Nanosonics Limited (ASX: NAN) shares are up an incredible 66% year-to-date. Is it too late to invest, or could the shares keep going higher?
About Nanosonics
Nanosonics manufactures the Trophon EPR ultrasound probe disinfector and its related consumables. Nanosonics is similar to the Gillette model as customers buy the Trophon EPR system (the razor), then buy consumables (blades) which are high margin and recurring.
Valuing Nanosonics
There are countless ways to determine the value of a company, some more useful than others. Using traditional metrics, such as a price-earnings ratio (P/E), Nanosonics looks expensive. If you’re not sure what a P/E ratio is, you can watch the following share ratio valuation tutorial from Rask Finance:
Nanosonics’ current P/E ratio is about 138x, far higher than other growth shares like Appen Limited
(ASX: APX) and Altium Limited (ASX: ALU).
Price-to-sales (P/S) also makes Nanosonics look very expensive. Nanosonics has a P/S ratio of around 25 times, compared to roughly 22 times for Altium.
Fortunately for technology investors, the reality is these metrics are often more suitable for industrial or retail companies with lots of tangible assets and lower growth than Nanosonics.
Looking at the success of companies like Afterpay Touch Group Ltd
(ASX: APT) and Appen, it appears that these traditional metrics may be poor indicators of the value of high-growth companies.
Not Easy to Value
Indeed, this is where the problem lies with growth companies; they can be very difficult to value at one point in time. The best way to value this type of business is probably a discounted cash flow analysis (DCF). In other words, forget book value and look at how much cash the business can generate now and into the future.
Based off its 2018 Annual Report, Nanosonics isn’t generating the same sort of cash flows that Appen or WiseTech Global Ltd (ASX: WTC) are generating and its growth prospects are arguably no better. Therefore, it’s hard to argue that the company deserves the same sort of multi-billion-dollar valuation as these tech giants until cash flows improve.
Summary
I think Nanosonics shares, at their current price, are likely overvalued.
The Gillette-style business model combined with the growth prospects mean it’s certainly a company I’d like to own, just not at today’s price levels.
For now, I’d rather invest in one of the businesses mentioned in the free report below.
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Disclosure: At the time of writing, Max does not own shares in any of the companies mentioned.
