CONMED Corp Q1 FY2024 Earnings Call

Thank you for joining us today for CONMED's First Quarter Fiscal Year 2024 Earnings Conference Call. Before we start, I want to remind you that management will discuss our financial outlook, plans, and objectives. These comments include forward-looking statements that carry risks and uncertainties as defined by federal securities laws. Investors should understand that these statements are not guarantees of future performance or results, and actual outcomes may vary significantly from our expectations. We encourage you to refer to the risks and uncertainties outlined in today's press release and our SEC filings for greater detail. The company is not obligated to update any forward-looking statements made in this call unless required by law. Additionally, you will hear management mention non-GAAP or adjusted measurements during this discussion. While these figures are not replacements for GAAP measures, they help management track the company's financial performance over time and compare it with other medical technology companies. Adjusted net income and adjusted earnings per share reflect the company's income, excluding items deemed special or outside normal operations. Further details on these items can be found in the reconciliations within our earnings releases on our website. With that, I will now turn the call over to Curt Hartman, CONMED's Chair of the Board, President, and Chief Executive Officer, for his opening remarks. Mr. Hartman?

Thank you, Latif. Good afternoon, and thank you for joining us for CONMED's First Quarter 2024 Earnings Call. With me on the call is Todd Garner, Executive Vice President and Chief Financial Officer. We're also joined today by our new Chief Operating Officer, Pat Beyer. Today, we will share with you our first quarter results and the overall outlook for our business. We will then open the call to your questions. I'll start by reviewing our first quarter results. Total sales for the quarter were $312.3 million, representing a year-over-year increase of 5.7% as reported and 5.9% in constant currency. Prior to these results on top of last year's inflated growth, which was driven by a tailwind from the final sales catch-up from the fourth quarter 2022 warehouse issue. Our Global Logistics team has never operated in as coordinated and efficient a fashion as they are today, and I'm very proud of this team. From an earnings perspective, during the first quarter, our GAAP net income totaled $19.7 million, this compares to net income of $1.8 million in the first quarter of 2023. Excluding special items that affected comparability, our adjusted net income of $24.8 million increased 20.3% year-over-year, and our adjusted diluted net earnings per share of $0.79 increased 19.7% year-over-year. Overall, I'm very encouraged by our start to the new year as we saw strength across the domestic business and finished as expected outside the U.S. given the year-over-year comparable sales. First quarter surgical volumes were steady and capital spend in our categories remains consistent. Our new product launches, including the introduction of BioBrace into the Foot & Ankle space, while early, have us encouraged. We've made good progress in the supply chain challenges we were dealing with last year and our back quarter is now back to pre-pandemic levels relative to sales. Most importantly, we delivered solid results on both the top and the bottom line and are set up for continued strong 2024 performance. Before closing, I want to congratulate and welcome Pat Beyer as he has been promoted to the newly created role of Chief Operating Officer. I see this as a natural evolution for CONMED and our leadership team. Pat has great commercial and operational instincts, and builds tremendous teams that deliver results. He was the first member of the current team that joined CONMED back in December of 2024. He's well known across the company and, with over 30 years in the industry, is well known across our markets, both domestically and internationally. Finally, he has participated in various investor events during his time at CONMED so he has exposure to this area of the business and many of you listening as well. Overall, I'm pleased with our start to the year, excited by the broad underlying strength of our diverse portfolio and very encouraged by the positive engagement we are seeing across our business offering in all areas of the company. I'll now turn the call over to Todd, who will provide a more detailed analysis of our Q1 financial performance and take you through our full year guidance. Todd?

