STERIS Q2 2025 Earnings Call Transcript

Quartr
Provided by Quartr
November 7, 2024

There are 9 speakers on the call.

Operator

Good day, everybody, and welcome to the STERIS Plc Second Quarter 2025 Earnings Call. All participants today will be in a listen only mode. Please note, today's event is being recorded. I would now like to turn the call over to Julie Winter, Investor Relations. Please go ahead.

Speaker 1

Thank you, Eric, and good morning, everyone. As usual, speaking on today's call will be Mike Tokich, our Senior Vice President and CFO and Dan Carrestio, our President and CEO. I do have a few words of caution before we open for comments. This webcast contains time sensitive information that is accurate only as of today. Any redistribution, retransmission or rebroadcast of this call without the expressed written consent of STERIS is strictly prohibited.

Speaker 1

Unless the statements made during this review are or may be considered forward looking statements, many important factors could cause actual results to differ materially from those in the forward looking statements, including without limitation, those risk factors described in STERIS' securities filings. The company does not undertake to update or revise any forward looking statements as a result of new information or future events or developments. STERIS' SEC filings are available through the company and on our website. In addition, on today's call, non GAAP financial measures, including adjusted earnings per diluted share, adjusted operating income, constant currency organic revenue growth and free cash flow will be used. Additional information regarding these measures, including definitions, is available in our release as well as reconciliations between GAAP and non GAAP financial measures.

Speaker 1

Non GAAP financial measures are presented during this call with the intent of providing greater transparency to supplemental financial information used by management and the Board of Directors in their financial analysis and operational decision making. With those discussions, I will hand the call over to Mike.

Speaker 2

Thank you, Julie, and good morning, everyone. It's once again my pleasure to be with you this morning to review the highlights of our Q2 performance from continuing operations. As you saw in the press release, we have continued the momentum from the start of the fiscal year. Total as reported revenue grew 7% in the Q2. Constant currency organic revenue also grew 7% in the quarter, driven by volume as well as 2.40 basis points of price.

Speaker 2

Gross margin for the quarter decreased 50 basis points compared with the prior year to 43.7%. Positive price and favorable material costs were offset by labor inflation and productivity. Reflecting the decline in gross margin, EBIT margin decreased 30 basis points to 22.2 percent of revenue compared with last year. The adjusted effective tax rate in the quarter was 22.7%. Net income from continuing operations in the quarter was $212,200,000 and adjusted earnings per share from continuing operations were $2.14 a 15% increase over last year.

Speaker 2

Capital expenditures for the first half of fiscal twenty twenty five totaled $210,000,000 and depreciation and amortization totaled $228,000,000 Capital expenditures were higher year over year mainly due to timing. We continue to pay down debt during the quarter ending with $2,200,000,000 in total debt. Total debt to EBITDA at quarter end was approximately 1.5 times gross leverage. Free cash flow for the first half of fiscal twenty twenty five was $344,500,000 right at the halfway mark of our full year guidance of approximately $700,000,000 With that, I will turn the call over to Dan for his remarks.

Speaker 3

Thanks, Mike, and good morning, everyone. Thank you for joining us to hear more about our Q2 performance and our outlook for the rest of the fiscal year. As you heard from Mike, we had another strong quarter. Looking at our segments, healthcare constant currency organic revenue grew 7% in the quarter, led once again by strong recurring revenue streams. Our outperformance in consumables and services continues to be driven by procedure volumes in the U.

Speaker 3

S. As well as price and market share gains. Healthcare capital equipment revenue declined 2% in the quarter due to the timing of shipments. Orders grew over 30% in the 2nd quarter, which reflected in the $405,000,000 healthcare backlog. We now anticipate that the Healthcare capital equipment revenue will be flat to slightly down for fiscal 2025, mainly due to the timing of shipments during the fiscal year and the difficult Q4 comparisons.

