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All Contents © 2020The Kiplinger Washington Editors
By Lisa Springer, Contributing Writer
| February 6, 2020
America's love affair with its pets is creating a booming pet care industry – and, as a result, a small but expanding cluster of pet stocks.
Pet care might be bigger than you realize. Edge by Ascential, a market research firm, says that North American spending on pets hit $225 billion in 2018, and is expected to hit $281 billion by 2023 – roughly 5% compound annual growth. Millennials and Gen-Zers are embracing pet ownership in far greater numbers than previous generations; roughly two-thirds of U.S. households own a pet, up from 56% just 30 years ago.
Rising demand is fueling a diverse set of pet stocks – companies that provide everything from premium kibble to medications to even pet DNA testing and health insurance.
You can get some pet-related exposure among blue chips such as General Mills (GIS), which acquired all-natural pet-food leader Blue Buffalo for $8 billion in 2018. Aon (AON) boasts a top-rated pet insurance business in the form of subsidiary Healthy Paws; Synchrony Financial (SYF) bought a principal rival, Pet's Best, in 2019. However, pet care remains a small portion of their overall business.
Here, we look at nine of the best pure-play pet stocks to buy right now. This is a mix of high-growth newcomers and a few more established plays. We'll start with a couple of well-known blue chips before making our way to some under-the-radar names.
Data is as of Feb. 5. Dividend yields are calculated by annualizing the most recent payout and dividing by the share price.
Market value: $65.7 billion
Dividend yield: 0.6%
Zoetis (ZTS, $137.89) – by far the largest of the pure-play pet stocks – develops, manufactures and commercializes a wide range of veterinary medicines, vaccines and diagnostic tools sold in more than 100 countries. It has been a leader in animal health for more than 65 years, mostly as part of Pfizer (PFE); however, the drugmaker spun the company off in 2013.
While pet spending is spread across hundreds of companies, Zoetis makes up a big chunk of that. It generated $5.8 billion in revenues in 2018, and it has racked up $6.2 billion in sales over the past 12 months.
Zoetis is focused on expanding its diagnostic products footprint in the U.S. Veterinary diagnostics is a $4 billion global market estimated to be growing 10% annually; ZTS expects demand to grow faster than the overall animal health market, targeting annual mid- to high-single-digit growth.
To that end, the company acquired veterinary lab services supplier ZNLabs, and its nationwide network of labs, in November 2019. Zoetis also made a significant deal in 2018, buying Abaxis – a leader in veterinary point-of-sale diagnostic instruments and consumables. CEO Juan Ramón Alaix cited the latter, as well as parasiticide and dermatology products, for the company's strong operational results in the quarter ended September.
ZTS shares have a Buy rating from 14 of the 21 analysts following the stock; none of the remainder have it below Hold. Credit Suisse's Erin Wilson Wright (Outperform, equivalent of Buy) calls Zoetis a top pick, and wrote in October that "We are raising our TP to $138 (from $130) on greater conviction in its (long-term) growth prospects with emerging trends from our latest survey."
Speaking of long term: Zoetis is among the few dividend stocks on this list, and it has been a serial dividend raiser since its 2013 IPO. The payout has exploded by 141% over the past half-decade, including a 22% upgrade for its 2020 dividend.
Market value: $23.5 billion
Dividend yield: N/A
Idexx Laboratories (IDXX, $274.40) is the global leader in pet diagnostics and veterinary practice software. The company offers in-clinic diagnostic test kits used by veterinarians to measure blood and enzyme levels, as well as medical instruments and related consumables. Idexx generated $2.4 billion in revenues in 2019 by serving customers in 175 countries; roughly 40% of its sales are made outside of the U.S.
Idexx hasn't missed a quarterly earnings estimate in years, and its annual income growth has clocked in at nearly 20% over the past half-decade. The company's most recent report, for Q4 and full-year 2019, included 10% year-over-year revenue growth for the quarter, fueled by recurring revenues from its Companion Animal Group, as well as improvements in Water and Livestock, and Poultry and Dairy. While the company maintained its 2020 revenue outlook, it upgraded its earnings-per-share guidance to $5.42 to $5.58 per share – an improvement of about 2% at the midpoint.
