QuidelOrtho Corporation (QDEL) Earnings Call Transcript & Summary

Hey, everyone. Good afternoon. My name is Tejas Savant, and I'm the Life Science Tools and Diagnostics Analyst here at Morgan Stanley. Before we begin, for important disclosures, please see the Morgan Stanley research disclosure website at morganstanley.com/researchdisclosures. And if you have any questions, do reach out to your sales rep. So it's my pleasure this afternoon to host QuidelOrtho and speaking on behalf of the company, we have Doug Bryant, Chairman and CEO; and Joe Busky, CFO. Thank you both for joining us today.

So Doug, maybe just to set the stage, it's been about 5 quarters since the 2 companies came together. Can you just talk about your key accomplishments over the last 12 months or so? And what are you most excited about as you look to 2024?

Yes, thanks. It's good to be here. Well, that's a loaded question. But yes, we've got a lot going on. And so I would say the obvious excitement around Savanna, several new products that are likely to be strong contributors to revenue growth like high-sensitivity troponin, HbA1c and other menu additions as well. But more importantly, I think the thing that we're most excited about is the cadence with which we're doing a lot of things, and I can walk through some of those things for you too. So it's not about just the home runs necessarily. It's also progress on a number of different things that essentially help us get more products in the market, help us really just run the business more efficiently. So I'll say as an example that a surprise and something that the whole company is particularly proud about is what we've done with the Labs business. The Labs business is -- it's half the revenue in the business. So being successful with that particular component of the business, is particularly important. And what we've done in terms of the addition of instrument supply as well as increasing slide assembly. The reagents for those products has been important. In the last quarter, we were up, as a result, 9% versus the prior year quarter. Not disclosed before, but August, year-to-date, we will now have manufactured more VITROS instruments than we did in the entirety of 2022. We are on record quarters as announced previously, 2 quarters in a row, each of which was record breaking never having been manufactured at that level before. So we are growing share. We are taking share from a number of competitors. We are growing faster than the market, and we are improving our supply chain on a number of the raw elements that are necessary in order to manufacture these reagent products. So I like what we're doing across the board in the company, but I'm particularly proud -- and I know this is probably a surprise, but I am particularly proud of what we've done in the Labs business. It shows the strength of the former Quidel supply chain and operations groups and it helps thinking that we really did bring something significant to the party.

Got it. So maybe just sticking on the Labs team there, right? So like you said, I mean, 9% growth outside of respiratory in the last quarter. Was that growth sort of pretty broad-based across [ Clin Chem ] and immunoassay. And then on that instruments point that you just talked about, right? So the elevated backlog coming down. Where are you in your sort of supply chain and customer readiness pressures today versus a couple of months ago? Are they sort of largely in the rearview mirror at this point?

Yes. That's 2 different questions. I'll take the first one first. In terms of contribution to revenue, it's been about equal between both [ Clin Chem ] and immunoassay. I would say the exception to it as China recovered, a lot of clinical chemistry products shipped. So except for China, the rest of the world is roughly 50-50 in terms of contribution to revenue. In terms of the things that were problematic for us. On the instrument side, I would say those are largely resolved. We will, from time to time, find things that will pop up, and we don't need to go into any detail. We have things that we still are working through, we're just getting them solved quicker. And we engaged a group of people to go into the factory as a third party and to work alongside those folks. And we've actually made dramatic improvement to their processes and have helped them out with their supply chain. So instruments super comfortable on the slide. We did install Line 25 of the slide assembly machines that gives us another 300 million tests per year capacity. And then we're just now installing Line 26, which gives us a further 300 million. So I think we've solved some of the capacity side of things, but what we're faced with now is the challenge on various raw materials that we need, and we need to anticipate as we think that there may be an issue. We're also doing a much better job on the procurement side and making sure that we're not still aligned to one single source or that single -- or the multiple sources aren't tied back to another single source somehow. So we still have work to be done, but I would say most of what we've got in terms of supply chain issues on the reagent side have been largely resolved. I would say that as we finalize and we eliminate these all together, I think it's worth probably another percentage point in growth. And so I think we're in good shape on the left side.

