Revvity, Inc. (RVTY) Q3 2020 Earnings Call Transcript

Good day, ladies and gentlemen. And thank you for standing by. Welcome to the Third Quarter 2020 PerkinElmer Earnings Conference Call. At this time, all participants are in a listen-only mode. After the speaker's presentation, there will be a question-and-answer session. At this time, I'd like to turn the conference over to Mr. Bryan Kipp, Vice President of Investor Relations. Sir, please begin.

Thank you, operator. Good afternoon, and welcome to the PerkinElmer third quarter 2020 earnings conference call. With me on the call are Prahlad Singh, President and Chief Executive Officer; and Jamey Mock, Senior Vice President and Chief Financial Officer. If you have not received a copy of our earnings press release, you may get one from the Investors section of our website at www.perkinelmer.com. Please note this call is being webcast live and will be archived on our website until November 11, 2020.

Thank you, Brian. And good afternoon, everyone. Our 13,000 employees continue to go above and beyond, and our year-to-date results further reinforce that reality. As I have previously mentioned, improving lives is in our organization's DNA. It is what impassions our team. I remain humbled by and immensely proud of how everyone within PerkinElmer has rallied together throughout 2020. While the guiding principles that we outlined at the onset of the pandemic remain our North Star—keeping our employees and company safe, utilizing our expansive capabilities to join in the fight against COVID-19, serving our customers with excellence during this difficult period, and emerging from this crisis as a stronger company. We are also actively positioning the organization for what a post COVID-19 world might look like. The environment will undoubtedly be different from the future we imagined a year ago. Over the past 12 months, we have expanded into market adjacencies, built new business lines, and dramatically enhanced our commercial relationships.

Thanks, Prahlad, and good evening, everyone. To start, I echo Prahlad. I could not be prouder of our team and more confident that PerkinElmer is well positioned into 2021 and beyond. Over the past year, we have won dozens of new products, built significant equity with our partners, fostered new customer relationships, and expanded our presence in multiple markets. Our organization is not slowing down. We are all laser-focused on the opportunities in front of us and truly excited about the future. To that point, we plan to host a virtual life sciences deep dive for the investment community on December 9. We have teed up exciting topics for this session, where we will walk through our discovery, informatics, and enterprise businesses. Additional information on the event specifics will be communicated in the coming weeks. Before I begin discussing our financial results, I want to remind people that our third quarter earnings call presentation has been posted on the Investors section of our website under financial information. As always, I will begin my prepared remarks by highlighting the third quarter, then I'll provide some additional color on our served end markets and financial metrics, and I will end with fourth quarter guidance.

Our first question or comment comes from the line of Vijay Kumar from Evercore ISI. Your line is open.

Hey, guys. Thanks for taking my question. Maybe one quick one on the guidance. And I had a follow-up on a big picture question. Turning to Q4, one, Jamey, the $350 million to $450 million, does have any California contracts baked in? And when you look at the base business, why is the guide assuming mid-single declines, maybe parser? Because, I guess some of your peers are seeing flattish to perhaps positive on the base business.

Yeah. Thanks, Vijay, and hope you're doing well. So generally speaking, I'd say we're taking a similar approach entering the fourth quarter as we did when we entered the third quarter. We've looked at order trends. We've looked at our backlog, which has grown versus when we entered the third quarter, and we feel very comfortable with our guide. I’ll kind of break it down non-COVID versus COVID. So non-COVID, we are seeing the market improve, but the exit rates are not quite as fast as they accelerated at the end of the second quarter. However, if they continue, we think we'll be at the high end. If they don't continue or if something happens, we'll be at the low end. It's also worth noting, Vijay, that in the fourth quarter of 2019, we had two very material product lines growth for us. Cannabis was quite substantial in the fourth quarter. We're assuming no cannabis revenue in the fourth quarter of 2020, and informatics was substantial in the fourth quarter last year. So if you exclude those two, we think we'd probably be better by three points. Instead of down 4% to 6%, we'd probably be down 1% to 3%. So DAS came in minus 3% in the third quarter. It will probably be in the same vicinity due to those comps. However, if you exclude those comps, DAS would be positive in the fourth quarter. And then Diagnostics ex-COVID revenue was down 11% or 12%. We've seen it start to uptick over the last few months, and so we assume it will be down high single digits. So that explains non-COVID. It is closer to low - minus low single digits, but we have those two comps. From a COVID standpoint, you asked about California. Yes, it is in the number at about $50 million to $75 million. The way we derived the $350 million to $450 million is the base business was $288 million in the third quarter. We're assuming the base business is mostly in that range, call it $250 million to $300 million, and then we're adding an extra $50 million to $75 million for each of the California labs and the UK labs, which overall gets you $350 million to $450 million. It's worth noting that none of this assumes any significant lockdown; COVID positivity rates are going up across the world. Right now, we are not planning on any significant lockdowns in any of this guidance. Should they happen, it could have material upside to our COVID revenue and material downside to our non-COVID revenue. But in general, that's how we thought about the guidance, Vijay.

