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Stryker Beats Q4 Earnings, Initiates Outlook

Zacks Equity Research

Stryker Corporation (SYK) reported adjusted earnings per share (EPS) of $1.23 in the fourth quarter of 2013, up 7.9% year over year. The result also exceeded the Zacks Consensus Estimate by a penny. Full year adjusted EPS increased 3.9% to $4.23 but remained in line with the Zacks Consensus Estimate.

The Mich.-based orthopedic device major’s reported net income for the quarter surged nearly 43% to $386 million or $1.01 a share. However, 2013 reported net income was $1.0 billion (down 22.5%) or $2.63 per share (down 22.4%). The reported EPS included costs associated with the Medical Device Excise Tax amounting to 4 cents and 13 cents per share for the quarter and the year respectively. The reported figures were also affected by the negative impact of the company’s various product recalls such as the Rejuvenate and ABG II modular-neck hip stems and the Neptune Waste Management System, and certain other charges.

Stryker’s fourth-quarter revenues grew 5.6% to $2,468 million, marginally ahead of the Zacks Consensus Estimate of $2,444 million. Volume and product mix contributed 7.3% to sales growth while acquisitions contributed 1.5%. This was partly neutralized by unfavorable pricing impact and foreign currency exchange translation of 1.4% and 1.8%, respectively. For 2014, revenues were $9,021 million reflecting annualized growth of 4.2%. The yearly revenues however, missed the Zacks Consensus Estimate by $477 million.

On an organic basis (excluding the impact of acquisitions), net revenue grew approximately 5.8% at constant exchange rate (:CER), exhibiting solid growth across all the business segments. Revenues in the U.S. climbed 7.0% to $1,636 million, while international revenues increased 2.9% to $832 million (up 8% at CER).

Adjusted gross margin in the fourth quarter contracted 200 basis points (bps) from the prior-year quarter to reach 66.3%. Reduced inventory in the quarter leading to lower overhead absorption and negative impact from the med-tech tax adversely impacted the quarterly margin.

Selling, general and administrative (SG&A) expenses declined 3.3% to $999 million, mainly due to product recalls. On an adjusted basis, SG&A was 34.0% of sales compared with 36.2% in the year-ago quarter. This improvement came primarily on the back of improved general and administrative expenses and lesser marketing expenses. On the other hand, research, development and engineering expenses scaled up 7.8% to $139 million due to increased investment in additional R&D projects and innovation activities.

Adjusted operating margin of 25.3% remained at par with the prior-year quarter. This was mainly due to the impact of medical device tax being fully offset by strong year-end sales, operational efficiency and low general and administrative and marketing expenses margins.

Segments Analysis

Revenues from Stryker’s core Reconstructive unit grew 5.8% (8% at CER) to $1,107 million in the fourth quarter. In terms of constant currency, hip sales climbed 8.0%, while the knee business increased 4.7%. The trauma and extremities business continued to post strong results, with revenues soaring 12.3% at CER, led by robust sales of Foot & Ankle offerings along with contributions from new products and sales force expansion.

Revenues from Stryker’s MedSurg segment increased 5.4% (6.6% at CER) to $924 million, boosted by strong growth in Endoscopy business. Within MedSurg, Instrument sales grew in upper-single digit (7.4% at CER), Endoscopy sales climbed 10.1% and medical sales inched up 2.2%.

Stryker’s Neurotechnology and Spine segment continued its solid growth streak with revenues increasing 5.4% (up 7.5% at CER) to $431 million. Growth was led by Stryker’s IVS and Neurotechnology businesses. Revenues from the Neurotechnology sub-segment were up 9.9% at CER, while spinal implant sales improved 4.7% in the quarter.

Financial Health

Stryker ended the fiscal with cash and cash equivalents and marketable securities of $3,980 million compared with $4,285 million at the end of 2012. Long-term debt jumped 56.9% to $2,739 million as of Dec 30, 2013 from $1,746 million at the end of 2012.

For full year 2013, SYK generated solid cash from operations of $1,886 million, 13.8% higher than $1,657 million generated in 2012. The company repurchased shares worth $317 million in 2013 under the company’s share repurchase program. Shares worth approximately $700 million are still available for repurchase under the current authorization.


Stryker initiated its 2014 guidance. In the year the company expects to report adjusted EPS in the range of $4.75 to $4.90. This includes acquisition and intangible amortization related adjustment of 35 cents. The current Zacks Consensus estimate of $4.58 remains far below the guided range. Management expects that despite the possibility of first-quarter 2014 facing the most severe headwinds, Stryker shouldearn 45% of the full year’s adjusted EPS by the first half of the year.

Organic revenues for the year are expected to remain within 4.5% to 6.0%.  Unfavorable foreign exchange is expected to impact the full year and first quarter net sales by 1%. The current Zacks Consensus Estimate for revenues is pegged at $9,936 million reflecting annualized growth of more than 10%.

Our Take

We are encouraged by the recent stability in SYK’s businesses with balanced segmental growth. Moreover, the company posted a strong guidance for 2014 reflecting management’s confidence to drive top-line growth on the back of a well-diversified product portfolio, increasing footprint in emerging markets and strategic acquisitions.

The company continues to expand through acquisitions. Last month it completed the acquisition of MAKO Surgical Corp. and also signed an agreement to acquire Patient Safety Technologies. With MAKO, the company expects to renovate orthopedic surgery through procedural advancements and improved patient experience with advanced implants. According to the company, MAKO’s robotic technology has long-term potential for human joint reconstruction.

However, we are concerned about Stryker’s increasing expenses, largely related to product recalls, which are hampering the company’s margins. The company needs to address these internal issues to avoid additional expenses. Moreover, the company remains challenged by adverse foreign exchange swings, pricing pressure and a stringent hospital capital budget environment.

Stryker currently carries a Zacks Rank #3 (Hold). While we choose to remain on the sidelines regarding SYK at present, medical products companies such as Covidien plc (COV), Mead Johnson Nutrition Company (MJN) and Quidel Corp. (QDEL) are expected to do well. All these stocks carry a Zacks Rank #2 (Buy).

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