Stryker Strikes The Right Chord

5/17/2010


  Recent Price
$57
  Dividend
$0.60
  Yield

1.1%

  P/E Ratio
20
  Shares (millions)
400
  Long-Term Debt as % of Capital
13%
  52-Week Price Range
$59.72 - $37.14

Stryker ($57; SYK), one of the largest makers of artificial joints and hospital equipment, has wrestled with manufacturing problems, regulatory scrutiny, and weak capital spending by hospitals over the past year. Shrugging off these concerns, the stock has surged 38% over the past 12 months, well above the S&P 500 Index’s 27% gain.

Several factors help explain the stock’s performance. Sales crept up 4% and operating profit margins widened over the last year. On 30% higher free cash flow, Stryker’s cash balance has risen 76% over the last four quarters to $9.93 per share, nearly four times the amount of long-term debt. Profit estimates for 2010 and 2011 have edged higher over the past month, partly because of solid March-quarter results. And the regulatory storm clouds have begun to clear. Stryker is a Buy and a Long-Term Buy.

Business breakdown

Stryker draws 61% of its annual revenue from orthopedics. Knee (20% of total 12-month sales), hip (16%), and trauma (10%) are the biggest categories within the segment, as well as some of Stryker’s best sources of growth. In the March quarter, hip, knee, and trauma revenue rose despite weakness in Europe. Spinal revenue also increased, though pricing pressure has intensified.

While the U.S. orthopedics market is rebounding, persistent headwinds have slowed growth at the medical and surgical business (39% of 12-month sales). About 60% of the segment’s sales involve capital equipment. Anemic capital spending by hospitals means weak sales of patient beds and surgical equipment and instruments. Management says hospital spending is stabilizing but doubts it will return to historical norms in the near future.

The $525 million purchase of Ascent in December 2009 should provide a boost. Ascent cleans, sterilizes, tests, and reissues pneumonia tourniquet cuffs, blades that saw through bones, and other medical devices otherwise considered disposable. Stryker estimates the $32 billion U.S. market for disposable medical devices could yield a recycling opportunity of $3.6 billion. Few medical-device makers have embraced this practice, but it can offer a savings of up to 50%, which should appeal to cash-strapped hospitals.

Two regulatory warning letters have been addressed since last summer. Two more issues — involving plants in Michigan and Ireland — remain unresolved. Management says it has taken steps to align executive incentives with quality control.

Conclusion

Sales and profit growth could accelerate once hospitals resume capital spending, while Ascent could boost sales by 2% for the remainder of the year. Stryker sees growth from both segments contributing to 5% to 8% higher sales in 2010 at constant currency. The company targets per-share profits of $3.20 to $3.30, implying growth of 8% to 12%.

The stock trades at less than 17 times Wall Street expectations for year-ahead profits, a 17% discount to the five-year average forward P/E ratio. An annual report for Stryker Corp. is available at 2825 Airview Blvd., Kalamazoo, MI 49002; (269) 385-2600; www.stryker.com.

STRYKER
Quarter

    Per-Share
     Earnings*

Sales
Change

      Quarterly
      Price Range

P/E Ratio
Range

Mar '10 $0.80 vs. $0.71 + 12% $58.49 -

$49.85

21 - 18
Dec '09 0.76 vs. 0.69 + 7% 52.66 - 42.74 20 - 16
Sep '09 0.57 vs. 0.66 + 0% 48.10 - 37.14 17 - 13
Jun '09 0.73 vs.

0.73

- 5% 41.73 - 32.34 15 - 12
           
Year
(Dec.)

Sales
 (Bil.)

Per-Share
Earnings*
Per-Share
Dividend

52-Week Price Range

P/E Ratio
Range

2009 $6.72 $2.77 $0.50 $52.66
-
$30.82 19 - 11
2008 $6.72 $2.78 $0.33 74.94
-
35.38 27 - 13
2007 $6.00 $2.40 $0.22 76.89
-
54.89 32 - 23
2006 $5.41 $2.02 $0.11 55.92
-
39.77 28 - 20
             
————————————————— Quadrix Scores † —————————————————
Overall Momen-
tum
Value Quality Financial
Strength
Earnings
Estimates
Performance
86 52 64 91 94 64 56

   * Earnings exclude special items.
   † Quadrix® scores are percentile ranks, with 100 the best.


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