Here's a company that was popular with analysts between 2008 and 2011 when it looked like the company was in control of the mechanical circulatory support therapy market. Thoratec Corporation (THOR) was expected to lose a big chunk of its market share when smaller companies introduced new products that were to be approved soon. Analysts believed the stock would drop down close to 12, but today it hovers in the high 30s and continues to claim a lion's share of the market as it grows both revenue and earnings. The mechanical circulatory support therapy market has yet to reach its zenith and here is a dependable growing company that will continue to dominate a growing, global industry that won't slow down.
Company Overview
Thoratec Corporation is a world leader in mechanical circulatory support therapies to treat a full range of clinical needs for patients with advanced heart failure. The company's main products include Heartmate LVAS and Thoratec VAD with over 22,000 devices implanted in patients suffering from heart failure.
This is an important and continually growing therapy area. Even though therapy for advanced heart failure patients continues to progress, estimates have shown that there are over 1 million patients who progress to NYHA Class III and IV and experience a dramatic reduction in their quality of life. Heart transplants are limited to the number of donor hearts that are available but there are always many more needs than there are donors. Patients that face extended waiting periods experience diminishing functional capacities and higher mortalities; other patients may face the same thing because of assorted illnesses or may not even be eligible for transplantation. This is where the Thoratec Corporation products continue to help patients reach a higher quality of life.
The HeartMate II
Since the Heartmate II is the real bread winner for the company, we should familiarize ourselves with the product. It is known as a ventricular assist device (VAD). Some of these devices are used partially or completely to replace the function of a failing heart. Typically they are intended for short term use for patients
recovering from heart attacks or heart surgeries. Left ventricular assist devices (LVAD) appear to be the most commonly used.
The reason this product is the main breadwinner for the company is because it works so well. Patients who received mechanical circulatory support therapy using the HeartMate II experienced marked improvement in function and the reduction in observable heart failure symptoms. 96% of the patients that received "Destination Therapy" using the HeartMate II were classified as NYHA Class IIIB/IV. These patients either had marked limitations when it came to physical activities or they were unable to carry out any physical activity without some form of discomfort. 75% of patients improve to NYHA Class I or II within three months and 81% within 24 months. This meant they had no more than slight limitation in physical activity.
Destination Therapy as a Growing Industry
Treatment with the HeartMate II product is known as "Destination Therapy." This course of treatment for severe heart failure patients involves the use of mechanical circulatory support when there is no other option even for providing for a heart transplant. North America accounts for t
wo thirds of the (VAD) global market despite not yet reaching total penetration.
Ventricular assist devices (VAD) are expected to be a $1 billion industry by 2017 with a compounded annual growth rate of 11%, driven by a growing and aging population that will demand VAD's as a bridge for transplants and recovery therapies among other things. With the rapid advancement in technology, the VAD's are becoming a viable treatment for heart failure patients more and more. As I have said before, an aging population will drive the increase in heart failure which in turn will increase the growth of the VAD global market. The American Heart Association estimated that in 2010 there were 23 million people who suffered congestive heart failure (CHF) on a global scale. It has also been estimated that there are 100,000 people annually who may benefit from destination therapy. More than 8,000 people get on a list for heart transplants every year but only bout 3,000 people may receive one.
There is a left ventricular assist device (LVAD) and a right ventricular assist device (RVAD), but it is the LVAD device that has contributed significantly to the size of the market. This segment accounts for about 73% of the market and will have a CARG growth rate of 13% reaching about $870.3 million by 2017. Coincidentally, left side heart failure is also higher than right side. The LVAD is popular in three types of therapies:
- Bridge-to-Transplant (BTT)
- Destination Therapy
- Bridge to Recovery
The biggest market for VAD's is the United States. Estimates have the market in the states growing to $725.8 million by 2017 with a CARG of 13% and presently it accounts for 61% of the global market. The market in the states is driven by patient awareness, prevalence of heart disease, recommendations by various medical associations, and clinical trials.
