Welcome to the Össur Q3 Results 2020. For the first part of the call, all participants will be in listen-only mode, so there is no need to mute your own individual lines. Afterwards, there will be a question and answer session. I will now hand the floor to our speakers. Please begin your meeting.
Yeah, thank you. I would like to welcome you to the Össur Investor Conference Call, where we will cover the results for the third quarter of 2020. My name is Jón Sigurðsson, and I am the President and CEO, and with me here today is Sveinn Sölvason, our CFO. We will begin by going through the highlights for the quarter and financial results, after which a question and answer session will follow. Sales are gradually recovering in all major markets, and we have begun to realize a pent-up demand in some markets in APAC and EMEA. Even so, the outlook regarding the COVID-19 pandemic remains quite uncertain. Sales in the third quarter of 2020 amounted to $172 million, which corresponds to about 5% organic decline. Sales in the first nine months of the year declined by 13% organic.
Sales in September were at 90%-100% of prior year sales, and the first weeks of October have been around 100%. Our guidance was reinstated in September with sales growth expected to be between 0% and -8% organic decline in the second half of the year. The upper end of the range assumes continued recovery in Össur's key markets and some pent-up demand towards the end of the year. The lower end of the range assumes slow recovery and potential further COVID-19 related lockdowns in key markets. As of today, the most likely scenario is expected to be around the midpoint of this range. Even though the outlook is uncertain, the long-term prospect and underlying fundamental drivers of the Prosthetics and Bracing & Supports markets are not expected to change. EBITDA amounted to $36 million in Q3 or 21% of sales.
I will let Sveinn elaborate further on the financials later in the presentation. We completed the divestment of Gibaud to Innothera at the end of September. Gibaud has supported our efforts to build up a platform within the O&P channel in France, where our market share is strong in Prosthetics. With the divestment of Gibaud, Össur sales in France will primarily go through the O&P channel, which is our primary sales channel in Europe. Next slide, please. If we turn towards the quarter, sales amounted to $172 million compared to $168 million in the same quarter last year. The Prosthetics business has proven to be more resilient than Bracing & Supports through the pandemic, where the Prosthetics segment declined by 4% organic and the Bracing & Supports segment declined by 7% organic. Reported sales increased by 2%.
Recently acquired companies contributed 6 percentage points to reported growth, and with changing currency rates, sales were positively impacted, corresponding to a 2 percentage points impact on reported growth. Next slide. The impact of COVID-19 varies by geography. In America, sales were impacted by COVID-19 in the U.S. and consequent restrictive measures implemented by local governments. Even so, sales are gradually recovering. In EMEA, sales continue to recover with some pent-up demand realized in selected markets. Sales in the U.K. remain very volatile. The recent surge in COVID-19 cases in Central Europe makes the outlook for the remainder of the year uncertain. In APAC, sales in China and Australia were strong with some pent-up demand, while sales in the emerging markets were still slightly below last year's sales. Now, over to you, Sveinn.
Thank you, Jón . The P&L is impacted by lower sales as a result of COVID-19. However, we see profitability trending in the right direction. Gross profit margin is slightly lower in the quarter compared to same quarter last year, mainly due to lower utilization in manufacturing. However, we are pleased to see how well the gross profit margin is holding up in a quarter where we have 5% organic sales decline. Regarding operational costs, acquisitions and costs relating to legal settlement and severance are blurring the picture a bit, but if we adjust for these items, our operating costs are declining. The legal settlement and severance amounted to about $3 million in the quarter.
The effective tax rate was 27% in the third quarter and 55% for the first nine months, and the tax rate was impacted by various extraordinary items, mainly related to the divestment of Gibaud. Excluding this impact, the effective tax rate would have been 25% in the first nine months of the year. It should, however, be noted that the tax rate is further impacted by the impact COVID-19 has had on our business mix and taxable profits in various geographies. So we expect the effective tax rate to normalize as sales normalize. The net profit in the quarter amounted to $15 million, or the same as in Q3 2019. If we go to the next slide, please. Here we have five quarter sales and EBITDA trend. As Jón went through, sales have been recovering in all major markets since the beginning of April.