Idexx is under new management, which sometimes can be a concern. President and CEO Jay Mazelsky replaced longtime chief Jonathan Ayers, who was paralyzed in a bicycle accident, on an interim basis in June, then was fully appointed in October. However, William Blair analyst Ryan Daniels (Outperform) writes that he's confident in Mazelsky and urges shareholders to buy on any dips, given a healthy end-market and strong recurring sales.
Indeed, in addition to putting IDXX among the best pet stocks to buy right now, it also ranks among the best health-care stocks for 2020.
Market value: $12.6 billion
Elanco Animal Health (ELAN, $31.63), like Zoetis, is the result of a major pharmaceutical company spinning off its pet-care operations. In Elanco's case, the company was broken off Eli Lilly (LLY) in late 2018.
Since then, the company has pursued growth via mergers & acquisitions (M&A). Elanco paid $234 million for pet medicine developer Aratana Therapeutics in July 2019, acquiring veterinary drugs for appetite stimulation, osteoarthritis pain and long-lasting post-surgical pain relief. Then in August, Elanco announced a $7.6 billion cash-and-stock deal to purchase Bayer's (BAYRY) animal health business. The pairing, which will make Elanco the world's second largest animal-health company by revenues (behind Zoetis), is expected to close in mid-2020.
The acquisition will double the size of Elanco's companion animal business and provide a foothold in new segments of the parasiticides market, with topical treatments and collars. It also strengthens Elanco's access to pet e-commerce channels. Other benefits include margin gains, accretion to profits as early as year one, and the potential to realize $275 million to $300 million in operating synergies.
Elanco hasn't done much since coming public, with shares off 12% since the company's first day of trading in 2018. Bank of America's Michael Ryskin acknowledges that the "2020 itself is likely to be a challenging year for Elanco," he upgraded the stock to Buy in December, writing "we think this year will mark 'the bottom,' and we see significant upside as revenue growth and EBITDA growth reaccelerates, bolstered by the contribution from Bayer Animal Health."
Morgan Stanley analyst David Risinger upgraded the company from Equal Weight (equivalent of Hold) to Overweight (equivalent of Buy) in November and raised his price target from $32 per share to $34, citing positives related to the Bayer transaction, prospects for margin enhancement and long-term pipeline potential. Then in late January, he nudged his target even higher, to $35.
Market value: $10.7 billion
Full disclosure: Like Elanco, Chewy (CHWY, $26.90) – one of the youngest publicly traded pet stocks – could have a difficult 2020 ahead of it. In fact, we've detailed Chewy's headwinds in a recent look at some of the new stocks from 2019's slate of IPOs.
However, some analysts see a longer-term bull case for investors willing to ride it out.
Chewy and Amazon.com (AMZN) combine to dominate the online market for pet supplies, accounting for $9 of every $10 spent. Each holds a roughly 45% share of the e-commerce pet food market. CHWY is differentiated by its singular focus on pet supplies, in-house brands and growing pet pharmacy business.
That dominance likely fueled the hype behind Chewy's early move; CHWY shares jumped nearly 60% in their first day of trading after the company's June 2019 IPO. Since then, however, shares have surrendered roughly a quarter of their value – with many concerned about the company's lack of profitability, not to mention the threat of Amazon tipping the scales.
Analysts have nonetheless started tilting their opinions in Chewy's favor, albeit some with a longer time horizon than others. Wedbush's Seth Basham upgraded the stock to Outperform in late January, citing potential growth of online sales penetration to 25% by 2023. Morgan Stanley's Lauren Cassel (Overweight) also likes the secular growth story and writes that Chewy's revenues could double by 2024.
Market value: $2.4 billion
Pet food purveyor Freshpet (FRPT, $65.93) helped pioneer the concept of fresh refrigerated pet foods, which it claims are healthier than dry or canned foods. Customers seem to agree, as evidenced by the company's steadily increasing household penetration rate and repeat sales, which make up a whopping 70% of revenues.