In this fast growing global market Thoratec claims the lion's share with an outstanding 73% dominance of the global VAD market and is strongest in North America. It has the strongest brand recognition in the market which gives it a great advantage over competitors. The VAD market will continue to expand naturally with a growing and aging population and as technology advances this type of treatment will become more commonplace and accepted as an alternative to transplants.
Financial Overview
2012 was a good year for the company as sales grew by 16% driven by two product lines: Heartmate II and Centrimag. The fourth quarter of 2012 was just as impressive. Revenues came in at $128.5 million which is 17% higher than 2011 where revenue numbers totaled $109.4. The Heartmate II was the workhorse of the quarter bringing in 20% unit growth on a worldwide basis which reflects a continued adoption by the global medical community of US destination therapy. Take a look at these final fourth quarter figures:
The decline in the PVAD and IVAD product lines and (a lower EPS the fourth quarter of 2012) may be attributed to a pre-tax impairment charge of $50.2 million related to certain purchased intangible assets associated with the PVAD and IVAD product lines. You may have noticed the net income per diluted share for the year was $.94 and in 2011 it was $1.20 but more on this later.
The good fourth quarter in 2012 was consistent with the company's steady long term growth. It has been steady pretty much due to the HeartMate (LVAD) product. From 2008 through 2012, the company more than doubled revenue from $214.98 million to $491.65 million, reflecting the growth of the industry as well as the company's strong market share.
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The drop in operating income and net income in 2012 is due to the increase in the cost of revenue and operating expenses as the company increased R&D and has begun clinical testing on the next generation LVAD device, HeartMate III. The Thoratec HeartMate III was scheduled to start clinical trials at the end of 2012 as this device is to become its next generation LVAD for the market. What made it so different was it uses a magnetically elevated rotor device to help reduce the risk of pump-related clots and bleeding that could cause strokes. Even though we saw a net income drop in the fall of 2012, the natural growth in the industry because of a growing and aging population will make up generously for the short-term decrease which is an investment for future growth.
Meet the Competition
If Thoratec Corporation where the only company on the market then it would make sense to possibly invest in it, but competition does exist. Back in 2008 the Heartmate II was considered a new generation product that circulated blood using a small spinning blade and the mechanism itself was smaller than a D size battery. Everybody thought Thoratec would dominate the market for a period of time. Competitors like Terumo Heart Co. and HeartWare Ltd had products in trial tests of their own and analysts believed Thoratec's stock price would drop dramatically as it lost market share to its competitors. It was thought that competing devices that were just entering human trials at that time would render the Heartmate II obsolete if approved for sale by 2011 or 2012. But even into mid 2011, HeartMate II is the only continuous flow LVAD that is FDA approved for both bridge-to-transplantation and destination therapy, or long-term support. In 2008 the stock was trading at about 16.27 and today it is far ahead of that point, trading in the high to mid 30s.
HeartWare International
HeartWare received FDA approval in the fourth quarter of 2012 for its HVAD system and has commenced its commercial launch in the United States. The company is aggressively moving into the market and upon approval from the FDA 50 clinical trial sites had commercially labeled devices on their shelves. As of the writing of this article they have just over 75 sites trained for post approval. The company now has 3000 patients implanted with the HVAD system worldwide. HeartWare is trying to challenge Thoratec's "lion's share" of the market that boasts more than 22,000 units being used worldwide.
The results of the FDA approval brought a 60% increase in sales in the United States in the fourth quarter of 2012. It is a growing company as the fourth quarter saw an increase in revenues of 42% over the same quarter of 2011. Even though the company is expanding into the United States, the bulk of its revenue still comes from international sources. Showing that North America still has the bulk of the global market, the company sold 134 units in the United States and 211 internationally.
As investors, our challenge is in seeing how well the HeartWare HVAD product is received in clinics. The majority of clinics in the United States are used to Thoratec's HeartMate II so we may see an "I'll put one in and let's see how it goes" attitude. What might be the HeartWare HVAD advantage? The acute experience of putting in the device may prove to be one of the most attractive attributes it has. As long as patients have good experiences with the implant the ease of putting it in may prove the key to picking up market share from Thoratec. If the product has too many problems then there will be some large hurdles for the company to jump over to steal market share from HeartMate II. This has to play out though because these procedures are not done on a daily basis in clinics, so it's going to be a long-term process.
