Stratec SE (SBS) Earnings Call Transcript & Summary

Ladies and gentlemen, welcome to the 43rd Annual JPMorgan Healthcare Conference. Introducing to you today, the CEO of Stratec, Marcus Wolfinger.

Thanks, Jake, and good morning, everyone. Welcome to the JPMorgan 2025 Healthcare Conference Presentation of Stratec. I think I don't need to walk you through the safe harbor statement and non-GAAP statement. Allow me to start briefly describing what we actually do because our business model to a certain extent, is unique in the industry. Often, we are confused with a CDMO as we do development and we do manufacturing work, and they'll never find a Stratec instrument out there. Certainly, some consumables are branded Stratec and some of our instruments, which are sold through distributors are Stratec branded instrument. However, we are fairly proud and I'll walk you briefly through our customers' list later on, who we work with and what we actually do for those companies. We are the leading OEM player for automated solutions in the diagnostics industry and translation industry. We put that translation -- sorry, translational research just to show that we are doing some work in the life science research arena, particularly this one generating multiplier downstream. Three decades of peering in those highly regulated market let us to not only a huge installed base of instruments, which are generating recurring revenues downstream. It makes us unique from the perspective that we can develop instruments for our partners, which are then labeled for our partners under the name of our partners, which are getting to the market within an acceptable time to market under an umbrella tackling cost of goods to the extent that we -- that our offering can be better positioned than doing things internally. And again, I'll get you some details downstream. And that helps us to get in charge and continue to be in charge for the entire product life cycle of those products. We are headquartered in Germany. Majority of manufacturing happens in Eastern Europe, and we have a design and manufacturing site for consumables in the United States as well. Today -- and this is a matter of, let me say, a derivative of the connectivity of our instrument and digitalization ongoing in this industry. We know that we have about 15,000 medium to high throughput analyzers out there running and about 40,000 low-throughput analyzers. We put some pictures here on the right-hand side and some of the brands and some of the customers will ring a bell if you look into the details. In 2023, after super successful years during COVID-19, particularly driven by our exposure to the molecular markets, we already ran flat in 2023. And for 2024, we have actually forecasted to run flat top line as well. And, we are super confident that we'll keep our guidance. Again, I'll dive into details downstream. Split, revenue split is changing. Historically, we are coming from about 55% system sales, about 35% sales of consumables, maintenance parts and service parts, and development used to be about 10%, up to 15%. And -- but we think that this dynamic change on the development side will continue to be in place as we see it here. As a matter of fact in times where we cannot achieve scalability in manufacturing as a producing company, certainly, it shows that our partners are willing to fund development work, which keeps the products young, which is starting -- or commencing next-generation development programs and so on. And I think that the recognition of revenues for development will continue to be in the area of those 15% to 20%. We have a unique position within the value chain, talking about our customers. We do OEM development and manufacturing. I think key here is that everybody tries to get a reliable and robust solution to the market. Using background technologies, which have been developed over the past 10 and 15 years are helping us to achieve that goal. Although the instruments are labeled under our customers' name, it is important to understand that we are using technologies, components and modules, which are helping our partners to get those solutions within an acceptable time frame and for an acceptable total cost of ownership to the market. This wide range of intellectual property rights is not there in order to keep others out of the market or to help us to defend in certain situations. Actually, it's there, to guarantee our partners' freedom to operate and use background technologies to accelerate development work. We continue to be in charge for those products over the entire product life cycle. It starts with a requirement and specification phase going through prototyping, development work, initial program management and then until the end of the product life cycle after a phase of up to 20 years with the sun setting phase where we continue to be in charge for the supply of consumables and certainly maintenance and spare parts. But certainly, it is and it's become a bigger and bigger challenge to keep those products young and tackle obsolescence management. Again, I'll dive into details downstream. This long-term activities together with our partners are covered by a long-term contractual setup. During the design phase, we often collect milestone payments, which are literally for the customization and adopting of our background technology according to the mutually agreed upon specifications with our partners. And then operating sales, which can be perceived as recurring revenues because of our partners together with us are approving the