Enovis Corporation (ENOV) Earnings Call Transcript & Summary

Okay. Good morning, everyone. My name is Vik Chopra. I work on the Wells Fargo med tech equity research team. Pleased to introduce Ben Berry, CFO from Enovis for this session. Ben, thank you for joining us.

Thank you for having us.

Maybe just kick it off with a few big picture questions. With the recent concerns around macro weakness and a potential recession on the horizon, have you seen any impact to your end market demand?

Through the first half of the year, I would say we've seen, what I'd say, a more normal post-COVID market within the U.S. with regards to procedural volume. A little bit, I'd say, a tailwind outside the U.S. to where we're still seeing pretty good growth of procedures through the first half of the year. As we think about the balance of the year and the planning assumptions that we have is that it would continue in the U.S. to be a more normal year from a procedural volume and that you'd start to see maybe a little bit of a slowdown OUS to where it becomes more of a normalized year there as well. But overlying, underlying view for us from a market standpoint is that if you look back to 2019 and you look at all the reported companies and say, what was normal growth versus where are we in that post-COVID world, you'd say there's still a little bit of pent-up demand, but not a whole lot left based on our analysis.

So the backlog is being worked through.

It's being worked through, particularly outside the U.S.

Okay. And just talk about just overall view on procedure volumes in ortho and how you're thinking about the rest of 2024, primarily U.S.?

Yes. I'd say, again, from a U.S. perspective, our view is that procedural volume still seems relatively normal that we would expect that to continue through the balance of the year. And as we play into 2025, I would expect that to stay the same.

Okay. So we look at the worldwide recon market on a quarterly basis. And by our math, it's still running above the historical growth rate. You talked a little bit about the backlog being worked through. Could you just talk about once that backlog has been worked through, how you think about the market growth in the recon market and how you expect that to play out over the next few years?

Yes. I think our view would be that it would get back to more normalized levels in terms of growth. The underlying macro trends are still healthy with regards to the aging population and people that are going to be coming into the funnel with regards to the needs of having elective surgeries on knees and hips and shoulders. You're seeing growing volume as technology becomes better as you think about better outcomes in terms of both on the extremities side, on the shoulders and foot and ankle that you would expect those markets to continue to grow at a pretty healthy level. And what we've really done and focused on at Enovis is to really shape the company towards a better weighted average market growth mix. So if you think about our business now, we're 50% extremities, 50% large joints and 50% U.S., 50% OUS, when it comes to our Recon business. So our weighted average market growth rate, we would expect to settle in that 5% to 6% range as we work through some of these tailwinds that we've had with regard to the pent-up demand.

Okay. Do you think the recon market will grow faster than pre-COVID levels even after the backlog is exhausted?

It's an interesting question. I think our view is that you would have the emerging enabling technology impacts that should add a benefit to the overall growth there from a market dynamic perspective of people coming into the funnel. I wouldn't expect it to be much different than what we had saw pre-COVID levels. But you do get the benefit of some of the enabling technology growth that would be a supplement to what you had seen traditionally but that would offset by some of the additional shifts to the ASC as well. So I wouldn't play it in as a material impact to the market. But something that will obviously change as technology comes into play.

Got it. GLP-1s, it was a pretty hot topic a while ago. But just how do you think about the impact of GLP-1s on ortho procedures? Has there been a benefit for patients to obese to be operated on prior to GLP-1s? Are you seeing this in your volumes at all?

We haven't seen a meaningful shift in terms of the inflow of patients because they're now qualifying for elective procedure because they've been on the drugs and have lost enough weight. I think time will tell in terms of the sustainability of it. I think our view is healthier patients are good for our end markets, especially on the P&R side because more active could potentially drive more people into the workplace injuries and other things that are demand drivers of our P&R business. On the Recon side of the business, if more people can qualify, that's obviously an upside. And the long-term damage to some of the joints has already been done in terms of some of that deterioration and just aging in general. So we don't see GLP being an impact to our business. And if anything, we see it as a slight upside.

Okay. Got it. Let's talk about your guidance for 2024. You saw about 5% comparable growth in Q2. Your guidance of 5% to 6% implies about 6% growth in the back half of the year to get to the midpoint. Just help us understand how we should think about the back half cadence?

Yes. So I mean, I think our view is that as we went through the first half of the year, we were extremely focused on integrating Lima and a lot of the impacts of the integration we're playing out through that first half performance. And now that we've gotten a lot of that behind us, we would expect acceleration into the back half of the year. After our Q2 call, we gave more precise guidance around both of our segment expectations for Q3 and Q4, which would show an acceleration -- with more acceleration in Q4 versus Q3. We expect that's how it will play out based on just getting a lot of these headwinds behind us and then having a cadence of new products that are coming and cross-selling opportunities that play out in the back half of the year.

