Calvin Darling - Senior Director of Finance, Investor Relations Gary Guthart - President, Chief Executive Officer, Director Marshall Mohr - Chief Financial Officer, Senior Vice President Patrick Clingan - Vice President of Finance and Sales Operations.
Amit Hazan - Citi David Lewis - Morgan Stanley Bob Hopkins - Bank of America Tycho Peterson - JPMorgan Larry Biegelsen - Wells Fargo Isaac Ro - Goldman Sachs Richard Newitter - Leerink Partners Tao Levy - Wedbush Matt Taylor - Barclays Brandon Henry - RBC Capital Markets.
Ladies and gentlemen, thank you for standing by and welcome to the Intuitive Surgical Q3 2017 earnings release call. At this time, all lines are in a listen-only mode. Later, we will conduct a question-and-answer session. [Operator Instructions]. As a reminder, today's conference is being recorded.
I would now like to turn the conference over to Calvin Darling, Senior Director of Finance, Investor Relations. Please go ahead..
Thank you. Good afternoon and welcome to Intuitive Surgical's third quarter earnings conference call. With me today we have Gary Guthart, our President and CEO, Marshall Mohr, our Chief Financial Officer and Patrick Clingan, Vice President of Finance and Sales Operations.
Before we begin, I would like to inform you that comments mentioned on today's call may be deemed to contain forward-looking statements. Actual results may differ materially from those expressed or implied as a result of certain risks and uncertainties.
These risks and uncertainties are described in detail in our Securities and Exchange Commission filings, including our most recent Form 10-K filed on February 6, 2017 and 10-Q filed on July 21, 2017. These filings can be found through our website or at the SEC's EDGAR database.
Prospective investors are cautioned not to place undue reliance on such forward-looking statements. Please note that this conference call will be available for audio replay on our website at intuitivesurgical.com on the Audio Archive section under our Investor Relations page.
In addition, today's press release and supplementary financial data tables have been posted to our website. Today's format will consist of providing you with highlights of our third quarter results as described in our press release announced earlier today followed by a question-and-answer session.
Gary will present the quarter's business and operational highlights, Marshall will provide a review of our third quarter financial results, Patrick will discuss procedure and clinical highlights, then I will provide our updated financial outlook for 2017 and finally, we will host a question-and-answer session. With that, I will turn it over to Gary..
Good afternoon and thank you for joining us on the call today. As you know, Intuitive is focused on significantly improving surgery and enabling access to our products and services in pursuit of this mission globally.
Performance in the third quarter was strong with continued growth in customers' use of our systems and an increase in system placements. Worldwide growth in procedures for the quarter was 15% over the third quarter of 2016.
As we have described on prior calls, we expect growth in general surgery and countries outside the United States to continue to lead performance while procedure growth in mature categories in the United States temper. In the quarter we saw this dynamic with strength in general surgery in the U.S. and in several countries outside the U.S.
lifting growth while U.S. urologic and gynecologic growth moderated. Drivers of growth include U.S. inguinal and ventral hernia repair, colon and rectal surgery and thoracic surgery as well as urology and gynecology procedures outside the United States. Procedure performance in Asia showed continued strength with solid growth in China, Japan and Korea.
Overall European procedure growth moderated slightly from its first half of 2017 performance with trends varying by country. Patrick will take you through these factors in more detail later in the call. Turning to capital placement performance. The third quarter was a strong one with growth in total placements from 134 in Q3 of 169 this quarter.
Customers in the United States again showed strong interest in our systems as capital placements grew quarter-over-quarter. Asia, Europe and other market system placements were roughly in line with prior quarter trends. Capital placements can be hard to forecast and we expect this lumpiness to continue given conditions in the market.
Our fourth generation systems da Vinci X and da Vinci Xi continued to perform well and account for over 85% of systems placed in the quarter. Marshall and Patrick will take you through system dynamics in greater detail. Turning to probability for the quarter.
Our Q3, pro forma gross margins rose slightly relative to Q2 and are slightly above our expected range for the year. This is due to strengthened procedures and improvements in our operational efficiency.
Our fixed cost growth met our plan year-to-date with increases in R&D expenses, growth in staff in European and Asian markets investments in clinical trials and growth in corporate competition capabilities. Our third quarter pro forma operating results are as follows. Procedures grew approximately 15% over the third quarter of last year.
We shipped 169 da Vinci surgical systems, up from 134 in the third quarter of 2016. Revenue for the quarter was $806 million, up 18% from the prior year which included a release of reserves related to da Vinci X trade out offers of $21 million. Instrument and accessory revenue increased to $401 million, up 15%.
Total recurring revenue in the quarter was $548 million representing 68% of total revenue. Pro forma gross profit margin was 71.8% compared to 73.1% in the third quarter last year, the difference largely driven by a medical device tax refund in 2016. Pro forma operating profit was $347 million in the quarter, up 13% over Q3 of 2016.
Pro forma net income was $324 million aided by one-time favorability and tax items. And lastly, we completed our three-to-one share exchange announced last quarter. Marshal will take you through our finances in greater detail shortly. Turning to operations.
We believe that substantial opportunity exists to enable more minimally invasive surgery, better outcomes and to expand access to our technologies globally. Our investments in new products and services are built on this belief.
Starting with our multi-port product portfolio, recall that we have built a tiered product offering in our da Vinci systems that responds to our customers' desire of choice in content and price points while maintaining logical upgrade pathways to our leading ecosystem of robot assisted surgery products and services.
