May 12, 2022

There is no shortage of data pointing to just how bad this market is.

With year-to-date (YTD) performance for the S&P 500, Nasdaq and S&P 600 of -17%, -27% and -18%, respectively, this is one of the worst YTD starts in decades. The Nasdaq 100 has fallen as much in percentage terms as it did during the Covid crash (around -30%). The Nasdaq is also 2,000 points (roughly) below its 50-day moving average line. Worst year for bonds in almost four decades. It goes on and on.

Looking specifically at small caps, on a weekly chart the S&P 600 is now just 4% above its pre-Covid high! It’s amazing when you stop to think about that for a minute.

In the face of rising interest rates, inflation, a strengthening dollar, a war in Ukraine, imploding crypto markets, and a soon-to-begin shrinking of the Fed’s balance sheet there is a complete and utter lack of conviction among investors to step in and catch falling knives.

Investor sentiment is the absolute pits, as low as it’s been since 2009 (sentiment numbers are published weekly by Investors Intelligence and reflect the aggregate sentiments of financial advisors and planners who deal daily with the market).

The silver lining to all this, of course, is that at some point things get so bad that bad becomes good. A bottom is found and the market can put together a base off which to build. We will get there and things will get better.

In the meantime, let’s take a quick look at valuations in high growth areas like software and MedTech for insights.

Data from Morgan Stanley from last Friday shows that software stocks are trading at enterprise value-to-next-twelve-month sales (EV/NTM Sales) valuations below the trailing five-year average. Actually, they’re even lower now given the rout in the space this week, trading even closer to the five-year average from 2014 to 2018. This is compelling.

Turning to MedTech data from JP Morgan from last week shows that the small- and mid-cap names were recently trading at a slight premium to the Russell 2000 index while large-cap MedTech was trading at a steep discount to the large-cap index. Given further declines since that data came out I suspect small- and mid-cap names are now trading at a discount to their benchmark index as well. Here’s the large-cap MedTech valuation chart.

In both software and MedTech higher growth names are subject to pressure when interest rates rise. But there is a point where drawdowns in these names are just too steep to ignore. Are we there yet? I’m not sure, but it feels like we should be close.

MedTech is especially interesting since Covid pressures are waning and hospitals are throwing open their doors and bringing patients back in. Procedure volumes are rising quickly for many players, including portfolio holdings Procept BioRobotics (PRCT) and Inspire Medical (INSP).

In software, we have seen a number of acquisitions and/or go private announcements this year (PLAN, SAIL, MSP, CDK, MNDT and more). Do lower valuations draw out more buyers?

I’m not suggesting we go out and place big bets on this data. But as I sift through all the numbers out there, review earnings reports, listen to conference calls and think about stock selection for the second half of 2022 (yes, we’re almost halfway through!) and into 2023 it’s helpful to have these data-driven signposts to help mark where we are on what has been a truly awful start to the year.

Recent Changes
Silvergate Financial (SI) was sold on Monday, May 9
Sold Half of Procept BioRobotics (PRCT) on Friday, May 6. Hold remaining half.
Sold One Quarter of Avalara (AVLR) on Friday, May 6. Hold remaining one quarter position.

Updates
Avalara (AVLR) reported better than expected numbers last week as results shrugged off some of the mounting concerns around e-commerce exposure. Revenue was up 33% to $204.5 million (beating by $6.4 million) and adjusted EPS of $0.08 improved from a -$0.08 loss in the year ago quarter and beat by $0.20. Shares have been relatively stable since the report and we continue to hold a quarter position as we patiently await a broader software rebound. HOLD A QUARTER
Earnings: Done

CS DISCO (LAW) reports today. Analysts are looking for 45% revenue growth ($30.7 million) and adjusted EPS of -$0.21. For 2022, Disco is expected to generate revenue of $150 million (+31%) and EPS of -$0.80. As I’ve been saying I want to maintain exposure because I think the longer-term potential of this platform will prove to make the wait worthwhile. Keeping at buy for now. Will reassess after earnings. BUY
Earnings: Thursday, May 12

Ingles Market (IMKTA) is our newest addition and is a North Carolina-based chain of 198 supermarkets across North Carolina, Georgia, South Carolina, Tennessee, Virginia and Alabama. Many also have fuel centers and pharmacies. Ingles owns the real estate under 163 of its stores, owns its own milk processing and packaging company and has a private label brand. The company has been upgrading and expanding its store footprint and this initiative should accelerate as Covid wanes. Ingles sells groceries and non-food items across a wide array of categories. Second-quarter results were reported last week and revenue was up 16% to $1.38 billion while EPS was up 40% to $3.61. These results mean that at the halfway point in 2022 revenue is up 16.6% to $2.77 billion and EPS is up 35% to $7.10. It’s hard to find any issues with those numbers. We started with a half-sized position and will stick with that for now. BUY A HALF
Earnings: Done

