SAN FRANCISCO--(BUSINESS WIRE)--Voce Capital Management LLC (“Voce”) today sent a letter to the Board of Directors of CONMED Corporation (“ConMed” or the “Company”) (Nasdaq:CNMD), calling for an end to the Company’s subjugation by the Corasanti family and demanding that ConMed pursue strategic alternatives, including a sale of the Company.
The thirteen page letter follows months of detailed research by Voce into ConMed’s operations and prospects, including multiple meetings with the Company. Voce’s letter states that “ConMed is a strategically attractive asset trapped within a dysfunctional public vehicle that will never achieve its potential in current form. [S]hareholders have witnessed years of sub-par operational performance, lethargic leadership and missed opportunities. Serial acquisitions have obscured weak organic growth and provided cover for poor execution. As a result, ConMed today is an overly complex, subscale player surrounded by much larger and more successful competitors.”
Voce believes the multi-generational dominion over ConMed by its founding family has caused this poor performance. It’s been abetted by a toothless Board that has tolerated conflicts of interest and sanctioned the misuse of corporate assets. Voce’s letter continues:
ConMed suffers from a culture of nepotism, patronage and dystopian corporate governance that would be corrosive in a closely-held corporation but which is utterly corrupting in a public company. And therein lies the wellspring for so many of ConMed’s failures: ConMed is unquestionably family-run – the Corasanti clan members pull all the strings and pamper themselves royally – yet it’s not family-owned, as they hold very little of its stock.
Voce notes the Corasanti family collectively owns approximately 2.3% of ConMed’s equity.
Voce’s letter discusses why ConMed is attractive to a wide range of strategic acquirors, including large orthopedic players as well as diversified med-tech companies. Based on its analysis, Voce believes ConMed’s shareholders would likely receive a significant premium, potentially in excess of 50% of the stock’s current value, were the Board to pursue a sale of the Company with the assistance of professional advisors.
Voce’s letter concludes that should ConMed fail to act Voce is preserving the full range of options at its disposal to protect shareholder interests.
About Voce Capital Management
Voce Capital Management LLC is an employee-owned investment manager and the advisor to Voce Catalyst Partners LP, a private investment partnership.
The full text of Voce’s letter follows.
November 4, 2013
Members of the Board of Directors
CONMED Corporation
525
French Road
Utica, New York 13502
Attention: General Counsel
Lady and Gentlemen:
Voce Capital Management LLC (“VCM”) is the investment advisor to Voce Catalyst Partners LP (“VCP” and, together with VCM, “Voce”), a shareholder of CONMED Corporation (“ConMed” or the “Company”).
We appreciate the time management has spent with us beginning in June of this year, including meetings in Utica, San Francisco and New York City. This has assisted us as we’ve analyzed ConMed’s businesses, operations and prospects. The conclusion of our research is that ConMed is a strategically attractive asset trapped within a dysfunctional public vehicle that will never achieve its potential in current form. Your shareholders have witnessed years of sub-par operational performance, lethargic leadership and missed opportunities. Serial acquisitions have obscured weak organic growth and provided cover for poor execution. As a result, ConMed today is an overly complex, subscale player surrounded by much larger and more successful competitors. Its margins and returns are comparatively weak and in long-term decline.
Perhaps most disturbing, ConMed suffers from a culture of nepotism, patronage and dystopian corporate governance that would be corrosive in a closely-held corporation but which is utterly corrupting in a public company. And therein lies the wellspring for so many of ConMed’s failures: ConMed is unquestionably family-run – the Corasanti clan members pull all the strings and pamper themselves royally – yet it’s not family-owned, as they hold very little of its stock. Their hegemony over ConMed could have never occurred without the docile cooperation of the very fiduciaries who were elected to protect shareholder interests: You, its Board of Directors.
* * *
Any analysis of ConMed’s corporate governance must begin with the recognition that, until July of this year, its Board of Directors has been inhabited exclusively by denizens of Utica, New York.1 Lest we receive hate mail from the Utica Chamber of Commerce, we preface our comments with nothing but kind words for this fine burg of 60,000 souls, astride the Mohawk River in central New York. ConMed was founded there in 1973 and it has remained the headquarters since.
