ICU Medical, Inc. (ICUI) Earnings Call Transcript & Summary

My name is David Lewis, medical device analyst from Morgan Stanley, and thank you for joining us for day 4 of the Mortgage Stanley Healthcare conference. And we've transitioned for the first few days to large-cap plan and to more swift cap growth-oriented businesses, and very interesting company joining us here this afternoon is ICU Medical, and their CEO, Vivek Jain. And we've had Vivek here in the last couple of years, but I thought it'd be good idea, Vivek, just given it's not so much that few people don't understand your business. But I think, frankly, I'm not sure if people understand the fluids and pump business to begin with. So maybe just give us kind of 3 minutes or so, just kind of briefly talking about ICUI as a business, and then we'll jump into the fun stuff.

Sure. First of all, thank you, David, for including us. Again, we really appreciate it. It means a lot to our company. And we hope you've had a good event in this distributed environment. And thanks to the folks who are dialing in, and everybody's a little bit zoomed out and making a few minutes questions. Appreciate it. I'm joined by Brian Bonnell, here in San Diego, our CFO; and Dan Wilson, who runs our pump business is also online because a lot of the conversation has been around the pumps. ICUI is the infusion therapy focused company. We're about $1.2 billion in revenues. We have 3 principal lines of business around infusion therapy. Our core business, our original business was our IV consumables business, think about that as the pipe that connect the motor of an infusion pump to the patient and that deliver the drug or the IV solution through the pipe. The most valuable portion of that pipe was the area closer to the patient, that was our original area of innovation. Along the way in the early 2000s, ICU had a distribution agreement with Abbott that became Hospira that became Pfizer, where we relied on them to take many of our products to market either directly or as part of an integrated bundle where they sold the pump, i.e., the motor or the water, the IV solution that flowed through the pipe. Together, ultimately, we had to, for largely defensive reasons acquire that business from Pfizer, which we did in early '17. Our team came out of the infusion industry. We all started together at Cardinal Health that led to a spinoff and a variety of other companies as a group of us who have been together for more than a decade in this industry in San Diego and Chicago, putting these pieces together.

Okay. That's very helpful overview. Your business is a little different from the classic medical device business that just stick something in somebody. So on this COVID-oriented recovery, you were impacted. You had some headwinds. You had some tailwinds. You were a little more insulated than some of our classic procedure companies. But then on recovery, there are unique dynamics to your business as it relates to hospital census, which some investors have not sort of fully appreciate. Help us understand your pathway to recovery through the second quarter and sort of how your business has trended here as you came out of the summer?

Sure. Look, this has been the #1 issue. And obviously, I've listened to the competitors' calls on admissions, et cetera. I felt like we were early in talking about this on the end of our Q1 call. And I think that gave us an appreciation for the environment, and we're very close to the customer situation and set us up well from the comments we made there for the balance of the year. Our business is very much driven by census and admissions to -- on our commodity-oriented IV solutions or IV therapy products, some of the more differentiated items on pumps or oncology are less correlated to census and more about some macro drivers. Our business hasn't -- whether the word recovered may be strong, but like others, we are seeing good customer trends, July over June, August or July, September over August. And the biggest question we have right now is that really back to baseline and whether that baseline is 95% or 90% or 98% or how much of it is really catch up. And I think our view right now is it was so bad from April 10 to May 25, down 20%, 30%, that a lot of it is actually catch up. And that catch up, may in fact, go on for a while, but it's not really NPV, so to speak. But we'll take it while we're getting it at the moment.

Okay. How do you feel about the levels of inventory in the channel, Vivek. Are they -- do you feel like they've been sort of drawn down and were kind of back to normal? Where do you think the industry sits from an inventory or stocking perspective?

I think our view is things are pretty normal out there. If you have a 6- or 8-week period, that's minus 25% or minus 30% from normal levels, any extra gets burned out in the channel. And in general, we've tried to stay away from -- NPV value creation isn't quarter-to-quarter what a distributor may or may not be holding. Obviously, it affects predictability. But we've shied away ever from commenting on those things. Like -- if somebody has a great sales quarter, they never say, "Oh, there was extra distributor stocking, it's only late a day, all distributors destocked." That's sort of just business in our minds, and we don't think there's a lot of extra in the channel for any of these products right now. There may be on the stuff that's been hoarded PPE and others, but not in our lines.

Okay. Very helpful. The flu season for flu-based companies, you're flu based and support for a lot of these patients. I think initially when COVID started, everyone was adamant that this would be a pretty weird flu season. Now through social distancing and masking, and what we've seen at the Southern Hemisphere, this looks like maybe it's not going to be a particularly interesting flu season. As you talked to hospital executives, how are they -- 2 things, how are they thinking about managing their systems during this period of time into the flu season? And what are they thinking about the virulence of the flu season?

