Intuitive Surgical, Inc. — Q3 2015 Form 10-Q
Reporting period: Quarter ended September 30, 2015; comparisons are with the same 2014 period unless noted. Intuitive Surgical designs, manufactures, and sells da Vinci surgical systems, instruments and accessories, and related service.
Financial performance
| Metric | Q3 2015 | Q3 2014 | Nine months 2015 | Nine months 2014 |
|---|---|---|---|---|
| Total revenue | $589.7 million | $550.1 million | $1,707.9 million | $1,527.0 million |
| Gross profit / margin | $395.8 million / 67% | $360.6 million / 66% | $1,119.1 million / 66% | $1,020.4 million / 67% |
| Operating income / margin | $189.9 million / 32% | $159.1 million / 29% | $494.1 million / 29% | $358.7 million / 23% |
| Net income | $167.3 million | $123.7 million | $398.8 million | $272.0 million |
| Diluted EPS | $4.40 | $3.35 | $10.55 | $7.18 |
| Operating cash flow | Not separately stated for the quarter | $488.5 million | $470.9 million |
Q3 revenue increased 7%; recurring revenue rose 9% to $415.5 million, or 70% of revenue, while systems revenue rose 3% to $174.2 million. Nine-month revenue increased 12%, with recurring revenue up 10% and systems revenue up 17%. Q3 da Vinci procedures increased approximately 15%; nine-month procedures increased approximately 14%.
At September 30, cash and cash equivalents were $868.2 million, short-term investments $871.5 million, and long-term investments $1,385.5 million—about $3.1 billion combined. Total assets were $4,682.3 million and total liabilities $567.1 million. The balance sheet reports no interest-bearing debt. Current assets of $2,398.8 million compared with current liabilities of $478.6 million.
Nine-month investing cash outflow was $436.4 million, mainly reflecting net investment purchases and $61.3 million of property, equipment, and acquired intellectual property purchases. Financing cash inflow was $217.2 million, including employee stock-plan proceeds; the company repurchased $99.5 million of stock. The 2015 authorization had $900.5 million remaining at quarter-end.
Material changes and operating developments
- Q3 operating income rose 19%. For the nine-month period, SG&A declined 10% to $480.2 million, largely because product-liability charges were lower than in 2014; R&D increased 11% to $144.8 million, reflecting development organization growth and project costs.
- Q3 gross margin improved year over year, helped by lower recall-related costs than in Q3 2014 and improved manufacturing efficiency. Nine-month product margin fell to 65.6% from 67.1%, in part due to newer products and foreign-currency effects; nine-month service margin also eased, partly due to initial Xi servicing costs.
- The installed base reached approximately 3,477 systems, up from approximately 3,266 at year-end 2014. The da Vinci Xi represented 90 of 117 Q3 system shipments. Q3 U.S. procedures grew approximately 12% and international procedures approximately 28%.
- Revenue was adversely affected by U.S.-dollar strength. Foreign-currency revenue was approximately 19% of Q3 and nine-month revenue; hedges partially offset the currency impact.
Outlook, commentary, risks and unusual items
- No numerical revenue, earnings, or procedure guidance is provided. Management expects continued substantial investment in commercial operations, product development, manufacturing, facilities, and procedure adoption, and expects R&D expense to continue increasing. Management believes cash, investments, and operating cash generation are sufficient for foreseeable liquidity needs.
- Management expects international procedures and revenue to grow faster than U.S. business over time, but highlights uncertainty around China’s system-purchasing tender and future authorizations, and Japan’s reimbursement decisions for procedures beyond prostatectomy.
- Product-liability exposure remains material: the company was defending approximately 90 individual cases and a multi-plaintiff case involving 45 patients. It recorded $13.8 million in product-liability charges in the first nine months of 2015 and reported $29.9 million accrued for tolled claims at September 30. The ultimate cost could materially exceed the estimate; excess loss could not be estimated.
- Other risks include adoption and reimbursement trends, competition, regulatory clearances and field actions, negative publicity, foreign exchange, and hospital spending. The company reported a prior Stapler 45 recall and a 2015 safety notice concerning certain equipment drapes; replacement drape supply was still being addressed.
- Tax results included a $29.3 million benefit related to a U.S. Tax Court opinion and approximately $7.8 million of discrete benefits from tax-audit resolutions. The nine-month effective tax rate was 21.3%, versus 25.3% in 2014. Gross unrecognized tax benefits were approximately $83.5 million.
- The FDA conducted a routine Sunnyvale inspection in October 2015, after quarter-end; no observations were communicated at its close, and the final inspection report was expected in Q4 2015.
Investor verification priorities
- Assess whether procedure growth and recurring revenue can continue to support growth as system shipments, procedure mix, and foreign exchange fluctuate.
- Review the product-liability accrual, settlement progress, insurance disputes, and potential exposure beyond recorded amounts.
- Track Xi product margins and service costs as manufacturing and repair programs mature.
- Verify developments in China’s tender process, Japan reimbursement, regulatory clearances, and product field actions.
- Separate underlying earnings performance from the 2015 tax benefits and compare cash generation with share-based compensation and stock repurchases.