Smith & Nephew plc (SN) Earnings Call Transcript & Summary

Good morning, and welcome to the Smith & Nephew Third Quarter Trading Fourth Call. As mentioned, I'm Deepak Nath, Chief Executive Officer and joining me as Chief Financial Officer, Anne-Francoise Nesmes. So before I begin today's presentation, I'd just draw your attention to our announcement today that John Rogers will succeed Anne-Francoise as Chief Financial Officer in the first quarter of next year after the publication of our annual report and accounts. John is an experienced FTSE 100 CFO, having held the post at WPP in Sainsbury's. We have no doubt his financial acumen and expertise and leading transformation programs will be tremendous assets to us. As I've said before, I'm very grateful to Anne-Francoise for the time she has given us to ensure an orderly handover and her continued support as we close out 2023 and complete this transition. So now let me turn to our Q3 results. I'm pleased to report another good quarter, which maintains our momentum from the first half. Orthopaedics growth has stepped up as expected. It's one of the highest growth quarters for many years. And importantly, the strong underlying performance in sports medicine and advanced wound management has also continued. There are puts and takes across the portfolio, as you'd expect, but the overall picture is a strong innovation-driven growth backed by improving execution. We're also advancing the 12-point plan with encouraging signs of delivery on outcomes. Our operational improvements under the plan are continuing to drive key metrics toward their targets, particularly around product availability. In orthopedics, you can see that translating to better revenue growth for more lines of the business. Our productivity measures are also progressing. We've made cost savings as planned for 2023. And for the longer term, we announced the closure of 2 of our smaller factories within our network. With 9 months done, we're refining our guidance for the full year, we now expect revenue growth to be towards the higher end of our 6% to 7% guidance range, reflecting our good momentum and improving execution. And on profitability, we're seeing the expected step-up in the second half with the seasonal uplift and cost improvements coming through. There is some additional headwind in China as well, and we're reflecting that with trading margin guidance now of around 17.5%. I'll come back to our outlook shortly. But first, we'll take a look at the details of the quarter. Third quarter revenue was $1.4 billion, representing 7.7% underlying growth with all business units and regions contributing. Anne-Francoise will cover the performance of the business units in more depth in a moment. But you can see that orthopedics has continued to accelerate as the year has progressed with a slower quarter in advance management. Looking by region, growth was broad-based with 7.2% growth in the U.S., 7.8% in other established markets and 9.2% in emerging markets. Within the emerging markets, China sales were down 1.4%, with improvements in knees and hips performance, but a slowdown in sports medicine where there are some significant moving parts. To cover that and the rest of the business unit detail, I'll now hand over to Anne-Francoise.