Thank you, Curt. All sales growth numbers I reference today will be given in constant currency. The reconciliation to GAAP numbers is included in our press release. As usual, we have included an investor deck on our website that summarizes the results of the quarter and our updated guidance. For the first quarter of 2024, our total sales increased 5.9%. As a reminder, a year ago, we grew 19.4% organically in Q1 of 2023 as we had a tailwind from reducing the warehouse-related backlog. When we look at the first quarter over a 2-year stacked growth rate, the average growth rate for the company is in the low double digits. Q1 of 2024 has also had one less selling day compared to the prior year quarter, which we estimate to have impacted consolidated growth between 100 and 150 basis points. For Q1, our sales in the U.S. increased 7.2% versus the prior year quarter, and our international sales grew 4.2%. Worldwide orthopedics revenue grew 3.0% in the first quarter. In the U.S., Orthopedic sales grew 10.6% and internationally, Orthopedic sales declined 1.6%. Total worldwide general surgery revenue increased 8.2% in the quarter. U.S. general surgery revenue grew 5.7% while internationally, general surgery revenue increased 14.1%. Now let's move to the expense side of the income statement. We will discuss expenses and profitability in the first quarter, excluding special items, as noted in our press release. Adjusted gross margin for the first quarter was 55.6%, an increase of 160 basis points compared to the prior year quarter. This was meaningfully better than expected due to product mix in specific geographies. Research and development expense for the first quarter was 4.4% of sales, 20 basis points higher than the prior year quarter. First quarter adjusted SG&A expenses were 38.7% of sales, 80 basis points higher than the prior year quarter. On an adjusted basis, interest expense was $8.2 million in the first quarter. The adjusted effective tax rate in Q1 was 23.8%. First quarter GAAP net income was $19.7 million. This compares to GAAP net income of $1.8 million in Q1 of 2023. GAAP earnings per diluted share were $0.63 this quarter compared to $0.06 a year ago. Excluding the impact of special items, in the first quarter, we reported adjusted net income of $24.8 million, an increase of 20.3% compared to the first quarter of 2023. Our Q1 adjusted diluted net earnings per share were $0.79, an increase of 19.7% compared to the prior year quarter. Turning to the balance sheet. Our cash balance at the end of the quarter was $33.9 million compared to $24.3 million as of December 31. Accounts receivable days as of March 31 were 70 days compared to 67 at the end of 2023 and 65 days a year ago. Inventory days at quarter end were 207 compared to 198 at December 31 and 215 a year ago. Long-term debt at the end of the quarter was $990.1 million versus $973.1 million as of December 31. Our leverage ratio on March 31 was 4.0x. As discussed on our last call, given the heavier cash requirements in the beginning of the year, we expect our leverage ratio to stay around 4x in the first half of 2024, and then drop into the low 3s by the end of 2024. Cash flow provided from operations in the quarter was $29.1 million compared to cash flow used for operations of $3.8 million in the first quarter of 2023. Capital expenditures in the first quarter were $2.0 million compared to $4.3 million a year ago. Now let's turn to financial guidance. The first quarter came in a little better than we expected, and we feel good about the expectations we set in January for the first half and full year. Currency did get worse by about $10 million on the top line for the year. So our reported range for revenue drops by that $10 million and is now $1.33 billion to $1.355 billion. We expect the currency headwind in Q2 alone to be approximately 50 basis points. So we're now guiding to reported growth between 4% and 6% in Q2. The currency impact is affecting gross margin as well, and we expect a portion of the mix favorability we experienced in Q1 to potentially swing the other way in Q2, resulting in gross margin improvement between 60 and 80 basis points over Q2 of 2023. This would put the first half 2024 gross margins in the range of what we expected back in January. Given the currency impact and expected higher interest rates for the year compared to 3 months ago, we are lowering our adjusted EPS range for the year by $0.05 to be between $4.25 and $4.35, which still represents growth between 23% and 26% over 2023. Overall, we are pleased with the Q1 performance and, excluding FX, we see the year unfolding the same way we did in January. And with that, we'd like to open the call to your questions, and I'll hand it back to Latif.

Our first question comes from the line of Matt O'Brien of Piper Sandler.

I think we could ask 2. So just for starters here, good to see general surgery come in above expectations. But the continual concern is just going to remain around this competitive threat. So I'm just curious what you've seen from that competitor as far as their insufflator. Is it similar to what you're offering with AirSeal? Is it more similar to some of the other previous products that have been introduced to the market that claim to be low pressure, but they're really not? And then what is your expectation in terms of the potential for some impact there versus being more aggressive on the traditional app side? And then I do have one more follow-up.

