ii view: Smith & Nephew steps backwards

Covid disruption has again increased but vaccines are now being rolled out. Buy, sell or hold?  

Fourth-quarter trading update

• Revenue expected to be down 7%

ii round-up:

Medical devices maker Smith & Nephew (LSE:SN.) today flagged expectations for a deterioration in its latest quarterly revenues as a resurgence in pandemic cases again hindered levels of non-urgent surgery.

An expected 7% decline in fourth-quarter sales follows a 4% retreat outlined over the third quarter, and is forecast to leave full-year revenues down by around 12%. 

Smith & Nephew shares fell by just over 2% in UK trading, bringing their decline over the last year to around 15%. Shares for rival wound care application maker ConvaTec Group (LSE:CTEC), originally spun out of pharma company Bristol-Myers Squibb (NYSE:BMY), are down under 5% over the last year.

S&N makes orthopaedic devices, including knee & hip replacements, sports joint repair applications including ear, nose and throat devices, and advanced wound care and trauma applications.

Increased Covid-19 cases from mid-October onwards, particularly across Europe and the US, had led to more surgical procedures being postponed, mainly for its orthopaedic reconstruction, sports medicine and ENT businesses. Advanced wound care and trauma remained more resilient.

As previously highlighted, the trading profit margin is expected to be substantially lower year-over-year, with negative operating leverage due to lower volumes partially offset by cost control measures.

First-half results to the end of June saw S&N reporting an operating loss of $5 million on a sales fall of 19%. That compares with a profit of more than $400 million in the first half of 2019.

However, unlike many other Covid hit corporates, S&N has continued to pay a dividend, previously declaring an unchanged interim payment of 14.4 cents (11.2p) per share. It also paid a 2019 final dividend of 23.10 cents (18.66p).

Full-year 2020 results are scheduled for 18 February. 

ii view:

In 2019, the US generated around half of overall revenues, emerging markets & China just under 15% and the UK 4%. Under a new chief executive, appointed late that year, Smith’s operating model has been revamped. It is now targeting bolt-on acquisitions to bring in new technologies and strengthen market-leading positions. But Covid-19 has caused significant disruption to non-emergency surgery around the world, hitting the sale of its products. The pandemic follows what was a record 2019 year for sales of $5.14 billion.

For investors, the uncertainty of pandemic disruption continues. Cancelled or postponed elective surgery is still denting sales and squeezing profit margins. Broker estimates for a possible 2020 final dividend point towards a possible cut of around 30%. But the rollout of a vaccine over coming months suggest light at the end of the tunnel, while global demographics and ageing populations continue to offer a positive backdrop. In all, while some caution remains sensible, long term fans of the company will be unlikely to change their view based on this update.  

Positives: 

• Both product and geographical diversification
• Exposure to favourable demographics

Negatives:

• Ongoing Covid related disruption
• Forecast dividend reduction

The average rating of stock market analysts:

Strong hold

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