QuidelOrtho Corporation (QDEL) Earnings Call Transcript & Summary

Thank you everyone for joining us this morning. A pleasure to have with us Quidel this morning, QuidelOrtho. We have CEO, Doug Bryant and we have CFO, Joe Busky, with us this morning. I am Vijay Kumar, I cover Life Science, Diagnostics and Med Tech at Evercore. Doug and Joe, thanks for spending the time with us this morning.

You're welcome.

Good to be here.

Fantastic. Maybe -- and I want to start high level for you guys, you -- when you did the transaction, this is a pretty transformational deal. Two years post deal, sort of your thoughts, big picture on has the thesis played out? Just give us some high level on the deal itself and how it's progressed.

Sure, well remember the premise for the deal was that both companies have a pretty big desire to be a bigger presence in the molecular space. There is a lot of reasons for that. We can talk about the importance of molecular, but we have been working on an analyzer for some time. The Ortho team at the same time had been looking at what could they do to actually improve their offerings, create a better bundle in a space that made the most sense. So that was impetus for the initial discussion and to be completely transparent we started off. At least I thought we were starting off more looking at a distribution sort of arrangement. But as we started to do the math and how much it would cost and how dilutive it would be etc. to have a distributor, it became clear that the 2 companies probably would be both better off, if we put the 2 companies together. And at the time it looked like we were going to do an MOE because the market caps of both companies was about the same. And then we had a bit of a run-up on the Quidel side, which changed the math a bit. And so that's how we ended up being. So the premise was that we would put the 2 companies together, and we would launch Savanna, and we thought that the Ortho commercial organization was large and talented. And I loved the way that they improved their growth rate by [ target ]. So I spent some time understanding their go-to-market strategy. And I learned how they went about going from a 1% grower in the labs business to a mid-single digit. And it was through very specific targeting and sending the commercial organization into the places where we know that we can compete, where we would be within the top 3 players in the space. And they certainly did that. And I thought that sort of commercial execution would be great for us globally. And we also thought that we would see other cross-selling opportunities, whether it's with Sofia or Triage. And we've seen that. And so far, and we wait to see how we will do with Savanna and whether my theory proves out. But I'm pretty confident that I've got a commercial organization now that can execute -- and so we should do reasonably well. So I'll wait for other questions regarding that but.

No, that's helpful in big picture thoughts, Doug, but just some of the targets that you laid out, I think, of revenue and cost synergies, obviously, with the pandemic, a lot of things change, but anything on the deal integration side and how things have progressed.

Yes. We're actually still working through integration. I think it's going pretty swiftly. We broke it into 3 parts. The first part, I called harmonization, where you put the 2 companies together, put the right people in the right spots. We keep the people that we really want to keep. And I think that's gone pretty well. We've eliminated the obvious duplicative costs. And we had forecasted that we would, I think, do $30 million a year for 3 years in terms of that sort of cost reduction. We still are integrating. We're doing a lot of things with benefits and a number of things that affect our people. Those things have to be completed. And in that second phase, we've also found areas where we could reduce head count, and we've been in the process of doing that. We should see some of that -- most of that impact in 2024. I would say at this stage, Joe is a little bit more conservative than I. So you correct me if I'm being too exuberant here, but we're doing a lot better in terms of the cost synergy than we had suggested that we would. And then we've just now entered into a third phase where we're using a third party to help us look at cost reduction and revenue improvement across 6 work streams, and we should be able to communicate a range of impact probably January, mid-January, February as to what we think we can achieve between now and the end of 2025. So the intent, obviously, is to do better in a number of categories. We certainly think we can do better in procurement as an example. And there are a number of commercial initiatives as well. And so we're sizing all that. We have a number of ideas. We've built business cases for each of those ideas. And now we're going to -- we're in the stage where we're going to prioritize what those activities are. In a nutshell, I would say, we think there's a pretty big opportunity to run this business better. And it's not necessarily one side. We call it QuidelOrtho West or East. It's across both organizations combined.

Fantastic. And sorry, just on the third phase, is that new, Doug, or just the target's going to be announced in January?

