Quest Diagnostics: (NYSE: DGX)
QVI Research Report | Updated Coverage | March 2023
Summary
Quest Diagnostics is part of a duopoly that dominates the independent reference lab market.
The stock’s average of shareholder yields convincingly outperforms the Ten-Year Treasury thanks to earnings and free cash flow.
Returns on management are solid, valuation multiples suggest a discounted stock price, and downside risks remain below average.
In this updated research report, Quality Value Investing maintains its overall buy investment thesis based on a bullish view of the company and a bullish view of the stock.
Premium (paying) subscribers: When referencing this research report, access your Quality Value Investing (QVI) Glossary of Investing Terms and Metric Targets. Unless noted, all data presented is sourced from Seeking Alpha Premium as of the market close on March 20, 2023, and intended for illustration only.
Quest Diagnostics Value Proposition
QVI Research Report’s value proposition section provides a brief synopsis of the company’s business model, major-exchange listing, stock symbol, market capitalization, and dividend-paying status. In addition, it defines the competitive advantages of a company’s products or services to its customers compared to the industry, including the stock’s historical performance vs. the sector and market.
Quest Diagnostics Incorporated (NYSE: DGX) is a dividend-paying mid-cap stock in the health care services industry of the health care sector. DGX was added to the QVI Expanded Portfolio on January 25, 2022, at a split and dividend-adjusted $134.51 a share.
Quest Diagnostics Incorporated provides diagnostic testing, information, and services in the United States and internationally.
The company develops and delivers diagnostic information services, such as routine testing, non-routine and advanced clinical testing, anatomic pathology testing, and other diagnostic information services. It offers diagnostic information services primarily under the Quest Diagnostics brand, as well as under the AmeriPath, Dermpath Diagnostics, ExamOne, and Quanum brands to patients, clinicians, hospitals, independent delivery networks, health plans, employers, direct contract entities, and accountable care organizations through a network of laboratories, patient service centers, phlebotomists in physician offices, call centers and mobile paramedics, nurses, and other health and wellness professionals.
The company also provides risk assessment services for the life insurance industry and information technology solutions for healthcare organizations and clinicians. Quest Diagnostics Incorporated was founded in 1967 and is headquartered in Secaucus, New Jersey, USA.
QVI’s value proposition elevator pitch for Quest Diagnostics:
Quest Diagnostics is part of a duopoly along with Laboratory Corporation of America Holdings (NYSE: LH) that dominates the independent reference lab market.
Performance vs. Sector and Market
The chart below illustrates DGX’s performance against the Health Care Select Sector SPDR® Fund ETF (NYSE: XLV) and the SPDR® S&P 500 ETF Trust (NYSE: SPY) since QVI’s initial coverage of Quest Diagnostics in January 2022.
For example, DGX has slightly underperformed its sector while outperforming the broader market in total returns during the coverage timeframe. Notably, the stock has risen and topped XLV and SPY during the late 2022/early 2023 inflationary bear market due to its defensive position as a provider of necessary medical testing.
Due Diligence Resources
For a more in-depth analysis of the all-important value proposition, visit Quest Diagnostics’ investor relations webpage and its most recent Form 10-K Annual Report submitted to the U.S. Securities and Exchange Commission or SEC.
QVI’s value proposition rating for Quest Diagnostics: Bullish.
DGX Total Returns vs. XLV and SPY
Quest Diagnostics Inc (DGX) Total Return: -0.31%
Health Care Select Sector SPDR ETF (XLV) Total Return: -2.22%
SPDR S&P 500 ETF Trust (SPY) Total Return: -8.43%
Since January 25, 2022 (as of March 20, 2023)DGX Shareholder Yields
QVI Research Report’s shareholder yields section uncovers the equity bond rate of the company’s common shares. It aims to quantify the yields on earnings, free cash flow, and dividends to measure how the targeted stock compares to the prevailing yield on the 10-Year Treasury benchmark note.
Earnings and Free Cash Flow Yields
DGX’s earnings yield traded on the targeted floor at 5.96%, as demonstrated in the below chart. Moreover, at 8.36%, DGX’s free cash flow yield traded above the threshold.
As inverse valuation multiples, the earnings and free cash flow yields suggest that DGX trades at fair value to earnings but at a discount to free cash flow. QVI will further explore valuation multiples later in this report.