That was a pretty healthy string of questions there, Matt. So I may not get to all of them, so please remind me if I do miss some. So I think where we are is it's early days. To use a poker analogy, the cards have been dealt and CONMED's got the same hand we've been playing since 2016, which is a clinical insufflation hand where low-pressure consistency, precision pressure, all yielding significant studies, showing length of reduction, length of stay, a reduction in length of stay, reduction in length of surgery, reduction in post-op pain, all of that is still in our hands. What we've said going back to Q2 of last year is that we believe it would be a standard insufflation device in the marketplace. I think it's early. I don't fully have all the reports on what they're doing, but I think we still feel very good about our position with our product in the marketplace. And as Todd said back in January, our guidance going into this year incorporated some level of potential headwind, and our view on that has not changed. Todd, I don't know if I missed anything?

No, I think that's right.

There was one more piece to that long-winded question. It was really on the traditional app side. Are you guys making more investments there just to get ahead of any potential pressure?

I think that's a natural progression, Matt. The business had zero revenue in that space. And as of the end of last year, we had 40% of our AirSeal revenue in that space. And that is just a natural progression and evolution. We know how to do that. We've done it both internationally and in the domestic market. And we'll continue to go there. It's really a byproduct of marketplace saturation. And I'm not going to communicate if we're making more strategic investments in that area or not. But our sales force well understands that there's business out there to get both in general laparoscopic as well as robotic surgery, and we're going after both of them.

Got it. For the follow-up, I want to ask about Biorez specifically. You mentioned tens of millions of dollars this year. Will it exceed double what you achieved last year or possibly be even higher? How should we consider Biorez's potential for this year?

Yes. No, great question. I'm glad you asked it. When we acquired Biorez in 2022, we said it would be about $1 million in '22, and it was right in that range. We said in '23, it would get to mid-single digits. A year ago on this call, I said, high single digits. And in fact, we exceeded that number last year. And we said that as we got into 2024, it would be double-digit millions, and we feel very confident about that performance. And when we made that statement back in 2022, that was before we fully understood how it would play out in our Foot & Ankle business. And as I alluded to in my opening, we are in the early stages of launching that as indicated at Academy into Foot & Ankle, and we feel very good about the contributions Foot & Ankle and Biorez will make to the business as well. So we feel great about Biorez and feel great about its future, not only in 2024, but well into the future.

Our next question comes from the line of Young Li of Jefferies.

Congrats on the promotion, Pat. I guess, to start, was curious about just on the AirSeal side of service. Still currently relatively low penetration in the ASC channel. I guess, I'm kind of curious about sort of the economics and reimbursement in ASCs versus hospital inpatient settings for procedures. Is it a tougher sell into ASC, given the premium price versus conventional insufflators?

Young, I think I missed the first part of your question. I'm going to try to answer it, and if I'm a little off, please correct me here, but I think the genesis of the question is, is it harder to sell AirSeal into the surgery center? I think the short answer is there's not yet a substantial volume of laparoscopic or robotics procedures being done in the surgery center in general surgery overall. I don't think in any market, whether it's the hospital or the surgery center, we've run into pricing pressure because of the clinical differentiation and the substantial savings and value that facilities get from reduction in length of surgery, reduction in length of stay and reduced headaches for the clinical community in terms of post-op pain management. In fact, you have many institutions that are taking it into their ERAS program, which is the overall anesthesia and protocol care and looking at that inclusion of AirSeal to help with those programs. So I think the ASC setting, as procedures move there, we'll be ready to go there. I just don't think that's a big portion of procedure volume at this point in time in the U.S. market specifically. Hopefully, I got the question.

Yes, yes. You got it. That's spot on. I guess, for my follow-up, I'm kind of curious, as leverage dropped to the low 3s by the end of the year, maybe you can talk a little bit about thoughts on M&A. When are you more comfortable doing some deals, the size of the deals and what you might be interested in?

