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spk00: Welcome to the first quarter of fiscal year 2022 earnings conference call for Merit Medical Systems, Inc. At this time, all participants have been placed in listen-only mode. Please note that this conference call is being recorded and that the recording will be available on the company's website for replay shortly. I would now like to turn the call over to Mr. Fred Lampropoulos, Merit Medical Systems founder, chairman, and chief executive officer. Please go ahead.
spk07: Thank you and welcome everyone to Merit Medical System's first quarter of fiscal year 2022 earnings conference call. I'm joined today on the call with Raul Parra, our Chief Financial Officer and Treasurer, and Brian Lloyd, our Chief Legal Officer and Corporate Secretary. Brian, would you mind taking us through the Safe Harbor provisions, please?
spk08: Thank you, Fred. Before we get started, I would like to remind everyone that this presentation contains forward-looking statements that receive safe harbor protection under federal securities laws. Although we believe these forward-looking statements are based upon reasonable assumptions, they are subject to unknown risks and uncertainties. The realization of any of these risks or uncertainties, as well as extraordinary events or transactions impacting our company could cause actual results to differ materially from those currently anticipated. In addition, any forward-looking statements represent our views only as of today, April 27, 2022, and should not be relied upon as representing our views as of any other date. We specifically disclaim any obligation to update such statements except as required by applicable law. Please refer to the section entitled Cautionary Statement Regarding Forward-Looking Statements in today's presentation for important information regarding such statements. Please also refer to our most recent filings with the SEC for discussion of factors that could cause actual results to differ from these forward-looking statements. Our financial statements are prepared in accordance with accounting principles which are generally accepted in the United States. However, we believe certain non-GAAP financial measures provide investors with useful information regarding the underlying business trends and performance of our ongoing operations and can be useful for period-over-period comparisons of such operations. This presentation also contains certain non-GAAP financial measures. A reconciliation of non-GAAP financial measures to the most directly comparable U.S. GAAP measures is included in today's press release and presentation furnished to the SEC under Form 8-K. Please refer to the section of our presentation entitled Non-GAAP Financial Measures for important information regarding non-GAAP financial measures discussed on this call. Readers should consider non-GAAP financial measures in addition to, and not as a substitute for, financial reporting measures prepared in accordance with GAAP. Please note that these calculations may not be comparable with similarly titled measures of other companies. Both today's press release and our presentation are available on the Investors page of our website. I will now turn the call back to Fred.
spk07: Thank you, Brian. And let me start with a brief agenda. of what we will cover during our remarks today. I will start with an overview of our better than expected revenue results for the first quarter. After my opening remarks, Raul Parra will provide you with a more in-depth review of our quarterly financial results and the formal financial guidance for 2022 that we have reaffirmed in today's press release, as well as a summary of our balance sheet and financial condition. We will then open the call for your questions. Now, beginning with a review of our first quarter revenue performance, we reported total GAAP revenue of $275.4 million in the first quarter, up 10.6% year-over-year. Our total GAAP revenue growth was driven by an 8.2% growth in U.S. sales and 13.8% growth in international sales. Our total revenue increased 11.3% year-over-year in the first quarter on an organic constant currency basis, excluding the headwind of our gap revenue growth related to changes in exchange rates compared to the prior year period. Our total constant currency growth was driven primarily by a 7.4% increase in U.S. sales and a 16.6 percent increase in international sales. Our first quarter revenue exceeded the growth expectations that we discussed in our fourth quarter call, specifically that our constant currency revenue would increase in the range of a probably six to eight percent year over