Medical Device Stocks Worthy of Investments This Year

Few moments are as magical as the start of a new year. The stroke of midnight and the first few minutes thereafter are incomparable to others we experience during our 52-week journey around the sun—they are filled with promise and hope, renewing our faith and giving us a blank canvas with which to paint a new chapter in our lives.

In the baptismal moments of a new year, anything and everything seems possible.

Such conviction and optimism may have particularly been strong among economists in the inaugural seconds of 2012 as they anticipated a year of robust, sustainable economic growth. They had good reason to be hopeful, too—preliminary fourth-quarter data suggested the nation’s wounded economy might finally be out of danger. America’s pecuniary vital signs, which had flatlined in the fall of 2008, at last were showing more peaks than troughs. During the final quarter of 2011, for example, government job growth accelerated and inflation-adjusted gross domestic product expanded more than it had all year (at 3 percent). Consumer spending, the economy’s single-largest component, improved in the waning weeks of 2011, as did the U.S. equity market, which ended the year 8.4 percent over 2010 levels. Similarly, consumer spending improved 2 percent in the quarter to finish 2011 roughly 1.5 percent over pre-recession levels.

Companies contributed to the cautious optimism as well by reporting better-than-anticipated fourth-quarter earnings.

Construction machinery and engine manufacturer Caterpillar Inc., for instance, experienced the best three months in its 101-year history, generating a record $17.2 billion in revenue, or $2.32 per share.

Samsung Electronics followed suit with a mammoth 73 percent rise in quarterly operating profit that beat analysts’ forecasts of 4.7 trillion won by 10.7 percent (official fourth-quarter data show the South Korean firm garnered a profit of 5.2 trillion won, or $4.5 billion) and British oil company BP added to the late-year revenue rapture with a 38 percent increase in profit.

Medical device firms also turned in some stellar fourth-quarter performances: Adjusted net earnings at Washington, D.C.-based Danaher Corporation jumped 26.5 percent to $577 million and sales skyrocketed 37.5 percent to $4.7 billion, according to the company’s Q4 earnings report. Core revenues increased 4 percent in the fourth quarter compared with the same period in 2011. Stryker Corp. mimicked that growth with a 36 percent increase in net earnings ($401 million) and a 47.3 percent rise in neurotechnology and spinal product sales. The slumping cardiac rhythm disease management market briefly rallied, providing relief to long-suffering heart device makers such as St. Jude Medical Inc., which reported a 13 percent rise in atrial fibrillation product sales ($218 million), a 12 percent increase in neuromodulation device sales ($121 million) and an 18 percent jump in cardiovascular equipment sales ($340 million).

Indeed, hopes for a sustainable recovery were high at the start of 2012. But those hopes quickly were dashed when the economy stumbled yet again as the year progressed, leading economists, fund managers and investment strategists to downgrade their outlook for year-over-year gross domestic product growth to 2.39 percent from 2.46 percent. They also lowered their already dismal expectations for the stock market, forecasting the S&P 500 stock index to remain flat through June and rise only 2.9 percent by year’s end.

“If our economy were a Kentucky thoroughbred,” Cleveland Fed President Sandra Pianalto recently quipped, “I’d say we have moved from a walk to a trot but we’re far from a gallop.”

Chances are slim for that economic trot to turn into a gallop this year. A trot though, may be enough to sustain a modest recovery in the medical device sector, where revenue has increased at an average 12.8 percent annual rate since 2007 and overall sales are expected to climb 7.4 percent this year, according to market research firm IBISWorld. Such solid growth is bound to make medical device stocks an attractive and sound venture in 2012 (and beyond). Some of the companies most worthy of investment include:

AngioDynamics: This Latham, N.Y.-based developer of minimally invasive devices for cancer and vascular disease treatment has operated under the radar for years. Since 2006, the company’s cash balance has eclipsed its debt, growing steadily from $90 million to $130 million despite the outlay of $265 million on acquisitions. That kind of cash flow has helped AngioDynamics attract and retain investors over the years, though analysts attribute most stakeholder loyalty to curiosity over future spending habits. Company executives satisfied that curiosity in January with the $372 million acquisition of Navilyst Medical Inc., a Marlborough, Mass.-based manufacturer of fluid management and vascular access products. Investors initially were wary of the purchase, believing the price—at 14 times the firm’s 2011 earnings before interest, taxes, depreciation and amortization to be excessive. Management, however, insists the merger is far more beneficial than risky. They expect the purchase to generate at least $50 million in free cash flow in fiscal 2013, and create roughly $80 million in tax assets that can be used to offset future income. Executives also contend the Navilyst purchase will save the company an estimated $74 million-$90 million through fiscal 2015 and boost its share of the global vascular market to 20 percent. Other benefits include a stronger, more focused, more efficient sales force as well as an ability to create a leaner corporate structure. “With the company
having a significant cash position for more than five years, management has seemingly been taking its time in picking the right deal at the right time,” investment advisor Paul Nouri wrote in a February article for stock market opinion and analysis website Seeking Alpha. “Based on the analysis, it looks as though it has found the right deal and shareholders should be rewarded.”

