ModernGraham Valuation: Medtronic, Inc. (MDT)

moneyCompany Profile (obtained from Google Finance): Medtronic, Inc. (Medtronic), is engaged in medical technology. As of April, 27, 2012, the Company functions in two operating segments that manufacture and sells device-based medical therapies. The Company’s operating segments include Cardiac and Vascular Group, which consists of Cardiac Rhythm Disease Management (CRDM) and CardioVascular, and Restorative Therapies Group, which consists of Spinal, Neuromodulation, Diabetes and Surgical Technologies. Medtronic serves hospitals, physicians, clinicians, and patients in more than 120 countries worldwide. The Company’s primary customers include hospitals, clinics, third-party health care providers, distributors, and other institutions, including governmental health care programs and group purchasing organizations. In August 2013, Medtronic, Inc. announced the closing of the acquisition of Cardiocom. Effective September 3, 2013, Medtronic Inc acquired a 30% stake in NGC Medical SpA.

Defensive and Enterprising Investor Tests (What is the significance of these tests, and what is PEmg ratio?):

Defensive Investor – must pass at least 6 of the following 7 tests: Score = 6/7

  1. Adequate Size of Enterprise – market capitalization of at least $2 billion – PASS
  2. Sufficiently Strong Financial Condition – current ratio greater than 2 – PASS
  3. Earnings Stability – positive earnings per share for at least 10 straight years – PASS
  4. Dividend Record – has paid a dividend for at least 10 straight years – PASS
  5. Earnings Growth – earnings per share has increased by at least 1/3 over the last 10 years using 3 year averages at beginning and end of period – PASS
  6. Moderate PEmg ratio – PEmg is less than 20 – PASS
  7. Moderate Price to Assets – PB ratio is less than 2.5 or PB x PEmg is less than 50 – FAIL

Enterprising Investor – must pass at least 4 of the following 5 tests or be suitable for a defensive investor: Score = 5/5

  1. Sufficiently Strong Financial Condition, Part 1 – current ratio greater than 1.5 – PASS
  2. Sufficiently Strong Financial Condition, Part 2 – Debt to Net Current Assets ratio less than 1.1 – PASS
  3. Earnings Stability – positive earnings per share for at least 5 years – PASS
  4. Dividend Record – currently pays a dividend – PASS
  5. Earnings growth – EPSmg greater than 5 years ago – PASS

Valuation Summary (Explanation of the ModernGraham Valuation Model)

Key Data:

MG Value $76.87
MG Opinion Undervalued
Value Based on 3% Growth $49.06
Value Based on 0% Growth $28.76
Market Implied Growth Rate 4.20%
Net Current Asset Value (NCAV) $1.76
PEmg 16.90
Current Ratio 3.54
PB Ratio 3.05

Balance Sheet – 10/31/2013 

Current Assets $19,483,000,000
Current Liabilities $5,496,000,000
Total Debt $9,637,000,000
Total Assets $36,468,000,000
Intangible Assets $13,072,000,000
Total Liabilities $17,724,000,000
Outstanding Shares 998,350,000

Earnings Per Share

2014 (estimate) $3.82
2013 $3.37
2012 $3.22
2011 $2.86
2010 $2.79
2009 $1.93
2008 $1.95
2007 $2.41
2006 $2.09
2005 $1.48
2004 $1.60
2003 $1.3

Earnings Per Share – Modern Graham 

2014 (estimate) $3.38
2013 $3.05
2012 $2.78
2011 $2.50
2010 $2.30
2009 $2.02

Conclusion:

From a fundamentals side of things, Medtronic is an outstanding company.  In fact, the only requirement of either the Defensive Investor or the Enterprising Investor that the company does not fulfill is the requirement that the PB ratio be less than 2.5.  Every other requirement, from a strong dividend history to a strong current ratio, is fulfilled and the company is therefore suitable for either investor type.  From a valuation standpoint, the company is also very attractive and appears to be undervalued at the current time.  EPSmg (normalized earnings) have grown from $2.02 in 2009 to an estimated $3.38 for 2014, and while this is not a huge level of growth, it outpaces the market’s current implied estimate of 4.2%.  In addition, the earnings growth has been very consistent, rising by around thirty cents each year, which is a very nice thing to see (consistency is a key ingredient in successful investing).  Defensive Investors and Enterprising Investors should feel very comfortable continuing with further research, perhaps beginning with a review of ModernGraham’s Valuation of Johnson and Johnson.

What do you think?  Do you agree that Medtronic, Inc. is undervalued?  Is the company suitable for Defensive Investors and Enterprising Investors?  Leave a comment or mention @ModernGraham on Twitter to discuss.

If you like our valuations, why not check out ModernGraham Stocks & Screens?  It’s a great way to review the valuations while screening for things like low PE ratio, undervalued companies, etc.!

Disclaimer:  The author did not hold a position in Medtronic, Inc. (MDT) at the time of publication and had no intention of entering into a position within the next 72 hours.

Photo Credit:  Andrew Magill


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8 responses to “ModernGraham Valuation: Medtronic, Inc. (MDT)”

  1. j_w_thompson98 Avatar

    I have a general valuation question, not necessarily limited to Medtronic. MG value above is $76.87, which on the surface seems high compared to the value I get using a “Buffet” method. What would explain this difference? I am not challenging the MG value, just trying to understand it.
    Buffet’s method, as I comprehend it, calculates intrinsic value of a company by taking the FV (discounted free cash follows) for an indefinite period of future time (essentially eternity); whereas, Modern Graham bases value on EPSmg. Again, as I understand, Buffet avoids EPS because it can be manipulated (at least in the short term); while free cash flow is a better gauge of value. Depending upon the discount rate I use (5% to 10%) in an Excel formula, the FV calculation using free cash flow gives Medtronic a per share intrinsic value of $30.00 to $40.00 assuming 5% annual growth. Where have I run off the road?

    1. Benjamin Clark Avatar

      Great question!

      ModernGraham uses a formula from Benjamin Graham’s classic book The Intelligent Investor. Graham taught Warren Buffett in Buffett’s early years, but Buffett over time diverged from Graham in a number of ways. One way is what you’ve noticed, the valuation system. Graham’s formula was Value = EPS x (8.5 + 2g). You’re correct that EPS can be manipulated a bit in the short term. However, one way we address that issue is by using a normalized EPS figure, which we call EPSmg. In addition, we use a significant safety margin: to receive a rating of undervalued, a company must be trading at less than 75% of its calculated intrinsic value. Further, the growth rate used is also limited to 75% of the actual growth rate seen, and capped at 15% annually. This safety margin along with the Defensive Investor and Enterprising Investor requirements helps to eliminate the risk inherent in using EPS.

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