Earnings Call Transcript - MASI Q4 2022

Operator, Operator

Good afternoon, ladies and gentlemen, and welcome to Masimo's Fourth Quarter and Full Year 2022 Earnings Conference Call. The company's press release is available at www.masimo.com. At this time, all lines have been placed on mute to prevent any background noise. After the speakers’ remarks, there will be a question-and-answer session. I'm pleased to introduce Eli Kammerman, Masimo's Vice President of Business Development and Investor Relations. Please, go ahead, sir.

Eli Kammerman, Vice President of Business Development and Investor Relations

Thank you. Hello, everyone. Joining me today are Chairman and CEO, Joe Kiani; and Executive Vice President and Chief Financial Officer, Micah Young. This call will contain forward-looking statements which reflect management's current judgment, including certain of our expectations regarding fiscal year 2023 financial performance. However, they are subject to risks and uncertainties that could cause actual results to differ materially. Risk factors that could cause our actual results to differ materially from our projections and forecasts are discussed in detail in our periodic filings with the SEC. You will find these in the Investor Relations section of our website. Also, this call will include a discussion of certain financial measures that are not calculated in accordance with generally accepted accounting principles, or GAAP. We generally refer to these as non-GAAP financial measures. In addition to GAAP results, these non-GAAP financial measures are intended to provide additional information to enable investors to assess the company's operating results in the same way management assesses such results. Management uses non-GAAP measures to budget, evaluate and measure the company's performance and sees these results as an indicator of the company's ongoing business performance. The company believes that these non-GAAP financial measures increase transparency and better reflect the underlying financial performance of the business. Therefore, the financial measures we will be covering today will be primarily on a non-GAAP basis, unless noted otherwise. Further, we will also be referencing pro forma financial measures, which include historical results for Sound United prior to the acquisition date of April 11, 2022. In our presentation today, we will once again be referring to this business as our non-Healthcare segment. Reconciliation of these measures to the most directly comparable GAAP financial measures are included within the earnings release and supplementary financial information on our website. Investors should consider all of our statements today, together with our reports filed with the SEC, including our most recent Form 10-K and 10-Q, in order to make informed investment decisions. In addition to the earnings release issued today, we have posted a quarterly earnings presentation within the Investor Relations section of our website to supplement the content we will be covering this afternoon. I'll now pass the call to Joe Kiani.

Joe Kiani, Chairman and CEO

Thanks Eli. Good afternoon and thank you for joining us for Masimo's 2022 year-end earnings call. 2022 was a momentous year for Masimo. Our Healthcare business outperformed expectations. We continue to innovate and deliver clinically proven new products in our professional healthcare markets and we accelerated our strategy to capture the vast consumer health market opportunity with the acquisition of Sound United, owner of iconic brands such as Bowers & Wilkins, Denon and Marantz. The acquisition has provided us with immediate scale across audio and automation engineering, sales and marketing and distribution that would have otherwise taken many years of diluted investment to build. Instead, we've already completed the integration of Sound United, re-branded the business as Masimo Consumer and are working to realize the tremendous potential of the hearables, wearables and telemonitoring markets unlocked by our unique combination of signal processing, physiological monitoring, audio and automation technology capabilities. Looking back on our financial performance in fiscal year 2022, the consolidated revenues exceeded $2 billion, with Healthcare revenues reaching $1.34 billion, representing 11% organic growth. The Masimo Consumer acquisition, which closed in early April last year, added $695 million to our reported revenues, bringing pro forma revenues for the consumer business to $963 million in fiscal year 2022, representing 11% organic growth as well. Our fourth quarter results continued the strong momentum we've built throughout the year, with consolidated revenues of $617 million, representing 9% organic growth. This included 10% growth from our healthcare business and 9% growth from our consumer audio business. In Healthcare, we benefited through 2022 from consistent success in winning new customers. We continued to capture significant new business during the fourth quarter gaining business with the Franciscan Ministries of Our Lady, Fresno Community Hospital and Nuvance Health. In addition, we renewed contracts with many of our customers including Cincinnati Children's and Temple University Hospital. Consumer Audio growth was fueled by new product introductions, improved supply chain conditions and strong momentum in our hearable strategy. I'm excited about the long-term opportunities in this business as our integrated platform enables innovative new solutions for consumers in not just audio, but health. Later in the call, I'll share more details on the new product launches slated for 2023 that will support our long-term growth in our professional healthcare and consumer franchises. Our strong financial results in 2022 demonstrate our ability to capture increasing market share within the large and growing markets that we compete in. The progress we made across our portfolio and on our consumer health strategy positions us to create value for patients, clinicians and shareholders for many years to come. With that I'll pass it to Micah to review our fourth quarter and full year results in more detail, and provide an update on our 2023 financial guidance.

