STERIS plc

Hello, and thank you for standing by. My name is Bella, and I will be a conference operator today. At this time, I would like to welcome everyone to CERI's PLC2Q Fiscal 2026 Earnings Conference Call, all lines having placed a mute to prevent any background noise. After the speaker's remarks, there will be a question and answer session. If you would like to ask a question during this time, simply press star, then the number one on your telephone keypad. To withdraw your question, press star 1 again. I would now like to turn the conference over to Julie Winter, Vice President of Investor Relations. You may begin.

Thank you, Bella, and good morning, everyone. Speaking on today's call this morning will be Karen Burton, Senior Vice President and CFO, and Dan Crestio, our President and CEO. And I do have a few words of caution before we open for comments. This webcast contains time-sensitive information that is accurate only as of today. Any redistribution, retransmission, or rebroadcast of this call without the express written consent of SARIS is strictly prohibited. Some of the statements made during this review are or may be considered forward-looking statements. Many important factors could cause actual results to differ materially from those in the forward-looking statements, including, without limitation, those risk factors described in Staris' securities filings. The company does not undertake to update or revise any forward-looking statements as a result of new information or future events or developments. Staris' SEC filings are available to the company and on our website. In addition, on today's call, non-GAAP financial measures including adjusted earnings per diluted share, adjusted operating income, constant currency organic revenue growth, and free cash flow will be used. Additional information regarding these measures, including definitions, is available in our press release, as well as reconciliations between GAAP and non-GAAP financial measures. Non-GAAP financial measures are presented during this call with the intent of providing greater transparency to supplemental financial information used by management and the board of directors in their financial analysis and operational decision making. With those cautions, I will hand the call over to Karen.

Thank you, Julie, and good morning, everyone. It is my pleasure to be with you this morning to review the highlights of our second quarter performance from continuing operations. For the second quarter, total as reported revenue grew 10%. Constant currency organic revenue grew 9% in the quarter driven by volume, as well as 210 basis points of price. Gross margin for the quarter increased 60 basis points compared with the prior year to 44.3%. Positive price and productivity, primarily driven by volume, more than offset increased inflation and tariff costs. EBIT margin increased 90 basis points to 23.1% of revenue compared with the second quarter last year, mainly driven by operating expense leverage. The adjusted effective tax rate in the quarter was 24.5%. The year-over-year increase was driven primarily by changes in discrete item adjustments and geographic mix. Net income from continuing operations in the quarter was $244.5 million. Adjusted earnings per diluted share from continuing operations were $2.47, a 15% increase over the prior year. Capital expenditures for the first half of fiscal 2026 totaled $180.1 million and depreciation and amortization totaled $241.1 million. We ended the quarter with $1.9 billion in total debt. Gross to EBITDA at quarter end was approximately 1.2 times. Free cash flow for the first half of fiscal 2026 was $527.7 million. a very strong start to the year driven by the increase in earnings and improvements in working capital. With that, I will now turn the call over to Dan for his remarks.