solution in front of the regulators. It typically means that they cannot simply walk away or replace us. It means that as soon as such a solution is approved that we typically sell the instruments and the consumables for a period, as you can see in that Slide 4, up to 15, 20 years. So recurring revenues per definition, like plastic maintenance parts, service parts and so one are covering or amounting to about 30%, 35% of revenues. If we include the instrument, certainly the recurring part gets bigger and bigger. And that helps us to assess our growth and the robustness of the company downstream for at least 10 years. We have a really well-established development and deal pipeline, which means -- still means like the lineup of new programs we are putting in the development or those ones which are already contracted with our partners and are hitting the market in the next 3 to 4 years. I'll talk about this line up a little bit later. Talking about the IVD segments we are working in. I mentioned that we had very nice tailwinds during COVID-19. Our molecular franchise is our biggest one, mainly with random access analyzers for a variety of companies and some of the consumables are coming in the area as well. Certainly, point-of-care devices are playing a more and more important role if you listen to some of the companies presenting here particularly for the decentralization in the United States, certainly point-of-care is becoming more and more interesting. Outside the United States, it's a little bit of different picture here. We are mainly working in the immunoassay market -- touch base on the other markets as well. Again, mainly random access analyzers from mid- to high throughputs, more classical consumables and some smart consumables as well. We have a very vital hematology business and other routine testing applications, which includes veterinary testing and certainly, again, mainly for decentralization. Further areas and focus areas are certainly immune hematology, where we are working with the leading companies in the space. And particularly, if you are looking into the exposure on the development side, certainly, immune hematology is playing a very important role in today's resource allocation on the development side. Complex Sample Prep is an area where we feel very comfortable and where we are doing a lot. Talking about the outsourcing trend, I think it is important to understand that literally, everyone within the top 20 in the IVD and life science space, thus outsourcing to a certain degree, but not necessarily having the same understanding of outsourcing. Some companies are doing vertical outsourcing. Some people are doing more like horizontal outsourcing. I think our business model is flexible enough to make sure that we can work with the majority of the players within the top 20 in the diagnostic space and certainly with the leading players generating multipliers in the life science arena, in lab automation as well. The trend to outsourcing towards specialized player is certainly driven by the fact that getting a new platform to the market means an investment for our partners in the area of EUR 100 million to EUR 200 million. So they need to make sure that they have all the specializing disciplines on board, which is helping us to get our business model through that we develop those instruments, but continue to be in charge the manufacturing as well. Short development time frames and based on already existing technology is certainly something which helps from that regard very much. And certainly, regulatory is playing a major role. One of the material hurdles in our industry is certainly not only getting the products through the regulators, but maintaining regulatory compliance. And for our partners in the IVD space, it's certainly us handling the regulators as far as instrumentation is concerned. All those progress is helping our customers in order to really keep costs and total cost of ownership under control, covering the entire product life cycle, which becomes more and more challenged, particularly after COVID-19, where we clearly saw the trend that the product life cycles on the output side are getting longer and longer, whereas on the input side, the product life cycles are getting shorter and shorter, which led to huge efforts on obsolescence management and product life cycle management. So at this moment in time, between 1/4 and 1/3 of our developers are allocated in keeping those products young and that's actually reflected in the growing development revenues covered by our customers. Let me add you through our strong recurring revenue base. I talked about instruments, particularly the high throughput analyzer systems, where we have an installed base of about 15,000 with a very robust development. Installed base in our so-called Diatron business, which is low throughput analyzers, mainly benchtop analyzers, is nicely growing, service parts business, and I already talked about that coming from about 30%, now to 37%, which is helping us to keep our margin levels where they used to be. So certainly, as everyone in the industry, we are trying to get our margins back where they used to be in pre-COVID setup. We think we can achieve that over the next 3 years, but therefore, we have to say that we are very well prepared in order to cover the rebound of the market. On the other side, at this moment in time, we are lacking any scalabilities in manufacturing. So in order to improve our margin profile, volume has to come back. We are very well prepared for that. Our service