TOP CONTRIBUTORS

William Raasch

KCI AT A GLANCE

P/E ► 11.4 LOW EV/EBITDA ► 6.70 AVG ROA ► 10.7% AVG ROE ► 22.4% AVG Debt to Equity ► 1.73 VERY HIGH Current Ratio ► 2.12 AVG Interest Coverage Ratio ► 3.85 AVG

 

 

 

 

 

 

Kinetic Concepts, Inc. (NASDAQ: KCI) is a medical technology company that makes V.A.C.® Therapy, a bedside instrument that uses sub-atmospheric, or "negative" pressure, to promote wound healing. This platform constitutes 80% of the company's sales and makes KCI the second largest in the advanced wound care market (by market share).^[1]

KCI also has the largest market share in the therapeutic support and regenerative medicine markets.^[2] The company's therapeutic support systems are designed to address pulmonary complications associated with immobility, to reduce skin breakdown in hospitalized patients, and assist caregivers in the handling of obese patients. KCI entered the regenerative medicine market with its acquisition of LifeCell Corporation on May 19, 2007 for $1.7 billion.^[3]

KCI has increased its market share in wound care through both geographic and market expansion. Advanced wound care sales rose after KCI obtained Medicare reimbursement for V.A.C. Therapy for home use in addition to acute hospital care.^[4] In addition, KCI has several wound care pipeline products for treating severe and surgical wounds due in 2009 and 2010.^[5] Currently based mostly in North America, KCI has announced plans to expand its products into the Eastern European and Asian markets.^[6]

KCI's 2007 acquisition of LifeCell has also been a significant development in its strategy. LifeCell is a regenerative medicine company that produces skin-based matrixes that promote tissue healing after severe wounds or surgeries.^[7]

Corporate Overview

Business Financials

2005-07 Revenue and Net Income with Operating Margin for KCI.^[8]

2004-07 Breakdown of KCI's Revenue for V.A.C. and TSS product lines.^[9]

From 2005 to 2007 KCI's revenue increased from $1.2 to $1.6 billion, while net income increased from $122 to $237 million for compound annual growth rates (CAGRs) of 15% and 45%, respectively. This corresponds to a growth in operating margin from 9.3% in 2005 to 14.7% in 2007. KCI attributes this growth to increased market penetration, especially with the V.A.C.® Therapy technology, improved revenue realization levels and increased sales force and service productivity.^[10]

KCI derives its revenue primarily from its V.A.C.® Therapy technology and its Therapeutic Support Systems product lines. From 2004 to 2007, revenue from V.A.C.® Therapy increased from $700 to $1,280 million while revenue from the Therapeutic Support Systems increased from $293 to $331. These represent CAGRs of 22% and 4%, respectively.^[11]

In this same time period, KCI has increased its cash from $123 to $266 million for a CAGR of 47%, while decreasing Long-Term debt at an annual average of 52%.^[12] These moves decreased the total debt leverage of KCI (measured at Debt-to-Equity) from 1.36 in 2006 to 0.56 in 2007.^[13] Lowered Debt-to-Equity means that KCI is now better able to meet their financial obligations and is less prone to volatility in interest rates.^[14] In addition, the added cash enables KCI to be more flexible in making investments for future operations.

2005-07 Cash and Long-Term Debt for KCI.^[15]

Major Product Segments

V.A.C.® Therapy technology (79.5% of Revenue^[16])

System on Market

The V.A.C.® Therapy is a bedside instrument that uses sub-atmospheric, or "negative" pressure, to promote wound healing.^[17] The clinical effectiveness of V.A.C.® Therapy has been shown in published studies that reach back to beyond 10 years ago,^[18] and several studies have shown that lower hospital stays and complication rates are associated with use of V.A.C.® Therapy compared to rival systems.^[19] It is KCI's major platform for the $4.5 billion Advanced Wound Care market, in which KCI has the #1 market position.^[20]

In 2000, KCI received Medicare Part B reimbursement coverage for use of the V.A.C.® Therapy system in the home setting of patients, thus increasing the market beyond acute hospital settings.^[21] Since that time, revenue for KCI's V.A.C.® Therapy has increased as KCI has continued to penetrate into the home-use market. During 2007, 2006, and 2005, KCI submitted claims to medicare for $182, $165, and $149 million, respectively for an average annual growth of 28%.^[22]

As of 2008, KCI sells V.A.C.® Therapy systems in the U.S., where its systems address approximately 35% of the 1.5 million acute wounds annually, and in the European Union, where its systems address approximately 13% of the 2 million acute wounds annually.^[23] KCI's strategy to increase revenue centers around increasing market share in these current markets, expanding into Asian markets (around 1.25 million wound market), and expanding the V.A.C.® Therapy market to treat lower acuity wounds (4.5 million) and surgical incision wounds (5.2 million).^[24]

Systems in Pipeline

In 2009 or 2010, KCI plans to release the Negative Pressure Surgical Management (NPSM) systems for aid in surgical incision wound care. The two NPSM systems, SWMS for high-risk surgical incisions and Ab-system for open abdomen procedures, represent markets with potential to expand the V.A.C.® Therapy market by over 10 million wounds, annually.^[25]