We continue to bring our da Vinci X systems in new regions in the world. In the quarter, we enabled launch in nine additional countries for da Vinci X and anticipate adding four more in this fourth quarter.
This set of options has been well received by our customers with da Vinci Xi making up roughly 75% of our new placements, da Vinci X making up approximately 10% of new placements in its limited early launch and with the balance made up by Si technology.
We are also advancing our imaging, instruments and accessories portfolios for our generation four systems, the da Vinci X, da Vinci Xi as well as da Vinci SP.
While the robotic arms are the most visible part of the surgical system, it is the performance of the whole ecosystem of robot, software, imaging, instruments and accessories in conjunction with the OR team in their working environment that creates a high functioning program.
Our team is committed to understanding the total surgical environment and its workflow and design products that work seamlessly for our customers. This has motivated our investment and partnerships in technologies for imaging, stapling and more recently in advanced energy working to develop highly effective and easy-to-use total products.
In the quarter, we expand the launch of two additional instruments and accessories for da Vinci X and Xi into seven different countries and initiated a limited launch of a refined vessel sealer in Europe. We anticipate that our da Vinci SP program will complete patient enrollment in surgery for its round of clinical trials this quarter.
As we mentioned last call, four clinical trial sites participated, three in the United States and one in Asia. Cases in Asia included transoral, urologic and colorectal surgery, while those in the U.S. focused on transoral surgery.
Our teams are finalizing product validations or working to establish manufacturing capability in support of regulatory submissions that enable launch. We plan to file our first 510(k) for the current SP designed by year-end with follow-on submissions for additional indications thereafter.
For our flexible robotics program, we continue to refine product designs, develop our supply chain, finalize our regulatory strategy and initiate testing. With our partner, we are progressing and building our joint venture in China with the hire of the first key staff including the joint venture CEO and CFO.
In closing, the third quarter of 2017 was a strong one and we remain focused on the following for the balance of the year. First continued adoption of da Vinci in general surgery. Second, continued development of European markets and access to customers in Asia.
Third, advancing our new platforms imaging, advanced instruments, da Vinci SP and flexible robotics progress. And finally, support for additional clinical and economic validation by global region. I will now turn the call over to Marshall who will review financial highlights..
Thank you Gary. I will describe our results on a non-GAAP pro forma basis which excludes specified legal settlements and claim accrual, excess tax benefits related to employee stock awards and charges associated with stock based compensation and purchased IP.
We provide pro forma information because we believe that business trends and operating results are easier to understand on a pro forma basis. I will also summarize our GAAP results later in my script. We have posted reconciliations of our pro forma result to our GAAP results on our website.
Third quarter 2017 revenue was $806 million, an increase of 18% compared with $683 million for the third quarter of 2016 and an increase of 7% compared with second quarter revenue of $756 million.
Included in third quarter revenue was the recognition of $21 million of revenue deferred in conjunction with the da Vinci X tradeout program we offered certain first quarter customers. Excluding the $21 million, revenue would have increased 15% compared with 2016.
We expect the remaining $2 million of deferred revenue under the first quarter tradeout program to be recognized by year-end. Third quarter 2017 procedures increased approximately 15% compared with the third quarter of 2016 and decreased approximately 2% compared with last quarter.
Procedure growth relative to last year was driven by general surgery in U.S. and urology worldwide. The decline in procedure relative to the second quarter primarily reflects seasonality. Patrick will provide more detail concerning procedure adoption. Revenue highlights are as follows.
Instrument and accessory revenue of $401 million increased 15% compared with last year and increased 1% compared with the second quarter of 2017 which closely reflects procedure growth. Instrument and accessory revenue realized per procedure was approximately $1,880 per procedure compared with $1,870 last year and $1,830 last quarter.
The increases reflect increased sales of our stapling and vessel sealing products and variations in customer buying patterns. Excluding the recognition of deferred revenue, systems revenue of $237 million increased 15% compared with the third quarter of 2016 and increased 9% compared with last quarter.
The year-over-year increase primarily reflects higher system placements, partially offset by a higher number of operating lease placements and lower average selling prices. The quarter-over-quarter increase reflects higher average selling prices and fewer lease placements.
169 systems replaced in the third quarter of 2017 compared with 134 systems in the third quarter of 2016 and 166 systems last quarter. 20 systems were placed under operating lease transactions in the current quarter compared with 15 systems in the third quarter of 2016 and 27 last quarter.
As of the ended the third quarter of 2017, there were 134 systems out in the field under operating leases. We generated approximately $7 million of revenue associated with operating leases in the quarter compared with $4 million in the third quarter of 2016 and approximately $6 million last quarter.
We generated approximately $11 million of revenue during the quarter from lease buyouts compared with $13 million in the third quarter of 2016 and $5 million last quarter.
Globally, our average selling price which excludes the impact of operating leases and lease buyouts and revenue deferral was $1.47 million compared with $1.53 million last year and $1.46 million last quarter.
The decrease in ASP compared to the third quarter of 2016 primarily reflects a higher proportion of trade-in transactions, lower priced systems sold to cost sensitive market segments and lower pricing offered to customers purchasing multiple systems.
We believe the flexible financing programs like operating leases have positively impacted our ability to grow our installed base. While the number of leases is difficult to predict in the short-term, we expect a proportion of these types of the arrangements will increase over time.
