Surgical volumes are recovering more quickly in essential categories than in more discretionary ones, such as knee replacements.
Photo: Getty Images/iStockphotoThe business outlook for medical-device companies is clearly improving. The danger to their stock prices hasn’t gone away, though.
Second-quarter results from health-care bellwethers Johnson & Johnson JNJ 0.07% and Abbott Laboratories on Thursday were stronger than Wall Street expected. J&J raised its 2020 profit outlook, while Abbott issued better guidance than analysts were expecting. Shares of both are near records, as is a broad index of smaller device companies.
A key reason for investor optimism is evidence that a device recovery is underway. In that category, J&J and Abbott reported quarterly sales declines of 32% and 21% from a year earlier, respectively. But both companies told Wall Street analysts that things are improving: Abbott said its U.S. procedure volumes had reached 90% of prepandemic levels by the end of June.
As medical knowledge of how to prevent and treat Covid-19 expands, the business outlook is becoming clearer: J&J finance chief Joseph Wolk said in an interview that on a scale of one to 10, his conviction around forecast accuracy is currently around a seven. In March and April that level was around a three, he added.
But investors should expect the pace of recovery to vary by company as earnings season progresses. Bigger companies are far better positioned to cope with a rough patch than are smaller, more specialized ones.
For instance, surgical volumes are recovering more quickly in essential categories than in more discretionary ones. J&J reported a 20% decline in its unit that treats arrhythmias and stroke, but a nearly 40% drop in its eye-care business. Thanks to new products, Abbott reported significant sales growth in its diabetes segment.
A large international presence has helped them cope with disruptions in the U.S. market. Sales in some overseas markets that have made progress against the coronavirus, such as China, have returned to growth.
Then there is the fact that Abbott and J&J both have nondevice businesses that are thriving, such as pharmaceuticals, consumer-health products and diagnostic testing. That advantage is unavailable to dozens of smaller players.
Meanwhile, a complete business recovery, while certainly still possible, appears to be fully priced in. A popular device exchange-traded fund trades at 43 times trailing earnings. That figure is actually understated, since unprofitable companies are excluded from the calculation. As a result, investors have afforded themselves little protection in case something goes awry such as a resurgence of the virus in major markets.
Earnings season started out well enough for this sector, but that healthy glow is likely to fade.
Write to Charley Grant at charles.grant@wsj.com
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