Tuesday, April 24, 2007

ResMed (NYSE:RMD): Buy for a bounce

- William Blair's Ben Andrew has some interesting comments on ResMed (NYSE:RMD) after the maker and distributor of devices that help people with respiratory disorders announced lower than expected results last night. The co also announced a fairly large product recall with a total cost of about $60 million:

Since ResMed reported before Respironics, the firm does not yet know what happened overall with the market, but they suspect ResMed gave up a bit of share to competitive product launches, trialing of two new nasal pillow masks by competitors in the quarter and giveaways reported both by firm's field sources and RMD on their conference call. EPS suffered with the revenue shortfall (though gross margin was on target at 62.3%, a very encouraging sign that this is not a ResMed issue), coming in at an adjusted $0.35 (flat) compared to WB's $0.41 target. The S-8 recall makes for a dramatic headline, but based on past examples in which no patient harm occurred and the company responded proactively, the firm does not expect any durable impact on the franchise.

Firm's field sources indicate that demand for ResMed's devices, as well as their pricing power, are holding up well in the face of more aggressive competitors given their superior design and performance.

Should the stock open at $42 (where it was indicated after-hours trading), it would be at roughly 20 times firm's new calendar 2008 EPS estimate of $2.08 (down from $2.14), and in line with what the firm still believes are its sustainable long-term revenue and earnings growth rates of 20%. While the stock may languish for a quarter or so until investors see evidence that the company's strong new product lineup is having the market impact that they expect-driving volume and defending price for ResMed- the firm reiterates their Outperform rating.

Notablecalls: It looks like most of RMD's revenue shortfall comes from competitors trialing new products by giving them away for free. Management indicated on the conference call that at first they didn't believe it was going on and did not respond. Now however, they will respond to pricing pressures but by doing so, will continue to sell on value. According to the management, the market's respondse has been very good. Overall, they consider the market as incredibly healthy and continue to look out at other areas as well. They also noted that after responding to pricing pressures by competitors, their sales team had one of the best months on record.

The stock experienced a close to 15% haircut in after hours action with the last prints crossing a tad below the $42 level. Based on the relatively upbeat comments by RMD's management, I think the stock is buyable for a bounce around the $41.50-$42 level. Competitors cannot continue giving away their masks for free for an extended period, meaning pricing pressure will ease soon. The overall market is growing at a healthy clip, providing opportunity for everyone. The recall looks like a one-time event. 7 cases out of 300,000 devices sold is not that huge and shows management is proactive.

Note that RESP, RMD's larger competitor is due to reports its results on Thursday.

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