Zimmer Biomet (ZBH), the undisputed king of hip and knee implants, enjoys the fruits of a wide economic moat. We expect favorable demographics, which include aging baby boomers and rising obesity, to fuel solid demand for large-joint replacement that should offset price declines. However, Zimmer has been plagued by pitfalls over the past three years, including integration issues, supply challenges, and quality concerns that caught the attention of the U.S. Food and Drug Administration. But new management has tackled these issues, and we’ve begun to see meaningful improvement.
Zimmer has benefited from close relationships with orthopedic surgeons who make the brand choice. High switching costs and high-touch service keep the surgeons closely tied to their primary vendor, and the surgeons bring in enough profitable procedures to keep hospital administrators at bay. These close relationships and vendor loyalty also explain why market share shifts in orthopedic implants are glacial, at best. As long as Zimmer can launch comparable technology within a few years of its rivals, it can remain in a strong competitive position. Nevertheless, we think surgeon influence will inevitably erode as the practice of medicine changes in response to healthcare reform. Over the long term, it will be more difficult for surgeons to run private practices profitably, and more of them will be open to employment at hospitals.
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Debbie Wang does not own shares in any of the securities mentioned above. Find out about Morningstar’s editorial policies.