Micah Young, Executive Vice President and Chief Financial Officer

Thank you, Joe, and good afternoon, everyone. Starting with the fourth quarter, our results clearly demonstrate the earnings power of our combined business, with revenues, operating profit, and earnings per share all exceeding the high end of our guidance range. Our consolidated revenue was $617 million, reflecting 9% constant currency growth on a pro forma basis. For our Healthcare segment, fourth quarter revenues were $352 million, which is a 10% constant currency growth. Our driver shipments for the quarter reached nearly 79,000, totaling 308,000 for the full year. This growth led to a 7% increase in our installed base of technology boards and instruments compared to the previous year. Strong performance from our rainbow blood constituent monitoring, O3 cerebral oximetry, and NomoLine Capnography and gas monitoring products fueled our Healthcare revenue growth. We are also encouraged by the progress we are making in promoting the adoption of our platform solutions in the various care areas of the hospitals we serve. Hospitals have been implementing Patient SafetyNet and our other hospital automation solutions in general ward settings to streamline workflows and improve patient management practices. The number of beds connected via Patient SafetyNet and Iris Gateway increased by 19%, and the installed base for our Root Connectivity platform grew by over 30% in 2022. In our Consumer non-healthcare segment, fourth quarter revenues were $265 million, representing 9% constant currency growth on a pro forma basis. Easing supply chain pressures and effective execution of our portfolio innovation strategy contributed to strong performance in this segment. We experienced double-digit growth for the Denon and Marantz brands, which saw success from new product introductions during the quarter. Additionally, Bowers & Wilkins experienced significant growth in their headphone segment, with sales doubling compared to the previous year. Moving down the P&L, for the fourth quarter of 2022, we reported a consolidated non-GAAP gross margin of 51.7%. This included gross margins of 61.6% for our Healthcare business and 38.5% for our non-healthcare business. As mentioned in our last earnings call, we believe the fourth quarter marked the floor for our gross margin due to currency headwinds and supply chain inefficiencies, with steady recovery expected throughout 2023. For our consolidated business, our non-GAAP operating profit increased by 24% to $104 million, and our non-GAAP earnings per share increased by 9% to $1.32 per diluted share for the fourth quarter. Fiscal year 2022 was a dynamic year as we positioned our company for success in capturing profitable share within the expanding markets for wearables, hearables, and telemonitoring. We achieved reported revenues of $2.036 billion and pro forma revenues of $2.293 billion, representing 11% constant currency growth. We also delivered operating profit dollar growth of 23% and EPS growth of 15%. Considering our integration of the new consumer business over the past year, we view these results as a significant achievement for the Masimo team globally. Now, I'd like to provide an update on our full-year 2023 financial guidance that we initially outlined at our Investor Day on December 13th. For the full year 2023, we now project a consolidated revenue range of $2.415 billion to $2.460 billion, indicating 6% to 8% growth on a pro forma and constant currency basis. Compared to our prior guidance, this represents an increase of $73 million at the midpoint of the range, which consists of an increase of $58 million due to foreign exchange improvements and $15 million due to enhanced sales expectations. For our Healthcare segment, we now project revenues of $1.450 billion to $1.465 billion, representing 8% to 10% constant currency growth, which reflects an increase of $23 million at the midpoint of our guidance range. For the Consumer Non-Healthcare segment, we now project revenues of $965 million to $995 million, representing 2% to 5% constant currency growth, which is an increase of $50 million at the midpoint of our guidance range. We also anticipate consolidated non-GAAP operating profit in the range of $400 million to $405 million, indicating 10% to 12% growth, which is an increase of $35 million at the midpoint due to foreign exchange improvements and better operational expectations. Additionally, we project non-operating expenses of $46 million to $48 million, reflecting higher interest expenses on the portion of our debt that has a floating rate, a tax rate of 26.5%, and weighted average shares outstanding of 55 million. Based on these assumptions, we project a non-GAAP EPS range of $4.70 to $4.80. Compared to prior guidance, this represents an increase of $0.40 at the midpoint of the range, attributed to foreign exchange improvements and better operational expectations, partially offset by higher interest expenses. Turning to our first quarter outlook, we project consolidated revenue of $550 million to $565 million, non-GAAP operating profit of $72 million to $75 million, and non-GAAP earnings per share of $0.81 to $0.86. Our first quarter guidance reflects higher litigation expenses associated with the trade secrets trial against Apple and the timing of sales and marketing investments in preparation for the launch of our consumer health products later this year. Please refer to the earnings presentation on our investor website for further details. Our outlook for 2023 reflects solid growth in the business while incorporating the strategic investments necessary to support our consumer health initiatives and establish a strong foundation for sustainable growth. With that, I'll turn the call back to Joe.

