Healthcare stock downgraded to ‘hold’

Cardinal Health’s problems with Cordis, plus the negative impact of generic drug pricing on company profits, has given us pause on this healthcare stock. We recommend that purchases be deferred until such time as we can report more favourable news on these developments. We have, therefore, downgraded Cardinal Health to a ‘hold’ from a ‘buy’.

Healthcare_StockShares of Cardinal Health (NYSE—CAH), a global healthcare services stock,  have declined just over 20 per cent since the company released its third-quarter financial results. EPS (earnings per share) for the three months ended March 31, 2018, were $1.39 a share, down from $1.53 a share in last year’s third quarter, and well below the street’s estimate of $1.51 a share.

EPS were adversely affected by a negative change in the company’s effective tax rate primarily associated with an inventory write-down at its Cordis cardiology and cardiovascular devices business. Management has moved to address operational and supply chain issues at the business. It has implemented initiatives to improve operations and drive greater efficiencies.

Dublin, Ohio-headquartered Cardinal Health is a global, integrated healthcare company that provides products and services to hospitals, healthcare systems, pharmacies, ambulatory service centres, clinical laboratories and physician offices worldwide. It provides medical products, pharmaceuticals and cost-effective solutions that enhance supply chain efficiency.

Generic drug prices hurting profitability

Revenues rose six per cent from last year to $33.6 billion, while adjusted operating earnings were $781 million, up three per cent.

Results at the pharmaceutical sector, however, were mixed. Revenues increased five per cent to $29.7 billion, thanks to sales growth from pharmaceutical and specialty distribution customers. But segment profit decreased three per cent to $596 million, due to the company’s generic program performance. Here, deflation in generic drug prices has hurt profitability.

The smaller medical segment did better. Revenue rose 15 per cent to $3.9 billion, driven primarily by the acquisition of the Patient Recovery Business from Medtronic in July 2017. Segment profit, meanwhile, jumped 34 per cent to $199 million because of the contributions from acquisitions. This increase was partly offset by the poor performance of Cordis.

Cordis turnaround will take time

Management has said its Cordis initiatives will take some time. Consequently, it has revised its outlook for fiscal 2018 (ends June 30) adjusted EPS to $4.85-$4.95 from $5.25-$5.50. It has deferred specific guidance for fiscal 2019, until it reports its year-end results in August.

Cardinal’s problems with Cordis, plus the negative impact of generic drug pricing on company profits, has given us pause on these shares. We recommend that purchases of this healthcare stock be deferred until such time as we can report more favourable news on these developments. We have now, therefore, downgraded Cardinal Health to a hold from a buy. 

This is an edited version of an article that was originally published for subscribers in the May 18, 2018, issue of The Investment Reporter. You can profit from the award-winning advice subscribers receive regularly in The Investment Reporter.

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