I can understand if shareholders in medical technology company Kinetic Concepts (NYSE:KCI) are feeling a bit sick. Though investors pumped up this stock enthusiastically in the back half of 2004, 2005 has proved to be a tougher year, with the stock drifting mostly lower. Last week, though, that gradual drifting turned into a sharp decline as investors bailed out of the stock in response to news about a change in reimbursement.
By way of background, Kinetic Concepts is a clear leader in the field of wound care. While the company has several lines of business, the key to the story is the VAC technology, or Vacuum Assisted Closure. Put simply, the company's VAC devices speed healing and reduce complications through the application of negative pressure to the wound site. Kinetic Concepts has been selling versions of this technology for roughly a decade and has built a nearly $1 billion-a-year business from it.
News on Thursday, though, suggested to some that a competitor might be getting a boost in its efforts to get into Kinetic Concepts' kitchen. Specifically, the Centers for Medicare and Medicaid Services decided to offer BlueSky Medical's competing device the same reimbursement code that had been assigned to Kinetic's VAC product.
This was an unusual decision on a couple of fronts. First, BlueSky had been rejected twice before and had been relegated to a miscellaneous category that made reimbursement more difficult. Second, it seems to me that there is a meaningfully greater amount of clinical evidence out there in favor of the Kinetic Concepts system. Not only will this change now make it more convenient to choose the BlueSky device, but it could also lead to competitive bidding that would lower overall reimbursement levels.
Certainly Kinetic Concepts won't take this lying down. It is suing BlueSky for patent infringement, with a decision likely to come in 2006. Further, it has a growing database of positive clinical evidence, as well as a sales force of nearly 1,500 people and relationships with close to 20,000 hospitals, clinics, long-term care facilities, and home-care agencies.
It would seem that the market has overreacted to the potential threat of competition, as even quite conservative inputs into my value models suggest upside to the current stock price.
There is certainly a higher-than-average risk to this stock, though, so potential investors should do their own due diligence was a cautious and skeptical eye.
Still, in a market where more established growers such as Medtronic (NYSE:MDT) and St. Jude (NYSE:STJ), as well as slower growers such as CR Bard (NYSE:BCR) and Baxter (NYSE:BAX), have generous valuations, Kinetic Concepts could outperform if and when these fears prove overblown.
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Fool contributor Stephen Simpson has no financial interest in any stocks mentioned (that means he's neither long nor short the shares).