Service revenue of $147 million increased 13% year-over-year and increased approximately 3% compared with the second quarter of 2017. The year-over-year and quarter-over-quarter increases reflect growth in our installed base of da Vinci systems. Outside of the U.S., results were as follows. Third quarter revenue outside of the U.S.
of $213 million increased 13% compared with $189 million for the third quarter of 2016 and increased 4% compared with $205 million for the second quarter. Approximately $5 million of deferred revenue recognized in the quarter was outside the U.S.
Excluding the deferred revenue recognition, the increase relative to the prior year primarily reflects increased system placements net of leases and increased instrument and accessory revenue. Outside of the U.S., we placed 62 systems in the third quarter compared with 49 in the third quarter of 2016 and 63 systems last quarter.
Four of the system placements in the current quarter were operating leases compared with one last year and five last quarter. Current quarter system placements included 25 into Europe, 14 into Japan, five into India, four into New Mexico and one into China. System placements outside the U.S.
will continue to be lumpy as some of the OUS markets are in early stages of adoption. Some markets are highly seasonal reflecting budget cycles or vacation pattern and sales into some markets are constrained by government regulations. Moving on to the remainder of the P&L.
The pro forma gross margin for the third quarter of 2017 was 71.8% compared with 73.1% for the third quarter of 2016 and 71.3% for the second quarter of 2017. The da Vinci X tradeout program had little impact on our margins.
The decrease compared with the third quarter of 2016 primarily reflects a $7 million medical device tax refund received in 2016 and decreased service margins associated with higher scope repair cost. The increase compared with the second quarter primarily reflects leverage achieved with higher production level.
Future margins will fluctuate based on the mix of our new products, mix of systems in instrument and accessory revenue, our ability to further reduce product cost and improve manufacturing efficiency and the reinstatement of the medical device tax in 2018.
Pro forma operating expenses increased 21% compared with the third quarter of 2016 and increased 2% compared with last quarter. The increases reflect our planned investments in product development, specifically da Vinci SP, flexible robotics, imaging and advanced instrumentation and expansion of our OUS markets.
Our operating expenses for 2017 may grow slightly greater than previous guidance reflecting higher revenue growth. As we have indicated, we are committed to reducing the growth rate of operating expenses in 2018 compared with 2007.
However as 2017 revenue growth and in turn operating leverage have exceeded our expectations, it is likely we will not create operating leverage in 2018 over 2017 actual results. Our pro forma effective tax rate for the third quarter was 9.5% compared with an effective tax rate of 22.7% for the third quarter of 2016 and 29.2% last quarter.
The third quarter of 2017 and 2016 included reductions of $68 million and $16 million of reserves related to the expiration of statutes of limitations on certain tax years. Without these reductions, our third quarter 2017 and 2016 pro forma tax rate would have been 28.6% and 27.7%. Our tax rate will fluctuate with changes in the mix of U.S.
and OUS income and with the impact of one-time items. Our third quarter 2017 pro forma net income was $324 million or $2.77 per share, compared with $246 million or $2.06 per share for the third quarter 2016 and $228 million or $1.98 per share for the second quarter of 2017.
All per share amounts reflect the three-for-one stock split affected in October. Recognition of the $21 million of deferred revenue net of cost and income tax increased GAAP and pro forma net income per diluted share by approximately $0.09.
The income tax reserve reversal of $68 million increased GAAP and pro forma net income per diluted share by approximately $0.59. As I indicated earlier, pro forma income provides an easier comparison of our financial results and business trends. I will now summarize our GAAP results.
GAAP net income was $298 million or $2.55 per share for the third quarter of 2017 compared with $211 million of $1.77 per share for the third quarter of 2016 and $222 million of $1.92 per share for the second quarter of 2017.
GAAP net income included $10 million of net charges associated with legal settlements compared with no charges recorded in the third quarter of 2016 and $5 million of net benefit recorded last quarter. GAAP net income for the second quarter of 2017 also included a charge of $6 million associated with purchased IP.
These costs are excluded from our pro forma result. Beginning in 2017, we are required under GAAP to report the excess tax benefits or deficiencies associated with employee stock awards in our tax provision rather than as an adjustment to paid in capital as in prior periods.
The excess tax benefit included in our GAAP result for the third quarter was $20 million contributing $0.17 per share, compared with $31 million contributing $0.27 per share in the second quarter of 2017. We have excluded these benefits from our pro forma results.
This amount will fluctuate quarter-to-quarter based on the volume of employee stock option exercises, number of RSUs vesting and the value of our stock. We ended the quarter with cash and investments of $3.8 billion, up from $3.4 billion as of June 30, 2017. The increase generally reflects cash generated from operations.
The accelerated stock buyback agreement we entered into in the first quarter will c lose in the fourth quarter. Based on our current stock price, we will be required either to deliver shares or pay cash to close out the arrangement. And with that, I would like to turn it over to Patrick who will go over procedure and clinical highlights..
Thanks Marshall. Of our third quarter procedure growth of 15%, U.S. procedures grew approximately 12% and outside of the United States procedures grew approximately 23%. Procedure trends were consistent with the first half of the year with growth led by U.S. general surgery and global urology.