Speaker 3

We remain confident in our expectations of a strong year for our Healthcare segment and expect that the recurring revenue outperformance will more than make up for the lower capital equipment revenue. Margins have held up nicely in Healthcare with pricing, positive productivity and lower material costs offsetting labor inflation. Turning to AST, constant currency organic revenue grew 9% with 6% growth in services and a significant quarter in the capital shipments. Supporting growth in services, global medtech customers were stable and we saw the first signs of increased bioprocessing demand. We continue to anticipate bioprocessing revenue

Speaker 2

in the second half of

Speaker 3

our fiscal year will grow. EBIT margins in AST were impacted by labor and energy costs, which continue to increase for the segment. In addition, we recorded a long standing loss on a capital equipment order in our Mevex business unit. We would expect margins will improve from these levels in the second half of the year. Constant currency organic revenue growth for Life Sciences was 3% in the quarter, driven once again by strong growth in consumables.

Speaker 3

As expected, the divestiture of the CECS business on April 1 impacted our as reported revenue. Margins benefited from favorable mix pricing and the divestiture. Turning to our outlook for fiscal 2025. For the full year, we are reiterating our outlook from continuing operations, including 6% to 7% constant currency organic revenue growth and adjusted earnings per diluted share of $9.05 to $9.25 Our expectations for free cash flow are also unchanged at about $700,000,000 with about approximately $360,000,000 in capital spending. For your modeling, we do have a few moving pieces we wanted to highlight.

Speaker 3

From a segment perspective, life science revenue is now anticipated to be about flat for the year with declines in capital equipment somewhat mitigated by the strength in consumables. Healthcare is now anticipated to grow mid to high single digits with continued strength in recurring revenues. The outlook for AST continues to be high single digit revenue growth for the year, but we no longer expect to exit the year at double digit revenue growth. All in, we expect constant currency organic revenue growth to be 6% to 7% for the full fiscal year. From a profit perspective, we now anticipate margins to be about flat for the year.

Speaker 3

All in, we are pleased with the first half of the fiscal year. The diversified nature of our segments continues to be a benefit to our total performance. That concludes our prepared remarks for the call. Julie, would you please give the instructions so we can begin the Q and A?

Speaker 1

Thank you, Mike and Dan for your comments. Eric, can you please give the instructions for Q and A and we can get started.

Operator

Thank you. We will now begin the question and answer session. And our first question today comes from Jacob Johnson with Stephens. Please proceed with your question.

Speaker 4

Hey, good morning. Thanks for taking the questions. Maybe a couple on AST. First, just on the loss on the large equipment sale, can you frame up the magnitude of that loss, just much of a headwind that was to margins in the segment given they were down sequentially? And then I'm curious, I think that was still included in your adjusted EPS.

Speaker 4

Was this something that was contemplated in the guidance for the year? Or is this something kind of a bad proverbial bad guy that you're overcoming?

Speaker 2

Jason, the impact to margins was about 200 basis points on that loss itself. And I mean we had contemplated a loss, but not as large of a loss. So we were a little bit surprised by the amount. But it is a one time event that will not reoccur. And it goes back to the original acquisition of Mevex back in I think 2020.

Speaker 2

We had taken quite a while to fulfill that order and we had no ability to adjust the costing on that project.

Speaker 4

Got it. Thanks for that, Mike. And then Dan, I heard you mentioned no longer exiting the year at double digits for AST, but then it seems like maybe some positive buyer processing commentary there. Can you just talk about any kind of incremental headwinds you've seen in AST that could be offsetting bioprocessing or maybe bioprocessing is not coming back as quick as you thought?

Speaker 3

No, we're actually very optimistic on bioprocessing being accretive to our growth, especially in the second half of the year. And I think at this point, we're halfway through the year. And although the growth has been nice, it's not maybe where I'd hoped it would be from the MedTech perspective at this point. And although we see it continuing to improve based on run rate, I don't believe we're going to exit that double digit multiple at this point. I think we're going to get there eventually.

Speaker 3

I'd hoped it would be by Q4 and what we're seeing now is probably a little later than that.

Speaker 4

Got it. Thanks, Betsy. And I'll leave it there.

