In the hopes of reversing the trend of “disappointing” sales of its replacement flagship sterilization device, STERIS (NYSE:STE) is eagerly awaiting FDA clearance of an accessory part for the device.
But unfortunately for the Mentor, Ohio-based company, STERIS has had to keep waiting (… and waiting … and waiting) to begin marketing the part — a so-called “biological indicator” for the company’s System 1E, a liquid chemical sterilization system for heat-sensitive medical instruments.
And that wait is taking a toll on STERIS. System 1E sales are lagging. The company’s losing customers. Its stock price has fallen 9 percent in the last three weeks. Its financial outlook for its next fiscal year isn’t too rosy.
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The biological indicator, which confirms that the device killed any living organisms inside the machine during a sterilization cycle, isn’t necessary to operate the System 1E — but it’s important to STERIS for two key reasons.
First, “it’s pretty clear that customers want it, so if customers want it, it’s obviously important,” said Joshua Zable, an equities analyst with WJB Capital Group in New York. (WJB recently downgraded STERIS’ stock to “hold” from “buy.”)
Second, the lack of availability of the biological indicator is largely what’s blamed for the System 1E’s slow sales. As recently as August, STERIS said it could sell as many as 8,000 units by the end of its fiscal year in March 2012. But earlier this month, CEO Walt Rosebrough said that the Ohio company now expects to sell just 5,000 units.
Zable called that number “disappointing,” and said he expects STERIS to retain only 30 to 40 percent of its customers that used the System 1E’s predecessor. The FDA revoked its approval for the System 1E’s predecessor after it found in December 2009 that STERIS had made so many changes to the device over the years that the agency hadn’t cleared the modified version of the device.
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STERIS began shipping the System 1E in December 2010, and filed a 510(k) application for clearance of the biological indicator around that time. However, the FDA and STERIS later decided that the agency’s de novo process was the more appropriate method for classifying the device, so the company submitted a de novo application in July — and that’s what’s led to the lengthy review process. (The de novo process is generally used for devices that aren’t high-risk, but don’t have a “substantially equivalent” counterpart on the market.)
The de novo review process is typically expected to take the FDA 60 days, but it’s obviously lasted longer than that for STERIS. It’s likely that the delay has been due, at least in part, to questions the FDA had about STERIS’ application.
“The agency did respond just prior to the end of September, and asked us a few questions, which we responded to promptly,” a STERIS spokesman said. “We have had additional dialogue with the agency since then, and are optimistic about a clearance decision for our customers.”
Additionally, because the optional part doesn’t directly make a difference in patients’ health, the FDA probably hasn’t been in a rush to get to the application, according to Zable.
“If you think about it from [the FDA’s] perspective, it’s not that high of a priority,” he said.
The good news for STERIS is that its wait for the biological indicator could be over soon. Though he stressed it’s just a guess, Zable predicted that the FDA could clear the device soon as it looks to wrap up several pieces of business by year’s end.
But even once the device is cleared, STERIS won’t be worry-free. Due to the disappointing sales of the flagship System 1E, the company will have difficulty meeting analysts’ expectations for earnings growth in its fiscal 2013, which starts in April, Zable said.
The current consensus analysts’ estimate projects STERIS’ earnings per share to grow about 10 percent in 2013. Zable said that’s way too optimistic. “It’s going to be challenging for STERIS to grow earnings at all,” he said.
Despite all that, it’s important to keep STERIS’ struggles with the System 1E in perspective. The device’s predecessor generally accounted for just 10 percent of STERIS’ annual revenues, and the rest of the company’s business is generally in good shape.
“It’s not like the STERIS franchise is significantly smaller,” Zable said. “It’s important to step back and point out that the franchise is still very powerful.”