parts and maintenance business at this moment in time, 37% of sales, mainly consisting out of service parts, maintenance parts, classical plastic consumables and smart plastic consumables. I'll dive into detail what that actually means. We put the slide in order to show you what we are actually working with. This is actually the compilation of our diagnostics customer base. Those ones indicated in dark gray are those ones we are working with in the top 20. Those ones in bright gray are those ones which are the white spot on our landscape. We didn't put that in just to show you that we are really working with 14 or 15 out of the top 20. This is to illustrate how this industry actually works. Let me say, the top 7 are those companies which would never outsource their core products to a company like Stratec. However, they have big enough niche products and niche pipelines and actually niche business. If we do the instrumentation and the consumable work for those companies for their niche product, it's still offers a vital base. Biggest customers are actually sitting in the lower 2/3 of this industry, where we really do the core products, but doing a core product for a market leader in a certain space like immunoassay or in molecular, that provides the real volume. And our third area of exposure in this industry is certainly the technology leaders and the technological pioneers and we just put 2 customers of ours here. These are companies which are not yet top 20 companies, most likely some of them may become top 20. Other ones, actually bringing their exposure into bigger companies. However, it is important for us to work with the innovation leaders as well, in order to make sure that we continue to understand the spare technologies in this industry, which will play a role in the years to come. We -- within our strategic road map, besides operational excellence and getting back to pre-COVID margin, certainly, we have a technological pillar as well. And within the technological pillar, we have certainly focus areas. And we took that opportunity to put a couple of those focus areas into that presentation, just showing you that we are not doing vital business for this industry in areas like molecular, immunoassay, which is more classical. And if you would see the product portfolios of our customers, this is really how they generate revenues. So yesterday, there were a presentation of our most important customer, he clearly said that they are looking into those 25% of what we would call spare technologies. However, they are generating 75% of their revenues with products, which are going back into design methods and technical applications, invented 15 and 10 years where we provide the instrumentation today. So it's tough for us to talk about those products which are pipeline. That's why we put that in just to show you what we actually do in the development and in our strategical work. One of those being high-sensitive immunoassays where we already have an extremely well-established footprint with high multiplexing applications up to the full proteome, single molecule detection. I'm sure you know who I'm talking to and high throughputs for rare biomarker screening, particularly tackling neurodegenerative diseases. What do we actually do and how can we capitalize? We have a dominant position. At this moment in time, we have 3 material development programs or supply programs where we are working actually in that area. And this is certainly an area how the product life cycles of immunoassays can be materially in it, mixing more like classical immunoassays and dose high-sensitive immunoassays. Same thing allies for advanced imaging, which actually takes advantage of a technology where we have well-established methods and modules already available, which is the automation of digital imaging, allowing for a combination of using the traditional stains and with custom fluorescent labels. Sample prep is actually allowing for a higher degree of flexibility. How can we capitalize? Obviously, the use of what we call common modules, which is existing technology with proven reliability, which can be used across different platforms. This is what we bring in together with the methods coming from our customers. And actually, this is an area which is of high focus for Stratec because going direct here would theoretically be feasible because we wouldn't step on our customers' toes. Addressing the total market, you can see nice growth rates foreseen for the next years to come, particularly in the microscopy space where camera-based technologies and AI-driven interpretation methods are actually playing a material role. Talking about AI in our industry. I think looking into the details and listening to the presentation. This is on everybody's list. I just want to mention that if we are looking in the applications, we have brought to the market already in 2017. Stratec had certain applications on the market when those large modules haven't been in everybody's mind where we use AI technologies. In the meantime, we have 8 applications, which are actually using AI technologies. So this is something where we have a well-established understanding and which are used not only in -- which is used not only in development but even within our products, which is not quite common and hasn't been common at the time. A strong software team, including data scientists to exploit this AI-enabled Webflows. Webflow is actually something which is particularly in this field a very important technological setup, which has to be offered