Thank you, Deepak. So I'll start with orthopedics, which grew 8.3% underlying. This follows a 3.9% growth in quarter 1 and 5.8% growth in quarter 2. So even with more difficult comps, we've continued the positive momentum we've seen in the early part of the year. Knee and hips growth included a better quarter in China, as Deepak just mentioned. The effects of VBP are now fully lapped and China is back to being accretive to overall recon growth. When we look at our established market recon business, there are green shoots. Some regions are further along than others, while commercial improvements are taking shape. U.S. product availability is improving, and we are gradually stepping up set deployments across small categories, and I'll come back to that in a minute. Other reconstruction growth of 58.5% was driven by the ongoing adoption of robotics. We exited the quarter with over 25% of our knee procedures being placed with a robot and with contract wins across the sites of care, including large academic medical centers and in ASCs. We're also seeing good progress with our increased range of indications. Using revisions is already approaching the overall new utilization, and we saw the first cases completed with our new store solutions offering in the third quarter. Trauma and Extremities has become an important part of orthopedics growth story and it was the biggest sales contributor than hips in the quarter for the first time despite us existing some markets last year, as you may recall. Underlying growth was 10.4% with the acceleration coming particularly from EVOS and from strong double-digit growth in the U.S. Soma is demonstrating what we're aiming for across hectic. We invested over many years to build out our plate trans cruise platform, starting with the EVOS MINI plates, then adding small and completing our offering with the launch of EVOS Large in 2022. Our operational improvements on the 12-point plan established better supply and replenishment of imports. And in the last 2 quarters, we've also stepped up the deployment of sets. Putting all of that together with better commercial execution is translating into sustainable higher growth. The next leg of growth is also ready to follow as we broaden the rollout of our EVOS Shoulder System. And delivery of the 12.9 milestones is continuing to progress, and one area where that's particularly done is in our product availability across the portfolio. There are still differences between categories, both on the supply KPIs and on the financials. And clearly, U.S. orthopedics is an area where there's still more to do. So on Slide 7, you can see some of the detail. Firstly, if you look at the chart to the left, implant availability is moving in the right direction. Overall, Orthopedics nonsetlife remains on an improving path ahead of our projected plans and the value of overtorders I continue to fall. There is some variation within that, of course, and had some a factor in some of the different civic across segments. Availability of JOURNEY II with OXINIUM has been lower than the average and the greater U.S. penetration of this construct makes it particularly relevant to the U.S. knee growth. The good news is that JurneyLifer was stepping up as we exited the quarter and should also be on an improving part from here. A second factor to be aware of is the importance of set deployments. And again, the categories of U.S. orthopedics are different stages of progress towards our goal. Prama is an early example of what success looks like. EVOS product availability has been at or above target for almost all of 2023, but set deployment only stepped up strongly in Q2, and we've seen a clear inflation in revenue growth in Q3. Ipsen are still following. In U.S. hips, instrument deployments have started to step up through Q3 and are getting closer to the target fulfillment level. Continuing list and maintaining the implant availability should also be followed by better growth in the coming quarters. Knees are earlier in the process and further from their target, but we've started to see positive momentum later in Q3. Together with improving JOURNEY II and OXIMIUM supply, we're on the same path that we've seen playing out in rob. Moving to sports Madison, which were 11.1%. A multiyear stream of internal and external innovation was again central to our growth, and that was further helped in the quarter by better product availability. There are still some areas that are constrained, but we're seeing steady improvements in fill rates and overdue order levels that can keep supporting our growth in the coming quarters. Sports medicine remains a very attractive area of our portfolio, and we're continuing to invest in further opportunities. Within Sports Medicine, Joint Repair grew 11.3%, with broad-based strength across procedures in established markets. Regineten, again, grew strong double digit, and we are still adding new legs of growth 6 years after acquiring the product through rotation medical. Geographic expansion has continued with launches in Japan and India and work on further regenerative applications beyond the shoulder is ongoing. A grew 1.7% in the quarter with Werewolf Lens 4K and our double flow freed management system for PC. As I mentioned, the headwind in the quarter was a slowing market in China on both consumables and capital. Without China, growth would have been 3 percentage points higher in joint repair and 4 percentage points higher in '18. There was slower buying in joint repair as wholesalers reduced inventory in anticipation of the BOP process. And there was also market-wide delays in purchasing around the widely reported ongoing anticorrosion campaign. We expect China to remain a headwind in Q4, and of course, we know this interest in VBP. So I wanted to give you an update on the current state of development. The policy is still yet to be fully published, so many of the details are not yet known. For example, we still have to hear the full tender rules or details of the entry prices. Timing has also not been confirmed, the ocean assumption is for a process before year-end with the outcomes of the tender to be implemented in the second quarter of 2024. On the scope of the VBP understanding is still that the tender will be limited to joint repair only. However, with more information, the scope looks to be wider than it appeared from the initial data request we talked about before, and we now expect it to cover around 1.5% to 2% of group sales. Now moving to the NTNG growth worth of 40.2% was driven by our core tonsil and adenoid business. As we expected, demand growth has started to moderate as we lap more of the post-covid recovery, but improving product availability meant that the quarter also benefited from clearing a significant volume of back orders. The process is almost complete, so we will expect to return to a more normalized level of growth as we exit 2023. And finally, Advanced Wound Management grew 3.6% underlying. Within that, Advanced Wound Care and Advanced Wound Devices continued with the trends we've seen in recent quarters. AWC growth of 3.2% was mainly driven by Europe and came across the categories of dressings. 21.3% growth in Advanced Wound Devices reflected continued double-digit growth on both our traditional negative pressure platform, RENASYS and our single-use device PICO, and we're continuing to both gain share and expand the market. The slower quarter for the business unit as a whole was driven by bioactives, which was down 4.8% in the third quarter. The decline reflects a strong comparator from the third quarter of 2022 and also delays to Santo shipments in the early part of the quarter as we fully completed the transition of production to Footpla. Our shipments are now back to normal with bioactive exiting September strongly, and the segment should return to more typical growth against a more normal from a in Q4. And with that, I then back to Deepak.

