Danaher Corporation (DHR) Earnings Call Transcript & Summary

Hi. Good afternoon, everyone. I'm Derik De Bruin, the senior life sciences and diagnostic tools analyst from Bank of America. Welcome to our virtual Viva Las Vegas 2021 Healthcare Conference. With me today is my colleague, Mike Ryskin, here. And our next company up for today's presentation is Danaher Corporation. With us today from Danaher, we have Rainer Blair, Chief Executive Officer; Matt McGrew, Executive Vice President and CFO; and Matt Gugino, Head of Investor Relations. Gentlemen, thank you for being here and participating in our little show today.

Thank you, Derik, and it's great to be here. Thanks for having us.

So -- great. Great. So Rainer, I'll -- Matt and Matt, I'll just kick it off to you, if you have any opening remarks before we jump right into Q&A. I've got about like 15, 20 questions I'm going to hit you with.

Very good. Now maybe I'll start off with just a quick update here. Once again, thanks for having us. We really had a great start to the year here with our Q1 with broad-based outperformance, core growth, around 30%, with the base business growing 10% and our core operating margins expanding over 900 basis points, with free cash flow of $1.6 billion. So truly an outperformance there in the first quarter and a great start. And just as context also for the questions that you're likely to ask, the backdrop to this performance is really our purpose-driven portfolio evolution into a global science and technology leader. And you followed this here over a number of years, but you can see that our portfolio now really is buttressed by strong secular growth drivers across the end markets that we serve, with 75% recurring revenues and differentiated by an outstanding team and by our DBS, Danaher Business System-powered operating model. So the portfolio evolution and our execution makes us believe that our long-term growth rate has re-rated higher into mid-single digits plus core growth, with durable COVID tailwinds that will persist past 2021, further catalyzed by our balance sheet, our free cash flow and our bias towards M&A as a differentiator. So with that, Derik, just to set the frame a little bit, the mic is back to you.

Great. Well, you just took all my questions. So thanks, everyone, for joining. The -- so okay, let's start on the COVID tailwinds. I mean it's obviously been a big tailwind for a lot of companies. As the pandemic wanes, investors are worried about the COVID overhang. Danaher was unusual that you surprised people in the Q1 call by giving guidance for your COVID testing business in 2022.

I guess what gives you confidence in the target for '22 test shipments being on par with fiscal '21? Because not many companies can say that with the sort of clarity that you guys did.

Well, it all comes back to what we think is a unique positioning of our Cepheid franchise at the point-of-care where workflow, speed and accuracy matter most. And the question might be, well, why does it matter most? Well, because the clinicians are making decisions, they're making therapeutic decisions as to whether a patient is going to get a treatment such as a monoclonal antibody that's not a trivial decision or some other form of treatment. And that's why it's got to be right. And you've heard me speak in -- perhaps in other places about the concentric circles with less durability at the outer edges, characterized by longer turnaround times, perhaps less accuracy, locations in centralized settings as opposed to really the bull's-eye where we're positioned, which is at that point-of-care where docs are making important decisions. Now at the same time, we've significantly increased our installed base. In fact, since the beginning of the pandemic back in early 2020, we've increased our installed base by 40%. And that is the largest installed base in molecular diagnostics at the point-of-care. And it's coupled with not only COVID tests or the 4-in-1 test, but the largest testing menu, with over 20 assays approved in the U.S. and over 30 assays approved outside of the U.S. So we think that, that, coupled with the fact that we've been very thoughtful where we're placing that installed base that not only meets the immediate need of perhaps outsized COVID testing requirements, but also subsequent needs to take full advantage of that broad menu is going to make sense for us for the long time -- for the long term. Now just a couple of other points. I think as you look at the disease, specifically related to COVID -- the COVID virus, we can see that from the vaccine uptake and speaking to clinicians throughout our customer base that we're obviously not going to have 100% vaccination, that we will continue to have infections here, that this is going to be an endemic disease, if it's not already, as opposed to a passing pandemic. And that has real implications in the real world for clinicians. Imagine a world in which asymptomatic patients are entering hospitals where you have immunocompromised patients in ICUs and the hospital wards and so forth, and they're coming in for procedures. They have to be tested. There's going to be continued testing in -- at the point-of-care, in hospital settings, just to protect existing populations, patient populations. And then additionally, as we think about the continued testing requirements outside of the developed markets, there, we see continued growth in demand for the long term. So all of this together really makes us think that the increase from 36 million to 45 million tests in 2021 and achieving the same number of tests in 2022 is something that is realistic.

