Zimmer Holdings (NYSE:ZMH) specializes in providing knee and hip replacements to patients across the globe. Close to a decade ago, the business was growing briskly and demographic trends were thought to be on Zimmer's side. The aging of the baby boomers in the United States and older individuals abroad were supposed to power Zimmer well into this century. Unfortunately, the latest recession has slowed Zimmer's prospects and the company has yet to return to its former glory.
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Recent Results and Outlook
Reported second quarter sales fell 1.1% to $1.1 billion. Backing out negative currency fluctuations, which stemmed from a stronger dollar that reduced reported overseas sales, the top line advanced a more respectable 1.8%. Cost cutting moves (the company is referring to them as "commercial and operational excellence programs") and backing out the foreign exchange changes resulted in recurring profit growth of 10.7% to $235.6 million, or $1.34 per diluted share.
Looking at the major product areas, reported knee and hip replacement sales fell 2% and 1%, respectively. These make up the vast majority of the total company top line. Smaller units, including trauma and surgical, grew 7% each, but were offset by an 8% decline in dental and 7% drop in spine. By region, both the Americas and Asia Pacific regions grew 1%, but were partially offset by a 6% decline in Europe.
For the full year, Zimmer expects modest sales growth between 2.5% and 3.5%, which ignores currency fluctuations. Backing out the fluctuations, reported growth should come in between zero and 1.5%. Earnings expectations are in a range of $5.25 and $5.35 per diluted share on an adjusted basis, and $4.75 to $4.85 on a reported basis.
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The Bottom Line
Zimmer has continued to struggle to grow since the Great Recession. Its track record over the past decade looks impressive. During this period, average annual sales growth has been above 14% and profits have advanced 18% each year over this time frame. However, this includes the past five years of results that have seen sales growth average less than 5% and earnings grow less than 3.5%.
Zimmer has turned to cost cutting to keep total profit growth moving positively forward, but doesn't appear to have any answers to returning to robust sales growth. During the earnings conference call, it spoke of solid results in international markets, but Europe has been a real drag and could continue to struggle for some time.
SEE: Great Expectations: Forecasting Sales Growth
On a positive note, the forward earnings multiple of just over 11 leaves room for upside, should growth trends start to perk up. However, rival Stryker (NYSE:SYK) has been able to grow faster in recent years and trades at less than 13 times forward expectations, which is also quite reasonable. Other firms operating in the medical device space, including Medtronic (NYSE:MDT) and St. Jude Medical (NYSE:STJ), also trade in the low teens. So do the diversified healthcare giants of Johnson & Johnson (NYSE:JNJ) and Abbott Labs (NYSE:ABT), which also operate sizable medical device units.
Add it up and there are likely better investment candidates than Zimmer in the medical field. Zimmer does again trade at a very reasonable P/E, which leaves room for upside should demand increase. There is also the potential for a buyout from a firm of Abbott or JNJ's size. It might also make sense for Stryker and Zimmer to combine forces and use any merger as an opportunity to cut corporate overhead even further.
At the time of writing, Ryan C. Fuhrmann was long shares of St. Jude but did not own shares in any other company mentioned in this article.