Joe Kiani, Chairman and CEO

Thank you, Micah. Thank you very much. While 2022 was a big year for Masimo, 2023 should be even bigger, both because of the record new customers that came to Masimo, but also because of all the new significant milestones we expect in 2023. We had a record year for our US Healthcare business and the second best year ever for a worldwide Healthcare business in terms of new customer wins over to Masimo technologies. We anticipate achieving many significant strategic milestones in 2023 that will mark the beginning of a second phase of growth for our company and the realization of important benefits from the Masimo Consumer business. With Masimo Consumer we are now focused on strengthening and expanding the shared connected automation ecosystem that powers our remote monitoring products and services. One of the important components is our home health hub-based HEOS devices for data streaming used in our connected suite of products. Growth for HEOS continues to rise as we realize an increase in the number of HEOS-containing devices in the fourth quarter of 200,000 devices with the HEOS installed base now exceeding 3.6 million. As we outlined at Investor Day, we plan to activate over 4 million HEOS devices in 2023, which will serve as a home health hub, for our secured health cloud and allow us to offer our customers untethered and connected care at home and broaden the reach of our many connected Masimo wearables, with innovative new applications in the future. We have a series of important new product launches planned this year that should set the stage for meaningful revenue contributions, from our consumer health products in the next two to three years. We shared some of these products with you at Investor Day, and we're highly encouraged by the feedback we received. Up first will be the medical version of our W1 watch, which is now pending FDA 510(k) clearance. Soon after that will be our STORK, baby monitoring system, which is already receiving strong interest from baby-focused retailers, as we map out our launch strategy leveraging Masimo Consumer's global reach. In the second half of the year, we plan to launch our next-generation earbuds with adaptive acoustic technology that will customize a sound spectrum, for an individual's unique hearing profile. Later this year, our Freedom watch, with the Android operating system is slated for launch. And our B1 sleep and fitness bands, will round out our portfolio of wearables with various price points and feature sets that can be displayed together, in retail stores for marketing synergy. We also have new products planned for sale in drug stores later this year, the Radius T disposable body temperature monitor and the VS1, spot check vital science measurement device. With these new product launches, you can understand why we are so excited about our prospects for consumer health. At the same time, we continue to develop our professional healthcare product portfolio to strengthen our leadership in patient care settings. In December, we announced the limited market release of our Sepsis Index, a breakthrough early warning solution designed to help clinicians catch deterioration in patient condition and track their recovery from sepsis. In January, we announced the limited release of our AI-based visual clinical activity monitoring system, a hand hygiene compliance solution, integrated into our Masimo hospital automation platform. We expect to roll both of these into full market release, in the near future. In telemonitoring and telehealth, we will continue to expand our capabilities both organically and via partnership, to support our home to hospital to home initiatives and improve access to quality care. In our OEM business, we announced a new addition to our partnership with Philips, in January that adds our W1 health watch to the Philips PIC iX system. The addition of W1 by Philips will improve the in-hospital experience for patients, by enabling mobility while reducing work for nurses related to sensor disconnections and connections. In our Global Health business, we achieved strong growth as products such as Rad-G for developing economies, had very healthy sales with shipments of approximately 30,000 units in 2022. These numbers are not included in the driver numbers that Micah announced. We also secured partnerships with major international humanitarian organizations, that will continue to deploy Rad-G in developing countries. Finally, I want to provide an update on our ongoing litigation with Apple. We received favorable rulings from the ITC and the PTAB, which are a critical step towards elimination of our IP in Apple's products. We look forward to continuing to advance our cases in the months ahead, with both the ITC and Federal Court. We expect to have our trade secret trial in April, here in California. As you can see, we have a very exciting year ahead, and are keenly focused on executing our strategy, to bring our innovations to large markets that have unmet needs. Through our differentiated and clinically superior technologies, our proven track record of innovation and our customer-centric approach to product development, we continue to advance our mission of improving lives, improving patient outcomes, and reducing the cost of care and taking noninvasive monitoring to new sites and applications. I'm energized by the opportunities we have and confident Masimo will continue to create long-term value for all our shareholders, just as we have done since our IPO. With that, we'll open the call to questions.

Operator, Operator

Thank you, sir. We'll take our first question from Rick Wise, Stifel.

