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MedTech Sails Through Macro Woes: Stocks in Focus

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Three full quarters of 2016 are behind us and, as expected, the trend has hardly changed for the bullish MedTech sector even amid severe economic instability surrounding one of the most controversial political power changes in history. This is because some powerful long-term tailwinds like mergers & acquisitions (M&A), emerging market expansion, positive demographic trends and new product innovation are the vital forces behind the continued uptrend in the sector’s performance.

In addition, the recent change in consumer demand and market dynamics led to a dramatic transformation in the healthcare system. This is evident from the growing prevalence of minimally invasive surgeries, rising demand for liquid biopsy tests, use of IT for ensuring efficient patient care and the shift of the payment system to a value-based model.

Let’s go through some of the major long-term tailwinds of the MedTech sector.

Major M&As

By now we know how Medtronic (MDT - Free Report) knocked Johnson & Johnson (JNJ - Free Report) from its indisputable position as the top firm in the medical devices space, thanks to its $43 billion Covidien merger. It’s really amazing how a single mega consolidation shook up the dynamics of the entire medical devices space.

And after that the industry hasn’t taken a breather with strategic mega consolidations continuing to pour in. Deals like Zimmer-Biomet ZBH, Johnson & Johnson–Synthes, Thermo Fisher-Life Technologies and many more gave birth to unprecedented leaders in their respective niche markets.

Although going by the last available EvaluateGroup data, the first half of 2016 witnessed a slump is mergers and acquisitions on a very tough year-ago comparison, there are a number of sector-changing deals in the pipeline. Most notable among these is Abbott Laboratories’ (ABT - Free Report) impending consolidation with St. Jude Medical for a deal value of $25 billion. Post-completion, this will create a leader in high-growth cardiovascular markets.

Apart from this deal, Abbott has inked a number of deals this year which include its $5.8 billion agreement to acquire Alere ALR which should strengthen its presence and leadership in the global diagnostics market. As per EvaluateGroup data, following the completion of these deals, the company will capture the third place in company rankings in 2022, with potential sales of around $22 billion.

Also, Zimmer Biomet’s impending acquisition of LDR Holding Corp. for a total deal value of $1 billion is expected to boost the spine portfolio of the former.

Other recently completed significant acquisitions are:

Thermo Fisher (TMO - Free Report) -Affimetrix: The acquisition of Affymetrix for $1.3 billion is expected to boost Thermo Fisher’s biosciences and genetic analysis portfolio.

Thermo Fisher-FEI Company: Thermo Fisher acquired FEI Company for $4.2 billion. FEI’s industry leading high-performance electron microscopy platform used for protein study will facilitate Thermo Fisher’s life-science research.

Medtronic (MDT - Free Report) -HeartWare: Recently, Medtronic acquired this company for a total value of $1.1 billion. This acquisition is expected to significantly boost Medtronic’s cardiac rhythm and heart failure business, alongside providing a strong foothold in the global market.

Divestments

Medical device majors continue to offload their non-core business segments, specifically to focus on the main segments and to divest assets that are similar to the ones acquired through mergers, as required by the U.S. Federal Trade Commission (FTC) and other international anti-trust regulators. This restricts the chance of monopoly practice in the market.

Let’s take a look at some of the significant divestments of recent times.

Abbott announced that it will divest its eye care business Abbott Medical Optics to Johnson & Johnson for about $4.33 billion in order to better streamline its newly added businesses.

Wright Medical’s recent divestment of its large joints (hip/knee) business to CorinOrthopaedics is an example of the company’s focus on its core businesses.

On the other hand, in its motto to reduce and refine its portfolio and repay its debts, Community Health Systems, Inc. CYH has decided to divest its Rockwood Health System and associated assets to MultiCare Health System.

Emerging Market Openings

As per recent data from Euromonitor International, the global medical device production value is likely to register strong growth of almost 6% in 2016, to reach $315 billion. While the traditional market continues to be plagued by difficulties like growing regulatory scrutiny and pricing pressure, it’s the Asia Pacific region on which all bets are being placed this year.

The MedTech market in Asia Pacific grew the fastest at a CAGR of 10% during 2008–2014 and is expected to continue to grow rapidly over 2016 as well. According to the report, China and India’s healthcare service revenues are expected to grow by 12% and 9%, respectively, in 2016 alone.

Abbott continues to lead the emerging market investment trend with about 50% of sales from this region. In the third quarter of 2016, sales in key emerging markets climbed in double digits driven by growth in India, China and Latin America.

At Medtronic, emerging markets demonstrated strong growth in its second quarter of fiscal 2017, contributing 120 basis points (bps) to the company’s overall revenue growth. Boston Scientific Corp. (BSX) achieved 19% organic growth in emerging markets in the third quarter, driven by 26% growth in China and 21% growth in Latin America.

R&D/ Innovations

According to a survey by KPMG, the number of medical device companies that expect to spend more than 6% of revenue on R&D/innovation is rising and is fast exceeding the number of companies spending on R&Ds in other manufacturing industries.

Edwards Lifesciences’ (EW - Free Report) SAPIEN or its competitive product Medtronic’s CoreValve transcatheter heart valve or surgical aortic valves are one of the most appropriate examples of such breakthrough innovations. As the global heart valves market is projected to grow at a CAGR of 14.28% during the period 2016–2020 (according to the latest Market Research Report), it is needless to say how impactful these breakthroughs are for the Medtech market for it to remain on its growth trajectory.

Strongest Links

Among the medical product stocks, Nxstage Medical, Inc. NXTM looks attractive, sporting a Zacks Rank #1 (Strong Buy) and with a VGM score B. We note that, stocks with a VGM Score of A or B and a Zacks Rank of #1 or #2 have highest probability of success.

Other medical product stocks fitting the criteria are Cardiovascular Systems, Inc. CSII, Eagle Pharmaceuticals, Inc. EGRX and Haemonetics Corp. HAE among others with a Zacks Rank #2 and VGM Score B.

In the medical instrument space, we are positive on Cogentix Medical, Inc. CGNT with a Zacks Rank #1 and VGM score B, AngioDynamics, Inc. (ANGO - Free Report) with a Zacks Rank #2 and VGM score B and Natus Medical Inc. BABY with a Zacks Rank #2 and VGM score A.

Weaker Stocks

Coming to the weakest links in the MedTech sector, we advise investors to stay away from names that offer little growth/opportunity in the near term. These include companies for which estimate revision trends reflect a bearish sentiment.

Stocks which do not look inspiring are Abaxis, Inc. , BioScrip, Inc. BIOS, Illumina, Inc. (ILMN - Free Report) , ResMed Inc. (RMD - Free Report) and Steris Plc STE, each carrying a bearish Zacks Rank #4 (Sell). Meridian Bioscience, Inc. and McKesson Corp. (MCK - Free Report) bear a Zacks Rank #5 (Strong Sell).