Thorne HealthTech's rapid growth will send the stock much higher

The magnificent seven – Alphabet ($GOOG), Amazon ($AMZN), Apple ($AAPL), Meta ($META), Microsoft ($MSFT), Nvidia ($NVDA), and Tesla ($TSLA) – have rescued the market this year. They're at the forefront of the AI revolution, and investors have rewarded them for that.

But the magnificent seven are not the only stocks that have delivered a stellar performance this year. We can't ignore high-quality small caps like Thorne HealthTech ($THRN) that are also beating the market. THRN stock has rallied 50% this year and is currently trading near 52-week highs.

The company continues to grow rapidly despite the challenging macro because it primarily targets high-end consumers who are more resilient to economic weaknesses than regular people. It has an attractive business model that allows it to deliver profitable growth, which will likely continue, given the large and growing addressable market. Let's take a deeper look.

At The Intersection Of Two Rapidly Growing Sectors: Health And Technology

Thorne is a healthtech company that leverages advanced algorithms and AI to analyze user data and provide personalized health recommendations to customers. It sells a wide array of dietary supplements formulated to support various aspects of health and well-being. These include multivitamins, minerals, antioxidants, omega-3 fatty acids, probiotics, herbal extracts, and specialty formulas designed to address specific health concerns. This industry is largely unregulated as dietary supplements are not considered drugs, so these products are typically not backed by extensive scientific studies.

Thorne has differentiated itself as it has built a solid reputation by prioritizing scientific research and evidence-based medicine. Its products are backed by extensive clinical studies and collaborations with experts, giving the company a strong competitive edge in an industry often marked by unsubstantiated claims. Thorne's supplements are trusted by thousands of healthcare practitioners worldwide who purchase its products to recommend to their patients.

The company not only produces scientifically-backed products but also focuses on offering personalized solutions to customers. Besides nutritional supplements, Thorne sells personalized health tests. These tests provide individuals with insights into their health status. They cover a range of areas such as hormone levels, genetic variations, nutrient deficiencies, gut health, and more. The company uses the results from these tests to generate personalized recommendations to customers that include its nutritional supplements. While personalized tests are not mandatory for purchasing Thorne's supplements, the company encourages customers to take a test before making a purchase. This is because customers who take a test beforehand have a higher lifetime value than customers who don't. Also, the company uses the test results to improve its product formulations and create more effective supplements. Thorne has said that it plans to launch at least three products each year for the foreseeable future, leveraging user data to develop new science-backed formulations.

The company has bright future prospects as nutritional supplements are a growing industry expected to grow at a compound annual growth rate (CAGR) of 6.3% from 2022 to 2030. While the competition will likely increase, Thorne is well-positioned to win in the premium category, which is a market that is difficult to be commoditized.

Continued Rapid Growth & Short-Term Margin Pressures

Thorne is growing rapidly and profitably. In Q1, sales grew 21% y/y to $65.2 million, driven by the continued strong demand from its high-end customers. The company operates a successful subscription model that drives rapid growth and predictable revenues. Active subscriptions jumped 50% y/y during the quarter to 403K, which is an impressive growth clip while the average order value increased by 10% y/y. These metrics highlight the resilience of HealthTech customers amid the current challenging macro.

DTC sales have now surpassed the wholesale channel. DTC sales now account for 52% of the total, up from 44% in the year-ago quarter, which shows that the company is successfully increasing its brand awareness. Customers are increasingly going directly to Thorne's own channels, which benefits the company as it collects richer first-party data and achieves higher gross margins.

Despite the rapid growth in the DTC channel, Thorne experienced a 2% y/y gross margin compression in Q1 to 52.5%. The decline was caused by inflationary pressures in packaging and raw material prices, as well as capacity constraints. The company grew faster than expected in the last 5 years and has now reached capacity in its current production facility. A new facility that will allow it to grow sales by 2.5x is under construction in Summerville, CA and will be completed in early 2024.

The gross margin pressures caused operating deleverage during the quarter as the non-adjusted net income margin fell to -0.8% in Q1, from 8.7% a year ago. However, excluding non-cash expenses like stock-based comp and depreciation, Thorne is still profitable. Its Q1 adjusted profit margin came in at 9.4%, down from 16.2% in the year-ago quarter.

The margins will improve in the future as the new facility will allow the company to scale without facing capacity constraints, helping it achieve economies of scale. The new facility is expected to contribute 6% to gross margins by 2028, while other factors like price increases can contribute further to the gross margin expansion over the long run.

What About Valuation

Thorne is growing rapidly, but the inflationary pressures and the construction of the new facility are putting pressure on profitability in the short term. This is perhaps the main reason why the stock is still trading near an all-time low valuation multiple. As you can see below, at current prices of around $5.4 per share, THRN trades at a PS ratio of 1.2x.

If the strong growth continues and the profitability starts to improve in the coming quarters, THRN stock can rise up to 2x sales, which is a reasonable multiple for a high-growth name that focuses on growing the subscription part of its business. At this PS multiple, THRN could rise 94% to $10.5 by the end of the year.

What Else

While mega-cap stocks are stealing the show this year, high-quality under-the-radar names like THRN have the potential to deliver very strong market-beating returns over the long run. THRN utilizes AI to generate unique supplement formulations and provide personalized recommendations to customers. Personalized medicine and preventive healthcare are two strong trends that can help Thorne deliver rapid growth for years to come, and given that the stock price is cheap, THRN seems like a good buy.

Personal Portfolio Update

Yesterday, I opened a small speculative position in Sonder ($SOND).

THORNE HEALTHTECH RATING

Short Term: BuyLong Term: Buy

🎯 Year-End Price Target: $6.70 ➡️ $10.50

I'm long SOND.

The boring Disclosures: Newsletters express the opinion of the authors. Nothing in this email is a buy or sell recommendation. I'm not a financial advisor; make your own decisions.