Medical device major Medtronic Inc. (MDT) is scheduled to report its first-quarter fiscal 2015 earnings before the opening bell on Aug 19. The company posted soft results for the fiscal fourth-quarter 2014. Though earnings remained on par with the Zacks Consensus Estimate, revenues missed the mark. However, the plan to acquire its Irish rival Covidien Plc (COV) for a colossal $42.9 billion in cash and stock in order to cut corporate tax rates, has sent out positive signals to Medtronic’s investors.
Last quarter, Medtronic posted earnings, in line with the expectation while the four-quarter trailing average beat is pegged at 1.11%. Let’s see how things are shaping up for this announcement.
Factors to Consider This Quarter
Last quarter, Medtronic reported adjusted EPS of $1.12, up 2% year over year, but in line with the Zacks Consensus Estimate. Revenues came in at $4.566 billion, up 3% at CER, but marginally missed the Zacks Consensus Estimate of $4.575 billion. The company’s core pacing and ICD segments posted disappointing sales for another quarter. Moreover, spine revenues continue to maintain a sluggish trend.
The still sluggish CRDM sales with poor ICD and pacing revenues once again raised questions on the company’s statement of stability in the core market. Margin pressure too poses a major cause of worry. Moreover, headwinds such as unfavorable currency movement and global economic uncertainties remain. In addition, the legal settlement with Edwards Lifesciences required Medtronic to make a one-time payment of $750 million. Ongoing royalty payments through April 2022 based on a percentage of CoreValve sales, in payments of no less than $40 million annually, are also in the waiting. Although the company expects this incident to be beneficial for focusing further on business and expansion, the huge litigation related compensation is expected to weigh on the stock.
What is Driving the Better-than-Expected Earnings?
However, Medtronic is trying every means to return to growth and profitability. In an effort to offset the impact of high U.S. corporate tax rate by shifting its tax base overseas, in June, the company announced its plans to acquire Covidien. This is because the business tax rate in Ireland is merely 12.5%, much lower than that of 35% in the U.S., which is considered the highest tax rate in the world.
The deal, valued at $42.9 billion, also marks a solid step toward establishing Medtronic as the world’s leading medical technology and services company with 87,000 employees in over 150 countries. Post-acquisition, the combined entity will be known as Medtronic plc and will boast a comprehensive product portfolio, a diversified growth profile and broad geographic reach. The combination would generate about $27 billion in total revenue, including $3.7 billion from emerging markets, and is expected to be accretive to cash earnings in 2016 and beyond.
The acquisition, expected to close in the fourth quarter of this year or early 2015, will likely result in annual pre-tax cost synergies of at least $850 million by the end of fiscal 2018.
Why a Likely Positive Surprise?
Our proven model shows that Medtronic is likely to beat earnings because it has the right combination of two key ingredients.
Positive Zacks ESP: Earnings ESP, which represents the difference between the Most Accurate estimate and the Zacks Consensus Estimate, is +1.09% since the Most Accurate estimate is pegged at 93 cents while the Zacks Consensus Estimate stands at 92 cents. This is very meaningful and a leading indicator of a likely positive earnings surprise for shares.
Zacks Rank: Medtronic has a Zacks Rank 2 (Buy). Note that stocks with a Zacks Rank #1 (Strong Buy), 2 or 3 (Hold) have a significantly higher chance of beating earnings. Conversely, the Sell-rated stocks (#4 and 5) should never be considered going into an earnings announcement.
The combination of Medtronic’s Zacks Rank #2 and +1.09% ESP makes us confident of a positive earnings beat on Aug 19.
Stocks that Beat Earnings
Health Net, Inc. (HNT) which surpassed its second-quarter 2014 earnings on Aug 6, had an earnings ESP of +1.79% and a Zacks Rank #2 (Buy).
Hospira Inc. (HSP) had an earnings ESP of +1.79% with a Zacks Rank #2 (Buy). Accordingly it surpassed the second-quarter earnings on Jul 30.