And is there anything you need from a seasonal perspective this year that we should be aware of given the Lima acquisition?

It puts more pressure on us from a seasonal pattern perspective because Lima is -- majority of their businesses outside the U.S. So as we brought that business in, we saw that it was more of an impact in terms of our sequential patterns across Q3 versus Q3, which is one of the reasons why we were a little bit more prescriptive about what we expected the growth to look like as we looked at Q3 and Q4. But overall, I mean, nothing that would be out of the ordinary versus their normal historical performance before. They were owned by us but overall, just having more of a Recon business that's more international, provides some softness in Q3 due to the vacation schedules that happen in Europe.

Got it. And what gets you to the high end versus the low end of your top line guidance for '24?

Yes. I'd say the high end would be that we really see nice flow of volume, both sides, U.S. international from a procedural volume standpoint that we were able to really leverage some of the cross-selling to offset some of the disruption that's played into the system. And then new products really take off well for us as we're launching them here in Q3 and Q4. So that would -- all of those things break in the right way would put us more on the top side of it. Lower side would be if the market continues to have some choppiness or if there are other things that come into play with regards to as we're settling out some of those channel integrations and things like that, that could potentially put us more in that zone. So that's how I'd qualify it.

And then from a margin perspective, I know you don't guide. Well, just from a margin perspective, should we expect EBITDA margins to step down again in Q3, just sort of in line with the revenue step down?

Yes. Again, this is more of a Lima impact on the business in terms of having a softer Q3 from a revenue perspective. I think our view, and we gave pretty prescriptive guidance after our Q2 call and expect it to play out that way is that margins would be in the range, maybe slightly below where we were in Q2 and then a nice strong finish to the year, like we traditionally see as a company, given Q4 is our highest revenue quarter. But again, still delivering a nice margin expansion this year by bringing in the accretive margins of Lima on top of getting after some of the synergies that are afforded to us by bringing that deal into the company. So overall, we would expect a nice step forward in margins in 2024 and continued progression into 2025.

Got it. On pricing, just remind us of your pricing assumptions for 2024, how that compares versus historical patterns and how you see price trending beyond '24?

Yes. It's best to qualify it by our segments. So I'd say if you look at our Prevention & Recovery segment, we are the market leader in that segment, about a $1 billion business in a $4 billion to $5 billion market. So over the last couple of years, given all the inflation that's come into the system, we've been more aggressive with regards to our pricing in that segment. So I'd say we've been in the 1% to 2% of price benefit that we've been getting in P&R. We're not seeing that as much this year given some of the competitive pressures that play into that market. So I'd say we're more flattish from a P&R perspective versus getting some benefit like we had traditionally. From an end market perspective, I'd say P&R has generally been slightly down, maybe about 1% or so from a traditional pattern standpoint, we'd expect it to be that to maybe flattish as we think about having pricing activity going forward. And then on the Recon side of the business traditionally about a 3%, I'd say, headwind in terms of market growth from a pricing standpoint, that neutralized a bit through COVID. Maybe slightly down this year but probably in that 1% range versus what we've seen traditional. We'd expect that to continue to maybe not be at traditional levels because you're getting some of the benefits of the enabling technology that's benefiting price and some of the new innovation that's coming into the market. So over time, will that revert back to normal, maybe, but we don't really know at this time.

So about 100 basis points erosion for Recon and flattish for P&R?

That's right.

Okay. Let's talk about Lima. You said that the dissynergies peaked in Q2 and you expect it to moderate in the back half of the year starting in Q3. What gives you the confidence that you've seen the bulk of these integration headwinds and the dissynergies will actually start to moderate in the back half of the year?

Yes. One of the things that we recognized was really important with regards to this acquisition was integrating the channel quickly because we've been through a lot of acquisitions over the last few years. And one of the things that's been really important to make sure that we're set up for success is getting through the channel integration as quickly as possible. So there's really a few aspects to consider as you think about integrating a channel when you have overlap like we do and we're bringing in a business like Lima into the legacy Enovis structure. So in the U.S. market, in particular, the Lima business is a little over $40 million business coming in as a third-party sales force that isn't exclusive to Lima to where they're carrying competitive lines in certain products because they didn't have a full comprehensive portfolio. So as we bring them into the Enovis structure, which is an exclusive channel for us, we knew it was going to be really important to bring them in under our structure as quickly as possible. So through the first 6 months of the year, we were working on contracting and negotiating with our agencies to bring them under the Enovis structure, which is certain business that we had to walk away from. On the Lima side, some business that we were splitting and adding territories and changing quota structures and things like that as well under the legacy Enovis structure and, in some cases, replacing legacy Enovis agency with Lima agencies that we're going to take over the Enovis portfolio. So if you add those things up, that's what contributes to the dissynergy, which was predominantly in the U.S. and peaked in the second quarter. Outside the U.S., where it's more direct and more complementary, it's a little bit slower pace because we're trying to protect and strike the right balance with regards to protecting the business and creating opportunity for ourselves to expand and scale as we now have a bigger business. So that's what we've been working through. A little bit slower on the international side, still a little bit room to go there in terms of closing some of those things out. But on the U.S. side, focused really in the first 6 months of getting those agencies contracted under the Enovis model, which we've done and which we've been able to essentially telegraph as we've gone through that -- through the first 6 months.