We've been working on this for -- since summer, and we had a third party do it -- independent due diligence comparing where we're at relative to others in our space. And then we've gone through the process and ideation phase where we had our own teams look at what they thought could be done in those categories. And again, we built business cases for each of those and we haven't sized it precisely. If we would, I could give you a range today, but I would rather have a number that we firmly believe in that we have conviction around. And I would suggest that we probably will communicate something in that regard during our next Analyst Day. That's when?

March.

March. In March.

That's extremely helpful. Doug, talking about Analyst Day, I think at your last Analyst Day, you've given a certain target, I think mid- to high singles on top line for base business ex COVID. But I know that like the [ reporting change ] right now, we're looking at respiratory versus nonrespiratory. Maybe just talk about those targets? And are they still relevant? Or should we be thinking about respiratory versus nonrespiratory?

I do think that those targets are still valid. Right now, in addition to moving through this integration that we talked about, we're focused on near-term growth drivers. And so there could be some ups and downs. How many boxes do we place on Savanna? How big is the respiratory season. These could have an effect, and there are many moving pieces at the moment. So it's really hard to forecast very accurately. But we're looking at menu expansion, providing our customers more products for their QuidelOrtho platforms. Obviously, we're looking at new platforms, Savanna is one. We have another project called Leapfrog, which I don't talk a whole lot about, but that's another platform that probably will be a little bit later. Targeted efforts to gain revenue with existing products. We do think there's an opportunity for Triage globally. And in particular, I think clinicians will, over time, move to screening patients for BNP. That would change things for us. And of course, high-sensitivity troponin, we still haven't gotten past the FDA, the same with HbA1c. And then, again, this third phase of integration, those are the things that are likely to have an impact in '24 and '25.

That's extremely helpful, Doug. And these assays that you mentioned, troponin -- high-sensitive troponin, have they been submitted with the FDA or any time line on...

Yes. Yes. Yes.

And how -- do we have any historical analogies on how long the FDA takes to approve them, any way to size those opportunities?

I think our best forecast for timing would be the end of 2024.

Sure. You brought up Savanna a couple of times. Maybe just talk about what's happened with Savanna. Looks like there was some timing push out.

Yes. Let's be completely open. We submitted to the FDA in July. And we completed the clinical trial during the summer. There was a lot of to and fro and we've been in communication constantly with the FDA. The one issue which we've agreed was that we needed to run some samples during respiratory season. And the FDA's concern wasn't the performance of the product. It was -- they want to see how the instrument and cartridge performs with respiratory season samples, which I don't know, this may not be the best way to describe it, but some samples are snotty, viscous and they want to see how we did there. So we are wrapping that up, which is the last phase, but we're also -- we've also submitted HSV/VZV. And I'm highly confident that we will get the box approved before the end of the year. And then it will either have one or both assays cleared. And I'm certainly hopeful that we get the respiratory product cleared in time to have some impact in the first quarter.

Got you. And longer term, what is the Savanna thesis? What should we expect from Savanna?

Well, we like the idea of the small syndromic panel. And when you think about -- you've got competitors that have very large panels and you have competitors that have just 1 or 2 assays and I think the smaller syndromic panel of 4 to 5 analyzers. I think the largest panel that we have has 11. But those needs that exist out there, we think, can be addressed with something that's faster and simpler, easier to run. And frankly, just more modern will be super competitive, and that's what our marketing data says. And we do have customers in Europe. We do have IUO customers in the U.S., and the feedback at this point has been encouraging. We think we'll do about 1,000 instruments that's the forecast. I always say to the marketing people that models are rarely right. But it's at least useful to have something that you think you are aiming at. And I think that's about an appropriate target for us in 2024.

Yes, indeed, we can agree on that. I look at my model every day and I can see that rarely to the [ dot ], where things keep moving. You did bring up the commercial execution, using the Ortho Clinical team. Is that how you came up with the 1,000 instruments set? Or how are we going to leverage the commercial team?

It's not a top-down forecast. It's a bottom up by customer name. And -- but 1,000 is not a big number when you think about it.

How should we think about the revenue opportunity for Savanna. In terms of post launch once you have these panels launched?

