Baxter International Inc. (BAX) Earnings Call Transcript & Summary

Now day 3 of HealthCONx. Pleasure to have Baxter with us. We have the CFO, Jay Saccaro, with us this morning; as well as Clare Trachtman, who heads Investor Relations at Baxter. Jay and Clare, thank you for taking the time with us this morning.

Vijay, thank you. It's always nice to see you, even through the Zoom screen. So I hope all is going well.

No, it is. I know we couldn't do burgers and beers, but I'm looking forward to doing this in person at some point, but until then, Zoom it is.

Indeed.

So maybe on the topic of how everything has gone virtual, I think just when you think we can get through the year-end without any more surprise, we had this Omicron news. So I think maybe that would be a good starting point, Jay. Relative to your expectations, on utilization, I think the guide had assumed low single-digit surgical volume declines from pre-pandemic in Q4, I think something similar on the medical side as well. Has the Omicron news changed anything for you guys in terms of how you were thinking about Q4?

Sure. And first, Vijay, a sincere thank you for the invitation to speak with you today. It's great to do it even though it's just virtual. And like you say, we hope at some point, to get back to some level of normalcy here, which we'll see perhaps that emerges in 2022. And interestingly, with Omicron, we haven't really seen a meaningful impact relative to our expectations from the Omicron virus. I know there is certainly a lot of noise in the media with respect to this. I think some of the early data coming out of South Africa is indicating, while this is perhaps more contagious, perhaps it's less impactful than some of the earlier variants that we've seen. And so of course, as we look at Q4, I don't think it's going to have a big impact for us. as we move to next year, we'll have to watch. If this plays out, some of that data suggests then perhaps it's less of an impact to our expectations moving forward. At this point, we're not too concerned about it, but we are watching it very carefully.

That's helpful, Jay. And I think for context, most of your peers, I think, commentary has been very similar at the conference. So far, no impact. We'll see what December brings. But some of them did make comments about utilization improving month on month into November. Is that something that you guys -- I guess the guidance kind of had that baked in. So this is pretty much in line with your expectations Jay?

Yes, things are traveling in line with our expectations. We had a little bit of improvement built in, and so I would say that we're within the bands in terms of our expectations on this that we laid out on our earnings call.

Understood. One on -- just maybe on the underlying operational guidance, Jay. I know you called out that 3% to 4% operational. But it's just -- I mean, 3Q was really, really strong, right, at 6%. I think comp adjusted, it looks like there's a slowdown. So perhaps it's just a timing element. Maybe talk about what went into the Q4 assumptions of 3% to 4%?

Sure. We were certainly pleased with the Q3 performance. I think for us, to marry 6% operational sales growth with the highest margin on record for our new company, the new Baxter since 2015. We're thrilled in the face of a global pandemic and supply chain shortages and all of this. We were extremely pleased with the Q3 performance. There are a couple of things that happened from Q3 to Q4 that are not really noteworthy but do impact the kind of cadence of revenues. Some of it has to do with comps. So if you think about our Acute Therapies business in the fourth quarter of 2020, it grew 50%. And so it really is a challenging comp in that regard. From a medication delivery standpoint, we had a significant stockpile in Q4 of 2020. And we also had one of the biggest pump sales we've made in the third quarter of 2021. So that sequentially slows down a little bit. And then from BioPharma Solutions business, our seasonal flu, we had a lot of seasonal flu vaccine sales in the third quarter of the year, which that's typically when those sales occur. And so as a result of that, there is some deceleration in that business through to the fourth quarter. So those are a few things at the margin that impact the growth rate. But Vijay, perhaps I'd take a step back and say, look, over the last couple of years, if you think about what we've been able to do, it really illustrates the resiliency and the durability of our business looking at growth levels compared to 2019. Now I think we stand in a really good spot relative to most other companies in med tech, and that comes down to this diversified portfolio that we have. In a given quarter, maybe it's 6%, maybe it's 3% to 4%, but to grow through the pandemic and then the year after the pandemic at the levels we've been able to grow, I think is a testament to the medically necessary nature of our portfolio, along with our ability to execute and supply product when needed.

