Accendra Health, Inc. (ACH) Earnings Call Transcript & Summary

Good morning, everyone, and thank you for joining us for this session on Day 3 of the BofA Securities Virtual Health Care Conference. I'm Michael Cherny, the health care tech and distribution analyst. And it's my pleasure to have with us senior management from Owens & Minor. We have Ed Pesicka, the President and CEO; Andy Long, CFO; Jon Leon from the Treasury side; and then Chuck Graves, who heads up Investor Relations. Ed is going to kick off, I believe, with a slide deck. And then after that, we'll get into some Q&A. I know Ed might want to highlight too, where you are today, given it's a big focus day for the company as well.

Sure. Thank you, Michael, and thank you, everyone, for joining us. Yes, I'm actually, today, in our Allentown distribution center. We have the privilege of being able to host President Trump here today, recognizing all the hard work that has been put into making sure products get out to our customers, so that way, they can continue to advance health care. So an exciting day for us. I'm really looking forward to it. With that, let me just start with the slide presentation. I'm not going to read it, but Slide 2 is the safe harbors. I think you have the opportunity to take a look through that at your leisure. Let me first start a little bit about who we are, just to make sure we ground everybody. So really Owens & Minor, it's a company that services health care. And we're grounded by 2 things, we're grounded by our values, and you can see those are our core values, the ideal values, starting with integrity, moving on to development and making sure we're constantly being able to adjust, pivot and find new solutions for customers. Excellence, now that's our standard. The best is our standard. And that's what we expect, accountability. And lastly, listening. I think it's an over -- not a miss -- a value that's missed, and we really exercise these values during pandemic. And then next, just there's some key highlights about it. It's about 70,000 teammates around the world, multiple facilities and significant amount of branded manufacturers as well as our own manufacturing capabilities. And the last thing is everything is underpinned by our customers and our mission. It's a very humbling mission. Our mission is here really, to empower our customers. We're here to serve them so that way, they can advance health care. Move on to Slide 4. I think for clarity's sake, it's probably easy to understand how we go-to-market and what our business is. We have 2 reporting segments, that's our Global Solutions and Global Products. Within there, we have what we're calling our 3 pillars of business. It's our distribution, our services and our manufacturing business, our products business. Internally, we refer to them differently, but if you think about the solution, that's that distribution, it's the classic Owens & Minor distribution business. It's the Byram Home Healthcare, which does both distribution as well as services. And then it's the portfolio of services that we have that can provide inventory optimization, flexibility within the 4 walls of our customers. And then lastly, there's great products. We have our Global Products business with the flagship brand of Halyard, with significant portion of our products manufactured in the Americas and which has really created substantial differentiation for us. And I think when we look at Owens & Minor put together, the ability to manufacture products, the ability to distribute them, and when I say manufacture, it's actually our people in our facilities, with our technology, our regulatory, our FDA compliance people, it's our teammates manufacturing those products. Then we can run those through our distribution channel or other channels and then whether that's their home health care business or the classic distribution and then services to drive efficiency. That's what we do and that's who we are as a company. Let me move on to Slide 5. On Slide 5, it's a quick update on COVID. So COVID has created opportunities as well as disruption for the business. One of the things I talked about earlier that's come through clear is that Owens & Minor is one of the leading providers of PPE with our own Americas-based manufacturing footprint. We talked about our Lexington, North Carolina facility that makes fabric, that makes isolation gowns. Our expansion of our facility in Del Rio, Texas to make additional N95s. What we did as a company, when we got the call, we flipped the switch and we went to 24/7, 4 shifts a week, so that way we didn't burn our people out. We were running 24/7, and we were able to increase our N95 production by 300% or able to increase our standard mass production by 50%. And then we tripled our isolation gown production all in the Americas. Let me talk a little bit about what that means in magnitude. So we are now making and distributing, of our own products, over 100 million masks per month. And we see that continuing from now until the end of the year. Those are some of the great positives that we've seen already. One of the downsides is we have seen elective surgery slow down. We saw that start at the end of the second -- first quarter -- I'm sorry, the last 2 weeks of March. That has continued into the second quarter. We are seeing some uptick a little bit here in the last couple of days, a few data points. But again, we expect the second quarter to continue to be slow but then that ramp-up in the third and fourth quarter. Here's some great stuff that's really recognized our great manufacturing capabilities. Department of Human -- Health and Human Service just awarded us a large contract to make N95 masks over the next 18 months. We were able to take fabric that we manufacture in Lexington, North Carolina, and ship 1 million square yards of that fabric to New York City, so the garment workers can put it together. And then we're adding additional production in Del Rio, Texas for N95s. We're going to more than double our N95 production in the United States. And this takeaway is critical. Just put it in perspective. Owens & Minor has distributed over 3 billion units of PPE since the beginning of February. So I think a little bit about our values and action. I've talked about those. I've talked about the importance, some of the things we're doing at Owens & Minor and you'll see it on TV today with our teammates. All of our teammates that come into our distribution manufacturing facilities have masks and gloves and they get temperature checks when they're coming in. We've implemented a remote workforce so that way, we can social distance. In addition to that, it wasn't something that was unique for us, it was really our ability just to take our pre-established plans and implement the remote workforce. And then, lastly, we continue