Yes. We did an expert panel yesterday, and we hosted one of the large national lab companies earlier today. And I think they're of -- both were sort of, of the opinions that as the pricing, the reimbursement for COVID testing comes down, it's going to be harder and harder for POC to compete with the central lab just because they can't get that down. So as the reimbursement rates change, there may be some differentiation or less utilization in point-of-care. It sounds like you're making the argument that you're even more -- preprocedural screenings or things of that nature as sort of being what you're targeting for that in that situation versus like that. I'm just -- sort of curiosity on what you sort of think about that balance between reimbursement and utilization.

So we really see that, the need at the point-of-care for fast turnaround time. So we're not talking hours or days, but we're talking minutes, with accuracy and ease of use in a decentralized point-of-care health setting in the country, is the value proposition, which will continue here to be the most durable. And that's what our customer base is telling us. And as it relates to reimbursement, we've seen those things change over time. And it's always been, how strong is the value proposition? Are you really giving the doctors what they need in order to make the right clinical decision? We feel we're in the right place there.

And that 45 million number, that's a global number, not a U.S.-only number?

Correct.

For what you see for -- okay. And COVID -- okay. Great. So let's bridge between COVID testing and bioprocessing. Basically, about -- over $500 million in COVID-related sales in the first quarter, you're now looking for roughly $2 billion for the full year. So the same question, what are your thoughts on the sustainability of the bioprocessing tailwinds between -- after 2021? Is that 5 -- would you be comfortable using that $500 million a quarter sort of like a placeholder as we start to build out our models for next year?

So the way we've been thinking about it is the 500 model -- or $500 million per quarter model certainly holds for 2021, right? And as we think about the math and how we've seen this ramp, it's useful, I think, and instructive to go back to the beginning. From the beginning of the pandemic here in the early days of 2020 through the end of 2021, we see orders of over $3.6 billion, of which, in 2020, we've shipped $650 million. And we expect to ship another $2 billion in 2021, leaving us with a backlog going into 2021 of another $1 billion. So as you think about -- I'm sorry, going into '22 of another $1 billion. So that leads then to the question, well, what kind of assumptions are you making about that? What is in, in terms of demand? And what is not? So it's important to note that the 8 approved vaccines in the various jurisdictions around the world are in, as are those that we see nearing the end of Phase III and essentially petitioning for EUA approval. Those are programs -- we know our position in them, and we can estimate to some degree what that implies. And that's in our forecast here and guide for 2021. What's not in there and which are still imponderables to consider for 2022 are, for instance, the approval of vaccines for children. Those are still in clinical trials for various manufacturers and various formulation types. And when those get approved, it is still unclear. At the same time, it's also unclear how we need to think about booster shots. We don't know how long the vaccine's efficacy last. As an example, we don't know how variants might influence the effectiveness of vaccines over the long term. So those are things that we have excluded from our perspective and would come depending on how you're thinking about this on top of any backlog that we go into 2022.

Got it. Got it. And if we back out COVID, the core bioprocessing business seems like it's on fire as well. Can you just sort of give us some clarity on that? And basically, we've been getting a lot of questions as people think about cell and gene therapy as a market evolving. You've got some interesting product offerings in that area.

