Avantor, Inc. Q3 FY2020 Earnings Call

Ladies and gentlemen, thank you for standing by and welcome to the Avantor Third Quarter 2020 Earnings Conference Call. At this time, all participants are in a listen-only mode. After the speakers' presentation, we will have a question-and-answer session. Please be advised that today's conference is being recorded. Thank you. You may begin.

Thank you, operator, and good morning, everyone. Thank you for joining us on today's call. We made the decision to accelerate the timing of our earnings release and conference call to coincide with our debt offering. We appreciate the flexibility in joining us this morning. Our speakers today are Michael Stubblefield, President and Chief Executive Officer; and Tom Szlosek, Executive Vice President and Chief Financial Officer. The press release and a presentation accompanying this call are available on our investor website. A replay of this webcast will be made available on our website after the call. Following our prepared remarks, we will open the line for questions. I would like to note that we will be making forward-looking statements within the meaning of the federal securities laws, including statements regarding events or developments that we believe or anticipate may occur in the future. These forward-looking statements are subject to a number of risks and uncertainties, including those that are set forth in our SEC filing. Actual results might differ materially from any forward-looking statements that we make today. These forward-looking statements speak only as of the date that they are made, and we do not assume any obligation to update these forward-looking statements. This call will include a discussion of non-GAAP measures. A reconciliation of these non-GAAP measures can be found in the appendix to the presentation. With that, I'd like to turn the call over to Michael.

Thanks, Tommy. I'm starting on Slide three with a brief review of Avantor's revenue profile. Avantor is uniquely positioned to offer complete solutions for many scientific workflows. We are among the most recognized and trusted global providers of products and services to the life science and advanced technology industries, and our portfolio is used in virtually every stage of the research, development, and production activities our global customers conduct. Our business model is very resilient due to our consumables-driven portfolio and highly recurring revenue base. Approximately half of our revenue comes from proprietary branded products and services, and no single customer represents more than 3% of our revenue. Approximately two-thirds of our revenue is in attractive life science end markets, including significant exposure to the bioproduction space. We are well positioned for continued growth in Europe and the Americas, and we are investing to expand our capabilities in emerging markets throughout Asia, the Middle East, and Africa. Moving to Slide four. Here are the third-quarter business highlights. The team continues to execute extremely well in a challenging environment. We grew our top line more than 5% organically, expanded margins by more than 100 basis points, increased earnings per share by more than 60%, and generated $266 million in free cash flow. I will cover these results in more detail on the next slide. Serving our customers and supporting them in their mission-critical work remains a top priority for us and one of our core values. Fortunately, all of our distribution, research, and manufacturing sites have remained fully operational, and we've been able to leverage our global scale and footprint to maintain supply to our customers throughout the pandemic. Bringing innovation and developing new workflow solutions is another important element of our customer-centric business model. During the third quarter, we launched multiple products to enhance our biopharma offering, each one creating significant value for our customers. For example, we expanded our single-use portfolio with the addition of new 2D single-use bags, demonstrating our commitment to ensuring our customers have a complete range of packaging options available to meet their needs. We expanded our large-scale direct dispense packaging offerings, significantly reducing customer processing time and minimizing contamination risk. Our OmniTop Adjustable Volume Sterile Sampling solution enables precise sample collection at very low volumes and also minimizes contamination risk, a particular benefit for our cell and gene therapy customers. We also launched J.T.Baker cGMP grade IPTG, a molecular reagent used by our bioproduction customers to trigger transcription and increase protein expression. We are in the midst of commissioning our new biorepository site in Germany and expect to receive our first samples before the end of the month. With 40,000 square feet of temperature and humidity controlled space, this new facility will complement our existing biorepository and archiving capacity in Europe, enabling us to serve the growing clinical trial support needs of our biopharma, pharma, and CRO customers. Avantor is a critical player in the COVID-19 vaccine and therapy supply chain, and we continue to collaborate closely with biopharma customers and relevant governmental authorities around the world, including representatives from Operation Warp Speed. Our extensive portfolio of products and workflow solutions to support patient testing, research and development, clinical trial services, and ultimately, the production of approved treatments and vaccines make Avantor an important partner during this unprecedented time. We're actively supporting multiple technologies in each of the key vaccine modalities and are making the appropriate investments to increase our cleanroom and manufacturing capacity to enable us to ramp production to support the commercial production of any approved vaccines. Our mission of setting science in motion to create a better world has never mattered more. Turning to Slide five of the presentation, I'd like to review our financial results in more detail. Organic revenues increased 5.4%, reflecting 300 to 400 basis points of COVID-19 tailwinds, improvements in all of our end markets, and low single-digit growth of our base business. Performance was once again headlined by biopharma, which grew by double digits in the quarter. As complexity in drug development grows, and drugs increasingly become defined by the process, not the product, our comprehensive portfolio of raw materials, production technologies, and innovation capabilities position us to excel in this space. Our strong performance in the third quarter is indicative of the value we offer through our ability to collaborate directly with customers to characterize and scale up their formulations. Also, we experienced strong double-digit growth in healthcare, driven by strength in hospital and clinical reference labs. Adjusted EBITDA in the quarter was up approximately 14% or more than 2.5 times our revenue growth, and adjusted earnings per share increased approximately 63% to $0.24. We also continue to make good traction on tax planning and now forecast a full-year effective tax rate of 24%. We continue to generate strong free cash flow through solid operational performance and working capital discipline. We generated $266 million in the quarter, an increase of 44% compared to the same quarter last year, and we are on track to generate more than $700 million in free cash flow for the full year, well above our initial full-year guidance. This will enable ongoing reduction in our net leverage to approximately four times EBITDA by year-end, down from 4.6 times at the beginning of the year. Our results reflect our attractive end market exposure, our highly recurring revenue base, trusted and collaborative customer relationships, and our strong culture of execution, enabled by the Avantor Business System, which underpins everything we do. With that, let me turn it over to Tom.