year. The strong revenue results in quarter one were driven by solid execution from our team, stronger than anticipated demand during the month of March, particularly in the U.S., and more favorable than anticipated sales trends in the APAC and rest of world regions. Now, let me provide you with a more detailed review of our revenue results in the first quarter, beginning with the sales performance in each of our primary reportable product categories. Now, note, unless otherwise stated, all growth rates are on a year-over-year and constant currency basis. First quarter total revenue growth was driven by 11.5% growth in sales of cardiovascular products and 7.6% growth in sales of endoscopy products. Sales of our peripheral interventional products increased 14%, representing approximately half of the total cardiovascular segment growth. Within the peripheral intervention or PI product category, Sales of our radar localization products increased 27 percent and were the largest driver of total PI growth in quarter one. Sales of our access and geography and biopsy products, which together represented roughly one-third of our total PI business, increased 17 percent. And sales of our drainage products, which were strong again this quarter, increasing 16 percent year over year. Sales of our cardiac intervention products increased 10%, representing the second largest contributor to total cardiovascular segment growth. Within the cardiac intervention or CI product categories, sales of our intervention products were the largest drivers of total product category growth, increasing 18%, with sales of our basics and MAP lines continuing to deliver strong contributions to the growth increasing 24% in quarter one. Sales of our angiography products also contributed meaningfully to our total CI product category growth, increasing 17% in quarter one, driven substantially by continued strong demand for our diagnostic guide wires, manifolds, and cardiology diagnostic catheters. Sales of our OEM products were stronger than expected in quarter one, increasing 20%, driven significantly by improving demand from larger customers, replenishing inventory levels in multiple categories, including kits, coatings, and angiography products. We are pleased to see that sales of our CPS products return to growth of 4% in quarter one, fueled by mid-single-digit growth in sales of kits and trays. Finally, Sales in our endoscopy segment increased 8% in quarter one, driven primarily by a 13% increase in sales of our Endomax line and a 14% increase in the sales of other stents. Now turning to a brief summary of our sales performance on a geographic basis, as I mentioned, our first quarter sales in the US increased 7.4% year over year and our international sales increased 16.6% year-over-year, both on a constant currency basis. Importantly, our first quarter sales results reflect improving growth trends in both the U.S. and OUS markets on both a two-year and three-year basis. In summary, we are encouraged by the improving growth trends and proud of our team's strong execution despite another quarter marked by a challenging operating environment. That strong execution is not limited to driving better than expected revenue results, and frankly, we are seeing it across the organization, including our efforts to advance our Foundations for Growth program. As discussed on prior calls, we have launched more than 40 initiatives intended to drive value creation for merit across many areas, including skew optimization, network consolidation, compensation and benefits, and, of course, product line transfers and manufacturing initiatives. Year two of the Foundations for Growth program is off to a strong start, and we are enjoying the early benefits of our work to date as the program is helping to offset the inflationary cost pressures we're seeing in certain raw materials, shipping, and freight expenses. We are also seeing the early benefits of improving our manufacturing efficiency in the area of product line transfers, continuous improvement in line efficiency, and in skew rationalization. We remain committed to the financial targets that we outlined in the Foundations for Growth program for the three-year period ending December 31, 2023, which call for our constant currency organic revenue to increase at a CAGR of at least 5%, non-GAAP operating margins of at least 18%, and cumulative cash flow generated of more than $300 million. Now, with that said, I'll turn the time over to Raul, who will take you through a more detailed review of our first quarter financial results and over our 2022 financial guidance, which we reaffirmed in today's press release. Mr. Parra.
