SYK - Penumbra Riding Higher On Upcoming Launches And Rerating

Summary

• Penumbra has benefited from renewed enthusiasm around the company's neuro and peripheral thrombectomy platforms, and the company recently launched the Lightning Flash.
• Management is making a big bet on computer-aided aspiration for benefits like shorter procedure times and improved efficacy, with Lightning Flash, Lightningbolt, and Thunderbolt all using proprietary algorithms.
• Lightning Flash should add $100M in revenue in its first year and Thunderbolt should be a significant boost to the stroke business in 2024.
• Penumbra's share price performance has taken it beyond the bounds of what I think its growth can comfortably support; further gains (particularly with better-than-expected revenue) are possible, but I like the risk/reward less now.

When I last wrote about Penumbra ( PEN ) in August of 2022 I was bullish on the company based on the prospects for meaningful upcoming product launches and a material rerating for the shares. This has largely panned out since then, with the company recently launching the Lightning Flash in the U.S. and seeing valuation multiples expand again on more bullishness around the company’s ability to hit 20% revenue growth in 2023.

The shares are up more than 35% since that last article , handily beating the Dow Jones Select Medical Equipment Index over that time, as well as rival Inari ( NARI ). Valuation is never completely straightforward with growth med-tech like Penumbra, but at this point I see the valuation as much less of a bargain, but I don’t discount the possibility of even further positive rerating if Penumbra can log some beat-and-raise quarters on the back of Lightning Flash and other new products heading to the market this year.

Lightning Flash Brings New Technology To The Table

Penumbra saw a roughly six-week delay in launching the Lightning Flash catheter, but the product is on the market now and management has not talked down notions of $100M revenue potential in 2023.

Lightning Flash is a new aspiration catheter system for venous thromboembolisms including deep vein thrombosis and pulmonary embolisms. What makes Lightning Flash different is algorithm-based computer assistance that detects the clot and blood flow, maximizing the aspiration on the first attempt and reducing blood loss. Put more simply, Penumbra is betting on this proprietary algorithms to drive a procedure that is faster, more effective, and safer – pretty much exactly what the market says it wants from aspiration technologies.

Lightning Flash isn’t the only product that will have proprietary algorithms driving a lot of the competitive differentiation; management is a big believer that computer-aided aspiration will be the future of these treatments and the company has applied the concept to multiple products. Lightning Bolt, an aspiration product for arterial use, should hit the U.S. market before midyear (2023). The Thunderbolt system (for stroke) that is currently in clinical trials (the THUNDER study) likewise uses algorithms to sense when a clot is captured and increases first-pass clearance, a key competitive factor in the stroke market where “time is brain”.

Management is also looking to prove out the benefits of these technologies by shifting toward more randomized controlled studies (the gold standard for device trials) using widely-accepted endpoints. The STORM-PE study will be the first randomized study to compare Lightning to medical management for pulmonary embolism and the company expects to launch studies in coronary and deep vein thrombosis a little further down the road.

In principle, the new computer-assisted Lightning products should drive meaningful improvements in treatment times and outcomes, both of which clinicians routinely claim are major factors in the devices/systems they favor. If Penumbra can further quantify the clinical and performance benefits through randomized controlled studies, it could help drive share in a very competitive market with the likes of Inari and Boston Scientific ( BSX ).

Neuro Isn’t Being Ignored

Penumbra’s peripheral thrombectomy business is going to be the most exciting growth driver in the coming years, but that doesn’t mean that the stroke market no longer matters. The stroke business grew almost as quickly as the peripheral thrombectomy business in the third quarter (16% versus 20%), it still generates around a quarter of the company’s revenue.

New RED catheters have helped the company regain some share in the U.S. stroke market, and launches in Japan and the EU should likewise help grow these businesses in the near term. The bigger driver in stroke, though, is the Thunderbolt, and the company still expects to launch this new platform late in 2023. Medtronic ( MDT ) and Stryker ( SYK ), as well as newcomer Imperative , remain meaningful rivals in the stroke space, but if Thunderbolt can deliver on management’s promises regarding first-pass clearance (as well as safety), this could drive some more meaningful share gains.

The Outlook

I believe Penumbra’s peripheral market opportunities remain quite attractive. Inari recently sized its addressed venous thromboembolism market opportunity at almost $6 billion, and while this isn’t an apples-to-apples comparison to Penumbra’s addressable markets, the fact remains that there are still meaningful opportunities in core markets like deep vein thrombosis and pulmonary embolism.

Fewer than 20% of U.S. VTE patients get interventional treatment today, and there’s still meaningful opportunity to take share away from pharmaceutical approaches. Key to this process will be selling clinicians on the advantages of mechanical approaches – including safety, procedure times, long-term outcomes, patient satisfaction, and cost. I believe Penumbra’s platforms address these questions quite positively, and I still see a lot of runway for this company.

In addition to the neuro and peripheral market opportunities, Penumbra continues to develop its Real VR platform for indications like stroke and neurodegenerative disease rehab, CBT, and motor/cognitive therapy for elderly patients. This remains a high-potential opportunity if everything works out, but it will take many years for this to develop and it won’t be a near-term contributor to revenue.

I haven’t made any meaningful changes to my model since my last update, and while I don’t currently model 20% near-term revenue growth (I’m in the high teens), it is possible if the new Lightning products really deliver on their promise. Longer term, I’m still expecting low-to-mid-teens revenue growth, with double-digit EBITDA margin and positive free cash flow in FY’24 and 20%-plus free cash flow margins in around 10 years.

Penumbra no longer looks undervalued on discounted cash flow, and that’s not surprising – that’s more the norm for high-growth med-tech. As I haven’t meaningfully boosted my revenue growth assumptions, the shares are also no longer as appealing on my growth-based EV/revenue multiple. Historically, the market would pay about 6.5x to 7.5x for the high-teens growth I expect over the next three years. In more recent years (since 2018) the market has been willing to pay as much as 10x to 15x for that growth, but as seen over the past year the market can quickly change its mind about the “right” premium for growth med-tech.

The Bottom Line

If I could buy Penumbra below 7.5x forward revenue (or ideally below 6.5x forward revenue), I’d definitely look to do so. That’s not to say that the shares can’t appreciate further from here; if Lighting does as well as I believe it can, I don’t see a reason why the company couldn’t post better than expect revenue growth and enjoy further re-rating. I don’t like betting on substantial re-rating, though, and so these shares don’t have the same appeal to me at this point even though I’m still a big believer in the company’s long-term success.

For further details see: