Sonic Healthcare Ltd

Good day and thank you for standing by. Welcome to the Sonic Healthcare Financial half-year ended 31st December 2023 conference call. At this time, all participants are in a listen-only mode. After the speaker's presentation, there will be a question and answer session. To ask a question during the session, please press star 1-1 on your telephone and wait for your name to be announced. To withdraw your question, please press star 1-1 again. Please be advised that today's conference is being recorded. I would now like to hand the conference over to your speaker today, Dr. Colin Goldschmidt.

Thank you very much, Joss, and good morning and good day to everyone on this call. I'm Colin Goldschmidt, CEO of Sonic Healthcare, and I'm joined today by my colleagues Chris Wilkes, Paul Alexander, and Diane Ayres. It's a pleasure for me to present the half-year results of SONIC to December 31, 2023. If you can go please to slide three where we'll start, which is showing our headline numbers. First of all, our revenue number at $4.3 billion is 5% above the corresponding period last year. But of course, that now is not truly comparable to last year because of COVID revenue, which was present in the previous period. But if you exclude COVID and take our base business revenue, the growth is 15%. And I just want to call out at this point that the comparatives against the previous period are not entirely pertinent because of the difference in COVID revenue between the two periods. Our EBITDA number at $737 million for the half is in line with the guidance we provided at the AGM last year. And we are on track to achieve our full year EBITDA guidance. And we are pointing to it ending more likely towards the lower end of our guidance range. If you look at base business organic revenue growth, the number for the half is 6.2%. And a further headline on this first slide is that we are full steam ahead with cost reduction programs right around the company. A standout feature of this period is the approximately $500 million, that's Australian dollars, of new annual revenue that's been added, which has come from acquisitions and contract wins. In fact, this feature is very much a standout feature of this result release. And there are further acquisitions and contract opportunities under consideration. If you go to the next slide, and I'm going to point you straight to the chart because it is quite informative. And firstly, I need to say that the numbers in that chart represent actual reported revenue numbers, and they are by half. So first of all, just looking at the base business between this year and last year, that's the blue bars. The 4.27 over 3.70 represents the 15% growth in revenue on the previous slide. The base business revenue growth for the half, and that's H124 versus H123, is 15%. And if you look at the scale over four years, you'll see that we've added something like a billion dollars in revenue, in H1 revenue only. So that's the 3.34 to 4.27. And if you extrapolate that to full year of base business revenue, and I will take you back to FY19 because that's the first or the last year with no COVID revenue in it at all. I think back in 2019, the revenue was just over $6 billion. And if you take consensus for FY 2024, which is over $8.5 billion, you'll see that we've added something like $2.5 billion in revenue over five years. That's an increase of more than 40% in base business growth. Forget about COVID. You'll also notice from the chart going to the red bars that COVID revenue is just about disappearing. So our base business revenue growth trajectory has significantly strengthened more recently. And I definitely point to this fact as a sign of very good health. and underlying strength of Sonic Healthcare. Actually, this chart gives a good general overview of Sonic Healthcare as we stand now and just looking back over the last few years. Firstly, you can see in this chart the tremendous growth that we experienced from COVID testing, and we knew that growth was going to be temporary. Then COVID revenue disappearing, and its replacement by strong base business revenue growth, which we know is permanent. The recent strong base business growth is not just from M&A, but it's combined with strong organic growth. Both of these are very much driven by Sonic's adherence to medical leadership and the very high quality services that are integral to that culture. So you get a good look at just the recent past and everything that happened during the pandemic and how we've come out of that and replacing the COVID revenue with very strong base business growth, which we are confident is going to continue into the future. Onto the next slide in our guidance. As I mentioned, we maintain our EBITDA guidance as issued in August of last year at 1.7 to 1.8 billion. And our impression at this stage is that the EBITDA will land up closer to the lower end of our guidance range. There are a number of factors that have influenced this. First of all, the Belgian fee cut that came in on 1 January 2024. There's been currency exchange headwinds since August 2023. We've acquired Pathology Watch in January 2024, loss-making, and there is a positive factor in this, and that's the impact of the delay of the US PAMA fee cut. Our net interest expense is higher than we predicted back in August 2023. mainly due to additional acquisitions but also an increase in base interest rates and also the AASB 16 leasing adjustments due to higher interest rates and rents. The tax rate is likely to be approximately 27% for the year and of course our guidance still assumes current exchange rates and interest rates prevail. The next slide. which is slide six. Now, at November's AGM, we did alert to a more accentuated H2 versus H1 earnings ratio. As you are familiar, the normal seasonality is something like 46 to 54, H1 versus H2 in terms of earnings. And this will be more accentuated for the reasons in those sub-bullet points. Firstly, strong organic revenue growth in the setting of tight labor cost control. Now that's just one little bullet point, but it's a major point for the entire company. In our business, when we are experiencing strong organic top line growth in the setting of a very tight and almost unique labour cost control setting, there is a great opportunity to grow margins. So the ongoing workforce reduction programs to right-size the company post-pandemic continue. They are not yet complete, but certainly well advanced and well underway. It's a difficult one to explain this, but It was a huge challenge for the company given the massive growth that we experienced very suddenly as a result of the pandemic where we had to put on so many additional staff to deliver the services that we did. Then the synergies that will come from recent acquisitions and particularly SynLab Swiss in Switzerland and MLD and Diagnosticum in Germany. We've got an additional three months of the diagnosticum acquisition. It's settled in October 2023, so we will only have three months in the first half, but six months in the second half. There's contributions from recent smaller acquisitions, specific large procurement deals which are already completed more recently. We're in train in a program to rationalize our collection center infrastructure in Australia. And the initial contributions from our enhanced revenue collection system in the USA are beginning to come through now and will escalate, starting in H2 but going into FY25 and beyond, and also acquisition costs of $8 million in H1, which will be lower in H2. Moving on to the next slide, and this table perhaps serves as something of a bridge from the present situation to the near future, and specifically highlighting the earnings potential that lies ahead from recent acquisitions and the major contract wins that we have achieved. I think the big feature of this table is the addition of $500 million of new annual revenue that will come from these acquisitions and contracts. And just to quickly go through them, in Germany, there's MLD, Medical Laboratories Dusseldorf, Diagnosticum Laboratory Group, and four smaller acquisitions. And if you total those up, that's more than $250 million Australian dollars. In Switzerland, the big SynLab Swiss acquisition and pathology, Engi, that's almost $200 million. In the UK, we have won a new NHS contract, the Whittington Health Trust contract, And there is more to come there. Firstly, the Hearts and West Essex contract and the execution of that contract is imminent and its magnitude is bigger than the Whittington Health Trust contract. And then in the U.S., the acquisition of Pathology Watch, which we have down as U.S. revenue and it is U.S. revenue in the first instance. So we are rolling out Pathology Watch in the USA, but of course Pathology Watch will be applied globally across all our skin pathology, dermatopathology around the world. And so when you add to this table our strong organic growth to the 500 million, we're in a very strong growth phase right now. I think it's perhaps unparalleled in Sonic's history. Moving on to the next slide, and having shown the table, I think it's appropriate, and I guess another good segue, to consider the strong revenue growth in terms of or as a means to drive future earnings. So a few points on our earnings drivers, which will start in H2 of this year. but will certainly extend into FY 2025 and beyond. So firstly, the ongoing strong base business organic revenue growth and the operating leverage that comes from that, that's absolutely integral to our very basic business model. And so we're extraordinarily pleased that we've come out of the pandemic in a big way. and particularly at organic revenue growth level. Then secondly, the additional revenue and earnings that have come from recent acquisitions and contract wins, and specifically to mention SynLab Swiss, which is a big business, 175 million Australian, which we bought at low to zero margin deliberately. So this is a business which will convert, let's say, from zero earnings or margin to perhaps 20%. And if you calculate that, you're talking roughly 35, and it is growing already in our hands. 35 to 40 million of EBITDA will come from just that one acquisition. And we are very confident through our excellent teams in Switzerland to achieve that within the space of one to maybe a bit more years. Then the acquisition of Pathology Watch. We expect significant revenue growth and efficiency gains from this digital pathology platform. It's important to note that this is not just an efficiency tool, but one that can really drive growth in the dermatopathology market, sub-market, not just in the U.S., but also globally. Then the synergistic acquisitions that we've made in technology, and we call them diagnostic technology investments, and this includes Pathology Watch, Harrison AI, and Microbah. These are not just any technology acquisitions. They are all directly in our space and will add value directly to our core business. Important points to make. And then just the final two points, the rollout of our enhanced revenue collection system in the US is in progress and we expect material upside to accrue starting in FY 2025. And we do have now fee indexation in various markets and contracts, including Radiology UK, Belgium and Sonic Clinical Services. The Board of SONIC has ratified an interim dividend of $0.43 per share. That's 2% up on H1 FY 2023. It maintains our progressive dividend strategy. This dividend is unfranked following our fully franked dividends of 2023. Record date, 4 March. Payment date, 21 March. The next slide is on capital management, and it's an interesting one. We've shown this chart a number of times now, and I guess the standout feature is the return of our debt cover or the return trend of our debt cover towards our long-term average of just under 2.5 times. Our debt has obviously increased, the net debt, by just over a billion. largely due to the acquisitions that we've just mentioned, but we still have current available headroom of approximately $1.5 billion before the interim dividend is paid, and our balance sheet remains extraordinarily strong and well positioned for future acquisitions and other growth opportunities. The next slide shows our traditional revenue split pie chart. Compared to, say, a year ago, I think the only significant difference, obviously the whole pie has expanded quite significantly, total revenue $4.3 billion. Switzerland has increased its share of the pie and is now sitting at 10%, which is really good news. I think it was about seven, excuse me, or maybe eight a year ago. There's potentially more growth to come in Switzerland. You'll notice that the bulk of our growth is occurring in Europe, which is really good news. As I flagged before, the Australian lab segment of this pie chart, which currently sits at 24%, is likely to get smaller and smaller as the years progress. I'm going to whip through the country slides so that we can get to your questions sooner. So, and just give a few headline points, firstly on the US. Our base business organic growth was 4% for the half. At operational level, we've implemented our enhanced revenue collection system. We plan a full national rollout of Zyphon. And we have piloted the product in our smaller divisions with very encouraging results to date. So we look forward to significant upside, which will be at revenue and bottom line levels from this rollout. Our ThyroSeq test, which is our exclusively licensed thyroid cancer genetic test, continues to fly. Growth is incredible. One test, run rate revenue is something like, or it's very high. I don't know if I should mention numbers. And as I've mentioned, the acquisition of Pathology Watch, our initial deployment is in full swing in the USA and we have created a new dermatopathology division which has revenue in it of approximately 200 million Australian dollars and we have a lot of optimism for the benefits that will flow from Pathology Watch in this new dermatopathology division. Australian pathology on slide 13 is growing incredibly strongly at 9%. That's base business organic growth. Excuse me again. And at operational level, This organic growth is outperforming historical rates. We believe we're taking market share. We'll wait to see what competitors say. But we're certainly significantly above the Medicare growth rates. And we don't believe this is simply a COVID bounce. This is ingrained strong growth, particularly in our strength. in the specialist sub-market and hospital referred sub-markets, and we expect that to continue for a long time to come. We're also experiencing strong growth in genetic testing and a particular call-out to the one test that's now received Medicare funding, that's reproductive carrier screening, which is a test for three inherited genetic abnormalities. That test is growing enormously and it's one of those great tests, a bit like ThyroSeq and Oncotype DX which we'll come to. We don't know where that's going to go and I think there will be more and more of these high-end tests which Sonic Healthcare is so well equipped to offer. We've won a new contract at the Ramsey Healthcare Pindarra Private Hospital on the Gold Coast in Queensland. and operations have commenced there. As I mentioned earlier, we're now well into a program to rationalize our collection center infrastructure in Australia. And also, we are lobbying intensively through the Pathology Industry Association for indexation of pathology fees which have basically not gone up in 25 years. No indexation of pathology fees for 25 years, and there is a campaign under foot that some of you might have heard about, and we're hopeful that we get some positive response, possibly even in this year's Australian federal budget, which is in May. Moving on to Germany, again, base business organic growth rate is particularly strong, running at 8%. And like Australia, we have continued strong growth coming from specialists and hospitals. And this includes anatomical pathology, molecular testing, microbiome testing, and genetic testing. These are all high-end tests as opposed to the routine testing that we do as well. I mentioned Oncotype DX. We are the exclusive providers of Oncotype DX in Germany, and the growth is particularly strong in that test as well. The acquisitions that we've made, we are well advanced with the synergies that will come from these acquisitions in the near and medium and long term. participating potentially as a lead player in the consolidation of the anatomical pathology market in Germany and focusing very