Yes. Well, there is. So we see -- despite the fact that in the first quarter, we grew in the low 20s in the non-COVID bioprocessing business, we see the market growing really in the low double digits. And [indiscernible] think about [indiscernible] that is. Well, first of all, the pipeline of -- biotech pipeline continues to grow. The number of drug substances being registered and being driven into the various development phases continues to grow, both in terms of existing and known and well-understood modalities, such as monoclonal antibodies or recombinant proteins, but also, and as you say, and I'll come back to this, in the cell and gene therapies, right? Now we're all talking about potential of mRNA therapies. And of course, there's all of those therapies and many others. So there is also really a huge decrease in the drug development pipeline, not only because there's a demand for the existing and known drug modalities, but also because there's a proliferation of those new biologic drug modalities. And that is driving the great deal of growth that we're talking about in the non-COVID bioprocessing business. Now if we come back to cell and gene therapy, really, the combination of Cytiva and Pall is unique in the marketplace. As an example, if we think about gene therapy, many [ of these ] gene therapies and viral vectors, in particular, are produced using adherent cell technologies. And Pall has the iCELLis franchise, which is a proprietary and unique and the #1 franchise in so-called adherent bioreactors. And together with Cytiva, we have not only the upstream, but all of the downstream technologies required to build the entire production workflow and process for gene therapies. And even as the gene therapies now, there's alternatives that use so-called suspended cell bioreactors. We have those bioreactors as well with the Cytiva combination. So we feel incredibly well positioned there. And as you think of the cell therapy marketplace, which is smaller but growing, particularly with autologous applications or taking cells out of your own body, modifying those, expanding those and then reinjecting them back into your own body, Cytiva there has had and continues to have the leading franchise, supplying all of the approved -- FDA-approved cell therapies in the marketplace. So while this is a smaller part of our business, it is a very fast-growing part of our business, and we feel very well positioned with that.

Rainer, you're -- I don't know if you can come a little bit closer, you're breaking up sometime in the responses. Just...

Will do.

Dropping some words. Hopefully, that will help a bit. Great.

Okay. Thank you.

So -- oh, that's much better. So I want to talk a little bit about organic and inorganic growth. I would say that relative to some of your other life sciences peers, I think less is known about Danaher's R&D engine. I mean we know a lot about DBS and sort of like how you optimize the business. But in terms of where you invest your R&D dollars, success of some of your internally developed products, I think -- could you expand a little bit about that? Because there's a question we -- keep coming up on like, what are the major new product launches? How does Danaher spend its money?

Understood. Understood. I'd like to take even a step back to provide the context in how we think about allocating capital to organic investment and how we prioritize there. And where it starts for us really is at the intersection of our core values, one of which is customer talk, and we listen. And so talking about their pain points with us. And innovation defines our future. We're keenly aware how important innovation is. Now at the same time, it feels -- that intersection in mind, when we talk about growth, we talk about architecting your growth. Growth is not the result of a cacophony of activities. We talk about it as architecting, designing new growth, and innovation is a key pillar to drive share gain with proprietary solutions to create sustainable competitive advantage and pricing leverage. So innovation for us is core to how we design growth, super important. And it's in that context that we created the DBS processes that you referred to, that enable us to focus on material customer pain points, that we look to solve with world-class proprietary solutions in accelerated time frames. You can hear the DBS language here [indiscernible] Now our R&D investment is now right around $1.3 billion or 6% of sales, and it is a part of our growth flywheel where we leverage high gross margins and lower G&A, you've heard us speak about this, and we continue to strengthen that investment over time. So we expect more investment there in R&D. And more recently, we have increased our focus around innovation, talent, with R&D hires as a percentage of new hires increasing. We -- you saw the press release, we hired a new Chief Scientific Officer as well as a new Scientific Advisory Board. So -- and then maybe lastly, then talking about the algorithm that we [indiscernible] with all of our investments, organic and inorganic. We prioritize a project that is according to their strategic alignment, the customer impact, coupled with materiality to our growth and earnings trajectory.

