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

Good morning, everybody. Luke Sergott, I'm the life science tools and diagnostics analyst at Barclays. Kind of pitching over here into the med device side and talking to Jay Saccaro and Clare Trachtman of Baxter. We're going to dig in here. But just to kick it off, if you guys want to do -- open up with a few things to say and then we can dig into questions.

Sure, Luke. Thanks for the invitation to the conference. Thanks for pitching in here, pinch-hitting. We appreciate you doing that. And it's nice to see everybody in person. It's hard to believe that we haven't been at this conference for several years. And -- but it is great to be back in person, with seeing a lot of folks that we haven't seen in so many years in person. So that's great. And I think that for me, as I reflect back on the last couple of years, really pleased with the progress of our company. I mean, I think even more than that, the durability of our company, what we've been able to do in light of a pandemic in terms of continued steady growth on the sales line, continued focus on margin improvements and enhancements in a highly volatile world. And then most recently, the acquisition of Hillrom, which I really think is a wonderful element to add to our portfolio that will really allow us to unlock the next chapter in Baxter's story. To be able to do all of those things amidst the pandemic and all the Zoom calls, I think it's really a testament to the company, the people who work there and the portfolio of products that we sell. At this point now, we're contending with the crisis in Ukraine and the instability that that's created. And again, I think that our business hangs tough in all of these scenarios. So again, thank you very much, and I look forward to the discussion.

Great. So let's start and could we talk about the trends for hospital admissions and elective surgeries as the Omicron surge then is now waning, how that has really impacted the utilization and how that was baked into your assumption for the quarter?

Sure. We gave guidance in February. So as far as what we saw, Omicron was waning. I think Omicron is moving through the United States in large part, I think we've recovered from that consistent with what we were expecting to see. So I think as far as COVID in the United States, we're watching for a future surge. But as it relates to the most recent surge that took place with respect to Omicron, I think that's largely behind us. And for us, there were a number of impacts related to that. One is procedure-related. One was very high absentee levels in our plants, which we saw in December, January, February and really did impact our first quarter backlog and our Q4 backlog. So that's a factor. And then, of course, with our suppliers, they faced the same challenge with respect to Omicron. I'm hopeful that all of that continues to trend in the right direction, but we have to watch that very carefully.

Okay. And then in OUS, how the different restrictions are starting to be lifted in China? And can you talk about anything that you're seeing in Asia and Japan?

We're watching this very carefully. I think that we've seen a surge in China. We have about 7% of our sales or so in China. And so that certainly represents somewhat of a risk to the sales line, although I would say it's not a dramatic risk. But as activity is curtailed in a given market, typically, procedure volumes and even admissions will decline. And so that's something that we're watching. I think the larger issue with respect to China is to the extent that there are further lockdowns and we see ourselves in a situation where perhaps a stretched global supply chain gets more stretched. And while I can't point to specific things that we're accessing out of China that would be impacted, it just creates a higher level of pressure in the overall environment, and that's definitely something that we're watching. But what's -- what hasn't really been talked about, and I very much understand why in light of some of the other things going on in Europe, is really the spike in cases in markets like Germany, in the U.K., where you've seen a higher level of COVID. And so that's something that we're watching. We don't necessarily have a good feel for the long-term implications of that at this stage or the implications for the full year. But it's something that we're watching because you'll see procedure volumes perhaps impacted by that. At this stage, what I would say is all of those markets have opened up, but they've seen very elevated levels of COVID, in particular, in Germany. And so it's something that we're keeping an eye on, and we'll have more to say in the coming months. But I was a bit surprised by the high level of cases that we're seeing in some of those markets.

Okay. And do you have the manufacturing exposure over there?

We do. But to date, we haven't seen any impact from that. We have our Halle, Germany facility. That's a critical facility that manufactures cyclophosphamide and does some fill/finish business for us. So it's a wonderful facility, but we haven't seen any impact there at this point.

Okay. That's helpful. So -- and lastly, on just kind of the macro and how this quarter has gone. Talk about FX and any change there from your -- or initial thoughts here? How that's changed in your outlook and if there's any update there?

Yes, we don't really give updates intra-quarter. So I'll stop short of doing that. Otherwise, we'd be updating guidance like every month. So we gave guidance last month. We had a decent line of sight to where FX movements were taking place. Of course, there are some major developments since we last gave guidance, and so we'll watch that and reflect that in our updated forecast in April.