much on synergies that will come from automation in anatomical pathology and especially digital pathology and AI. This is where the pathology watch acquisition will tie in at some point in the near future. And procurements continue to add value in Germany. We've recently completed a number of deals with some success. Moving on to Switzerland, the base business growth there has been at 4%, which has been impacted by the fee cut which commenced 1 August 2022. So we're pretty pleased with that 4%. At operational level, obviously there's a lot of attention onto the SynLab Swiss acquisition with a huge amount of activity already well underway. We just mentioned here that we have rebranded SynLab Swiss to the name MediSyn, which is a play on MediSupport and SynLab, a mix of the two. And of course, MediSyn, quite a nice name. And really in Switzerland we're now as the number one player with three large essentially federated members, three brands that are being brought together, the three brands being Medisupport, Medica, which is largely Zurich, and now Medicin. And our efforts are now to integrate these and to get the required synergies and improved performance out of the entire operation. Very exciting what's going on in Switzerland. In the UK, on slide 16, our base business organic revenue growth is at a very healthy 13% and it's coming from both the NHS and private markets. I've mentioned that we've been awarded the 10-year contract for the Whittington Health NHS Trust and we're the preferred bidder on Harts and West Essex NHS Trust and the contract execution is now imminent. And there are further NHS contracts under consideration and negotiation at the moment. In Belgium, on slide 17, our base business organic growth is 6%. We suffered a 15% cut to the national fee schedule on 1 January 2024. That was partially offset by an indexation increase of 6%, and we're working to mitigate the effect of that fee cut through a variety of measures, particularly automation and other efficiency gains. Flight 18 is our radiology division which is performing amazingly well. Organic revenue growth is 11% and EBITDA growth of 19% and margin accretion of 160 basis points. Incredible performance from this division. It's coming from outstanding divisions and radiologists and staff all under Sonic's medical leadership culture, but we are investing in greenfield sites, brownfield sites, and really riding the wave of this trend towards higher modalities in radiology. That's MRI and PET CT, essentially. We've commissioned a new PET CT site in Brisbane in the first half, and another three are planned for the second half. There are five new greenfield sites planned for the second half of this year, and we are also using AI applications, principally Harrison AI's Analyse products within our businesses to enhance workflows and clinical outcomes. As you know, Analyse has released an amazing chest X-ray tool with a CT brain tool to follow very shortly. Sonic Clinical Services, that's our primary care division in Australia, revenue growth 12% and organic growth 4%, with EBITDA growth of 9%. The organic revenue growth reflects two main factors. One, an increase in our private billing. That means above the Medicare government rate. And also the targeted fee increases, which commenced on 1 November last year, which have been applied across the board. We're also ramping up all our operations to service the new Australian Defence Force contract, which involves pre-recruitment medicals for the ADN. Going to end the last two slides on digital pathology and AI, and just to set the scene Just a couple of definitions, if you don't mind, because there is some confusion about the terminology. So anatomical pathology is defined as the study of organs and tissues to determine the cause and effect of disease. It is the tissue that's usually cancers that are studied for cause and effect. Anatomical pathology is necessary for 100% of all cancer diagnoses. These are important points because anatomical pathology is an essential part of the whole laboratory industry or pathology space, and Sonic is one of the biggest players in anatomical pathology in the world. So digital pathology, refers to the digitization of anatomical pathology workflow, and this digital pathology and AI are set to transform anatomical pathology and bring about big steps in efficiency, quality, capacity, and workflow. The diagram that you have with you gives a quick explanation of what digital pathology actually is. So on the left we have a sonic pathologist at a microscope with a tray of slides sitting beside her, and that's the system that's been in place for a long, long, long time. Now radiology has already long ago digitized their workflows and their processes, but in pathology it's happening, about to happen, whereby we take that glass slide, that would normally be placed on the stage of a microscope. We digitize that. We scan the slide, that's the scanner below the arrow, and digitize it to provide a whole slide image to be viewed on a screen, which you see on the right-hand side. This is a revolution in anatomical pathology and one that we are keen to be absolutely at the forefront of, and I believe we are. And so going to the last slide of the presentation, just to re-emphasize that Sonic Healthcare is one of the world's largest, if not the largest, anatomical pathology providers. We have annual anatomical pathology revenue in excess of one billion Australian dollars, and we employ well over 1,000 anatomical pathologists around the world. It's probably not surprising that we are keen to become leaders in this space and as a result we are making significant investments in digital pathology and AI to unlock upside potential opportunities and also to drive revenue growth in this space. And the two major investments that we've made in this space are Pathology Watch and Franklin AI. So Pathology Watch as we have announced before, is a unique product. It's an end-to-end digital pathology platform incorporating all the necessary components that are needed to go digital. It's been designed specifically for dermatopathology, skin pathology, but of course it can be used for all the other disciplines or systems in the body where we also do anatomical pathology. So the first port of call is the USA. We have a large dermatopathology operation, as mentioned, in excess of 200 million Australian dollars. And we are in the process of adapting Pathology Watch to digitize our dermatopathology and to use the tools in Pathology Watch to our benefit, both in terms of quality and services, and also financials. So what it'll do, Pathology Watch, is actually accelerate Sonic's transition to digital pathology globally. First in the US, probably second in Australia. And we'll commence with dermatopathology, which is a large proportion of the entire anatomical pathology space. So something just in excess of 50% of all cases That's not slides, but cases of skin pathology in the whole anatomical pathology space. Pathology Watch also has an AI algorithm built in for skin pathology, and it has been working and is well advanced on an AI algorithm for melanoma. So this is a prognostic algorithm for melanoma. So there's blue sky upside on the side, not part of everyday operations. There are significant synergies that we've already identified between Pathology Watch and Harrison AI or Franklin AI. And moving on to that joint venture, that's Sonic with Franklin AI. As you know, Franklin AI is in the process of developing an AI tool for prostate cancer is the first product and there will be many more to follow and we're very excited about this particular product because validation studies will be taking place very shortly and it's fully supported by sonics pathologists globally and we plan to employ the Franklin AI product the initial one and subsequent ones within Sonic and to sell and commercialize these products globally. So I just want to reiterate as we end that this is really the exciting end of where we are at the moment where a big part of what we do is being digitized and it's going to represent a revolution for us and set to bring in huge benefits in this important space of pathology. So thank you very much. And Josh, I'll hand back to you so that we can take questions. Thank you.