That's helpful, Jay. Now you brought up a couple of really interesting points on vaccine and the pump contribution. Let's start with the vaccine. I think for me, personally, when I looked at the 3Q number operation of 6%, I mean, that was a really strong number. I think we have some chatter whether perhaps like the beat came from a vaccine contribution. Maybe just contextualize what has vaccine contribution been for Baxter year-to-date? And has there been any cadence issues?

Sure. Vaccines has been a solid driver of our performance this year. And if we think about COVID vaccines, we're talking about north of $150 million on a full year basis. It's been -- and it's a great product for us in the sense that I think one of the things we do quite well is manufacture in a high-quality manner high volumes of product, and that's been recognized by vaccine makers around the world. So it's been an important driver for us. As I think about Q3, there were other areas that, frankly, were more interesting to me than the vaccine performance in terms of outperformance, areas like medication delivery, which is just an engine for us with a tremendous performance, not just due to the pumps, but also due to a real interest in Mini-Bag Plus, which is a product that I think it lies at the heart of the problems that we're trying to solve for health care systems. If you think about Mini-Bag Plus, it basically eliminates and simplifies workflow at hospitals, that's in essence what it does. And that was one of the drivers of outperformance that I would highlight in the third quarter. I think, generally speaking, vaccines perhaps get a little bit better, but broadly speaking, in line with where we were expecting.

That's extremely helpful, Jay, for putting that into context. And some of my tools companies talk about perhaps next year vaccine contribution being similar or perhaps slightly below '21. I know it's a different business that's on the manufacturing side, but how should we think about vaccine contribution from Baxter for '21 -- excuse me, '22 versus '21?

Sure. As we think about 2022, and we shared our models with you all in September, our expectation is that vaccines will come down roughly $50 million. We had elevated levels this year, some early stockpiling and things of that nature. So from a run rate standpoint, we just anticipate a normalization so that should come down roughly $50 million. We'll see what happens. There may be opportunities to offset that. And the question around sustainability and new variants and things of that nature, I don't pretend to sit here today with line of sight to how all that's going to shake out. But for our modeling purpose is when we guided to the 4% to 5% compounded over the next several years. We have a $50 million dip in 2022 and a larger dip in 2023.

That's extremely helpful, Jay. And I don't know if this is the right way to think about, but certainly on my tool side, the way we think about it is you had the primary, the secondary and then the booster option, and then you lay in international and pediatrics. Does that make sense to you? Or perhaps it's different for Baxter because you're contracting commitments, right, that -- and we shouldn't be thinking about boosters being incremental?

We have some level of thinking around boosters in our 2022 numbers. That's an element in play. But listen, the extent of it, that's the real question for us and the durability and sustainability. I like our BioPharma Solutions business a lot. And one of the reasons that we broke it out actually in advance of the pandemic is because we believe this leverages some core competencies that we have and the product that we offer is uniquely differentiated, which is high-quality service for pharma partners. And so we're really excited about that business long term, and it's a nice driver for us. But we do anticipate these boosters coming down. We've modeled it that way. And frankly, if in 2023, there is still sustained need for vaccines, then it will be a little bit of a different story for our models and we have to reflect that.

And that -- I did have my question list, but I'm going to jump around a bit, Jay. You brought up that segment breaking out BioPharma, it certainly caught a lot of people's attention, why did Baxter break this out. But when I look at some of the CDMO companies, I mean, they're growing high single, double digits in that segment. Outsourcing trends seems to be very strong. Maybe talk about what does Baxter do in BioPharma? And could this be like a CDMO for Baxter longer term?

So we do certain aspects of this in the sense that we're doing fill/finish of complex pharmaceutical products in terms of vaccines and other. And so what I would say here is we have a very specific niche that we operate in, and we're really quite good at it. We're not as broad-based as many of the other CDMOs out there that's clear. But for what we do, I think we're -- we have world-class operations in both Halle, Germany and Bloomington. And I think what we're finding, the vaccine opportunity has clearly shine a very bright spotlight on this business. But the reason we broke it out, we didn't anticipate the pandemic was because we think this is a steady grower for us for years to come based on our real competency as an organization.

