Ortho Clinical Diagnostics Holdings plc

Welcome to the Ortho Clinical Diagnostics First Quarter 2022 Earnings Conference Call and Webcast. At this time, all participants' lines are in a listen-only mode. Please note this conference is being recorded. An audio replay of the conference call will be available on the company's website within a few hours after the call. I would now like to turn the call over to Brian Brockmeyer, Vice President of Investor Relations. Brian?

Thank you, operator. Good afternoon, everyone, and welcome to the Ortho Clinical Diagnostics first quarter earnings conference call. With me today to discuss our financial results are Chris Smith, Ortho's chairman and CEO, and Joe Buskey, Ortho's chief financial officer. This conference call is being simultaneously webcast on the investor section of our website, and a version of today's presentation can be downloaded there. Before we begin, I will cover our safe harbor statement. Some of the statements we will make during this call about the company's future expectations, plans, and prospects constitute forward-looking statements within the meaning of Section 21E of the Securities Exchange Act of 1934, which provides a safe harbor for such statements. Our use of forward-looking statements is subject to a number of risks, uncertainties, and other factors that could cause actual results to differ materially from our current expectations. These risks and uncertainties include, but are not limited to, those factors identified on slide two of today's presentation and our other filings with the SEC. Please refer to our SEC filings for a more detailed discussion of forward-looking statements and the risks and uncertainties of such statements. We cannot assure you that the forward-looking statements we make will be realized. We undertake no obligation to update any forward-looking statement to reflect future events, developments, or changed circumstances, or for any other reason except as required by law. Also, during today's call, there will be discussion of some items that do not conform to U.S. generally accepted accounting principles or GAAP. Please refer to slide three for a list of these non-GAAP measures, including but not limited to core revenue, constant currency, EBITDA, adjusted EBITDA, adjusted free cash flow, and adjusted diluted earnings per share. Reconciliations of these non-GAAP measures to their most directly comparable GAAP measures are included in the appendix to the investor presentation and press release issued this afternoon, both of which are available in the investor section of the Ortho website. In addition, on today's call, we'll refer to our core and non-core business. Our clinical laboratories, also known as clinical labs, and transfusion medicine businesses represent our core business. Our non-core business is comprised of our contract manufacturing and licensing revenue. Unless stated otherwise, all year-over-year revenue growth rates, including revenue growth ranges given on today's call, are given on a comparable constant currency basis. Lastly, due to the pending transaction between Ortho and Quidel, I would like to point out that we will not be conducting a Q&A session following our prepared remarks today. Now, I'd like to turn the call over to Chris Smith, Ortho's Chairman and CEO. Chris? Great.

Thanks, Brian, and welcome, everyone. Thanks for joining us this afternoon to go through our Q1 earnings update. We're going to start on slide four, and I always love to begin with every presentation I do, whether it's to our teammates or customers or obviously to investors, because it really is our credo and the mission of what drives a company, because every test is a life. And it's why we do what we do. And we play a critical role today in the healthcare system around the world. To give you an example, today we'll help over 800,000 patients with our products and our technologies. And I just want to thank our teammates for everything that they do around the world every single day. Now let's move to slide six and get into the first quarter earnings. First off, as you know, we have a broad diagnostics portfolio, so COVID assays have not been a meaningful factor on our business throughout the pandemic, as it has been for some other companies. That said, we only generated $12 million of COVID assay revenue in Q1 2022, compared to $29 million a year ago, representing an approximate four-point headwind on sales growth and a corresponding impact to the profitability. Given that, today we will largely focus on our underlying base business, which excludes COVID assay revenue. Our core revenue, excluding COVID assay revenue, grew slightly over 4% in constant currency in the quarter, with solid growth in both transfusion medicine and non-COVID mu assays. Including the headwind from the COVID tests, our core revenue grew approximately 1% in constant currency to $495 million. Market demand continues to be very strong, though, as we discussed last quarter, global supply chain disruptions continue to be a challenge, particularly on our analyzer placement. We are pleased with our 3% install-based growth during Q1, and even more so driven by the 14% integrated instrument growth. However, we ended the quarter with open orders of approximately 600 instruments due to semiconductor chip and other supply chain challenges. If we had shipped those open orders for new instrument placements, our total installed growth would have been closer to 5%, and we believe our revenue growth would have been an additional 2 to 3 percentage points higher. I'll further discuss this in a moment. Turning to our profitability, our adjusted