a month-to-month price of $10, and Black Card Membership which supplies extra perks and has the identical annual price and a month-to-month price of $24.99. As of the tip of 2022, 62.5% of the whole membership have been Black Card Memberships, exhibiting a rise in comparison with 60% on the finish of 2018. Throughout the identical interval, the month-to-month membership price per member elevated from $16.52 to $18.01. This enhance is anticipated to proceed regularly as members understand that regardless of the upper value, the membership supplies them with better worth and advantages.

Lastly, a further development alternative will come from worldwide markets. The corporate has expanded into markets past the US, together with Canada, Australia, Mexico, and Panama. As of the tip of the third quarter of 2022, the corporate operated 60 shops in Canada, 10 shops in Australia, 12 shops in Mexico, and 6 shops in Panama. Given the corporate’s easy enterprise mannequin and distinctive worth proposition, it’s anticipated that vital development alternatives might be loved in these new markets as nicely.

Aggressive benefits

The corporate has not solely plentiful development alternatives forward but additionally sturdy financial moats. First, the corporate gives prime quality health facilities at extremely reasonably priced costs (about $18, considerably beneath the trade common of $58 monthly). Not solely is the worth aggressive, however the firm additionally tries laborious to maintain its distinctive worth proposition by strictly making its welcoming, non-intimidating atmosphere referred to as Judgement Free Zone sturdy. In consequence, the corporate successfully lowers the barrier to entry for newcomers, making it doable to focus on a broader member base, roughly 80% of the U.S. and Canadian populations over age 14 who don’t belong to a health club.

Second, as a number one participant within the health trade, the corporate enjoys a powerful market place and scale benefit. As of the tip of the third quarter of 2022, the corporate operates 2,353 facilities, whereas the second-largest operator has solely 400 facilities.

Even when combining the variety of shops of the next high 10 firms, it quantities to solely half of the corporate’s complete. The hole between the corporate and its rivals has widened even additional throughout the pandemic. The pandemic disrupted industries related to bodily human contact, together with health facilities. Consequently, many health facilities needed to shut their doorways. Nonetheless, throughout the identical interval, the corporate not solely stored all its facilities open but additionally expanded. This was doable on account of its versatile enterprise construction, which allowed it to adapt throughout the disaster. Due to its overwhelming scale, the corporate can preserve sturdy buying energy for train gear and different associated objects. Moreover, it helps to facilitate to recruit new franchisees and improve its model energy by means of nationwide promoting campaigns, way more scalable and efficient than its rivals.

Lastly, the corporate has demonstrated excessive ROICs by presenting a extremely enticing enterprise mannequin to franchisees over the previous years. Its health facilities function on a easy and easy-to-run mannequin with primarily mounted price buildings, permitting them to generate sturdy money flows in step with income development. In contrast to different quick-service restaurant franchise shops, there is no such thing as a stock threat concerned. The enlargement of franchise shops supplies predictable, repetitive money flows by means of royalty charges, gear replacements, and different sources to the corporate.

Historic ROIC with out goodwill (Expensed funding adjusted)

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Valuation

In the course of the previous interval, the corporate demonstrated the speedy development charges whereas sustaining steady money circulation technology. As the corporate has entered its mature stage, I used the free money circulation yield as a valuation methodology. I made a number of assumptions to estimate future free money flows. Firstly, the variety of complete shops is projected to extend from 2,446 within the first quarter of 2023 to three,655 over the subsequent 5 years. As talked about earlier, 500 of those shops are contractually required to be opened by current franchisees inside the subsequent three years. The remaining might be developed from home and worldwide markets. Because of my assumption the variety of complete shops is anticipated to extend at a median annual development fee of roughly 8.4%. It is value noting that from 2020 to 2022, the variety of the shops elevated at a development fee within the 6.0% vary on account of pandemic results, whereas earlier than the pandemic, the expansion fee was round 15%.

Subsequent, as of the tip of 2022, the corporate’s system-wide gross sales have been roughly $3.9 billion, and when divided by the whole variety of shops, the income per retailer is about $1.7 million. For the subsequent 5 years, I’ve assumed that the gross sales per retailer will develop at a fee of 4%. The corporate’s common same-store gross sales development fee was 12% however contemplating components reminiscent of retailer openings and closures over the subsequent 5 years, I’ve taken a conservative method with a 4.0% assumption. Taking these assumptions into consideration, the system-wide gross sales is anticipated to achieve roughly $7.0 billion after 5 years.

