The worst thing I had to say about Boston Scientific (NYSE:BSX) back in February was that the valuation was pretty robust. Even so, I thought the shares offered some relative value given the superior growth outlook for BSX, and the shares have continued to outperform – outperforming the broader medical device space by about 10% and specific peers/rivals like Abbott (ABT), Johnson & Johnson (JNJ), Medtronic (MDT), and Stryker (SYK) even before the announcement that the company’s ADVENT study of the Farapulse ablation study was more successful than bulls had hoped.
At this point, I still see upside in BSX shares. No, a 6.5x forward revenue multiple is nothing like conservative, and valuation does look stretched on more conventional approaches like discounted free cash flow, but you don’t get opportunities to buy growth med-tech at bargain prices all that often. Considering opportunities like Farapulse, Watchman label extension studies, new CRM products, the Agent drug-coated balloon, as well as growth opportunities in peripheral intervention, endoscopy, and urology, I continue to see Boston Scientific as a differentiated growth story in a market segment where investors have historically been willing to pay heady multiples for reliable growth.
ADVENT Comes Through With Flying Colors
I don’t think there were really any credible concerns that BSX’s Farapulse pulsed field ablation (or PFA) catheter would come up as inferior to conventional cryo/RF ablation, particularly as the trial was stopped early, but I think the magnitude of the performance was nevertheless impressive.
The Farapulse delivered a procedural success rate of 73.3% at one-year follow-up versus 71.3% for conventional thermal ablation in a study that I believe was rigorously and conservatively designed (any re-do procedure or antiarrhythmic drug use was considered a failure). If you include AADs, the success rates bump up to 78.5% and 76.3%, respectively.
This was better than expected. Looking at sell-side research going into the trial read-out at the European Society of Cardiology meeting, expectations clustered around 65% to 70% success rates for Farapulse and 71% for thermal (pretty much spot on). Likewise, 70%-plus success was generally categorized as the best-case scenario.
Safety was clean, with 2.1% posterior incidence versus 1.5% in the control, and while there was a death in the Farapulse group (from tamponade), perforating the appendage with the catheter is a risk in any ablation procedure, and perhaps one that can be tied to inexperience with the catheter – most of the physicians using the Farapulse in this study had minimal prior experience with PFA. There was a higher rate of cerebral lesions in the Farapulse group, but the presenters of the study didn’t seem all that concerned about it.
I think it’s also worth noting that procedure times were much shorter with the Farapulse – a little over 29 minutes versus just over 42 minutes in the thermal group. Keep in mind again that that was with a relatively inexperienced physician group (inexperienced on PFA) and extra fluoroscopy time added about 7 minutes to the Farapulse times – when the procedure is performed with intra-procedure mapping (BSX’s Rhythmia HDx) that will come down.
Readers may find this distasteful, but the reality is that cath labs (and ablation procedures) are significant money-makers for hospitals and clinics, and you can bet that physicians and administrators will be interested in procedures that increase throughput for these lucrative cases.
What Now?
Assuming a typical nine-month review, Farapulse will probably be approved sometime around mid-2024. At that point I expect Farapulse to quickly take share in the $8B ablation market, boosting BSX’s revenue growth by a few percentage points, though it may take a little time to fully materialize given that the catheter itself is only about 25% of the total procedure price.
This is not great news for established ablation companies like Abbott and Johnson & Johnson. I would argue it’s much worse for Abbott than JNJ, though, as Abbott is much further behind in getting its PFA system through trials and onto the market.
What Else?
This was a big win for Boston Scientific, even if success was already assumed on some level. It’s not the only driver that can boost growth rates, though.
The Watchmen device continues to grow strongly (up 27% in the second quarter of 2023) and holds over 90% share in a growing market. The OPTION study (due to read out in 2025) could allow for the use of Watchman as an alternative to blood thinners following a-fib ablation procedures, and the CHAMPION study (due in 2026) could pave the way for labeling and use as a front-line therapy.
Other drivers to watch include 2025 data on the integration of the Emblem S-ICD and Empower leadless pacer (which could reignite growth in the cardiac rhythm management business), as well as further share growth for the Agent drug-coated balloon in coronary in-stent restenosis and small vessels, the Rezum BPH system, and Apollo’s endosurgical tools.
I also expect further M&A. There were rumors earlier this year of BSX approaching Shockwave (SWAV), and BSX has a long history of serial tuck-in acquisitions. Price would definitely be an issue with a Shockwave deal, but it’s also an opportunity to acquire a disruptive therapy that Boston Scientific could absolutely leverage within its own business.
The Outlook
BSX has already posted two strong quarters so far this year and lifted guidance for the full year, and considering that current guidance calls for a meaningful deceleration in the second half (7% to 9% growth versus almost 13% in the first half), there could still be some upside. Between year-to-date outperformance and the better results in the ADVENT study, I’ve boosted my own expectations, and I’m looking for 11% revenue growth this year and 10% next year, as well as longer-term annualized growth of around 8% to 9%.
That’s not at all a conservative outlook, but given the size of the addressable markets and BSX’s collection of share-gaining therapies/devices, I don’t think it is ridiculous. On the margin side, my 2023 operating margin estimate is about a point higher now, but I have changed my 2024+ estimates as much. I’m still looking for free cash flow margins to improve into the high teens over the next five years and then into the low-20%’s, driving low to mid-teens annualized FCF growth.
Discounted cash flow does not suggest an especially robust prospective return today, but as I said in the open that’s typically the case with high-quality growth med-tech. Looking instead at what the market has historically paid for the sort of revenue growth and margins I expect from BSX, a 6.5x forward multiple is not ridiculous and that supports a $60 fair value on my 12-month revenue estimate.
The Bottom Line
Are Boston Scientific shares expensive? Yes. Are they overpriced? That’s a more nuanced question. I’m sure many will say yes, as they did at the time of my last article, and Boston Scientific has continued to deliver growth and share price outperformance since then. There is a “musical chairs” aspect to this story – you don’t want to be holding the shares if/when the growth disappoints and the music stops, but I like BSX’s strategic positioning for the next several years and I can see a path for these shares continuing to head higher.
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