Thank you, Michael, and good morning, everyone. Let's start on Slide six. Organic revenues increased 5.4% in the quarter, which, as Michael mentioned, includes approximately 300 to 400 basis points of tailwinds from COVID-19 related items. Similar to the second quarter, diagnostic testing solutions drove approximately half of this benefit, with the balance equally represented by sales of personal protective equipment and biopharma production materials, including those to support vaccine and therapy development. Recall in our Q2 earnings release, we indicated an expectation for growth in July of flat to low single digits. We achieved low single digits, and momentum built over the quarter. Looking at growth from a regional perspective, Americas, which represents approximately 60% of global sales, reported 4% organic revenue growth, a big improvement from the Q2 decline of nearly 7%. We experienced market improvements across all end markets, highlighted by high-single-digit growth in biopharma, including double-digit growth in biopharma production and greater than 20% growth in healthcare, driven by hospitals and clinical reference lab customers, despite continued year-over-year declines in elective procedures. The declines in education moderated significantly, although lab and school closures continue to drive overall negative growth. The government business was strong with mid-teens growth, and advanced technology and applied materials improved to roughly flat year-over-year. Europe, which represents approximately 35% of global sales, reported 7.2% organic revenue growth, also a big improvement from the 3% growth in the second quarter. Similar to the second quarter, biopharma grew close to 20%, which included over 40% growth in biopharma production. Healthcare improved from flattish in the second quarter to high single digits in the third quarter. Education was flat, but this actually marked a strong sequential improvement of over 1,000 basis points from the second quarter. Government grew double digits. Advanced technologies and applied materials also improved from the second quarter, declining mid-single digits in the third quarter, impacted by continued industrial weakness. AMEA, representing 5% of global sales, reported a 9.4% organic revenue increase driven by biopharma and government sales, offset by continued COVID-19 headwind in our Indian diagnostics platform and advanced technology and applied materials end markets. Slide seven shows our organic revenue growth by end market and product group for the quarter. Biopharma, representing approximately 50% of our revenue, experienced low teens organic revenue growth, building on the high single-digit growth in the second quarter. Strength came from our biopharma production platform, including single-use solutions, production chemicals, and personal protective equipment. Healthcare, which represents approximately 10% of our revenue, also increased double digits organically in the third quarter. Strength was driven by new customer wins and continued COVID testing strength, offset by ongoing elective procedure weakness. Education and government, representing approximately 15% of our revenue, experienced mid-single-digit organic revenue decline as compared to the second quarter declines of over 20%. Headwinds driven by full or partial site closures at academic labs and schools have moderated, and we remain cautiously optimistic on improvements for the balance of the year. Advanced technologies and applied materials, representing approximately 25% of our revenue, experienced low single-digit organic revenue decline as compared to the second quarter mid-single-digit declines. Modest sequential improvements were experienced in our Americas defense, Europe microelectronics, and global food and beverage businesses. By product group, proprietary materials and consumables experienced double-digit growth, with strength in the Americas and AMEA. Services and specialty procurement increased high single digits driven by ongoing clinical services strength and improved equipment services as customer sites continued to reopen. Equipment and instrumentation were down mid-single digits, reflecting ongoing capex investment declines. However, these declines are moderating, and we actually improved over 15% from the second quarter to the third quarter. Looking ahead to October, we expect organic revenues to be up approximately mid- to high-single digits. However, we are cautious in projecting these October trends over the full quarter, given the ongoing limited forward visibility and uncertainty in the macro environment. Our biopharma momentum is expected to continue. In the education and government end market, we forecast modest improvements as lab sites continue to gradually reopen. In healthcare, COVID-related tailwinds should continue and offset the adverse impact from elective procedure weakness. Finally, our advanced technologies and applied materials business is expected to experience modest fourth quarter declines.