During the quarter, in the United States strength in general and thoracic surgery continued, growth in mature procedure categories moderated, there was one fewer weekday and we estimate that hurricanes impacted U.S. procedure growth rates by less than 1%. In U.S.
urology, the third quarter growth rate for da Vinci prostatectomy was similar to the first half of 2017. We believe that our U.S. prostatectomy volumes have been tracking to the broader prostate surgery market. During the quarter, growth in kidney procedures moderated compared to the first half of the year. In U.S.
gynecology, third quarter procedure growth was flat compared to the prior year. Compared to the first half of 2017, the moderation in third quarter procedure growth was due to benign procedures. Third quarter U.S. general and thoracic surgery procedure adoption remained strong led by growth in hernia repair.
Hernia repair continues to contribute the largest volume of new procedures in the United States with solid contribution from colorectal and thoracic procedures. Turning abroad.
Procedure growth outside of the United States was approximately 23% in the third quarter led by the global adoption of da Vinci prostatectomy with solid contributions from kidney procedures, hysterectomies and colorectal resections. Procedure growth was strong in Asia and variable by country in Europe.
The one fewer weekday compared to the third quarter of 2016 was partially offset by the timing of certain regional holidays. Outside of the United States, procedure growth was led by China, South Korea, Germany and Japan. Procedure growth rates in China moderated despite continued strong expansion in system utilization.
System placements remained constrained pending the issuance of a new quota for civilian hospitals. We have no update regarding the status of the quota. In South Korea, growth was led by gynecology and urology, including contribution from single site use in gynecology.
In Germany and Japan, procedure growth rates in the third quarter were similar to the first half of 2017 led by the adoption of urology procedures. During quarter, recently placed da Vinci X systems generated solid utilization. The systems were largely used in urology and gynecology procedures with general surgery procedures in the United States.
Globally, evidence continues to build in the support of clinical and economic validation of da Vinci surgery. During the quarter, an economic analysis studying the impact of da Vinci hysterectomy in Denmark was published in the Journal of Robotic Surgery. The work was completed by a team of researchers from Aarhus University and Odense University.
Comparing more than 7,600 hysterectomy patients across open, laparoscopic and da Vinci surgery, the authors compared the comprehensive cost of care from the year preceding to the year following a hysterectomy for benign or malignant conditions.
For benign procedures, the authors found that da Vinci hysterectomy was less expensive than either open or laparoscopic procedures. For less complex malignant procedures, da Vinci hysterectomy was more expensive than laparoscopic procedures and less expensive than open surgery.
Within this population, the authors determined that the da Vinci patient cohort was more complex than the laparoscopic cohort and largely replaced open surgery at most institutions.
In conclusion, the authors stated "Our study demonstrates that the use of robotic technology for hysterectomy is potentially cost saving from a broad healthcare perspective." This concludes my remarks. I will now turn the call over to Calvin..
Thank you Patrick. I will be providing you with our updated financial outlook for 2017. Starting with procedures, on our last call we estimated full year 2017 procedure growth of 14% to 15% above the approximately 753,000 procedures performed in 2016. We are now increasing our estimate for 2017.
We now anticipate full year 2017 procedure growth within a range of 15% to 16%. In regards to system placements, although the proportion of Q3 systems placed under operating leases was slightly lower than Q2, we continue to expect that over time the proportion of systems we place under operating leases will generally trend upwards.
With increasing placements in the cost sensitive market segments, we expect that our average system selling price will continue to trend gradually lower. As Marshall mentioned, $21 million of the $23 million deferred in Q1 related to our da Vinci X tradeout program was recognized in Q3.
We expect to recognize the remaining $2 million in Q4 and closeout the program. Turning to gross profit. On our last call, we forecast 2017 pro forma gross profit margin to be within a range of between 70% and 71.5% of net revenue.
We now expect to come in at the top end of the range and anticipate pro forma gross profit margin to be between 71% and 71.5% of net revenue. Turning to operating expenses. As we have described previously, we have accelerated our investments in several strategic areas that will benefit the company over the long term.
Accordingly we have ramped our operating expenses as we focus on execution. On our last call, we forecast pro forma 2017 operating expenses to grow at the higher end of the range between 17% and 18% above 2016 levels. We now expect pro forma 2017 operating expenses to grow between 18% and 19%.
We continue to forecast our non-cash stock compensation expense to range between $200 million and $210 million in 2017 as communicated our last call. We expect 2017 other income to be at the top end of the $35 million to $40 million range forecast on our last call.
With regard to income tax, we now expect our Q4 2017 pro forma income tax rate to be between 26.5% and 28.5% of pretax income, compared to our previous guidance of 28% to 29.5%. That concludes our prepared comments. We will now open the call to your questions..
[Operator Instructions]. Our first question will come from the line of Amit Hazan with Citi. Please go ahead..
Thanks.
Can you hear me okay, guys?.
Yes..
Let me start with your new thoughts on 2018 actually and to hit that to make sure we had it clear. So I think in the past you were talking about higher OpEx spending this year and then normalizing in 2018. That's how we started the year.
What are you thinking about OpEx spending for 2018? In the comments that you made and historically it would have been high single digits would have been normal? What do you consider to be the new target?.
Yes. I think what we have said is that we would expect, as you said, return to normal spending next year, normal being defined as something that's more in line with revenue growth.
I think that what we are seeing this year is, we are outperforming on the revenue line and we wind up with much higher leverage than we had expected and therefore higher profit margins.
And so if we continue our spending, even if we decrease the rate of spending next year or the rate of increase next year, you still wind up with not achieving leverage as maybe we were indicating before. So it all has to do with where we are coming out this year relative to next year.