Thank you. As a reminder, to ask a question, please press star 1 1 on your telephone and wait for your name to be announced. To withdraw your question, please press star 1 1 again. One moment for questions. Our first question goes from David Stanton with Jefferies. You may proceed.

Thank you very much, and good morning, everyone. Thank you for taking my questions. I just want to start with one maybe for Chris and for Paul. First half depreciation was about 343. Should we be expecting that level of depreciation for second half as well? Is there any reason why it should be lower, or indeed it probably should be higher going forward?

I think it is a good proxy for a run rate for the second half and going forward, affected obviously by the M&A, a bit of 4X. That could have a bit of an effect, depending on what happens between now and the end of the year, on 4X. I guess I'm hoping that the growth rate for that going forward into FY25, because some of that effect in depreciation these days, as you'd know from AASB16, is the flow through of rents, partial flow through of rents, which I guess in the last year or so we've had the CPI impact. I think in nearly all of our markets now the inflation rate is 3% or below. I think the effect of the rental increase on the depreciation number will abate from 25 going forward.

Very good. Thank you. And my second and final question, could you talk to the contributions that acquisitions made that you've outlined to first half FY24 EBITDA and what should we expect, I guess, in terms of EBITDA contribution from those acquisitions in the second half, please? Thank you.

Chris?

Yeah, look, there's a bit of a mix there, Dave, because you're aware that SynLab Swiss was about breakeven at Ibadar and a bit loss-making further down, and so that's a work in progress. As Colin mentioned, there's a whole lot of activity to bring synergies through, and so we're hoping that probably in the second half we'll see some bottom line contribution. And there is some contribution obviously from the, there's some little acquisitions that have more happened at the end of the year. So there's probably five plus million coming from them. And then there's obviously the the contribution from the bigger German acquisitions, which we haven't actually disclosed specific numbers, but you'd be able to work out from the announcements that we made when we announced those deals.

So Dave, in summary, I think if you look at the dates that these acquisitions were made, the vast majority are not in H1. There are some, so for example, MLD, Medical Laboratories Dusseldorf, that was July July of last year, so that's in, but the rest of them are either not in at all or only partially in. Diagnostic, as I mentioned, you've only got three months. We're going to get six months in the second half. SynLabs with basically zero in H1 and everything else will flow. Much the same with Engie and the Whittington, the contract in the UK and hasn't yet started. so nothing in H1, and Pathology Watch essentially hasn't happened and will start happening now.

Yeah, we should probably mention that Pathology Watch, I think Colin touched on it, is loss-making, so it'll have a slight negative effect on the second half, but with a whole bunch of work that's going on there, including swapping them from their relatively poor contracts to our contracts, just that move itself will go close to bringing that business to break even during the course of the second half and then beyond is the various contributions it will make through efficiency, revenue growth and the like that Colin's alluded to.

Understood. Thank you.

Thank you. One moment for questions. Our next question comes from Gretel Janu with E&P.

You may proceed.