Yes. Well, in terms of number of instruments. I think that what we said at Analyst Day was somewhere around 6,000 in that 3-year window. So again, sort of a bottoms up at this point. And I've also said to people, and maybe you'll think this is funny maybe you won't, but it's not the right number. It's either going to be a lot less or a lot more. If it is successful in the way that we think then the forecast is too conservative.

And is there like a certain consumable pull-through per system that we should be thinking about or...

Yes. I think the target was around $35,000 per box. Am I in the right range?

Yes, in a full ramp-up mode once we have the panels. Yes, yes, yes.

Got you. And Joe, maybe some near-term questions for you. I think rather it was at Analyst Day target, 6% to 9%. Year-to-date, I think because you've broken out respiratory non-respiratory. Your nonrespiratory, I think, has been running around 4-ish year-to-date. Was there anything one-off? Like why is the business track below the 6% to 9% target.

Donor screening.

Yes. The Labs business is performing as -- actually greater than expected. And Vijay, you know that we've always talked -- had talked about at Ortho, the Labs business being a mid-single-digit grower. This year, we're going to be a high single-digit grower on the labs business. And so the donor screening, as Doug just said, is what's pulling it down. And there's macro issues related to blood donations there, and then there's also some comp issues related to prior year customer -- net customer wins. And so it's really donor screening that's pulling that percentage down.

And so this is not any share loss issue or anything of that sort? Is that a fair characterization?

Yes, that's fair. Yes.

Got you. And some of the margin targets that you had laid out at your Analyst Day, I think, annual expansion, 25 to 50 basis points with EBITDA margins of 27% to 29% exiting '23. I know a lot has changed since then -- since deal announcement. What is the right base we should be thinking about margins, right, ex COVID? And what should be like the normal margin expansion cadence?

Well, Vijay, there's no change in the guidance that we provided at that Analyst Day a year ago. We're still in that 27% to 29% range. And as you know, there's some variables that are going to impact the timing of when we get to that 27% to 29%. The biggest of which is going to be the slope and the pace of the Savanna launch and how dilutive those margins are during the launch and when we get the high-volume line up and running, which will make the margins accretive. You've also got the timing of the achievement of synergies that will impact that achievement of that target margin? And then you've got the level of endemic COVID and where you end up in that range of 200 to 400.

Yes, and specifically just to add a little bit more color. The margin -- well, the cartridges are being manufactured on 2 manual lines. And frankly speaking, the cost is too high. So the cost will be too high until we get the automated line validated in the middle of the year. So after that it should improve.

Got you. That's helpful, Doug. On the earnings call, I think, there were a lot of questions around the sequential margin ramp for Q4 and you sounded pretty confident about hitting those numbers. Maybe just given I'm not super close, maybe explain like why was there a question about the sequential margin ramp? And why is QuidelOrtho confident about the Q4 assumptions around margins?

Well, it's tied to respiratory. Respiratory products are significantly more profitable than the rest of the business. And in particular, if we see a flu uptick and we have evidence of that already, then we would expect to see more flu COVID combo, and that's our highest margin product. So to the extent that the season is normal and our distribution partners reordered before the end of December, we will be fine. There's always the risk as there has been since I've been in this company that instead of the last 3 weeks of December, the really big distribution partners like McKesson and Schein and Medline and Cardinal and Fisher. Those folks, if they don't order in the last 3, we've seen it slip into the first 2 weeks of January. So there is that kind of an awkward period of time. But typically, what happens is these guys order in Q3, which they did, and then we watch their out sales because they report to us every week. And we watch their inventories bleed down and that rate of bleed is helpful in forecasting a little bit, but we don't know for sure when they're going to reorder. But if it's normal, they will reorder before the end of December. And that's what we have in the forecast is normal. So there's nothing spectacular.

Understood. And just on the respiratory season, Doug. So far just at least when we look at the CDC data year-on-year, we're still like, I think, below last year, but it's spiking up.

Well, last year was early, as you know. But you are over -- I think where it's -- where are we? [ ILI ] is what? 2...

2.5.

2.5, 2.7 something like that which historically the CDC has said is endemic. But we also have real-time data that we collect from our Sofia analyzers. And so we see numbers of tests, we see prevalence. And what I would say is what's going on in Florida, Georgia, Texas, Louisiana, for some reason, is even higher than those states, would tell you that we've begun the respiratory season. And so it's looking pretty typical. Last year it was a little bit more than typical at this stage.