That's extremely helpful, Jamey. And then one big one for Prahlad. I think some of the comments you're making as you look forward toward the next chapter here in the Perkins story. I guess, I'm curious, Prahlad, because I'm looking at some of these numbers, right? 100% growth in earnings. I mean, some of these numbers were astronomical. But the market isn't giving you guys the credit, right? The stock hasn't acted well. And the biggest question here is sustainability. Are these COVID revenues going to be some headwinds for next year? Maybe talk about sustainability, one from a base COVID perspective. When you think about these incremental cash flows that have come through for the company, right? To your point, Perkin was not a player in molecular like 12 months ago. What is the right way to think about capital deployment? And does it strengthen your position in the diagnostic space? Thank you.

It's a very good question, Vijay. I mean, I think the way I would look at it, obviously, we've been giving a lot of thought to it. Over the past few months, where I personally have focused my attention on, and maybe that will shed some light into how we're thinking of it, right? As I talked about, the team has been focused on the three guiding principles extremely well, allowing me to concentrate most of my efforts on positioning the company for the future. I’m looking at it from three primary areas: number one is innovation. I mean, looking at opportunities across the organization, both on COVID and non-COVID, but fundamentally driving innovation in very different ways and three key areas that I'm focusing on. NPI acceleration, focus on quality, and disruptive ideas. This is where we are having regular reviews, and deep dives into the cadence of NPIs over the next 2 to 3 years. What I can tell you confidently is it will be no doubt very strong. There are lots of exciting developments that we are building upon the strength that we have now, the muscle that we have exercised through COVID, we need to expand that into new and adjacent markets. The second one is around capital deployment, right? We are in a great position. We have firepower now. Over the past year, we have gained share and expanded our presence in new markets around molecular diagnostics. So we are actively looking to deploy this capital to further bolster both our diagnostic side and life sciences franchises, layering additional capabilities that enhance our current positions in the market. Let me give you an example, right? As we look at it from a disease target characterization, we have a leading position with high content screeners and in vivo imagers. Cell selection and separation tools would go hand-in-hand with the imaging and detection capability that we have that would allow researchers to investigate which cells have changed in a population versus the subcellular level. So adding these tools around cell detection, separation, or manipulation is a natural adjacency for us. So that’s an example that we would continue to bolster our efforts around capital deployment. Lastly, on the people front, I've been focused on building an organization that has diverse talent and a deep bench stream. Over the last year, if you recall, we combined our commercial teams from DAS and DX. Now our focus is on how to take these opportunities within commercials and bring that under one umbrella. How do we focus on the alliances and partnerships that we have built across the globe because of COVID? So those are the three focus areas that I have personally been putting my attention on, and that's why we feel confident about the future.

That's helpful, guys. I think the only thing you missed was adding maybe a single ahead of cell separation and detection; perhaps that's probably worth another $5 billion to market cap. Thanks, guys.

Thank you. Our next question or comment comes from the line of Dan Arias from Stifel. Your line is open.

Good afternoon, thank you. Prahlad, I wanted to sort of follow up on some of those ideas that you were talking about and kind of hit on Vijay's point on sustainability. Just on the top line, maybe starting with diagnostics. You highlighted a couple of times just being in good shape in a post COVID world. Can you talk to some of the early thoughts that you think you might have on how you could look in 2021 when you think about the non-COVID portions of that segment and how they're expected to drive growth? What's your expectation on a recovery in immuno DX, again, outside of COVID? And on the reproductive health side, leaving birth rates aside and what that brings, how do you feel about accelerating growth on the back of some of these initiatives that you have there? And I guess ultimately, where is your confidence in diagnostics being a double-digit organic growing segment once we move past the COVID period and get into normalized periods?