Thanks. Good morning. I just want to start with pathology EBITDA margins. So if we rewind six to 12 months ago, you had talked at that time that pathology margins had stabilized. Yet we've continued to see a further step down sequentially in the pathology margin in first half 24. So what exactly has driven this relative to your prior expectations? Has it just been the high labour inflation and cost inflation? Have you not been as successful in reducing those higher COVID labour costs? And I guess going forward from here, is this now the bottom? And how should we think about the trajectory of margin improvement going forward? Thanks.

Yeah, Gretel, there are a few factors at play, obviously the main one being the reduction in the relatively higher margin COVID revenue. There's a little bit with some lower margin acquisitions, particularly the SynLab acquisition, and you're right, there's been some inflation pressures on salaries, partially offset by a bunch of initiatives that Colin alluded to. But I think it's fair to say that our view is that this is probably the bottom. We believe it's the bottom, and if you look at where we're guiding for the second half, you'll see that the margin in that period will be significantly higher than the first half, and the average of the whole year is not too bad. It's probably a couple of hundred basis points below where we were pre-COVID, but with all of the M&A and the synergies that come from that and the leverage effect of the strong revenue growth, I think we're pretty confident we can claw most of that back over the next year or two.

Just in terms of the stronger second half margin, so what is really driving that? Is it just the stronger top line or have you seen anything else flow through the top line?

It's a mix of the points that Chris makes. I mean the big one is the very strong top-line growth, especially organic revenue growth. But if you add to that further reductions in our cost structures, so whilst there is inflationary pressure on salaries, we are moving to right-size the company and reduce headcount, and that will continue, plus there's now a moderation of those inflationary pressures, particularly on salaries. As Chris mentioned, I think interest rates appear to have stabilised and therefore there will be less pressure on salaries going forward. This was quite an exceptional period or year in that respect.

There's also the synergies from the M&A, some procurement things. I think slide six gives you a bit of a list of some of the things that will be different in the second half versus the first half.

Gretel, just on the wages expense. We do reference in the 4D that if you exclude M&A and FX rates, the labour expense has gone up 3.8%, which is obviously a combination of less FTEs but increase in rate in that period.

Thank you. That's very comprehensive. Then just in terms of the rationalisation of collection centres. in Australia, how much are you looking to rationalise and why now? Is it just because you want to have a stronger presence in the specialty market and wanting to reduce further your exposure to GPs? Thanks.

Yeah, so Gretel, we have enormous exposure to general practice, even though we do call out our special strength in specialists and hospitals. You know, it's a story about what's happened over the last five to ten years where collection centres have proliferated enormously, including into most medical centres. And there was, I guess, a rationale that that was potentially a way to drive revenue. But, you know, over time, things have changed. Costs have gone up for all players. and many of these co-located collection centres, that means a collection centre in a GP practice or surgery, are perhaps getting to the point of being marginal. So if you can set up standalone collection centres close by, It's probably at this point in time becoming a better proposition to think about rationalising the great excess of collection centres that we have. I think we're very much at that point and doing it obviously very carefully, but I think it's going to yield benefits to Sonic. This is not something we're doing to lose top line and bottom line whereby the net result is negative. That's not going to happen. So we've been very, very careful about this. And we do hold strong positions in all our markets with referring doctors, and we think that that will come to our advantage.

Thanks very much. Thank you.

One moment for questions. Our next question comes from Leanne Harrison with Bank of America. You may proceed.

Yeah, good morning all. If I could start with the U.S. Revenue Enhancement Project. Obviously, you made some comments today about that progressing. But previously, you talked about the upside being in the vicinity of about U.S. $1 billion in 2025 financial year. You know, can you comment on that? Does that number still hold up? If that's a revenue benefit, can we expect most of that to fall through to the bottom line?

So look, our expectations from the Xipin system haven't changed, so we still have the same expectation. The billion US dollars was the amount of our US revenue that Xipin is being applied to, so that's largely our clinical laboratory operations in the US, our anatomic pathology operations in the US. are using a different system that we may change at some point, but it's not in the short term, whereas our clinical labs is a short-term project. So what was said six months ago was that we expect to achieve something in the order of 5%, maybe a little better than that, on that $1 billion once we've fully rolled out the system.

Okay.

Thank you.

And that would be top and bottom lines.

Okay. Thank you. And then if you could talk about that first anatomical pathology project that's in conjunction with Franklin AI. In terms of the validation study, you mentioned that that will be completed 2024 and that launched in that time period. Is that expected this half or are you referring to calendar year then?

I don't want to be too specific about this, but it's going to be commencing very shortly, so it might be straddling both. We're definitely starting H2 in the financial year. Whether it goes through into the latter part of the calendar year, I can't say at this point, but we are hopeful that this will be achieved very quickly. soon and in a short period of time because all indications are very positive about this product. We'll obviously keep the market informed and I'm sure Harrison AI, which is Franklin's parent, will also keep the market informed about this product as it goes through its final validation steps.

If we think about the launch timing across different geographical regions, is it likely to be simultaneously or sequentially?

Cannot answer that question at the moment. We'll probably start with sonic labs and then move beyond that to commercialize the product globally. None of this has been announced to the market yet, so best that I not say anything further.

Okay, thank you very much.

Thank you. One moment for questions. Our next question comes from Saul Haddison with Barranjo Capital. You may proceed.

Yeah, thanks. Good morning. Just a quick question. You've mentioned the second half waiting for EBITDA. I'm just wondering if you can also give us a sense of the waiting for the revenues as well.

We haven't put that in writing, so we can't be too specific about it, but there is a normal seasonal waiting of revenue to the second half. It's not as acute as the waiting at EBITDA. But there certainly is a weighting there. I think if you go back in our history, you can probably work it out for yourself in general. And obviously this time it's accentuated because of the timing of acquisitions this year.

