Everyone talks about torrid earnings growth as a key ingredient in a strong stock, but that is not entirely true. Sometimes all a stock needs to do very well is for the company to surpass lackluster results, and do so in a way that inspires confidence regarding sustainability. With that in mind, Hologic (Nasdaq: HOLX) may not have the most exciting growth profile, but the stock seems to be seriously underestimating the value of this well-run business.

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An Okay Quarter
Although the company did manage to beat the consensus estimate for revenue, it probably will not make a huge difference in how investors view this stock. Hologic saw revenue rise about 6%, with 13% growth in breast health (driven by strong growth in services), a 3% decline in diagnostics, an 8% increase in GYN surgery and a 4% increase in skeletal health.

Below the top line, the company largely held the line on profitability. Gross margin ticked down slightly (just 20 basis points), but it still stands at a respectable 60.9% (in line with med-tech standards). A variety of charges muddy the waters with operating income, but stripping those all out delivers a stable operating margin at around 32%.

Why Care About Hologic?
The biggest criticisms about Hologic seem to revolve around a general expectation that the company is doomed to low single-digit growth forever. For that to be the case, though, the company's tomosynthesis product has to fail, and the company has to basically sit on its hands and do nothing more than reap cash flow from its existing business. Is that possible? Sure. Is that probable? No.

The company's Selenia Dimensions 3D system (tomosynthesis) could be a game-changer in breast care, and it seems to have a real technological lead on General Electric (NYSE: GE) and Siemens (NYSE: SI), the company's biggest rivals in mammography. True, the system has yet to be approved, and hospitals are not exactly throwing away money on new equipment these days. Likewise, reimbursement may hinge on a prospective clinical trial. But it is hard to see how the company will not surmount those challenges given just a little time. (For more, see A Checklist For Successful Medical Technology Investment.)

Elsewhere, Hologic has several other shots on goal. The company's Adiana does not have the strength of clinical data that the rival device from Conceptus (Nasdaq: CPTS) has, but Hologic has marketing power and the company is gaining share. Elsewhere, Hologic is the only competitor to Qiagen (Nasdaq: QGEN) in HPV testing with cancer-risk screening, and it has a molecular diagnostics platform that should stand up well against the likes of Abbott Labs (NYSE: ABT), Roche (OTCBB: RHHBY), Becton Dickinson (NYSE: BDX) and Gen-Probe (Nasdaq: GPRO). What Hologic clearly needs to do, though, is communicate a strategy for developing and exploiting that platform to its maximum potential.

The Bottom Line
Here is a reason for value hounds to consider Hologic. Assuming only 4% revenue growth for the next five years, a slight decline in free cash flow yield (that is, free cash flow divided by sales) and a 10% discount rate leads to a price target of around $23 - 40% higher than yesterday's close.

In fact, assuming zero revenue growth forevermore and a 1% sequential decline in free cash flow yield for five years, the result would suggest that the stock is over-valued by only $2 at present. In other words, the market is basically saying that Hologic is hardly ever going to grow again and/or that competition will eat into profitability. That seems like the sort of rock-bottom expectations that a value investor can really love. (For more, see Investing In Medical Equipment Companies.)

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Tickers in this Article: HOLX, GE, SI, CPTS, GPRO, QGEN, ABT, BDX, RHHBY

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