Should This Medical Device Maker Be the Heart of Your Portfolio?

Shares of Edwards Lifesciences (NYSE: EW  ) hit a 52-week high on Friday. Let's take a look at how it got there and see if clear skies are still in the forecast.

How it got here
At the heart of innovation is Edwards Lifesciences and its vast array of cardiovascular medical devices. The company has bucked generally weak global growth and boosted its share price into triple-digits on the heels of three major factors.

First, Edwards is a leader in cardiovascular innovation. The company's newest product, the Sapien, is the very first aortic valve replacement that can be threaded through an artery to the heart without the need for invasive surgery. With the Food and Drug Administration giving its nod of approval to expanding Sapien's usage to higher-risk patients, the scope of Sapien's targeted patients has grown dramatically, and the $41 million in U.S. sales during the first quarter blew away Wall Street's estimates.

Secondly (and this builds on the first point), Edwards is delivering better-than-expected results. Sales in its latest quarter grew by 13.5% as transcatheter valve sales rose 67% (which includes Sapien sales).

Finally, speculation is still swirling from comments made by Johnson & Johnson's (NYSE: JNJ  ) recently appointed CEO, Alex Gorsky, that J&J is looking to boost earnings through acquisitions of medical device makers -- specifically heart valve product producers. Both Edwards and St. Jude Medical (NYSE: STJ  ) were named as possible J&J targets by Bloomberg.

But, as with all companies, Edwards isn't perfect. The delay in getting Sapien approved for additional indication actually caused Edwards to lower its sales and EPS forecast for the remainder of 2012. Additionally, the Supreme Court upholding the constitutionality of the Patient Protection and Affordable Care Act, and the 2.3% medical device excise tax that's built into the new law, threaten to eat into Edwards' research and development budget, as well as its bottom line.

How it stacks up
Let's see how Edwards Lifesciences stacks up next to its peers.

EW Chart

EW data by YCharts

Edwards Lifesciences has drastically outperformed its peers over the past five years, with St. Jude and Medtronic (NYSE: MDT  ) struggling to find new avenues to growth, and ICU Medical (Nasdaq: ICUI  ) plugging along with mid-to-high single-digit growth.

Company Price/Book Price/Cash Flow Forward P/E Dividend Yield
Edwards Lifesciences 8.2 43.9 28.9 0%
St. Jude Medical 2.6 9.4 9.7 2.3%
Medtronic 2.2 8.9 9.4 2.6%
ICU Medical 2.1 10.7 16.4 0%

Source: Morningstar.

Apparently, in the medical device sector, you're either a growth story or an income play.

For Medtronic, the question shareholders must ask is: Where's the growth? Sales have stagnated for the past two years, but consistent gross margins continue to generate predictable cash flows, and therefore, a healthy dividend of 2.6%.

St. Jude Medical followed in Edwards' footsteps by trimming results in its latest quarter as its sales missed analyst estimates and fell by 2%. Like Medtronic, it offers a decent yield at 2.3%, but its growth prospects are tapering.

ICU Medical, a featured "Small Cap to Rule Them All" selection of mine last year, is the turtle in the race against the hare. Its medical products aren't conducive to high growth, but the deals it has in place, along with its immaculate cash position, give investors a sense of cash flow security and predictable mid-to-high single-digit growth.

Finally, Edwards offers the priciest valuation, but it could hold the key to the most rapid growth potential with the recent expansion of its Sapien heart valve. Add in the fact that Edwards has been repurchasing its own shares, and the potential for rapid EPS growth becomes apparent.

What's next
Now for the $64,000 question: What's next for Edwards Lifesciences? That question depends on how rapidly the Sapien valve is implemented by doctors, whether J&J is seriously considering Edwards as a possible buyout candidate, and if Edwards plans to use its strong operating cash flow to pay a dividend to shareholders in the future.

Our very own CAPS community gives the company a three-star rating (out of five), despite just 72.1% of members expecting it to outperform. I've yet to personally make a CAPScall on Edwards in either direction, and I think I'm once again going to hold off on a recommendation.

Over the considerably longer term, I feel Edwards will be a winner. Its cutting edge products give it a growth edge over its peers, and its strong cash position and share buybacks are bound to boost EPS and give shareholders hope for a future dividend. Conversely, at 29 times forward earnings, and 44 times cash flow, I'm concerned about its valuation -- especially after J&J's CEO comments. I'd much rather wait on the sidelines with Europe remaining weak and potential hiccups associated with Sapien's rollout still possible.

Edwards is definitely geared toward high growth; but if stable, income-producing, stocks are more your thing, then you'll appreciate the time and effort our team at Motley Fool Stock Advisor put into crafting its list of the top nine rock-solid dividend companies you need to secure your future. We looked at one in Johnson & Johnson; you can see the remaining eight, for free, by clicking here to get your own copy of this latest report.

Craving more input on Edwards Lifesciences? Start by adding it to your free and personalized Watchlist. It's a free service from The Motley Fool to keep you up to date on the stocks you care about most.

Fool contributor Sean Williams has no material interest in any companies mentioned in this article. You can follow him on CAPS under the screen name TMFUltraLong, track every pick he makes under the screen name TrackUltraLong, and check him out on Twitter, where he goes by the handle @TMFUltraLong.

The Motley Fool owns shares of Johnson & Johnson, St. Jude Medical, and Medtronic. Motley Fool newsletter services have recommended buying shares of, and creating a diagonal call position in, Johnson & Johnson. Try any of our Foolish newsletter services free for 30 days. We Fools don't all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.


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