Stereotaxis: High Upside Bet on Execution

The turnaround is in its infancy, but has the ability to run

I previously wrote about Stereotaxis last year when the stock was higher and situation was different. I went long because I expected increased clinical adoption of Robotic Magnetic Navigation (RMN) in complex arrhythmias and a new catheter would drive 90% gross margin disposables revenue higher. I made the argument that even at 10X sales, it could replicate Intuitive Surgical stock action over 10 years and still return a fair amount. Since original pitch, a few key developments led to a stock price crash:

1) Macro rotation away from growth stocks, 2) delay in Catheter approval due to supply chain issues 3) delays in system revenue due to hospital margin/labor difficulties and 4) an inability to grow utilization.

On the other hand, there were a few positive developments 1) an innovation day highlighting the roadmap for future. 2) expected approval of catheter by end of 2023 in Europe. and 3) a journal published an issue dedicated to robotics in EP.

Balancing both positives and neg, stock sell-off is somewhat justified. As the CEO commented in the Q1 call: 

"we're definitely still working in an environment full of headwinds. I think headwinds from our customers' perspective, and just general macro headwinds."

I don't like buying stocks into business headwinds (labor issues, lack of hospital resources for 2 million purchase) and stock headwinds (general shift away from growth names), but based on the quality of management, there is an asymmetric long term risk reward at these levels.

I want to break down the near term headwinds, published data in the journal issue, and the opportunity.

Near Term Headwinds + Expectations:

Management has guided to revenue growth for the year, but a delayed replacement cycle likely means growth in 0-15% rather than my previously projected 40% growth. Revenue is recognized 6-9 months after purchase, thus any revenue for the year will come from orders in the first half.

Based on orders received up to May 10th,

"Given only the orders we have already received, we're on track for system revenue this year that is approximately 90% of the total system revenue we reported last year."

They've likely sold 5 systems to date compared to 6 last year at a similar ASP.

On new systems sold in Q1,

"In the first quarter, we had a launch in each of the 3 major geographies with completely new physicians at completely new hospitals."

They are in late stage discussions with 4 hospitals to replace old systems:

"the order that we received was 1 of those 4, and we have continued discussions with other parties. Some in the very late stages and some still moving forward. And again, those were called out specifically as ones that were very easy to identify as very, very high likelihood orders, but there remains a relatively robust pipeline behind those of hospitals that we're engaging with."

We can assume a similar cadence as the first 4 months into May and July and expect another 2 orders (System revenue = ~$14m for the year). They've guided to flat recurring revenue and no contribution from new products in 2022, thus  FY revenue will likely grow < 10% for the year. Not gang busters.

Delays in closing 4 late stage replacement cycle orders and lagging utilization across the installed base holds them back from significant growth for the year. Labor issue sourcing construction workers and hospital budget constraints have severely hurt system sales. Flat recurring revenue is even more concerning since high utilization drives system orders. No one spends $2M on a coat rack. Stereotaxis hasn't yet convince the EP world to adopt their tech. There are certain evangelists, but widespread adoption requires more evidence…..

Journal Issue

I use RMN to refer to Robotic Surgery with Stereotaxis.

This brings me to the May 2022 issue of the Journal of Atrial Fibrillation and Electrophysiology. An entire issue dedicated to RMN, even in a low impact journal, signals Stereotaxis is grabbing some attention. I went through 94 pages of the academic literature so you don't have to.

According to the journal, the failed introduction of RMN for EP in the early 2000s has given way to recent innovations  since 2017. Shorter procedure times, a smaller footprint, and improved outcomes could pave the way for increased adoption. Stereotaxis has a number of innovations on the way including new catheters (first since 2005), surgery systems, and an open platform for mapping software. The editors are heavy users of Stereotaxis and the issue is a love letter to RMN even in cases where data doesn't prove their point.

 The issue discusses the use of RMN for Atrial Fibrillation (AF), Ventricular Tachycardia (VT), Supraventricular Tachycardia (SVT), the OpenEP initiative, and telesurgery. 

The issue has a few key takeaways as summarized in this table:

Since manual intervention has such high success rates, there is often minimal difference in outcomes, specifically for standard cases. In addition, RMN adds more than $2,000 to total procedure costs, a >25% increase. Procedure time for RMN is heavily operator dependent and the learning curve can be 300 procedures according to one publication. Even in high volume centers, that's 2 years of training. Would you spend 2 years training for a device with unproven benefits at an added financial cost to your hospital? It's a hard sell.  I will note anecdotal evidence puts the learning curve closer to 50 procedures.

"Long term outcomes appear to be variable depending on ablation performed. As most of the available literature is retrospective studies or case series, more prospective research is needed to better define which patient populations are likely to benefit."