Understood. That's helpful. And then I think the other point you brought up Jay was on the pump side, one, maybe just to level set, right, I know [ NOVUM ] approval was end of this year or perhaps early next year. Maybe just talk about why this issue is you have good visibility on this approval time lines, and it's different from perhaps what your peers are seeing. And I think one of the questions people have is pumps in general, they get thrown in the same bucket. And not all of these issues are the same. So, I think flash out why -- what Baxter is facing is different versus perhaps your peers?

Sure. Well, maybe I'll make some comments about where we sit in this opportunity. I don't want to get too much into pure commentary because I'm not familiar with their dialogue with FDA and so on. But from our perspective, we are progressing very well. The large volume pump represents a substantial opportunity for us long term. There is no question about that. And as I think about it, we talked about the delay out of this year. And Vijay, I highlighted for you a $30 million impact in the fourth quarter as a result of the delay of the large volume pump, and that was a factor in terms of our Q4 thinking. And as we look at 2022, it's well north of the $50 million opportunity. The large volume pump market, there hasn't been one approved for years, and we think it's a very big opportunity for us. Where we currently sit, we're in active discussion with the FDA. We've hosted a series of meetings with them. We've had extensive discussions. And so what we said was early approval in 2022 is our expectation. We made that statement based on this collaborative dialogue that we had and where we currently sit with respect to open issues. So we feel good about that at this point. There's always an element of chance, and we can't speak on behalf of the regulatory body. I know you know that. But our best estimate at this stage based on the collaboration that we have. We should have a large volume pump launching early in 2022 or approved in early '22 and launching shortly thereafter.

Understood. No, that's helpful, Jay. And the $50 million that you mentioned, Jay, that's just on the capital sales, right? There should be an associate pull-through on the sets and [ not ] consumables?

Sure. There's two elements to -- there's two kinds of pump sales. One is to an existing Baxter customer. In that case, we'll just be replacing the existing sets that we have. But to your point, what I'm really excited about is this is a great technology, and so we should be able to win some new accounts. And when we win those new accounts, those come with new sets attached to them. So that's the real exciting opportunity for us that I think this technology will unlock.

Understood. And another point you brought up, Jay, was I think tangentially it ties in with this labor shortage situation that everyone is talking about, right, that the Mini-Bag, your customers who are using it because it's easy. It makes their life a simpler. When I think about your pharma business and injectables, I think that was the big whole team. It lowers error rates and makes life easier for your customers. Has anything changed during the pandemic when you think about your products, which are making life easier for customers? Should we see more traction coming out of the pandemic?

I think that we should see more traction coming out of the pandemic. And I think it's really kind of an interesting situation that has emerged in hospitals around the world really -- and there's really 2 elements in play. One is simplified workflow and one is safety for hospital staff, right? And so as we think about our R&D pipelines and how all these things work together and the Hillrom acquisition, things like the nurse call that's offered by Hillrom and how you integrate that into hospitals, how that interplays with Baxter portfolios. We get to -- we start to have the opportunity to solve problems for hospitals in a more holistic way than we've been able to thus far. And hospitals are interested in those kinds of solutions. How can you make workflow in pharmacies more efficient? How can you simplify the administration of drugs? How can you manage your patients to keep them safer. These are all things that are at the forefront. And I think we have a number of our products today, things like auto programming in our large volume pump, things like some of the technology that we have now added to our PrisMax, our new next-generation PrisMax device, that really allows for simplified auto programming of the device along with capturing data around patient safety. These kinds of things, I think, will play a bigger and bigger element or component in the overall Baxter story. One of the things that Clare and I are very excited about and our whole management team is really excited about is this transaction will close. Hopefully, it closes soon could be end of 2021, early 2022. And we're going to be ready for that. And what we're really excited about is introducing you all to the combined portfolio and some of the things that we're most excited about at an Investor Day. And I think what you hit on is really some of the crux of what we're trying to solve as a combined enterprise.

Yes, absolutely. And it makes total sense. I mean those two things, if one is [ fluid ] in that, the implication is quite clear, right, If labor shortage is real, and I think it is, I think where you guys play in and the message you're putting out, it makes total sense to me. I did have a whole bunch of Hillrom questions, but before that, one quick one on fiscal '22. You mentioned pump as one of the drivers that's up, perhaps a $50 million next year. Vaccine -- maybe that's offset by vaccine, any other pluses or minuses that we should be thinking about from a revenue perspective, Jay?

