NEW YORK (TheStreet) -- Known for its consistent, rock-solid growth, Intuitive Surgical (ISRG) has been riding the wave of high expectations over the past couple of years as the stock price has climbed from $100 a share in 2009 to $583 this past January. But as is often the case with high-flyers who consistently escape valuation concerns, there's a point when the music stops.
Unlike other strong med-tech giants like Medtronic (MDT) and Stryker (SYK), shares of Intuitive Surgical have always been expensive. It wasn't hard to figure out when the party was over; Intuitive's investors just didn't want to leave. In January, as the stock peaked, Intuitive posted poor growth results and management followed with a warning in July advising that second-quarter results were going to disappoint.
Even with that warning sending Street estimates lower, the company missed its revenue targets for the July quarter and posted a 3% decline in operating income, about 7% short of estimates.
Three months later, things have not improved. After another earnings disappointment, the stock is down close to 40% from its January high. While I do believe these shares have now reached more rational levels, given that growth in the procedures segment continue to erode, it's anyone's guess as to when the stock will find a bottom.
Although the stock started to decline following the January quarter, shares were up more than 12% in the 30 days leading to the third-quarter report, which suggested optimism among investors. Unlike Stryker and, to a lesser extent, Johnson & Johnson (JNJ), the Street wasn't expecting much for Intuitive this quarter. But with a 7% year-over-year decline in overall revenue, Intuitive went in the opposite direction.
Much of the disappointment was attributable to a 32% decline in systems revenue, which Intuitive claimed was adversely impacted by uncertainty surrounding the implementation of the Affordable Care Act (Obamacare). Now I can't blame this on the company's management since it pointed to Obamacare cited as the reason for the decline. Stryker, and to a lesser extent St. Jude, said the same thing.
But while it's true that hospitals have begun to adjust their spending priorities, I won't ignore that July quarter. Intuitive posted a 6% decline in system revenue. The Affordable Care Act had nothing to do with that. The stock, nonetheless, traded well above $420 a share, which means investors ignored signs of deteriorating growth. Even then Intuitive demonstrated considerable weakness in unit sales, which declined by 5%.
In this quarter, however, unit sales plummeted 35%, led by a 43% decline in U.S. business. The consistent strength of the Instrument and Accessories business, which were up by roughly 10% year-over-year, kept this quarter from complete disaster. Even then, compared to the July quarter, growth in Instruments and Accessories slowed by 8%.
As you might expect, with such weak numbers, the operating performance took an 18% hit in operating income, due (in part) to a 1% drop in gross margin. Not to belabor the point, but we saw this coming back in the July quarter when there was a 2% drop in gross margin, which led to a 3% decline in operating income.
Investors will likely be upset, and I understand that. I've never been one to chase a growth story, especially when it seems too good to be true. But there's no one to blame for willfully ignoring the warning signs Intuitive has provided.
That said, I do believe these shares will rebound, just not immediately. There are plenty of operational issues that management must first address, not least of which the well-being of customers who use their products. Like St. Jude, Intuitive is operating under a warning letter from the Food and Drug Administration. Unlike St. Jude, Intuitive shares are feeling the pressure.
I won't blame investors still holding the stock, especially those who remain on the good side of the trade. But I don't believe new investors should enter a new position, regardless of how attractive the valuation appears.
At the time of publication, the author held no position in any of the stocks mentioned.
This article was written by an independent contributor, separate from TheStreet's regular news coverage.