Covidien Outshines, Backs View - Analyst Blog

International medical technology giant Covidien plc (COV) reported first-quarter fiscal 2011 (ended December 24) adjusted earnings per share (from continuing operation) of 95 cents, outstripping the Zacks Consensus Estimate of 81 cents and exceeding the year-ago earnings of 84 cents. Adjusted earnings exclude one-time items such as inventory and restructuring charges.

The Ireland-based health care product maker posted net income of $427 million (or 86 cents a share), up 3.6% year over year, boosted by higher sales of medical devices (notably vascular), improved margins and lower tax. The healthy results pushed up Covidien's shares, which rose roughly 4% in early trading on February 1.

Net sales for the quarter rose 5% year over year to $2,769 million, also beating the Zacks Consensus Estimate of $2,742 million. Sustained strong momentum in the Medical Devices business was, in part, marred by yet another sluggish performance at the Pharmaceuticals division.

Results in Detail

Segment Analysis

Revenues from Medical Devices unit surged 11% year over year to $1.88 billion on the back of double-digit sales growth across Vascular, Oximetry and Monitoring and Energy Devices product-lines, aided by acquisitions and new product launches. While hospital admissions remained choppy, procedure volume improved in the quarter.

Oximetry and Monitoring revenues (up 14%) were boosted by the acquisition of monitoring equipment manufacturers Aspect Medical and Somanetics while solid vessel sealing sales drove up Energy revenues (up 13%).

Covidien recently extended its agreement (signed in January 2006) with Masimo (MASI). Under the amended terms, the company will pay Masimo a royalty of 7.75% on its sale of Masimo's pulse oximetry products in the U.S. for three more years, starting Mar 15, 2011.

Revenues from the Vascular business catapulted 82%, driven by the acquisition of endovascular devices maker eV3. The company recently introduced the EverFlex+ peripheral stent system in Europe, representing its sustained commitment to bringing latest technologies for treating vascular diseases.

Growth in Vascular, however, was partly masked by a decline in Airway and Ventilation products sales (down 11%), impacted by the divestiture of the sleep therapy product line and lower ventilator sales.       

Covidien's Pharmaceuticals division, which remains engulfed in aggressive competition and pricing pressure, continues to struggle with revenues being clipped 8% to $470 million. The decline is attributable to the divestiture of the U.S. nuclear pharmacies business and sustained decline in Specialty Pharmaceuticals sales (down 7%). However, the results were somewhat better than the company's expectations.

Generic product sales continue to be hit by pricing headwind, albeit at a lesser extent sequentially. Revenues from Active Pharmaceutical Ingredients fell 3% in the quarter due to lower acetaminophen sales while Contrast Products sales rose modestly. Covidien expects softness in the Pharmaceutics business to sustain through 2011.

Medical Supplies segment sales dipped 5% year over year to $422 million attributable to declines across SharpSafety (offers needles, syringes and disposable products) and Nursing Care product lines.

Margin Trend

Gross margin for the quarter improved to 56.7% from 55.2% a year ago, supported by a host of factors such as favorable business mix, portfolio realignment, cost-containment initiatives and synergies from restructuring efforts. Adjusted operating margin rose to 22.2% from 21.7% a year ago.

Shareholder Returns

Covidien repurchased roughly 2.3 million shares in the quarter for $100 million under its $1 billion buyback program announced in March 2010. The company remains committed to its policy of returning at least 25%-40% of its cash to shareholders annually through share repurchases and dividends.

Outlook

Covidien has reaffirmed its revenue, operating margin and cash flow guidance for fiscal 2011 assuming currency exchange translation does not pose any impact on its top and bottom lines. The company continues to envision net sales for the year to nudge up 6% to 9% year over year.

Adjusted operating margin for the year has been projected in the range of 21% to 22% while free cash flow is forecast to exceed $1.6 billion, unchanged from the earlier guidance.

However, the company has revised its estimated effective tax rate, which is now expected to be at par or below the first quarter tax rate (adjusted) of 18.4%, vis-à-vis the earlier forecast of 20%-21%. Based on the healthy first quarter results and lower projected tax, Covidien expects to post double-digit earnings growth in fiscal 2011. The current Zacks Consensus Estimates for 2011 revenues and EPS are $11,242 million and $3.57, respectively.

Covidien is a leading global healthcare products company and boasts of a well diversified product and technology portfolio. Its core medical devices business faces stiff competition from Johnson & Johnson (JNJ), Becton Dickinson (BDX) and C. R. Bard (BCR). The acquisition of eV3 in July 2010 has bolstered Covidien's foothold in the peripheral vascular and neurovascular markets.

Covidien remains committed to rolling out new products and technologies, focusing on fast-growing markets, and boosting market share in core segments through investments in sales and marketing infrastructure. Moreover, the divestiture of its specialty chemicals and sleep therapy product line has enabled the company to rationalize its product portfolio and reallocate resources to faster-growing, higher-margin businesses.

 
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