Yeah, so Paul, on that basis, if I use sort of a slightly heavier weighting to second half versus seasonality, I guess the implication is that the EBITDA margin that Sonic needs to deliver to get to the full year guidance at the bottom end is about a 200 basis point implied EBITDA margin step up from 1H24. And I know Chris talked to the margin enhancing measures that are in place, but do you think that's a realistic outcome just based on the revenue seasonality and the cost out that's taking place?

That's absolutely our expectation and hence why we've reconfirmed guidance. I'm not commenting on the specific number you've put out there, but as Chris mentioned before, we certainly are expecting a margin uplift in H2.

And then just finally, if I take the bottom end of your EBITDA guidance, again, an estimate of the revenues, I think it translates to a A group margin, EBITDA margin of roughly 18%. If I go back to first half 20 pre-COVID, the group did 21%. What's the expectation in terms of the ability to close that gap back up to that pre-COVID margin?

Yeah, look, so I think I touched on that in answer to an earlier question. So I think with the The position as it looks for the full financial year 24, we're probably a couple of hundred basis points behind where we were in pre-COVID. And bear in mind, you've got to adjust for double A's, B16 effects and all that sort of stuff. But I guess we're pretty confident into 25 and 26, barring anything unexpected that if we maintain growth rates of 5%, 6%, which is which is great for us. The marginal profit that can come from that sort of organic growth combined with synergies coming from the M&A and the cost-out regime, and I should say that the reduced pressure that I expect we'll get on labour because most of our markets, probably Australia is the highest, still at sort of 4% odd for CPI, but all the rest are coming down and still reducing. I think the pressure on labour costs going forward will abate as well. So all of those factors together is quite positive for our business from margin.

If you think about just the SynLab Swiss acquisition, in this half it's something like a 50 basis point dilution to margin and as Colin touched on in his presentation, we're expecting a very significant increase in profitability in that business over the next couple of years. So as one anecdote, that's where some of that uplift will come from.

Yeah, no, that makes sense. I'm reflecting back on a year ago when I think commentary was, you know, base business margins were effectively back to pre-COVID levels. It seems like it's going to take a longer period of time, albeit with some dilutive acquisitions, sure, but it does feel like the OPEX growth has been a bit more excessive than maybe what was expected, but that's fine. Thank you.

Thank you. One moment for questions. Our next question comes from Laura Sutcliffe with UBS. You may proceed.

Hello, thank you. First question is just around some of the increasing lease costs that you mentioned. Could you just give us a bit more color on where those are rooted? So, for example, is there anything geographic that you've noticed? Is it that you are leasing things that previously you might otherwise have bought, or is it just a rates consideration?

Yeah, Laura, it's probably more that when I was referring to rent I was talking about our property rentals effectively, which tend to have clauses of something like 2.5%, 3% or CPI, whichever is the higher. So with CPI quite high, particularly here and in other parts of the world, that was flowing through in the rent cost, which then appears in depreciation and interest. With inflation abating, then we'll see a reduction of that impact going forward. Does that make sense?

And then the second question is just back on the anatomical pathology piece. You mentioned you have about a billion of revenue that sits in that market. Do you have a good sense of how that positions you versus large competitors internationally in terms of size?

Unfortunately, we don't, Laura.

I think we can say confidently that we're the number one player in Australia and we're probably the number one player in Switzerland. The anatomical pathology market share in the States is very hard to determine. As you know, we bought an entire anatomical pathology company, that was the Aurora Practices, which boosted our anatomical pathology in the States dramatically, but I don't think our big competitors actually separate out their anatomical pathology revenue. So it's very hard to say. I guess we could just say it's a major part of our business and always has been because it goes so closely with the medical leadership culture within Sonic.

All right, thanks very much.

Thank you. One moment for questions. Our next question comes from Andrew Goodsell with MST Marquee. You may proceed.

Thanks very much for taking my question. Just sticking with the margin questions for a little while, particularly those UK contracts, just wondering the cadence of the margin opportunity there. Is the start pretty low? before it actually increases. And maybe just quickly while I'm there, just obviously we know you've got the Whittington one, but just wanted to confirm that with the Hurts and West Essex, that the complaint on the process there has been resolved and therefore you've got a green light there.

So Andrew, the answer to the last question is yes, it has been resolved and that's why we're able to say that execution is imminent, execution of the contract is imminent. I think in general your statement is correct that when we take over these contracts, we take them over at a margin and then work to improve them. Given that we have a large modern comprehensive lab in central London, to assist in achieving synergies, that's generally what has happened with our other contracts. In the Hudson West Essex contract, there's going to be enormous potential to drive synergies and margin accretion, but it might take a little longer in that particular case. But nevertheless, we will take on the contract with profit and we're optimistic about where that's going to go because it's a big one.

And is that likely to be more a FY25 event for you in terms of getting started or could it kick in earlier?

I can't say at the moment and we obviously can't say too much more about the whole thing until it's actually announced formally. I think it'll be The contract will be done in the second half, but probably don't put anything in FY24. That's probably the sensible way to go. It'll be FY25 and beyond.

And just coming back, you did touch on the efforts to get indexation, and I noted that Pathology Australia has made a submission to Treasury for the budget. Is that the sort of process you're working through now and if you had any sort of early feedback about how the department would brief on this?

Yeah. This is being run by the industry association. Obviously we're members of it but I don't think there's any recent feedback. I think the approaches from the industry association to government were warmly received and I think our position is understood. I guess that's about all we can say. I don't want to mislead anyone about what the outcome is because we don't know.

I understand. Thank you very much. Appreciate it.

Thanks. Thank you. One moment for questions. Our next question comes from Steve Wien with Jardin. You may proceed.

