GE HealthCare Technologies Inc. (GEHC) Earnings Call Transcript & Summary

Good morning, everyone. Suraj Kalia, senior medical device analyst at Oppenheimer. I'm pleased to have management from GE HealthCare with us this morning, the second day of the Oppenheimer Healthcare Conference. As you all know, GE is a very interesting name on a lot of conversations nowadays so be glad to have a fireside with Peter Arduini, CEO; and Helmut Zodl, CFO. Gentlemen, it's a pleasure. Thank you for taking the time. So lots of questions to cover. Peter, I'll just jump in.

It appeared now that you guys are stand-alone, right? When you are within the mothership versus standing alone, some of the dynamics are different. And as -- admittedly, it's been a few months, but just walk us through what you're seeing as the challenges as a stand-alone and also the opportunities.

Yes. Well, look, I would say from an overall standpoint, Helmut and I started a lot of this journey of transformation when I kind of joined and we kind of teamed up on what that would look like. And if you think about last year, obviously, the challenges with supply chain, the challenges with cost inflation, we're really a big part of it. Can you get the components? Can you take care of the customers? And so that still hasn't completely been alleviated, but it's improved significantly. In our world, the challenges of paying spot prices, which may be 100% markup now, has translated a lot less of that, but clearly, some inflated raw material components coming in. And then I think this idea of supply chain just being able to make sure that you can get what you need is improved. But those are some of the challenges. And obviously, in our first year coming out, being able to kind of get those behind us is important. At the same time, there's a ton of energy in the organization. I mean you sometimes have in a splitter [ spin ], people like, "Gee, I'm sad. I'm leaving." Look, there's a lot of pride about GE and GE HealthCare. And it's one of the reasons we wanted to keep the name because it's so well known all around the world. At the same time, we can kind of really reinvent ourself as a more agile entrepreneurial GE HealthCare. And I think with that focus in commercial areas where we've either upgraded or transformed some of the roles to be more leaning in types of folks, more hunters than farmers, if you will, relative to working with accounts, either reinvigoration on R&D and clinical. I think you've probably seen we brought in a Chief Technology Officer the first reporting to my role in some time, and we leaned in on a heavy digital guy that also has clinical background with Taha, who came in from Amazon. And I'd say operationally, and Helmut, you can comment on, I think, our focus on variable cost productivity, but also some of the infrastructure we inherited from GE, we have opportunities to evolve over time.

Yes. Maybe I'll add what Pete said, maybe 2 comments on, it's not only, I think, the infrastructure, but it's also, I think, we will build our own infrastructure fit for purpose for our organization. But it's also the velocity of how we operate as an organization, not a speed on a quarterly basis or some of the processes we actually, in our head, our annual process but really looking at winning the week, winning the months much more higher velocity in the way how we manage the business and how we operate the business. And maybe one comment I make also what Pete said, you asked the question, Suraj, about structure and how we look really at our structure. So one element that Pete and myself spend a lot of time on what's with the organization's structure, how we set up the team in the right way. And our 4 segments that you have seen how we build our 4 segment structure here, to me, is really, I think, a prerequisite to successfully operate as an organization with strong end-to-end P&L responsibility that can also be the foundation really to do effective M&A integration because GE HealthCare, if you go back a couple of years ago, was a very highly matrixed organization, which I would say, the corporate functions separately, the regions, the segments. Now I think we have a much more -- a streamlined organization that looks really at the P&L ownership and that I think will allow also much more effective M&A integration as we go forward.

So Helmut, you mentioned the 4 segments. And Peter, I'll pose you this question. So with your largest segment, right, Imaging, when we look at the total contribution to the overall business and the growth rates, right, we know the numbers from your quarterly reports. But Peter, maybe if I could drill down the layer, help us understand how do you see the market evolving, stratify U.S. versus OUS, de novo versus replacement. Just kind of fill in the blanks for us in terms of what are the trends. And more specifically, I'm really interested in de novo replacement trends geographically spread.

