Creo Medical Group (LSE: CREO) is a £41.94m company listed on the Alternative Investment Market (AIM) of the London Stock Exchange. It is in the medical equipment business, specifically surgical equipment, and more specifically focused on equipment needed to perform surgical endoscopy.
It listed in December 2016 at a price of around 81p per share. An all time high for the share price of 229p came at the end of January 2019. It went down, and back up after that to 221p in February 2021, but since then its been on a slide all the way to 22p today.
A share price slide, after a period of good performance is always intriguing. What could have happened? Well, Creo Medical makes medical devices. Specifically it focuses on making things that are used in the emerging field of endoscopic surgery. So, without further research I can hazard a guess as to why the Creo Medical share price started to slide in 2021. During the covid pandemic, elective surgeries, and indeed somewhat disturbingly, some diagnostic procedures were cancelled. That would have hurt Creo because its equipment was not being used, ordered, or it could not get out and market and arrange for surgeons to be trained in its use.
But, now the world looks to be getting back to something approaching normality. Perhaps it is time for me to have a look at Creo, especially since it might be trading at a bargain price. First off, it’s a good idea to see if the market that Creo is involved in presents an attractive investment case.
Barriers to surgery
I think the surgical equipment, devices, and tools market is an attractive investment opportunity. This encompasses everything that may be utilised in performing surgical procedures on patients. But I would exclude general, standardised, and ubiquitous tools like scalpels, forceps, retractors, and even sutures—although surgeons can be very particular about the material and brand of the stuff they use to stitch.
Manufacturers of surgical equipment intended for relatively new fields like endoscopic and robotic and remote surgery are of particular interest. Favourable market trends exist here as the number of procedures being performed by these approaches is increasing. The number of medical encounters is increasing world wide (ignoring the events of the last few years) as some populations age, some increase in number, and others increase their living standards and gain access to higher quality healthcare. In the case of surgical endoscopy, the procedure, possibly curative can be carried out at the same time as the diagnostic procedure is being carried out, which is an attractive prospect for healthcare providers, as it might remove the need for a further surgical booking.
These types of equipment typically require new operators to be trained in their use. Now that will increase customer acquisition costs, as the company may have to market and then shell out to get surgeons certified. But, once trained, habit forms, and it may be difficult to get the surgeon to switch to another device. A surgical consultant using a particular device will opeate with juniors, who may also be trained in its use and go on to use it when they practice independently.
Devices that have for example a power supply, and cables and a housing for attachments will attract an initial outlay, but also recurring revenues for consumable parts that are discarded between procedures. Many devices are unique, requiring operator familiarity, and are one-time use in of themselves, and are used in minimally invasive and open surgery—which may now be considered traditional surgical approaches. And with uniqueness, come the possibility of patent protection, which is a formidable advantage is granted.
Can the surgical equipment, devices, and tools industry be disrupted in any way. Well, tech, the doom bringer for a lot of industries, will have a hard time trying to replace the role of a surgical practitioner. That’s something I don’t believe I will have to worry about in my lifetime. Preventative medicine may go some way to delaying the onset of conditions that require surgery. Solid tumours, those that are often amenable for resection, will not, I believe be completely treatable by a “cancer vaccine” alone (yes, that popular term is a misnomer).
Succesful procedure
Creo medical, as a manufacturer of surgical endoscopic equipment, that requires operator familiarity would seem to have all the advantages of its industry that I describe above. Does its financial performance show any evidence of this?
No, it does not. The company is a new entrant in the industry. It only started generating revenue in 2019. The competitive advantages I described tend to be available to incumbents not new entrants. But, it would appear that Creo is attempting to become an incumbent. that’s always tricky as existing players will fight back, so long as they notice the threat.
Creo is losing money. Its operating margins are negative. That’s not surprising. It has to research, develop and effectively market (including training clinicians) its products, and at present does not have much of a customer base to support these activities and has instead had to turn to investors and debtors to fund it progress. But, it has been growing its revenues—from £13k in 2019 to £25m in 2021—and its operating margins have been becoming less negative (if that’s an acceptable way to describe them) as revenue increases, which does suggest there is a path to profit.
Creo Medical : kill or cure?
Creo is making progress—as evidenced by its increasing revenues—at getting surgeons and other clinicians to adopt its products. But it is still losing money. I would need to look a lot harder at its production and acquisition costs to get a handle on whether this progress will ultimately start to deliver value to its shareholders.
The job of getting new customers should get easier as the existing pool of users grows. Assuming their experience is positive they will talk up Creo’s portfolio to colleagues in day-to-day work, at conferences and through publications and so on. An inflection point, where revenue rises rapidly but costs don’t follow suit, could score along.
Yet, I am not convinced enough at the moment to invest in Creo. I could do a deeper dive, but I don’t want to spend my time doing that. And that’s ok. There are thousands of company’s to consider investing in and we only have so many hours in the day to investigate them.
Making a product that is used by an expert that people trust (the surgeon) and who is price insensitive, because they bill insurance companies, or their hospital pays for it out of government funds, sounds good. But look at Smith & Nephew. It’s a similar business but it has weak margins, and low returns on capital. The model sounds great in theory, but it might not always cut it in reality.
Also, I think there has been an oversight with the composition of the Creo Medical board is it does not contain a surgeon. There are accountants, corporate finance specialists, investors in the field, and some with experience of the medical technology sector. The chief technology officer is a physicist, that’s good, since the company is making equipment that uses energy to do the cutting and coagulating. But there is not a single practising or formally practising surgeon, nor anybody that was part or is still part of the customer group that the company is marketing to.
The Storied Investor 