Thank you, Francois. On revenue, 7.5% underlying growth in the first 9 months positions us well to meet our full year target. There are a few moving parts to keep in mind for the remainder of the year. On the positive side, we should see higher growth again in advanced wound management, mainly due to improvement in bioactives and we should continue a positive momentum in orthopedics. As headwinds, we expect slower Q4 in sports medicine with low to mid-single-digit growth. This is due to the combination of the pre-BBP effects and the broader market slowdown in China as well as a strong comp from Q4 of 2022 in the rest of the world. Also, as Anne-Francoise just mentioned, E&P growth should normalize after Q3. Putting all of that together, the portfolio as a whole is well positioned, and we expect full year growth to be towards the higher end of our 6% to 7% guidance range. On profitability, the dynamics so far in the second half have been, as we described with our H1 results, which is encouraging. The drivers are expected H2 margin step-up are all coming through. Those being the usual seasonal uplift, the unwind of onetime commercial costs from H1 and our planned cost reductions. There's still more to do. But as you may be aware, the fourth quarter is typically our highest sales quarter and therefore, highest margin quarter of the year. The progress we've made already in Q3 means that the remaining uplift to hit our full year targets is well within the historical range. The change is the headwind from China that we've highlighted. As you know, our guidance included some pre-BBP impact. There are now other moving parts in China as well. And while we are working to offset these, there's only so much that can be done in the remaining quarter of the year. Reflecting that, our expectation for trading margin is now around 17.5%. Overall, I'm pleased with another strong quarter, progressing the fixed orthopedics and continuing to invest in and drive sports medicine and mood. The portfolio is moving in the right direction. Our 2023 financials are trending as expected, and the 12-point plan is advancing. It's a wide-ranging program where we're on track for a in most areas and with green shoots in the area in the areas where there's stonework. We've talked a lot so far about fixing our operations, but there's much more to Smith & Nephew than that. The returns from our multiyear innovation investments are an important growth driver, too. We'll talk more about that aspect at our Meet the Management event on November 29, and I encourage you all to join us in London. With that, we can move to your questions.

Our first question comes from Robert Davies with Morgan Stanley.

My question is on the progress you're from a growth perspective on the orthopedic side. Obviously, a large part of that was driven by the other Recon segment. But just maybe kind of walk us through the underlying trends you're seeing in both hip and knee and any significant sort of regional variations you've got there? And then my second one, your commentary around the margin outlook for the full year of around 17.5%. I guess there's some debate of whether that's doable, I guess, with the investor community. But looking forward through '24 and beyond, are you still comfortable with the 20% margin target and even with the sort of new moving parts that you've highlighted today?

So first off, in orthopedics, we're pleased with the overall growth, as I mentioned, other recon, which reflects the uptake of CORI, not only in terms of placements, but actually also utilization. We're now up to 25% of our business, U.S. business flowing through robotics is encouraging. But in addition, as Anne-Francoise mentioned, it's not just core, but it's actually trauma as well that's contributing to growth. And on top, you've got hips stabilizing and knees continuing to grow where the soft spot remains the U.S. So in terms of regional variations the market continued to be strong in Q3, not as robust as Q1 or Q2, but continues to be strong. And the fact is on the back of the operational improvements we're making, we were able to participate in the market upside, which was not always the case, as you'll recall, Robert. And if I look at outside the United States, our commercial execution on top of product availability, which is coming from operational improvements has enabled us to really participate in that growth. In the U.S., we're continuing to do that. Hips is better than ites. And the reason needs are behind primarily has to view with continuing supply challenges, particularly on OXINIUM. So when you look at the product mix in the U.S., the particular constructs and particular SKUs in the U.S. were impacted and that also had an impact both in replenishment and sub delivery. The good news is, as we exited September, we saw significant improvement in OXINIUM supply that contributed to sets starting to flow again in the U.S. So I expect the momentum we built up in September to continue into Q4. So hopefully, that gives you a bit of color on the drivers of growth, the regional variation. So in terms of margin around 175, obviously, we've expect to step up in 24 and in '25. We expect more of it in '25 than we do in '24, but if it's not going to be a hockey stick, it won't be linear. We don't expect a hockey stick from between '24 and '25. So I continue to feel good about where we're positioned relative to our midterm guidance. As you mentioned, they are more moving pieces. There are more headwinds than at the time that we issued the guidance, the primary headwind being China, particularly on the sports VBP. But on top of that, there's been, of course, some effects from the anticorruption campaign that's rolled out in China, and we saw the impact of that in Q2. So that remains an uncertainty. But even with that factored in, I feel at least at this point, good about our ability to hit our midterm guidance.

