Earnings Call Transcript - BLCO Q4 2023

Operator, Operator

Good morning, and welcome to Bausch + Lomb’s Fourth Quarter and Full-Year 2023 Earnings Call. All participants will be in a listen-only mode. Please note, this event is being recorded. I would now like to turn the conference over to George Gadkowski, Vice President of Investor Relations and Business Insights. Please go ahead.

George Gadkowski, Vice President of Investor Relations and Business Insights

Thank you. Good morning, everyone, and welcome to our fourth quarter and full-year 2023 financial results conference call. Participating on today's call are Chairman and Chief Executive Officer, Mr. Brent Saunders, and Chief Financial Officer, Mr. Sam Eldessouky. In addition to the live webcast, a copy of today's slide presentation and a replay of this conference call will be available on our website under the Investor Relations section. Before we begin, I would like to remind you that our presentation today contains forward-looking information. We would ask that you take a moment to read the forward-looking legend at the beginning of our presentation, as it contains important information. This presentation contains non-GAAP financial measures and ratios. For more information about these measures and ratios, please refer to Slide 1 of the presentation. Non-GAAP reconciliations can be found in the appendix to the presentation posted on our website. Finally, the financial guidance in this presentation is effective as of today only. It is our policy to generally not update guidance until the following quarter, unless required by law, and not to update or affirm guidance other than through broadly disseminated public disclosure. With that, it's my pleasure to turn the call over to Brent.

Brent Saunders, Chairman and CEO

Thank you, George, and thank you, everyone, for joining us today. We're going to follow a familiar format. I'll cover highlights from the fourth quarter and full year, and Sam will dive deeper into financials and provide 2024 guidance. I'll close by reviewing growth drivers, and then we'll take your questions. The first of our three key takeaways speaks for itself. Revenue growth in 2023 and in the fourth quarter in particular exceeded our expectations and set the tone for 2024. Double-digit growth is always impressive, but even more so when you consider how we got there. Our quality of growth is what helps set us apart from others, and that will be enhanced as we've entered one of the most active launch years in our company's history. You've heard me talk about selling and operational excellence quite a bit. It's central to any discussion I have on company strategy and will dictate our success going forward. Here's the good news. We're making solid progress in both areas. Our dry eye franchise is a perfect example. The combined Miebo and Xiidra sales force is the largest, and I would argue the most sophisticated in eye health. And when it comes to operations, our mindset hasn't changed. We're taking a methodical approach to addressing the challenges we face, with the expectation that our supply chain will become a competitive advantage in time. Hasty climbers have sudden falls, as the saying goes, which means we won't lose sight of our long-term goals for short-term gains. The last takeaway is focused on innovation, which has been the driving force throughout Bausch + Lomb’s 170-year history. We've made no secret of our desire to put innovation at the forefront once again, and we're doing that in two ways. First, we're expanding our internal R&D capabilities across our entire portfolio. From prescriptions to IOLs, we can and should explore all possibilities when it comes to building on the success of existing brands. Second, we're reloading our pipeline with a focus on areas of unmet need. Our reinvigorated business development function will play a key role there as we cast a wide net for potential gamechangers. The roadmap slide has become a fixture in earnings presentations, and the roadmap itself continues to guide our strategic decision-making as we unlock the company's full potential in a thoughtful and phased approach. Each quarter, our progress indicator shifts steadily to the right as we move closer to Phase 2. Let's take a look at how we delivered against Phase 1 goals in 2023, a report card of sorts with an understanding that I'm a tough grader. We've already touched on topline performance last year, but I'm happy to bring it up every chance I get. 12% constant currency revenue growth would earn the highest grade on its own, but again, I'm more impressed with how we did it. When it comes to selling excellence, we made significant strides in 2023, with a focus on high-priority areas like dry eye, but with the number of planned launches in 2024, there's even more urgency to build on that work with a balanced approach across all categories. Business development is a function that has matured in short order last year. The most obvious example is our acquisition of Novartis's front of the eye assets, in addition to our acquisition of Blink eyedrops from Johnson & Johnson. Equally as important, the growing business development team has laid a groundwork for strategic deal-making this year and beyond, with an eye towards sustainable growth. I'll group the last two items together. While they appear to have the lowest mark, a single check mark, it's really more of an incomplete or too new to rate. Building leading digital capabilities in core areas and enhancing agility and innovation are broad organizational competencies that require discipline and time. That said, progress in those areas introducing the roadmap has certainly had an impact on margin expansion. We've covered revenue. My only add there would be that this is our third straight quarter of more than $1 billion in sales, our new normal. When it comes to individual segments, there is no laggard. In fact, I only see opportunity as both vision care and surgical in particular felt the effects of operational challenges, some self-inflicted, others out of our control, yet both delivered impressive year-over-year growth. Now let's address individual product performance, and I'll stick with the opportunity theme. Despite an average growth of more than 25% among the key franchises highlighted, they haven't realized their full potential, not by a long shot. Additional geographic expansion, new ways of reaching customers, including direct-to-consumer engagement, and a persistent focus on providing the best customer experience possible, will propel these products and others to new heights. Before I turn things over to Sam, I'd like to thank my 13,000 colleagues for their performance in 2023, and it's not just execution I'm grateful for. It's their belief in our potential and commitment to doing what it takes to get there. Sam?

