Masimo Corporation (MASI) Earnings Call Transcript & Summary

Welcome to this next session. I'm Matt Taylor, the U.S. medical supplies and devices analyst here with the team from Masimo in the chapel and we're going to have a half hour for Q&A with Katie Szyman, the new CEO of Masimo and Micah Young, the CFO. And thanks also to Eli Kammerman, IR [indiscernible] being here today. So we'll have a moderated chat here.

So I wanted to start with some high-level questions. I'm sure there are some folks here that are new to the story, and maybe you could frame some of Masimo's evolution because as I think about it over the long arc of the story, it's really gone from being a parameters company to more of a solutions company, broadening the portfolio. And of course, there was a lot of change last year. And we'd love to hear from you and from your perspectives as you stepped into the new role.

Thanks, Matt. So yes, for -- kind of perspective, Masimo actually was founded like 35 years ago and really was founded -- focused on pulse oximetry as the original parameter, and then over the years kind of expanded into other categories. and originally started out competing just to become the market leader. And in the last 5 to 7 years, we became the clear market leader in the pulse ox market, which grows in kind of the single-digit category. And then over the last 10 years, we've added additional parameters and going more to becoming a solutions company, not just pure monitoring. So we acquired capnography technology, brain monitoring technology, hemodynamics and then automation, which is where you kind of do all the back-end kind of connectivity into the electronic medical records and provide kind of -- you can have screens that can monitor all patients from a separate room. And so that's really the portfolio itself. In the last several years, call it, like 3 years ago, the company acquired Sound United, which was in the speaker business category, which was kind of hard to connect for investors. So then we actually had a shareholder activist get involved and then the Joe Kiani, the founder actually left the company after 34 years. And then they had the interim CEO, and then I took over as CEO, 100 -- a little bit more than 100 days ago. So that's sort of the journey and evolution that we've been on. The thing that's fantastic about Masimo, if you look at that history is just that -- the founder was a great innovator and focused on innovation for the last 35 years. And so the core technology and core operations at Masimo are just outstanding. The second point is that we're the clear market leader in our space. So in pulse oximetry, we have 55-ish percent market share, and that market grows kind of in the single-digit area, but it's got the potential to grow more over time. And then we have these adjacent markets and kind of moving more towards that solution cell. So I think it's just been a great opportunity. For me, personally, I spent north of 20 years at Medtronic, where I worked there in many different roles, including leading a couple of the businesses, including the diabetes business over there. I also led the Edwards critical care business, which was acquired by Becton, Dickinson, about 6 -- about a year ago and was in the kind of blood pressure monitoring space for about 10 years. And so coming here to Masimo as someone who came from an adjacent space, I'm really happy to be here. And I can tell you, when I started running the blood pressure business for Edwards, the critical care business 10 years ago, I went around and met with the top key opinion leaders and said, what is great about what should we be doing on our side and they said, innovate like Masimo. And so 10 years later, now for me coming into Masimo, I ask the same question. And those same key opinion leaders said, get Masimo back to be an innovation focused, right, on the health care space. And so I think for us having kind of gone over to doing speakers for a few years, we just announced the sale of the speaker business, and now we're fully focused back on the health care -- professional health care space and really staying focused inside the hospital. So it's been great to be here and really excited about the future.

Great. So maybe I'll double-click on some of those markets that you touched on. I wanted to go into more of your positioning and the market dynamics within them. We can start with pulse oximetry since it's still your biggest category. And I think you mentioned a couple of things that I wanted to key off of. One is you see the potential for the market to maybe grow more. So maybe talk about how that could happen. And it's been such a steady drumbeat of share gains for Masimo over time. Do you think that's just going to continue? Is it getting any tougher? Is the competition getting any tougher to take share from? Or should we just see that ball keep rolling?

Yes. So I think for our growth, we've actually -- you see kind of low single-digit growth in the market based on kind of the patient census, et cetera. We have successfully gained about 1 to 2 points of market share per year. And now we're at 55% in the U.S. and 50% globally. We see that there is an opportunity to continue to grow market share. And the reason is because we have some amazing artificial intelligence-based algorithms that were developed for the consumer market for like our watch technology and for other consumer applications. And we're going to take those algorithms and put them on to the sensors, which will create more value for hospitals. One example is the ability to detect atrial fibrillation using just a pulse ox sensor. So that can really help hospitals to detect patients that are in distress and take action very quickly. And so we think that will not only help us to continue to grow our market share, but also should create more value and help us to increase price. And so you'll see that market growth kind of get a little bit higher.