Understood. That's helpful comments, Doug. The -- I think a lot of us are -- actually one high-level question. A lot of your peers look at base business ex COVID and you guys took the path of guiding to respiratory versus nonrespiratory. What was the thought process behind clubbing COVID along with respiratory revenues and breaking it out?

We group it in respiratory because they're linked. And you would not -- so if you take ranges for COVID, and we've said $200 million to $400 million, and you take a range for flu, we've called it $230 to $270. So we're a little bit tighter there. And you look at RSV and the other and Strep and you look at those ranges, you can't go to the mid across all of them. You can't go to the high or the low across all of them. What we've seen is in years when in the fourth quarter, we saw a lot of COVID, it seemed to have crowded out flu. So I think it's fair to say that we have a number of respiratory viruses that we're likely to see every year. And within that, you'll see certain prevalence. We saw an uptick in COVID that was short lived here a few months ago, right? So I think for us, it's just easier to say it's respiratory, right? And if I see an uptick here, I'm likely to see something lower over here. And so it's easier, I think, to get your head around the idea that it's probably a total overall picture of respiratory season.

Yes. And the margins are no different either. When you think about the COVID test versus a flu test, the margins are in that same range. And so for us, it just seems a bit unnatural to talk about things and then ex COVID way. I know a lot of the Street likes to talk about ex-COVID, but we're clearly in a transition mode because last year at the Analyst Day, we talked about ex-COVID revenue targets, and now we're shifting to this respiratory, nonrespiratory. And so we're sort of in that transition phase.

That's helpful explanation because I always wondered why respiratory versus non-respiratory. It makes a whole lot of sense when you look at the ranges.

With the labs being what it is, pretty steady, slower growing, but dependable. And then on our side, although we have really big market share in the space. We're sitting here waiting to see if our distributors at the last of the year, right? So we try to think about it a little bit differently because it will affect our EBITDA in the quarter.

Yes. Yes. And typically, these distributors order in the last few weeks of December, correct?

Yes.

But the inventory lean down patterns, what you're seeing and the fact...

Yes, we're seeing out sales -- we're seeing out sales. So physicians are ordering products. I do know physicians personally as well, and they're telling me that they're ordering -- they've been running a combo on their patients, particularly pediatricians right now.

Got you. And those would all support -- perhaps this should be like a normal ordering pattern. But that's noise, whether it's one week on this side or that side, but it is a normal season.

I think it's normal. Yes, I don't see it being high either. I don't think it's going to be a huge 2009 season or whatever.

Yes. The other data point, Vijay, is that the Southern Hemisphere had a stronger than average flu season. I know it's not a perfect R-squared, but it's another data point that supports what we're saying here is that we think it's going to be a normal, typical respiratory season.

Over the last 25 years, the R-squared is 0.76.

0.76. That's a very specific number, Doug, 0.76.

We've looked at it a few times.

It's better than 50-50 right, better than a coin toss, but it's not necessarily predictive.

Fantastic. And given how we broke up [ revenues ], are we at an endemic here? And whatever COVID assumptions we had or respiratory assumptions we had, if you will, for '23, is that now like a new baseline in the business should grow off? Or is there still some sensitivities?

I don't know about sensitivities. I would say our $200 million to $400 million, we still think is the right number. I think for '24, we probably will be higher than the midpoint for COVID still. I just had COVID again. I tested negative, don't worry. And I think you probably -- in the room probably all know somebody who recently had COVID, so it's still around. And the symptoms for me this second time I've now had it were different than the first time around. This time, I had a severe headache. I had a little bit of nasal congestion. But I never had a cough, never had a fever. Just felt like a massive sinus headache for a few days and trouble thinking. So it's -- the virus is definitely mutating and it's different.

Yes, I'm glad you're...

Based on my one personal experiment.

Fantastic. I think the other thing that came up for you guys in third quarter was China VBP. Most of your peers seem to suggest like it's pretty manageable. How are you guys sizing it?

