Thermo Fisher Scientific Inc

Good morning, ladies and gentlemen, and welcome to the Thermo Fisher Scientific 2020 Second Quarter Conference Call. At this time, all participants are in listen-only mode. After the speakers' presentations, there will be a question-and-answer session. To ask a question during the session, you need to press star 1 on your telephone. If you require any further assistance, please press star 0. I would now like to turn the conference over to your moderator today, Mr. Kenneth Apricerno. Vice President, Investor Relations. Mr. Apicerno, you may begin.

Good morning, and thank you for joining us. On the call with me today is Mark Casper, our Chairman, President, and Chief Executive Officer, and Stephen Williamson, Senior Vice President and Chief Financial Officer. Please note this call is being webcast live and will be archived on the Investor section of our website, www.investor.com, under the heading Webcasts and Presentations, until July 31, 2020. A copy of the press release of our second quarter, 2020 Earnings and Future Expectations, is available in the Investors section of our website under the heading Financial Results. So, before we begin, I will briefly cover our Safe Harbor Statement. Various remarks that we may make about the company's future expectations, plans, and prospects constitute forward-looking statements for purposes of the Safe Harbor provisions under the Private Security and Politigation Reform Act of 1995. Actual results may differ materially from those indicated by these forward-looking statements as a result of various important factors, including those discussed in the company's annual report on Form 10-Q for the quarter ended March 28, 2020, under the caption Risk Factors, which is also on file with the Securities and Exchange Commission and is also available in the Investor section of our website under the heading SEC Violence. While we may elect to update forward-looking statements at some point in the future, we specifically disclaim any obligation to do so, even if our estimates change. So, therefore, you should not rely on these forward-looking statements as representing our views as of any date subsequent to today. Also, during this call, we'll be referring to certain financial measures not prepared in accordance with generally accepted accounting principles, or DAP, A reconciliation of these non-GAAP financial measures to the most directly comparable GAAP measures is available in the press release of our second quarter 2020 earnings and future expectations, and also in the investor section of our website under the heading financial information. So with that, I will turn the call over to Mark. Thank you, Ken. Good morning, everyone. Thank you for joining us today for our 2020 second quarter call. What an incredible quarter we just had. When we gave our update during our Q1 call, we provided our best thinking on our Q2 expectations in an environment no one had ever seen before. We were prepared for the most difficult quarter we've seen in the 18 years I've been with Thermo Fisher, and we successfully navigated the environment to deliver truly extraordinary performance. Our teams did a remarkable job of helping our customers respond to the pandemic. Their tireless effort and determination drove very strong results, generating material COVID-19 tailwinds while minimizing the impact of customer disruption created by lockdowns around the world. Our performance in Q2 put a spotlight on the talent of our team, the advantage of our industry-leading scale and depth of capabilities, and the importance of our role in supporting our customers and society. We've continuously built on our strengths, and what we've accomplished in the past few months shows that Thermo Fisher can perform extremely well, even in the most difficult circumstances. I know I'll always think back on this period as among our finest moments as a team and as a company. I look forward to covering some of the many highlights of the quarter with you this morning. So I'll start with our financial results, which exceeded our expectations across the board. As you saw in our press release, our reported revenue increased 10% in Q2 year-over-year to $6.92 billion. Adjusted operating income grew 26% to $1.86 billion, and our adjusted operating margin increased to 27% in Q2, which was 350 basis points of expansion. Finally, we grew adjusted EPS by 28% to $3.89 per share in the quarter. We delivered such outstanding financial performance in Q2 because we worked with speed at scale and quickly mobilized our resources to help our customers respond to the pandemic across the globe. Our solutions met their needs, generating approximately $1.3 billion of COVID revenue tailwinds. Our teams also did an excellent job of mitigating the headwinds in other parts of our company. and we manage the company aggressively and appropriately in a very fluid environment to set ourselves up for an even brighter future. Turning to our performance by end market, let me start with an overall comment for context. As you know, the pandemic has generated both significant headwinds and tailwinds in our industry, and this impacted each of our end markets to varying degrees. On one hand, we saw greatly reduced customer activity due to work disruptions, and on the other, we benefited significantly from our COVID-19 response. We managed the company very effectively through these dynamics to deliver an exceptional quarter. So starting with pharma and biotech, the largest of our four end markets. It was another great quarter, and we continued to perform very well here in Q2, growing just under 10%. We had particularly strong performance in our bioproduction and pharma services businesses. Turning to industrial and applied, we saw a decline of just over 10% in Q2, while in academic and government, we declined approximately 20%. Customers in these two end markets were significantly affected by business disruptions during the quarter due to the pandemic. Finally, in diagnostics and healthcare, While we saw significant headwinds in this market due to a decrease in doctor visits and related testing, we met the incredible demand for COVID-19 testing and were able to deliver growth of just over 70% in Q2. We're providing customers with our proprietary diagnostic test kits, instrumentation, and viral transport media, as well as reagents used for laboratory-developed tests. I'll talk more about our involvement later in my remarks. To wrap up our end market commentary, our teams put forth an amazing effort supporting our customers and meeting the societal response to the pandemic while effectively managing the company to deliver outstanding growth in Q2. Turning to the business highlights for the quarter, on our Q1 call, I departed from my typical agenda a bit and talked about the three guiding principles we're following to manage through these unprecedented times. To remind you, the first is ensuring the safety of our colleagues. Our second guiding principle is to maintain business continuity so we can continue to support our customers, whether they're directly responding to the pandemic or continuing their work more broadly. And third, we manage our company appropriately so we come out of this period an even stronger industry leader. As I reflect on Q2, those guiding principles have served us very well. We've successfully implemented numerous safety protocols at our sites, that has kept our business running so we can continue to serve our customers at a time when they need us most. Let me focus today on the last guiding principle, managing the company appropriately. And to reiterate, it's a combination of relentless focus on executing a long-term growth strategy while ensuring that we successfully navigate the short-term challenges and generate new opportunities as well. During this time, we've been carefully managing costs while confidently investing to position the business for long-term share gain and accelerated growth. This includes continuing to invest in key R&D programs, even in parts of the business where demand is temporarily impacted. For example, we had a great showing at the Virtual American Society of Mass Optometry Conference in June, where we launched two new Orbitrap Explorers instruments to advance biotherapeutic research. These types of investments across our businesses will position us well to capture the opportunities as customer activity returns to more normal levels. The second quarter reinforced why we're recognized as the world leader in servant science. I've been overwhelmed by the outreach we've had from the most senior government officials around the globe to the leaders of healthcare institutions to the top executives of the world's largest companies. They're all navigating challenges never experienced before, whether they're protecting the safety of their own workforce or communities, managing the incredible volume of testing, or trying to understand the virus to identify therapies and accelerate