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spk03: I would like to welcome everyone to Avanzo's third quarter 2023 earnings results conference call. After the prepared remarks, there will be the opportunity for any questions which you can ask by pressing start followed by the number one on your telephone keypad. If you require operator assistance at any time, please press start followed by zero. I will now turn the call over to Christina Jones, Vice President of Investor Relations. Mrs. Jones, you may begin the conference.
spk06: Good morning. Thank you for joining us. Our speakers today are Michael Stubblefield, President and Chief Executive Officer, and Brynn Jones, Executive Vice President and Chief Financial Officer. The press release and a presentation accompanying this call are available on our investor relations website at ir.avantoursciences.com. A replay of this webcast will also be made available on our website after the call. Following our prepared remarks, we will open the line for questions. During this call, we will be making some forward-looking statements within the meaning of the federal securities laws, including statements regarding events or developments that we believe or anticipate may occur in the future. These forward-looking statements are subject to a number of risks and uncertainties, including those set forth in our SEC filings. Actual results might differ materially from any forward-looking statements that we make today. These forward-looking statements speak only as of the date that they are made. We do not assume any obligation to update these forward-looking statements as a result of new information, future events, or other developments. This call will include a discussion of non-GAAP measures. A reconciliation of these non-GAAP measures can be found in the press release and in the supplemental disclosure package on our Investor Relations website. With that, I will now turn the call over to Michael.
spk08: Thank you, CJ, and good morning, everyone. I appreciate you joining us today. I'm starting on slide three. Third quarter business results were in line with our guidance across all key financial metrics, including core organic revenue contraction of 7.9% and adjusted EPS of 25 cents. As anticipated, market conditions in the third quarter were similar to the conditions in the second quarter, as inventory destocking and cautious customer spending continued to impact demand in our biopharma, healthcare, and advanced technology in applied materials and markets. These headwinds were partially offset by continued strong growth in sales to our higher education customers and in our biomaterials platform, where we delivered another quarter of double-digit growth. Sales of bioproduction materials for cell and gene therapies was another bright spot in the quarter, reflecting our relevance in this growing space. Despite the industry-wide headwinds impacting the current environment, we are encouraged by the relative stability we have seen over the past couple of quarters and remain focused on executing the actions that we outlined in July to accelerate our growth strategy and control costs. This quarter, we continued those actions, including strengthening our balance sheet by paying down more than $650 million of debt year-to-date as free cash flow conversion in the quarter exceeded 110%, winning several new customer contracts and renewals in biopharma, education, and health care, as a result of our strong competitive position and enhanced commercial intensity. Continuing to add innovative proprietary products to the portfolio with our Avantor magnetic mixing system for single-use mixing needs and JT Baker MCA tips for the TCAM fluid handling platform. In addition, we generated strong momentum with Oxford Nanopore, one of our strategic suppliers for cell and gene therapies. Launching our scientific advisory board led by Dr. Jerob Rofi, including experts in biologic manufacturing and technology, chemistry, and gene therapy, who will guide our research and development efforts, and leveraging our Avantour business system to continue executing on our productivity initiatives. Looking ahead to the fourth quarter, we are assuming that the demand trends we have experienced over the last couple of quarters continue. Although activity levels remain strong and overall inventory health is improving, we have not yet seen a change in order patterns. Customer sentiment does seem to be improving, and we remain bullish on our outlook for the mid to long term, given the strength of our platform and overall market positioning. Before I turn the call over to Brent, I would remind you that he joined us in early August as part of our previously announced CFO transition. In the relatively short time that he has been with us, he has onboarded quickly and has already proven to be an excellent partner to me and to our leadership team as we work together to advance our growth strategy. With that, Let me turn it over to Brent to walk you through our third quarter results in more detail.
spk13: Thank you, Michael, and good morning, everyone. Before I take you through our third quarter results, I would like to share some early observations. I know our end markets well from my days at Paul Corporation, and I'm thrilled to be back in the space at a company like Avantor that is so well positioned to benefit from the long-term secular growth opportunity that these markets offer. That said, my excitement is about much more than the end markets. I'm very impressed at what the team has been able to build at Avantor. We have an incredibly strong foundation and the right core capabilities and talent to drive the growth and margin capture you have come to expect. I also believe that Avantor is unique within our space. The combination of our world-class channel and leading proprietary consumables portfolio is compelling. These make our revenue base both highly recurring and resilient, and we've shown the ability to convert strongly to cash no matter the weather. Finally, our capital intensity is relatively low. To me, this is a proven recipe to generate significant shareholder value. We do have work to do on business insights, capital allocation, and business optimization. Part of what attracted me to Avantor is the opportunity to build on our strong foundation and leverage my operational experience to accelerate growth and performance. I am excited for what is ahead and look forward to helping lead us through the next chapter. Now, moving into the third quarter numbers on slide four. Reported revenue was $1.72 billion for the quarter. While revenue declined 7.9% on a core organic basis, it was essentially flat on a sequential as reported basis, consistent with what we told you in July. The organic background has remained relatively static. We are navigating an environment with ongoing stocking and demand weakness in biopharma, as well as continued softness in the advanced technologies and applied materials and markets. We were encouraged to see modest incremental sales improvement at the end of the quarter from our semiconductor customers, suggesting that our OEM customers' finished goods