Agilent Technologies, Inc. (A) Earnings Call Transcript & Summary

Good afternoon, everyone. Thanks for joining us. Welcome to the Jefferies 2020 Global Virtual Healthcare Conference. I'm Brandon Couillard, I cover life science tools and diagnostic sector here at the firm. And we're very happy to have Agilent with us back at the conference this year in a virtual setting. And joining us from the company for this fireside chat this afternoon, Bob McMahon, CFO. If anyone on the line has a question, please feel free to email me. And I'll do my best to try to work those in. So Bob, thanks for being here, and thanks for joining us.

Yes. Thanks, Brandon. I appreciate it. And certainly, looking forward to having a chat with you and any of the folks that are on the phone. So...

I think maybe to jump into things. One of the things I think I'd like to just hear from your point of view is just how the Agilent organization has responded to the COVID situation. I think you've been pretty upfront about telling employees you're fine, don't worry, go back to work. How significant has that been to just mentality and culture and just focus?

Yes. It's a great question and one that I could spend the whole time talking about. I'm incredibly proud of how the organization has really reacted and responded to this crisis. I think we were one of the ones that was upfront early on and saw the impact in China. And actually, our China business actually performed better than what we expected in Q2. And as it spread, we're really focused on 4 key areas, and the first of which is what you talked about, which was really the health and safety of our employees. We instituted work-from-home policies, banned travel and so forth. And I think one of the key elements was Mike and the leadership team doing a lot of work around kind of what does this look like, but then also communicating to our teams that, hey, we are going to be here for the long run. Agilent has a broad portfolio, and we are not going to have layoffs. We're going to protect people's base pay. And back in -- it seems like a long time ago, but in late March, there was tremendous uncertainty around the world about whether or not people are going to keep their jobs and so forth. And I think that really settled down our organization and allowed us to focus on what we do best, which is focus on our customers. They weren't looking over their shoulders wondering if they were going to get -- what was going to impact their base -- their pay, how are we going to -- were some of their friends going to be let go and so forth. And I think that allowed us to really be laser-focused on what we need to do to try to weather this storm. We took some very quick decisive measures as well on the P&L and reducing expenses and so forth, but not at the expense of growth. And so I think that was a huge thing. It's hard to put in a spreadsheet, but the team has had constant communication, the leadership team with our frontline employees. And we're -- you'll hear our rallying cry: We're open for business. We have been and will be, and I think that really showed in kind of the results that we had in Q2. And I think it speaks to the -- what the power of an engaged employee base can do. And 85% of our folks are working from home, but 100% of our folks are still working for those customers.

I think the title of my -- of note coming out of the second quarter was the 0% probability quarterly report. And I think...

I got that on my wall.

Given that it captured April. It captured, obviously, arguably, the trough period, yet organic growth was only down 2%. And I think one of the things that sort of stuck out to me was your instrumentation franchise, LSAG, which has had its challenges for the past year or 2, but it was down 7% core, which was considerably better than most of the instrumentation businesses of your peers. What do you think were some of the contributing factors there to the relative outperformance?

Yes. It's a great question. And I think I'd start with, I think, this notion of keeping this employee population, the sales organization engaged played a big role in that and really focused on it. But I think what people probably don't appreciate is really truly the breadth and depth of our LSAG business, I mean, it's gone through a transformation over the last several years not only from a platform standpoint. I'd say we have the most refreshed portfolio that we've ever had across multiple end portfolios. But then also the investments that we've been making in some of the faster, more resilient businesses, things like cell analysis, our investments in biopharma and software and informatics. And I think those things were not just reliant on some of the industrial or the small molecule businesses and pharma. And I think that broad portfolio really allowed us to be agile in the marketplace to really go where the money was. And I think it started with our team in China where LSAG actually, for the full quarter, was actually up. And I think that speaks to how we're supporting our customers, but also the relevance of our broad portfolio. And I don't think we get full credit for that going forward.

Yes. I think it's a good segue. I did want to touch on China, which grew 4% in the second quarter. I think you had guided it to be down anywhere from 6% to 16%, including April, which was up 20%. Just how on earth did that happen? Can you sort of walk through some of the components of the recovery to kind of...