the development of vaccines. We are in the best position to help them meet these challenges because we remain focused on executing our growth strategy by continuously innovating, leveraging our scale, and enhancing our unique customer value proposition. We're involved in virtually every aspect of the pandemic response, from providing research tools to personal protective equipment to diagnostics, as well as supporting the development and production of therapies and vaccines. Our mission is to enable our customers to make the world healthier, cleaner, and safer, and it highlights the critical role we play. This morning, I'm going to focus on the two most prominent aspects of our involvement, diagnostic testing and the development and manufacturing of vaccines and therapeutics. First, testing. It was an exceptional quarter for us given the role we play in COVID-19 diagnostics. We created a major business line in a few months and have continued to expand our capabilities. I'll cover just some of the highlights. As you know, our industry-leading PCR franchise has always played a role in our customers' ability to provide lab-developed tests, and our reagents and consumables support many COVID-19 tests in use around the world. but our role significantly expanded when we received regulatory approvals back in March for our TACPATH COVID-19 combo kit. Our PCR-based workflow is widely used in 50 countries, and these tests are considered the gold standard given their high level of accuracy. April was all about ramping up manufacturing and helping getting our customers to get their labs ready to handle the significant volume of testing. Our teams rapidly scaled production at an incredible pace, and we ended the quarter with enough capacity to produce more than 10 million tests per week should our customers need that level of testing. Our field services team and application specialists did a remarkable job of getting our customers ramped up for COVID-19 testing. In May, we received an expanded emergency use authorization, or EUA, from the U.S. Food and Drug Administration that allowed more of our PCR instruments to run these tests to help address the huge demand. The EUA also provided more options for reagents and consumables, which provides customers with greater flexibility in testing workflow. The overwhelming demand for testing created significant strain on the industry's supply of sample collection materials. the swabs, vials, and media needed to effectively collect and transport the specimen to a testing lab for processing. The U.S. government came to us for help, and given our understanding of the challenge, we worked with them to significantly ramp up production of highly specialized viral transport media, or VTM, to address this need. VTM is critical to ensure the accuracy of COVID-19 test results and must be manufactured and dispensed into vials in an aseptic environment. We designed and built a new factory in Lenexa, Kansas, in about six weeks, and we produced our first VTM vials at this new facility on the 4th of July, the exact date we set out in our ambitious project plan. This was a very exciting accomplishment for our teams. Whether it was in Lenexa or all of the other ramp up projects related to COVID, our industry-leading scale and the power of our PPI business system were key enablers in achieving these milestones in such a short period of time, while managing enormous complexity and meeting all the regulatory requirements. Looking forward, in addition to our PCR-based TACPATH kit, which determines if a patient has an active infection, we plan on launching additional tests. We're developing a serological test that can tell if a patient has ever been exposed to the virus, And in addition, we're developing a respiratory panel to help doctors determine whether a person has COVID-19 or different respiratory disease. And our goal is to launch this panel ahead of the flu season. We're working through the regulatory processes to make both of these tests available to customers globally. The other significant aspect of our involvement is the work we're doing to support our pharma and biotech customers in the ways to launch COVID-19 therapeutics and vaccines. As you know, we're a leader in the development and production of vaccines, antivirals, and other therapies through our pharma services business, and we're currently working on more than 200 COVID-related projects globally. We're leveraging our global network to support governments and customers as they accelerate these projects, including some that are undergoing human clinical trials, by providing critical capacity and expertise to get new products to market and ultimately to patients. To give you one example, we're playing a key role in the US government pandemic countermeasure program managed by the Biomedical Advanced Research and Development Authority, better known as BARDA. We've received funding to support the expansion of our manufacturing capacity for sterile injectables, which can be used to fill a high volume of vaccine doses. In addition, We're expanding capacity for customers who are developing COVID-19 therapies, including promising antivirals, to compress timelines to meet the expected surge in demand. While we continue to increase our support of the pandemic response, we're also expanding our pharma services capacity globally to ensure that we can deliver critical medicines for treating a range of serious health conditions. I'll highlight two examples from the quarter. One is the new site we're building in Plainville, Massachusetts, which will essentially double our viral vector manufacturing capacity. This is another in our series of expansions in the U.S. that will help us meet demand for the development and production of gene therapies. The other development is our strategic partnership with CSL, the global biotech company, to help meet high demand for biologics We will support CSL's product portfolio by leveraging our entire network, including drug development, production, packaging, and clinical trials. And under a long-term agreement, we'll also take over CSL's state-of-the-art biologics facility in, like now, Switzerland, which is currently under construction and expected to be completed in mid-2021. This site will feature both high-volume stainless steel and highly flexible senior-use bioproduction technologies, and our plan is to expand its use to support a number of customers. All of these strategic investments will ensure that we can deliver on our value proposition for pharma and biotech customers through a powerful combination of expertise, flexibility, and scale. Turning now to capital deployment, I'll make a couple of comments on our pending acquisition of QIAGEN. As you saw in our press release last Thursday, we announced that we renegotiated certain aspects of our acquisition agreement. Given the considerable changes in industry dynamics since we originally announced the transaction in early March, we revised our offer. QIAGEN is making a significant contribution to the global pandemic response, and we believe our new all-cash offer of 43 euros per share reflects the full and fair value of the business in the current environment, while generating strong returns for both sets of shareholders. We're very excited about this transaction. We look forward to bringing together our complimentary offerings to help our customers fight the ongoing pandemic and combat other infectious diseases and emerging healthcare needs. For our shareholders, we expect strong returns and believe that the accretion will be slightly more favorable than what we articulated in early March. While there's still much work to be done over the next several months, we're on track with the regulatory process expect to complete the transaction in the first half of 2021. QIAGEN is an excellent fit for our company and we're excited about the new opportunities we'll have following the close. Now I'll make a quick comment on guidance. As you know, we withdrew our 2020 annual guidance in early April due to the uncertainty around the pandemic and its potential impact on our customers. Now here we are late July and it's obviously still a very uncertain time. Similar to Q1, While we're not ready to reinstate annual guidance, we want to provide you with as much color as possible on our expectations for the current quarter. Stephen will review the specifics in his remarks, including our organic growth expectations and key assumptions for Q3. Before I turn the call to Stephen, let me leave you with a few takeaways. We're playing a significant role in helping our customers respond to the pandemic and making a huge impact on society. Our teams are managing the business very well through this unprecedented time to mitigate the headwinds and create new opportunities. We're continuing to execute our growth strategy to position Thermo Fisher for an even brighter future. With that, I'll now hand the call over to our CFO, Stephen Williamson. Stephen?

