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

Good morning. I would like to welcome everyone to the second day of the KeyBanc Life Sciences & MedTech Investor Forum. My name is Matt Mishan, I'm a Senior MedTech Analyst. I'm pleased to be joined by ICU Medical who is represented today by CEO Vivek Jain; and CFO, Brian Bonnell. Thank you guys very much for joining us. I'm going to start it off, but this is going to be 100% Q&A and questions can be submitted directly to me by typing into the box below the video screen, I can then relay.

But for now, I'm going to start off, Vivek, Brian, we've been starting off these firesides with a comparison on the current environment to like a year ago. But for ICU, I think I'd be specifically interested in how much more visibility you have around this underlying performance this year compared to like a year ago.

Sure. First, Matt, thank you for arranging this for us and having us and we appreciate KeyBanc's involvement with our company. ICU's issues last year were a combination of both macro and the transaction that we walked into. And in terms of the very direct question, do we understand what's going on and what's our level of visibility. Clearly, our level of visibility has gotten better every day. And I think we have an appreciation for both the operational challenges we've had, and we've worked through a lot of those. And we have an appreciation, probably, I would argue equally important, of the customers that didn't stick with Smiths during some of the turbulence and I think we're in a better place to make a concerted effort to get them back than we were a year ago. I think a year ago, we didn't even know exactly where the bottom was. And it's that what's the Wall Street catch the falling knife thing, right? I think we were obviously worried about that. I think we have found the bottom in a couple of businesses that were going backwards, and it's much more about playing offense right now.

And broadly, how would you describe the overall operating environment compared to last year freight, logistics, raw material costs, just macro.

Sure. I'll go first, and then Brian can jump in. For us, I think it starts with what's kind of going on at the customer level. And I think our comment would be that our core customers, large hospital systems in this country are doing okay census wise, not worse than last year, but not materially better either. It feels pretty stable. And in aggregate, probably still a little bit below peak historical levels even if you exclude the COVID times. Now I realize many of us have friends in the medical community who will say they're flat out as busy as they've ever been. What's hard to get a handle on is the exact available capacity in the environment they operate in. And so they're very busy, but the aggregate capacity may be a little bit below historical levels. I think the macro more stuff is going right than wrong. I'll let Brian kind of comment on some of those things.

Yes. I think, Matt, on the macro environment items, if you compare to '22, especially the back half of '22, where we saw the most pressure for areas like FX and diesel, we would say it seems to be a little bit better today, which is good, but I don't think -- I think we're still pretty far away from where we were 2 to 3 years ago on some of those items.

I think, Matt, the one thing I'd say it's not to jump into the number stuff right away. A huge chunk of what we faced for the last 2 years, we were talking about the script, was increasing cost and a significant portion of that is permanent. And so while a lot of things are going right, the baseline has been raised in labor costs, operational costs, not only in the U.S. but around the world.

I guess, if it's steady from a macro perspective and you're seeing some level of improvement, you only guided about 3 or 4 weeks ago, what was kind of your approach to setting that guidance and kind of why stick with the wide range then?

I think what we experienced last year was not enjoyable. And we had never -- even though we thought we performed incredibly well during 2020 and 2021 with a service level to the customers -- even we got knocked down on our legacy original business last year with the amount of kind of volatility in the broader world. I don't think it's 100% over, and we'd rather not experience that again. We thought the safer course of action was to put a bit of a wider range out there and have the ability to handle bumps as they come or do better, right? It's -- it wasn't like we missed by 5% last year. We missed by 20% from our original expectations. So that's pretty severe.

When you think about some of the moving pieces in that range, a lot of the headwinds we can kind of visibly track like FX and like raw material costs. But -- and they seem relatively okay at this point. But how are you doing and recapturing some of the lost sales of Smiths, like that volume leverage seems to be a big lever for you guys.

Sure. And we lived through some of this with our previous acquisition of Hospira that had -- we had to do. That was a very defensive thing where there was a lot of customer losses and through good execution and focus and differentiation, we got a large volume of that business back. I think the same thing is happening here with Smiths. It's a real discussion business line by business line. And so some of the categories where there is limited choice, it's obviously or where our inability to serve the customer was self-inflicted, it's easier to remedy those things faster. And I'm sure we'll get into that some of the quality-related issues, et cetera, that we're making progress on. Those items, we can impact faster. Some of the items where the product categories went to a legitimate competitor who's a high-quality supplier of those, we still believe we have an integrated value proposition that makes sense, but it takes a little bit longer to get those back. I think what we feel good about today is, it's scheduled. We know exactly where it went and we know why it went and we're very focused on the value prop and our message to those customers to get that business back. It's incredibly valuable. The last 10% in the factories drives a lot more than 10% of its value.

