Boston Scientific

Boston reported second-quarter results that included revenue of $5.44 billion (up 7% operationally) and net income of $905 million (up 14% year over year), along with a lower outlook for the full year.

Why it matters: After seeing hints of competitors nipping after Boston's major positions in pulsed field ablation, or PFA, and Watchman left atrial appendage closure, or LAAC, in first quarter, the competitive picture has sharpened, and we think it will weigh on Boston through 2027. Though we had expected new PFA technology from Johnson & Johnson and Abbott—the two leaders in electrophysiology prior to the emergence of PFA—could drag down Boston's growth, we think the main pressure has come from Medtronic. After beefing up its PFA portfolio, Medtronic saw global PFA revenue grow 145% in the fiscal fourth quarter. Abbott also saw robust growth in the electrophysiology business (up 13% in second quarter). J&J is off to a slower start with Varipulse, but we wouldn't count it out.

The bottom line: After lowering our 2026-27 projections for Boston's electrophysiology and LAAC businesses—its two primary growth drivers—we're cutting our fair value estimate to $64 per share, from $81. Shares still offer an attractive discount, in our view. We now anticipate Watchman to decline by 1% in 2026 and fall another 3% in 2027 as a new competitor enters the market. We estimate Boston's PFA business will slow, with low-single-digit growth for the next two years. Despite the deceleration in top-line growth, the narrow-moat firm should be able to partially soften the impact on earnings growth through its recently announced cost-cutting effort that includes consolidating manufacturing capacity.

Big picture: The swiftness with which PFA market share has shifted leads us to think this market is more similar to coronary stents than to transcatheter aortic valves. There seems to be less of a learning curve for practitioners and the systems are more substitutable.

This puts the onus on all four major competitors to consistently innovate their PFA ablation, mapping, and navigation systems. It also leaves us very curious about what kind of price erosion we might see in the PFA market. When there were four major competitors in the drug-coated coronary stent market, annual price erosion rose significantly and also fell substantially once J&J exited the market leaving three competitors behind.

We're lowering our fair value estimate to $64 per share, from $81, to reflect weakness in Watchman and pulsed field ablation—the two biggest growth drivers in our valuation—that we now think will last into late 2027. We now assume low-single-digit declines in Watchman and mid-single-digit growth for Boston's PFA portfolio in 2026 and 2027, as competition from Abbott, Johnson & Johnson, and Medtronic bear down.

We anticipate the acquisition of Penumbra should partially offset those revenue declines in 2027, as we do not expect any antitrust issues to derail this deal. We remain comfortable with our relatively strong projections for endoscopy, peripheral interventions, and neuromodulation for the full year as more of Boston's novel technologies are adopted. Over the longer term, we think the accumulation of clinical data to support indication expansion on PFA to include persistent atrial fibrillation opens the door to roughly double the size of the existing paroxysmal AF pool of patients, which we think can support growth in the pulsed field ablation market through the explicit forecast period. This translates into 6% average annual top-line growth through 2030, fueled primarily by interventional cardiology, electrophysiology, neuromodulation, and peripheral interventions, thanks to new products and stronger commercial execution.

The 2020 dip in profitability due to covid notwithstanding, management's efforts to streamline operations and enhance efficiency have taken hold over the last few years, and we forecast operating margin to peak at 23% in 2030. This should also be supported by the product mix shifting to new products, including computer-assisted thrombectomy, neuromodulation for incontinence, intravascular lithotripsy, and renal denervation.

We think Boston sports a narrow moat that is firmly rooted in intangible assets. Boston benefits from its cache of patents covering its various products. Although this intellectual property does not necessarily lock out competitors for years, as it can in pharmaceuticals, the asset does shield the firm from competition based primarily on price. Boston, along with other medical device companies, has aggressively defended its intellectual property. If intellectual property rights have been violated, this can result in sales injunctions under which competitors are required to stop selling the product. In the near and midterm, this can pose a setback to peers that must revisit the drawing board to redesign their products in a way that does not infringe on any existing patents. Over the longer term, however, device manufacturers can usually invent their way around those patents, or they come to cross-licensing agreements with royalties exchanging hands.