Got you. Got you. Maybe we can just take your temperature on, I know you used to give some stats on the penetration on the general floor. Obviously, pulse ox has been used heavily in the NICU and intensive settings for a long time, and those are pretty penetrated. How are you seeing that continue to evolve throughout the hospital? We've seen some hospitals that are kind of monitoring every bed. I know that's sort of the dream in the future.

Yes. So I mean, my dream is that all patients, when you go into a hospital, you assume you're safe and you would be 100% monitored. That's the dream, I think, that we have at Masimo. I think we've historically disclosed that something like 20% to 30% of patients on the general floor, we believe, are monitored today. And we think it -- and we see that accelerating and growing because hospitals and especially clinicians want patients to be monitored more. The trade-off is always kind of the risk and the cost and the staffing because if you have patients monitored, you have to have nurses that are watching the monitoring, so that ends up increasing staffing. So we're continuing to work on great wearable solutions, which makes that easier, which helps us to increase that penetration over time.

Great. And maybe we could just touch again on your positioning in some of the other submarkets that you're in with rainbow and capnography, anesthesia, monitoring. It must be helpful to have such a big leading pulse ox franchise. So can you talk about how that plays through with pull-through, those other businesses that are newer?

Yes. So we -- so if you look at capnography, brain monitoring, hemodynamics and automation, if you kind of add them all up, they're somewhere between $1.5 billion to $2 billion or $1 billion to $2 billion range. They're growing in the high single digits if you kind of add them all. And then our market share in those segments is less than 10% in every single segment. So one of the things we talked about in the last quarter earnings is to say that we realigned our sales team so that we would have a dedicated specialty rep for one of those specialties in each region for our pulse ox mainline sales reps so that we can actually see more pull-through because we ideally would have the same market share in those areas as we do in pulse ox, kind of pulling through our leadership. And so we see that increasing for us over time. We've already guided in the 10% to 20% growth rate -- range for those adjacent markets. And hopefully, we can continue to see that accelerate.

Got it. Maybe we could just touch on some of the recent trends. So you started off with a nice Q1. There was some help from capital kind of rebound that you're seeing there. And I thought it might be important to cover that. I know there was a little bit of confusion on that part. But maybe just talk about the market dynamics right now and any color you'd like to add about kind of what happened in Q1 and how that plays through the rest of the year.

Yes. So I just joined on February 12. So Q1 was really attributed to Micah and the entire management team. But if you look at the history of Masimo, we've had consistent high growth over the last decade. And so we had just a great first quarter, but it got a little bit confusing. And so I'll turn it over to Mike to clarify some of that.

Yes, Number one, we had a really strong Q1. Growth was, I think, 10.5% in terms of overall revenue growth. If you look at kind of how that broke down, we had a solid growth in consumables. It grew 8% in the quarter. Capital was about 32%, which was really -- if you kind of break it down and look at the quarter of what's underlying, we had -- one thing I mentioned was we had a tender contract. It was a renewal of a tender contract with a large OUS government health system. This customer has been a customer for many years, probably close to a decade. And it's continued to grow. It's expanding infrastructure within that country. And -- but tender businesses can be lumpy. You have to go get the contract. You start out with kind of a commitment, you move that into a contract, formalize and then of course, you wait for the PO. And sometimes you'll get different mixes of POs under that contract, but we have a -- the majority of that contract is consumables, and it's our sensor business. We also have a component of its capital. What we saw in Q1 was a full order of the capital, which is good because we're placing the drivers out there that will consume the sensors and drive growth. But the consumable order was not a full order. We had a lighter order on consumables. Basically, what that is just purely timing. We fully expect that to deliver over the next 3 quarters. So you'll see higher consumables in Q2, 3 and 4. And then we had strong capital in Q1, but that will be lower in Q2, 3 and 4 for the rest of the year. So it's more of a timing issue. We felt very good about the underlying business. And we still see kind of that normalized growth for consumables up in that double-digit zone. So a strong start to the year and also a strong start to margin expansion and earnings growth for the first quarter as well.

Got you. And maybe we could just double click on the market trends. You have ties obviously to utilization and you talk about the inpatient growth as a key assumption. And then also to CapEx, given you sell your own but also through the OEMs. So just wondering if you could comment on how those things are trending so far this year and relative to your guidance? And maybe just remind us what some of those assumptions work.