My funding thesis relies on the expectation that though the corporate’s corporate-owned retailer proportion has quickly elevated, it’s going to ultimately return to the next franchise proportion, because it was previously. Contemplating this, I’ve assumed that the present retailer proportion will stay the identical for the subsequent two years. From the third yr onwards, I assumed the proportion of corporate-owned shops to alter from 10% to five%. Lastly, the gear phase gross sales are intently linked to that of franchise shops. Traditionally, the gear phase income was roughly 7% of the system-wide franchise retailer income. I’ve assumed that this proportion will stay constant over the subsequent 5 years. The desk beneath represents estimated income figures by enterprise phase:

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Subsequent, to calculate working revenue, I used the common EBITDA margins for every enterprise phase over the previous 5 years. I additionally calculated different remaining working bills utilizing the common of the previous 5 years. Advertising and marketing-related bills have been capitalized, after which the working revenue was adjusted accordingly. Historic EBITDA margins are as follows.

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Lastly, to calculate the free money circulation, I took into consideration depreciation and capital expenditures. To take care of consistency with the income assumptions, for the primary 2 years, I assumed increased depreciation and capital expenditures as a result of increased proportion of company-owned shops. From the third yr onwards, because the proportion of company-owned shops decreases, the dimensions of depreciation and capital expenditures additionally decreases accordingly.

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I calculated the earnings yield utilizing EBIT and Enterprise Worth and FCF and Fairness Worth. After 2 years, vital development is anticipated as the corporate’s enterprise portfolio shifts to an asset-light construction. In comparison with the 5-year authorities bond with a 4% rate of interest, I imagine the corporate has a comparatively increased funding attractiveness.

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Dangers

The corporate’s key threat seems to be credit score dangers, because it has taken on increased leverage ranges by means of acquisitions that exceed historic ranges. Whereas the historic complete debt to EBITDA ratio was round 5 occasions, it presently stands at round 6 occasions. Nonetheless, I imagine there’s not a big trigger for concern. Firstly, inspecting the maturity construction of the borrowings, they appear to be nicely distributed throughout completely different years. There is no such thing as a focus of debt maturing in a single yr, decreasing the chance related to refinancing.

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One other vital threat is said to the acquisition of Sunshine Health on February tenth, 2022. The corporate acquired a 100% stake in Sunshine Health, which operated 114 shops in Alabama, Florida, Georgia, North Carolina, and South Carolina. The acquisition value of the acquisition was $824.6 million consisting of $430.9 million in money consideration, and $393.7 million of fairness consideration. The deal construction allowed the corporate to save lots of its money reserves and supplies monetary flexibility, decreasing the necessity for extreme borrowing. The corporate appropriately diversified the dangers arising from the acquisition with the shareholders of the goal firm.

Sunshine Health Acquisition

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Moreover, the acquired shops have wonderful profitability. In 2022, the corporate’s annual income for the company-owned retailer phase was $379.4 million, with an incremental impact of $180.8 million attributable to the acquisition. The EBITDA for the company-owned retailer phase was $142.1 million, and the incremental impact from the acquisition was $78.1 million. Consequently, the EBITDA margin for the acquired phase is calculated to be 43.2%(=$78.1 / $180.8). Compared, the EBITDA margins for the company-owned retailer phase in 2022 and 2021 have been 37.5% and 29.4%, respectively. The pre-pandemic (earlier than 2020) five-year common EBITDA margin was 39.9%. It’s evident that the shops acquired from Sunshine Health have increased profitability than the historic and present common, indicating they may contribute positively to money flows whereas beneath the corporate’s possession and are anticipated to facilitate a clean sale sooner or later.

Lastly, I anticipate the corporate’s second-quarter monetary outcomes, on account of be launched subsequent week, to be not considerably completely different from the earlier quarter, because the gross sales and earnings have confirmed a predictable sample. The corporate has set a goal for 13% to 14% development in income and 17% to 18% development in EBITDA for 2023. Trying additional forward, their three-year monetary targets point out a low to mid-teens development fee for income and a excessive teenagers development fee for AEBITDA.

In distinction, my income and EBITDA estimations, contemplating my assumption of the enterprise construction change three years from now, counsel a development fee within the vary of 4% to five%. Nonetheless, from the angle of free money circulation, there’s a lot room for enchancment and I see an funding alternative at this level.

In conclusion, I imagine that the dangers are being overestimated, and the present inventory valuation presents a positive shopping for alternative.