Yes. No, look, I think if you just focus on Imaging and, say, CT, MR, core x-ray, which is the volume of the business, there's molecular imaging that's part of that as well and you go around the world. Obviously, in the developing world, even China and Southeast Asia, you've got over 55%, 60% is new socket growth. So that tends to be new business that's coming in. Europe traditionally for us has been probably more replacement. But coming out of COVID, and I would say governments taking a look at it and saying what took place, what challenges were created, what's driving a lot of growth in Europe is new sockets. And it's typically associated with outpatient centers, either ambulatory or pure imaging centers to supplement the support structures, and it makes sense. As you can imagine, during COVID, bringing people, for example, to a central location with an infectious disease, you say, "Gee, that's not that functional. How do we have a broader outpatient setup?" And so where Europe might have been 70%, 75% replacement, it's probably closer to 50-50 these days, which is driving some healthy growth. And the United States tends to be a little bit more, probably 70-30, 75-25 based on the modality replacement market versus new sockets. That would be just kind of broadly reaching. But I would say what's quite interesting is just how the evolution of procedures and uses happening since I was in the business many years ago. But one is, obviously, coming out of COVID, we have a greater amount of disease, delayed procedures in all markets around the world that are requiring more follow-up. And much of that follow-up involves imaging and the need for it. The other piece is people living longer with chronic diseases. And I think this one, we're really focusing on how much is this driving. But any chronic disease that one has, you typically end up with follow-up CTs, MR, basic x-ray, some ultrasound that might be 4x, 5x what a normal average citizen would have. And so as an aging population with more chronic, that's definitely driving more procedures. So that's a little bit, I would say, of the motif that's out there. And then you have the rise of more expensive pharmaceuticals that may either require baselining measurements of evolution and also dosing as you get into certain products that move into theranostics, which is kind of a new scenario for us. And that's beginning to drive some growth as well. Again, if it's $150,000, $200,000 drug, you want to be able to do multiple studies to see if it's working because the cost of the imaging exam is very small versus the drug that you were put on is not performing.

People quite could stray a little bit on the imaging, and maybe you could expand that to the entire 4 business segments. How should we think about FX movements within these different segments? Is it -- is one segment within the overall business more exposed or less exposed because of natural hedges? I mean, you guys are worldwide, right?

Yes.

Should we be -- how should we think about the corporate versus the 4 individual segments?

Do you want to take it, Helmut?

Yes, so I can cover that question. So I would say we have quite a large manufacturing footprint across the globe. So when you think about, in imaging, especially we manufacture in the U.S. We manufacture certain products in imaging in Europe. And we also manufacture in China, in Japan those products and components actually as well in India. So we have a quite large scale in [indiscernible]. And you mentioned natural hedges. So we have a large component of natural hedge that is basically built in. Where we don't have natural hedge, we use typically forwards to protect us from any currency changes accordingly. So we had -- and you heard me talk about that we have obviously an assumption in our plans, in our guide around currency. I would say what we've seen recently on currency is actually that this is becoming a little bit easier compared to what we had there in that guide, which I think is all good news. But we're managing this really from a risk perspective to be sure we have a first our natural hedge and then also our hedge coverage. So your question, is it differently by segment, I would say this is quite consistent because we typically manufacture in all those legislations in Europe, in the U.S. as well as in Asia, in China, mostly for the respective local markets to really have minimization of those currency impacts. And then our R&D development teams are really also spread across the globe. So you have R&D done in the U.S., in Europe, in Asia accordingly. So the natural hedge is actually quite large, while more than -- I think it's more than 56%, 58% of our revenues are coming from non-U.S. currency et cetera.

Fair enough. Peter, going back to one of the statements you made about the supply chain. If I got the math right, you had said at times you'll pay 100% over the spot price -- or the spot prices are 100% over what they had, but things are improving. And I think so in your commentary on the last call, you also mentioned that the timing is coming down or the lead times are coming down. Walk us through, is it again specific to just key segments? Or are you experiencing it uniformly across the business in terms of some of the supply chain shortages? And if 2 quarters out, maybe Helmut, if you could, 3 quarters just out [ are great ], but how should we think about flow-through to margins because of some of the supply chain easing?

