Intuitive Surgical ("Intuitive") operates the da Vinci system, the most widely known robotic-assisted surgical system used to conduct minimally invasive care and surgical procedures for soft-tissue surgeries. The company also offers several complementary software, tools, and accessories to increase the number of use cases and effectiveness of the da Vinci system.
Intuitive controls substantially all of the robotic-assisted surgery equipment market given the network effects stemming from the global community of surgeons who are da Vinci-trained, high financial and time resource switching costs, first-mover advantage, and exceptional quality of its products and services.
Robotics are still in nascent stages of adoption, providing a large runway for growth at Intuitive as competitors are still years away from introducing competing products. Intuitive will also continue to innovate, with optionality inherent in building up its da Vinci-based ecosystem and investments low and to the left of the S-Curve via Intuitive Ventures.
Main risks to the thesis include federal, regional, and regulatory scrutiny of current and future products, thousands of patent expirations looming, Johnson & Johnson and Medtronic efforts to bring competing products to market, and high valuation.
Intuitive operates a "razor and blades" model providing high margin and recurring revenue instruments and accessories to customers operating Da Vinci surgical systems.
Key Company Metrics
A set of metrics we constantly keep updated to monitor the investment thesis.
Razor and Blades Business Model
Intuitive runs a "razor and blades" business model, one that relies on an installment of some sort at the beginning of the customer-to-business engagement to sell other products and services afterwards.
In the case of Intuitive, the da Vinci system is not the major money-maker. Systems sales make up only about one-quarter of sales. Instruments & accessories and services make up the remainder.
It is better for Intuitive to sell the da Vinci system to as many hospitals as possible at reasonable prices and flex pricing power with ancillary instrument and accessory sales than try to sell the systems for as high a price as possible.
The reason for this is that the da Vinci system requires hospitals to continue purchasing instruments and accessories throughout the system's life to be usable in the first place.
So, it can be said about 25-30% of Intuitive's revenues are based on volumes (i.e., system sales) while the remainder is made up of high-quality, recurring revenues (instruments, accessories, and services).
This is the essence of a razor and blades model, and one that is highly lucrative for Intuitive.
One of the most obvious competitive advantages of Intuitive is the switching costs associated with the da Vinci system. Hospitals spend anywhere from $500,000 to $2.5 million ($1.5 million on average) on the da Vinci system, a large initial capital outlay, especially when hospitals must adhere to a strict budget.
The price tag is not all – each user must face a steep and long learning curve to get accustomed to the product in simulations and patients. For instance, SimNow training systems logged 34,000 hours of training in over 431,000 tasks in 2020. Hospitals face a massive disincentive to train doctors on competing products given the enormous financial and time resources dedicated to retrofitting a hospital with new robotic surgical systems.
The high switching costs of Intuitive's products and services are a result of first-mover advantage and the monopolistic position Intuitive enjoys as an early entrant into robotics.
Intuitive has established and continues to maintain a high reputation in the medical world given the da Vinci track record and countless studies performed - the da Vinci systems have been on the market for over two decades with over 24,000 peer-reviewed journals published over that period. Intuitive has built a strong, prestigious, and recognizable brand with over 80% market share in robotic surgical systems, nearly controlling the entire global market.
A strong brand and reputation help Intuitive benefit from network effects. The global installed base of da Vinci systems sits at almost 7,000 units today.
For further context, over 41,000 surgeons are trained on da Vinci systems and over 8.5 million surgical procedures have been completed using them. Swaths of information exist on the benefits, current and potential use cases, and studies of the da Vinci systems.
Doctors can access these resources to improve outcomes for patients and leverage da Vinci-trained peers to find new ways to use and benefit from the systems. Ultimately, Intuitive benefits substantially from creating a "community" of global surgeons that trust its products – doctors find new ways to use the system, thus expanding the potential use cases of the da Vinci systems, leading to more sales as the systems become more compelling for hospitals to purchase despite the high price tag.
The value of da Vinci systems increases over time. We believe this is one of Intuitive’s greatest strengths and will help with the adoption of future innovation from the company.
Intuitive’s Balance Sheet
Intuitive sports a bulletproof balance sheet, a competitive advantage in and of itself. The company is one of the most liquid we have seen. It holds so much cash and ultra-liquid, short-term investments in excess of debt and leases, it can cover every single one of its liabilities at a moment’s notice without putting a dent into its bank account.
In fact, Intuitive has plenty more cash when compared to its peers - Medtronic, Johnson & Johnson, Zimmer Biomet, and Stryker.
We believe Intuitive is best positioned in the market to engage in a variety of competitive practices in the case that competitors flood the market with new robotic surgical systems.
