Merck Kgaa

Dear ladies and gentlemen, welcome to the Merck Investor and Analyst Conference call on the first quarter 2023. As a reminder, all participants will be in a listen-only mode. I am now handing over to Konstantin Vest, Head of Investor Relations, who will lead you through this conference. Please go ahead, sir.

Thank you very much, Sharon. Dear ladies and gentlemen, a very warm welcome to this Merck Q1 2023 results call. My name is Konstantin Fest. I'm head of investor relations here at Merck. I'm delighted to have today with me here Belen Garillo, our group CEO, as well as Markus Kunert, our group CFO. Please note for the Q&A part of this call, we are also being joined by Matthias Heinzel, CEO of LifeScience, as well as Peter Günther, CEO of Healthcare, and Kai Beckmann, CEO of Electronics. Also note that at the beginning of this call, for a brief introduction, we are joined today by Helene von Röder, as our newly appointed Chief Financial Officer as of 1st of July. Also, for your information, the first minutes of the call we would like to spend by guiding you through the key slides of this presentation. And after that, we are happy to take all your questions in our Q&A. With this, I'd like to now hand over to Jubilent Tukikekeke.

Thank you, Konstantin. Welcome, everybody, to our Q1 earnings call. Overall, Q1 has once again illustrated the strength of our business in a year that we have deemed to be transitional. Before I go on the highlights for Q1, please allow me to briefly comment on the changes that we recently announced at the level of the executive board. As you know, Marcus Kooner has decided to step down as CFO and as a member of the Executive Board as of June 30th. I wanted to take this opportunity to express my deepest gratitude also on behalf of the Executive Board for the tremendous contribution of Marcus to the company over the last nine years. We all wish him the very best. I personally have enjoyed immensely working with Marcus, first as a peer in the executive board, and then as a CFO over the last couple of years. At the same time, I'm truly happy to welcome Helene van Rother as our newly appointed Chief Financial Officer as of 1st of July. Helene brings with her an extensive experience in finance and in capital markets, having worked for 23 years in several big investment banks. She's joining Merck from Vonovia, where she served as Chief Financial Officer until 2021, and then transitioned to become Chief Transformation Officer responsible for digitalization and innovation in both positions, being also a member of the Vonovia Executive Board. As Konstantin mentioned, she is here with us today on the call and I would say it's probably better if she says a couple of words about herself. So, Helene, welcome.

Yes, thank you, Guylaine, for the opportunity to quickly step into this call and introduce myself. I am really excited to take over this task and there are indeed a number of reasons for that. I do know the company already quite well, as I have been a member of the Merck Supervisory Board of partners of eMerck KG for four years now. Secondly, I am passionate about capital markets and finance. As Belen mentioned, I worked for 23 years at various investment banks, both in London, UK, and in Frankfurt, Germany. And thirdly, I'm a trained physicist. And as such, I feel almost naturally attracted to a vibrant science and technology company like Merck, KGAA. In my latest role as Chief Transformation Officer at Vonovia, I was responsible for digitalization and innovation. And as such, I'm looking forward to sharing my experience here as well. It is impressive to see how Markus ran the financial organization over the last nine years. Let's be clear, he leaves giant footsteps. Starting July 1st, it is now my turn, together with the team. Markus and I have been working very closely during my tenure at the MERC Board, and hence you can rest assured that it will be a very smooth transition with Markus still being around as a member of the Executive Board of eMERC-KG. In a nutshell, I feel extremely honored to now serve make KGAA as a CFO and member of the Executive Board. And with this, I hand back to Belen. Thank you, Belen.

Thank you, Helene. So I have to say I was a bit surprised of the question that was raised around the announcement because several of you asked why are we separating this news from today's earnings release announcement. Well, let me tell you very frankly, first as a company which emphasizes people very much, we wanted to separate this important ORGANIZATIONAL ANNOUNCEMENT FROM OUR QUARTERLY EARNINGS RELEASE. THAT IS THE MOST IMPORTANT. AS A SECOND REASON, IT WAS ALREADY ANNOUNCED BY HELENE'S CURRENT EMPLOYER THAT SHE WOULD LEAVE HER POSITION ON THURSDAY LAST WEEK. AND WE WANTED TO LIMIT THE TIME INTERVAL BETWEEN BONOVIA'S RELEASE AND OUR OWN FOR OBVIOUS REASONS. SO NOW BACK TO OUR Q1 EARNINGS. I AM NOW ON SLIDE NUMBER 5. Starting with the highlights. First of all, organically, group sales increased by 1% and EBITDA pre-decline by 2%. Paired with a slight currency tailwind and a very minor portfolio effect, reported sales were at 5.293 billion, which is an increase of 2%. Slightly diluted effect on EBITDA pre and reported EBITDA pre of 1.587 billion was down by 3%. EPS pre of 2.36 was slightly down year on year. Healthcare was the best performer with 5.3 organic sales growth driven by the launches of Mavenclad and Baventio. Life science showed a robust organic growth of 7% in the core business and was slightly up despite the sharp decline in the pandemic-related business. In electronics, semiconductor solutions increased by 2%, significantly outperforming the market. That in combination with a meaningful decline in display solutions led to a minus 7% organic sales development in electronics. I am happy to say that our multi-industry setup is delivering and helping us to perform also in 2023. And as usual at this time of the year, we are further quantifying our guidance. We anticipate in 2023 net sales in a range of $21.2 billion to $22.7 billion, EBITDA pre of $6.1 to $6.7 billion, and EPS pre between $880 to $990, thereby confirming our qualitative guidance for organic growth that we shared with you in early March. We will come back to giving you more details on the assumptions later in the presentation. Turning to page number six, we see a bit more detail of our performance by business sector. As you see, healthcare and life science contributed very positively to organic sales growth in Q1, more than upsetting the decline in electronics. Our key growth engines in the quarter were where our new healthcare products, as I already mentioned, science and lab solutions within our life science business sector. In fact, in a challenging operating environment in Q1, healthcare took the lead with organic growth of 5.3, and that was driven by 28% growth from recent launches, with Babencio up plus 31% and Mavenclap growing by 23% in Q1, while the established portfolio remained stable. From a franchise perspective in healthcare oncology was the highlight, delivering an organic growth of almost 15%. Life science was up 1% organically, driven by the strength in the core business. COVID sales became dilutive to growth and were significantly down both year on year and also sequentially versus the last quarters as we expected. Yet, we performed well versus many of our peers, both considering our organic growth and our performance in the core business. In electronics, our semi business was up 2% in the quarters significantly outperforming a declining market. However, this was more than upset by the decline in display solutions and then resulting in an overall sales decline of 7% organically in Q1. A small portfolio effect in life science and electronics contributed very marginally to sales growth for the group. Currency served as a slight tailwind across the board on sales, adding 0.8 to sales at group level. Regarding earnings, EBITDA pre came at 1.59 million, down organically around minus 2, or minus 28 million. And this was mainly due to electronics. where organic EBITDA pre was down by minus 20% or minus 57 million in absolute terms in Q1 versus last year. EBITDA pre in healthcare was up strongly by more than 10% organically in Q1, driven by operational performance and, importantly, not yet including the repatriation of Babencia, of the profit of Babencia, which will only kick in as of July, so on the second half. EBITDA pre in life science was slightly down. Currency was a marginal headwind on EBITDA pre, mainly due to the Asian currencies, such as the Chinese renminbi and the Japanese yen, as well as emerging market currencies. With this, I'm going to hand it over to Markus that will comment and will provide additional color on our Q1 financial results.