Yes, I can start, and then Helmut, maybe how we think about what's in the backlog. So what we have looked at is last year, I mean, the first rule is, we indexed on the side of patients and customers, meaning if we were going to pay for a chip that normally costs us $100, $300, but buy extra so that we could ship a $2 million MR, we erred on that. And I think if you look at our P&L, you can see our turns where they can be, we had a lot more cash tied up in working capital, but we made that conscious decision because of that. That also generate the kind of growth you saw in the second half of last year. As we start the year, we're carrying more of that expensive material burn down. In a minute, I'll just have Helmut speak a little bit about that. But your point at the beginning this year last time, we had a significant -- a large amount of spot buy materials. And again, these are, in some cases, chips that are used in automotive industry. They're used in our MR, they're used in our CT, they're used in ultrasound, almost the same chip. And so that was the real big constraint and a bigger chunk of the cost. And then it evolved into maybe other just commodity components. You have a China lockdown, you have an issue going in another country, you can't get shipments of something. And so it definitely touched all of our products. It didn't have any specific one. The more that they were digital, the more that they had a higher probability of having an issue. The more complex they were, the more probable there might be just one thing that's missing. And again, in the world of our products, if there's 1,500 components that make it, if one component is missing, it can't ship. And so MRI and PET/CT, more sophisticated products, probably had more challenges than basic x-ray or even our ultrasound business. But the good news is we're seeing across all of our product lines, that's improved dramatically. And again, I would say right now, as we go into the quarter, we're paying a little bit more for some stuff, but we're not really limited on what we can ship.

Yes. Maybe to quantify a little bit what Pete said. So in terms of spot purchases, also red flag parts, we're probably 20% or less versus -- compared to in the middle of last year where we had the biggest challenges in the supply chain. And one thing we must not forget, I think the teams really have done a fantastic job requalifying also parts. So, so far, since 2020, we have requalified more than 7,700 parts, which means using a different part in the product that is easily more better available. And also we're doing this, obviously, also from a cost perspective to make sure we get the part with the lowest price accordingly. And we have a supply assurance. A lot of work was really done at that stage. And Suraj, I think to your question around how is this is going to flow, I think through the P&L. As Pete said, we leaned on inventory and to be able to save and prioritize patients and customers first last year. So we were running a little bit higher on inventory that I would like to run as we exited Q4, but we knew we have this strong backlog that customers are waiting for the product. So we are preparing for the ramp-up that happened in Q3, Q4, they expect some of that -- those shipments to continue. And that will mean that we have some of this higher cost still on our balance sheet which will mean in a lower margin expansion in the first half. But then as we expect higher of the margin expansion as we go throughout the year, that will come as those lower component costs are really materializing itself also in the P&L and they're flowing through in inventory. That's how we look at it, and that's really how we have guided also for 2023 accordingly.

Got it. So gentlemen, the next question, if I can sort of run it a little bit, Pete, I know at the Investor Day also, you mentioned something, maybe something right about velocity of innovation, NPIs and -- that is a critical attribute you'll look at. On one hand, this new product introduction last year [ innovation ], the other thing is on a macro level, you're seeing certain innovation, your needs, certain disruption needs. Tie us together in terms of what you're seeing on the horizon, whether it's MRI, ultrasound, x-rays, just at least within this bucket, if you can. What are you seeing? And how is GE responding specifically as you talk about velocity of [ innovation ]?

