Why Medtronic Is Buying This Growing Robotics Company

Medtronic plc (NYSE: MDT) has been marketing Mazor Robotics Ltd.'s (NASDAQ: MZOR) surgical-assist robots for about one year, and on Friday, it announced a definitive agreement to acquire the robot maker lock, stock, and barrel for $1.64 billion, or $58.50 per ADR. Here's why Medtronic's decision to buy Mazor Robotics to push more deeply into the spine surgery market is smart.

A safer surgery

Mazor Robotics' Mazor X surgical robot is increasingly being used by surgeons for spine surgery following studies that have showed its use can reduce patient complications that might otherwise lead to additional surgeries or delay recovery times relative to traditional freehand surgery.

Specifically, in a 379-patient study at 10 investigator sites, 287 patients underwent robotic-guided-arm surgery and the rest underwent freehand surgery. Patients in the freehand cohort of the trial had a 5.3 times greater risk of an adverse event or complication than patients that underwent robotic surgery. Furthermore, freehand patients had a 7.1 times greater relative risk of having to undergo revision surgery than did robotic surgery patients.

A marriage in the making

Mazor Robotics marketed its spine surgery systems directly to hospitals until 2016, when it cut a deal with Medtronic to use Medtronic's existing global sales team to co-promote the Mazor X alongside its implants and other spine surgery solutions.

Their agreement included an initial co-promote "test" phase that could later be expanded to an exclusive marketing arrangement if certain goals were achieved. As part of the arrangement, Medtronic also acquired a small equity stake in Mazor Robotics, plus options allowing it to boost its ownership over time.

A decision to shift Mazor X sales exclusively to Medtronic wasn't expected until February 2018. However, the co-promotion arrangement reached its targets early, and as a result, Medtronic took over full responsibility for selling Mazor X in August 2017.

Medtronic also upped its equity ownership in Mazor Robotics at that time, bringing its total investment to $72 million and its ownership to approximately 11.9% of Mazor Robotics' outstanding shares. Additionally, Mazor issued warrants to Medtronic that could allow it to increase its ownership to more than 14% within 18 months, at an exercise price of $44.23 per ADS.

Why buy it now

Medtronic's agreement with Mazor Robotics includes the development of new solutions that merge solutions from both companies. The first one of those, the Mazor X Stealth Edition, is being unveiled next week at the North American Spine Society.

The Mazor X Stealth Edition is a next-generation robotic-surgery platform that combines Medtronic's StealthStation navigation system with the Mazor X to offer surgeons better insight into the location of surgical tools or instruments during surgery. It enables 3D planning, robotic-guided surgery, and real-time verification of a surgeon's surgical plan, and it removes the need for guide wires, which could reduce surgical costs and improve patient safety.

Medtronic isn't citing this launch as the specific reason to acquire Mazor now, but I think optimism that demand for this system could be significant might have made now the perfect time to combine. Doing so provides Medtronic with 100% of the benefit of system sales and, importantly, recurring sales of instruments and other consumables used in spine surgeries. Because there are 500,000 spine surgeries in the U.S. every year, the Mazor X costs about $850,000, and each surgery results in about $1,500 in disposables sales, the potential revenue opportunity associated with robotic-assist surgery becoming more common is significant.

Is Medtronic a stock to buy now?

This acquisition could help Medtronic's spine sales increase from its current $652 million quarterly pace, but Medtronic is a Goliath company with $7.4 billion in quarterly revenue, and Mazor Robotics' second-quarter sales were only $13 million, so we're not talking about an immediately needle-moving acquisition.

Medtronic says buying Mazor Robotics will dilute its earnings this fiscal year, but it will "generate a double-digit return on invested capital (ROIC) by year four, with an increasing contribution thereafter."

For this reason, I don't think investors should expect this acquisition to send Medtronic's shares soaring over the next year. Instead, I view this acquisition as an example of Medtronic's commitment to advancing next-generation solutions that, over time, could benefit long-term investors.

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Todd Campbell has no position in any of the stocks mentioned. The Motley Fool owns shares of Medtronic. The Motley Fool recommends Mazor Robotics. The Motley Fool has a disclosure policy.