Sam Eldessouky, CFO

Thank you, Brent, and good morning, everyone. Before we begin, please note that most of my comments today will be focused on growth expressed on a constant currency basis. Turning now to our financial results on Slide 8. In the fourth quarter, we once again saw strong revenue growth across each of our segments and key product franchises. We're pleased with how we ended the year and our performance for the full year in 2023. Our business demonstrated growth in revenue and adjusted EBITDA, with revenue exceeding our full-year guidance. We are excited by the momentum we have heading into 2024, which as Brent mentioned, we expect will be one of the most active launch years in our history. Total company revenue of $1.173 billion for Q4 reflects growth of 19% on a constant currency basis. For the full year, total company revenue of $4.146 billion reflects growth of 12% on a constant currency basis. This was the first full quarter following the launch of Miebo and the closing of the Xiidra acquisition. I'll be discussing the impact of these key dry eye franchises more throughout the call, but the headline is that we're highly encouraged by what we're seeing so far. Touching briefly on supply, we have continued to make improvements to strengthen our supply chain in 2023, and we're pleased with the progress. While there's still work to be done, we feel confident about the path forward. As Brent will discuss, we expect to continue our efforts to implement efficiency measures throughout 2024, which we expect will be an important factor to drive sustainable margin expansion. Volatility in our currency mix moderated in the fourth quarter and did not have a material impact on the results for the quarter. For the full year, currency was a headwind of $68 million to revenue and $51 million to adjusted EBITDA. While the currency headwinds are not as sizable as we saw last year, the impact on our results continues to be driven by our geographic footprint and the currency mix. Now, let's discuss the results in each of our segments. Vision care fourth quarter revenue of $662 million increased by 8% on a constant currency basis driven by growth in both the consumer and lens portfolios. For the full year, vision care revenue was $2.543 billion and increased by 10% on a constant currency basis. The consumer business again demonstrated strong performance both in the US and internationally, with growth of 11% on a constant currency basis in Q4. We continue to see growth across our key franchises, including eye vitamins, which grew by 7% in the quarter, and Lumify, which grew by 17% in the quarter. Our consumer dry eye portfolio delivered $88 million in revenue in the quarter, representing 12% organic revenue growth. Reported revenue from daily SiHy lenses grew by 31% in the quarter. As we discussed in our last earnings call, we recently expanded the daily SiHy family with the launch of the multifocal lens in the US and the rollout of daily SiHy in China. We continue to see strong demand globally in the daily SiHy category. Revenue in the lens portfolio was negatively impacted throughout 2023 by disruptions at our Lynchburg distribution facility. Excluding the impact of these disruptions, global lens constant currency revenue growth was 9% in the quarter and 10% for the full year. Moving now to the surgical segment, fourth quarter revenue was $204 million, an increase of 7% on a constant currency basis. For the full year growth was also 7% on a constant currency basis. The consumables portfolio, our largest category in the surgical business, grew in the quarter by 7% on a constant currency basis, mainly driven by cataract packs. Implantables were flat for the quarter on a constant currency basis. Our premium IOL portfolio continues to expand and was up 30% in constant currency in the quarter. As I mentioned last quarter, our standard EyeCee One IOL continues to be impacted by the product recall issued by our partner in 2023, which offset the strong growth in our premium IOL portfolio. Excluding the impact of EyeCee One, the implantables portfolio grew 12% in constant currency in Q4. Revenue from equipment was up 13% versus Q4 2022 on a constant currency basis, mainly driven by Stellaris system sales. We have recently launched a number of products in our surgical business and will continue to launch new products in 2024 and beyond, including the higher margin premium end of the market. We intend to continue to invest behind these launches as this is an important area to drive value and margin expansion. Lastly, revenue in the pharma segment was $307 million for the quarter, which represents constant currency growth of 66%. For the full year, revenue in the pharma segment was $836 million, which represents constant currency growth of 24%. Xiidra delivered $106 million in revenue in the fourth quarter, exceeding our previous guidance range of $80 million to $90 million. Following the relaunch of Xiidra in Q4, we saw TRx stabilize throughout the quarter. Additionally, in the quarter, we had a one-time benefit of $8 million due to lower-than-expected rebate charges for