Intuitive Surgical, Inc. (ISRG): Do Not Confuse a Great Company With a Great Invesment

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Intuitive Surgical, Inc. (NASDAQ:ISRG), appears to be amongst todays best examples of  how to separate a great company from a great investment. These two can be very different.

Intuitive Surgical is a $22 billion company in the “Medical Instruments in Suppliers” industry, and  a market leader in the field of robotics-assisted minimally invasive surgery.  This technique has advantages of lesser tissue damage, fewer complications, and shorter recovery times. First mover advantage and a large installed base of its da Vinci system provides Intuitive Surgical with a wide economic moat and barriers to entry

Intuitive Surgical, Inc. (NASDAQ:ISRG)

Allowing growth while preserving pricing power:

With initial applications in prostatectomy, new growth areas include hysterectomy as well as urological and gynecological procedures. Going forward the large installed base will generate continued instrument sales and service revenue while providing the clinical case history sought by surgeons and hospital administrators

Competition would require a substantial technology or price advantage to gain entry into this niche, which are currently not visible on the horizon.

Demonstrated strong financials:

With free cash flows being >30% of revenue and RoIC in excess of 20%. The company has a strong balance sheet with no debt and nearly $2.0 billion in cash and liquid investments – adequate to fund future growth and investment.

In comparison with the industry it may be appropriate to look at  competitors in both Medical Equipment and Supplies Industries – Baxter International Inc. (NYSE:BAX), Covidien plc (NYSE:COV), Varian Medical Systems, Inc. (NYSE:VAR) – as well as the Medical Devices industry: Medtronic, Inc. (NYSE:MDT). At the same time while GE maybe a direct competitor, review across financial metrics may not be comparable given the conglomerate nature of its business.

1). Cash flow as % of sales: Intuitive, at 30%, is 2x the ratios for all competitors

2). RoIC: Intuitive, at  20%+, is higher than large competitors in both the Medical Equipment and Supplies and Medical devices industry as well as comparable to the higher ratios of mid sized companies.

Company Ticker Free cash flow % Sales RoIC
Intuitive Surgical Inc (NASDAQ:ISRG) ISRG 30 – 35% 20%+
Baxter International BAX 12 – 15% 17 – 20%
Covidien plc (NYSE:COV) COV 15% 10 – 12%
Varian Medical Systems VAR 15% 25 – 30%
Medtronic Inc (NYSE:MDT) MDT 20 – 22% 10 – 12%
GE GE 10 – 15% < 1%

At the current price of $583, ISRG appears to be at a very high valuation on both intrinsic and relative bases.

1). Intrinsic value: Based on Morninstar analysis – Intuitive currently trades at a significant multiple of its fair value (165% vs competitors being around 80%).

2). Relative value: Similarly it trades at a forward PE of 26.5x, nearly double the multiples for competitors.

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