Prosthetics has recovered slightly faster, and we are starting to see pent-up demand in a few key markets. In the first weeks of October sales were around 100% of last year's sales. Reported EBITDA amounted to $36 million, and as a result, the EBITDA margin was 21% in the quarter. As previously mentioned, profitability was quite acceptable considering the impact on top line and underlines that profitability will return to normalized levels as sales recover. In Q3, currency movements, net of our hedging agreements, had a neutral impact on the EBITDA margin. Now, free cash flow amounted to $22 million in Q3. The key items affecting the cash flow in the quarter are first and foremost good operating profit, as already covered. A slight negative impact from net working capital.
Inventory is declining from a temporary high level in relation to the efficiency initiatives we completed last year, and we see an increase in receivables as a result of increasing sales. CapEx is lower than in the comparable quarter and amounted to $4 million. Our liquidity position is strong, with cash and undrawn credit facilities amounting to $313 million at the end of the quarter. Net interest-bearing debt was $321 million at the end of Q3, which corresponds to a 3x net interest-bearing debt to EBITDA. The ratio is therefore temporarily exceeding the target range of 1.5x to 2.5x . Finally, as mentioned before, we completed the divestment of Gibaud in France at the end of September, and you will find the pro forma financial impact in the table here on this slide and in our announcement.
That concludes the overview for the quarter, and let us now go to the Q&A session.
Thank you. If you wish to ask a question, please dial 01 on your telephone keypads now to enter the queue. Once your name is announced, you can ask your question. If you find it is answered before it is your turn to speak, you can dial 02 to cancel. So once again, that is 01 to ask a question or 02 if you need to cancel. We have a few questions coming through. The first is from Christian Ryom of Nordea Markets. Please go ahead. Your line is open.
Hi. Good morning, Jón and Sveinn. Thank you for taking my questions. I will start out with a couple of questions. First, on the sales activity. You mentioned that the first few weeks of October have seen sales activity at approximately index 100 versus last year's levels, and you also write in the report that the comps are, for October, a bit easier than they were in September. Can you talk a bit about what the comps are like in the next couple of months? Because your guidance seems to assume, or the commentary about ending at the midpoint of guidance seems to assume that you see sales slowing relative to last year's level in the next couple of months. Then my second question is to OpEx and whether you can help us with how much of OpEx is variable.
So here in Q3, as I understand it, your underlying OpEx was around $ 80 million. Can you maybe give us some idea of where you would have been if you had had positive organic growth for the quarter? Thank you.
Yeah. Let me jump in here. On the sales growth. Yes, sales growth was around, let's say our attainment to prior year was around 100% after the first couple of weeks of October. However, we've sort of normalized a little bit because September last year was very strong, while October last year was weak. Normalizing for some of those shifts between quarters, our sales are currently at around 100% compared to last year around mid-October. Looking at the remainder of the quarter, if we look back at last year, quarter four was somewhat a slightly weaker quarter than the rest of the year. I don't know if you remember, we had commented around business shifting from a large distributor in the U.S.
If we take this into account, we have a reasonable or not very tough comps, but I think the main issue is, however, just to read into the trends and how the researches of COVID-19 in our main markets in Europe, how that will impact sales. Like we state in the announcement, our best estimate today is that it will end up somewhere in the middle of the range. On the OpEx side, let's say, what we've done on the OpEx side is not just obviously with less, our salespeople, our commercial people are not able to be in the field as usual. That drives down all sorts of variable costs such as travel and costs related to various marketing events.
Ultimately our cost base, if we exclude acquisitions or impact from acquisitions and these one-time items in the cost base, our costs are declining about 4.5% organic. I would say that in a normalized scenario where we're growing in the quarter, our top line, our cost would've been still around flat year-over-year, because we've also done some further underlying cost cutting. I hope that gives you some indication.
Yes. Thank you. That's very helpful. Just to clarify, when you're talking about the sales attainment, you're talking about sort of un-
Yeah
organic sales attainment?
Yes.
Great. Thank you.
Absolutely.
Thank you. Our next question comes from the line of Benjamin Silverstone at ABG Sundal Collier. Please go ahead. Your line is open.
