Why Are These 3 Spinal Treatment Companies Making Headlines?
Leo is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.
It’s been a busy, chaotic two weeks in the spinal and orthopedic devices market. Three major companies -- Stryker (NYSE: SYK), NuVasive (NASDAQ: NUVA), and Orthofix (NASDAQ: OFIX) -- recently made headlines for a myriad of reasons including FDA approvals, accusations of falsified Medicare and Medicaid claims, and an embarrassing restatement of past revenue. Let’s take a look at how these headlines are currently affecting these three stocks that have diverged considerably over the past twelve months.
In a previous article, I discussed medical device maker Stryker, which was dragged down by the recall of its Rejuvenate Modular and ABG II Modular-Neck Hip Stems last year. The company discovered that the implants could corrode and release metallic shards into a patient’s bloodstream, causing tissue and bone death. That recall cost the company $170 million last quarter, causing earnings to decline 34.5% from the previous year. Revenue, however, edged up 5%.
At the end of July, the Australian health department issued a warning regarding the company’s Oasys Midline Occipital Plate after problems surfaced in the United States and Belgium. The Australian government warned that the device, which is used to stabilize the spine, could break after surgery. Stryker has started an investigation into the reported issues, but has not issued a recall.
Some investors have questioned these quality control issues at Stryker, but the company allayed some of those concerns recently when it announced the FDA approval of two new spine products for pain management and spinal fractures -- the Venom RF cannula and electrode combo device and the 11g iVAS Balloon System.
These two products are expected to boost revenue at Stryker’s largest division, its Reconstructive segment, which accounted for 44% of the company’s top line last quarter. Many Stryker investors are also looking past the company’s past recalls and focusing on its purchase of Chinese spinal and trauma care company Paulson for $764 million in January, which is expected to give the company a major foothold in China.
NuVasive plunges after accusations of fraud
Whereas Stryker shareholders have been forgiving of the company’s missteps, the same can’t be said about NuVasive, which plunged 13% on July 31 after the company disclosed that it had received a subpoena from the Office of the Inspector General of the U.S. Department of Health and Human Services, regarding possibly falsified or improper Medicare and Medicaid claims.
In March, the government issued a fraud alert regarding doctor-owned groups which were selling implantable medical devices ordered by their owners for use on their own patients. If wrongdoing is uncovered, NuVasive could be in violation of the anti-kickback statute, which could exclude the company from future participation in Medicare and Medicaid programs.
NuVasive is more directly focused on spinal care than Stryker. The company develops minimally disruptive surgical products and procedures for the spine, including biologics that can be applied in spine fusion surgery. Unlike Stryker, NuVasive is currently unprofitable, although revenue increased 7.3% year-on-year last quarter.
NuVasive CEO Alexis Lukianov addressed investor concerns during the company’s quarterly conference call, stating, “We have an exceptionally strong internal compliance team who have built, managed, and overseen all of our compliance programs.” He also noted that “audits and investigations have been increasingly common” due to the “potential off-label marketing of devices” across the industry. Investors, however, aren’t fully convinced, and shares remain down 7% over the past month.
Let’s forget the past two years ever happened
However, NuVasive’s problems don’t seem that bad when compared to spinal and orthopedic device maker Orthofix’s current predicament. Orthofix recently delayed the filing of its second-quarter financials after disclosing that it needed to restate its financial results for fiscal 2011, 2012, and the first quarter of 2013, after discovering revenue that had been improperly recognized.
Management was fairly vague with its language, stating that certain revenues “should not have been recognized or should not have been recognized during the periods in which they were recognized.” The company stated that it expects to report “one or more material weaknesses in the company’s internal control over financial reporting.” That kind of ominous uncertainty is yet another reason not to own shares of Orthofix, which have already plunged 46% over the past twelve months.
Orthofix was not always such a weak stock. The company’s top and bottom line growth was robust up to the first half of 2011, but have since declined quarter after quarter. This means that a restatement of Orthofix’s revenue might reveal that revenue growth over the past two years -- which was already dismal -- could actually have been even weaker than initially reported. Last quarter, Orthofix continued its two-year losing streak with an 82.4% plunge in earnings accompanied by a 13.6% decline in revenue.
Investors still love these two stocks
Out of these three companies, the only viable investment is Stryker, which competes primarily against Zimmer Holdings (NYSE: ZMH). Zimmer Holdings competes directly against Stryker in spinal implants, trauma devices, and reconstructive orthopedic products. Last quarter, Zimmer’s earnings fell 29.1% as its revenue inched up 4%, which is comparable to Stryker’s top and bottom line growth. Yet, Zimmer is fundamentally cheaper than Stryker, trading at 13 times forward earnings in comparison to Stryker’s forward P/E of 15.
However, Zimmer was recently ordered to pay Stryker $210 million for infringing on surgical irrigation patents, used in orthopedic pulsed lavage devices used to clean wounds during surgery. Zimmer was also hit by recalls regarding its spinal implants.
A Foolish final thought
Although investors seem fairly bullish regarding the growth prospects of Stryker and Zimmer, which are respectively up 34% and 36% over the past twelve months, I think there are too many uncertainties on the horizon for both companies, due to their unstable earnings growth and damaging recalls. However, they are still better investments than NuVasive and Orthofix, which have to deal with their embarrassing problems over the next several quarters.
Regardless of the trials and tribulations of these companies, the market for spinal and orthopedic care products is expected to remain strong, with the U.S. spinal implant market projected to exceed $6 billion by 2019, as a result of a rapidly aging population. Therefore, these stocks could be solid long-term investments, if investors are willing to ride out short-term volatility from product approvals, failures, and recalls.
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Leo Sun has no position in any stocks mentioned. The Motley Fool owns shares of Zimmer Holdings. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. Is this post wrong? Click here. Think you can do better? Join us and write your own!