Growth has come easily for Tandem Diabetes Care (TNDM 5.06%) in recent years. The insulin pump developer grew revenue from $107 million in 2017 to $362 million in 2019. Margins have also improved as the business has scaled. Gross profit soared from $44 million to $194 million in that span, while a full-year 2019 operating loss of $17 million marked a significant improvement from prior years.
Investors are likely pretty familiar with that story line by now. Less often discussed are the finer details describing how Tandem Diabetes Care has achieved its spectacular growth trajectory.
For example, sales to third-party distributors represented 76% of total revenue in 2019. Meanwhile, individuals with type 1 diabetes or type 2 diabetes are more vulnerable to severe infections from the SARS-CoV-2 virus, which might make them less likely to visit their doctors -- a requirement to begin pump therapy. Will the new realities of the coronavirus pandemic and the dynamics of product distribution derail this growth stock in 2020?
Growth was expected to keep humming along in 2020
Tandem Diabetes Care has benefited from a few tailwinds in recent years. Major competitors such as Johnson & Johnson have exited the insulin pump market. An aging global population has expanded the market opportunity for diabetes care. And the company's focus on digital technology to deliver a smooth user experience has helped its flagship product, the t:slim X2 insulin pump, quickly gain market share.
The momentum was expected to continue this year. Initial guidance from Tandem projected full-year 2020 revenue of at least $450 million, marking an increase of 24% from last year. Gross margin was expected to hold steady at 54%, the same level as 2019.
Given the new global reality, investors can expect operations to be impacted by the coronavirus pandemic. The magnitude of the impact will likely be determined by the resilience of distribution networks.
Is distribution the limiting factor to growth?
There are two components to consider: the reliance on distributors and the composition of end users.
Tandem relies heavily on distributors. In 2019, sales to distributors were responsible for 76% of total revenue, including 73% of U.S. revenue and 92% of international revenue. The two largest U.S. distributors accounted for 31% of domestic revenue, while the three largest international distributors accounted for 60% of international revenue.
On the one hand, medical suppliers are considered essential businesses, which encourages them to (safely) operate at full capacity throughout the coronavirus pandemic. On the other hand, distributors aren't immune from supply or inventory disruptions. Each link between Tandem Diabetes Care and end users introduces risks and possible points of disruption to its own business.
Investors should also consider the composition of end users. Tandem generated 83% of full-year 2019 revenue from the United States, which is expected to increase by a percentage point or two this year. There are an estimated 1.6 million individuals with type 1 diabetes in the country compared with an estimated 25.6 million individuals with type 2 diabetes.
The company estimates 90% of its domestic customers have type 1 diabetes, which cannot be prevented by lifestyle choices and requires insulin therapy. Of those, 50% have switched from a different pump to the t:slim X2. The other half have converted from insulin therapy that relied on multiple daily injections.
It seems highly unlikely to expect that end-user composition -- 50% converting from competing insulin pumps, 50% converting from injections -- to remain durable during the coronavirus pandemic. Tandem Diabetes Care might not have trouble continuing to convert individuals familiar with pump therapy to its products, a transition which could likely be managed with telemedicine or a phone call to the doctor.
But converting individuals with no experience using insulin pumps generally requires a trip to the doctor. Only trained medical professionals can determine a patient's basal rate, insulin-to-carbohydrate ratios, correction parameters, and other factors needed to program an insulin pump for proper function.
Given that individuals with diabetes are at greater risk of severe complications from COVID-19, they're less likely to be called into the doctor's office for unnecessary care. Insulin pumps are likely to be deemed nonessential, especially given alternative therapies.
That could halt growth at Tandem, at least temporarily. In 2019, insulin pumps accounted for 68% of total revenue, while recurring sales of infusion sets and disposable cartridges to existing users were responsible for the remainder.
At risk, but relatively well positioned to endure
Digging into the finer details powering growth at Tandem gives reason to expect the business will be hurt by the coronavirus pandemic. The heavy reliance on distributors creates points of failure for getting products into the hands of end users, while stay-at-home orders and an at-risk customer base might make it more difficult to gain new users.
Even if there's a bumpy ride ahead, Tandem Diabetes Care is relatively well positioned to weather a slowdown. The business ended 2019 with $176 million in cash. But if operating losses grow should revenue decline quickly, then Wall Street might rethink the stock's premium valuation. When the company reports second-quarter 2020 earnings after the market closes on April 30, investors will know what to watch.