Operator

Thank you. Our next question will be from Brett Fishman with KeyBanc. Please proceed with your question.

Speaker 5

Hey, guys. Thanks so much for taking the questions. Just one on the Healthcare Capital Equipment updates. So I appreciate the update moving from low single digit growth expectation to flat to slightly down. I was really just hoping if you could parse that out a little bit maybe between progress year to date versus where you thought you'd be coming into the quarter.

Speaker 5

And then maybe a little bit around the backlog moving pieces and why that stepped up this quarter? Thank you very much.

Speaker 4

Yes. I mean, a little bit of detail. I mean,

Speaker 3

on the quarter specifically, it wasn't the best quarter for shipments. We ran into some weather related delays and things like that with the hurricanes at the end of the quarter that did impact some shipments especially in the Southeast. Our backlog remains incredibly strong and we keep stacking up really strong order months on top of each other, especially in the healthcare organization. The reality is that with 6 months remaining to book and ship, we're talking about margins of 1% or 2% in one direction or the other. I wouldn't spend too much time on this in terms of and more importantly, we're more than offsetting it with the higher profit mix of consumables and services that's coming through.

Speaker 5

All right, cool. And then just as my follow-up on the operating margin expectation, is the change in language really just tied to the piece of call it sequential improvement at AST and the favorable revenue mix? Or is there anything else that changed from the prior quarter? And then maybe as just a follow-up to that, how do we get confident or investors get confident in your ability to return to a level of operating margin expansion for next year? Thank you again.

Speaker 2

Yes, Brett, the impact is definitely related to AST. Obviously, with AST not performing at our expectations and exiting at double digits, we are not going to be able to drive that EBIT margin improvement. Other than that, I would say there's nothing else that we would point to that would stop us from obtaining our long term goal of continuing to expand EBIT margin on an annual basis.

Speaker 4

Thank

Operator

you. Our next question comes from Patrick Wood with Morgan Stanley. Please proceed with your question.

Speaker 6

Amazing. Thank you for taking the questions. I've just got 2, please. I guess on the first one, I know it's quick, but have you heard from any of your customers around supply chain changes, tariffs coming in? Do you have any expectations for how that might move things around?

Speaker 6

And if there could be an effect positive or negative for you guys?

Speaker 3

No, we haven't really Patrick and thanks for the question. But what we have seen over the last few years as it relates to the AST business is a lot of reshoring and front shoring, I would say. We've seen enormous growth in our Asia Pacific region, in particular in Malaysia, where we've got a number of new builds that have come online over the last couple of years, with a lot of business that has located there as a it's more of a friend shoring operation in anticipation of some challenges that might or may not occur as it relates to China.

Speaker 6

That's really helpful. And then I guess the only other one was there's not a lot of public data on it, but the EO litigation side of things. Do we have any update on that on upcoming news flow or anything you can help give us a sort of sense for how that's playing out in the next few months?

Speaker 3

Yes. What I would say is we do have litigation related to the Waukegan, Illinois facility that we own for a little over 3 years from 2005 to 2008 under the Isomedics name. And we have provided some significant disclosures in the queue. And I would point to those and I think it's best that we continue on our path of not discussing ongoing litigation until there's something more definitive to discuss. But I'll refer you to the Q and ask that you look there.

Speaker 6

Totally get that. Thanks so much guys.

Operator

Our next question comes from Michael Pollard with Wolfe Research. Please proceed with your question.

Speaker 7

Good morning. Thank you. I want to ask on Healthcare, Consumables and Services. There's obviously a lot of stuff, a lot of products and services in those two lines. And you mentioned share gains as a driver of the differentiated growth.

Speaker 7

Can you unpack that for us? What's going especially well? Can you is it in the sterile processing department? Is it OR consumables? Is it the repair stuff?

Speaker 7

Is it all of it? Where are you seeing differentiation in share?

Speaker 3

It's all of that to be honest with you. We've shipped an awful lot of capital equipment over the last 18 months or so. And we've really positioned ourselves nicely as it relates to some of the large IDM GPO contracts on the consumable parts, especially in sterile processing. And I think it's just that and the fact that procedure volumes are particularly strong in the U. S.

