Description

Rockwell Medical is executing on a turnaround which we think is still in early innings. In Q2 the company turned profitable and raised guidance for the second time this year. 

This is a relatively thinly traded microcap and previously covered by investor8888 in a prescient write up, but perhaps done a bit too early after a random RMTI price spike, which was maybe Seeking Alpha related. 

The company is now trading about 40% below the level of that write-up even after jumping with the Q2 earnings report. There may be a better entry point in a couple of weeks after the earnings bump wears off, but regardless, at these price levels we think stock remains attractive. 

Turnaround is getting underway and we see three additional growth drivers which will play out in coming years and add to the self-help measures being carried out by a new management team. 

RMTI has a market cap of $83mn (32mn FD shares x $2.58 price), not including a warrant to purchase 3,750,000 shares at strike of $5.13. It trades at 10x our estimate of 2025 earnings and we think deserves an 20x multiple as a non-cyclical, growing healthcare business with good prospects. 

Summary: 

RMTI makes and distributes hemodialysis concentrates to dialysis providers, mostly in the US. Davita Medical is their largest customer (44% of sales). After acquiring the dialysis concentrates assets of Evoqua last year, RMTI is now one of two suppliers (the other is vertically integrated Fresenius Medical) in the US with scale to make and ship to 12,000 clinics and hospitals across the country. 

There are ~475,000 end stage renal disease (ESRD), also known as end stage kidney disease, patients in the US who require constant dialysis. Most visit clinics run by DaVita or Fresenius, do 3 treatments per week, using 3.3 gallons of concentrate per treatment. Concentrates remove toxins and balance electrolytes in a dialysis patient’s bloodstream.

The number of ESRD patients grew consistently until Covid. US data shows: ESKD dialysis patient population grew at an approximate compound annual rate of 3.3% from 2011 to 2021, and declined to growth of 1.1% from 2020 to 2021. Davita and Fresenius expect patient treatment volumes growth from 2024 onwards.

Davita patient count for reference: 

End 2019: 206,900

End 2020: 204,200

End 2021: 203,100

End 2022: 199,400

End 2023: 200,800

RMTI sees hemodialysis concentrate TAM of ~$450M in 2024 and estimates a CAGR of ~4-6% through 2028. RMTI is largest supplier of liquid concentrates in the US and second largest supplier of acid and dry bicarbonate concentrates in the U.S. Liquid concentrates are essentially pre-mixed – so much heavier equating to greater transport costs. Dry concentrates require clinics to mix with water on site.

Concentrates is a commodity business and not complex to manufacture. RMTI started out supplying concentrates and investing in R&D to try to develop differentiated, patent protected products that improved dialysis. Their main attempt didn’t work out and left RMTI constantly in red and raising money. 

In mid 2022 new CEO Mark Strobeck entered and shifted vision, focusing on increasing gross margins to drive profitability of core business. Investor8888 summed it up thus: “The new CEO came in with a novel idea – run the business profitably. He subsequently scuttled the legacy science projects”. 

Strobeck is now doing just that. Aside from DaVita relationship, Baxter was distributing their concentrates. RMTI ended the Baxter deal in Nov 2022. It has allowed RMTI to regain pricing control of concentrates and establish direct contact with customers. They have been slowly raising prices as contracts come up for renewal. 

In July 2023, RMTI acquired Evoqua dialysis assets, which had used automated equipment to make concentrates putting their manufacturing costs well below Rockwell’s. RMTI is now taking those learnings and equipment to lower its own COGS. They have also optimized delivery routes and schedules to reduce transport costs.

The purchase of Evoqua, number three player, has also increased their pricing power. RMTI says it’s now a two-player market, they have 25% and Fresenius has ~75%. There are also scattered smaller players delivering locally. 

DaVita and other clinics want a supplier independent of competitor Fresenius. Fresenius also stumbled with providing adequate volume of concentrates during the pandemic. RMTI is thus winning customers from Fresenius – For Fresenius, concentrates is a tiny portion of their business. 

Strobeck: “The market dynamics over the last, call it, nine months have shifted favorably to Rockwell in that we are now in a two-company market.” 

Davita in 2022 invested $15mn, providing RMTI much needed capital. RMTI also struck a new sales deal with Davita that’s up in Dec 2024, that will almost certainly be extended for 2025 with an additional price increase built into the extension.

Growing RMTI gross margins: 

Company targets: 

2024 FY: 14-17%

2025: ~20%

2026: 25%+

Longterm: 30% + 

Valuation:

Company has been sandbagging guidance and is now expecting $95mn - $98mn for 2024, after two guidance raises this year. Strobeck said July was a $10mn month. We think they are conservatively on track for about $100mn of revenue this year at 17% gross margins, leaving them at about break even in net income for the year.

Growing revenues:

For 2025, we think the base business can grow revenues at least 15% to $115mn with gross margins of 23% and roughly 10% SGA growth, leaving them with about $8mn of NI. At a 20x multiple and 32mn shares outstanding, RMTI is about a $5 stock.  

For 2026, we assume 10% sales growth to $127mn with 30% gross margins producing net income of $18mn. 

Management is pursuing three opportunities that could drive growth on top of this. 

Western expansion:

RMTI has historically made and delivered concentrates to the mid-west and east coast and does manufacturing at sites in Michigan, Texas and South Carolina. The Evoqua acquisition and continued customer wins has given them more customers on the west coast. CA is one of Davita’s largest states with 329 clinics – it seems supplied by Fresnius for now. Strobeck has said the west coast could be a $100mn opportunity for them.  

RMTI has for months been looking at acquiring or setting up a plant in the west to serve the local market cost effectively. They have been slowly building up business to a point where they would be ready to utilize a new plant immediately. They are also looking at deals with CMOs in the region to make their concentrates.

Strobeck said they hope to have a plan in place by the end of year and have had a team visiting to assess options. “It’s essentially a one-player market out there -Fresnius…I think we're going to be a great alternative option for a lot of those folks.”

Home based dialysis: 

15% of the ESKD dialysis market is home based. This segment of the market is growing much faster than the clinic market. RMTI has been working with major players in the at-home dialysis market to provide ready to use concentrates to their customers. 

They recently announced the introduction of “convenience pack”, which is “smaller formatted set of products that can be very easily delivered directly to a patient's home for them to administer”. They are working on partnership with at home players to jointly market / sell the convenience packs and may announce this quarter. Convenience pack margins will be higher than base business margins. 

New product line: 

RMTI has a distribution system set up where they are frequently interacting and delivering to dialysis clinics. They are looking to partner with another company that would allow them to make use of their distribution network to cross-sell another product to their customer base. 

Strobeck has repeatedly said they are looking at options for products to license / partner and resell to their customer base. Timeline for finding a suitable arrangement is unclear.    

Risks:

Biggest risk is continued dilution. Management are not large shareholders and have an ATM in place which they have been hitting to strengthen cash position. During the six months ended June 30, 2024, they issued 1,708,379 shares for $2.8mn – about 6% dilution.  

$8.2mn remains available on the ATM but we hope management will stop the share issuance now that they have hit positive cash flow in Q2.

Balance sheet has $8.3mn of term loan debt and $11.9mn in cash. In Jan 2024, they negotiated a 30 month interest only period with their lender in exchange for a warrant to purchase 191,096 shares at a strike price of $1.83 per share.

Armistice capital also has a warrant to purchase 3,750,000 shares at strike price of $5.13 per share.

Catalyst

-Continued margin improvement

-Execute on plan for west coast expansion

-success in at home market