Avanos Medical, Inc. (AVNS) Earnings Call Transcript & Summary

All right. Well, welcome, everybody. Good morning, good afternoon, wherever you might be. This is Kristen Stewart coming to you live for the Barclays Global Healthcare Virtual Conference. This session is going to be Avanos. I will be answering any questions that you might have for the management team virtually or over the web through my e-mail, [email protected] or over Bloomberg chat, so feel free to send in your questions live for this webcast. I am pleased to have Joe Woody, the CEO of the company, as well as Michael Greiner, who is new CFO. I guess now Michael you've been with the company for 2 months. I'm sure it's been an active 2 months as you've not only assessed everything financially with the company but have now been dealing with the COVID-19 situation, too. And on that topic, Joe and Michael, if you would be so kind to, I guess, indulge us and give us your latest assessment on what this very fluid, dynamic and evolving situation could potentially mean for Avanos. And thank you again for joining us. And I should mention also, we have Dave Crawford, the Treasurer and IR, online as well. Thank you.

Thanks, Kristen. This is Joe Woody. I'm sure Michael will have some comments as well on COVID-19. We did start with an internal task force as early as January. And of course, our first focus was supply chain, and we looked at our direct supply chain Tier 1, Tier 2 and Tier 3. And actually, we don't have much exposure in China on supply chain other than NeoMed. And those factories are up and running at present. But then obviously, that shifted to more concern around employee safety and customer safety and interaction really with customers. And we're currently following through guidelines, CDC, limiting travel. And we may experience some of the way that we approach that as the week goes on and things progress. In terms of exposure, so that's around Chronic Care for us. And that's a very stable business. And actually, some of those parts are in use in cases like this. I think the thing that we're thinking about is, as this progresses or if the outbreak progresses, particularly in the U.S., and patients decide to stay home or have to stay home for elective procedures that could affect something like the ON-Q business, where 50% of the business is orthopedics, or COOLIEF, the IVP business, if patients were having to stay home. But at the moment, we can't see any of that in Q1. And we don't really feel like that's going to be an impact to Q1. But I think everyone is evaluating this as it goes, so Q2, Q3, even Q4. Another unknown probably you're hearing just lot today from various companies is that if you have a manufacturing site, where there's an infection, and for whatever reason that manufacturing site has to close down, then obviously that, that could cause some issues. And we'll certainly update it on our earnings call. Michael, I don't know if you want to sort of add some things to that.

No. And I think that's right. The only other thing I would add is on elective procedures. And what you're hearing, to your point, Joe, from others around our doctors pushing off elective procedures to free up capacity in hospitals. We haven't seen or felt any of that yet. But if they start to do that, obviously that could have a small impact on our business in the later quarters of the year.

Okay. Perfect. And I guess just in terms of anything you could add in terms of what was in your forecast. I guess you guys didn't have anything included obviously because the impact you assessed was probably a little bit more minimal, I guess, at the time. So we'll just -- it's more of a wait-and-see approach to the guidance. Is that fair to say?

Yes. We'll have our first quarter earnings, Kristen, in the first week of May. And I think we'll -- obviously, we'll have full first quarter insights at that point and another 5 weeks of second quarter insight. So to the extent if there's anything to update at that point, I think we'll be well positioned to talk to that.

The other thing to go to, we have a very -- back when we gave guidance, this was more focused in China. We have a very small, immaterial business in China. So that wasn't going to impact us when we provided our guidance.

Okay. Perfect. All right. So I guess moving on beyond COVID-19, maybe we could just spend a little bit of time reflecting upon 2019 versus the guidance for 2020. You did have some moving parts just in terms ON-Q and the performance that we've had, actually, I guess, for the past 2 years, really more what I would characterize, I'm sure you would agree, as factors outside your control with respect to the drug supply, availability and also the pump filler issues with the pump fillers shutting down. And then you had the IT systems as you separate it out. How did you think about just kind of approaching 2020 from a guidance perspective and some of the risk adjustments, just giving some of the moving parts that you had and just kind of thinking about 2020?

