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Our Favorite Health-Care Safe Havens

These eight health-care stocks have what it takes to weather the storm.

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With all of the financial fallout from the credit crisis reverberating across the markets, we're sympathetic to investors who may feel like they need anti-anxiety medication before looking at their portfolios. However, before succumbing to any instinct to liquidate holdings and stash the cash under your mattress, we'd suggest taking a look at some very high-quality companies in the health-care arena--a sector that has historically been less directly tied to the same macroeconomic factors that are now buffeting many sectors. We're highlighting a host of health-care companies that have the financial stability to withstand the near-term financial crunch, as well as moats that we think will allow these firms to earn economic profits into the longer term. Some of these companies are already attractively priced, and we'd snap up shares of the others if they are pushed too far by Mr. Market.

There are a few things to keep in mind when culling through the health-care firms. Most companies in this sector enjoy robust balance sheets thanks to two different dynamics. When it comes to established drug, biotech, and medical-equipment companies, many are sitting on hefty cushions of cash and equivalents because they tend to generate cash quickly. For example  Amgen (AMGN) and  Johnson & Johnson (JNJ) have stashes of $8.5 billion and $13 billion, respectively. On the other side of the spectrum, highly risky development-stage companies that do not yet generate cash flow typically rely on equity financing because lenders are usually not very eager to lend on the basis of a pipeline candidate that might not receive regulatory approval. There are plenty of health-care companies, both big and small, that have enough cash to let them ride through the next 12 to 24 months.

The only key health-care industry that we'd avoid is hospitals, because they do tend to employ higher levels of leverage. Furthermore, hospitals are increasingly squeezed between payers, practitioners, nonprofit competitors, and laws that require them to offer emergency care even when it is unprofitable--all of this makes it extremely difficult for any hospital to dig a moat. Overall, health-care firms still face risk on many fronts; regulatory, legislative, and pipeline uncertainties are usually at the fore. It's just that these risks are not directly tied to the larger credit crisis currently gripping our economy.

Below are health-care companies that we believe are well-equipped to weather the currently anxiety-provoking conditions and emerge on the other side well-positioned to earn economic profits.

 Amgen (AMGN)
Moat Rating: Wide | Fair Value Uncertainty Rating: Medium | Morningstar Rating: 5 Stars
Despite setbacks with two of Amgen's key products, Epogen and Aranesp, we think that Amgen has moved quickly to restructure and that it has the drug portfolio and pipeline to emerge from the storm with its competitive advantages intact. We recently attended the annual meeting of the American Society for Bone and Mineral Research and were pleased with the newly released favorable data on Amgen's osteoporosis drug candidate, denosumab. The strength of the data should position denosumab well among many competing drugs from larger pharmaceutical firms. Amgen also received Food and Drug Administration approval late last month to market Nplate, a drug designed to boost platelet levels in patients with a rare bleeding disorder. We think Nplate should see peak global sales approaching $1 billion per year--even in the presence of competition from  GlaxoSmithKline's (GSK) Promacta.

 Biogen Idec (BIIB)
Moat Rating: Wide | Fair Value Uncertainty Rating: Medium | Morningstar Rating: 5 Stars
Biogen Idec is poised for growth led by a new indication for Rituxan, the relaunch of Tysabri, and several pipeline products. Even though two more cases of a brain infection associated with Tysabri use have surfaced, we believe that the firm should maintain its leadership position in the multiple sclerosis market thanks to Tysabri's far superior efficacy and the presence of older MS drug Avonex in the product portfolio (which offers a ready substitute for patients who stop Tysabri). Additionally, Biogen Idec has three new biologics for oncology and multiple sclerosis in Phase III development, to which the company maintains all marketing rights. Also, the company has eight products in Phase II development focused mainly in oncology and immunology. The focus on areas of high unmet need should increase the probability of regulatory approval and pricing power.

 Covidien (COV)
Moat Rating: Narrow | Fair Value Uncertainty Rating: Medium | Morningstar Rating: 5 Stars
A year after its spin-off from  Tyco International (TYC), Covidien has substantially pared down its business to focus on the opportunities presented by its core medical-device operations. The company continues to invest heavily in research and development, particularly in the promising areas of surgical and energy-based devices, where it controls a sizable share of the market. This investment has already resulted in the introduction of a number of products in the minimally invasive surgery area, which is rapidly replacing traditional surgery in bariatric, cardiovascular, urological, and other applications. We think that Covidien's recent focus on natural orifice surgery is another sign that this firm is intent on maintaining its edge in innovation.

