Union Bankshares Q1 2023 Earnings Call Transcript

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May 3, 2023

There are 8 speakers on the call.

Operator

Good morning, and welcome to the Avanos Q1 Earnings Conference Call. All participants will be in listen only mode. After today's presentation, there will be an opportunity to ask questions. Please note this event is being recorded. I would now like to turn the conference over to Scott Galavan.

Operator

Please go ahead.

Speaker 1

Good morning, everyone, and thanks for joining us. It's my pleasure to welcome you to Avanos' 2023 First Quarter Earnings Conference Call. Presenting today will be Joe Woody, CEO and Michael Greiner, Senior Vice President, CFO and Chief Transformation Officer. Joe will review our Q1 and expectations for 2023 as well as provide an update on the current business environment. Then Michael will discuss additional detail regarding our Q1 and 2023 planning assumptions.

Speaker 1

We will finish the call with Q and A. A presentation for today's call is available on the Investors section of our website, avanos.com. As a reminder, our comments today contain forward looking statements related to the company, our expected performance, current economic conditions and our industry. No assurance can be given as to future financial results. Actual results could differ materially from those in the forward looking statements.

Speaker 1

For more information about forward looking statements and the risk factors that could influence future results, please see today's press release and risk factors described in our filings with the SEC. Additionally, we will be referring to adjusted results and outlook. The press release has information on these adjustments Reconciliations to comparable GAAP financial measures. Now, I'll turn the call over to Joe.

Speaker 2

Thanks, Scott. Good morning, everyone, and you for joining us to review our operational and financial results for the Q1 of 2023. Our first quarter results were generally in line with our plan, including the pace at which we rationalize our product portfolio, eliminate SKUs or accelerate cost savings. The demand for our products remains strong and although supply chain disruptions have improved with our backlog coming down $1,000,000 during the quarter, We continue to have a sticky backlog that has limited our ability to fulfill our demand levels. Coming into the year, we That 2023 would continue to present supply chain headwinds and pockets of product availability challenges, But that as we got to the back half of the year, many of these headwinds would ease and we believe that's still to be the case.

Speaker 2

As always, our primary focus is on getting patients back to the things that matter as we meet the needs of our customers. For the quarter, we achieved sales of $192,000,000 or negative 2.9% compared to last year. Excluding both the negative impact of foreign exchange and the $5,000,000 impact related to our previously announced decision to walk away from revenue that Not meeting our returns criteria, organic growth was unfavorable 0.7% for the quarter. Separately for the quarter, we generated $0.27 Of adjusted diluted earnings per share and greater than $26,000,000 of adjusted EBITDA, while our adjusted gross margin was 50 0.4% and our SG and A as a percentage of revenue, 41.6%. These results support transformation priorities we laid out at the JPMorgan Conference in January, in which we will expand upon at our Investor Day on June 20.

Speaker 2

Now I'll spend the next few minutes discussing our results at the product category level. On a constant currency basis, Our Digestive Health portfolio grew over 10%, bolstered by our NeoMed business, which posted another strong quarter with over 36% growth versus the prior year as we continue to take advantage of the strong demand for NPIC conversions in North America, our legacy enteral feeding product line maintained its global mid single digit growth behind Continued expansion of our U. S. CoreTrex standard of care offering. Our respiratory business declined by a little over 6% with both our closed suction catheters Oral Care Solutions facing tough comps due to the Omicron spike in early 2022.

Speaker 2

We anticipate the respiratory health business will grow 2% for the full year 2023 with normal seasonal ordering patterns returning during the second half of the year. In total, our chronic care business grew greater than 5% in the Q1, excluding the negative impact of foreign exchange and low growth, low margin product categories we are no longer selling. Turning to the pain portfolio, sales were down 10% for Quarter with soft results across our surgical pain, Game Ready and 5 shot product categories, each of which were down at least 10% Call, we continue to experience supply headwinds within our surgical pain category. We expect these headwinds to remain a factor throughout the first part Of 2023, leading the supply chain challenges is critical as macro dynamic factors impacting the use Our surgical pain products during the past 2 years like hospital staff shortages and overall reduction of elective procedures have subsided We are working diligently to take advantage of this improved landscape. Separately, our portfolio experienced a weaker than expected Q1.

