Morningstar | West Pharmaceutical's 2019 Outlook Falls Short; Reducing Fair Value Estimate
West Pharmaceutical Services reported a decent end to 2018, although management's initial outlook for 2019 fell below our expectations. While the projected organic constant-currency revenue growth rate is in line with its 6%-8% long-term target, accelerating foreign exchange headwinds and a product recall stand to mute reported performance in 2019. We'll likely lower our fair value estimate for the wide-moat firm by a mid-single-digit percentage as we update and roll our model--the effect of lower projected cash flow is partially offset by lower capital requirements as the company's restructuring efforts begin to take root.The proprietary products business grew slower than expected in the quarter, up 3.7% in constant currency, although this probably improves to 6%-7% after adjusting for the effects of a voluntary product recall in the quarter. Encouragingly, the firm's biologic customer segment accelerated to a mid-single-digit growth rate, marking the high point for 2018. Last quarter we noted that this segment is likely to accelerate into 2019 following volatile performance year to date. Management validated this view, suggesting the end market could grow at a high-single-digit clip over the coming year, giving us confidence in our forecast for unit growth in the firm's high value product category.
In West's contract manufacturing segment, revenue was slightly ahead of expectations of flat results sequentially. This business had a stellar 2018, as expansion of manufacturing activities for diabetes products offset the loss of non-healthcare manufacturing work. We expect 2018 will mark the bottom in this segment's gross and operating margin, as unit growth continues to absorb the firm's expanded manufacturing overhead.
After adjusting for tax benefits associated with option exercises and negative currency effects, management's underlying 2019 EPS guidance implies 8%-13% growth, but the headline number of roughly flat versus 2018 leaves much to be desired.
West Pharmaceutical Services is a manufacturer in the design and production of containment and delivery systems for injectable drugs and healthcare products. The company's products include packaging, containment solutions, reconstitution and transfer systems, and drug delivery systems, as well as contract manufacturing, analytical lab services and integrated solutions. The company's segments are: Proprietary Products, which provides packaging, containment and drug delivery products, analytical lab services and integrated solutions; and Contract-Manufactured Products, which is focused on the design, manufacture, and automated assembly of devices, for pharmaceutical, diagnostic, and medical device customers.
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