I mean with that level of kind of visibility, you guys gave individual segment guidance for revenue growth. Why not explicitly guide to total revenue yet? Is that something you're considering moving forward?

Yes, Matt, I think we did give guidance on the individual segments as far as what our expectations are over the coming year. And we do that because we think that the business dynamics of each of those segments sort of need to be taken into consideration when thinking about the opportunity. And so we just thought it was more relevant to provide transparency around what we expect from each of those businesses. And from there, I mean, the total company revenue growth will sort of -- will be what it is. And we just think that's sort of more valuable information to provide investment...

I mean let's not tongue in cheek, Matt, but I felt like people could get there, it's math, right? We said the 2 differentiated segments are growing the most. On our investor presentation, you'll see the way we're going to report into 3 pillars, 2 of them are highly differentiated. And it's -- we don't expect investors on a midsized company to sit around and do some of the parts analysis. But I think the portion or the logic that we were trying to illustrate is that the things that truly drive margin are the most differentiator are, in fact, growing in very acceptable rates.

Right. Fair enough. You indicated on the last call, the FDA was coming back to Minneapolis facility, maybe a little bit earlier than expected. Has that visit concluded and anything you can share on that?

That visit did conclude. It was a little bit earlier than we had originally anticipated. And I think, again, we've talked about it on the scripts, right, the nature of the warning letter and the FDA trying to improve the situation is part and parcel of being in the business. I think we had hoped -- we have made a lot of progress. We'd hoped it would be a bit later because we could demonstrate that progress even further. And you could call the ultimate question, which is, can we get a full clean bill of health as soon as possible. There's no operational issue that affects our ability to serve customers from that, but it is something that everybody spends time on and getting a clean bill of health allows us to do things like migrate systems and manufacturing plants and underlying architecture of the business a bit faster. This inspection resulted without any, I would call material difference from where we were. It was -- keep working on the following items. You're making some progress, but it's a bit too early. The outcome of all that is it probably just as open longer than we would have liked it. So now if we're ready, we can call and say please come in and give us a thorough review, but then if that we should -- we were just here, but we don't.

It sounds like what it does is it prevents you from doing some operational items, but it may not prevent you from returning to shipping to customers or potentially from going to -- does it prevent you from potentially going after new business?

Not in any different timeframe than we were already moving on and it doesn't prevent us from undertaking some of the next level integration activities. It just makes it a bit more complicated, and you have to run duplicative systems. You can't turn historical systems off at the same speed.

Okay. On the bigger Infusion Systems segment, like how would you just describe the overall health of your customers? And do the hospital systems have the bandwidth now to better implement changes that would require training or affect nursing workflow.

I think what the -- surely the global hospital system and certainly the U.S. hospital system went through the last 2 years was unprecedented. And it was difficult for people to make proactive decisions on things that implemented nursing, which had its own set of challenges, et cetera. I think we would say that's settling down rapidly. And ultimately, it comes down to products, right? If people need whether that's our category or anybody else's, if people need a refresh of older equipment, et cetera, that decision has to get made and prioritize. And it didn't have to be prioritized because things weren't as old 2 or 3 years ago that is changing. There's a little bit of caution on spend, given reimbursements. For us, the disconnect is just like the payers look like they're doing great, right? And that money will eventually flow downhill, reimbursements will go up and the system carries on and works. I don't think that's all done quite yet, right, still in progress.

Is your sense of the replacement cycle is delayed until some of your competitors are a little bit more whole as far -- or is it really the marketplace is just delayed because of last couple of years have just been so challenging.

It's a little bit of all of the above, and it's situational depending on a customer's unique circumstance. We have some situations where they need to make a decision right now and it happens over the course of a quarter or 2, which is pretty fast. And there's folks who say this at my long-term decision tree, I just can't get to it today. I think if you listen to the transcripts of the market share leaders kind of I think they're very truthful and they said a fraction of normal capital was refreshed over the last 3 or 4 years. And so the analogy the cars have a lot of miles on them. That's the opportunity for all market participants.