inventory levels are beginning to recover. We also had another strong quarter in biomaterials, which was up double digits and provides a nice mixed tailwind to offset headwinds in our other high margin businesses. Finally, we saw another strong quarter in higher education in the Americas where we've seen a significant pickup over the last six months. Adjusted gross profit for the quarter was $579 million and our gross profit margin was 33.6% in line with last quarter on an absolute and rate basis. Year over year, our gross profit was impacted by lower sales volume, mix, inflation, and negative fixed cost leverage. However, we were able to partially blunt these effects with our productivity efforts, both on the plant floor and through targeted supply chain efficiencies. Adjusted EBITDA was approximately $318 million. Our Q3 adjusted EBITDA margin of 18.5% was in line with our expectations for the quarter. Year over year, our EBITDA margin performance was impacted by lower gross profit and negative fixed cost leverage on SG&A. We are working aggressively to offset these headwinds with productivity initiatives. Interest and tax expenses were in line with our expectations. As a result, adjusted earnings per share came in at 25 cents for the quarter, reflecting the flow through of adjusted EBITDA performance. Moving to cash flow. we generated $193 million in free cash flow, reflecting more than 110% conversion of adjusted net income in the quarter and approximately 95% on a year-to-date basis. Our Q3 performance was enhanced by continued disciplined working capital management. Our adjusted net leverage ended the quarter at 3.9 times adjusted EBITDA, and we have paid down over $650 million of debt this year, which represents a 10% reduction in total debt. Deleveraging remains our top capital allocation priority, and we continue to target an adjusted net leverage ratio below three times. Slide five outlines the components of our third quarter revenue performance. Core organic revenue declined 7.9% in the quarter. COVID-related revenues represented an approximately 1.7% headwind for the quarter reflecting the expected roll-off of approximately 30 million of COVID-related sales from the third quarter last year. Net-net, this results in a 9.6% organic revenue decline. Foreign exchange translation represented a 2.3% tailwind, driven by a modest depreciation of the euro, resulting in a reported revenue decline of 7.3% for the quarter. On to slide six. From a regional perspective, the Americas declined 7.9% on a core organic basis, largely consistent with Q2, as we continue to experience pressure in the biopharma and advanced technologies and applied materials and markets. Our increased commercial intensity in education and government is driving share gains and led to the third consecutive quarter of growth, with higher education growing high single digits in the quarters. In addition, biomaterial sales were up double digits, driven by strong demand for our custom formulated silicone solutions in medical implants and healthcare applications. Europe declined 8.6% on a core organic basis in the quarter, consistent with our expectations. On a year-over-year basis, Europe's performance was again driven by weakness in the biopharma and healthcare end markets, with softer demand for lab consumables and single-use solutions driven by ongoing destocking. AMIA declined 5.4% on a core organic basis in the third quarter, driven by declines in lab consumables and single-use solutions, as well as formulated solutions for our semiconductor customers. Despite the macroeconomic challenges, particularly in China, our business saw solid growth in bioproduction process ingredients, services, and biomaterials. Slide seven shows our core organic revenue change for the quarter by end market and product group. Biopharma, representing almost 55 percent of our annual revenue, declined high single digits with similar performance in both research and production. In the research environment, we saw a continuation of the conservative approach to customer spending that we witnessed in the second quarter. This is negatively impacting activity levels in research labs in constraining capital purchases, putting pressure on both consumables and equipment and instrumentation sales. Sales to mid-cap and large-cap pharma customers appear to have stabilized relative to last quarter, and the sales rate to our biotech customer base has been relatively consistent since the beginning of the year. While spending is constrained, customers continue to advance meaningful R&D pipelines and fund promising science. In the production environment, sales were similar to our second quarter results as demand continues to be impacted by inventory to stocking and customer campaign delays. However, the environment does seem to be stabilizing and we continue to see encouraging signals from our customers. Anecdotally, inventory health continues to improve and single-use engineering drawing activity remains strong. Our focus on cell and gene therapy is paying dividends yielding double-digit growth in several critical product lines targeting these workflows. We are confident that these signals will translate into improved order book trends and sales in the coming quarters and continue to have high conviction in the fundamental drivers for biopharma, including a robust pipeline of trials and approvals across MABS, cell and gene therapy, and other modalities. Healthcare, which represents approximately 10% of our annual revenue, declined high single digits on a core organic basis. Consumable sales declines in Europe and the Americas were partially offset by continued strength in biomaterials, where sales of our high-purity formulated silicones were up double digits in the quarter. Education and government, representing approximately 10% of our annual revenue, grew low single digits on a core organic basis in the third quarter, the third consecutive quarter of growth, driven by high single-digit higher education growth in the Americas. We are encouraged by our recent commercial wins and the supportive funding environment and expect continued momentum in this platform. Advanced technologies and applied materials, representing approximately 25% of our annual revenue, declined low double digits on a core organic basis in the third quarter, driven by declines in the Americas and AMIA, largely attributable to inventory destocking at our semiconductor customers. However, there are early signs that OEM inventory health is improving, and we are beginning to see modest sequential improvements in the outlook for this business. By product group, proprietary materials and consumables offerings were down low double digits in the quarter, with destocking and reduced demand for bioproduction products and formulated solutions for semiconductor customers partially offset by strong biomaterial sales. Sales of third-party materials and consumables declined high single digits, impacted by continued destocking of lab consumables and reduced demand across research settings. Services and specialty procurement, which integrate us directly in our customers' critical operations, grew mid-single