And can you quantify sort of what it was in Q2 and expectations for Q3 and Q4?

Yes. So what we said through the first half impacts were about 2% to 3% on revenues on the recon side -- global recon side, which peaked in Q2, particularly in the U.S., which we said was about 4% to 5% impact in the U.S. market, but 3% overall in the second quarter. We would expect that to step down a little bit, probably in the 1.5% to 2% range impact in Q3 and then even a little bit more muted in Q4.

And just to clarify, when you talk about these percentages, that recon -- worldwide Recon impact?

That's right. That's right.

Okay. Just talk about how the integration efforts have gone relative to your initial expectations? Any surprises to the upside or the downside?

It's gone really well. I think our view with Lima is it was going to be a transformational acquisition for Enovis. We felt like we did a lot of heavy due diligence upfront. We knew a lot about them, just from evaluating different options to expand our Recon business through all the M&A that we've done over the last several years. So one of the things that we were really pleased about was we were able to have a lot of upfront discussions before the deal even closed in terms of how we would bring this into the company and how we would want to identify key talent to retain and what some of the key drivers were going to be from both a cost synergy opportunity standpoint but then also some of the planning around the channel consolidations as well. So all of that, I'd say, is slightly better than what our expectations were going in. The talent that we've been able to retain has really been a great addition to the company. The culture that was there at Lima is very complementary to the culture that we've been establishing at Enovis. There's a lot of excitement around now having a broader portfolio on the recon space that makes us more competitive worldwide, diversifies our ability to grow in multiple different areas around the world. And then as we're bringing it in, learning about additional capabilities that we're going to be able to really leverage from both an innovation standpoint and thinking about how do we create a supply chain that's even stronger as well. So as we look at that, Lima has impressed us with regards to their manufacturing capabilities. They've got strong manufacturing capabilities. They've been a bit of a pioneer from a 3D printing standpoint. So getting some of those technologies and thinking about how they play, not only near term but longer term, has been really excited for us. And then the integration aspects, it's complicated. It's a lot of work but it's all going, I'd say, slightly better than planned so far, and we're really pleased with what we've gotten with that acquisition.

Great. You've talked about $40 million in cost synergies from the acquisition. Where do the majority of these come from? And how confident are you in being able to achieve these synergies?

Yes. So I mean we're very, very confident that we've identified and are actually pacing to execute against all the synergies that we've identified with regards to being on that run rate of $40 million plus. I think what we said is in year 1, there's a low-hanging fruit. So we've gotten after where you're putting structures together and you're essentially creating opportunities to consolidate in a way that there's costs that can come out just because the structure is being combined and then also duplication of costs, things like marketing and events that we were both going to that not only one company needs to represent. So there are those types of low-hanging fruit that we're able to get after in year 1, about $10 million to $15 million of the synergies there. We'll get a little bit more next year as we continue to integrate some of the structural components as well and integrate some of the systems and get some of those cut over. And then in the third year, you get some of the benefits of the operational synergies as well. So thinking about leveraging some of the manufacturing footprint and looking at labor arbitrage opportunities and leveraging where you're making product, there's opportunity there as well. So a clear line of sight to the $40 million plus. We've already activated the $10 million to $15 million in year 1, and we expect that to grow next year and get to that $40 million plus by year 3.

Great. And lastly, on Lima, just talk about where you see the most opportunity for cross-selling?