Rick Wise, Analyst

Good afternoon. Hi, Joe. Hi, Micah. Very exciting to see such a strong finish to the year. There are so many places to start. Maybe I'll start first just maybe some big picture. You all talked on the third quarter call about macro challenges persisting into 2023. I'm just curious at a high level, how are you thinking about – how are you contemplating and integrating the macro pressures that remain on – again, you talked about the first quarter about currency supply chain inflation. Is your strong guidance suggesting you're thinking that things have stabilized into earlier in the year? So just – maybe just some high level to start this off.

Joe Kiani, Chairman and CEO

Well, maybe I'll take a crack at and then see if Micah wants to add some more detail to it. No, I think those challenges still exist and I'll add another one which is census and hospitals. We have not seen a return to the levels they used to be, but what makes us feel good about our guidance are many things. I mentioned the – for example, the record new customers that we attained in 2022. Well, many of that new customer contracts have not even been deployed yet. So we anticipate these hospitals converting to Masimo and beginning to use our product that will not only benefit them but of course benefit us. And I believe with all of these new exciting products and solutions we have we believe we can ride through some of those challenges. The only ones that we've seen ease so far is the supply chain. That seems to have gotten better although not perfect. But everything else I think is still challenging and we hope to be able to ride through them and hopefully exceed what we have even guided here. Micah?

Micah Young, Executive Vice President and Chief Financial Officer

Yeah. Rick, the only thing to add to that is to Joe's point at the end was on the supply chain. We've definitely seen some stabilization there. Freight costs have improved. And as I mentioned in my prepared remarks, we feel like we saw a low point in the fourth quarter. And consistent with what we mentioned in the last – the prior earnings call we feel that that's going to start to really steadily improve throughout the year. We're not out of the woods yet. I don't think any company – most companies are not out of the wood yet on supply chain issues but they're definitely stabilizing and we expect to see improvement.

Rick Wise, Analyst

Great. And again, lots of ways to go here, but I'm just going to focus on the W1, because Joe you called it out the importance of it the next version coming soon, maybe in a high level talk to us about where are you with the W1 rollout? You talked last quarter about the number of hospitals in the Middle East that are piloting W1 for COPD CHF. Where are we there? Maybe you can roll on – I'm asking a big W1 question. You announced the Masimo Philips W1 partnership. Maybe just update us in greater depth where are we – what's next? And what's baked into the outlook for 2023 for this driver? Thank you.

Joe Kiani, Chairman and CEO

Thank you, Rick. First of all, W1 is receiving fantastic feedback and reviews from our customers as well as from independent parties. We haven't yet launched it through our consumer channel; it's still focused on the hospital-to-home transition. Those who have been assessing it are pleased with its performance, and we are receiving significant positive verbal feedback. We hope to convert some of this interest into contracts and deployments this quarter, with the anticipation of realizing benefits in the second half of the year. We are discussing systems that aim to purchase tens of thousands of these W1 units to implement them in homes. Regarding our strategy for the Masimo consumer team, we intend to launch it alongside Freedom and B1. It’s vital for consumers to understand our vision for the future, rather than just what we currently offer, as these other products are much more appealing and user-friendly for those interested in a smartwatch experience or a wearable band akin to Fitbit. We see this rollout occurring in Q3 and Q4 of this year. We may consider a pre-sale rollout to gauge demand and inform people about what is coming, which could also benefit W1 sales to consumers. Overall, everything is progressing positively, and I expect that at the next earnings call, we will be able to share some tangible results from the hospital-to-home aspect of the business.

Rick Wise, Analyst

Great. Thank you so much.

Joe Kiani, Chairman and CEO

Thank you, Rick.

Marie Thibault, Analyst

Hi. Good afternoon. Thank you for taking the questions and congrats on a strong finish to the year. I wanted to ask a question here first probably for Micah. If we could try to understand a little bit better how you're thinking about spending and the spending cadence throughout this year. If I look at the Q1 guide for operating profit, it certainly seems a little bit lighter than what I assume we will be seeing for the full year. So should we think about that sort of some of the spending on some of these new projects being a little bit front-weighted in the beginning of the year? How should we be thinking about that cadence?

Micah Young, Executive Vice President and Chief Financial Officer

Yes, absolutely. Great question, Marie. As I mentioned in some of our prepared remarks, in the first quarter, profitability is not where we want it to be. We're doing everything we can to improve that, but right now some of our costs in the P&L for the first quarter are related to the Apple trade secret trial case. Working through all of that is leading to some additional investment in the first quarter. Additionally, the strategic investments we're making for consumer health launches later in the year involve investing ahead of revenue as we prepare for the promotions and channels for those products, so you will see some investment there as well. I did mention that about 1% of our total revenues are tied to the investments we're making to drive success with all the launches this year, ensuring we build out the right areas and promotional activities properly for that success. You’ll see that in Q1. Like I said, we're going to do everything we can to continuously improve and not only meet but exceed expectations.