I'll say a couple of things. This is Joe again. And then I guess Michael will add to that. One of the -- actually, one of the benefits, I think, this year is having Michael on board because we were able to build from the ground-up a budget while some of these things, knowing that they were going to move behind us sort of as we move to the middle of the year. And then he gets a chance to come in and really scribble from the outside. I think having an outside perspective will support on that. A couple of things before I hand off to him. I mean we did know that Chronic Care was a mid-single-digit grower for us consistently. And we did feel confident as well about COOLIEF being double digits and continuing into this year and IVP as a whole being a high single-digit grower. And we communicated that ON-Q would be negative in the first half. But then our goal for the full year was to be level. Then we put the associated risk with that and looked at International and saw that as a mid-single-digit grower. That was kind of the backdrop to it with the appropriate risk balances. But maybe Michael can give you his perspective, having looked at it.

Yes. I think as you rightly pointed out, Kristen, 2019 was an interesting year. There was some exogenous events that were beyond our expectation. And then there was, quite frankly, some self-inflicted wounds. And so as we entered into 2020 and we looked at what's the appropriate range, both from an internal execution standpoint but also, as Joe alluded to, thinking about the puts and takes around certain of our product families. I think we did a nice job this year in recognizing that, depending on competition, depending on price pressure, depending on whether we get some larger deals that come through. So these are all things that should be on our favor, some things that did not go in our favor. And so I think we properly captured those. And so that 5% to 7%, I think there was a question on the last -- on the year-end earnings call around confidence level there and whether we felt that was conservative. And I believe the way I answered it was that wasn't conservative, but it was definitely something, we feel, captured the full set of risks and opportunities and therefore felt very good and confident around that 5% to 7% on the top line and then obviously, whatever that translates down to the bottom line, which is $1 to $1.20.

Yes. Just to close that off, I think if you look at Q4 as an example and say, "Well, wait a minute." But Q4 does have pain seasonality in it, as you could be, where we've been controlling some of our spending throughout the year 2019. And we've talked about the SCIs and the sales commission, that's on the EPS side. But we're confident in the plan that we have for this year.

Okay. Perfect. And then how should we just think longer term about some of the individual kind of product segments? Maybe we should start with ON-Q and also balancing that against some of the transactions you've done. I know you bought in Summit Medical with the ambIT pump and then you've also done some investments as well to get access to the electronic pumps. Maybe just talk maybe holistically about that kind of pump franchise, I guess, if you will.

I guess I'd say a couple of things. One thing is I think we've demonstrated that we're committed to the market next to the investments that we've made, the M&A in Summit and then the $5 million investment with BioQ, in what we think in 2 years will be a quantum leap in electronic pump. And then don't forget that we're also working on the breakthrough technology, which is an electronic nerve block that we think will obsolete a lot of technologies that are available. So I see the market as a big sort of time frame, where elastomeric pumps are being highly used. That continues into elastomeric pumps in electronic, which is kind of what we're working into this year as we made in Summit and eventually the BioQ partnership and then ultimately the breakthrough. And so I think that they're still a good segment. If you think about this $2 billion market and everyone trying to invent a solution for opioid utilization, and let's say that we have a sort of a circa $100 million business today, enough business that people that want the 5 days, they want folks to be able to stand up that believe in pump technology to get us to a point where we can grow for our plan. And obviously, we've said this year that, that's to get to level and they go into low single-digit growth in 2021. So I've got a lot of confidence in the market over time. Obviously, it's been a total market dislodgment. And I really do applaud the team for finding the relationship of Leiters as a sole source and having that available. That's quite successful for us, and we're seeing good sequential improvement and growth in those customers go over. So that's what I would say about it. I don't know if others want to comment. But that kind of sums up, I guess, our view of the market.

Okay. Perfect. And then how about COOLIEF? Because that obviously is another area where you're expecting to see really a strong growth. How should we just think about that part of the business but also the other interventional franchise and more holistically? COOLIEF, I guess, is a little more than half of the total interventional franchise. I know you just had a new launch of a next-generation system there. How should we think about COOLIEF going forward from a growth perspective? I know you ideally wanted to get a little bit better reimbursement for 2020, doesn't look like that happened. What's the growth outlook like there?

