Medtronic: Picking Up the Pace

A surprisingly good earnings report for Medtronic Inc. gave the stock a nice jolt and promised sustainable momentum going forward -- sort of the financial equivalent of the medical miracles that the company's defibrillators perform on heart patients every day.

Earnings per share of 66 cents for Medtronic's fourth fiscal quarter were up 8% from the same period a year earlier and eclipsed Wall Street's expectation of 62 cents by a healthy margin. The Minneapolis-based company also reported that quarterly revenues of $3.28 billion were up 7% from the year-earlier period. That was slightly more than analysts expected. In its May 22 release, the company said that revenues for the full fiscal year, which ended April 27, climbed 9%, to $12.2 billion, and that earnings jumped 15%, to $2.41 a share.

The stock had been fading in the days leading up to the earnings report, but it quickly recovered -- and then some -- afterward. The shares (symbol MDT) gained more than 6% in early trading on May 23, before closing at $52.98, up 4.3%, and within striking distance of the stock's 52-week high of $54.86. "This was not an exceptionally strong quarter," analyst Bob Hopkins of Lehman Brothers said in a note to clients, "but it was solid across the board, with results above expectations and all businesses performing at or above consensus."

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The report was enough for several analysts to reiterate their bullish opinion on the stock and to convert at least one other bull. Tim Nelson of Piper Jaffray, upgraded the stock from a "hold" to a "buy" and said the shares could trade at $60 within the next 12 months.

Medtronic's most important business is making sure hearts keep beating rhythmically -- not too fast or too slow, out of sync, or irregularly. Sales of defibrillators, pacemakers and the like account for about 40% of the company's revenues. The market for implantable cardiac defibrillators (ICDs) has suffered since product recalls -- mostly other companies' -- rocked the industry in 2005, but finally seems to be stabilizing. Medtronic's ICD revenue for the quarter was $770 million, up 1.6% from the same period a year earlier, and up 8.3% from the fiscal third quarter, although the gain came from strong sales abroad, offsetting slower trends here. Analyst Ben Andrew at William Blair & Co. sees the worldwide growth rate for implantable defibrillators at 5% to 10% a year long-term.

Medtronic's strategy, however, is to branch out with products that address a wide range of chronic illnesses. Among them: neurological disorders such as Parkinson's, epilepsy and chronic pain; diabetes; vascular disease, and spinal problems, including deformities, disease and injury. Revenues were higher in all divisions, and the company hinted to analysts that the fiscal year ending in April 2008 could see revenue growth in the low double digits and "slightly faster" earnings growth. Lehman Brothers' Hopkins translates that to mean 10% revenue growth, 11% to 12% earnings growth.

Catalysts for further gains in the shares will likely be the introduction in the U.S. early next year of the company's drug-coated stent, called Endeavor, which is inserted into blocked arteries to keep them open. A Food and Drug Administration panel is meeting to evaluate the stent this fall, and approval could come before year-end -- although Endeaver has been held up by FDA delays before, and the risk of another delay is real. Meanwhile, the company's spinal division could see a new artificial disk, used in the treatment of back or neck pain, debut this fall, reinvigorating the business that holds the number-two spot in terms of sales and growth rates.

Medtronic's May 23 rally, impressive though it was, didn't price the stock out of reach, especially for long-term investors. The stock trades at just 18 times Piper Jaffray's estimated earnings of $3.00 a share for calendar year 2008, below Medtronic's historical P/E of around 20. By comparison, competitor Boston Scientific sells at 25 times average earnings estimates for the year ending December '08; St. Jude Medical trades at 22 times.