Thank you very much. Hi, Jón and Sveinn, and thank you for taking my question. I hope you are all well. My question is predominantly in regards to how we are seeing the profitability improving with the sales recovery. As we are seeing the sales recovery very volatile from market to market, I was wondering if you could please add a few words to which triggers you are seeing in each market. For example, in the U.S., what is it that you guys have identified that is causing the market to decline as much? Is it predominantly restrictions of movement due to COVID-19, closed clinics, or what are the factors that you are seeing? The same in, for example, APAC, which sort of regulatory implementations have happened over there which are causing the market to be able to grow now?
Are they able to now move freely around, and that is why they are coming back to the clinics? Do they not have any limits on patient going in and out of the clinics? Which other aspects are you seeing that are helping to drive the growth there? Thank you.
Yeah. The most impact we see is that. Well, first of all, we have seen in the first wave of the pandemic, we were surprised of the resilient of, or the dedication of people to go into the clinics. If they were able to go into the clinics, they did. But for example, in U.K., there are certain restrictions where they severely limit the number of patients that can be in the clinics at the same time. That cuts the capacity of the clinics quite substantially. In the APAC, in specifically China, as far as we know, there are no restrictions. I mean, the clinics are running at full speed.
We have a not very good way of proving it, but we believe that we have gained some market share there in China, because of our reaction to the market and our support to our customers in the beginning. There is no way of saying how much that are impacting. But the direct answer to your question is that the restrictions of people going into the clinics are by far the biggest factor of the sales development.
Thank you very much.
Thank you. We have one further question in the queue so far. Just as a reminder to participants, if you do wish to ask a question, please dial 01 on your cellphone keypads now. The question comes from the line of Yiwei Zhou at SEB. Please go ahead. Your line is open. If your phone is on mute, you will need to unmute that, though.
Good morning, gentlemen. Thank you for taking my question. I have two. Firstly, you mentioned that in the beginning of this year, you have a major product launch later part of this year. How should we expect the product launch now with the COVID-19? Secondly, also early this year, you had issue with this largest U.S. distributor. Could you give us an update on this? Has the pandemic changed your negotiation with this distributor?
Yeah. The product lines are remarkably unaffected by the COVID. We've been able to keep the product pipeline largely intact. There will be some testing delay if this prolongs for a very long time, specifically restrictions between our movement between countries. We don't expect much delay there. In the issue of the large distributors, there are none. We have basically solved that, and it's not a major issue as we speak.
Given the uncertainty in the U.S. and the U.K. you mentioned, are you still confident to have these first market full-scale launch later part of this year?
Well, it remains to be seen because there are two aspects to it. First of all, there is a technical on when the products are ready, but then, of course, there is some restrictions or there is some issues to launch a product when the COVID is going on. As I said before, we don't foresee any major delay in our already planned product launch.
Okay. Could you just follow up on this? When do you expect to have the full-scale market launch then?
Full-scale market launch of what?
For Power Knee, for this next generation Power Knee.
No, we are not giving an exact date there.
Okay. Fair enough. Thanks. The question regarding the U.S. distributor?
The question was what?
Yeah. Remember you had the issue with the largest U.S. distributor.
No. That has basically been solved, and we don't have that anymore.
Okay. You lost some of the sales with the distributor. Is it fair to assume now they have bought it again or did the current sales level would be the run rate for next year?
No. The issues were more that they moved between quarters rather than lost it. I don't think that particular issue did not have a major effect on our long-term trading.
Okay, thanks.
Thank you. Our next question comes from the line of Felix Wienen at SFO. Please go ahead. Your line is open.
Hi, Jón and Sveinn . Just two more quick questions, please. The first one about the Gibaud divestment by the end of September. First question, did the money already come in in the quarter or should we expect it in Q4? Could you give us a rough indication of the magnitude of the proceed?
Yes, I can answer that. Hi, Felix. Yes, the deal has been closed and money has been transferred, except for a part of the payment which is contingent on performance. The majority has already been settled, but there is a smaller portion which is related to performance, which we'll see. That would be towards the end of next year where that will become clear. But the majority has been paid, yes.
Okay. So in with the Q3 results, we see it in the cash flow statement, right?
Yeah.
Perfect. Thank you. The other question, probably following on from that, the leverage, 3x net debt to EBITDA, is mostly a function of-
Yeah
lower EBITDA this year rather than anything else.