Yes, yes. We're incredibly pleased with our performance in China, and the team there has just done a fantastic job working with our customers. I think what we have is a -- we'd like to think that we've got a good pulse on what our customers are doing. We've invested a lot in digital in China through the WeChat platform. You've heard us talk about that in the past. And the quarter kind of played out as we expected and actually ended up being better than what we expected. Now don't book 20% going forward. There was some catch-up in April for March and February, as things were opening up. But I think what we've done has been incredibly close to our customers supporting them. And the products that we provide in the end markets that we serve are key end markets for China. And so we've seen that. We've got meetings every 2 weeks with represented -- or every -- twice a week, I should say, with folks on China on the ground, understanding what's going on, how do they -- how do we support them. And I think we've got a series of activities that show kind of how our customers by region within China are ramping up, and that allows us to move our resources where necessary to be able to support the customers. And I think that, that agility has really helped us grow that business. And I think the other piece is the investments that we've made in our ACG business, the consumables, the services. And then increasingly, in our diagnostics and genomics business provides kind of a resiliency, that annuity stream that, I think, will only continue to increase going forward and not only in China but, I think that that's really helping support our customers. And I think they really appreciate that. And I think that, that's an opportunity for us to continue to grow. As Europe and the U.S. come out of the shelter-in-place measures and so forth and start recovering from an economic standpoint, we'll be there to help them.

The thing within China specifically, which end markets are back online and back in business? And which are still lagging? I'm kind of thinking the government and academic, probably, I think.

Yes, yes. We -- the beauty of what we saw in China in Q2 and would expect it to continue into Q3 and the second half of the year, all 3 of our businesses grew. So LSAG was the -- it grew 1% core. But if you look at -- and then ACG grew high single digits and then double-digit growth, mid-teen -- high-teens growth for DGG. And -- but if you also look across our end markets, all of our end markets, with the exception of academia, grew in the month -- or in the quarter. So we've talked a lot about food. Food actually has had a number of quarters here of solid growth, and we think that, that will continue to recover. And then our pharma business, which has continued to be strong despite some of the noise that you've heard around 4+7 and so forth, that has grown and continues to grow. And then you saw nice stability in chemical and energy and then environmental and forensics. Our business or our exposure to academia in China is a little less than our overall business. We expect that to probably be a laggard in the second half of the year. There still are some universities that are closed, but I think the investments that they're putting in from an infrastructure standpoint, particularly in pharma, therapeutics and so forth, I think that, that will continue to help drive the growth. And I think our underpenetration in services and consumables, which has been a strong double-digit grower, will continue to grow nicely going forward as well.

Is China at all a relevant proxy for thinking about the recovery in other markets? And why or why not?

Yes. So we think so. Now we got ahead of this pretty early on with our China team back in January and have kind of followed that same playbook. Now there are differences. So I would say the measures that China took were more extreme and more consistent than what you've seen in Europe, in the U.S. But what we're seeing is one of the leading -- we see them as kind of a leading indicator for recovery. And we're actually seeing it in our business that Europe is recovering faster than the U.S. as shelter-in-place measures and the economic recovery is starting to happen. And we've been able to leverage some of the internal metrics and performance indicators around service activity, how we're interacting with customers. And what we saw in China was a decline. And then now that's back to normal, in terms of the interaction with service -- through our service organization, and we're seeing that same kind of pattern in Europe and in the U.S. Now the question is, is the pace, is the slope of recovery the same? That will still play out. But we do see, as countries in Europe are getting back to normal or reducing some of the shelter in place, places like Germany and so forth, we're starting to see more customer activity, which we actually see as a kind of confirmation that the activities that we saw and the actions that we -- took place in China are going to replicate themselves in Europe and the U.S.

So if we look at the third quarter, you were down 2% organically in the second. You've pointed to a range of down 10% to 15% in the third quarter, even though April, theoretically should mark a bottom, and I think were down only 7% in April. First, can you tell us how May played out relative to your expectations and whether or not the comp is that much different than April?

