Enovis Corporation (ENOV) Earnings Call Transcript & Summary

Good morning and welcome to the Enovis Conference Call to discuss the acquisition of LimaCorporate. [Operator Instructions] Please note, this event is being recorded. I would now like to turn the conference over to Kyle Rose, Vice President of Investor Relations. Please go ahead.

Thank you, Drew. Before we begin, I would like to remind you that the discussions during this conference call will include forward-looking information. Factors that could cause actual results to differ materially are discussed in the company's most recent financial filings with the SEC. Also, the discussions will include certain non-GAAP financial measures. Reconciliations to the most directly comparable GAAP financial measures can be found in today's press release that is an exhibit of Enovis' current report on Form 8-K filed with the SEC. With that, I will turn the call over to our CEO, Matt Trerotola, to start the call.

Thanks, Kyle. Hello, everyone. Thanks for joining us this morning to discuss our definitive agreement to acquire LimaCorporate for EUR 800 million. I'd like to start by telling the Lima team how excited we are that they'll be joining Enovis. The addition of Lima represents the next step in the evolution of Enovis as we execute against our strategic goal to build a high-growth med tech innovator with a meaningful pathway for sustained operating margin expansion. We're webcasting the call this morning and have a number of slides to help facilitate the discussion. Joining me this morning are Brady Shirley, our President and COO, dialing in from Italy; Ben Berry, our CFO, and you've already heard from Kyle Rose, our VP of IR. Let's start on Slide 3, which walks through the highlights and strategy around the transaction. Strategically for Enovis, the acquisition of Lima complements our existing Recon business, provides immediate scale in key international geographies and importantly, creates a $1 billion global Recon business with nearly 50% exposure to the faster-growing extremities markets. It also strengthens our R&D pipeline and adds key manufacturing and innovation competencies in the 3D printing arena. Importantly, this acquisition accelerates our progress against our key strategic goals $2 billion revenue by 2024, consistent high single-digit organic revenue growth and continued margin expansion and global scale. With that as a backdrop, let's move to Slide 4, which provides an overview of Lima's business and its key product segments, extremities, hip and knee. With a strong Italian heritage since its founding in 1945, Lima has evolved into an innovation-focused, differentiated player in the global orthopedic market. Over the 12 months ended June 2023, Lima generated nearly $290 million in revenue, including over $110 million in upper extremities, almost 40% of the revenue. You can also see this revenues broadly diversified globally, including more than 20 direct subsidiaries across the U.S., Europe and attractive markets in Asia Pacific. One of the things that impressed me as we got to know them is their disciplined approach to shaping a very attractive business mix. As Slide 5 shows, when we established Enovis in early 2022, we outlined clear strategic goals to shape our company to $2 billion in sales by 2024 through high-value growth and expansion in our Recon segment. This acquisition fully aligns with these goals and solidifies a high single-digit organic growth future for our company, fueled by best-in-class double-digit Recon growth. The higher mix of Recon revenues also unlocks higher margin and leverage opportunities across our business. Moving to Slide 6. I think it's important to take a step back for a minute and remind investors of the M&A track record that has brought us to where we are today. This is one of our core competencies as a company. We built a fast-growing $100 million business in the attractive foot and ankle markets through 5 strategic acquisitions over the past 4 years. We've also made several key investments in enabling tech that will provide great fuel across our Recon business in the coming years. And this acquisition of Lima builds upon the success of our Mathys acquisition in 2021, which was our first big step into the international Recon markets. As we mentioned on our Q2 call, the Mathys acquisition has been very successful. Through strong integration execution and taking advantage of market tailwinds, we've driven high double-digit growth and significantly expanded margins to provide overall results well ahead of plan. These acquisitions show the power of our EGX toolkit and the extensive experience that we have completing and integrating successful deals that accelerate our strategy and have strong returns for our shareholders. Slide 7 is a reminder of our acquisition criteria that we have shared previously. Lima really hits all of these accretive to growth, accretive to margins, accelerate strategy. So let's talk about what Enovis looks like with Lima on Slide 8. On a combined basis, if you add Lima to our 2023 guidance, this takes us above $2 billion in global revenues 40% of which is in international markets, and it brings Recon closer to 50% of company revenues, which is important given the higher growth and higher margin profile. The combination will bring our corporate gross margins above 60%, with Recon gross margins above 70%, [ but ] in line with larger peers. Our adjusted EBITDA margins increased by over 100 basis points with Recon now accounting for over 55% of our EBITDA. And that's before we realize the significant cost synergies. So you can see why we're really excited about the opportunity ahead as we integrate Lima into our company and continue our steep Recon growth path. I'm going to hand it over to Brady to talk about the power of the $1 billion Recon business we're creating through this acquisition and some of the great synergy opportunities we have. Brady?