Yes. On cross-selling, it's one of those things where as I look across the portfolio now, it's just, across our anatomies, we're stronger because we have Lima, especially outside the U.S., where they were a strong shoulder player, Mathys was more of a stronger hip player. So if you look at the markets in which Lima is strong, Mathys generally wasn't as strong and vice versa. So I think we have a lot of opportunity to leverage the footprint that we have of now our international business to cross-sell at the anatomy level within those countries. And then there's an opportunity to take the EMPOWR 3D Knee through all of those markets externally and then selectively pick and choose where AltiVate can play in some of those markets outside the U.S. as well. On the U.S. side, I mean we've already talked about the revision cones that we're able to leverage on a knee side. There's the Prima shoulder system that's being launched. There's the -- we now just have a more comprehensive portfolio on the shoulder that we can leverage in the U.S. and then the custom 3D printing Promat product line, which is our U.S. team is excited about as well is going to be an opportunity over time to scale that business.

Okay. Great. I know you have your hands full with the Lima integration. But just help us understand how we should think about your M&A strategy post Lima?

Yes. So it's a core part of our toolkit as we think about the business system that we drive at Enovis. We call it Enovis Growth Excellence or EGX. Like I mentioned earlier, we've done over 20 acquisitions over the last several years. And it's a key part of how do we continue to look at making the business better and better through acquisitions. And so I think our view from a strategy standpoint is how do we find things that could make the company better to achieve our longer-term strategic goals. So each of our businesses, we run through a strategic planning process, our M&A is connected to that. And we look at how do we shape the company towards being stronger, better mix, higher growth, higher gross margins and at the end of the day, creating that scale to create compounding value. So from an M&A standpoint, we're constantly surveying opportunities. We're looking at what could continue to make the business better. Right now, as you mentioned, we're very much focused on integrating Lima, making sure that's a big success. And then we'll open up the aperture as we clear some of those hurdles with regards to the integration that we're going through. But overall, it will be a part of our strategy but it won't be M&A just to do M&A. It will be how is it connected to our strategic plan of shaping both of our businesses to higher growth, higher gross margin and making sure that we're competitive in the markets we compete.

And are there any particular areas that you feel you're likely to be more acquisitive than others?

Not in particular. I mean, I think that there's still some opportunities as we talk about the P&R business going from a 3% to 4% grower to more of a mid-single-digit growth over time. There's some bolt-on activities that we could look at to shape and lean into areas of market that are growing a little bit faster than what our core business is growing. So I'd say there's some opportunity there. On the Recon side, we're more robust now with regards to having Lima. So as I look across that landscape, there are some other verticals that we don't participate in that we could consider. And then there's technology advancements that are being made that could be attractive targets for us from an M&A standpoint. So overall, we'll continue to have a robust funnel that we're evaluating across both of our business segments. And depending on the time and the economics, we'll continue to look at the timing of when to bring some of those things in.

Great. As you start your planning for 2025, just help us understand how you're thinking about the Recon growth performance in 2025? Do you think you can accelerate growth once Lima has sort of anniversaried? And can you -- is it high single-digit growth in Recon, a reasonable placeholder for next year?

Yes. I mean, we're not giving guidance on 2025 at this point. But what I would say is that as we think about the progression of the disruption that we've had in the first half, seeing the acceleration in the back half, we'll have a lot of the integration headwinds behind us to where if you think about what we've talked about is $20 million to $30 million of dissynergies that wouldn't -- we wouldn't expect to repeat next year. So on a business our size, that would be a point of growth at the Enovis level that we should have a tailwind that comes into 2025. If you think about the market dynamics, I mean, maybe you see a little bit softer market internationally next year versus what you've seen this year that could offset that a little bit. But overall, I'd say nothing that would be in place that wouldn't show us accelerating next year given some of the headwinds that we faced this year. So I think it's reasonable. We've been demonstrating that organically for many years now. So our expectation is that our portfolio is only stronger now than it's ever been. So we've got innovation coming. We've got some of these tailwinds that were -- or headwinds that we're anniversarying. So all of that should build into a strong 2025.

Okay. Any other potential headwinds and tailwinds to keep an eye out for in 2025 that you're -- that you can share now?

Nothing that I would highlight that's on the horizon other than what I just described.

Okay. I want to talk about Arvis, you recently launched the shoulder application, what's the early feedback that you received? And how are you thinking about uptake for shoulder compared to uptake for large joint reconstruction with Arvis?

Yes. I'd say it's early days for us there. I mean we're -- it's in our key opinion leaders' hands right now, making sure that we're working out the key features that we're going to need to make sure that it's a helpful device within surgery. When I say helpful, I mean from an economics and from a procedural time standpoint. So from what we've seen so far is a lot of excitement about what the potential of Arvis could be, taking a really strong preoperative plan, putting it on a headset, letting the surgeon still be in control of the visual field as they navigate a little bit more of a complex surgery on the shoulder side. So all indications of the navigation will be a meaningful help to the surgeon's performance within shoulder surgery. So if that aspect, we're excited about what Arvest could do but we'll continue to evolve its feature set and make sure that it continues to get iterated along the way because it's more software-based, it can have more rapid paces of innovation as well. So it's going to be something that we'll build over time but early signs would be positive in terms of the excitement of what good navigation portable device could do.

