Align Technology: a smile worth a thousand words

Few of us are blessed with naturally symmetrical smiles. As much as 75 per cent of the global population suffers from some form of ‘malocclusion’ or misalignment of the teeth. In turn, roughly 12m people in major developed countries seek orthodontic treatment every year.

Most are offered conventional metal braces, with bells and whistles such as elastic bands and cumbersome ‘headgear’. But the 21st century has ushered in a new era of discreet straightening methods. And Align Technology (US:ALGN), proprietor of the ‘Invisalign’ brand, believes there is much more room to grow.

Expanding addressable market

Since its inception in 1997, the Nasdaq-quoted company has treated more than 9m patients with its transparent, removable dental retainers and accompanying software programme. Yet the group says there is an “incremental opportunity” to expand, arguing that nearly three-quarters of all annual orthodontic cases could benefit from the Invisalign method. Quantifying that observation, management recently raised the roof on its estimated addressable market from 300m to 500m people.

As this writer can personally attest, while Invisalign can be expensive, it is an appealing prospect for adults who would rather skip full ‘train-tracks’. That said, the group is also making headway in the largest orthodontic demographic – treating its two-millionth teen patient in January 2020.

Small wonder, perhaps, that Align is worth $46bn (£33bn) today. Its shares have risen almost 30-fold in just a decade, more than doubling over the past year alone as the Covid-19 pandemic boosted demand for its see-through aligners and digital dentistry platform.

How it works

Invisalign is sold to consumers via nearly 200,000 dentists and orthodontists who have received specialist training. The process begins with the relevant practitioner submitting their patient’s records and imagery to Align.

Working with the details provided, Align creates a three-dimensional (3D) ‘ClinCheck’ treatment plan using its proprietary technology. This simulates how a patient’s teeth will move during their treatment and shows when changes should be made to their retainers.

Once the dentist approves this plan, Align uses the data underpinning the ClinCheck programme to develop and produce several transparent moulds which manifest the future position of the patient’s teeth, so that retainers can be removed and swapped over as movement occurs. Indeed, in a little-known fact, Align is the world’s largest manufacturer of custom 3D printed materials. It was set up in Silicon Valley, home of the major tech giants, after all.

High growth and high margins

Reflecting the sheer popularity of Invisalign, its parent company’s revenues have grown at a compound annual rate of 24 per cent to $2.5bn over the past five years. Approximately four-fifths of group sales stem from the clear aligners themselves, while the rest come from the group’s imaging systems – an area that was bolstered last April by the acquisition of scanner business Exocad for $430m.

In turn, Align has delivered a gross margin of more than 70 per cent for each of those five years and an operating margin greater than 20 per cent for every period barring 2020, when it was hit in the second quarter by virus-induced shutdowns.

It helps that Align is the best-known business in the clear aligner industry, with broad international reach – selling its moulds and ‘iTero’ scanners into more than 100 countries.

The group also has a well-protected intellectual property portfolio, which it refers to as a “substantial business advantage”. As of 31 December 2019, it had 489 active US patents, 462 active foreign patents and 559 pending global patent applications. Together with its track record of effective treatment, the aesthetic appeal of clear retainers and its extensive distribution network, those patents mean that Align’s margins are underpinned by strong barriers to entry.

Competition bites

Admittedly, like the enamel on our teeth, such barriers could become vulnerable to erosion. Some key patents started to expire in the US in 2017, with more expiring the following year in other countries. This means that Align now faces more competition in several geographies. Rivals range from existing large companies that can redirect their resources to compete face-on with the group, to smaller direct-to-consumer businesses that provide clear aligners using a remote dentistry model.

Still, Align differentiates itself by being “committed to a doctor as the core of everything we do” – noting that Invisalign treatment “requires a doctor's prescription and an in-person physical examination of the patient’s dentition before treatment can begin”. Arguably, this should raise the odds of a better result.

Investing for the future

Moreover, Align continues to invest to develop its products and to reach a much wider customer base. It spent $175m on research and development (R&D) in 2020, equivalent to 7 per cent of net sales – more or less in keeping with each of the previous four years.

Align’s R&D activities are “directed toward developing the technology innovations that we believe will deliver our next generation of products and platforms” as it seeks to establish Invisalign as the standard method for treating malocclusion. At the same time, the group hopes that its intraoral scanning platform will become “the preferred scanning protocol for digital scans”.

But R&D aside, Align’s is also a big spender on marketing. This spending in bundled in with the group's operating costs (selling, general and administrative expenses as Americans call them), which total almost half of sales. Marketing includes advertising, trade shows and industry events. The scale of such investment has increased over time, with the group issuing television, social media and print media campaigns as well as partnering with professional sports teams and other famous figures to boost awareness. Importantly, just as R&D pursuits might not pay off, there is always a risk that such marketing costs will not reap the desired rewards.

That said, for now, Align’s expenditure is underpinned by a strong cash base. As of 31 December, cash and cash equivalents stood at $961m – up by more than a half from the prior quarter and by three-quarters year on year. While the group does not pay a dividend to shareholders, such resources have also allowed it to buy back shares. It authorised a $600m stock repurchase programme in May 2018 and still had $100m left to spend as of New Year’s Eve.

Topping expectations

Another serious threat to Align’s business model is a drop in consumer confidence and, thus, a reduction in how much people are willing to spend on non-essential goods. But – for now at least – the group has not suffered a sustained hit from the economic fallout of the coronavirus crisis.

Rather, Align topped market forecasts in the fourth quarter of 2020 – delivering net revenues of $835m and operating profits of $242m, up 28 per cent and 41 per cent, respectively. On average, analysts had expected sales of $791m.

Such growth was supported by the shipment of 568,000 Invisalign devices. Signalling progress on the group’s overseas expansion, it flagged a “major milestone” with the shipment to its two-millionth patient in the Europe, Middle East and Africa region.

At the same time, Align has switched to increasingly digital workflows during the ongoing health crisis – something that could position it more competitively in the long run. “From an Align standpoint, practices across every region are embracing digital treatment in new ways and more purposely than ever before”, management said.

Priced for perfection?

After rising more than a tenth on results day, Align’s shares currently trade at 49 times forecast earnings; broadly in line with US medical device stocks Intuitive Surgical (US:ISURG) and Abiomed (US:ABMD), but a very steep multiple whichever way you look at it. Still, Align’s high-growth track record, margin strength and overseas expansion means we’re willing to grin and bear the cost.