Turning to Slide eight. Let me start with our third quarter adjusted EBITDA. We achieved approximately 14% growth in adjusted EBITDA and 112 basis points of margin expansion. Key drivers of the performance were commercial excellence, volume growth, favorable mix, including strong growth in biopharma production and proprietary offerings, and continued discretionary cost containment, all offset by material inflation. While the factors driving strong adjusted EBITDA margin expansion year-to-date are expected to continue, we are facing a difficult prior year comparison in the fourth quarter of 2019 of 130 basis points of margin expansion. Consequently, the fourth-quarter 2020 margin expansion may be more moderate compared to the 80 basis points of expansion we have driven through the first three quarters of the year. Free cash flow continues to be strong with $266 million in the third quarter, reflecting stronger adjusted EBITDA, better working capital performance, and lower tax payments, offset by the unfavorable timing of interest payments, which will be an upside to our fourth quarter cash flows. Normalizing this timing, free cash flow would have been $319 million. Year-to-date free cash flow generation stands at $582 million, and we are now on track to achieve free cash flow exceeding $700 million in 2020. Finally, we achieved approximately 63% growth in our adjusted earnings per share for the quarter, primarily reflecting strong operating performance, the ongoing reduction in interest expense from our deleveraging and refinancing, and the improvement in our income tax rate. We continue to make progress with respect to income tax planning and now expect a full year effective tax rate of approximately 24%. Year-to-date, for 2020, we grew our adjusted earnings per share approximately 53% to $0.60 per share.

Slide nine has our segment results. Americas reported a 21.4% adjusted EBITDA margin rate, a 152 basis point improvement as compared to the third quarter of 2019. Key drivers include commercial excellence, volume growth, favorable mix driven by a higher proportion of growth in proprietary materials and consumables, productivity, and strong discretionary cost containment. Year-to-date 2020 adjusted EBITDA margin expanded 173 basis points in the Americas. Europe reported a 17.5% adjusted EBITDA margin rate, a 73 basis point improvement as compared to the third quarter of 2019. Key drivers include commercial excellence, volume growth, productivity, and strong discretionary cost containment, offsetting unfavorable mix and inflation. Year-to-date 2020 adjusted EBITDA margin has expanded 76 basis points. AMEA reported a 22.7% adjusted EBITDA margin rate, a 380 basis point improvement as compared to the third quarter of 2019. Key drivers include volume growth, better supply chain performance, and strong discretionary cost containment. Year-to-date 2020 adjusted EBITDA margin expanded 88 basis points for AMEA. This concludes my prepared remarks. I'll now hand it back over to Michael.

Thanks, Tom. I'm on Slide 10. We executed well in a challenging environment, and our top line performance, strong EBITDA and adjusted earnings per share, and outstanding cash generation reflect the resiliency of our business model, the value of our highly recurring revenue base, broad mission-critical product portfolio, and exposure to attractive end markets like biopharma. While the uncertainty associated with the current pandemic continues, our business remains strong, and we're committed to our role in combating COVID-19 by supporting our customers' ongoing initiatives in testing, vaccine and therapy development, and ultimately, the production of approved treatments. Reflecting our relevance in this critical endeavor, our bioproduction order book has more than doubled, and we are actively investing to capture this opportunity. The potential to achieve life sciences breakthroughs has never been greater. We remain steadfast in our focus on executing our long-term growth strategy and are optimistic about our future. I want to thank you for your interest and investment in Avantor and for your ongoing support. I will now turn it over to the operator to begin the question-and-answer portion of our call.