Thank you very much, Belen, and welcome also from my side. I'm now on slide eight for an overview of our key figures for the first quarter. Overall, we had a solid start to 2023 in a challenging business environment supported by our multi-industry setup. Taking into account slight currency tailwinds and a minor portfolio effect from the positions of Exelit and Mekaru, net sales increased by 1.8% to 5.3 billion euro. EBITDA pre was down by 2.6% to 1.59 billion, with currencies having turned into a slight half a percentage point headwind. EPS pre-declined by 2.1% to €2.36. Operating cash flow came in at €853 million, which is an increase of 1.5% over the comparable period in 2022. This was mainly driven by a slower increase in working capital and the development of other assets and liabilities, namely upfront payments received and our delivery systems and service business within semiconductor solutions. Net financial debt increased by $664 million compared with the end of December, mainly due to short-term investments of our excess liquidity in a range of $800 million. Accordingly, net debt to EBITDA increased slightly to 1.3 times up from 1.2 times at the end of last year. Let me also briefly comment on our reported results. So I'm now on slide number nine. EBIT was down by 11.8% in the first quarter. In absolute terms, this was a decrease of 138 million, more than the 2.6% decline on EBITDA pre. This was mainly driven by higher costs for our ongoing efficiency programs, but also by higher depreciation and amortization resulting from higher investments in life science and electronics in particular. The financial result improved compared with an already low base, mainly due to an improved result from financial investments benefiting from higher interest rates. The effective tax rate came in at 21%, below the 22.4% from Q1 last year, and at the lower end of our updated guidance range. Despite a better financial result and a lower effective tax rate, net income and earnings per share were down by 9.6% and 9.4% respectively, driven by the declining EBIT. With that, let's move on to review the sectors, starting with life science on slide number 10. In life science, the sales growth slowed down to 0.6% organically in the first quarter. The core business was up at a robust 7%, while COVID-related sales continued to decline and had a dampening effect of minus 6% on organic growth. From a portfolio perspective, process solutions and life science services were down due to the declining COVID business, while science and lab solutions showed a strong performance of 5.9% organic growth. Looking at process solutions first, growth in the core business came in at 3%, significantly below the 24% in Q4. and was only partly able to mitigate the COVID-related decline of minus 7%. The significant decline in core organic growth was mainly driven by adverse inventory dynamics, mainly at our large customers becoming visible only during the course of Q1. Order intake continued to decline year over year on the back of reduced COVID-related sales, and book-to-bill was again slightly below one as expected. Turning to life science services, here the sales were down 7.2% despite very strong organic growth of 35% in the core business, which was more than offset by a sharp drop-off in COVID-related sales to marginal levels as expected. The double-digit organic growth in the core was due to both the more mature contract testing business as well as the CDMO business, which benefited from positive batch phasing. Sales in science and lab solutions were up 5.9% organically on healthy growth of 7% in the core, given positive pricing and a robust performance across portfolios, regions, and customer segments. With regard to earnings, EBITDA pre-decreased by minus 1.4% organically, while the margin came in at 36.2%, down 170 basis points year-on-year. This decline reflects product mix effects and ongoing growth investments in our organization. For example, capacity expansions and process solutions and CDMO activities. If we now take a quick look at 2023, I would like to point to two developments. Firstly, we only started to see the destocking dynamics at our customers and process solutions during the course of Q1 and expect this dynamic to continue throughout Q2. Additionally, we had particularly strong organic cost sales growth in Q2 and Q3 last year, mainly driven by process solutions. Secondly, the EBITDA pre-margin in Q1 was helped by a temporary uplift in the gross margin also on production cost efficiencies. And a number of dampening effects on the EBITDA pre-margin, such as adverse mix effects, a higher operating expense base for our ongoing strategic investments, as well as reduced operating leverage, will only start to become more visible during the course of 2023. With that, let's move on to healthcare on slide number 11. Healthcare delivered organic sales growth of 5.3% in Q1, comparing very well with our qualitative guidance range we provided in early March. Recent launches grew 28% organically, while the established portfolio grew slightly by 0.3%. By franchise, oncology increased 15% organically, mainly driven by Bavencio, up 31%, and supported by Abitux, which grew at 4% organically. End of March, we announced to regain exclusive worldwide rights for Bavencio, and we will take full control of the global commercialization effect of June 30th. Our NNI franchise was down slightly, 2% organically, with a strong Mavenclad performance of 23%, largely offsetting an amplified 25% Rebif decline in the quarter. Mavenclad benefited from patient wins in North America as well as lower comps. The Rebif decline, on the other hand, was partly driven by unfavorable channel dynamics in the quarter. Fertility grew 7% organically. Competitor stockouts continued in Q1, driving a stronger performance in various regions. However, this comes against the challenging market environment in China, where fertility saw a double-digit decline. The end of the zero-COVID policy led to a temporary slowdown of the fertility market in China. Regarding our pipeline, for Evobrutinib, we are progressing towards the readout of our Phase III RMS program in Q4. For Empathoran, our TLR7-8 inhibitor, we initiated a Phase II study in poly- and dermatomyositis, as indicated at the R&D update call last year. Regarding earnings, EBITDA pre amounted to $590 million, leading to a margin of 30.9%, slightly supported by FX. Organic EBITDA pre was up 10.5% in Q1, driven by operating leverage, mix, and low comms on gross profit. This strong performance was achieved with no income from active portfolio management in Q1, while we had around about 40 million in Q1 last year. Looking to 2023, we continue to see income from active portfolio management in a mid-to-high double-digit million-euro amount for the full year, with a significant contribution expected in the second quarter. Regarding the margin for the coming quarters in 2023, I'd like to say the following. We expect the sales momentum to prevail, mainly driven by recent launches, a normalization of our China business post-COVID, and continued competitor stockouts. As such, we see the EBITDA pre-margin level in Q1 as a good indicator for the coming quarters, based on operating leverage, mix, and cost discipline. I will continue with electronics on slide 12. Sales were down organically by minus 7.1% in Q1, while currencies had a slight positive effect of 0.8%. We had a small positive portfolio effect of 0.3% related to the acquisition of Korea-based McCarroll. Semiconductor Solutions performed strongly and remained in positive territory at a 2% organic growth, clearly outperforming a declining market and the MSI. Display Solutions was down 28% organically in Q1 against tough comms in Q1 last year, driven by continued decline in liquid crystals due to lower customer SAP utilization. Surface Solutions was down minus 5% on soft industrial and coatings, mainly due to a slower recovery in Asia. The EBITDA pre amounted to 237 million, implying a margin of 26.4%, down 380 basis points year on year, despite support from FX. Organically, EBITDA pre-declined by 19.8%. The main driver was display solutions on lower utilization, pricing, and mix. Semi-materials also contributed to the decline in EBITDA pre, as the weak market environment provided less leeway for price increases, while inflation continued to put pressure on costs. That said, let me also here briefly comment on the coming quarters. Looking at semiconductor solutions, our differentiated market position in semi-materials and our strong order book in DS&S should help to mitigate some of the market headwinds as we demonstrated in Q1. However, we are not fully shielded. MSI expectations for 2023 dropped from minus 10% to now minus 14%, and we expect the market downturn to extend to Q3 as customers are lowering their outlook and utilization. Turning to display solutions, our market view has not changed. We expect customer utilization in LC to remain low, at least in the first half, and a reduced contribution to sector EBITDA pre. Overall, we do not expect top-line momentum in margins in electronics to change meaningfully from Q1 in the short term, but continue to expect a recovery in H2 driven by semis, but more geared towards the later part of H2. This is reflected in our quantitative guidance. And let me mention again that the overall contribution of electronics to Group EBITDA Pre is limited. A 100 basis point change in EBITDA Pre margin of electronics moves the Group EBITDA Pre margin by only 20 basis points. Before heading back to Belen, let me also comment on our balance sheet and cash flow statement briefly. As you can see on slide 13, our balance sheet overall remained at the level from the end of December 2022. Zooming a little bit into the details, on the asset side, we see an increase in receivables and inventories, mainly related to our life science electronics business. Intangible assets decreased due to currency and amortization. Other assets increased due to the mentioned short-term investments, and so cash and cash equivalents declined. On the liability side, we have seen stable provisions for employee benefits as the interest rates have not significantly moved since year end. An increase in financial debt, which was offset by a decline in other liabilities, and a slight increase in net equity thanks to retained earnings. Thus, the equity ratio remained stable at a level of 54%. Turning to cash flow on slide number 14, Operating cash flow came in at $853 million and was up slightly compared to Q1 last year, despite a decline in profit after tax. This was, as already said, mainly due to a slower increase in working capital. Cash out for investing activities increased, primarily driven by higher capex to support our growth ambitions. Last but not least, the difference in financing cash flow can be explained mainly by a temporary change of financial liabilities to EMAG And with that, let me hand back to Belen for the outlook.