Yet the ConMed of today is far different from 40 years ago. As the CEO’s statement on the website proclaims: “Beginning as a small, private company manufacturing ECG monitoring electrodes, we have become a large, publicly held, and diversified medical device organization … with approximately 50% of the Company's revenues generated in the United States and 50% from other world-wide locations.” Unfortunately ConMed’s corporate governance has not kept pace with this evolution.
Given the level of influence wielded by the family, one could be forgiven for thinking that the Company’s name is Corasanti Corporation. ConMed’s patriarch, Eugene R. Corasanti, stepped down as CEO in 2006 after installing his son, Joseph J. Corasanti, Esq., as his replacement. The elder Mr. Corasanti is now 83 years old yet continues as Chairman of the Board, a position he’s held since inception. As Chairman, he’s paid an annual retainer twice what an ordinary director would receive. He simultaneously serves as the Company’s Vice Chairman, pursuant to a separate employment agreement, and receives an additional salary of more than $100,000 per year and equity compensation which in 2012 totaled almost $150,000, for making himself “available to advise the Chief Executive Officer” (i.e., his son). Isn’t that what all directors are supposed to do as part of their job?
But it doesn’t stop there. E. Corasanti is collecting $3.7 million of deferred compensation as if he had retired in 2006, even though as a current employee of the Company he’s not retired and otherwise would not be entitled to receive it at this time. He also continues to enjoy “an automobile allowance, club memberships and life and health insurance benefits.” These benefits continue “during E. Corasanti’s life and the life of his wife.” Mrs. Corasanti’s specific contributions to ConMed’s success are unclear to us.
Like his father, J. Corasanti has a pretty nice gig. His annual compensation is approximately $2.5 million. Just like dad, he earns additional payments for his Board service – despite the fact that he’s also an employee. This is both inappropriate and unnecessary, given how handsomely he’s already paid as CEO.2 The Company continues to carry as a loan to father and son premiums paid by ConMed to purchase multi-million “split-dollar” life insurance policies for their benefit. In addition to the other perquisites lavished on top ConMed executives, J. Corasanti also has access to special life and health insurance policies and benefits for himself and his wife should she outlive him (coincidentally, just like her mother-in-law). And finally, he’s protected by a generous ($15mm) golden parachute. The apple, they say, never falls far from the tree.
ConMed’s employment practices reveal an alarming degree of nepotism and cronysim. For starters, was J. Corasanti – the family scion and a former attorney – really the best choice to replace E. Corasanti? One wonders whether there might have been candidates from outside the Company – or at least from outside the family – better suited to run a complex global medical device operation such as ConMed. Apparently J. Corasanti beat out at least one other candidate for the job: His brother, David Corasanti, who also works at ConMed. Given ConMed’s serial acquisitions, we also respectfully question whether William W. Abraham remains the optimal choice to lead ConMed’s corporate and business development activities – at age 82. Were Mr. Abraham to retire he’d still be able to keep close tabs on ConMed, as he has two sons-in law employed by the Company.
And while the Company hasn’t disclosed it in its filings, we’ve learned that J. Corasanti’s sister-in-law is also a member of ConMed’s senior management team. Heather L. Cohen is “Executive Vice President, Human Resources, Deputy General Counsel and Secretary.” In this role, she’s involved in managing the personnel dynamics and conflicts of interest at ConMed, including those between the Corasantis and the Company – despite the fact that Ms. Cohen herself is part of the family. We fail to see how she can discharge these responsibilities impartially and we particularly can’t understand how ConMed believes this isn’t material enough to warrant disclosure.
