Medicating Your Portfolio With Medical Device Companies, Part 1

Includes: ARAY, BSX, MDT, SYK
by: JoeNatural

With medical device technology evolving more rapidly than ever before, I decided to evaluate a small basket of randomly chosen stocks in the sector. It appears that some of these companies can offer you stable returns in an uncertain overall market, while others might get your heart racing with a little more excitement.

So let's see what's inside this first basket .......

Stryker Corporation (NYSE:SYK) operates in three segments: Reconstructive, MedSurg, and Neurotechnology and Spine. The Reconstructive segment offers orthopaedic reconstructive (hip and knee) and trauma implant systems, as well as other related products. The MedSurg segment provides surgical equipment and surgical navigation systems, endoscopic and communications systems, patient handling and emergency medical equipment, reprocessed and remanufactured medical devices, and other medical device products. The Neurotechnology and Spine segment includes neurovascular products, spinal implant systems and other related products. This last segment offers the fastest growth of the three with sales rising 8.2% in Q2 year over year.

This company is one I think you'll find to be on the safe side with EPS growth slightly less than 10% and a trailing P/E of 14. I find Stryker to be fairly valued and a good place to put cash if you're looking to slightly edge out the broader market and margins are expanding. With the company spending nearly $2 billion on acquisitions in early 2011, over 71% of their cash at the time, management clearly stated they would continue to leverage their balance sheet and cash flow in pursuing mergers and acquisitions, thus shareholders can be confident that management will be doing all they can in their efforts to grow the business. At this stage of the game, I would be happy to see the company use its cash to increase the 1.60% dividend.

Boston Scientific Corporation (NYSE:BSX) among a few other things, mainly develops, manufactures, and markets medical devices used in various interventional medical specialties worldwide. The company offers interventional cardiology products, including coronary stent systems used in the treatment of coronary artery disease; coronary revascularization products, such as balloon catheters, rotational atherectomy systems, guide wires, guide catheters, embolic protection devices, and diagnostic catheters used in percutaneous transluminal coronary angioplasty; intraluminal ultrasound imaging catheters and systems for use in coronary arteries and heart chambers, as well as peripheral vessels; and structural heart therapy systems. It also provides cardiac rhythm management devices consisting of implantable cardioverter defibrillator, and implantable pacemaker systems that monitor the heart and deliver electricity to treat cardiac abnormalities; endoscopy products, such as devices to treat diseases of the digestive and pulmonary systems; and peripheral interventions to treat patients with peripheral diseases.

I find Boston Scientific to be an equal to Stryker with regards to attractiveness, as both companies sport nearly the same EPS growth and valuation. BSX's EPS growth outlook is in the 10% range and its current forward P/E is 12. I'm not a fan of the stock hovering near the $5.00 mark due to institutional criteria or the large outstanding share count it carries and I suspect your more speculative investors are probably watching this name. I do like the fact that both the CEO and President bought a cumulative total of 32,000 shares on July 31st at an average of $5.19 and $5.21 respectively, thus displaying their belief that better times are on the horizon. The company is undergoing many changes all at once, including more job cuts, breaking up its cardiac devices business and welcoming a new CEO on November 1st.

BioDrain Medical, Inc. (BIOR) is an early-stage medical device company that develops an environmentally safe system for the collection and disposal of infectious fluids that result from surgical procedures and post-operative care. The company offers the Streamway Fluid Management System, a fluid collection and measurement system that addresses the need for a hands-free, touch-screen computer-controlled method of removing, retaining, calculating fluid loss, and disposing fluid waste during operative procedures. It replaces the manual process of collecting fluids in canisters, and transporting and dumping in sinks outside of the operating room. The company distributes its products to medical facilities, where bodily and irrigation fluids produced during surgical procedures must be contained, measured, documented, and disposed of with minimal exposure potential to the healthcare workers who handle such fluids.

This one-trick pony (at least for now) recently caught my eye with a double in its stock price and the new CEO and private equity pro, Joshua Kornberg, has been bringing on some heavy hitters to take advantage of a niche product that is turning heads. STREAMWAY has been installed in several hospitals for evaluation and residual income will play a big part going forward with the repetitive sales of disposable supplies associated with each STREAMWAY unit that's sold. For the first six months of 2012, revenues were $47,595 in comparison to just $2,374 year over year. Management is counting on STREAMWAY to become widely adopted and they expect a significant increase in revenues going forward per their latest 10Q. In a recent interview I had with Kornberg, I found out that he's shelled out over $600,000 of his own money to date and thus he's extremely confident in the outlook of the business. The company has stated they will need approximately $2 million (page 22) to fund operations for the next 12 months, primarily through debt and equity financing. Obviously this is for those that might want to play higher risk, but I'd for sure keep my eye on this evolving story.

Medtronic, Inc. (NYSE:MDT) manufactures products for the diagnosis, treatment, and management of heart rhythm disorders and heart failure, including implantable cardiac pacemakers, implantable cardioverter defibrillators, cardiac resynchronization therapy devices, arctic front cardiac cryoablation catheters, arctic front cardiac cryoablation catheters, and patient management tools. The company also offers cardio vascular products, such as percutaneous coronary intervention device, which is used for the treatment of patients with coronary artery disease; renal denervation for the treatment of chronic uncontrolled hypertension; endovascular stent grafts to treat abdomen and thoracic regions of the aorta; peripheral vascular intervention that encompasses various procedures to treat patients with peripheral vascular disease; surgical valve replacement and repair products for damaged or diseased heart valves; transcatheter heart valves; a line of blood-handling products used in arrested heart surgeries; positioning and stabilization technologies that assist physicians performing beating heart surgery; and surgical ablation system, which allows cardiac surgeons to create ablation lines during cardiac surgery.

This large-cap is trading near its 52-week high of $41.79 and with slower forecasted EPS growth than both Stryker and Boston Scientific, I look for this name to simply track the overall market with its current fairly valued P/E of 11. For many, this suits them just fine in uncertain times, but an acquisition of an exciting new technology along with paying down debt could once again jumpstart Medtronic. The company did say earlier in the year that they were on the hunt for acquisitions abroad since that's where most of their cash is and if attractive acquisitions become hard to find, the company may indeed use part of their available $2 billion in annual free cash to boost the current 2.60% dividend.

Accuray Incorporated (NASDAQ:ARAY) designs, develops, and sells medical radiation systems for the treatment of tumors anywhere in the body. The company offers the CyberKnife system, an image-guided robotic radiosurgery system used for the treatment of solid tumors. The system tracks, detects, and corrects for tumor and patient movement in real-time during the procedure, enabling delivery of precise, high dose radiation typically with sub-millimeter accuracy. The company also offers the TomoTherapy system, which consists of an integrated and versatile radiation therapy system used for the treatment of a range of cancer types.

With the company expected to cut losses by nearly 60% in the next twelve months according to the seven analysts that cover the stock, increasing EPS from -.52 to -.21, speculative investors are finding this name somewhat attractive, especially since the company thinks they can turn profitable by June 30th of next year, much quicker than what analysts are forecasting. Jim Cramer isn't a fan of this company and rates it a "sell," but watching this acquisition-happy company is a must if you're a follower of the sector.

Stay tuned for part two, as I review several other medical device companies and share my thoughts.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.