"An incremental reduction in procedure time was from 191.4 minutes to 121.7 minutes with a plateau at approximately 300 procedures"

However, use of RMN in complex arrythmias such as Ventricular Tachycardia (VT) shows clear benefits.

"RMN use provides better procedural outcomes and lower complication rates. Although learning curve and installation cost in centers remain a matter of debate, RMN should certainly be advocated for prolonged VTs ablations and in cases of complex anatomy where manual catheter ablation may increase the risk of complications. A case based approach is highly recommended."

Ablations are often measured by how often the disease needs re-surgery (recurrence). A lower recurrence rate ultimately reduces costs since repeat ablations are trickier and cost more than first time ablations.

"There were a total of 18 repeat ablations and ultimately cost the hospital system more than if the initial ablation performed was successful."

Now, most of this information was already known last time I wrote the piece:

• RMN is better for VT, but not for AF.

• The theoretical advantages of a soft-tipped catheter and precise movements are hard to prove statistically since manual intervention often has 90%+ success rates.

• There is a steep learning curve to increased efficiency and experienced operators are often as efficient with either manual or RMN.

• Flouroscopy time (time under X-Ray wearing heavy shielding) and orthopedic burden on surgeons are drastically reduced even if some cases require crossover to manual intervention.

But the journal (should I say advertisement?) introduces one key piece of info: RMN is improving faster than manual ablation. New products and standardizing training is reducing procedure times, increasing efficacy, and reducing costs for RMN

"Through years of application, evidence is pointing towards comparable high success rates at index procedures and superior efficacy at select redo cases involving complex anatomies." [emphasis mine]

"As the market for RMN ablation continues to grow and manufacturing improves, the associated cost of ablation will decrease."

"Next generation RMN systems are being developed with the goal of further simplifying the installation process"

Although the editors of the journal issue are heavily biased users of Stereotaxis surgery and the journal itself is 'low-impact', the added press moves RMN closer to the spotlight.

The Opportunity

At these prices, I believe you're making a bet on execution from David Fischel. Can he improve the system and disposables to a point where utilization is a no brainer? System revenue in 2021 was equal to system revenue from 2017-2020, a result of Fischel's leadership.

I return to the valuation I put forth in my last article.

"We can build a fairly simple model out to 2025: If we assess only VT market, we can expect Stereotaxis to dominate. With 120,000 VT procedures, let's say they capture 40,000 of these procedures in 4 years, a fast but reasonable 21% growth rate from 2019 numbers. If we assume they grow their installed base to 160 from 110, this requires 250 procedures per system, also reasonable. Placing a 10x sales multiple on the 140m (assuming 3,500/procedure) high margin recurring revenue, the MC is 1.4B, a 36% IRR with 300% upside. "

I believe the math here still holds and the upside exists with even more conservative assumptions. In 4 years, they can capture 20,000 VT procedures if system improvements improve efficiency and the Magic catheter is better than 15 year old technology. At $3,000 per procedure (let's say they reduce the price to increase adoption), they can do $60M in disposable revenues by 2026. At a fair 6X sales multiple (24X P/E assuming 25% margins), we reach a PT of $4.8 (IRR = 25%) without factoring system sales at all. They have enough cash to fund operations going forward.

At these prices, you're betting on Fischel and he's demonstrated an ability to execute at STXS.  Robotic Surgery for EP is improving and Stereotaxis owns a monopoly on it. Robotic surgery is taking over all types of surgery due to inherent benefits and RMN is at an inflection point for adoption. The risk reward at these levels is compelling.

The Risk:

Stereotaxis is attacking the immovable object of problems: the status quo. They've failed for 20 years thus sending the company into obsolescence. Even worse, most physicians look at RMN as useless with most procedures performed by a few key evangelists (what's the opposite of 'rose-colored glasses'?). AN installed base of >100 systems hurts the company if those systems are essentially mothballs. Who pays $2M to install a new system or upgrade a current system if they're not using the current one?

" And Stereotaxis never really took off. There are a very small number of hard-core evangelistic users for Stereotaxis. There's also a lot of Stereotaxis machines just gathering dust in the corner of labs, which are too big to remove, and nobody is using them."

"I'm aware of several systems across the U.S. where they have stopped using it and have also mothballed or actually had the system removed from their lab."

"in Canada, there are 3 installations of Stereotaxis, of which 2 have been permanently mothballed -- sorry there's 4 installations, of which 3 are permanently mothballed and 1 is being used only for congenital [a difficult to treat arrythmia] cases…..I mean, the one sentence summary is basically that Stereotaxis, I don't think, has a great future in EP."

Expert Transcripts from 2020

Stereotaxis may not overcome such negative perception. They need to sustain their current level of innovation going forward if they want a chance. However, Fischel is a CEO I'm willing to take a flier on. Keep your eyes on this one even if you feel it's too risky at this point.