spk09: Thank you, Fred. Given Fred's detailed discussion of our revenue results, I will begin with a review of our financial performance across the rest of the P&L. For the avoidance of doubt, unless otherwise noted, my commentary will focus on the company's non-GAAP results during the first quarter of fiscal year 2022. We have included reconciliations from our GAAP reported results to the related non-GAAP items in our press release and presentation available on our website. Gross profit increased approximately 7% year-over-year in the first quarter. Our gross margin for the first quarter was 47.7% compared to 49.2% in the prior year period. The 151 basis point decrease in gross margins year-over-year was primarily due to increased absenteeism from the COVID-19 pandemic, which drove unfavorable manufacturing variances, higher freight costs, and higher obsolescence expense, offset partially by changes in product mix. As expected, our first quarter results reflect the inflationary headwinds we are seeing in logistics, labor, and to a lesser extent in raw materials. Specifically, we estimate that the year-over-year increase in logistics expense represented a headwind to our non-GAAP gross margins of approximately 145 basis points in the first quarter. First quarter operating expenses increased 9% compared to the first quarter of 2021. The year-over-year increase in operating expenses was driven primarily by a 12% increase in SG&A expense partially offset by a 3% decrease in R&D expense compared to the prior year period. The increase in SG&A expense was primarily due to higher selling expense, including commissions and bonus expense on the increase in sales year over year. The decrease in R&D expense was driven primarily by lower manufacturing R&D expenses, partially offset by increased clinical expense for certain R&D projects, including clinical trials for our embosphere microspheres, and Rhapsody Endoprosthesis projects. Total operating income in the first quarter increased 1.4 million or 4% year-over-year to 40.2 million. Our operating margin for Q1 was 14.6% compared to 15.6% in the prior year period. The year-over-year change in operating margin was driven primarily by the 151 basis point decline in our non-GAAP gross margin offset partially by a 50 basis point reduction in our non-GAAP operating expense margin compared to the prior year period. First quarter other expense net was approximately $900,000 compared to $1.3 million last year. The change in other expense net was primarily related to decreased interest expense as a result of lower average debt balance despite a higher effective interest rate. First quarter net income was $30.4 million, or 53 cents per share, compared to $29.9 million, or 52 cents per share, in the prior year period. We are very pleased with our profitability performance in the first quarter, where we reported year-over-year growth in non-GAAP net income and diluted earnings per share, despite the incremental pressure on our gross margin and a higher-than-expected tax rate in the period. Turning to a review of our balance sheet and financial condition, as of March 31, 2022, we had cash on hand of $55.8 million, long-term debt obligations of approximately $253 million and available borrowing capacity of approximately $475 million. This compares to cash on hand of $67.8 million, long-term debt obligations of approximately $243 million and available borrowing capacity of approximately $490 million as of December 31st, 2021. Our net leverage ratios as of March 31st was one times on an adjusted basis. With respect to our cash flow generation in the first quarter, As expected, our use of cash for working capital increased compared to the prior year period. In recent quarters, we have discussed our strategy to proactively invest in our inventory balances to build the requisite safety stock and ensure high customer service levels. This strategy represented roughly one-third of our total working capital use of cash in the first quarter. The largest use of cash in working capital this quarter came from items that were essentially timing related and thus were unique to Q1 and are not expected to impact future quarters. Specifically, cash used in accrued expenses totaled $23.5 million consisting of approximately $18.3 million for the settlement payment related to the consolidated securities class action lawsuit with the balance of accrued expenses, use of cash related to payments of payroll related bonuses. We continue to expect strong free cash flow generation this year and our target of approximately $75 million of free cash flow in 2022 remains unchanged. Of note, This free cash flow target assumes planned investments related to the Foundations for Growth program that are expected to drive our CapEx investment in the range of $55 to $60 million in 2022. Turning to review our fiscal year 2022 financial guidance, which we reaffirmed in today's press release. For the 12 months ended December 31st, 2022, we continue to expect gap net revenue growth of approximately 4% to 6% year over year. This GAAP net revenue range assumes a headwind from the changes in foreign currency exchange rates in the range of approximately $3 million to $3.5 million, representing a headwind of approximately 30 basis points to our forecasted GAAP growth rate this year. The GAAP net revenue guidance range also assumes net revenue from growth of approximately 4% to 6% in the cardiovascular segment and net revenue from growth of approximately 6% to 8% year-over-year in endoscopy segment. With respect to profitability, Guidance for 2022, we continue to expect gap net income in the range of $75.4 million to $84 million, or $1.30 to $1.45 per diluted share. Non-gap net income in the range of $140 million to $148.7 million, or $2.41 to $2.56 per diluted share. For modeling purposes, our fiscal year 2022 financial guidance continues to assume Non-GAAP gross margins in the range of approximately 50.1% to 50.6% compared to 49.3% in fiscal year 2021. Non-GAAP operating margins in the range of approximately 16.6% to 17.3% compared to 16% in fiscal year 2021. Non-GAAP other expense of approximately 6 million and diluted shares outstanding of approximately 58 million. Of note, we have updated our assumptions for full year 2022 tax rate to a range of 22% to 23% versus 22% previously discussed. Lastly, given the continued uncertainty in the global macro environment, we would like to provide additional transparency related to our growth and profitability expectations for the second quarter of 2022. Specifically, we expect our total revenue to be in the range of approximately a 1% decrease to an approximate 1% increase year-over-year on a GAAP basis, and approximately flat to up to 2% increase year-over-year on a constant currency basis in the second quarter of 2022. Our growth expectations for the second quarter of 2022 reflects two items of note. First, our revenue increased 28% year-over-year in the second quarter of 2021, driven by 34% increase in the U.S. and 21 percent increase or growth in international markets. Second, we expect sales of endoscopy devices to decrease approximately 20 to 22 percent year-over-year in the second quarter as we are managing through some business disruption related to issues with a third-party contract manufacturer. We view this disruption as transitory and expect to return to normalized growth trends in the second half of 2022. With respect to our profitability expectations for the second quarter, we expect to see improving non-GAAP gross margin trends offset by low to mid single-digit growth in non-GAAP operating expenses compared to the prior year period. The modest decline in non-GAAP operating margin combined with a higher tax rate is expected to drive an approximate 5 to 10 percent decline in our non-GAAP net income and EPS. With that, I'll turn the call back to Fred.