Sure. For stand-alone Baxter, we basically said our expected growth over the next several years is 4% to 5%. And generally speaking, each of the years should be roughly in that arena. The one thing that we're watching for 2023 is what happens to boosters in that vaccines business because that could be a severe headwind for 2023. But listen, we have a line of sight to this 4% to 5% range, and we feel very good about that with 2022 not being widely different. As we think about 2022, there's a few things that are going to happen. One is we will see that deceleration in that vaccines business of about $50 million, at least that's what we're planning for. We'll also see a deceleration in our acute business, which still faces some -- will face a really difficult comp. And frankly, we're so happy to have had that business and play such an essential role for health care systems, but we hope that certainly subsides a little bit. So offsetting that, what happens, our Medication Delivery business accelerates. And part of that acceleration will be due to the new pump, and part of it will be due to things like some of the areas that we've discussed in the fluids business. Our Renal business will also accelerate. That's a business that was negatively impacted this year as a result of multiple factors, including things like staffing shortages, delays due to COVID. We just saw -- we saw slower patient starts than we expected, but that will rebound in 2022 as we currently model it. And that's going to be an accelerant. And then the nutrition business will also accelerate a little bit on the back of a normalization of hospital environments around the world. So those are really the key factors in play. But again, we feel solid about our ability to deliver growth in 2022.

And the one, obviously, utilization is a big theme, right, I think for exiting this year at down singles versus pre-pandemic. Is that like a reasonable assumption for '22? Who knows? I mean maybe we get back to normal or above normalcy, but that should be like a baseline modeling assumption at this point.

I think our thinking is down slightly versus pre-pandemic, but I'm hopeful that we get to a more normal environment during the course of the year.

That's helpful, Jay. And then back to Hillrom, your comments on -- when I was looking at the deal model presentation, I think the one -- a couple of things which have really jumped up for when they talked about this connected care and care communications, right, or connected monitoring and care communications, and those were all markets for them they think which are growing like, I mean, 15% to 20% in care communications, high singles for connected monitoring. What do these things mean? And what should the combined portfolio look like? Because I think there are some obvious areas of synergies here. And clearly, you guys are excited about it. So talk to us about what that combined offering should look like.

Listen, we're really excited about the combined offering. And I think you have to think about it on a few different levels. Let's talk about level 1 synergies, and I would characterize these as things like geographic expansion. We have a broad global distribution network that is probably as good as just about any other health care company with sales in over 100 countries around the world with direct presence in a vast number of countries. And so the simple opportunity is how do we take the Hillrom portfolio that is most relevant to the geographies that we currently serve and commercialize that, level 1 synergy. What's more interesting to me are the level 2 synergies, which I would characterize as tying products together. Now those take more time to get after, and it's going to be something where there's some development. But remember, Vijay, part of the reason that I really like this deal is it kind of hits both criteria that I like to see that are so rare in deals on the one -- that's rare to see together. On the one hand, it's a solid financial transaction. You're going to see 10%-plus accretion in year one, 20% accretion in year three, bankable synergies, clear line of sight, right, and an ROI of high single digits by year five. That's a pretty solid financial transaction. But what often happens when you have those kinds of transactions is you don't have the revenue opportunities, the revenue synergies or attractive growth markets, that we've seen with the Hillrom portfolio. And so with Hillrom, you get essentially the financial returns plus a really attractive and synergistic opportunity that long term should drive even more value. So you put those two things together, and that's frankly why we're so excited about it. But we've been reluctant to talk about specific opportunities too much just because we want to get through our regulatory approval process and get this thing closed as quickly as possible. And then we'll have an opportunity to talk a little bit about this early next year in a variety of presentations that we have, but then I think in a more complete manner when we see you all in May or June to talk about the combined company.

That sounds like a plan, Jay. And just on the topic of deal close timing and the accretion numbers, I think I saw the recent debt raise, right? I think the interest rate assumptions came in well below the deal model. Maybe it's like $0.10, $0.15 better than what the deal model assumed. Is the math correct, Jay, and the financing assumptions coming in better?