Our first question comes from Tycho Peterson with JPMorgan.

Hey, good morning. Michael, I'm just wondering if you could comment on why the COVID tailwinds moderated this quarter relative to last quarter. Is that just the timing of some of the vaccine campaigns? And should we assume that three quarters of it was testing in PPE, like it was last quarter? Or was there any mix shift there?

Yes, good morning Tycho. Thanks for joining the call today. As we mentioned in Tom's remarks, roughly half of the tailwinds are linked to testing. And I think as we've said earlier in the quarter, we saw somewhat of a moderation in testing in the early part of the summer, particularly in July and August, and we saw an acceleration back in September. But on a full quarter basis, testing tailwinds for us were somewhat moderated relative to what we saw in the second quarter. Similar dynamic for PPE, where the tailwind wasn't quite as strong. A piece of that is the continued supply constraints that certain elements of that portfolio continue to endure. And for us, the acceleration on the vaccine piece really won't come in a meaningful way until there is an approved treatment. We've been supporting the process developments and the clinical trials, but you're talking tens of thousands of doses at that scale. And as we look forward to an eventual approval, you're obviously then moving into the millions and presumably billions of doses. So the tailwinds will shift as we move into a phase of an approved treatment.

And then on the end markets, on biopharma, obviously, great strength there. You talked a lot about bioprocess. Can you talk on the R&D side, the pharma R&D piece that's still there to your revenues? And any thoughts on 4Q budgets? The last we've heard, some of your peers kind of talked that down. And I know overall equipment was down mid-single digits. So is there any hope equipment could recover in the fourth quarter?

We don't have a lot of visibility. We were encouraged as we saw equipment kind of accelerate maybe 15% in the third quarter relative to the second quarter but still off meaningfully. And we don't have a long window into the order book for that equipment. You're correct to point out, at the end of the year, you would typically see some potential budget flush. I'll remind you, last year, we didn't really experience much in the way of a budget flush the last couple of weeks of the year. And the visibilities further hampered this go around just given the pandemic. But what I can say about the R&D environment is we've seen that steadily improve throughout the third quarter. And even as we move into October here, as Tom indicated, the business is up overall, mid- to high-single digits in the month of October. And certainly, part of that acceleration that we do see is coming from the R&D space in biopharma. It does appear to be improving sequentially.

Okay. And then last one before I hop off on health care. You had a huge sequential swing there. How much of that was recapture of any delays from the second quarter? And any additional thoughts into the fourth quarter?

Yes. A lot of momentum in the healthcare space. As you pointed out, we were well into the double digits from a growth standpoint. Strong recovery in both the reference labs that we service and a return of, obviously, not just the COVID testing but many of those labs that we support don't have a lot of exposure to COVID. And you're seeing a return of a more normalized procedure environment and the associated diagnostics that come with that. We were also successful in the quarter, leveraging our supply chain to pick up business that we hadn't enjoyed before. And customers really are benefiting from the security that our supply chain provides to keep them supplied in a critical time. So certainly, a piece of that is a reflection of new business wins that we had throughout the quarter.

And then all that delivered with still a fairly tempered environment on elective procedures. So we're looking forward to the eventual improvement of that as well.

Right, excellent, Thomas.

Thanks Tycho.

Your next question comes from the line of Vijay Kumar with Evercore ISI.

Hey guys, thanks for taking the question and congrats on a good print here. Michael, regarding the comment about the bioproduction order book doubling, could you clarify what the base is? Is this a year-on-year increase or a sequential one? Also, what does this imply for the top line or its contribution when we consider 2021?

Yes, good morning, Vijay. It's great to hear from you. Our order book has doubled since the start of the year, and we've seen significant progress in that area as we've moved through both the second and third quarters. This growth has even continued into the early part of the fourth quarter. It reflects a few key factors. Firstly, the core business we support, excluding the impact of vaccines, is very strong. We have invested significantly over the past few years in new product capabilities and innovations, which has led to great success in advancing our technologies. This success is evident in our core business. Encouragingly, most of the recent order book growth is from this core business. As I mentioned last quarter, we are beginning to receive COVID-related vaccine orders, which will help fill some of the demand in the fourth quarter as these vaccines progress from trials to approvals and into production. However, I expect more of this to come next year, given our current position and that there isn't an approved vaccine yet. The visibility of what this could mean for us next year is still somewhat unclear. I would point out a couple of things: first, we will be relevant across all major development modalities, including mRNA, recombinant proteins, and viral vectors. Second, there are many variables that will influence what this means for us specifically. We have tried to outline what we think this indicates for our addressable market by technology, but this will be affected by factors like the number of doses produced and the technologies that are approved. An important factor is the adoption rate of any vaccines in the market, which currently shows mixed data. This uncertainty makes it difficult to provide a specific revenue range for our forward plan. There are various scenarios that could evolve. The key takeaway for us is that we see significant opportunities ahead. We have mobilized to meet the demand by investing in capacity to ensure we can fulfill these orders as they arise. We are very encouraged by the current trends.