Maybe just one follow-up around the advanced wound bioactive. Could you just give us a little bit more color on where the softness in that particular business came from in the quarter?

Yes. So first off, there was a comp topic, Q3 '22 versus this. Secondly, we made the decision several years ago to transfer production in-house. We had previously been manufacturing Coral. And in Q3, we completed the transfer into our Fort Worth facility. That was done for resilience reasons. It was done part of our cost reduction or productivity program. And as we transferred that production we hit a couple of bumps within the quarter that we were able to resolve and get back on track actually as we hit September. So we're in a good place as we exited Q3, and we expect that to continue into Q4. So we get into more normalized comps in Q4 and with our factory now humming in Fort Worth, we expect that to kind of normalize.

Our next question comes from Veronika Dubajova with Citi.

The first one is just, I know you're not going to give us 2024 guidance, but just curious on some of the moving parts that you see as you move into next year. Maybe if you could comment, one on how you feel about the market. And obviously, I think J&J made some pretty strong comments recently about how they expect sort of elevated utilization on volume growth to continue? And also sort of do you think 2024 is the year when we start to see some improved momentum in needs on a full year basis? And maybe for Aramco that as well, just in terms of the P&L will be part, I'm thinking FX and inflation, if you have any high-level thoughts at this point in time to help us as we think about 2024, that would be super helpful. And then my second question is just maybe a follow-up to comments that take already made, but just for avoidance of doubt. Obviously, now that you have more clarity on VBP, do you still feel confident in your ability to achieve the 20% midterm target and what are some of the offsets that you see against that sort of increased scope of the VBP process in ported?

So just on the guidance of some of the moving pieces. We do expect positive impacts as we go into 2024 from revenue leverage. We start to see that come through in Q3, and we're going to build on that in Q4, and we expect that to continue in '24. Pricing, there's, of course, the inflation offset, but some of the more strategic work we're doing at pricing, we'll expect to start to but continue to pay dividends as we go into 2024. Also, ongoing productivity gains under the 12-point plan, it will be a factor as we head into 2024. Then I mentioned, of course, the VBP and Sports Medicine that will act as a headwind Anne-Francoise talked about. Previously, we had guided to around 1% to 1.5% of group sales being impacted by VBP based on the expanded kind of scope that we see, we think it will be more like 1.5% to 2%. So that will have an impact that offsets some of the factors that I mentioned. In terms of transactional FX, it had been a headwind in 2023, but we don't expect that in 2024. And also, we don't expect the same scale of headwind in terms of input cost inflation in 2024. So the bridge that we provided at give some good indication as to the major factors that we see influencing a margin step-up as we go into next year and beyond, including materials and staff cost inflation offset or unwind rather or COGS and manufacturing optimization and the cost reduction programs having a full year effect in 2024 in terms of what we started in '23. And of course, as I said, the growth leverage. So as I indicated, I feel good about leaving our guidance for 2025 unchanged. And in terms of the shape of the trajectory from 23 levels, as I said, we don't expect it to be linear and more of it will come in '25 and '24, but we also don't expect it to be hockey stay. So hopefully, that gives you a bit of color. I think I made the comment around already. So hopefully, that addresses your first question. Your second question around BPP, I think I incorporated that into my response. So in terms of the factors that we believe will offset the more expanded scope, it really comes down to the factors I enumerated earlier. It's growth leverage from other parts of the portfolio. It's the cost reductions probably the full year effect. Our productivity initiatives, the unwind in terms of input cost inflation. So those are some of the factors. And also to keep in mind that in China, not all aspects of sports medicine are covered REGENETEN. We expect to launch in China we expect to be a growth driver. Of course, the AET part is included in the VBP guidance. So we expect that to be a growth driver as well. So hopefully, those pieces all make sense for Veronika.