Thanks, Karen, and good morning, everyone. Thank you for joining us to hear more about our second quarter and our increased outlook. Karen covered the quarter at a high level, so I will add some commentary on the segments. Starting with health care, constant currency organic revenue grew 9% in the second quarter. with growth across all categories. Service continued its streak of outperformance growing 13% in the second quarter. Consumables also performed well with growth of 10%. Healthcare capital equipment revenue increased 4% in the quarter with backlog of over 400 million. Orders are up 3% year to date and down slightly in the second quarter. EBIT margins for healthcare in the quarter increased 100 basis points to 25.1% with volume, pricing, positive productivity, and restructuring program benefits offsetting tariffs and inflation. Turning to AST, constant currency organic revenue grew 7% for the quarter with 13% growth in services offset by anticipated declines in capital equipment revenue. Services benefited from stable medical device volumes bioprocessing demand, and currency. EBIT margins for AST were 45.3%, up 250 basis points from second quarter last year, as additional volume, pricing, and less capital equipment in the mix were able to more than offset increases in labor and energy. Constant currency organic revenue increased 12% for life sciences in the quarter, driven by a return of capital equipment shipments with growth of 39 percent. Service revenues grew 9 percent and consumables increased 7 percent. Capital equipment backlog was up over 50 percent to 114 million. Margins declined 70 basis points as volume and price were more than offset by tariffs and inflation. From an earnings perspective, we grew the bottom line 15 percent in the quarter to $2.47 per diluted share. Included in that number is approximately $12 million of pre-tax tariff impact, which primarily impacted our healthcare segment. Turning to our outlook for fiscal 2026, as noted in the press release, based on our first half outperformance and expectations for the balance of the year, we are increasing most elements of our outlook. We now anticipate approximately 8% to 9% as reported revenue growth, which reflects about 100 basis points of favorable currency, a significantly lower impact than we anticipated last quarter. Making up for the shift in currency impact, constant currency organic revenue growth is now expected to be 7 to 8 percent, an increase of 100 basis points from our prior outlook. This improvement was driven by our first half outperformance. We now expect all three segments to grow 7 to 8 percent on a constant currency organic basis for the year. For AST, we now expect services to grow 9 to 10 percent, which will be offset by anticipated declines in capital equipment, particularly versus the tough comparisons in the fourth quarter. We are also increasing our earnings outlook with a new range of $10.15 to $10.30. For your modeling purposes, we now expect EBIT margins to improve 10 to 20 basis points in fiscal 2026. this will be partially offset by a 50 basis point increase in our anticipated effective tax rate of approximately 24%. We are also increasing our outlook for free cash flow by $30 million to $850 million for fiscal 2026. CapEx remains unchanged at about $375 million. We are pleased with our strong start to the year, and we are confident in our ability to meet these revised expectations. That concludes our prepared marks for the call. Julie, would you please give the instructions so that we can begin the Q&A?

Thank you, Karen and Dan, for your comments. Bella, can you please give the instructions for Q&A and we can get started?

Absolutely. At this time, I would like to remind everyone, in order to ask a question, please press star 1 on your phone's keypad.

We will pause for just a moment to compile the Q&A roster.

Your first question comes from the line of Brett Fishbin with KeyBank Capital Markets. Please go ahead.

Good morning. Thank you for taking the questions. I just wanted to start on AST. I was curious if you guys could comment a little bit on what drove, you know, the second consecutive quarter of double-digit growth in services and then just how you're thinking about sustainability of trends in that area going forward.

Yeah, thanks, Brett. This is Dan. You know, I think it's more of the same. We've continued to see pretty stable volume from our MedTech customers. We've continued to see recovery in, you know, bioprocessing, which was a negative drain on us, you know, for some quarters a year or so ago. And in addition to that, you know, we've had a number of expansions go into place over the last four years. And that investment is facilitating our growth. So we're very confident in the 9% to 10% outlook that we have going forward. There's still a little noise out there. We have seen some juxtaposition of customer volume in terms of manufacturing location, but not in a real meaningful way. So we feel pretty good about our global footprint and how that facilitates those needs.

All right, perfect. And then just one more from me. I think in the press release, you mentioned that operating margins, you know, took a step up despite several headwinds. I think you mentioned tariffs and inflation on the call today. Maybe if you could just touch on any other items that you might have been referring to and then how much of an offset, you know, you're kind of viewing those collective headwinds against the underlying margin expansion. Thank you very much.

So, as you noted, we are referring to tariffs and inflation, both labor and material.

Okay. Sorry. Is there, like, any way to maybe approximate, like, how much those headwinds represented as an offset in the quarter to margins?

The, yeah, tariffs in the quarter were 90 basis points and material and labor inflation was about 130 basis points across the company.

All right, perfect. Thank you so much.

Your next question comes from the line of Patrick Wood with Morgan Stanley. Please go ahead.

Beautiful. Thanks so much, guys. Two quick ones. I guess the first one, you know, healthcare on the service side also was very strong. You know, what do you think there? Could you unpack that a little bit for us?

