Koninklijke Philips N.V. NY Registry Shares

Good morning and welcome to Philips' third quarter 2021 results conference call. I'm here with our CEO, Franzen Houten, and our CFO, Abhijit Bhattacharyam. Franzen and Abhijit will take you through our strategic and financial highlights for the quarter, and after that, we will take your questions. Our press release, the related information slide deck, as well as FAQs on the recall notification of certain sleep and respiratory care products, were published at 7 a.m. CET this morning on our Investor Relations website. The full transcript of this call will also be made available today on the website. As mentioned in the press release, adjusted EBITDA is defined as income from operations excluding amortization of acquired intangible assets, impairment of goodwill and other intangible assets, restructuring charges, acquisition-related costs, and significant one-off items. Comparable growth for sales and orders are adjusted for currency and portfolio changes. Over to you, Franz.

Hello everyone, thank you for joining us today. As the COVID-19 pandemic continued in the third quarter, our teams remained focused on delivering what we call the triple duty of care, meeting customer needs, safeguarding the health and safety of our employees, and ensuring business continuity. We remain extremely focused on implementing the necessary corrective actions for patients affected by the component quality issue that we announced earlier this year, we have mobilized all necessary resources across the company to address this. Because patient well-being remains at the heart of everything we do at Philips, so this is a top priority for all of us. Our strategy and portfolio continue to resonate very well with customers. In the third quarter, we were encouraged by strong comparable order intake growth of 15% in diagnosis and treatment and 21% in connected care, excluding the impact of the partial ventilator order cancellation in Q3 of last year. The strong momentum was driven by a positive hospital CAPEX environment, but also the strength of our portfolio, resulting in an all-time high order book for Philips, as shown on page 28 of our presentation. We also signed 19 additional long-term strategic partnerships Ph.D. Ph.D. Ph.D. Ph.D. As we are prioritizing the remediation of affected devices in use by patients. In addition to that, we faced intensified global supply volatility and issues such as the shortage of electronic components and increased shipping times. This resulted in challenges to fully convert our opportunities to revenue, which set our sales back by around 150 million in the quarter, with the bulk of the impact Actually taking place in September. Year-to-date, our comparable sales grew 3% and our adjusted EBITDA margin improved 90 basis points. Excluding the sleep and respiratory care business, year-to-date comparable sales growth was 10% and the adjusted EBITDA margin improved almost 500 basis points. Abhijit will provide a more detailed overview of the numbers shortly. Now I would like to provide some color on some of our initiatives to respond to the needs of today's hospital leaders across the globe as they plan for the future. As a pioneer in spectral diagnostics, we have enabled our customers for many years to benefit from a reduction in follow-up scans, increased certainty in lesion characterization, and reduced time to diagnosis. Our new spectral CP7500 which we introduced earlier this year is attracting very strong customer demand and contributed to another quarter of double digit growth in the computer tomography business. The University Medical Center Utrecht in the Netherlands is among the customers who already installed these systems with the aim of enhancing outcomes in mainstream clinical diagnosis through image quality and detail for all patients and in all exams while speeding up scan time at the same time. Building on our leadership in image-guided therapy solutions in cardiology, we are further strengthening our position in fast-growing adjacencies such as neurology and oncology. For example, the U.S.-based Piedmont Health equipped its neurosurgical operating rooms with specialized Philips Azurion Solutions for the Treatment of Stroke. And we also announced positive results of a clinical study aimed at setting a new standard of safety and accuracy in the diagnosis of small peripheral lung lesions using the Philips Lung Suite in combination with Azurion. In the quarter, we launched two new key Health Suite informatics solutions which are scalable across the enterprise to support customers to achieve the quadruple aim of care The Patient Flow Capacity Suite, a solution that helps manage the complete patient journey, and the Acute Care Telehealth, which builds on our successful tele-ICU solutions. Importantly, we continue to grow market share in our core businesses through deeper, more comprehensive customer partnerships. For example, we provided the newly established Jili Chongying Oncology Hospital in Changyang Province, China, with a range of solutions to address the hospital clinical needs in screening, diagnosis, treating, and rehabilitating cancer patients. The solution includes Intellispace Digital Pathology and the Ingenia 3 Tesla MR, Icon Spectral CT, Incisive CT, and CT Big Board Imaging Systems in combination with the Intellispace Portal for advanced visualization and analysis. As part of a 10-year partnership with Rutherford Health, In the UK, to open multiple community diagnostic centers, the first center was actually opened in Taunton, for which we provided the innovative diagnostic imaging systems. This included our 1.5 Tesla Ambition MR for helium-free operations, which obviously drives lower cost of care while providing confident diagnosis. The recently acquired Capsule business, continue to add new device drivers to its medical device information platform, which is now part of our HealthSuite informatics platform. With more than 1,000 unique types of medical devices capable of integrating with the platform, customers can connect more devices to advance health systems digital