Integra LifeSciences Holdings Corporation (IART) Earnings Call Transcript & Summary

Okay. Hello, everyone. My name is Vik Chopra. I'm one of the med tech analysts at Wells Fargo. I'm pleased to introduce the management team from Integra Life Sciences today, joining us as a company are Lea Knight, Integra's new CFO and EVP, and we also have Chris Ward, Senior Director of Investor Relations in the audience. Thanks so much for being here.

So you recently joined Integra. What attracts you to this company. Can you just talk about -- all right, better -- and can you just talk about what changes we can expect from all the metrics that you focus on, how you report, how you guide, et cetera.

Certainly. Good afternoon, everybody. I'm excited to be here, so thank you for the invitation, Vik. So why Integra? First and foremost, for me, it had to be about the purpose, our mission, what we do for our patients and our customers. And Integra's purpose to restore patient lives by offering technology that transforms neurologic and regenerative care was something I found compelling. I found an organization, a leadership team that shared values, one focused on integrity and excellence and teamwork, all of which matter to me. And then probably most importantly, from a strategy outlook perspective, Integra is really on the kind of precipice of driving growth in the 2 segments in which we operate. We have 2 large total addressable markets in which we play in terms of neurosurgery and tissue technology, growing patient population, poised to do some really interesting things from an NPI perspective and our commitment to R&D and investing in driving clinically based outcomes. And so all of that was exciting from a growth potential. But we have a number of challenges in front of us. And I thought my experiences in large pharma, I spent 18 years in life sciences, about 6 of it as a finance leader in pharma manufacturing, another 6 of the commercial finance lead and the rest and corporate finance areas. All of those skill sets I can bring to bear in this moment to help the leadership team help Integra realize its future. So that's why Integra. In terms of what you can expect, there are a lot of things that we've been doing that I think we've been doing well that we will continue to do in terms of how we measure ourselves, how we evaluate performance, a focus on organic revenue growth, a focus on driving efficient profitability through adjusted EBITDA and margins, a focus on cash flow and delivering value to our shareholders. So I think what we've been doing in that space, I would definitely maintain. From a -- what would I do in a more consistent, reliable fashion -- as you look across our history and how we've communicated to the street, we've had some we've had some periods where we've done a better job in others. And so I think what I would look to bring is a level of consistency and reliability when it comes to our forecasting, both quarterly and annually and include kind of more transparency in terms of expectations and milestones against that performance. And then the final thing that I definitely would change is with respect to how we measure organic growth. So historically, we've always included discontinued products. in that measurement beginning in January of 2024, we'll exclude that. So that is the one definitive change we're making now.

Okay. Got it. That's very helpful. So just switching gears to the macro environment, in your Q2 call, you talked about strong dynamics, a gradual improvement in the supply chain. Just talk about what's gotten better -- and what's gotten worse since you made those comments last?

Certainly. So from a Q2 perspective, so the good news is our markets continue to be stable in both segments from neurosurgery as well as tissue tech, supply, our supply order backorder status has also continued to gradually improve, which is a key indicator for us. Safety stock. We talked about the fact that we were investing in rebuilding our safety staff to help address reliabilities, oppurtunities, and that has also progressed. And then finally, and I know we'll get into this a lot more deeply. Boston remediation continues to progress well.

Okay. Great. And then just as you think about the back half of the year, any potential headwinds, tailwinds we should be considering?

