Philips Lights it Up in Health Care

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The Netherlands-based LED lights and electronic equipment manufacturer Philips (NYSE: PHG) reported strong results for its third quarter, after it rid itself of its struggling television manufacturing unit that incurred losses of $70 in Q3 2011. The company’s income for the third quarter rose by 129.2% to $220 million, while revenues rose by 13.6% year over year to $7.9 billion, beating analysts’ estimates for the third consecutive quarter. Through an effective cost reduction strategy, Philips was able to save $397 million in the third quarter. Philips will continue on this path, and expects to incur another $389 million in restructuring and acquisition costs for the fourth quarter.

Philips has witnessed growth in its health equipment, lighting and consumer electronics units. Besides major restructuring, which included hiring a new chief executive Frans Van Houten, 6,700 job cuts, overhauling of the top management and the sale of the television manufacturing unit to the Chinese TPC Technology, the company also started manufacturing higher-margin medical equipments such as hospital scanners. However, the company’s CEO has warned that due to the lingering debt crisis, the government’s austerity measures, uncertainty in the U.S and a slowdown in China, demand for its products is expected to remain weak.

Philips is highly exposed to the U.S. and Western Europe, from where it earns 58% of its revenues. Moreover, although the demand in North America is expected to rise in the near future, they are currently forecasting that it could fall by up to 1%. It is not yet clear what the company plans to do with its lower-margin audio and video equipment manufacturing unit.

Philips is currently the leading light manufacturer of the world, but it now earns more from its healthcare sector. Out of all of the lights it manufactures, nearly 25% are LEDs. Leaving aside the lighting unit, Philips will face competition from the industry leaders in consumer electronics and medical equipment manufacturers.

In the consumer lifestyle segment, the company competes with the South Korean giants LG Electronics and Samsung, which have significant representation in iShares MSCI South Korea ETF (AMEX:EWY). Similarly, in the healthcare segment Philips is a small player compared to Siemens (NYSE: SI) and General Electric (NYSE: GE). However, this is a necessity for their future growth, and with 17.6% year over year revenue growth the company looks to be on the right path.  All of the major economies are aging rapidly: the U.S., Europe, Japan, and China, and this will make health care in general a bullish sector for the foreseeable future.  Moreover, both healthcare and consumer lifestyle products offer far greater margins than lighting equipment does.

<table> <tbody> <tr> <td> <p><strong>Segment</strong></p> </td> <td> <p><strong>EBITA  margin</strong></p> <p><strong>(Avg first 3Q’s 2012)</strong></p> </td> </tr> <tr> <td> <p><strong>Healthcare</strong></p> </td> <td> <p>12.50%</p> </td> </tr> <tr> <td> <p><strong>Consumer Lifestyle</strong></p> </td> <td> <p>12%</p> </td> </tr> <tr> <td> <p><strong>Lighting</strong></p> </td> <td> <p>3.26%</p> </td> </tr> </tbody> </table>

This will translate into higher ROE and ROA in the future. Currently, Philips offers much lower ROE than its peers, but it has been able to prove to its investors that the company is moving towards its goal of increasing profits by 10% - 12% and pushing revenues up 4% to 6% by 2013.

Philips has had a taste of higher margin products and it is looking to dive deeper into the healthcare sector. The company was recently awarded the contract with the 196-bed Burjeel Hospital in Abu Dhabi for supply and maintenance of medical equipment. Philips is also working with Biocompatibles in developing an innovative treatment protocol for trans-arterial embolization, and it has entered into a distribution agreement with Corindus Vascular Robotics for the latter’s CorPath 200 System. Meanwhile, Philips is also collaborating with other firms to further develop its Sonalleve MR-HIFU (MR-guided high intensity focused ultrasound), which recently got clearance from the U.S. Food and Drug Authority.

<table> <tbody> <tr> <td> <p><strong> </strong></p> </td> <td> <p><strong>Stock (YTD)</strong></p> </td> <td> <p><strong>P/E</strong></p> </td> <td> <p><strong>EPS</strong></p> </td> <td> <p><strong>Yield</strong></p> </td> <td> <p><strong>ROA</strong></p> </td> <td> <p><strong>ROE</strong></p> </td> </tr> <tr> <td> <p><strong>Philips</strong></p> </td> <td> <p>up 17.8%</p> </td> <td> <p>42.5</p> </td> <td> <p>0.58</p> </td> <td> <p>3.2%</p> </td> <td> <p>3.2%</p> </td> <td> <p>5.8%</p> </td> </tr> <tr> <td> <p><strong>GE</strong></p> </td> <td> <p>up 18.0%</p> </td> <td> <p>17.5</p> </td> <td> <p>1.21</p> </td> <td> <p>3.5%</p> </td> <td> <p>1.2%</p> </td> <td> <p>11.3%</p> </td> </tr> <tr> <td> <p><strong>Siemems</strong></p> </td> <td> <p>up 4.7%</p> </td> <td> <p>15.5</p> </td> <td> <p>6.46</p> </td> <td> <p>2.8%</p> </td> <td> <p>4.2%</p> </td> <td> <p>15.2%</p> </td> </tr> <tr> <td> <p><strong>EWY</strong></p> </td> <td> <p>up 9.8%</p> </td> <td> <p>36.4</p> </td> <td> <p>1.57</p> </td> <td> <p>0.65%</p> </td> <td> <p> </p> </td> <td> <p> </p> </td> </tr> </tbody> </table>
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