Analyst Conference Summary

conference date: July 19, 2016 @ 1:30 PM Pacific Time
for quarter ending: June 30, 2016 (second quarter, Q2 2016)

Forward-looking statements

Overview: Revenue growth strong both sequentially and y/y, led by a rebound in systems sales from Q1.

Basic data (GAAP):

Revenue was $670.1 million, up 13% sequentially from $594.5 million and up 14% from $586.1 million in the year-earlier quarter.

Net income was $184.5 million, up 35% sequentially from $136.4 million, and up 37% from $134.5 million year-earlier.

EPS (earnings per share, diluted) were $4.71, up 33% sequentially from $3.54 and up 32% from $3.56 year-earlier.

Guidance:

Updated 2016 outlook for procedure growth increased to 14% to 15%. Sees fewer lease buyouts in 2H than 1H, and lower system average prices. Non-GAAP gross profit margin increased to 70 to 71% of revenue. Expense growth to accelerate to 12% to 15% y/y. $170 to $180 non-cash stock based comp ensation. $30 million other income, up due to higher interest rates. Non-GAAP tax rate 26.5% to 28.5%, depending mainly on mix by nation.

Conference Highlights:

Intuitive Surgical shipped 130 da Vinci Surgical Systems, up sequentially from 110, and up from 118 in the year-earlier quarter. 75% of systems placed were da Vinci Xi. More high end systems sold. 51 systems and $185 million revenue was from outside the U.S. 17 systems were placed in Japan or China. 15 systems were placed under leases. 66 total leased systems at end of quarter.

Procedures using da Vinci systems in Q2 grew about 7% sequentially and 16% y/y, "driven primarily by growth in U.S. general surgery procedures and worldwide urologic procedures." Hernia repairs remained strong. Europe was good except the U. K. growth rate decreased. Outside the U.S. procedure growth rate hit 25%, led by Germany, China, and South Korea.

But "we expect our procedure growth rate to moderate in the second half of 2016." Prostatectomy volumes are trending to the overall growth rate. Colorectal adoption continues. Data continues to be published supporting the safety and efficacy of da Vinci systems compared to traditional surgery.

Table motion software sales were strong.

Revenue from Da Vinci system sales was $202.7 million, up 37% sequentially from $147.9 million, and up 15% from $176.0 million year-earlier. $1.56 million average price.

Revenue from instruments and accessories was $339 million, up 5% sequentially from $322 million, and up 14% from $297 million year-earlier. $1,810 per procedure average.

Revenue from services was $128.1 million was up 3% sequentially and up 13% y/y from $113.3 million.

Non-GAAP numbers: Net income was $220.4 million, up 29% sequentially from $170.3 million and up 28% from $172.8 million year-earlier. Non-GAAP EPS was $5.62, up 27% sequentially from $4.42, and up 23% from $4.57 year-earlier. 71.9% gross margin. Non-GAAP numbers exclude trade out revenues. Share based compensation expense was $42.7 million.

The cash and equivalents balance ended at $4.22 billion, up sequentially from $3.80 billion. There is no debt. Nothing was spent on stock buybacks in the quarter.

Cost of revenue was $199.2 million, leaving gross profit of $470.9 million. Operating expenses of $225.5 million included: $170.8 million for selling, general, and administrative; $54.7 million for research and development. Leaving income from operations of $245.4 million. Interest income was $8.0 million. Income tax expense $68.9 million.

Q&A:

Operating investments in second half? Some are in technology, like scaling for SP. Some in imaging. Investing in certain regions like Japan and Germany.

Procedure investments? Broad adoption is a multi-year process in many regions. We also need to set up with payers and reimbursement.

Targets for head and neck surgery? More trans-oral than thyroidectomy. SP is a pretty powerful platform.

SP timeline for release? First we need clearances and clinical data. We don't expect material revenue in 2017, but it should be more in 2018.

Hernia trial work? We have several initiatives for hernia repair data.

Analytics? That has multiple components. Systems are real-time connected to the Internet, giving us system information. Going forward we hope to bring intelligent insights into real time, rather than analyzing past events.

Imaging next step? We are releasing endoscopes at a regular clip. XI has new imaging. We are introducing fluorescence to new procedures.

Lower ASP mix in 2H? Leases helps customers get into robotics. Seasonally systems revenue is stronger in Q4, and has lower margins than instruments and services. We expect growth in stapling and vessel sealing, which also are at lower margins. In Q2 we saw better service gross margin, but going forward expect to sell more new scopes at lower margins.

Sustainable gross margin? We are not giving guidance beyond 2016. There are a lot of moving parts in our margins. We have programs to reduce costs of products.

Cash use? We are at an interesting point in our evolution. We have new platforms that we want to bring to market, which will take some investment. But competition is increasing. Some of our competitors' technologies may be interesting to us. We look both for organic growth and acquisitions. We could also use the cash to benefit shareholders through buy backs.

Surgeons vary greatly in level of skill. We are trying to make it easier for other surgeons to be as good as the best surgeons are now. You want to mark tissues in real time for the surgeons, in the future.

China? Sold 4 systems to military hospitals. Our prior quota expired in December 2015, so we are waiting for the government to assign us a new quota for public hospitals. It is part of their normal budget process, which has been delayed this year.

Sales through distributors lower our pricing and margins.

Growth rate comparisons get harder in the second half of the year.

Table motion conversion state? Don't want to get into specific units. We had $6 million in revenue from table motion, split between new systems and retrofitting. We have 750 XIs that could be retrofitted.

Competitors like Medtronics are focused on per-procedure costs. Your response? They are going to have to show how they can make that happen. It takes investments in technology. We are able to control our price points. "Intuitive will offer multiple price points ... what value they find at a price point will be their decision."

Utilization per system in U.S. keeps hitting new highs, how are hospitals doing that? Multiple reasons. They are optimizing flow of patients and surgeons. Some new procedure categories allow for quicker procedures. In some markets we are seeing referral consolidations. But utilization growth can't go on forever.

Vessel sealers and staplers? We have seen growth over the past few years, particularly in certain procedures. There is still runway growth. They are only available on our XI systems.

Does table motion open up new procedures? Multi-quadrant general surgeons like it. We will share data on new adoptions as we receive it.

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