I think you alluded to this in the press release that you're starting to make progress on some of the manufacturing footprint optimization. When can we expect to hear more from you on sort of how this is underpinning the 2025 margin target? And anything you can share high level about how that's going at this stage.

You should expect more at our full year results for Veronika. But as I shared, our network optimization efforts continue. So we've announced that we're going to be closing 2 of our smaller factories within our network that represents about a 20% reduction in footprint in manufacturing. We've also reduced headcount by as part of this process as well. And so we'll give you an update specifically on the numbers in full year. So combination of those factors we expect will contribute towards our gross margin improvement efforts.

And then just to add to this, Nik, I think 2 elements want is the efforts of the network optimization will be more visible in orthopedics. I mean, there are actions across the whole network in terms of continuous improvement. But clearly, orthopedics will benefit the most. So as you look at the segmental analysis, you'll see the margin improve. And one of the driver will, of course, be revenue leverage for the other is also the action around the network, the manufacturing costs. I think the second as well it's important to understand, it doesn't flow immediately through the P&L. As you know, there's a phasing impact of cost of goods inflation, etc. And Deepak talked about the shape of the guidance part of that because the savings from manufacturing take longer to flow through as you build into your inventory and the savings on you flow through as you release the inventory that will be produced at a lower cost, so that will take some time.

We now turn to Lisa Clive with Bernstein.

First question on CORI. Can you just comment on what the current commercial strategy is for CORI and where some of your bigger competitors are placing robots for free. So what proportion of your core installments are sold, leased, placed, etc., and how should we think about that evolution going forward? And then second, just on utilization of CORI increasing, can you just comment on why the total US business was down this quarter and how we should think about the time lines of that recovering?

So with CORI, our interest is not just placements, but it's placements plus utilization. So that's what we're looking for and which is why I reported on the unison number. The mix of business models in terms of cash sales and rentals and lease models and so forth, they do vary across geography and actually within geographies as well, and that does vary from quarter-to-quarter. I'd say we're competitive and do our best to address the needs of customers and some customers prefer cash sales, others in these models and responsive to the needs of our customers. But in the end, the strategy we're running though is not to place robots only mill, but rather to place them where we expect to see utilization. So that combination is important for us. And we're also looking at where we place them, and we're encouraged by the uptake we've gotten not only in academic medical centers, where historically, we've had a weaker presence and we're starting to see and gain traction in that but also in the ASCs, which I know is a growing segment, and CORI is very well positioned within that segment as well, and we're pleased with the uptake we're seeing there. In terms of the U.S. knee business, the primary factor in Q3 really was around some product supply challenges. Although Life overall has improved in orthopedics that is product availability overall has improved in Orthopedics. The particular SKUs in the U.S., Our U.S. business tends to be heavy on the journey of OXINIUM. Some of those SKUs continue to experience particular challenges in Q3 that impacted not only replenishment of implants, but also our ability to place complete steps that can be utilized in procedures. As I mentioned, when we look within the quarter, September was where we saw significant recovery of that, and we continued that improvement actually into the first month of this quarter as well. So we're pleased with the movement there, and we expect now in Q4 to recover in U.S., and so hopefully, that addresses both of your questions.

Just on cementless knees, what proportion of that 25% done with CORI are done with cementless? Just trying to understand whether there's a mix improvement opportunity if cementless is still sort of not used very widely.

We don't break out cementless versus other. What we're really looking at is constructs. And in particular, cementless is not what's driving CORI. So for us, it's about selling the portfolio we've got. We're very pleased with how our portfolio is positioned relative to our competitors. So we're actually really looking at on constructs, not a one particular product line.

Our next question comes from Jack Reynolds-Clark with RBC.

The first Is on pricing. I think you touched on it earlier, but I was wondering if you could give a bit of color around kind of the contribution of pricing to your growth in the quarter. I guess that has kind of 2 parts to it. Obviously The first is the kind of development of price erosion or lack thereof through the quarter, then also kind of the initiatives that you're implementing as part of the kind of the 12-point plan? And then the second question just was on CORI replacement. Obviously, appreciating that your focus is on kind of penetration and utilization, which obviously seems to be trending quite nicely. But I was wondering if you could give some color on kind of where you are on that 300 placement target for the year. And then also how that's split between kind of ASCs and hospitals.

