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

[ Good noon, ] everybody. Luke Sergott. I cover the Life Science Tools and Diagnostics here at Barclays. I think I got that part right. Today, I have Bob McMahon with me, CFO of Agilent. It's great to have you here.

To start off key questions on all the investment right now is trying to -- there's been a lot of confusion on how the [ growth ] was trended particularly in LSAG throughout the quarter. So I want to dive in there and talk about the trends that you're seeing and ultimately, how the backlog built order did not...

Yes. As well, it's great to be here and particularly coming from California where never-ending rain. It's good to see, although today [indiscernible] but certainly appreciate you being -- having the opportunity to talk to [indiscernible] and talk with I would say -- well, I would say is -- we're pleased with the first quarter performance that we had, it is really broad-based across all of our end markets in all of our groups. And so if I look at -- we ended up poking at 10% core growth in revenue across the company, really led by our LSAG business that grew 11% in our services business suddenly which were nice complements to each other at 13%. So a very good start to the year, and that translated into some over-performance relative to our expectations and a nice start on EPS side as well. Now to your point around orders, as we mentioned on the call, actually, our overall orders were greater than revenue. for the company. So we actually built backlog. But it was on the back of our ACG and NASD businesses. So the business that we have with the customers and genomics. So we talked about our LSAG business, actually leading into our elevated -- that's consistent with what we saw in Q4 and consistent with the ability for us to see our supply delivery times coming down [indiscernible] positive. But orders were less than revenue in LSAG in the quarter as a result of that, but still posted the 11% growth.

Okay. And can you give us a sense of the magnitude of the decline in orders? Like just and how?

Here's what I would say. If I look at our backlog in Q1, we exited Q1 with still elevated backlog. So while we aid into it, it's still higher than what we've had historically. And if you think about our backlog, I'm talking specifically LSAG backlog here. We have [indiscernible] that's the way. And I would say it was pretty consistent throughout the course of the quarter. What I would say, our quarters end -- our first quarter ended at the end of January. So we do have a dynamic of the Chinese New Year impacting our order book year-on-year. We were able to pull through that and actually drive 13% growth in China across the company. But that's what I would say.

Okay. On the Chinese New Year, I mean, it was longer than normal, right? It was about 3 weeks. And so give us a sense of how the rebound or the recovery has been trending within that -- within China as the COVID has progressed?

Yes. I mean we -- our team in China has done a phenomenal job of executing through what we saw a pretty challenging time with COVID. We actually thought the elimination of zero-COVID policy is a good thing. It created some near-term disruption, but we're able to work through that. Our performance was pretty consistent throughout this quarter. And we're expecting -- during February, the performance and the activity is bouncing back as we expected.

Okay. Because you also count -- I mean you guys were on the first quarter, you conservatively have raised accounts to a lot of it a macro. How much of China factors into that? And then give us a sense of what else is going on?

Yes. It's a great question. And one of the things that we are -- I think we're acknowledging is the macro volatility that we're seeing in and we're kind of taking our forecasting and guidance kind of 1 quarter at a time. And so we put up 10%. Actually, our second quarter is also -- our growth rate for the second quarter is higher than our full year guide. And so it's really a second half commentary. And unlike maybe some other competitors that are back-end loaded, ours is front-end loaded. And that's not to say that our expectation of this business is slowing. It's just -- we don't know what's going -- what is going to happen in macro and would rather be conservative around that and things end up being better, that's a good thing for us. China plays through that to a certain extent. Again, I would expect us to have a stronger first half than second half. Now some of that is comparisons. We had a very strong second half of the year last year as we -- we're able to recover from the Shanghai shutdown last year. And then not only recovered that faster than we anticipated, we actually able to take down some of our backlog there, which was at historic levels. And so there's a comp issue there. But I think -- if I think about the macro forecast for China, I actually see it improving throughout the course of the year. So the elimination of the Zero-COVID policy [indiscernible] waves of infections. I think that -- stimulus and economic output, I think it will continue to improve. As I'm sure we'll probably get into the stimulus, we haven't built any incremental business into our forecast for that. So that would be -- when and if it comes, it would be upside to our forecast. We haven't seen it in Q1 and still delivered a [indiscernible] growth.

Yes. And regarding [indiscernible] effect if and when that comes, how quickly can they turn on that is bigger for you?