Xiidra. As I said before, Xiidra will continue to be a primary focus for us in 2024. To date, we're also very pleased with what we have seen from the Miebo launch. The early performance and feedback from eye care professionals have been incredibly positive, and we're committed to continuing to invest behind this launch. Together, Xiidra and Miebo provide us with clear leadership in dry eye disease, and we're excited about reaching their full future potential. Now, let me walk through some of the key non-GAAP line items. Adjusted gross margin for the fourth quarter was 62.5%, which was up 470 basis points compared to Q4 2022. For the full year, adjusted gross margin was 61%, which was up 130 basis points compared to last year. The gross margin improvement was mainly driven by favorable product mix, including Xiidra. This was balanced by pressure on the gross margin driven by the higher inventory costs in our surgical business. In the fourth quarter, we invested $79 million in adjusted R&D, or approximately 7% of revenue. Fourth quarter adjusted EBITDA was $231 million, which represents 28% growth versus the fourth quarter of 2022. For the full year, adjusted EBITDA was $738 million. Full-year 2023 adjusted EBITDA was negatively impacted by currency headwinds of $51 million, and Lynchburg-related disruptions of $30 million. Excluding the impact of currency, adjusted EBITDA grew 10% compared to last year. Net interest expense for the quarter was approximately $96 million, and $252 million for the full year, excluding the one-time upfront financing costs directly related to the Xiidra acquisition. The full-year 2023 adjusted tax rate was 4%, which is slightly lower than our previous guidance of approximately 6%. The lower tax rate was mainly driven by the geographic mix of our earnings. Adjusted EPS for the quarter was $0.24 and $0.73 for the full year 2023. Adjusted cash flow from operations was $28 million in the fourth quarter, and CapEx was $84 million. Turning now to our 2024 guidance on Slide 15. We're saying 2024 revenue guidance at a range of $4.6 billion to $4.7 billion. This reflects expected constant currency growth of approximately 12% to 14%. We expect the fundamentals of the eye care market to remain strong, and we expect each of our segments to deliver growth in 2024. Along with solid momentum in our base business, the recent and upcoming product launches will be an important driver. Following the relaunch of Xiidra in the fourth quarter, we expect to build on the performance throughout 2024. For the full year 2024, we expect Xiidra to generate approximately $400 million in revenue. As I noted earlier, the Miebo launch is off to a great start. Miebo has been the strongest launch in dry eye disease in recent years. We expect the positive momentum to continue in 2024, and we plan to invest to position the brand to reach its full potential. We expect Miebo to contribute approximately $95 million of revenue in 2024. We've continued to see currency headwinds moderate. Based on current exchange rates, we estimate currency headwinds to have a negative impact on revenue of approximately $40 million for the full year. Shifting to adjusted EBITDA, we are setting our adjusted EBITDA guidance for 2024 to a range of $840 million to $890 million. At the midpoint of the guidance range, this reflects margin expansion of approximately 80 basis points compared to full-year 2023. The margin expansion is driven by a number of factors, including our strategy shift to high-margin products, our efforts to continue to drive operational excellence, and our focus on maintaining cost discipline. As we continue to make investments to fully capture the value potential ahead of us, we expect to sustainably build on the margin expansion in 2024 over multiple years, with the growth of our recent and upcoming launches. I told you in the past, and I will continue to remind you that there is natural seasonality in our business. We expect 2024 phasing to follow a similar trend as we saw in 2023, with the first quarter being the lowest and the fourth quarter being the highest. As we continue to drive pipeline innovation, we may enter into collaborations with external partners. It should be noted that our adjusted EBITDA guidance does not reflect any one-time upfront payments that may be made as part of such arrangements. In terms of the other key assumptions underlying our guidance, we expect gross margin to be approximately 62%. We anticipate investments in R&D to be approximately 7% to 8% of revenue, and interest expense to be approximately $385 million for the full year. Our adjusted tax rate is expected to be roughly 15%, which takes into consideration our tax geographic mix and the Pillar Two minimum tax rules. Full-year CapEx is expected to be approximately $250 million. We are pleased with our financial performance in 2023 and the solid momentum entering 2024. As we continue to drive growth in our current portfolio and the launch of new products, we have a clear strategy to deliver strong growth and drive sustainable margin expansion. And now, I'll turn the call back to Brent.