digits for the third consecutive quarter, while equipment and instrumentation declined high single digits reflecting constrained capital spending in the current macro environment. Slide 8 provides an update on our full-year guidance. As Michael noted in his overview comments, the backdrop for Q4 is relatively consistent. So, in terms of our full-year outlook, we're maintaining our revenue guidance but tightening our range around the midpoint, adjusting our margin expectations, and raising the midpoint of our free cash flow guidance. To get into specifics, we expect full-year core organic revenue growth of negative 6% to negative 5% and organic revenue growth of negative 8.5% to negative 7.5%. In each case, this tightens our range but retains the same midpoint. After accounting for a 50 basis point tailwind from FX, we anticipate full-year 2023 reported growth of negative 8% to negative 7%. This tightened guidance reflects the themes we've discussed so far this morning. We continue to perform solidly against the end market backdrop, and things appear to have stabilized, evidenced by our sequential performance and expectations, but have not yet shown significant signs of improvement. Our long-term bullishness remains intact and is well supported by the markets we serve, but the near term remains challenged from a growth perspective. While top line is behaving as expected, we are facing some margin headwinds. We now expect adjusted EBITDA margins of approximately 18.5% to 18.8%, lowering our midpoint by about 50 basis points. This is due to incremental pressure from manufacturing absorption, inventory charges, and modest mixed impact from growth in the lower margin education end market. Interest expense and tax expectations are unchanged from our Q2 update, so the resulting flow-through to adjusted EPS results in a revised range of $1.02 to $1.06, with a midpoint at the bottom end of our previous guide. We expect our strong free cash flow performance to continue. The working capital management you saw in Q3 will continue to drive strong conversion to cash. As a result, we are raising the midpoint of our free cash flow guidance Free cash flow for the full year is anticipated to be $625 to $675 million. With that, I will turn the call back to Michael.
spk08: Thank you, Brent. It's great to have you here. Without question, we are operating in a dynamic environment. We are responding by driving initiatives to accelerate growth, enhance productivity, and control costs, which together will put us in an even stronger position when the end markets turn. We're also in the midst of the golden age of scientific discovery, driven by rapid innovation and the promise of new biologic therapies that have the potential to change lives. There are currently more than 260 phase two clinical trials in gene therapy underway. More cell and gene therapies are expected to be approved in 2023 than in the past five years combined. And the Nobel Prize winning research led by Katalin Kariko and Drew Wiseman has opened up a whole new field of synthetic biology. I know I speak for our leadership team in sharing that we have both a deep sense of responsibility and pride for the role we play in helping set science in motion. I'd like to thank our associates for their commitment to our mission and for their focus on commercial and operational execution. Finally, I'll close with a reminder that we are hosting an Investor Day on December 8 at 9 a.m. at the New York Stock Exchange. We look forward to seeing many of you in person or on the webcast. I will now turn it over to the operator to begin the question and answer portion of our call.
spk03: Thank you. If you would like to ask a question today, please do so now by pressing star followed by the number one on your telephone keypad. If you change your mind and would like to be removed from the queue, please press star and then two. When preparing to ask your question, please ensure that your device is unmuted locally. Our first question today comes from the line of Dan Brennan with TD Cohen. Dan, please go ahead. Your line is now open.
spk07: Great. Thank you. Congrats on the quarter. Brent, nice to meet you. Look forward to seeing you in person. Maybe first for Michael, maybe we can just start with bioprocess. Obviously, it's a big part of your business, and you guys have talked pretty favorably on this call about stabilization and activity. Could you just give us a sense of the underlying growth rate this quarter, kind of what you're assuming in the fourth quarter, and then importantly, as you look at like your order book and the stabilization, like how we might think about the outlook for 24?
spk09: Yeah, good to hear from you, Dan. I hope you're doing well. And thanks for the question. Bioprocessing is an important part of our business. As we've talked before, it's roughly 25% of our business are thereabouts. And I think we are encouraged that we seem to have caught the bottom here. Trends and order books have been stable over the last couple of quarters. And we continue to be encouraged by some of the momentum we see particularly in things like cell and gene therapy, where we had another really good quarter. I would say customer sentiment continues to be strong. The work that we do to understand inventory trends and production trends and such, I think all the signals are all pointing in the right directions, and certainly the health of our customers' inventory is definitely improving. We talked last quarter a lot about some of the leading indicators for our single-use business, things like engineering drawings. And, you know, I continue to be encouraged by the strong level of activity that we see in that part of the business as well. And certainly the pipelines continue to advance, and, you know, I would say the end market there continues to be quite solid. So we are, you know, continue to be bullish about, you know, the mid- to long-term prospects for that business. We're anxious to see order books turned, as we indicated in the call in our prepared remarks. We've not yet seen that happen. And we're certainly keeping a close eye on that and would anticipate that that would happen in the coming quarters. But the business is playing out about as we had anticipated with relative stability over the last couple of quarters. And as we think about the quarter ahead in Q4, I think the way we've guided it is more of the same in a continuation of the trends that we've been seeing. As we think about 2024, it's a little bit early for us to call that. We're right in the middle of our annual planning process, and we'll take advantage of the next couple of months to put that plan together, and we'll be prepared to give our formal 2024 guidance when we get into our Q4 call-in. in February. But as I think about, you know, bioprocessing as it relates to 2023, we've talked about our core organic growth rate being off, you know, mid to high single digits for the year. And, you know, that's still my expectation. And when I think about that in the context of the broader space, you know, I think you see the relevance and the positioning that we have here, you know, holding up well.