Yes, yes. As we mentioned, so Boston will continue to be a headwind for the balance of the year. We will not return to the commercial distribution until next year. That said, as you look across it from the CSS or Codman Specialty side of the business, we -- the market continues to be stable and so that we can expect to continue from a supply back order perspective, that's the part of the business where we are continuing to expect a gradual improvement. The relaunch of CereLink, right, will also be play a factor in that. And then as you look, I mean, from a capital perspective, our pace and timing of capital that demand funnel remains strong. Our neuro disposables business also was strong and through Q2. I would expect that to continue for the balance of the year. Instruments is one area where -- and I had actually a couple of capital -- both capital and instruments in Q2 performed really well with capital performing at strong double-digit growth, instruments that low double-digit growth. There was a bit of timing in that. So while we do expect to see growth for the balance of the year, it's going to be much lower than what we saw in Q2. On the Tissue Tech side of the business, as you can imagine, with Boston, we're working on refocusing the sales team. There was a bit of distraction in the sales team that they had to affect the recall in Q2. And so we've gotten them refocused on the rest of the portfolio. So that will be part of our pivot. And from a private label standpoint, we know we're comping a period where our partners in 2022 had a build in anticipation for EU MDR that didn't happen. And so we'll be working through that comp in the back half of this year.

Got it. Thanks for the comprehensive answer. Just switching to guidance. You provided updated guidance on your Q2 call. How confident are you in that guidance today -- and just talk about some of the variables to consider that will get to the low end versus the high end of that guidance range?

Yeah so I mentioned supply back order a couple of times, the pace of supply back back order will impact that range on the CSS side of the business. The overall pace and timing of capital, right, as we sell through in those final -- that funnel will also impact the low versus high end -- the strength of our international business, which is performing well, will be a variable. And then finally, the timing of the U.S. relaunch of CereLink will impact that range on the CSS side. From a Tissue Tech perspective, as you can imagine, as we seek to refocus the the sales force on that team. On that portfolio, there's execution in terms of our substitution strategy could ultimately impact that and then private label timing.

Got it. I think on your last call, you laid out a potential impact on 2024 from the Boston facility shutdown. I think it was about $50 million in sales, $0.30 in EPS. How does that impact your long-run goals that you laid out at your May Analyst Day? I know it was before your time, but any color on that would be great.

Yes. So a couple of things. We -- so let's be [indiscernible] I'm not providing any guidance at this point with respect to 2024. As I think about the LRP, so a couple of thoughts. We talked about growth about 5% to 6%, right, across the business. If you ex Boston, the underlying fundamentals of our business remain really strong with showing trajectory to deliver absolutely against this Investor Day expectations. For CSS, we frame that growth opportunity is 3% to 5%. If you look through the first half of this year, we're growing at about 4.9%. For Tissue Tech, again, ex Boston, we frame that growth opportunity at 7.9%. We're growing at 7.7%. Total business is right through the first half is 5.7%. And as we look to project it on a full year basis, again, ex Boston, growth is expected to be just about 6%. So absolutely delivering against what we thought was the growth potential as we outlined in Investor Day, and so we have every reason to believe when we get the Boston products back in market that they're going to perform in a similar trajectory. So from a growth trajectory perspective, we feel really good recognizing that in the near end, because we also did frame out some near-in goals in our Investor Day. Those will likely have to kind of revisit based on the Boston impact that we've talked about.

And I assume you'll provide an update at some point.

Yes, we absolutely will. We're going through that process now.

Okay. So 2024, I know you just said you're not providing any guidance. But just help us understand how you're thinking about the macro environment in September. I'm sure you're thinking about it already. You're doing your planning process for next year. What sort of -- what are you focused on in 2024. Again, any potential headwinds, any tailwinds, any items that you're aware of that you can kind of share with us just some of a broader perspective.

Yes. So we have -- we believe that our markets have been stable through 2023. They'll continue to be stable and show growth in 2024. We do understand that given the anti-corruption campaign that was just announced in China that there could be some disruption in our market in China, and that was going to be one of our key growth drivers for our international strategy. So we'll obviously monitor that. Inflation seems to have moderated to some degree this year for us. So we'll continue to look to monitor that during the course of 2024 and then supply, availability supplier from a component perspective as well as our own sort of back order status. So it would be kind of the major external considerations. On the internal side, we're going to continue to look to drive operating efficiencies through some of the cost improvement initiatives we've talked about. It's too early for us at times because Boston will still be a headwind in 2024, but we'll look to mitigate that, much like we did in 2023. And then OpEx management, right, as we bring Boston back up and running, OpEx will obviously have to manage proactively to mitigate as much of the top.