Thanks, Mark, and good morning, everyone. I'll begin by framing our Q2 organic growth performance. As Mark mentioned, we had an outstanding quarter, and we grew organically 11%. I think it's best to break the growth into two elements. The first is the scale of the COVID-19-related revenue tailwinds that we generated during the quarter. And the second is the performance of the rest of our business, including share gain and market growth, as well as the headwinds from COVID-19 caused by disruptions to customer activity. We estimate that the tailwinds from COVID-19 were approximately $1.3 billion, or 21% of growth in the quarter, largely driven by testing-related kits and instruments. The tailwinds were significantly stronger than we originally expected, driven by the increased scale and duration of the pandemic and the speed at which we were able to ramp up our response and extend our relevant offerings to our customers. The rest of the business, excluding the COVID-19 tailwinds, performed just above the high end of our initial range of expectations for the quarter. The team executed really well to serve all of our customers throughout Q2. The result is that we delivered outstanding top line growth in the quarter. We were able to manage the company very effectively during a period of significant economic disruption and translate that top line growth into excellent bottom line growth. We appropriately managed the businesses with the strongest headwinds while maximizing the tailwind opportunities and continuing to invest for a really bright future. All of this enabled us to deliver 26% growth in adjusted operating income and 28% growth in adjusted earnings per share, an excellent quarter overall. I'll now give you some more details of the second quarter results for the total companies and provide some color on our four segments and conclude with some comments around guidance. Starting with our Q2 earnings results, as you saw in our press release, we drew adjusted EPS 28% to $3.89. Gap EPS in the quarter was $2.90, up 5% from Q2 last year. On the top line, our Q2 reported revenue grew 10% year over year. The components of our Q2 reported revenue increase included 11% organic growth and a foreign exchange headwind of approximately 1%. Turning to our growth by geography during the quarter, North America grew 10%, Europe grew in the high teens, Asia Pacific was flat with China down approximately 15%, and the rest of the world grew 50%. Look at our operational performance. Q2 adjusted operating income increased 26% and adjusted operating margin was 27%, 350 basis points higher than Q2 last year. We saw very strong volume contributions, positive business mix, and continued productivity investments and improvements driven by our PPI business system, including appropriate cost controls given a headwind from COVID-19. During the quarter, we continued to make strategic investments in the businesses. This was the last quarter of impact from our divestiture of the anatomical pathology business, which we sold at the end of Q2 2019. The divestiture was approximately two cents dilutive in the quarter, and was a year-over-year headwind of approximately $50 million in revenue, $12 million in adjusted operating income, and a negligible impact on adjusted operating margin. Moving on to the details of P&L, total company adjusted gross margin in the quarter came in at 50.6%, up 390 basis points from Q2 of the prior year. Gross margin expansion was driven by the same factors as our adjusted operating margin expansion. Adjusted SG&A in the quarter was 19.9% of revenue, an increase of 50 basis points versus Q2 2019. Total R&D expense came in at 3.8% of revenue, and R&D as a percent of our manufacturing revenue in Q2 was 5.6%. Looking at our results below the line for the quarter, our net interest expense was $129 million, $8 million higher than Q2 last year. Adjusted other income and expense was net income in the quarter of $16 million, similar to Q2 2019. Our adjusted tax rate in the quarter was 11.5%, up 50 basis points versus Q2 last year. And average diluted shares was $398 million in Q2, $5 million lower year over year, driven by the net impact of share repurchases and option dilution. Turning to cash flow on the balance sheet, cash flow from continuing operations was very strong in the first half of the year, totaling $2.2 billion, and free cash flow was $1.7 billion, after deducting net capital expenditures of approximately $500 million. We returned approximately $85 million to shareholders through dividends in the quarter. This reflects the 16% dividend increase we announced in February. We ended the quarter with approximately $21.3 billion of total debt as we prepared for the financing of the cash and acquisition. During the quarter, we raised €1.2 billion through the issuance of Euro-denominated senior notes. Our leverage ratio at the end of the quarter was 3.1 times gross debt to adjusted EBITDA, and 2.2 times. And wrapping up my comments on our total company performance, adjusted ROIC was 12.5%, up 110 basis points from Q2 last year, as we continue to generate very strong returns. To now provide some color on the performance of our four business segments. I thought it would be helpful to start with a couple of framing comments around the impact of segment results. The complexity here shows the breadth of our response to meet the needs of our customers at this critical time. From a revenue standpoint in Q2, approximately three-quarters of the COVID-19 tailwinds are reflected in life sciences solutions. That includes testing-related kits, instruments, and sample preparation. This is recognized in our genetic sciences and biosciences businesses. The specialty diagnostics segment includes the revenue in the clinical diagnostics business from the molecular controls that go into testing kits. We also recognize sales of viral transport media in the microbiology business, as well as sales of tests and PPE by the healthcare market channel. The laboratory products and services segment also includes revenue from sales of PPE recorded in the research and safety market channel. In addition, this segment includes testing workflow-related plastics made by our lab products business and vaccine and therapy development and production support from our pharma services business. From a margin standpoint, the impact of COVID-19 was varied across the segments. The impact depended on the mix of revenue tailwinds and headwinds, as well as a different level to pull through on that revenue mix. Across the company, we used our PPI business system to manage costs appropriately, given the uncertain environment, and that had a positive impact. At the same time, during the quarter, we continued to make strategic investments in our businesses, even in those where COVID-19 was a net headwind. This included investments in our colleagues in terms of incentive compensation and recognition, as well as commercial, R&D, and production capability investments. We were able to do this given the strength of the company's overall performance. those investments do not necessarily match with the COVID-19-related revenue tailwinds and headwinds in each segment. So that does skew some of the reported margins in the segments. So a lot of moving parts from a segment standpoint, but all reflective of very active management of the company, allowing us to navigate successfully through unprecedented times and positioning us really well for the future. So moving on to segment details, starting with life sciences solutions. In Q2, reported revenue in the segments increased significantly. 