Schafer: St. Jude's job cuts are about device tax

St. Jude Medical Inc. said its recently announced restructuring, one that cost 300 employees their jobs, was mostly about taking better advantage of its scale and saving money.

By combining its product divisions into two groups and centralizing many administrative functions, the company said, it is leaner and more able to fund growth initiatives.

True enough, but there is more to the story.

In cutting, St. Jude's managers are also fulfilling a basic task of good management -- moving aggressively to offset a new cost over which they have absolutely no control.

That cost is the medical device tax that is one of the sources of funds for providing health coverage for uninsured Americans in the Affordable Care Act. It imposes a 2.3 percent excise tax on the domestic sale of any taxable medical device by the manufacturer or importer of the device starting in 2013.

The analysts clearly get what St. Jude is doing. St. Jude's restructuring will save some $50 million to $60 million annually beginning in 2013. That is about what it will take to fill the $60 million or so hole created when the tax starts being collected after the first of the year.

By laying those numbers side by side, Thomas Gunderson, a senior research analyst at Piper Jaffray & Co., said he concluded that St. Jude was responding to the coming tax, as "it just seemed too big of coincidence not to include the excise tax as a contributing factor."

The tax is coming at a time when devicemakers are already facing slowing market growth, delays and mounting expenses in their new product development efforts, and pricing pressure from their customers.

St. Jude has all of those factors in its business, but please don't get the idea that St. Jude took out 300 jobs because it is a struggling company. It is a healthy and profitable company that just happens to not be growing. Revenue of $1.41 billion in the second quarter was down about 2 percent from the same period of 2011. And in discussing those quarterly results with investors, management was more cautious about the rest of 2012.

Said J.T. Haresco III, an analyst with JMP Securities: "We are projecting that St. Jude will grow a little under 1 percent next year. That's a tough place to be" when faced with a big new cost.

When you run a public company, it is not necessarily just your job to make money. It's your job to make more money than you did last year, because growth in earnings per share is what builds shareholder value.

As just under half of St. Jude's sales are domestic, the analysts project the 2013 device tax expense at more than $60 million, and that's a big impact on the bottom line, even at a company with more than $5.6 billion in 2011 annual sales. "It's your job as a manager not to accept that," Gunderson said. "You do your best to balance that out."

St. Jude's executives declined to discuss the restructuring for this column, but Executive Vice President John Heinmiller was in New York fielding questions Tuesday at a Morgan Stanley investor conference. And, of course, the restructuring and device tax was question one.

St. Jude's veteran leadership team is well-regarded by the investment community, and listening to Heinmiller you would have no reason to think that the restructuring, or any other St. Jude initiative, reflected any concerns about meeting the challenges of 2013 or funding a device tax.

Heinmiller explained again how $50 million to $60 million in savings in the restructuring just happened to be about what the device tax could cost in 2013.

"So there are a lot of different cost pressures in our business," he told investors. "And one of them is the upcoming device tax."

Gunderson said a remaining good question is whether a management team as skilled as St. Jude's would be finding 300 jobs to eliminate in the name of efficiency every year, and not just four months away from implementation of a new tax. He added that "I don't have an answer for that."

When asked if the device tax was in fact a job killer, none of the analysts contacted for this column would take the bait. One said that such a statement is black-and-white rhetoric when, in their world, things are never quite that clear.

It seems fair to conclude, however, that the excise tax is a job killer at well-managed companies.