Thanks, Matt. And good morning, everyone. I am very excited to be here to discuss this transaction and what it can mean for really a fantastic combined growth moving forward. I'm actually here in Italy, with the Lima team. And as I said, I'm excited and they're also excited as well. So if we look quickly at Slide 9, we zoom in on Recon in particular, which is really what this acquisition is all about. You'll see that the transaction positions us as a $1 billion global Recon player, which gives us immediate scale and revenue diversification geographically but importantly, also maintains our higher mix of extremities, as Matt said, which represent the fastest-growing segments of the market. We'll bring the best of both product portfolios and commercial channels that drive what we think could be some meaningful cross-selling opportunities to drive revenue growth. I'm confident that we'll be able to continue to drive double-digit growth in this larger Recon business due to our attractive mix, our patient-focused innovation and our powerful sales channel that is now even more powerful globally. On Slide 10, you'll see that it highlights the immediate synergy opportunity from this transaction. We believe the product geographic footprints of Mathys, Lima and legacy Enovis offer many cross-selling opportunities. We've just started to scratch the surface of the cross-selling opportunity for Mathys. We believe the addition of Lima will strengthen its potential with incremental products and better sales channels in certain key geographies, something we expect we can deliver meaningful incremental top growth -- top line growth starting in 2025. Lima also has a history of innovation and opportunities for us to bring things like 3D printing and additive manufacturing across Enovis. And then from a cost perspective, we've identified a clear path to $40 million and annual synergies within 3 years. This includes things like automated manufacturing, supply chain efficiency, bringing Lima into our EGX programs as well as other G&A synergies. Now I'm going to hand it over to Ben to walk through the transaction details. Ben?

Thanks, Brady, and good morning, everyone. As you've heard on Slide 11, this acquisition is incredibly aligned to our strategic goals. In fact, it accelerates our progress for sustainable high single-digit growth and durable margin expansion. It allows us to maintain our attractive extremities mix and strengthen our position in numerous international markets. Lima adds scale and talent to our R&D and operational capabilities, and we believe this acquisition comes at the right time in our evolution. We're excited to welcome the Lima team to Enovis and look forward to the great opportunities that we will have to create growth and leverage together. The valuation of the deal around 12x trailing EBITDA and is something that will allow us to create immediate shareholder value with the potential to improve returns over time as we execute against the identified synergies. Slide 12 provides a summary of the planned acquisition of Lima for EUR 800 million, EUR 700 million of which will be funded by cash on hand and secured financing from our bank advisers plus an additional EUR 100 million via the issuance of Enovis shares over the next 18 months. Lima has organic growth and margin rates accretive to the Enovis' corporate profile making this financial profile of Lima highly attractive. The deal is expected to close early 2024. We are taking a conservative position with respect to the near-term execution and expect Lima revenues in 2024 to be around $290 million to $300 million. This outlook anticipates continued healthy growth and consolidation impacts. Additionally, we expect Lima to deliver $70 million to $75 million of adjusted EBITDA in 2024. We expect the impact on adjusted EPS to be flat to slightly accretive in 2024 and meaningfully accretive thereafter. Lastly, leverage, which stands right now at around 1.5x will increase to around 3x a level that we're comfortable with and that we expect will improve naturally as the business scales. With that, I will now turn the call back over to Matt. Matt?

Thanks, guys. In summary, we're excited about the opportunity provided to Enovis that will be realized with the acquisition of Lima. This deal is strategically aligned with our goals and will help deliver superior service to surgeons and excellent outcomes for patients. I'll turn the call over to the operator for questions.

[Operator Instructions] The first question comes from Vik Chopra with Wells Fargo.

Congrats on the deal. Two for me. So I think first, while we were expecting you guys to do a deal, it was much larger than what we were expecting. So just help us understand how this deal came together and why you think now is the right time? And then I had a follow-up.

Yes, Vic. So thanks for the question. First, this deal is kind of right within the range of what we've been talking about, which is strategic bolt-ons ranging from small to medium size, and this would be kind of in that medium-sized zone, a little bit bigger than the Mathys acquisition that we did a few years ago that's been a great success. And so we're definitely excited about the deal and really moves our company forward. In terms of how it came together, certainly, as we look to expand our business globally going back a few years, we saw several attractive ways to do that. Mathys was the most attractive path at that point in time in terms of establishing that global beachhead and creating a lot of value for our shareholders through that acquisition. At the time, we certainly took a hard look at Lima as an option as well and saw it as a very attractive potential strategic condition to the company. But at that time, it was not the right time for a deal like this. And now a few years later after a very successful execution of Mathys, we feel like it's a great time to add a business like this and continue to strengthen our business outside of the U.S. at a very attractive valuation and return for our shareholders.

