DexCom Inc. (NASDAQ:DXCM), Insulet (NASDAQ:PODD), and Tandem Diabetes (NASDAQ:TNDM) are working on new medical devices that could significantly improve the lives of people with diabetes. Addressing this massive market is a big opportunity, but are these stocks worth adding to your portfolio?
In this clip from Industry Focus: Healthcare, analyst Kristine Harjes and Motley Fool contributor Todd Campbell explain how smarter continuous glucose monitors and insulin pumps are disrupting patient treatment.
A full transcript follows the video.
This video was recorded on May 23, 2018.
Kristine Harjes: I already started to intro our next company as the first company to get a CGM approved. This one is Dexcom, their ticker is DXCM. They're a much smaller company, around a $7.5 billion market cap. About a decade ago, they were able to achieve this distinction of being the first FDA-approved maker of a continuous glucose monitor, which was pretty revolutionary. We mentioned Abbott's system, and how that was very disruptive. Where does that leave Dexcom? Are they old news now, or are they still able to compete?
Todd Campbell: A lot of people were very concerned about what this would mean for Dexcom. Now, Dexcom is 100% exposed to the diabetes marketplace, so this would be a pure-play within the area. They were pioneers and remain, I think, pioneers in CGM technology. They have taken an agnostic approach to developing CGMs, meaning that they want their CGM to be able to be used with whatever insulin pump or insulin delivery device a patient chooses. That could be an advantage for Dexcom longer-term.
They closed the gap to the FreeStyle Libre earlier this year when the FDA approved their latest generation CGM, that's the G6. The G6 also doesn't require finger sticks for calibration. It does have one advantage in that the FDA approved it to be interoperable with other devices. That's the first time the FDA has given that kind of a nod in its language to one of these CGMs. That means that this CGM can be used, again, agnostically, with other insulin pumps made by other companies we're going to talk about in a second, or even with apps that are developed for smartphones, etc.
Harjes: Right. I'll add one other distinction that Dexcom has going for it. In a head-to-head study of the G5, which was its previous system, vs. the FreeStyle, which was Abbott's system, it showed that the G5 actually outperformed in terms of time required to detect hypoglycemia. That study just came out earlier this year and should be a little bit of a tailwind for them in trying to compete with Abbott. But, I also truly don't think that the winner that comes out on top is necessarily going to be the only winner. This is an enormous market, as we led off with at the very beginning of the episode, so I can see room for multiple winners.
Campbell: That's an awesome point. On the FreeStyle Libre, Abbott is saying that they're adding, I think, 50,000 patients a month. This is a huge market. And two-thirds of those patients, I think, are type 1, and one-third is type 2. We're barely scratching the surface in type 2 diabetes for CGMs.
I think, as these machines get more savvy, smaller, more efficient, more easily used, and potentially cheaper, payers are going to begin to reimburse them more widely. Just to put it in context, too, with the FreeStyle Libre being on the market, Dexcom still delivered year over year growth in the first quarter of 30%. That was $184 million in revenue. This year, they're guiding for sales of $850-860 million. So, despite the threat from Abbott, it's not like this company is seeing a deceleration in its sales.
Harjes: Those are your CGM makers. Let's move on and talk a little bit about the insulin pump makers themselves. One of them that we want to highlight is called Insulet, ticker PODD. They're a $5 billion market cap company, and they make something that's called the Omnipod Insulin Management System.
Campbell: These are really cool devices. They look a little bit like the old AirPort that was made by Apple, they're kind of a saucer-like device. They're relatively small, though, and you can stick them on your skin to deliver insulin directly into your body. You can wear them for up to three days. It's a very freeing device. I happen to know someone, a neighbor who's a young 15-year-old, very active, and he wears one and absolutely loves it. It's paired up, typically, with a CGM. Oftentimes, it's being paired up with CGMs that are made by Dexcom. Its sales last year, in 2017, grew 26% to $460 million. And, thanks to some new Medicare reimbursement coverage, sales should grow to between $565-580 million this year. That's up 22-25%.
So, again, a pure-play insulin pump maker that also, intriguingly, wants to challenge Medtronic. They're developing their own closed-loop system. We talked a little bit about Medtronic and their 670G, which is their artificial pancreas system. Well, Insulet is developing its own. That system will be pairing up its pods with Dexcom's CGM. And according to management, they plan on incorporating, over time, the latest Dexcom that just got approved, the G6.
Harjes: There are several different intriguing partnerships and overlaps between some of these businesses. It's actually difficult to pick apart who's going to head-to-head as a competitor and who's playing nice with interoperability and working together to develop things, because all of these companies are fairly closely tied together.
You mentioned reimbursement. I do want to stress that that's actually a really important point to look into for each of these companies. When a new device is approved, that doesn't necessarily mean that it's going to be covered, particularly by Medicare and Medicaid, which cover an enormous amount of patients. So, you'll see in some of the earnings reports and press releases for these companies that they will highlight, "Our newest device just got approved for coverage by Medicare Part D prescription drug benefit program." That's always really good news to see. So, another key development to look out for with all of these companies.