Marie Thibault, Analyst

Okay. That's very good to hear. Thanks for that helpful detail. Like Rick said, there's a lot of good topics here, but maybe I'll leave some juicy ones for my peers. And just try to better understand, the $15 million that you called out that you increased guidance by in addition to the FX benefit or the FX lesser headwind, what really drove that improved sales expectation? It certainly sounds like you had a really strong finish to the year, but was there something more to it? Thanks for taking the questions.

Micah Young, Executive Vice President and Chief Financial Officer

No, I think as we start to look, Marie, we had a strong finish to the year. So we basically are holding our top-line guidance from a standpoint of growth rate. So, we're still feeling very good about 2023. It's going to be an exciting year for us, and as we get closer to these product launches, it's giving us more confidence. So we're holding that overall growth rate of 6% to 8%, 8% to 10% for healthcare and about 2% to 5% for non-healthcare. And on the non-healthcare side, the Consumer Audio we're just being thoughtful that we mentioned at Investor Day. We – thoughtful and prudent about the guidance. We'll see how things play out but right now those premium and luxury brands of Bowers & Wilkins Denon and Marantz are holding up very well.

Mike Matson, Analyst

Yes, good afternoon. Thanks for taking my questions. I guess I'll start with the new products, particularly in the consumer health products. So how much have you baked into your guidance for those? Is there anything in the guidance for those for this year, or have you been very conservative to just kind of keep it out?

Micah Young, Executive Vice President and Chief Financial Officer

Yes. We've taken a conservative approach there Mike. We've got – I think I mentioned even back in December that we've got a modest amount of revenue in for this year and we just want to kind of see how that plays out as we launch through those channels. Plus one key item to note is a lot of these products too are tied to FDA 510(k) approval. So we're being thoughtful about that as well.

Mike Matson, Analyst

Okay. I understand. And then just on the trade secret trial I guess, how firm is the Apple timing? And then second part of the question would just be what are the potential outcomes assuming that Masimo is victorious? I mean I'm more familiar with kind of patent trials but I've never really seen one of these before. Would it be just sort of damages or is there potential for royalties and things like that?

Joe Kiani, Chairman and CEO

Yes. The dates are seeming firm. We had a conversation with our judge a couple of weeks ago and he said maybe at most there will be a one-week delay at the time. So we hope the trial will begin first week of April and it'd probably last two to three weeks. We just had a trade secret litigation in front of Judge Selna against a former employee who started a competitive product. And right before that he went to Apple and took our stuff there too. So in that case, the judge did an injunction on the products that had our technology in it. So we're hoping that with this trade secret trial, we will get an injunction. And also there are damages in this case that depending what the jury concludes and then what the judge concludes, it could be from hundreds of million dollars to billions of dollars. So we'll have to see.

Mike Matson, Analyst

Okay. Got it. Thanks. And then just one on the non-healthcare business. I know that the kind of spending there on the sales and marketing and R&D within that business specifically was – from what I remember was significantly lower than kind of on the healthcare side. Look I understand why that's the case but it was also owned by private equity. So have you guys been – or are you planning to increase any investments in sales and marketing or R&D in that business?

Joe Kiani, Chairman and CEO

Well, I think you're right that previously they weren't really investing in themselves the way they should and I think there are certainly opportunities. But when it comes to the high end of music, receivers, as well as speakers, they already had a really good market penetration. So our focus is really to bolster the hearable side of their business. We want to go after the earbuds. We want to go after the headphones. And I think Micah mentioned that for example Q4, we doubled our headphone revenues compared to the same quarter a year ago. That is a $50 billion market potential that these companies combined had not even 1% of it and we have technology that makes us believe we should have a good share of that market. This adaptive acoustic technology is remarkable. The actual audio quality with Bowers and Denon and Marantz still are a lot better than what's out there. So – yes, so we will – where you're going to see our investment compared to when it was being run by private equity is to focus them on the markets that we think are large and growing and we have a reason to succeed. And – so that's going to be certainly one of them. And then, HEOS. HEOS is something they were neglecting. We think it's the Rembrandt in the old house that we found. And we're going to invest in it. And we're going to bring it out. And put the shine on it. And as you know, we want to use it to make wearable monitoring throughout the house connected always and easy. So we'll do what we can to invest in that, without sacrificing our earnings growth that we want to continue delivering.

Mike Matson, Analyst

Okay. Thanks. Appreciate it.

Operator, Operator

Our next question is Michael Polark, Wolfe Research.