Why has it been -- just taking a step back, why has it been so challenging when you think about the market share leader, you guys with Smiths and [indiscernible] with Baxter. Why is it so challenging with the FDA and getting pumps through the FDA approval process?

Well, I think the high regulatory barriers are what makes the market valuable. So I don't want to get confused on that, right? That's a good thing, not a bad thing. And it means, a patient safety has to be delivered. I think the challenge -- and this goes back, we've been in this thing for 14, 15 years now. If you go back to the interventions in '09, '10 timeframe and then all the way through '14 or '15 where everybody went through their phases, it was because it was a recognition of these devices are the last mile of delivering medications to a patient. And that's a important piece of real estate. And if something goes wrong there, bad things happen. And there was also an increasing acknowledgment that these are electromechanical devices in our network and connect to a broader architecture and everybody's sort of learning on the job on that topic about the vulnerabilities, et cetera. And to me, it feels very logical that a machine that delivers something that can save your life or cause harm is deeply regulated. And we think that's a good thing.

One of your top priorities of Smiths was clearly the CADD ambulatory pump. Could you contrast the size of that pump portfolio to your LVP base? And how important was that was getting that right for the customers first?

Two parts to that question. So market size, I would say ballpark in terms of revenues and value, the CADD franchise is probably 2/3 or something of the size of our LVP business. In terms of units, meaning devices deliver drugs pumping out there, probably also about 2/3 of our installed base. It's a lower value absolute market than the LVP market. But for us, it's very significant and it sits with a very high market share position at the intersection of home care, ambulatory care and complicated oncology or anti-infective drugs. And that market is growing with better underlying trends than what's going on in the hospital. And an important aspect of the transaction was to participate in that portion of medication delivery outside of the hospital. And the burden on us is to innovate and connect those devices to what's going on in the hospital so you can really see what's happening with the patient all the way through. And so we think that real estate and home infusion, et cetera, is very valuable. We have a high share level there. We need to figure out how to continue to build value around that position.

What is your a broader like ICU strategy outside the hospital look like? I mean you're going to obviously, everyone was to connect devices outside the hospital over then. How do you go about that? Who do you work with? Does it require like a footprint outside the hospital for yourselves, you work with the DME. So how are you thinking about going about at a hospital strategy?

I mean if you look at our total revenues today, probably somewhere in the 15% range of the company is what we would consider alternate site. And I would say, on average, the economic contribution of that is probably better than the rest of the business because it's logical, you have more direct reimbursement, you have a smaller fragmented customer base, et cetera, the different level of aggregation. So it's a juicy market to call on. I think the first item for us is that we have to get kind of through the various quality steps we're working on and then ultimately innovate and that innovation starts with what's in the device itself. The device carries a radio and is wireless in a hospital environment. It's not necessarily the case in the home care environment. And so on the development roadmap is, what's the right connectivity framework for that device in that environment and what data that need to be aggregated with, we have a point of view on that. But I would say that's kind of a 2- or 3-year journey from where we are today relative to making sure we get the basic stuff right. That was so important last year because we entered life without an adequate amount of dedicated disposables and you can't use a pump if you don't have a dedicated pump set, and there's some patient on the other end of that who needs treatment, if treatment may get interrupted. That's an unacceptable situation if you're the infusion business. And that's why we deployed so much capital and effort to remediating that, and we're very, very healthy today on the dedicated pump sets, and that gives us the right to go sell capital again. We didn't sell a lot of capital because no one's going to buy a pump, a gift, give me the razor blade to use it with.

Okay. I want to switch over to consumable is your largest segment. You guided to mid-single-digit growth for 2023. I wanted to attack the consumables in like a 3-part question. And I'm sorry for a multipart question, but I think it just makes sense to ask you like this. How do you think, question one, how do you think revenue was impacted in 2022 by supply chain constraints? Question 22 -- question 2, is the 2022 base of vascular access sales from Smiths fairly low? And then three, were there any specific pull forward or stocking events that create a headwind for 2023.

Okay. Why don't we do those in reverse? Do you want to do the last one first?