Got it Boston. Recasted. And I'm sure you're waiting for that one. Just provide a high-level update as to where you are today and sort of what's changed since Q2.

Yes. So as you can imagine, I've been with the company now about 8 weeks. And as I anticipated my day 1, I imagine multiple different scenarios, but none of them included starting about 4 weeks after we announced the recall. So a little bit of a tough, tough dynamic tough situation for our patients, for our customers, for our employees, really. But it also ended up being a great opportunity for me to see kind of the character of who we are and our commitment to our patients and our customers during this moment. I really did reveal who Integra was. And I have my background being in pharma, I understand that recalls are not unique to Integra, they're not unique to Medtech, they are not unique to [harm]. They unfortunately happen. So it's less about the event necessarily more about how we respond in that moment. And so what I've been encouraged by what gives me confidence in the plan we built, is the fact that leadership has been engaged. They've been accountable. They've rolled up their sleeves to own this. We've hired in the right technical expertise to support and drive building remediation plan and executing against it. And we've harvested resources to allocate appropriately to make sure it's supported from around the organization. And so all of that encourages me that we are absolutely in the right path that are time lines to get back into market -- are real. So that's the good news. And we've been executing against that plan accordingly. As part of our Q2 discussion, we talked about the time line that we have an expectation that we're going to be able to begin manufacturing again in the end of this year. And that commercial distribution would resume somewhere in the mid- to late Q2 2024 timeline. We also talked about the fact that to make sure we were tracking, right, to that commitment, we would have independent reviews happening in this time frame to let us know whether or not we were on pace, and we did complete that first independent review. And the observations coming out of it, say, we're still on track for that timeline. So that's great news. That said, there will be even more independent reviews that happen over the next couple of weeks. And so we'll be able to provide more of an update for our Q3 earnings, but that's perfect.

Got it. The one question I've gotten on Boston is how much share do you think you'll realistically believe you'll lose this year and next year as a result of the shutdown. Any comments on that?

Yes. So here's what we know and understand. We will lose share while we're out of the market. We understand that in this space, their just choice matters, right? And we do not assume nor do we take for granted that just because we're ready to come back into the market, our surgeons will be ready to run back to us and use all of our products again. But we also know and understand that surgeons have chosen our products consistently for a reason. We're differentiated. They enjoy working with our products. And so because of that, once we're back, we are confident that we'll be able to recapture our share. It will probably take about 12 months to make that happen, but we can get there.

Got it. So just sticking to Tissue Tech on SurgiMend. You filed your clinical module of the PMA. You said that you expect FDA pre-approval inspection in late '24, early 2025. And you now expect PMA approval in the first half of 2025.

Correct.

I know it's still a while away, but just any sort of puts and takes to consider regarding SurgiMend -- and what do you think can trip you up.

Yes. Yes. So as you mentioned, so the clinical addendum being filed was the first big step, and that was filed at the end of July. And to your point, we expect to get feedback at the end of this year, beginning of next year. The next critical part and really final part of the submission is the manufacturing submission. That can only begin that process to submission can only begin once we're back up and commercially distributing out of the Boston site. So that will be in somewhere in the mid to late Q2 time frame. From there, we've got to perform an end-to-end manufacturing validation process, which takes about 6 to 9 months. At the end of that validation process, we then call the FDA, and we tell them to come in and conduct a preapproval inspection that will then allow us to submit our PMA. And so based on the time line, that would be projected to happen at the end of 2024, beginning of 2025, which is why we believe approval is likely in the first half of 2025.

Got it. So it doesn't sound like any changes to the time line Yes.

No changes.

Okay. Great. Similar question on CereLink, where are you? What's the high-level update? Are you still confident in the return to international markets by the end of Q3 in the U.S. by Q4?