spk07: Well, thank you. In closing, Despite the challenging operating environment in quarter one, we are proud that we were able to deliver revenue results that exceeded our guidance. We are confident in our 2022 guidance, which calls for total revenue growth on a constant currency basis of 4% to 6% year over year. We expect to see progressive improvement in our operating environment, specifically access to patients and elective procedures over the first half of 2022. We also continue to expect to report improving non-GAAP growth and operating margins and strong free cash flow in 2022, driven by strong execution and contributions from our multi-year strategic initiatives related to the Foundations for Growth program. The benefits from this program are helping us to navigate the inflationary environment well, and while we have avoided material business impacts related to global supply chain disruptions to date, This is something we are watching closely as more and more companies are struggling in this area. Our team continues to execute well and remains focused on our strategic initiatives while standing ready to adapt quickly to changes in our markets. We would like to thank all of the team members around the world that made our performance in the first quarter possible. Now, that wraps up our prepared remarks, and we'll turn the time back over to our administrator, and open up the line for questions.
spk11: Thank you, sir. If you'd like to ask a question, please signal by pressing star 1 on your telephone keypad. If you're using a speakerphone, please make sure your mute function is turned off to allow your signal to reach our equipment. We do ask that you limit yourself to one question and one follow-up. If you would like to ask additional questions, we invite you to add yourself to the queue again by pressing star 1. And our first question will come from Jason Bedford with Raymond James. He may proceed with your question.
spk06: Good afternoon, and thanks for taking the questions. I'll ask two fundamental questions. So first, on gross margin, I appreciate some of the year-over-year dynamics, but can you just walk us through some of the sequential dynamics, meaning You know, fourth quarter revenue was similar, actually, to first quarter here, but carried a higher gross margin. I'm just wondering if you could walk through kind of the difference there between the gross margin in 4Q and 1Q.
spk09: Yeah, I think, you know, first of all, Jason, there's a level of seasonality from Q4 to Q1 that you have to kind of account for. Just as we, you know, do the shutdown in December, we ramp up production in December. in January. One of the primary things, or maybe that exaggerated that, was the absenteeism that we saw from Omicron in January, which drove unfavorable manufacturing variances. Obviously, the higher freight costs and higher obsolescence expense as it relates to the prior year, too, had an impact. But on the plus side, it was partially offset by good product mix. Again, I think it was as expected. The Omicron, obviously, maybe was a little bit more exaggerated than we had hoped, but nevertheless, I think we saw sequential improvement with January being the worst, and then it just got better from there with a strong March.
spk06: Okay, that's helpful. And then just wanted to ask kind of a broad question on the pipeline and new product flow. It seems like there's been a few more releases out there from Merit on new product flow. Can you walk through some of the new products that you'd highlight, either that have recently been launched or that are upcoming?
