Shopping Time In Medical Technology?

By Stephen D. Simpson, CFA | May 06, 2010 AAA

Amidst the paper blizzard of earnings releases, a little deal in the med-tech world took place. Medical device giant Medtronic (NYSE:MDT) announced that it was buying small cardiology company ATS Medical (Nasdaq:ATSI) for about $370 million in cash and assumed debt. The deal will bring some quality heart valve technology to Medtronic and cash to long-suffering shareholders of ATS Medical.

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Buy The Technology
The ATSI deal is a relatively minor one in the bigger scheme of things, but it does at least highlight one type of deal that could be increasingly attractive - tucking in a small company that has good technology, but has not been able to leverage it effectively. Following this mold, investors should look for companies that have acknowledged quality technology, but for whatever reasons have not been able to deliver the growth that investors want.

TomoTherapy (Nasdaq:TOMO) could be a buyout candidate more in the mold of ATS Medical. TOMO has a good product for radiation therapy, but as a small company in the space it is difficult to compete against the likes of Varian (NYSE:VAR), Siemens (NYSE:SI) and Elektra. While the current administration in Washington seems to be more aggressive on antitrust, I would not rule out the possibility that one of these three larger companies could look to fold in TOMO and leverage the company's technology and product design against its rivals. (For more, see Trademarks Of A Takeover Target or Pinpoint Take Overs First.)

Cardiovascular Systems (Nasdaq:CSII) could also fit this mold. The company has strong technology for dealing with atherosclerosis in the lower limbs, and solid clinical data to back it up, but the company has had some troubles ramping up revenue growth to investors' satisfaction. A larger company like Bard (NYSE:BCR) or Cook could look at CSII as a way of competing against ev3 (Nasdaq:EVVV), the current leader in mechanical intervention in the lower limbs.

Go For Growth
Of course, let us not overlook the old standby of making acquisitions simply to boost near-term growth. There is an expectation in some quarters that health care reform and pressure from insurance companies will slow the growth rate of large medical companies, leading them to look for ways to boost growth and maintain those rich multiples.

As the leader in intravascular ultrasound, Volcano (Nasdaq:VOLC) would be an attractive target to large players in both the stent market, like Abbott (NYSE:ABT), and the diagnostic imaging market, like Siemens or General Electric (NYSE:GE). Volcano has done an excellent job of growing a market that many believed would never grow, and it would provide a growth boost to many potential suitors - though it will not come cheaply.

I also expect that Abiomed (Nasdaq:ABMD) and Thoratec (Nasdaq:THOR) could get a bid from a larger player. Both companies develop devices that help a damaged heart work more effectively and it is a relatively new market with growth potential. That could appeal to the manufacturers of implanted devices like pacemakers and ICDs. While these devices have been exceptionally lucrative for the likes of Medtronic, St. Jude (NYSE:STJ), and Boston Scientific (NYSE:BSX), the growth rate will not stay attractive forever.

ZOLL Medical (Nasdaq:ZOLL) is another potential candidate for a buyer looking to bolt on some growth. ZOLL's traditional core business, external defibrillators, is not the hook here. What could make ZOLL interesting is its fast-growing LifeVest product. LifeVest is a unique device that can prevent cardiac arrest in patients not eligible for an ICD, and the company is seeing growth from this product in excess of 50% while having penetrated less than 10% of the potential market. (For more, see A Checklist For Successful Medical Technology Investment.)

Bottom Line
It is generally unwise to make investment decisions where a successful outcome rests on the company in question getting a generous buyout bid. By the same token, it is naive to analyze the medical technology sector without acknowledging that buyouts are commonplace and perhaps the most likely eventual outcome for the majority of the small companies you may select.

While this is not a hot period for M&A in the sector, eventually the market will heat up. By understanding what types of companies that the large buyers are looking for, investors may just improve their odds of finding a quality investment idea that pays off a little sooner than originally planned.

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