Yes. No, look, it's a great question, Suraj. I think of anything that's going to really make a difference between now and the future is our ability to be a leader in innovation and, in many cases, a disruptor of some of the technologies that we really brought to market. It's why that I wanted to create the office of the Chief Technology Officer. And again, Taha coming into the role being the Head of AI and Machine Learning for AWS and the Chief Medical Officer kind of gives you a view here on where we think things are going. In his world also, what was part of the Global Research Center for all of General Electric, our portion of all the health care team, which is a big group, will report directly into him and also our applied science, field science group. And why that's important as we partner more and more with our academics, which honestly, we've done at some levels over the last few years, but maybe not the intensity that we could. We have a great feeder of ideas and applied science group that can translate those. And R&D, in our group that can help actually bring those to market and then the D, the development side in our businesses. And I would say that link between ideation and development wasn't always as strong. And then I think for a lot of larger companies, this is why you see more M&A plug in because there are pieces this strong. And so obviously, investments in new technologies and small acquisitions, but our own evolution of R is we're building that capability to go after that. Clearly, I think the biggest area is in digitization, whether it be the connection of multimodal data, the use of machine learning and the use of artificial intelligence. I think machine learning and AI separately because just the models that can actually help enable, I would say, all different types of capabilities that you just can't do in the current kind of comp modeling structure is really evolving a lot of what we do. I think, again, back to CT, MR and PET/CT, all of those have machine learning models that have been integrated into the reconstruction of how you make an image. Where as you hear a lot about AI and machine learning on post-processing to say this is where a cancer might be, this is where speed to an application might be, but actually in the front end. And I think you're going to see that just proliferate across the board. It's moving at lightning speed. I think the non-radiation-based modalities such as MR and ultrasound are going to tend to continue to grow. I mean if you think about an MR study, that used to be 40 minutes just a few years ago, down to 15, probably going to 5, the ability to actually have open slots to screen patients on multiple new diseases, I think, is going to go up. Also, spectral as well as functional-based imaging to see how things are evolving real time to adjust care, that's evolving. In the ultrasound world, just taking the technology to different locations, whether it be into surgery such as we're doing with our BK Medical, but I think the real exciting part is, is giving a primary care physician, an outpatient clinic, someone who's actually taking of underserved populations and handheld device that has the power of the top ultrasound 8 years ago. I think those are many of the different technologies where I think are going to be disruptive, and the common capability is making it easier for people that particularly weren't experts in that device to use it in the future, making it so that it actually can be used in different areas because of its size, its compactness and then I think using AI to actually be able to process all this to give you a red, yellow, green, so to speak, answer of how to distinguish it. And I think those are some of the things that are going to make, I think, imaging, not just for us, but for the whole sector, even a more important set of modalities in the next 10 years.

Okay. And maybe, Helmut, I'll just pose you with this question. Again, in the 4 buckets that we look at, how would you characterize price elasticity of demand U.S. versus OUS? Everything going on, and maybe I'll just [ pair ] together, just the FX, there's quite a bit of movement in the yen and the yuan. Just kind of walk us through how you're seeing -- is it relatively stable? Or do you think price elasticity of demand? Now that you're stand-alone, you might be willing to give on some to get some.

Yes. I think, obviously, price is very important for us. And you have Pete, myself talking about how we, I would say, improve our processes on price, how we improve the incentivization of our sales team on price. We want to be sure that any transaction is not equal. There needs to be also a component of price and value in there, how we look also about certain configuration to optimize really for price. So what we do there -- and actually, we had a discussion this morning, we had our monthly pricing council earlier this morning. We'll really go through those exact price elasticities for each of our regions, our segments and the products. So we go quite deep into this to see where is really hot spots, I would say, in those price elasticities and what is happening and what are the actions we really need to take accordingly. So clearly, currency plays a role here as well. So we always want to be sure we have a clear understanding what's happening on currency and how we need to price in certain markets to be competitive, but also to have obviously the right margins. So we look at those price elasticities very closely for each of those products. And when you go back -- actually, I'm quite proud how we have been able to deliver results here. So we implemented what we call an order price index and the sales price index, how much price we're getting on orders in the order book, how much price we're getting on sales, and we've been doing this now for more than 1.5 years. and we have really good visibility. And since the second quarter of last year in 2022, we have seen not only price on orders flow in but also price in revenues. It started small with 1%, 1.5% and 2%. It grew in the second -- in the third quarter above 2%, and we are exiting the year in the plus 3% range of what we saw in price there. And we have good visibility of what is price in the backlog, around 2% to 3% that we have currently as our backlog. Going forward in the long term, and Peter and myself have talked about this, we don't expect that we'll have that much of price on an ongoing basis. So going forward, I expect more to see 1% to 2% of price, and this is really driven by innovation. it's driven by optimization. Again, it's driven by looking at those price elasticities very closely, at the same point in time having a good management system around how we incentivize our team, how we track outliers and how we react fast. So this is really one important piece here is also being very dynamic on that pricing, which I think we've really made a good progress. So that commercial excellence and commercial discipline around that is really quite important.

Fair enough. Peter, I know this might be an unfair question. But you -- I kind of like in you as a general, and you have to do a reconnaissance of the landscape, right, to lead your army in there. China is sort of a black box, right? I shouldn't say a black box. But how do you manage this geopolitical -- God forbid, something goes wrong, just given how you guys are spread out. So China would be -- is it something that's a way to sort of buffer some of these issues? Because I know some of the other companies that we cover when things go south with China, there's suddenly disruption all over. I'd love to get your perspective how you think. Is it a manageable situation? Or what are the dampers inherent within GE?

