Intuitive Surgical: Even the Downside Has an Upside

Shares of Intuitive Surgical (NASDAQ: ISRG  ) jumped as much as 5.4% in early Monday action, driven by an analyst upgrade.

Canaccord Genuity analyst Jason Mills upgraded the robotic surgery specialist from "hold" to "buy," but also lowered its price target from $590 to $527.

The Intuitive Surgical da Vinci Si system in action.

A recent wave of criticism toward robotic surgery had caused the stock to fall 19% from recent January highs. Mills walked through protests from various surgical interest groups, but then countered with a group of minimally invasive surgery experts speaking in defense of robotic options. The group found "a substantial cost benefit to the patient and to society which has not been acknowledged," and Mills thought it was a "logical and powerful pushback" to negative analyses.

Mills then performed two sets of alternative valuation analysis to supplement his former $590 price target and $17.90 full-year earnings estimate per share. One scenario assumed the worst -- "the pressures in 2013 are systemic" and order volumes will weaken even further in 2014. Another called for hospitals delaying system orders and some procedures until the current storm of negative press subsides, but assumed that there's nothing wrong with the basic business model or product lines.

Canaccord Model	2-Year Earnings CAGR Estimate	Price Target
Current	19%	$590
Moderate Downside	17%	$517
Significant Downside	16%	$474

Averaging out these scenarios, Mills landed at his $527 price target which carried a 15% upside at the time of publication. The worst-case scenario, in Miller's view, still left a small margin of safety against current share prices. Therefore, the upside outweighs the downside and the stock becomes a buy. Canaccord has rated Intuitive Surgical as a "hold" for the last three years, so it's not like Mr. Mills is defending some old party line here.

Intuitive is one of my largest personal holdings, and I agree that the stock looks like a buy at today's prices. The stock is a play on the medical needs of the enormous Baby Boomer generation, with the added bonus of disrupting traditional surgeries in a big way.

I do appreciate Mills going through various valuation scenarios, but I'm far more interested in his analysis of various studies on patient outcomes. The valuation models only describe expected returns for the next nine months, and I intend to own this stock for another decade or more. In that view, Mills didn't see any reason to believe that robotic surgery will fall out of fashion anytime soon.

Numbers never tell the whole story for long-term investors.

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