Mid-Year Ortho Financial Report Card

If 2020 was the “lost” year, and 2021 was the recovery year, then 2022 was meant to be the first most “normal” year since 2019. 2022, however, has been anything but normal.

Wall Street’s analyst corps were bracing for bad news coming into the half-way point of the calendar year. A new COVID variant, supply shortages of everything from metal to computer chips, inflation and, as Larry Biegelsen, who, in my opinion, runs the top healthcare and medical device research department on the Street, reminded his thousands of institutional investors—mutual funds, pension funds, sovereign funds, private equity and hedge funds—around the world, that U.S. patient visits to doctors were down so far in 2022 as compared to 2021.

Every month, Biegelsen, the managing director for Medical Device Research at Wells Fargo, issues a report which tracks in-person patient visits. For several months it had been trending slightly down and then, on July 31, 2022, as the ortho sales reports were starting to emerge he released data which showed a sudden and unexpected 12% decline from 2021.

“Based on data from IQVIA’s BrandImpact, for the week ending July 22, 2022, in-person physician visits were down -12% Y/Y vs. 2021, which compared with the -1% change in the prior week ending July 15, 2022.”

Biegelsen went on to reassure his readers that the data was only a single week’s worth and that it was bound to rebound. Still, a sour note to start sales and earnings season.

And the ortho stocks were drifting down, getting cheaper.

First Half 2022 Sales

Manufacturers and suppliers of orthopedic and spine products and services, with the notable exception of Medtronic Spine, ended the first half of the 2022 calendar year on June 30 and began reporting sales and earnings results over the next six weeks.

The first two companies to report were Integra LifeSciences and Stryker Corporation—both on July 27. Integra reported 3.25% sales growth, adding about $24 million in sales from 2021’s first half, and, importantly, operating profit jumped 28%. Analysts didn’t expect such strong numbers and noted that the revenue strength was against “macro uncertainty.”

Then Stryker reported that same day a strong 6.3% sales growth rate, adding more than $510 million to sales year-over-year.

Orthopedic stock prices started rising.

The next day (July 28), ConMed and Smith & Nephew reported. ConMed beat Stryker’s growth rate, coming in at 6.49%.

ConMed’s operating profit, however, didn’t grow as fast as sales, which confirmed that, yes, supply logistics and pricing headwinds remain a factor for orthopedic and spine product suppliers.

Smith & Nephew reported flat revenues but much higher operating profit margins.

So, two days into earnings season, and Wall Street’s negative take on the industry was being contraindicated by sales and earnings reports. Four companies, representing $12.7 billion in sales, had reported decent ortho sales growth rates and appeared to be closer to “normal” than investors expected.

On day three, July 29, came Johnson & Johnson (JNJ).

JNJ, with 130,000 employees and nearly $100 billion in annual sales, would rank higher than 70% of the countries in the world in terms of GDP—if it were a country.

On day three of earnings season, JNJ reported 4% sales growth—which meant $1.8 billion of new revenue—and, in terms of DePuy Synthes, which represent roughly a third of JNJ’s medical device sales, 0.4% sales growth—which was well below Wall Street’s 2.2% sales growth expectation. The culprit was regional COVID related restrictions at the hospital and ambulatory surgery center (ASC) level. But JNJ, being a truly global company, was affected by China’s COVID issues more than any other ortho company.

Ortho Stocks Soar

Three days into the multi-week earnings season, ortho and spine investors were shedding their pre-earnings season jitters and not only pushed ortho valuations higher, but started buying some of the more emerging growth companies like Surgalign (up 19%), Bioventus (up 18%), Globus Medical (up 11%) and even newbie ZimVie (up 22%).

Over the next two weeks, 16 ortho and spine companies reported. The company which reported the highest sales growth rate was Alphatec Spine—up 47% year-over-year. Alphatec added nearly $50 million in new first half sales as compared to 2021. Bioventus grew 34% and added $66 million in first half sales. SeaSpine grew 20% and added $18 million in first half sales.

On average the 20 companies that have reported so far, grew 8.49% in terms of year-over-year sales growth for the first half of 2022.

Profitability, Not as Strong

Eleven of the 21 companies that have reported so far, lost money at the operating income level. Of course, for some of these suppliers, cash flows are positive, even strong, but the accounting for non-cash expenses like depreciation or goodwill or R&D write offs, hide operating cash flows.

The six top profit generators in orthopedics and spine, so far in 2022, were JNJ, Globus Medical, Pacira Biosciences, Zimmer Biomet, Stryker and Integra LifeSciences—in that order. JNJ posted an industry leading 25% of sales operating profit. Globus as 23%, Pacira 15%. Zimmer Biomet, Stryker, and Integra were all at 14% profit as a percent of sales.

But, on average, the reporting companies so far have posted a negative 9% operating profit as percent of sales. In sheer dollar terms, the companies reporting losses, lost an aggregate $340 million in the first half of 2022.

Wall Street’s Outlook

Wall Street’s pendulum always overswings—both directions. Analysts and investors were overly concerned, and their pleasant surprise fueled a welcome increase in orthopedic and spine valuations. Analysts are now updating their models and, for the most part, are beginning to forecast at the upper end of management guidelines.

If, as currently appears to be the case, inflation is ebbing and, as we expect, the trade shows like North American Spine Society (NASS) and American Academy of Orthopaedic Surgeons (AAOS) return to pre-2020 levels, then there is clear reason for optimism. Also, a new market basket of technologies…artificial intelligence, mixed reality systems, Big Data…have the potential to improve patient outcomes in ways that will drive wealth creation for companies and entrepreneurs.

Final Grade for the First Half of 2022:  B+

Tables: Reporting Orthopedic and Spine Companies as of August 11, 2022