52%, and organic revenue growth was 55%. Driven by exceptionally strong growth, as well as continued strong growth in biotech. Q2 adjusted operating income and lifetime solutions increased 103%, and adjusted operating margin was 47.4%, up 12 percentage points year over year. In the quarter, we drove very strong volume, pull-through, and productivity, a positive business mix, and continued to make significant strategic investments across the segments. The analytical instrument segment reported a revenue decrease of 21% in Q2 and an organic revenue decline of 20%. COVID-19 disruptions to our customers continue to have a significant impact to the businesses in this segment. Q2 adjusted operating income in analytical instruments decreased 53%, and adjusted operating margin was 12.9%, down 870 basis points year over year. In the quarter, we saw very strong productivity driven by our PPI activities, which was more than upset by volume headwinds, business mix, and the strategic investments that I mentioned earlier. Turning to the specialty diagnostics segment, As a reminder, this is the segment that previously included the anatomical pathology business, which we sold in June last year. In Q2, reported revenue increased by 5%. Organic revenue growth was 12%. Similar businesses in this segment were significantly impacted by COVID-19-related headwinds in the quarter. This was as a result of decrease in doctor visits and related testing. Most impacted were the immunodiagnostics and transplant diagnostics businesses. That said, this segment also saw significant COVID-19-related tailwinds in the quarter. We saw very strong growth in our healthcare market channels and our clinical diagnostics and microbiology businesses. Adjusted operating income decreased 12%, which included a 5% headwind from the divestiture. Adjusted operating margin was 21.6%, down 410 basis points from the prior year. In the quarter, we saw strong volume leverage and productivity, However, this was more than offset by business mix and strategic investments. Finally, in the laboratory products and services segment, Q2 reported revenue increased 6% and organic revenue growth was 5%. In the quarter, growth within the segment was led by our pharma services business. Adjusted operating income in the segment for Q2 decreased 19% and adjusted operating margin was 10.1%, which was lower than the prior year by 300 basis points. In the quarter, we saw strong productivity and volume leverage, but this was more than upset by unfavorable business mix and the strategic investments that I mentioned earlier. Turning to guidance, the COVID-19 pandemic and the related customer impact continues to evolve, and as a result, we're still not in a position to provide full-year detailed guidance. However, as we did last quarter, I will provide you with some color on how we're viewing organic growth for the coming quarter, as well as certain full-year 2020 assumptions to help you in your modeling. I'll start with organic growth. Our current estimate of the most likely outcome for Q3 organic growth is approximately 15%. There are potential outcomes both above and below the 15% that could play out in Q3. I will outline some of the factors to consider when thinking about our potential growth for the coming quarter. As was the case last quarter, there are two key variables that will drive our growth in Q3. The first is the scale of the COVID-19-related revenue tailwinds. The second is the headwind caused by COVID-19-related disruption to our customers' activity. Regarding the revenue tailwinds, clearly there's a wide range of outcomes here. but our current estimate of the most likely outcome for Q3 is approximately $1.1 billion of revenue, which would translate to just under 18% of growth. The volume of COVID-19 testing undertaken by our customers would be the most significant factor determining the extent of our revenue tailwinds in Q3. Regarding the rest of our revenue growth, which is a combination of the COVID-19-related headwinds, underlying market growth, and our share gain activity, We estimate this will be in the range of approximately flat to negative 5% in Q3. This compares to negative 10% in Q2. The improvement quarter over quarter is driven by an assumed gradual ramp in customer activity as they return more fully to the workplace. It is important to note that the range does not anticipate a return to the lockdowns seen at the height of the pandemic. So when you put all this together, as I mentioned, that current best estimate of Q3 organic growth is approximately 15%. Given the fluidity of the situation, there are potential outcomes both above and below the 15% that could play out in Q3, with testing demand being the most significant swing factor. I'll now move on to an update of some of the modeling elements for the full year. With regards to FX, in 2020, we're now assuming that this is a year-over-year headwind on revenue of $200 million, or just under 1%. There is six cents of dilution from the sale of the anatomical pathology business, which reflects revenue and operating income headwinds of $105 million and $30 million, respectively. We're continuing to assume that the acquisitions we completed in 2019 will contribute approximately $160 million to our reported revenue growth in 2020, As a reminder on the calendar, there was one less day in Q1 and there'll be two extra days in Q4 this year. We continue to expect net interest costs for the year to be approximately $460 million. This includes the QIAGEN acquisition pre-funding completed to date. In 2020, that equates to a cost of $90 million or 17 cents of adjusted earnings per share. We will continue to look at opportunities to pre-fund more of the transactions during the remainder of 2020. We continue to assume that adjusted other net income will be about $70 million for the year. With regards to net capital expenditures, we now expect to be in the range of $1.3 billion to $1.4 billion. This includes approximately $300 million of capital expenditure to support our COVID-19 response. In terms of capital deployments, we completed $1.5 billion of share buybacks in Q1 and are assuming no further buybacks in the remainder of 2020. We estimate the full year average diluted share count will be between 398 and 400 million shares. And we're continuing to assume that we'll return approximately $350 million of capital to shareholders this year through dividends. So to wrap up, as you can see from our outstanding performance in Q2, we continue to manage the company extremely effectively in a very dynamic environment. With that, I'll send the call back over to Ken. Thanks, Stephen. I'll pray that we're ready to open it up for Q&A.

