With less than two months left in 2011, Intuitive Surgical (NASDAQ:ISRG) is up 68.3% year to date and is the fourth-best performing stock of the S&P 500. The question is whether it can keep up this blistering pace. It has been hotter than a pistol for 10 years now, averaging total returns of more than 37% annually. And while its Da Vinci Surgical System is a technology miracle, one wonders when the company will run out of steam.
Investors who bought ISRG at its low, below $100 in March 2009, should sell and in its place consider MAKO Surgical (NASDAQ:MAKO), itself up 138% so far in 2011.
Too Much Cash
Intuitive Surgical recently increased its share repurchase program by $500 million, adding to the remaining $68.2 million from its February 2011 program. The problem (usually a good problem to have) is that the company has too much cash and doesn’t know what to do with it.
As of the end of September, Intuitive had $1.9 billion in cash, short-term investments and available-for-sale securities on its books. That’s 69% of its total assets. How did the company get to this point? One only needs to look at its 10-year financial history to understand. Intuitive has grown revenue every year for the last decade. In 2010, for instance, its revenue grew 34% year-over-year while its net income grew 64%. There’s no question the company is a cash-generating machine.
But the issue here is that it has held too much cash ever since its IPO, in 2000. Intuitive had $55 million in cash as of March 31, 2000, five times its revenue for all of 1999. It added another $40 million in cash through its IPO.
Now I can understand the point of having excess cash when in the startup phase and you’re losing money, but you have to wonder why the company continues this policy while generating so much cash. Existing investors who have held for some time obviously have little to complain about, but new investors really should consider whether they will get an appropriate return on their investment. If most of ISRG’s appreciation is priced in at this point, the lack of a reasonable dividend provides little incentive to buy.
Share Count
As mentioned, Intuitive Surgical maintains a share repurchase program. For the first nine months of 2011, it paid $344.72 a share, and in 2010, $277.92 a share. The closing price of its stock on Nov. 2 was $427.10. ISRG is moving in the right direction and gets a good return on its investment. What’s interesting about its share repurchase program, though, is that its share count has remained virtually the same over the past few years despite implementing share repurchasing in March 2009. The culprit is employee compensation.
In 2011, the company received $132.9 million for stock options and stock purchases. The average price paid for those shares was $249.57. In 2010 alone, Intuitive Surgical’s five named executive officers were given $13.4 million in option awards. Clearly, any gains made from share repurchases are lost to what should be considered excessive compensation. Again, investors who’ve been on the gravy train won’t have a problem with this. But new investors should.
Better Get MAKO
I won’t go into too much detail about MAKO Surgical because InvestorPlace contributor John Lansing does a good job explaining the company’s potential. Suffice it to say, its robotics technology for knee and hip surgery makes it a very interesting play.
Focusing on osteoarthritis, an ailment that both my wife and I suffer from, the company operates in a market that’s only going to get bigger as the population ages. If you look at MAKO’s second-quarter report, it looks a lot like Intuitive Surgical did a decade ago. You still need to do your homework, because MAKO is losing money, but it’s hard not to get excited about the potential.
Bottom Line
What you have here is a changing of the guard. It’s not so much that Intuitive Surgical is a bad company, it’s just that MAKO is a rising star.
As of this writing, Will Ashworth did not own a position in any of the stocks named here.