The boundary between business and personal expenses at ConMed is quite blurry. Several of the top executives are furnished with munificent perquisites, such as country club memberships, automobile leases and special insurance policies. There’s also a tradition of ConMed making payments to related parties, such as to E. Corasanti’s brother-in-law; to J. Corasanti’s father-in-law and brother-in-law; and to the law firm of a former director, Robert E. Remmell, throughout his tenure on the Board. Most recently, J. Corasanti used ConMed assets to promote the book of his wife, Michelle Cohen Corasanti,3 including the use of his staff’s time, corporate letterhead and Company email accounts. Shareholders wonder where the line is drawn between the assets of ConMed and the interests of the Corasanti family, or if there’s a line at all.
With all this incestuous behavior one might suppose Corasanti & Co. feel entitled because they own most of ConMed’s equity. Yet taken together, Messrs. Corasanti Senior and Junior collectively own 0.7% of ConMed’s common stock. Even if credited with the various options and other compensation awards they’ve granted themselves over the years, the total is still only 2.3%. As for the rest of the Directors, they collectively own about 0.2% (0.4% including options). In the past 10 years, only two Directors have ever bought a share of stock with their own money – for a grand total of 3000 shares purchased (1000 of which occurred in June of this year when a new Director joined). Mr. Daniels is a case in point: At age 79, he has inhabited the Board since 1992 and chairs the audit committee, yet holds 3400 shares of common stock.
The Board’s lack of alignment with shareholders, coddling of management and toothless oversight is highly relevant to the review of ConMed’s strategic positioning and financial and operational performance, which we take up next in turn.
* * *
ConMed’s essentially a roll-up. Since inception, it has completed 24 acquisitions totaling more than $1 billion. In the past decade, ConMed’s organic growth has been only 3% per annum and its market capitalization is less than what it collectively cost to acquire these businesses. The Company has had to pay increasing multiples over time to get deals done as the acquisition market has grown more competitive and the number of targets has declined. Its one truly successful acquisition, Linvatec, occurred over 15 years ago.
At the same time, ConMed has never divested anything. Units like Patient Care – the legacy business on which E. Corasanti founded ConMed from his kitchen table in the 1970s – appears to have more sentimental than economic value, with commoditized products, negative growth and operating losses. Management insists it needs to maintain the full portfolio of six businesses to absorb some $17 million of corporate overhead, but that simply begs the question as to whether corporate overhead is too high. It also illustrates how woefully subscale ConMed’s core businesses are.
The sheer complexity of its empire, particularly for such a relatively small firm, has proved challenging to manage. ConMed competes in six different categories with five separate salesforces. This sprawling enterprise has required semi-regular reshuffling, as the Company has experimented with managerial, reporting and distribution models by vertical, by horizontal and by geography. That’s led to frequent restructuring charges and write-offs.4
The shotgun approach has also disadvantaged ConMed competitively. ConMed’s #2 or #3 in most categories and #4 in another; but it’s not #1 in any of its six major business lines. Within each segment, ConMed competes against much larger competitors and not a single one of them, despite their far greater resources, has elected to compete across more than three of the verticals chosen by ConMed. The size of its core businesses has limited ConMed’s ability to bundle and cross-sell, a key strategy larger competitors also increasingly use to counter-act shifts in healthcare spending. Its competitors invest far greater sums in R&D. And, as we shall see, its lack of scale in its core businesses, and mishmash of other endeavors, has impacted ConMed’s financial performance.
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ConMed’s stated financial goals are simple: The “Company's revenue growth should outpace operating expense growth, thus creating margin and bottomline expansion in excess of topline growth.” Central to that are “our efforts to grow the topline and improve our gross margins through the introduction of new products.”
In the last ten years, ConMed’s organic growth has slowed considerably, from high single digits early in the prior decade to essentially flat to down this decade. These results significantly underperform orthopedic industry leaders such as Smith & Nephew, Stryker and Zimmer. Zooming in on 2013, ConMed is the only one of its peers to report negative revenue growth.