Dividend Yield
Quest Diagnostics offers a modest forward dividend yield of 1.99%, supported by a conservative 26.61% payout ratio, thus indicating a safe dividend rate with room for additional annual increases.
DGX yielded 2.11% from an annual payout of $2.84 on a split- and dividend-adjusted cost basis of $134.51 per share on January 25, 2022, the date of QVI’s initial stock coverage. Thus, our yield-on-cost basis was flatlining at +12 basis points [bps] above the forward yield.
Average of Shareholder Yields
Quality Value Investing takes the average of the three shareholder yields to measure how the stock compares to the prevailing yield of 3.49% on the 10-Year Treasury benchmark note. For example, the average shareholder yield for DGX was 5.44% or +195 bps above the 10-Year and 5.48% or +199 bps above the Treasury yield when using QVI’s January 2022 yield-on-cost basis.
QVI’s shareholder yields rating for DGX: Bullish.
DGX Shareholder Yields
Quest Diagnostics Inc (DGX) Price: $132.85
Quest Diagnostics Inc (DGX) Earnings Yield: 5.96%
Quest Diagnostics Inc (DGX) Free cash Flow Yield: 8.36%
Quest Diagnostics Inc (DGX) Dividend Yield: 1.99%
One-Year Trailing (as of March 20, 2023)Quest Diagnostics Fundamentals
QVI Research Report’s fundamentals section measures the performance strength of the company’s senior management by analyzing revenue growth, net profit margin, and returns on equity and invested capital.
Revenue Growth and Net Profit Margin
Per the below chart, Quest Diagnostics had positive three-year annualized revenue growth of 8.55%, slightly underperforming the 10.56% median growth of the health care sector.
Further down the income statement, Quest Diagnostics had a trailing three-year double-digit net profit margin of +14.59%, easily beating the sector’s median net margin of -6.99%.
Returns on Equity and Invested Capital
Quest Diagnostics management was producing a trailing three-year return on equity or ROE of +23.58%, above the targeted threshold and far outperforming the sector’s median ROE of -39.67%.
Stock buyback programs often elevate ROE. For example, in February, Quest Diagnostics’ board of directors authorized a new stock repurchase of $1 billion in addition to the $311 million available at the end of 2022.
At +13.84%, Quest Diagnostics’ three-year return on invested capital, or ROIC, is above the QVI threshold and trounces the sector’s median ROIC of -22.07%, indicating that its senior executives are outstanding capital allocators.
In addition, Quest Diagnostics’ ROIC covers its weighted average cost of capital or WACC of 7.96%. (Source of WACC: GuruFocus).
Despite losing the tailwinds of the coronavirus pandemic, Quest Diagnostics’ management performance still benefits from positive revenue growth, plus double-digit and sector-beating net profit margin, return on equity, and return on invested capital. Of note, despite single-digit topline growth, the latter three metrics are each above QVI’s targeted thresholds.
QVI’s fundamentals rating for Quest Diagnostics: Bullish.
DGX Returns on Management
Quest Diagnostics Inc (DGX) Revenue (3 Year Growth): 8.55%
Quest Diagnostics Inc (DGX) Profit Margin (3y Median): 14.59%
Quest Diagnostics Inc (DGX) Return on Equity (3y Median): 23.58%
Quest Diagnostics Inc (DGX) Return on Invested Capital (3y Median): 13.84%
Three-Year Trailing (as of March 20, 2023)DGX Valuation, Risks, and Investment Thesis
Next, QVI dives into the valuation multiples, downside risks, potential catalysts, and overall investment thesis of Quest Diagnostics Incorporated (DGX). Let’s dig further after reading the required disclosures and background information.
Disclosure: I/we have no positions or direct ownership of any shares mentioned in this report. I wrote this post myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Substack paid subscriptions). I have no business relationship with any company whose stock is mentioned in this article.
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About the Writer
David J. Waldron is contributing editor of Quality Value Investing and author of the international-selling book, Build Wealth with Common Stocks: Market-Beating Strategies for the Individual Investor. David’s mission is to inspire the achievement of his readers’ financial goals and dreams. He received a Bachelor of Science in business studies as a Garden State Scholar at Stockton University and completed The Practice of Management Program at Brown University. David and his wife, Suzan, reside in historic South Central Pennsylvania, USA.
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