Brent Saunders, Chairman and CEO

Thanks, Sam. Let's focus on what we need to do to win in 2024. Recent and upcoming launches have us positioned for success in each of our businesses, but the only way we fully take advantage of those opportunities is by reaching more customers and consumers and separating ourselves from the pack with how we sell. As Sam outlined, we're off to a great start with Miebo. Eye care professionals are prescribing, and consumers are coming back for more. Post-launch excitement hasn't waned. In fact, it continues to build. We need to harness that momentum in 2024 and ensure Miebo becomes the category-altering medication it has the potential to be, which means continuing to invest in sales and marketing. In concert with our Miebo push, we need to not only keep working to restore Xiidra to its place as a category leader, but unlock its full potential. It's important to remember that the Xiidra sales and marketing operation we inherited was not in the same condition when at its peak. I'm a dog lover, so I'll use an abandoned pet analogy. We took it in and are nursing it back to health so it can thrive once again. Sam also pointed to daily SiHy success. There's growing demand for these lenses, which is why we're expanding our offerings, including the launch of a multifocal in the US. Demand is also a theme in dry eye, as we've made clear, and while the focus is often on prescription medications, we’ve built a formidable stable of OTC dry eye brands on a global scale, most notably Artelac. That stable expanded with the acquisition of Blink, which we expect will be a steady and growing contributor for years to come. Finally, premium IOLs continue to represent our biggest opportunity in surgical, where sales are influenced by relationships first and foremost. As we've prepared to push deeper into higher margin offerings, including expansion of our enVista product line, it's incumbent on our sales force to turn their deep relationships into conversions. Last quarter, we stressed a practical approach to the supply chain. That hasn't changed and won't. What has changed is my comfort level and how the challenges we faced are being addressed. We brought Al Waterhouse to Bausch + Lomb with a simple yet incredibly complex remit: take a full accounting of our global manufacturing and distribution network, put a comprehensive plan in place to turn that network into a competitive advantage, and execute with the understanding that we won't cut corners ever. It's early days, but I'm very pleased with initial returns, and more importantly, the path forward. In 2024, our focus will continue to be on reducing complexity while streamlining how we put product in the hands of customers and consumers, with DTC efforts in China being the most prominent example. We'll also continue to digitize operations using lessons learned from our distribution center in Lynchburg, Virginia. Remediation is near complete, and we've turned our attention to gaining efficiency over the next few quarters. Optimizing our supply chain will take time. Incremental improvements will be reflected in margin expansion, and long-term success will be foundational for a future-proof Bausch + Lomb. Talk of R&D investment is often taken with a grain of salt and for good reason. Some companies invest because they think they have to or need to hit a self-imposed minimum. We invest because innovation has been the lifeblood of Bausch + Lomb for 170 years. In 2023, we invested more than $300 million in a new look older and better R&D department, and we've infused it with talent. In the last two years, we grew the team by more than a third, including hiring top scientists who want to be part of what we're building here, but money and talent only get you so far. We've refocused the team to better support a reloaded robust pipeline that cuts across every business. While in-house capabilities are non-negotiable, we can't do it all ourselves. As previously mentioned, our business development team has been working hand in hand with R&D leadership to identify and vet potential products and therapies that would benefit from our scale and know-how. As long as we keep adding products, we'll keep showcasing our launch slide. There's a nod to what we accomplished in 2023 and a preview of what's to come this year. This view best represents the opportunity in front of us. Innovation provides new offerings. Operational and selling excellence leads to revenue growth and margin expansion Sam highlighted. It's not a terribly complicated formula, but one that requires a relentless focus on doing the small things incredibly well. In my regular conversations with eye care professionals and visits to industry meetings, there are two consistent themes around Bausch + Lomb: excitement and anticipation. That's echoed within our company walls. My travels take me all over the globe, and from Berlin to Bridgewater, colleagues are anxious to make 2024 a defining year in our company's history. I look forward to keeping you updated on our progress. One quick note. I'm still on the mend from rotator cuff surgery just a few days ago, so take it easy on me in the Q&A. Operator, let's open the line for questions.

Operator, Operator

Your first question for today is coming from Matt Miksic with Barclays.

Matt Miksic, Analyst

Hey, good morning, and thanks so much for taking the questions, and congrats on a really strong finish here to 2023. I have one question, if I could, on Xiidra. I think you did a pretty great job last year of sort of framing out expectations for Xiidra and Miebo, and how they would kind of interplay, and ended up finishing, as you mentioned, a bit stronger out of the gate. Could you maybe talk a little bit about how we should maybe recalibrate the trajectory of what we are expecting from Xiidra, assuming you're still going to invest behind it, as you mentioned, but is that just a quarter or two ahead of plan here, or is there some kind of ups and downs we should expect in the coming quarters? And I have one follow-up.

Brent Saunders, Chairman and CEO

Sure. Thanks, Matt. So, look, Xiidra is an incredibly important focus for us in 2024. I have to give a nod to our sales team in the fourth quarter, right? We got a product that had been kind of left behind. What's interesting is when you look at the fourth quarter, there's some seasonality there. The fourth quarter is always the best for chronic prescription demand because of deductibles and the like. But when you look at what happened in the fourth quarter, we brought the Novartis sales team in, made them a Bausch + Lomb sales team, and we just focused on basic execution. And you saw what happens, right? We saw really good performance in the fourth quarter. I think that should give us optimism for what can be done. In early January, we actually integrated the field force, and they're actually having their annual sales meeting as we speak this week in Orlando. So, I'm pretty optimistic. When you look at tactics and when you look at execution on the ground, and couple that now with reinvesting in marketing, right? We're back on TV as of mid-January. So, we've been on TV for a couple of weeks with Xiidra. I'm pretty optimistic that this can be a growth driver. So, if you think about it just in basic terms, Novartis, in the quarters they had it, they did about $250 million. We did $106 million in the fourth quarter. So, you've got a performance of $355 million. Sam, in his comments, guided to $400 million. That's a 13% growth if we pull that off. When we bought it and we announced a deal model, we talked about mid-single digit growth. So, we feel like we can get back on track and make this a real growth driver. Now, in all dry, including Miebo, there is seasonality. The first quarter, because of deductibles, is always the weakest, and the fourth quarter is always the strongest. So, I wouldn't just divide the $400 million by four and look for it that way, but you'll see a nice steady build as we execute and we drive marketing and the seasonality that is a factor, I think we're going to set ourselves up for a very nice year in Xiidra.

