Hologic (Nasdaq:HOLX) was an interesting undervalued health care play when the company was waiting on approval for its tomosynthesis product (a better type of breast imaging technology). With approval in hand, though, now the concerns move to customer adoption and low patient volumes throughout the testing business. Though still an attractive and high-quality franchise, the company is going to need to deliver more growth to get the Street excited about the name.

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A Fiscal Q2 That's Solid, but Not Spectacular
Hologic delivered a modest outperformance for the fiscal second quarter. Revenue rose about 5%, fueled by nearly 9% growth in the breast health business, as the company saw good pricing and some early adoption of the tomosynthesis product. Diagnostics was still weak (down more than 1%), though, as patient visit volume has not rebounded yet. Gyn/surgical and skeletal were both up above the company average, but these are smaller units.

The company delivered less good news on the margins. Gross margin slid a bit on product mix issues, and adjusted operating income fell 3%. All in all, though, the operating performance is not too troubling. The company's service costs were flat and administrative costs grew less than revenue. R&D and sales costs were the main drivers of the decline in operating profit, but neither are long-term worries - investors should expect higher sales to support the tomosynthesis rollout and higher R&D is the cost of staying in the game in med-tech.

Big Iron Getting Better
Hologic certainly has a lead on General Electric (NYSE:GE) and Siemens (NYSE:SI) in 3D breast tomosynthesis, but that does not make it an easy sell. These systems cost multiple hundreds of thousands of dollars and though the hospital capital budget environment is getting better, that is still a big outlay. Investors are probably right to think of this as a "when, not if" market, but the longer it takes for capital spending to rebound, the more of a competitive threat other companies will be.

Volume? Not So Much
When it comes to the diagnostics side, Hologic has issues similar to Qiagen (Nasdaq:QGEN), Gen-Probe (Nasdaq:GRPO), Abbott (NYSE:ABT) and Becton Dickinson (NYSE:BDX) - patient visit counts are weak and there is an arms race in the lab. Hologic's ThinPrep is good technology, but BDX will not just concede the market. Likewise, Hologic's Invader platform is solid, but Gen-Probe's Panther and BDX's MAX products are legitimate threats in their own right.

The Bottom Line
Right now, Hologic looks like it is basically fairly valued on the basis of mid-single digit revenue growth and some modest improvements in free cash flow margin. If the company can drive better tomosynthesis adoption and/or patient visits rebound strongly, there could be some upside in those numbers.

Longer term, this is a great focused business and it does not seem too outlandish to think that it will be an M&A target. The lack of growth in the business is probably an impediment today, but it could be an appealing option to whichever diagnostics companies find that they cannot compete effectively in the next-gen molecular diagnostics market.

In the meantime, this is another one of those well-run med-techs that is a decent hold but not so compelling for new money. (For related reading, also take a look at Investing In The Healthcare Sector.)

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