spk07: Great. Thank you. And maybe just as a follow-up, You know, your smaller China exposure and instrument orientation obviously is a nice benefit given the volatility that appears to be ongoing there. You know, Thermo talked about, you know, the end market being kind of negative right now in terms of a growth rate, and they assume that continues at least for the 24 base. You guys seem more optimistic. I'm just trying to think through, is this more of a mixed basis? Is it more execution? Maybe just broadly, as you define, like, your end market and kind of how it's doing, like, you know, if we're thinking about as we turn the page into 2024, even though you're not guiding, is the right outlook to think like we're stable in the first half, improvement, just any color on that kind of addressable market and the bird of demand trend you're seeing. Thank you.
spk09: Yeah, thanks, Dan. You know, I don't think we have any particular insights that would enable us to call, you know, when we see the end markets, you know, turning. We are encouraged by the relative stability that we've seen in market and customer sentiment does seem to be So I don't want to get ahead of our process here yet on 2024, but I think we are encouraged by what we are seeing. I would also say that the actions that we're taking are within our control. The doubling down on commercial intensity to accelerate growth and the cost actions that we're taking are taking hold. Our teams are working incredibly hard to get our teams in front of our customers We've made some significant investments in our digital capabilities that are enabling more personalized marketing and campaigning at scale that we're getting some nice traction on. And so when I think about just where we're at in the backdrop and where we've come from, the investments that we've made in growth and the actions we're taking to control costs certainly will have us positioned to emerge from the current environment stronger when the end markets do ultimately turn.
spk03: Our next question comes from the line of Vijay Kumar with Evercore ISI. Vijay, please go ahead. Your line is now open.
spk10: Hi, Michael. Good morning, and thanks for taking my question. I did want to touch upon the margins here, Michael. For Q4, I think there's a sequential step down of 100 basis points for adjusted EBITDA margins. Looks like your revenues sequentially are stable. Is this a gross margin issue sequentially or are you assuming an SDNA step up here in Q4? Maybe some thoughts on what's driving the Q4 margins would be helpful.
spk09: yeah happy to give you some color on that uh vj and thanks for the for the question uh you are right and as we signal we are um you know signaling a bit uh of incremental margin pressure as we you know work through the balance of of the year here and you know have adjusted our full year outlook by about 50 basis points or or so it is mostly a gross gross margin dynamic uh relative to related to a couple of uh you know key themes here vj firstly you know hopefully you noticed um the strong free cash flow performance that we generated in the third quarter. And that continues to be an important area of focus for us as we think about managing working capital in this environment. And so part of what we're reflecting here in our margins is, again, strong focus on managing our own you know working capital and inventory levels and throttling back you know production levels you know incrementally which is resulting in a bit more under absorption than what we had originally planned we've all taken you know a pretty close look at just our overall inventory health there's a bit of inventory cleanup here as we work towards the end of the year and then I would say maybe to a lesser extent a third factor being a modest impact from some of the customer wins that I mentioned that are driving some of our, you know, above market growth in, you know, the education space. I think those are probably the key factors. As I go below the GM line, there is, you know, some modest, you know, step up in SG&A, you know, really, particularly on a sequential basis as we think about, you know, maybe not some of the transactional effects, tailwinds we saw in Q3 repeating, and, you know, some you know, one-time S&A benefits that we saw in Q3 that we don't expect to repeat in Q4. But it's primarily all held up at the gross margin level, Vijay.
spk10: That's helpful, Michael. And yes, I did notice your free cash performance, certainly at the high end of the industry. So if you're asking for free cash, maybe one for Brent here. Brent, what's the right way to think about 24? I'm not asking for guidance. It's more what is the right jump off point should i be looking at q4 trends and is that the jump off point or are there some one-off items here in q4 because i think that implied is you know maybe 17 and a half sub 17 and a half adjusted even down margins is that the right jump off point we should be thinking of for rap next year yeah i'll uh one good to speak with you um
spk13: I think following on Michael's comments, it's too early to get to the exact jump off for 24. we're in the middle of our budget process. There's so many puts and takes there. So I don't think it's the right time to make the call, but we will. We'll be talking to everyone again soon and, you know, we'll definitely go on our normal kinds normal cadence.
spk14: Pardon me and give you clarity in the month that fall. Understood thanks guys.
spk03: Our next question comes from Jack Meehan with Nefron Research. Jack, please go ahead. Your line is now open.
spk11: Thank you. Good morning. Michael, I wanted to ask about what you're seeing at large pharma and large biotech. You described it as stable. We have seen some headlines around budget cuts from some large players. I was just curious what you're seeing and what you're assuming kind of for the fourth quarter.