In total, if you looked at plans on a two-year basis from last year to next year, it's really pretty consistent with that..
Okay. And then just on the installed base in the U.S., it's now three quarters in a row that you had really strong numbers, especially new additions to the installed base. I think it's almost doubled what we saw last year. So I think you guys will always point us to procedures as the key leading indicator.
But I am wondering if there is any additional insight as to why it's been so strong so far this year and how much does that growth in the U.S. installed base improve your confidence for U.S.
procedure growth over the next 12 months?.
Yes. You took some of the words right out of our mouth. Procedure growth really does drive placement growth. So we kind of think of it in that order. And procedure growth, we have talked about what that's been. It's been strong over the last few quarters.
And to-date, 85% of our system placements have been to existing hospitals with roughly two-thirds of that expanding the installed base. So what we are seeing is hospitals growing procedures, having a need for additional capacity and therefore buying systems. 90% of systems we have sold are fourth generation, as Gary indicated, so Xi and X.
And what we see there is that people want to avail themselves of the latest capabilities including computer-aided setup, optimized advanced instruments and table motion and multi-quadrant access. So it's a number of factors that are driving it. It's hard to predict. We don't give you guidance on systems going forward.
But that's what's driven it so far..
And I will squeeze in one quick one on physicians trained. I am just curious.
So basically in general surgery specifically, if you have got a sense of roughly how much of your growth is being driven by new physicians being trained? And how much is just kind of an improvement in same-store sales, so to speak? And how much runway we might have left before kind of new surgeons trained in general surgery as a driver?.
Hi Amit. It's Patrick.
We see a pretty balanced growth across both new surgeons who are starting da Vinci general surgery for the first time as well as those who continue to expand their practice by either doing more patients within the existing procedures that they have been performing as well as adding new procedures to the list that they have been performing over time..
All right. Thanks guys..
Next question comes from the line of David Lewis, Morgan Stanley. Please go ahead..
Good afternoon. Gary, I had one quick question on some pipeline dynamics. I may come back to the cost after that, but just two things. You reiterated the SP regulatory timing end of this year. Is it a good estimate for us for commercial launch for SP first quarter 2018? And the second part of that question was just on flexible catheter.
You talked about the regulatory pathway, but you give us any sense of 510(k) PMA? We have been assuming 510(k).
And whether there is any commercial timeline that you could share?.
Sure. So on SP, we don't know exactly the launch date, just given what questions we might get back from FDA. So we have that as well as finalizing some of the supply chain work we want to do. But we are working hard and solving the problems that we think we need. So I don't have any additional update for you on the SP commercialization ramp.
We will report you when 510(k) goes in and what we think about it. On the flex side, likewise what we described in the script. We are making good progress on developing the technologies and finalizing our regulatory approach. We believe it's a 510(k). We will find out. FDA has a say on all that. But our plans are such that it's 510(k).
We have not set a launch date yet for public consumption..
Okay. And then just coming back to spending, either for Gary or Marshall. The thing about 2017 was, you wanted to invest at a greater level because you had a lot going on in the pipeline. By our math and your guidance for next year for flat margins is consistent with our model.
But it basically implies about $1 billion in R&D and combined SG&A which is a nice big round number. Can you give us any sense of the spending involved? I think investors are totally comfortable with increased spending if they think that spending is going to generate a higher return.
So the kind of things you are working on for next year and why that level of spending is necessary? Thanks so much..
Sure. It's a good question. As Marshall said, we haven't really changed our view of what kind of spending is required in 2018, just a little bit of a math of 2017 changes relative to what the total operating margin looks like.
With regard to what we are investing in, we go from essentially a single platform in the field in multiport da Vinci to SP, which is a new patient side plus accessories and instrumentation as well as flex catheter which we think is really important. So on the R&D side, you have got broadening of platform lanes.
And we think those are important because they don't get developed in a year. They take both technology development as well as technique development and all the commercialization steps that you all are well aware of. So that's kind of one side.
The flip side is, a set of investments are on making sure that we can support the scale of the business in the multiport space and that has to do with making sure your factories are right and you have invested in plants and equipment and you get the advantages of scale as you grow.
And we have started to see that at the gross margin line, the improvements and the performance above some of our earlier expectations are the result of some hard work in manufacturing efficiencies which I think, I would be supportive of riding it shoulder side. I think it makes a lot of sense. Those are really the investment priorities.
There is a little bit in there about data generation in local markets to support the needs of our customers in the markets in which they operate, be it clinical data or economic data. So that picks up, that rounds out kind of the investment profile. Probably not a surprise to you at all..
All right. Thanks Gary..
And our next question comes from one of Bob Hopkins, Bank of America. Please go ahead..
Great. Thank you very much for taking the question. So the first question I wanted to ask is for Gary. I noticed obviously that TransEnterix has got an FDA approval and what struck me as interesting is they got approval for 23 different indications, 23 different types of surgeries, some without data.
And I was just curious, does this suggest that FDA might be willing to approve multiple indications? And could this potentially advance some of your timelines for the different indications that you are looking at for SP and some of your technologies?.
Yes. It's a fair question. So the first thing is, the use of kind of one set of data to get additional procedures, that's something that was discussed with FDA in their workshop a couple of years ago and has been employed by us and by others.
So the idea that there are some procedures that are kind of the key data generators that create an umbrella for other procedures is not a surprise to us. It is something that we have worked with FDA on and we are not surprised that others re likewise using it.