EBITDA margin of 27.9% is down 220 basis points due to manufacturing variants that benefited margins by approximately 200 basis points a year ago, and an estimated 210 basis points of headwinds from the decline in that high margin COVID assay revenue compared to last year. Let's now look at the regions and how we performed around the world. If you turn to slide seven, you'll see the highlight of each region. The Americas, our largest geography, grew 4%, with the U.S. commercial growth excluding COVID assays up 3%, driven by strong immune assay business and transfusion medicine. In EMEA, growth continues to go quite well. If you look at Our growth, excluding COVID assay, it was 12%, driven by strength in our immune assay and our transfusion medicine business, and particularly in Northern Europe, as well as the Middle East and Africa. Russia comprises less than 1% of our global sales, so while we are paying close attention to the developments and impacts relating to the Russian-Ukraine war, the direct impact on our business during Q1 wasn't meaningful. Greater China declined 3% due to COVID lockdowns in key regions. However, our immune assay business still grew greater than 20% in the quarter. While instrument placements were negatively affected by instrument availability in the quarter, our install base still grew in China a solid 6%, driven by the integrated system growth of 12%, and underlying demand remains strong. We still think China will grow high single or low double digits for the year. Looking at our developed markets versus emerging markets, excluding the COVID assay revenue, our developed markets grew 3% and emerging markets grew 5%. While emerging market growth is below the recent trend, this is largely due to instrument supply chain challenges. But the underlying demand remains solid, and we continue to see double-digit growth in our integrated install base in China, Latin America, and ASPAC. Next, let's move to slide eight and talk about our strategic pillars. We continue to remain steadfastly focused on executing against these strategic priorities to drive profitable growth and shareholder value. These three priorities are product innovation, global commercial excellence, and operational efficiency. We continue to make progress against each of these areas in the first quarter, and let me cover just a few of the highlights. Beginning with product innovation, a turbocharger for growth, we discussed last quarter that we received emergency use authorization from the U.S. government for the quantitative COVID spike antibody assay. I'm excited to announce that Ortho has been selected as a partner in a large CDC-funded study to further our understanding of individuals' immune response to infection and vaccination. In addition, CTS and the American Red Cross recently began testing donors with our assay to determine if antibody levels were detected at levels high enough for an individual's plasma to be used for convalescent plasma therapy. And finally, our quant assay recently won the Gold Edison Award in the 2022 Innovations category. This is our second win in a row in this category, demonstrating our commitment to supporting our customers and our patients around the world. Turning to our second priority, global commercial excellence, we continue implementation of our commercial excellence programs in our growth strategy, which is to continue to drive double-digit growth and integrated install base. I'm also pleased to announce that we were awarded a Stevie Award for sales and customer service for the year. The award further recognizes our commitment to excellence through ortho care service and support, which we believe is a key differentiator to our business. And finally, our third priority, operational efficiency. Thanks to the strong revenue performance and the execution by our entire team around the world, we continue to maintain a strong balance sheet and with a healthy net leverage ratio of 3.7 times. Lastly, I'd like to comment today on the industry-wide supply chain disruptions. Market demand continues to be strong for our products through the first quarter, but was impacted by supply chain inflationary challenges. As I stated earlier, the limited supply of chips negatively affected our install base growth, and we ended the quarter with open orders of approximately 600 analyzers. We believe, however, that we're well-positioned to weather this environment. We are raising prices and adding surcharges where possible. We have strategic partnerships with leading contract manufacturers who have significantly more buying power, enabling them to reduce the impact on our business more than we would have on our own. And additionally, we foresaw some of these challenges coming, and our team has done a fantastic job adding additional suppliers and implementing many initiatives since early 2021 to mitigate the impact on our business. We are prioritizing delivery of analyzers to customers that need an instrument to meet testing demands, as well as to new customer installations over replacement of existing install-based customers, followed by shipments of integrated analyzers that provide greater and more profitable revenue. We are also exploring alternative components to reduce our dependency on specific chips, which are a key component in our analyzer. We anticipate this will allow us to further diversify our supply and reduce our costs. Of course, this will take some time, but we're confident in our strong R&D time that they will allow us to quickly deliver analyzers redesigns to the market. With that, I'd like to turn the call over to Joe to further discuss our Q1 financials. Joe?