Sure. And look, we're paying attention to what's going on in the Southern Hemisphere, Australia is -- we have a decent business in Australia. Australia is having a lighter flu season. LatAm, on the other hand, with the virus is very impacted. And LatAm is in some difficult positions right now in certain geographies. And so it is on our mind, what that is going to mean. Our conversations with our hospital customers, a number of them said to us August was the first month they were on budget relative to their own expectations for revenues for the year. And they seem to believe that, that is going to continue into the fall and maybe the math there is the catch up offsets any lower census from flu, et cetera, but they haven't stepped off of that point of view in their own business. And for us, we never got a huge flu impact, and our solutions business has its own situational aspects, which are much more around customer retention and price that make a bigger difference on what may be going on with flu in any given quarter.

Okay. And then the capital environment, I felt like one, your competitors has been more cautious all year around capital environment. Obviously, you've had emergency used pumps and there's a debate of: a, just what does the health of the hospital capital environment; and b, is there going to be some sort of suppressed pump demand as you roll into '21 because everyone just stopped their hospital full pumps for a 6- to 8-week period of time? How are you feeling about broader capital environment and pump capital?

Ultimately, the clock doesn't lie, right? If a product is a 7- or 10-year-old device, it needs to get replaced. And so I think there is a market out there for older devices that will need to be replaced, that all the vendors share that exposure. We all have older things out there in certain parts of our book. In terms of macro capital, I mean, I agree with some of what I heard yesterday, which was it is on people's minds, and there is risk that capital could be a bit more constrained. On the other hand, these are clinical items, the actual capital outlay isn't that large. And I think our view is the rich have gotten richer in terms of the largest systems do have resources, do have the wherewithal and do have the ability to focus on this. And the vendors themselves can all participate in ways to help that capital deployment for them too, if they choose to do so. So I don't think we say capital is the turn from having a good pump situation going forward. The biggest thing we face is just inertia in the infusion business, why we're all still in business. We have to, and the other vendors who are in the market, have to create the clinical urgency for change and the economic urgency for change and the patient safety urgency for change. And that's where I think we're all focused on.

I'm convinced. You can segue back into your pump business and your competitive market position. You spent a lot of your early time as CEO of this company. When you bought that business and stabilizing the pump asset that you acquired, where are you in the sort of the development and commercial time line for that business? And talk about your pump portfolio, the pipeline, and how you see your commercial position these next 18 months? And also, frankly, is that impacted at all as it relates to obviously the #1 pump is currently on [indiscernible], how does your commercial pipeline and opportunity vary relative to theirs?

Yes. Sure. I think we feel better about our pump business than any moment in time that since we've owned it. And we said that towards the end of last year, at the beginning of this year. ICU had to purchase Hospira because Hospira's pump share went from -- or Abbott to Hospira's pump share went from mid-30s to 15% over a 15-year period, and ICU rode on the back of those items. We sold components to the dedicated set that ultimately were acquired in those pumps. And we couldn't have the customer go away, which was a trajectory they were headed on, so we had to step into it. Now we came from all of us worked at what was the #1 and is the #1 pump company. And so we felt like we had the experience to understand the issues. We entered this year feeling very optimistic, both because of the core solidifying of our base that we had done in the features and benefits. We've been reinvigorating in our own pump platform. And then what was happening with the competitive environment, the COVID situation muted that a little bit because it went from being a #1 issue to somewhere down the list, but we're not that big. We don't need that much to feed off of, and we need to, to the point I made previously, create that case for change with the available market opportunity and the available market opportunity should be enough to feed us. In terms of where we are with development, we have been spending a fair bit of money, both on the hardware and software side. We prefer to only talk about those things when they're ready to go and on file. And our focus needs to be on the product we have to sell today because we think it answers the needs of customers, and it allows them to do that with something that's established, proven as years of history in the market and is subject to a lot of third-party external scrutiny that it held up extremely well.

Okay. So I mean your -- at this point, you would expect sort of share capture in your pump business over the next couple of years?

Yes. I think our view is we shouldn't be here if we don't believe that about our pump business. And the moment has not been better for us in the 3 years we've owned the business than right now to go make that happen. We wish the overhang of COVID in the capital discussion and all other stuff wasn't here, but again, we're only 15 points of share in the market. There is enough for us to feed on. We need to go find the situations where we can make an impact and drive that case for change. So I think we absolutely have to believe that or we frankly shouldn't exist.