Later in 2010, KCI plans to release its next line of Negative Pressure Wound Therapy (NPWT) products. The Futura system is marketed for low acuity wounds that require some, but not all of the functions of the current V.A.C.® Therapy, while the VING system is marketed for wounds that require additional therapy in addition to V.A.C.®.^[26]

Also in 2010, KCI plans to release the TE-Wound and TE-Ortho for soft and hard tissue regeneration, respectively.^[27]

Therapeutic Support Systems (29.5% of Revenue^[28])

KCI's TheraPulse® ATP™ Support System.^[29]

KCI offers a wide array of Therapeutic Support Systems (TSSs), which are essentially medical care beds that provide vital medical support for patients. These TSSs are designed for the wound care, bariatrics, and critical care markets, in which KCI has a #2 (of $1.6 billion), #1 (of $500 million), and #2 (of $350 million) market position, respectively.^[30] These TSSs provide therapy for treatment of pressure sores, ulcers, and other skin conditions that develop in immobilized and hospitalized patients.^[31]

KCI's wound care TSSs include the KinAir and TheraPulse systems, which provide pressure reduction and relief, pulsation, alternating pressure, and continuous turning at a minimum of 20 degrees.^[32] KCI's bariatric TSSs are designed for obese patients who weigh up to 850 pounds. These systems, including the BariAir, AirMaxxis, and BariMaxx, come with patient lifts and transfer systems that ease the necessity to assist these patients.^[33] KCI's critical care TSSs, including the Kinetic Therapy and Prone Therapy products are designed for Intensive Care Unite (ICU) patients. These systems help prevent pulmonary complications in ICU patients and rotate them properly as needed for therapy.^[34]

KCI expects 4-6% annual growth in revenue for TSS systems and plans to expand geographically into Canada and the European Union for its bariatric line and Eastern Europe for all product lines.^[35]

Regenerative Medicine (2007 Acquisition)

KCI's Regenerative Medicine segment, which was acquired when KCI purchased LifeCell Corporation in May of 2007, consists of the AlloDerm and Strattice product lines.

AlloDerm is a matrix manufactured from donated skin tissue that may be applied as a skin graft to promote tissue regeneration in patients.^[36]. AlloDerm has received FDA approval in the U.S., and KCI is seeking CE approval for marketing in the European Union.

Strattice™ is a sterile reconstructive tissue matrix manufactured from pig skin that promotes tissue regeneration. The skin undergoes non-damaging proprietary processing that makes the skin safe for use in humans. Use of pig skin provides KCI with an advantage by freeing it from reliance on donated human tissue for manufacturing. Strattice™ has received both FDA and CE European approval for marketing.^[37]

The regenerative medicine market represents an $800 million opportunity in the United States and a $440 million opportunity in the European Union.^[38] Currently, KCI has penetrated almost 30% of the U.S. market for around $200 million in revenues, giving it the leading market position in regenerative medicine.^[39][40] The major markets in tissue regeneration in the U.S. are hernia repair and breast reconstruction, which are $660 and $140 million markets, respectively.^[41] KCI aims to drive increased penetration into these markets through a conversion from the AlloDerm matrix to the Strattice matrix and expansion into European markets.^[42]

Trends and Forces

The success of the LifeCell acquisition impacts KCI's valuation

On May 19, 2007, KCI completed the acquisition of LifeCell Corporation for $1.7 billion in cash.^[43] LifeCell develops and markets tissue repair products for use in reconstructive, urogynecologic and orthopedic surgical procedures and currently has two major products: AlloDerm and Strattice.^[44] Since the time of the acquisition, KCI's share value has fallen 50% from $40.71 to $21.25 per share^[45]. While drops in share price typically follow major acquisitions, this phenomenon reflects the risk inherent in such acquisitions. In a 2006 survey by Accenture of company executives, less than 50% said that their most recent deals achieved the expected cost-saving synergies.^[46]

The ability of KCI to integrate LifeCell's company into its infrastructure and LifeCell's product line into its core portfolio impacts KCI's bottom line and future valuation.

KCI's revenue model is affected by the new medicare competitive bidding program

On April 2007, the Centers for Medicare and Medicaid Services (CMS) issued a final rule to establish a Competitive Bidding Medical Reimbursement program for a class of medical devices that includes KCI's products. This new rule splits geographic regions into ten competitive bidding areas (CBAs), in which medical device companies must bid separately for coverage. This rule aims to decrease the tendency of single suppliers to gain nation-wide reimbursement, and enable smaller suppliers to competitively bid the price down in their regions of focus.^[47]

The demand for KCI's products is highly dependent on reimbursement from third party payers such as medicare.^[48] If reimbursement prices are lowered by this new policy, either KCI's margins will be decreased or demand for their products will decrease by pushing more of the price burden onto patients.