And Vijay, regarding the open orders, I would like to mention a couple of things. The mix between our single-use and high-purity chemicals is roughly equal, and the COVID aspect is relatively minor. Additionally, most of these orders are customized, which means they cannot be canceled. We have commitments from our customers, and we've conducted engineering and formulation work with them, so this is quite stable. As Michael mentioned, it continues to trend upward in the fourth quarter.

That's helpful, everyone. Regarding the free cash flows, if I recall correctly, we started the year under $600 million. I'm curious about reaching $700 million for the year, which is impressive. Was there any timing impact? How should we view these free cash flows moving forward? Should we expect them to grow from this new base? Additionally, what is the main use of these funds? I noticed the refinancing announcement this morning; could you provide any insights on how that might affect interest expenses in the future?

Yes, certainly. Just to recap on free cash flow, we began the year with expectations of $450 million to $500 million. Currently, we have reached $582 million by the end of the third quarter. The only notable aspect influencing this number, aside from benefits from our refinancing, is that we've had to accelerate some interest payments into the third quarter that would typically fall in the fourth quarter, amounting to approximately $60 million. Despite this, we still achieved the $582 million. Additionally, as part of the CARES Act, we deferred some tax payments and employer tax liabilities, but that total is under $50 million. The primary advantage has been in working capital management, which we kept nearly flat throughout the three quarters despite our growth. In fact, in the third quarter, we reduced working capital by almost $20 million while achieving around a 5.5% sales growth. This reflects strong operational performance. Looking ahead, the refinancing efforts we have undertaken should prove beneficial. Regarding our refinancing process, we currently have about $5 billion in debt. We refinanced $2 billion of this amount in July, reducing the borrowing rate from 9% to about 4.5%, resulting in nearly $9 million in annual pretax savings which will be more impactful starting in the fourth quarter. For the remaining $3 billion, we are pleased with $1 billion in term loans that we repriced in February, which is below current market rates at LIBOR plus 225 and has no prepayment penalty. We plan to keep that in place. The remaining $2 billion involves bond financing with an effective rate around 5.75%. We are optimistic about refinancing that part with better terms given improvements in our capital structure, debt rating, and cash flows. We initiated the term loan process last Friday, and we anticipated a simultaneous bond process since our outlined uses exceeded sources. This was confirmed this morning with our bond announcement. The term loan process typically spans a week, while the bond process is quicker. We accelerated our earnings release to ensure that Q3 information is available as soon as possible. I expect to see pricing on the $2 billion by the end of the week. Although the market has shown some volatility since we launched, we are in a strong position and have no obligation to accept suboptimal terms. Investor interest remains robust for both the term loan and bond processes, and we expect to reach a decision by week's end. If we can lower the 5.75% rate on the $2 billion closer to around 3%, that would yield significant savings. We will provide updates once we complete the process.

It's helpful detail. Thank you.

Your next question comes from the line of Patrick Donnelly with Citi.

Great, thank you. I'd like to follow up on one of Vijay's questions regarding the bioproduction book doubling. Can you share any specific numbers related to its scale? We've seen some of your competitors provide figures and discuss the percentage that will be utilized in 2020 compared to 2021. I'm curious about the overall size if you can provide that information. Additionally, Michael, could you offer more insight into how you anticipate revenue growth once these vaccines transition to commercial use? Does revenue significantly increase at that point?