And how do you think about your competitive positioning in the shoulder market after one of your large competitors recently launched a shoulder robot?

Yes. I think our view, again, as I've mentioned, with Lima, our portfolio is stronger than it's ever been on shoulder and we're starting to supplement that with the enabling tech that we're bringing into the market with already having strong planning that we have opportunity to make better and then this augmented reality for a navigation standpoint as well. So we see our shoulder portfolio is very competitive in the market. We see opportunities to expand and grow, especially outside the United States with our shoulder business. And then within the U.S., I think the robotic environment will evolve over time. I don't think you'll see its end state anytime soon. And it's something that we will continue to work on our own pipeline with regards to supplementing surgical technique through these types of applications through product launches into the future as well. So we feel like we're very competitive and our shoulder business will continue to grow above market, not only as we get through these integration aspects but as we continue to drive the business forward post the Lima integration.

And is Arvis razor-razorblade model?

It can be. We use it to defend in certain cases, it's a smaller price upfront than maybe one of the traditional large robots. So in terms of that impact, you might not see it read through as much in terms of our results. But in terms of locking up or creating opportunities to solidify volume or getting a procedural fee or just outright capital sales, we have all those business models that play with regards to Arvis.

And when should we expect to see Arvis contribute meaningfully to revenues?

It's starting to help already in terms of, if I think about our results. I think it's going to be one of those that continues to scale over time. And it's, again, one technology of many that I expect us to continue to bring when it comes to supporting procedures from an enabling technology standpoint. So it continues to evolve in terms of feature set. If you think about the device, it's still relatively new in terms of when we launched it last year, kind of version 2.0 when it was ready to go out more broad. And we still continue to add features to it to where we expect we'll be more attractive for it to penetrate more into the future. But again, it's one step for us in terms of helping support the business right now, which we're starting to see a little bit of read-through but excited about how that will build more over time.

And can you share or have you shared how many cases you're up to with Arvis so far?

We haven't. Again, I think from those that are using it, we're seeing nice momentum. We're seeing more penetration than what we've had in the past but something that will still continue to evolve over time.

Got it. I don't want to ignore your P&R business. We touched on it briefly. But just maybe talk about the trends you're seeing in that market and how you think about your growth relative to the market in 2024 and going forward?

Yes. The market for P&R, our view is about a 2% to 3% grower and we've been growing 3% to 4% over the last several quarters. I think our view is that we continue to shape that business to more sustainable growth. And like I mentioned earlier, opportunities to expand that over time as we make moves to make that portfolio healthier as we bring new product innovation into the market and as we continue to look at verticals that are growing a little bit faster and they become a bigger part of that business over time. So from a P&R perspective, I'd say that we feel like we've gotten that business pretty stable at this point. It's a really strong business for us with regards to cash flow generation, which helps fund a lot of the growth and the scaling that we're doing on the Recon side and then opportunities for us to continue to make that business better over time, both through internal organic shaping through new products and some of the areas that we're in that are growing faster than others and then also through some small M&A type opportunities as well.

Any key launches we should be looking out for over the next 12 to 18 months?

We've mentioned some of the products earlier this year that we've launched with the ROME OA, which is a segment of the -- category within the bracing segment, which we weren't as competitive, which has some opportunity for us. Some refreshing of some equipment on the rehab side as well. There's more of that that's going to come down the road. But overall, I think it's one of those. Where if you look at our vitality or products that have launched within the last 3 years, that continues to grow. And that's one of the key enablers for us to maintain and even accelerate this growth on the P&R side.

Got it. I want to talk about the ASC setting. What percentage of orthopedic procedures or I guess, hip and knee specifically are being done in ASCs for Enovis as well as for the industry?

So for Enovis, we're about 20% of hip and knee is in the ASC. And right now, I'd say you didn't ask but I'll give you shoulders about 10%. We think 10% to 15% is where the industry is based on what we've heard other people talk about. For us, ASC is a key part of our strategy going forward. One, we think that we are more competitive there with regards to our ability to contract and then also with some of the implant systems with patients that are more demanding and tend to be more on the younger side, we have a lot of advantages there. And then also even with enabling tech, as you think about portability and cost and time, Arvis really plays into a setting like that well -- as well. So I think our view of that ASC is going to be a continued market mix growth driver and one that we're positioned to take advantage of.

Awesome. I think we're at time. So thank you very much. I'll end it here.

All right. Thank you.