Yeah, I mean, a couple things. You know, our service business in healthcare is, you know, obviously our traditional wrench-turning service on our equipment and, you know, install work that we do that, you know, goes along with our capital. But, you know, there's a much larger component of that that goes into our IMS, you know, repair business and then processing, you know, of instruments where we operate as a service. So... Volumes are strong. We've been doing very well for the last, I don't know, five, six quarters, I would say, with double-digit growth. Some of that, you know, we have said all along is that's the area of the business that we're able to get price, and we have been able to get price because of the justification of significant labor increases that were going on for a number of years. But as that has normalized, you know, those things, you're going to see I believe what we're going to see is a bit of a slowdown from 12%, 13% to something less than that. But we are also going to see a coinciding slowdown in labor costs. So it should not affect the overall margin, but will slow down the top line a bit. I got you.

That makes sense. Thanks, Dan. I guess one more, which is basically like on the modality side, like X-ray, can you give us a sense of how that's contributed to growth? It's obviously an exciting modality.

Yeah, we're very excited about it. We don't break out the technologies. It would become just a math exercise that we'd have to keep up with that's not worth pursuing. We look at radiation as one technology, and dose is dose. And, you know, we use gamma, and we use EMEM, and we use X-ray. And although we're incredibly excited about X-ray, and that's a lot of the expansion capacity that we've built out, it's just one tool in our bag.

Love it. Thanks, guys. Thank you, Patrick.

Your next question comes from the line of Jason Bedmar with Piper Sandler. Please go ahead.

Hey, morning. Congrats on another strong quarter here. I heard you on the updated outlook for this segment and appreciate the breakout of the service growth in AST. Wondering if you're willing to give maybe a similar perspective on the outlook for some of those healthcare sub-segments. Dan, I just heard you on service there maybe deceling a little bit as maybe price comes off. But what about consumables versus equipment? Any way to Give a little bit of color there, rack and stack, you know, service top, consumables next, equipment bottom on the growth, anything there would be great.

Yeah, I mean, we would, I mean, you can do the basic analysis and we consider our consumable business to grow on sort of the share we've gained in the history and procedure rate, right? And so I would expect that trend of good performance to continue. You know, on capital, you know, we're sitting on, you know, a huge backlog number right now for over $400 million in healthcare capital. And our order rate remains strong. You know, that comes down to really timing of shipments. We feel pretty good about, you know, the next two quarters, although we've got some tough comps in healthcare capital. So, you know, it's hard to say specifically what we're confident is that we're in a good position. But if you have to you know, put a gun to my head, I would say service is probably going to be near the top, consumable second, and capital is going to grow, it's going to do fine, and it's kind of a bit of a wild card in terms of timing.

Okay, that's very helpful. Thank you, Dan. And then, Karen, you're already at $530 million in free cash flow this year. Really impressive so far. But you typically generate far more free cash in the second half of your fiscal years. So is this just an abnormal year? When I look at your updated guidance, I like the raise, but is this just an abnormal year where you get more cash generation in the front end of the year? And you've maybe had some things shift out of second half or pulled forward from second half into first half? Or is the guidance just really conservative here for the full year?

So I would say that we have seen stronger first half cash flow than is typical. the pulling the earnings a little bit forward into the first half is a contributor. We've also had some meaningful improvements in working capital, faster collections on those late fiscal 25 shipments. So I think the answer is all of the above. As you mentioned, it's stronger earnings earlier in the year, improvements in working capital, earlier in the year, and a little bit of cautiousness.

Okay. Very helpful. Thank you.

Your next question comes from the line of Mike Mattson with Needham. Please go ahead.

Yeah, thanks. So just in terms of the healthcare business, I mean, I know you kind of broke it out into the capital, service, and consumables. But I'm just wondering if you could give us any more detail around geographies, types of customers, hospitals versus ASCs, product lines, et cetera, that are driving the growth there. Is it pretty strong across the board? Are there any areas of those things where you would call out you're seeing particular strength?

