Mesa Laboratories Inc (MLAB) Q2 2027 Earnings Call Transcript

Capital allocation decisions and debt reduction initiatives, expected tax rates, national and global economic conditions. Our ability to achieve our fiscal 27 guidance, the timing, cost and benefits of the savings plan and restructuring program, potential impairment charges, share repurchases, and other factors described in our filings within the Securities and Exchange Commission, which are incorporated by reference. We disclaim any obligation to update these forward-looking statements. In addition, we will provide certain non-GAAP financial information on this call, including adjusted EBITDA, adjusted operating income, organic and constant currency organic revenue growth, revenues excluding clinical genomics, and combined gross profit for our quality control and life science tools businesses, each for the quarter and where noted on a year-to-date or trailing 12-month basis. The relevant definitions and reconciliations to the most directly comparable gap measures may be found in our earnings release and in the supplemental reconciliation posted in the Investor Relations section of our website at MesaLabs.com. With that, let me turn the call over to Siddhartha.

Thank you, and good afternoon, everyone. In August, I told you I would use every one of these calls the same way. To be direct about what's working, what is not yet working, and what we have decided to do about it. That has not changed. I also told you that August was the appetizer and that the dinner would come in November. Fully the guidance alongside our first half results. This is that call. So before anything else, let me read back what we said we would do, because I think consistency is the first thing you should be able to hold us to. We said I would give you a clear read on the durable fix in SDC. I'll give you that read in a moment, and it's a mixed one, which is why I want to be precise about it. We said the next Gyrolab platform will launch in fiscal 2028. That is still the plan. We said clinical genomics was being managed deliberately and that we would have more to share as that work progressed. On October 13, we announced how we are changing the way we manage that business for profitability. We said we would keep strengthening the balance sheet towards one and a half to one and three quarters turns of net leverage by the end of the fiscal year. We are at 1.75 times already within the range with two quarters to go, down from 1.85 at the end of June. I said acquisitions were not my near-term priority, and that I would come back to capital allocation today. I will. And we said we would give you full year guidance on this call. We are doing that today, and you will see that it shows real and growing earnings power. So, a quarter of real progress, one franchise that is a disappointing quarter for reasons, I'll explain, the decisions we made in October, and our first full year guidance. Let me take you through it. Before I do, one welcome. Sanket Shah joined MESA on November 2 as our General Counsel, as we announced today. He strengthens the leadership team we are building, and I'm glad to have him with us. Next, I have four core messages for you. If you take four things away from this call, let it be this. First, growth is building, led by our two steadiest franchises. Organic revenues grew 2.6% in the second quarter, up from 1% in the first. Excluding clinical genomics, which we are reshaping, revenues grew about 5% in the quarter and about 3% in the first half. Sterilization and disinfection control grew in the mid-teens organically, and calibration solutions grew in the low single digits. The two franchises doing what they are built to do. Biopharmaceutical development had a weak quarter. For reasons that are about timing rather than demand, and I'll be specific about them. Revenues will move between quarters in a business like ours. What I want you to watch is the direction and the direction is up. For the full year, we expect adjusted EBITDA to grow faster than revenues. Second, we acted on clinical genomics, and we are reinvesting where the returns are. On October 13th, we announced a savings plan that is expected to reduce our annualized operating costs by approximately $9.3 million. We are reinvesting approximately $4.3 million of those savings, primarily in commercial capacities in the businesses and regions where we see the most opportunity for profitable growth and in key corporate positions. Our total expected net annualized cost reduction is approximately $5 million. Clinical genomics is now being managed for profitability, not for scale. Third, a capital allocation strategy agreed with the board that starts with the balance sheet. Our capital allocation started in October when we moved capital out of clinical genomics and into our more profitable businesses. And that work continues because every business competes for capital on the returns it earns. Together with the board, we have now completed a review of our capital allocation strategy and the priorities are simple. We invest in our own businesses where we see the best returns for profitable growth. We keep the balance sheet strong. We repaid $20.1 million of debt in the first half and our net leverage is 1.75 times. As we earn it, we will bring