Yes. So we're confident that we're going to return to market with a relaunch in our international markets in Q3. We have completed all of our testing. The data is exactly as we expected. And so we're literally in the process of doing all of our various regulatory submissions for all of our markets. We will ship shortly actually into some select international markets. So that will be happening in the next few weeks. For the U.S., we did find out or it was determined that we're going to have to do a full 510(k). Remember previously, there was some speculation that we could take a special route. We'll do a full 510(k) which, from a timing submission standpoint, it has a 90-day clock will put us at a period where we'll bump up against kind of the December holiday time frame for potential approval. But we believe at this point, it's safe to say by early 2024, we'll be able to relaunch in the U.S.

Just remind us your mix U.S. versus international, I think it's more international than U.S., right?

In terms of the -- so the other way, right? Yes. Yes.

It's good some -- that's on the U.S. Got it. Okay. And then just any sort of changes to the commercial plans for the product as a result of the recall that you speak to?

No, no. So our advanced monitoring system with CereLink is well respected, well regarded, strong name brand recognition. Our customers have appreciated how we've worked with them in this moment to even make kind of previous earlier versions or ICP Express versions available to help bridge the divide. And so we're confident that we'll be able to resume kind of our growth trajectory. And as evidenced by the fact that we actually saw very limited returns, in that space, which says to us, our customers are waiting.

Got it. So looking forward to the update in Q3, it's going to be a lot to digest, I'm sure. Just switching gears to the P&L. I think when you started the year out, I think you guys said about 100 basis points of gross margin improvement. And I think you toned that down in Q2. Now it's modest sort of gross margin improvement. What are the puts and takes and kind of what led you guys to sort of revise your gross margin guidance expectations?

Yes. So where we've been really successful against our cost -- operational cost improvement agenda is in driving manufacturing productivity efficiencies. We've seen some lift from volume, price capture that we've been able to do as well as mix. And so those improvements are real. They're there. They're sustainable. It's just as a result of Boston, we saw some headwinds that partially offset that improvement. That same dynamic will play out in 2024, once again because Boston will not fully be up and running. So we'll see similar continued kind of lift from the factors I talked about, offset by the Boston remediation.

Can you expand gross margins next year? And what are some of the drivers of gross margin expansion?

Yes. So next year is going to be similar to this year, when we'll see once again year-on-year modest improvement as a result of it. I think what is important though is as you look across the LRP horizon, and some of the value drivers that we called out there. Once we get beyond Boston, right, the lift that we're driving now will become more meaningful. And we'll also be able to see the impact of some of the yield improvement changes and footprint optimization changes that we're making that just take a longer time to realize.

And I think the margins from Tissue Tech are higher than..

Absolutely the mix will absolutely help Yes.

Got it. On M&A. I think your leverage at Q2 was 2.6x is at the bottom end of the range that you tend to operate in. Just what are you seeing in terms of M&A in terms of valuation what are your thoughts on potential M&A in terms of deal size, areas of interest and financial criteria?

Yes, certainly. So M&A remains a strategic priority for us. To your point, our balance sheet remains strong. We're at 2.6x. We tend to operate in the space where we think leverage of 2.5x to 3.5x is appropriate for our size business, so we still have some room to that end. And we're not necessarily focused on a particular segment per se. We want to keep our options open and evaluate opportunities across but evaluate more on its merit. So to that end, we're looking for tuck-in opportunities that offer breadth, food scale that allow for technology acceleration that allow us to continue to advance our digital strategy and maybe even some that look -- to take on a little bit more risk in the form of kind of pre-revenue opportunities So that's kind of what we're looking for in terms of metrics. Key metrics that we look at are deals that afford us an opportunity to realize a return on invested capital by year 5 with a floor of 10%, right? It has to be that threshold for us to even look at. Obviously, north of that would be preferred. But deals that are accretive from a revenue growth perspective, margin as well as cash flow. And no one deal will likely have all of those features, but we're clearly looking to optimize across.

And then assuming you're active in the market in terms of M&A looking at opportunities. Any thoughts on valuation?