Yes, I think -- look, it's a great question. I mean, let's just start with the United States is obviously the largest kind of robust health care market. The second largest is China. It's ongoing growth. And over time, with the size of the population, I think the Chinese government strategies to bring more care to their patient base and citizen base. I think, overall, it's of those markets that you just can't stay away from if you are a world leader in your categories. So I think if that is a basis, you have to say, what is the most effective way to run. And we've been there for over 100 years. At some level, we've been manufacturing with joint ventures and agreements over 30 with partnerships within Beijing, Shanghai, Wuxi, throughout the different areas. And I would say it can be viewed in many cases as a positive insider helping deliver upon that. In many cases in the past, China was a bigger supply support for the rest of the world. I think as we evolved, our strategies become more in China for China, which means that the leaders that we have on the field, our field generals, if you will, are the type of leaders that can actually run an organization in a fully contained scenario. And if there are disruptions and challenges, the type of leader that can kind of support that market have things running, and we also then have supply and capabilities coming from other parts of the world. Helmut mentioned India for us is, obviously, a very big manufacturing and sourcing component area that supplies not only India but rest of the world. Our base within Europe, our base within Mexico and the United States, I think over time, just because of the lessons out of the logistics challenges and the keeping components close to where they're made, we will probably have more of a regional motif to some of our supply chain basis. And I think it's a great thing. I think it will bring more jobs back in certain parts of the world. In the United States as a case, I believe that will be the case as well. But some of that's been enabled by the arbitrage of labor in some of these markets used to be significant, and that's decreased. Some of that's decreased because of robotics, modernization of how you actually make the products and actually the true labor content that goes into the products today. And so I think over time, that's going to be great for throughout the world that we will be more regionalized. But I think the strategy with China as well as any big market, whether you think there's more geopolitical challenges or not, kind of in that market for that market so that you actually have a greater ecosystem is important. And you know there's more indigenous competition in China really than any other market around the world. That's the other reason you really want to be in China for China. You want to be as local as anybody who is local, and you want to get the best value and cost to be able to compete that way. And that's a core part of our strategy and something I would say we'll continue to accelerate.

Gentlemen, we are almost up on time. Quickly, if I could do 2 quick fire questions. Peter, Advantus, any additional color you can provide? And Helmut, a quick snippet about the debt load and management of the debt load. Peter, I'll let you go first.

Yes. I mean just quickly, I mean, Advantus you're referring to the Bon Secours' service group, which is a great group. We worked them over the years. We announced a large multiyear deal to provide not only just break-fix service support but more than that. And I would just say that's going to be emblematic of more you're going to hear from us. I think one of the things that was a hallmark at GE HealthCare that we did focus as much maybe in the last few years is these 5-, 7-, 10-year larger deals that may be a combination of equipment, maybe a combination of services. They're going to be more a combination of digital reoccurring revenue capabilities. And our region structures, that's really one of the skill sets that we're ramping up. But I think that's a good example of more to come of multiyear clinically bundled structures. And I differentiate that from price. If you buy more, you get a lower price. We want our stuff, if you use our things, to work more effectively to deliver more value for the customer, and then, hence, you see more value in it. And again, that's a big part of our strategy.

Helmut, quickly on the debt load, if you could.

Yes. Quickly on the debt load, I think we're having some interconnectivity issues here, but I hope you can hear me. So I think -- so first of all, we have a strong cash-generating business. We're generating 85-plus percent of free cash flow, and this is really, I think, at the higher end of our industry, so we're quite comfortable with that. We're also very committed to an investment-grade rating. I think we have a good rating now. Heavily, our capital structure is supported around that rating. And it will be focused on paying down debt as we go. And really, our strategy, I would say, is going to be very return line that when we look at our capital allocation, investing into the business, investing M&A, returning cash to shareholders in all of those pieces are part of the capital allocation strategy. But again, this is a very good cash-generating business, and we'll continue to optimize our cash flows and capital structure accordingly.

Gentlemen, always a pleasure to connect with you and learn more. I hope to keep these conversations going. Thank you for taking the time this morning. We appreciate it.

Thanks.

Thank you, Suraj.

Thanks, everyone. Thank you.