Earnings Scorecard: Stryker

By: Zacks Equity Research

July 26, 2011

Orthopedic devices giant Stryker Corporation (SYK – Analyst Report) reported second-quarter fiscal 2011 adjusted (excluding acquisition-related charges) earnings per share of 90 cents, matching the Zacks Consensus Estimate.

Second Quarter Flashback

Profit (as reported) for the quarter slipped 3.1% on account of $43 million in charges associated company’s acquisition of Orthovita andBoston Scientific’s (BSX - Analyst Report) neurovascular business. Revenues spurted roughly 16% year over year to $2,045.5 million, ahead of the Zacks Consensus Estimate of $2,007 million, backed by foreign exchange tailwind.

Sustained double-digit growth at the company’s surgical equipment unit (MedSurg) catalyzed revenue growth, masking the lingering challenges in the orthopedic business. Revenues from the Reconstructive division rose 7.4% in the quarter. However, barring foreign exchange translation, sales increased just 1.8%. Growth in the hips, trauma and extremities franchises was, in part, neutralized by a weak knee business.

MedSurg revenues climbed 15% in the quarter, boosted by strong sales of the company’s bed and stretcher offerings as well as acquisitions. Revenues from the new Neurotechnology and Spine unit skyrocketed roughly 53% in the quarter. Stryker re-affirmed its fiscal 2011 revenues and adjusted earnings outlook.

We have discussed the quarterly results at length here: Stryker Meets but Costs Hurt.

Agreement – Estimate Revisions

Estimates for fiscal 2011 indicate a somewhat mixed analyst reaction to the second quarter results. Out of 29 analysts covering the stock, 8 have raised their estimates over the past week with 9 moving in the opposite direction. Estimates are edged towards the positive side over the past month with 10 analysts having lifted their forecasts while 8 making negative revisions.

For fiscal 2012, estimates are positively inclined with 11 analysts (out of 29) making upward revisions over the last 7 days while 6 chopping their forecasts. Over the past 30 days, 12 analysts have hiked their estimates accompanied by 6 reverse movements.

Sustained strong momentum at MedSurg (backed by a recovery in hospital capital spending) and visibility for improved growth in the second half through new product launches inspires optimism among the analysts. On the flip side, weakness in the knee business, acquisition-related dilution, and continued pricing/volume pressure on Stryker’s implant products, which mirror a general trend in the industry, contributed to the bearish moves.

Magnitude – Consensus Estimate Trend

The magnitude of revisions for fiscal 2011 has plateaued over the last week. However, there has been an increase of a penny in the estimate for fiscal 2012 over the past 7 days, given the positive directional agreement. The current Zacks Consensus Estimates for 2011 and 2012 are $3.71 and $4.12, respectively.

Our Take

Stryker, one of largest medical devices makers on the planet, continues to perform reasonably well in a challenging operating environment leveraging a well diversified product portfolio. We believe that the company is poised for growth riding on new products, acquisitions and an improving hospital capital spending environment.

New products including the hip systems, ADM Restoration and MDM X3 (Modular Dual Mobility), are expected to favorably impact Stryker’s fiscal 2011 results. The ongoing transition from metal-on-metal (MoM) hip implants to next-generation hip systems represents a tailwind for the company. Given its less MoM exposure, Stryker is well positioned to gain hip market share vis-à-vis its highly exposed counterparts such as Johnson and Johnson’s (JNJ - Analyst Report) DePuy, Wright Medical (WMGI - Analyst Report) and privately-held Biomet.

Although Stryker’s knee franchise is still struggling, the recently approved OtisMed pre-op surgical cutting guides are expected to rekindle growth in this business in second-half 2011.

Stryker is actively pursuing acquisitions recently pressed by sustained pricing and procedure volume pressure in its core replacement hips and knees businesses. The $1.5 billion acquisition of Boston Scientific’s neurovascular assets has enabled the company to diversify its portfolio. Moreover, the acquisitions of rival Orthovita and Memometal Technologies have reinforced Stryker’s position in key market segments.

Stryker remains committed to deliver incremental returns to investors leveraging a solid balance sheet, healthy free cash flow and earnings power. Management’s outlook for fiscal 2011 remains favorable with revenues expected to grow at a double-digit clip in constant currency.

However, Stryker contends in a highly competitive orthopedic industry. Moreover, implant pricing and elective procedure volume still remain headwinds for the company. Stryker stated that its selling prices fell 1.5% globally in the second quarter.

Moreover, sustained patient deferral of elective procedures, impacted by a host of macro issues including high unemployment rate and expiry of health insurance, has led to weak demand for hip and knee implants. As such, a soft reconstructive implant market may weigh on the company’s results. We also account for the dilutive impact of acquisition-related charges. Our long-term Neutral recommendation on the stock is in agreement with a short-term Zacks #3 Rank (Hold).

About Earnings Estimate Scorecard

Len Zacks, PhD in mathematics from MIT, proved over 30 years ago that earnings estimate revisions are the most powerful force impacting stock prices. He turned this ground breaking discovery into two of the most celebrating stock rating systems in use today. The Zacks Rank for stock trading in a 1 to 3 month time horizon and the Zacks Recommendation for long-term investing (6+ months). These “Earnings Estimate Scorecard” articles help analyze the important aspects of estimate revisions for each stock after their quarterly earnings announcements. Learn more about earnings estimates and our proven stock ratings athttp://www.zacks.com/education/.

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