Matt Miksic, Analyst

That's great. Thanks for that. And then one other area that was - you had a pretty strong finish, important category within surgical is around IOLs, and I know you have a pipeline of new products you've talked about, planned out for this year on the IC-8 IOL side, but some of the sort of underlying growth of that business was quite strong in Q4. Just wondering if you could comment on whether that was a market phenomenon, whether you feel like some of the products in the market currently are gaining momentum and how sustainable that is. Thanks.

Brent Saunders, Chairman and CEO

Yes, so you're right. We did see some strong demand for IOLs in the quarter and throughout the year. I think it really is a foreshadowing of what we want this business to look like. So, premium IOLs were up 30%, Sam, about 30% in the fourth quarter. I think it's off a small number, right? And what we need to transition to, if you look at surgical for the year, packs were up about 9% for the year. Equipment was up about 11% for the year. So, better - we're taking market share. We're growing faster than the market. What we need to do in 2024 and really in 2025 and 2026 is drive that IOL mix and drive it towards the premium side of the IOL. That actually is the way you run a surgical business, and it has a tremendous benefit of driving margin improvement. And so, when we talk about margin improvement, mix is critical and one of our most important strategies is to drive from the lower margin packs and equipment to pull through the higher margin IOL. So, really good foreshadowing. I see that the new launches, we have the Aspire that we launched. We have the IC-8, which we’re still launching. We have a trifocal getting approved at the back end of the year, and then we have our EDOF lens hopefully getting approved in late 2025. So, the setup there is really nice for constant new product, new innovation and higher margin products to drive through that business. And that's my reason I get excited about surgical is pulling that off, but it is going to take two years to get there.

Patrick Wood, Analyst

Amazing. Thank you for taking the questions. I've got one and then a quick follow-up. I guess for the first one, sort of a bit more high level, obviously on the consumer side and then the pharma business, you've got meaty scale now. And so, I guess, how are you thinking about things going forward? You mentioned the BD team a bunch of times, but organically and inorganically, how are you splitting your energy between the segments? And going forward, where do you think the biggest opportunities are? You obviously talked a little bit about premium IOLs. There’s other areas like custom packs, glaucoma. It's a big market, right? How do you see the direction strategically and where you feel the biggest gaps that you might like to bulk up in are?

Brent Saunders, Chairman and CEO

Yes, so great question. So, a little different than how we report. The way I think about the business is four business units: pharmaceutical, consumer, vision care, and surgical. When you look at it, two are in really good shape, right? Consumer, we are the leader in eye care. We have demonstrated great growth in the consumer business, up 11%. And what's interesting, a lot of that is volume, while in past years a lot of that was price. So, really healthy performance there. We have some new products coming in consumer. We have some new incremental innovations coming. We have packaging innovation coming. So, pretty excited about the consumer business, combined with just a great team. We have a really strong team at B+L on consumer. Pharma, you know the story; we're really investing, particularly in the US. We have Miebo. We have Xiidra. We have Vyzulta. We're on the hunt for other things to add to the bag, but we have a lot of strength and a lot of growth for several years to come in pharma, and lots of opportunities to add innovation. Vision care, a very strong performance if you normalize for Lynchburg. We look at vision care as very strategic but still a work in progress, right? We've got to drive growth, daily SiHy. INFUSE, for example, is up 46% for the year. That's our fastest-growing product and a great contact lens. So, our job there is simple execution. Surgical is still a work in progress, as I mentioned. And there, it's a two-to-three-year program to drive towards IOLs and premium IOLs becoming a larger contributor, with much higher margins. To summarize, I'd say we have two of our businesses in really good shape, and two focused on execution and delivery. That being said, you're right. How do you split your time between the four? For me, it’s quite simple. You’ve got to build great teams, and we've done that. You've got to focus on execution, and then you have to work with R&D to drive innovation. We've organized ourselves to do that, and I think we can pull it off.

Patrick Wood, Analyst

That's super handy. And then, obviously, Aspire, it looks like it's done very well in the US. I think it's like almost 14,000 units just in Q4 right off the bat. But I think IC-8, I think from memory, you guys still have some production challenges there. I think you probably only have like 1,000 units or so. That seems like a very differentiated lens. Going forward, is there an opportunity to kind of push that on the production side and get the volumes up a little bit faster?

Brent Saunders, Chairman and CEO

Yes, absolutely. So, you're right. enVista Aspire was launched with about 100 days into the launch, give or take. We've had about 350 surgeons actually implant the Aspire, and what we're hearing anecdotally and what we're hearing from our field force is great results by the doctors and absolutely great outcomes from the patients. Now, that lens is positioned as a monofocal plus to compete against the J&J Eyhance. I think our team's doing a great job there, and there's a really big opportunity. The IC-8, or Apthera lens, you're absolutely on the money. Our third-party manufacturing there is struggling. Al Waterhouse knows that well, because it came from Apthera before coming from J&J, the AMO. The issue there is, right, driving production capability, and that is in place, but it will take a few quarters to get to where we want to get to. And so, again, great outcomes, great patient satisfaction. Surgeons who have implanted it love it, but we don't want to roll it out to all surgeons. A, you have to train them, and two, you have to have supply. That is a work in progress without a doubt. But I think that sets us up - if you look at the team's performance on Aspire, it really gets you excited for the potential for the pipeline that's going to pull through later this year and next year.