So right now, we are -- I mean, we're being very intentional because of what's happening with Boston -- as you know, we have a game board that we've developed for both segments of the business that are very kind of focused and how we can advance some of our strategy and push strategies for both segments and push into adjacencies. And so if and when those opportunities become available at the right price, then we'll take action. And so for right now, we're still evaluating.

So you touched on capital earlier in our conversation. Just want to get your thoughts on the current hospital capital environment. And also remind us what percentage of your sales come from capital products.

Yes, certainly. So from a capital environment, again, we've seen strong growth in the capital parts of our business year-to-date. We have about 6% of our revenue base that is driven by capital. We're actually seeing the sales cycle start to listen in terms of hospital buys and capital begin -- because of 6%, it doesn't have that much of a of an impact from a total business perspective. And so far, demand has remained strong.

Okay. Great. In early August, 3-MAX published final LCDs for the treatment of DFUs and VLUs. What impact does this have on Integra? And remind us what percent of your products are used inpatient versus outpatient?

Yes. So actually, our exposure to these local coverage decisions is actually -- is minimal, in part because the local coverage decisions focused on diabetic foot ulcers, Venous leg ulcers, which are typically performed in clinics and in physician offices, which is where we don't have a large presence. So less than 10% of our complex wound business, it comes from those spaces. And so as a result, not a significant -- and that's a significant impact. But we looked at those decisions as more of an indicator of where the industry is headed in terms of value-based treatment. And that was informative to us because we do have an ambition to expand kind of our sites of care. So we see this as an opportunity to just evaluate how we need to think about that going forward, but no significant impact.

Okay. And just high level, some of the changes you're seeing in the reimbursement front in Tissue Tech?

Changes in reimbursement...

Just the landscape, I mean, you think you said it's moving more toward value-based care. Any other detail or any other points you're seeing?

Yes. So for most of it, the most significant shift was this local coverage decision. But again, to the extent it impacts largely outpatient, we don't see much exposure. There is 1 of the areas that we're looking, and we've committed and already made investments to do is invest in clinical evidence to support our product offerings because we do imagine a time where the decisions on that came out that impacted VLUs and DFUs could be extended across a broader range of products, in which case having clinical support for our products become necessary. And so we're already moving along that strategy to get in front of it. But right now, I don't see any other significant changes to our reimbursement.

Okay. And just how much exposure do you have to Medicare patients and then to these 3-MAX specifically First Co services, CGS and Novitas?

Yes. So those were the 3-MAXs that were part of the decisions for VLU and DFU and like I said, less than 10% of our business comes from that space. So not a lot. None of our business was be clear. 10% of our complex wound segment.

Got it. You highlighted a number of new products at the Analyst Day back in May, which are the new products you're most excited about?

Yes. So a couple. So we've already talked about CereLink but I'd be remiss if I didn't throw that out there. CereLink thoroughly coming back into the market, the advanced monitoring system, the features that we know are surgeons and physicians enjoy. Very excited about the growth potential there. CUSA, our platform. So CUSA another space where we've been able to see strong growth off of offering new tips. And so we have a new tip that will promote for -- to support liver surgery that we believe there's an opportunity to expand and grow off of that. And so there's other investments that we're making in that space. Aurora system. So our Aurora system is a way to advance minimally invasive surgery and to address the removal of brain lesions in the form of tumors and is, and it also addresses bleeding and hematomas. And in its essence, it's a brain access platform, right? It brings lighting, imaging visualization closer to the pathology that surgeries are looking to treat. And as a result, we think, as you think about bringing tech to instrumentation, and the need for clinical evidence, there's a huge growth potential for that market. And what we framed before, and we still believe that, that could be $200 million in the next 5 years. And so that's a space where we're in and we're looking to grow in. So we're a big part of it. And then the last thing I would mention on our Codman Specialty business is our BACTISEAL Endosco catheter. So we're a leader in EVD and shunt catheters, and this is a time -- this will be the first time when we're doing a combo catheter that will allow us to address the #1 and 2 concerns that surgeons have in the use of catheters, which is infection and then also the potential for blood clogging in the catheter. And so the combination of those 2 will address both of those needs. And so we're excited about that growth potential. And then on the Tissue Tech, it would have to be our PMA strategy in breast. So we have -- we're -- as we talked about for Surgeon in, we're in the process of submitting a PMA for implant-based breast reconstruction on SurgiMend, but we're also in the process of submitting a PMA for DuraSorb, which is a synthetic. And so -- by the time those 2 are expected to come to the market, they should be the first and second with that indication which is critical because we know as we continue to move forward, it will be a requirement to have an indication. And so we think we'll be able to tap into that market is growing pretty fast.