What’s more, ConMed has consistently overestimated its revenue growth, sapping the confidence of the investment community. Starting in 2008, ConMed was late recognizing and responding to the global recession and way too early calling its conclusion. It reiterated wildly unrealistic 4Q08 and FY08 projections as late as October 23, 2008, which it subsequently missed by a mile. Throughout 2009 ConMed declared the worst was behind it, yet went on to fall short of its revenue guidance for FY 2009. In February 2010 it confidently announced “the economic effects on the company had reached a welcome turning point” and in July went on to say “our business is stabilizing and returning to a state of steady consistent growth.” Yet ConMed missed both its 3Q10 and 4Q10 revenue targets (4Q10 actually shrank 3.5% year-over-year). As a result, ConMed subsequently fell short of its full year 2010 revenue guidance, then missed it again in 2011…and yet again in 2012. While 2013 is not formally over, it’s not too early to write its epitaph because management has already lowered its full year revenue target below the bottom end of its original forecast – making six straight years ConMed has missed its revenue projections.
These trends were on full display again with ConMed’s 3Q13 results. Revenues actually declined 1.4% year on year, missing the Company’s guidance as well as every analyst’s estimate, which had already been progressively lowered throughout the year. ConMed cut its FY 2013 guidance – again – and introduced a 4Q13 revenue target the midpoint of which implies revenue will fall even faster in Q4 (-1.8%) than in Q3. This is particularly striking when compared to the results of the other orthopedic companies who have just reported, all of which are growing nicely. For example, Smith & Nephew’s sports medicine business, a direct ConMed competitor, grew 7%. Each has its own mix of business but all are fundamentally levered to the same reconstruction market as ConMed. Analysts estimate this market is growing at approximately 5% worldwide, while ConMed is shrinking. ConMed used to be satisfied keeping pace with the market, but now it’s slowly but surely falling behind. Drooping revenues in a rising market means only one thing: ConMed is losing share.
ConMed’s strategic disadvantages have also manifested themselves in structurally inferior margins and returns on capital. Ten years ago, ConMed’s operating margins were in the high teens, similar to Smith & Nephew’s and Stryker’s; Zimmer’s were considerably higher then and still are, near 30%. Today, ConMed’s margins have fallen to about 10% while Stryker and Smith & Nephew hover in the low 20s. Consider this: Not only are ConMed’s operating margins lower today than they were a decade ago, despite revenues having grown by 50% during this time, but its operating income dollars are also lower now.
ConMed management has long boasted of its plan to reverse this trend by achieving “adjusted” operating margins of 14%. Not only has it been ten years since it last achieved that level (2004), but the commitment itself has been an ever-moving target. In October of 2009, for example, the CFO, Mr. Shallish, said, “[o]ur goal is to achieve operating margins in the low- to mid-teens in approximately three to four years” (i.e., 2012-13). J. Corasanti peddled the same promise throughout the 2011 fall conference season, saying in September: “Our profit goal for ConMed is to improve our operating margins to 14%. . . . We can achieve this operating profit goal in 3 or 4 years” (i.e., 2014-15). In October 2011 he said:
[W]e’re so focused now on moving this operating margin up. We’re trying to get 100 basis points a year. . . . If that operating margin moves up to our target goal of 14%, we are talking about a massive increase in EPS and I would expect that to translate on a very large increase in our share price.
On the 2Q12 earnings call, management stood firm on a 100 basis point expansion in margin for 2012. But by October of 2012 they retreated, forecasting only 60-70 basis points for 2012 and 50 for 2013. Despite this significant setback, by May of this year J. Corasanti was back on script: “So our corporate goal in terms of profitability . . . is to achieve 14% operating margin, probably in the next three or four years” (i.e., “probably” around 2016-17).
Even more outlandish than management’s constantly shifting operating targets is the embellishment of its success in increasing margins. According to J. Corasanti in November 2012: “[W]e are focused on increasing our operating margin. We have a stated goal of 14% and . . . about 100 basis points annually and we’ve done a nice job of that over the last couple of years.”
