Analyst Conference Summary

conference date: April 22, 2014 @ 1:30 PM Pacific Time
for quarter ending: March 31, 2014 (first quarter, Q1 2014)

Forward-looking statements

Overview: System sales crashed badly in the quarter, as did profits.

Basic data (GAAP):

Revenue was $464.7 million, down 19% sequentially from $576.2 million and down 24% from $611.4 million in the year-earlier quarter.

Net income was $44.3 million, down 73% sequentially from $166.2 million, and down 77% from $188.9 million year-earlier.

EPS (earnings per share, diluted) were $1.13, down 74% sequentially from $4.28 and down 75% from $4.56 year-earlier.

Guidance:

Adjusting 2014 procedure growth estimate to a range between 2% and 8% [was 9% to 12%]. Revenue is too difficult to predict given the many headwinds, but expects to sell less systems in 2014 than were sold in 2013. Operating expenses will be 12% to 15% above 2013 levels.

Conference Highlights:

Even in a bad quarter Intuitive Surgical shipped 87 da Vinci Surgical Systems, down from 164 in the year-earlier quarter. In addition system revenue was reduced by $24 million due to a trade-out program for the new launch of the Xi systems.

Procedure volume, however, rose by 7% y/y. Global urology procedures saw continued growth. General surgery led U.S. procedure growth.

The low unit shipment number was attributed to slower procedure growth, the Affordable Care Act, and the Xi system introduction effect on capital spending decisions. Payer incentives now encourage watchful waiting and conservative treatment rather than surgery.

Xi adoption is going to proceed "at a measured pace" as it does not yet have all the instruments planned for it.

Revenue from Da Vinci system sales was $106 million, down 48% sequentially from $204.6 million and down 59% from $255.9 million in the year-earlier quarter.

Revenue from instruments and accessories was $254.8 million, down 5% sequentially from $268.2 million and down 2% from $261.1 million year-earlier.

Revenue from services was $103.9 million, up 0.5% sequentially from $103.4 million and up 10% from $94.4 million year-earlier.

$1920 revenue per procedure, $2110 year-earlier due to fewer stocking orders for new system sales. Sold a larger portion of under-$1 million systems. $1.476 million average price per system sold, which was up due to selling more dual-console systems.

There was a $67 million charge "related to a probable loss associated with product liability." About 3000 claims have been reviewed as part of the mediation process.

67.9% gross margin, down from 71.0% year-earlier. Some impact was from lower margins on Xi systems, but those should improve over time.

The da Vinci Stapler adoption has been solid; colorectal surgery is target market. Single-site hysterectomy port kit is selling well.

Acquiring shape-sensing business from Luna; expects no material impact in 2014.

The cash and equivalents balance ended at $3.0 billion, up $210 million in the quarter. Cash flow from operations was $135 million, $3.46 per share. No shares were bought back in the quarter.

Cost of revenue was $113.8 million. Operating expenses of $258.8 million included: $214.8 million for selling, general, and administrative; $43.0 million for research and development. Leaving income from operations of $56.6 million. Interest income was $3.9 million. Income tax expense $44.3 million.

There was $40.8 million non-cash stock compensation expense in the quarter.

Believes there are still many opportunities to develop and sell robotic surgery systems and instruments.

Q&A:

The 12% to 15% year increase in operating expense, how do you justify? We are investing in future growth, including international markets. Scaling back is not in the long-term interest of the company.

Instrument pocket share for da Vinci? Vessel Sealer has been well-received. Stapling adoption has been pretty positive. We can't peg an exact number, but it should move up in the multi-port, multi-quadrant procedures.

Morcellation issue? The surgical societies will look at the issue and hopefully give guidance. Intuitive does not provide instruments for morcellation So it could be an alternative to morcellation But the issue is creating uncertainty in the marketplace.

What could turn procedure volume around? The pressure has been gynecology from payers in benign surgery. They are elective procedures. In colectomy the patient range for robotic candidates has been narrowed. We don't know how the ACA will play out this year.

Buy back, with so much cash why not now? We speak about buy backs with the board. When opportunities arise the board will evaluate them.

Sp system opportunities? We have not announced pricing, but should be above single-site. It would help with things like kidney cancer where the four arms will help. Or head and neck procedures. Long term there are unique opportunities that could lead to some interesting places.

Shift in strategy to emerging markets? Don't think it is either or re investing internationally vs. new instrumentation.

M&A as possible use of cash? We fund organic growth and development. We have invested outside the U.S., and that should continue. We routinely look for technologies that would enhance our product lines.

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