Smith & Nephew plc

Good morning, and welcome to the Smith & Nephew Q4 and full year 23 results presentation. I'm Deepak Nath, Chief Executive Officer, and joining me is Chief Financial Officer Anne-Françoise Nesmes. As you know, this will be Anne-Françoise's last set of results for Smith & Nephew. It has been an absolute pleasure working with her. I'd like to thank her personally for all that she's done in her time as CFO. I'd also like to take this opportunity to welcome our incoming CFO, John Rogers, who's here today in the audience. He brings a wealth of experience to the company and I very much look forward to working together. John will be up here with me going through the numbers at our Q1 trading update in May. I'm pleased to report a good finish to 2023 with underlying revenue growth ahead of the guidance that we've already raised during the year And all three of our business units grew by over 5% for the full year, which is a clear demonstration of the strength of our portfolio. Sports medicine and ENT had a very good year, accelerating to double-digit growth despite a slow China market. And advanced wound management has also maintained its momentum. Fixing orthopedics is still a work in progress, but encouraged by the 12-point plan progress and the higher overall growth that we've delivered. I'm also very pleased that we've achieved our target margin of 17.5% for the year, despite macro headwinds from inflation, transactional effects, and a slow China market. That included a significant year-on-year step-up in the second half, and the organization showed what can be done with growth, focus, and cost discipline. The company is well positioned going into 2024. We continue to transform the way we operate Smith & Nephew through our 12-point plan, which aims to drive better execution in a more focused and accountable business unit structure. Our progress against the plan has laid the groundwork for improvement in U.S. recon with better product availability and improving set deployments by the end of the year. Our innovation strategy is delivering a strong pipeline of new products to drive consistent high growth over the coming years, and our productivity is visibly improving. For 2024, we expect another year of good growth and margin expansion, even against the headwind of China VBP, and I'll come to the detail in the outlook section So the improvements we've made to how we do business have already translated into stronger financial performance in 2023. Revenue was $5.5 billion, which is 7.2% growth on an underlying basis and 6.4% on a reported basis, after an 80 basis points headwind from foreign exchange. Trading profit increased by 7.6% to $970 million, with a 17.5% trading margin, which, as I've just highlighted, was in line with our guidance for the year. A nearly $200 million improvement in working capital outflow resulted in trading cash flow of $635 million. At 65% conversion, this is a good improvement in 2022, but there is, of course, still more to come. Adjusted earnings per share grew 1.3% to 82.8 cents, and we're proposing an unchanged dividend of 37.5 cents for 2023. I'll now pass you to Anne-Françoise to go into the detail of today's results before I come back to discuss our outlook and the strategic progress. Anne-Françoise? Yes.

Thank you, Deepak. Good morning, everyone. As Deepak said, this is my last set of results and I'm pleased to be presenting to you a good set of improving financial results. So I'll start by covering the fourth quarter numbers that Deepak's referred to. Revenue was $1.5 billion with a 6.4% underlying growth and a 6.8% reported growth after 40 basis point benefits from exchange rate. The growth, as you can see, was across all of our regions and businesses, and factors behind the strong finish included the contribution of recent launches, better product availability, and a rebound in bioactives following the successful transfer of central manufacturing to Fort Worth, which we completed in Q3. Looking at the performance by geography, growth in the quarter was probate, with the U.S. growing by 6.2%, Established markets rising by 6.1%, and emerging markets growing by 7.6%. Growth in emerging markets includes, of course, the headwinds ahead of sports medicine VBP implementation in China. I'll now move to the details by business units, as we traditionally do, starting with orthopedics, which grew 4.9% in the quarter. Global hits and miss. grew by 3.6% with strong out of US growth reflecting improved product supply and commercial execution. US recon was a little slower and this was due to a combination of factors which were continuing to address through the 12 point plan. There was still some areas where product availability impacted key US SKUs during the quarter before improving by year end. We also made further progress in set deployments, although again, there is a lag before this reflects into the sales. Slower set deployments earlier in the year were still costing us growth in a stronger market, and together