So, Markus, let's focus now on the guidance on slide number 16. So, as I anticipated in our first slide, we expect the group net sales in 2023 in a range of 21.2 to 22.7 billion. EBITDA pre in a range of 6.1 to 6.7 billion and EPS pre in a range of 880 to 990. And this is based on organic sales growth of plus one to plus four and organic EBITDA pre development of minus five to zero in line with our qualitative outlook that we shared with you in March. Currency is now expected to become a headwind of minus 2 to minus 5 for sales and for EBITDA pre respectively. And compared with our previous forecast of the minus 1 to minus 4 for sales and EBITDA pre, this is a slightly higher negative effect mainly due to a somewhat weaker USD and weakening ASEAN currencies, such as the ones I mentioned already, the Japanese yen and the Chinese renminbi. We have stayed confident on reaching our mid-term guidance of 25 billion in sales by 2025, despite the challenges and the operating challenges that we see in our environment in this transitional year, 2023. Now, moving into slide number 17, I will give additional color by business sector. First of all, we are moderating our forecast for life science to an organic sales development between minus 2% and 2% positive, and an organic EBITDA pre-development between minus 8 to minus 4 amid newly observed inventory dynamics in process solutions. We reiterate our guidance for total COVID-related sales of around 20 million in 2023, therefore expecting that this COVID sales will be diluted to our growth in 2023. Excluding the COVID impact, we forecast organic sales growth of plus 3% to 8% in the core business. Moving on to healthcare, we are raising our guidance for organic sales growth to now go between plus five to plus nine and for organic Evita Pre growth between 8% positive and 12%. On sales, a number of drivers play in our favor, complemented by an upside from this competition supply shortages. Evita Pre mainly benefits from performance and also regaining exclusive worldwide rights for Valencia effective June 30th. For electronics, we forecast an organic stage development of minus two to plus three, moderating our previous qualitative guidance range. For EBITDA pre, we are now specifying our guidance range to minus 12 to minus three to reflect a more pronounced downturn in the semiconductor market which might extend into q3 overall i'm happy to say that we continue to show to show great resilience in a continuously challenging operating environment and as a group we delivered on our promises in q1 and are confirming our group guidance on the organic development helped by our multi-industry operating model and with this We are going to stop here and we'll be happy, all of us, to take your questions. Thank you.