Intuitive would be able to better absorb price cuts, continue offering lease arrangements to customers (highly popular in principle according to JP Morgan research), and conduct R&D at many magnitudes greater than competitors.
Intuitive should continue to dominate the robotic surgical system market and, in fact, we would be encouraged to see management raise debt to lower Intuitive’s weighted-average cost of capital ("WACC"), expand value creation (defined as the spread between ROIC and WACC), and invest more aggressively into its operations to maintain the number one position.
Nonetheless, this strong balance sheet will enable Intuitive to undertake share repurchases in opportune times, invest heavily into R&D, and conduct opportunistic and / or accretive M&A, even at its current state.
Barriers to Entry
This leads to the final main competitive advantage Intuitive benefits from – barriers to entry. Intuitive has ownership or exclusive field-of-use licenses for over 4,000 US and foreign patents related to its products and another 2,000 patents in various regions are pending. Surgical systems and the introduction of them into the market are strictly overseen by the FDA, various levels of government in the US, and all other countries in which Intuitive operates. It is unlikely any of these regulatory bodies would approve a product inferior in quality or probability of satisfactory patient outcomes given the da Vinci systems have been around for over 20 years, constantly improve with each new generation released, and currently are the gold standard amongst doctors.
Da Vinci systems have been around for a few decades, but the market is far from mature. Growth is expected to continue for the industry as a whole and we believe Intuitive will continue to lead the pack by fending off competitors with its strong moat. Total global sales for RAS (robotic assisted surgery) systems, instruments and accessories, and services – all of which are provided by Intuitive – are expected to hit almost $10 billion in 2023, a total increase of about $4 billion since 2020, a 17% over the 3-year period.
Intuitive has optionality inherent within its ecosystem. As Intuitive explores optionality within and adjacent to its ecosystem, improved patient outcomes and greater numbers of treatable conditions will help elevate demand for Intuitive's products and services. When Gary Guthart (CEO) was asked about future opportunities, the following areas were highlighted:
Big data helping customers establish benchmarks;
Computing power used in real-time to help improve patient outcomes (e.g., Ion);
Surgeon education directed towards reducing varying outcomes between patients; and
Computing technologies and networking used to enhance productivity.
Intuitive is not worried about the S-Curve. Instead, it embraces it. Intuitive launched Intuitive Ventures, a $100 million fund that will invest in "future leaders of minimally invasive care". Focusing specifically on digital tools, precision diagnostics focal therapeutics, and platform technologies, Intuitive will support independent initiatives in and around minimally invasive medical care to drive developments on the lower, left-hand side of the S-Curve. In simple terms, Intuitive is staying on top of the growth curve and it will continue to contribute meaningfully to the surgery field.
We view the following points as potential risk areas that could threaten Intuitive's near-monopoly in the robotic surgery market:
Hospital budgets are constrained in times of economic turbulence, contributing to the cyclical-like characteristics of Intuitive's revenue sources. Uncertainty around COVID-19 present short-term risks as hospitals will likely not begin to make substantial capital purchases until the pandemic is over.
Intuitive could be subject to regulatory scrutiny from the FDA and domestic and foreign regulatory bodies, as well as risks related to product recalls and healthcare reform, especially in the US.
Low penetration across the globe means there could still be a long road to adoption. The da Vinci systems require lots of training and it could take many months for a hospital to begin using the system on a regular basis, impacting accessories, instruments, and service revenues.
Intuitive holds thousands of patents and is waiting on many more to be approved. As each patent expires, other brands are granted the opportunity to target a piece of the market that was once protected under the law.
Alternatives may begin to hit the market on a grand scale this decade. Medtronic unveiled its soft-tissue robot, Hugo, in 2019. In 2020, Johnson & Johnson announced its Ottava robotic surgery system will compete against Intuitive. Competition from Medtronic and Johnson & Johnson could saturate the market and pressure sales of the da Vinci system especially if utility and durability are similar at a lower price.
Valuation is a risk in and of itself for Intuitive. There is substantial downside risk if the business is adversely impacted by competition or other factors listed above, capital markets experience turbulence, or interest rates rise rapidly and sour general investor sentiment towards "growth stocks".
Despite these risks, we believe these risks are manageable. Intuitive has a strong balance sheet with no debt that will allow it to power through economic turbulence. Its products have also been around for decades, rendering it unlikely that regulators would view the product unfavourably given its success.
Lastly, competitor's products have yet to hit the market – Intuitive will continue to sell to hospitals in the meantime and build its reputation amongst a larger customer base. We do not believe competitors would be able to completely break the trajectory and momentum of the da Vinci systems but rather fill niche areas of the market that Intuitive is not focused on.