spk09: Yeah, good to hear your voice, Jack. Thanks for the question. You know, I think as you look at the results that we just printed and, you know, the reconfirmation of our guide for the fourth quarter, you know, we really are seeing, you know, the trends that we, you know, originally discussed maybe back in the second quarter, you know, persisting through the back half of the year. And that's including, you know, the research environment within biopharma. You know, the funding headwinds that we ran into earlier in the year on biotech you know, seem to have bottomed out in the second quarter. We saw relative, you know, stable, you know, revenue performance in that customer segment in the third quarter, and we're assuming something similar for the fourth quarter. You know, under the heading of, you know, I would say positive signals and sentiment, you know, I think if you look at, you know, funding for biotech, there is, you know, maybe some incremental, you know, bright spots in that space here over the last, you know, quarter or two. you know, that keep us optimistic about that space. But, you know, we've caught the bottom there, and, you know, we're assuming stability here in the fourth quarter. You know, large pharma, mid to large pharma, you know, is an area where we also were starting to see some cautionary, you know, spending, you know, trends, you know, creep into the business there as we emerged from the second quarter. It played out largely in line with expectations in the third quarter, and we're assuming that those trends continue, you know, here in the fourth quarter. I think when I step above funding and budgets and kind of the cautionary posture that we see in the market right now, we ultimately hang our hat on just the promising science that is being funded. The pipelines are incredibly robust. There's a number of blockbusters moving their way through the pipeline. Activity level continues to be quite strong. And as I've referenced a couple of times, The commercial intensity that we're applying and have been applying over the last number of months really has us positioned well here. Our activity levels with our customer as we think about heading into the year end here is as strong as it's been all year. So we continue to be cautiously optimistic here as we close out the year.
spk11: Great. I was wondering if you could share your thoughts on capital equipment, instrumentation, just what your expectations are for the fourth quarter, and maybe more broadly, we're seeing a little bit of a used market emerge for equipment that was placed the last few years. I was curious if you're seeing any examples of that and just what you think is going on. Thanks.
spk09: So, as you know, the capital equipment part of our business is relatively modest. It's less than 15% of our of our revenues, and it tends to be focused on kind of the lower dollar value purchases within our customers' budgets, think less than $50,000 type equipment and instruments. And we've seen, I would say, relative stable performance on a dollar basis over the last couple of quarters. I think when we look at how we've reported the quarter you know there's a modest step down on a percentage basis but that's more driven off of you know just the year-over-year comps but the revenue has been relatively consistent uh you know over the last couple of quarters and we're uh our expectation is that continues into you know the fourth quarter and of course as we as we get into the fourth quarter uh it's not uh you know it's quite uh topical or timely to talk about you know year-end budget flushes and which is a dynamic that we would typically experience towards year end. And it's primarily concentrated in this area of capital equipment as customers look to close out the year and use their available budgets. As we signaled in the second quarter and consistent with the way we've guided the back half of the year, we're not expecting a year-end budget flush. And so as I think about the fourth quarter, on a relative revenue performance, we would anticipate capital equipment spending in Q4 to be similar to what we saw in the third quarter.
spk11: Sounds good. Thank you.
spk03: Our next question comes from Michael Riskin with Bank of America. Michael, please go ahead. Your line is now open.
spk01: Great. Thanks for taking that question, guys. And great to work with you, Brent. Looking forward to it. First, I want to talk a little bit about sort of, you know, the curve improvement as it shows up going forward. I think this quarter you guys really, you know, talked about encouraging trends, sentiment improvements, just more positive feedback, not so much orders improving or anything like that. But as we think through, you know, going into next year and beyond, how should we visualize that curve of the rebounds? It's been more than four quarters of challenges in the market and for you in terms of declines and destocking some of these pressures. So once things do inflect back up, is it going to take four quarters to get back to normal, or is it going to move a little bit faster than that just because once it's washed out, it'll come back quickly?
spk09: I certainly understand the question, Michael, and we're as anxious as you are and everyone else is. try to understand and get some clarity as to how the shape of this recovery is ultimately going to unfold. Unfortunately, when we think about the short order cycle of our business, particularly in the lab part of our business, which is measured in days and weeks, we really don't have a crystal ball that tells us when these orders are ultimately going to turn around. you know, we end up then, you know, trying to triangulate, you know, just based on, you know, what customers are telling us about their expectations for next year, you know, how these stocking trends are playing out and what's the health of their overall inventory. And as I look at the feedback that we've aggregated here coming out of the third quarter and look at, you know, the sentiment and the expectations from our customers, particularly within Weill Pharma, Overwhelmingly, they're anticipating next year to be a stronger year than 2023. Undoubtedly, inventory levels are improving. Many customers reporting normal inventories at this stage. And the percentage of customers that are holding outsized inventories has declined significantly. So the signals continue to be positive. But with a short order cycle, business like we have, it is difficult for us to get really specific, particularly where we sit here in October to call what the timing of a turnaround would be going into next year. So we'll take the benefit of the next couple of months and we'll be back to you on how we think about 24 when we get into February.
spk01: Okay. Fair enough. And then just kind of to follow up on that, Michael, just to your point on the short order the short cycle nature of the business and some of that limited visibility. There's been a lot of updates in biopharma in the last couple months in terms of major cuts, reorgs. You know, the Pfizer announcement a couple weeks ago certainly was the most notable one, but not the only one. So can you sort of contrast that with your commentary on improving tone and improving sentiment? I mean, is that some of those cuts that we're seeing in pharma, is that something that you've already been experiencing for a couple quarters so it's not really incremental or or why does that not correspond to what you're hearing from your customers now?
