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Need Defense? Think Medical Supplies

Conventional wisdom says investing in health care is a smart way to defend against tough economic times.

These days, however, purchasers of many defensive stocks, from major pharmaceuticals to large biotechs to big-name device makers, are suffering from offensive returns.

Still, there's an island of cheer amid this medical malaise. When it comes to a good defense, you can't beat catheters, syringes, needles, instruments and hospital supplies. In other words, you can't beat companies like C.R. Bard (BCR) and Becton Dickinson (BDX).

Many analysts forecast a continuing, comparatively strong showing for these firms and some of their peers. "Historically, falling interest rates and decelerating corporate profits bode well for defensive med-tech stocks, as does a weaker dollar," says a recent analysis by JPMorgan.

There's a tortoise-and-hare quality to Bard and Becton Dickinson vs. major drugmakers such as Merck (MRK) or large biotechs like Amgen (AMGN).

The latter companies have enjoyed jackrabbit stock gains when they produce blockbusters, but all have slumped when something went wrong in clinical testing, in the marketplace or with regulators.

With Bard and Becton Dickinson, slow and steady wins the race. Because they make many products, they can better absorb disappointments, setbacks and even recalls.

For the 12 months ended April 2, Bard was up 22%, and Becton Dickinson gained 15%. The S&P 500 was down 8%, while the Amex indices for both large drugmakers and major biotechs lost 12%.

During this period, Bard and Becton Dickinson easily outscored device-makers such as Medtronic (MDT) and Boston Scientific (BSX). Although they also sell many products, the device makers have soared and sagged with their respective signature devices -- implantable cardioverter defibrillators and drug-coated cardiac stents.

For the five years ended April 2, the slow-but-steady crowd produced even better stock results. Becton Dickinson gained 170%. On a split-adjusted basis, Bard was up about 200%, or four times the growth rate of the S&P 500 and nearly double the gain of the Amex Biotech Index. The Amex big-drug index barely broke even. Medtronic was narrowly in the black, while Boston Scientific was in the red.

Tough Competition

Bard, Becton Dickinson and their peers battle on many treatment fronts, including urology, diabetes, hernia repair, circulatory system problems and cancer care, as well as drug-delivery products and general surgical supplies. Competitors can be small companies focusing on few treatment areas, or health care conglomerates such as Johnson & Johnson (JNJ) and Baxter International (BAX).

Because of the commodity-like nature of many products and the maturing of U.S. markets in certain treatment areas, Bard and Becton Dickinson have succeeded by improving old products, finding new markets and diversifying.

"In the rapidly evolving medical-device field, continuing innovation is the key to prolonged success, as differentiation advantages erode quickly and rivalries intensify," says Alex Morozov of the independent research firm Morningstar, in a recent report.

Diversification has obvious benefits, but it also holds risks, because efforts to develop more complex, higher-margin products could backfire, analysts say. Becton Dickinson, for example, entered the blood-glucose monitor field in 2003 and quit three years later.

Wall Street also wonders whether the hospital-supply companies can sustain or improve their growth rates or whether their current share prices have outpaced their fundamentals. Bard, which has a market capitalization of $9.9 billion, has a buy-hold ratings ratio of 3-to-7, according a Thomson First Call poll of analysts. Becton Dickinson, whose market cap is $21 billion, has a buy-hold ratio of 6-to-5.

Becton Dickinson's path to continued growth depends partly on its ability to sell traditional surgical products in "rapidly growing European and Asian markets," says Morozov, in a research report. But the biggest source of growth will be its roster of products used in pharmaceutical and biotech R&D and its diagnostics business. In recent years, Becton Dickinson acquired two small companies to improve the diagnosis of cancer and drug-resistant bacterial infections.

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