There will come a time when we leave our bitterness behind over the deluge of special purpose acquisition companies (SPACs) that flooded the public markets, mostly over a manic two-year period. Someday we’ll stop wondering what might have been if interesting companies like Rocket Lab (RKLB) and Desktop Metal (DM) had resisted the siren song of easy money and waited until they were ready for primetime. Today is not that day, as we catch up with one of our favorite companies before it got SPAC’d: Butterfly Network (BFLY).
A Short History of Butterfly Network Stock
We’ve been covering the Boston area medical device company since 2016, when we first came across its revolutionary AI-powered handheld ultrasound that worked off a smartphone. The value proposition is simple enough for even an MBA to understand: Offer a diagnostic device that non-professionals can use at a price point of about $2,000. Compare that against traditional cart-based systems that cost between $45,000 and $60,000 for a new mid-range piece of equipment that requires a high-paid medical professional (median salary of more than $80,000) to operate. Another obvious advantage is the size: The Butterfly iQ+ can be used anywhere by just about anyone. Case in point: Last year, the company trained 500 midwives in Kenya in just 10 weeks to use the handheld probe and software.
We never questioned the technology or the value proposition. Our biggest issue with the company, when it decided to go public through a reverse merger with a SPAC, was that it was going public through a reverse merger with a SPAC. From the very beginning of the SPAC craze, we wrote how these deals with so-called blank-check companies benefit everyone but the retail investor. At the time of our article, the stock was selling at an insane 65% premium prior to the merger.
A year later, Butterfly Network stock was trading at a 40% discount from its $10 per share baseline. Some of the shine had worn off of the company for us by then. Butterfly Network originally pegged the size of the total addressable market (TAM) opportunity at $8 billion, which did not seem that large, especially as competitors with deep pockets like General Electric (GE) started gaining traction with their own point-of-care ultrasound devices. It also became apparent that Butterfly Network had overhyped its revenue potential in the shiny SPAC investor deck. The trend continued in 2022 when the company reported total revenue of $73.4 million – nearly half of its original projection of $137.9 million in 2020.
It’s time for a sanity check on Butterfly Network stock to see if our time is better spent tracking other companies.
Pivoting to an Enterprise Solution
The first thing to note is that the company is definitely in pivot mode, beginning with management. It just hired a new CEO in a guy named Joseph DeVivo, who is replacing Dr. Todd Fruchterman, a former 3M executive in the conglomerate’s medical division whose tenure mostly covered the first two years of the post-SPAC years at Butterfly Network. DeVivo could be the right guy for the job. He was most recently executive chairman at Caption Health, a startup that had developed AI-powered software for performing ultrasounds. GE HealthCare, which just spun off from GE in January, acquired Caption Health about a month later, so the timing was probably good for DeVivo. (Not sure how the recent acquisition by GE HealthCare affects an existing partnership between Butterfly and Caption.) DeVivo also did a stint as president of hospitals and health systems at the telehealth giant Teladoc (TDOC).
The latter experience is especially relevant as Butterfly Network switches its focus from selling hardware with software subscriptions piecemeal to marketing its solutions to enterprises. From the company’s chief strategy officer:
“Going forward, we see health systems and medical schools as foundational to our success in realizing our vision and also building a durable, sticky and high-margin recurring revenue business.”
Darius Shahida, chief strategy officer
What appears to be at least partly driving the shift is last year’s introduction of Butterfly Blueprint, an enterprise software platform that the company describes as an “operating system for all ultrasound imaging.” In fact, a “number of institutions” are buying the software without any hardware. Management went on to liken Butterfly Blueprint as a Trojan Horse that gets the company into large health systems, where it can “ingest all of the ultrasound images from across a pretty comprehensive suite of devices, and then ultimately to deploy our own probes.” The company said it added almost a dozen new Blueprint accounts in Q4-2022, with a number deploying the software sans handheld hardware.