I think with regard to what evidentiary requirements are, which is a little bit underneath your question, the issue there is that how FDA views this is what you ask for in terms of labeling and claims and the relative evidence to support that are linked and whether this signals a change in FDA's posture you really have to read the specifics of the labeling as well as what the submitted data was.
We will do that carefully when it comes out and we will assess whether their posture has changed or not. But on its surface, just reading what you have seen so far, what we have seen so far, A, we are not surprised that there are a set of procedures and kind of the devil is in the details is to how they viewed it..
Okay. Fair enough. So we will follow-up after we get more details there. And then I apologize, Marshall, just one more on the 2018 comment. I assume from the comments and some of the math that what you are implying here is a double digit level of increase in OpEx in 2018.
Is that a fair assumption?.
Well, we will provide you guidance when we get to next quarter. We are ready to commit to what the increase would be. It's just that as we sit here today, we would imagine that we would not be adding leverage to the model. Our spend in 2017 to-date has been right where we thought it would be. Revenue has come in pretty well.
And our margins and other cost have been where we have expected them. And so it just changes the profitability relative to what we were thinking nine months ago..
I mean that's really the basis for the question.
I am trying to get at what percentage of this is really could be associated with just increased confidence in the outlook for revenue growth next year?.
So we will get to the guidance for you in the next quarter..
Fair enough. Thank you..
Next question comes from the line of Tycho Peterson with JPMorgan. Please go ahead..
Hi. Thanks. First question on dVP. I want to make sure I heard this right. I think you said 3Q volumes in the U.S. similar to the first half of the year. If that's right, that seems to be in contrast to what you talked about in terms of moderating to low single digit growth just a month ago.
So can you clarify that?.
Yes. Tycho, to clarify, the comment on dVP was that growth rates were very consistent to first half the year, but the category of urology moderated compared to the first half of the year, so inclusive of other procedures like kidney procedures..
Okay. And then thinking a little bit ahead on SP, as we think about the initial urology rollout, this is really about improved clinical outcomes maybe versus market expansion, I guess.
Can you maybe just talk to how you think about that factoring into the adoption cycle since this is kind of a new approach in terms of getting FDA approval by procedure? How does that play into the mix in terms of how of this is going to be an upsell to the installed base versus potential market expansion, if you will, when you do roll it out for urology?.
Yes. In the early parts of rollout, we expect to do that in a measured way and the beginnings will be around clinical publications and evidentiary building, building of evidence.
We think it has multispecialty implications and so part of this will be to follow through and get multispecialty indications with FDA and you see some of the trials they are doing that. I don't know that SP harkens a different regulatory pathway for FDA. You had implied that in your question and I am not sure that I agree with that implication.
So far it doesn't look like a foundationally different way to communicate with FDA. With regard to the question of how much of this is, we are kind of working backward into the existing procedure base we do in pursuit of better outcomes and how much would expanded opportunity.
I think we are going to see some of both and it's a little bit early to size exactly which. I have been impressed by surgeons' interest in both categories, both improving what they do already as well as being able to approach technique and applications they have not yet done. So I think that's why we are excited about. It is the potential to do both.
And I would just say, stay tuned there as we get more experience and put these in the field..
Okay. And then just lastly, on thinking about clinical data readout, two weeks from now you have data coming out at CHEST. Any preview you can give us for those who don't want to go to Toronto..
No. I cannot..
All right. Figured it was worth a shot. Thanks..
Yes. Thanks Tycho..
Next question comes from the line of Larry Biegelsen with Wells Fargo. Please go ahead..
Hi guys. Thanks for taking the question. Maybe I will just start with the flex catheter and then I had one on the competition.
So the data at CHEST, is that going to be enough for 510(k) clearance in the U.S.? Or you will have to do another trial for 510(k) clearance? And on the our last call, your estimate how your flex catheter system compares to Medtronic' superD. There is another robotic system being developed in the field that we hear is similar to yours.
Is that a fair characterization? I would be curious if you had any comments on that. I had one follow-up..
Okay. So on the sufficiency of data, thus far, to-date, vis-à-vis 510(k) clearance, don't know yet. So we will see. I can't give you a positive or negative indication. With regards to other folks working on flex approaches that are robotic, we have heard likewise, indications that people are interested in pursuing that.
Very little publicly available out there and we won't speculate as to what their plans are ahead of whatever their public relations are. But we remain vigilant and I guess my major point on this one is, the way you satisfy your customers best is by understanding their needs and being really conversant in what they want and what the technologies are.
And so I worry a lot less about what others are doing and a lot more about what we are doing. And our team is highly focused in satisfying customer need in that space and we feel good about where we are..
Thanks Gary. And then just for my follow-up on the competition. I guess I will only ask one broad question on the TransEnterix approval. Any just comments, Gary, you know from a technology or an IP standpoint and potential for this elongating the selling cycle in the U.S.? Thanks for taking the questions..
With regard to other systems that are coming or have come out, our experience goes back pretty far. So we have lived through the pathway of hybrid surgical approaches, some robotics, some manual, three-arm systems, some things integrated, some things not integrated.
We have lived through that and its our customers who have really taken us to the position we are in with integrated systems, things that work very well together.
Simple examples, if you have a manual stapler and you are using robotic system, the surgeon has to often almost always scrub in and scrub out because it's unusual for physician's assistant to fire a stapler. So the workflow of getting up and sitting down is really challenging.