Yes. I mean as it relates to, was there any pull forward or stocking events at the end of '22, I would say, no, we certainly didn't do anything that would contribute to that. I mean, I think we said in our last call that Q4, the dynamics where it started off slow and it ended much stronger in December. And so to the extent that the distributors are doing or increasing stocking levels or anything like that. I suppose there could be a little bit, but I would say nothing worth calling out from our standpoint that would have a meaningful impact on '23.

I think when we reflect on our time here and like the report card, which is measured in different ways, obviously, one aspect in a report card is, as our core business accretive value and if we went back 5 or 6 years and looked at our consumables business, there's the legacy ICU business. It's compounded at a very nice rate, 7% or 8% a year for 6, 7 years in a row, and that business is near $600 million, it's more than doubled. That has come with a combination of innovation, execution, a little bit of luck, et cetera. And when we reflect on last year, even in the face of a couple of supply chain issues, it did well. The supply chain issues in our legacy consumables business last year were more around our oncology business than our IV therapy. There's a little bit in IV therapy. But in oncology, we were really constrained from a production capacity standpoint. Those are decisions we made in 2018, 2019 to bring on new capacity, it took longer to get the capacity, the machines then validated, et cetera, with everything going on in the world last year. That's all behind us now. That doesn't mean it's going to snap back to its double-digit growth instantaneously like it did for a few years because we had a few lawsuits along the way, there were people we couldn't serve. And so we first got to dig our way into that hole, which is happening right now and then have the next layer of customers come into the book. So on legacy consumables to the first part of this question, a little bit of revenue constraints in oncology, nowhere else really. And then the toughest question is the second one, which is where is Smiths Vascular Access in there. Really hard to tease apart the numbers because that line of all the legacy Smiths Medical business is probably the most influenced by COVID. And so Smiths Medical was one of the main providers of vaccine syringes, which were in and out of that line for the last 3 years. And so we're very focused on deconstructing that line into its component parts, which are really PIVC catheters versus injection syringes versus blood collection and kind of ancillary devices. I would say, on the PIVC portion, I do believe we are close to the bottom of the losses, and we understand where they are. It's harder to know on the other 2 bits of Vascular Access because there's so much in and out. Big picture, the math on consumables goes something like legacy ICU continuing to grow. The other business that was in the consumables segment is the tracheostomy business growing and vascular access trying to be more cautious on and saying flat to down possibly a little bit and the net number being the number we provided in the guidance.

I think that's fair. So the Vascular Access piece, if you're able to get your arms around that, you potentially have a little bit more upside on that piece, while the other stuff is holding fairly steady.

I mean I think that's right. And on the scripts, we try to say exactly what we believe all, right? We believe in that market, those products literally connect to our core business where we're the #1 market share player. So we have a right to be in that category. We have a right to talk about that category with customers. And it's just about execution. The first part of the execution was being able to supply enough. Smiths falling down on that disappointed customers. We are 100% back there, and it's just about commercial execution at this point. And it takes time because people got put through the ringer and chose to leave and I think they'd like to see a little time under our belt, just like investors, you want to see a little time under our belt and sustainability before you...

Have those customers fully moved away from Smiths or dual sourced or -- and they're looking at you and they come and you guys go in and have a big conversation with the hospital. And they say, "Thank God, you guys took this thing over, we're so happy you guys are now running this, we feel like we're going to give you the opportunity down the road."

Certainly. I mean I think that is a little bit like Hospira, it is the same situation, right, which is the market needed this. And the same words we close every script but these are essential items that people don't want to switch. And the customer recognizes that there needs to be a choice in the market. So we play an important and valuable role with products that were really differentiated and preferred. I do think it's situational, the first part of that comment, some folks did go dual source. Some folks went all the way and left. So it's situational customer. But all we can do is show up and be reliable and offer value and clinical support and bring focus there.

For IV Solutions, I'm trying to figure out the best way to ask this question. I think I came up with, is there anything positive you'd like to say about the IV Solutions business.

I mean we have 1,500 teammates working hard every day to make something that this country needs to run itself in hospitals. I think the industry, us included, has done a bad job of getting value or price or whatever price in line with value. And the essential nature of these things, I think, hasn't necessarily been recognized, and it's incumbent on us to make that more clear. No one likes that conversation. But we buy recombinant drugs for prices, I don't understand, and we will fight to the death over $2 versus $2.15, that doesn't make a ton of sense to me, right? And at the same conversation of something that's made onshore in the United States with a need for safety and reliability in that category due to all the historical shortages. I believe today it will correct itself, but it takes a little bit time to make that happen. So to be positive, we have solid market share position in a core category with a good market structure. Logic should prevail.