Yes. So coming into the year, we laid out a guidance of kind of an 8% to 11%. And of course, as you know, we do have 1 extra week of revenue that occurs every 4 or 5 years based on our financial calendar. But really kind of a 7% to 10% if you kind of strip that out, which is right in line with our long-range growth cadence. If you look at the year, we plan for consumable growth to kind of be up around that double-digit growth. We assume that -- and of course, we wrap some range around that because assuming that census is somewhere between 1% to 3%. We're seeing stable census growth right now. So that's good for the first quarter and kind of how we're seeing that trend out right now. In terms of capital, we saw -- and I'm trying to normalize a little bit for that timing of that order, but we saw kind of high single-digit capital growth which is very strong compared to -- we implied about 0% to 5% growth in capital for the year. So far, what we're seeing is solid demand for capital. Driver shipments were 72,000. We guided the year coming in at 240,000 to 260,000 drivers shipped this year. So it implies about to 60,000 to 65,000 per quarter. So drivers are strong capital revenue strong, and we'll see how it plays out. I know there's noise out there in the market around capital. But right now, we're seeing very good demand.

And if you look at kind of during COVID, all the monitoring companies kind of saw the surge and then it kind of slowed down and then we are seeing that really stabilize now.

And at least last year, you were breaking out this kind of true incremental, the concept of how much new business you're booking, and you can see the backlog growth has been really healthy. So maybe just talk about how that's been going and how should investors look at those as leading indicators in terms of being able to predict your growth?

Yes. I mean if you look at our capital, our contracting, and that's true incremental net revenue that we're getting on these contracts, and these contracts are 5- to 7-year contracts on average. And it just demonstrates the share gains that we're seeing in the business and continue to see over the last several years, it's been very strong. So one way to look at that is those kind of you take the contract number, you divide that over, call it, 5 years, and you can kind of see that incremental growth that drives that high single-digit, low double-digit growth for us. So that's one key and that's one of the leading indicators we look at. We do want to get back to, and we're working together, Katie and I on trying to figure out what are the best ways to really look at the best key indicators for growth for the business and what are the things that we want to pay attention to and what we think investors should pay attention to. We do believe the installed base is a good metric, but we think we need to really dissect that a little bit more and focus on how much of the installed base is truly within the hospital versus some of the, call it, ambulatory settings or settings where it's and ambulances where some of those drivers go into or just some alternate care sites or physician offices, where it's a lower consumption rate on those sensors than it is in the 4 walls of the hospital. So there's going to be some things that we're going to look at in terms of some of the installed base metrics and try to evaluate that and try to really get back to kind of some better metrics as we lay those out at Investor Day in December.

Got you. We touched on this before, Katie, you mentioned how kind of the other businesses you expect to grow faster with those markets growing faster and off of a smaller share base. I was wondering if you could give any more granularity about rainbow versus capnography, hospital automation segment as you kind of break those out because I think in the last Analyst Day, you talked about kind of double-digit for rainbow, even higher for those other segments and very high for automation. So I was wondering if you could give us an update on how those are going and your outlook for them.

Yes. I mean I can just mention, so rainbow is a hemoglobin reading essentially. And it's been largely adopted primarily outside the United States, where they will kind of put on protocol like all patients and our system should be monitored with rainbow sensor. As we look at it in the U.S., it's a little bit more of a clinical sale, hospital by hospital, and they will allocate a certain percentage of their hospital that would actually adopt the continuous hemoglobin technology. And so as we look at it, I think we continue to see success on the growth of rainbow, especially outside the United States. And then in the U.S., we think that it's going to drive -- it will be adopted more when it's combined with our hemodynamic business. And so with hemodynamics, you have basically cardiac output or what the heart is putting out in terms of vaccinated blood and then the ability to read how much hemoglobin and then how much of the oxygenated blood is actually being delivered all the way through the body. So it's kind of the output input or output in delivery. So that's going to be a combined parameter of something called DO2 or delivered oxygen, and that's going to come out with our next gen monitors in the next 2 years. And so right now, we're in the pilot phase. We have some accounts that are already testing it that really like it, but we see the adoption kind of accelerating once it's fully on in a next-gen hemodynamic platform.

Great. Let me go back to -- you mentioned before selling consumer was kind of a big step forward. And I just wanted you to talk a little bit more about what you're going to do with the proceeds.

Yes. Do you want to take that?

Yes. So as you know, we've done a lot of work to clean up the balance sheet this past year. And one of those things is the separation of the consumer business. We're hoping to close that by the end of the year. We've got about $350 million of value for that business. The proceeds we plan to -- based on where we're at current levels, and we believe it's going to be more accretive for us to buy back shares at the moment. So we're leaning more into share buybacks. If you think about capital deployment going forward, there may be some blend of share buyback and debt pay down. But we also we plan to get back to looking at across our platforms that are inside the 4 walls of the hospital and looking where we can augment those technologies. So if it's in areas of advanced monitoring, whether it's advanced algorithms where we can leverage the data that we have, but also bring in some unique technologies there. Wearable form factors is another thing we'd look at as well. So we do want to get back into kind of augmenting our growth rate. We've got a strong organic growth rate of 7% to 10% in our long-range plan, but we plan to do more tuck-in type deals as well so going forward.

