Covidien Earnings Preview: Has Merger News Shaken Expectations?

Nelson Hem
July 24, 2014

Covidien (NYSE: COV), which currently is being courted by medical device maker Medtronic (NYSE: MDT), is scheduled to report its fiscal third-quarter results Friday, July 25, before the markets open.

Like AbbVie's deal to acquire Shire and other similar deals, Medtronic is looking to lower its tax rate by reincorporating overseas, in this case Ireland, where Covidien is based. Covidien shares have cooled recently ahead of earnings and as investors wait to find out if the Medtronic deal truly is a good one for Covidien investors.

Expectations

Analysts on average predict that Covidien will report that revenue for the quarter has increased more than four percent year-over-year to $2.69 billion. Earnings of $1.00 per share are the consensus forecast. That would be up from a reported profit of just $0.91 per share in the comparable period of last year.

Related Link: Medtronic To Acquire Covidien For .9B

The consensus earnings per share (EPS) estimate has ticked down by a penny in the past 30 days, and the estimates only range from $0.99 to $1.02. The company topped analysts' EPS expectations in the previous four quarters; the beat in the second quarter was by a penny per share.

In the second quarter report, the CEO said, "we expect the company to return to double-digit EPS growth, possibly as soon as the third quarter." Covidien reaffirmed its 2014 outlook, including revenue growth in the low- to mid-single digits. The share price rose more than three percent in the days following the second-quarter report.

Looking ahead, the forecast for the three months that end in September calls for revenue about five percent higher than a year ago, as well as sequential and year-over-year growth on the bottom line. Full-year revenues are predicted to be up almost four percent, while earnings are less than seven percent higher than in the previous year.

The Company

Covidien was spun-off by Tyco International in 2007 and is now a leading global health care products company. It operates in two units, Medical Devices and Medical Supplies, and its products are used primarily in hospitals, surgical centers, and homecare and long-term care facilities. This S&P 500 component has a market capitalization near $40.3 billion, and its headquarters are in Dublin, Ireland. The company was founded in 1960. Jose Almeida has been the president and chief executive since July 2011, as well as chairman of the board of directors since March 2012. Covidien's competitors include Johnson & Johnson, which offered an earnings beat but cautious guidance in its recent report, as well as C.R. Bard and Becton Dickinson. The latter two are expected to post solid growth on the top and bottom lines for their most recent quarters. During the three months that ended in June, the big news was the announced merger. Covidien also opened a training and research facility in Turkey, saw its Kangaroo feeding tube and its micro catheter get FDA approval, and filed a patent lawsuit against Johnson & Johnson.

Related Link: Patent Infringement War Continues Between Covidien And J&J Unit

Performance

Covidien has a long-term earnings per share growth forecast of more than nine percent, though its price-to-earnings (P/E) ratio is greater than the industry average. Its operating margin also is greater than the industry average, and it has a return on equity of about 17 percent. It offers a dividend yield near 1.4 percent. The number of Covidien shares sold short, as of the most recent settlement date, represented less than one percent of the total float, the lowest level in the past year. At the current average daily volume, it would take less than a day to close out all short positions. Of the 20 analysts surveyed by Thomson First Call who follow the stock, only eight recommend buying shares. The consensus recommendation had been "buy" as recently as a month ago, but the share price has overrun the analysts' mean price target, meaning no upside is indicated at this time. Shares surged on the merger news back in June to a new multiyear high, but retreated more than four percent recently. Nonetheless shares remain well above the 50-day and 200-day moving averages. Over the past six months, the stock has handily outperformed not only the broader markets, but also the competitors mentioned above as well.

At the time of this writing, the author had no position in the mentioned equities.

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