CHR Medical Corporation (CRH) - New Addition to the Financial Log Book

In recent months, I have investigated potential investments in the health care industry. The investigation has been conducted along two lines of inquiry:

1. Prevalence of Diseases and Other Conditions Requiring Medical Intervention
2. Screening for Companies with Attractive Investment Metrics

I will report on my findings from time to time.  CRH is one of the companies that attracted my interest.  

First ... a story.  When I worked in government, we had a long relationship with an organized interest group which was comprised of small business owners, many of whom were in it for the life style.  Most were undercapitalized and dependent on contractual relationships with government for their land base.  I liked working with these individuals: some were rogues, others were doing their best to get by, and all were not shy about expressing their opinions in direct and sometimes salty language.  

One of my first introductions to the organization was at an annual convention where our newly appointed department head made his first appearance on behalf of our organization.  The convention chair introduced Mr. X and proceeded with a rant about the misdeeds of government.  He then turned over the microphone.  Mr. X smiled, laughed a bit and then said, "I haven't been roasted like that since my stag."  Immediately, the tone of the meeting changed.  I filed that experience away for later use.  

A few years later, it was my turn to meet with a group of the same people.  The atmosphere was tense as the implementation of a few pending policy decisions would have an adverse impact on some of their businesses.  

I started with an observation.  "Do you know that 5 percent of the members of your organization have hemorrhoids? Immediately all eyes ran down the table to where I was sitting.  After a short pause, I went on: "I guess that means that the rest are perfect assholes." The risk paid off, and we went on to look at ways to mitigate the impacts ... and as it turned out, they worked worked in the end, although with a few bumps along the road. 

And so, to the subject of hemorrhoids and the medical community  ... by way of an introduction:
https://www.youtube.com/watch?v=W2gABYTmXos

CHR Medical Corporation (CRH)

The company is based on a technology known as the CRH O’Regan System.  Click on the following link for a brief overview of the system and its benefits.
http://physicians.crhsystem.com/crh-oregan-system/

Company Strategy

The Transformation

Here is the story of the company's transformation, an excerpt taken from an interview in 2013 with Edward Wright, the CEO of CHR Medical.

"The company, when I arrived, had a strategy to build clinics. We would hire doctors and staff and spend a substantial amount of money on marketing to drive patients to these clinics. Initially we had clinics in San Francisco, L.A., Las Vegas, Chicago and Atlanta.

"We were losing lots of money. It's expensive, we've got lots of costs. I very much had a mindset for retail and wholesale, and this is very much a retail model to me. All along I'm thinking, we've got an unbelievable device here, I would like to have more of a wholesale approach where we could put this in the hands of doctors who could use this with their patients.

"In moving forward with the direct-to-physician model, we identified gastroenterologists as suited for the CRH O'Regan system. Each year in the U.S., GIs perform the vast majority of about 15 million colonoscopies, with 15% to 20% of these resulting in a diagnosis of hemorrhoids.

"Our goal was to give GIs the education and support necessary to create a paradigm shift in the treatment of hemorrhoids – giving them the ability to provide a continuum of care to their patients. To date, we have trained nearly 1,500 physicians on the use of our technology, with more than 115,000 procedures annually.

"In December 2010, we shut down the last of the clinics and moved the business entirely to wholesale. If you fast-forward to today, our run rate is approaching $8 million. We sell the device for $65. The company is now selling about 120,000 units year, primarily into the GI community.

"The company was never profitable until the first quarter of 2011. The moment we exited from the clinic model, the company became profitable in that quarter and has remained profitable now for 12 consecutive quarters, having just reported on July 23 a net income for the second quarter of 2013 of $502,000 on revenue of $1,950,000.
https://www.biv.com/article/2013/8/how-i-did-it-edward-wright/

Further Adaptation

In recent years, the company has made further changes to its business mode.  In addition to offering its medical device, it has broadened its approach to include anesthesiology for doctors administering endoscopies and colonoscopies - to the point where earnings exceed revenue from sales of the company's original device.  Significantly, the company is expanding by acquiring interests in medical services providers in the U.S.  Here is the best synopsis of the business model:

Read the following commentary to get a better understanding of how the company has adapted to exploit some opportunities in the GI sector.  It is fascinating and a tribute to the acumen of company management.

The company created a paradigm shift in the GI sector with the CRH O’Regan System by giving gastroenterologists an opportunity to effectively treat hemorrhoids, which they often diagnose during colonoscopy procedures for colon cancer screening. That opened an untapped revenue stream for gastroenterologists.
http://biotuesdays.com/2015/10/27/crh-medical-to-consolidate-gi-anesthesia-market/

Future Prospects

The Business Environment

The medical services niche served by CRH is fragmented and there are more opportunities for expansion using the joint venture ownership structure and variants thereto.

I will leave it to readers to examine quarterly financial reports and assess the profitability of the company's business model.  In quickly growing companies, one should be prepared to accept variation in quarterly earnings and the fact that the market usually over-reacts to earnings "disappointments".  (I use dips of this nature as opportunities to add to my positions if all else appears to be unchanged.)

Some Catalysts

When investigating potential investments, I always look for catalysts which could increase the value of a company.  Here a few which are relevant to CRH:

• expansion of its services/technology to other countries e.g. in 2013 Wright mentioned that they were investigating the possibility of an entry into China
• listing of the stock on a major American exchange on September 15, 2015 and growing coverage by analysts will likely generate more interest in the company on the part of investors see:  OTC Markets Group and NYSE MKT:CRHM

A Few Concluding Thoughts

• I will monitor the company's return on investment (and other measures of profitability) very closely. Likely as not, future deals will be somewhat less profitable as "news gets around" in the GI medical community i.e. prospective service companies may request more favourable terms.  
• A company cannot grow forever at sustained rates.  I will monitor changes in strategic direction.  For example, how will the company approach future acquisitions?  Will it favour expansion outward from a regional core (as it seems to be doing) or will it expand to other countries?  
• Changes in the medical payment system have the potential to help/hinder future operations.  
• Will the company seek to expand the range of services it provides?  
• I will monitor the company's balance sheet very closely.  To date, it appears that management has been astute. However, when on a roll, management sometimes "relaxes" its discipline in the expectation that things will move forward as they have in the past.   

CHR Medical Corporation has been added to the Financial Log Book. 

Postscript

A few months after the meeting with XYZ group, I had a chance encounter with one of the members.  As it turned out efforts to resolve the issue were later frustrated by the intervention of an interest group, meaning that some businesses had to change locations ... a bureaucratic policy changed by political pressures. Mr. Y said, "I still have your card.  Do you know where I keep it?"  .... pause ... "in the centre of my dart board."  Win some ... lose some.  And he never could/would learn about what went on behind the scenes.