So Jack, in terms of pricing, it's an important element of the 12-point plan. It's part of one of the initiatives, as you mentioned yourself, it's also important to try to offset some of the inflationary pressure we're all seeing. And we've continued to make good progress in updating and standardizing our pricing controls across the portfolio. So we have continued to see positive pricing like we did at the end of last year and that's continued into a low single digit positive through the third quarter. So we're pretty pleased on the progress we're making here, and it's really great collaboration between all the teams here from commercial to selling organization to finance part. Now looking further out, there is more strategic work to do on pricing. As we've discussed before, when we launch new products, how we are pricing ladder, etc, but we do not depend on pricing as a volume guidance.

On CORI, I will update you in terms of numbers of placements at full year. We're making progress towards the goal that you mentioned, Jack. And in terms of ASC, we've got better than kind of overall share in ASCs. In other words, we're pleased with the kind of traction we're getting at the ASC, which is a big growth driver. So we'll come back to you in such a specific numbers of places. We just don't want to get into the every quarter kind of updates and numbers on CORI.

And then if I just squeeze in another one around AETOS. Just wondering what your kind of thoughts were if you had any kind of further developments around introducing that on CORI, I guess following the launch.

So as you know, shoulders is a growth market within orthopedics. Our entry into that into an important segment with AETOS. We're pleased with the initial kind of results primarily so far, the activity has been around design surgeons that we've also taken it beyond that initial group. So overall, good traction that we've gotten, as I indicated, I think on the H1 call, maybe it was a Q1 call, I forget now. But we see the potential of CORI in shoulder. The form factor of CORI is very well suited for the shoulder application. So it is in our pipeline, and we look forward to kind of updating you on that at the right time. But where I'll leave it is very excited about the potential for CORI in shoulder.

We now turn to David Adlington with JPMorgan.

Firstly, again, back on to CORI. I just wondered if you could give us some comments on what you're doing differently to drive that big step up in growth and how sustainable you thought that was? And then secondly, just on the GLP-1 impact maybe I'm going to touch on it. So maybe not so much on Arte, but I just wanted to get your thoughts in terms of wound care given the importance of diabetic and venous leg also for you for that business?

In terms of CORI, quality is not something we're driving in isolation. At the end of the day, what matters to us is selling the portfolio that we have. We're very excited about the differentiation that we have across orthopedics but certainly was within knee. So the focus is on selling the portfolio, CORI, together the journey in legion. So it's that combination. So we're executing SxPlace that take into account our differentiation and where we think we can win. So our poor results are to be viewed in the context of the broader commercial execution improvements that we're making on the back of investments in innovation. So in terms of constructs, JOURNEY II, obviously, is exciting in terms of true next-gen knee construct that we have. We have some great differentiators of our own, CORI's the only robotics platform to have a revision indication, also the knee tensioner that we released recently on to CORI, enable surgeons to do soft tissue balancing before making Huright? CORI is the only platform that doesn't require imaging. And now with added functionality on CORI, the ability to do cutting SAW-based solutions on top of milling. All of these things come together for us to put together an attractive value proposition for our customers is selling the whole portfolio. So that's really the differentiator for us. In terms of GLP-1s and Wound, just narrowing in on say, diabetic foot ulcers, they're about, I think, about 20% of the wound market. And people who love diabetes with diabetic foot all sorts to take 10 to 15 years for these ulcers to manifest. And for this group, GLP-1s have been available for some good length of time already. And so these issues occur as a result of issues with glycemic control, not obesity per se. So some of the data that you're seeing on GLP-1 and obesity is not directly applicable to DFUs. So putting those things together, we don't expect a significant impact to our wound business as a result of GLP-1s or some of the new data that's coming at our GLP-1s.

We now turn to Graham Doyle with UBS.

So just from what you're saying, and obviously, you changed the guidance from at least 17.5% to around 17.5%. It kind of implies something like a 20 to 30 basis points lowering in that target, seemingly driven by China and some issues over a short period of months. So could you contextualize that because annualizing that would be kind of worrying when we think about next year. So maybe just contextualize what's actually happened there? And then how much is attributable to it? And I'll just follow up with the 2025 question after, if that's okay.

