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Volcano Corporation Remains Neutral

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We have reaffirmed our Neutral recommendation on Volcano Corporation with a target price of $29.00 following its second-quarter 2012 results. The company recorded mixed second quarter 2012 results with earnings of 4 cents per share surpassing the Zacks Consensus Estimates while revenues of $95 million were almost at par with the consensus.

The San Diego, California-based company engages in the development, manufacture, and commercialization of a broad suite of precision guided therapy tools including intravascular ultrasound (“IVUS”) and fractional flow reserve (“FFR”) products. These products improve the efficiency of the percutaneous interventional (“PCI”) procedures in the coronary or peripheral arteries.

IVUS products have a significant contribution to the company’s revenues. Volcano Corporation witnessed mid single-digit growth in IVUS disposable revenues in the US, Japan as well as in Northern Europe during the most recent quarter though revenue trends in Southern Europe, particularly Spain, were not so encouraging. Meanwhile, we favor the company’s strategy of driving growth based on market penetration, share gain and pricing growth with the introduction of more advanced IVUS catheters and related technology. With weakness in PCI procedures in the US and price cuts in Japan, the company is looking at mid single-digit growth in IVUS disposables going ahead. 

With the recent launch of several new products, Volcano Corporation now maintains a strong portfolio, which is expected to generate growth in the long term. During the first quarter, the company initiated a limited market release of its Valet Micro catheter in the US that received 510(k) clearance in early January. This was followed by the CE Mark approval for the device, and subsequently a limited market release was initiated in Europe in the second quarter. The company is looking at an early 2013 approval of Valet in Japan.

Further, progress is also being made in pipeline development. The next-generation IVUS technology called FACT (Focused Acoustic Computed Tomography) is slated for commercial launch in the US and Europe in mid-2013 and in Japan a year later. With respect to the Forward-Looking IVUS (FL.IVUS) program, 40 patients have been enrolled and the CE mark approval is expected before year-end. Besides, within the Forward-Looking Intra-Cardiac Echo (FL.ICE) program, animal trials have been completed and management is on schedule for the first-in-man clinical work in 2013. Development of adenosine-free Instant wave-free ratio FFR (iFR) is on track with approval in Japan and Europe expected by the end of 2012. The company is already discussing with the FDA about the study protocol and expects clinical trial to begin soon

Volcano Corporation continues to expand its presence in Japan through direct sales program or introduction of new products. With termination of several distribution agreements over the past few years, the company is now well placed to address 100% of business in Japan on a direct basis. Having witnessed the benefits of transition to direct sales force in Japan, the company is also working to go direct in Spain.

The company, however, had to lower its outlook for fiscal 2012 to reflect the several headwinds currently at play. The revenue outlook was lowered to include adverse currency movements ($2 million), slowdown in certain Southern European countries ($2 million) and lower Industrial revenues due to continued softness in the telecom sector ($4 million). Capital spending by customers like hospitals has been affected by the weak economic scenario. The company also witnesses tough competition from players like Boston Scientific (BSX - Free Report) and St Jude Medical .

Our recommendation is backed by a Zacks #3 Rank (Hold) in the short term.

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