The challenge of integrating multiple different technologies from multiple different vendors at the Or is a headache and they tell us that. We like this all to work together as if it was designed with a whole thought. We didn't chose those things out of the blue.
And so with our own systems, with systems we competed against 20 years ago, we have kind of seen this. And so I think that customers will think that through and evaluate it. You would ask, could it delay sales cycles? And the answer to that is yes, it can in the near-term.
Now we are facing some of these concepts and competitive system in Europe and customers are evaluating these things and making decisions. I think they make them based on a pretty good basis. And so it may cause some short-term ripples, but we will be ready to engage those conversations with hospitals.
And again, I think we didn't end up where we are by accident. That's true in our IP portfolio as well and one of the things about being the market leader is you have to solve these problems first and you get to patent them and we have. So that's something that's an asset for the company as we go forward..
Thanks for taking the questions..
The next question comes from the line of Isaac Ro with Goldman Sachs. Please go ahead..
Good afternoon guys. Thank you. Just a quick question on China. You guys mentioned that procedure growth decelerated even though utilization per instrument or per system went up.
Can you talk a little bit about whether or not we should be thinking about your existing installed base sort of hitting full capacity utilization until we get more of an update on the quota system?.
Yes. Isaac, I think we have been surprised by the levels of utilization that we see across many of the civilian hospitals within China and to-date this year they have surpassed levels we thought that we will start to see faster slowdown there. You are starting to see the law of large numbers catch up but still strong growth in utilization.
So I think the short answer is, we are not sure exactly where the ceiling is because the demand for robotic surgery in China is large and they continue to find ways to efficiently maximize the time they have on robotics each week..
Okay. And then just to follow-up on the new areas of investment for 2018 as it relates to your comments on operating leverage.
Can you comment maybe even just even just qualitatively on some of the biggest areas of new investment that are incremental to the underlying programs your already had planned? I am just trying to get a sense of where those resources are being deployed..
The way to think about it in terms of just staying on the R&D product pipeline side, the peak in platform investment is several quarters before launch those things peak. And then they stay at that peak for a couple of quarters as you process through all launch activities and then you start to come off that peak.
And so you have two platform that are heavily in design and moving toward commercialization. And that's the bulk of the delta. With regard to some of the other spending, that tends to be in little bit smaller increments. And it's around things that give us manufacturing optimization.
As procedure growth has continued to grow and we get additional scale, a lot of the costs in production and handling of our systems comes down to manufacturing process and scale changes we have an opportunity to tweak what we do to get lower costs. And I think that helps everybody. I think it helps Intuitive. It helps our customers.
And it allows us to take advantage of scale. That's a really good thing. And so where we see those opportunities, they are pretty easy to evaluate and we move forward on them..
Got it. Thank you..
Next question comes from the line of Richard Newitter, Leerink Partners. Please go ahead..
Hi. Thanks for taking the questions. I have two quick ones. Just you have mentioned in the past and you again, Gary, highlighted some of the imaging developments and advancements you have been working on.
Can you give us a sense as to what the timing might be on the integration of some of those into your current platforms?.
Sure. So you think of imaging as having three elements of it. There is the hardware part, the optics, the electronics, the physical stuff. We are consistently improving those things and launch them as either improvements or as upgrades periodically. And you can sort of think those as having life cycles of multiple quarters, six to eight quarters.
There is software improvements, image processing, image integration, those kinds of things. We also launch those either as upgrades or in conjunction with other opportunities and those go out also on account of a yearly or every other year basis. And then there is molecules, targeting agents.
The molecules are viewed by the world as drugs and those go on drug timelines which are long. So we are progressing but it doesn't look like stasis. It is continuously improving our Gen 4 imaging as we speak. The Gen 4 scopes of today are better than the scopes of two years ago. The Gen 4 software is better today than it was years ago.
And we continue to progress on the molecular front..
Okay.
And then on the molecular, there is no concrete timeline?.
Well, no. Given some of the trial activity that it has to go on, we have not yet published what we think the long term timelines are, in part because we are in conversation with the agency about how they want to view these diagnostic markers in surgery and that creates a lot of uncertainty as to what the forecast models would be..
Got it. And then just one follow-up. You mentioned that the moderation in EU for your European procedures in the third quarter.
Can you just elaborate on that a little bit?.
Yes. There was moderation in certain markets, not in all. We still had strong growth in some like Germany.
It was in a handful of markets, some I would characterize as slowdowns in some of the benign procedures where reimbursements are tight and other markets where you have had high levels of penetration in urology, dVP and where the emerging procedures are still small and not able to influence growth rate..
Thank you..
Next question comes from the line of Tao Levy. Please go ahead..
Great. Thanks. Good afternoon. Maybe you can start with the impact from hurricanes and I guess the one less surgery day in the U.S. So theoretically, if you had all that back in the quarter, are we talking about another 2% potentially on that U.S.
growth? And do you expect to capture some of that business, at least from the hurricane means as more of a delay that you can pick up in the in the fourth quarter?.
Yes. Tao, it's really hard to calculate these things because certainly there is some patients who need surgery right way who come back faster and others that can defer longer. What you can look at it is just what happens in those markets during those period of time and make your best estimate. Our best estimate in the U.S.
is that the hurricanes caused somewhere less that 1% impact to the U.S. growth rate. The one fewer weekday had some effect as well as just because you have one less Monday through Friday. But it's really hard to be precise about exactly how much it impacted business. Overall the U.S.
didn't feel dramatically different though compared to prior years, particularly in the areas of general surgery and thoracic surgery..