Got it. And so in terms of that normalized 150 unit run rate on the instrument backlog, is that something that a couple of quarters out, do you think, or perhaps even [ sooner ] than that?

Yes. Remember, Tejas, that we said that we would expect to be through into that level early 2024. And I would say now that we would suggest that we will certainly have got into that 150 level by the end of the year. So that's not very far away, but...

Got it. Can you talk a little bit on just instrument order book, velocity, how that's trended for you through the year? I mean you're working through the backlog and the catch-up placements. But in terms of just the new orders coming in.

The new orders in the U.S. are slightly up, which is great in a business that's already doing quite well. Where we've seen the greater gains is outside the U.S. And I think there's growing traction for the program that we call our integrated strategy, where we take our clinical chemistry customers, and we put that together with our immunoassay solutions. We've also done a nice job on the automated side. And so I don't think there was merely the success early on as we saw in the U.S., ex U.S., but now we're seeing that. So I think we're getting a little bit better traction in Europe and certainly in Asia Pacific and in China doing extremely well and even seeing success now in Latin America. So we're definitely creating demand for the product. And I think there's a number of reasons. We have the lowest total cost of ownership. When you look at things like the slide itself, we're more expensive than our competitors noticeably. But when you look at the cost of calibration and maintenance, the fact that we don't use DI water, these are the things that when you take the total cost of actually getting a patient result we're actually probably among the chief competitors. We are probably -- noticeably the lowest in terms of total cost of ownership.

Got it. Switching gears to Point of Care. On the COVID testing piece, last quarter, you brought that down with the public health emergency coming to an end in May. Of late, there's been a bit of a spike in cases with a new variant running around. Could there be potential sort of upside to the guide here on the COVID side of things? And how does that translate into a margin impact with QuickVue sort of coming down and then POC testing the antigen sort of going up?

Yes. I think the way to look at the guidance, look at the guide for the second half in total. It is true that demand is up. We've dramatically ramped up production. I'm encouraged that we've ramped it up in half the time that we would have done it last year, which tells you that our supply chain in that regard is quite robust. It also tells you that our ability to scale up and down quite quickly is now -- it's just part of our DNA. And we have, in the factory where QuickVue manufactured as an example, we've got 135 employees only that are full time. They're and expected to be there for the foreseeable future, but we can very quickly ramp and get to 500 employees, all validated, ready-to-go manufacturing products. So we can scale up actually quite quickly. And obviously, very recently, we've needed to do that. So that's just a really interesting place that we find ourselves in because we know we're going to be shipping and are shipping more product in Q3 than we had anticipated. What I would say for the back half total guide, though, that this certainly derisks what we said we would do for the back half in terms of respiratory disease testing for both COVID and Influenza. And then further, I would say, it supports the notion what's happening right now supports our assertion that COVID is just another respiratory virus and it is now endemic. And we should expect, therefore, moving forward, 2024 and beyond to see $200 million to $400 million in COVID specifically COVID-only sales. And I would suggest that with the pending launch of the combination product in the OTC space that I think that product will be a winner for us. But -- so your question was, are we going to change the guide, I don't think so. I think it's been derisked though.

Got it. Got it. And on the combo assay, what are the time lines for that? I mean, will it be ready for this year's flu season? Or is that more of like 2024?

Certainly, we expect [ SARS ] flu combo on Sofia to be in market, and that product is at the FDA under a CLIA way by submission. For the OTC product, we expect to submit data at the end of October, potentially early November. So will it have an impact in 2023? Obviously modest, but it certainly will have an impact as we move into Q1. And remember that typically, our flu seasons are in calendar -- our respiratory seasons are in calendar, the viruses don't know what month it is. So it's typically Q4, Q1 is the season. And so in total, I think that we will be in time to have an impact with the combo product.

Got it. And just given what we've seen in the Southern Hemisphere, do you anticipate a relatively strong flu season?