Sharon, first question, please.

Thank you. We will now begin our question and answer session. If you have a question for our speakers, please dial star 11 on your telephone keypad now to enter the queue. Once your name has been announced, you can ask a question. If you are using speaker equipment today, please lift the handset before making your selection. One moment, please, for your first question. And your first question is from the line of Matthew Wilson from Credit Suisse. Please go ahead.

Thank you very much. Two questions, please. The first on life science. We've had very mixed commentary from peers on near-term trends. So, Matthias, we'd love your perspectives. Firstly, on customer destocking, I think you've suggested it's going to extend into 2Q. When do you expect that to recover? What's a realistic underlying buyer process growth trend for Merck and the industry when things settle down? And we've heard a lot about biotech funding slowdown, but your SLS business performed extremely strongly. So did you gain share? How did you do better? And then secondly, a question for Peter, and it's a big picture one. I'm sure we're going to hear a lot about Evobrutinib on the call, but I know that you've decided not to pursue EGFR mutant phase three for Tocotinib. We've obviously got questions about Evo's safety. It basically feels like everything now rests on Zevinopant with Maven-clad Eloise. So how can you address that strategically within the business? And then finally, I just want to add, I want to wish Marcus well in his new endeavors. I think I can speak for many on the call that, Marcus, your tenure has brought significantly increased openness and discipline to the financial markets communication at Merck, which was extremely well received by us and many investors. You'll definitely be missed, and clearly we wish Helena well in her new role.

All right. Hello, it's Matthias. Let me take your first two questions, obviously starting with the destocking, so to paint the picture. Obviously, we saw that trend in the course of Q1 as a more stronger pattern. It's really happening in the PS business, mostly at larger customers, but they're really across the globe. And they take a more, I would say, strategic approach to inventory management based on normalized supply chains, right, reduced lead times, which give them more comfort to place their orders on time. Certainly also stronger working capital initiatives globally. And also to some extent, some customers are now starting to repurpose some of the COVID-reserved inventory as we are moving more to an endemic phase. So we expect that trend, which we only saw partially in Q1, now to show the full effect, if you will, in Q2. And then our assumption is that we will see an infraction point sometime later in Q3 and then going back to a more normalized level. Obviously, that's a look into the future, but based on our view and a lot of discussion with customers, that's the best view we have as we speak. So we'll expect in the second half of the year, PS kind of gradually going back up in terms of their growth rates. To your second question, indeed, LSS, we saw some very strong growth. At the same time, I would like to highlight again what I said before. Given the rather smaller base, especially in the CDMO business, we see more fluctuations. We are more dependent on individual batch phasing, and we saw that as a positive effect in the first quarter. I would not attribute that to a large extent of gaining share. Again, it's more related to batch phasing. And biotech funding, indeed, that's something we also observe. By and large, life science has only a small exposure as a total business to the early biotechs, a little bit bigger to life science services, but this is a rather small effect of what we currently see.

Yeah, Matthias, I'll take your broad picture question on healthcare. So first of all, on TEPMEDCO and EGFR mutation, the reason why we decided not to pursue the so-called inside tree study is an economic reason. Actually, the FDA requested a large-scale comparative randomized clinical trial. So given the cost, time, but also the intensity of the competition in that space, we decided not to pursue and make different arbitrations in our R&D portfolio. Now, coming to your question, first of all, I think it's very important to restate our confidence in Evobrutinib. I have been personally talking to many KOLs two weeks ago at the American Academy of Neurology, and when you really discuss with the KOLs there, Again, as we said before, they are absolutely used to do liver monitoring. It's a simple blood test. The healthcare systems are organized to do so. And more importantly, the promise of the product to really tackle the unmet medical need of PIRA, which is progression independent of relapse activity, is intact and continues to excite significantly the community. We are confident in the benefit-risk of the product. We are confident that a limited monitoring in time in the first two to three months will be implementable. And therefore, we remain very confident in the blockbuster potential of Evobrutinib. Obviously, you mentioned Cevinapant. We are looking forward to the interim analysis at the end of the year. We'll take it from there, and we think that the product really has very significant potential. I would also remind you that, of course, the EGFR mutation with METAMP, the fact that we will not pursue this indication will not change our midterm guidance for healthcare, so it was only a relatively small opportunity. We always mention that. And then you also have seen some progress in our pipeline, for example, on Enpateran, where on top of the lupus indication already mentioned by Marcus, we also go into dermatomyositis, for example. So we think we have sufficient lags, and of course we will continue to work hard to further reinforce that portfolio moving forward.