Yes. Thanks for the question. Good to hear from you. I mean, look, there's a lot of momentum here in the order book, obviously, with the numbers that we've talked about. Typically, in this order book, we would see a couple of months ahead. And one of the elements of this is we're starting to see, at least in this part of the business, an order book that's now lengthened well into next year. And as we sit here today, we probably have an order book that would back roughly half of a full year's demand or revenue in that part of the business. So, it is obviously very, very meaningful. Relative to what it looks like on the back end of a vaccine, I would take you back to the various factors here that will dictate that, which mix of technologies ultimately get approved. As you know, the raw material requirements are greatly different depending on which of the four modalities ultimately prevail here or which mix of modalities, I think is our view will probably be more than one approval coming through here. And then how quickly our customers can ramp production is going to be a major driver of how quickly they start pulling on our materials. And then lastly, again, that you will point out, it's one thing to have the capacity and approval, but is society going to adopt these vaccines and how quickly will they adopt them ultimately dictate that. But we're investing as if there'll be a pretty rapid ramp once there are approvals. And as Tom mentioned, at some level, we're already starting to see and fulfill orders that are obviously moving from clinical trial to kind of production at risk here. And given the lead time on these materials and the customized nature of these materials, the orders that we're getting at this point for delivery later this year or into the first quarter would be full at this point, given the commitments that we have to make on those. So we'll continue to follow it closely. And obviously, as approvals on the new vaccines get issued, we'll respond accordingly.

And regarding open orders, I would like to add that the mix between our single-use and high-purity chemicals is roughly equal. Additionally, most of these orders are customized, which means they are non-cancelable. We have commitments from our customers, and we have collaborated on engineering and formulations with them. Therefore, these orders are quite firm. As Michael mentioned, we expect this trend to continue upward in the fourth quarter.

That's helpful, team. Regarding the free cash flows, if I remember correctly, we started the year below $600 million. It's impressive to see it reaching $700 million for the year. Was there any impact from timing? How should we view these free cash flows moving forward? Should we expect growth from this new baseline? Also, I noticed the refinancing announcement this morning. Could you share any insights on what that might mean for future interest expenses?

Yes, we began the year expecting free cash flow between $450 million and $500 million. By the end of the third quarter, we've reached $582 million. The main unusual item relates to the refinancing benefit, but we had to front-load some interest payments totaling about $60 million into the third quarter, which we managed to address while still achieving the $582 million. We also deferred some tax payments as part of the CARES Act, which amounts to less than $50 million. The bulk of our success comes from managing working capital, which we've kept nearly flat over three quarters despite our growth; in fact, we reduced working capital by nearly $20 million in the third quarter while sales increased by about 5.5%. Looking forward, our refinancing efforts are progressing smoothly. We have roughly $5 billion in outstanding debt, with $2 billion refinanced in July, reducing our borrowing rate from 9% to around 4.5%, leading to nearly $9 million in annual pretax savings that will fully take effect in the fourth quarter. Of the remaining $3 billion in secured debt, we’re pleased with the $1 billion in term loans, which we've already repriced favorably. We believe we can improve on the effective rate of about 5.75% for the remaining $2 billion in bond financing, especially considering our enhanced capital structure and cash flow. We initiated the term loan process recently and plan to combine this with bond financing. The term loan process typically takes a week, while the bond process is quicker. We expedited our earnings release to ensure transparency on our Q3 results. Overall, I expect to see pricing for the $2 billion by the end of this week, despite some recent market fluctuations. We are in a strong position and do not need to accept unfavorable terms. Interest from investors has been robust, and we anticipate making decisions at the end of the week. Reducing the effective rate to around 3% on that $2 billion would represent significant savings. We will provide updates once we finalize the process.

It's helpful detail. Thank you.

Your next question comes from the line of Brandon Couillard with Jefferies.

Hey, thanks. Good morning.

Morning.

Just a two-part question for you, Tom. Looking through the Q, it looks like there was about a 70 basis point inventory charge in gross margin line in the third quarter. Is that a onetime dynamic? And any goalpost you can kind of share with us as far as gross margin outlook for the fourth quarter? And then nice progress on the tax rate. Just curious to what extent you might see more room to bring that down even further into the low 20s near to mid-term.