Yeah. No, great question, Dan. Let’s start with reproductive health, right? As you said, we don't expect the current birth rate pressures to be a headwind of this magnitude for the foreseeable future. We expect that this will moderate at some point as conditions normalize. But outside of that, just like I gave you the example of EONIS during my prepared remarks, that is a particular segment where we can bring that product portfolio into the molecular diagnostics arena because it uses the same workflow that is currently being used for COVID, right? You use the same PCR, you use the same liquid handling, and you use the same extraction components that are already in place now at all these installed bases. As we look forward to the menu expansion around reproductive health, most of the new disorders that are either being looked at or thought of from the RUS panel, as an example DMD, SMA, they are all molecular-based. The methodology or the technology is moving away from immunoassay to molecular diagnostics, which matches well with the new and expanded installed base we have put together across the globe. Similarly, as we look at the immunoassay side, there are several new immunodiagnostic assays that we are either working on in-house or also looking at inorganic opportunities. Moving on to the autoimmune and allergy side that comes from the EUROIMMUN portfolio, right? The rate of detection of autoimmune diseases is not slowing down, and we've started already seeing signs of recovery even in China. We think we'll continue to expand that portfolio by bringing in a new platform that we've named Excentis, which should be out sometime in the next year. Continuing to add to that portfolio is going to be an important factor for our growth. The one area where we will see some pressure in the short term is around allergies, and that’s primarily because people are being very productive, wearing masks, and that's the portfolio that we see pressure on. So there are various ways that we are looking at expanding our portfolio around the installed base we've already built today with our extraction portfolio, Dan.

Okay. That's a helpful bit of explanation there. Maybe just kind of sticking with a similar idea. I mean, it sounds like one of the hopes that you have is that the awareness and mindshare you're creating in areas like sample prep and genomics is going to elevate the business for the longer term. Are you seeing signs of strategic partnership opportunities or longer-term deals that make you think that's going to happen, that you'll see some stickiness with what you're selling now during a time when labs, quite honestly, are buying because they can get it, but once things come down and there are multiple options, you'll be the choice that they go to?

Yeah. I mean, we have installed more than 1,000 units. Now while these labs are focused on COVID, they're also aware that we have put this infrastructure in place. Now we've got to be able to put plans in place to leverage this installed base and competency that we have set up beyond COVID. So absolutely, the partnerships, those that we have announced, and several that we have not announced, those customers are already discussing with us about how we can utilize this workflow for other applications. In fact, Jamey's team is now establishing a function around alliances and partnership that will focus solely on these efforts of taking this forward.

Okay. Thanks a lot. Appreciate it.

Thank you. Our next question or comment comes from the line of Derik De Bruin from Bank of America. Your line is open.

Hi, good afternoon. Can we talk a little bit about sort of how you're thinking about; I mean I know it's early and there's a lot of moving parts. Can we think about just a rebound in the core business in '21? And particularly on the DAS side, I mean I think Dan took care of the diagnostics sides we're thinking about there. But can we talk about the DAS side and just sort of thinking about what you think is pent-up demand? What do you think is the potential for bounce back on that one? I'm just trying to get a sense for how much of the core business we should sort of model for a rebound for next year?

Yes. Sure. Hey, Derik, hope you are doing well. So I mean, I think we’re coming off fairly reasonable comps this year to start with. I think life sciences, we've seen a continued uptick throughout the year. I mentioned in my prepared remarks that the Discovery business is now positive, and I think we will continue to see that moving forward here. Informatics, we think, is still a strong grower heading into 2021, OneSource. So for the life sciences business, we expect easy comps, and we’re starting to see the spending. That’s probably 55% to 60% of the DAS business. So we feel good about that. In food, we won't have the cannabis issue year-over-year. So cannabis in 2018, if you remember, was $25 million. This year, it's next to nothing. So we won't have that comp issue. And in fact, depending upon where the election goes and where its funding levels are, that might start to rebound again. Additionally, food, if it starts to open up a little bit—it's hard to understand what will happen with processors and restaurants and whatnot—but at least we will have already experienced probably the significant shutdown. Industrial and environmental have been relatively stable and steady. I don't anticipate significant snapback. But I think you've got life sciences; it should be an easy comp. I think life sciences has an easy comp and should be growing nicely, particularly Informatics. Food will not have a difficult comp anymore and should start to uptick industrial and environmental as well. The only thing I'd say on DAS, in general, is we do have a fair amount of NPI. So Prahlad mentioned it earlier; he has been holding weekly reviews with all of our segment leaders. We are increasing our R&D. It's up 10% in the third quarter. We plan to further increase it in the fourth quarter. So there is a cadence of improved NPIs coming out that should bode well in 2021 and beyond for the DAS business.