Yes. And the only other comment I would make about the sale of Sound United is that we ran a really rigorous process. So it wasn't like just -- we really had a lot of discipline. And then we were really happy with Harman because we think it's going to be a great place for our employees to go.

Great. I do want to double check, cybersecurity kind of incident recently with your website. And I know you put out an 8-K that basically said no impact for the year. Is there any short-term impacts or callouts that we might see in Q2? And could you just sort of wrap that up in a bow and tell us how you're able to resolve it.

Yes. So yes, that occurred right before our last earnings call. If you recall that we were on the we mentioned that, that was -- we just had a breach. We -- it was -- at the moment, we were kind of -- it's like flying a plane without the instruments working and not knowing what orders are coming in and we had production and shipping that were below optimal levels. We were still able to continue producing high-volume stuff and high-volume products as well as we also had luckily build inventories up over the course of the past year for some of our high running parts. So that helped us to navigate as well. But as of -- I think the 8-K was last week, we've got everything back up fully operational. We're now kind of working overtime and trying to get through the recovery plan, but we've had very good plans to -- that we work through. We had initiated protocols immediately when that happened to get everything back up and now we've got plans to recover. And the great news is that we didn't -- we don't believe it's -- there's any demand issue. We believe that all the orders are there and we've got visibility into them. And now we're pacing as fast as possible to recover. And that's why we reiterated the full year guidance, and we feel much better than we did several weeks ago.

Yes. And I would just say, as a new CEO in my first 100 days, it was really great to have a cyber instant to work with. But it was a great way to learn about the company and just attribute to our entire organization on how quickly we got back up and running. I mean Masimo is a great company and responded really, really quickly and well. And it also, I think as we bring our systems back up or have brought them back up, we're bringing them up reinforce for cyber going forward.

Got you. Well, it sounds like you're going to get a lot of that back through the year. Could there be any Q2 impact? Do you want to comment on that at all?

Well, the good thing is it's early. So it was early -- it happened early in the quarter, and we're back up to optimal and we've got a path Will there be road bumps we don't know, but we feel like we get a good path.

Okay. Speaking of road bumps, you had some tariffs. So I wanted to talk about that. The $35 million, $0.40 to $0.50 impact. But with de-escalation, it seems like you could get some of that back. I mean maybe we're re-escalating I don't know what happened today. But could you just talk about the state of the state with tariffs? What do you think is in numbers. And if we get a reasonable de-escalation scenario, sort of how much you could get back.

Yes. So on the last earnings call, we wanted to lay out the framework, the math, right, on kind of what manufacturing locations we're in, in terms of where we manufacture in Mexico, Malaysia, we do have raw materials sourced out of China. And we kind of broke down what percentage of our cost of goods is in each of those locations and the tariff rates basically a range because it's been a pretty fluid environment as everyone would attest. So we kind of laid out the worst case. And that gave everyone -- the math to China came down in terms of post earnings call and dropped the tariff rate about 115%. And as you know, China is about -- our raw material production there is about $20 million a year when you do the math on it. So 115% on that, it dropped at $23 million for us. So -- and then, of course, we're working very rapidly through mitigation plans. We've got a very good plan of attack here to reduce tariff exposure on the cost side. A couple of those things are we still have exposure in Mexico with our instruments because we've qualified everything else under USMCA and we're evaluating instruments now and going through that process to see if there's any qualification opportunity there. We also are continuing to look at Malaysia. We want to continue to benefit from the cost efficiency and operational efficiencies that we get in Malaysia. So we don't want to just move back and respond. We want to try to do our best to reduce the exposure there and still benefit from being in Malaysia. So that's something where we're looking at how do we qualify for U.S.-based content in those sensors, and those are some of the things we're evaluating right now. We're also looking at potential for vertical integration of some of our manufacturing in the U.S. We do manufacture our semiconductors in New Hampshire. So there could be some vertical integration there that could help us to qualify more of our -- the cost of our sensors as made in America. And then the last piece is really looking at the cables. We source our patient cables out of China. A lot of it's because it requires copper material. So you have to get copper mining and also to procure the raw material plus you have to get a vendor that knows the process, and it is a much more complex process. That's probably the longer that could take probably 18 to 24 months to get that move, but that's something else we have in process, and we're trying to execute on as well.