spk09: I think that's the right way to think about it, Michael, is we've been calling those headwinds out now for a couple of quarters, and I've had that baked into our outlook in the second half. So the fact that particularly those that had outsized COVID exposure are starting to curtail activities and reset their outlooks and adjust their activities accordingly, is not incremental information for us. It's a trend that has fueled this cautionary posture that we've seen from large pharma over the last couple of quarters. And with some of those resets now in place, and I would say the reprioritization of pipelines and focus on things like cell and gene therapy, it really does favor our model where we're well-positioned with a pretty compelling offering into that space. Yeah, I think the way you're thinking about it is about right. These are not incremental to what we've already been experiencing the last couple of quarters.
spk14: Good. Thanks so much.
spk03: The next question comes from Patrick Donnelly with Citi. Patrick, please go ahead. Your line is now open.
spk12: Hey, guys. Good morning. Thanks for taking the questions. Brent, maybe one for you on the – hey, good morning, Michael. Brent, maybe just on the margin side, just trying to get a little more granularity in terms of the moving pieces for 4Q. Would you be able to quantify what feels more one-time? So, again, particularly the inventory charges. Is it fair to kind of ballpark that around the cash flow increase? bridge, like that $12.5 million? Maybe just try to flesh that out a little bit for us as we try to think about, again, kind of that core 4Q number maybe outside some of the one-timers.
spk13: Yeah, I mean, when thinking about one-timers versus on a rate basis, you know, absolutely for sure, you know, absorption is an issue you always have to manage, as Michael indicated there. I mean, that will depend a lot on the going forward, but, you know, we're we're paying pretty tight attention to that. So I think that has a decent one-time nature as well as the inventory is definitely a one-time nature. So on a rate basis, probably at least half of it I would put to one time and the rest of it is real based on the underlying activity.
spk12: Okay, that's helpful. And then Michael, maybe a similar vein, just on the pricing outlook, you mentioned in some of the kind of contracts you got on the academic education side. But maybe just talk about overall pricing, what you're seeing in the business, you know, how much discounting you guys are doing versus seeing pricing increases. And then similarly, I guess, in that bioprocessing market, as that comes back, how you think about the pricing environment as you work your way towards the recovery?
spk09: So pricing for us has been relatively stable throughout the year. We did our customary increases early in the year, have been quite frankly pleased that we haven't had to go back to the market multiple times this year. And I know our customers appreciated the relative stability we've been able to bring to them this year. And so it's been relatively quiet throughout the year from a pricing standpoint. you know, we're getting the traditional price over COGS contribution to our margins that we would have seen historically and that are, you know, underpinned our long-term growth algorithm. So, as I think ahead, you know, to the pricing environment, you know, I would say it's constructive. And, you know, ultimately, as we think about the actions we'll take next year, going into next year, you know, it's going to somewhat depend on, you know, where inflation, you know, starts to settle out. And we're right in that process now of getting you know, the quotes and, you know, pricing terms with our suppliers, which is an important input into how we think about, you know, then setting our customer pricing going into next year. But it's been, you know, I would say constructive and stable and, you know, in line with our expectations.
spk12: Understood. Thank you, guys.
spk03: The next question comes from Rachel Vonstahl with JP Morgan. Rachel, please go ahead. Your line is open.
spk05: Perfect. Thank you for taking the question. So I want to ask on health care, just given the high single-digit declines, we're a step down from the mid-single-digit growth in 2Q. So you'd flag some biomaterial strength, but that was more than offset by the consumables weakness in the Americas and Europe. So can you just walk us through some more color on why there was that sequential step down? And then are you expecting health care to return to growth? into 4Q and beyond.
spk09: Yeah, thanks for the question, Rachel. Pretty perceptive, actually. The healthcare platform for us, which is about 10% of our overall revenues, has a couple of critical components. One, a little more than half of the revenues are going to be in the content that we provide to our diagnostic customers, and then the other third or 40% would be in our biomaterials platform, which, as you called out, has been a real source of strength for us throughout 2023. We delivered yet another quarter of strong double-digit growth and continue to be excited about the innovation and the positioning of our technology offering in that space and anticipate that that momentum certainly continues. The issue within the third quarter was not really on a relative revenue basis. It actually printed right in line with how we would have you know, incorporated into our guidance. But we are running into a year-over-year comparable issue. If you look back into the third quarter of last year, and I think we called it out at the time, particularly to our Ritter business, there was, you know, some pretty meaningful revenues that, you know, we had anticipated to come into Q4, you know, that made it in under the shipping deadlines for Q3. So we had a little bit of an outsized performance in our Ritter platform, which is reported in this healthcare segment. in the third quarter of last year. That was, you know, really more, you know, timing as opposed to underlying demand. So that's probably the biggest factor, you know, driving the reported percentages there, Rachel, in the quarter. And, you know, we would anticipate, you know, fourth quarter on a percentage basis returning to a more normal print for us. But just to be clear, you know, that platform for us, you know, played out or the segment or end market played out for us as we would have anticipated. That's percentage basis returning to a more normal, you know, more normal print for us. But just to be clear, you know, that platform for us, you know, played out or the segment or end market played out for us as we would have anticipated.
spk05: That's helpful. Thanks. And then I wanted to follow up on Dan's question just to push on 2024 a little bit more. So as Dan mentioned, one of your peers earlier this week noted that they're expecting market growth in 2024. So your previous long-term core growth organic guide was roughly in percent. So given those comments from your peer pointing towards market declines, is it reasonable to assume that top line will decline for you guys next year on a core basis? Or given that minimal China exposure, having less COVID headwinds, Is it possible for you to grow top line next year?
