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Why medical device companies’ federal contracts will boost stocks

The Fed announces medical device contracts

A group of medical device manufacturers was recently awarded a slew of government contracts providing devices, equipment, and supplies to the Army, Navy, Air Force, Marine Corps, and federal civilian agencies.

The contracts are collectively worth nearly $370 million. Among the biggest winners were Becton Dickinson & Company, Synthes, and Johnson & Johnson.

Allocation of total contracts awarded2Enlarge Graph

 

Positive for stocks

In a tough domestic environment, medical device manufacturers need all the guaranteed revenue they can get. Becton Dickinson & Company was the largest winner of the day, with a contract worth over $76 million. What’s more prominent about these contracts are their performance options. Johnson & Johnson’s subsidiary, Ethicon, has potential for two additional years on the existing contract at around $42 million. Ethicon Endo-Surgery, also a subsidiary of Johnson & Johnson, has options for three more years remaining on its contract worth almost $22 million per year. The Becton Dickinson & Company contract has the largest upside, as there are a possible five years left. Other recent winners of large federal contracts include ZOLL Medical and Abbott Laboratories.

Federal contracts can also be big positives for device makers due to the economic price adjustment clauses baked into the contracts. Unlike standard contracts, Federal contracts allow the device makers to seek price increases per year of the contract according to changes in the economic environment for the industry (like the medical device excise tax). As an example, in the case of the excise tax, the Department of Federal Affairs listed the following criteria for the price increases:

  • The excise tax reflects as a change to the commercial price list that contract award is based on
  • The proposed FSS percentage (financial stress score) increase is equal to or less than the increase to the commercial list price change
  • Proposed pricing is no higher than permitted by the awarded tracking ratio
  • At least 30 days have passed between price increases
  • The increase is requested at least 60 days prior to the end of the contract (including option periods)

Accordingly, federal contracts carry more weight than standard contracts and are a huge plus for manufacturers.

Lastly, according to analysts, federal contracts increase manufacturers’ accreditation. This is very valuable at a time when competition is rampant and payers are lowering reimbursement for less reputable device brands.