Freshpet has created a competitive moat via its proprietary manufacturing processes and formulas; retail partnerships with Walmart (WMT), Kroger (KR), Whole Foods and Petco; and by controlling the only refrigerated pet food supply chain in North America. The company even enhances brand loyalty with its branded refrigerated cases, installed in partner stores.
Freshpet has grown its revenues by a red-hot 25% annually over the past five years. They're still pacing that way, with sales up 27% year-over-year during the first nine months of 2019; adjusted EBITDA (earnings before interest, taxes, depreciation and amortization) jumped 44%. The company still has failed to generate an annual net profit, but money-losing stocks still can grow plenty if they're headed in that direction, which Freshpet appears to be.
Q3 marked the company's eighth consecutive quarter of 20%-plus sales growth; Freshpet also reported positive earnings per share that exceed analyst estimates. FRPT's growth strategy focuses on expanding its consumer franchise and retail presence; building more efficient capacity; and strengthening margins via new products and better pricing.
D.A. Davidson analyst Brian Holland initiated coverage of FRPT shares back in June with a Buy rating, calling it a "disruptor" in the $30 billion pet food industry and a great pick among consumer staples stocks. Interestingly, while showing faith in the company's long-term potential, saying it has "considerable runway" and could hit $500 million in annual revenues by 2023, he also thinks shareholder value could be found in a buyout, writing that he thinks FRPT will "ultimately get acquired."
Holland reiterated his optimism in December, calling Freshpet "the most compelling growth story in Staples today."
Market value: $1.2 billion
Trupanion (TRUP, $33.81) is America's second largest provider of pet insurance and the only pure play in this space.
Demand for pet health insurance is rising due to steadily increasing costs for routine veterinary care. The average pet owner spends $257 annually on vet care for dogs; it's $182 for cats. Pet insurance premiums rose 23% last year, and the number of insured pets rose about 16% to 1.83 million, according to the North American Pet Health Insurance Association.
Despite this robust expansion, only about 1% of American pets are insured currently. Insurers expect that number to rise to levels comparable to the U.K., where 25% of pets are insured. At a 25% penetration rate, Trupanion estimates its addressable market opportunity at $32.7 billion. For comparison's sake, the company brought in $361 million in revenues over the past four quarters.
The company's growth is fueled by its 120-member direct sales force, which calls on 20,000 to 28,000 veterinary hospitals each year. Veterinary hospitals represent 75% of Trupanion's referral sources.
Trupanion benefits from a nearly 99% customer retention rate and a monthly subscription model that provides high recurring revenues. It's also among the best pet stocks as far as sales growth goes, at more than 29% annually over the past five years. TRUP still is losing money, though analysts think the company will report positive adjusted net income in 2020.
The stock clearly faces some issues. Stifel's Jonathan Block downgraded Trupanion's shares to Hold in early January, citing a quick fourth-quarter run-up in valuation and potential for more competition. In all, six analysts have Buy-equivalent ratings on the stock, according to the Wall Street Journal, versus just one Hold.
Market value: $880.1 million
PetIQ (PETQ, $31.13) supplies veterinary-grade pet products and veterinary services to consumers. Its branded medications are offered via 60,000 retail and e-commerce sites and manufactured at its own facility.
In addition, through its VIP Petcare business, PetIQ provides veterinary services at 3,400 retail partner locations. Retail partners include Walmart, Target (TGT), Tractor Supply (TSCO), Pet Supplies Plus and others. The company also is opening clinics within some of these locations; it was on track to open 114 in 2019, and PetIQ plans on growing this network to 1,000 wellness centers nationwide by 2023.
The July 2019 acquisition of Perrigo Animal Health gave PetIQ a portfolio of leading over-the-counter pet-care products under the PetArmor, Sentry and Sergeant's brands. The combined business generated $605 million of pro-forma 2018 sales.
PetIQ's revenues have more than tripled since 2014, though its profitability has been much more unpredictable. Nonetheless, analysts are looking for a 55% jump in adjusted profits for full-year 2019, and a 13% improvement in 2020.
