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Morningstar | Revenue Surpasses Our Expectations in Conmed's 2Q; Raising FVE

Conmed's second quarter again surpassed our expectations, as quarter-to-quarter sales growth has proven more resilient than we had anticipated. We'll likely raise our fair value estimate for this no-moat firm by roughly 10% as we model stronger and more durable revenue growth, along with accounting for the cash flows received since our last update. While management has done much to improve operations over the last year or so, we continue to view the firm's moat trend as stable.

Sales growth continues to impress, with total revenue up 7.4% in constant currency for the quarter and 7.1% for the first half of 2018. Conmed's orthopedic segment continues its middling growth trajectory, up 2.8% in the quarter versus our 2.5% estimate, but showed positive growth in both international and domestic markets. The more interesting component of the release came from the firm's general surgery segment, which has meaningfully surpassed our expectations thus far in 2018. With constant currency growth of 12.7% year to date, versus our forecast closer to 7%, general surgery has been the bright spot at the firm. Contributions from the SurgiQuest acquisition in 2016 likely account for some of this strength, but our best guess suggests the underlying business has accelerated to at least a mid-single-digit growth rate if not better.

While management raised its as-reported revenue guidance by roughly 50 basis-points on net, we think the moving pieces behind this outlook are important to consider. Changes in foreign exchange rates imply a currency headwind for the second half of the year, but more sustainable operational performance is expected to more than offset this and accounts for the slight positive revision. As a result, we're more confident in forecasting revenue growth that approximates market-like rates over our forecast period, which drives the bulk of our fair value estimate increase as we leave our margin projections largely unchanged.

As we've underestimated growth, we've been more on-target with our margin outlook. Both SG&A and R&D line items saw the increases we've been looking for in the quarter, as investments in the firm's sales infrastructure and development pipeline begin to take shape. As a consequence, adjusted EBITDA margin has been roughly flat year-to-date, which we expect is likely to continue to be the case in the second half. Encouragingly, cash from operations and free cash flow for the first six months of the year clocked in at $45.6 million and $38.4 million, respectively, largely on track to meet our full-year forecasts.