My follow-up question, I guess, maybe for Ben, you've talked about $40 million in cost synergies by year 3. Just help us understand where the majority of those come from and how we should think about the pacing of those synergies.

So really, it's driven by 2 primary areas, which you could hear highlighted on the call. One is some operational opportunities as we think about leveraging the automated manufacturing platform and driving leverage through the combination there. And then definitely some opportunities as you think about just SG&A consolidation, where there's duplication that's opportunity for us to make some calls and create some synergy value that way. In terms of the pacing of it, it's going to be, I'd say, a steady progression. I mean, obviously, these things take time as you work to integrate and make sure that you are focused on driving good execution and keep good focus on maintaining the strong momentum that the business has. So you'll start to see a nice progression of those over the next couple of years with the $40 million coming around year 3.

The next question comes from Young Li with Jefferies.

All right. And congrats on the deal as well. I guess maybe to start off.

Mr. Li, could you maybe move a little closer to the microphone.

Here is first question, just in terms of the growth rate of Lima, high single-digit CAGR over the past 10 years and low teens since '21. Maybe if you can talk a little bit more about the step-up in growth in recent years and the sustainability of that going forward?

Yes, sure. Thanks for the question, Young. Yes. So certainly, a great healthy growth history in terms of high single-digit growth, which is above markets historically for the business and then even stronger than that the last 3 years, you're well into the double digits. Part of that step-up is some great investments that they've made in the business and strengthening the business and the team there. But part of it is also some of the tailwind that we've got here on the backside of COVID. And that's why we've given a forward guide that says that we expect to be able to grow the Lima business, at least well into the high single digits. And as our cross-selling synergies come in, that creates the opportunity to potentially push into the double digits supporting our global double-digits growth in Recon. So as some of the market tailwinds might subside some of the growth synergies should replace part of the market tailwinds and keep the growth very healthy going forward.

All right. Great. Just a follow-up question. In terms of key products that you're excited about, I think the slides talked about some digital and patient-specific hardware, 3D printing capabilities. There's the Optimus implant as well. Maybe if you can highlight some of the key products that you're getting from Lima, how that fits with the existing portfolio? And anything in the pipeline that you're excited about?

I'm going to let Brady jump in on that one.

All right. Happy to, Matt. Thanks. I'll be quick and then let you ask additionally, if needed. First of all, I would say if you look at it from a shoulder perspective, very excited about 2 things there. One, philosophically, if you play through the anatomic shoulder, which you've heard us talk about, that continue to be an opportunity for us to develop further. I would tell you that the SMR globally has been very, very well accepted and has done extremely well in the anatomic space. So one, it brings an additional philosophy into our bag that has a very strong history, both in the international markets as well as the U.S. market. Number two, some exciting developments across the platform, the shoulder platform related to trabecular titanium, which is part of what Matt said, some of the growth is tailwind and some of it is new launches. Those new launches really have been around the trabecular titanium and expanding that 3D capability. So we've seen that go further into shoulder as well as into some of the future shoulder products that we're excited about. The AMF cones, which are for revision knee comes really early in that launch, but it's a fantastic space, very excited about that. And then ProMade in general, which are the custom implants and instruments. Big opportunity there work that's going on with -- historically with HSS and other key places around the world. And we see that as a big opportunity to really expand our revision line, as you've heard, we've talked about launching recently in the last 12 months, a new revision line on Empower, and this really expands and adds to that. So those would be the key ones. Certainly, there's more to talk about, but I'll stop it there just for time.

The next question comes from Jeff Johnson with Baird.

Maybe one strategic question and one financial. So I'll start with the financial one for Ben. Maybe just in the 2024 guidance, any cost synergies contemplated there? Should we assume most of those roll into '25, '26 in the 3-year plan? And then you're talking about flat. It sounds like you're guiding to essentially flat revenue in '24 over '23. So just wondering where is that $30 million or so in potential cost dissynergies? How should we contemplate how much of might be conservatism versus some true dissynergies in there?

Yes. Thanks for the question, Jeff. From an overall kind of view of let me start with the revenue. I would say that based on just what we've seen as we've done other deals, we wanted to take a bit of a conservative approach and know that as you consolidate certain channels and there's overlap in certain countries that we wanted to make sure that we took into account some potential, I'd say, breakage or challenges that come with integrations. Within the guidance range that we gave there. So we expect kind of natural good organic growth, but then also contemplated for some potential setbacks with regards to some of the channel integration work that's required. In terms of the cost synergies in the guidance that we've given for EBITDA, we have included about $10 million to $15 million of cost synergies plus there's some investment in there in order to maintain some of the good momentum that we have on some of the research and development programs and other programs to help support the top line revenue. So overall, the guidance reflects both of those things.