to focus on every methodology we have to get the products to protect our drivers and the clinicians. It really comes down to one thing, our customers, our customers and our teammates are a priority. Taking care of our teammates and making sure that we're here to empower our customers to advance health care. If I move to Slide 7, let me just start with a couple of things. So a little bit of our businesses. I talked about the businesses before. I talked about the pillars: our products, our home health care and our medical distribution, and I talked a lot about our global products. And really, we're at record output of production, and we expect that to drastically increase once we get our incremental lines up and running. And that team has just done an incredible job. Our home health care just continues to be consistently both from a service level and growth level. They're doing a great job and we believe that as home health care increases due to the pandemic and telemedicine, they're going to continue to capitalize on that. And then lastly, our medical distribution business. Again, I said I'm here today. We have the President here today, which we're excited because these teammates have increased the output of product from the DCs to get them to the customers, substantially. And while doing that, we've maintained all of our controllable metrics. Our on-time deliveries still at our historical levels -- historical highs of 99%, and our accuracy is still at 99%. So even with the uptick in volume, the teammates have done just an incredible job maintaining that customer focus. So if I move to Slide 8, a little bit about Q1. Another good quarter. We continue to invest in infrastructure of our services technology. That infrastructure is primarily around our product manufacturing business and we were going to continue to do that. As I said in the fourth quarter earnings call, and I said in the first quarter of 2020, we are going to make the appropriate disciplined investments to drive growth and double-digit growth of EPS beyond 2020. Adjusted income per share was up 33%. So -- and that's also the back-to-back quarters where we've actually seen adjusted net income per share improvement year-over-year. For the third consecutive quarter, we've expanded gross -- our margin expansion, we've expanded gross margin by almost 88 basis points. That's partially mix and that's partially our operating efficiencies that drive that. And then we affirmed our full year guidance. We affirmed our full year guidance of $0.50 to $0.60 per share for adjusted net income. And that's on a constant currency basis. Let's talk from the income statement, moving over to some of the balance sheet issues and what we did this year. So what we've done already in the first quarter as we generated $93 million of consolidated cash flow in the quarter. So this is the fourth consecutive quarter, where we have generated positive operating cash flow. Not only that, we were able to take that positive operating cash flow, continue to pay down debt and reinvest in the business in some of those fastest-growing areas like our Global Products business. We paid down debt of $24 million in the quarter and now it's over $200 million of debt over the last 4 quarters, and continue to invest both in capital as well as in operating initiatives. So really, we have built an extremely strong foundation in a short period of time. We continue to strengthen our foundation and we're going to continue to leverage those areas that provide long-term sustainable growth. Talking about the foundation and continuing to build on that, we did announce earlier in the year and the last year, early this year, about selling our Movianto business. That's still expected to close in the second quarter. The sale price on that is $133 million. These proceeds will be used to continue to pay down our debt and deleverage our balance sheet. In addition to that, our treasury team did a great job making sure we got our credit agreements approved and create financial flexibility, and then we entered into a $325 million accounts receivable securitization program. So all those aspects of running a business well to improve the operation, continuing to focus on the discipline of cash flow and operating cash flow, continuing to pay down debt and deleverage the balance sheet as what we've done over the last 4-plus quarters. With that, let me talk about why I am so optimistic about our company and where we're going. First of all, we are extremely well positioned. I talked about this a little bit earlier but we're well positioned because not only do we have an Americas-based manufacturing footprint, we also have a great distribution channel, we also have great services within the hospital, so that way, having that control of that complete value chain, our customers have seen the significant benefit of that versus buying PPE product that's primarily manufactured in China at third-party manufacturers. So it's really created differentiation for us and we believe that's going to help us continue to grow in the future. Why are we positioned? I talked about it earlier, our balance sheet, we continue to deleverage the balance sheet through the divestiture of Movianto and through just great operating processes. Next is really the nimbleness and that's what this COVID impact has shown us. We had the ability to pivot. We had the ability to basically double our production output of all of our PPE products. We had the ability to adjust our line, so that way we could move product out of our distribution centers faster. We have the ability to pivot, when there was down outages to quickly make kits for customers back in January, so that way, they didn't have any surgery delays. That nimbleness enables us to continue to adjust to our customers and it goes back to one of our values, and that's listening. Listening to what our customers' needs are and then completely adjust. I talked about -- we reaffirmed our guidance for the full year of $0.50 to $0.60 adjusted EPS. And we believe that's possible. We know that there's going to be some downs and ups. We know that the second quarter is going to be extremely tough because of the lack of elective surgeries. We know that we're assuming that they stay at that level for the whole quarter. If they come back a little earlier, we just believe that we'll be pulling elective surgeries from Q3 and Q4 into Q2 instead of making up those -- that pent-up demand in Q3 and Q4, we'll see some of that potentially come into Q2. But we are really -- we are comfortable associated with our $0.50 to $0.60 adjusted EPS. Frankly, what I see is that our long-term double-digit earnings growth beyond 2020 is what we're going to achieve going forward. So with that, Michael, I will turn it back over to you and take any questions as appropriate.