Speaker 2

However, this softness was primarily concentrated in our 5 shot or Genvisc product. The 5 shot market has specific pricing and competitive challenges That are not as prevalent within the 3 shot market. TriVisc, our 3 shot offering remains in line with our long term orthopedic call point strategy And is performing as anticipated. Volatility will continue to be a factor throughout the year as we face strong comparables from last year and We continue to experience the related swings from entering the ASP reporting environment in Q3 2022. Despite the volatility, we believe we have the right strategies in place to capitalize on the opportunities present in the market, Including continuing to provide best in class service and support, expanding market access through both our direct patient and our specialty pharmacy business And targeting long term stability and reliability in pricing for our customers, important characteristics for the orthopedic market in particular.

Speaker 2

Now moving to an update on our 2023 priorities and transformation efforts. We have 4 key priorities for the next 3 years that will optimize our go to market and meaningfully enhance our financial profile. These priorities include strategically and commercially optimizing our organization, Transforming our portfolio to focus on categories where we have attractive margin profiles and the right to win, Taking additional cost management measures to enhance operating profitability and continuing our path of efficient capital allocation To meaningfully improve our ROIC. In the Q1, we executed well against these priorities as Kurt Holbrook announced his new sales and marketing organization Among other strategic initiatives, our margin profile was enhanced versus prior year Q1. We executed against our portfolio optimization strategy and remain on track to deliver at least $10,000,000 in current year operating expense savings.

Speaker 2

Additionally, we continue to review our capital allocation priorities, including strategic M and A and opportunistic share repurchases. We look forward to presenting additional detail regarding this transformation program and the related 3 year financial targets at our Investor Day on June 20 to be held At the convened 101 Park Avenue location in New York City. Now I'll turn the call over to Michael, who will continue to lead these efforts in his Stan will follow as Chief Transformation Officer and will further discuss our Q1 financial results.

Speaker 3

Thanks, Joe. Before diving deeper into these transformation efforts, I'll provide additional color to our Q1 results. Total reported sales for the Q1 was $191,700,000 a decrease of 2.9% compared to last year. Adjusted EBITDA for the quarter was greater than $26,000,000 compared to $23,000,000 a year ago with EBITDA margin improving 200 basis points versus last year. Adjusted net income for the quarter totaled almost $13,000,000 compared to $12,000,000 a year ago, translating to 0.27 dollars of adjusted diluted earnings per share versus $0.25 a year ago.

Speaker 3

We ended the quarter with $96,000,000 of cash on hand And a leverage ratio of 0.8. As Joe already noted, we delivered on both our gross margin And SG and A as a percentage of revenue targets. Our gross margin for the quarter was 56.4%, a 50 basis point improvement versus the prior year, Primarily driven by the positive impact of our manufacturing efficiency programs, we anticipate 2nd quarter gross margin To be slightly improved versus the Q1. Separately, SG and A as a percentage of revenue improved by 140 basis points Versus the prior year primarily related to our cost savings efforts to streamline the organization and reduce our external spend profile. As with gross margin, we anticipate our SG and A levels will be largely similar during the Q2 versus the Q1.

Speaker 3

The material improvement expected in the second half of the year as our cost management transformation efforts begin to accelerate. As we previously shared, 2023 will be a transition year, given our product portfolio rationalization And cost management initiatives. And the Q1 was an example of this unevenness with slightly lower revenue than anticipated across some of our product categories, All profitability measures were either in line or exceeded our expectations. In summary, we are pleased with our Q1 execution in total I remain confident in our ability to meet our previously announced guidance for the year of earning between $1.60 1.80 Of adjusted diluted earnings per share, while delivering at least $60,000,000 of free cash flow, excluding the one time cash costs associated with the restructuring efforts, Expected to total approximately $25,000,000 Finally, including the current year impact of the approximately $35,000,000 annualized impact of product portfolio rationalization, The company anticipates organic revenue growth to be low single digits. Now turning to our transformation priorities, Which are designed to shift their product portfolio over time into a higher growth portfolio, leveraging our cornerstone product families in Digestive Health as well as our orthopedic pain and recovery focused products.