Okay, thanks, Chris, and good afternoon, everyone. I'll begin with a bit more detail on our operating results for the quarter, starting with a breakdown of our revenues on slide 10. In the first quarter, we recorded total revenues of $500 million, about flat year-over-year, in constant currency. Currency translation decreased our sales growth by approximately 100 basis points, resulting in a 1% sales decline on a reported basis. Core revenue, which excludes contract manufacturing and other licensing revenue, increased 1% on a constant currency basis to $495 million. Excluding the 360 basis point headwind from year-over-year COVID assay sales core revenue growth was up just over 4%, primarily driven by the solid recurring revenue pull-through on the instruments we placed over the last couple of years across our geographies in both ClinLabs and Transfusion Medicine. Turning to our Q1 performance by line of business, ClinLabs revenue excluding COVID assay sales grew 1%, largely driven by strength in immunoassay, partially offset by softness in Clin chemistry, particularly with analyzers due to the previously mentioned building our open orders, as well as the COVID lockdowns in China. In transfusion medicine, we grew 11% driven by strength in both immunohematology and donor screening businesses. Non-core revenue in the first quarter declined to $5 million from $7 million a year ago due to the completion of certain contract manufacturing arrangements. Looking ahead, we continue to expect non-core revenue to be in the 3 to 5 million per quarter range. Turning to our core performance by geography, on a constant currency basis, America's revenue decreased 1%. Excluding COVID assay revenue, America's revenue was up 4%. The EMEA region revenue grew 7%, with 11% growth in Middle East Africa emerging markets, Western Europe was up 10 percent, excluding COVID assay revenue. Greater China declined 3 percent due to the issues that Chris mentioned, including COVID lockdowns. And our other region, which includes Japan and other Asia-Pacific markets, grew 6 percent. Looking at our Q1 core revenue by category, recurring revenue, which includes reagents, service, and other consumables, grew 2 percent, excluding our COVID assay revenue Recurring revenue grew 6%, driven by solid growth in both clean chemistry and non-COVID amino acids, as well as transducer medicine. Instrument revenue actually declined 16% in the quarter due to the instrument supply chain challenge, as Chris mentioned earlier. Now, turning to slide 11, I'd like to comment on our first quarter financial performance versus the prior year. We delivered a solid quarter of performance below the top line, GP margin for the quarter was 50.3%, an 80 basis point decrease due to the unusual manufacturing variances that benefited margins by approximately 200 basis points a year ago, and 130 basis point headwind from high margin COVID assay revenue as well as supply chain costs. Partially offset by currency translation, volume, and base business mix. Excluding the drop in high margin COVID assay revenue impact, gross profit margin would have been up 50 basis points, despite 100 basis point headwind from inflationary pressures on materials. Moving down to P&L for the first quarter, sales, marketing, and administrative as a percentage of revenue was flat year over year at 25.9%. And R&D as a percentage of revenue increased 70 basis points to 6.4% as we continue to invest in our test menu and new platforms, most notably our DryDry platform. Adjusted EBITDA margin of 27.9% for the first quarter is down 220 basis points. The downward pressure was due to the previously mentioned manufacturing variances and an estimated 210 basis point headwind from the decline, again, in high margin COVID assay revenue partially offset by positive base business mix and efficiency improvements. Excluding the drop in COVID assay revenue impact, adjusted EBITDA margin would have been down 10 basis points, but this includes 100 basis point headwind from inflationary pressures on materials. Net interest expense for the period was 33 million, a decrease of 10 million as anticipated due to the lower average outstanding debt balances and lower interest rates. Our provision for income taxes was $4 million compared to $3 million in the year-ago period. And our adjusted earnings for fully diluted share for the fourth quarter decreased 3 cents year-over-year to 23 cents, including a 6-cent year-over-year impact from the previously mentioned COVID headwind, as