Over the past six months, NeoGenomics’s shares (currently trading at $9.01) have posted a disappointing 13.4% loss, well below the S&P 500’s 7.1% gain. This may have investors wondering how to approach the situation.
Is there a buying opportunity in NeoGenomics, or does it present a risk to your portfolio? See what our analysts have to say in our full research report, it’s free.
Why Is NeoGenomics Not Exciting?
Despite the more favorable entry price, we're cautious about NeoGenomics. Here are three reasons you should be careful with NEO and a stock we'd rather own.
1. Fewer Distribution Channels Limit its Ceiling
Larger companies benefit from economies of scale, where fixed costs like infrastructure, technology, and administration are spread over a higher volume of goods or services, reducing the cost per unit. Scale can also lead to bargaining power with suppliers, greater brand recognition, and more investment firepower. A virtuous cycle can ensue if a scaled company plays its cards right.
With just $746 million in revenue over the past 12 months, NeoGenomics is a small company in an industry where scale matters. This makes it difficult to build trust with customers because healthcare is heavily regulated, complex, and resource-intensive.
2. Previous Growth Initiatives Have Lost Money
Growth gives us insight into a company’s long-term potential, but how capital-efficient was that growth? A company’s ROIC explains this by showing how much operating profit it makes compared to the money it has raised (debt and equity).
NeoGenomics’s five-year average ROIC was negative 10.3%, meaning management lost money while trying to expand the business. Its returns were among the worst in the healthcare sector.
3. High Debt Levels Increase Risk
As long-term investors, the risk we care about most is the permanent loss of capital, which can happen when a company goes bankrupt or raises money from a disadvantaged position. This is separate from short-term stock price volatility, something we are much less bothered by.
NeoGenomics’s $408.5 million of debt exceeds the $146.1 million of cash on its balance sheet. Furthermore, its 6× net-debt-to-EBITDA ratio (based on its EBITDA of $45.29 million over the last 12 months) shows the company is overleveraged.
At this level of debt, incremental borrowing becomes increasingly expensive and credit agencies could downgrade the company’s rating if profitability falls. NeoGenomics could also be backed into a corner if the market turns unexpectedly – a situation we seek to avoid as investors in high-quality companies.
We hope NeoGenomics can improve its balance sheet and remain cautious until it increases its profitability or pays down its debt.
Final Judgment
NeoGenomics isn’t a terrible business, but it doesn’t pass our quality test. Following the recent decline, the stock trades at 37.5× forward P/E (or $9.01 per share). At this valuation, there’s a lot of good news priced in - you can find more timely opportunities elsewhere. We’d recommend looking at one of Charlie Munger’s all-time favorite businesses.
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