AtriCure Inc.: Effective atrial fibrillation (a-fib) therapy is one of the cardiac device market’s holy grails. Boston Scientific Corp., C.R. Bard Inc., Medtronic Inc. and St. Jude Medical Inc. all have launched Don Quixote-like expeditions in search of the elusive cure, only to be vanquished by West Chester, Ohio-based AtriCure. Shortly before Christmas last year, the company received U.S. Food and Drug Administration (FDA) approval for its Synergy Ablation System, a device that treats persistent a-fib concomitant with open heart surgery. Consisting of isolator clamps, a radiofrequency generator and a related switchbox, the Synergy System is the first and only FDA-approved device with specific labeling for persistent a-fib. With that device and its AtriClip left atrial appendage exclusion system (which received the blessing of regulators in 2010), AtriCure now has the necessary building blocks for a strong a-fib treatment franchise. Success though, is far from guaranteed: Doctors can be very resistant to change, particularly when such change can affect payments and/or self-image. Furthermore, current treatment methods usually involve only drugs, cardioversion (shocking the heart) or surgical ablation, a procedure that uses catheters to ablate the heart and create small areas of scar tissue to stop the abnormal electrical signals that cause a-fib. Though backed by scientific data and cure rates well above 80 percent, AtriCure’s treatment systems lack the support (at least for now) of the doctors who would use them. The company’s fortunes, however, could change—literally—with minimally invasive usage of its a-fib treatments. Analysts note the Synergy ablation and AtriClip device both can be administered through minimally invasive approaches, thereby considerably expanding the market for a-fib patients who don’t need open heart surgery. Put differently—there are close to 3 million people in the United States with a-fib but fewer than 100,000 open heart procedures are performed each year. With FDA approval to market a minimally invasive ablation or left atrial appendage exclusion device, AtriCure’s market would triple, enabling the firm to fill its coffers and satisfy long-term investors.

Baxter International: A logical choice. The Deerfield, Ill.-based healthcare conglomerate enhanced its new product pipeline last year with a record $946 million in research and development investments. Revenues were up 8 percent in 2011 to $13.9 billion, net income spiked 58 percent to $2.2 billion and earnings per share skyrocketed 62 percent to $3.88. Cash flow from operations exceeded $2.8 billion last year but Baxter didn’t keep much of that money for itself—the company returned roughly $2.3 billion in cash to shareholders through dividends totaling $709 million and $1.58 billion in share repurchases of approximately 30 million shares at an average price per share of $52.67. Over the last five years, Baxter has returned about $11.4 billion to stakeholders through dividends and share repurchases. If that isn’t enough to convince tightwads to invest in Baxter, this should: Revenue growth is forecast to be about 2 percent this year, but earnings are expected to grow in the mid-teens with earnings per share in the range of $4.47 to $4.59.

As Gaithersburg, Md.-based financial research and publishing firm StreetAuthority LLC advised, “Baxter International is a high-quality company, generating healthy growth and strong cash flows, which they share with investors through steadily growing dividends and significant share repurchases. Buy.” Well said.

Becton Dickinson and Co.: This Franklin Lakes, N.J.-based firm operates much like an understudy in a Broadway show—constantly behind the scenes, rarely (if ever) taking center stage. The company’s three main divisions sell medical, diagnostic and bioscience supplies to hospitals and related healthcare providers as well as clinics, doctors’ offices, reference laboratories and research labs.
Despite the banality of its products, Becton Dickinson management successfully has grown sales and boosted profits; over the last decade, executives have leveraged average annual sales growth of nearly 8 percent into annual profit gains above 14 percent.

During that same period, sales doubled from $4 billion to nearly $8 billion, while earnings per share have more than tripled, going from less than $2 to nearly $5.59. Sales projections for the next few years are modest (averaging in the low single digits) but international sales are robust, having jumped 16 percent in the most recent fiscal year. Becton Dickinson executives have several options available to them to boost revenue and keep stockholders happy—they can supplement the company’s internal growth through acquisition or buy back stock, which boosts per-share earnings results by reducing outstanding shares.

Either method is sure to spur investor adulation, particularly if the forecast from one analyst comes true: “Within two years, I estimate the stock can reach $100, or 25 percent ahead of current levels,” CFA Ryan C. Fuhrmann wrote in an article for Seeking Alpha. “This is based off the expectations for at least 10 percent earnings growth, 2.3 percent current dividend yield and potential for multiple expansion … In today’s low-growth environment, it represents one of the safest ways I know of double-digit returns for investors.”