All right. Fair enough. And then Brady or Matt, I guess one of the things we've Lima for over the last few years has been on the treatment planning side. Brady, I didn't hear you highlight that but just remind me maybe where you guys were on some of the software side of treatment planning, pre-op treatment planning for shoulder, does Lima add any additional capabilities there? And Matt, just remind me also, what percentage of your manufacturing do you do in-house? It looks like Lima does quite a bit themselves. And maybe you always have. I just couldn't remember if this brings any kind of additional manufacturing capabilities to you as well.

Yes. I'll let Brady jump in on the enabling tech question, and then I'll answer the manufacturing.

Yes. So what I would tell you first is that I would say that their preoperative plan is very, very similar to what we have in the shoulder today. But as Matt mentioned earlier on the call, we've made a number of investments that you're aware of related to the future of enabling tech for us. And I can tell you that we can build off of what Lima has built off of what we have, but it also creates an entirely different offering as we go forward. And more importantly, it gives us a very broad footprint for us to launch our platform into as we move along -- at on the manufacturing.

On your manufacturing question there. So in the U.S., we've been doing some pretty aggressive in-sourcing into our Austin facility over the last couple of years and sort of kind of moving towards a more normal model where the majority of our manufacturing is in-sourced for our U.S. business. Outside the U.S., there's still a portion of the Mathys business that has been has been outsourced. And one of the opportunities that we've got here is to look at in-sourcing some more of the Mathys manufacturing. And then there's also some really nice optimization opportunities between the different units and really taking advantage of that cost-effective, highly automated facility in Italy that comes with this transaction.

The next question comes from Mike Matson with Needham & Company.

Just wondering if you share with us for Lima, what the approximate mix is between the different categories of shoulder, hip and knee and you can help that they have in the portfolio.

Yes. Thanks, Mike. So yes, we've got about 40% of the revenues for Lima in the shoulder which we classify as extremity and the prepared materials that we provided. And then you can see kind of a slip between slightly more hip and knee kind of in the remaining portfolio.

Just to build a little bit on that related to cross-selling. It's really a great -- another great opportunity for cross-selling is as Brady said, they've got a really strong footprint in shoulder and I've done very well there, but there will also be some nice opportunities to cross-sell ultimate into that footprint and cross-sell some of the strong Lima products into our Enovis footprint. And on the hip and knee side, Lima, like Mathys has been very strong in hip historically. And our Empower Knee will really strengthen the knee position and create some great cross-selling opportunities of the Empower knee into that strong footprint and also some nice cross-selling opportunities of some of the hip capabilities elsewhere.

Okay. Got it. And then just in terms of modeling the deal, what should we assume for the interest rate on the debt that you'll be using to finance the deal? Do you have an approximate range there for rates?

Yes. Well Mike, when we get into 2024 guidance, we'll give you more clarity around all the various components of what this does kind of for the total company and then just how the financing of it will play out. So I'm not giving guidance on that right now, but we'll make sure you have plenty of cover color as we get into 2024 guidance for the total Enovis company.

[Operator Instructions] The next question comes from Bill Plovanic with Canaccord.

Just first on the on the deal itself and the closing, what's the hurdles you have to clear to close this and then the milestones for the issuance of the stock and timing? And then on the synergies some of that sounds like it's revenue-based, some cost base, but -- and then in the operating efficiencies, the manufacturer versus SG&A. I was wondering if you could give us the split on how much you're assuming will come from the manufacturing and SG&A on those operating efficiencies.

Yes. First of all, as far as the time line of closing the deal, it's just some customary regulatory approvals that we need to work through in the coming months to get to the close. And we expect to close the deal by early next year. And the milestones, we expect to pay the EUR 800 million that we've shared, but we have some milestone-based payments of the equity as a way to make sure that we can all stay focused on some key things that we need to get done in the integration process. Ben, do you want to talk a little bit about the synergy cost synergy?

Yes. Can you repeat what the specific question was, Bill, on cost synergies?

Sure. On the operating efficiencies that you're projecting, how much of that is manufacturing related. And percentage-wise, how much of that is SG&A that you're just taking costs out.

Yes, I'd say it's probably more weighted to SG&A than it is to manufacturing synergies. Now there is a benefit as you think about scale over time that's probably above and beyond that. But if I look at just kind of the guidance that we've given around synergies, I'd say it's more weighted to the SG&A side than it is on the operations side.

This concludes our question-and-answer session and the Enovis conference call to discuss the acquisition of LimaCorporate. Thank you for attending today's presentation. You may now disconnect.