So yes. I mean we're very confident in double-digit growth for COOLIEF and high single-digit growth in the overall IVP franchise. And I think that, that's with the CMS reimbursement for OA of the knee in the hospital outpatient department. It was positive for us in the fall and will be good to, I think, provide that sustainability in that business. Then there's sort of a secondary look-at, what is the inflection point in the business that you can think about? And that would be getting in the ambulatory surgical center reimbursement. And that what, I think, attracts orthopedic surgeons to do more of the OA of the knee versus hyaluronic acid. And so as our studies complete and our health economic data comes together, we'll be able to approach CMS again. I don't see that as something for this year. I think that's sort of 1.5 years probably out to get that reimbursement. But that brings a whole new availability of patient pool. And we've demonstrated that we are good working with CMS, that we're good putting these clinical studies together. We invested in health economics. So I think we can have an inflection point to have even higher growth. But that's really what it would be versus where we are today.

Perfect. And I guess just in terms of the Chronic Care business, that's been really your steady state. I know there's always been a little bit of ebbs and flows from a distributor stocking and destocking perspective. But how should we think about that franchise? Is that just going to be the consistent 4%, maybe 5% business for Avanos? I know you bought in NeoMed, that seems to be going pretty well. I know it's still early days. You bought endOclear, which seems to be a little bit of a smaller franchise. How should we think about that? I know you gained some share from Stryker or Sage's challenges a little while back in oral care, not sure if you've been able to retain some of that share. But just holistically, how should we think about Chronic Care? I know it's not something you get asked about. But it's been a really good business for you guys for a while now.

Yes. Chronic Care is 60% of our business, and we've talked about that being our higher portion of cash EBITDA. You're right on a global level, a real solid mid-single-digit grower. We have very high market share in the U.S., sort of north of 70%, in some cases, as high as 80%. Our strategy is to broaden the portfolio. And that's what we've done with Summit -- sorry, with NeoMed. That's what we've done with endOclear, obviously with CORPAK. And there are more opportunities for us to do that and take advantage of the channels that we have. So we like that market quite a bit. I think there are a lot of a whole ton of opportunities to enhance that. And you're right, it has been performing well. I would say that oral care is less of a focus for us. It's a lower margin area. There was an opportune time for us to take advantage of that. That's sort of a take and take back, if you will, in that market between the various companies that are involved there. But more importantly, I think we're starting to see the potential anyway for certain catalysts to even emerge there, where CORTRAK could be a standard of care replacing the feeding tubes. And we're doing some work during the course of this year to sort of build that out, prove it out. And so we look for more opportunities like that when we think the technology can enhance that. So you're right, we do like it and we're confident and it is a very steady business.

Okay. And you touched on bolt-on acquisitions within Chronic Care. I want to kind of flesh that out a little bit and maybe take it a little broader. I know since you did sell the S&IP business, M&A and kind of this firepower, it was always kind of the cash deployment opportunity to really reshape the portfolio, has always been kind of this big theme. How are you feeling about acquisitions these days? Are you more inward-focused at this point with Michael kind of coming on board and looking at how do we make sure the IT infrastructure kind of is set up at this stage, let's kind of look at making sure we're set up, internally rightsized for the size of company we are today, maybe putting a little bit of a pause button on M&A? Or are you still actively looking out there for transactions? And I guess should we just think about it in the context of Chronic Care? Or are you looking at other opportunities out there, maybe looking to add another leg to the portfolio or look transformational? Or how should we just think about M&A in the context of Avanos?

So we're looking more at bolt-on acquisitions in the current period, I would say, the next year to 2 years. But we're looking at both segments, Chronic Care. And you're right, we've taken a pause to stabilize the IT system, deliver our organic growth and get back to a sustainable level. But it doesn't mean that we've given up on the search. We have a very healthy, heavy pipeline really for both businesses. And I think the team has demonstrated that as sort of a capability in the organization and the integrations. Obviously, we have to do the current integrations this year in the 3 most recent acquisitions. At the same time, I think to the extent that we deliver our plan, we can get back to sort of the kind of capacity that we had really after selling the S&IP business about a year from now. Obviously, we have to look at our plan to do that, generate the cash. But that then puts us in another strong position to keep doing this over time. And then down the road, in the outer years, we've talked about improving ourselves on execution and getting these acquisitions right. And you might -- we might look at a bigger deal. And we've talked about a bigger deal for us to be $200 million, $300 million, maybe a $500 million deal. But that's not in the near term. So I'm really happy with what that leg of the business and the achievement there. I guess I would also say we're considering some further investment in innovation. This BioQ is going to be good for us. There's 1 or 2 others that we're currently actively engaged in. That's going to be another source for us to generate revenue out a year, 2 years from where we are today. So all in all, in terms of looking at the whole business, I think that's a real strength in the business right now, the M&A capability.