Not really. I mean, we're seeing, you know, pretty good strength across the globe in terms of geographic. And, you know, there still seems to be a lot of procedures going on and particularly strong in the U.S. more so than other places. But we're starting to see recovery in other places as well. So, no, there's nothing I would call out specifically.

Okay. Okay. And then for AST, can you just give us an update on your capacity there? And are you currently capacity constrained? And if so, how fast can you address this? I think you've said earlier in this call that you are expanding capacity there.

Yeah, it's a long process to expand capacity. And AST, from the time we decide to build a plant to the time it's operational, can be two to three years. So we have a number of expansions. that have been completed. We have a number that are in process, and we have a number, you know, that are planned out into the future. And we've been pretty steadily bringing new capacity into the market now for the last eight years. So we're in a good position in most geographies, if not all geographies of the world right now, in terms of where we've added capacity to facilitate plants that are nearing their limit of capacity.

Okay, got it. Thank you. Yep, sure thing. Thank you.

Your last question comes from the line of Michael Polark with Wolf Research. Please go ahead.

I will say I forget what the record is for prepared remark, but nine minutes was pretty good again, so kudos. I got two big picture ones. Life sciences, some growth mojo back, 12% in the quarter. Obviously, the comps are easy and capital equipment's up big off of a low base, but nevertheless, 12%. My question is thematic, this notion of reshoring, hearing about a little bit Pharma's biotechs bringing their manufacturing partners, bringing manufacturing back towards the U.S. What do you think on this? Do you see any evidence that it's helpful so far or hear anecdote that it could be helpful for you? What is the state of this theme for your exposure in this space? Thank you.

Thanks, Michael. Yeah, in general, anytime we see our large pharma customers moving or expanding capacity in manufacturing locations, whether that's new grain fields or whether that's existing sites, that generally bodes well for our capital equipment business. And, you know, there's probably more noise than there is substance to the amount of, you know, redistribution or construction of pharma at this point. But there is some. It is real. And I do believe we are getting, you know, maybe some benefit from that on the GMP side or, you know, the pharma side of our capital equipment. It's also, like you said, we're comparing against some pretty significant drops when there was nothing going on in pharma for, you know, almost 18 months, you know, in terms of that type of work.

The other one is in healthcare, and I've been asked this once or twice a year for, you know, good number of years running, but it's the topic of single use scopes. And obviously this is a function of your can't tell exposure. Like what is the state of that trend today? Has it really not lived up to what was once believed to be high expectations or, or those products are getting some traction. It's just small and therefore, you know, not all that significant. I know once upon a time, not long ago, you talked about launching your own single use scope. Maybe, maybe that's, uh, been, uh, been a helpful offset. But what are you seeing there over the last year or two and what's on the horizon over the next year or two? Thank you.

Yeah, I think what I would say and what we've been consistent in our messaging is that there is a place for single-use scopes, especially as it relates to small diameter scopes. So, you know, think of, you know, histoscopes, uretoscopes, different nasogastric scopes, you know, things like that, brachioscopes. But the bulk of the business we have at Steris in terms of, you know, everything that we do has to do with large diameter scopes that you would use for colonoscopies. And the reason why it makes sense for the small diameter scopes is, you know, the cost, the break frequency and the relative cost to fix them is pretty high versus when you look at large diameter scopes, they tend to be much more robust. They last a long time. They also cost a lot more up front. You know, we've said all along there's a place for certain aspects of disposable. And I think if you look, a lot of the disposable scope manufacturers are highly focused on those small diameter scopes. And some have even, you know, announced that they're not focusing at all on large diameter scopes for colonoscopy.

Thank you. Thank you.

That concludes our Q&A session. I will now turn the call back over to Julie Winter for closing remarks.

Thank you everyone for taking the time to join us this morning to learn more about our performance in the quarter and our outlook for the year. We look forward to seeing many of you on the road later this month.

Ladies and gentlemen, thank you all for joining and you may now disconnect. Everyone have a great day.