Foolish Forecast: Intuitive Surgical's Robotic Dominance

You could call Intuitive Surgical (Nasdaq: ISRG  ) the Google (Nasdaq: GOOG  ) of robotic surgery. It never looks cheap, but is worth every penny. Here's how the company looks ahead of its third-quarter earnings report, to be released Thursday night.

What Fools say:
Here's how Intuitive Surgical's Motley Fool CAPS scoring rates against some of its peers and competitors:

Market Cap (billions)

CAPS Rating

Bull Ratio

Hitachi (NYSE:HIT)

$21.7

*

66%

Hansen Medical (NASDAQ:HNSN)

$0.81

****

95%

Toshiba

$27.8

*****

97%

Intuitive Surgical

$9.2

****

95%

Data taken from Motley Fool CAPS and Capital IQ on Oct. 17, 2007.

Finding positive thumbs-up comments is too easy, so here's what a handful of CAPS bears have said about the stock recently. See if you can spot a trend:

"This is a great company with a great product, but market euphoria has driven it to an overvalued price."

"Love this company, but it's oversold right now!"

"Bought at 96.40 in July 06, sold at 215. I can't continue to support this stock at these lofty levels."

What management says:
Intuitive Surgical's management team just isn't a talkative bunch. There is no earnings guidance, and only full-year revenue pointers -- last updated in February and starting to look old and busted. The company is well on track to exceed $500 million in sales this year.

Intuitive Surgical isn't even into press release floods, unlike some other companies I could mention. Not a single PR statement has been issued since the last quarterly report, unless you count the announcement that there will indeed be another report tomorrow. And that second-quarter report's comments are essentially limited to "nice quarter, we have a good product." False modesty.

What management does:
Don't read too much into the year-over-year earnings drop here. The fourth quarter of 2005 included a $24 million one-time tax gain that nearly doubled earnings that quarter and made for some tough rolling comparisons when it dropped off the trailing-12-month range we like to use in our Foolish Forecasts.

Stable gross and operating margins show a truer picture of the business. And when you combine the effects of rapidly increasing sales and accelerating cash flow margins, you get a company rolling in robotic cash.

Margins

3/06

6/06

9/06

12/06

3/07

6/07

Gross

67.7%

67.7%

66.9%

66.5%

66.6%

66.5%

Operating

31.0%

30.5%

28.9%

28.8%

29.4%

30.7%

Net

37.8%

34.1%

29.5%

19.3%

19.9%

20.6%

FCF/Revenue

15.7%

16.0%

18.8%

22.5%

24.8%

26.9%

Y-O-Y Growth

3/06

6/06

9/06

12/06

3/07

6/07

Revenue

71.5%

69.8%

65.7%

63.9%

55.8%

55.7%

Earnings

213.6%

143.2%

74.0%

(23.5%)

(18.2%)

(5.9%)

All data courtesy of Capital IQ, a division of Standard & Poor's. Data reflects trailing-12-month performance for the quarters ended in the named months.

One Fool says:
So let's revisit the valuation concerns of our CAPS Fools. One player thought the company would need to deliver 50% earnings growth or better for the next five years to grow into its current P/E ratio. Fair enough -- a trailing P/E of 101 can seem intimidating. And that ratio was as low as 37 only last year. The share price has raced skyward since then, to the tune of a 146% return over 52 weeks.

But then again, it looks like the company itself is just hitting its stride, too. If you look at earnings growth on a quarter-by-quarter basis and remove that  tax gain and other unusual items, here are the year-over-year growth rates of the last four quarters: 32%, 53%, 64%, 85%. That's not just growth. It's acceleration.

The da Vinci robot is getting certified for more and more procedures, which grows Intuitive Surgical's addressable market. And as robot after robot gets installed and doctors get trained to use them, the high-margin sales of disposable supplies grow exponentially.

We're still early in the robotic surgery game, and this company stands head-and-shoulders above the competition with a defensible patent moat and a large, growing installed base. It's easy to see why David Gardner made it a core holding of his Rule Breakers newsletter. And if the company should miss Wall Street's targets this time, go ahead and enjoy the buy-in opportunity. They are few and far between.


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