Mad Hedge Technology Letter
March 11, 2019
Fiat Lux
Featured Trade:
(THE BEST TECH PLAY IN HEALTHCARE),
(ISRG), (GOOGL), (JNJ)
Seeking for a great long-term buy and hold tech name?
Then look no further than Intuitive Surgical, Inc. (ISRG).
Intuitive Surgical develops and produces robotic products designed to enhance clinical outcomes for patients through minimally invasive surgery, its most well-known product is the da Vinci surgical system.
Healthcare is one sector that I have rarely touched on, but not only will this cross-pollination with tech serve a social good, investors have a chance to rake in future profits.
The da Vinci systems and Intuitive Surgical are the best of breed and have had almost zero competition in the past 20 years.
The systems are placed in operating room used for invasive surgery for various types of ailments from cancer to hernia, and the systems were successfully used over one million times for surgery last year.
The da Vinci systems aren’t cheap – they cost $1.5 million and the customers, usually the hospitals, buy the add-ons of extra parts and supplies that inflate the price another $1,900.
As you would expect, net profit margins are compelling, being over 30% which e-commerce companies would give a left leg for translating into numbers that make the company incredibly profitable.
The story of the da Vinci systems starts way back in the 80s with the Defense Advanced Research Projects Agency (DARPA) hoping it could figure out how to offer surgeons the ability to operate remotely on soldiers wounded on the battlefield.
SRI International (SRI), an American nonprofit scientific research institute and organization took the painstaking time to develop the technology.
SRI's intellectual property was eventually acquired in 1994 and incorporated a new company named Intuitive Surgical Devices by the founders.
It took another 4 years for the FDA (Food and Drug Administration) to finally approve usage of the da Vinci Surgical System.
The first available surgery was for general laparoscopic surgery used to address gallbladder disease and gastroesophageal disease.
The next year saw another harvest of approvals with the FDA giving the green light to use the system for prostate surgery.
The approvals started to flow like a waterfall with thoracoscopic surgery, cardiac procedures performed with adjunctive incisions, and gynecologic procedures also approved by the FDA.
Fast forward to 2019 and the company couldn’t be financially healthier looking back at the year of 2018 in review.
Instruments & Accessories revenues came in at $1.96 billion comprising 52.7% of total revenue.
System sales crushed it with $1.13 billion, growth of 30.3% YOY and service sales amounted to $635.1 million up 17% YOY.
And in the latest quarter, Intuitive Surgical reported 19% YOY growth in worldwide da Vinci procedure volumes which contributed to bumping up revenue 18% YOY in the instruments and accessories segment.
The company is seeing the same type of success abroad with foreign revenues totaling $307 million, up 24% YOY.
Intuitive Surgical installed 115 systems in the previous quarter outside of America compared with 86 in the quarter before last.
55 of these new systems were installed in Europe, 31 in Japan, and nine in Brazil.
Procedure growth is forecasted to expand between 13-17%, fueled by U.S. general surgery and procedures.
Unfortunately, the stock sold off after earnings because adjusted operating expenses are expected to rise 20-28% reminding investors that the stock can’t always move up in a straight line.
The harm to operating margins is a tough pill to swallow in the short-term, but that does not take away the gloss from this leading tech company.
Intuitive Surgical plans to branch out from the da Vinci systems with its new Ion system, a robotic-assisted bronchoscope awaiting FDA clearance, a revolutionary way to kill cancer cells inside the lung.
After decades of unbridled market leadership, there are a few icebergs ahead in the distance in the form of competition.
Verb Surgical, a collaboration between Johnson & Johnson (JNJ) and Alphabet (GOOGL), will enter the healthcare robot surgery market in 2020.
Johnson & Johnson recently indicated it will splurge $3.4 billion in cash for Auris Health, a robotics startup with a device to perform lung biopsies that could compete with Intuitive Surgical’s Ion system.
Auris Health was approved by the FDA in March 2018 for this device that performs lung biopsies and Intuitive Surgical promptly sued citing patent infringement.
Auris Health was established by the co-founder of Intuitive Surgical Dr. Frederic Moll who pioneered the field of surgical robotics but left Intuitive in 2003 after 8 years there.
Intuitive could rub up on some more competition in the future, that is a stark possibility, but the pathway to profits are still open as the company rolls out different systems, services, and has the capital to fund new directions.
Hospitals that already have existing relationships with Intuitive will be less inclined to switch over to competing services if they are satisfied with the quality, service, and price points of the equipment.
This will help Intuitive build on the current strong momentum and ensure their products are in the pipeline to be adopted by the next batch of future demand.
Shares of the company are sky-high and expensive with a PE multiple of 55.
The big investment into R&D is in no doubt to fend off the potential competition around the corner, but I view that as a net positive.
It would be logical to wait for a pullback to buy shares, this one is a keeper.