Michael Polark, Analyst

Hey. Thank you. One numbers one. One bigger picture one on W1. On the numbers, I just want to be clear. The healthcare constant FX growth input like I heard 8% to 10% on this call. I'm looking at the Investor Day slides I saw 9% to 10% there. I guess what am I missing? Was there an adjustment there? If so why?

Micah Young, Executive Vice President and Chief Financial Officer

Yeah. So Mike, that's because we were showing growth rates based on a range from last year. The finishing point created a slightly wider range with a bit of rounding on it.

Michael Polark, Analyst

Got it. So dollars hold. You'd be in the quarter.

Micah Young, Executive Vice President and Chief Financial Officer

Yes, we are increasing revenue by a total of $23 million. If I recall correctly, currency improved by approximately $18 million. I don't have the exact figure in front of me.

Michael Polark, Analyst

Got it. The follow-up is on W1. Joe I'm curious, you're talking to systems interested in buying tens of thousands of these units. I mean, maybe this is a better question for some of your customers versus you but, is there a vision to use this as reusable equipment such that patient discharged goes home wears it for one to six months a year. And then it goes back to the hospital and can get recycled, or are you hearing more like patient is discharged and they get a W1 keep or something?

Joe Kiani, Chairman and CEO

You know what that's a really good question. I think time will tell, if they'll forgive the customer. And let them keep it or they'll force it back. Certainly, the product is reusable can be cleaned, can be reused. So we'll just have to see what they end-up doing.

Operator, Operator

Thank you. I’m closing the queue for questions at this time due to time constraints. Next, we have Jason Wittes, Loop Capital Markets.

Jason Wittes, Analyst

Hi. Thanks for taking my questions. First off, I just want to clarify. I believe you mentioned that pre-launch costs are about 1% for many of the consumer products planned for 2023. Did I understand that correctly? Additionally, should we anticipate other costs like advertising and so on with those launches?

Micah Young, Executive Vice President and Chief Financial Officer

The launch costs primarily consist of promotional advertising and marketing expenses related to those launches. Each product will utilize different marketing strategies within our existing consumer business channels. As mentioned last December, the consumer business has over 450 sales and marketing professionals globally, which will allow us to significantly leverage that channel. Additionally, we do have promotional activities linked to the investments we are making for these launches.

Jason Wittes, Analyst

Okay. So the incremental cost is about 100 basis points and then the rest falls on Sound United's existing infrastructure?

Micah Young, Executive Vice President and Chief Financial Officer

That's right. We're going to leverage and synergize through that channel.

Jason Wittes, Analyst

Okay. Thank you. That's helpful. And then on W1, as you mentioned, hospitals looking to buy tens of thousands that means, should we be anticipating that when you announce contracts there will be basically multimillion-dollar contracts, or how do we think about W1? And how you start recognizing revenue at least acknowledging revenue pathway for W1?

Joe Kiani, Chairman and CEO

Yes. Yes. We anticipate multimillion-dollar contracts. And it doesn't mean every contract will be that big but some of the systems we're talking to right now they'll be multimillion dollars maybe tens of millions of dollars a year. And it's a combination of the product and the service that we provide. So the magic of the last 20, 25 years has been our technology that really works but caring clinicians that know how to use it. So we're providing a service where caring clinicians will be able to monitor these patients remotely sometimes by the hospital staff, sometimes by third-party hospital staff, sometimes by people that we contract with. So yes so those will be a monthly service along with the products they need to assure the patient's safety and care is going well.

Jason Wittes, Analyst

Good. That was helpful. I’ll get back in queue.

Operator, Operator

Up next is Jason Bednar, Piper Sandler.

Jason Bednar, Analyst

Thanks. Good afternoon. Congratulations on the quarter and the guidance. I'd like to start with some questions about Stork. Do you have any updates on the regulatory process and any interactions with the FDA? Additionally, could you provide similar information regarding W1, as I believe that one is still pending? Also, could you elaborate on the interest from baby retailers for Stork? What is your perspective on the launch process? What kind of adoption are you anticipating after approval and launch? I know I'm asking a lot, but how would you define success for Stork over the next two to three years? You've discussed W1 extensively, but I’d like to hear a similar perspective on Stork.

Joe Kiani, Chairman and CEO

We've had positive discussions with the FDA regarding the regulatory climate, and we are hopeful that SafetyNet alert will be cleared in the next quarter or two. They also recognize the W1 and other products like Stork, for which we aim to obtain clearances. However, we are not tying the launch of Stork to FDA clearance. Although we expect better success with FDA clearance since it will be the first product of its kind approved by the FDA, we believe we can market it internationally, including in the US, without that clearance. In terms of success for Stork, there are around four million births a year in the US, and regrettably, about 5,000 infants die from sudden infant death syndrome annually. We see Stork as a critical product that complements our Masimo SET pulse oximetry plans. I believe it could generate $100 million to $200 million in revenue over the next few years. I would consider that a success, and hopefully, it will continue to grow beyond that.