It's a very difficult question to answer. I've looked at data previously actually, is Eric standing here in the front, remember this, that we looked at one time, we had looked at 25 years worth of data. Remember, comparing Southern Hemisphere and Northern Hemisphere. And there is a nice -- our score, it's actually 0.76. But it's not 0.9 either. And what came first, the chicken or the egg? I don't know. But what we saw in the Southern Hemisphere was an early start to the season. It also involved RSV. And then more recently, we saw Influenza B, which normally we would have expected historically even here in the Northern Hemisphere to be in the latter part of the flu season. But -- and the last couple of seasons, we didn't see that flu bee. So that's a little bit different. So we'll see how that plays out here. A lot of people assume that, that will be the case. We'll have to see.

Got it. Talk to us a little bit, talk about the double-digit growth you're seeing in -- Sofia and then for the Triage business as well. And what are the cross-selling opportunities there?

Well, we put the 2 companies together because we had envisioned that there would be cross-selling on both sides that would be effective. And we've seen, just generally at the point of care that the cross-selling, particularly ex U.S. has been pretty impactful. But -- so the short answer is it seems to be helpful. So we have Sofia customers that are large, that we're bringing in the [ Chin Chem ] side, and we've got examples of that here in the United States. And we've seen the reverse to be true, particularly ex U.S.

Got it. You talked about this -- on recall that you had for the cardiac panel. You called it sort of very minimal financial impact, I think, in -- on the second quarter call. Is there sort of any -- sort of reputational fall out from that in terms of going out there and being front-footed in addressing any concerns out in the field among the customer base?

Yes. First of all, in our segment, our industry, and I think you know this quite well, that it's typical to have recalls. And in fact, to better run companies tend to have recalls because we spot these things in outgoing QC and then we go -- we know where the product went, we go find the product, we retrieve the product, and then we tell the FDA about it. And then by the time you read about that announcement, we had already found this a long time ago, we've already solved it. In this recent situation, the number of customers was few, the number of lot numbers was few. And so it was really a very easy recall. I mean lives were not affected.

Got it. Yes. Switching to the Lyra weakness. I mean when do you expect the shift from high-volume central lab testing to decentralized and automated solutions to stabilize? And how are you thinking about Savanna offsetting the Lyra had been in sort of the second half of this year into '24?

You're asking about just decentralization generally and about what Savanna or -- Okay. Well, I think the STI panel is a perfect example. You talk to the people that run the labs across the continuum of sites that exist within these integrated delivery networks. And they will tell you that they're eager to change the paradigm. Right now, if you go into an urgent care or a clinic, it's highly likely that, that sample for an STI panel will go to either the central lab in the hospital system or a series of hospitals, a regional lab, if you will, or it goes to the big labs, like LabCorp or Quest or whatever. And they're typically on some big platform either one of the Roche platforms or more commonly actually the Hologic Panther. And so with Savanna we actually see an ability to accelerate the decentralization of testing, but it wouldn't be broadly across every single panel that we're launching. But that would be an example where it makes a lot of sense to test for the 4 common pathogens likely to cause a sexually transmitted infection and to treat the patient right there rather than send the sample to a lab somewhere else. So I think -- I hope I'm addressing your question along the lines what you talked. Yes, I've been in this industry for 40 years. And so I've seen assays that are being centralized and I've seen those that are moving to decentralized. And I think there's a flow back and forth. That dynamic will exist for some time. And when it makes sense and technology enables people to run the tests close to the patient at the same sort of quality that you would see in the big labs, it's likely to happen. Conversely, if it's a smaller volume or it's a high-value new assay that where -- they call it a reference lab for a reason. You need to send it to a highly qualified lab to explore. I think the reference labs do a great job. And I think that's where they make a lot of their money. But as soon as one of us can figure out how to make it smaller and easier and faster and less expensive, that's what happens.

Right. How many countries in Europe are you now live in for Savanna? And what time frame do you expect to cover the rest?

It's in my head, let me see. I've never counted. It's small. It's small. Is it 4 or 5. Just in Europe, specifically, not counting Middle East.

Not counting Middle East. Okay. All right. Got it. And so what is the path to broader presence in Europe for Savanna look like?