That's a great start. And I'm going to, I think, dive a little deeper into a couple of topics that you had. So first, on the PPE demand. I'm not sure that you could be doing any more from a manufacturing side, from a sourcing side, to fill whatever demand there is for PPE. That being said, I'm still guessing you're not coming close to filling the demand, just given the sheer outsized magnitude. Can you give a little bit of color on the supply/demand imbalance in terms of how much the health systems that you work with are currently requiring versus how much you are just physically able to supply them?

Yes. I think, Michael, the way we're thinking about that is we're looking out to the end of the year right now and then beyond. And we don't see our manufacturing side, any slowdown from 24/7, from now until the end of the year. And that's based on demand for usage. That's based on customers saying, "Hey, even if we do catch up later in the year, we still want to build some level of safety stock." So for -- I look at our Americas-based manufacturing, even when we add the additional lines for N95 and again, double our capacity of N95s, we don't see anything less than 24/7 from now until the end of the year. It looks like that's going to keep continuing on going forward, too. So that's what we're seeing and that just tells you that right now, the demand exceeds the current supply.

Got it. And I guess along those lines, have you started to get a sense, whether it's PPE or other basic supplies, how much safety stock versus traditional levels that your customers want to hold?

I think one of the issues, currently, is really capacity constraints. When you think about a hospital, space to be able to hold safety stock. So that's something else that we're working with our customers. If necessary, we can hold, and we will hold safety stock for our customers as dedicated inventory, where we're managing it on their behalf. So it's less, first on safety stock per se. It's more than just -- we think the demand is going to continue. And then even if it doesn't, even when it does slow down, we are going to build some level of additional inventory anyway within our distribution centers to make sure we have the ability to serve our customers.

And along those lines, I think you're doing by far the right move and keeping the elevated level of manufacturing on plants. How do we think about the cost trade up on that? Did you hire more people? Are you just reshifting how people work? Just give us a sense on how it's functioned operationally for you.

Yes. So let me break it down between -- a little bit on our -- Michael, if I can, between our different businesses. So let me start with our manufacturing. So yes, we did hire people. We hired a significant number of people we brought in. And it took time to get them up to, I would say, normal output because of the training and getting them up to speed. So we have incurred incremental expense. But on the other side of it, you get fixed cost absorption. And that fixed cost absorption helps offset that incremental expense that's out there. And that's what -- that's how we've looked at it more on the macro level to be able to continue to serve our customers. And we have had some inefficiencies because in the past, normally, you would ideally wait until you had a full truckload to ship a full truckload of PPE product to a distribution center. Now we're doing -- we're doing less than truckloads from our manufacturing facilities to distribution centers, just because we want quicker turnaround on getting the product up. So that's created inefficiencies. But in the same sense, again, with distribution, with manufacturing,the volume through, lets you get the fixed cost absorption to offset that. On our -- in our distribution business, in our medical distribution business, we have seen different areas but we've had hotspots, where we've had huge demand of product and we've been running relentlessly at those locations, including overtime. And we have other parts of the U.S. where there's been less demand and what we've done is -- what we haven't done is gone and done mass layoffs or furloughs. We've taken the people there and we're doing other things to drive operating efficiencies and lean production methodologies. So that way we can -- while we have that time, making sure that when we do ramp up with elective surgeries, again, we're running more efficiently than we did before. And in our home health care business, very similar. They saw a ramp-up as this began and they continued to see normal course of business post. So that's kind of, you look at it, our 3 different main businesses. And then lastly, in our service business, they're in the hospitals helping any way they can. So I think the short takeaway on this is we have seen incremental costs associated with the ramp-up, but we also have seen the ability to leverage, to get some fixed cost leverage to offset that.