distributors in-house and then add small tuck-ins in our quality-control businesses. Alongside those priorities, the board has authorized a share repurchase program of up to $40 million through December, 2028. Which gives us the flexibility to repurchase shares opportunistically while we continue to reduce debt. Fourth, our first full-year guidance. Today we are giving full-year guidance for the first time, revenues and adjusted EBITDA. I built it the way I told you I would. On a first half year of data, undone operating changes we made, and conservatively, because a number you can count on is worth more than a number that flatters a quarter. In the first half, adjusted EBITDA grew 20.9% on revenues, up about 1.8%. For the full year, our guidance has it growing 5% to 8% even after the reinvestment and lower clinical genomics revenues. Next, let me address sterilization and disinfection control, the read that I promised. Let me start where I spent the most time in August. I told you SDC had a delivery reliability problem, not a demand problem. And then I would give you a clear read on the durable fix in November. Here it is. First, the results. SDC grew 14.6% organically in the second quarter. I want to be precise about what that number is. Most of it is comparison. Delivery delays caused past due backlog to build in the second quarter last year. During the second quarter of this year, past due backlog remained roughly steady and at a substantially lower level than a year ago. For the trailing 12 months, SDC revenues were $103.9 million, up 8.5%, the highest 12 months in this franchise's history. And on a first-half basis, SDC grew about 5%. Those are the right lenses for this franchise. Second, the fix. In August, I said the job was converting search work into standard work. On most of our product lines, we've done that. The manufacturing issues behind the delays have been resolved, and then those lines are now shipping on a schedule our customers can plan around. That is real, and it's our team's work. In September, the FDA inspected our Bozeman facility, where we make biological indicators, and issued no observations. But I promised you a clear read, not a victory lap. So here is the part that is not finished. One key product line, the one that carried the largest share of our past due backlog, has only been partially resolved. We understand the problem, we have the right people working on it, and it remains the single biggest priority in this business. Until it is fixed, SDC will not be as reliable as it should be, and I will not tell you it is. So the honest way is this, the durable fix is in place for most of the franchise, it is not yet in the place for all of it, and demand has been there throughout. Our customers have continued to order from us, and as product has become available, it has moved. That tells you what this franchise is worth once delivery is fully reliable. Next, Calibration Solutions. That business grew about 3.5% organically, on top of nearly 11% growth a year ago. Calibration Solutions is a recurring service-driven business that compounds quietly, and it did that again this quarter. We are adding business development capacity here as part of the reinvestment I described to expand the geographic reach of this business. Now, on to biopharmaceutical development. Biopharmaceutical development had a weak quarter. Revenues declined 8.2% organically, and I want to tell you exactly why. Because the reasons are not a lack of demand. The first reason is export controls. As I said in August, export control processing on certain in-hand orders has been taking longer than we expected, and delays have continued through the second quarter. The second reason is simpler and more disappointing. A number of shipments missed our second quarter close by a few days. Those orders were in hand and shipped by mid-October, so they will be third quarter revenues. I won't pretend that's a good quarter. It is not. It's a quarter where revenues moved from one period to the next, not one where the customers walked away. The commercial rebuild around our general manager is continuing. The Gyrolab Next Generation platform remains on track to launch in fiscal 2028, and I continue to expect this business to grow for the full year. Finally, clinical genomics will be announced on October 13. In August, I said we are managing clinical genomics deliberately with full attention to its cost structure and returns, and that we have more to share as that work progressed. On October 13th, we shared our restructuring and savings plan. Clinical genomics revenues declined 8.8% in the quarter, mainly from the timing of consumers' orders from a large customer, with China modestly lower. But over several years, the patent has been one of declining revenues, and that is the reason we decided to restructure the business. Going forward, we'll focus clinical genomics on pharmacogenomics and oncology and on customer accounts that use the mass array at scale, and we size the organization for that. Revenues will be lower as a result, but we expect the profitability to be meaningfully higher in dollar terms as costs come out. Further, gross profit percentage is expected to improve because the revenues we are stepping away from are the lowest margin revenues in this