Really? ConMed’s adjusted operating margin bottomed at 7.5% in 2009, in part because it was so late in removing costs during the recession. Management then massaged the “adjusted” operating income each year thereafter by adding back all manner of items, including restructuring costs every single year and either an inventory adjustment or acquisition related cost in every year as well (and there were several other add-backs too). Even with all of these credits, “adjusted” operating margins grew from an artificially depressed 7.5% in 2009 to 9.0% in 2010; to 10.1% in 2011; to 10.7% in 2012 and are expected to be 10.9% in 2013 (excluding the medical device tax). At these levels it remains very far away from the Holy Grail of 14%.
Closer inspection reveals that management’s “adjustments” neglected items artificially propping up the margins. First, the Company’s acquisition of exclusive rights to MTF’s tissue in 2012 significantly boosted margins as it’s a revenue commission with virtually no cost of goods to ConMed. Second, management slashed R&D sequentially each year – from 4.6% of sales in 2009 to about 3.5% in 2013. It will either continue to do so to buttress margins (a trend that has alarmed the investment community worried about the effects of underinvestment) or reverse course and normalize R&D, becoming yet another headwind for margins. If one corrects management’s “adjusted” operating margin for these two items the picture looks much different, increasing a mere 150 basis points over four years.5
* * *
According to J. Corasanti, “one of the key points of ConMed’s corporate strategy is to expand our margins through introduction of new products.” The best way to evaluate this claim is to review the launch of Altrus, easily the most important new product in ConMed’s history. Altrus is ConMed’s entry into the $2 billion tissue sealing market, a high margin category growing 7-10% per year. ConMed already has a leading position in Electrosurgery, anchored by its #2 position (with a 30-35% share) in tissue cutting. So the opportunity to leverage that position with the same surgeon to seal the same tissue is compelling, and ConMed spent millions of dollars developing Altrus for this very reason. If ConMed could attain even a fraction of the penetration it has in its core Electrosurgery business, Altrus would be a homerun, easily becoming ConMed’s largest product.
Yet for a company that prides itself on the development and commercialization of important new products, Altrus has been a manufacturing, regulatory and sales debacle for the better part of six years. As early as April 2008, ConMed told shareholders to expect an Altrus launch “later this year” and in July of 2008 predicted “a fairly significant ramp of tissue sealing in 2009.” Yet by October management began backpedaling, pushing the launch out until spring 2009. By the next earnings call in February 2009 Altrus was further delayed until 3Q09. In April 2009 Altrus was “still on target for our third quarter release,” but then in July it had slipped again: “[W]e’re hopeful that we can get the tissue-sealing product out early next year [2010].” For the first time management acknowledged it was experiencing production issues with Altrus. In October 2009 management reassured shareholders it had a handle on them and that it would launch by the end of 1H10, a promise it reiterated on the subsequent two earnings calls.
But in 2010, regulatory problems appeared. In April management disclosed it had filed its 510k applications and hoped to have clearance to begin selling Altrus by summer. Yet when July arrived management cited unanticipated delays receiving FDA clearance, which continued to linger when ConMed reported in October 2010. Although it eventually received the US approval in November 2010, in July 2011 management revealed still more regulatory snafus, citing delays in approvals outside of the US (principally Europe and Canada).
In February 2011 management guided to $5-10 million in 2011 revenues for Altrus. In addition to regulatory delays, by April 2011 there were new manufacturing breakdowns retarding the re-launch, causing management to dial the 2011 revenue expectations down to $2-3 million. In October management spoke of further glitches, specifically a muffed sales launch during summer vacation schedules. It slashed the 2011 forecast yet again, to $1 million, but predicted 2012 sales of $10 million. These forecasts were reiterated in November and management introduced a goal of 10% market share (i.e., $200 million). Altrus’s final 2011 sales: “slightly less than $1 million.”