Outside of intellectual property, highly engineered medical devices are typically differentiated, and physicians often develop preferences for certain vendors and/or individual devices based on user experience. How easily and reliably a guidewire works compared with others, or how quick the procedure is with one device compared with another, can lead to strong practitioner preference.

Product differentiation (often in combination with practitioner skill) can also lead to differences in patient safety and clinical outcomes. Clinical studies that capture this data can also amount to another intangible asset. Peer-reviewed clinical data that demonstrates safety or efficacy can be influential with physicians.

Boston enjoys an extensive network of relationships with practitioners—another intangible asset contributing to its moat. Boston has established a significant footprint in CRM, stents, electrophysiology, endoscopy, urology, neuromodulation, and other interventional cardiology and interventional oncology devices. With specialists demonstrating preference for certain products, the role of the sales rep can help cement that preference through high-touch service.

The coronary stent business strikes us as the least moaty, considering the quick learning curve and the general substitutability among brands. However, the devices in these other areas generally have a steeper learning curve and require a greater investment from practitioners to use well, making it less likely that the devices will be used interchangeably with competitive brands.

We view switching costs as a secondary moat source that especially applies to cardiac rhythm management and neuromodulation devices. The devices are typically designed as a system consisting of a generator and leads (wires) that are implanted into the body and connect with the generator. While the generator will need to undergo periodic replacement as the battery wears out, the leads become enmeshed with tissue growth that makes explantation or substitution clinically risky. As a result, replacement generators are typically from the same vendor as the leads to avoid compromising the intended operation of the system.

Finally, the cardiac medical device industry is structured in such a way that makes it highly unlikely that a new market entrant could come in and edge out Boston. Any small startup is likely to be purchased by a bigger fish if the technology pans out. For example, Boston, Medtronic, and Abbott hold more than 90% of the global CRM market, by our estimates. The presence of these top-tier competitors has remained unscathed by the peripheral rivals. With Livanova (legacy Sorin, one of the small ancillary competitors) exiting the CRM business in 2018, the field has become even more consolidated.

In terms of environmental, social, and governance issues, we think the most substantial risks involve defects or recalls of relatively invasive products. These product governance issues can hurt near-term performance for Boston and hold implications for potential legal settlements that can stretch into the much longer term, as they did for the firm's transvaginal mesh. However, we think the likelihood of any permanent damage to brand reputation is unlikely, based on how previous product recalls have played out. First, it typically doesn't take too long to re-engineer these products to address the defect or inferior performance. Even if the problematic product is challenging to re-engineer, the firm can resort to selling previous-generation products that have already established a record for safety.

Second, Boston's product liability is often mitigated by the legal protections encompassed in the case law governing the regulation of medical devices by the Food and Drug Administration. This insulates Boston from legal liability for some of its most invasive, life-saving devices.

There are also the lesser risks of data privacy and having some electronic devices hacked, as well as the challenge of attracting and retaining engineers and experienced sales reps. Nevertheless, we think it is unlikely for any of these risks to diminish Boston's narrow moat.

Boston remains one of the top players when it comes to intellectual property in medtech, which bodes well for its ability to innovate enough to keep up with rivals.

Recent clinical data for both Watchman and Farapulse should expand the addressable patient pools for these products.

Recent acquisitions have put Boston in the leadership role in several niche markets, including subcutaneous implantable cardioverter defibrillators, interventional oncology, and left atrial appendage closure devices.

Boston's coronary stent business is less moaty than its cardiac rhythm management segment.

Watchman and Boston's Farapulse franchise play an outsize role in driving the company's growth. Any deceleration in sales or product recalls could pull shares down.

Boston's multiple efforts to break into the transcatheter aortic valve replacement market have been disappointing, with the acquisitions of the Lotus valve and Acurate Neo platforms falling flat as the firm discontinued the products.