business. We are already seeing what that focus looks like with customers. Our three largest clinical genomics customers have each renewed with us for the terms of two to three and a half years, in fact, the longest three and a half years with our largest customer. Commitments of that length from account that use the mass array of scale are exactly the kind of relationships we are building this business around. Let me say a word about why. Whatever business we own, our job is to run it as well as it can be run, to be good stewards of it. A business that consumes cash leaves very few choices about how to invest in it. A business that earns its keep and generates cash gives us many more options. In clinical genomics, we are building a focused, profitable business that we expect to generate cash. That is the right way to run any business we own, and it is what puts us in a position to make good long-term decisions. The restructure involves not a decision to exit any specific end market. If a customer uses the instrument at scale, we want to serve them wherever they are. It was a difficult decision for the people affected, which is why we've approached that with due care. How I'm starting to think about the company. Before I discuss the company as a whole, I want to share how I'm starting to think about our portfolio, because it is how I will think about where we put capital. When I look across our four businesses, they fall naturally into two pairs. Sterilization and disinfection control and calibration solutions have a great deal in common. These are many customers, primarily regulated manufacturers and healthcare providers. They run on a high volume of transactions with a similar commercial approach, and they make products in regulated manufacturing environments. What they have in common is that our customers use them to show that their processes are under control. I started to think of them as quality control businesses. Similarly, biopharmaceutical development and clinical genomics are different than quality control businesses. They serve fewer customers, mainly biopharmaceutical companies, contract research organizations, and clinical research laboratories, with fewer commercial transactions and longer sales cycles. I've started to think about them as our life sciences tools businesses. To put numbers to that, I can simply add together the segments we already report. In the first half of fiscal 2027, revenues from our quality control businesses were $77.2 million, and from our life sciences tools businesses, $45.3 million. Our quality control businesses generated combined gross profit, a non-GAAP measure of $51.3 million, or 66.4% of revenues, compared with 27.6 million, or 61% of revenues, for our life sciences tools businesses. We also incur more sales and marketing and research and development expense in our life sciences tools business than we do in our quality control businesses. As I started to think about the company this way, I see our quality control businesses as the foundation we build on. Through both internal investments and acquisitions, the natural home for tuck-in acquisitions, such as adding products and technologies that complement what we already sell. Our life sciences tools businesses will build primarily through internal investment, like the new platform BPD is investing in for the growth. We'll continue to report our four segments, and that's how John will take you through the quarter. The savings plan and margin is the next thing I'll talk about. Let me step up to the company as a whole. The savings plan we announced on October 13 is expected to reduce annual operating costs by approximately $9.3 million through a global restructuring program, a smaller facilities footprint in San Diego, and reduce third-party spending. We plan to reinvest about $4.3 million in business development capacity and calibration solutions, commercial resources primarily in Asia, and key corporate positions. for an expected net annualized cost reduction of approximately five million dollars. The actions are underway and we expect them to be substantially complete by the end of this fiscal year with the full benefit in our cost base by the end of fiscal 2028. I said in August that I would reinvest the portion of our operating leverage rather than maximize one Thank you. That is what this is. Costs moving out of the part of the portfolio with lowest returns and into the parts with the highest. Let me now turn to capital allocation because this is where the way I think about the portfolio becomes decisions that matter for the value of the company. The journey started with the decision we announced on October 13, moving capital out of clinical genomics where it earned the least and into the businesses where it earns the most. That was the first step, not the last. We'll keep testing every business against that same question and more resources to where they earn the most. I gave you all priors at the top, and the order matters. We have options because our business has raised significant cash from our operations. Our own business comes first. The best returns available to us are inside Mesa. The commercial capacity we are adding to calibration solutions and in Asia, the next generation gyrolab platform, and reliable manufacturing in sterilization and disinfection control. If we find more opportunities to grow organically than we expect, that is where the capital goes first. Next is the balance sheet. We reduced debt by about $20 million this year, and we'll keep reducing it. A strong balance sheet is what lets us act when the right opportunity comes, other than when we have to. On acquisitions, let me pick up exactly where I left off in August. I said then that acquisitions are not my near-term priority and that this might change later in the second half with small distributor buyouts or tuck-in acquisitions, and that I would come back to it today. Here is where that stands. Our first job is still earnings, delivering the savings plan, delivering the guidance I'll give you in a moment, and keeping the balance sheet strong. Within those parameters, we expect to bring a small number of distributors in-house. Those are capability building moves. In markets where we already sell through others, they give us direct access to our customers and the service relationship that goes with it. And when our earnings record is in race, we expect to turn our attention to the small tuck-ins in our quality control businesses. Markets that we know, channels we already own, and the kind of deal we've done well before. That is a sequence I described in August, and we'll earn our way to it. Acquisition opportunities and life science tools tend to be larger or to come at higher valuations, so we would expect to be much more selective there. And with the balance sheet where it is now, our board has authorized the share repurchase program of up to $40 million through December 2028. I want to be clear about how we intend to use it, opportunistically and with discipline, and never at the expense of the balance sheet. The test for every one of these capital allocation decisions is the same. Does this dollar earn more here than anywhere else we could put it? Now, the guidance I promised you. From today, we guide on adjusted EBITDA, the measure most of our peers use, and close to the measure in our current facility. Through the end of this fiscal year, we'll also report adjusting operating income, the measure I used in August, and John will take you through how the two reconcile. For fiscal 2027, we expect revenues of $250 million to $255 million and adjusted EBITDA of $66 million to $68 million. Four things about how to read that. It is company-level guidance. We are not guiding individual businesses. It includes the savings plan and its reinvestment and the lower clinical genomics revenue that comes with the decision we made, and it excludes the restructuring charges, which John will take you through. Finally, compared with adjusted EBITDA of about $63 million in fiscal 2026, the guidance has adjusted EBITDA growing about 5% to 8% on revenues, up about 0% to 2%. I built this guidance conservatively on purpose. In August, I said I would rather give you a number I can stand behind than anchor you to one in my first 100 days. The same principle applies now on a full half year of data. Our job is to deliver it and then do it again. One more point on timing. With the changes we are making, our results will not move in a straight line from quarter to quarter. We expect third quarter revenue to be about flat compared with last year, mainly because clinical genomics revenue stepped down as we reshape that business. Outside clinical genomics, we expect our businesses to keep growing. Please judge us on the full year. Finally, let me close when I begin in August. Mesa is set of durable, regulation-embedded franchises with real and growing earnings power. and fixable execution problems that we are fixing. This quarter, more of that fixing showed up in the numbers, and one important piece did not yet. You'll hear about both from me every quarter. With that, let me hand it to John.

Thank you, Siddhartha, and good afternoon, everyone. I'll stay in the numbers for today's call. I'll first discuss the income statement, the restructuring, statement of cash flows, and the balance sheet, and then the mechanics of our guidance. Unless I note otherwise, comparisons are to the second quarter of fiscal year 2026. Total revenues were up 62.3 million, up 2.6%. With no acquisitions in the past 12 months, organic growth was also 2.6%, and constant currency organic growth, which excludes a currency headwind of about 50 basis points, was 3.1%. For the first half, organic growth was 1.8%. Gross profit was $39.9 million, or 64% of revenues, up 250 basis points from 61.5%. Now by division. SDC gross profit as a percentage of revenues increased 260 basis points to 69.9%. Primarily due to lower contract labor and consulting costs, as the prior year included spending on manufacturing process improvement initiatives and third-party production support. And higher revenues on a partially fixed cost base. BPD's gross profit percentage increased 670 basis points to 65.1%, primarily due to favorable product mix as higher margin immunoassays revenues and consumables representing a greater proportion of the division's revenues and lower margins in the prior year from the impact of tariffs and foreign currency. Calibration Solutions gross profit percentage declined 110 basis points to 59.6%, primarily due to unfavorable product mix and higher