Fisher & Paykel Healthcare: A Compounding Mirage?

Fisher & Paykel Healthcare (NZSE:FPH), a global leader in respiratory and sleep therapy devices, has long been a darling of New Zealand’s healthcare sector. Yet beneath its veneer of steady dividend growth and niche market dominance, troubling signs are emerging. The company’s recent financial trajectory—marked by declining returns on capital, stagnant sales growth, and aggressive capital deployment—paints a picture of a firm struggling to compound value for shareholders. For long-term investors, this raises a critical question: Is FPH’s reinvestment strategy creating lasting value, or is it a costly distraction?

The Deteriorating Return on Capital

While explicit Return on Capital Employed (ROCE) figures are absent from recent disclosures, the data points to a deteriorating capital efficiency. FPH’s gross margin fell to 59.4% in 2023, a 369 basis-point drop from prior years, largely due to pandemic-era freight surcharges and manufacturing inefficiencies. Even as the company projects a marginal gross margin recovery to 65% over 3–4 years, its capital employed is soaring. In 2023, R&D spending hit $174.3 million, while a $275 million land acquisition for a new Auckland campus and $450 million in 2024 capital expenditures (CapEx) signal a massive reinvestment push.

The math is stark: capital employed is growing far faster than operating profits. Even with 2024 revenue guidance of $1.7 billion (up 10% in nominal terms but 8% in constant currency), the firm’s core Hospital division—still reeling from post-pandemic demand normalization—remains a drag. The Homecare segment, while robust, faces headwinds from rising competition in sleep therapy devices. Without a commensurate rise in profitability, the ROCE (calculated as operating profit divided by capital employed) is likely plunging, eroding the returns that define compounding investments.

Stagnant Growth Amid Capital Bloat

FPH’s sales growth narrative is equally concerning. After a 6% revenue decline in 2023, the company is relying on two pillars for recovery: (1) new product launches like the Airvo 3 nasal high-flow device and (2) geographic expansion in key markets such as anesthesia systems in the U.S. and Asia. Yet these bets hinge on execution risks. The Homecare division’s 18% growth in 2023 was driven by pent-up demand for sleep apnea masks, which may not repeat as markets stabilize. Meanwhile, Hospital hardware sales—a once-staple—are contracting, leaving FPH overly reliant on consumables and software upgrades, which offer lower margins.

In contrast to peers like ResMed or Philips Healthcare, which maintain ROCE above 20%, FPH’s implied capital efficiency appears increasingly uncompetitive. The $450 million CapEx surge for 2024—nearly triple 2023’s R&D spend alone—suggests a company chasing scale rather than profitability. This misallocation risks diverting resources from high-return opportunities, such as software integration or R&D for next-gen ventilators, into vanity projects like the Auckland campus.

The Dividend: A False Comfort?

FPH’s 2% dividend growth to 41.5 cents per share in 2024 may soothe income investors, but it masks underlying fragility. The payout ratio, while manageable at ~60%, depends on profit stability. With net profit after tax (NPAT) growing just 6% in 2024—despite higher revenue—and abnormal costs like product recalls and land revaluations still lurking, the dividend’s sustainability is questionable. A further margin contraction or sales miss could force a payout cut, undermining FPH’s “reliable” reputation.

The Investment Dilemma

For long-term investors, FPH’s story is one of missed opportunities. Its capital-intensive strategy, while justified in theory for innovation and scale, lacks the payoff of tangible returns. The company is gambling that new products and markets will offset declining margins and soft growth—a bet that requires perfect execution in an increasingly competitive space.

The metrics tell the tale: sales growth remains below pre-pandemic levels, while R&D and CapEx have tripled. Without a clear path to ROCE recovery, FPH risks becoming a “value trap”—a stock that looks cheap but lacks the earnings power to justify its price.

Conclusion: Proceed with Caution

FPH’s reinvestment strategy is a high-stakes gamble. While its Homecare division and innovation pipeline offer promise, the company’s declining capital efficiency and reliance on unproven markets make it a risky long-term hold. Investors seeking compounding returns should demand answers: Can FPH reverse its margin slide? Will new products drive sustainable growth? And is the $275 million campus a wise use of capital? Until these questions are resolved, FPH’s allure as a compounding machine remains a mirage.

For now, the prudent move is to stand aside—unless shareholders see a decisive turnaround in ROCE and profit growth. In an era where capital discipline defines winners, FPH is losing its edge.