Speaker 3

That's driving consumption of our consumables business as well as our services business, which is having a gangbuster year as well.

Speaker 7

Can I ask you the follow-up on the balance sheet? It's obviously under levered, let's say, versus your history. So can you comment on the M and A pipeline? How does it look? Seller expectations?

Speaker 7

And if the M and A kind of opportunity set is not overly compelling at the moment, is there a chance there is becomes more assertive with share repurchase? Thank you so much.

Speaker 3

We cannot comment on the M and A pipeline. I mean, if we have news and when it's appropriate, we'll discuss that. Clearly, we're in a position where we have plenty financial powder if you will to move on something and we definitely have the internal capacity from a management and integration capability. But the timing of our abilities and opportunities don't always sync up. So we'll see how that plays out.

Speaker 2

But I would also add that from a deal standpoint, it is robust. But at the same point in time, most of what we're looking at is smaller tuck in acquisitions, which is what we historically have done. And we did buy $100,000,000 of shares back in the first half of the fiscal year, which is reflected in the balance sheet and the debt right now.

Speaker 7

Thank you. Thank you.

Operator

Our next question comes from Mike Matson with Needham and Company. Please proceed with your question.

Speaker 8

Yes. Thanks for taking my questions. So I heard the commentary around labor and energy costs continuing to be pressure your margins to some degree. Just given kind of the general cooling and inflation we've seen, is there just is this just sort of lagging kind of some of the other, I guess, costs? Or is there something else going on here that's causing those to be higher?

Speaker 2

I would say, Mike, the labor obviously is the lagging piece and we should anniversary that sometime during the fiscal year. Unfortunately, the energy costs are really something that are out of our control. And I think there is also a bit of a timing issue too because as we incur those energy costs, we cannot pass those on immediately. So there is definitely a little bit of a lag there too.

Speaker 8

Yes. Okay. And then bioprocessing, I just was wondering if you could give us a sense of how much of ASP that is. I think the last time I looked or last time I heard you guys say something it was 10% of AST or so about 2% of your total revenue. Is that still accurate or?

Speaker 3

It's based on the reduction that we saw over the last year and a half to sort of the new set point. It's less than that. I mean it's in the 6% to 8% of the AST revenue ballpark, something like that and projected to grow nicely off that new level.

Speaker 8

Okay. All right. Got it. Thanks.

Speaker 3

Yes. Sure. Thanks.

Operator

Thank you. Our next question is a follow-up from Michael Pollard with Wolfe Research. Please proceed with your question.

Speaker 7

Thank you for taking the follow-up. I want to ask on AST MedTech customer trends. Dan, I think you mentioned not quite where you thought it could or should be. Do you think this is just the inventory management stuff? Or is there something else going on that you've picked up?

Speaker 7

Thank you.

Speaker 3

I think it's 2 things. I do definitely think it's inventory management. Just like STERIS has done a nice job of bringing down our inventory this year. I think a lot of our medtech customers are taking the same opportunity. And then sometimes what I've seen is the classic bullwhip effect.

Speaker 3

We saw pretty strong growth in AST for end of Q4, early Q1 and then we saw a slowdown where they had maybe overproduced a bit and are keeping tighter controls on inventory. Overall, what I would say is procedure rates is what drives that business. And right now, the procedure rates versus the AST growth are not matched up. And I think that as those converge, we'll see better growth out of AST. I mean all that 6% is not that disappointing.

Speaker 3

Let's not be over critical here. It's just we hold that business to a very high standard.

Speaker 7

Understood. Since I'm here, I'll ask one more. On Life Sciences, the margin has been perking up. You commented on it. Is it simply lower equipment as a portion of that segment, so it's a mix thing?

Speaker 7

Or are you taking other kind of self help actions to defend profit? Thank

Speaker 3

you. It's all mix. That consumable business is growing incredibly nicely and that is the higher margin business there. And that is more than offsetting the decline in capital and from a profit perspective, but from a percentage perspective, it's driving it up.

