December 16, 2014
Covidien plc
(COV – NYSE)
$102.36*
Note: This report contains substantially new information. Subsequent reports will have changes highlighted.
Reason for Report: 4Q14 Earnings Update
Prev. Ed.: Sep 25, 2014; 3Q14 Earnings Update (brokers’ material considered till Sep 5, 2014)
Brokers’ Recommendations: Positive: 29.4% (5 firms); Neutral: 70.6% (12); Negative: 0% (0)
Brokers’ Target Price: $95.69 (↑ $2.78 from the last edition; 14 firms)
Prev. Ed.: 8; 9; 0
Brokers’ Avg. Expected Return: -6.5%
* Note: Though dated Dec 16, 2014, share price and broker materials are as Dec 3, 2014.
Note: The tables below (Revenue, Margins, and Earnings per Share) contain material from fewer brokers than in the
Valuation table. The extra figures in the Valuation table come from reports that did not have accompanying spreadsheet
models.
Portfolio Manager Executive Summary
Covidien plc (COV) is a diversified large-cap medical technology company with exposure to the Medical
Device and Supplies segments.
Of the 17 firms rating the stock, 12 firms (70.6%) provided Neutral ratings while 5 firms (29.4%) conferred
Positive ratings. Out of these, 14 firms provided an average target price of $95.69. Target prices for
Covidien range from $70 to $115.
Neutral or equivalent outlook (12/17 firms): Neutral firms view the acquisition of Covidien by Medtronic
for approximately $43 billion as a positive. They believe that the buyout price fairly values Covidien’s
assets. They further believe that chances of another Medtech bidder emerging are limited as few
companies have the balance sheet flexibility to finance a transaction of this size.
Given the complementary nature of products with little overlap, firms believe that the deal is a strategic fit.
Moreover, the firms are encouraged by the recent regulatory approvals won by the deal. However,
inversion deals like these have gained considerable attention in the political arena, which raises some
risk of increased inspection.
Positive or equivalent outlook (5/17 firms): Bullish firms opine that Covidien offers attractive
fundamentals, such as a diversified revenue stream, exposure to more stable areas of the medical
technology sector and opportunities for profitable gains. According to them, Covidien is well positioned to
sustain above-average sales or EPS growth over time with the launch of new products and continued
focus on cost structure optimization. The firms are encouraged by the company's growth curve in the
emerging markets along with investments in innovative products.
According to the firms, the company’s latest acquisitions are delivering better-than-expected results. As
Covidien continues to streamline its portfolio, leverage from recent acquisitions, and invest more
© Copyright 2014, Zacks Investment Research. All Rights Reserved.
aggressively in key and fast-growth emerging markets, optimistic firms feel that the growth and
profitability profile of the business should continue to improve.
Negative or equivalent outlook:
Conclusion: Firms believe that Covidien’s attractive fundamentals position it well to sustain aboveaverage sales or EPS growth. Firms are also optimistic about the acquisition of Covidien by Medtronic
which should improve the combined entity’s competitive position in the market. Moreover, the recent
regulatory approvals won by the merger deal restore their confidence in the stock.
Dec 16, 2014
Overview
Covidien Plc is a global leader in the development, manufacture and sale of healthcare products for use
in clinical and home settings.
The firms identified the following factors for evaluating the investment merits of Covidien:
Key Positive Arguments
Key Negative Arguments

Covidien has a history of developing and
manufacturing high-quality products in a costeffective manner.

The company employs strict safety and quality
control measures to reduce disruption throughout
its supply chain.
Covidien plans to step up product introduction,
focus on faster-growing emerging markets, and
increase market share in traditional segments
through more investment in sales and marketing.


Accelerating investment in R&D and marketing are
expected to leave Covidien well-positioned to
deliver long-term growth.

The company is poised for multiple expansion
based on its diversified business, ability to improve
operating leverage and solid cash flows.

The FDA clearance for the launch of the new Endo
GIA Reinforced Reload with Tri-Staple technology
in the U.S. repositions Covidien as the only
company with this technology.

Currency fluctuations, especially the Japanese yen,
is negatively affecting top-line growth for Covidien.

The Medical Device Tax along with pricing pressure
is likely to affect the company’s bottom line.

Covidien's core Medical Device business overlaps
with the business of its competitors like Johnson &
Johnson (J&J), Becton, Dickinson (BDX), and C.R.
Bard (BCR).