with some anticipated rep turnover, this limited our ability to win new business and offset the usual revenue churn. So overall, our US performance is not yet where we want it to be, and this remains a priority. Other reconstructions delivered revenue growth of 19%, rounding out a good year with a record number of core replacements in the quarter. Full year installations came in a little behind our target, mainly from a delayed ramp up in the slower China capital environment, but the broad adoption picture is very positive and running ahead of our recon share position. Utilization hit a new high in the quarter, building on the over 25% of U.S. needs being placed with robotics at the end of Q3. We're bringing Cori to the full range of surgical settings from ASCs to teaching institutions, and we see customers committing in scale with around a third of our new installations in the U.S. coming as part of multi-million unit deals. And that's all underpinned by Cori being the most versatile system on the market, supporting a range of surgeon preferences and a broad suite of procedures. And if you remember in 23, we added the new solution, the SO solution, to give surgeons a choice between milling and cutting for the first time with robotic. We added unique functionality with the digital tensioner, enabling them to measure soft tissue tension before cutting the bone. And we added a revision indication, which is not available on any other major robotics platform. And of course, there's more coming in 2024, including supporting both image-free and image-based planning as options. And it's clear that Cori has a strong runway of growth ahead. And trauma and extremities continues to play an important part in the orthopedics growth stories. Revenue grew by 5.8% in Q4, with double-digit growth in the U.S., reflecting the continued ramp-up of the EVOS plating system, following improved product availability and capital deployments earlier in the year. EVOS can be a multi-year growth opportunity, and we're adding a further driver in extremities with the full U.S. commercial launch of the ATOS shoulder system announced earlier in the month. As you know, sports medicine is a very attractive area of our portfolio. A steady flow of innovation and improving product availability have generated consistently high level of growth for many years. The business delivered underlying revenue growth of 7.1% in the quarter. Excluding China, where we face a headwind ahead of EBP, sports medicine and ENT grew 8.7%. Within sports medicine, joint repair grew 8.8% in the quarter, and if we strip out China, growth would have been 12%. Our Reginitin bio-inductive implant was the largest growth driver across the sports portfolio, and will remain a key focus in 2024 with increasing market penetration and the development of new applications. We also added a new growth opportunity with the acquisition of CartyHeal, which brings the GDC cartilage repair implant into Smith and LeFou. This is a novel treatment for osteochondral lesions that promotes natural regeneration of the cartilage and restoration of the underlying bone. It has a broad indication, including the previously unaddressed population with lesions in knees with mild to moderate arthritis, as well as the approximately 700,000 patients that receive cartilage repair annually in the US. And importantly, the product is backed by outstanding clinical evidence and is a great fit for our portfolio. China WBP will be a headwind in 2024. The tender process is now complete and we expect implementation in the second quarter of 2024. For the year as a whole, we expect around a 5 percentage point headwind to growth in sport medicine joint repair. Arthroscopic enabling technologies revenue grew 3.7% on the line, with good growth from coblation, resection range, and patient positioning portfolio. And the China volumes returning to a more normal level after a slow Q3. As we expected, demand growth in ENT continued to moderate in Q4, as we lacked some of the COVID recovery, post-COVID recovery, shall I say. As a result, ENT revenue grew 10.7%, led by our tonsil and adrenal business, which represents a return to more normalized procedure volumes. And finally, advanced mood management delivered underlying revenue growth of 7.8% in the quarter. Advanced wound care revenue grew 1.4%, primarily driven by our foam dressing and infection management portfolio, both of which grew mid to high single digit. Bioactive's growth of 12.5%, was due to a very strong quarter for Santal following the temporary delays to shipment we saw in the third quarter after the manufacturing transfer to Fort Worth. The rebounding Q4 included some stocking above normal levels, so you should expect Bioactive will see significantly lower growth rates in Q4 2024 as the effect unwinds. Finally, the ongoing implementation of our advanced wound devices acceleration plan is reflected in the underlying revenue growth of 14.9% with double-digit growth from both our traditional