Should You Buy It? Kinetic Is a Healthy Choice

Kinetic Concepts(KCI Quote) offered on Monday to buy LifeCell(LIFC Quote) and its tissue regeneration technology for $1.7 billion.

The purchase represents a new market for Kinetic Concepts, which was previously known for making hospital beds and other specialized products, like its vacuum-assisted closure (VAC) technology that helps treat wounds for immobilized patients.

The cash purchase equates to $51 a share for LifeCell, representing an 18% premium. Kinetic management believes the deal will significantly add to the company's earnings by 2010.

But that's two years away -- what are the stock's prospects in the near term? I'm here to answer that question, along with the most important one: Should you buy shares of Kinetic Concepts? Looking at value stocks is my bailiwick here at TheStreet.com, where I run the Value Investor service. (Click here for a free trial.)

Kinetic Concepts Improves Its Karma

Let's take a closer look at Kinetic Concepts. The acquisition of LifeCell comes at a time when shares of Kinetic Concepts, which closed Wednesday at $47.57, are down some 30% from their 52-week highs. In recent months, Kinetic has battled issues such as increased competition and declining Medicare reimbursement.

So can the acquisition resuscitate Kinetic Concepts' share price? For one thing, LifeCell''s end-market for skin grafting is growing about 25% annually, which is twice as fast as Kinetic Concepts' core hospital bed business.

Both companies offer surgical services, but there isn't that much overlap in their current businesses. For example, LifeCell also has yet to expand its business outside of the U.S., while Kinetic Concepts already generates about 25% of its total revenue internationally. The ability to cross-sell products also should allow the companies to realize operating synergies and reduce redundant expenses.

Kinetic Concepts had about $198 million ($2.75 a share) of net cash on its balance sheet and secured a $1.9 billion secured credit facility to finance acquisition costs. This adds some financial risk to the deal, along with the complications that could arise by integrating the LifeCell business.

Even though the acquisition is not expected to add to earnings for several quarters, Kinetic Concepts remains on track to post a profit of $3.86 a share, up 17% from the previous year. This would mark the fourth straight year that the company has generated double-digit earnings growth.

Yet at the same time, at Monday's closing price of $47.57, the stock is valued at just 12.3 times expected 2008 earnings. At these levels, I believe that shares of Kinetic Concepts are pricing in the added risks of adding debt to the balance sheet and trying to integrate the acquisition.

With that in mind, Kinetic Concepts is attractive to purchase at current levels, as the stock deserves a price/earnings multiple that is more in line with its earnings growth potential. As a result, the shares could trade up toward the high-$50s over the coming quarters.

Kinetic Concepts is not included in TheStreet.com Value Investor model portfolio. David Peltier writes regularly about value stocks, such as Apache(APA Quote), UST(UST Quote) and Walt Disney(DIS Quote) for TheStreet.com.