Okay. And then so thinking about your guidance, the 4% core revenue growth. Can you walk through the assumptions here that, I mean, there's tons of moving parts within the business. So just give us sort of sources of upside or downside that you guys are looking out for.

Sure. So overall, 4% sales growth operationally. Hillrom, we expect to grow mid-single digits. As we think about that, really, it starts with what our end markets are growing. And our end markets are roughly 3% end market growth, which I think it's interesting because if we look back over the last 5, 10 years, typically, that's what they've been growing. Maybe a little bit faster, but generally speaking, we're talking about 3% end market growth. We'll grow faster than that. And part of that relates to some of the innovative efforts that we have ongoing. An important catalyst I'm sure we'll talk about is the launch of our NOVUM pump, which will occur hopefully in the coming months here. And so we're really excited about that. But those kinds of innovations allow us, along with good commercial execution, to grow in excess of the markets that we have in place. So 4% growth compared to the 3% end market growth. From a cadence standpoint, what I would say is the first quarter is really negatively impacted by supply constraints that we have in place. We're seeing back orders, backlog at very elevated levels. And part of that is it's all a carryover from Omicron and accessing raw materials and critical components and inputs. That's been very challenging over the last couple of quarters for sure, but then heightened in Q4, end of Q4 and into January. So the way the sequencing of our sales works out is we expect that the backlog situation to resolve gradually over the course of the year, but we are having a big impact in Q1 as we gave that guide. Now the good news from my perspective on both the Baxter and the Hillrom side is demand is there. Demand is very solid. And so I think while some of these sales will be lost sales, and that's just the reality of the situation, some will remain in the backlog. And as we think about the health of our end customers and what they're purchasing from us, it's quite good. So I think this is a story that should resolve over time. I mean that's an important element as we look to the cadence through to the rest of the year.

Okay. And so when you're thinking about the supply chain, can you give us a sense of the key inputs that are most constrained right now and weighing most heavily in driving up that backlog?

Sure. One, I would say, is accessing of electronic components has been challenging. And it was challenging in Q4 through January, and we're still watching this very carefully. The electronic components are used in a number of our products. Our large-volume pumps, our cyclers, Hillrom's beds, to name a few, but accessing these is -- it's been very challenging over the last 6 months. But then also now, as we look forward, we don't foresee this rapidly improving, but that's going to be a source of improvement throughout the year if all things go according to plan. In addition to that, again, raw material. It depends on the raw material category that you're looking for. We have a number of products where we have limited suppliers. And when suppliers have employees out as a result of Omicron, something that you expected to get next week might slip a few weeks. And so I think that phenomenon really hits across our portfolio and has started to improve. But we don't foresee a normalized environment until much later in the year.

Okay. And so if I can just think about the pacing here of things getting better for you, it's likely going to be in the raw materials and things affected by Omicron obviously. And then as the year goes on, the chips will get better. .

That's the way we're looking at it.

Okay. On the inflation side, can you talk about what you guys have baked in the guidance for higher freight cost, material labor and things like that?

Yes. And not to get specific, we have included a significant impact for raw material inflation related to resin products, related to increased freight. And in fact, from -- even from January to the guidance that we gave in February, we incorporated substantial incremental costs related to freight, related to inflation based on everything that we were seeing. And so some of this comes -- we were talking about this in September and October, and some of this is the rollout of that phenomena. And what I would say is good news is for some of these categories, we've seen more stability as we look forward. But yes, it's been a very significant driver for us and it's something that's impacted the margin in 2022.

And so can you give me a sense of how that flows through the P&L? I mean, a lot of -- I'm sure you have some master service agreement contracts and things like that. Give me a sense of the pacing of when you see -- recognize a lot of that inflation increase.

I would say that, generally speaking, it's 3 to 6 months after the price increase, in part because some of your agreements are 1 month rolling. And so that's one driver. And then in part, it's just sort of getting through our supply chain to manufacture product to sale. And so because of those 2 lags, it's basically 3 to 6 months.

Okay. And can you -- do you care to bucket what you're seeing in most -- categorize freight material and labor?

I don't know, Clare, do you have anything you want to share there?

So with respect to 2022, when we gave our guidance, when we incorporated, I would say it was more on the material and labor inflation in terms of a year-over-year impact 2022 versus 2021. Freight, we do have some incremental expenses for freight. That was primarily in the first half of the year due to the need for expedited freight, particularly in the first quarter.

Okay. And then with Ukraine and Russia, having to fly around and a lot of my companies have been talking about that.