At this time, I'd like to remind everyone, in order to ask a question, please press star and the number one on your telephone keypad. In order to allow everyone in the queue an opportunity to address the Thermo Fisher management team, please limit your time on the call to one question and only one follow-up. If you have any additional questions, please return to the queue. Your first question comes from the line of Tycho Peterson from J.P. Morgan. Your line is open.

Hey, thanks. Congrats on the quarter. I appreciate you guys kind of quantifying the COVID tailwinds. I think as we look a little bit further out, I'm just curious, Marcus, how you think about the durability on the COVID testing side? You noted the PCR test is now approved on other instruments. You talked about the respiratory panel. So can you talk a little bit about, you know, is that a move forward, more automated systems, rolling it into a syndromic panel, and do you need to, you know, build out more of a panel, for example, in the physician office market? Thanks.

Yeah, Tycho, thanks for the question. You know, as I look to the COVID, the impact of COVID going forward, the largest determinant this year in the impact is going to be related to the testing demand and certainly the As you get into 2021, you're going to see a larger and larger impact of the activities we do in our pharma services business to support the therapy and vaccine development and ramp up, or you get some of that now. When I look at the going forward for COVID-19 testing, we obviously have a leading position in the PCR platform around the world. Our response has been a very significant ramp up in capacity, and we anticipate that the demand certainly in Q3 will continue to be at a very strong level. And, you know, most of us are obviously very dominated by U.S. headlines, but what you see is, you know, generally demand picking up, you know, further in the U.S., but you also see demand increasing. You know, weakening, you know, in other geographies, you know, Europe would have lower demand than say you saw in Q2. That may change but the net of it is fairly similar revenues to what we saw in Q2 is what we're expecting for Q3.

Okay, and then two quick follow-ups on Patreon. You had the press release out the other day, you know, quantifying the 200 programs you're involved with. Can you just help us think about, you know, the trial delay headwinds versus the tailwinds on vaccine development for the next couple quarters, how we should think about the trajectory for Patreon, and then separately on China, down 15%. Was that in line with your expectations? Obviously, they've been on the path to recovery, so that was a little bit worse than we'd modeled. Thanks.

Yeah, so in terms of... The pharma services, you know, activity, we're very involved with a very large number of programs. And when I look at sort of the headwinds from the pandemic on clinical trials, you know, outside of the COVID, there were some, but not meaningful. And when I look to China, you know, at a high level, we saw demand build throughout. throughout the quarter in terms of where we were and the way that I would think about it is China was very, very conservative on the opening up of academic institutions, so that actually was a little bit more muted than what we would have expected back in April, but it's picking up in Q3. You know, it looks to be more encouraging. Thank you, Taika. Okay, thanks.

Your next question comes from the line of Vijay Kumar from Evercore. Your line is open.

Hey, guys. Congrats on a really strong print. Maybe to follow up on the prior question, Mark, can you perhaps cite what the vaccine opportunity, you know, could mean for the overall life science industry? I understand at some point diagnostics would drop off. We've heard a multi-billion dollar figure for the industry. I'm just curious on that. just given the scale of the vaccine opportunity we're thinking, should that perhaps be over time larger than the diagnostic opportunity?

When I think about the vaccine opportunity, what's a little bit hard to quantify is what's the vaccine strategy going to be used around the world? So I'm talking more what's the total amount of vaccine going to be produced? Are we thinking about the world getting high-risk population? Are we thinking about just the countries that can afford a vaccine? Or are we thinking about, you know, 7 billion people ultimately getting a vaccine? And that leads to a massively wide range of what the outcomes are. What I would expect should there be a successful vaccine is that the role of a company, you know, like General Fisher and certainly the CDMO industry more generally will play a significant role based on the fact that the ramp up under every scenario would be very dramatic. We've been very active in those projects and in many of the high-profile projects that you read about. We're either providing raw materials from our bioproduction or bioscience business, to having roles in the production ultimately of what I'll call drug substance or vaccine substance in certain cases, and certainly a very meaningful role in the final packaging form that a vaccine would be administered. So we expect that the vaccine is successful, that it will be a meaningful tailwind over time, with, you know, revenue that we've already gotten a little bit of and ran slowly through the balance of this year and would be more meaningful in 2021 and 2022 should a vaccine be successful.