We were very pleased with the financing of the transaction. I think you may have asked this on the introductory call for Hillrom, what the rate we assumed. We assumed a roughly 3% rate. I think we're around 2.2% or something like that in terms of the final financing with B's and so on. It's -- it was a really successful effort. We have great support in terms of getting this in place with our treasury team, our Investor Relations team, along with some advisers. So it was a very successful raise. And I think it definitely is favorable to the model by this -- by less than 1%, but there's certainly a meaningful enhancement relative to what we originally assumed. There is some floating rate debt as part of this. Some of the short-term debt is floating rate, so we are going to watch those curves. But yes, I think it's -- it was a more successful outcome than we anticipated.

That's helpful, Jay. And on the topic, I think typically, we have seen companies do the financing, the raises when there's a lot of certainty around close. So just around the deal close timing, we're still feel confident about the timings that you guys laid out?

We said early next year. It may be late this year. So we may close the transaction in the next few weeks. It may be in the next month. My expectation is clearly that in advance of our earnings, barring any unforeseen surprise -- and we can't speak on behalf of regulatory bodies -- we will be guiding to a combined Baxter plus Hillrom, and we will have closed the transaction well in advance of that.

That's fantastic, yes. Hopefully, it's before Christmas, so that would be a nice Christmas present for all of us.

Yes. Although I don't want to underestimate the amount of work for many of our legal and finance teams that we'll have to undertake. But yes, it would be great to have that done as soon as possible.

You did mention fiscal '22, if assuming the deal does close, it will be a pro forma combined company guidance. The information we have so far is the base business, 4% to 5%, in line with LRP, double-digit earnings growth for base business and then 10% accretion in year one of deal close. Are those assumptions still valid, Jay, or any changes to those assumptions?

No. I mean, look, what we have shared is 4% to 5% compounded on the base, low double digit, I believe, earnings compounded on the base and then 300 basis points of expansion over the next few years, minimum 50 basis points in a given year. And we've kind of said, look, given that the first -- there are a couple of things that impact the first year, and I've talked about this extensively. So that's going to be a little closer to 50 basis points of improvement. But generally speaking, the model is completely intact. And I think we're -- we won't report a stand-alone Baxter because we're so excited to report this combined enterprise, but all the assumptions underlying what we put together as an LRP are intact.

Got you. And just on the margin topic, Jay, it's really -- and this is not Baxter-specific right, I think across medtech, the gross margins have been -- it's been hard to model for us, right? Between FX and manufacturing variances and volumes coming in below scale, it's been hard. And I think for you guys, just because one of your peers on the supply side, it's been -- they've had some moving parts. There have been some questions. Can we -- at a simplistic level, Jay, talk about what has changed on the gross margin line when you look at back versus pre-pandemic level versus when we think about next year, what are the moving parts that have changed? And then maybe some are structural and maybe some more temporal. Some color on those two elements will be helpful.

Sure. If we look at the pre-pandemic gross margin of Baxter, so let's pick 2019, we're talking about 44.9% or something along those lines in terms of gross margin percentage. And as we look at the guide for this year, I think it's implied around 43%. Interestingly, one of the factors that negatively impacted the margin this year was a very substantial incremental costs related to COVID, things like expedited freight, things like PPE, personal protective equipment, in our plants. We had -- we talked in the past like $150 million of incremental COVID-related costs. That was one element in our numbers. I mean the second thing that occurred this year is because of supply chain disruption and intense pressure on raw material costs, we had these inflationary impacts, and we had supply chain and freight cost impacts that also impacted our gross margin. And so that's -- that really speaks to how we got from 44.9 to 43.2. Now what's interesting -- or 43% roughly. But what's interesting for us, and I talked about this maybe a year ago, I said, look, 2021 is going to be a tale of two halves, with the first half having more COVID-related costs and the second half having less. And so if you think about what we've implied in our model and frankly, what we've delivered, we had basically a 42% blended average gross margin in the first half of the year, and the implied second half margin is roughly 44%. I was really happy with the third quarter gross margin because if you think about it, we talk a lot about supply chain disruption, radical impacts that we're seeing, this inflationary environment which has put us under severe pressure, we talk about all of those things. And yet, despite that, in the face of that, we were able to deliver on an operating margin basis, the highest margin in new Baxter's history, as I said earlier. So we were over 20%, and we guided to over 20% for Q4. So really nice transition from the first half to the second half. And a lot of that has to do with subsiding COVID costs plus manufacturing enhancements offsetting inflation and other impacts. That really is the story of what's happened in the manufacturing arena for us in the supply chain arena. As we move to next year, what's going to happen is we will have continued inflationary impacts. But despite that, we'll be able to deliver the minimum 50 basis points of margin expansion as a result of perhaps some of the highest level of margin improvement in terms of facility optimization, value improvement programs in our plants. I've been really stunned with what Jim and his team have been able to deliver and how they have worked so hard to offset inflation in some of these pressures. So what happens next year is we get improvements as COVID costs continue to subside plus we offset many of these inflationary pressures with performance in the facilities. That's how we deliver the plus 50 next year. And then moving forward, as you get to a more normal supply chain environment, we get to flow those through unimpacted, unimpeded by these negative headwinds that we've been facing. And so I'm definitely excited just to feature for you all the 2023, '24 margin because I think we'll be in a more stable inflationary environment. And all this hard work that we're doing that gets kind of blended into an overall number gets to go through without some of those impacts.