Speaker 3

In addition, these priorities will right size our cost structure Enhance our operating profitability, allowing us to generate significantly greater annual free cash flow over the next 3 years, While meaningfully improving ROIC over this transformation horizon. As already shared, expect to realize approximately $10,000,000 of savings in 2023, while anticipating $45,000,000 to $55,000,000 of gross cost savings by 2025, most of which will be achieved in 2024. I will end with reiterating what I shared at the end of my prepared remarks for the year end earnings call. We are excited to embark on our transformation journey and are confident we will improve on each of our financial metrics as 2023 progresses With a slow start for the Q1 followed by acceleration in the back half of the year, similar pacing

Operator

We'll now begin the question and answer At this time, we will pause momentarily to assemble our roster. The first question comes from David Turkaly from JMP Securities. Please go ahead.

Speaker 4

Yes, great. This is actually Danny on for Dave. So just a quick one on gross margin. It was a nice increase during the quarter and you noted Some of that benefited from manufacturing efficiencies and improvement in supply chain. But I guess our question Really is more around looking ahead, how should we think about benefits to gross margin for the full year?

Speaker 4

More specifically, how much of the improvement should we expect from The exiting of lower margin product lines and other portfolio rationalization efforts versus continued improvement in the supply chain that you've seen? Thanks.

Speaker 3

Yes. Thanks, Dan, for the question. We still anticipate, as we said previously, We will have 100 basis point improvement on our operating margin for the full year. Given the uncertainties of the moving pieces, we weren't sure if that was going to come from gross margin or from our SG and A as a percentage of revenue or our total OpEx But I do think as we move through the year, the 56.4% that we started with in the Q1, which we were very pleased with the overall execution that you pointed out, Should land higher for the full year.

Speaker 4

Great. Thanks. And then just one follow-up, just on Cash flow, then outflow of about $11,000,000 this quarter and you had called it out as a focus for 2023. So just No cadence throughout the year on what we should expect going forward and any other considerations there would be great. Thank you for the questions.

Speaker 3

Yes. So the Q1 for free cash flow is definitely going to be the lowest. It was going to be what we ended up with for the quarter was going to be dependent upon How much execution we had on the transformation and cost savings plan. So we spent, as you'll see in the one time cost, in a non GAAP reconciliation, we spent about $7,500,000 in cash in the Q1 for those And of course, revenue was a little bit softer than we anticipated. So the combination of those 2 had free cash flow a little bit lower Than we anticipated in the Q1.

Speaker 3

That will be our lowest free cash flow quarter for the year, Putting aside some tax payments that we may have, so we should see an improvement in free cash flow through the rest of the year.

Speaker 4

Great. Thank you very much.

Operator

The next question comes from Rick Wise from Stifel. Please go ahead.

Speaker 5

Good morning, Joe. Just to Start us off. So far this earnings season, we've heard a lot from much larger companies, Obviously, talking about just in general, the macro environment, So challenging, but less of a headwind, supply chain stabilizing, stabilized, etcetera, etcetera. It'd be really interesting to hear your perspectives on how that is that really happening In the world of Avanos, how did they trend in the quarter? How what are you seeing so far in Q2?

Speaker 5

And sort of How does this all wrap into your outlook for the year? Thanks.

Speaker 2

Yes, Rick. I mean, a couple of things and I noted the other earnings calls As well and a lot of the larger companies have the broader portfolio to your point. But they did inside of that inside of those comments say that they still made it clear that there were So for us specifically ON Q and some catheter availability is hurting us there generally. We really had it across the board though even in our COOLIEF product line, our Ambit product line somewhat in Digestive Health, Although we did move a lot of that through in the quarter, it's definitely going to improve and still be with us in Q2. We do agree that the second half It's likely going to be much, much better given that these things are going to disappear for us.