Understood. And then one on margins in the guidance here for the back half. I think you guys mentioned, you know, perhaps, you know, the organization was prepped up for a pretty drastic outcome So clearly you had outsized volume benefits. So when you think about the incremental margins for back half, should we think about some of that spend coming back? Perhaps the incremental margins may be tempering down a little bit. And I'm curious why, you know, perhaps, you know, we don't have an EPS floor, even if it is here in Q4 to be, you know, all of the diagnostic elements go away. It still seems the EPS trajectories here should be pretty strong. Thank you.

Yes, I'll take that one. So when you think about Q2, 11% organic growth, 28% growth in adjusted EPS, so it's a very strong performance. So you think about Q3, and our most likely outcome based on what we're thinking right now is 15% organic growth, and that would drive very strong adjusted EPS as well. I think about Q3 to Q2 kind of a change in In the mix of the business, in the 15% versus the 11%, it's likely to be slightly less favorable business mix within that revenue. Obviously, the scenarios where that mix could play out to be better, but I think that's a good place, you know, a good way to think about modeling for Q3. Understood.

And then on the EPS flow, perhaps even if you assume all the diagnostics just went away for Q4, I feel like EPS should be... EPA should be firmly in the double-legged range for the year, you know, perhaps in the mid-teens. Is that a reasonable assumption now for the year?

So we chose not to give the, or we didn't say full-year guidance, you know, because when you think about the potential mix and range of growth in each segment, to give a range that would be useful, the number would be enormously wide. So what we are looking at is as we get more predictability into what the world looks like, especially in Q4 where you don't know what the virus looks like, you know, you could have a very bullish scenario. You could actually have a pessimistic scenario if it was a dramatic, you know, this current wave gets much worse. You could be more pessimistic. So we're keeping our thinking on what the right, you know, external approaches. We feel good about our outline for Q3. And I think you got a sense from our Q2 performance, we're going to deliver an outstanding year financially, and it will be managing through whatever environment is thrown at us. We're going to create great opportunities to drive share gains, top-line growth, and extraordinary earnings performance.

Thanks, Mark. Congrats again. Thanks again.

Your next question comes from the line of Derek DeBram from Bank of America. Your line is open.

Hi. Good morning, everyone. Good morning. So, a couple of questions. I think the first one is, you know, I appreciate the color on Q3. I think where we're getting most of our incoming questions from investors is how do we think about the COVID testing tailwinds going on into 21? I mean, you know, QIAGEN has put out commentary talking about double-digit growth in their business, but then decline in 2022 numbers, if you look at the documents filed this morning. I guess, could you just sort of talk about how we do this? Because, I mean, obviously, when you think about modeling for 21, I know it's give and take, testing coming down, vaccine production going up, like that. But I think that's sort of where the bulk of my incoming questions are from people.

So, Derek, thanks for the question. Let me tell you how we're planning. That's probably – it's impossible to predict – in a certain way you know it feels like a month is hard these days but what we're expecting from everything we know is that we're going to be living with the pandemic for a number of quarters right that you know it'll take time for a vaccine to be the market if it's successful while therapies are making progress, again, that these will take time and that the virus continues to spread in many countries around the world so that this is not a, you know, it's done quickly scenario. And therefore, we're expecting that 2021 will be navigating through both headwinds of, you know, disruptions of some sort related to the pandemic, but also the continued societal response needed to that. And we think we're incredibly well positioned based on our quality, scalability of manufacturing, and very large install base, and very exquisite customer relationships. We feel good about that we'll play a meaningful role in 2021 for the testing volumes that are needed by customers. And what that number is is going to be, you know, is a very, very enormous range of outcomes. But our manufacturing teams... have been remarkable. And the power of our PPI business system has been astonishing. And if you think back, you know, when I was at the White House at the end of April, you know, I said that we're working our way to be able to produce, you know, 10 million kits a week. And that was late April. And, you know, by the end of the quarter, our manufacturing capacity, you know, is about that. And that doesn't mean we're selling that many because, you know, demand will ebb and flow. But, our ability to scale and meet whatever responses out there, we feel highly confident in that.

Great. And can you talk a little bit more about the academic outlook? I mean, you've got a fairly big chunk of your business tied to academic and university and colleges, and clearly there's a lot of uncertainty, particularly with this resurgence about how these are going to open. Can you walk us through academic and government as we look at U.S., Europe, APAC, and just to get a sense on what your customers are planning and, you know, how labs are, you know, how many of your labs are still closed. Just, I think, some general color. I think that's the other number one, that's the other big incoming question we have from investors.

Yeah, so in terms of academic and government and market, what you obviously saw disruptions around the world at the beginning of the pandemic with activity very quickly, you know, ramping down. As you looked at Western Europe, which, you know, actually, you know, started to strengthen steadily throughout the quarter, the U.S., which faced the pandemic slightly later than Europe, is, you know, a little behind, but on the same type of trajectory with activity picking up. The interesting country has really been China. was actually kept most of its universities closed for most of the quarter. That activity is picking up as well, but actually a little bit more slowly than one would anticipate, one would have anticipated. So the impact of that is, you know, obviously there weren't customers able to receive instruments as easily as normal and, you know, so we would expect that as academic and government customers reopen in that setting, you'll see instrument demand start to pick up as well.