Yes. China has the ability to just -- funds faster than, I think, any place around the world. So when it happens, it usually happens pretty -- obviously, it has to flow through our order book first before it gets delivered. But if it happens, it would happen within our fiscal year.

All right. And then on the backlog, you talked about burning that down [ that your are ] getting to more healthy levels and that being a good thing, talk about what your [indiscernible] there. Are your customers starting to push back on the actual delivery time like...

No. I think if we think about -- when I say healthy, obviously more -- probably more historical level. It was going to have a backlog. And what I would say is the delivery times for getting back to kind of prepandemic levels, we had extended supply chains, both from a logistics standpoint, but also some products that were constrained, particularly on the chip side, and we were able to continue to satisfy demand for our customers. But in Q1, in particular, was really important to be able to deliver to our customers who many have a calendar year-end -- for calendar year end shipments, and we were able to do that. And so we actually think we're doing it as well or better than anyone else in the marketplace. We didn't have any cancellations as a result of inability to deliver. But I think what we want to have is the ability to actually meet our customers' needs going back to the way they were used to versus this extended time.

Yes. So, it's more normal as -- so on the -- I mean it's all tied together, right? So the instrument growth has continued to be strong. You did -- LC/MS was up 16%. Spectroscopy were at [ 20%. ] So talk about the [indiscernible] in these key businesses for you guys, underlying drivers and duration of kind of what making guide for you?

Yes, a really good question. And our team -- we don't often talk about processes, but it's a fantastic business for us. And we certainly are 1 of the leaders that -- and actually seize the breadth and depth of our technology portfolio. A lot of people always like to talk about LC and then LC/MS, but we're broader than that. And I'll start with that one first. I mean that business has seen accelerated growth throughout the course of last year and continued very strong growth here in the first quarter. And [indiscernible] growth drivers that we're seeing, particularly in our chemical and advanced materials business. And that fits squarely into supporting the [indiscernible] industry and lithium batteries or the electrification of cars that [indiscernible] we still see that as a driver for the rest of the year. And then on LC and LC/MS, that's both on the large molecule side of our business so that has been a growth driver in the pharma side for a number of years. And now what we're seeing is increasing opportunities in environmental and forensics. So LC/MS, and in fact, just yesterday, the U.S. EPA issued some guidelines on PFAS testing. That's the technology -- that's one of the major technology that goes into PFAS testing. We've been talking about this for the last several quarters of -- an opportunity for us in its early stages. And so I think that, that will continue to grow. If I think about it, for the full year, those 2 markets will be faster growing than LSAG. Our growth rate embedded in our guide, if you look at mid-single digits. Those 2 technologies will be faster than that. And if things continue the way that they are, then we would have the opportunity to do better than that.

Yes. And especially -- so let's talk a little bit about PFAS testing -- that opportunity for you guys. Right now, the mono is it's basically just -- there's municipalities over 10,000. You need to do the testing, and so they're setting up labs to do that. So on -- have all those instruments been [indiscernible]? I mean are you meeting most of that demand like because [indiscernible] right?

Yes. So I would say there's still long ways to go. We have started seeing some of that funding come through the infrastructure at back -- about a year ago now. And I would say that there is still a number of opportunities to continue to replace or place instruments. What this allows us to do is actually, to your point, it was being done state-by-state and municipality-by-municipality and there were varying degrees of regulatory requirements. Now with EPA coming out, there's just a clear standard across, which I think will accelerate adoption. And these are customers that we are -- these are the major contract testing labs. We are a leader in [indiscernible] markets. These aren't new labs necessarily that's coming up. It's actually the existing lab adding new capabilities. And so we think that there's more to run [indiscernible].

All right. And then yes. So that's going to run through '24 and they're placing the boxes there. Is there a big pull-through component on that side or...

Not as much. There is some on LC and LC/MS, but -- and I think as we go through this, I think there's an opportunity to actually attract our strategy around attaching our services as well. That will come down the road, right, because the new instruments typically have a warranty. And then once that warranty -- once that instrument goes off warranties -- when you start seeing the revenue of the services. And actually, that's 1 of the reasons that our services business has been so strong in the last couple of years, we've placed a record number of instruments. Our strategy of increasing our attach rate has allowed us to continue that annuity. And as those instruments come off of standard warranty, the extended warranties come on, and that's really helped power our ACG business.

How long before that when you place an instrument, so is it like 2 years essentially after the warranty and then you guys start seeing that higher...

