Continuing to remake and expand its medical-device business at breakneck speed, health-care giant Covidien plc has acquired vascular medical-device maker ev3 Inc. and blood-oxygen monitoring-device maker Somanetics Corp.
In the last 14 months, Dublin-based Covidien with $10 billion in sales and a U.S. headquarters in Mansfield, Mass. has acquired five companies and divested four others as it continues to reshape the business that was spun off from Tyco International in 2007. That brings its number of acquisitions since that spinoff to nearly a dozen.
Covidien has three business segments: medical supplies, pharmaceuticals and devices. But devices are where it has focused its investments. That segment accounts for more than 60 percent of the firm's sales, largely in areas such as surgical instruments, ventilators, monitoring devices and tissue grafts. Prior to the two most recent acquisitions, the company projected 10-12 percent growth for its devices.
In the six months ended March 30, devices accounted for $3.31 billion of the firm's $5.41 billion in sales. Net income in that time frame was $825 million, compared with $570 million a year earlier.
When Covidien launched from Tyco, our goal was to focus on innovation technology growth and devices as the area of growth, Chairman and CEO Richard Meelia said June 17 at the Goldman Sachs health-care conference in Los Angeles. We viewed mergers and acquisitions as part of our effort to bring new technology and innovation and sales growth to Covidien because very few dollars were invested in research and development by the previous owners, he said.
We think the acquisition of ev3 is going to be a home run for us, said Meelia. We think it is going to create another really significant profitable growth opportunity and platform for Covidien, he said, by giving the firm a significant presence in the peripheral vascular and neurovascular markets. They've got a high-margin business and they've got plans to make it even higher margin.
Most of its prior acquisitions have been what Meelia calls tuck-in, plug-and-play deals. But the $2.6 billion acquisition of ev3 which had $450 million of revenue in 2009 is a bold strike.
We prefer to do the smaller deals, such as the June 16 purchase of Somanetics for $250 million, net of cash acquired, said Meelia. Covidien was the European distributor for the Somanetics product line.
But we felt that ev3 gave us a good presence in peripheral vascular, which is about a $3 billion market growing 6-8 percent annually, and neurovascular, which is about a $1 billion market growing at 10-12 percent, he said.
We expect some market share gains in the first couple of years, then growing with the market after that. There is virtually no product overlap.
Covidien's only concern about ev3 is its size because every other deal we had done was tuck-in, Meelia said. To create the platform in which we can do future plug-and-play deals, we needed to get a footprint in peripheral vascular and neurovascular.
Meelia said that except for a longer time frame to recoup its return-on-investment capital, the ev3 deal fit all the company's other financial and strategic criteria for acquisitions. We feel that having to take a little bit longer [than three to five years] to get the ROIC is worth it, he said.
There is some real good sales momentum at ev3, a real solid product portfolio and a lot of products in the pipeline, including a device that will divert blood away from cerebral aneurysms during surgery and is expected to get regulatory approval in early 2011, Meelia said.
Ev3, based in Plymouth, Mich, makes medical devices to treat vascular diseases including angioplasty balloons, catheters, stents and guide wires. It is currently expanding its manufacturing plant by 33 percent. The firm's devices are used in endovascular surgeries and neurovascular procedures involving blood vessels and nerves.
Covidien said it expects to complete the ev3 acquisition by July 31 and the Somanetics deal by mid-September, paying all cash for Troy, Mich.-based Somanetics; and mostly cash, but also debt financing, for ev3.
While the two acquisitions are expected to trim earnings slightly this year and in 2011, the amount of cash in its balance sheet will remain in a range of $1 billion to $2 billion, said Coleman Lannun, vice president of investor relations. We will finance ev3 with a combination of cash-on-hand and partial debt financing. We will be able to keep our cash in the right range to maintain our strong investment grade for financing, he said.
In addition to the two deals this month, Covidien acquired brain-monitoring technology company Aspect Medical Systems Inc. of Norwood, Mass., in December; surgical cutting and stapling products manufacturer Power Medical Interventions Inc. of Langhorne, Penn., last July; and VNUS Medical Technologies Inc. about a year ago. VNUS of San Jose, Calif., makes devices for minimally invasive treatment of venous reflux disease, which triggers varicose veins and was Covidien's largest previous acquisition at $485 million.
In addition, since September, Covidien has sold off its oxygen therapy line and its general pharmacy business U.S. Radiopharmacies. In the last month, Covidien also announced that it had reached agreements to sell its sleep-therapy and specialty chemical businesses. Specialty chemicals, based in Phillipsburg, N.J., had sales of $414 million in 2009 and was the firm's last non-health-care business that was inherited from Tyco.
That sale, which will bring $280 million to Covidien, is expected to close by the end of September.
Our strategy is focused on creating good platforms for growth, said Meelia. That has been the driver and engine for value creation. With medical devices, we now have great platforms in surgery and energy, we are trying to build one in respiratory monitoring, and now we've created one in vascular.
While growth slowed to just 1 percent in the most recent quarter, Meelia called that an aberration triggered by major destocking programs at two of its customers and strong first-quarter purchases of H1N1 products that stole sales from the second quarter.
That slow sales growth masks a number of good things that happened from a profitable standpoint, he said, pointing to gross margins which increased 4.7 percentage points to 55.7 percent, and to medical supplies, which had a 200- to 300-point improvement in operating margins.
We feel even more confident today about our ability to move the margins forward than we did three to four months ago, Meelia said.
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