Yes. I would say there is really no change in our approach or criteria. I want to remind you that our acquisitions must contribute to the company's revenue growth, which is becoming increasingly challenging. As revenue growth increases, the acquisitions need to enhance that. They must also improve our gross margin profile. If this is not evident from day one, we need to have a clear plan to achieve that. For example, when we acquired Buffalo Filter, they initially met the corporate average but quickly began to positively impact our gross margin. So, that's one criterion. Additionally, the acquisition should offer some level of protection; we want to avoid acquiring something substantial that later turns into a liability. We prefer to acquire platforms instead of just standalone products, and we seek protection through intellectual property or other specialized knowledge that ensures the sustainability of the value we discussed. Lastly, and often the most challenging aspect, is that it needs to be at a price that benefits CONMED shareholders. We can't pass all the value to the seller, as that would not be logical. That remains our consistent approach, and we have been quite successful in it. We continue to explore the market and are aware of the opportunities available, and this is how we approach mergers and acquisitions.

Our next question comes from the line of Vik Chopra of Wells Fargo.

Two for me as well. So maybe I'll just start off with patient volume trends. Can you talk about what you saw during the quarter with respect to patient volume trends for orthopedics and general surgery and any color on April, perhaps? And then I had a follow-up, please.

Yes. I think as I tried to indicate in my opening comments, the quarter was pretty consistent. Availability of capital dollars, consistent with what we had historically seen. Availability of procedure volumes, pretty consistent with what we had seen. And whether it was orthopedics or general surgery, candidly. So the market specialties we serve were very consistent. There's always little pockets here and there. I think there's surgical community strike in Korea that's going on right now that is delaying things. But those things tend to come and go. And I'm probably not going to get into Q2 at this point in time, Vik. But I think we thought things were pretty consistent in Q1.

Okay. And then for my follow-up. I think last quarter, you called out some near-term challenges in your Foot & Ankle business. And Curt, I think you said that you expect to get back to full stride as you get into the second quarter. Can you just provide an update on where you are with the Foot & Ankle business and the performance this quarter?

Sure, that's a great question. Let me provide some background before discussing the current situation. Initially, that was a smaller business led by the founder's management team, and we chose to leave it mostly unchanged, adhering to a "do-no-harm" approach with our acquisitions. As time went on, the founder indicated plans to retire, which happened in the second half of last year. That business now reports to Pat, who successfully conducted a search and appointed a new general manager in the third quarter of last year. This new individual is getting acclimated and was recently out with the Foot & Ankle team at a major event showcasing products and meeting customers. They have relevant experience, which is a big plus. Additionally, we have started more comprehensive integration efforts. However, the main challenge for that business has been supply issues within our orthopedics category, particularly in the second half of last year. As we entered 2024, we committed to addressing these challenges in the first quarter. It typically takes some time for the sales force and customer engagement to return to previous levels. By the second half of 2024, we anticipate our orthopedics platforms, including Foot & Ankle and legacy Orthopedics, will regain their momentum and growth rates. Honestly, our domestic growth rate for Orthopedics in the first quarter showed positive trends, and we believe we are on track with what we discussed in January.

Our question comes from the line of Kristen Stewart of CL King.

I just had a question on the international performance in U.S., in Orthopedics that came in a little bit below where I was expecting. Is that just kind of the Foot & Ankle impact? Or is there more there?

No, I would say it's related to the warehouse catch-up that occurred in the first quarter of 2023, along with a significant number of Orthopedics capital shipments in that quarter. The high volume was specific to Orthopedics and did not involve Foot & Ankle at all.

Okay. Perfect. And then, Todd, just on the gross margin, I just wanted to make sure I understood your comments. Do you still expect gross margins to be up 100 to 150 basis points for the year? Or has that changed?

Yes. No change to the full year guide there, Kristen.

Our next question comes from the line of Rick Wise of Stifel.

I want to ensure that I fully understand the guidance. I hear your comments regarding the second quarter and currency. However, it seems that the implication is a strong acceleration in the second half to reach your new full year guidance midpoint. Can you share your confidence in this ramp and discuss some of the factors driving that acceleration? Additionally, what aspects of the portfolio are you particularly positive about that might lead you to achieve results at the upper end of your expectations as we look towards the rest of the year?