PETQ shares boast Buy ratings from all five of the covering analysts tracked by WSJ. Raymond James' Joseph Altobello (Outperform) cited a pet-owner survey in which 60% of respondents said they either already take their pets to a wellness center or are open to the idea. "The above pet owner survey results appear to support our bullish thesis on PETQ," he writes, adding, "Overall, we remain confident in PETQ's healthy growth and improving margin profile, bolstered by both the expansion into services as well as the recent acquisition of Perrigo's Animal Health business, with should lead to meaningful multiple expansion over time."
Market value: $787.4 million
Heska (HSKA, $100.58) sells veterinary diagnostic and specialty health-care products. Its larger business, the Core Companion Animal Health (CCA) segment, accounts for 85% of company sales. CCA sells lab testing tools and consumables, primarily under a unique multiyear "Reset Subscription" model; allergy and immunotherapy testing; and single-use products such as in-clinic diagnostics and heartworm prevention treatments.
Heska's growth hasn't been as explosive as some of the previously mentioned pet stocks, at about 10% annually over the past half-decade, and things have been slower more recently. Through the first nine months of 2019, HSKA recorded a 5% year-over-year improvement in sales. However, the company has been soundly, if variably, profitable for years. It did report a net loss during the quarter ended Sept. 30, but that was impacted by a one-time charge related to cyber theft and still was considerably better than the prior-year's loss.
New test product launches, geographic expansion into France and Australia, and renewal of a long-term contract with a major corporate client (PetVet Care Centers) are all potential sparks for future growth. Indeed, the company raised $86.3 million last year through a convertible note offering that will be used to fund future growth initiatives. Heska also is trying to grow via acquisition, buying CVM Companies – the leading provider of pet imaging and blood testing products in Spain – in January.
Analysts have calmed on the stock after a nearly 40% run over the past six months. That includes Raymond James' John Ransom, who downgraded the stock to Market Perform (equivalent of Hold) citing valuation concerns because of the run-up. He's still positive on the overall business, however, and says the mid-2020 launch of Element UF, the company's highly anticipated urine and fecal analyzer, could be a catalyst for the HSKA shares.
Meanwhile, Canaccord's Mark Massaro (Buy) raised his price target from $75 per share to $105 in November after its third-quarter earnings report, but did note the company might be too optimistic about its margins, given the heavy investments it's making in its business.
Market value: $523.7 million
Dividend yield: 4.2%
PetMed Express (PETS, $25.97) markets pet medications and other health supplies direct to consumers via the Internet, which represents more than 80% of the company's sales. Unlike other pet supply companies, however, PetMed Express is no recent startup; the company was founded in 1996 and also is known by 1-800-PetMeds. Moreover, it has been generating positive cash flow and paying dividends for roughly a decade.
PETS has been among the most lively pet stocks on the market over the past few years. Shares surged from below $20 in 2017 to around the $53 level in early 2018, then dropped into the mid-teens as recently as August 2019. Shares have whipped back since then, up 67% over the past three months.
That volatility has come amid fairly stable growth. Revenues are up 5% annually on a compound basis over the past five years, while profits have climbed by 16% annually. Moreover, sales and net income have increased every year since 2016. PetMed Express's most recent earnings report, released in January, showed a small slip in quarterly sales and a 12% drop in net income. Price competition from newer players and rising customer acquisition costs have cut into results in recent quarters.
PetMed Express plans to improve its fortunes with a new customer loyalty program that will strengthen sales and reorder rates, as well as minimum advertised price commitments from major manufacturers, which should bolster margins. The company's $92 million in net cash provides plenty of operating flexibility.
PETS stock is thinly covered, but it has two Buys, two Holds and one Sell among the five analysts on the job. Most recently, Anthony Lebiedzinski, from boutique analyst firm Sidoti, reiterated a Buy rating and $29 price target, calling Wall Street expectations "too low." He believes the company's profits will recover during the current quarter for the fiscal year ended February 2020, and that EPS will grow 30% in fiscal 2021.