Got it. That's very helpful. And you made some comments about what's built into your guidance in terms of the thought process of elective procedure. I actually found it interesting, your comment around the 2Q dynamic or if you see any upside that's more coming versus -- from 3Q and 4Q. Is the assumption to be made there that we're not looking at 2020 or the 2020 exit rate even, where you're at a "normalized level of elective procedures?"

Yes. So I think, Michael, the way we looked at it is -- and I'll just to try to explain this maybe a little bit different. So let's say there's 1,000 elective procedure -- I'll make it simple, 1,000 elective procedures that weren't done because of COVID. A portion of those 1,000 that weren't done will start to come back at some point in time in the year. We're assuming that they don't come -- that elective surgery stay at that low rate all through the second quarter and then a portion of those 1,000 that were missed come back in Q3 and Q4. So we're anticipating it getting close to the normal pre-COVID run rate in Q3 and Q4, with potentially a slight upside because of the pent-up demand. If some of that pent-up demand gets now pulled back into the second quarter, then we would anticipate the second quarter to be slightly better in Q3 and Q4 to be more consistent with pre-COVID. So overall, we still think there's going to be a portion of elective surgeries that didn't happen, that will not happen this year. So there still will be a gap.

So I guess along those lines to put it even more simplistically, which is how my mind works. If you're assuming some level above traditional 100% capacity right now for 3Q and 4Q, and in the event that because of some of the states starting to reopen, doctors itching to get back into the OR, that some of that starts to get pulled forward...

That's right.

Is that just a matter of coming -- going from maybe 110, 120, which are some of the stats we've heard, closer to 100 in terms of the back half of the year?

Michael, that's exactly the way to think about it, is in the back half of the year, if it's at 110 or 120 based on our model, and some of that gets pulled into Q2, then the back half of the year goes from 120, 110 down to 100, let's say, as in your example. That's exactly right.

Understood. And then thinking internally, you talked about a lot of protections that you're making for your employee base as they work. Can you give us a sense of what the service levels have been like across your organization, particularly for the Global Solutions business during this outbreak?

Sure. So one of the -- let me explain what we do for our people -- our teammates here. Everyone is scanned when they come in. Everyone has gloves, and everyone has masks. I think the other thing you think about is, let's say, you have a distribution center that's 200,000 square feet and you have roughly 60 people per shift. That's a heck of a lot of space to social distance when you're around forklifts moving around. So that's some of the things we've been able to do. So social distancing has been relatively easier when the -- if you think the magnitude of a warehouse versus the number of people working in it. We provided PPE to our teammates, hand sanitizer, masks, gloves and temperature checks. And our absentee rate is as low as it's ever been. So it just tells you the dedication of the teammates staying here. They know their job is to serve our customers and that's what we do, and it's our mission and it's humbling. And we have seen great work ethic. We have seen in a -- one -- I'll give you an example, one distribution center has more than doubled their output and their on-time delivery and accuracy has maintained at 99-plus-percent. We have seen some fill rates, some issues, and that's because our ability to get product from other suppliers that may manufacture it overseas and having difficulty getting that in. But when we do have that, we find unique ways to make sure we can find other products to service the customer. So again, I said earlier -- I may have said earlier, but I'm so proud of what our teammates have done in our manufacturing facility and our distribution centers. Everybody during this crisis to make sure that service levels have not dipped. If anything, the focus has helped maintain them and slightly improve some of them.

Got it. You had -- you touched quickly, I want to dive a little deeper on your at-home business. So much health care, whether it's through, obviously, virtual delivery or now at the home has shifted a lot faster than, I think, most anticipated because of the COVID outbreak. Can you just give us a little more flavor of the Byram business on some of the key products there? And what you're seeing in terms of any near-term or recent shifts in demand for products within that area?

Yes. So I think about that business, there are several categories that play in, whether it's incontinence, ostomy, wound care. There's other categories they play in, diabetes. And that's kind of a steady-state business, but as more and more -- more and more people are going to want home health care, you just take a simple example that says, okay, you have a caregiver out there treating a patient, whether it's a spouse or loved one or partner, somebody treating that patient. In the past, they may not have wanted gloves and masks and other protection while they're treating at home. We believe there's going to be a need for gloves and masks and additional products. And that's where you look through all of our pillars of our business, where our Global Products business can come in and help make those gloves and masks. So we do see it's an evolving marketplace and I think we're very well positioned for that market as it evolves. Because of what our total company does, not just for Byram Home Healthcare, but also our Global Products business too.