In February 2012 J. Corasanti claimed “Altrus is proceeding very, very well” and reiterated the $5-10 million revenue guidance. But two months later management hedged again, saying the launch was “not moving as fast as we thought” and blamed “continuing manufacturing difficulties” owing to its “being a complicated product to produce”; all product shipping ceased for several weeks. Despite reconfirming the revenue guidance at that time management dropped it again in July to $4-6 million. In October the salesforce reemerged as the scapegoat, as management blamed poor training for fresh setbacks. It also alluded to new commercial challenges, admitting “we are going to have to start now to pay attention to GPO contracts,” as if that were news. It whacked revenue guidance again, to $2.0-2.5 million.
By February 2013, management was confidently forecasting $5-10 million again in Altrus revenues. But just as in prior years, by April 2013 management retreated and cut its forecast once more (to $4-5 million). For the first time, management cited pricing pressures on Altrus – surprising indeed, given management’s long-held insistence that it could displace incumbents Covidien and Johnson & Johnson with a premium-priced product. ConMed stubbornly clung to pricing Altrus at $750 per tip despite a widespread view that Covidien was delivering an effective price (through bundling and discounts) of almost 1/2 of that on its market-leading Ligasure product. We don’t take issue with management’s belief in the technological superiority of Altrus but we question its judgment in trying to displace a deeply entrenched competitor with a product priced at such a rich premium, regardless of its efficacy.6 In May management conceded that Altrus has a “longer selling cycle … than we expected.” By July management referred again to pricing compression and, for the first time, suggested they were encountering resistance from purchasing managers due to a lack of clinical preference, making this simply the latest gaffe in the never-ending Altrus comedy of errors.
ConMed refused to provide any 2014 revenue guidance for Altrus on the 3Q13 call, but we estimate that Altrus’ lifetime-to-date revenues (since 2008) are generously about $4 million – a market penetration of at most 0.1%.7
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These collective strategic, financial and operational issues have all taken a toll on ConMed’s shareholders. As the below chart illustrates, ConMed’s stock has underperformed over most time periods (and in some cases, dramatically so) when compared to the median performance of its core orthopedic competitors8; self-identified peers from the Company’s proxy9,10; and the Russell 2000 index (of which it’s a member):
| One Year | Two Years | Three Years | Five Years | Ten Years | ||||||
|
|
(10/31/12 - |
(10/31/11 - |
(10/29/10 - |
(10/31/08 - |
(10/31/03 - |
|||||
| ConMed | 33.5% | 43.1% | 70.7% | 43.4% | 84.6% | |||||
| Core Orthopedic Competitors | 37.7% | 59.3% | 56.2% | 53.7% | 96.5% | |||||
| ConMed-defined Peer Group | 27.8% | 51.5% | 70.5% | 64.8% | 180.1% | |||||
| Russell 2000 | 36.3% | 52.8% | 63.1% | 119.6% | 136.5% | |||||
We acknowledge that ConMed’s stock price performance has improved somewhat of late, appreciating about 29.8% this year. While respectable, that’s essentially in line with its peers and the index. Most importantly, its revenue and earnings estimates have fallen consistently throughout 2013, meaning ConMed’s valuation multiples have expanded faster than its stock price. Despite its current poor fundamentals and limited visibility, ConMed trades for 22x the mid-point of management’s 2013 earnings estimate (assuming they actually meet it).11 That’s near the largest premium ConMed has ever traded versus its orthopedic peers, which change hands for about 17x 2013 earnings – an especially wide gap in light of the fact they’re much larger, growing faster and reap meaningfully higher margins. And while its peers have also seen multiple expansion this year it’s been in the context of revenue growth and heightened comfort with their prospects – not the other way around, as with ConMed.
