Align Technologies (ALGN 1.21%) makes dental equipment, notably the Invisalign products, which are clear, wearable aligners for teeth straightening. The company shipped nearly 400,000 Invisalign cases in the most recent quarter. Since the stock's 2001 IPO, shares have appreciated enormously from $5 to nearly $280. Align delivered exceptional growth from 2016 to August 2018, when the stock hit an all-time high just above $390. It has been volatile since, falling below $280.
Align's growth is slowing
Align has enjoyed exceptional growth, but it is slowing. It's trailing three-year revenue CAGR is 32.5%, and consensus analyst forecasts call for 20% growth next year. These are still excellent growth rates for a large company, but these are often the first warning signs that a growth story is approaching maturity. Growth rates are naturally hard to maintain as the base grows and end-user markets become more saturated. These impacts are usually compounded by increasing competition and loss of intellectual property exclusivity.
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Align has been dealing with a few expiring patents, and comparable products have come to market from Dentsply Sirona, SmileDirectClub, Danaher, and Henry Schein. Align benefits from being the strongest name brand in the group. But these other competitors have strong distribution networks or focus on a different market niche, making them viable threats to long-term growth.
Even with increasing competition, the market is expected to continue growing. The global invisible aligner market is expected to grow 17% annually to $8.2 billion in 2026. Align is the leader of a fragmented market, and the company sees substantial opportunity internationally as invisible aligners replace traditional braces. The company estimates that Invisalign is only applicable to 17% of the cases.
The stock is expensive
Align carries a hefty forward price-to-earnings ratio at 41.2, which results in a similarly high PEG above 2, even adjusting for a strong growth outlook. The stock's price to free cash flow is actually close to the medical equipment industry average at 36.3, but its EV/EBITDA of 37.5 is more than double the peer group median. None of these indicate runaway speculation, but the current share price implies strong results for multiple years in the future.
Operating performance has been strong, but risks are apparent
Align delivers a wide 21% operating margin, helping the company achieve an excellent 31% return on invested capital. This suggests strong pricing power and efficient operations, which is rare for a company with Align's recent growth record and instills justifiable bullishness among investors.
However, there are worrying signals that this is changing. Align has been experiencing operating margin erosion, having previously reported 25.4% in 2014 before falling to 21.1% over the trailing twelve months.
The company has spent heavily on marketing, as growth companies often do, and substantial investments have been made in product development to widen Align's addressable market. This information is not worrisome on its own, but higher customer acquisition costs could be trouble in conjunction with rising competition. Falling pricing power, slowing growth, and narrowing margin all bode poorly for a stock with the sort of valuation attached to Align Technologies.
At some point, it will become clear that Align is reaching maturity. If the company is not acquired by another before then, its valuation will change to reflect its new stage of business. If the Invisalign brand remains dominant and pricing power holds up, the company is in an excellent position to take advantage of bullish demand drivers. However, the increasingly competitive environment could hasten the switch out of high growth mode, and the valuation for Align shares leaves substantial room to the downside in that event.
