New Products Drove Medtronic’s Q2 Revenues

Medtronic reported strong revenue growth in its fiscal 2016 second quarter results released on December 3rd. ^[1] The company’s string of new products released over the past year helped boost the top line in the second quarter. The trend is expected to continue in the near term on account of Medtronic’s strong product pipeline across each of its segments. The synergies resulting from the smooth integration of the Covidien acquisition offset a decline in gross margins, leading to a 20 basis point improvement in the company’s non-GAAP operating margin in constant currency terms. ^[2] It was a solid performance overall, and below we take a look at the takeaways from the announcement.

Medtronic’s fiscal 2016 second quarter performance snapshot:

• Revenues expanded by 6% year-on-year to $7.06 billion on a pro forma basis (62% increase on an as-reported basis)
• Non-GAAP operating margin improved by 20 basis points year-on-year on a comparable currency-neutral basis, to 28.4%
• Non-GAAP EPS increased by 1% year on year to $1.03

New Products Drive Growth Across The Board

Therapy innovation has emerged as a top growth driver among Medtronic’s three-pronged growth strategy, which includes globalization and economic value, in addition to therapy innovation. New therapies growth accounted for nearly three-quarters of Medtronic’s total revenue growth in the second quarter, contributing 420 basis points to the top-line expansion, which was well above the company’s target of 150 to 350 basis points. ^[2]

The innovation and introduction of new products has been largely evenly spread across all of Medtronic’s segments. In the Pacemakers and Defibrillators segment, which we estimate is Medtronic’s most valuable segment, strong demand for Reveal LINQ resulted in robust diagnostics growth as the segment gained market share in the U.S. ^[2]

In the Cardiovascular segment, which accounts for over 22% of Medtronic’s value by our estimates, growth was driven by recently introduced products such as the transcatheter aortic valve replacement, drug-coated balloons, AF ablation and insertable diagnostics. ^[2] Similar trends could be tracked across each of Medtronic’s business divisions.

Synergies From Covidien Acquisition Rolling In

Medtronic’s non-GAAP operating margin improved by 20 basis points year on year on a comparable, constant currency basis in the second quarter. This was despite a 20 basis point decline in gross margin, which was offset by SG&A savings and a decline in R&D expenses. Medtronic expects its non-GAAP gross margin to reach 29% to 31% in the second half of the year, up from 28.4% in the second quarter.

The savings in SG&A expenses and the improvement in non-GAAP operating margin was derived mostly from synergies resulting from the Covidien acquisition. Medtronic expects the trend to continue in the near term, with a total of $300 million to $350 million in cost savings in the current fiscal year. Over the next three years through fiscal 2018, the company expects to generate cumulative cost savings of at least $850 million. ^[2] Meanwhile, higher interest income, a lower tax rate and fewer outstanding shares helped expand the company’s non-GAAP EPS by 1% year on year to $1.03 in the second quarter.

Additionally, Medtronic has also begun the process of unlocking its overseas cash following the Covidien acquisition. It was able to free $9.2 billion of its cash in the second quarter alone as a result of an internal reorganization. The company intends to use the unlocked cash towards debt repayments and M&A activities. It also plans to increase its returns to shareholders in the medium term. Earlier this year, Medtronic increased its dividend by 25%. With gradual access to more of its overseas cash, it intends to increase its payout ratio to 40% over the next three to four years. ^[2]

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More Trefis Research

1. Medtronic Investor Relations [↩]
2. Medtronic Fiscal 2016 First Quarter Earnings Call Transcript, Seeking Alpha, December 3, 2015 [↩] [↩] [↩] [↩] [↩] [↩]