Medical Device Sector More Stable Than In The Past; Some Earnings Growth In The Space From Share Repurchases
March 20, 2012 - The Wall Street Transcript has just published Medical Devices Report offering a timely review of the Health Services sector. This Special Report contains expert industry commentary through in-depth interviews with public company CEOs, Equity Analysts and Money Managers. Please find an excerpt below.
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Kristen M. Stewart joined Deutsche Bank Securities Inc. as a Director within the global markets division in July 2010 to cover the medical supplies and devices sector. Before Deutsche Bank, Ms. Stewart was a Vice President and Senior Analyst covering medical supplies and devices at Credit Suisse and Research Analyst at UBS Securities LLC. In 2009 and 2010, she ranked number three in the Institutional Investor survey within the medical supplies and devices category. Before beginning her career on Wall Street, Ms. Stewart worked at PriceWaterhouseCoopers. Ms. Stewart is a Chartered Financial Analyst and an inactive Certified Public Accountant. Ms. Stewart holds a bachelor's degree in business administration with a major in finance and a B.S. in accountancy from Villanova University.
TWST: What is the latest there?
Ms. Stewart: We're seeing signs of stabilization across many of the end markets. We are seeing some mixed signs suggesting there may be some improvement in physician office visits and hospital in-patient surgical volumes. We're also looking at hospital admissions overall and starting to see that at least they may be not declining quite as much - hopefully, starting to moderate, and perhaps even increase over the longer term.
TWST: So it's somewhat positive at least relative to where we're coming from.
Ms. Stewart: Let's say it's early. We are starting to see some positive data points, but obviously, one data point doesn't make a trend. We did see some similar signs early last year, and they were not sustained; and last year, we did see some pressure in the second half of the year from a utilization perspective. So we're a little cautious, but I think it's reasonably appropriate to say that if nothing else, we're seeing some stability, which is a good thing.
TWST: Overall, was it a tough second half for most of the group?
Ms. Stewart: From a stock perspective, it was challenging. If you look on a sector level, the sector underperformed the S&P 500. From a company fundamental perspective certainly, I would say it also was challenging with total sales across the board in aggregate of about 3%, which is, certainly, below where the sector was growing their top line five years ago. A lot of the earnings growth has been a function of share repurchases and financial engineering as opposed to top-line or gross margin expansion.
TWST: Where are you pointing investors now? What are some of your favorite stories?
Ms. Stewart: Our "buy" ratings include St. Jude Medical (STJ), Covidien (COV), Baxter (BAX) and Stryker (SYK). We recently downgraded Medtronic from "buy" to "hold" based upon our view that the company may continue to have some growth challenges over the longer haul.
With St. Jude, we firmly think that they have a very strong pipeline that should help offset the challenges they may see with their cardiac-rhythm management business, because the end markets are mature. We certainly feel that within the cardiac-rhythm management market, they are still a net share gainer, which should be a positive for them. And we think that they can sustain growth in the mid-to-high single digits on the top line, with leverage to get to double-digit EPS growth. We think they should be able to get there even in 2013 - despite the device tax - due to restructuring savings they should recognize beginning next year.
We like Covidien because we think the management team simply does the right things. They've been making appropriate investments and restructuring the business. We feel they have done an excellent job of allocating capital. They've very consistently paid money back to shareholders in the form of dividends and share repurchases, and we continue to expect them to manage the business appropriately and grow their earnings at a double-digit pace. Given the valuation, we think the stock is certainly very attractive here.
We like Baxter because there is stability within the plasma markets, which is an important market for them and generally has a big impact on how the stock trades. We also think that they have a pretty good pipeline of new products. They are managing the P&L appropriately, and we're confident they can continue to grow at a double-digit pace over the next couple of years. They're going to have an analyst meeting this fall to talk about longer-term prospects, and we think that should help them stand out across their peer group.
Finally, we feel Stryker is a great, diversified company with balanced growth opportunities. They've also been very proactive on the expense-management side, initiating a restructuring program to allow them to overcome the medical device tax and grow double digits in 2013. There is a little bit of uncertainty in the near term, just because of management succession. The CEO announced that he was stepping down in February, and there is an open CEO seat to be filled. Until that seat is chosen, the stock may be a little bit more range bound in the near term. But over the longer term, we feel very comfortable, given the mix of businesses that they have that they can continue to grow above their peer group.
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