well as a negative 3-cent impact from the increase in our share count resulting from the February 2021 IPO. Now, if we were to exclude the drop in COVID assay revenue testing, and we normalized the share count for the IPO, our Q1 EPS would have been up 6 cents versus the prior year. On a gap basis, we reported net income per share of 6 cents compared to a net loss per share of 19 cents in Q1-21. Turning to free cash flow, capital deployment, and balance sheet on slide 12, In the first quarter, we used $20 million in adjusted free cash flow after funding $27 million in CapEx, consistent with our normal quarterly seasonality in the business. Our day sales outstanding came in at 42 days, an improvement of 17 days compared to the first quarter of last year. Now, this includes the Q221 securitization of $75 million of our U.S. accounts receivable in an off-balance sheet transaction, as discussed in prior quarters. But without the benefit of this financing transaction, our DSO would still have improved by three days compared to the first quarter of last year. Our Q1 cash performance enabled us to continue to maintain our strong balance sheet with a net debt to EBITDA ratio of 3.7. We ended the quarter with net debt of $1.9 billion, including cash and cash equivalents of $281 million and total debt of $2.2 billion. Lastly, given the pending combination with Cordell, we are holding off on providing detailed guidance until the transaction closes. We want to largely reiterate the outlook we provided last quarter, though. So, full-year adjusted free cash flow is, however, expected to be negatively affected by approximately $20 million, including an approximate 150 basis point headwind on adjusted EBITDA margin due to the increase in cost of materials. This impact is before any offsetting impacts from surcharges or price increases that Chris mentioned. And with that, I'd like now to turn the call back over to Chris to make a few summary comments.

Thanks, Joe. We move to slide 13. It's a quick summary slide of the quarter. We had a solid quarter to start the year with 4% of constant currency growth in our core business, excluding the COVID assay. and 28% adjusted EBITDA margins, despite global supply chain challenges, the shutdowns in China, and the Russian-Ukraine war. This may be my last earnings call with Ortho, so before concluding, I'd like to make a few final comments. It's been an honor and a privilege to serve as Chairman and CEO of Ortho Clinical Diagnostics over the last three years. The COVID-19 pandemic disrupted the global economy, the supply chains, and the global healthcare community as we've seen it. However, our amazing teammates at Ortho rose to the challenge and achieved significant accomplishments during this time period. We accelerated company growth, especially in our core business. We completed a successful IPO offering. We increased our investment in product innovation, driving the launch of four new analyzers and more than 20 newer improved assays. We pivoted our growth strategy and executed on a new commercial excellence program that drove penetration in the market by our integrated analyzers And the pull-through of what we started to talk a lot about this reoccurring revenues. To give you an idea, in Q1, reoccurring revenues was 94%. We reinforced our service leadership and earned the number one ranking for the sixth consecutive year in service track. And then we announced our proposed combination with the Quidel Corporation. And looking ahead, we feel incredibly confident that the ortho growth strategy and our clearly differentiated business built around innovation, commercial excellence, and operational efficiency will continue to thrive. This provides us with a strong foundation as we finalize the pending combination with Quidel. This combination is really an exciting next chapter for the company, given that these two companies have highly complementary, robust product and service offerings, serving a wide range of customers around the world. The accelerated growth profile and the shareholder value, we believe, will be enhanced by combining these two companies. Finally, I want to thank our teammates and our customers, as well as our investors and the sales side analysts for covering us. It's been a pleasure working with all of you, and I wish you the very best. Thanks again for joining us today on this Q1 update call, and have a great day. Bye.

And this concludes today's conference call. Thank you all for joining. You may now disconnect.