Craig Bijou, Analyst

Good morning, guys. Thanks for taking the questions and congrats on a strong finish. I wanted to talk about the margin opportunity for you guys in 2024 and maybe beyond, given the strength of Xiidra and Miebo. The margin expansion you are guiding to is in line with some of your comments from earlier in the year. So, just want to understand, as you're in this investment mode, to the extent that Xiidra and Miebo and maybe the rest of the business outperform, how should we think about you either dropping some of that benefit or outperformance to margin improvement, or are you going to reinvest that to drive even more growth?

Brent Saunders, Chairman and CEO

Yes, no, that's a great question. So, margin expansion is a critical part of our long-term strategy, right? We want to deliver sustained margin improvement for the next several years. I think we're set up to do just exactly that, but as you mentioned, product mix is a big part of improving margin. The operational excellence we've been talking about for the last few quarters is critical, and obviously cost discipline. When you think about 2024, remember it is our largest launch year in the history of the company. And let's just take the example you mentioned, Miebo, right? Sam guided for around $95 million in sales from Miebo. Our investment is significantly higher than the $95 million, significant. Generally speaking, for pharmaceuticals, you tend to invest around two to three years, and then they become vastly profitable. We have a direct line of sight to extensive margin improvement over the next few years, but you’ve got to set up these products to realize their potential. Now, directly to your question, Craig, if we have upside, would we drop it through? I think we would like to do that. The only hesitation I have is if we believe we can change the trajectory of the curve on a product like Miebo, you'd probably want to do that as an investor. You'd probably want to set that up for higher peak sales because we have it for a long time, and it can drive massive growth and profitability with the right investment. That being said, I think we’ve made a massive investment. We have a great plan. We’re tracking KPIs on a daily, weekly, monthly and quarterly basis. We make the investment decisions based on performance. We don't just turn over that investment and say good luck. It's gated and it's done with stage gates based on hitting KPIs. So, we're going to watch that carefully. But yes, I think all things being equal, we would try to drop greater performance all the way through the P&L.

Craig Bijou, Analyst

Great. Thanks for that, Brent. And maybe as a follow-up on some of your comments on contact lenses and that business, just wanted to get your perspective on what seems like a pretty strong underlying market, and maybe comments on how pricing looks there in 2024 and your positioning within that market and just any other trends that you're seeing there.

Brent Saunders, Chairman and CEO

Yes, so you're right. The contact lens market globally is very healthy, growing around 7%, 8%. So, really good trends, good demographics, a lot of tailwinds in that business, and a lot of reason to like contact lens as a category. I think if you looked at our performance and tried to normalize for Lynchburg, we're growing slightly faster than market. I already gave you the performance on INFUSE or Ultra daily or daily SiHy, and there's a lot to be excited about in that category. The trends there remain the same: a big shift to daily silicone hydrogels. As we complete the rollout of the full line of INFUSE, we have the multifocal in several key markets. We've got to continue launching that around the world. We have the Toric coming, and then we have the multifocal Toric coming. So, a lot of work, a lot of new launches within that brand over the next, let's say 12 to 18 months. So, feels pretty good about it. Pricing-wise, I think there are opportunities in that market. When you look at the fourth quarter, there was a lot of rebating by our competitors. We did not participate in that, given our Lynchburg situation and the launch mode of INFUSE. But we look at it very closely. We look at all the trends and we do make strategic pricing decisions, particularly on some of the older products. But with the new products right now, it's about building share, pricing appropriately, and building share. I think we have a very strong strategy there. So, we’re thoughtful about that, in other words.

Larry Biegelsen, Analyst

Good morning. Thanks for taking the question, and congratulations on a strong finish to the year here, Brent and Sam. Love to start with Miebo. Brent, could you talk about the adoption so far? What's going well? Where do you see opportunities to improve, such as payer coverage? And how are you feeling about the peak sales of $350 million that you laid out recently? Could you exceed that? Then I had one follow-up.