Inspire Medical Systems (INSP) reported last week beat on both the top and bottom lines and raised full-year guidance. Revenue of $69.4 million was up 72% and beat by $5.2 million. GAAP EPS of -$0.61 was a penny less than the year-ago quarter and beat by $0.14. Full-year revenue guidance went up significantly, to a range of $336 - $344 million (+44% - 47%) from $318 - $326 million (+36% - 40%) previously. I expected to see shares rise after the report but as the market fell apart INSP pulled back. Currently watching for stability above 150 and considering a move back to buy, but not yet. HOLD
Earnings: Done

Procept BioRobotics (PRCT) delivered another beat and raise quarter when it reported last week with revenue up 97% to $14.2 million ($2.1 million beat) and GAAP EPS of -$0.39 beating by $0.10. Pretty much everything was good, starting with a $4 million increase to full-year guidance, which now sits at $58 - $62 million (+68% - 80%). Hospitals report second and third urologists are starting to use systems (i.e. expansion within hospitals) and also using the robots on smaller prostates (i.e. market expansion). In some cases Aquablation is becoming the standard of care. I had recommended taking partial profits prior to earnings and I’m glad I did as PRCT slid with the market after reporting. Encouragingly, it’s held mostly above 30 since. Maintaining at hold half. HOLD A HALF
Earnings: Done

Rani Therapeutics (RANI) gave a Q1 update yesterday afternoon that was as expected with no major news. The Phase 1 clinical trial of RT-102 for treatment of osteoporosis is ongoing and we should get an update in the second half of the year. We should also see a second Phase 1 clinical trial start in second half of 2022. Rani has $107.8 million in cash, which should get it through the end of 2023. This is an early-stage biotech company and trial results will determine what the stock does. Maintaining at buy a half but watching closely as RANI is now just below its IPO price. BUY A HALF
Earnings: Done

Revolve (RVLV) beat on both the top and bottom lines when it reported early last week. Revenue of $283.5 million was up 58% and beat by $26.7 million. GAAP EPS of $0.30 was flat with the year-ago quarter and beat by $0.03, despite a 28% increase in the effective tax rate. Gross margin was up almost half a percentage point to a record 54.5% despite higher freight costs. Active customers grew 38% (to 2 million), orders placed grew 68% (2.16 million) and average order value grew 13% (to $288). Stepping back, pretty much everything sounded good as younger consumers continue to upgrade/refresh their wardrobes and get back out into the world. The challenge continues to be that investors are skittish, especially around high-growth names. Even the best of breed ones (which Revolve is). Maintaining at hold. HOLD
Earnings: Done

Repligen (RGEN) reported a couple weeks ago and I detailed the results in a Special Bulletin. No news since and maintaining at hold as we look for RGEN to build a base off which it can climb. HOLD
Earnings: Done

Silvergate Capital (SI) continues to slide as Crypto markets are in disarray. More broadly speaking, the financial sector remains very weak. We sold SI on Monday. SOLD

Sprout Social (SPT) reported early last week and beat on both the top and bottom lines and raised full-year 2022 guidance. Revenue of $57.4 million was up 41% and beat by $1.2 million. Adjusted EPS of -$0.03 improved two cents from the year-ago quarter and beat by a penny. Full-year guidance was given for $252 - $253 million (+34% - 35%), an increase of $3 million. Shares slipped below 50 this week. Maintaining at hold a half. HOLD A HALF
Earnings: Done

Xometry (XMTR) delivered quarterly results ahead of expectations yesterday morning. Revenue of $83.7 million (+91%) beat by $2 million while adjusted EPS of -$0.27 beat by $0.09. Active buyers up 44% to 30,683. Marketplace accounts with spend over $50K over the last 12 months up 92% to 790. Cash at end of quarter $369 million. I had expected price target cuts from analysts based on lower valuations across the software space and that did happen, but not as much as expected, frankly. Bank of America now has a price target of 60 and Goldman Sachs is at 51 (XMTR stock up over 10% today to around 31). HOLD
Earnings: Done

Please email me at tyler@cabotwealth.com with any questions or comments about any of our stocks, or anything else on your mind.