Yeah, thanks very much. Good morning, Colin, Chris, and Paul. Just a question on the Australian pathology business and your exposure to the GP referral channel. I'm just wondering what that looks like at the moment. Clearly, the specialist segment's working well for you, but just trying to understand with the shortages of GPs and the reduction in, I guess, FaceTime visits, I'm just wondering what your performance has been like out of that referral channel.

Steve, I think your point is well taken that there is a reduction in consultations in general practice, but we've always been very strong in the three sub-markets, so GP, specialist, hospital, and the GP market is a very important one to us. but there's no doubt that it's not as strong as the specialist market at the moment. We're also very involved with referrals coming from online GPs as well, which has taken over a proportion of the face-to-face GP market, but we're well advanced with taking on referrals in that sub-segment, and it's a new one. Because that is part of the reason why the consultation rates are lower, because a significant proportion of patients are accessing GPs online. So we're not at all concerned about our position in that market. And I think I can say that confidently because of our great strength in the specialist and hospital markets as well.

Great. Thanks, Colin. And just on for Chris, just on the tax rate, just trying to understand why that's now going to sort of end up at the top end versus your original expectations. Yeah, maybe Paul can answer that one.

Yeah, so if I cast you back to the second half of FY23, we had an unusually low tax rate at that time, and we explained that that was because of the potential tax deductions associated with employee options and where our share price stood at 30 June last year. Our share price unfortunately at December this year was lower than that, and as a result some of the benefits that we saw in the second half of FY23 is effectively reversed in FY24. So depending on what happens with the share price from here, that might move the rate around for the rest of the year, but based on current share, or at least yesterday's share price, let's say, we expect it to come out around that 27%.

Great, that's understood. And then finally, we've already talked to this just on the collection system. You mentioned, I did have some expectation that that might contribute in the second half, but it sounds like that's more like an FY25 story now. And I'm just wondering with the pilots that you've done, what the sort of improvement in the doubtful debts experience has been. If you can give any sort of anecdote or landmarks from those pilots, that would be helpful.

So there is some impact in H2, but nothing's changed in terms of our timing, just to be clear. So if you look at Colin's slide, you'll see that one of the reasons H2 earnings will be accentuated is because of the revenue system in the US. But what we're saying is, and what we've said all along, is that the major impact will be in 25 and onwards as we roll it out to the bigger entities in our clinical lab business in the US.

Okay, got it. And then the performance, just how the pilots are tracking, what sort of experience you've seen in terms of improvement on the doubtful depth revision?

So it's in line with our expectation which I think again we touch on in the presentation. So it's going well. It's around that 5% potentially better but we're still talking about the evidence we have so far is still with smaller entities in our group. Some of the larger entities that have more recently gone on it, it's too early yet to make that assessment. But we have every expectation that it will still be around that sort of level.

Thanks, Paul.

Thank you. One moment for questions. Our next question comes from Matthew Shabir with Citi. You may proceed.

Good morning. Thanks for taking my question.

Just had one on the CCOTS revisions. The cut in Belgium, it's a small market for you, but a bit of a surprise. I was just wondering if there are other markets where... you know, your fees may be under review. Because back in, just in November, you had mentioned the expected fee indexation, but there was no mention of a potential fee cut. Thank you.

Yeah, so back then, it was not at all clear that there would be a fee cut. So obviously, if we knew about it, we would have said that it was a certainty. So in the rest of our markets, there's no indicator of any other fee cut coming. And as you know, there was one in Switzerland a year and a half ago. And other than that, there's nothing on the horizon, nothing in Australia. In fact, we're asking for the opposite here. And we're getting indexation in a number of markets, which is really good news. The strange thing in Belgium is the indexation plus a fee cut where you get a net – it was a net negative obviously. It's 15 against 6% indexation.

That's probably it. There is still obviously the potential for the PEMA fee cuts that were deferred from this year but in theory will happen next January but obviously industry continues to lobby in that regard and continues to push for the SALSA legislation, draft legislation that would mean that cut wouldn't happen.

How many years has it been delayed? It's four now. It's four years in a row that PAMA fee cut has been shelved temporarily, so we're hoping that that continues.

Yes, understood. Then just on radiology, I saw your margins expanded. quite healthily again, and you have those new green fill sides opening in the second half. I was just wondering where should we think margin will be going from here sequentially and into next year?

You sometimes get a bit of a negative effect on margin, not on profit, but on on margin from greenfields because it takes a little while for them to build up. So there's probably some effect of that that might flow through, but ultimately we're pretty selective about where we put our greenfields. So you'd have to think that reasonably quickly we'll get into a healthy margin situation. There's some brownfields kind of things as well with adding in some pets and that's quite margin accretive obviously in existing centres.

Yeah, got it. And just one final one on labor cost. You have mentioned that your labor cost control is almost unique. I was just wondering if you could elaborate on that and whether you think your labor costs in the U.S. could be somewhere around the 3% to 4% mark, like your competitors are forecasting for calendar year 24?

So I think that's probably more or less in line with where we are in the States. When I said unique, I was really referring to the job that was ahead of us post pandemic. And, you know, so we had, we had to climb a mountain to deliver that service. And that required a lot of additional people to provide that service different in different markets. So for example, in Australia, we ran, you know, so many drive through centers, and we did millions and millions of COVID tests right around the world. which requires people not just at that department testing level, but also at courier level, at front end level, where you're accessioning the cases. So once the pandemic was over, the big job was to downsize the company or right-size the company. And of course, so that was unique. It's never really happened. to this extent, obviously because we've never had a pandemic with that kind of volume increase ever before. The interesting thing about this, and I was hoping to get that across in the presentation, is that as the pandemic dissipated, so we're experiencing probably stronger growth than we've experienced potentially ever before. And so with that growth, You also have to handle that growth with equipment and manpower, person power. It's a balancing act of making sure that we are right-sizing the company to the most efficient level to deliver the margin accretion that we're talking about. We're confident that we're going to do that because we have a very clearly laid out plan in the next six, 12, 18 months to achieve that.