Matthew, Marcus here. Thank you very, very much for your remarks, and I will say a couple of words at the end of the call.

Thank you. We will now go to your next question. And your next question comes from the line of Sachin Jain, Bank of America. Please go ahead.

Hi there, Sachin Jain, Bank of America. I'd just like to kick off by echoing Matthew's comments to Marcus. Thank you very much for your help in the last years and best of luck for your next venture. To my two questions, similar topics, one on process for Matthias and one on EVO for Peter. On process, could you just clarify how much of an inflection you're assuming in the back end of the year in process to get to the bottom end of your guide? The reason for the question is differing commentary across peers. So Sartorius obviously expecting a significant inflection talking about, you know, plus 10, 15, 20% variables in growth rate. Danaher suggests she just want to get a sense of where you sit on that very wide spectrum. I wonder if you could quantify the biotech exposure that you have that was the predominant reason for Danaher's miss, and then any color on upstream versus downstream, which Thermo had referenced as the main sort of source of inventory. So long question on process, and then just one very simple one for Peter and Ivo. You framed the debate as just related to monitoring, but I want to really just extend the question a little bit. Do you have confirmation as yet of whether the two cases you've seen are Heise law? And if they are confirmed as Heise law, how problematic to approval would that be? And then beyond monitoring, what biomarker work and any identification of risk patients have you been asked to do, given Sam, if you have been asked for both of those? Thank you.

Yeah. Hey, Sajan. Let me take your first three questions. So I think, indeed, it's important for your modeling to really get a sense for the phasing in PS. And I just want to take the chance again to mention that we saw the Partial impact of the D-stock in Q1, we see a full impact in Q2. And then, indeed, in our kind of midpoint scenario, there's an inflection later than in Q3, moving up through Q4. So, yes, H2. in this kind of mid-case scenario will be moderately about H1. The lower end of the scenario, right, in terms of our guidance, would be that there's kind of no infection point coming throughout the year. And, of course, the upper end of the scenario would be there's a much stronger, I wouldn't expect an early inflection point, but probably a steeper inflection point during Q3. So I think with those comments, if you will, we are probably more, if you will, balanced, if I may say so. in terms of what we expect, certainly not a dramatic second half of H1 kind of improvement. On the biotech funding, look, just to size it, overall life science is less than 10%, if you will, exposed to the early smaller biotechs. So that gives you a sense then, yeah, I mean, if there is some reduction, short-term reduction in the spending, it does not have a substantial impact on total life science. A little bit more on LSS, I commented that before, we have a little bit of a high exposure there. So there we see here and there some batch phasing spreading out of programs, but maybe compared to some of the other comments you referenced, we don't see that as a major reason. And then your specific question about inventory destocking upstream, downstream. So by and large, upstream is more make-to-order, right? Downstream, if I generalize, is more also make-to-stock. You can use those products for multiple processes. So in that sense, the destocking, if you will, is more pronounced in the downstream part of our portfolio.

Yes, Sachin, on your question on Ipobrut and Ipluk, As we mentioned before, we have two patients, asymptomatic, fully reversed after stopping the treatment without any kind of need of medical care. So I think that's the first important point to mention. Second, I remind you that HICE law is actually a set of criteria that are aimed to establish the risk for serious drug-induced liver injury So, in reality, it's a constellation of biochemical measures, but also taking into account potential confounders. So, the final assertion of whether Heisler is met is made only by taking all of these considerations. Of course, we will not comment in detail on the ongoing discussions with the FDA. It's clear that from biomarkers, we are definitely looking into it. it's not easy because those would need to predict still very, very rare events. But we are working hard and diligently in the dialogue with the FDA.

Thank you. Thank you.

We will now go to your next question. And the next question comes from the line of Gary Stevenson, BNP Paribas. Please go ahead.

Hi there. Thanks for taking the questions. The first one, if I could just ask on electronics, please. So can you just help us understand what the visibility looked like here? I know in the past, you know, you've spoken to good visibility in areas like the S&S within the semis due to the product timeframes. But now with semi-materials growth softening and display remaining weak, it would be helpful just to understand what level of visibility you have there. And therefore, when you'd expect to have more clarity on the timing and the pace of the recovery that's supporting the guidance. And then I guess on the moving parts of the life science outlook, please, could you just help us understand really what's driving the additional conservatism implied by the guidance? Is it more just about the impacts of destocking now being felt in process or pressures from weaker bioactivity? Or generally, is it more broad based? And so any additional colour there would be helpful in terms of framing the areas where you're seeing more pressure and if there's any offsets in the mix as well. Thank you.

Gary, this is Kai speaking. I go first on your electronics question. So concerning visibility for the second half, so maybe three factors I would like to emphasize. Factor one, in display, the low utilization of our customers started last year late in Q2, so that is, of course, a much lower baseline that we will be facing for the second half. We see a recovery here for the second half in our model. DS&S, as you mentioned, will have some project phasing benefiting Q4. There is, of course, some positive impact from large project business in DS&S as well. And thirdly, on the semi-materials business, our model foresees the floor being hit in Q2. some stabilization in Q3 and a recovery in Q4. That's the current data that we see from the market and this consensus in the market at this point in time that this is the shape of the recovery curve we shall see, but it's the basis of our guidance.

Yeah, Gary, to your second question, it's indeed related to PS and developing dynamics around inventory, which I indicated before. which we see now more pronounced across the segment, across the globe, and that's kind of driving the adjustments we have made. Thank you.

Thank you. We will now go to your next question. And your next question comes from the line of Sophia Graf from J.P. Morgan. Please go ahead.

Good afternoon. Thank you for taking our questions. So in life sciences, how is the China business developing? When do you expect to be able to start retaking share in China? Or should we move forward to local competition? And then as a second question, what is your latest thinking on business development for life sciences now and availability of firepower for business development? given the evolving funding landscape and continued volatility in the market overall?

