While Intuitive Surgical's (NASDAQ:ISRG) stock has taken a hit, this Rule Breaker's business is still thriving -- and is now the service's first four-time recommendation. Here, the team talks with Intuitive Surgical Chairman and CEO Lonnie Smith about the pitfalls of being first, the da Vinci's market, and what to watch (including one seriously cool video).

David Gardner: Let me start with the easiest question of all -- how are things going?

Lonnie Smith: I often have investors come in and say, well, how is the quarter going? My answer is, if you are investing in Intuitive Surgical for the next quarter, please don't.

This is not about this quarter or next; this is about changing surgery. This is a disruptive technology that will be adopted over a long period of time, so if you're in it for the long term, then we would love to have you as an investor. If you are in it for the short term, we'd just as soon have you go buy somebody else's stock, not ours.

Our Take: Sounds like a very Foolish attitude. Management's top priority has to be the business, not the share price or Wall Street expectations. If Intuitive can remain committed to delivering tremendous patient value -- reduced costs and recovery time -- then the stock will take care of itself and reward long-term investors.

The View From First Place

Karl Thiel: A lot of people who talk about Intuitive talk about the company's monopoly and its broad moat. I just want to know how you think about competition. One of the appeals is that Intuitive doesn't have a lot of direct competition, but I wonder if you think there is vulnerability, ultimately, to somebody trying to enter the market, maybe during an upgrade cycle or even just trying to muscle their way in.

LS: I tell people the penalty for being first is you have a lot of hard problems to solve, and the benefit of being first is you have a lot of hard problems to solve. ...

I am a big believer that it is not the first 95% or even 98% of what you do. That just gets you in the ballgame. It is the last 1 or 2 percent that really differentiate you from the rest of the crowd, so the advantage of being first is we have made most of the mistakes. We have the benefit of our own errors and learning that comes from them, and of the intellectual property and knowhow that comes from that. But we also have the advantage of creating the installed base, all the instruments, the ancillary devices, all the things that really are necessary to do different procedures. Building a large installed base and the organization that supports and maintains that and builds it is really crucial. Anybody who comes after us will have to replicate a lot of that. That will be difficult.

Our Take: Being top dog and first mover in an important, emerging industry is one of the six signs of a Rule Breaker. Some of the best lessons are those are learned from the school of hard knocks, and Smith and Intuitive have turned those into a strength.

The da Vinci Market

KT: How about the idea of market saturation? I wonder how many units you can realistically sell before you're kind of limited to mostly upgrades and replacements?

LS: I think that is largely going to depend on our own ingenuity. The point is that markets evolve, and so what we might think of as saturation today won't be saturation tomorrow if we are really innovative about continuing to drive the technology and its applications.

Now given what we know today, we are a long way away. When I first came to Intuitive, I thought, let me take a typical adoption curve and apply it. But I was totally wrong. I hadn't read Geoffrey Moore's Inside the Tornado yet. Adoption occurs procedure by procedure.

Some of that we can anticipate. What is the advantage, what is the value proposition here? The value, we believe, to the patient is efficacy divided by invasiveness. And if we have a good value to the patient, then we will have adoption. So we believe that the adoption of disruptive technology is driven by a significant shift of the value equation. But new ideas are often born very ugly; you don't dismiss them easily. It is very easy to walk away from them and often they are going to be the jewel that really drives the company.

Our Take: We agree. How do you eat an elephant? One bite at a time. Similarly, Intuitive measures the adoption of the da Vinci by one procedure at a time. Ultimately, saturation is a moving target, because the surgical market is always evolving.

What to Watch to Win

Wade Michels: Knowing and understanding key metrics or levers for business is very Foolish. What are they for Intuitive? Does it all start with the number of procedures performed?

LS: We manage the business with what we call WIN goals, which I stole from Lou Holtz and stands for What's Important Now. We set goals at a high level as an executive team, and then they go down to every functional area and to individual teams. But at the top of our organization, WIN goals are procedures. Of course we have to sell systems. We are constantly reviewing the metrics. We measure procedures not just in sheer numbers, but we do adoption curves. We look at anecdotal data, and then we ask if there is a quantitative framework we can put it into. We use matrixes here in terms of almost everything we do. We are big believers in metrics.

One goal is to try to anticipate early when something is either taking off or something is not performing quite the way you thought it was. Then the question is to get the organization moving to find out why. Fixed and variable costs are important to us. We are big believers in lean manufacturing and lean processes.

Our Take: To ensure that the business remains happy and healthy, Fools should keep an eye on these tangible adoption measures: total units installed (1,032 as of the third quarter of 2008), revenue per system ($1.7 million), service revenue per system ($135,000 per year), and instrument and accessory revenue per procedure ($1,500 to $2,000).

New Procedures

KT: Are there procedures you would like to go after that don't really work with the current machine, that need a fundamentally different kind of tool to go with -- or is this a platform that you can continue to adapt toward virtually any surgery? Where are you going with R&D?

LS: The current platform has a lot of legs, and the da Vinci and the da Vinci S have been used in over 100 different types of procedures. We probably get informed of a new application at least monthly from surgeons who are using it in ways that we didn't anticipate.

Our Take: It's rare when customers spend time and energy on new projects that end up benefiting a manufacturer. Essentially, it acts as a research and development cost that Intuitive doesn't have to pay. Consider this a major competitive advantage.

Going Viral

LS: We truly believe we have a viral adoption. The Internet is a major element in educating patients in that sense. Patient-to-patient interaction, blogs, all kinds of things that start to become really viral. That is something that has expanded the universe dramatically compared to what it might have been 20 years ago. But now people if they have a disease, somebody is going to get on the Internet and Google and try to understand what their options are. It may be the patient, it may be a family member, or it may be a friend. I think that is a major advantage if we have a compelling patient value proposition.

DG: My final question gets back to the viral Internet thing. I know among our membership, a video got flipped around some months ago. I can't remember where it came from, and I am curious whether you guys were behind this or not, but it was the da Vinci does origami video. It is remarkable -- was that part of a company viral marketing campaign?

LS: No, it was done by a surgeon in Japan on his own, as his own interest. Ultimately it got posted through his group. We had seen it prior; it has been a great hit. We have had the origami here, sitting on people's desks, that he has done. The ideal situation is when you don't create those. You have the benefit of this broad group of surgeons and patients, and their energy gets put into things that help to spread the word. And that is the viral. Somebody came to us; actually it was our general counsel here. He says he used to hear people talk about the surgery; now I hear about origami. (Laughter.)

David owns shares of Intuitive Surgical.

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