That's helpful, Jay. And then you mentioned the first half versus second half dynamic in '21. And certainly for me, gross margin execution in 3Q was a notable highlight, very stark contrast with your peer. Is there any cadence issues first half versus second half for '22 that we should be thinking about?

First half will be a little bit lower than the second half for a couple of reasons. One is just normal seasonality. We always have the lowest margins in the first quarter and the second quarter, and then it ramps through the rest of the year. That's just kind of a natural element. And then we do see some inflationary impacts that take some time to roll through our numbers. And so as we look at Q1, Q2, there's going to be a little bit of that featured in the numbers that we shared in Q1 and Q2. So those are a couple of factors that come into play. But again, I'm speaking to a Baxter-only story right now. I will be guiding to that. So we have a lot of work to do on calendarization of Hillrom-plus-Baxter plan. So stay tuned a little bit for that. Unless there's an unforeseen negative impact from regulatory approvals, which I don't anticipate, we're going to be guiding to a new and different company. And frankly, it's like taking a step back. We're -- I remember how excited I was to talk to you about new Baxter when we were introducing that to our investors and the story and the performance that we were able to drive as I reflect on where we are going to be upon approval of this transaction. I'm probably more excited about this next chapter because I think the impact that we can provide is going to be even more accentuated by the combination of these two companies.

No. And I agree, Jay. It really is when I look at the stock performance, after that 3Q, it's been a little baffling for us, to be honest. And I'll be honest, it's -- those are some pretty good numbers, especially with their transaction on Hillrom, I can't find a more compelling story in medtech right now with this kind of earnings profile. High teens earnings. I think that's best in class. The only -- perhaps if I were to nitpick, Jay, I don't know if it's the pandemic, but free cash, I mean, Baxter was known for free cash conversion, right? You guys were above industry peers. Maybe that's coming in a little light this year. Is that just a pandemic impact and you're building in more inventory or what's going on in the free cash angle?

Sure. Free cash flow has actually come in line or above our expectations internally for this year. But what we realized with respect to the pandemic is, one, our demand patterns became harder to predict than in my tenure as CFO, I've been the CFO for almost seven years now. This -- the last two years have been incredibly difficult to predict specific demand patterns by product and by month and so highly volatile. Things that you thought would happen were not happening. And products that you didn't think would be that interesting were even more interesting to our customers. So that's one thing. And we're getting our hands -- over the last 18 months, we have severely improved -- significantly improved our ability to predict what's happening on a product-by-product basis. That's one factor. The second thing is, in light of the current environment, we were going to carry as much inventory as we had to. We had to make sure that we did not short our customers. That was priority #1. And Vijay, you know I am a free cash flow evangelist I feel very strongly about it. I think it's important for the valuation of our company. We intend to drive it aggressively for the next five years. One of the reasons we like Hillrom is the combined enterprise should drive enhanced free cash flow. But sometimes, those goals and objectives have to take a backseat and that's what's kind of happened over the last couple of years. We should see some stabilization in 2022, and then we'll start ramping this up going forward. But it's -- and it was the right decision, right? It was the right decision for us at the time. I didn't -- wherever possible, we wanted to supply as much net life-saving and sustaining products to our customers as we possibly could, and so we carried some extra inventory.