Thank you. And then you mentioned you are going to have, if I heard you correctly, that about 13 sort of new countries starting to do da Vinci procedures here in the second half of the year.
Are these countries being supported directly? Are you using distributors? Are there opportunities where these countries will start to buy multiple systems? Or are these kind of more one-offs?.
Tao, it's Gary. Just a clarification from the script. They are not new countries to us and da Vinci. It is da Vinci X availability in those countries. So the ability for us to sell the X system there..
Okay. Got you. Thanks for that. And then just one last one.
As you look at the SP for next year, again in urology, do you have a sense of how many SP surgeries have been performed in this current clinical evaluation phase? And how long will it take before some of those surgeons really start using the SP in sort of a more consistent fashion once it gets approved?.
We will put out first set of systems after clearance. We are selecting sites that we think have multispecialty potential. And that will be limited at our discretion in the beginning so that we get those sites up and running, help them to be highly efficient. So we won't have a huge number.
I think the demand will oversubscribe the supply in those early launch quarters. I think that it's a highly capable system. I think once we have clearance, there will be a fair amount of use. But it's going to be sequential clearances that help us get there..
Okay. Thank you..
Thanks Tao..
The next question comes from the line of Matt Taylor with Barclays. Please go ahead..
Hi. Thanks for taking the question.
Can you hear me okay?.
Yes..
Great. So you have touched on this before, but I guess I just wanted to ask a little bit more directly. If you could give us a flavor for anything that you are seeing broadly in the market with regards to utilization or appetite for capital purchases? I remember a couple of calls ago, you said, hey, we have some uncertainty around reform.
Maybe we are going to see the gun shy buyers. But that clearly has not been the case this year on capital.
So just any updates you can provide on the market and what your customers are saying?.
Yes. You are right. We haven't seen a broad impact of potential reform or changes in ACA. The feel of the market is pretty similar over the last few quarters. And as I said earlier, really what we think is driving the strength of system placement has to do with procedure growth rate..
And in the U.S., clearly that's all about general surgery with some of the slowdowns that you are talking about in the mature procedures. And I was wondering if you could provide some more color on areas in general that have sprouted more recently? You talked about hernia for a while and ventral and colorectal.
Are there any new areas that you are seeing start to grow as surgeon adapt and begin to use the next technology in new ways?.
We do see new opportunities and surgeons interested in advancing. But before I get there, I think that just from our company's focus, we have not taken the ball off general surgery.
I think that the ones we are in are still relatively early in their total adoption when you think about hernia repair and colon surgery and rectal surgery and thoracic surgery. These are major categories. We think that we can bring real value and our teams are really focused there. And I focus you there.
I don't think we are past that and thinking there is the next thing. We do see surgeons asking for additional opportunities. They are not yet material. And so I think we have a long pipeline. I am not ready to describe them as opportunities for you yet, because I don't know that they will realize. But there is real desire.
So we stay focused on finishing the opportunities that we have started and we are still on it..
Great. Thank you..
And the last question we have in queue comes from the line of Brandon Henry with RBC Capital Markets. Please go ahead..
Yes. Thanks for taking my question. Can you talk about the trends you are seeing in the U.S. gynecology market? And then I think you mentioned there was a moderation in benign procedures. Can you just talk about what led to that? I have a couple of follow-ups..
Yes. Brandon, overall in U.S. GYN, we saw pretty flat growth year-to-year. The deceleration compared to the first half of the year was entirely attributed to benign procedures that declined moderately. Malignant procedures continued to grow in the quarter. The trend there is in part because A, it's a very low growth area in general.
You see high penetration rates of minimally invasive surgery. In any given period, you are going to have little movements here and there. So nothing notable to call out specifically as it relates to a trend there in the market..
Yes. I think we have talked in the past about consolidation trends, right. More cases being done by gynecologic oncologists or other surgical specialists. And that's been a positive trend for us and that's largely continued here in the third quarter..
Right. And then we will just give you one more follow-up..
Sure. And in terms of new instrumentation, I think you mentioned a refined vessel sealer launch in Europe. Can you talk a little bit about the refinements made there and when you expect to launch in the U.S.? And then also do you have any update on timeline for new stapling technology? I think you mentioned a 60 millimeters stapler in the past.
Thanks..
Yes. The vessel sealer is really a refinement in geometry. It allows surgeons to get to spaces that were more difficult prior. It's kind of a family member of the technology we have today. I don't have the launch date for U.S. in front of me. But we continue to build out our stapling line.
As we have talked about in the past, likewise we have not projected yet the launch timeline of additional staplers. But we think stapling is important. So that's kind of where we are there. Let me go ahead and close. That was our last question.
As we have said previously, while we focus on financial metrics such as revenues, profits and cash flow during these conference calls, our organization remains focused on increasing value by enabling surgeons to improve surgical outcomes and reduce surgical trauma.
We have built our company to take surgery beyond the limits of the human hand and I assure you we remain committed to driving the vital few things that truly make a difference. This concludes today's call.
We thank you for your participation and support on this extraordinary journey to improve surgery and we look forward to talking with you again in three months.
Okay. Ladies and gentlemen, that does conclude today's conference. Thank you for your participation. You may now disconnect..