Well, first, realize we did a limited launch, and we actually controlled it. And we did it on purpose and our guys in Europe actually wanted to do it this way because the worst thing in the world is to start a customer and then not be able to supply. So we kept it small. We also want to find out what errors we would need to fix with things needed to be addressed. We needed to test out our customer service strategy, et cetera. And I think we accomplished all that. We did find error codes that we needed to resolve. This is not new. Any one of my colleagues in our industry would be sitting here telling you the same thing. You launched an instrument, you're going to find some things and then you got to go fix them fast. And we accomplished that. We also discovered that we wanted to make some tweaks to the respiratory viral panel to improve the assay performance. We did that. So we're now on our second version. And so as we're about to enter our largest opportunity, our largest market, we will have resolved some of the things that would have needed to be resolved that we not launch somewhere else first. Moving forward, I think the market in Europe, in particular, is quite different than here, and we'll be involved in tenders along the way, and that will be sort of the thing that causes the timing of the launch there. But they now know they have all the instruments they need. We have 2 manual lines, which are making hundreds of thousands of tests per month. Certainly, capable of handling those demand there, and we're going to stand up the automated line in the middle of the year. So in the middle of 2024, we will have all the manufacturing capacity that we need to deliver what we said we would do in that 3-year plan.

Got it. Got it. And what are your sort of key learnings from the launch in Europe so far. You've sort of alluded 2 things you find out only after you go live and then the need for a controlled launch.

Yes. So in addition, I would say we've learned that there are vulnerable competitors and they are great targets for us. So I am not going to call out anybody specifically here, but we also learned that where we wanted to price the product was fine. And we weren't in these -- some of these tenders that we won, we were not the lowest price. And it didn't seem to matter because the other criteria were more important to the customer than simply price. So that we learned as well. So that was encouraging. And based on that experience, we actually took up on our model, the number of dollars per box per year that we thought would run on a typical Savanna platform in Europe, that Joe has revised this model accordingly.

So -- and what about sort of FDA submission and 510(k) for the instrument? And then I think you had the RVP4 and the HSV panels. What are the time lines for that in terms of U.S. approval?

We submitted 510(k)'s at the end of July for HSV/VZV as well as the respiratory panel. We've also submitted an EUA for the respiratory panel. The 510(k)'s both are under active review at the FDA, meaning that they've accepted the package and actually are -- have sent us several series of questions to talk about what's in the package of the data, et cetera. And we have not heard anything back on the EUA, which I would suggest means that the package for the 510(k) must be reasonably suitable because they're pursuing that rather aggressively with us. So I would also point to the fact that in the last month or so, we've had several the FDA clearances, for example, in the lab business for CEA, CA 19-9 both of which are oncology markers. We've also had approval for PTH, all were reviewed and cleared in a very timely manner. So it would suggest to me that the FDA is now pretty much back on track in terms of its cadence of review and approval. So I think that portends well for us also.

Got it. And how are you thinking about menu expansion in Savanna in 2024, Doug? And help us sort of contextualize that in terms of -- I think you called out a 1% sort of Savanna contribution this year basing the guide? I mean, how high could that go next year?

The order in which we will do the clinical trials and roll out the additional assays would be STI followed by RVP11 unless we move it, because we're trying to pull something else for -- then followed by the 2 GI pounds, one for bacteria and viruses and then the second for parasites. And then finally, for 2024, vaginitis. And then as you would imagine, we have other syndromic panels also in development. And those panels there were actually thinking about what menu do we need to actually displace this competitor or that competitor. And so that next wave is more about going after specific competitors. And so that's sort of the cadence. In terms of what we'd expect in 2024 in terms of sales, I don't think we're prepared to provide that number quite yet. We haven't even submitted our plans at the Board, right? We expect to do that in November. So I'm pretty sure there's marketing people in my group that would have a number for you, but it hasn't been vetted.

Got it. Moving over to just regional performance, I want to hit on China. It's about 10% of total sales for you. A lot of noise at the conference around weakness in China and even this anticorruption crackdown. Can you just talk a little bit about what you're seeing there and how trends have evolved at all in July and August?