Okay. Excellent. You talked about contracting at an earlier investor presentation, just how should investors think about the risk and the timing of larger contract renewals for you guys?

I mean I think the majority of industry participants have been pretty clear that there's an important set of GPO contracts that come up for renewal towards the end of next year and into early '25. I certainly think we know what our job is, and it's finding a balancing act with customers to, again, articulate our value, offer them value and figure out how to put all the puzzle pieces together there. I guess how investors should think about it. We certainly would be obviously very disappointed in what's gone if you've read a newspaper for the last 2 years, right? Prices [ shouldn't be ] going down. Our costs are materially up, and we need to make sure that's recognized.

Okay. You have an IT implementation, I think, coming up over the next couple of months? Are you ready to go with that? And then do you have enough inventory to avoid disruption to the commercial organization if something were to go wrong.

Yes. Matt, I think on the IT integration, it's really a 2-step process, and this will happen over time. What we have coming up this year in the summer is Phase 1, which is really about getting off of the TSAs that we currently have in place with Smiths Group and basically operating the Smiths Medical IT systems ourselves. That's more of a lift and shift effort. And I would say -- I wouldn't say it's certainly no risk because there's a ton of work involved with that, but I don't think that there's a lot of risk associated with that. Phase 2 is then bringing together the legacy ICU and legacy Smiths Medical Systems for the combined company. And that's something that will take time and not actually happen this year. It will take place over the course of future years. The good news is while there tends to be a little bit more risk for that type of work, we're not any -- under any sort of time restrictions in order to get that done like we were for Hospira. So we feel like we're -- that's under our control and really no particular concerns around that.

Yes. I mean this is one of these things you don't -- you certainly don't want to spike the ball on, but if you reflect on the Hospira cutover, which was a world in which Pfizer gave us no systems, and we had to migrate everything on the same day around the world. I think that was hardly noticed by in our results or by investors when that migration happened in the fall of '18. This one isn't as Brian just said, doesn't have that same amount. We can choose to go slower, we can choose to go country by country. We can -- and our inventory positions as reflected on our balance sheet are very different than they were a year ago.

All right. We're running close on time. I did want to ask about portfolio rationalization and how you're thinking about that through kind of 2023. And if there's opportunities to realize a reasonable amount of value for assets that might not be like considered core.

I think we -- everybody has the opportunity to maximize value when the businesses are running well. It's hard to separate things when you don't run your own IT system. And so the separation is an important aspect and operational performance is the most important aspect. And so for us, it's about solving the quality journey, showing improving operations and deciding what's really core and what it may be on the periphery of that. I don't think we feel like we have to do anything. It's very opportunistic. And if the right opportunistic things happen, we'll make the right decisions like we feel we normally do.

And lastly, Smiths recently registered to sell 2.5 million share stake. Just what are you able to share around potential timing and how those shares may eventually come to the market?

We experienced this with Pfizer. Pfizer was our largest shareholder after the Hospira transaction. And I think Pfizer chose a path where they only registered when they sold their shares. It was a different format. We had an obligation here to register Smiths share, I think starting 6 months or something after we did the deal. They are subject to the same Board representation, they're subject to the same insider restrictions that I am or Brian is or anybody else in the company is. And so that creates a very narrow windows. I don't certainly want to speak for them, but I believe they are sophisticated, rational actor that should preserve all of their optionality, but they have a vested interest both in the earn-out still exists for them for a number of years to hold out their position. And the illiquidity for lack of a better word, of our security is no secret, right? And so I suspect if you look at the backgrounds of the folks who run that place, they have deep experience with public securities. They know how to do the right thing, and we're not too worked up about it.

Okay. All right. Excellent. With that, we're out of time. Vivek, Brian, thank you very much.

Thanks, Matt. Thanks for the interest and support and for anybody for participating online. Thanks for your interest in ICU Medical. We appreciate it very much, and feel free to follow up with Matt or us with any questions you may have.

Yes. Thanks, Matt.

Thanks.