Brent Saunders, Chairman and CEO

Sure. So, I think when you look at Miebo, what you like is the initial target, as you would in any launch, was against high-prescribed dry eye eye care professionals. The team did a really good job, and the excitement among that community was strong and remains strong. Their experience with Miebo with patients has been excellent. The reason for that is, you look at refill rates which are trending way above dry eye category refill rates. This means early KPIs are that experienced dry eye eye care professionals love the product, and their patients love it even more in refill. So, that's part of the thesis for why you're going to make such a massive investment in Miebo in 2024, because there's a lot to like there. I think when you think about what has to happen in 2024, there are two key activities that our team has to execute against. One is to drive adoption more broadly by eye care professionals. We have a magnitude of tens of thousands of new targets that the team has to reach this year and drive adoption of Miebo. That's a key theme of what they're talking about in Orlando today. The second, Larry, you hit it right on the nail head is to drive managed care adoption. That is a big priority for 2024. Given the demand we've seen in the market, managed care is much more open to working with us than they were just a quarter ago. I suspect by the back half of 2024, commercial coverage will be really strong. There'll be more work to do in 2025, but 2024 will be ahead of our expectations on commercial coverage. Medicare has the longest lead or lag time to drive coverage, but I'm optimistic we'll perform strongly in 2024. Looking at the $350 million peak number, I'm actually pretty optimistic we can exceed that. Given the investment we're making in the early KPIs, I think we can do better than that.

Sam Eldessouky, CFO

Good morning, Larry. So, it's a good question, and seasonality is a very important part of our business, and that's why I highlighted my prepared remarks. If you think about 2024 for us, we'll follow a similar trend as we saw in 2023, with our first quarter being the lowest in terms of contribution and fourth quarters being the highest. If you look at the midpoint of our guidance that we provide this morning, that should give you a pretty good sense of our phasing as we think about it in 2024, and it builds from Q1 onwards as you go through to Q4.

Robbie Marcus, Analyst

Oh, great. Thanks for taking the questions and congrats on a good quarter. Maybe to follow up on Larry's question, Xiidra, I wanted to spend a minute here. You talked about $400 million for the year. That's basically - if you back out the one-time in fourth quarter, it's roughly just $100 million a quarter, and I realize there's seasonality. So, maybe just speak to why $400 million, given such a strong fourth quarter here, and how we think about what Xiidra is adding down the P&L in terms of adjusted EBITDA.

Brent Saunders, Chairman and CEO

Yes, so great question, Robbie. Unfortunately, you can't just take the 400 and divide by four, as I said earlier. There's a lot of seasonality in prescription coverage, right? And particularly in this category. I think putting up about 13% growth on Xiidra in 2024, which is what we're guiding towards, would be a very impressive performance by our team, particularly when we announced the deal, we said it was going to be a mid-single digit grower. So, this is more than doubling our expected growth. Some of that is just returning Xiidra back to where it belonged through tactical execution. Keep in mind, I've said this multiple times, dry eye is a very promotionally sensitive category. In 2024, we're investing a little more in Xiidra than we would have if it hadn't been given to us in a bit of a kind of left behind or neglected state from Novartis. But we're very confident that Xiidra, once we get it back on path, can be a very strong contributor or margin via product mix. Yes, we're making a stronger investment, but I think the data from Q4 proves that it's a smart investment for us. We’re tracking the KPIs on this one very closely as well, and we only invest when we hit certain stage gates of performance. Right now, there's a lot of reasons to believe our team can execute against it. Keep in mind, having Xiidra with Miebo, we have integrated the field force, which is a win-win. It is absolutely one plus one equals something greater than three, having our field force be able to promote two differentiated, mechanistically different drugs for dry eye therapy. I'm really optimistic about Xiidra, but perhaps we can do better than 400. We’ll have to see. It’s mid-February, and the team is at their sales meeting right now. There’s going to be a lot of momentum coming out of this week and throughout the year as seasonality builds, the investment in marketing builds, and the focus on execution in the field.

Robbie Marcus, Analyst

Great. I appreciate that. And maybe just as a follow-up on free cash flow generation in 2024, I realize you have a lot of integration activities here, but how should we think about free cash flow in 2024 and any phasing through the year we should consider? Thanks.

Sam Eldessouky, CFO

Sure, Ravi, it’s a good question. When you think about cash, listen, cash is a very important element for us. It's part of our DNA. We call it, cash is cultural. It’s something we spend a lot of time talking about. We're focused on it. When you think about - and maybe before I talk to 2024, I want to step back and just talk 2022 because it sets the base for how we think about 2024. Cash played out exactly as we anticipated. In the first half of the year, we were in growth mode with our topline and gaining market share, and that was a use on working capital. You see that in the first half of the year. We expect that to turn positive in the second half of the year. For cash flow, for us in the second half of the year, we were generating roughly about $95 million in Q3 and Q4, keeping in mind that was happening while we were building up inventory. We built roughly about $250 million of inventory throughout 2023 that helped us as we were working through our supply chain challenges. This is important background for us to set the stage for 2023. For 2024, we expect cash to - we don't expect the level of inventory build-up that we've seen in 2023, does not repeat again into 2024 at that same level. So, we expect that to be more of a short-term element. We will stay probably at a higher elevated level, but we don't expect that step up in inventory again. With that, I expect our cash for 2024 to be roughly about - conversion rate from EBITDA to midpoint of guidance, roughly about 30% to 35% conversion rate for cash flow. The phasing will follow a similar pattern as we think about the P&L. Starting low, we’ll build up high as we get into Q4.