Okay. And I did get a question come in for the -- from a client. They were wondering if you are losing share in ON-Q.

Not so much. I mean this is -- ON-Q for us has been more about the customers that we lost that are -- that were using PharMEDium and Avella that no longer exist, and we're trying to move them over to Leiters. That's really the biggest challenge we have in that business. Now for certain, there's always a give and take of losing customers and then gaining customers in any given year. There's a churn in that business. Usually, we beat that churn. Sure, there's some price that you see. But again, our total business, we've talked about that not really being a huge impact like you would see in the orthopedic business. But clearly, to the extent that we get -- we have the broadest offering now. We're the only ones that have a sole source relationship with a biller. And we get that more customers moved over more quickly, we kind of get back to where we want to get to.

Okay. Perfect. And then I want to just spend a little bit of time on more of the financial outlook. I know that you guys did give your LRP targets. And you've talked about those targets as being ones that you still feel are obtainable, albeit perhaps on a little bit different time line. Is that the best way to think about it?

Yes. I think that's right, Kristen. We still feel, as you think about our income statement, we should achieve gross margins on a consistent basis north of 60%. We still feel confident that we can get to organic growth on a consistent basis in that mid-single digits over the long run and then operating margins in that 20% range and EBITDA margins in that upwards to 25% range.

Okay. I guess just in terms of what you need to do to get there, do you feel like you will need to take some additional restructuring actions in order to achieve some of those targets?

So I think on the gross margin side, we just need to continue to execute how we are doing to get to a consistent 61%, 61.5% gross margin. To get to the mid-60s in gross margin, that would require a little different mix of products than we currently have, ON-Q coming back to the growth that we'd seen previously, things of that nature. But there's a plan in place for COGS at our plants through our supply chain, and we just need to execute on that. When you get further down the income statement, on SG&A, the savings that we've pushed through last year and that we are in the midst of pushing through this year have been primarily offset by proper investments to stand us up as a pure-play med device company, think like a health care reimbursement organization, additional compliance and regulatory things that are needed as a publicly traded company in med device. So we've done that. That's now in our fixed cost base. And so as you look at 2021, where we have another $11 million to $14 million costs coming out, those will drop primarily right to the bottom line. So we have a pathway to these numbers, as I've just described. That being said, I also think, as we're 2 years into this and we're learning more about our business, our capabilities, how we're going to leverage S&IP, I do believe there are other costs that we need to be thoughtful about and gain insight to that would have allowed us to drop to the bottom line. That would necessarily come in the form of restructuring as much as just not having to have one-time items, not having to backfill roles that naturally attrit, be smarter about structuring the organization and things of that nature. So I sit here, granted I'm 60 days in, but doing the work that I've done over the last couple of months, I feel pretty good about our long-range plan. And the fact that, yes, it's being pushed out a little bit.

And I'm aligned totally with Michael. But I would just say one thing, too, that the M&A discussions we're having, we can enhance all of this through the right M&A. But he's absolutely right.

Okay. So again, just on -- just so I understand it, the gross margin, that mid-60s, because of what happened with ON-Q, that's going to require a different mix of products and that would be more conditioned upon M&A?

Yes. I mean I was more using that, Kristen, as an example, given the attractive gross margin profile outlined to you. If we got back to significant growth there, that would obviously be an example of something that takes us from our 60% to 61.5% of just good operating to, "Oh, wow, gross margins are up in the mid-60s." We would be mix help in order to get there.

Okay. And then to kind of get from that mid-single digits to the high single digits, do you think that also needs to be really more helped by some M&A? Or do you think you have the right ingredients in place to do it with the portfolio that you have today? And I know, Joe, you've talked a lot about International expansion. And I know that some of that might be taken a little bit longer to come to fruition. Or do you think M&A has got to really play a role there, too?