Difficult macroeconomic conditions are adversely
affecting Covidien’s top line. Weakness in capital
purchases and procedure volume remains a cause
for concern. Sales in the U.S. continue to be soft.
After the spin-off of its Pharmaceutical Division (Mallinckrodt) on Jun 30, 2013, the company started
operating through two segments: Medical Devices and Medical Supplies, effective Oct 1, 2013.
According to the new reporting structure, the results of the Medical Supplies segment in Western Europe
have been reflected in the Medical Devices segment. Product line sales under Medical Devices segment
have been reported in three categories: (i) Surgical Solutions (ii) Vascular Therapies and (iii) Respiratory
& Patient Care. Also, sales are primarily based on customer location, i.e., (i) U.S. (ii) Non-U.S. Developed
Markets and (iii) Emerging Markets, rather than location of the selling entity.
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Surgical Solutions comprises Advanced Surgical and General Surgical product groups; Vascular
Therapies comprises Peripheral Vascular and Neurovascular product groups; and Respiratory and
Patient Care comprises Patient Monitoring, Airway & Ventilation, Nursing Care and Patient Care.
The Medical Devices segment (85.3% of total revenues in FY14) includes the development,
manufacture and sale of a broad spectrum of endomechanical instruments, energy devices, soft tissue
repair products, vascular products, oximetry and monitoring products, airway and ventilation products,
and other medical products. The company offers its products to physicians, nurses, materials managers,
group purchasing organizations and governmental health care authorities.
The Medical Supplies segment (14.7%) offers nursing care products, including those for wound care
and surgery such as operating room supply products and related accessories. Supplies include
electrodes, chart paper product lines, SharpSafety products, and original equipment manufacturer
products including medical supplies such as needles and syringes, and incontinence products.
Further information on the company is available at its website: www.covidien.com.
Note: The company’s fiscal year ends on Sep 29; fiscal references do not coincide with the calendar
year.
Dec 16, 2014
Long-Term Growth
Of the 17 firms covering Covidien, 8 firms have provided an average long-term (3–5 years) earnings
growth projection of 9.9% for the stock.
Optimistic firms view Covidien as an attractively diversified company given its broad product portfolio and
strong global presence. Its solid product offering of medical devices and supplies is being supplemented
by investments in innovative new products. In addition, the company is expanding into faster-growing
emerging markets such as China. The firms believe that the breadth of the company’s product lines,
along with new product offerings, investments and acquisitions are expected to drive growth gradually.
Covidien is one of the top medical technology companies in the world. Favorable demographic trends,
substantial investments by developing economies in their healthcare structure and consistent growth in
emerging markets should propel top-line growth in the future. The company continues to execute
smoothly as it divests under-achieving parts of the portfolio and gradually adds new technologies,
products and businesses to the portfolio.
Following the divestment of the Pharmaceutical unit, Covidien reiterated its long-term goal of generating
mid-single digit top-line growth and double-digit bottom-line growth. Additionally, the company retained its
commitment to return up to 50% of its free cash flow to shareholders. The momentum in the core medical
device business remains strong, and should result in steady top-line growth for the next several years.
Medtronic is slated to acquire Covidien for about $43 billion, with the deal expected to close in early
FY15. Post-acquisition, Medtronic will relocate headquarters to Ireland, where Covidien is currently
based. Though firms view this as a positive for Covidien, inversion deals have recently gained
considerable attention in the political arena, which raises risk of increased scrutiny.
The addition of several innovative products in FY14 is expected to provide long-term growth prospects to
the company. However, given the company’s diverse portfolio of products and technology, there will be
issues with product performance, competition and regulatory risks that can evoke investor concern.
Dec 16, 20
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Target Price/Valuation
Rating Distribution
Positive
Neutral
Negative
Avg. Target Price
Digest High
Digest Low
Upside from Current
No. of Analysts with Target Price/Total
29.4%↓
70.6%↑
0.0%
$95.69↑
$115.00↑
$70.00
-6.5%
14/17
Risks to the price target include regulatory delays, aggressive pricing by the competitors, lower-thanexpected utilization trends, reimbursement, raw material price hike, and a still stronger U.S. dollar and
acquisition integration risks.
Recent Events
On Nov 5, 2014, Covidien reported 4Q14 earnings results. Highlights are as follows:


Total revenues increased 6.8% year over year (y/y) to $2.73 billion.
Adjusted EPS surged 26.4% y/y to $1.15.
Latest Update on Merger with Medtronic
The proposed $42.9 billion merger between Medtronic, Inc. and Covidien, announced on Jun 15, 2014, is
in its final leg as the deal has obtained several regulatory go-aheads and approvals in the last couple of
weeks.
The deal was cleared by the Chinese Ministry of Commerce as well as the South Korean Fair Trade
Commission on Dec 5, 2014. The European Commission conditionally cleared the deal on Nov 28 while it
received a go-ahead from the U.S. Federal Trade Commission (FTC) on Nov 26, subject to the fulfillment
of certain conditions. On the same day, the Canadian Competition Bureau also gave a green signal to the
transaction.
Approvals by these agencies are conditional on Medtronic’s commitment to divest Covidien’s drug-coated
balloon business. Presuming the same, a subsidiary of Covidien entered into an agreement to divest
these assets to The Spectranetics Corporation. The divestiture is expected to close shortly following the
completion of Medtronic’s buyout of Covidien.
As per the new financing plan unveiled on Oct 3, Medtronic revealed that it will not utilize cash from its
foreign subsidiaries, as previously planned, but will take an external debt of $16 billion to finance a part of
its $42.9 billion Covidien acquisition deal. The transaction is expected to close in early 2015 after gaining
approvals from both the companies’ shareholders and the High Court of Ireland.
Acquisitions, Divestitures and Spin-Offs
On Nov 2, 2014, Covidien signed a definitive agreement with The Spectranetics Corporation (SPNC),
under which the latter will acquire Covidien's Stellarex drug-coated angioplasty balloon (DCB) platform
for $30 million. Designed to treat peripheral arterial disease, Stellarex DCB is part of Covidien’s vascular
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product line. Divesture of Stellarex DCB is subject to the approval of the FTC and other regulatory
agencies, as well as closure of the Medtronic-Covidien merger, which is slated to be complete by early
2015.
Revenues
Revenues in 4Q14 increased 6.8% to $2.73 billion, driven by robust performance across all the
segments. On a geographic basis, revenues in the U.S. increased 6.3% y/y to $1.38 billion. On the other
hand, revenues from non-U.S. developed markets rose 4.2% to $914 million, whereas revenue growth in
emerging markets was 14.1%, reaching the figure to $445 million.
Provided below is a summary of total revenue as compiled by Zacks Digest:
Revenues ($ in
M)
Digest High
Digest Low
Digest Average
Y/Y Growth
Q/Q Growth
4Q13A
3Q14A
4Q14A
1Q15E
2014A
2015E
2016E
2017E
$2,560.2
$2,688.0
$2,734.0
$2,740.0
$10,659.0
$11,047.3
$11,473.3
$11,966.0
$2,560.0
$2,688.0
$2,734.0
$2,696.8
$10,659.0
$10,965.0
$11,436.0
$11,954.0
$2,560.0
$2,688.0
$2,734.0
$2,712.2
$10,659.0
$11,002.6
$11,459.6
$11,960.0
2.4%
4.3%
6.8%
2.8%
4.1%
3.2%
4.2%
4.4%
-0.7%
3.5%
1.7%
-0.8%
Outlook: Bullish firms expect Covidien to generate 4–5% of organic revenue growth going forward,
driven by new product offerings and growth in emerging markets for the Medical Devices segment.
Investments in the international markets are paying off and firms expect encouraging results from this key
growth driver in the coming years as well.
MEDICAL DEVICES
Revenues from the larger Medical Devices segment increased 7.5% y/y to $2.3 billion in 4Q14. The
division is benefiting from product launches and higher volumes. Moreover, it experienced solid gains in
the emerging markets, particularly in the BRIC countries, reflecting investments and acquisitions made
over the past few years. Australia also registered double-digit sales growth.
Product Group Results
Surgical Solutions: Surgical solutions sales increased almost 11% to $1.33 billion. Stapling posted
considerable growth in the quarter. Vessel sealing, interventional lung, synthetic mesh and Covidien’s
BARRX gastrointestinal business achieved double-digit sales growth. Given Imaging takeover also drove
advanced surgical sales.
Operational sales growth was 12%, as foreign exchange rate movement reduced the quarterly sales
growth rate by one percentage point. Within Surgical Solutions, Advanced Surgical operational sales
were substantially above those of the prior year, while General Surgical operational sales were about
level with those of a year ago, primarily as a result of the sale of the Confluent biosurgery product line in