by companies like Stratec. Cell and gene therapy is a little bit further outside. So cell isolation and [ transfection ] is actually something where we have a good understanding of what's going on. We are starting to establish partnerships here with our partners. And the technologies we have available are helping us to accelerate in this area as well. Again, I just wanted to walk you through 3 of those focus areas just showing what we are actually doing in development. Switching to finances. I mentioned that we are a little bit an atypical company, particularly talking about pre-COVID phase and post-COVID phase. You probably saw some presentations where our partners were actually comparing 2019 revenues to 2023 and 2024 revenues. We still put the progression in we made. We certainly for us, as we are providing instrumentation and consumables which were not exclusively for COVID-19. That's why it is a little bit more difficult for us to offset COVID-19 revenues as an example. Our instruments can perform all infectious diseases, COVID-19 being one of them. That's why we cannot simply exclude COVID revenues. As a matter of we believe particularly driven by our molecular exposure that during COVID-19. In total, we had tailwinds of about 30% in headwinds in other areas like immunehematology of about 10, netting out to 20%. So still, if we compare revenue levels of 2019 to 2023, this is a 22% growth rate still compound annual growth rate north of $0.04, which I think in our situation is worth mentioning it. On the EBIT side, certainly, I mentioned that already. We took the hit already in 2023, where we established an earnings improvement program with -- where we are maintaining strict cost discipline. On the other side, certainly, we did not stop investing into R&D or investing into sales activities which is important, not only to tackle what's already contracted and those products, which are actually pipelined for the next 3, 4, 5 years by talking about the next 10 years, as well. This continues to be super important, not only developing products, but developing technologies as well. Nine months were disappointing for all of us after a very strong first half of the year. I'll touch base on the fourth quarter as well. Super dynamic, still affected -- sales dynamic still affected by the low down demand of the molecular system and postponement of some deliveries in certain areas where supplies were pushed out to Q4 and fiscal year 2025. I think it is worth mentioning that Q4 was one of the strongest and certainly the strongest quarters in the company's history for certain KPIs. On a full year basis, Stratec generated about north of EUR 40 million operational cash flows on a full year basis 2024, and free cash flows of EUR 25 million on a full year basis. And having the data points in mind for H1 and Q3, you see that Q4 was actually super successful. Efficiency measures and structural improvements are unfolding momentum now. The gross margin after 9 months are up year-over-year. Q4 even further acceleration despite the lower economies of scale and still sub-optimal product mix. At this moment in time, our high-margin products are selling at a lower point, whereas we are really showing good sales at our low margin. So at this moment in time, the exact opposite happened as compared to COVID-19, where our high-margin products were the high runners. At this point, the product mix is not yet in our favor. But as I've mentioned, we are very well prepared to actually tackle the rebound of the market. Strengthening our market position in Asia Pacific. I know there were really good discussions about China. Here at this conference, what we clearly see is that this is getting more and more black and white. Some of our customers really see the ongoing activities in China as a real chance. Others are trying to accelerate the declining exposure to the Chinese market. I think everybody is trying to keep the risk under control, and we are actually following our customers here. We are trying to reduce our risk exposure in China on the other side, particularly for the niche players in specialties or those ones having a strong partner in China, those companies continue to do relatively good business, and we help our partners to keep things under control. Some finances, and again, I don't want to walk you through that. This is Q3. We haven't reported Q4 yet. Some declines, although we have guided top line flat and bottom line flat, keeping costs under control, maintaining cost discipline. This is the thing here. Sales development, after 9 months, tailwinds coming from the lower pandemic-related demands for molecular solutions. In some areas, the weakness of the market is clearly showing here. Then certainly flatter than extended ramp-up phase of flatter than expected ramp-up phase of certain products. During COVID-19, we're trying to get the following message across. I think it is obvious that everybody understood that those products, which outperformed the market during COVID-19 will dip after COVID-19. At the time, we had a very strong launch and design pipeline where the products hit at the market either right before COVID-19 or during COVID-19 or right after COVID-19. In our strategic planning, we believe that dip of the particularly molecular products after COVID-19 could be offset by those new products. Unfortunately, some of those products are showing a flatter-than-expected ramp-up curve. However, with the rebound of the market, this product will certainly lead to that growth we are expecting and may