Great. I'll get back to you. Thank you.

Thank you.

Your next question comes from the line of Jack Nehan from Nefron. Your line is open.

Thank you. Good morning. Good morning. Mark, I was curious to get your take on how much the tailwinds and share gains that you're seeing in the business right now, do you think are going to end up proving to be more permanent over time versus, you know, kind of the outside benefit you're seeing right now? And I know it's difficult to provide a three-year view when we don't have a one-year view, but just given all the moving parts, how do you think your position versus the 5% to 7% target you laid out a year ago?

Yeah, so, Jack, when the team's view, right, when we were sitting in February and looking at the situation in China, right, the team's view was having the very clear set of guiding principles, right, which was, you know, the obvious, keep your colleagues safe, support your customers' activity, and the third is manage the company appropriately in this environment. And we came with a very clear view of what that meant, which is, you know, of course manage costs tightly because there's going to be disruption to demand, but be very aggressive to position the company for a brighter future to solidify, strengthen, and hopefully even increase the growth outlook of the company for the longer term, right? Normal for us is 5% to 7% growth, and we've been taking actions, to create an even brighter future, right? So does it even mean to get higher in that range when you're in a normal environment or above that range? And we have no idea now, but I know we're taking the actions to strengthen the long-term outlook of the company. And because we've been able to respond so aggressively to help our customers navigate the pandemic, we're obviously in the midst of an incredibly strong year as well. So we're at this point, obviously, You know, we had about 7% organic growth when you look at the first half, so we're at the high end of our normal range, and obviously with the Q3 outlook, this could be a very significant year as well in terms of performance.

Okay. And then I wanted to also follow up on Kyogen. You know, clearly unprecedented time, so I can appreciate the justification for the price increase, but there have been some questions around whether 43 euros is enough. So I was just hoping you could comment on your appetite or lack thereof to raise the price further and just walk us through what happens next, you know, in the tender process.

Yes. So, Jack, thanks for the question. As everybody here knows, we're extraordinarily disciplined in terms of our capital deployment strategy and ensuring that where we deploy our capital, we're going to strengthen the company strategically and generate revenue. strong returns for our shareholders. The dynamics are obviously, as you said, very different, you know, from the beginning of March to now. And Kaijin's done a good job in terms of stepping up and making a real impact on society from a pandemic response. And we thought our way through that and had, you know, very good faith negotiations with Kaijin and came to an agreement at the 43 euros. And we believe that's the full and fair value In terms of our view is we were very clear in the process, and we disclosed that this morning, I think, early hours because of the German regulations. You know, that is our best and final offer, and the process is very straightforward. The tender, I believe, ends around August 10th, and if we clear the 66.67% threshold, then the tender – is complete and there's, you know, some mechanisms and the deal proceeds. And if we don't get the 66.67%, the deal is over because there's a cooling off period in Germany. So there is no revised offer. That is what it is and we think it's very appropriate both as the shareholders and we look forward to completing the tender process and then moving forward through the regulatory process and welcoming our over 5,000 new colleagues next year into the company.

Makes sense. Thanks, Mark.

Your next question comes from the line of Doug Shankout from Cohen. Your line is open.

Hey, good morning. Thanks for taking my questions. And, again, thanks to the Thermo team for all your efforts over the past several months. Just in terms of my first question, what end market expectations are embedded into your Q3 financial targets, excluding COVID-19 tailwinds?

You know, it's not a way that we manage the business quite that way. Let me try to get you an answer more about activity levels in the non-COVID and make some qualitative views around it. So for Q2, Doug, the non-COVID related businesses declined 10%, right, which was just above, you know, the better end of our expectations, you know, that we gave in the guidance process, right? So that's where it ended. June was down about 5%. So you saw it was April, May were worse. June was about negative 5. The range of outcomes that Steven articulated, you know, in the outlook for Q3 was a range of negative 5 to flat. The negative 5 would assume that what we saw in June continues throughout the quarter. The flat basically is a steady improvement throughout the quarter. And when you think about that, a normal quarter for us is five to seven percent growth on that business, right? So even at flat, you're still five to seven points below what we would have experienced for the last, you know, five, seven years, right? So it's a steady increase in activity is what is assumed. And when you look at that on the non-COVID related businesses, pharma biotech has continued to be the least impacted and would likely be, you know, the least impacted and you know, academic and government, industrial and applied, and the healthcare and diagnostics, they all should start to see some level of step up throughout the quarter is the way I would think about it.

Okay, that's super helpful. And building off of one thing you touched on there, Mark, I don't think in your prepared remarks you commented on instrument versus consumable revenue growth in the quarter or the exit rates. Would you be willing to share any details on those data?

Yeah, so it's very skewed by the tailwinds. When you think about it, tailwinds are largely going to be consumables right now. Excluding that, you know, clearly instrument purchases were, you know, at a lower level of growth than consumables and services. You know, customer activity has been relatively low. And we expect that to pick up in the second half of the year.

Okay. And one last one, you know, really building off of some earlier questions but trying to get a little more granular. Glaxo has talked about selling vaccines at about $10 per unit, which in their words is around cost. Pfizer this morning just agreed to sell to the U.S. at 90 per unit for their vaccine, which is, I think, just a smidge above cost. Is there a rule of thumb we can use on what percentage of unit pricing would typically be up for grab for Thermo, whether it's on a per unit vaccine basis or using services, I mean, just using that 10 to 1950 range, how much of that would normally, you know, end up going to Thermo as a, you know, as a component of cost?