platform, Renesys, and our single-use Pico. The outlook for our wound business is strong. We have a good position in what is an under-penetrated market and a high-growth market. With the broadest portfolio of products, and number one or two positions in each segment and geography. We believe we're positioned to move the growth rate higher in the coming years, including through gaining share in negative pressure on biologics, digital solutions to support clinicians in product selection, and demonstrating the value of existing platform by using our broad commercial reach to build awareness of our clinical evidence. Now I'll move to the full year financials. And to bring all of this together, for the full year, revenue was $5.5 billion, up 7.2% versus 2022 on an underlying basis, which was ahead of our guidance, and up 6.4% on a reported basis. Performance was broad-based, with all three reporting segments delivering growth above our mid-term target for the whole group. As you can see in the chart, orthopedics grew 5.7% for the year, sports medicine and ENT grew 10.9%, and AWM grew 6.4%. Now I'll move to the summary P&L, where I'll expand on some of the comments in the next few slides, on key elements in the next few slides. The underlying growth profit was $3.9 billion, with a gross margin of 7%, which is a decrease of 30 basis points. Raw materials inflation was clearly a key headwind, with offsets from price increases across the portfolio and productivity measures in manufacturing and procurement. Trading profit was $970 million, an increase of $69 million with positive leverage across operating expenses, resulting in 20 basis points of trading margin expansion to 17.5% for the full year, again in line with our guidance. While R&D was down on a reported basis, investment in constant currency continued to grow. And slide 13 shows a more detailed bridge explaining the components of the trading margin expansion. As you can see, we absorbed some major macroeconomic headwinds in the year. I already mentioned the continued high input cost inflation, which cost us around 130 basis points of margin. In addition, we had significant transactional FX headwinds of 120 basis points. And that was from the fact we have a higher share of our COGS in U.S. dollar than in our revenue. And so the U.S. dollar strength in 2022 resulted in a P&L headwind that was delayed into 2023 by our hedging program. But we were able to set around 160 basis points with our productivity savings, including those coming through the 12-point plan. And a number of moving parts add up to the remaining 110 basis points shown on the revenue leverage and other, with volume leverage and price increases more than offsetting higher labor costs. I also like to highlight the progress we made as 2023 progressed. the second half trading margin of 19.6% represented 200 basis point of expansion over the prior with leverage on all expense lines in the P&L. And I'm encouraged by my close to the year, which shows that we can drive significant expansion through gross leverage, better productivity, and cost discipline. Now, on slide 14, looking further down the P&L, adjusted earnings per share grew by 1.3% to 82.8 cents. That's below the growth in trading profit due to increased financial expense, reflecting both higher interest rates and the negative associates contribution in the year, while the trading tax rate was broadly unchanged from 2022 at 16.2%. Basic earnings per share grew 18% to 30.2 cents. And moving to the cash flow statement, we generated trading cash flow of $635 million in the full year, with trading cash conversion of 65%. The increase over 2022 was primarily driven by significantly reduced working capital outflow, and this was mainly as a result of improving inventory trends as the year progressed, and I'll come back to that in a moment. There was a partial offset from higher capex, as we accelerated instrument set deployments, both for established products and to support our launches, and we expect CapEx to remain at a level of around 8% sales in 2024. We're committed to further improve trading cash flow going forward, so it was encouraging to see a return to a more normal level of cash conversion in the second half of 2023. And under free cash flow, restructuring, acquisition, legal, and other outflows largely relate to restructuring under the 12-point plan and the EU MDR compliance cost. And as you'll see in the technical guidance, we expect both of those items to be significantly lower in 2024, with the MDR project coming to an end in the first half. Now, I'll cover the inventory, and as you can see that the long-term upward trends has now stabilized and started to come down later in the year. Whilst there was still a cash-out flow from inventory for the full year, inventory fell slightly in absolute dollars in the second half, and DSI also fell to finish broadly flat compared to the start of the year after several years of increase. The second half improvement came across every business