It's typically 1 year, our standard warranty would typically be 1 year. In some cases, depending on the size of the deal and so forth, they can be extended. But it's more 1 year -- it's [indiscernible].

Yes. And talk about your attach rate and how that's [indiscernible].

It's a great question. So our attach rate has -- is, in Q4 or fiscal Q4 hit a milestone to be over 30%. For reference, 5 years ago, it was in the mid-20s, and it's been growing 1 point, 1.5 point for year. Each point is roughly worth an annualized $30 million of incremental revenue, a combination of services as well as consumables. And so our strategy of continuing to increase that has really helped us drive that accelerated growth. If you look at ACG has always been one of the [indiscernible] parts of our business because it has got back in that attach rate. But it was growing at 8%, 9% in the last couple of years, it's now been growing double digits, and it's a really result of this incremental. And the beauty of it is twofold. One is, the areas that we've been focusing on, biotech of large molecule in some of these faster-growing markets, as well as the technology for sophisticated instruments have, almost, by definition, a higher attach rate because they're more sophisticated. And so it actually -- not only is our strategy play, the technology focus that we have is also helping with a mix per...

Okay. And that's -- the services drop through at a pretty healthy market...

Yes. We've -- if you look at -- and in fact, we -- our services business in Q1 was right at the [Audio Gap] growth rate and improvements over the last 5, 6 years. And beauty of that is, the scale is our real competitive advantage. And so if you go into a laboratory or -- and whether you do 1 instrument or 2 instruments or 3 [Audio Gap] incremental costs as long as you're in there and it's a scheduled repair, it doesn't cost us that much incrementally. So the ability for us to have our teams that are out in the field, coupled with our digital capabilities that we really accelerated during COVID, the beauty of that is you can solve the problems for a customer without having a service engineer go to the site and actually do it faster. And so that's better for the customer, it's actually more profitable for us. The most expensive fit for us would be an unskilled service call. It's also the highest customer dissatisfactory if in fact, a system is down. So that [ scale, ] I think, plays some our advantage in 2 ways. One is not only the end markets we serve, but the technology that we have, so we are able to leverage that service engineering base across multiple end markets as well as multiple technologies that tend. I think we're -- there's not so many people who can do that.

All right. And so change gears here, excuse me. Let's talk about -- so in guidance, you talked about -- you talked about the puts and takes of the quarter. [indiscernible] highlighted that Genomics will be a headwind for you guys. What's going on there, and give [indiscernible] what's your -- what's going on...

Yes, that's a great question. So that was 1 of the areas that we delivered a 10% quarter growth in Q1, but our genomics business, and it's really consumables start of our genomics business, is down year-on-year. And maybe for the audience's benefit, overall, we have about $0.5 billion genomics business. Half of it is instrument-based -- that performed well. And the other half is roughly consumables. And what we saw there is, in the genomics market, we got caught up in some of the macro situation with some of our customers. So many of these customers are smaller customers with a higher cost of capital but now focused on profitability, also focused on the balance sheet, which they hadn't in the past. And so what we're seeing is a more focus on working capital. And they can only hold a certain amount of inventory to start with because they have -- this has a relatively more short life, so look -- overstock, but they're actually trying to lean their inventories. And we saw that in one, our expectations now will continue into Q2. And then it will kind of rightsize itself. The good news is we haven't seen volumes of testing going down at any customer. It's really these companies more focused on the P&L, ability to extend their cash run way. And so our expectation is Q1 to it's kind of a function like kind of the macro situation. And then in the second half of the year actually was part of [indiscernible] recovery in that.

Okay. And on the instrument side, 1 of your peers yesterday was talking about starting to see I mean they've been placing instruments, very strong growth where you guys starting to see the market get more saturated. And so are you seeing any of that? Where do you see kind of green shoots for that business?

Yes. I wouldn't say that. We haven't seen saturation. So I think we are a leader in the QA/QC sample prep side of NGS. The next competitor is a distant second. And so I think we have 2 opportunities. One is to continue to expand. And I think it's important to say that our view is genomics long term is a good business to be in. I think the science will continue to drive that, and there will be more applications, particularly in cancer diagnostics that will need NGS-based assays and technologies. So we think that the market will continue to expand. In addition, we also have an installed base of instruments out there that need to be replaced. And so we have not only -- which -- some other customers that are first placing those they may not have that opportunity. And so we have not only research, but also the clinical diagnostic side for our preps. Our consumables business for genomics goes into not only research, but also the clinical side and LVTs and so forth.