Yes, it's a good question. And yes, we have put together kind of a range of scenarios. It's one of the things that we did early on to try to manage the business and be able to adjust as necessary, and that's the range that you're talking about. The good news is, May, we expected May to kind of play out the way April was and then see steady improvement in June and July, and that's kind of the way it's played out, both by end market as well as by region. So China continues to be the head of the pack into performance, again, not at that 24% -- or 20-plus percent. But based on the trends, it looks like it's going to be very positive growth. And then we're starting to see that in Europe and in the U.S., no degradation, which is actually a positive thing. And then what we're expecting is that in June and July, at the lower end -- or the less negative end, a recovery. The larger end would be a more pessimistic scenario where we would have some setbacks or the recovery wouldn't happen as fast. But so far, it's kind of playing out that we expect it.

Okay. Do you think China can do double digits or better, at least, in the third quarter? And is the inflection really coming from the food market finally starting to pick up again, which have -- you'd been flat for so long on a sort of sequential basis?

Yes. I'm not ready to call it a double digit yet, Brandon. But certainly, we're -- our expectation is that it's going to be higher than the 4%. And could it be high single digits? I think that, that's certainly within the realm of possibility. It could be double digit, but that would be probably a little better than what we're planning. But that being said, it's really broad-based. With the exception of the academia and the university business, we're expecting solid growth throughout the rest of the end markets. And the question is just how fast do some of the other end markets ramp. Our expectation for food specifically is that it will continue to be solid. It's posted a nice recovery over the last 2 quarters. It's been pretty steady 3 quarters before that, and so that's actually a very positive sign. And the big driver has been our pharma and diagnostics and clinical businesses. And I would expect those to continue to be the driver going forward. And certainly, our expectation is that China in the second half of the year will continue to improve. Q3 will be improved over Q2. And then in fall, assuming no recurrence, Q4 will be better than Q3.

Got you. Okay. If we pivot over to the chemical and energy business, on the surface, one could paint a pretty bleak picture here. But my impression, from Mike's commentary on the call, was -- it was more -- seemed much more constructive, at least, relative to the dislocation that you've seen at least in the oil prices. So that's not totally completely tied to crude prices. But I thought one of the things you mentioned was the potential for increased demand from companies rethinking their supply chains and onshoring some functions. Would you sort of build that out a little bit? What does that mean? What kind of time frame are we talking about? And how does it benefit your business?

Yes, it's a great question. So I think the chemical and energy business, we're still expecting -- it was down 10%. But when you think about the price of oil, it was down -- that was down much more than that. And I think if you look at our business, our chemical and energy business, 70% of it is tied to chemicals and refining, and that's -- GDP is probably a better proxy for that than the price of oil. I also think -- and so I think that, that has helped bolster that business if you compare it to just kind of the price of oil and exploration, which was down greater than that. The other -- I would point to 2 things that I think are different now -- or that are helping us. One is our refreshed portfolio. We've talked about the GCs we launched a little over a year ago. Those continue to be very relevant in that marketplace. But I would say we have the most refreshed portfolio in the industry there across all various items. And I think that, that's helped us with the result. And then I also think there's this flight to quality. And in a constrained capital environment, as we think about capital equipment, their capital budgets may be down, let's say -- for number's sake, let's say, by half, that doesn't mean that every project is by half. I think what we're -- ours are essential equipment in terms of making sure that, that production happens. And so I think we're not as impacted by that going forward. And your last question around supply chains and so forth, this is a -- we're starting to see some early days around companies reevaluating their supply chain and logistics. Certainly, as this -- as the pandemic has gone across the world, we've experienced ourselves, but our customers are also experiencing significant challenges around logistics and supply chain and getting products to where they need to be. And I think we're starting to see, in the chemical side, first, some folks thinking about rather than having a single source or a global source of production, maybe having multiple sites of production and -- that are closer to where their customers are, and so maybe more of a regionalization versus a globalization in supply chain. And we think that, that ultimately is a potential tailwind for Agilent in 2 ways. One is it could actually, in the near term, stimulate capital expenditures, which we think will help us. And potentially, it could be capacity expansions as well because I don't see them shutting down other factories. I think, in moving equipment, I see them building new factories. And so we're in close contact with a number of suppliers. I think it will start in the chemical side, but I also think that this is something that I think some of the pharmaceutical companies are also talking about to have business continuity and have multiple supplies. And we think this potentially could unlock incumbents and open it up for companies like Agilent, particularly in the pharma side, to have that -- the refreshed portfolio. And we know based on China, in greenfield situations, we perform very well. And so we see this as a -- it's going to take some time. This is probably not a second half of the year revenue event. This is probably a '21 event. But certainly, we're starting to see tenders and people talking about that, and we're in those conversations.