Yes, great questions, Brandon. Let me take the first one. We have a number of initiatives that are driving gross margin improvement. We've got really good management of the price versus cost inflation dynamic. We've had a favorable mix, as we've talked about, with proprietary growth driving better margin rates, and then the productivity and cost containment initiatives that we've got, including in this COVID environment. I mean obviously, discretionary spend has been a pretty important area of focus. Our year-to-date gross margins are up 70 basis points. We went from 31.9% to 32.6%. However, as you point out, the third quarter gross margin rate was a little bit less than that. The drivers that I mentioned, so the price, the mix, the productivity, all were in place, but we did have a couple of nonrecurring non-cash adjustments in the quarter. One was LIFO-related. We follow LIFO accounting for our inventory in the Americas. And we had to make some adjustments to reflect the inflation we're experiencing in certain inventory areas. In personal protective equipment, in particular, there's been unprecedented demand that is basically overwhelming the supply, which is leading to abnormally high inflation in purchased materials, things like gloves and apparel and so forth. And so that was just following our accounting policy to reflect the cost of goods sold at the current prices and leave in inventory the older prices. The second point, we had some cleanup in some distribution inventories that we've gotten behind us. For both of these things, I don't expect them to have any impact going forward in the fourth quarter, certainly not into 2021.

Your next question comes from the line of Dan Brennan with UBS.

Hey, Dan. Before I answer your question, I want to address the second point regarding Brandon's inquiry about the tax rate. I apologize for missing that. Looking back to the pre-IPO days, we had an adjusted tax rate of over 30%. We developed a plan to reduce this to the mid-20s by eliminating some inefficiencies in financing our international businesses. We've made substantial progress on this front. As a result, we now expect our full-year tax rate to be about 24%, which is better than the lower end of our initial guidance for the year. We see further opportunities to improve, particularly in Central Europe and across the European continent. We have some long-term initiatives in place that we believe will help reduce that rate further. I'm aiming to get close to 20 with these initiatives, although they may take a year or two to implement, so please consider them in your short-term projections. Overall, it looks promising, including our work on the cash tax side. I agree that we need to keep pushing forward. One potential uncertainty is the election and its effects on tax planning and rates for everyone.

Great, thanks.

Could you clarify the Q4 comments regarding mid-single and high-single figures? Specifically, did you provide a breakdown of what is attributed to COVID versus the underlying base for October?

No, we did not.

I would expect, as Michael mentioned, that the mix of the COVID tailwinds can vary. The second quarter was particularly strong for many diagnostic tests. Michael referred to the different types of testing, and we benefited from serological testing in the second quarter, which contributed 500 to 600 basis points. Looking at the third quarter, the serological aspect decreased somewhat due to changes in market usage. However, overall testing volumes have risen as we approach the fourth quarter, and we observed good order activity at the end of the third quarter. Thus, we anticipate a shift back towards more diagnostics. The biopharma production segment has performed very well, making it challenging to determine the exact tailwinds. However, I would expect them to be in the range seen between Q2 and Q3.

Thank you for that. I understand there have been several questions regarding your competitive positioning in the vaccine and therapeutic space. I would like to follow up on the analysis you provided about sizing the opportunity across different modalities. It seems that part of your business was about 50 basis points in the third quarter, based on some quick calculations. While there are various potential outcomes for 2021, I believe that considering your order book, it might be possible to outline a range of expectations for this year, based on the different modalities. Given the extensive analysis you have conducted and its significance to your business, I am curious if you could offer another perspective on what the range of potential outcomes may look like moving forward.

Thank you for your question. I understand your interest in grasping the implications for our business. We are dedicating a significant amount of time to modeling this scenario and reflecting it in our investment strategies to fully capitalize on the opportunities presented. The best way we've identified to convey the potential impact is by examining the effects on the addressable market. In our bioproduction sector, we currently engage in a market valued around $10 million, based on our technology portfolio. Considering the vaccine candidates in development and the anticipated doses derived from them, along with the necessary raw materials and single-use technology, we believe this could expand our addressable market by approximately $4 million to $5 million at the lowest estimate, reaching as high as $8 million or $9 million at the maximum. This highlights a substantial range of potential outcomes. Nevertheless, we expect a significant influence on our addressable market moving forward.

Ladies and gentlemen, we've reached the allotted time for questions. I would now like to turn the conference over to Michael Stubblefield for any additional or closing remarks.

Yes. Thank you, operator, and thank you all again for participating on our call today and for being flexible with the late shift in the timing of the call. As we close, I just wanted to express my continued gratitude and admiration for all of our global associates, who are actively living our values every day and working tirelessly to support all of our global customers during this unprecedented time. Truly, it's an inspiration. Their passion and dedication to our mission of setting science in motion to create a better world has never mattered more. I'm truly excited about what lies ahead for Avantor and looking forward to updating you at the end of the fourth quarter. And until then, take care and be well, everyone. Thank you.

Thank you for participating in today's conference call. You may now disconnect your lines at this time.