Sure, Rick. Thanks. There haven't been any changes in our outlook for the year or the comparison between the first half and the second half since three months ago. We are pleased with how Q1 performed, as it exceeded our expectations. We still anticipate the year unfolding as we projected last year, although currency conditions have worsened slightly for everyone, and interest rates are not expected to decline as they were predicted three months ago. Those are the main changes in our perspective for the year. Additionally, as Curt mentioned earlier, we have been facing supply challenges in the Orthopedics business over the past couple of quarters. We believe Q2 will be the period when those teams regain their momentum and become more proactive, with the positive outcomes becoming evident in the latter half of the year. This was our view three months ago, and it remains unchanged today.

Rick, just on the product side. The company has built a lot of diversity in its portfolio with a lot of new products. You were at Academy. You saw some of the new products we were showing there. Obviously, we remain incredibly excited by BioBrace and now with the expansion in the Foot & Ankle. We've got the entirety of the Foot & Ankle portfolio. We're clear in the back order and the team is getting back on offense. Our general surgery business, both internationally and in the U.S., remains very strong. And so it's not 1 or 2 products. It's really the diversity of the portfolio and the market segments we call on. And I think sitting here today, we feel pretty good about our offering. So I think that's what gives us confidence in that second half. And that's consistent with what we said in January that the second half was going to be a big second half.

Yes. I want to remind you that the growth rates we are discussing for the second half are not new for us. These are the rates we achieved last year during quarters without unusual comparatives, operating within that low double-digit organic growth. This is what our portfolio is capable of; it's not a new level we are aiming for. We are currently addressing some challenges on the supply side, which we are overcoming. Ultimately, it will return to the performance that this business has already demonstrated.

I have two more questions. I'd like to return to AirSeal. Could you elaborate on how your U.S. commercial strategy for AirSeal is changing in recent months? It seems to me that if you're facing challenges in one market or customer group, you might shift your team's focus more aggressively toward other segments or regions. I'm curious about your perspective on this. There's no doubt in my mind that AirSeal is an excellent product, but it doesn't capture the entire market. There are opportunities available. How are you considering other prospects, especially if you encounter increased pressure on one side? Are there additional areas you can pursue that might help alleviate or offset any concerns?

Yes, Rick, Listen, I'm not going to get into competitive strategies on a public call, but I think our teams are well versed on going to where the business opportunity is and taking advantage of that. And especially when you have a clinically differentiated product that has been used over millions of patient lives with a plethora of studies around all things related to patient outcomes. We believe that that combination, when presented to the surgical community, independent of the specialty setting is a game winner, and our view on that has not changed. And if it's a tougher sell in this market, we can either find new strategies to sell into that market or we can go to where it's not as tough a sell. But let's be brutally honest, medtech is a tough sell across the board because you have to convince people of clinical value and you have to work through value analysis committees. And we know how to do both of those with AirSeal because of what it brings to the table as demonstrated in the 8 years that we've owned it, and in the years before we owned it. And that body of evidence just grows daily. So we feel very good, independent of what may be in front of us, whatever path that we're going to find success here with AirSeal.

Got you. I apologize for asking a third question, but I want to ensure we address the smoke evacuation legislation. Recently, two more states, West Virginia and Virginia, passed smoke evacuation legislation, bringing the total to 17 states. You are seeing an increasing number of states adopting this. With the recent legislation being passed, what is your perspective? Is this altering the dynamics and outlook for the business? Any insights would be appreciated.

No, I think it's interesting. You would think at this point, there would be actually more legislation passing. It's been a little bit slow and I think if my memory and reading the data is correctly, I think Florida actually pulled the legislation, so they've actually taken a pause for a moment. I could be off on that. I'll have to double check that, but that's what my memory says. What we know is where states have passed legislation is that over time, as that legislation goes into effect, the growth rates in those markets are higher. And we think that's what will happen in West Virginia and Virginia. And we support the legislation. We support the operating room staff nursing to have a safe and healthy environment. So our offense here has not changed. We still believe we have a best-in-class product in the marketplace. We still believe we have a comprehensive portfolio that addresses all procedure types where smoke is created. And we still believe we have it in the hands of a great sales force around the world.

Yes. To clarify on Florida, there was a bill in process there, but the process ended on March 8. Florida had something in line to pass, but it didn't, and they will need to restart that bill.

Our next question comes from the line of Robbie Marcus of JPMorgan.