As we've mentioned, there's many moving parts. And the dynamics we've seen so far in the second half has been, as we described with our H1 results, driving productivity, driving the operating leverage. And what we're seeing now is the additional headwind from China to consider. When we gave the guidance, we did include some pre-VBP impact. But there are more moving parts at this point in time. And to your question, whilst we're working to offset the impacts of China, there's only so much that can be done within 1 quarter of the year remaining, and that's why we adjusted to around 17.5%. But clearly, we are still seeing the seasonality and the seasonally higher margin, the unwind of onetime commercial cost and the planned cost reductions coming through. And we should not forget that our Q4 is always the highest sales quarter as Deepak mentioned before. So clearly, we are working through and it's just 1 quarter that we cannot offset.

And in particular, we didn't signal 20 or 30 basis points. We just said around 17.5%, just to be clear, Graham. And as I mentioned, the VBP is something that we had anticipated. We called out kind of the 1.5% to 2% group sales. The added impact of the anticorruption campaign, we don't necessarily think that that's going to persist for an indefinite time frame. It's hard to tell how long that will last. So VBP, of course, is more permanent, but this impact of the addiction cash rate, we don't believe that will be the case. But in particular, we didn't signal 20 to 30 basis points just to be clear.

Just onto 2025, so I'm just thinking of the things that have changed from when you set that guidance at the start of the year is obviously VBP itself is new. And then it sounds to me, based on the original guidance, the margin base for the end of this year is going to be lower versus where you were originally. It sounded like when we talked, I think it was the Q1 call that the 20% target in 25% had fat or had excess in it. Would you be able to share with us the degree of space you have in that number because obviously, you're taking a kind of newer headwinds, but you still seem very confident on it. And it was something we said at Q1 as well, we talked about VBP. So would you be able to just to give us real confidence in how we think about modeling that. So we know that you've got numerous levers that could have theoretically gotten you to 21% or 22% and then we can kind of work back that way rather than starting at 20% as the optimum and sort of taking a headwinds of that?

When you put guidance out, you try to have some amount of contingencies built in to account of things for moving pieces. And so as I indicated in Q1, but really at H1 when the question came out based on what we knew at that point in time around VBP, which is really the only real big factor that's changed since we set out guidance, we believe that based on that, we could buffer through that and offset the expected headwinds from VBP. Even with the expanded scope that we see now, we expect to be able to offset that in the guidance and still achieve what we set out in the midterm. So that's the fundamental kind of assertion that we're making. There are other positive factors as well. So as I mentioned, the 12-point plan, we continue to make progress on. In some areas, we are ahead in other areas, we're just according to plan but we are not according to plan, but there are actually green shoots there as well. So we're actually pleased with the traction that we're getting with the 12-point plan. You've seen that translate into revenue growth. Q3 is further evidence of that. I do believe we'll continue to drive growth, and that should translate into operating leverage. In terms of inflation, anybody's guess as to how resistant that's going to be. Anne-Francoise mentioned the fact that there is latency, so there's about a year gap between when you see inflation start to recede from a macroeconomic perspective and how that enters into our P&L. So that's another kind of delta. We've assumed a certain level of persistent inflation actually into 2024 in terms of how our guidance is built. And I would say so far in 2023, you could probably surmise from our comments that inflation isn't worse than we modeled in terms of how it's impacting PFO. So those are some of the moving pieces that hopefully that gives you a bit of color.

Our next question comes from Hassan Al-Wakeel with Barclays.

Firstly, on VBP. You mentioned the scope is why they're now impacting 1.5% to 2% of sales versus 1% to 1.5% previously. Can you explain what is incremental here? And can you also talk about the extent to which you are seeing destocking in the channel, maybe help us by telling us what China joint repair was down by in the quarter? And then secondly, on growth, how do you think about the current procedural landscape in the U.S. and when this pent-up demand in the market may receive? Do you think that current market expectations for 5% organic growth at 120 basis points of margin expansion next year are achievable? And I guess, particularly on margin given the extra headwinds that you are talking about incrementally today.