Campbell: Right, because otherwise you're paying for this stuff out of pocket and it can get pretty costly. It's been one of the things that's held back the penetration of the CGMs, especially, is showing and convincing payers that better control of your blood sugar levels over time will reduce their costs, it's a long-term money-saving thing. We've talked on the show about this in the past, Kristine, how difficult it is, because most people change their insurance within a few years. So, the company may be paying for something now that has a long-term benefit may actually not benefit from that long-term benefit, and maybe it's Medicare or someone else who actually gets the benefit from it.
Harjes: And these are largely razor-and-blade model businesses, which, from the business perspective, is really great. You have the initial sale of the device and then you have disposable consumable elements of it that produce recurring revenue. But, if you look at that from the payer side, maybe that's not quite as good, because that means that you're going to be on the hook for paying for not just the device, but also all of the consumables that go along with it.
The last company that we want to talk about today is somewhat similar to Insulet in that they are an insulin pump maker. They're called Tandem Diabetes Care, ticker TNDM. Pretty small company here. Actually, I think they're the smallest we've talked about today. They're only a $660 million market cap company. They've been extremely volatile, they have been extremely dilutive of their shareholders. But, they have some partnerships with Dexcom, and they're doing some interesting things.
Campbell: They make the touchscreen t:slim X2 insulin pump. It's the only pump, they claim, that can allow for remote feature updates from a computer. That could be advantageous to people who want to be able to buy it once and be able to get some updates on it. It is, like Dexcom and Insulate, 100% exposed to the diabetes market, so theoretically its demand and sales are going to grow right alongside diabetes growth.
It is also working, like Insulate is, on its own closed-loop artificial pancreas system that could theoretically someday challenge Medtronic. But, we're still probably at least a year away from starting to see that product come on the market, maybe two years, depending on how these trials play out. On that artificial pancreas system, it's also working with Dexcom. It's pairing up Dexcom's CGM with its pump.
You mentioned that it's the smallest of the bunch that we're talking about today, absolutely. Its revenue in the first quarter was much smaller than these other companies. It was about $27 million in the first quarter. In 2017, they only did $108 million in sales. First quarter sales, though, were up 44%. That's good. We'll have to see whether or not they continue to win market share away from these other pump makers.
I think one of the things, though, that we have to remember, Kristine, to tell all of our investors is that these pure-plays that we're talking about? They're all losing money.
Harjes: That's true. It makes them kind of hard to value on traditional metrics. And even when you use stuff like price-to-sales, they actually still look very expensive. I think that's a question worth exploring a little bit. Most of these companies do look like they're extremely expensive. Are there any bargains to be found in this space?
Campbell: Well, bargains are always relative. Right, Kristine? We talk about this when we talk about investing all the time. I think, yeah, it's great if you can buy a stock on sale. But what's more important over a ten or 20 or 30-year long-term time horizon is, how big is the market opportunity, and is there a competitive advantage that could allow one of these companies to win vs. another company.
So, yes, the price-to-sales ratios are elevated on these stocks. You're running anywhere between 5-10X for the pure-plays. But you can justify that if you say to yourself, "Yeah, but, we're only scratching the surface on the tens of millions of patients, theoretically, that could begin to use CGMs and pumps over the course of the next ten to 20 years."
My advice to investors would be, yeah, recognize that if you're a value investor, you're not going to be buying these three pure-plays. You might want to look at Medtronic and Abbott instead. But, if you're a growth investor, stay focused on the big picture, which is that the patient population, the addressable market, is going to climb significantly over the course of the next decade.
Harjes: And if, by chance, you're looking at Tandem specifically because it's so small, and saying, "Why shouldn't they be just as large as Insulet? Let me buy them now," I do want to make sure that I mention, this is a company that, as you mentioned, Todd, is losing money. But, that alone is not a terribly bad thing. That's OK for the place that they are right now in their business cycle.
But, they have a large amount of debt. They have $72 million in cash. Most of that came from an equity offering in February. They have been extremely dilutive. Shares outstanding have risen 900% over the last one year, 400% since just January. This is a company that is fairly early stage relative to a company like Insulet, so they need financing, and they need to take these sorts of actions in order to keep their business running.
So, when you're comparing your stocks, I wouldn't necessarily say, "Hey, these two have the same addressable market, but Tandem is so much cheaper on a market cap basis, let me immediately go for that." I mean, I think it's an interesting company, but it's a lot riskier than the more developed, more mature Insulet, which is, by its own accord, also not going to be as mature and as developed as something like Medtronic.
Campbell: Yeah. Maybe, of the three pure-plays, Dexcom is the more mature. I don't want to say it's less risky, because it's a plenty risky stock, Kristine. [laughs] Just look at its stock price chart over the course of the last three years, right? But, the fact that it's agnostic and it has exposure to both Tandem and to Insulet, maybe that makes it a little bit less risky, because it doesn't matter which one of Insulet or Tandem gets to market first with a competitor to Medtronic's closed-loop system.