Medtronic vs. Johnson & Johnson: Meet the Market's Biggest New Rivalry

Medtronic's earth-shaking buy of rival medical device leader Covidien for nearly $43 billion this week didn't just add a new arsenal of products and cash flows to the company's portfolio; the deal also rocked the med-tech landscape. Smaller and mid-sized device makers are facing a revamped and stronger industry leader at a time when consolidation and leverage over cost-conscious hospitals is the name of the game.

But it's not just smaller companies feeling the heat from Medtronic's deal. The addition of Covidien to the ranks of the world's largest pure medical-device player ramps up the competition between Medtronic and med tech's overall largest company by revenue, Johnson & Johnson . Medtronic's in prime position to challenge Johnson & Johnson for years now; but in light of the Covidien acquisition, which stock is the best bet for the long run?

Evening up the medical device race

Medtronic's Evera Implantable Cardioverter Defibrillator. Source: Medtronic image gallery.

Medtronic and Johnson & Johnson haven't been the fiercest of med-tech rivals lately. The former's biggest business is in cardiac devices. Overall, Medtronic made more than 50% of its sales in its most-recent quarter from its Cardiac and Vascular Group. Unfortunately, that core cardiac-device business has seen struggling growth as of late, particularly as tough competition among lead cardiac-tech companies has led to pricing pressure. Medtronic's division managed 1% sales growth in its most-recent quarter, and rivals have been hit even harder by the industry's sluggishness. While Johnson & Johnson also boasts a cardiovascular-care division, it accounted for less than 10% of the company's medical-device sales in its most-recent quarter.

J&J's bread and butter in devices is orthopedics, a group brought into the fold by the company's purchase of Synthes for more than $21 billion back in 2011. That orthopedics segment reeled in more than 34% of J&J's overall med-tech sales in its most-recent quarter. Meanwhile, the orthopedics sector has performed well enough for investors: J&J's own orthopedics division recorded limited 1.5% sales growth in its most-recent quarter. Rivals, however, have seen greater gains. Stryker, another major player in orthopedics, recorded nearly 6% sales growth overall in its reconstructive business in its most-recent quarter. Still, unless J&J can ramp up growth, it's not a clear-cut advantage for the stock over Medtronic's own core business.

Cardiac devices might have Medtronic's growth in a slump, but Covidien's arrival will add much-needed firepower to its portfolio. In its acquisition, Medtronic spread its reach further across the device industry. Covidien racked up more than $1.2 billion in revenue in its most-recent quarter from sales of surgical products. That business is more than three times the size of Medtronic's existing Surgical Technologies division, and adds some serious scale to the company's portfolio in a growing market.

That's a big concern for Johnson & Johnson. J&J's own surgical-care division was its second-largest device business by sales in its most-recent quarter, and dwarfed Medtronic's own unit before the buy, and its specialty surgery unit ranked third in terms of sales. However, Medtronic's surgical sales combined with Covidien's stand much closer in terms of revenues and size with J&J's, putting the two companies on much more even footing. Expect the two companies to fight hard for market share in the coming years; but for now, J&J will need to find new ways to keep up its 4% sales growth in its specialty surgery group, and take advantage of the time it will take for Medtronic to integrate Covidien's assets fully.

Medtronic's boost in size and breadth will put it on even footing against J&J in another big way, however: negotiating with budget-conscious hospitals that are looking to save money in an era of pricing pressures. Health-care reform and shifting reimbursement payouts have made hospitals wary of rising costs, and the ability to consolidate purchases at fewer overall suppliers will help keep budgets down in the long run. That's huge news for the biggest players in the game, and Medtronic and J&J are in the two best spots to take advantage.

Where Johnson & Johnson pulls ahead
While J&J's orthopedics growth isn't advancing quite as fast as investors may like, the company has its biggest advantage over Medtronic still up its sleeve: Unlike its newest rival, J&J's much more than just a med-tech company. J&J's thriving pharmaceutical division has delivered growth on a scale that Medtronic simply can't replicate in the near future. Up-and-coming drugs, such as oncology blockbuster Zytiga, which recorded more than 48% sales growth in its most-recent quarter after putting up full-year revenue of $1.7 billion last year, and ballyhooed type-2 diabetes drug Invokana, which analysts believe should emerge as a blockbuster in the near future, offer J&J a critical edge for investors that Medtronic lacks.

Medtronic's Restore neuromodulation sensor. Source: Medtronic image gallery

While pharmaceuticals offer a certain level of volatility, as well -- as seen in the recent patent cliff's withering effects on sales at select big pharma companies -- J&J's top drug, immunology therapy Remicade, continues to hum along at a steady pace, even if its overall growth has dropped off. Medtronic has its own up-and-coming growth niches, such as atrial fibrillation and neuromodulation -- and the latter accounted for more than 10% of the company's overall sales in its most recent quarter at revenue growth of 7% -- the company's concentration in medical devices hurts its growth potential when compared against Johnson & Johnson's overall portfolio. Covidien's acquisition won't help growth considerably in the near term, either, as only one of the company's businesses saw more than 4% revenue growth in its most-recent quarter.

J&J also has a slight edge in another crucial area: dividends. Both Medtronic and J&J are members of the S&P dividend aristocrats, stocks that have raised their dividends in each of at least the last 25 consecutive years. But J&J has the slight edge in terms of yield, offering a 2.7% yield versus Medtronic's 1.8% dividend. However, given the size and strong cash flows at both these companies, along with their outstanding dividend track records, neither is in danger of halting those increases in the foreseeable future.

Both companies offer great dividends, strong cash flow, and strong businesses -- the foundations for the top stocks on the market. It's true: Medtronic and J&J are both amazing picks for any investor looking for strong, reliable picks for the long run. However, J&J, with its surge in pharmaceutical growth recently, along with its slow-but-steady consumer-products division, boasts an extra edge that Medtronic lacks, particularly in terms of growth. Johnson & Johnson's sheer breadth, however, not just across medical devices, but health care at large, and its growth prospects and higher dividend yield, make this an unbeatable stock for any investor.

Medtronic and Johnson & Johnson: The market's best dividend duo?
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Dan Carroll has no position in any stocks mentioned. The Motley Fool recommends Covidien and Johnson & Johnson. The Motley Fool owns shares of Johnson & Johnson and Medtronic. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

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