Look Beyond Earnings, Elective Procedures Will Rise and Medtronic Will Rally

Medtronic (NYSE:MDT) has been an overlooked stock in 2020. And the novel coronavirus has been a big reason for that. As the year started, Medtronic was continuing to enjoy a rally that started in the middle of 2019. However, like most stocks, MDT stock suffered a sharp selloff in March and has only recently begun to recover.

The company will report its first-quarter earnings for fiscal 2021 on August 25. Analysts are projecting earnings per share (EPS) of 26 cents. The whisper number is suggesting lower earnings of 17 cents per share on revenue of $5.71 billion. These numbers will be bad from both a sequential and year-over-year basis. And the stock price is reflecting that. It has dropped nearly 40% in the last five trading days.

However despite the recent losses, MDT stock has posted a slight gain over the last month. And at one point in the last 30 days, the stock had climbed about 6%. When a stock is giving off such conflicting information, investors need to back up to see the company through a wider lens.

The story behind Medtronic stock

In February, I wrote that investors may have been exhibiting caution about Medtronic due to its balance sheet. At the time, Medtronic had just acquired Digital Surgery. The company said the price (while not announced) would be immaterial to its 2020 earnings. But investors wanted to see if the investment would pay off. And, Medtronic has a large competitor, Intuitive Surgical (NASDAQ:ISRG) that is fighting for the same customers.

The move makes sense as Medtronic embraces robotic surgery. At the time of the acquisition, robotic surgeries made up only about 2% of all surgeries. However, it’s a market that Medtronic expects to achieve double-digit growth for the next several years. Medtronic believes robotic systems will change the face of surgery over the next ten years.

Then the novel coronavirus became a worldwide pandemic.  The mitigation efforts to slow the spread dried up the market for elective surgeries, robotic or otherwise.

It helps to have multiple revenue streams

The United States is not getting the “V-shaped” recovery that many analysts thought was possible. And although there is ample evidence that things are opening up, elective procedures are still down significantly on a year-over-year basis.

However, what the virus took away in the surgical area it has made up a little bit in terms of the company’s sales of medical devices, specifically ventilators. At a price of between $5,000 and $50,000 these products are a high margin product for Medtronic. Just how big of a revenue generator was this?

Despite the necessity to have ventilators produced by companies as wide-ranging as Whirlpool (NYSE:WHR), General Motors (NYSE:GM) and Ford (NYSE:F) to become ventilator manufacturers, Medtronic posted $6 billion in revenue in its 2020 fourth quarter. According to chief executive officer (CEO) Geoff Martha that fivefold increase in ventilator production nearly doubled the company’s  revenue.

Nevertheless, Medtronic also acknowledged in their last earnings report that it was seeing a slow down in sales of its medical devices. And that softness is expected to last for the rest of this year.  However, it does not appear that the company’s pipeline will be affected by regulatory delays. On the company’s conference call, executives said they were expecting a number of approvals this quarter in both the United States and Europe.

The balance sheet looks stronger than it has in years

One of the key measurements of a company’s financial health is free cash flow (FCF). In the last fiscal year, Medtronic generated $6 billion of FCF. And at the end of last quarter, the company had $10.9 billion in cash or cash equivalents. They had access to $3.5 billion from their credit facility. And they did not have any public debt maturing until March of next year.

And all this means that the company did not have cut or suspend its dividend.  The four-cent-per-share increase made it 24 consecutive years of dividend increases and raised the company’s annual dividend to $2.32 per share.

Is Medtronic a buy?

From a technical standpoint, the 50-day simple moving average (SMA) has been below the 200-day SMA for much of the year. However the spread is narrowing and volume remains solid. That being said, the stock is clearly displaying bearish tendencies. And investors may not see significant growth in MDT stock for the remainder of 2020.

However, it’s important to note that even sitting about 20% lower than its all-time high in February, the stock is still at five-year highs. Which is just one reason I think the stock is a buy. If elective procedures are still weighed down by the novel coronavirus in 2021, we have bigger problems. So assuming that demand for those procedures increases, MDT stock should see revenue and earnings move back towards 2019 levels.