Got it. So I'm going to switch to -- I'm going to pick on Matt McGrew for a couple of minutes. So Matt, can you talk a little bit about how the margin profile sort of evolves post 2022, just given the -- or post '21, just given the -- if I take just now the numbers and the core businesses recovering and like there. And then the other questions we're getting is like your thoughts on sort of like the tax implication from some of the changes going on or being proposed in Washington.

Sure. So I think from a margin perspective, we've sort of -- we've been talking about -- can you hear me? I just want to make sure you can hear me there.

You're good.

Okay. Yes. So we've sort of been talking here this year about margin profiles. Think of it as -- for the remainder of the year, we think the VCM -- a reasonable VCM through the rest is probably about 40% as we sort of anniversary, if you will, some of the comps here, as we stop traveling and getting back into the office, et cetera. But that 40% VCM is still pretty -- still a bit higher than we have seen historically. To your point, Cytiva coming in, obviously, having very good margins will help that sort of tick up a little as we move forward. But I think as I sit and think about, and as Rainer will -- can talk to as well, when we think about next year and beyond, I think we've -- given the frame that he laid out earlier around how we've been able to kind of go from that 4% to 5% core growth business prepandemic to what we are here, even post vaccine, I think there's still a bias to make sure that we continue to make the investments, right, in the growth, the R&D that you just -- well, that he just talked about. There's still going to be a bias to do that because once we -- we've seen it before with some of our businesses. Once we get that growth kind of flywheel going, generating the margins and reinvesting back into the business really is sort of self-perpetuating. So I think as we sort of think about looking forward from a margin perspective, I actually think more in the 35% fall-through is probably the way I will frame it and think about it, and then the 40% here is really more of a function of sort of returning back to -- or not being in the office and travel, et cetera. So that's how I think about the longer-term kind of profile. As far as the tax goes, I probably know, frankly, as much as everybody on the call here, just being able to read the paper. So it's pretty preliminary as you might suspect. But -- so I'm not sure I could add a whole lot of color to what we think on that until we've got a bill to react to because as you see, there are quite a few moving -- potential moving parts in what we're reading about.

Matt, can I just jump in for a quick [indiscernible] Derik. Matt, a follow-up on a comment on sort of the incremental margin and the fall-through over the next -- the rest of 2021 and 2022. If we think about the COVID contribution specifically between the Cepheid COVID-only tests and the 4-in-1 combo and then also sort of some of the bioprocess solutions, is there a significant difference in terms of incremental margins between those? Because you're going to see a little bit of mix shift between those various buckets, and we just want to make sure we're modeling that correctly over the next couple of years.

Not much. Yes, not much. Between the 4-in-1 and the COVID-only, I would say the margin profile is pretty similar. Different, obvious, price points, but the actual margin that falls through is not very different. So yes, no, as you're thinking about the model for that, I wouldn't think it's different. And neither for -- on bioprocessing, there's not -- there is -- again, when we sell -- whether it's on the vaccines and therapeutics, no real margin differential between what we sell on non-COVID-related products, it's pretty similar.

Okay. All right. So it's just more of a volume flow-through?

It's volume, yes.

Yes. All right.

So let's switch over to M&A since that's a key part of the story. You raised a bunch of capital last year. You've got -- you've enjoyed really good cash flows. There's clearly willing sellers out there in the market. Can you talk a little bit about how you're sort of looking at the M&A landscape, the acquisition landscape right now? Are you expanding your growth, your sort of like view of what would be an attractive target? Have any of your ROIC metrics change? Just some general broader thoughts on the big M&A picture.

