Edwards Lifesciences: A Strong Buy on Recent Dip

Palwasha is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.

Back in October, when Edwards Lifesciences (NYSE: EW) missed earnings forecasts and the stock plummeted to its lowest in 10 years, I rated it a buy. If you had listened, you would have profited from the rally that followed. Now, after three months, history is repeating itself. 

Edwards Lifesciences is a medical device manufacturer and holds a monopoly-like position in the U.S. for its Transcatheter Heart Valve (THV) called SAPIEN. It is the only device that the FDA has approved for Transcatheter Aortic Valves Implantation (TAVI) procedure that has replaced open heart surgery for diseased aortic valves. 

Q4 recap

In the latest quarter, Edwards beat both earnings and revenue forecasts. Revenue jumped 18% year-over-year, while earnings soared 44%. FDA's approval to the use of its SAPIEN device, that came back in October, has been the major cause behind its massive growth following the Q3 forecast miss.

The good news

Despite a string of good news -- earnings beat, FDA approval of SAPIEN, launch of a new SAPIEN XT, and the U.S. court's decision in Edwards' favor to block competitor Medtronic (NYSE: MDT) in the U.S., and no considerable bad news, the recent dip seems unwarranted. Here are a few reasons why I believe Edwards is still a strong pick for the long haul.

The core competency: Improved SAPIEN 

Firstly, management had significantly stepped up R&D in FY2012, thus gaining speedy progress in the transcatheter valve technology. R&D investments in the latest quarter alone grew 23% to $75 million, accounting for 15% of sales. For the new year 2013, management guides R&D expenses to be between 14% and 16% as a percentage of sales.

The company has just introduced an improved version of SAPIEN called SAPIEN XT, and is presently seeking FDA approval post successful clinical trials in the U.S. The device has already been approved in Europe and other markets, but awaits clearance in the U.S. Once it does, this will prove to be yet another breakthrough for the company and further deepen its foothold in the U.S.

Overcoming the weaknesses  

Secondly, if you recall, Europe was the only region that showed negative growth in the third quarter. CEO Mike Mussallem reassured us of a future comeback and he lived up to his words. In the latest quarter, Europe saw an approximate 10% sales growth. The biggest threat to the Edwards' SAPIEN in this region is posed by Medtronic's CoreValve--a close substitute.

Medtronic has maintained its strong position as it has operated here for a longer time than Edwards. But thanks to the U.S. courts, Edwards has been able to effectively stop Medtronic from building a similar stronghold in the U.S., where more than 5000 patients have so far been treated with its SAPIEN valve.

Back in Europe, another competitor, St. Jude Medical (NYSE: STJ) has also received approval for a similar device called the Portico heart valve replacement device, thus making competition fiercer. Amid the strict austerity measures and hospital budget cuts in the continent, the European market for Edwards still managed to show growth, which is welcoming.  

Attractive financials

Thirdly, a quick overview of financials substantiates Edwards' stronger position against its competitors. The company has a history of strong revenue and EPS growth. For a quick comparison with competitors, Medtronic, Boston Scientific and St. Jude Medical, see charts below. 

Chart 1: Comparison of Year-over-Year Quarterly Revenue Growth  

<img src="http://media.ycharts.com/charts/2963dc6fe8f2388bf5cd1b07471582e9.png" />

EW Revenue Quarterly YoY Growth data by YCharts

Chart 2: Comparison of Year-over-Year Quarterly Diluted EPS Growth

<img src="http://media.ycharts.com/charts/579a33e1d7c6ccd0b3a262924a71d712.png" />

EW EPS Diluted Quarterly YoY Growth data by YCharts

The primary reason for Edwards' high growth potential has been its ability to maintain high gross and net margins. Edwards also boasts the lowest debt to equity. One thing that raises concern is the high short interest in Edwards at over 4%, while Medtronic and St. Jude's have 1% and 3.6% of their floats short, respectively. But this could also mean that a price jump can be expected as the shorts cover their positions. 

Edwards doesn't pay dividends, but returns cash to its shareholders via share repurchases. For the full year 2012, around 4 million shares were repurchased for $353 million. For this year's first quarter, management has guided total sales to be in the range of $505 million to $530 million, and diluted EPS between $0.74 to $0.78.

In a nutshell

A forward P/E of 26.11 and a full year estimated EPS of $3.37 gives the stock a conservative fair value of $85.34. The company's growing strength in the U.S., recovery in Europe, and new entry in Japan where none of its competitors have yet entered, along with the clinical success of its SAPIEN devices, all indicate its strong future prospects. It's a definite buy!   

Palwasha Saaim has no position in any stocks mentioned. The Motley Fool owns shares of Medtronic. 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!

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