Okay. And then the competitive environment, Vivek, for -- on the fluid side of the equation, you've talked in prior years at this conference about you obviously want a stable rational market. You've got some new competitors coming on a capacity this year, next year. We're all way from a -- has COVID at all changed the behavior in this market?

I think the market has functioned far more logically, it feels like over the last 12 months than it did in the 18 months that preceded that where for 30 years, this was a very fixed market because of historical pricing, capacity, CapEx, et cetera. There was a shortage, like many markets, new entrants, say, "I'll run into that market because there's value." And I think the combination of kind of equilibrate or whatever the right word is, pricing, volume draws down first because the biggest output of the shortage was conservation, which is great for the system, obviously, difficult for the manufacturers. And then the volatility around COVID and long-term needs, I think we would question, does this -- does the need for additional capacity still exists. And then more practically, we think we've done an okay job, and we took our medicine last year of stabilizing and recontracting and resigning our business, we believe the market leader in that category. We're #2 there. The market leader has also done the same. And so we're kind of scratching our heads and saying, at least for the next couple of years, where would this incremental capacity, if it actually came online go, because we don't know the spots in the market that need the capacity. We were deficient on certain product SKUs, for example, in the PVC-free area, which is where the European players wanted to enter the market with. We announced a relationship with a Spanish company called Grifols. That was also one of these folks who said we want to enter when the market behavior was a little different. And I think logic prevailed and said it's much more logical to use the existing market shareholder as my distribution vehicle then try to re-create it myself, and we hope that logic prevails to all participants, but we don't live in negative interest rate environment and finance ourselves different, et cetera, et cetera.

And Vivek, can you just talk a little bit like it was right before last year's conference where you said you sort of took your medicine. Can you just sort of walk us through what happened late last year, mid-last year, and why it shouldn't happen again? Obviously, that had pretty negative implications for margins. So they guess the good thing would be, then these margins can recover and probably are at the process of recovery as we started to see some of that here in the early part of the year. So what happened before? Why it doesn't happen again? And how this could be on the other side of this, is there a harsh an opportunity?

Thanks for giving us the opportunity to relive that moment. We were a company that for 20-plus quarters in a row delivered on our commitment and even in our prior experience, where we work -- obligation we took very seriously. And we got away from that because in our IV Solutions business unit, we were selling more than we rightly deserved, and we were selling to customers in a shorter environment that was actually under -- to a customer that was under contract with somebody else. And the other manufacturers took back what was largely theirs, that also led to some price equilibration in the market. Both of those events did have a substantial margin and production and supply chain impact. We've worked through a lot of those, and we feel like the guidance we've put out there last summer gave us the operational flexibility to go get our business re-contracted and do what we needed to do this summer. And it feels like it's a normal functioning market the way it should be. Again, and our company value prop -- to oversimplify it was very much -- and we stopped talking about solutions if we have it under contract, can we focus on growing our differentiated lines of consumables and pumps. And if we can eke out an appropriate growth rate on those 2 items in a more flat business on solutions and supplement that with a little bit of capital deployment. We're getting back to good free cash flow generation like we always had, our restructuring costs are coming down. A little bit of organic growth, supplemented by a little bit of inorganic, was an okay formula for the time being. But essentially, that's what's happened on solutions, and we think we're through most of it -- through most of it now.

Okay. Your contracted exposure, Vivek. Have you quantified what it was -- I think you had talked about spot market exposure in years past. I mean what has happened to sort of spot market exposure for you in the last 12 to 15 months?

Again, the business at its peak in the shortage was a $470 million, $460 million business, and it's probably closer to $320 million this year, right? We said $80 million a quarter. A huge chunk of that excess was either spot business or off contract sales tail that I would call business you already lost that kept going. Both of those items are largely, largely out of the system. And -- so I think we'll find ourselves at the end of this quarter with over 90% of our business now under multiyear, long-term contracts and very low reliance on that spot business. That was the medicine taking. And look, logically, we bought a business that was very shaky. With Hospira, our job was to maximize cash flow through that situation. We tried to do it right, where a customer was want to make a long-term commitment, we cut price dramatically to secure long-term business, and that kind of led to a different set of relationships and all that stuff is out of the system today. It also enabled us to get back our cash balance to what it was pre-transaction before we did some additional M&A, et cetera.

Okay. I did actually before I ask a lot of CEOs at this conference with sometimes mixed results, but your '21 versus 2019, for some reason, that is the investment algorithm people are focused on. How are you feeling about '21 versus 2019? You're kind of a different kind of business. I'm kind of curious for top and bottom line, any qualitative commentary you'd offer?