Biomet ( BMET) is replacing more than worn-out joints these days. The company announced on Monday that it will be seeking a new leader following the sudden resignation of founding CEO Dane Miller. During Miller's 29 years at the helm, Biomet has evolved into the fourth-largest supplier of artificial joints -- with nearly $2 billion in annual sales -- but currently finds itself in the midst of an industrywide slowdown. Biomet and its larger competitors, Zimmer ( ZMH) and Stryker ( SYK), face mounting pressures from hospitals that are seeking to bring high implant costs under control. Biomet has so far refused to slash its own prices but has posted disappointing results nonetheless. Miller now appears to be taking the fall for the company's lackluster performance. "After much reflective thinking, I have made the difficult and personal decision to welcome my retirement," Miller said during a brief conference call on Monday. But "I'm not out of the game, he added. "I'm just sitting on the bench beside our new coach." Miller, 60, will continue to serve Biomet as a director and a consultant. Meanwhile, general counsel Daniel Hann will step in as Miller's temporary replacement. Wall Street welcomed the news, pushing shares of Biomet up 3.4% to $35.50 on an otherwise tough day for the group. Biomet never opened the floor up for questions during the conference call it hosted to explain Miller's departure. However, analysts assumed that Miller had been pushed out by the board following a string a quarterly misses and -- with no firm succession plan in place -- suggested that the company could soon be in play as a result. SG Cowen analyst Dhulsini de Zoysa was among those who seemed pleased to see Miller go. The analyst, whose firm seeks to do business with the companies it covers, currently has a neutral rating on Biomet's stock.
"Dr. Miller's dry wit and plainspoken character have made a strong impression on investors over the years," de Zoysa admitted on Monday. "But we have been quite critical of Dr. Miller's leadership. His Ph.D. engineering background was not always well-suited to the CEO's office, (and) communication with investors has been unreliable over the years. ... We believe Biomet needs a Street-savvy CEO." If so, Biomet may need to search outside its own ranks. After all, de Zoysa points out, the company has already looked past its CFO and two operating chiefs -- settling on its top lawyer instead -- when filling the post for the time being. But Merrill Lynch analyst Katherine Martinelli portrays Hann as a "results-oriented" executive who, in fact, may prove to be the right person for the job. "Hann is well respected internally at Biomet," Martinelli wrote on Monday. "And we suspect the board could look to make the change permanent, recognizing that his 'grace period' may be truncated as we believe the board's patience is limited in light of the significant underperformance of the stock." Martinelli downgraded Biomet from buy to neutral less than a week ago, following the latest quarterly disappointment from the company. Given Biomet's recent track record, Martinelli has come to favor the company's larger competitors instead. "Although we are encouraged by the solid reconstructive implant results and evidence of improving expense controls, top- and bottom-line results continue to underwhelm," Martinelli wrote last week. Thus, "with upside to consensus EPS expected for Zimmer, and Stryker expected to benefit from new product launches, we believe these stocks represent a more favorable risk/reward profile."
Double DowngradeBut a competing analyst followed up by downgrading both Zimmer and Stryker from overweight to neutral on Monday. Michael Weinstein of JP Morgan offered multiple reasons for his cautious view on the stocks. With industry growth still slowing, Weinstein notes, Zimmer and Stryker could fail to meet first-half sales targets even if they manage to hit -- or exceed -- profit goals for that period. Going forward, he says, the companies face easier second-half comparisons but still have to see organic growth accelerate in order to meet their current forecasts. In the meantime, he says, the companies face an absence of positive catalysts that could drive their stocks higher right now. Indeed, he concludes, they could see a negative development put pressure on their shares instead.
Specifically, he suggests, the Centers for Medicare and Medicaid Services could soon overhaul its reimbursement system and hurt orthopedic device makers in the process. "Over the past five years, while the industry has been raising prices and benefiting from an upgrade in mix, (Medicare) reimbursement for hip and knee procedures has been rising at roughly a 2% rate," Weinstein noted. "Implant costs at hospitals have obviously been rising much faster than that, thus the squeeze on hospital margins. But what happens if CMS -- instead of raising reimbursement by 2% to 3% a year -- elects to cut reimbursement for orthopedic surgery, along with other traditionally high-volume profitable surgeries, to rebalance or redistribute payments within the system away from surgery and towards medical care?" Congress has, in fact, already started pushing for such changes to the current payment system. Weinstein expects more color on the matter over the next few weeks. But for device makers, he fears, the picture may not be pretty in the end. "The lowering of reimbursement would in turn (1) make it increasingly difficult for hospitals to assess the profitability of various procedures," he writes, "and (2) compel hospitals to pursue a more aggressive stance on supply cost inflation -- meaning greater pressure on device mix, utilization and price" going forward. In the meantime, both Zimmer and Stryker took a hit on Monday. Zimmer dropped 4.1% to $65.71. Stryker lost even more ground, falling 5.8% to $44.70.