Well, I wish we had to worry about it because what would be the situation where I was worried about is if I had large immunoassay sales in China. And sadly, we don't. So yes. Maybe someday I'll be worried about it. But right now, we have a chemistry system that's not in the big hospital lab. It's more in the [ EDs ] -- it's a different technology, film-based technology that we haven't even been asked to participate on the clinical chemistry side so far. And I think that's mainly because the multinationals all use the similar technology that the Chinese companies do. And again, it's in a different market segment.

Understood. So it's marginal for QuidelOrtho?

Yes. I would say there's always some level of risk, Vijay, but as we look at what's happening in the investment by the Chinese government in Class III hospitals, and our opportunity. Our box fits really nicely in a situation where those labs are doing 4 million clinical chemistry tests per year or fewer. We're perfectly set up. No water, no electricity requirements -- special electricity requirements. I think we're poised nicely to take advantage of that investment by the Chinese government. So we'll see. But I think our opportunities far outweigh our risks. So I would say relative to my colleagues, I'm obviously more bullish on China in our business there.

Fantastic. I think related to -- you did bring up dry slide, I think that's what you were referring to water. I know that tech was supposed to transition to immunoassays. Like have we -- do we have the -- has the transition been done?

Are you referring to the program that used to be called dry-dry? Or internally, I think they called it bam-bam. So we've transitioned to a technology that we think is more appropriate and will be able to deliver faster. And we're calling -- the program now is called NextGen immunoassay, and we do have money budgeted for it in 2024 and beyond. But I don't think we're going to see anything certainly in that '24, '25 time frame. Well, I know for a fact, we're not going to see anything that quickly.

Understood. Instrumentation sales were up very strongly for you guys. I think, you mentioned lab placements up 19%. what drove that? Is that like share gains? Or...

That's a good catch, Vijay. But I think that -- I think you're referring to the integrated platform. So the integrated platforms are up 19%. Integrated, meaning I have clinical chemistry and immunoassay. That's a specific targeted program. And the placements in the U.S. have done -- the integrated platform have done extremely well. Similar situation moving forward, we hope, in China. But in Europe and in particular, Latin America, we're seeing a pretty nice uptick in integrated placements. That's important to us because the immunoassay side, those products are at higher margins than the clinical chemistry. And so that's one of the ways that we're planning on improving the profitability of that business. It's also how we're growing. When the overall clinical chemistry market is probably growing 3 to 5, and we're growing mid-single digits. And -- but with the integrated platform, obviously, we're growing even faster.

And Joe, I think you guys used to disclose in the past -- total installed base growth. I think mid-singles. Is that still in cash?

Yes, yes. The integrated base has been growing for the last couple of years in the teens, mid-teens. So the 19% is not that atypical for us, and the overall base is still growing in the low single digits.

You saw a little bit of acceleration in placement rates, but that's simply because we improved our ability to manufacture the instrument. So we had a pretty big back orders, about 650 analyzers. Customers waiting for the installation. And then we've whittled that way down now. So as we exit this year, we're probably down around 150 or so.

We're back down to a normalized level now.

So I think the commercial guys should take their forecast on the radiation side, just FYI. Well, I mean, how can you install boxes and not see an uptick on the radiation side. That's what I want to know, right?

We'll pass that on.

And Doug, I did want to bring up a transfusion medicine. You cited some blood donation. But when I look at some of your peers within that market, I mean they've grown like high singles, doubles. Do you guys play in a slightly different part of the market, just explain what's happening?

We do. So our customers are typically those running tests for red blood cells. You're probably referring to my former company.

Yes.

They do extremely well on the plasma side, and the plasma side is growing. So...

That's helpful.

That's basically because donations are not increasing on the red blood cell. And frankly, the demand for that is declining in the United States. And probably, we'll look more like it does in Europe at some stage where not as many units are transfused in a typical surgery.

Got you. Got you. And when I think about pricing generally across the industry pricing, I think, has improved given the inflation trends. Talk about pricing versus inflation trends in your book of business. How has pricing trended?