And along those lines, can you give a little sense on how you see the competitive dynamic of that area of the business shifting? And how you as an established traditional player competes against other parties that are trying to break in but with a much less robust product portfolio?

Yes. I think it's just continuing to do what we do and do it with excellence. It's continuing to look at our portfolio and the services offering. And it's -- without going into all the strategies, it's basically running the business and expanding it as this market continues to grow.

And turning to some of the comments from the first quarter. I think you did a good job highlighting the areas where things are going well, also some areas, clearly on electives, the visibility is challenged, I think, for the whole market. I don't think anyone would have faulted you if you pulled the adjusted guidance, but you did reaffirm guidance, which was a pretty positive telling sign in my book. Can you give us some of the pieces of visibility that you're looking into in terms of allowing you to drive towards that level of reaffirmation?

Yes. So we spend a tremendous amount of time with our customer base. And that's the entire organization, leadership team, our commercial team, and we're working with our customers to understand when they're expecting to start -- serve these back up and how they're thinking through it. So that's one of the data points we have. And then, we obviously do significant analytics with our own internal data to start to predict trends based on history and using certain data points. While there hasn't been a history on pandemic, there's other history data we can look at where it's been slow and comes back. So that's what we do. And I think, again, I don't want to sound hokey, but you keep going back -- I keep going back to our values, and one of our values being listening. It's just spending the time to listen to the customers and understand what their needs are and when they're telling us they're going to come back. And that's how we've mapped it out. I will tell you, it is fluid, Michael. It changes as customers' states are opening. They're slowly bringing surgeries back. And I think, historically, everyone's like to lump elective surgeries altogether. And there are very different types of elective surgeries. Some are much more needed than a pure elective surgery. So we're seeing that increase. And again, what we've done to position ourselves is we've made sure we haven't stripped our inventory down as electives went down because we know that as customers come back up and running, we want to be ready with all the products they need. So that way they can start to do their surgeries again.

Ed, taking a little bit of a step back with a big picture question, you've been at the company for, I think, a little over a year, if my math is correct.

That's right.

You've outlined previously a number of some of the structural ways you think OMI can continue to move forward as an organization continue to build on its strength. Clearly, some of that is starting to shine through with the work you're doing around the COVID outbreak. But as you think about what you've accomplished so far against your original plan and the path laid forward, how are those balancing out? And I guess, what has COVID potentially unmasked in terms of how your business model and the way you service your customers can evolve and change over time?

Yes. So it's interesting, Michael, it's unmasked but it's validated, too, is so in 2019, we kind of doubled down and we were putting an incremental equipment into our Lexington, North Carolina facility long before this happened. We recognize that our footprint is very different, especially around PPE than everybody else's footprint in the industry. And that was something that we believe was a differentiator. And I think COVID has validated that, has exposed that and has been extremely helpful. I also think that the other thing that was key and critical were 2 other things, and I've talked about them a lot in the last year. One was service. Our customers have to underpin everything we do. And it was just -- and it will continue to be this relentless focus around customer service. And I use that word in a broad sense or those words, in a broad sense. It's everything, from delivery to filling their needs, whatever is necessary to appropriately deliver the highest level of service in the industry. That was the second thing that we really focused on. The investment in the Americas, that the focus on service and then financial, really focusing on good, disciplined financial rigor from an investment standpoint, from an operating standpoint, from a cash generation standpoint, from looking at the assets of the business, which is one of the reasons why we're selling Movianto because it will enable us to deleverage the balance sheet and will enable us to focus on our 3 core pillars of business, products, our manufacturing business, our distribution business, our home health care and our service. So a lot of the things we set out to do have been validated, have continued to move forward. We just did a town hall with the entire team and we went back and reflected on our 2020 goals. And what's been incredible is not one goal has had to change because of COVID. It's actually fit right into our goals and our approach for 2020 into our long-term strategy. So pretty excited, pretty pleased about where we are. But really, this can't be done without our 17,000 teammates every day coming to work and expecting that our standard is excellence. So a long answer to a short question.

Excellent -- no, it's a long and thoughtful answer. And a great way to wrap this up because we are out of time, Ed. I know you have a lot of activities to prepare yourself for but really appreciate your time today and also all the hard work being done by you and the team for your customers during this outbreak.

Michael, thank you. And again, it just goes back to our mission of empower our customers. The heroes are really those on the front line who are treating the patients every day, and we're just honored to be part of the ability to help them do what they need to do most. So thanks for the time, Michael, and everybody else who joined. I appreciate it.

Thanks. Everyone have a great day.

Thank you.