unit. Orthopedics is where inventory build has been a longer-term challenge, as you know, both from supply and demand being disconnected, and also we're building launch capital in trauma. And addressing this has been a specific focus of the 12-point plan, particularly with moving manufacturing volume and mix back into lines. For 2023, we were able to bring off the PDXDS fight down by 5% for the year as a whole, even as we continue to invest behind the rollouts of EVOS and ATOS. Pulling all of that together, we are increasingly confident that inventory days across the organization have now turned, and we expect ongoing improvements in the coming years. And to conclude on the financials, I'll cover net debt. Net debt ended the year at $2.8 billion, which is an increase of $241 million. The leverage ratio finished at 2.1 times adjusted EBITDA, which is broadly stable and comfortably within our range of 2 to 2.5 times. In 2023, we refinanced our $1 billion revolving credit facility, which now matures in 2028, maintaining our strong funding position. And in 2024, we have just over $400 million of private placement debt maturing with a maturity in November. And with that, I'll hand back to Deepak.

Great. Thank you, Anne-Françoise. So I'll now cover our outlook for 2024. So we're guiding for underlying revenue growth of 5% to 6%. So within that, you should expect further progress in orthopedics, driven by improvements in supply and execution improvement, especially in U.S. recon, and the continued rollout of our key growth products. We also expect to continue our strong performance in sports outside of China and in advanced wound management. VVP for some sports medicine products will be the main headwind with close to 2% of our group sales that are within scope and the implementation, as Anne-Françoise mentioned, expected in the second quarter. Overall, this amounts to another strong year expected for the portfolio as a whole with revenue growth continuing above historical levels even after the effects of sports VVP. There's also phasing to consider through the year, with a number of factors driving slower growth in the first quarter. These include a strong U.S. comparator from higher than normal surgery volumes at the start of 2023, and a slower first quarter for bioactives as the strong Santal sales at the end of 2023 unwinds. In addition, trading days will initially be a headwind before benefiting growth later in the year. There'll be one fewer trading day in Q1 than one additional day in Q2 and two additional days in Q4 for a total of two extra days for the full year. We also expect meaningful trading margin expansion to reach at least 18% for the year. There are a lot of moving parts behind that and the chart on slide 19 shows the major components of the bridge. Macro headwinds should be lower than in 2023 but have not gone away. Input cost inflation will continue to be a headwind much as it was in 2023 although the transactional effects will be a substantially smaller effect at around 30 basis points. China's sports medicine BVP will be an additional factor this year, and we expect around 70 basis points of headwind from lower pricing before any cost and revenue offsets. However, we expect to more than offset all of those headwinds, and that will come from the combination of productivity improvements under the 12-point plan, including the restructuring program we had presented a year ago, and positive operating leverage from our continued higher revenue growth than in the past. As in prior years, we expect the trading margin to be higher in the second half than in the first half, although with a less marked step up than in 2023. Our midterm margin target of at least 20% in 2025 is unchanged, and the progress we expect for 2024 will keep us on track. There's clearly still a further step up to come, and as we've said before, 2025 is the biggest margin improvement year of our plan. There are more headwinds than when we set this goal 18 months ago, particularly China VBP, transactional FX, and input cost inflation that has stayed higher for longer. However, we're also a much stronger and determined organization than we were. as a result of the 12-point plan. There are a number of offsetting positives to consider. First, the incremental impact of input cost increases should reduce. At the same time, the operating leverage from a higher level of growth than the past should continue. So the net of operating leverage OPEX savings and input cost inflation should be similar to the pre-VVP and pre-FX effects that we benefit from in 2024. On top of that, one of the major headwinds for 2024 will fall away and will be replaced by an additional tailwind. Sports medicine VVP will largely annualize and so not to be a meaningful incremental effect in 2025. And then in 2025, we should instead see the largest block of our cost savings, the bulk of the manufacturing savings, flow through into our P&L. The work on our footprint that underpins those savings is well advanced. Putting