Medical device and pharmaceutical company Covidien (click ticker for report: ) issued strong guidance. The firm expects fiscal year 2013 revenue to grow 3-6%, above the current trend rate of 2.2% and the midpoint slightly better than consensus estimates calling for 3.7% growth. Covidien expects solid operating margins of 22-23%, with an effective tax rate of 18-19%.
Medical device sales should drive the majority of the revenue expansion, as the company expects the segment to grow 4-7% in fiscal year 2013, while pharmaceutical sales should grow 1-4%. Additionally, the company remains on track to spin off its pharmaceutical segment by mid-2013. In general, investors prefer pure-play investments on industries of interest (all else equal), so we think the market will continue to applaud this move. Covidien is also a product of the former Tyco (click ticker for report: ) empire—a firm consistently focused on simplifying businesses via spinoffs since 2007 (the Tyco of 2007 will be 7 publicly traded companies when this spinoff is completed).
We expect Covidien’s cash flow generation will remain robust, and we like the firm’s commitment of returning 50% of free cash flow to shareholders via dividends and buybacks. We also think the company will be able to grow its business abroad, as the vast majority of its revenue still comes from the US. Still, the firm trades at a similar multiple to its peers and looks fairly valued on a discounted cash flow basis. Shares only score a 3 on the Valuentum Buying Index (our stock-selection methodology), so we aren’t interested in adding the name to our Best Ideas Newsletter portfolio at this time. Our favorite way to invest in the secular growth of healthcare spending in the U.S. and abroad remains the Health Care Select SPDR ETF (click ticker for report: ), which we hold in our Best Ideas portfolio.