spk09: Yeah. So, you know, firstly, I'm not sure it's especially productive for me to try to unpack comments that, you know, one of my peers has made and would caution, you know, just to try to take the comparison and the definition of, you know, how each of us look at the market. Our portfolios, as you suggest, are vastly different. Our, you know, end market exposures are vastly different, as is our, you know, geographic exposure is vastly different. and probably hard for us to try to reconcile, you know, how others might be trying to, you know, call, you know, quote, unquote, market growth for, you know, for next year. But, you know, what I can say, you know, for our portfolio and mix, certainly, you know, limited China exposure is a good thing right now. You know, we are bullish on the region long term and will continue to make and seed, you know, growth investments, particularly in the biologic space, But not having China exposure today is obviously a good thing and will be a tailwind for us as we move into, you know, 2024. You know, having a consumables-driven portfolio I think is also, you know, a real positive and strength for our platform. You know, we've certainly been plagued by, you know, destocking and the inventory headwinds over the last, you know, number of quarters. But we do see that, you know, coming to the end and, you know, the underlying demand in our end markets is stronger than what we've been realizing given that inventory drawdown. And then, you know, the last thing I would just reiterate is, you know, the sentiment is improving. You know, I like our, you know, positioning. Certainly I like the funnel of activities that our teams have, you know, been able to build. And, you know, we're anxious to see the order books, you know, turn, which would then, you know, give us a little bit more clarity on the shape of, of 2024, but probably a bit early for us to try to call that or give any more clarity than that from where we sit.
spk03: Our next question comes from Luke Sergot with Barclays. Luke, please go ahead. Your line is now open.
spk00: Great. Thanks. Good morning, Brent. Welcome aboard. I promise it's not usually this bad in this space. You certainly joined during an interesting time. So I guess I just want to follow up here on the 4Q margin. If we kind of back out the inventory and your commentary on that, is it safe to assume that it's closer to, you guys would have put up closer to about an 18% even margin run rate, and is that safe for us to use from a modeling perspective on a jump off?
spk13: Again, I think you're triangulating to something that makes sense in terms of taking the one time out. We really aren't making a call on 24 right now, so Michael's made those comments, I think, very astutely on it. Again, we'll give more color going forward. you can say, oh, you know, you're just avoiding 24 on me. But the reality is there are so many puts and takes on that. There are volumes, absorption, all the rest of it, the growth in other businesses. So it's a complicated look and just one quarter of the exit of a challenging environment. I don't want to start your thinking for 24 kind of off the cuff.
spk00: Yeah, perfect. Thanks. And then lastly here, you know, How are you guys thinking about, or can you talk a little bit about the conversations you're having with biopharma customers? I assume that you still don't assume a budget flush. And is that really, the conversations you're having, is there a chance that that's getting pushed out, or is pharma starting to talk to you guys more about things starting to come online next year, give us a sense of, it's kind of like another way to ask Riskin's question on kind of the curve, but if pharma's showing a lot more interest, you're starting to see a lot faster decision making, we can get a little bit more positive on that recovery portion.
spk09: Yeah, a couple of comments to address your question. When I think about, you know, budget flush, as I mentioned earlier, we haven't contemplated that in our guidance, and certainly that would be upside, you know, to our current plan if it were to occur, but we don't really anticipate it. And for us, you know, this topic of budget flush really is concentrated to our equipment and instrument category, which is, you know, less than 15% of our revenues, so not, you know, the primary driver of our business. But as we talk to our customers about, you know, activity levels and such, you know, clearly from a consumables perspective, as I mentioned before, the underlying demand for our products is higher than what we've been printing in our last couple of quarter results, or actually over the last year or more, just given the inventory draw that we've seen at our customers. And as that is starting to normalize and we talk to our customers about specific expectations for next year for activity level, I think the sentiment is just given the pipelines that they're working on, the areas of focus that they have, the anticipation is that activity levels will be higher next year. And as these inventories are normalized, we'll not only benefit from a higher level of activity, but certainly we'll also be able to capture the underlying demand that's been satisfied here over the last year or two with inventory. So our customers continue to be quite encouraged, I would say, by you know, what they're working on. And, you know, the end market, you know, demands and themes continue to be quite strong. And, you know, I like our positioning. I like the, you know, the amount of activity, the commercial intensity we've applied, you know, to keep ourselves relevant in front of our customers. Our innovation engines are hitting on all cylinders, you know, and giving us the right products to solve our customers' challenges. So, you know, I couldn't be more excited about our positioning And I think we're doing all the right things to control costs and the other things that are within our control here that will only strengthen us as these end markets will ultimately turn.
spk00: Great. Thank you.
spk03: The next question comes from Dan Leonard with UBS. Please go ahead, Dan. Your line is now open.
spk02: Thank you for the time. Michael, I have a question on cell and gene therapy. Can you help me reconcile your commentary there with the market trends? That market's been hit especially hard by biotech funding constraints. Other suppliers have recently lowered their long-range plans in the past two months, and you sound very bullish. So I'd love to learn more about your thinking.