all of that together, the pre-VVP, pre-FX margin expansion in 2024 can broadly repeat in 2025, with the additional manufacturing savings further lifting the trading margin and continuing beyond 2025. As you know, the 12-point plan is central to how we're improving our overall performance. We'll reach the two-year duration in the second half of this year, so while we've made a lot of progress, there is still more to come. What I'd like to do is take a step back and look at the overall picture since the plan's inception. On a plan of this many initiatives, there will always be elements moving at different speeds. Some work streams just take longer by nature, and others will meet their milestones a little faster or slower than envisaged at the outset. Taken as a whole, though, we're clearly on track for what we set out to do. There are now multiple positive trends in orthopedics. On the operations side, implant availability has dramatically improved since the start of the product plan and has now closed more than 95% of the gap between the trough level and our goal. We're also more effectively deploying and turning capital with set turns at year end more than 20% higher than at the start of the plan. Commercially, trauma and extremities has accelerated to become an important road driver for the whole business unit. Co-replacements and utilization have inflected upwards, and our OUS recon business has now accelerated to be ahead of the market. There is more to do in U.S. recon, and I'll come back to that in a moment. but we're also making good progress in productivity. Inventory days and cash conversion improved through 2023. And as Anne-Francoise set out, we turned the corner and we're on a positive trajectory by year end with orthopedics DSI down 5% year on year after a period of several years of increases. Pricing excellence is another success area with positive realized pricing across the business units since the second half of 2022. And we've been doing the hard work on manufacturing optimization, the planned facility closures in Tuttingen, Beijing and Lyon now underway. The third pillar of the 12 point plan is building on the performance of our sports medicine and advanced wound management business units. These are also developing well. We've seen early acceleration in the focus area of negative pressure wound therapy, and we've more than tripled the pace of cross-unit business deals in ASCs. There is a new headwind with sports medicine VBP, which we did not expect at the start of the plan, and we'll need to work through that in 2024. Improving execution in orthopedics is still an important part of the story. As I set out, there is good progress in much of the business and other areas where there is more work to do. In total, subsegments representing around 60% of orthopedics sales are now growing at or above the peer average based on the second half of the year. Much of that is attributable to the 12-point plan. We're starting to recover the share that we had lost in EMEA Recon, supported by better implant availability. And we have a dedicated initiative to drive Cori that is producing growth ahead of what we can see from peers. Trauma and extremities performance reflects much improved consumables and capital availability. and has become a new growth story in our portfolio, driven by the EVOS plating system and, more recently, ATOS shoulder. US Recon Robotics is growing as a whole and has returned to its 2019 sales level. Even so, we're still not satisfied with our US Recon growth, particularly in these. That remains a key focus in 2024 as we continue through the final year of the 12-point plan. A positive sign is that operational KPIs continue to develop favorably. By quarter end, overall implant availability was almost at our goal of being in line with industry standards, including in some previously softer categories such as auxinium, with increasingly limited areas still trailing. On the capital side, hip set availability has now reached our target level for the first time in the life of the plan. Knee sets are improving, but still have further to go, with our KPI of instrument orders filled now at the level where it was for hips back in May of 2023. The focus now is to convert that operational improvement into revenue growth, and three of our priorities for doing that are listed on the slide. Firstly, we need to complete the improvement of knee set deployment up to our target level and drive greater utilization of both knee and hip sets that are out there. There is a process we've already followed successfully in trauma and OUS recon. Set availability is getting better. So from here, it's a matter of executing our growth plans while maintaining the discipline around capital efficiency. Secondly, we need to drive consistent commercial excellence. Part of that is continuing to advance our product milestones through the 12-point plan. But the cultural and structural changes we've implemented in the last year are also critical. We expected some initial sales rep turnover after the incentive changes, and that did play out in some areas as the year progressed. We prepared for that with a recruitment pipeline already in place and expect the new growth-oriented structures should increase in benefit as they become a settled way of doing business. Finally, we need to continue to drive our long-term differentiators at the same time, particularly Cori. We now have the most versatile platform on the market. And as we continue to build our installed base and utilization that will both reinforce our relationships with existing customers and help us with new business. More broadly, I'm pleased with what Smith and Nephew is already delivering in terms of growth. 