Speaker 2

But again, for us, We probably had $4,000,000 to $5,000,000 more that we could have pushed through if we were all the way clear on our backlog.

Speaker 3

I think the other thing too Rick to add to that is Confidence in reiterating our previously announced guidance is high because we do think the storm clouds are clearing. And some of the things that we missed this quarter were very specific to us, our raw materials, our input costs, But we think those we think we have visibility to those things clear and giving us confidence to being able to still achieve our full year guidance outcomes.

Speaker 2

And if you do think you've been following us for quite some time and we do have a portfolio that unfortunately starts as Michael has outlined Slow, Q1 being the weakest. And even if you think about last year, we sort of progressed as each quarter went and then a very large 3rd and 4th quarter.

Speaker 5

Yes. No, that makes sense. Thanks to you both. And Michael, maybe this is a question for you. On the interventional pain side, If I'm doing the back of the envelope math correctly, I may not be, please don't hesitate to correct me.

Speaker 5

It looks like what I would call the base ex Orthogen Rx pain management business, it was down sequentially 25% versus the 4th quarter. I know that seasonal sequential figure, whatever, down 5% or 10%. Is that the backlog? Is that component? Is there something else going on?

Speaker 5

And just is Maybe I missed your language. Is pain more uniquely affected here or you're seeing less of a recovery? Any extra color would be great.

Speaker 3

Yes, that's helpful. So it's a couple of things. It's one where you just hit on, which is there is some component and access to material issues there. But in particular, Game Ready had a very strong 4th quarter and a less than optimal Q1. So a big part of The math that you're doing is game ready attributed.

Speaker 3

In addition, standard RF was also down. That was more attributable To the availability of product, COOLIEF was by and large a push 4Q to 1Q. So primarily our RF and our Game Ready are the pain points, no pun intended, for the weak 4Q to 1Q transition in Interventional Pain.

Speaker 5

Got you. And just last for me, Joe, I hate to keep Being the one, but what can I do? Asking the M and A question, but I know that you had hoped to have at least one Transaction announced before the upcoming June Investor Day, if I remember your words correctly, we're

Speaker 4

a

Speaker 5

month or so away from it. Any additional color on the May front and just help us bring us up to date here.

Speaker 2

Yes. We do feel like we're going to be able to talk about an additional bolt on for the orthopedic pain business, that would help us in the ambulatory surgical center strategic area. It's also possible that we'll be able to say some things more explicitly About the portfolio that would be a significant change for us. So we feel pretty good about that. And you know, a lot of times we hit it and it's hard to predict these things, but we're working very hard to make that happen because I think that will be very key for the Investor Day.

Speaker 5

Thanks, Vijay.

Speaker 3

I don't think there's anybody else queued up operator.

Operator

Yes, sir. There are no more Sorry,

Speaker 3

hold on. Matt just got in. Let's let Matt ask his question.

Speaker 6

Brad Fishman, sorry, I think I had an issue getting into the queue at first. Just wanted to ask on guidance, thinking about the cadence sequentially. I think you guys kind of hinted at a little bit of a softer Q1 relative The low single digit organic guide, just wanted to think about the rest of the year, how it plays out. I know you said that the second half would likely be stronger, But also just maybe breaking out pain management versus chronic care and what you'd expect to see as a base case for the rest of the year?

Speaker 3

Yes. So, great question. So Q2 is going to look largely similar, give or take to Q1, there'll be some pushes and takes there, but largely similar to Q1. As we said, I think gross margin will be improved given that we've got some programs that are picking up momentum. And then back half of the year will be very strong both on the gross margin and the OpEx side.

Speaker 3

What we'll do at Investor Day in 45 days is give a little more specific layout. We'll kind of pre talk about Q2, Given that it will be June 20, and then we'll lay out the back half of the year with more detail inclusive Some of these transactions, we think we'll be able to get over the finish line to talk about June 20.

Speaker 6

All right, great. And then just a quick follow-up. I'm not sure if you said in the prepared remarks if there was any change around the OrthoGen expectations for the rest of the year. Does guidance still contemplate relatively flat full year versus last year? Or has there been any type of change?