Let me start with, we really like the way we're positioned with our core platforms, both in terms of the scope and the depth that they represent, once again, to level set, life sciences, diagnostics, water quality and product identification. And we don't see that pressing need here to start chasing distant and new adjacencies. We really like the space and our positioning, where we are, and we're going to continue to invest there, both organically and inorganically. As it relates to the return metrics, let me just say that we live by -- you all might know Jim Collins and some of his books. We really -- we do talk about the power of the and as opposed to the tyranny of the or. And we think about our acquisitions, first of all, around strategy, which end markets do we want to be in, those end markets that have long-term secular growth drivers because we believe in the long-term compounding value to create outsized return. And then, of course, we look beyond that particular end market into the most attractive assets where we think we can either buy or build competitive advantage. And of course, we couple that, so not or, and we couple that with the appropriate return metrics. And so when we seek the intersection of those 3 things, strategy and market, attractive asset and appropriate financial model, that's when we feel most comfortable, and that's how we then execute on our M&A deals going forward. And as you think about that, that's why we're today in molecular diagnostics. That's why -- with the acquisition of Cepheid. That's why we are in biologics through the acquisition of Pall and then subsequently Cytiva. And that's why we are in genomics through the acquisition of IDT and now, of course, Swift Biosciences and so forth.

Are you finding that some of these processes are becoming more competitive? Because just over the last 6 months here, it feels like almost everyone in tools is flushed with cash and talking up M&A more and more and more. I mean we hosted a couple of sessions earlier today, and it was -- half the conversation was how many targets they're going after. So are you bumping into people more? Is it putting more pressure on the valuation side of things?

I would tell you that we have had plenty of competition in these markets for some time. And the people competing for those assets tend to be roughly the same group of competitors. And so valuations are, of course, a high or low depending on your strategic point of view and how you're thinking about that asset in the context we just talked about. So we feel very good about: one, the positioning of our portfolio; two, the doors that remain open for us to invest in there. And we're confident in the future.

Got it. So we're sort of coming -- we're going to go a little bit over since there were some audio issues like that, we've got some time, if you don't mind. But I guess one of the things that's come up with investors, a question I've been getting is more on your genomics space, particularly Roche on Foundation Medicine, Agilent has spot resolution. You guys have Leica. Is there any need for you to add more of a liquid biopsy, molecular profiling footprint to your anatomical pathology business given how your -- the competition seem to be evolving?

So yes, we really do think we're nicely positioned with our diagnostics portfolio. At the point-of-care, we talked about Cepheid in the core lab with Beckman Diagnostics, in the emergency departments with radiometer and, of course, in the anatomical pathology lab with Leica Biosystems. And when you look at these new technologies that you referenced about, there are a variety of technologies and techniques that are helpful in the diagnosis and the classification and in the monitoring of cancer patients. You talked about liquid biopsy as a point in some of those other companies. And we always and we continue to seek to develop and enhance our own diagnostics capabilities. And frankly, we see potential for us to leverage our domain expertise in tissue, Leica Biosystems, blood, molecular diagnostics. So as we think about the long term, we see liquid biopsy, spatial profiling as complementary cancer screening and monitoring tools. And we don't actually see them as substitutive of some of the techniques that we have, rather, we see those as things that might enhance the perspective of a clinician. So we feel very good about our position, and we always are looking at technologies that might enhance that positioning here for the long term, especially if there's a real clinical and patient value for that.

Finally, one last question. And since you're the new CEO, you haven't had the pleasure of getting this before. What's underappreciated or misunderstood about Danaher?

I'd tell you, every day, we want to talk about the Danaher Business System and the power of our business model. We want to make sure that people understand that we have had a purpose-driven portfolio evolution, which with the pandemic, has proven its durability across the business, across the entire enterprise, independent of the platforms and that we see plenty of potential to further develop not only our portfolio but our businesses and teams for the future.

Great. With that, Rainer, Matt, Matt, Mike, investors, everybody, thanks for listening. Appreciate it. Have a great day. And with that, thank you, everybody.

Thank you. Thanks, Derik, Michael. Good to see you.

Thanks, Derik.

Thanks for joining us.