Got it. Thank you.

Thanks.

Thank you. One moment for questions. Our next question comes from Sean Lamond with Morgan Stanley. You may proceed.

Thank you. Good morning, Colin, Chip, and Paul. Hope you're all well. In the radiology division, you're seeing some really good margin improvement there, which is a disparate performance for TOPs. I'm wondering what are some of the key elements or points of difference that you might be observing?

So our managers would say brilliant management, which they are. But we do have an outstanding radiology division. When I say that, I'm talking about the leaders and all our radiologists and all our staff. Radiology often depends on the expertise and efficiency of radiologists and their enthusiasm for the job. It's a little different in pathology, but radiology is very radiologist-centered. So that's the first point in this. When you have that in place, an outstanding team of people in a division like this, and you have a professional or an industrial change that's occurring, and that's the shift towards the higher end modalities, which are higher paying and higher profit generating, then you will get margin accretion. And then thirdly, if you add to that, astute greenfields and brownfields additions to the existing infrastructure and all three of those are actually applying. So it is an opportunity to say a big congratulations to the leaders of our division and all the radiologists and staff because the performance is outstanding and we certainly expect it to continue. I think I always add on top of this is that Sonic's medical leadership culture provides the right environment for this to occur, where doctors, our radiologists, trust the system and are happy to work in the system and feel fulfilled. This is very, very important to answer your question.

Sure. Thanks, Colin. And on the AI piece, the adoption of Analyse AI, the chest X-ray program, I'm What might you be able to tell us, whether it be quantitative or qualitative, the impact of that adoption on the radiology division, and what learnings might there be for when you get the Franklin AI product out on the anatomical pathology side?

Yes, that's a difficult question. I don't want to say too much about whether there's... I don't want to pre-empt Harrison and what they might say, but in terms of Sonic, I think it's important just to realize that the chest X-ray product has upside potential, but it's not material because the chest X-ray is a fairly quick examination. So the opportunity for increased or enhanced performance is fairly small. But when you go on to CT Brain, which is a more complex examination that requires more expertise and more time, the upside potential for efficiency is much greater. We're certainly expecting benefits to come rather than them being already accrued as the Brain CT product is rolled out. On the question of the Franklin product, that's a very different story because the Franklin product, the prostate product, is applicable to the diagnosis of prostate cancer, which is no easy task for an anatomical pathologist specialized in that field. The reports are required to be detailed and fairly lengthy and often there's a lot of material that needs to be examined. So in terms of efficiency gains, In that particular tool, I think there's quite a lot of upside to come just in Sonics Labs. So we've kind of flagged that the Franklin products will be applied to Sonics operations, but also to be commercialized globally. So if you offer this product to a lab anywhere in the world, and can demonstrate, which we hope we can do via Sonix trials, that there is efficiency gains where pathologists are comfortable with the product and see that it's actually a great tool to assist them with the diagnosis, then I think there is a huge upside that will come to the Franklin Joint Venture. We're around 50% of that. And, of course, within Sonic, we do a lot of prostate cancer work right around the world. There will be upside for us in terms of pathologist efficiency as well.

Great. Thank you, Colin. That's all I have. Thank you.

Thank you. One moment for questions. Our next question comes from Craig Wong-Pen with Royal Bank of Canada. You may proceed.

Good morning. My question, I just wanted to ask about the cash flows. I noticed that the accounts payable did drop quite significantly from the last period to now. I just wanted to understand what has driven that. Give it to Paul.

Yes. So look, we touched on that in the 4D, Craig, just really timing of credit appointments.

Okay. So should we expect that to kind of revert back? sort of after December?

I think so some of that buildup was I think really related in some ways pandemic related. So I don't think it will build up to that same degree again.

And then just one last question on how we should be thinking about capex for FY24 given you've got a number of brownfield and Greenfield Investments. Could you provide any thoughts around how we should think about the four-year capex number?

Craig, it's Chris here. Look, there are a few things at play that have probably affected the first half more than the second half. We're building a fairly significant extension to our Solomon Nicolaides lab in Queensland, which is a $75 million It's almost finished. There's a lab we've built in Munich, a lab we've fitted out in Hamburg, and as you've identified, we've mentioned we've got a bunch of greenfields and they're all sort of circa five plus million each. So I think the second half is probably going to be a bit lighter than the first half because of the runoff of those two bigger projects. That's probably all I can really say right now.

Okay.

Thank you. That's helpful. Thank you. And as a reminder, to ask a question, please press star 1-1 on your telephone. One moment for questions. Our next question comes from David Bailey with Macquarie. You may proceed.

Thanks. Good morning. In the interest of time I'll be fast. Just in terms of the guidance you've called out some currency exchange headwinds versus August. Just wondering if you could help quantify those as you're seeing at the moment and sort of what are you assuming for the rest of the year when you say assumes current exchange rates? Is that as of now or is that assuming rates back in August 23?

So it's assuming rates effectively as of now over the last few days. And in terms of the headwind versus August, it's kind of in the order of call it $10 million, something like that, a bit below maybe.

$10 million at EBITDA line, that is. Yep, yep.

Thanks, Paul. Thank you. And that concludes the conference call. Thank you for your participation. You may now disconnect.