probably accelerate growth north of the expectations we have and the market actually has. Some deliveries has been pushed out from H1 into H2 and from Q3 into Q4 and even into 2025. Some of them actually could be delivered. We were talking about additional businesses in the calls regarding our Q3 disclosure. We could take advantage of these additional businesses. Everything got contracted, got supplied. So that's why we are extremely positive that we hit our guidance for 2024. We see a super healthy demand for our service parts and consumables, which taking or considering all other activities we have. We have to see that in times where the market is showing certain uncertainties, whereas our customers continue to get back on the growth [indiscernible] and in terms of the content they are selling. Certainly, the equipment gets behind the -- this is where we actually are -- our partners, the majority of our partners actually showed good progression in the second half of the year, particularly in Q4 with selling content whereas the equipment is -- has a slight time shift behind. That's why we are extremely positive that this KPI of healthy demand for service parts and spare parts in consumable is a good indication how instrumentation and equipment sales will develop in 2025. And we definitely showed a moderate increase in development and service revenues, which is actually going in the same direction. This is the moment in time where our partners are shying a little bit away from those $200 million contracts where they are going more into bits and pieces, and that's actually reflected in the way how we recognize development revenues. EBIT margin, same thing. Efficiency measures and structural changes are actually showing good traction, stabilizing EBIT margin. I mentioned that now a couple of times that we are expecting the rebound of the market and the structural improvements we have actually established will help us to -- as soon as the market comes back and we're showing this rebound that our margin levels has the chance to get back to a prehistorical or pre-COVID levels like where we have a historical EBIT margin in the area of 15 plus/minus percent. Lower earnings contribution is coming from recognition of development revenues in Q3 '24 versus Q3 '23. That's actually reflected here as well. Cash flow. And I mentioned, we had super strong cash flows in H1. Q3 didn't work out as expected. I mentioned that some shipments were delayed and so on. However, and I mentioned that already on a full year basis, we could expect operational cash flows in the area of EUR 40 million free cash flow in the area of EUR 25 million on a full year basis. Comparing this to the 9-month data, it shows how strong Q4 actually was. Some further financials, and we talked about that, and I'll try to keep this short. We definitely see a dynamic change in the way how instruments are contributing to the overall revenues as compared to development in services. We think that development and services cannot continue to stay on that level. However, with the rebound of the market, probably instrumentation sales can get back in the area of 50% of revenues and development between 15% and 20%. This is what we expect long term. Financial guidance for '24. This is my last slide. Sales is expected to remain stable or slight decline. I mentioned we brought in all those deals which were very promising at the beginning of Q4. Super strong cash flow during Q4. That's why we are fairly confident that we hit that guidance. Adjusted EBIT margin in the area of 10% to 12%. I think it was obvious that we will end up somehow in the area where we were 2023 with all those measures established on the one hand side, but certainly, like I mentioned, lack of scalability in mentoring is definitely not contributing positively to our margin levels. This gets me to the end of the presentation. Focus for the next quarter is definitely to manage and process M&A opportunities. Our last transaction was the Natech transaction about 2 years ago, where -- which actually was at the beginning of the supply crisis and of the weakness of the market. So probably a little bit weak timing. However, the way how things are progressing, is going in the right direction. It helps us very much with our footprint in the United States for the more complex consumables, and this is where we actually are. We are going to maintain cost discipline throughout the company given the earnings improvement measures we have established already at the beginning of 2023 without. And I want to like to mention that, again, we are not cutting investments into R&D, not cutting investments into our sales pipeline. This is how we maintain the way how we think the future of the company will be established with state-of-the-art technologies going forward as in OEM outsourcing with -- together with our partners. Then certainly, and I mentioned that talking about our strategic pillars to grow our footprint in selected focus areas, executed deal pipeline with those ongoing negotiations and feasibility studies and certainly, continuing to leverage the combination of both Stratec consumables and Natech. It is perceived by our customers has a clear advantage of our business model that we are offering instrumentation work, software work, digitalization processes as well as consumables coming from out of one hand, which is helping our customers to reduce our exposure in those areas we have a combined work. That gets me to the end of the presentation. And I think this commences the Q&A session, right?

