The medical device industry has been a strong performer over the past year despite a new tax levied by the Obama Administration. In fact, the iShares Dow Jones Medical Device ETF (NYSE: IHI) has outperformed the S&P 500 SPDR ETF (NYSE: SPY) by about 9.5% over the past 52 weeks with a solid 33.5% total return.
There are several reasons for this success including the aging U.S. demographic, greater insurance coverage under Obamacare, and stable spending from Medicare and Medicaid. The barrier to entry has also been kept relatively high due to a complex regulatory process to obtain 510(k) clearances from the FDA.
In this article, we'll take a look at one company that benefits from both the growth in medical devices and the FDA regulations that exist within the market.
AmbiCom Helps Cut the Wires
Wireless medical devices have become increasingly popular as patients demand greater accuracy and remote care. For instance, Johnson & Johnson's (NYSE: JNJ) OneTouch Ping Glucose Management System is the first full feature insulin pump that wirelessly communicates with a blood glucose meter remote to give patients unparalleled freedom, discretion and flexibility.
AmbiCom Holdings Inc. (OTC Markets: ABHI) specializes in manufacturing and distributing the wireless components for medical devices, like the OneTouch Ping. The company's R&D team provides end to end solutions from initial product design to help throughout the regulatory certification process with products that are customized, reliable, and easy to use.
According to Research and Markets, the global medical device industry is expected to reach $302 billion in size by 2017, representing a compound annual growth rate of 6.1%. Transparency Market Research estimates that the connectivity portion of this market will reach $33.5 billion by 2019, growing at a 37.8% compound annual growth rate as wireless plays an important role.
Inelastic Demand for Components
AmbiCom Holdings primarily supplies wireless components that are included within medical devices produced by companies like Medtronic Inc. (NYSE: MDT). Since the FDA regulatory process is quite involved, changes to medical device designs are rare and the same components are often used throughout the lifecycle, providing stable and recurring revenues.
The FDA also requires that medical device manufacturers correct any defects with the products immediately. While these malfunctions are rare, many medical device makers will purchase an extra 1-3% of a given component to address any replacement issues that may arise over time. Repeat orders are also placed when more devices need to be manufactured in order to meet demand.
These dynamics mean that AmbiCom Holdings benefits from long-term contracts that generate stable recurring revenue. Since 2007, the company has delivered over 300,000 OEM modules to many global medical device companies including Siemens AG (NYSE: SI) and Roche Diagnostics. Many of these companies have been long-term repeat buyers of its products.
Transitioning from CF to SDIO
AmbiCom Holdings sells both legacy CompactFlash and its new and improved SDIO cards which offer improved performance and battery life. While the inclusion of these SDIO cards must be approved by the FDA in new devices, the company has bridged this gap with sales of its legacy CompactFlash cards, including its $500,000 order on January 14, 2014.
The purchaser has already bought around $4 million worth of products over the past five years, suggesting a strong relationship that should extend moving forward to its SDIO cards. Management should be able to leverage these relationships to produce new long-term recurring revenues with its major clients utilizing its new SDIO cards and other upcoming products.
At the same time, the new functionality available with the SDIO cards could attract a number of new medical device makers, particularly as the industry shifts towards wireless solutions.
Potential Investment Opportunity
AmbiCom Holdings has jumped more than 250% over the past 52 weeks after reporting strong financial results. Management's transition from CF to SDIO cards should help improve top- and bottom-line results moving forward by encouraging existing customers to upgrade their devices while attracting new potential customers looking for enhanced functionality.
With a $2.8 million market capitalization, the company trades with a trailing 12-month price-earnings ratio of under 10x despite its promising new SDIO cards and proven track record within the industry. The firm also stands on strong financial footing with $537,205 in cash and equivalents and $904,603 in total assets compared to total liabilities of $135,843.
Investors interested in the medical device industry may want to take a closer look at the name.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.
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