Well, I think we'll enhance with M&A. And that's something that we'll do alongside of. We've got a clear catalyst in COOLIEF, double digits there but the high single-digit in the overall business. And then we've got International, which is, we think, a mid-single-digit grower now in total but has the potential to go from there higher, then we'll put the new products again that we're acquiring through that channel as well, which is a real positive for us. And then we've got a solid business in the U.S. in Chronic Care. To your point, then getting to low single-digit in the ON-Q business, then wanting to go from there obviously to mid-single-digit, I think that, that's possible for us as we go into '21 and '22. And then I think, actually, that the M&A can be either a protector or an enhancer of that as we go along. So -- and you remember, those businesses were growing quite nicely before the market dislodgement that we did have. And so we've really been additive to them and had a few launches as well.

Okay. Got you. All right. And then just in terms of, I guess, when do you think you might be able to communicate a better assessment of an LRP plan? Michael, I know you're just kind of a little over 2 months in. I'm sure you want to take your time and be thoughtful and get your arms around the business. I'm sure the COVID-19 situation isn't kind of helping a full-blown deep dive on the financials to kind of keeping you busy. But when are you guys thinking about, I guess, communicating some of these goals to The Street? Is that something we should expect later this year or something that we should really not be anticipating until maybe next year?

So I think all the right framing around the question, Kristen. We're -- we would like to do something later this year if we're in a position to do that. We're going to be spending a good portion of the middle part of the year reassessing aspects of our strategy now that we're 2 years in. But to your point about being thoughtful, making sure -- and what's happening just broadly in markets, we want to make sure that we get out a 3-year plan that we feel really good about and confident about. And -- but the reality is whether it's later this year or early part of next year, again it's going to have a similar feel to what we've talked about at least on a quantitative level. It may have some different puts and takes, and we may really lean into certain products that have really improved over the last couple of years and we may deemphasize certain of our products. So that may happen. It may be a different way in which we talk about our strategy, but our longer-term goals aren't going to shift all that much, whether it'd be the latter half of this year that we are able to do or the early part of next year. The other driving factor on timing is we've got a couple of launches this year in R&D. We've obviously done the M&A. So wrapping a new 3-year plan around an Investor Day would be of interest for us because I think we've got some interesting technologies that the investors would want to be able to look at that they haven't seen before.

And in terms of the technologies, I guess what would be one of the things that you don't want to highlight most? Is there something that you could share with us today on that end?

Well, we just got the approval for a new version of our 80-watt COOLIEF. There's some -- it's more of an updated feature. But it's got some really neat user interface changes as well as just procedural changes. We've got a MIC-KEY SF on the feeding side that has some unique attributes to it. The -- obviously, the products we've acquired are not products that we've shown before at Investor Day. So those would all be new to our investor group. And then we have a couple others that we'll be launching as the year goes on that I think could be interesting. Most of these again are more 2.0 and maintenance end-of-life type of things. But they really are bringing these products into much more the space from a technology standpoint that we want to be acting in.

I do think, too, to the extent that we do that, we talked about the breakthrough products related to the Acute Pain business, and we are in patients with those products now. And so when we do decide to do this, it could be interesting to update that as well and give a progress support. And those are quite exciting for the future anyway.

Yes, absolutely.

And would you say that ON-Q remains the biggest wildcard, I guess, in terms of your outlook, I guess, from a sales and profitability standpoint?

I would agree with you. It's a key lever to more quickly getting back to the growth profile, Kristen, that we would like. It obviously has had the most moving parts with the dislodgment side of it. And I think, rest assured, we have a lot of focus from the Board to the management team, all the way down to the field in getting that business turned around. And when we do, that's going to change, I think, our outlook.

All right. Any closing remarks from you guys? I know we're up against the end of the webcast here.

Not from us, it's just that we really appreciate the interest that everyone has in Avanos. And look forward to hopefully get a chance to be face-to-face at some point without masks on.

This is true indeed. So I want to thank you guys very much for all of your understanding and help on your side and making this converted over to a virtual conference meeting. I know it's a lot logistically for you guys as well as everybody else on this webcast, too. We really appreciate the efforts and understanding, want everybody to be safe. And I hope everybody has a really great rest of the day. Thanks very much. Look forward to talking soon and seeing you in person without all the gowns and gloves, which at this point, too bad, you guys sold it off. So take care, everybody.