So any questions from the audience? I'll ask a couple from the iPad as well. So first, I've got here. Full year guidance 2024 implies a strong sequential improvement in business dynamics in Q4 '24. In your latest earnings call, you mentioned some additional business and catch-up effects. Has this played out in the last couple of months?

So let me start from the angle I was trying to describe what we actually do technologically in order to address the markets properly. So certainly, for us, it is important that in certain areas, we have products which are actually working as the openers. Particularly from a Stratec prospective, this happens through our very vital consumables business. On the instrumentation side, certainly at this moment in time, we are doing very well with customers, which are either standing in front of a generation shift for their products or keeping our product life cycles fairly young. We prefer to work with partners who are typically not developing their content in parallel to instrumentation and consumable work because this often means a lot of iterations. And from that perspective, I think it is important to understand that our partners are relying on us as far as instrumentation work is concerned. The same applies for consumables. And I hope that gets to that point, right?

Any questions from the audience? I've got one more here. So you've launched a few products in the last few years. Could you give us an update on the ramp-up phases of these new projects?

Yes. I was trying to get that across in the course of the presentation. During COVID-19, I think it was clear to everyone in the industry as well as looking into the Stratec product mix that those products, which had those nice tailwinds during COVID-19 will dip out after COVID-19. And I mentioned that we had a nice product pipeline like for Complex Sample Prep or for smaller solutions in immunoassay or even in PCR, where we had a nice lineup of products which were either launched during COVID-19 or right after, where we believed at the time that they might offset that dip of the molecular products with those new product launches. Unfortunately, and that mainly reflects the weakness of the market in the equipment business at this moment in time that these products are still underperforming. However, the setup is with the biggest and most successful companies in this industry. So there is no doubt that as soon as we see this rebound of the market, this product will actually help us to accelerate top line certainly then drive scalability in manufacturing, whereas we are expecting a healthy recount or recovery of those products where the market is at this moment in time, saturated with capacities built during COVID-19, where the market only has to grow in the capacities available at this moment in time. But as mentioned, looking into the run rate of our customers looking into the leads and forecast of our customer, looking into the way how we -- how our maintenance parts business and our consumer business accelerates, I think it's a good indication to expect that rebound of the market to happen not only in 2 or 3 years. Certainly, it is too early to say will this rebound happen for Stratec next year or only in 2026. However, we have these indications, we have these KPIs, we have this access to the instrument, and we see what's going on. We see the utilization coming back. So it's only a question of time and not a question of if that the rebound will happen. When it happens, we are prepared for it.

Maybe one just on the smart consumables business there. Can you please elaborate a little bit more on the smart consumables business? What's driving demand for these complex consumables? And what's the most promising market segments?

Absolutely. So actually, when we were discussing our entry in the smart consumables market, we actually had access to information and surveys at the time which clearly showed that about 90% to 95% of the smart consumables work is -- or was done, which is a couple of years ago -- was done by the parties offering the actual solution. So they did things internally, obviously. But obviously, with a very dynamic change in technologies, moving away from cartridges with a high degree of mechanics applied within those cartridges and moving more into in the 2-dimensional space where metering, just as an example, happens in the consumable where several process steps are happening in those consumables. I think it's obvious that our partners need partners, not only for the design of those products, but particularly for manufacturing where we have everything available in order to scale up the products. I think at this moment in time, it's obvious that for those players, and I'm not talking about those BioFires or bioMerieux or those Cepheids of the world. I'm talking about those companies following those market-leading companies that they have to invest into technology. They have to invest in to scale up and at this moment in time, scaling up manufacturing achieving an attractive price point on low volumes, but still with the ability to scale up manufacturing. This is actually where we believe the market goes. And that was, at the time, one of the motivations to invest in that market, and we are actually starting to harvest what happened at the time. So at this moment in time, not only -- not yet from an earnings perspective, but certainly from a growth perspective, our consumables and smart consumables business is part of the strategical exposure. We are manuring ourselves into and is actually showing accretiveness already.

Great. I think that's it. Thank you very much.

Thank you.