Imagine a company with a groundbreaking technology that could change the world as we know it for the betterment of mankind. Now imagine that you can invest in its stock at an attractive price. Sounds good, right?
I'm pretty confident that I've found such a stock. Its product looks straight out of a sci-fi-inspired future -- it's a little disturbing, actually -- but it is fundamentally altering the way surgery is performed to the benefit of patients everywhere. The company is Intuitive Surgical (NASDAQ:ISRG), maker of surgical robots, and I believe it belongs in your portfolio.
A whole new operation
Intuitive Surgical and its product, the da Vinci, are at the forefront of robotically assisted surgery. Essentially, the da Vinci, with its multiple arms and advanced tools, allows doctors to perform many operations -- which would ordinarily require open and traumatic surgery -- through small "keyhole" incisions less than an inch wide. With the da Vinci, doctors can perform a coronary artery bypass without cutting open the sternum and spreading open the chest.
Because of its clear benefits to patients, da Vinci surgery is in high demand. The technology already dominates the prostatectomy market: It was used in 73,000 prostatectomies performed this year, up from less than 5,000 five years ago!
But that's just the beginning, as it has proven that the concept of robotic surgery works, the da Vinci is finding strong uptake among numerous other procedures. Perhaps most exciting for investors, use of the da Vinci has seen 150% year-over-year growth for the past two years in the hysterectomy market. Considering that the da Vinci is currently used in only 34,000 of the 250,000 hysterectomy procedures that the company targets, filling that gap could drive growth for years to come. And those numbers only include U.S. market potential.
Meanwhile, procedure volumes have increased by more than 100% this year in eight other procedures, which management says usually indicates the beginning of rapid growth. To put it one way, if the prostatectomy market is a nearly fully grown tree, and the hysterectomy market is a quickly growing sapling, these procedures are seedlings reaching toward the sun, with more seeds being discovered every day. The future of surgery is taking root right in front of our eyes.
The only game in town
For investors, another great thing about Intuitive Surgical is that it operates as a virtual monopoly. Management is so confident of the company's complete dominance of robotic-assisted surgery that it said in its recent conference call that there was no other company it could acquire that would provide any strategic advantage to Intuitive Surgical, even though with $900 million in cash, it could certainly afford to do so. Instead, the company is looking for technological growth solely from within. As the company sees it, if you want in on this transformative shift in surgery, Intuitive Surgical is your only option.
When opportunity knocks, open the door
Yet, because of the economic downturn (what else?), Intuitive Surgical is trading at very reasonable prices.
Quite simply, hospitals have cut back on capital expenditures for various reasons, leading medical device makers like Hologic (NASDAQ:HOLX), Hansen Medical (NASDAQ:HNSN), Medtronic (NYSE:MDT), and Natus Medical (NASDAQ:BABY) to cut revenue estimates for 2009.
In Intuitive Surgical's case, it recently projected that system sales would be flat in 2009, overall revenue growth would only be 15%, and earnings per share would grow at 5% -- this for a company that has grown revenues 58% and earnings per share 66% annually for the past four years.
But it isn't as if the company is imploding. First, the essentially flat guidance for the next year is due almost entirely to a prediction of flat system sales. Other revenues, such as those from service contracts and sales of accessories and instruments, make up roughly half of the company's total revenue -- and they're still projected to grow from 25%-35% on the back of strong 35%-40% procedure growth.
More importantly, system sales are ultimately driven by patient demand and procedure growth. If the number of procedures grows beyond a certain number per system, then hospitals must buy more da Vincis to meet that demand. With high projections for procedure growth, demand for da Vinci systems should increase. And although further slashes in hospital budgets could delay purchases for a while, that pent-up demand should eventually result in future sales.
The final verdict
So, in a nutshell, I see substantial procedure growth coming mainly from the hysterectomy and prostatectomy markets, with support from other procedures that are rapidly taking root. This growth will force hospitals to buy da Vincis -- once the credit crunch has passed, of course -- because of pent-up demand per system. The resulting sales will produce revenue growth that could far outpace Intuitive Surgical's historical growth rates.
At today's levels, I see the market offering shares at a very reasonable price, especially given the company's extraordinary growth possibilities far into the future. Using a simple discounted cash flow analysis, I believe the current share price reflects only modest growth rate expectations -- 10% from now to 2014, followed by 5% growth after that. For a company with past growth rates above 50%, I think today's prices are a real steal.
Robotic surgical systems are the future of surgery. I anxiously await the day when Intuitive Surgical has so much mindshare that surgeons say, "da Vinci it." It worked out marvelously for Google (NASDAQ:GOOG).
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