Great, Todd, I want to clarify some details on the guidance. You had a $5 million beat on the top line and $0.05 on the bottom line, but there's a $10 million headwind for foreign exchange, and you're lowering by $0.05. Is there a $5 million detail I'm missing? Or are you actually lowering by $10 million due to a $15 million headwind? Also, is the foreign exchange impact really a $0.05 headwind or more like $0.10, which would bring the net down by 5% after the first quarter beat?

Okay. Thanks for the clarifying question, Robbie. So the reduction on the year is $10 million, which is entirely due to FX. So no change to our full year guide. You are correct that we beat consensus in Q1 by $5 million on the top and $0.05 on the bottom. What we're saying is that relatively small beat does not change how we see the year on a constant currency basis. So no change to our full year guidance in constant currency. The only change is due to currency, which was that $10 million. So we still see the first half the way we saw it 3 months ago, even though we beat Q1 by a little bit, we still see the first half the same and we still see the second half the same as we did. The only adjustment being currency for the full year. And that goes for the top and bottom.

Okay. And then maybe just to help everybody get level set on what your first half expectations were. Anywhere you want to help set second quarter as we think about EPS or interest expense, which came in a bit lower? And you reiterated gross margin, which I believe FX gets offset in sales, correct, right? So that wouldn't change any of the OpEx guidance?

No, we definitely see foreign exchange impacting gross margin as well. That's why I provided a bit more detail on Q2 in my remarks. We expect Q2 to show reported growth of 4% to 6%. This includes a 50 basis points currency headwind, translating to $4.5 million to $6.5 million in constant currency growth for Q2, while still reflecting a 4% to 6% reported growth. I did not give specific EPS guidance for Q2, but I mentioned it back in Q1, and I believe the market has a general understanding of that. Considering the corresponding impact on the bottom line to achieve those revenue figures, I think we should be in the right range.

Our next question comes from the line of Travis Steed of BofA Securities.

Todd, I have a follow-up regarding Q2. If I understand correctly, after adjusting for currency, you anticipate constant currency growth of about 4.5% to 6.5%. You reported 5.9% in Q1. I'm curious about the factors that might affect the growth rate in Q2, especially since I assume supply will improve. Also, regarding In2Bones and Biorez, do you still expect that business to grow in the double digits in 2024?

Yes, I'll address the second question first since I remember it better. We still anticipate growth in the double digits for the year. Regarding Q2, the 4.5% to 6.5% range we provided follows the 5.9% we achieved, and I believe these figures are fairly consistent. You’re right that the supply issue should improve as we move forward. Looking at the typical seasonality between Q1 and Q2, I think our Q2 guidance is reasonable considering that seasonality. However, when we compare it to previous years, there can be some variability due to past circumstances, including the impacts of COVID-19. If we reflect on what our business typically does in a pre-pandemic scenario between Q1 and Q2, we believe our guidance is appropriate for the time being.

Our next question comes from the line of Mike Matson of Needham.

I have one question and I'd like to follow up on Robbie's inquiry regarding the change in guidance. I understand that you don't provide quarterly guidance, but you surpassed the consensus in the first quarter by about $5 million, and now you're reducing the annual guidance by $10 million. The pessimistic interpretation is that you're effectively lowering the guidance for the rest of the year by about $5 million. While it's not a significant amount, in an environment where everyone is closely monitoring potential impacts from intuition, it might send a negative signal. I'm curious why you didn't simply adjust it down by the $5 million net impact from the currency, taking into account the $5 million upside from the first quarter.

Mike, we take our job seriously. We gave you guidance based on our latest information, and there is no change to how we see the year. You are right, we had a small beat in Q1. We don't think that is big enough to alter our view of the year. We still see the year the same way we did 3 months ago. And we've given the guidance we've given today, and we think it's appropriate.

Okay. I understand. But I guess the $5 million effective reduction for the rest of the year, what's causing that, I guess, maybe let me put it a different way.

That nothing has changed on how we see the year 90 days later.

I would now like to turn the conference back to Curt Hartman for closing remarks. Sir?

Thank you, Latif, and I want to thank everybody for their time today, and we look forward to speaking with you on our next earnings call. Thank you, and have a good evening.

This concludes today's conference call. Thank you for participating. You may now disconnect.