That's very good. That's helpful. Maybe switching over to pharma. Well, to just sort of get your perspective on what's going on in the small molecule business today in the LC business. Really in the past 12 months, you've been through some flux as far as China 4+7 goes. But just broadly, if we look at some of your peers, you seemed to be struggling a little bit more, maybe your LC business is holding up a little better. Do you think you're capturing some share? And just sort of what's the lay of the land, I guess, in pharma, where 80% of that business is still tied to small molecule, I think.

Yes. Increasingly, it's getting closer to 70% now, as our large molecule business continues to grow. That -- and I'll start with that, and then I'll answer your question directly. So in Q2, pharma was up 5%. If you looked at that, the small molecule was roughly flat across our business. And then the large molecule, or what we call biopharma, was up 20-plus percent. And so that's an area of investment. We have not seen any abatement of demand there, and we would expect that to continue to grow. And on the small molecule side, we've said, after a couple of years, probably '17, '18 of higher growth, this is more of a replacement market. And so we would expect that to be lower growth than biopharma. But I think our portfolio has helped us, we do believe, gain share in that market. And I think it's a combination of not only instruments. So instruments out of that flat were down, but our ACG business, the services and the consumables piece, really helps strengthen that overall pharma business. We've talked about, and I think that this is still another proof point, is we have a lot of opportunity to increase the attach rate on our instrumentation. And it starts with -- and this whole service component of providing total solutions to labs has started in pharma, and we see that as a continued opportunity going forward. Our attach rates are still lower than what we think they can be, and this is a multiyear kind of opportunity for us. And I think you'll see that ACG business continue to grow not only in the services side, but the consumable side, both in small molecule and large molecule. But hopefully, that gives some flavor.

I want to shift over to the balance sheet, sort of capital deployment. You cut off the buyback at the end of the second quarter understandably, most folks have. What do you want to see before kind of feeling comfortable about getting back out there and deploying capital again? And then on the M&A front, going back a quarter or 2, you seemed to -- Mike seemed to be signaling comfort with doing something larger on the M&A. Just curious what your priorities are and how you think about that.

Yes, yes. It's a great question. And I think one of the things that we've been really pleased with -- yes, I mean, the beauty of Agilent is we've got a very strong balance sheet. We have a lot of financial flexibility. And I think that, that's helped us with not only our employees, but helped us and will help us going through these times. To your point, we shut that off, the share repurchase, at the end of March when everything was very volatile. I think what we want to look for is some stability. We haven't built that into kind of our plans in Q3, but our intent is to resume that at some point in time. And I would just want to get through a couple more months of understanding kind of what that recovery looks like. Liquidity is still an asset that we want to have in our back pocket. We have a lot of it, and I think it will serve us well versus some of our competitors when we come out of this. On M&A, in particular, we remain to be constructive on M&A. I think the areas like cell analysis and so forth that have really helped, those are areas that we would want to continue to grow, in addition to kind of the organic. And I would see us having that opportunity on bigger ones. But bigger deals than, let's say, a biotech, but we're going to remain disciplined. And I think I would expect M&A probably to pick up in the back half of this year once -- I think there -- just by nature, there's been a lull. But we want to continue that building and buying strategy that Mike has talked about and, I think, has served us well.

Very good. Unfortunately, we're out of time, that goes fast.

Yes, it does.

Thanks. You take care, Bob. Good to see you. Appreciate your time.

Yes. Same here. All right. Take care. Bye-bye.