Speaker 7

Thanks for taking the follow-up.

Speaker 3

Sure. Thanks.

Operator

Our next question comes from Jason Bednar with Piper Sandler. Please proceed with your question.

Speaker 7

Hey, good morning, everyone. Thanks for taking my questions and apologies upfront here if I'm asking anything. It was already covered. Just juggling a few calls here this morning. I want to start on EO and again, apologies if you can't answer these, then I'll try anyways.

Speaker 7

Can you specify whether what you've disclosed in the 10 Q this morning, whether you're a co defendant or sole defendant in those cases where you are defending against. Why not settle these cases out of court? Just maybe looking for not necessarily your entire legal strategy, but there is risk in going to trial, of course. And then can you help us with what kind of insurance you might have against the situation?

Speaker 3

Yes. Other than M and A strategy, the other thing we absolutely don't talk about is legal strategy. So I'll refer you to the comments that are in the queue and just say that we'll state that on our comments around ongoing litigation at this time.

Speaker 7

Okay. I mean, I guess, Dan, the insurance pieces and part of legal strategy and the defendant code versus sole is more factual. I mean, any comment on either of those?

Speaker 3

I have no comment, no.

Speaker 7

Okay. Okay, fair enough. In AST, the outlook sounds like maybe a hair lower today. Is that exclusively bioprocessing related? Are there any adjustments that you're seeing or moderation, I should probably better say, on pricing in that category?

Speaker 3

No. It's just honestly, it's just the volumes that we've seen year to date and the trend. If we were up a point and a half higher year to date, we'd be telling you no change in the ASG outlook for the whole end of the year. But based on run rate, we've adjusted that to take a much more conservative approach.

Speaker 7

Okay. And does that influence at all the I guess your confidence in seeing improved margins within that segment adjusting, of course for the equipment loss here that was kind of an idiosyncratic drag. But looking forward, does the delayed timing and getting back to double digit growth in AST affect how you think about incremental margins in that segment?

Speaker 3

No. Adjusting out the one time loss on the capital from MavEx, we would expect margins to be strong in the second half of the year and AST in particular.

Speaker 7

Okay. All right. Thank you.

Speaker 4

Sure. Thanks.

Operator

Our next question comes from Mike Madsen as a follow-up of Needham and Company. Please proceed with your question.

Speaker 8

Yes. Thanks. Just one quick one here. So with the margins now expect op margin now expected to be flat, you're still reiterating the EPS guidance. So I mean, is it just still kind of fall within that range maybe at the lower end or something?

Speaker 8

Or is there something else going on in the P and L to offset that?

Speaker 2

Yes, Mike. It does fall within the range, but we are seeing an impact or a favorable impact on interest expense. We now expect interest for the full year to be about $90,000,000

Speaker 8

Okay, got it. Thanks.

Speaker 2

Yes.

Operator

Thank you. Our next question comes from Jacob Johnson with Stephens. Please proceed with your question.

Speaker 4

Hey, thanks. Since everybody else did follow-up, so I figured I'd join them. Just on the Life Sciences business, the strong consumable demand, can you flush out kind of what you're seeing in that business? What's driving that demand? And just curious, I think there's a lot of debate around kind of what's going on with pharma demand that maybe at a higher level kind of what are you seeing from those customers right now?

Speaker 3

Yes. I would say keep in mind, we've got somewhat easy comps last year. There was a lot of destocking going on in our consumables business, in particular in the barrier product space as well as the chemistry space. And so against those relatively easy comps, we've seen very strong recovery from our core customers that are back in full production.

Speaker 4

Got it. Thanks for taking the follow-up.

Speaker 7

Thank you.

Operator

Thank you. This will conclude our question and answer session. I would now like to turn the conference back over to Julie Winter for any closing remarks.

Speaker 1

Thanks everybody for taking the time to join us today. We'll be at a few conferences here this fall and look forward to catching up with many of you then.

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