Geographic expansion of KCI's products affects its valuation

Much of KCI's strategy for increasing revenue revolves around expanding the market for its products to areas such as Eastern Europe and Asia.^[49] Such an expansion poses both marketing and regulatory risks for KCI. Successful marketing of its products to these new areas, requires overcoming cultural barriers as well as geographic barriers and challenges of setting up new sales forces. In addition, KCI's products must be approved by the regulatory agencies of each country before they are marketed. Whether KCI is able to successfully expand into these regions and attain market share affects its valuation.

The success of KCI's new V.A.C.® products affects its valuation

KCI has several new V.A.C.® products in its pipeline that are due for release in 2009 and 2010.^[50] In order to be cleared for marketing, these products must receive clearance from the Food and Drug Administration (FDA) that they are safe and effective enough to use in clinical care. If approval is granted, KCI will face further hurdles in establishing its new products in markets that are currently not covered by its sales force (surgical wound repair and non-acute wounds). KCI's ability to get its new products approved for marketing and establish these products in their new markets impacts its valuation.

Competition

Advanced Wound Care and Therapeutic Support Systems

KCI's V.A.C.® Therapy systems compete with wound care dressings, skin substitutes, and other medical devices that promote wound healing.^[51] The entire wound care market is estimated to be around $13 billion.^[52] Key competitors to KCI include Johnson & Johnson (JNJ), Hill-Rom, Covidien Ltd. (COV), Smith & Nephew SNATS (SNN), and ConvaTec.

Market Share for KCI

References

1. ↑ KCI: NPWT and V.A.C.® Therapy
2. ↑ KCI Analyst Day '08: Strategic Overview, p.14
3. ↑ Reuters: Kinetic Concepts Inc. To Acquire LifeCell for $1.7 Billion in Cash
4. ↑ KCI 10K Annual Report, FY 2007, p.16.
5. ↑ KCI Analyst Day '08: Strategic Overview, p.34
6. ↑ KCI Analyst Day '08: Strategic Overview, p.28
7. ↑ LifeCell: Company Profile
8. ↑ KCI 2007 Annual Report, p.2
9. ↑ KCI 2007 Annual Report, p.21
10. ↑ KCI 2007 Annual Report, p.26
11. ↑ KCI 2007 Annual Report, p.21
12. ↑ KCI 2007 Annual Report, p.7
13. ↑ KCI 2007 Annual Report, p.38
14. ↑ Investopedia: Leverage Ratio
15. ↑ KCI 2007 Annual Report, p.7
16. ↑ KCI 2007 Annual Report, p.23
17. ↑ KCI: NPWT and V.A.C.® Therapy
18. ↑ V.A.C.® Therapy Clinical Journal Abstracts Page
19. ↑ V.A.C.® Therapy: Economic Value
20. ↑ KCI Analyst Day '08: Strategic Overview, p.14
21. ↑ KCI 10K Annual Report, FY 2007, p.16.
22. ↑ KCI 10K Annual Report, FY 2007, p.72.
23. ↑ KCI Analyst Day '08: Strategic Overview, p.28
24. ↑ KCI Analyst Day '08: Strategic Overview, p.28
25. ↑ KCI Analyst Day '08: Strategic Overview, p.34
26. ↑ KCI Analyst Day '08: Strategic Overview, p.34
27. ↑ KCI Analyst Day '08: Strategic Overview, p.34
28. ↑ KCI 2007 Annual Report, p.23
29. ↑ TheraPulse® ATP™
30. ↑ KCI Analyst Day '08: Therapeutic Support Systems, p.2
31. ↑ KCI 10K Annual Report, FY 2007, p.6.
32. ↑ KCI 10K Annual Report, FY 2007, p.13.
33. ↑ KCI 10K Annual Report, FY 2007, p.12.
34. ↑ KCI 10K Annual Report, FY 2007, p.7.
35. ↑ KCI Analyst Day '08: Therapeutic Support Systems, p.6
36. ↑ LifeCell: AlloDerm Defined
37. ↑ Strattice
38. ↑ Analyst Day '08: Regenerative Medicine, p.4
39. ↑ KCI Analyst Day '08: Strategic Overview, p.7
40. ↑ Analyst Day '08: Regenerative Medicine, p.5
41. ↑ Analyst Day '08: Regenerative Medicine, p.6
42. ↑ Analyst Day '08: Regenerative Medicine, p.5
43. ↑ Reuters: Kinetic Concepts Inc. To Acquire LifeCell for $1.7 Billion in Cash
44. ↑ LifeCell: Company Profile
45. ↑ KCI WikiChart
46. ↑ Accenture Newsroom: Executives Report that Mergers and Acquisitions Fail to Create Adequate Value, June 2006.
47. ↑ CMS: FINAL RULE (CMS 1270-F)
48. ↑ KCI 10K Annual Report, FY 2007, p.17.
49. ↑ KCI Analyst Day '08: Strategic Overview, p.28
50. ↑ KCI Analyst Day '08: Strategic Overview, p.34
51. ↑ KCI 10K Annual Report, FY 2007, p.14.
52. ↑ Kalorama Information: World Wound Care Market: May 2008, p.83
53. ↑ Kalorama Information: World Wound Care Market: May 2008, p.83