spk07: Yeah, Jason, thank you. You know, we introduced a Thoracostomy tray that has about 80% of the products in there are Merit-made. And there's a participant in the marketplace that has not been able to deliver, and Merit had the products. We developed a valve for pneumothorax that was all done internally, and we were able to turn that project around relatively quickly. And then we saw that the opportunity just opened up. So we did a press release on that, and it served two purposes. It, of course, let the community know, but more importantly, it let the industry know. And a lot of these things get picked up by hospitals and different administrators, and so that actually helped to drive sales. So that would be one of them, and one that we're spending a lot of time on ramping up because we think it has a big opportunity. There are other products, and we have a full pipeline for this year. Some of the products, very candidly, that were introduced in – During the beginning of COVID, never really got a fair shot, so things like our valve fountain catheter are now out there, and that's picking up interest, particularly in treating pulmonary embolus, which are a function of a number of patients. Let me see what else I know that we have.
spk09: Go ahead, Roland. I would just say that generally we're trying to do a better job of letting patients you know, people know that we've launched new products. And it's just part of our FFG initiative. It's part of communications. And we're going to try and be more active in that, you know, from that standpoint. We'll keep doing it. Yep. Yep.
spk06: So there you go. Thanks, guys.
spk11: I'll get back to you.
spk06: Okay. Thanks.
spk11: Okay. So our next question comes from Jason Bedna with Piper Sandler. You may proceed with your questions.
spk10: Hi, guys. Good afternoon. This is Drew on for Jason. Thanks for taking the questions and congrats on a nice quarter here.
spk00: Thank you. Thank you.
spk10: I do want to start off on the guidance here. You posted a nice beat on the top and the bottom, even offsetting a pretty sizable impact to the gross margin. So maybe you could just walk us through the decision not to raise either component today. And maybe what I'm kind of curious at getting at here is If you strip out some of the smaller pressures, maybe the lockdown in China and currency, do you think you would have raised the guidance this afternoon, or are the pressures on supply chain likely to be sticky enough where that's probably not the case?
spk09: I think for us, if you remember last year, we got off to a hot start in Q1, and we decided to wait until after Q2 to really revisit our guidance. I think the same applies this year. You know, one quarter is, you know, one quarter. We'd like to get, you know, at least the second quarter out of the way and then see where we're at and see what else is brewing out there and then, you know, revise guidance if needed. But I think we feel optimistic about the business. You know, things are going well and that's really, I think, you know, from my standpoint, patience is our best friend right now, especially in this environment.
spk10: Okay. That's very helpful. And then, you know, there's been a couple of public reports about private market interest and merits and some list specifics identified regarding prices and announcement dates and that kind of thing. I'm sure you can't comment specifically on those reports, but just wondering if you can speak to how you and the board balance, you know, opportunities of both near and long-term shareholder value creation. Thank you.
spk07: Yeah, and thank you. I think the biggest program for merit right now to to enhance shareholder values, our foundations for growth. That's what we've spent our time on. That's where, very candidly, where the compensation is aligned with the objectives, and so that's where we spend our time and where we think the greatest, and we've seen that. The empirical evidence of that has been the performance of the company over the last few years. In terms of rumors, we simply do not comment on them. We are publicly held And, you know, that, you know, and so as we have a fiduciary responsibility, but other than that, that's the same thing that I've been saying for 30 years. So that's, I think, the best way to answer that question. Thank you. Thank you, sir.
spk11: Thank you. Our next question comes from Larry Beagleson with Wells Fargo. You may proceed with your question.
spk12: Good afternoon. Thanks for taking the question, and I'll echo the earlier congratulations on a nice quarter here, Fred and Raul. Just a few for me here. Fred, I'm surprised we haven't gotten to China yet, given that it's a pretty big part of your business. What are you seeing on the ground there? How much are procedures down in your view right now, given the lockdowns? We've heard other companies say maybe down 20% right now. And what are your expectations for the second quarter?
spk07: Yeah. You know, Larry, we don't comment on them. I will say that we grew it, I think, 27% in the first quarter. We know the issues are out there. You know, we haven't seen, you know, direct situations in Beijing. And Joe Wright, who is our chief commercial officer, Joe, do you want to quickly comment on
spk01: Yeah, we've seen, of course, the lockdowns in Shanghai, and that's impacted the business, but we haven't yet seen that spread. So we're confident that our forecast is included in the budget.