And so we plan at kind of the next earnings release next quarter to really reveal kind of what we see as mitigation and have much clearer guidance on our plans. And so we kind of want everything in the world to settle down, and we think by then, it should be a little bit more settled on. Is there a tariff, where et cetera.

Yes. Okay. And I think at another conference recently, you said that if you got the tariff headwinds, if you get them back, you'd flow them through to earnings. Is that the right way to think about it.

Yes.

Yes, yes.

Absolutely.

Great. So we have about 5 minutes left. So I wanted to maybe touch on a few other topics. We could start with talking a little bit more about the pipeline. I know you had referenced earlier some of the new parameters that are being trialed. I guess the way I would frame the question is we know your guidance kind of now and longer term is 7% to 10% kind of high single digits. What would you point to in the pipeline or conditions in the market that could push you into the double digits? What sort of could go right to be able to make you CAGR at 10% or 11% consistently?

Yes. So one is that we have a significant installed base. And if you look at our route monitor, we have over 100,000 monitors out in the field, and that product family is over 10 years old. So we plan to come out in the next 2 to 3 years with a next-gen monitor that would be enabled with artificial intelligence technology on it. And so we think that we'll be able to sell into our own installed base and kind of drive a product refresh cycle. And that could really raise our revenue growth rates because that's something that we are not doing today, right? So that would be kind of incremental. And then the second thing is just that continued penetration into the hospital floors. If we could just get the law passed that all patients should be monitored all the time. We believe we have the best wearable technologies that would actually be able to meet that need. And so as we see regulations changing towards that, then we think we would be able to win in that space. So those would be 2 kind of big growth drivers that we see going forward.

And I did want to ask about Apple too, I'd be remiss if we didn't cover that. I guess I'm curious with the bench trial in California, how we haven't heard about that, yes, I guess I thought we might have heard by now.

We thought the same thing. So I think with where that stands, that was tried late last year. We would have expected it by now, but we're still waiting to judge's decision on that. If you look at we've got different areas of that litigation. One was, of course, the permanent injunction we have against Apple on the watch with pulse oximetry. That was after the ITC case that was held. Of course, trade secrets is next. That was late last year. And then now the 2 big cases for us are the patent infringement cases that are coming up. One's scheduled, one is in November this year. That's a California case and then Delaware is to be scheduled. So that's us asserting claims against Apple for patent infringement on certain elements of our device -- of our technology. So those -- that's going to be where we'll learn a lot more about this. And I think we'll see where things progress as we get closer to that. And hopefully, in the meantime, here back on the trade secret case.

So the trade secret could sort of be anytime, check in the mailbox every day.

Yes. Check in.

Now as you get more leverage, let's say you win that just as a hypothetical, could you talk about what the different scenarios could be as far as how you might prosecute that against Apple. Could you work with him? Are you willing to do a partnership.

I think we're willing to do all the above. I mean, if it's a partnership, if it's settlement, I think we're open to listening to that. And yes, I think we're evaluating this more. It's all business. It's all -- it's more of a -- through a financial lens, right? So we do have a lot of sunk cost in the past from that litigation and -- but we want to protect the IP and IP is important to us. I mean that's -- we're always going to defend the IP.

Just have a couple of minutes. It sounds like you're being a little bit more front-footed now with the capital allocation. I mean there's a lot of stuff behind you splitting off sound, I'm sure it helps with the focus on that. Maybe help us understand when we think about tuck-in technology deals, should we mostly be thinking about adding more parameters to this ecosystem? Or what are the other kind of things conceptually that you'd be interested in, in adding?

Yes. It's a combination. It's some of the things you talked about as well.

Yes, I mean it's wearables. So finding the best wearable solution, there's a lot of start-ups going after that. So kind of watching that space and trying to find the best technology. There's additional parameters. So not just maybe like noninvasive blood pressure like other categories you could go after? And then finally, artificial intelligence. So if there's AI algorithms that a startup might have that we might be able to jump into that would kind of get us some of the data. But we have a ton of data at Masimo, so I think it's a matter of us developing and then partnering to get the best algorithms out there.

Excellent. I think that's actually a good place to wrap up. So thanks so much.

Sorry, I am choking here. But I just want to say one last thing about Masimo is one of the things you see on the transition and change is that a lot of our leaders are still here. Our turnover has not been high and that the whole team is just super excited about the future, including me. So thanks.

Absolutely. Thank you, Matt.

Thanks, everybody.