So in terms of VBP, just to ground us and to reiterate what Anne-Francoise said, China cost us about 3 points of growth in joint repair in sports in this quarter. Let me talk about the impact on AET that isn't related to VBP, but that's related to the overall slowdown in the health care market, I think in part because of the decoption in Kapan. So in terms of the expanded scope, it's still very much an ongoing thing, Hassan. We expect another communication here, I think, in mid-November, that will spell out the categories. So still within joint repair, but it's just particular product categories within joint repairs. So it's not that AET is now in the mix where it was previously not. So it's really more product categories within joint repair that accounts for why it's bigger than we originally thought. But to ground us, it cost us about 3 points in Q3. So in terms of your question around how much destocking that we see in the channel, there's a couple of facts. So first of all, as we indicated, we do see that we have some experience with how orthoent to calibrate how to manage this with our distributors this time around. So what I can say is similar type of activities as we saw when orthopedics went at this point in the development of VBP. And it's hard to actually unpick that from what's going on in the market. There are some indications that as it pertains to sports, in particular, patients are waiting to have their procedures done post VBP because they're out of pocket pay would be lower. So there is some effect around that. And of course, I mentioned the overall health care market slowdown that impacted not just us orthopedics or sports, but just generally enhanced health care. So it can be difficult to unpick how much of this is VBP, how much of it is sports-related. Procedure slowdown in anticipation of VBP among patients and of course, the overall top care market. So those are the kind of different pieces to that.

It was around the current procedural landscape in the U.S. and then also expectations.

So procedure-wise, I think Q3 was another robust quarter but not nearly to the same level as that we could see as Q1 and Q2. So in terms of pent-up demand, for us, our growth is going to come primarily from improved commercial execution. A tailwind in the market will help but in the end, given where we are, given what our performance in the recent past in orthopedics has been what we're counting on and what our guidance is built on in is our ability to execute better commercially within an existing market. So by far, that will be the bigger driver for us. And in terms of the margin number you indicated, obviously, we're not going to be talking about 2024 guidance yet. We'll do that in February.

What's your current base case on when China anticorruption impact abates? What is the current margin effect, if at all? And to what extent could it impact your ability to hit 2025? I asked because you're talking about further headwinds today and at H1 results, your confidence around midterm margins was abundantly care?

So just to be clear, VBP as we envisioned it, even with the broader scope that we're getting indications of would still have us leading our midterm guidance where it is. The impact of anticorruption campaign, it's a bit hard to tell, Hassan. We are not counting on that being a persistent effect. In other words, BVP price reductions happen, and you're not expecting that to kind of be set. The additional headwind for the year is the impact around capital sales and to some extent, procedures based on the anticorruption campaign. So I was in China just about a week ago, the indications are that there is some improvement in procedures in September and the expectation is that it would get better in Q4, but it's hard to tell. It really is hard to tell how that's going to play out. But for what it's worth, we don't expect that to be a persistent effect into going into Q4 and beyond. And therefore, the impact on midterm margins that tape.

Our next question comes from Sezgi Ozener with HSBC.

First of all, in terms of the Korea expansion that we're seeing, which one do you feel like as the bigger of a driver like the larger indication of CORI or the lower pricing associated with CORI? And how do you see the client base responding to that, whether the peers free offering of CORI is a decision maker or whether the volume growth is more impactful. And second of all, if we circle back to the potential costs associated with the program, how confident are you that they will remain within the rem that you had announced so far and that we won't see any one-off costs coming from the program within the remainder of the year '23 and '25.

So in terms of CORI, as I mentioned, CORI is not in isolation. It's the package. It's CORI plus best-in-class implants, JOURNEY II best-in-class revision capabilities and so on and so forth. So it's not just CORI. But as it pertains to CORI itself, it's the form factor, that gives a broad appeal, not only in larger academic medical centers, but also importantly, in ASCs, where its form factor and its price, I think, is very attractive for that segment. As you mentioned, ACOI has some great features and benefits. There are indications that are only available on CORI at this point. So for example, a vision indication, the only robotic platform to offer that. You've got a great package combination of CORI plus revision implants that I think is very distinctive for us. In addition, the fact that it's a building based solution, but now recently, we've offered a cutting approach, a soft-based solution gives great flexibility to our surgeons. Currently, CORI doesn't require imaging. Our pipeline includes the ability to offer image-based solutions as well. So we'll talk more about that and meet the management session. And then I talked about the knee tensioner, CORI, is the only platform to offer the ability to do soft tissue balancing before doing cuts. And we believe that's a great addition. So you put these pieces together, you can talk about any one thing, right, but really the power is in the combination and the power is in the combination of CORI plus best-in-class implant portfolio. And that's really what I think will be the winner for us.