“We think coding should be required in every school because it's as important as any kind of second language.” – Said CEO of Apple Tim Cook
Mad Hedge Technology Letter
March 7, 2019
Fiat Lux
Featured Trade:
(WILL NIO EAT TESLA’S LUNCH?),
(TSLA), (XPENG), (NIO)
“Some people don't like change, but you need to embrace change if the alternative is disaster.” – Said Founder and CEO of Tesla Elon Musk
Mad Hedge Technology Letter
March 6, 2019
Fiat Lux
Featured Trade:
(BUY SALESFORCE ON THE DIP),
(CRM)
Taking the current temperature of bellwether stocks is just as important as understanding the secular trends imbuing the tech industry.
Salesforce (CRM) released earnings on Monday and the report was solid but not spectacular.
Shares of Salesforce sold off mildly following the report and could be an indicator of trading lethargy engulfing the hot software group.
At the end of 2018, I urged readers to focus on the cloud-based software stocks and they have performed admirably the first three months of the year.
This trade isn’t finished yet, but it needs a breather and that is what the slight consolidation of Salesforce’s stock is telling us.
The weak guidance issued for the following quarter was more than enough reason to take some profits and accumulate more gunpowder for the next big leg up.
I do not believe tempering forecasts is a material negative for the stock and anyone following this great company can wholeheartedly agree that they have resolutely delivered the top line growth promised by audacious founder and Co-CEO of Salesforce Marc Benioff.
Subduing next quarters forecasts could be a management trick to lower the bar that even mediocre performance can surpass.
I fully expect Salesforce to handily beat next quarters' estimates.
For the full year of 2018, Salesforce racked up more than $13.2 billion in revenue, making Salesforce the fastest enterprise software company ever to eclipse $13 billion.
Salesforce issued a new revenue target for fiscal year 2023 - $26 billion to $28 billion.
The company will need to organically double revenue again in the next 4 years to achieve this feat.
Last quarter experienced a continuation of revenue growth that has made Salesforce one of the leading luminaries of enterprise software industry with revenue in the quarter rising to more than $3.6 billion, up 27% YOY.
They are the 800-pound gorilla in the CRM industry commanding 20% of the overall CRM market according to Edge IDC which adds up to more than the next three competitors combined.
The accolades are impressive for a company that is on the verge of hitting its 20th anniversary and still squarely in uber-growth mode.
The impact of Salesforce is deep, creating a Salesforce economy growing around the firm, and the network effect derived from it is truly breathtaking, one that will deliver at least 3 million additional jobs and more than $850 billion in GDP impact by 2022.
The volume of $20 million and over relationships grew 48% YOY including two 9-figure renewal expansions in the quarter.
Take a look at the finance sector with Barclays as a golden example.
At the World Economic Forum, CEO of Barclays Jes Staley gloated that they had just signed the largest technology agreement in their 300-year history with Salesforce in January.
Salesforce is aiding them in the digital transformation for their 48 million customers, and aim to enhance the digital service offerings to them via the cloud.
I reckon that the volume of $20 million relationships will keep trending higher as Salesforce refine their products for big institutions, as almost every one of them is keen on rapid digital migration that will effectively serve the customer better and put the kibosh on expenses.
Recently raising annual revenue forecasts to around $16.05 billion was inevitable and is not a question of if, but how much earlier than expected can they deliver this overperformance.
It is the first stop on the way to $20 billion in annual sales and if Salesforce can continue to push this narrative of mid-20% top-line growth, shares will climb higher.
The amount of business gravitating towards their CRM interface is demonstrably positive with 96% of media companies from the Fortune 500 Salesforce customers.
This is just the beginning.
The crux of this narrative is that its business model is unrivaled amongst competitors and its strategic position will allow the company to harvest multiyear revenue growth of mid-20% YOY growth as cloud computing is the major recipient of this massive digital transformation.
Salesforce has an enviable position and any weakness in shares is temporary.
The company has forged into a new era of profitability and its scalability allows more and more revenue to drop down to the bottom line.
I believe operating income will accelerate and the company will become even more lucrative with exploding EPS growth just around the corner.
It’s one of the most efficient firms in the world and the 22% spike in new hires will add to the robust growth engine that is known as Salesforce, considering 85% of enterprise customers are in the first innings of full-blown digital transformation.
“You must always be able to predict what's next and then have the flexibility to evolve.” – Said Founder and Co-CEO of Salesforce Marc Benioff
Mad Hedge Technology Letter
March 5, 2019
Fiat Lux
Featured Trade:
(MEET THE PREMIER DINOSAUR OF OUR TIME),
(HPQ), (LNVGY), (DVMT), (AAPL)
Stay away from HP Inc. (HPQ).
If you want the definition of a legacy tech company, then we have found one of the premier dinosaurs of our time.