Yes. So yes, a lot of talk here at the conference, in fact, we haven't had a meeting without -- most of them start with China. So what I would say, we have -- our response is that we welcome the scrutiny of the anticorruption, an issue there in China. We welcome that scrutiny. And I would say that -- I'm sure that my multinational diagnostic colleagues would all agree with me that this is not a bad thing from our perspective. We have very rigid and I would say, almost state-of-the-art compliance programs in place that we review routinely. I'm actively involved in it. We also have very strong organization looking at FCPA as well. So all the things that we need to have in place for reviewing distribution agreements, understanding where the product is being shipped and what price, we've got really nice visibility. We're shipping into a set of distributors in China called Tier 1 distributors. They're highly capitalized companies that have a very strong interest in using their balance sheet to acquire our instruments such that they can place analyzers either with the customer themselves or with Tier 2 distributors who would then place it. So I'm not saying that we would be 100% immune to anything. But certainly, we have every measure in place to make sure that we're following this closely. And I would say I would be shocked if any of my colleagues in the diagnostics space, certainly, companies of our size would not have those similar programs. And then I would also say that the scrutiny itself does not appear to be directed at Diagnostics, so Lab managers and this sort of thing. But I can imagine based on my experience years ago. And for example, meeting many, many Chinese cardiologists that some of the scrutiny maybe directed at physicians to our -- potentially being incented to use certain medical devices. And I suspect that the multinationals are not necessarily going to have a problem with it. But maybe I'm articulating my opinion too widely there. But I think it's an issue. We welcome the scrutiny, and I think it's a good thing.

Got it. Do you envision any risk of just economic contingent from China, the markets in Europe. Germany has been one that's come up in a few conversations?

I'm not seeing any evidence at this stage.

Okay. Got it. Fair enough. On the integration and the synergy targets that you recently took up your cost synergy target from $90 million to $130 million. Walk us through sort of what were the additional sort of pieces of that increase? And could there be further upside to this target?

It's a great question. We previously said just for the audience that we would do $90 million in cost synergies over a 3-year window. And we would -- it would be roughly 1/3, 1/3, 1/3, 30, 33. Having gone through the first process of eliminating duplicative costs, most of which are in G&A. We decided to embark on another wave, another call it, synergy 2.0 based on our experience in running the business for well over a year now. We have pretty good visibility and saw a number of things that could be improved, including this multilayering that existed once we put the 2 businesses together. And so the second wave now includes some headcount. So 80% of Wave 2 cost synergy is tied to head count reduction. So if you think about it in that way, we will have done instead of $30 million, this year, we will have done $50 million in cost reduction, which fully offset what we've experienced in terms of inflation on the cost side. And then we expect $50 million in 2024 as well. And then with the remainder in year 3 beyond that. So we said in the last earnings call, we were at $130 million. Obviously, we think there's more of the math.

Got it. Fair enough. Last question here, just capital deployment beyond prioritizing the debt pay down, and I think you've talked about a leverage ratio of 1 or 2x by year-end '24. How are you thinking about M&A? I mean, obviously, also it was relatively recent. Is it fair to say that it's more sort of tuck-ins at the moment?

Primarily, I would just say that we have an interesting funnel that we're looking at and we're super active. I think the business development organization is really quite good. So I don't think there's anything out there that we're not seeing. And we've got a couple of things that we're interested in. I don't think anything that would cause us to be distracted from what we're doing at this time. And then in a longer term, yes, there's a couple of things that if you think about it for successful when we get these things done, would we be interested in broadening our diagnostic base, I think so. I think moving forward, diagnostic companies need to have a broader -- an idea of becoming broader based. And it just has so many benefits. And not being so vulnerable -- the respiratory season would be one example. But yes, we're going to look, but we're also not going to be ahead of our...

Got it. Fair enough. We're out of time. So that was a great overview, Doug, and...

Perfect timing.

Yes. That's great.

All right. Thanks.

Thanks, Doug. Appreciate it.