spk09: Yeah, so when I talked about the, you know, the optimism around cell and gene therapy and, you know, the impact that it had on our third quarter, you know, results, really talking about, you know, the commercialized platforms that are in the market, you know, that are being produced today. You know, there is, you know, I would say incremental traction in that area. There's been a number of approvals, you know, this year. And, you know, given our offering and the work that we've seeded over the last number of years, we are incredibly well positioned, notwithstanding, you know, some of the manufacturing, you know, challenges and inefficiencies you know, associated with, you know, launching these new modalities, you know, we continue to be very well positioned there with an extremely relevant offering and the specifications that we won, you know, as we've, you know, run our model here and, you know, collaborated with our customers, you know, is resulting in strong double digit growth of that platform. When I look at the pipeline, which is driving our R&D activities, the pipeline has never been stronger either. Are there customers that are optimizing and are programs falling out? Certainly as is usual as programs progress through that funnel. But as I indicated in my prepared remarks, the number of promising programs there that have advanced to stage two and working their way through the pipeline here the curve is accelerating, you know, meaningfully. And, you know, we have a relevant offering and, you know, this is going to be an important growth driver for us over the long term. You know, MABS from a revenue standpoint is still, you know, driving, you know, the bulk of our revenues. But it is nice to be able to already start to see, you know, the next waves of growth and where they're ultimately going to come from, you know, for our industry. and certainly cell and gene therapy, and particularly gene therapy is going to be one of those areas for us.
spk02: That's helpful, Collar. And a follow-up on bioproduction more broadly, are you seeing any differential trends across your product offering in that space, whether it be formulation products versus single-use versus pumps and Is there any forward insight to be gleaned from those trends, whether one is more reflective of end customer demand versus another?
spk09: Yeah, I think we're seeing similar trends across our offering there. You're right to touch on our process ingredients and excipients and chromatography resins and such. And we're seeing headwinds in those categories, not really related to inventory, we don't think there's been a stocking issue on those categories, but more just related to our customers managing their end, you know, their end product revenues and, you know, resulting in just, you know, campaign, you know, push outs and delays and, you know, maybe cutting batches, you know, in their campaign schedules. And then on the single use side, not only do you see the activity, you know, headwinds that are hitting our, you know, processed ingredients business, But you also then have, you know, the double whammy there with the inventory stocking that we've talked about that, you know, does continue to be improving. So I wouldn't call out anything specific in terms of differences between the different components of our portfolio. But, you know, again, under the heading of, you know, anecdotally good evidence, you know, good sentiment, you know, the engineering activity that front runs are, you know, single-use order book continues to be quite strong. And when I look into forecasts and things we're getting from our customers for 2024 overall, this is a space that's growing. Some of my team's been talking in the region in Asia here recently, and if you look at some of the growth that some of those customers are reporting, it's impressive. You know, we just finished another great quarter in Asia on bioprocessing, you know, excluding China, which is modest for us in any event. So there are a number of bright spots in this space that give us reason to believe that, you know, brighter days are ahead here.
spk02: Appreciate all that color. Thank you.
spk03: Our next question comes from Catherine Short with Baird. Please go ahead, Catherine. Your line is now open.
spk04: Hey guys, thanks for the questions. Michael, you mentioned that the percentage of customers that are holding outsized inventories has declined significantly. Can you just give some numbers around where that is today based on your surveys or conversations with customers and how that metric has trended throughout the year?
spk09: I'm happy to do so. When we first started to look at you know, inventory health and, you know, trying to really get insights to try to help us triangulate, you know, just the trends. You know, there were, you know, a number of customers, both in the lab, you know, with our lab consumables, as well as in bioprocessing, particularly within single use, that were reporting, you know, excess of, you know, a year's worth of inventory. It wasn't everyone, but, you know, certainly a meaningful number of customers that were signaling they had more than a year's worth of inventory. You know, certainly our Ritter platform has, you know, you know, suffered under that, you know, pressure of excess inventory as an example. And as I look at the work that we've done on both the lab side of our business as well as bioprocessing, we have no customers that are reporting, you know, those levels of inventory. So it's all come in under a year. And I would say the overwhelming majority of our customers you know, find themselves in that we're right where we want to be or, you know, less than three months of excess inventory that's in their stock. So I would say, you know, just the absence of customers that are sitting on more than a year of inventory is a real bright spot for us. And the fact that almost all of the customers are now signaling, you know, less than three months, if not already where they want to be, is another data point fueling our optimism for our recovery here in the coming quarters.
spk04: Great. And then if you go back to the prior question, if you look at the delta between excipients and other products going into biologics and then single use where you've seen more inventory destocking, has that performance spread narrowed at all? you know, how have the items that didn't see stocking performed and what does that tell you in terms of underlying activity levels?
spk09: So that was one of the surprises, I think, that we talked a little bit about in the second quarter was, you know, kind of a turndown in some of the excipients and, you know, process ingredients, which, you know, were really linked to, you know, our customers starting to more aggressively manage their, you know, end product, you know, revenues and not really linked to you know stocking of our of our products and we've seen that continue in the third quarter and our anticipation is that continues in the fourth quarter as well that's certainly how we've guided the the quarter um you know so i wouldn't say that the spread has has changed as we've moved through the third quarter or you know into the into the fourth quarter um you know i think we're you know the way we've called this here as you see us reaffirming our our revenue guide you know has things relatively stable at the moment
spk03: Okay, great. Thank you. Those are all the questions we have time for today. So I'll turn the call back over to Michael for any closing remarks.
spk09: Yeah, thank you all for participating in our call today. Certainly look forward to updating you at our Investor Day on December 8th. Hope many of you can join us at that event. And until then, be well, everyone.
spk03: Thank you, everyone, for joining us today.
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