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Covidien plc. (COV - Analyst Report) posted adjusted earnings per share from continuing operations of 91 cents for the fourth quarter of fiscal 2013, which beat the Zacks Consensus Estimate by a penny. Adjusted earnings also increased 6% from 86 cents reported in the prior-year quarter, despite headwinds from foreign exchange movements, the medical device excise tax and escalated investments in emerging markets.

However, reported net income decreased 9% to $364 million (or 79 cents) a share from $400 million (or 83 cents) in the prior-year quarter.

For fiscal 2013, Covidien’s adjusted earnings per share from continuing operations increased 3% to $3.72, also beating the Zacks Consensus Estimate by a penny. However, net income declined 2% to $1,600 million (or $3.40 a share) from $1,637 million (or $3.37 per share) a year ago.

Revenues in the fourth quarter grew 2% (up 5% in constant currency) to $2,560 million, almost in line with the Zacks Consensus Estimate of $2,561 million. On a geographic basis, revenues in the U.S. market decreased 2% to $1,295 million. On the other hand, international revenues climbed 8% (13% in constant currency) to $1,265 million, driven by emerging market growth.

For fiscal 2013, revenues grew 4% to $10,235 million, roughly in line with the Zacks Consensus Estimate of $10,238 million. On constant currency basis, revenues increased 6%.

On an adjusted basis, fourth-quarter gross margin dropped 70 basis points (bps) to 58.2% in the quarter due to unfavorable foreign exchange rates, partially offset by positive pricing along with favorable volume and mix.

Selling, general and administrative expenses increased 2.0% to $835 million on account of the medical device excise tax and sales and marketing initiatives in emerging markets, partially offset by improved productivity. Research and Development (R&D) expenses escalated 25.8% to $146 million in the quarter.

Adjusted operating income dropped 2.4% to $530 million. Adjusted operating margin dipped 100 bps to 20.7% in the quarter.

Segment Analysis

Revenues from the larger Medical Devices segment rose 3% (up 6% in constant currency) to $2,126 million in the quarter. The division is benefiting from new product offerings and higher volumes.

Within Medical Devices, revenues from Endomechanical Instruments escalated 8% to $622 million, led by solid gains from Tri-Staple reloads. Sales of Soft Tissue Repair products inched up 1% to $219 million, led by improved suture sales. Revenues from Energy Devices climbed 7% to $358 million, again reflecting strong double-digit vessel sealing sales.

Revenues from Oximetry and Monitoring under the above broader segment rose 5% to $241 million, owing to higher sales of sensors acquired from Oridion and capnography offerings. However, Airway & Ventilation sub-segment revenues dropped 4% to $186 million due to soft ventilator sales, partially offset by gains from airway offerings.

Vascular product sales inched up a mere 1% to $412 million, as solid growth of chronic venous insufficiency offerings and peripheral and neurovascular products was dampened by depressed compression sales.

On the other hand, revenues from the smaller Medical Supplies segment slipped 1% to $439 million in the quarter. Sluggish sales of all four product lines under the segment led to the decline.

Share Repurchase

Covidien repurchased roughly 10.2 million ordinary shares under its share buyback program in the third quarter. Shares outstanding at the end of the quarter were $463 million.

Guidance

Covidien reiterated its outlook for fiscal 2014. COV expects revenues to grow 2–5% year over year at constant exchange rate (CER) for fiscal 2014. Revenues for the core Medical Devices segment is anticipated to grow in the range of 2–5%, while the same for the smaller Medical Supplies business is likely to remain flat in the fiscal year.

Moving ahead, adjusted operating margin is likely to remain in the band of 21.5–22.5% and effective tax rate in the range of 16.0–17.0%. Moreover, COV is aiming a dividend payout ratio in excess of 35% over time and is targeting to achieve a ratio of at least 30% within the next 12 months.

Our Take

Covidien’s modest fourth-quarter results keep us on the sidelines. Although the company is gaining significant grounds in emerging markets, tepid growth in the U.S. is a matter of concern. Moreover, the company’s bottom line is under pressure due to escalated investments in emerging markets and headwinds from foreign exchange fluctuations. In addition, Covidien faces stiff competition and remains exposed to pricing and utilization headwinds, along with acquisition risks.

However, the company is adequately placed to achieve its long-term revenue and earnings growth targets based on its attractive fundamentals, strategic R&D investment, effective execution, new product cycle and expansion into the emerging markets. It is also enhancing shareholder value through dividends and share repurchases, leveraging healthy free cash flow and strong earnings power.

Covidien currently carries a Zacks Rank #3 (Hold). Other companies like Bio-Rad Laboratories, Inc. (BIO - Snapshot Report), INSYS Therapeutics Inc. (INSY - Snapshot Report) and NuVasive, Inc. (NUVA - Snapshot Report) are expected to do well in the medical products industry. All these stocks carry a Zacks Rank #1 (Strong Buy).

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