Jason Bednar, Analyst

I'm trying to make sense of this in real time, so I apologize if I'm not great at math. I thought you mentioned a 100 basis points contribution from new products during the Investor Day, but now we're discussing potential revenue of $100 million to $200 million from Stork and tens of millions from W1 contracts, not including B1 or Freedom. I wanted to clarify if Radius T and VSP are included in those numbers. It's challenging for me to reconcile the earlier 100 basis points, which might have been a bit conservative, with these substantial figures being presented for some of these launches. Could you clarify what I might be missing or miscalculating?

Joe Kiani, Chairman and CEO

I believe we are comfortable with the numbers we provided and are optimistic about exceeding them. However, it's important to note that Masimo Consumer Health is a start-up within our organization, and start-ups are inherently difficult to predict. In my previous experience with a start-up, it ultimately became much more successful than expected, but it took longer than anticipated. Regarding the potential success of Stork, we envision it generating between $100 million to $200 million annually. While this won’t happen this year, we anticipate it will materialize within the next few years, ideally in two to three years. Concerning the W1 revenues, the contract amounts in the tens of millions will be rolled out gradually by our hospital partners rather than deployed all at once. I'm uncertain how much of that will reflect in 2023, and I wouldn't want to speculate. Our goal with Masimo Health is for it to have a greater impact than our previous endeavors, which is why we are taking this risk.

Jason Bednar, Analyst

Okay. Fair enough. I'll follow-up more offline, but maybe squeeze one more in here. Just we are coming up on the word nomination windows opening. I'm just curious if you could talk about whether there's been any discussions that have or haven't been had with the activist investor that is present right now?

Joe Kiani, Chairman and CEO

Well, I'd rather not get involved with that. I'm planning to hopefully meet with our shareholders, I know along the last few months and historically this is something we've done. And it will include also our new activist shareholder. So at the end of the day when I took Masimo public, I knew it's no longer my baby, it's our baby. While I'm the single largest shareholder in the company, I don't own the majority of Masimo. And I think it's going to be something that our shareholders have to decide what's the best future for Masimo, and hopefully they'll make an educated decision and something that we can all be happy about long-term.

Jayson Bedford, Analyst

Hi, good afternoon. Maybe just a few. I wanted to ask about Healthcare gross margins in the fourth quarter. The business has kind of been historically 65%, 67% in the quarter just south of 62%. Can you just comment on the factors impacting gross margin be it supply chain FX et cetera?

Micah Young, Executive Vice President and Chief Financial Officer

Healthcare gross margin is currently around 62%. We expect it to reach about 63% in Q1, with a gradual improvement expected throughout the year. In Q4, the margins were lower than anticipated due to some cost carryover from previous quarters, resulting from capitalizing on supply chain and manufacturing inefficiencies. These factors impacted our inventory turns and led to higher costs. We were aware of most of these issues, and there were also some one-time inventory-related charges in the quarter, which slightly suppressed our gross margins. However, we are observing improvements in freight costs, and things are starting to stabilize. While inventory spot buys and component costs are still not at ideal levels, they are stabilizing, and we are becoming more confident in a steady improvement throughout 2023.

Jayson Bedford, Analyst

And Micah, I may have missed this, but outside of the 51.7% in the fourth quarter being the floor, did you comment on gross margin in 2023?

Micah Young, Executive Vice President and Chief Financial Officer

Sorry in 2023?

Jayson Bedford, Analyst

Yeah.

Micah Young, Executive Vice President and Chief Financial Officer

We have shared our gross margin expectations for 2023. For the full year, we anticipate approximately 54% for the combined company. In healthcare, we expect around 63.5%, and for non-healthcare, we are looking at somewhere between 40% and 41%.

Jayson Bedford, Analyst

Okay. That's helpful. And then maybe just on the other side pricing. You mentioned you renewed a handful of contracts maybe a couple of handfuls with existing customers in the fourth quarter. Were you able to capture some price on these renewals?

Joe Kiani, Chairman and CEO

Yes, in the past, our prices used to decrease by a couple of percentage points annually, but we have stabilized that. For several years, our prices remained flat, but recently we have increased them. We initially held back from raising prices as we were trying to determine if the cost increases were temporary or permanent. Additionally, new hospitals faced challenges with COVID patients and revenue from surgeries. Now that we have more clarity on these issues, we have raised our prices, although not as drastically as some others have; we've only increased them by a few percentage points. We will likely continue this approach for a while to help us regain our normal gross margins.

