Robotic-assisted surgery represents the future of surgical procedures. The advantages are several. Such procedures are minimally invasive, patients have quicker recovery times, their hospital stays are shorter, and less aftercare is required.
Intuitive Surgical's (ISRG 0.71%) da Vinci surgical system is the dominant market leader, with thousands of systems installed worldwide. The question is, with COVID-19 crimping the company's results, is the stock a buy?
Image source: Getty Images.
Three reasons to buy
Anyone who has had surgery recently may have experienced the advantages of Intuitive's da Vinci surgical system firsthand. After all, the company has an 80% share of the surgical robotics market. That dominance will continue to pay dividends far into the future. Intuitive operates using a "razor and blade" business model -- it does make money from the initial sales of its da Vinci systems, but most of its revenue is recurring and comes from the sale of the disposable instruments and accessories those machines use, and services for the systems.
The more installed systems, the more its recurring revenue will grow. In 2021, Intuitive reported that recurring revenues accounted for 75% of its top line. The company has built a commanding lead over its limited competition, and robotic surgical systems have high switching costs, so its market dominance is likely to be lasting. This is truly a wide-moat business.
The second reason to invest in Intuitive Surgical is its incredible profitability. For the first three quarters of 2021, it reported $1.4 billion in operating income on $4.2 billion in revenues. That's a 33% operating margin. At 32%, its net margin is almost as good because its tax expense is partially offset by its interest income. It's also far better than many of its peers in the medical device category, as the chart below illustrates.
ISRG Operating Margin (TTM) data by YCharts
The third reason to consider buying Intuitive Surgical is its strong balance sheet. The company's high margins produce a tremendous amount of cash. This allows the company to operate long-term debt-free. As of the end of Q3 2021, it had $8.2 billion in cash and equivalents, short-term investments, and long-term investments on hand. That amounts to more than 7% of the company's current market cap.
This illustrates why it's important to consider a company's enterprise value (EV), which accounts for its balance sheet, rather than just its market cap. Enterprise value is calculated by taking a company's market cap and adding the net debt. A lower enterprise value, compared to the market cap, represents a better value for investors. And this is exactly the case with Intuitive Surgical.
One reason to sell
Intuitive's recurring revenue model is typically terrific. But, the pandemic has seriously crimped the company's business. Many of the most commonly performed surgical procedures that the da Vinci system is used for are non-emergency or elective procedures. When COVID-19 patients fill up hospitals, many of these procedures have to be postponed or canceled. The omicron variant surge, which has pushed daily new case figures to their highest ever levels, is therefore dealing yet another blow to Intuitive's business.
The company's growth from 2019 to 2021 was unimpressive. Intuitive forecasts that fourth-quarter 2021 revenue will be $1.6 billion, up 17% year over year. However, its 2020 results were also impaired by COVID-19. Its compound annual growth rate from Q4 2019 to Q4 2021 is expected to be only 10%. Procedures performed over this same period grew at a compound annual rate of just 14%.
An investor would typically expect to see higher growth for a company trading at a forward-EV-to-EBITDA ratio near 40. This valuation would be less concerning if COVID-19 was not as persistent of a headwind. For comparison, peers like Medtronic (NYSE: MDT), Abbot Laboratories (NYSE: ABT), and Stryker (NYSE: SYK) have forward EV-to-EBITDA ratios ranging from 16 to 20.
Is Intuitive still a buy?
The COVID-19 pandemic has hampered Intuitive's growth, and the stock has in the past few months slid by more than 18% from its 52-week high as a result. Although, while it sometimes seems like it will go on forever, the pandemic is temporary, as are the headwinds it's creating for Intuitive. The long-term trends, on the other hand, are tailwinds for its business.
The U.S. population is aging, robotic-assisted surgery is becoming more widely used, and the number of procedures performed with these machines will likely accelerate as a result. Intuitive's business model is top-notch, as evidenced by its incredible margins and fortress-like balance sheet. Long-term investors will likely see significant market outperformance from this stock.