It's really extraordinarily different to do. Let me just visualize it for you, which is why I really can't give you an answer. If you think about the vaccine, I can give you two different views of how it gets administered in those cases. One is single unit. meaning one vial, one vaccine. Another is a vial where you put a syringe in and take out the vaccine and you have, you know, 10 or 20 units of the vaccine doses in the single thing. You're going to get wildly different CDMO revenue or R revenue based on just even the filling strategy of those companies. So very hard to do a rule of thumb until you know exactly the dosage form and so forth. You know, is it, what's the technology used in the vaccine?

Okay. Thank you very much.

Your next question comes from the line of Pani Uda from SVB. Your line is open.

Yeah. Hi. Thanks, Mark, and congrats on the quarter, an impressive quarter here for sure. and thanks for your commitment to both research and improving the lives here with COVID testing and commitment to vaccines. So first one, if I could ask on capital deployment, given the COVID benefits you're seeing on testing and the growth you expect to see from vaccines, what is your thinking, long-term thinking, on capital deployment Given that the vaccines scenario is actually multi-year, as you pointed out, are you thinking about capital deployments any differently than before?

So, Puneet, thanks for the question. So, you know, from a capital deployment strategy, I don't think it really changes too much. You know, what I would say is, you know, over the longer period of time, it's going to be you know, a blend of return of capital and the majority being redeployed into M&A in the business. If you think about, you know, the past quarter or, you know, say March forward, you know, obviously a large acquisition in Tyogen, also a nice bolt-on acquisition which we announced and will close next year in CSL's biologics facility. And I think you'll see us do a cadence of, you know, smaller and larger deals over time with a steady return of capital. So, Our business is performing at a high level. Our expectations for the future is that it's going to perform at a high level, and that's going to give us very substantial cash flow to be able to redeploy.

And we will also increase CapEx significantly to address capacity and capability enhancements for the COVID-19 response as well.

Okay, that's very helpful. And my second question is on you have a unique vantage point, Mark, and a global perspective given Thermo's position and the scale and the speed that you pointed out to. As you look at research funding across the globe, there is an expectation here that the research funding is likely to grow. magnitude is unknown at this point, but could you give us a sense of that, given what you're seeing, given the magnitude of this crisis, what does this mean for the next five years across the life science tools industry, and more importantly for Thermo, when it relates to academic funding and research funding across the globe?

So, Puneet, thanks for the question. So, as we talk to governments and we talk to our customers and we you know, use our experience. You know, life science diagnostics and our pharma service capabilities, it's a fantastic industry with great market growth characteristics. You're seeing the industry perform well in this environment. My expectation is when the dust settles, the commitment to life science research, healthcare infrastructure is going to be even better over time than what the strong period that we enjoyed. and we're seeing some of the early, you know, excitement of the importance of the work. And so I'm very bullish about what the long-term, you know, benefits will be. And obviously there's going to be ebbs and flows because of the economy and affordability and those things. But, you know, but if I take the long-term perspective, I'm very optimistic for what our industry holds and for the strong competitive position that we've built to serve in that industry. Great. Thank you. Operator, we have time for just one more.

Our last question comes from the line of Steve Bouchard from Wolf Research. Your line is open.

Hi, good morning. Thanks for letting me run the anchor leg here. I have a two-parter for Mark as it relates to a couple of the subcategories within testing, and then I have one on the financials for Stephen. Mark, there are a couple of potential drivers of testing prospectively for you and for the space broad league One is screening. We've heard, just for example, a number of universities talk about reasonably high frequency testing of asymptomatic people on campuses. I wonder if you could speak to what extent asymptomatic screening is or is not in your plan and whether you think that could be a material tailwind. And then the second part of my testing question actually relates to serology. serology just hasn't caught on quite as well as we hoped initially. It just doesn't seem to be finding as many instances as we had hoped for of, you know, an antibody signal of immunity. Can you speak to how you think that market evolves? Are there ways we could get the yields higher?

Yeah. So, Steve, thanks for the question. You know, in terms of screening or asymptomatic patients, what we would say is back to life type activities, back to work, back to school. We see the interest level dramatically increasing with many different use cases, and we expect to play a role in a number of that, and some of that is embedded in the demand that is in Q3. And my take is that the methodology on asymptomatic screening, not the platform, but, you know, things like pooling and so forth, could facilitate some of that ramp up over time and some different strategies. So I think that will create a tailwind, you know, over time to support the activity while testing is relevant. On serology, you know, we're developing our assay. We're taking it through the regulatory process. You know, as the medical community better understands the immune response and what it means, serological testing becomes more relevant. And so right now there's capacity out there. There's, you know, You know, we're bringing out a high-quality test, and as customers need it, we'll be able to supply it. So we're going to turn to the wrap. Did you have one question for Stephen quickly that we should wrap?

Yeah, one question just real quick for Stephen. Can you put any commentary around, you know, cost savings that you've identified from, you know, things like, you know, lower T&E or other expenses from being virtual that you think are sustainable? Thanks so much.

Yeah, so clearly we control costs very effectively, and we're all learning to live in a different environment, and T&E expenses are going to be dramatically lower, I think, for the long term, since we're thinking about managing the company and taking advantage of the technologies that we've invested in over time. So my guess is probably a couple hundred million dollars over time that you get to that level of saving the of ongoing, you know, costs. So we're appropriately managing the company both short-term and then think about the long-term opportunities.

So we'll wrap here with first thank you for joining us today. We're very pleased to have delivered an exceptional support during a very challenging time. We're proud of our role in helping our customers and society and we're going to continue to manage the company appropriately to come out of this period an even stronger industry leader. We look forward to updating you on our progress, and I hope that you stay safe. And as always, thank you for your ongoing support of Front Row Fisher Scientific. Thanks, everyone.

This concludes today's conference call. You may now disconnect.