Yes. We will have to drag quarter two 2020 with us for four quarters for the trailing 12 months net debt to EBITDA multiple, so that we will be above what we consider the right level for the business.
Sure. Nothing that causes you any headache.
No. We are not concerned as such. This is obviously somewhat a higher level than what we have been used to over the last many years, but the business continues to be cash generative, and we see that both here in Q2 and Q3, that the underlying cash flow is strong and our ability to service this debt is very strong.
Perfect. Very good. The last question also following on to that is, any update on clinics M&A, also in the U.S.? I would assume that with the lockdowns, some of the clinics have been particularly hit. I do not know how strong their balance sheets are generally, but has anything opened up there, either in terms of deals or in terms of discussions and the owners being more willing to probably join your obviously financially strong group?
Yeah. Let me take that. We see our customers generally very resilient, and we do not see any financial distress. We are a little bit surprised by it, but that is not the case. Having said that, all those disturbance on the market and uncertainties makes people, as you phrased it yourself, more willing to consider to join a stronger group. So we see there is a lot of clinics, a lot of companies talking to us and very interesting to join us. But there are no fire sales going on. That is not the case.
Perfect. Thank you very much, and good luck with your next quarter. Bye-bye.
Thank you.
Thank you.
Thank you. We have one further question in the queue at this time, and that is from the line of Niels Granholm-Leth at Carnegie. Please go ahead. Your line is open.
Yes, good morning. My first question would be about competitive bidding. You mentioned the sensitivity from a 30% price decline. Is that because a price decline of this magnitude would be your best guess at this point? When would you be able to say more accurately what will be the effect of the competitive bidding? My second question would be about EBITDA guidance. What actually prevents you from reinstating the EBITDA margin guidance with less than one quarter left of the year? Thank you.
Well, first of all is the competitive bidding. The 30% decline is completely shoot in the dark. This is our wild guess, basically. This is based on previous durable medical equipment competitive bidding. Whether that will be the case here, we have no idea. Furthermore, the reason why we are very uncertain about everything about competitive bidding is that, of course, these are our customers that are subject to competitive bidding, not us. So how much of this will flow down to us is completely uncertain. What we think, that we will have to lower our price post bidding. Which our customers will prevail in their bidding, how much they will bid is not something that we have complete visibility over, and that is the reason for the uncertainty.
On the guidance, we are seeing a very uncertain situation, and with this flare up in Western Europe, it is indicating that we are very uncertain how that will pan out. But of course, we are kind of stating that we will be in the middle of the range.
Let me just add a few words on that, on the EBITDA guidance. This has been obviously a very unusual year, and we have decided to focus our financial guidance at each point in time, giving our best estimate on how we think the top line will develop. At the same time, we have stated that it is our estimate that we will, or let us say the profitability of the business will return to pre-COVID levels as sales normalize. So we have focused on that. I think what we see here in Q3 is that we are well on, or the underlying profitability is intact. With one quarter remaining of the year, we would guide you towards sort of a new. You will have to make your assumptions on where the top line will end up.
But on the gross profit margin side and cost side, gross profit margin is again could be impacted by lower utilization in manufacturing because we've been very focused on adjusting our capacity to the demand situation. On the cost side, we will again see sort of cost not growing organically and even declining slightly. So those are the assumptions you should use for whatever estimate you put down on EBITDA for the year. But our focus has been that underlying profitability will get back to where it was pre-COVID levels. In addition to that, we note here in the quarter that we are booking some severance costs as a result of some savings initiatives that we've executed both in quarter three and throughout the year. Those are actions that we've taken to protect the underlying profitability of the business.
Also to create some maneuvering room to invest in our main growth themes, which again, are the push into emerging markets, technology trade-up, and expanding our service offering in the market. So I hope this gives you some of the parameters, Niels, to be able to estimate the profitability for 2020.
Okay, great. Just one final question. Would you expect to incur any one-off items in quarter four?
No, that's not our estimate today, no.
Okay, great. Thank you.
Thanks.
Thank you. As there are no further questions coming through at this time, I will hand back to our speakers for the closing comments.
Okay. I would like to thank you for your participation questions. Please reach out to the investor relations team if you have any further questions. Thank you very much.