Jayson Bedford, Analyst

Okay. And just competitively, is pricing pressure to the extent that you believe there was any pricing pressure out there, has it eased at all?

Joe Kiani, Chairman and CEO

Yes, it has, because we have learned to be disciplined and sell the value, something that I didn't think would happen, but retrospectively, looking back, it has happened. Masimo SET pulse ox is the only pulse ox that has made a clinical outcome benefit. I know, it's a big thing to say, but it's true. Whether it's in the neonatal ICU, reducing retinopathy of prematurity, or whether it's in the postsurgical ward, dealing with patients with opioids, nothing else has made a positive difference than we have. And that positive difference isn't only improving clinical outcomes, but it's also been in reducing cost of care. So that has, over time, given our sales force the confidence to charge a fair price, which, by the way, is 30% to 50% lower than where pulse ox sensor pricing used to be when we first launched Masimo SET. But we did not continue the price reduction, when our competitor had nothing else to do except that and bundling. So yes, so I'd say, that pressure has been reduced, and our team knows how to sell the value of our technology.

Jayson Bedford, Analyst

Great. Thank you.

Joe Kiani, Chairman and CEO

Thank you.

Matt Taylor, Analyst

Hello, Matt. Hey Joe. Thanks for taking the question. I wanted to see if you had any thoughts or comments on LiDCO because it was the first ITC to go across Biden's desk, and they got a good outcome there. You've got yours. Is there any read through, you think, from that? And maybe you could help us think about the crosscurrents of having kind of two shots on goal at least here with that and the trade secrets case.

Joe Kiani, Chairman and CEO

Yes, we are very pleased to see that not only in the ALJ and the LiDCO case, but also that the commission recommended an injunction and the Biden administration did not reject it. This is the best way to ensure that innovation is protected when patents are respected, and an injunction is truly the last resort to deter any thoughts that infringement is an efficient approach. Regarding Masimo's case, the ALJ found that Apple infringed our patent and recommended in a lengthy decision that Apple should be enjoined. This is now with the commission, and we hope they will also find a way forward for our injunction. Given that President Biden did not intervene in the LiDCO decision, we are hopeful he will not intervene in ours either. We have some advantages that LiDCO did not. Firstly, we are the leading pulse oximetry company in hospitals, focusing on more than just consumer products. This is significant since our product performance is considerably better than Apple’s. Therefore, there is no real reason not to impose an injunction, as our pulse oximetry technology is much more advanced. Secondly, the patent that the judge found to be violated and used to recommend an injunction has recently been upheld by the PTAB in the IPR challenge. Apple had previously assumed they would succeed in every interparty reexamination, but they did not win this time. Our patent is valid and was found violated by the ALJ. We feel positive about that and are also pursuing other avenues in the trade secret case. However, I must say that this situation is regrettable. When we first met with Apple in 2013, we hoped to collaborate for the benefit of both our companies and our customers. It is unfortunate that it has come to this; we do not take pleasure in it and feel compelled to defend our innovation.

Matt Taylor, Analyst

Maybe I could sneak one more in for Micah. Micah, I was just hoping it's the first full year of Sound. Could you remind us of any special seasonality or orders anything that we should be thinking about as we cadence our models that was stronger or weaker throughout the year last year that would factor in as we forecast this year?

Micah Young, Executive Vice President and Chief Financial Officer

Yes, Matt, it's a great question. For Q1, we are providing guidance in our earnings presentation with more details. This will be the lowest point for the business, and we expect it to steadily improve in Q2 and Q3, reaching its peak in Q4. If you look at the pro forma numbers in the earnings presentation, you’ll notice that the last three quarters of 2022—Q2, Q3, and Q4—are likely to be more typical for us in 2023. Q1 was above the trend line, making it a challenging comparison. In Q1 of 2022, the pro forma growth, which wasn’t reported under our figures, was driven by easing supply chain bottlenecks that allowed for increased throughput. That quarter saw about 22% growth in constant currency, so we are expecting a tough comparison for the first quarter of 2023, but you will see revenue improve steadily, peaking again in Q4.

Jason Bednar, Analyst

Great. Very helpful. Thank you, guys.

Micah Young, Executive Vice President and Chief Financial Officer

Thank you.

Joe Kiani, Chairman and CEO

Thank you all for joining us. We look forward to our Q1 earnings call. Have a wonderful rest of your week. Thank you.

Operator, Operator

Once again, everyone that does conclude today's conference. Thank you all for your participation. You may now disconnect.