spk09: Okay. And, Raul, do you want to quickly comment on this? Yeah, I mean, you look at our guidance, you know, it obviously assumes that, you know, material, you know, is a material driver to our mid to, you know, mid to high single digit growth in the APAC region. But we're not going to provide country specific, you know, growth assumptions, you know, specifically to that. Other than to say we provided Q2 total revenue growth expectations today, which includes our near term expectations in the APAC region, China included. And previously, we thought volume-based purchasing tenders would begin in April. That's what we said in our Q4 call. Now, expect it to begin probably May or June. We remain committed in China long-term, introducing new products, expanding our reach deeper into the mainland territories, and we remain pretty confident in our long-term growth in China.
spk12: That's helpful. You know, just for my follow-up here, just on inflation, you know, how much incremental inflation do you think you're absorbing this year versus, say, the last time you guided? How are you offsetting that? And I'm just trying to understand, you know, how we get from the 47.7, I think, percent gross margin in the first quarter to, I think, Raul, the guidance you gave of 50.1 to 50.6, kind of What gets better from here? Thanks for taking the questions.
spk09: Yeah, well, look, I think when we guided, we did call out a headwind of approximately 120 basis points of inflationary costs in our guidance, Larry. As you can see, our gross margin on the low end was 90 basis points. So we tempered that, too. But we've got a lot of foundations for growth initiatives that I think continue to help our gross margin, not only currently, but in the future. I mean, there's just a lot of work. We called out in our opening remarks over 40 initiatives. A big portion of those are in the cost of goods sold line. So despite the inflationary headwinds that we're seeing and despite the 120 basis points we baked in, we're still on the low end, you know, looking to expand gross barges by 90 basis points. And so I think it'll just get better from here. And that's the way we've planned for it. Fred, do you want to say?
spk07: Yeah, just on the other side, I think our pricing initiatives are really, really important. We're, as part of our foundations for growth, we brought on a fellow that worked for a major company. And Larry, I think that ability to really look at pricing, where we sit in the marketplace, where we think there are the opportunities. I think I've said it before, and that is we see probably a better chance to look at increased prices over our inflationary pressures, and I think the pricing part of it is a big part, and we'll talk about that sometime in the future.
spk12: That's very helpful, Fred. Thank you.
spk07: Fred?
spk11: Thank you. Our next question comes from Mike Matson with needle. You may proceed with your question.
spk04: Yeah, thanks for taking my questions. I guess I wanted to start with the currency headwind that you're expecting. It seems a little smaller than what we've heard from some of your some of the larger medtech companies with similar international exposure. Is that maybe because you're doing more of your international business in US dollars or Are you hedged somehow? You know, maybe you could just talk about the 30 basis points. I mean, like Boston Scientific today I think was guiding to like a 200 basis points headwind this year, for example.
spk09: Yeah, I mean, look, I'm sitting across here from Travis, and I'm letting him get warmed up here because I'm going to let him answer his first question ever. But, you know, just to call out, you know, Travis does an excellent job with our hedging, you know, policies and the work that he does. And there is some dynamics, obviously, that help us just because of where we do business that help offset things. But, Travis, do you want to give them a little bit of color and flavor for what you're looking at? So you're absolutely right.
spk13: It's a currency mix. It's a geographical issue of where we sell product and where we're seeing headwinds and where we're necessarily seeing tailwinds relative to the prior period. So we have to offset. As well as, obviously, the derivative program that we have in place.
spk04: Okay, got it. And then I think you made a comment about procedure growth in March being particularly strong. So what I'm wondering is there, is there something going on where we're actually starting to see some sort of backlog benefit here, you know, in March and April, you know, particularly in, I guess, the U.S. and Europe?
spk07: Yeah, Mike, this is Fred. Listen, I saw a report recently that talked about procedures being at 106% or something. I mean, we are seeing more access from our salespeople all the time, and it's improving, particularly in the U.S., and to a lesser extent, Europe. But we are seeing that. And, you know, whether it's a backlog, whether it's, you know, that I don't know. But just strictly from a procedure, our salespeople get more access, and there's the need out there. So I think it's, that's, The essence of what we see.
