Action: We raise our target prices for Smith & Nephew (from £5.70 to £6.00),
Stryker (from $41 to $43), and Zimmer (from $48 to $55). For Synthes, we
maintain our price target of SFr 150.
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Fears over pricing pressure and US healthcare reform have dogged the
industry over the past year. Sentiment and valuations have fallen to the
lowest levels in 15 years. Whilst it is still difficult to determine to what extent
these risks may impact growth over the coming few years, we believe our
modelling reflects appropriate caution.
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We believe orthopaedics offer three positive investment points for investors
seeking to increase expose to more defensive Medtech names.
o Return to positive growth momentum from Q4. Our detailed survey
work suggests that operations may be deferred for 6-8 months, thus
volumes start to reaccelerate and comparisons get easier.
o Cheap valuations versus history. Over the last 15 years orthopaedic
stocks have traded on c20x forward earnings, currently trading on c14x,
which we believe is still cheap given our growth expectations.
o Some industry consolidation potential. M&A could heat up as the
industry looks to take advantage of its rich cash reserves during a period
of depressed valuation (see discussion on M&A from page 9).
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That all said, our concerns on future price erosion (supported by our hospital
and orthopaedic surgeon surveys) and company specific issues prevent us
from being universally more positive on the sector. At this time, we believe
Smith & Nephew and Synthes (both rated Outperform) are the best
investment opportunities. We rate Stryker and Zimmer Neutral.