We don't have -- because of the length of these contracts, particularly on the lab side, we don't really have the ability to immediately raise price. So we're raising price opportunistically, but it's not enough to offset inflation. The way that we're offsetting inflation, of course, is the cost synergies that we're harvesting. So we have a little bit of different situation where we're reducing costs, OpEx across the board, and that's offsetting most of it. It's also true that inflation is not as high as we were worried about. And I'll go back to the earlier point. If I'm successful on the procurement side, then we will fully offset and more so our raw materials costs for sure. So the funny thing is inflation is an overall number. But when you think about it from a business perspective, my cost of plastics is here, and it needs to be here, not the other way around. And so inflation is a general average, right? We have specific opportunities to actually lower our costs.

Understood. And just given where price of oil is, how are we thinking about inflation dynamics for '24? Is that still within the normal range of expectations, if you will?

It's mitigated for sure. Yes, it's lower than...

We said during Analyst Day 3 to 5. I would say we're trending on the low end of that.

For sure. Yes.

Does that address your question?

It does. It does. That's helpful. And when you think about '24, what are the plus and minuses we should be thinking about or variables?

With respect to?

Top line and margins.

Well, the introduction of Savanna is a big driver. And new targeted opportunities on the Triage side, I would say, is another.

Timing of the respiratory -- severity and timing of the respiratory season would be the other.

Got you.

Yes. I would love to be able to say that our margins are not as good as they are because we placed too many Savannas. That would be good. I'll be happy to explain that.

This Savanna, Doug, like how -- I know you have a placement number. It seems because it's easier to use, and I think you're targeting smaller syndromic panels, I think there's been some issues in that market that your peer in that market has used like very large panels, and that might be a payer issue. So it looks like there's a very strong use case for Savanna.

I think there's a use case for both. On inpatients, it does make sense potentially to run a panel that has everything that possibly could be related to the syndrome. But on the average outpatient situation, you don't really need to run more than 4 respiratory targets. You don't need to run more than 4 STI targets, but you certainly need to do more than just chlamydia and gonorrhea, right? So we're doing those two plus Trichomonas vaginalis and Mycoplasma genitalium. So those four constitute a super high percentage of the STI infections in the developed world.

Got you. Joe, on the margin front here for next year. So inflation is tracking at the lower end. Any sensitivities around FX? Anything else we should be thinking about which would impact margins?

Yes. I think it's the same items we just mentioned before, Vijay. It's the timing and slope of the Savanna launch. It's the timing of the synergy achievement. It's -- again, the timing and severity of the respiratory season. I think those are the big movers. And so we will have a much more fulsome view of that in January, early February of all those areas.

When you say timing and slope of Savanna launch, is that -- if we did have like a year-end approval and can launch in time for respiratory season, I'm assuming that would be a good guide.

That would be a little bit dilutive at the moment until we get to the automated line because you're going to have the 2 manual lines, and the cartridges are too expensive.

Got you. Got you. And Doug, when I look at the stock, it's -- the valuation here, was very, very compelling. What do you think the Street is missing on the story? Because at a high level, you still think that 6% plus top line, and that's a fair place to be in, you still expect margin expansion. Your Analyst Day target, the 27% to 29%, still seems intact. What do you think the Street is missing?

I don't know if it's necessarily missing anything. I would -- obviously, I believe we're undervalued. When you look at our own internal forecasts, if we achieve those, we're obviously not getting any credit yet for Savanna because we haven't launched it, right? It is true that the combined business is slower growing and not as profitable. And so we're not exactly that growth company that we've been for the last 15 years, right? We're in an integration phase. But we're also in a phase where we know what to do, and I see dramatic improvement in the way we run the business. And if I'm an investor, it would be hard for you to have visibility to that. It would be easier for you to see it when you see it, right? And so I would love a couple of quarters from now to be able to come in and explain that's why this is happening and that's why we're able to deliver all this. And so we've got -- I would say we've got a probably a solid 18 months to get to where we want to be, and we're on that track. And as we achieve certain milestones over time, maybe the Street will recognize that.

And sorry, the last few seconds. What are those milestones we should be looking for?

Well, the launch of new products, there's a couple of big ones. High-sensitive troponin is obviously one. Some of the other programs that we're running with our existing product line, I would say, regulatory clearances, et cetera.

Fantastic. With that, we're out of time. Doug and Joe, thank you so much for spending the time with us this morning.