The first iteration of Hewlett Packard was in the 1960s when they partnered with Sony to manufacture digital equipment.
They are widely considered the founders of the Silicon Valley establishment that snowballed into what it is today.
In 1939, the Silicon Valley company was established in a one-car garage in Palo Alto by Bill Hewlett and David Packard and initially produced a line of electronic test equipment for Walt Disney.
The garage is classified as a California State historical landmark.
It then developed its products enough to hail itself as the world's leading PC manufacturer from 2007 to 2013, a 6-year reign at the top.
Its long history doesn’t mean the trajectory has been heightened, the company has presided over some major messes such as its purchase of the ill-fated PDA firm Palm and the once discount PC manufacturer Compaq.
HP has had a great seat being able to observe the massive shifts in the tech scene, but unfortunately, its own business model and revenue stream have not been one of the main recipients of this major shift.
According to market research firm IDC (International Data Corporation), China’s Lenovo (LNVGY) recently eclipsed HP (HPQ) becoming top dog in the global PC (personal computers) market.
Lenovo supplanted HP bagging market share of 24.6% on the back of a joint venture with Fujitsu in May 2018 that fueled major incremental gains.
HP still commanded 23.6% share in Q4 2018 among laggards of the likes of Dell (DVMT), Apple (AAPL), and Acer Group with shares of 16.5%, 7.2%, and 6.7%, respectively.
The downtrodden numbers signify that demand for HP personal computers is waning and this is just the tip of the iceberg.
The personal computer industry has been growing in the single digits the last few years and is no more the uber growth industry it once was at the outset of the century.
Last quarter only saw HP’s personal systems segment revenue increase 2.3% YOY.
Total unit sales dropped 3% YOY.
HP blamed the 1% slide on notebook shipments and an 8% decline in desktop shipments.
Evidence tells us that consumers are increasingly valuing mobility more than ever and giving ground to smartphones is inevitable.
Making matters worse, smartphone companies such as Apple, Microsoft, and Google produce outstanding desktop computers that seamlessly integrate into a rich ecosystem.
Consumers are repeatedly buying computers and phones of the same brand that can easily mesh cohesively, a nod to continuity that consumers love.
Professional work stations have also taken the form of an onslaught of one brand of manufacturer whether it be Android-based Microsoft products of iOS-based Apple.
I can vouch for rarely finding someone with a package of Apple’s iPhone and an HP desktop as a professional work hybrid solution unless they are forced by external circumstances.
Essentially, HP is on the wrong side of the pivot to mobile and the lack of innovation is hurting them in a multi-faceted way.
These companies that fail to evolve have a tendency to act as if market conditions never change, only for one bad earnings report to morph into a string of misses tanking the share price.
I believe HP is on that train to nowhere and its lack of investment into creating more advantageous business opportunities sticks out like a sore thumb right now when you compare them to other tech heavyweights.
CEO of HP Dion Weisler had the quote of the century telling analysts on the call that “we’re now engaging on a new battlefield and it’s called online.”
This quote is a microcosm of the state of HP and reflects poorly on the leadership.
One of HP’s largest cash cows is the printing supplies business and for management to blame “online” forces on crimping sales is an insult to shareholders.
“Online” consumer business has been around for more than 30 years, and to reference this external force as a new engagement dragging down sales condemns this company to pariah-status.
Management must wake up and smell the coffee and understand that if selling overpriced print ink and printers was a god given right then HP is doomed strategically.
An unexpected 3% revenue drop in the printer supplies business was written in the stars, and HP has been lucky to even reap what they have to this point.
It’s an ongoing renaissance for consumer prices in a deflationary environment and finding cheaper alternatives is just an Amazon.com visit away.
Selling ink and toner cartridges is a high-margin business that has no business being a high-margin business.
The EMEA region (Europe, Middle East and Africa) printing supplies revenue cratered 9% as most of the world rather buy cheaper alternatives online where they can price compare easily.
Manufacturing cartridges with ink inside it is not high-tech and is due for a margin reckoning.
Apparently, HP has technology that can detect counterfeit ink, but isn’t ink just ink?
HP classifies ink not branded HP as counterfeit ink, once again, a vividly low barrier to entry screaming overpriced.
Such a low-tech competitive advantage should be pounced on - we are seeing that in real time and rightly so.
If business and consumers aren’t allowed to use outside ink to place inside of non-HP cartridges, the business will migrate to non-HP, cheaper replacements such as Canon while either filling up ink cartridges themselves or substituting a cheaper alternative.
The dialogue on the conference call was shocking, appearing if HP executives were caught off-guard from this magical thing called the “internet” and the competition derived from it could potentially suppress sales.
I was leaning towards becoming bearish HP before this earnings report and the awful performance vindicated my initial prognosis.
I am bearish HP – sell on any and every rally.