So Ukraine and Russia, it definitely poses some incremental challenges as far as global supply chain and logistics are concerned. The obvious is, hey, the price of oil is meaningfully higher although down from the peak. So that was kind of a good move, I would say. I think that's a substantial improvement. But clearly, the price of oil is directly related to freight costs and it's also indirectly related to other input costs like resin, for example. To your point, getting product around Europe and getting product from Europe to Asia is now more challenging, simply put. And I think that you have things like the Trans-Siberian Railway, which may have been a corridor by which you could bring product to Asia from Europe. That's not really an option for you today. So we've had to rethink how we move product around the world in light of this crisis. And then third, the semiconductor supply in the United States -- around the world will be negatively impacted by this, and that's something that we're watching very carefully. The acuteness of this, in particular, is what we're watching. And we don't have great line of sight to what the long-term impact of some of the raw material supply for semiconductors out of Russia and Ukraine will be on that market. But you're taking a market that was already stressed and now you're adding incremental shock to it. So those are all areas that we're watching as it relates to the Ukraine and Russia situation. But I think we're managing through it as best we can, clearly working very hard, but it's something that we're going to have to forecast carefully as we look at our upcoming guidance.

Okay. And then when you think about Hillrom as it rolls into the business, how different was that supply chain versus what you guys had at the core Baxter? Like how many -- what other challenges or things that you can learn from them?

Sure. There's not a lot of overlap in terms of raw materials between Baxter and Hillrom. What I would say is if you were to -- Baxter is to resin as Hillrom is to metals. So a lot of the core materials, core beds and things of that nature rely on metals. The overlap, of course, is electronic components, where some of their smart beds and other smart products do require semiconductors and things of that nature. And so they were hit with the same issues that we were in the fourth quarter. So we had absentee levels in plants like Skaneateles, which created a challenge in terms of delivering their product to the market. Now if you look at their Q3 of last year, they had a tremendous Q3. And the fourth quarter was more challenging for them, not because of demand, but rather because of some of these same supply chain issues that we're facing. So I would say the good news is as we look at addressing this, it's not like it's a whole different set of problems that we don't understand how to solve, it's the same set of problems. It's just about how we get after it, and now we have a broader portfolio to address.

Right, yes. And talk about some of the offsets that you have left available in the toolkit. I'm sure that it's been pretty stretched thin given how long this stuff is going on just dealing with it.

It's interesting because if you think about our performance last year, we were talking about inflation and freight and stuff like that in our first quarter earnings call -- or in April. And so we had this challenging environment really most of the year. And for me, the great news was that despite that, we were able to put some of our record margins in the third and fourth quarters. The highest margin in new Baxter's history was in the third quarter of last year, really amidst the pandemic along with this really difficult inflationary environment. So that's great news. And what it points to is all the work that we're doing on the manufacturing side to accelerate improvements in the network, in the plants and the facilities to optimize cost to be more efficient. I'm really proud of the work that our supply chain team has done. They've been remarkable in the face of a chaotic worldwide situation. And the important aspect of what they've been able to do is not only are they playing, let's just say, Whac-A-Mole with supply chain issues that pop up. But concurrent to that, they're also addressing cost issues and really driving costs in our plants and facilities. So I think that you will see that continue. Those efforts will continue in that flywheel of what we call VIPs, value improvement programs, will continue and accelerate. So it's going to be really interesting once we see a stable inflationary environment because you'll get to see that unimpeded, that performance unimpeded by our supply chain team. So that's been one very important offset that will continue into this year. Of course, we're trying to accelerate as much as possible the Hillrom value capture, the Hillrom synergies. And I would say that that's going very well. The Hillrom synergies, I'm increasingly confident in the numbers that we've shared. We've taken the same playbook that we did when we did the margin improvement plan at Baxter to this particular area, and it's going really well. And as we learn more, we're getting increasingly comfortable, which I think is great, and it's kind of what we expected. And so that will be another thing that we look to use to offset some of the challenges that we're facing. And then look, we've -- we're carefully evaluating the price of our products and what's appropriate given the market conditions that we're facing, and we'll see what we're able to do there.

Yes, I was just going to ask on the pricing, but just back to Hillrom. Is there anything that you guys can accelerate from that plan, prioritize and just say, okay, let's pull a little bit of that forward and help offset some of these outsized pressure?