Yeah, let me take the first question around China. Obviously, Q1, we saw some dynamic in China related to the Chinese New Year, right, the post-COVID normalization. So we certainly also saw there a similar effect, like I mentioned before, around the destocking, especially in PS. SLS was running rather strongly, and we continue to expect that. And indeed, due to the constraints during the COVID situation over the last two years, there was, if you will, the ability for local competitors to gain share, right, to serve the local market. And now with more normalized supply chains, capacity being more available, it's certainly our intent to kind of, if you will, regain that share, and that's also substantiated or supported by expanding our local footprint. We mentioned before that we're expanding our footprint in PS in Wuxi, and we're continuing to drive that capacity because it's really crucial to then kind of serve the customers locally from within the country for the country.

Sofia, thank you for the question. Our M&A approach has not significantly changed from what we have already told you during the Capital Market Day and in other quarterly discussions. We are operating under the same principles, so definitely a strategic fit and value creation potential. We have already said that this can come in a form of a transformative bigger move or can go on a string of fails. And of course, that we are privileged life science because of the predictability of the market and our leadership position in certain business segments. Having said this, we have also said that the three big our big three growth engines are going to be subject of capital allocation and candidates for potential different forms of M&A in licensing to increase option, new technologies for electronics, et cetera, et cetera. That's basically where we are.

Thank you. Thank you. We will now go to your next question. And your next question comes from the line of Peter Thaddeus from Citi. Please go ahead. Your line is open.

Thank you. Peter Thaddeus, Citi. I don't want to make this a US biotech call, but it would be remiss of me not to also add my thanks to Marcus and best wishes on your next venture. So on to the questions. Peter first, please. Is there any rationale in your view or intention at Merck to pursue either Brutonib in the progressive MS setting. Mateus, just on the life science margin, pretty robust at 36%. My question is aimed at getting a sense of the conservatism you might have applied with respect to your full year margin guidance outlook. I know you've called out production efficiencies and COVID product mix effects that won't last, but if you could give any sort of ballpark sense as to the relative contribution of each, just to help us understand the degree of conservatism you've applied. And then, look, only if you allow me to answer this, but I can sneak in a sneaky third one for Kai. You've talked in the past about OLED offsetting LCD and getting displays stabilized. Is that, given the dynamics you're seeing now, out of the question in terms of when might you see stabilization of your display business? Thank you.

Yeah, Peter, let me take your question first on RMS versus progressive MSO. As you know, we decided to focus our resources to really look at relapsing MS, and I remind you that our MS, relapsing MS, is 85% of the diagnosed MS population, so that's number one. Number two, even more importantly, we believe that progression starts actually very early in the disease, and we believe that with early targeting of progression, we can show the biggest benefit to patients. Last, and this was also hotly debated at AAN, there is an emerging thinking that the concept of MS as one disease is kind of starting to emerge. Experts believe that the biological mechanism driving long-term disability are not really relapses of focal RMI activity, but rather smoldering inflammation leading then later to disability accumulation over time. So we really believe that we're investing in an area with the understanding and treatment of MS is moving in the future and not only reflecting today's understanding.

Hey, Peter. Yeah, on your questions related to the margin, so there are a couple of effects, usually in Q1. The margin is sequentially up versus the prior quarter in Q4. If you look at last year, that effect created about a 270 base point increase. It was even more pronounced two years ago. So there's some kind of that effect. And in Q4, we reported 32.6, and there was some one-time effects with some write-downs, so normalized 34.5% margin. So you see even smaller kind of quarter-over-quarter increase It was then, in addition, supported by some temporary production efficiencies. So that is a kind of a one-time effect during Q1. And we need to keep in mind what we mentioned before with the With the COVID kind of decline, we see a negative mixed effect. In addition, also with the rather limited or impacted destocking on the base business for PS, we also see a large impact on that, especially, as I mentioned before, in the second quarter, and that it will gradually kind of come up again as we see the inflection point for the destocking So by and large, I think what we provided with the midpoint guidance is, I think, what you should assume.

So, Peter, let me address your bonus question. So even under the kind of current ups and downs that we saw short-term, we still stick to our midterm guidance of display returning to growth in 2025. Thank you.

Thank you. We will now go to your next question. And your next question comes from the line of . Please go ahead.

Thanks a lot. I have two questions on life science, please. The first one is based on your guidance. Is it fair to assume that the process solutions core business should be roughly growing in the low single digits for the full year, and should most likely decline in the second quarter. My second question is on your science and lab solutions business. Pretty strong growth in the first quarter. Can you share the split between price and volume in Q1? And how sustainable is this type of growth for the next few quarters? Thank you.

Yeah, look, on the first question, we are not guiding by BU, right? But we gave you some, if you will, bookends. We said all All we use are contributing to the co-growth. So that's, if you will, a lower end of the book end. And the phasing is indeed what I think explained before with a stronger and full impact of the destocking in Q2, and then the inflection point coming in later in Q3 to Q4. So I think that's probably the best framing for PS. SLS, indeed performing well with a strong pricing component. A very high portion of that growth currently is coming from price and our ability to pass on high inflation cost to the end customer.

Thank you. If I can squeeze in a quick follow-up on life science. Can you just speak a bit broader about your level of visibility into the customer behavior at the moment amid the sea-stalking period? Thank you.

Yeah, Fargo, that's obviously a great question we all deal with, and I mean, Look, I mean, we have absolutely regular, intensive conversation with customers and also for their benefit, right, because to serve them well once they reach the inflection point. So, yeah, I would say intensified, very regular, strong interactions, and that's where we base our judgment on, right, regarding inflection points. And as you all know, also, customers navigate this environment with their end consumer and end customer. But I think the best judgment we can give you is what I explained before. Okay, thanks.

Thank you. We will now go to the next question. And your next question comes from the line of Oliver Metzger, OrdoBHF. Please go ahead.