And just to add to that, also on the life sciences side, Derik, we've started seeing some increased investments from governments and CDCs around Life Sciences Research, looking at viral path and immune responses. I think that will also bode well for the life sciences business on the research side.

Got it. And thinking about the—it's an interesting comment. I mean, one of your competitors in the RNA extraction space was sort of maintaining the fact that automated sample extraction was a headwind for them. It seems like you're certainly benefiting from that one. Can you talk about the dynamics of that market? And also, just how you're sort of thinking about the evolution of—there are more people going to like heat-labile sample prep and RNA extraction going on with it. So like how do you—once again, it goes to the sustainability question that Vijay was asking about. How do you sort of think about your RNA extraction business going, market share shifts and things of that nature?

The way I would look at it, Derik, is that there are three parameters that our customers look for, and that is what is important: getting a higher extraction yield, having an easy workflow at a low cost. I think what COVID has definitely proved from our customers' base is that what we are able to provide with our product portfolio is the extraction use that they want, the right workflow that they want at the cost that they want. More importantly, I think it becomes relevant because as we move beyond COVID, there will be a need for continued surveillance into the future. That's why the stickiness of this installed base is going to be very relevant. COVID might go away, but the surveillance of infectious diseases like COVID is here to stay. That gives us the confidence around the stickiness of our installed base.

Great. Thank you. I'll turn back in the queue.

Thank you. Our next question or comment comes from the line of Tycho Peterson from JPMorgan. Your line is open.

Hey, thanks. I'm going to take the other side and actually ask on some of the COVID tailwinds. Maybe start with the two labs, California and the U.K. I know you talked about 40,000 samples to start in California. Can you just remind us where those could go from a capacity standpoint? I think I read California could get up to 150,000 tests. I'm just trying to take forward a little bit into 2021. Separately, on the respiratory—multi-analyte respiratory panel, how much of the volume do you think goes to that versus the stand-alone PCR test? When do you think also serology starts to pick up again?

Yes. So you're right, Tycho, in that the capability of the California lab could go up to 150,000. I think we will be ready next week, in fact, where we would be up to startup to building up to a capacity of around 40,000.

40,000. I think the state we're working with them. By the end of the quarter, it might be at something like 80,000. In the first quarter, we might be ready for 150,000 at some point during the first quarter.

Regarding the flu pack, Tycho, we've received the CE mark. We're awaiting FDA approval. Once we have that, I think what we have not yet thought through depends on how the state decides which segments go under the flu pack and which ones go under a pure RT-PCR test. Some school kids or healthcare populations might go on the flu pack, whereas others might go into RT-PCR. The capability has been set up so we can operate different workflows for the two tests, but the proportion of that is yet to be determined.

Okay. And then on serology, when do you think that starts to pick up again? Is that mid-next year? Or what's your outlook there?

I think it probably is—first quarter, sometime in the first quarter as the vaccines start taking effect. The serology trend will start picking up along with the vaccine efforts, Tycho.

Okay. And then shifting gears, you're I think the only company we've heard from so far that's still negative in China. Can you just—and obviously your levered birth rates and other factors there. But can you just talk about when you think China may return to growth for you?

Yes. I mean, if you look at China now, while it has pressured us, there are two things to think of, right? One, we have a stronger diagnostics weighting in China than DAS. In that, again, autoimmune and, as I mentioned, respiratory have been impacted. But we are seeing the flow-through from our distributors. As we look into this quarter and next quarter, that continues to improve.