This is where we’re starting to get uncomfortable. The initial attraction of this company was their handheld ultrasound device that was set to disrupt the traditional ultrasound machine. That’s what we liked about Butterlfy, and if their core value proposition has changed, you have to wonder why. It’s probably because they’re facing stiff compeition from other device manufacturers, so we’re not buying the “we’ll sell them our software, then our devices later” spiel. Let’s just call it how it is. Hardware devices haven’t been bringing in revenue growth (focus on revenues, not units, as they may be under pricing pressure from competition).
Butterfly Morphing into a Tricorder
You could also read into the emphasis on “Enterprise” metaphorically. Butterfly Network eventually wants to turn its handheld ultrasound into a type of tricorder, the multi-functional fictional device from the Star Trek universe that seems capable of scanning and analyzing just about anything in the galaxy.
For example, the company recently received clearance from the FDA to use its ultrasound-on-a-chip technology to evaluate lung function. The Auto B-line Counter uses deep learning to analyze a six-second ultrasound clip to interpret B-lines in a scan, which can indicate wetness in the lungs. Such findings are associated with pulmonary air-space diseases, such as congestive heart failure, chronic obstructive pulmonary disease, pneumonia, and good old covid. Butterfly Network developed and trained its AI algorithms on more than 3.5 million anonymous ultrasounds, which points back toward how important these new enterprise contracts are to the company.
The long-term goal is to create a hardware and software package that people could use at home, just like a blood pressure cuff, to monitor their health. Butterfly is currently enrolling volunteers for a study to demonstrate how easy it would be for patients to perform self-scans for congestive heart failure to evaluate a new AI tool the company is developing. Such a device, the company claims, could eventually unlock a TAM that is an order of magnitude greater than today.
No doubt it will take time and money to push this disruptive stethoscope through the FDA regulatory gauntlet.
Should You Finally Buy Butterfly Network Stock?
We just gave you a lot of pie-in-sky promises and prognostications from management. The reality is that the company’s market cap has now dropped below $500 million, well short of our $1 billion threshold to hold any company. So, it’s not just the fact that they can’t grow revenues from devices that keeps us from buying shares, even though Butterfly Network stock is finally trading at a reasonable price based on our simple valuation ratio:
- Market cap / annualized revenues
435 / 76 (based on $19 million of Q4-2022 revenue) = 6
That ratio is pretty much in line with the average in our Nanalyze Disruptive Tech Portfolio. On the plus side, the company is learning how to cut costs, estimating it will reduce cash burn in 2023 by $60 million, which works out to $85 million to $95 million in losses this year. It ended the year with about $240 million in cash, so Butterfly has a couple more years of runway based on that trajectory. In addition, gross margins are much improved, jumping from about 40% in Q4-2021 to more than 50% in Q4-2022. That’s partly thanks to more SaaS sales, as well as higher product prices.
Those keen on the company might be tempted to jump on the perceived discount, but Butterfly Network has posted at least five straight quarters of flat revenues and predicts more of the same in at least the first half of 2023. The company is expected to release Q1-2023 numbers next month. There’s definitely no urgency for retail investors to make a move before then. In the meantime, we’re avoiding Butterfly Network until it can start generating revenue like a high-growth company, rather than just losing money like one. The latest investor deck guides to “high teens” revenue growth. We’ll call that 17%, which means if they don’t hit $85.7 million by the end of this year (64% less than the SPAC deck promises mind you), we’re changing the stock from a “like” to an “avoid.” In the meantime, we’re pulling it from our tech stock report because we’re not fans of SPACs that don’t meet their grandiose promises and then “pivot.”
Conclusion
The saying that hardware is hard still applies to Butterfly Network, even as the MedTech is trying to turn itself into a SaaS company. At one point, management talked about bringing the cost of the Butterfly iQ down to $500. Instead, the price has increased and currently retails for $2,699 for one probe plus $420 per year membership. The change of CEO is a direct consequence of this company not executing as planned.
While Butterfly might have the superior tech in the handheld ultrasound market, other competitors are circling. At depressed valuations, Butterfly Network could also represent a pretty attractive acquisition for an outfit like GE Healthcare that is trying to establish itself and has already shown an appetite for AI medical imaging technology. Whatever happens, let’s hope the new CEO can deliver on the promised revenue growth for 2023.
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