Stryker Corp.'s (SYK, Financial) business was severely impacted by Covid-19 in 2020 as elective surgical procedures were postponed or canceled as the health care industry dealt with the pandemic. Organic growth rates for the company, which have been historically above that of peers, were down last year.
That changed in the most recent quarter as Stryker saw a return to positive organic growth, with many businesses seeing an improvement in demand. As a leader in its industry, Stryker is primed to benefit from age demographics. With this tailwind, the company's long-term growth trajectory remains intact.
Leadership in its industry has allowed Stryker to grow its dividend for nearly three decades. The stock doesn't offer a very high yield, but the dividend has compounded at a high rate for some time.
We will examine Stryker's recent earnings report, business model and dividend history to determine why investors looking for dividend growth should consider owning shares of the company.
A look at earnings results
Stryker reported first-quarter earnings results on April 27. Revenue grew 10% year over year to $3.95 billion, coming in just ahead of Wall Street analysts' estimates by $10 million. Adjusted earnings per share of $1.93 was 9 cents, or 4.9%, higher than the prior year, but was 5 cents below expectations.
The company posted organic growth of 1.8%, which was a marked improvement from the previous year. For comparison purposes, the first, second, third and fourth quarters saw a decline in organic growth of 3.3%, 8.6%, 24% and 1.1%.
U.S. growth was solid at 5.2%, but international was the real bright spot as sales improved more than 15%. Pricing remains an issue, acting as a 0.9% headwind, but company-wide volume growth was higher by 2.7%.
By business, organic growth for Orthopaedics fell 0.7% due to fewer elective procedure. Knees and hips, down 4.5% and 2.2% respectively, turned in a much better performance than prior quarters. Again, these businesses were very weak last year as elective surgeries, like knee and hip replacements, were postponed. Trauma and extremities performed quite well, due in large part to the addition of Wright Medical. The Mako robotic drove a 49% increase in Other Ortho.
MedSurg fell 1.6%. The company continues to see strength in its waste management, smoke evacuation products and services business, but this has been more than offset by fewer surgical procedures. Sales of U.S. instruments were down 3% and endoscopy was lower by almost 6%. On the plus side, video and sports medicine was up double digits. International results were much better, with nearly 20% organic growth as Australia, Canada, Europe and Japan all had higher demand for medical, endoscopy and instrument products.
Neurotechnology and Spine was up 11.3%, making this segment the best-acting one in the first quarter. Interventional spine, neurosurgical and ear-nose-throat businesses all had at least 10% growth. Power drills, forceps and nasal implants were among the products experiencing increased demand.
Stryker revised its guidance for the year as well with the company expecting organic growth of 12% to 14% compared to 2020. Admittedly, this is a rather easy hurdle to clear since business was down so much last year. Looking deeper, we see that leadership expects the current year to be even better than pre-pandemic results. Compared to 2019, organic growth is expected to be 8% to 10%, slightly above the company's long-term average rate.
The company also raised its guidance for adjusted earnings per share to a range of $9.05 to $9.30, up from $8.80 to $9.20 previously. At the midpoint, this would represent a nearly 24% increase from 2020 and an 11.1% improvement from 2019.
Takeaways and catalysts for growth
Not yet at normalized levels, Stryker's organic growth is at least positive now. The company is definitely benefiting from weaker comparables for last year. However, first-quarter revenue was up 12.4% and organic growth improved 4.7% from the same period in 2019, so recent results were better than a normal year for the company.
Knee and hip replacements suffered a severe drop off in 2020 due to the postponement of elective surgeries. This business was the most impacted by Covid-19 last year.
Long term, Stryker is in a very sweet spot for its industry. The percentage of people worldwide above the age of 65 is expected to grow to 16% by 2050 up from 9% last year. This will lead to a growing demand for many of the products that Stryker offers. For example, total hip and knee replacements are each projected to grow by almost 200% through 2030.
Stryker's technology often outshines the competition, it is one reason that prior to last year the company had an average organic growth rate of 6.4% for the previous four years compared to the industry average of 4.2%.
A good example of Stryker's technology that is poised to capitalize on the growing demand for surgical procedures is its Mako surgical robot. Mako continues to enjoy solid growth rates in the total number of procedures performed, up double digits from 2019. Leadership stated on the conference call that the number of knee and hip procedures that took place using Mako picked up in March and had accelerated in the beginning of April.
While the company no longer breaks out its total Mako base, Stryker did have more than 1,100 robots installed as of the fourth quarter of 2020. The company believes the market for robotic surgeries is vast, with the possibility of 4,500 robots worldwide. More surgeons are becoming comfortable using a robot to perform hip and knee replacements, which will likely be a positive for demand for Mako.
Stryker also has a habit of making strategic acquisitions that help expand its market share in an area of care or create a foothold in a market that it doesn't yet operate.
For example, Stryker purchased Entellus Medical at the end of 2017 as the company was a leading operator in the ear, nose and throat specialty. Prior to this, Stryker lacked a presence in this market. As stated above, ENT was one of the best-performing businesses last quarter for the company.
More recently, Stryker closed on its acquisition of Wright Medical Group in late 2020 in a move that bolstered the company's trauma and extremities business. Again, trauma and extremities were a highlight for the company. In total, acquisitions added 6.2% to reported sales growth in the first-quarter.
Dividend and valuation analysis
The combination of core business and acquisitions related growth has worked out well for shareholders both on a share price return basis, but also with regards to the company's dividend growth.
Following a 10.6% increase for the Jan. 31 payment, Stryker has raised its dividend for 26 consecutive years, qualifying the company as a Dividend Aristocrat.
Shares offer a dividend yield of just 1% at the moment, but the low yield isn't due to minimal dividend growth on the company's part. Stryker's dividend has a compound annual growth rate of 12.1% since 2011.
The expected payout ratio is just 27% using the annualized dividend of $2.52 and the midpoint for adjusted earnings per share guidance of $9.18. Stryker has typically had a low payout ratio, but the projected ratio is below even the 10-year average of 34%.
The free cash flow payout ratio is also on the lower end as well. Last year, Stryker distributed $863 million of dividends while generating free cash flow of $2.8 billion for a payout ratio of 31%. The prior three years had an average free cash flow payout ratio of 47%.
Stryker closed Thursday's trading session at $250, resulting in a forward price-earnings ratio of 27.2. This is a premium to the stock's five-year price-earnings ratio of 25.6, but doesn't put shares at an unreasonable overvaluation relative to its history.
Final thoughts
Prior to 2020, Stryker had produced revenue growth for 40 consecutive years. It took a pandemic to end that streak, which speaks to the strength of the company's business model. A business model that leadership clearly believes will rebound in 2020.
Stryker is usually among the leaders in its industry in terms of organic growth and has not been shy about making bolt-on acquisitions to augment its core business.
The dividend has compounded at a double-digit rate for the past decade and still has a very healthy dividend payout ratio.
With a business model that will be in an advantageous position to capture growth in the medical device industry for years to come, a low payout ratio and a double-digit dividend compounded annual growth rate, Stryker is an excellent pick for those investors looking for dividend growth.
Disclosure: The author has a long position in Stryker.