Yes, I would agree. On the DAS side, we've already seen life sciences turn positive in China. Food and Applied has been kind of down low single to mid-single. I would anticipate that by the first quarter of next year—with easier comps and continued uptick—we should see DAS turn positive. Diagnostics will be influenced by the things that Prahlad talked about, but birth rates obviously matter. Allergy represents a bigger share in China for EUROIMMUN. If everybody is wearing a mask, we're seeing less allergy uptake there. But I believe DAS would turn positive.

And then last one—last on the DAS operating margins. You flagged pulling forward some investments. A, should we think about those margins to continue to be under some pressure as you're investing for the DAS business? And are there particular areas you can call out? I guess you called that cellular analysis earlier. Was that kind of the main area of incremental investment?

That's a great question on the—you're speaking specifically to DAS, though, Tycho?

Correct.

Yes. DAS has been under pressure for two reasons. In the quarter, we're down probably around 500 basis points or something like that. About half is a conscious decision. On the OpEx side, it's about half of that. We’ve increased our R&D, and we've mentioned earlier that we want to get ready for our analytical portfolio, our life sciences portfolio, and our food portfolio. So we continue to increase R&D. We continue to work on our sales and marketing channels, particularly on food. Half of this is a conscious decision on OpEx that should be fine, and we're making that investment now. As soon as the volume upticks, we should be okay. Similarly, on the gross margin line, which is probably the other half, we’ve made a decision, as part of the four principles that Prahlad outlined earlier, to keep our employees safe. We've had no layoffs at any of our plants across the globe. So even as the volume has declined, we've experienced unfavorable variances due to the factory overhead. Since we haven't laid anybody off, as the volume comes back, we think the workforce will be ready, and we just see a little bit of short-term unfavorable variances.

Okay. Thank you.

Thank you. Our next question and comment comes from the line of Steve Beuchaw from Wolfe Research. Your line is open.

Hi, thanks for the time here. I think most of the ground has been covered, but I want to come back and do a couple of things with maybe a little bit of a different angle, if that's okay. First, on the California contract. I appreciate all the clarity of disclosure here, and frankly, congratulations on getting that done. I wonder, though, if you could talk about that initiative and the extent to which you see more of it popping up in 2021. I mean, the logic here, it's pretty obvious. But I'm a little surprised that I haven't seen more headlines of that sort of thing happening. So could you speak to what you see on that front, not necessarily just in the U.S. but globally? Second, I wonder if you could talk a little bit about, within the context of overall screening, as Derik mentioned, one of your competitors made a lot of comments today. One of the comments they made was that they think next year, as it relates to testing, the market kind of splits half and half between PCR and antigen. I wonder if you could speak to that dynamic. And then I have one follow-up.

Okay. On the first one, Steve, I think it's a good question, right? There are discussions going on; there are some other partnerships that we have across the globe which we haven't publicly announced due to our partner's requests. Alliances such as these take on larger importance during crises and pandemics when states and governments gear up. These alliances forge longer-term partnerships. Our focus is on how we execute flawlessly on these and build on it beyond that. Our strategic intent, however, is not to become a reference lab—that is not something that is part of our strategy. We are doing this because we've got a three-decade-old relationship with the state of California, building on that partnership around lab and labs. On your second question around the split between antigen and RT-PCR. We believe RT-PCR is the gold standard. The level of detection you get, especially when you look at our kit with the lowest level of detection. You could think of it from a perspective of moving beyond a singular test to pooling. Research shows a 10-fold increase in the level of - limit of detection of a COVID diagnostic test and is expected to increase the false-negative rate by 13%. There is data that shows that having an important, highly accurate sensitive test will continue to play a role. Having an antigen test, even in the high 80s or early 90s, the impact of false negatives—especially for a highly contagious disease—does have an impact.

Very fair. And then my follow-up actually relates to serology. That's a two-parter. One is, you've talked in the past about giving some clarity on—I don't know if it's multi-pronged is the right term—but a multi-layered approach to serology, where you're looking at residual immunities from a number of different ways. I wonder if you could update your thinking on that? I know you've made some comments around the timing of the uptake of serology. But could you give any comments around what you think the scale of it might be? I know a lot of us are contemplating the possibility that there's a fair amount of serology uptake within the context of clinical trials. But do you think that it goes beyond that? Thanks.