 Medtronic (MDT)
Moat Rating: Wide | Fair Value Uncertainty Rating: Low | Morningstar Rating: 5 Stars
Medtronic has been dealing with a slowdown in its key market for implantable cardioverter defibrillators following a number of recalls (some of which were from competitors). However, this hasn't kept the company from forging ahead with its devices to address other chronic diseases such as diabetes, spinal conditions, and neurological disorders. Medtronic's leadership positions across these diverse therapeutic areas are the result of the firm's ability to consistently introduce innovative devices and leverage its relationships with and access to practitioners who make the brand choice. In particular, Medtronic dominates the emerging field of neuromodulation, which is an approximately $1.5 billion market. However, as we're only beginning to scratch the surface on the various applications of electrical stimulation on the central nervous system, there is a great deal of potential for this technology going forward.

 Novartis (NVS)
Moat Rating: Wide | Fair Value Uncertainty Rating: Low | Morningstar Rating: 5 Stars
Novartis derives its strength from a diversified operating platform including branded pharmaceuticals, generics, vaccines, diagnostics, and consumer products. Although the majority of Novartis' competitors focus solely on the high-margin branded pharmaceutical segment, Novartis runs four complementary operations that reduce overall volatility and create cross-segment synergies. Also, the vaccine division (largely created by the 2006 acquisition of Chiron) offers the company a substantial footprint in an area where pricing power is increasing with innovative vaccines and fewer competitors. As with most pharmaceutical companies, Novartis faces a patent cliff in five years. However, unlike rival  Pfizer (PFE), Novartis is taking important steps to forge through the upcoming patent losses, such as acquiring drug company Speedel (which has partnered with Novartis on Tekturna for hypertension) and a majority stake in eye-care giant  Alcon (ACL).

 Schering-Plough (SGP)
Moat Rating: Wide | Fair Value Uncertainty Rating: Medium | Morningstar Rating: 5 Stars
During the last few years, Schering-Plough restructured all areas of the company to maximize efficiency and reduce costs. Further, following the negative ENHANCE trial results involving cholesterol-lowering drugs Zetia and Vytorin, the company announced additional cost cuts. It has now established a lean base from which to launch its improved product line. As revenue rises, we expect an increasing percentage of new sales dollars to drop to the bottom line. Through partnering, acquiring, and in-licensing, Schering-Plough developed a strong product line. The acquisition of Organon provides access to new markets including women's health, anesthesia, and the central nervous system. The acquisition also builds out the firm's oncology and animal-health franchises.

 Waters (WAT)
Moat Rating: Wide | Fair Value Uncertainty Rating: Low | Morningstar Rating: 5 Stars
Waters has long been known for its innovative instruments for a variety of applications, from laboratory research and drug manufacturing to nutritional labeling and quality control. The company established its reputation on its high-performance liquid chromatography instruments, which separate compounds for purification, quality control, and other research and development activities. The firm enjoys a strong 20%-25% market share. The key to the firm's dominance in this segment is its ability to innovate, as illustrated by the 2004 introduction of its Acquity Ultra Performance Liquid Chromatography system, which revolutionized the LC industry. That success has also allowed Waters to strengthen its position as a top-three maker of mass spectrometers, which are used to identify molecular composition and structure.

 Zimmer (ZMH)
Moat Rating: Wide | Fair Value Uncertainty Rating: Low | Morningstar Rating: 5 Stars
Zimmer Holdings stands out in a very attractive industry with high barriers to entry and sticky surgeon relationships. We think that these positive attributes, combined with Zimmer's manufacturing and marketing prowess, will help the firm generate excellent returns for the long run. Zimmer's leadership position in hip and knee implants remains very stable, because orthopedic surgeons typically have little incentive to switch to a different brand once they've invested the time and effort to become proficient with Zimmer's instrumentation. Zimmer recently announced that it plans to purchase  Abbott Laboratories' (ABT) spine division. While the company will remain a second-tier competitor in spine products even after this transaction closes, the deal increases the breadth of Zimmer's products, which is a good step toward garnering additional visibility among spinal surgeons. 

Debbie Wang has a position in the following securities mentioned above: AMGN, BIIB, PFE. Find out about Morningstar’s editorial policies.