It's a hard question to answer because we're always trying to pull forward. You know what I mean? So it's not like, oh, I have this inflation problem. So can I pull forward? The answer is we're always trying to pull forward, so we're trying to do this as swiftly as possible. Listen, if we can get to the year 3 target prior to that, we will certainly try to do that. And the reason that we set it up as a year 3 target is that some of the issues in terms of value -- some of the opportunities take time, take IT systems to unlock, take automation, take facilities. So as a result of that, some of it is back-end loaded. But certainly, Luke, regardless of the inflationary environment, we're trying to pull that forward as swiftly as possible.

I got it, yes. And lastly, on the pricing environment. I mean it's a, in my space, it's a lot easier to pass on that pricing than it is in yours. So give us a sense of any areas where you're able to get a little more than others, if you care to comment.

Well, I won't comment only because we're sensitive to conversations around price. But look, we're looking at every lever that we have available to us, given the environment, given the tough environment that we're facing, we're looking at and clearly, price is one of them.

Okay. That's fair. Can we shift gears a little bit to NOVUM IQ. And the -- specifically the Class 1 on the Spectrum IQ. Can you talk a little bit about what's -- with the conversation with FDA, what they're looking for? And the resubmission, I think, was sometime within the next 30 days, and they have a 30-day response. So give us a sense of what you're seeing there, Clare.

Sure. On the Spectrum side of the recall, that's separate from NOVUM. So it does not impact NOVUM. It will not impact the submission. There's different -- it's a different hardware design, so the recall of Spectrum does not. The resolution on the Spectrum recall, we'll have to send some updated information to our customers around the instructions for you. So it does not actually -- it does not recall -- or require the recall of the pump. It does not impact our ability to sell the pump, and so there's no impact on sales. With respect to NOVUM, we do -- to your point, we hope to submit our responses to their questions here, I would say, in the coming weeks. Once we submit that, there's a 31-day review clock where the FDA will get back to us. And so our expectation is that we are set to launch here in the first half of the year. Most of the sales will be in the second half of the year. So we've done everything we could to put ourselves in the best position. It's definitely taken some time. We've worked very collaboratively with FDA to address all their questions. And so we're hopeful we'll be submitting here shortly and then launching sometime in the first half.

Great. And so just reading the -- getting more familiar. And you talked about the -- having the 3 pumps on 1 platform. Can you kind of go into how you seem like really excited about that, and that seems to be a game changer going forward?

I think it's going to be an important element in the decision-making process for hospitals. Right now, if you want to buy a Baxter pump, you choose to do that knowing that you will have at least 2 different platforms in your hospital. And what that means is if you have a Baxter large volume pump, prior to the launch of the new pump platform, you would have to get a syringe pump from another company and a PCA pump from another company as well. And so what that means is your nurses are learning minimum 2 systems. And it's complicated, it's cumbersome and it's not an elegant solution for hospitals. Despite that, we actually had really good performance of our Spectrum pump because of all of the great features of that pump. So now what if we enter a world where you take the best of spectrum, like the Master Drug Library, like the simple user interface, among other things. And you now have a large volume pump with that, but then you also have a syringe pump with that and then ultimately, a PCA with that as well. So now you saw it's really all on the same platform, all modular, all stackable, which is just a great solution for hospitals. I think that it allows -- one of the reasons that people decided to go with other offerings versus Baxter is because of this factor that I've just described, and we've taken that away while at the same time preserving the best aspects of what makes our pump interesting and attractive. So we're very excited about this. I think that the NOVUM pump will be an important, long-term value driver for the company. But let's see, we have to get it through FDA and launch to market first. So that's step one.

Yes. Yes, putting the cart before the horse. All right. And then so as you think about the -- I mean, as you think about the bed being right there next to all the other equipment, how can you really start driving those revenue synergies after it comes on market? Give us a sense of how that -- on the long-term plan.

I would say that there are 2 classes of revenues. One is short term related to distribution opportunities and one is longer term. On the distribution side, things like geographic expansion, things like alt site exposure that we don't have today but Hillrom provides us, all of those things will package up into some revenue synergies, which I think will be wonderful, and we'll be able to report those over the next several years. What gets more exciting is, to your point, the product integration. I mean there are some simple product integrations that we can do, but the notion of you have a bed that captures critically important data, you have a nurse call system, you have a pump, you have an acute monitor, how do you link all of those things together to solve problems for hospitals in elegant ways? That is some of the most exciting things that we're talking about as a company, but we respect that those are longer-term opportunities. So stay tuned. We're going to have an Investor Day in May, and we'd love to see all the folks in the room and many of you who have dialed in at that event. We'll start to talk about some of these product opportunities and revenue synergies at that point.

Great. Thank you for all your time.

Thank you.

Thank you.