transformation with intelligent vendor-agnostic tools that turn complex data streams into actionable clinical insights. In personal health, We continue to invest in new product introductions and launched several oral healthcare innovations targeting different price points in China. These included two new electric toothbrushes and our professional teeth whitening offering Zoom, which was launched through a local partnership with Linked Care, one of the largest dental solution providers in the Chinese market. And in Latin America, in a co-branding partnership with Colgate, we see a strong take-off In line with our plans, we successfully completed the sale of the domestic appliances business. This concludes our major divestments, allowing us to fully focus on extending our leadership in health technology and accelerating our transformation into a solutions company. We reported an after-tax gain of €2.5 billion in discontinued operations, related to this divestment in the third quarter. Let me now speak about the field actions in sleep. We are doing everything we can to deliver a solution to patients and caregivers as fast as possible. The repair and replacement program is well underway in the United States and several other countries. We have produced more than 750,000 units of repair kits and replacement devices to date, of which more than 250,000 units have reached customers. We have substantially increased our overall production volume in the third quarter to 55,000 units per week and are on track to reach 80,000 units per week in the fourth quarter. We expect to complete the repair and replacement programs within 12 months. We have a strong program management in place to see the corrective actions through as fast as possible. As you know, several civil and personal injury claims related to this recall have been filed. It is too early to draw any conclusions or to talk about the merits and the timelines to handle claims at this stage. But I want you to know that we have a competent legal team managing the litigation matters. And right now we are focusing on the patients and the corrective actions required there first. I would also like to remind you that when we announced the recall in June, we acted on the assumption of a worst-case clinical impact scenario assessment related to the PE per foam issue, based on the test data and information available at that point of time. We continue with further research and testing to better scope any potential patient risk and are getting expert assessments on these. We aim to make this information available to the competent authorities and healthcare providers as soon as possible, which is still anticipated in the fourth quarter. As Leandro mentioned, we have published FAQs on the recall to provide details and clarification on the progress. There are some areas, particularly related to litigation, Where we are not able to provide further details at this time. And we will share additional information in a transparent and timely manner as the situation evolves. Now, looking ahead, we continue to see uncertainty related to COVID-19. Supply chain volatility has intensified globally, which already led to longer lead times to convert our strong order book to revenue in the third quarter. and we expect this headwind to continue in the fourth quarter. This makes more challenging to deliver on incremental demand, which we expected to compensate the shortfall in sleep in the near term. Therefore, we now expect to deliver low single-digit comparable sales growth with a modest adjusted EBITDA margin improvement for the full year 2021. Based on our strong customer demand and growing order book, We expect to resume our growth and margin expansion trajectory in 2022 as we work through the headwinds. Our journey to leadership in health technology continues and I am pleased with the significant progress that we are making on our strategic roadmap. We are executing on a clear strategy to help transform care along the health continuum and have a stronger than ever portfolio to serve our customers. I remain therefore very confident on the medium term growth and margin opportunity of our company. And with that I'll turn the call to Abhijit.

Thank you Franz and thank you all for joining us today. Let me provide some color on the third quarter comparable order intake growth of 47%. You will remember in Q3 last year we had the partial cancellation of the ventilator contract in the US and that provides a favorable comparable base. When taking out this effect Order intake growth is still a strong 17%. Diagnosis and treatment order intake grew by 15% in the third quarter, driven by double-digit growth in MR, in CT, in ultrasound, and in image-guided therapy. Order momentum was very strong in North America, Europe, Asia Pacific, and most growth geographies. China delivered mid-single-digit order growth with short-term momentum affected by additional procedures required for importing healthcare products. We have a strong position in China including our R&D centers, our factories, local for local innovation, and our fully Chinese management team and are further investing in local for local products and capabilities. Order intake grew 270% in connected care, i.e. 21% when excluding the impact of the partial cancellation of the ventilator order last year. Patient monitoring orders grew 20%, building on a similar growth last year as a result of a fundamental shift in adoption of our patient care management solutions in both high and low equity care settings. Comparable sales declined 7.6% in the quarter on the back of 10% growth in Q3 2020. As Franz mentioned, in addition to the high comparison base and the anticipated headwinds in our sleep business, we also faced stronger than anticipated supply chain disruptions at the end of the quarter. I will elaborate further on that a bit later. Coming back to the performance of our businesses, diagnosis and treatment comparable sales grew 10% in the quarter with double digit growth in image guided therapy and enterprise diagnostic informatics and high single digit growth in diagnostic