Yeah, thank you. Good afternoon. My first question is on the display solution weakness. So you mentioned that in the next quarters the base effect might help, but that just is for momentum. How should we think about the underlying development? So is the improvement rather see more, you said earlier, 25, or when do you see some light at the end of the tunnel? Second question, potentially I've missed that, but can you make a quick comment how the book-to-bill ratio at the semiconductor business has changed over the last three months? And my last question is also about your visibility about the fertility business, the competitor stock out in some markets. Have you any idea how long this tailwind might last? Thank you very much.

So, Oliver, let me take the first two questions. So, on display, the model is, of course, based on assumptions how OLED grows in comparison to the ongoing decline of the liquid crystal business and, of course, our additional business patterning scales for the display industry. And this model still foresees the continuous growth contribution by OLED, and it hasn't changed to the assumptions while, of course, The short-term dip was deeper than we initially thought. It was based on the low utilization of the factories of our customers. Second question, there is no such thing as a book-to-bill ratio for the materials business in SEMI, since we are just following kind of the wafer starts demand of our customers, and they just order based on long-term contracts according to the volumes. they intend to produce in the next few weeks and months. And on that basis, of course, visibility is not that long that we have into the market since we depend on the decisions, on Wayfarer Start decisions of our customers. We saw recently Wayfarer Start cuts for the major customers across the industry. We see, however, some stability on specialty business and specialty devices. And that mix, of course, will change over time. And this is the basis for our assumptions into the second half.

On the fertility question, so according to the information that we received through some competitive intelligence in the market and others, we have an assumption that the the stock out of the competitor will continue in 2023 and possibly even into 2024.

Okay, great. Thank you very much. And also for Markus, you all the best for the future.

Thank you. We will now go to your next question. And your next question comes from the line of Simon Baker from Redburn. Please go ahead.

Thank you for taking my questions, and let me echo the earlier comments from Marcus. Thank you for all your help and forbearance over the years, and best wishes for the future. Firstly, on display, going a little bit beyond the here and now, when you gave the industry growth outlook a couple of years ago, it obviously didn't include the impact of AI. So I just wonder how, once we get beyond the initial cyclical challenges at the moment, how that has changed your long-term outlook for demand. And then secondly, a quick one on healthcare. You presented at AACR some early data on M1774. I just wonder if you could remind us of the development plan and timeline for that asset and your confidence in it. And then just a quick one for Marcus. on FX. If one looks at the difference between FX impact divisionally and at the group level, presumably most of the difference is by hedging gains booked in corporate. But I just wondered if you could give us a feel for any natural hedges and eliminations other than the hedging gains between division and groups as we think about between those two points. Thanks so much.

Simon, I'm not sure whether I got your question right. Are we talking about AI for SEMI or AR, VR for display? Just to be clear with my answer.

AI for SEMI, Sky.

So AI for SEMI, I think you're spot on. The current euphoria around AI tools such as ChatGPT, that will create definitely a lot of demand for compute and for memory on the long run. And the question is now how well are these additional requirements are already embedded into the market forecast, which is still very steep. A doubling of the semi-industry by the end of the decade is a very steep outlook. So we are not sure how much that is already embedded. It's definitely creating more demand for compute and memory on the short. There's no question about that.

Yes, Simon, on your question related to M1774, which is the oral ATR inhibitor. So we have completed monotherapy dose escalations, and the results were presented at ESMO. And actually, we do believe that the initial PKPD and target coverage data are very competitive compared to others. And, of course, this will bring us to move forward with different combinations with immuno-oncology, with other PARP inhibitors and solid tumors, and in parallel de-risking it by looking at the data coming from NEVIS, which is the option deal that we had with Nariano Medical Sciences. So we have plenty of optionality with this molecule and very encouraged by the early data.

Simon, my turn on your currency question. So first of all, clearly confirmed, the sector FX guidance do not fully add up to the group, obviously, because there are the hedging results, which have always a dampening effect on the currency effects on sales and EBITDA for the sectors. You have asked for natural hedge components or examples. Let me give you... two examples of natural hedging. So first of all, I would say the entire overall setup of life science is a natural hedge, if you want, predominantly against US dollar fluctuations. Reason is obviously bigger acquisitions of the past where we do not have acquired a sizable sales contribution to the group, but also obviously significant cost structures which are denominated in US dollar. At the same time, We have a higher vulnerability, of course, if other currencies are fluctuating. That is, by the way, the reason why the margin impact for life science is turning from positive to slightly negative now in today's quantitative guidance because the U.S. dollar expectations have not changed, but we see weaker Asian and some emerging market currencies which are affecting life science. The second example on a natural hedge is basically an entire currency, namely the Swiss franc. That is the only currency in the group portfolio where we have a short position. So this serves also as a kind of natural hedge to our overall net FX exposure. Perfect. Thanks so much.

Thank you. We will now go to your next question. And your next question comes from the line of Brian Bolchins from Jefferies, please go ahead.

Hey, it's Brian from Jefferies. Apologies, this was asked before, but on M&A, how are you thinking about the EDMO space, I guess, in light of what Thurmo did with Patheon and the fact that Catalan CVs now down to 10.7 billion? Thank you.

So your question is on the capacity that we have? No, I think we took them all. Are you... We didn't hear you very well. So look, we are looking at, I mentioned already before, so we are looking at potential targets that fit with the big three engines, right? So there we are looking at process solutions and life science services. and we are looking at healthcare pipeline optionality through licensing, and as I mentioned before, new technologies that would give, would secure the longer-term perspective of our semiconductor business. So you have to understand that we are not disclosing specific targets or business, but this is giving you a frame on the scope in which we are operating and scouting.

Thank you. We will now go to your next question.

And your next question comes from the line of Florent Cespedes, Society General. Please go ahead.