And right now with all the competition coming across different technologies, you guys are pretty much agnostic. So give us a sense of what you're seeing there from...

Yes, that's right. We think more competition is a good thing. As you said, we're agnostic. We have agreements with, not only the leader in that space, but also many of the newer entrants that are coming in. And I think the more sequencing runs, the lower the cost goes, actually, the more benefit for us.

All right. And so let's dig on DGG. The margin dynamic in the first quarter had a little bit of a step down there. What's going on there? And then kind of how we should expect that to ramp throughout the year?

Yes, it's a good question. So it's a function of 2 things we just talked about. So our genomics business, the consumables side of the business is very profitable. And so that had a negative mix effect when that business declined. And we actually didn't [ produce ] R&D programs and other activities because I think that this is a transitory effect. So we want to continue to invest behind that business. And then we also were investing in the commercial side for our NGS business. So the ResBio and companion diagnostics business, we know we had an approval of our first companion diagnostics, and we're building out the channel. We announced an agreement with [indiscernible] there, but we're also creating demand in the field by hiring sales folks ourselves and so forth. So those 2 dynamics, the first 1 being the majority of the change, the mix shift with genomics and then the second being some of the investments for the long-term.

And on that -- on the ResBio piece of the CDI, how much [indiscernible] leverage your experience with Dako as 1 of the first expanded diagnostics and getting that out there?

Yes. What we're seeing -- one of the original thesis of buying [indiscernible] ResBio was being able to offer multimodality [indiscernible]. So -- and we're seeing that play out. So typically, a customer will more -- a formal customer will go through multiple modalities depending on what type -- what cancer they're targeting. And so we have the ability to actually now not only offer tissue-based pathology, traditional pathology, but now also NGS. And so we're actually starting to see that. It's still early days in terms of being able to leverage that. But I don't think we'll ever be kind of -- customer -- formal will never be a one-stop spot, so we need to continue to go around, but having more modalities, I think will help them -- us being a core partner. And I think our long-term gain is able -- is being able to take what we do in companion diagnostics or tissue-based is be able to do the test and then distribute it decentralized through the pathology labs. We believe that over time, NGS diagnostics are going to be the same. And so getting a kitted solution now, more broadly distributed will help with turnaround time. Particularly in cancer diagnosis, days matter. And so there will be a role for central labs, but I also think there will also be a role for decentralized labs and that kitted technology. And we think that our ability to be able to do that is going to be able to leverage our existing companion diagnostics.

Yes, that makes sense. On NASD here, give us a sense of -- I mean the capacity of ramp is going to kick in probably mostly in the back half. So talk about the progress here, how we should think about that ultimately doubling up the [indiscernible]?

Yes. We're super excited about that business. The business has continued to perform extremely well through the last, I would say, 5 years, and it's now approaching a $350 million business by the end of this year. [indiscernible] over 20% in Q1. It's accretive [indiscernible] overall margins. And train B, which is the expansion that you're just referencing is on track to come online mid-calendar year this year. And it has $100 million of revenue capacity or existing capacity is kind of capped at like $300 million. So we would expect it ramping up in the back half of the year as one of the nice growth drivers for us in the second half of the year. And then getting to kind of a $400 million -- $450 million kind of run rate business with the existing capacity. In January, we just announced an additional expansion of Train D, which would take that $450 million and double it again, which is a $725 million expansion. And it's actually doing 2 things. It's not only doubling our capacity from a revenue perspective, it's also expanding the technologies that we have. So today, we produce primarily siRNA for our clients, customers. With the new -- and we have a pilot line for GMP-grade CRISPRs, With the new expansion, we will be able to expand to antisense technology, which is a related technology to siRNA as well as have a GMP-grade commercial line for CRISPR and this will start coming online in '26, '27. So we're super excited about it. It not only increases our capacity, but it increases the breadth of products and technologies that we can offer to our customers. And when we look at the number of products that are in the pipeline, just our existing siRNA, there's some more products in the clinic than they are in market. And when you think about the products that are in the clinic, they're going after larger modalities with therapeutic areas, so volume continues to increase in our belief. And that's going to be great for patients and it's going to be great for our businesses...

So I imagine the margin is pretty [indiscernible] business as well.

We like that business.

That's all the time we have for the day. Thank you again.

Thank you so much.