In other words, this was a conscious decision by Baxter to maintain those inventory levels. Is that a fair statement, Jay?

Yes, absolutely. And combined with it's actually hard to predict demand patterns, and so you were just -- you're low on some things, you're short other things. As a result, we're carrying extra inventory. So expect that to draw down over time, but we're going to do that in a cautious manner. We're not going to race to the bottom on this. And I get it. Like look, for -- the way I think about the value of our company is the valuation of free cash flow, discounted free cash flow valuation against what our cost of capital is. So we want to get that inventory out. We'll do so as quickly as we can, but as prudently as we can as well.

Understood. Now that makes total sense, Jay. In the last few minutes here, I want to touch on two topics. One, you did -- when you were talking about the level 1 synergies on the Hillrom side, how should we think about the cost synergies? Should we just straight line them? Or any updated thoughts on the cadence of the $250 million number?

We've been working hard with our team internally with some experts with interactions with Hillrom discussions, and we feel very good about our ability to deliver the $250 million in terms of synergies. The way it typically works, I would say that most companies when they're doing this sort of thing would see kind of a straight line. And I think that's a decent assumption, but we're fine-tuning that as we speak with the teams. And look, for us, I think one of the things we've been able to do quite well is extract cost without disrupting operations. That's really -- if you think about with our approach to cost improvement over the last five years, where we've taken the margin from 8% or 9% to 20% in the third quarter, our approach is extract cost but be very mindful of protecting critical operations. And I think, by and large, we've done a good job at that. With Hillrom, that guiding principle is #1 because at the end of the day, we've got a great collection of assets that we're adding to Baxter. And so you have to be really thoughtful and plan-ful about how you take some cost out, but at the same time, preserve what they've been able to do, which is really transform a portfolio from what was a bad business when I was there years ago to something that is very, very different than that today. And so that -- for us, that long term is the most exciting, but we do see this real opportunity As we've gotten closer to it, we have a better understanding and feel -- we feel confident in our ability to deliver those synergies. So I think that's some background for you on how we're thinking about the cost synergy opportunity.

That's helpful. And my last one, Jay, is D,E&I, ESG topics have been front and center. It's getting more traction, prominence. Does Baxter track the progress it's making against D, E&I? Do you have any metrics that you track? I'm curious if management comp is tied to any of these initiatives?

So we're very excited about the progress that we've made in the area of D, E&I and overall, our ESG efforts in terms of the progress that we've made on that front as well. We will be incorporating into our incentive plans metrics related to all of these initiatives. But actually, I'm going to turn it over to Clare because Clare is playing a key role in terms of how we report, manage and monitor some of these critical metrics. So Clare, go ahead.

Yes. Sure, Vijay. I'm sure you had a chance to read our new corporate responsibility report that we put out earlier this year in the summer, where we, one, reported out our progress against the goals that we had established in 2015 that hit us through 2020 and then also established our new goals, our new 2030 goals across a variety of parameters. And we will be tracking those. So one of the things we are going to be doing is tracking those on an annual basis. And besides the goals that we put out there, we'll also be continuing to enhance our disclosures around this. Last year, we did our inaugural SASB index filing against the medtech peers. So we put that and rolled that into our CSR report as well. So this is something that Baxter takes very seriously. And to answer your question, we actually did this year put it as part of our incentive comp for the senior leaders at Baxter. There is a component, particularly around the D, E&I piece that is now added to your individual assessment to those senior leadership team members, of which there are about 45 members. There's a D, E&I component that has added to their overall incentive compensation.

That's fantastic. I think with that, we're at the end of time. Jay and Clare, thank you so much for spending the time with us this afternoon -- this morning, excuse me. And I look forward to hitting the road with you guys next year in person.

Excellent. And we will send you an Uber burger on January 8 in honor of your canceled event due to the virus. So anyways, Vijay, thank you so much for your time, and we appreciate your interest in our company.

Okay. Bye.