Got it. At the Analyst Day, you also spoke about digital opportunities, digital programs. So how should we think about the digital opportunities in CSS and Tissue Tech? And can you briefly discuss some of the pilots that are underway at Integra.

Yes. And so we look to expand in digital where we think we can make money. And so on the CSS side, a lot of that is in the analytics supporting our monitoring tools. And on the Tissue Tech side, it's more decision support for the surgeon. And so an example of that would be -- we have an iNPH companion tool, which is for the treatment of hydrocephalus, where you can monitor through AI remotely the disease progression to understand whether or not an intervention is required or in complex wound, it's also AI to analyze kind of how the wound is or maybe is not healing appropriately, again, done in a remote sort of way. And so those are things that we think just represent kind of the tip of the iceberg of what digital could do in the space.

Got it. We talked about anti-corruption issues in China earlier, which could make access to hospitals a little bit more difficult. So remind us what percent of your sales are from China? And what impact could this initiative have on your company?

Yes. So to your point, we obviously are [stuck] in the situation understand that there's a year-long campaign certain hospital administrators are being investigated. Right now, we haven't seen much of an impact in that business. China is about 5% of our revenue base. As you think about how we plan to grow, we believe there's opportunity, not only in kind of procedures, but in expansion. And so right now, the campaign is projected to have potentially an impact on slowing down procedures, that could impact us, but we think the bigger opportunity for us is in the space of expanding in Tier 1 and beyond Tier 1 cities. And so that growth potential is still there for us to deliver into. But we'll have to see how the campaign evolves over time.

Got it. So I just want to clarify 1 thing. I think it sounded like you said there's more of an impact on procedures. So does that mean that there's less of an impact on capital and more on disposables?

Yes. So a couple of things. Well, yes, at this point, the expectation is because of the investigations that are happening, procedures will slow down necessarily. Right. So that's kind of what I was referencing. In terms of the capital versus disposables, at this point, the majority of our business in China is disposables. So while there very well could be a slowdown in the capital, that won't have a meaningful impact on our portfolio.

Okay. So we have a minute left Lea. I'll turn the floor over to you. A lot's happened this year with Integra. Maybe it's not fair to ask you the question, but you are the CFO. But in closing, just tell us why so much you invest in Integra right now?

Yes. Yes. The stock price disruption that has happened largely due to Boston, the underlying fundamentals of this business remain really strong, right? We operate in a leading position across 2 segments with large total addressable markets, growing patient populations. We have a leading technology, the underpinning of which is a collagen technology that supports both of our segments. We have really strong brand recognition in spaces where surgeons choice matters. And we have a strong balance sheet, with strong financial discipline and lots of opportunities in front of us. I told you what I was excited about from an organic NPI perspective, and those are on the horizon. We're looking to deliver those kind of in our LRP period. So growth. The growth opportunity is absolutely there. And I think the last thing I would share is, we know it's not good enough just to kind of address Boston. It's not good enough that we have a strong balance sheet and a strong reputation with opportunities in front of us. We've got to execute in a way that lets you know that this is a sustainable growth, right? And we're doing -- we're making those investments as well. We're investing in capabilities just to strengthen our operations, strengthen our strategic capabilities, investing in R&D, and so I'm excited. I'm excited about what we have to offer. I'm excited about delivering that growth.

Great. Thank you very much, and thanks, everyone, for coming.

Thank you.