Good afternoon. Thank you very much for taking my questions. Two quick ones. First on fertility in China. Maybe if you elaborate a bit on how do you see the recovery? How and when is it a slow recovery or still some pressure in the short term? Some color on this front would be great. Second question, on the red beef, the sales are declining probably faster this quarter. Is there a change on the sales decline profile or is it just a matter of the first quarter being like this and the rest of the year will be more, a little bit softer decline? And last one, if I may, regarding the healthcare margin expansion you are guiding for this year, could you elaborate a bit what is behind? Is it mainly due to the

uh the balance here the new uh agreement uh the end termination agreement with pfizer or is it product mix a little bit of both some color would be great thank you okay thank you florence so these are three questions from me i guess so on fertility china so the breast q1 for for the reasons we already elaborated on so we expect a progressive return to normal um We have actually seen first numbers coming in of the month of April, which look relatively promising, so we are quite confident that China will return to normal, I would say, over the course of Q2 or by the end of Q2. I think that's a fair assumption. On Rebif, indeed, the Q1 was a little bit atypical, but as mentioned by Marcus, there were also some negative channel dynamics. I think in order to guide you moving forward we continue to decrease in line with the class, so there is no change in terms of competitive dynamics or so. But it is indeed a fact that the class as such, there is somewhat an increased decline on the interferon market, around about 15% to 20% rather than the 10% to 15% that we we originally guided, and that has, of course, everything to do with the intensity of the competition, especially in the U.S. market. In terms of healthcare margin moving forward, well, as you mentioned, it's a combination of factors, obviously. There is a positive mix in the products. Obviously, the Bavencio repatriation will have a significant impact as of July the 1st, And last but not least, we will also have seen that when you look at marketing and sales or also even R&D as a percentage to sales, it continues to be very tightly managed. And that results, of course, in a very nicely leveraged P&L.

Thank you, Sharon. I think we have time for one more last question, please.

Thank you. We will now take your last question. And the last question comes from the line of Matthew Weston from Credit Suisse. Please go ahead.

Thank you. I feel privileged. Bonus questions. Two, if I can. Peter, just on ibuprofenib, the one thing that's always struck me is that competitors have clinical holds for liver, but your trial was prospectively designed to avoid high-risk patients, but you still managed to pick high-risk patients up or appear to have done. Can you just give us some comfort that your discussions with the FDA mean that they are still at least considering that these drugs are approvable, despite the fact that when they tried not to avoid patients, they still managed to get on drugs? And then a second question for Kai. I noticed that Fuji recently acquired a business from Integris. And I would just love to understand for those naive pharma people on the call, me included, How does that business relate to yours? And does that potentially increase the competitive pressure with someone else owning those assets?

Yeah, so Matthew, on your question, at the end of the day, I think the question on approvability, it all depends on the benefit-risk assessment, right? Like any other product. I also remind you that the design of the phase three was nothing special as compared to any other trial in MS. So you had the classical exclusion criteria, so very similar to what we have seen in other clinical trials. And again, we are working hard on making sure that we get back to the FDA with the necessary reassurance in terms of monitoring and in terms of potential identification of at-risk patients. So that is work in progress, but given all these elements, we remain very confident on the drug.

Thank you.

Matthew, let me take the last one. Typically, of course, we do not comment on competitors and their moves, but just from the public sources. That refers to the so-called KMG business that was acquired by Antecris with the Cabot acquisition, and it was planned to be disposed of any time, and now it happened, and it's a rather low-margin business. I think it's not in any competition to our portfolio.

Okay, with this, I'd like to hand over to Belen, if there are any closing words.

Yeah, thanks, Konstantin, and thank you, everyone, for your participation in our call today, for your continued interest in our company, and for your great questions. Let me just try to wrap it up before I hand it over to Markus for the closing of the call. So, first of all, we showed, once again, resilience in Q1, uh powered by our multi-industry setup our global diversified model second we confirm our organic growth targets at group level for the year 2023 despite operating in an increasingly challenging environment that we have extensively discussed during the call we stay highly committed to vigorously executing in our strategy and delivering on our mid-term commitments for profitable growth and sustainable value maximization. And importantly, we look forward to meeting many of you in person at the upcoming roadshow meetings as we continue to update you also in the future as the year progresses. Please note, mark your calendars, that we will be hosting our Capital Markets Day on October 19th here at our headquarters in Darmstadt. And here the investor relations team led by Konstantin will send an invitation with details in due course. So we will be delighted to welcome you once again here in Darmstadt. And Markus, with this, please, the floor is yours.

The big honors obviously came at the end, so closing a call after the CEO notes. Joke aside, thank you very much, Belen, that you gave me the opportunity to say a few words. Let me tell all of you that it was a personally driven decision to now step down as the CFO of Merck after nine years. So when entering into the second term, it is, I think, quite natural to start thinking about the future. And I took the decision actually not to prolong my contract again, but to open the next chapter in my life after nine really exciting and rewarding years at Merck. I can tell you also it was definitely not an easy decision. I feel actually very privileged and grateful that I could make a contribution to this great company and that I could be part of the successful journey of the last years. And let me also tell you, I'm absolutely convinced that the success story will continue into the future. Personal remark, I do not yet have any concrete plans of what comes after. So everything what you might hear currently as rumors in the market is definitely wrong. This is for me here the last time that I'm on a my quarterly call. And let me also say to you, thank you very much. I know many of you since years, basically many of you since my very, very first days and early days at Merck, and I've enjoyed a big deal our conversations, also the challenges from time to time, and I think and feel that you as the knowledgeable partners of Merck, you make an invaluable contribution also to our success. Thank you very much, and I'm looking forward to hopefully some interactions in front of me in my last talk at Merck during road shows.

Thank you very much and goodbye.

Thank you, ladies and gentlemen. Thank you for your attendance. This call has been concluded. You may disconnect.