Speaker 6

Thanks very much.

Speaker 2

No. There's been some change there. We talked about really a Combination, if you will, of 10% decline in orthogen in the HE product, primarily in the Five shot area as well as the Game Ready and even the acute pain sector and the acute pain on cue being tied to So there is that potential that's kind of pulled into our but we're still lining up to our full year guidance. And One thing we've talked about a lot in this environment that we're in is that there's ebbs and flows quarter to quarter where Customers go away for a bit. They're chasing the best reimbursement and they come back, but it's really going to all kind of even itself out by the end of the year.

Speaker 6

So just to clarify quickly, are you still contemplating like flat orthogen sales relative Last year? No. Okay.

Speaker 2

No, we're not contemplating flat. No.

Speaker 3

All right. Trivus will be flat to better versus last year or meaningfully better to last year. 5 shot will be down We just we aren't confident yet. We have a sense of exactly what that mix will look like. But in total, it will be down versus last year.

Speaker 6

Okay. I guess like lastly for me, would you point to any product areas as a potential offset to guidance given Low single digit organic was unchanged and it seems like OrthoGen, it might be a little bit lower.

Speaker 3

Yes. Digestive in particular, We also believe there is upside in acute pain as we get visibility to the supply chain issues And then international as well, we think we have some pockets of strength internationally that have not been fully accounted for.

Speaker 6

All right. Thanks very much for taking the questions. Appreciate

Speaker 2

it. Thank you.

Operator

The next question comes from Drew Ranieri from Morgan Stanley. Please go ahead.

Speaker 7

Hi, Joe and Michael. Thanks for taking the questions. Just another on OrthoGen for a moment, but I hear you on the 5 injection and 3 injection market, but just curious maybe on the 5 injection, Is the decline at all more of just a mix shift into the 3 injection? Can you give a little bit more color there? And then I had a follow-up.

Speaker 7

Thanks.

Speaker 2

Yes, yes. I think there's really 2 things. I mean, one is some customers clearly with the reduced reimbursement in that segment, which is A lot of it is non orthopedic segment. It's more of a pain center segment are leaving the business. The other component of that Is that we had a competitor that has special code in the Q1.

Speaker 2

I believe that's going away in Q2 as they start reporting too. So you have a number of customers that kind of moved over That's a good advantage. We benefited from that obviously in Q4, but we didn't in Q1. That all settles out and our intention is to maintain the base that we'll have of 5, but we're growing and stabilizing in the 3 and we've actually have another focus that's inclusive of Additional 1099s new structure, a new VP of sales coming in to focus on the orthopedic space, not only in but in the ambulatory surgical center with some of our other Products and then the bolt on that we alluded to in the earlier comments.

Speaker 7

Got it. Thank you. And then just another follow-up to one of Rick's questions on M and A. But kind of in response to his question, you mentioned there could be more Of a portfolio move, it sounds like more of a divestiture than anything. So are we kind of Hearing you right into Analyst Day that, that could be something that's still on the table.

Speaker 7

And should we think about that as a multiple of what you're doing already in kind of the product rationalization for 2023. Thanks for taking the questions.

Speaker 3

If Drew, we were to do a divestiture, it would be a multiple Of the product rationalization, so that's a fair assessment.

Operator

Gentlemen, there are no more questions at this time.

Speaker 2

Again, I want to thank everybody for their continued interest in Avanos. We feel the demand and fundamentals of our products remain strong. We are committed to obviously creating meaningful shareholder value through thoughtful and strategic capital allocation. We believe the 2022 results have built the necessary foundation to deliver the commitment that we have and are confident the priorities we've detailed in the transformation program Combined with our market leading portfolio in attractive markets, this all positions us for growth, margin expansion and cash flow as we've outlined and as Michael has talked about in the transformation process. We do look forward to seeing everybody at the June 20 Investor Day to be held at the convened 101 Park Avenue location In New York City, have a great rest of your week.

Speaker 2

Thank you for your interest. Bye.

Operator

The conference has now concluded. Thank you for attending today's presentation. You may now disconnect.

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