So what explains the anomalous improvement in ConMed’s stock recently? It must be viewed in the context of simmering shareholder discontent, which culminated on ConMed’s 2Q13 earnings call on July 24. During Q&A, one of the Company’s largest shareholders – a long time owner and highly respected investor – posed the following question: “But I just wonder why it’s not in the shareholders’ best interest to maybe, hire a bank and see whether a strategic might surface that would rectify the 50% or greater discount the company is currently bearing in the public markets versus what the private markets might bear?” The collective expectation of changes at ConMed has clearly buoyed the stock: ConMed was underperforming before the July 24 earnings call, and has significantly outperformed since, despite flubbing both 2Q13 and 3Q13:
| Pre-2Q13 Call | Post-2Q13 Call | |||
|
(12/31/12 - 7/23/13) |
(7/23/13 - 10/31/13) |
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| ConMed | 18.6% | 10.9% | ||
| Core Orthopedic Competitors | 27.5% | 3.8% | ||
| ConMed-defined Peer Group | 12.4% | 5.1% | ||
| Russell 2000 | 24.8% | 4.8% | ||
The market believes there’s an attractive sale option available to ConMed, and that the odds of it occurring have increased; it has bid the stock accordingly. We tend to agree.
* * *
While ConMed has chosen to remain until now a stand-alone company and to manage a disparate portfolio, the rest of the industry has consolidated. M&A in med-tech generally and orthopedics specifically has been on a rampage, with high multiples being paid for strategic acquisitions. Competitors J&J, Smith & Nephew, Stryker, Zimmer and Biomet have all been active, recent acquirors in this space. Thirteen transactions, totaling approximately $25 billion, have occurred within orthopedics in the last 24 months alone.
ConMed’s principal attraction is that it’s one of only three players with a full-line of sports medicine products, an attractive growth area within orthopedics. We estimate that 2/3 of ConMed’s revenues, and 3/4 of its EBITDA, derive from this business and that it constitutes the substantial majority of the Company’s value. Almost 80% of its total revenues are single-use disposables rather than capital equipment, another desirable trait in this uncertain economic environment.
There are many companies for whom we believe ConMed is strategically attractive. Prime among them would be Zimmer, a small player in sports medicine today who has identified this as a focus going forward. Moreover, Zimmer actually owned ConMed’s orthopedic business (Linvatec) prior to Zimmer’s spin-off from Bristol-Myers Squibb and continues to serve as Linvatec’s distribution partner. It’s unclear why Bristol separated the sports medicine and tools business from the implants in the first place, but it’s well-known that Zimmer now believes it needs its own line of power tools and procedure-specific instruments – which happen to be one of ConMed’s strengths. Or consider Stryker, where ConMed would nicely fill out its arthroscopy offerings. Stryker is an aggressive acquiror that recently paid $1.5 billion to buy Mako Surgical and $750 million to purchase Trauson. While there is some product overlap in power tools, each is stronger in different parts of the world. Smith & Nephew, on the other hand, has a strong arthroscopy franchise but lacks the depth in power tools offered by ConMed. Then there’s Biomet, a $3 billion private company backed by top private equity firms, which has a number of holes in arthroscopy; ConMed’s shoulder restoration system, for example, would be of particular value to it. Privately-held Arthrex, reportedly larger than ConMed, is another possibility.
J&J, the world’s largest orthopedics business, is also intriguing. ConMed would not only complement the DePuy Synthes businesses, but J&J would also be interested in ConMed’s general surgery units given its strengths in those areas too. Similarly, Covidien competes in Endosurgery, Electrosurgery and Patient Care; Covidien would certainly not want to see Altrus fall into the hands of a more capable rival. Diversified players such as Bard, Boston Scientific, Danaher, Medtronic, Teleflex and 3M, to name just a few, are all serial acquirers and could be buyers of ConMed as they compete in one or more of its segments. Several of these companies have approached ConMed but been turned away.
Transaction multiples within orthopedics vary but it’s hard to find any less than double digit multiples of forward EBITDA (typically between 10-14x). Such valuations are well supported by the synergies observed in these strategic transactions, with efficiencies across the entire income statement. The midpoint would imply a $55 price for ConMed, a 50% premium to its current trading range. And given their relative size, every one of these potential acquirors could buy ConMed for cash and realize EPS accretion (in most cases, materially so) in the first year. Based on previous transactions, cost synergies alone could exceed $100 million.12 That implies that an acquisition of ConMed at a headline multiple of 12x EBITDA is really more like 7x – easily do-able and a win-win for all involved.