January 2014, partially offset by the impact of recent acquisitions.
Vascular Therapies: Vascular Therapies sales climbed up 3% to $426 million, on both a reported and
operational basis, due to higher neurovascular sales. The increase was driven by double-digit sales
growth in both stents and access delivery products and higher sales of coils and flow diversion products.
Peripheral Vascular sales grew modestly during the quarter, with increases in sales of chronic venous
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insufficiency and procedural support products, partially offset by decreases in sales of compression and
dialysis products in the U.S.
Respiratory and Patient Care: Respiratory and Patient Care sales inched up 3% to $974 million. Patient
Monitoring sales increased 6% y/y, primarily resulting from increased sales of capnography products,
which continued to grow well above 20%.
Airway & Ventilation sales grew modestly in the quarter due to increased sales of ventilators. Nursing
Care sales increased slightly on a year-over-year basis, led by increased sales of wound care, enteral
feeding and incontinence products. Patient Care sales grew slightly primarily due to higher sales of
electrodes and OEM products.
Details of the product groups are as follows:
Revenues ($ in
million)
Surgical Solutions
Vascular Therapies
Respiratory &
Patient Care
4Q13A
3Q14A
4Q14A
1Q15E
2014A
2015E
2016E
2017E
$1,202
$413
$1,305
$417
$1,334
$426
$1,323.7
$427.8
$5,113
$1,677
$5,358.2↑
$1,707.1↓
$5,631↓
$1,790.5↓
$5,928
$1,864
$945
$966
$974
$963.3
$3,869
$3,946.8↓
$4,033.5↓
$4,162
Provided below is a graphical presentation of product group revenue as compiled by Zacks Digest:
2014A Revenue Segments
2015E Revenue Segments
Surgical Solutions
36%
Surgical Solutions
36%
48%
Vascular
Therapies
48%
Respiratory &
Patient Care
Vascular
Therapies
Respiratory &
Patient Care
16%
16%
2017E Revenue Segments
2016E Revenue Segments
Surgical Solutions
Surgical Solutions
35%
35%
49%
Vascular
Therapies
49%
Respiratory &
Patient Care
Respiratory &
Patient Care
16%
Zacks Investment Research
Vascular
Therapies
16%
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MEDICAL SUPPLIES
Revenues from the U.S. Medical Supplies segment went up roughly 2.6% y/y to $395 million in 4Q14.
New Products and Recent Developments
On Nov 24, 2014, Covidien obtained 510(k) clearance from the U.S. Food and Drug Administration
(FDA) for its Fortrex over-the-wire percutaneous transluminal angioplasty (PTA) balloon catheter. Fortrex
PTA balloon catheter is designed for both maintaining arteriovenous (AV) access for hemodialysis and
treating peripheral artery diseases. The FDA clearance of this device strengthens Covidien’s existing
PTA portfolio, providing clinicians an advanced solution to improve AV access in patients being treated
with hemodialysis.
On Nov 20, 2014, Covidien announced the receipt of CE Mark approval for its Nellcor Bedside SpO2
Patient Monitoring System (PM100N). The Nellcor Bedside SpO2 Patient Monitoring System provides
clinicians real-time patient respiratory status information including continuous SpO2, pulse rate
monitoring and trending data. This allows clinicians to evaluate a patient's clinical course and detect and
respond to dangerous respiratory events sooner.
On Nov 4, 2014, Covidien announced FDA 510(k) clearance of its HawkOne directional atherectomy
system designed for the treatment of peripheral arterial disease (PAD). Covidien’s HawkOne system
provides physicians with an enhanced cutting mechanism to more effectively treat the widest variety of
plaque in patients with PAD.
On Oct 28, 2014, Covidien announced the launch of the first of its kind ReliaTack articulating reloadable
fixation device, designed for laparoscopic (minimally invasive) hernia repair. ReliaTack delivers superior
access, stronger fixation and lower cost of care. The device received FDA 510(K) clearance in Apr 2014.
On Oct 27, 2014, Covidien unveiled a next-generation version of its superDimension Navigation System
software. The updated software features a more intuitive interface that helps reduce time spent by
physicians planning the procedure and enhances the visualization of the airways of the lung. The
navigation system enables a minimally invasive approach to accessing difficult-to-reach areas of the
lung, which can aid in the diagnosis of lung diseases.
On Oct 9, 2014, Covidien received FDA 510(k) clearance for its Nellcor Portable SpO2 Patient