"Is the Thoratec's HeartMate II better than the HeartWare HVAD?" A definitive answer to this question is fleeting. Companies like the Texas Heart Institute use both devices and they claim that they work quite well in most patients. As to understanding which device might be more superior, or which patient might be benefiting more from which device is still hard to tell but the company continues to collect information from its clinics around the world.
Financially speaking, since the majority of its business is done globally - outside the United States, Heartware's cost of generating revenue is high and increasing as much and more than revenue generation itself.
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Even though the historic compound growth rate of revenue is an outstanding 220.11% over the last five years, the cost of generating that revenue has increased by 263.86% over the same period of time. The company is spending more than it's taking in as it grows and it has been doing this for five years. They are "investing" in their growth, but how long will this "investing" take until investors see operating and net income in the "black?"
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From an investor standpoint I am not sure this is a company that I would choose when also looking at Thoratec. Even though the company is growing, the loss per share appears to have grown substantially over the last couple years. From 2008 through 2010 it seemed to be going down. Spending just spiked and 2012 showed a blistering $6.15 loss per share.
Terumo Heart Inc.
Terumo Heart has a product called DuraHeart LVAD. It has a small pump that makes it different from all other left ventricular assist systems. It is designed to be gentle on blood cells to avoid damaging them which can lead to internal bleeding or blood clots. The inside of the pump is engineered in such a way that it helps blood flow smoothly and gently minimizing turbulence and friction that can cause damage to the blood cells. The pump is surgically inserted through a pocket created in the upper abdomen. While this particular LVAD system talks about gently caressing blood cells, the Heartware LVAD system boasts the simplicity of putting its device in, not having to go in through the upper abdomen as what sets it apart.
The DuraHeart LVAD is the world's first third-generation implantable LVAD system to obtain market approval combining a centrifugal pump and active magnetic levitation. The initial clinical experience demonstrated an 85% improvement in survival after six months and 75% after one year. The product received commercial approval to be sold in Japan on December 8, 2010. Also in that year it received FDA approval to begin Destination Therapy clinical trials here in the United States but since that time the company has announced a strategic focus away from Destination Therapy trial studies. Presently in the United States, the DuraHeart is only used for investigation purposes, so I don't see the product being competitive right now. So it is not in direct competition with the HeartMate II presently.
Thoratec's Future
Thoratec Corporation has done well for itself over last five years. If we look at its historic compounded growth rate (HCGR), we can observe that revenue grew an average of 17.99% but the cost of generating that revenue grew at 23.2%. This is reminiscent of Heartware's problem except Heartware was proportionately much higher and Thoratec has been consistently profitable.
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Even though 2012 was the first year the company did not increase its earnings per share, it has an HCGR of 26.50% and that's good.
Knowing how the industry is forecasted to expand almost $1 billion by 2017 with a CARG of 11% globally, I believe Thoratec will continue to grow like it has in the past and considering it has a strong foothold in the United States which is a very large chunk of the global market. It should continue to do very well.
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Summary
The Ventricular Assist Device (VAD) industry is one that will continue to grow naturally as the global population ages and it becomes accepted more and more as a mainstream alternative to heart transplants. There will be growing needs in the global community for patients with congestive heart failure and the VAD industry continues to technologically advance to the point where the devices are becoming a viable alternative to heart transplants. Thoratec Corporation continues to be the leader in this industry and continues to grow at a healthy pace. The competition that exists is very minimal and with an industry projected to grow from 11 to 13% over the next five years I believe it will have minimal effect upon the company. With a historic compound growth rate in its EPS of 26.50%, I expected not only to have sound revenue growth but sound EPS growth also. This is a naturally growing industry minimally affected by the economy and makes good sense to invest in. Thoratec would be my investment choice because of its revenue growth, it's future release of the HeartMate III, and its lion's share of the industry.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.