7.2% revenue growth in 2023 is well above our historical average. even taking into account the stronger recon market. This achievement is in line with our aim to be a consistently higher growth company. When I look at what's behind the acceleration, it's from sustainable drivers and is aligned with our strategy. We talked at our November Meet the Management event about the central role of innovation. Through internal R&D, and M&A were delivering successive waves of technology, including new legs for growth for products already in the market and further launches at the beginning of their life cycles. In 2023, the innovation benefit was clearly visible again. Almost 3.5 points, or close to half of our group growth, came from products launched in the last five years. That absolute contribution is on its own enough to take us to above that for previous average, even before the contributions of our existing portfolio or M&A. It's important that we maintain that momentum of innovation. It's not all about the dollar spent, but where they're spent and how the technology is supported with clinical data. we've continued to develop our key growth opportunities in recent months, including new evidence and launches on our existing products and bringing forward the next wave of devices. Firstly, we added new evidence for Regenitin, publishing the final results of a randomized control trial that confirmed the promising interim signal from 2022. The study found that at one year, medium and large full thickness rotator cuff tears treated with Regenitin had a statistically significant threefold reduction in re-tear rate compared to the control arm with no difference in the number of serious or minor complications. This remains a multi-year growth opportunity for Smith and Nephew with only single digit penetration of rotator cuff procedures today. Bringing compelling clinical evidence like this is a key element of our plans to drive market access and increase that penetration globally. Cori is another platform where we can keep adding further growth drivers and we showcase additional functionality in AAOS in 24. It's version 2 of the RI NEED robotic software. This provides AI-powered reference values to guide planning, alongside surgeons' preferences. As I said, our innovation delivery is about successive waves of technology. We've also advanced two key devices from our next wave, acquiring CardiHeal's Agili-C and announcing the full commercial availability of the Atos Total Shoulder at AAOS. These add important growth drivers to sports medicine, joint repair, and to extremities. And both enable us to access significant new markets while leveraging our existing commercial organizations. And importantly, the contribution of innovation will come across our portfolio. This is a slide we've shown before and how the key projects from our current generations of innovation align with our reporting segments. We've highlighted five areas where we expect to grow above historical levels in the coming years with innovation as a key driver. Those are trauma and extremities, other recon, ENT, and sports medicine, excluding the headwind as we move through VBP, and of course, advanced wound management. Taken as a whole, around 50% of group revenue is in these areas with an outlook for higher growth. Overall, I'm pleased with our progress in 2023. The portfolio as a whole is performing well with all three business units growing very nicely compared to history, and the team is working hard to implement, to drive improvement in the remaining areas of weakness. Meeting of financial commitments for the year was important to us. The organization had a heavy lift to deliver in the second half of the year, but we demonstrated what can be done when we put together operating leverage at higher growth, productivity measures, and rigorous cost discipline. We have gained momentum and made clear progress in strengthening, accelerating, and transforming Smith & Nephew. In 2024, our opportunity will be to build on this embed and expand execution discipline we've gained through the 12-point plan, leverage our commercial model to better meet the needs of customers, and challenge ourselves to achieve greater levels of efficiency and excellence. So with that, we'll be happy to take your questions.