Vijay Kumar, Analyst

Hey, guys, congrats and nice print here, and thanks for taking my question. I guess my first one here, Brent, I just want to clarify, did you say the investments in Miebo are well above the $95 million? So, how much of a drag is Miebo on margins right now? And I'm curious, when do you think those margins will be accretive to corporate?

Brent Saunders, Chairman and CEO

Yes, I did say it is significant; I chose the word significant on purpose more than the $95 million, right? And that is very typical of the first year of a very promising pharmaceutical launch. Generally speaking, you tend to see the first two to three years in investment mode. I see this being a margin contributor in a more meaningful way in 2026 and becoming a significant contributor in 2027 and for years to come. That’s the right way to launch the drug. As I said earlier to Larry, I do think we can exceed our targets on peak sales. I'm not ready to set a number on it. We need more experience, but I'm very optimistic. This is a great drug and the acceptance is great. We need to execute. We need to expand the prescribers. We need to get the managed care coverage. There’s a lot of work to do, but our team is doing an excellent job and we are set up for what could become a very promising product and margin contributor on a significant basis over the mid to long term.

Sam Eldessouky, CFO

Yes, and Vijay, it’s similar sort of comments we made before. When you think about the launches, and especially Miebo being one of the most essential launches for us, we're playing the long game here in terms of the investment. When I think about it from a margin contribution perspective, I would probably step back and look at everything we put on the table from sort of a P&L, full P&L. For our guidance for 2024, we expect margin to expand anywhere between 50 basis points to up to 110 basis points. Taking the midpoint of that, of our guidance, that's about 80 basis points of expansion, while we're still investing for the long-term benefit by investing behind Miebo and other launches as well. Just keep in mind that next year is one of our highest number of launches that we're seeing in 2024.

Brent Saunders, Chairman and CEO

Yes, I mean, look, I think Vijay, we have been, and I said this at J.P. Morgan when I was interviewed by Robbie, we have been very deliberate. We want to drive margin expansion, but we want it to be sustainable margin expansion. We have said countless times, 2024 will be a significant investment year in the launches. Despite that, and despite the fact that we are investing heavily in Miebo and pretty heavily in Xiidra, as well as several other launches like INFUSE globally and Aspire, we are still going to drive margin improvement in 2024. We hope it's towards the top end of that range, as we talked about upside earlier. In 2025, we're going to have margin improvement. 2026, we're going to have nice margin improvement. 2027 is going to be even greater. We are really committed to driving long-term margin improvement. If you look at it over the next three to five years, it will be meaningful, but it's going to take time because the way to get there is to do the right thing and invest in these very important launches.

George Gadkowski, Vice President of Investor Relations and Business Insights

I think we'll take one more question, Holly.

Operator, Operator

Your final question for today is from Joanne Wuensch with Citibank.

Joanne Wuensch, Analyst

Thank you for taking the question and good morning. And I'll say upfront, I hope your shoulder heals quickly. Two quick questions. What percentage of your contact lenses are silicone hydrogel today versus a year ago? And I'll toss my second one in now. Where are you feeling, or how are you feeling about M&A at this stage? Thank you.

Brent Saunders, Chairman and CEO

Yes, so let me take the second part first and then Sam will give you some guidance on the first part. When I think about M&A, I've said this when we did the Xiidra acquisition; our priority is to digest and delever the Novartis assets, namely Xiidra. That is our plan for 2024. That being said, I mentioned in the prepared remarks, investing in R&D capabilities and BD capabilities. We are actively involved in numerous discussions around smaller products, R&D assets, and the like. I expect us to use 2024 to build our pipeline in pharma and surgical and consumer. There’s some really exciting science and some really exciting early-stage products that could be meaningful contributors to us if we make the investment. So, long-winded way to say nothing significant in 2024 for us, but look for us to be very strategic, adding smaller products or mid to late-stage R&D products for all of our businesses. Sam, you want to take that?

Sam Eldessouky, CFO

Yes. In terms of the SiHy, it is seeing right now, it is roughly about 10%, but it is growing fast. We've seen it growing really fast between 2022 into 2023. As Brent mentioned, it is growing in the high single digits - it's growing in double digits. We saw Q4 was about 31% growth, just in SiHy.

Brent Saunders, Chairman and CEO

Thanks, Joanne, and thanks for asking about the shoulder. So, Holly, let me just conclude with some remarks, if that's okay. Thank you all for joining the call. Reflecting on 2023 for just 30 seconds, I just hit my one-year mark here. It was a very busy year. I think the team accomplished a lot. We did a lot of activities. We remade the executive management team. We did a complete reorganization of our organization. We invested in big capabilities around selling excellence and digital. We started our strategic planning on supply chain, and I'm really proud of the team and what they've accomplished in 2023. I think our performance was very strong. What gets me really excited as I think about 2024 and beyond, and I hope as we continue to interact with all of you in 2024, you'll see a strong focus on execution and driving this company to reach its potential in the years to come. So, very excited outlook, and I look forward to keeping you all updated. Thank you so much.

Operator, Operator

The conference has now concluded. Thank you for attending today's presentation. You may now disconnect.