Analysing developments at Cochlear
Disappointing news from Cochlear (COH) this week. Following weak 2nd half sales, the company announced that it expected FY13 NPAT to fall between $130 and $135m – a large step down from what broking analysts had expected.
In a brief announcement, COH indicated that the result reflected customer anticipation of the new Nucleus 6 processor, as well as slower growth in the US market.
Historically, COH has experienced a decline in sales ahead of significant new product launches, as potential customers wait for the new product to become available. Of itself, this is not a problem. However, the scale of the earnings surprise (prior to the announcement, the broker community was anticipating $155m) seems too big to be explained by this alone.
There are perhaps half a dozen plausible explanations that could be put forward to explain the shortfall, but until we see the detail of the results, and can better understand what is temporary and what is permanent, it is difficult to accurately gauge the impact to COH’s valuation. One of the central issues however is clear, and the following points are relevant:
• COH has enjoyed a dominant global market position for an extended period of time. Its market share in recent years has been close to 70%.
• It has sustained this position through outstanding technology, know-how and reputation, and has invested heavily to defend it.
• At this level of market share, COH has limited room to grow and significant scope to lose share, should competitors manage to close the technology and reputation gap.
• The largest competitor – Advanced Bionics/Sonoma – has recently launched new products, which we understand have been well-received. This marks an improved standing in the market for Sonoma, whose reputation has previously suffered due to several product recalls, some of which were safety related.
Ultimately, COH’s value is driven by its ability to maintain a clear lead over rivals in terms of what it can offer customers. If COH’s soon-to-be-launched Nucleus 6 is sufficiently far ahead of competing products, the recent selloff may prove to be significantly overdone. If, on the other hand, Sonoma has now put its reliability issues behind it, and lifted its game to COH’s level, then sustained top line growth for COH will be harder to come by.
Tim joined Montgomery in July 2012 and is a senior member of the investment team. Prior to this, Tim was an Executive Director in the corporate advisory division of Gresham Partners, where he worked for 17 years. Tim focuses on quant investing and market-neutral strategies.
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