Monitoring System (PM10N). It is the only commercially available portable oximeter that features home
care and sleep study modes. The monitoring system is compatible with the entire line of Nellcor sensors
with OxiMax technology. It offers a monitoring feature set including SpO2, pulse rate, SatSeconds alarm
management, pleth waveform, blip bar and tabular trend information.
On Sep 18, 2014, Covidien announced the expansion of its Sonicision Cordless Ultrasonic Dissection
Device portfolio, following the U.S. Food and Drug Administration (FDA) clearance for three additional
device lengths − 13 cm, 26 cm and 48 cm. The newly-approved device lengths allow surgeons to expand
their use of the Sonicision system to a more diverse range of surgical procedures, including pediatric
colectomy, splenectomy, and appendectomy.
Please refer to the Zacks Digest spreadsheet on COV for further details on revenue estimates.
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Margins
Gross margin expanded 260 basis points (bps) from the year-ago quarter to 60.8%, largely led by the
company’s ongoing manufacturing cost reduction programs and favorable impact of foreign currency
exchange.
Adjusted selling, general & administrative (SG&A) expenses, as percentage of revenues, declined 130
bps year over year. The decline can be primarily attributed to productivity improvements, partially offset
by higher acquisitions expenses and transaction costs related to the company’s pending acquisition by
Medtronic.
Adjusted research & development (R&D) expenses increased 40 bps to 5.4% in the quarter driven by
continuing investment in strategic initiatives.
Operating margin expanded 360 bps from the year-ago quarter to 24.3%, primarily owing to lower SG&A
expenses and higher gross margin base.
Provided below is a summary of margins as compiled by Zacks Digest:
Margins
4Q13A
3Q14A
4Q14A
1Q15E
2014A
2015E
2016E
2017E
Gross
Operating
58.2%
20.7%
59.4%
22.7%
60.8%
24.2%
58.6%
22.3%
59.6%
22.8%
59.1%↓
23.0%↓
59.7%↓
23.8%↓
60.3%
24.5%
Pre-Tax
Net
19.1%
16.4%
21.2%
17.6%
22.6%
19.3%
20.7%
17.3%
21.2%
17.8%
21.4%↓
17.9%↓
22.4%↓
18.7%↓
23.3%
19.4%
As per the Zacks Digest model, SG&A expenses are expected to increase 0.9%, 3.5% and 3.2% y/y in
FY15, FY16 and FY17, respectively. This is lower than the y/y revenue growth of 3.2 %, 4.2% and 4.4%
projected for FY15, FY16 and FY17, respectively.
On the other hand, R&D expenses are expected to increase 0.3%, 3.8% and 5.8% y/y in FY15, FY16 and
FY17, respectively. This is lower than the y/y revenue growth of 3.2% and 4.2% projected for FY15 and
FY16, respectively, but higher than the y/y revenue growth of 4.4% for FY17.
Bullish firms expect gross margin improvement in the long term to be driven by a favorable product mix,
portfolio shifts (in the form of acquisitions and divestitures) toward higher margin, faster-growing
businesses and manufacturing and restructuring cost savings, partly offset by pricing and foreign
exchange headwinds. Firms also expect operating margin expansion going forward, driven by better
product mix on the gross margin front and improved leverage from the company’s operational excellence
program.
Please refer to Zacks Digest spreadsheet on COV for further details on margins.
Earnings per Share
Covidien posted adjusted EPS of $1.15 in 4Q14, up 26.4% y/y on the back of higher sales growth and
stringent cost control.
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Provided below is a summary of EPS as compiled by Zacks Digest:
EPS
Digest High
4Q13A
3Q14A
4Q14A
1Q15E
2014A
2015E
2016E
2017E
$0.92
$1.04
$1.15
$1.08
$4.15
$4.43↑
$4.91↑
$5.42
Digest Low
Digest Average
$0.91
$0.91
$1.04
$1.04
$1.15
$1.15
$1.00
$1.03
$4.15
$4.15
$4.19↓
$4.31↓
$4.57↓
$4.71↓
$5.09
$5.26
Y/Y Growth
6.0%
-0.3%
14.4%
8.6%
27.0%
10.7%
2.5%
-11.1%
11.7%
3.7%↓
9.5%↓
11.5%
Q/Q Growth
Firms expect attractive long-term earnings per share growth of 9% on the back of favorable product mix,
manufacturing efficiencies and cost reduction programs. Moreover, incremental returns to shareholders
via dividends and share repurchase programs should further strengthen the company’s bottom line going
forward.
Please refer to the Zacks Digest spreadsheet on COV for further details on EPS.
Analyst
Copy Editor
Content Editor
Lead Analyst
QCA
Reason for Update
Zacks Investment Research
Pritha Agrawal
Parijat Sen
Aniruddha Ganguly
Aniruddha Ganguly
Aniruddha Ganguly
Earnings
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