transportation costs, and clinical genomics declined 80 basis points to 53.9%, primarily due to unfavorable product mix, as higher margin consumables represented a lower portion of revenues, as well as lower revenues on a partially fixed cost base. Operating expenses declined 3.4% to $31.5 million, primarily due to lower stock-based compensation, as the prior year included costs associated with multi-year equity awards granted to our former CEO, lower expense related to estimated uncollectible accounts receivable, and lower amortization as certain intangible assets became fully amortized. Gap operating income increased 77.6% to $8.4 million. Net income was $4.3 million or $0.75 per diluted share compared with $0.45 a year ago. Adjusted EBITDA increased 21.1% to $17.3 million or 27.8% of revenues compared with 23.5% a year ago. Beyond depreciation, amortization, and stock-based compensation, we adjust for the foreign currency impact of certain intercompany loans, a $0.2 million loss this quarter. As Siddhartha mentioned, we will continue to report adjusted operating income, or AOI, and AOI excluding unusual items through the end of this fiscal year. The two measures were within $10,000 of each other this quarter, but adjusted EBITDA grew faster than the 13.7% growth in AOI, excluding unusual items, because of how last year's severance costs were treated. The $848,000 of severance included in the second quarter last year reduced adjusted EBITDA as it was not incurred under an approved restructuring plan and, therefore, did not qualify for exclusion under our definition. AOI, excluding unusual item contrast, excluded those costs, resulting in a higher prior year comparison. On a trailing 12-month basis, adjusted EBITDA was $68.6 million, or 27.3% of revenues, compared with $53.5 million a year ago. Turning to the restructuring, we incurred no restructuring charges in the second quarter because the restructuring program was approved after quarter end. We expect total pre-tax charges of $2.6 to $3.4 million, net of approximately $0.3 million of non-cash stock-based compensation reversals, primarily in the second half of this fiscal year. Related cash costs are expected to total approximately $2.9 to $3.7 million, substantially all of which we expect to pay within the next 12 months using cash generated from operations. Because these charges are incurred under a Board-approved plan, we will exclude them from adjusted EBITDA measures and show them separately in our reconciliations. During the quarter, we also amended our credit facility to increase the restructuring-related charges that may be excluded from our covenant leverage calculation. Below operating income, non-operating expense was $2.4 million compared with $2.7 million in the second quarter of the prior year. Interest expense declined 25% to $2.1 million, reflecting lower average debt. Lower rates on our variable rate borrowings were offset by replacing the 1-3-8 convertible notes, which matured in August 2025, with higher rate borrowings under our credit facility. The remainder is primarily the intercompany loan remeasurement, which will continue to create quarter-to-quarter volatility while the loan is outstanding. Income tax was $1.7 million, an effective rate of 28.1%, which differs from a 21% statutory rate primarily due to the valuation allowance on U.S. deferred taxes. As disclosed in our Form 10-Q, there is a reasonable possibility that we could partially release our U.S. valuation allowance within the next 12 months, which would favorably affect our effective tax rate. The timing and amount of any release remains subject to our ongoing assessment, and other factors could also affect our effective tax rate. Net income was $4.3 million, or $0.75 per diluted share, compared with $0.45 in Q2 of the prior year, an increase of 75%. Turning to cash flow in the balance sheet, operating cash flow for the first half was $18.8 million, up $8.7 million, driven by higher operating income and strong first quarter collections, and capital expenditures were $0.9 million. We used the cash to repay $20.1 million of debt net in the first half, including $11.4 million in the second quarter, and we ended the quarter with $22.3 million of cash and $57.8 million available under our revolver. And that leaves our total net leverage ratio at the 1.75 times Siddhartha mentioned against a covenant maximum of 3.5 times. Since quarter end, we have repaid an additional $5 million of revolver borrowings. With that, operator, we're ready to open the line for questions.

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Hey, thanks. Maybe just to start on the guy, you know, I think the midpoint suggests kind of 1% or so in the back half of the year here. You know, you guys did two in the first half, so I guess if you just talk about, you know, what gets worse into the second half, that's just comps or the decision in clinical genomics, and then just more broadly, you know, guidance philosophy. Sounds like you want kind of a prudent, realistic bar to execute against, but just talk about kind of the back half setup and just general philosophy, And if you were to point to some upside drivers in the back half of the year on the guide, what would those be? Thanks.

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