spk09: Yeah, I would just say overall that the environment has just improved. You know, U.S. was very strong this last quarter. Okay, got it. Thanks.
spk11: Okay. Thank you. Our next question comes from Jim Sidoti with Sidoti. You may proceed with your questions.
spk05: Hi, good afternoon. Thanks for taking the questions. I just wanted to push a little bit on your pricing power. When do you typically raise prices? You've done a good job on the gross margin. You've seen some SG&A costs go up. Are you thinking you'll be able to offset that in the second half of this year with a price increase?
spk07: Yeah, Jim, we generally don't talk about timing and this, and I will say that Many of the things we're looking at are time with some of the national accounts we have, and when they come off, and this, that, and the other. It's complex. And that's something that Brandon, the fellow that came in as our pricing guy. So it's a long-term program. But nevertheless, the point is not that there's some magical thing that happens in the second half. It's a program that we have that's going to be going on all of our products in the future, both in terms of introduction prices, where we sit in the marketplace, you know, how much market and how pricing affects all of this. So it's an ongoing program that will be very consistent and something that will help our marketing and salespeople going forward. But I think it's very important to our foundations for growth. And that's where it comes from. And that's another really important point.
spk05: And then, you know, you got it. So, you know, sounds like it'll be another strong year. Do you anticipate continuing to use that to pay down debt, or would you consider other options for the use of cash?
spk07: Well, I'll answer it. But, you know, whenever I look at Raul, he loves cash. And the first use is to go ahead and to keep and pay off our debt is the first deal, is where we'd look first. And it gives us plenty of power. You know, we see the markets. We see, you know, decreases, and we saw today, we saw yesterday. So I think it's the first time we've seen that there starts to be a little bit of light in terms of opportunities. So I think Merit's in a very good place in looking at those for the future. So to pay off debt has been consistent with what we've done for the last couple of years.
spk09: Yeah, and I think one of the things we're going to do this year, Jim, is, again, I think, you know, we have room on the working capital side, so we've, you know, So we're taking advantage of that, making sure we have the right inventory levels. Again, I think we've been, you know, very lucky and been able to manage through kind of the logistic and supply chain issues. But nevertheless, we want to make sure that our operations group has a little bit of rope to purchase additional inventory so we can kind of continue to meet the customer demands that we're seeing out there. So, you know, we'll use some of that for working capital, and the rest we'll pay down debt unless something comes our way.
spk05: And you talked about an increase in capex spending. Is that primarily for facilities here in the U.S. or outside the U.S.?
spk09: You know, we typically say that roughly $35 million of it is typical maintenance and R&D projects, and then the rest would be related to foundations for growth. And we do have an expansion going on in Mexico for additional cleanroom space for some of the product line transfers that we're doing. We're also adding capacity. in Venlo for some of our coding projects. Thank you, Fred. So there is a little bit of building going on, but again, I think we've done the big things historically. You guys know that. So it's just incremental investments that we're making at this point.
spk05: Thank you.
spk06: Thanks, Jim.
spk11: Thank you. Our next question goes from Stephen Lickman with Oppenheimer. You may proceed with your questions.
spk03: Thank you. Evening, guys. On China, I think you mentioned for value-based purchasing, you're expecting a slightly later timing of that. But is that confirmed? And if it is confirmed, is the expected impact about in line with what you had thought going into the year?
spk07: Yeah. Listen, anything that we talk about comes from our field sales force. and they're the ones that feed us the information based on what they see on the ground. So that's always where the information comes from, and it's been, I think, very reliable over the years. So that's where, you know.
spk09: Yeah, I mean, it's based on what information we have today.
spk07: Yeah, but as you know, China's not the easiest place. So we rely on those guys, and they've guided us, I think, properly for a number of years.
spk03: Okay, all right, got it. And then just on tax rate, obviously, I assume that these slightly higher rates due to mix, Raul, a geographic mix. And I know I've asked you this a number of times over the years, but what are your latest thoughts in terms of potential to get some leverage there?