* * *
On the most recent earnings call, J. Corasanti conceded that the Company’s results and guidance are “disappointing to me and the entire senior management team at ConMed.” ConMed’s shareholders are more than just disappointed. With significant value embedded in the business, and a white hot transaction market, a sale of ConMed could fetch a king’s ransom. Why does ConMed refuse to even consider this possibility? Perhaps one clue to its motivations is that, despite its history of empire building through acquisitions, ConMed has never divested a single asset. Perhaps another is a perception held by some acquirers that dynastic family control stands as a moat around ConMed, impeding its capture. A sale would indeed mark the end of the Corasanti reign, but it would unlock tremendous value for the true owners of ConMed’s realm, its shareholders. The time has come for the Corasanti family to abdicate the ConMed throne, and the commencement of a proper process to find a suitor for ConMed would be the right first step in that direction.
Make no mistake: Should you fail to act, we are preserving the full range of options at our disposal to protect shareholder interests.
Respectfully yours,
VOCE CAPITAL MANAGEMENT LLC
| By: |
/s/ J. Daniel Plants |
|
| J. Daniel Plants | ||
| Managing Partner | ||
1 ConMed added two new directors at the end of July, immediately following this year’s annual meeting.
2 Not a single company identified in ConMed’s proxy as a peer for compensation purposes pays its CEO a separate fee for serving as a director.
3 The Almond Tree (Garnet Publishing 2012), a self-described “uplifting read, which respectfully travels a controversial history and delivers an enriching experience that is a testament to the human spirit and a hope for peace.”
4 ConMed has recently reorganized again by combining its two weakest businesses, Patient Care and Endoscopic Technologies, with the Electrosurgery and Endosurgery lines. This will cloak the poor results of the laggard businesses and make it more difficult for investors to analyze ConMed.
5 It’s worth noting a string of other cavalier predictions ConMed has made along the way. For example, while everyone in the industry long-ago braced for the impact of the medical device tax, J. Corasanti dismissed this looming hit, blithely claiming for several quarters ConMed would simply pass it along to customers by raising prices or tacking it onto the invoice – preposterous in this environment. Yet by the 3Q12 call, ConMed had changed its tune and began blaming its failures on “headwinds driven principally by the medical device tax.” By April 2013, J. Corasanti claimed the “impact of the medical device tax . . . were headwinds we expected,” as if he had seen it coming all along.
6 Similarly, ConMed priced itself out of the Sequent opportunity, eventually conceding that Sequent’s modest success relative to its initial lofty expectations was due to customer belief that it was too expensive.
7 While Altrus is by far ConMed’s biggest missed opportunity, there are plenty of others. After several years of empty promises and an estimated $20 million of investment (including an acquisition), management recently gave up the ghost on ECOM, another ballyhooed new product with huge potential but whose revenues never exceeded $100,000. Management has also acknowledged that part of the culprit for its falling capital equipment sales is that it’s over a year late in bringing its next-generation 2D video product to market. ConMed only launched four new products in 2013.
8 Smith & Nephew, Stryker and Zimmer.
9 ConMed’s proxy identifies the following peers: Cooper Companies; GenProbe; Greatbatch; Haemonetics; IDEXX; Integra LifeSciences; Masimo; Orthofix; ResMed; Sirona Dental Systems; Steris; West Pharmaceutical; Wright Medical; and Zoll Medical. We leave for another time discussion of whether this is an appropriate sample set.
10 Two of the fourteen peers ConMed identifies in its proxy have been acquired within the past year and almost 40% (10/26) have been bought since ConMed started disclosing peers in 2007. This reveals a survivor bias in the remaining comparisons – the acquired companies (and take-out premiums) are all excluded, making the bar easier for ConMed to clear – but it also illustrates the surging consolidation wave that ConMed continues to miss.
11 This includes the impact of the medical device tax, which ConMed excludes from its adjusted EPS, despite the fact that none of its peers do.
12 This says nothing of the potential value that could be created from Altrus and other inchoate ConMed opportunities in the hands of a more skillful operator.