imaging and ultrasound. We expect strong momentum in these businesses to continue in the fourth quarter. The volume of electric procedures tracked above pre-COVID levels during Q3, even though they were below the levels seen in the second quarter due to the impact of the Delta variant in parts of the U.S. and Asia Pacific early in the quarter. We expect hospitals to continue to normalize their operations and work through the backlog of patients in the coming quarters, although COVID remains a risk, of course. The comparable sales for connected care businesses declined by 39%, driven by a substantial decline in the sleep and respiratory care on the back of a very strong Q3 last year, as well as headwinds related to the recall. Patient monitoring comparable sales growth also declined on the back of a very strong Q3 last year, and an increase in the lead time to convert the order book into sales. Personal Health Comparable Sales were in line with Q3 2020. As anticipated, sales growth in the quarter was impacted by two phasing factors, the shift of Amazon Prime Day from Q3 last year to Q2 this year and pre-deliveries made in June due to the cut-off period related to the legal and financial disentanglement of domestic appliances as of July 1, 2021. As mentioned during the Q2 earnings call, we estimated that these factors had a negative impact of 5 percentage points of growth of personal health in the third quarter. Year-to-date growth was 15% with double-digit growth across businesses. Underlying consumer demand for our strong portfolio and personal health remains very solid. But the current supply issues are expected to affect revenue in the fourth quarter as well. Consequently, we expect personal health sales in Q4 to be in line with last year compared to a mid to high single digit growth if we were unconstrained by supplies. Let me now turn to the profitability development in the third quarter. Adjusted EBITDA for the group was 512 million euros which is 12.3% of sales. In diagnosis and treatment, the adjusted EBITDA increased by 450 basis points to 14.2% of sales, mainly driven by sales growth and productivity. In personal health, adjusted EBITDA was 15.9% up 100 basis points from last year, mainly driven by productivity measures. Connected Care delivered an adjusted EBITDA margin of 6.2% of sales, Impacted by the sales decline in the high margin sleep business which was partially offset by our productivity programs. It's important to note that connected care excluding sleep and respiratory care was up 600 basis points between 2019 and 2020 and we expect to hold on to that gain despite the decline in sales this year. Adjusted EBITDA and the For the group was also impacted by higher than expected license income in the segment other, mainly due to phasing of royalty settlements. We continue to focus on driving productivity initiatives that delivered 73 million euros savings in the quarter, more specifically 34 million euros through procurement programs, 16 million supply chain productivity and 23 million overhead cost reductions. These initiatives help partly mitigate the impact of the increase of components and broader supply chain costs that we are experiencing. Adjusting items were 53 million euros lower than guidance in the quarter due to lower restructuring and acquisition related costs and lower costs for the separation of domestic appliances. Financial income and expenses included the positive impact from the increase in value of our minority participations. Income tax expense was a gain in the quarter mainly due to the positive impact of the recognition of some tax assets relating to business transfers. The adjusted diluted EPS from continuing operations was 40 Euro cents in Q3 this year. Year-to-date adjusted EPS grew by 19% and free cash inflow was 45 million in the quarter mainly due to phasing as the inflow for the first half of the year was 140 million higher than last year. Let me provide some additional guidance for certain areas of our business. In the segment Other, We expect an adjusted EBITDA loss of around 80 million for the full year 2021. This is 30 million better than our prior guidance due to higher cost savings year to date. For Q4, we expect a net loss of around 20 million euro at the adjusted EBITDA level for segment other. Restriction charges are expected to be around 60 basis points in 2021 which is lower than our prior guidance of 70 to 80 basis points due to lower costs year to date. Acquisition related costs are expected to be around 30 basis points lower this year compared to our prior guidance of 70 basis points. This is also due to lower costs year to date as we have optimized some of our integration processes. In the fourth quarter, we expect restructuring, acquisition related and other charges of approximately 105 million euros. Financial income and expenses are expected to be a net cost of around 70 million euros in 2021. This is lower than our prior guidance of 115 million euros Largely due to the increase in value of our minority stakes. We expect the effective tax rate to be between low to mid single digit in 2021. This is due to the impact of the recognition of tax assets relating to business transfers that I just mentioned earlier. Our mid-term guidance of 24 to 26% effective tax rate excluding incidentals remains valid. On capital allocation, we are currently executing two share buyback programs for capital reduction purposes of 1.5 billion euros each. The program which was initiated in the first quarter of 2019 will be completed this year as more than 20 million shares purchased through forwards are expected to be delivered and cancelled by December 31st. This will result in a reduction of 2% of the outstanding shares. Under the program announced in July 2021, we entered into a number of forward transactions in the course of Q3, covering approximately half of the program and totaling 19.6 million shares with settlement dates in 2022, 2023 and 2024. The remainder of the program will be executed through open market purchases by an intermediary With a significant part taking place during this quarter.