Yes. What I've talked about is looking at immune insights, right? We are looking at both quantitative antibody testing and a neutralization assay as an example. The idea is investigating T cell responses for cellular immunity; we think that it’s going to be important. Hopefully, we’ll have a couple of COVID-related products in the pipeline that we can talk more about over the next few months. Regarding how significant the impact of serology will be, my guess would be as good as yours. The reason I'm saying that is the crystal ball on this is as clear as the impact of being a partner for vaccination will be. I think it will gain importance and relevance as we move from where we are today to vaccines and beyond for epidemiological testing. That’s where I think serology will have the biggest impact.

I'm sure your crystal ball is much, much more sophisticated than mine. But I appreciate all the help. Thank you.

Thank you. Our next question or comment comes from the line of Doug Schenkel from Cowen. Your line is open.

Hey guys. You provided a lot of detail on ways you hope to offset any COVID-19 revenue that proves to not be all that durable in the long term. Thank you for that. I'm hoping we can get a lot more quantitative versus qualitative. If it—how has it been for the pandemic? If we assume that EPS was going to grow at, say, a 12% to 15% annual CAGR, if you use 2019 as a base, you would have been on track to generate about $6 in 2022 earnings. Two simple questions. One, if pandemic-related revenue were to go away by the end of next year, so at some point in 2021, do you think all the initiatives and relationships that are occurring as a result of COVID-19 would put you in a position to do a lot better than $6 per share in 2022? Secondly, in such a scenario, is there a path for you to grow earnings in 2022 if the pandemic abates in 2021?

The answer to your question is, yes, we will definitely benefit from the installed base we have put in place. If you are asking us to give an estimate on what our EPS is going to be in 2022, Doug, I'm not going to give you that. I don't know that for a couple of reasons. Our install base, the additional markets we are playing in, and the customer base we have. We've generated a lot of free cash flow. Back to Prahlad's earlier points, we are spending much of it on innovation and capital deployment. I think it increases the flexibility of the company. We were already on that trajectory, but I think this should— to answer your question directly, further boost our ability to at least meet that, if not beat that, for sure.

Okay, great. And then second question on free cash flow conversion, 82% in the quarter. I know you've talked about how that is, at least in terms of growth, much, much better than what we've seen for a while. So that's great. All that said, intuitively, I would have thought it would have been a lot higher, given what we're seeing at the operating line. You're generating a ton of revenue without a ton of accompanying operating spend. So could you maybe just walk through the disconnect? And why that number from a conversion standpoint isn't actually higher? And I might be making this up; I thought I heard in your prepared remarks, Jamey, that you actually were expecting that number to go down next year. Did I hear that right? If I heard it wrong, I apologize; if I heard it right, why does this trend back down next year?

Yeah. I don't think I said anything about free cash flow going down. To put 74% into perspective, Doug, we've made a conscious decision, much like we do every year on the non-COVID side, to build inventory. We built $120 million of inventory, which is exactly 25% of our net income. So absent the inventory build—two-thirds of that is COVID-related—we would be at 100% free cash flow year-to-date. We look at the backlog, and we’ve got a substantial backlog walking into next quarter. We think it's the right thing to do to have the COVID products available. We think the non-COVID side will see an uptick outside of informatics and cannabis, so we believe we're in good shape. One more thing: the COVID-related free cash flow conversion year-to-date, while it will be wonderful in the future—is actually a drag. If you think about $0.5 billion of volume, there’s still a couple of hundred million—30 to 60 days payment terms—there's probably a couple of hundred million of that on the balance sheet in terms of receivables. We built $80 million of inventory. Essentially, we've eroded much of the net income on the balance sheet in working capital. However, that will prove to be future excess cash, and none of this includes the $200 million we funded to outfit the California lab that we believe we will collect in the fourth quarter.

Which should all benefit to you, Q4 and beyond.

That's right.

Thank you. Ladies and gentlemen, that concludes our question-and-answer session. At this time, I would like to turn the conference back over to Mr. Singh for any closing remarks.

Thank you, operator. Again, thank you for your questions. As I said at the beginning, I’m gratified and proud of the organization and how everyone has rallied together. We feel very confident that we are leading with science, and that is clearly resonating. I have no doubt that we emerge from this crisis as an even stronger company. Thank you for supporting PerkinElmer, and I look forward to providing further updates on our fourth quarter earnings call.

Ladies and gentlemen, thank you for participating in today's conference. This concludes the program. You may now disconnect. Everyone, have a wonderful day.