spk09: Yeah, you know, we, you know, baked in some stock option exercises this year. You know, as you know, we typically guide to a higher rate, you know, typically 24 to 25%. This year we baked in a little bit of stock option benefit just because given historically we've had more exercises and our tax rate is pretty low. I think last year it was around 18%. So this year we did bake in a little bit more of those exercises. And we just didn't have as many as we had thought in the first quarter. And it's all timing related. And so I think we just took it up a little bit just to account for some of those exercises that we were expecting that just didn't come through.
spk07: At least in the first quarter. At least in the first quarter. Yeah, who knows where, you know, the markets, you know about the volatility. We live with it every day like you guys.
spk03: And just big picture, Raul, you know, in terms of leverage of that line, nothing really changes. No updated thoughts on opportunities there.
spk09: I think I missed that first part of the question.
spk03: On the tax rate line, leverage opportunities to bring that down.
spk09: We keep having conversations with our tax advisors. It's just hard in the current environment because there is no stability in Congress. It's hard to plan for something that might change in three years, two years. You know, I mean, six months maybe even, right? So we've had the initial discussions. I know, you know, Mike Ball, our chief of accounting, has had discussions with, you know, with our tax advisors on things that we can do. But, you know, honestly, it's me right now, you know, kind of hesitant to do anything given the environment that we're in.
spk03: Got it. Okay. Thanks, guys.
spk07: You bet. Thank you, Steve.
spk11: Thank you. And as a reminder, to ask a question, you'll need to press star 1 on your telephone. Our next question comes from Bill Kovanec with Canaccord. You may proceed with your question.
spk02: Great. Thanks. Good evening. Thanks for taking my question. My first is just on the endo unit. The third-party manufacturing issues you spoke of looks to be about a $2 million impact in the quarter. What gives you confidence that this won't bleed into the third quarter or fourth quarter?
spk07: Yeah, we've transferred half of that business on one of the segments already. So we have confidence in our new provider, which is a U.S. company. And they're the same folks that are bringing up the second half and replacing a European vendor. So we have confidence in them. That's why we had a good relatively first quarter because we were able to pick up the stuff in the past. So we're confident in their ability. They've delivered on everything they said they were going to do, and so that's why we're confident on the latter half of the year. We're engaged in it. We're transferring it as we speak, and unfortunately, we were disappointed by one of our other vendors, but we've solved that, or at least, you know, we've identified it, and we're working on it, and we should be back in the market by then. We're working on a solution.
spk02: Yeah. Okay, great. Thanks. And then how much was, Raul, the impact of obsolescence in the quarter?
spk09: Oh, let me just pull that up here.
spk02: And while you're looking for that, I'm going to go back to the FX question. I think you're saying the guide is $3 to $3.5 million in the year. Based on the 1% hit to the second quarter, you're at $3.5 million through the first six months. Do you expect a benefit as we exit in the fourth quarter? Because I would expect another negative hit in the third quarter. You would have to have a positive to offset it in the fourth quarter. I'm trying to do the math on this.
spk09: Yeah. I guess I missed the – Do you want him to answer that? Yeah, Travis, I'm sorry. I missed the first part of the question.
spk13: Yeah, no, that's correct. Again, you have to take into context where certain currencies were at the end of last year. But, yes, that is correct. Okay.
spk09: So the obsolescence, you know, is about 100 basis points.
spk02: Okay. And then, actually, that's all my questions. Thanks.
spk12: Great. Thank you.
spk11: Thank you, and that concludes our Q&A session. I would now like to turn the call over to Mr. Fred Lampopoulos for any closing remarks.
spk07: Yeah, thank you very much. Ladies and gentlemen, thank you for your time today. We look forward to reporting back on our results and our progress. We'll be available over the next several hours. I have to travel to another meeting, and so just for those that will be on that call, I'll be calling in as well, and Raul will be holding down the ship. But I'll be on those calls, and we look forward to clarifying. Again, thank you very much for your interest in the company, and we'll look forward to talking to you again soon. Signing off from Salt Lake City. Good evening. Thank you.
spk11: Thank you. That does conclude our conference call for today. Thank you for your participation.
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