Earnings Call: Q1 2018

Apr 26, 2018

Summary

Q1 sales grew 8% reported but only 1% organically, while EBITDA margin fell to 14% from 16%. FY guidance was unchanged, with stronger sales and profitability expected in the remaining quarters.

Ladies and gentlemen, welcome to the Össur interim report Q1 2018 conference call. Today I am pleased to present Mr. Jón Sigurðsson, President and CEO, and Mr. Sveinn Sölvason, CFO. For the first part of this call, all participants will be in a listen-only mode, and afterwards, there will be a question and answer session. Speakers, please begin. Thank you. I would also like to welcome you to the Össur Investor Conference Call, where we will cover the results for the first quarter of 2018. My name is Jón Sigurðsson, and I am the President and CEO, and with me here today is Sveinn Sölvason, our CFO. We will be beginning by going through the highlights for the quarter and end with our guidance for 2018. A question and answer session will then follow. Sales in the first quarter of the year amounted to $142 million, corresponding to 8% growth and 1% organic growth. Prosthetics grew 4% organically in the quarter with good contribution to high-end products such as bionics. Bracing & Supports had a slow start of the year, and sales declined by 1% organically. Please note that we had a strong comparable quarter in 2017, and shift in sales days between the comparable quarters negatively impacted growth. Gross profit margin was 62% of sales, which is the same as the comparable quarter last year. EBITDA amounted to $20 million in the quarter, or 14% of sales. in March 2018, Össur entered into a new financing agreement with Nordea and Danske Bank. The new financing reflects Össur's strong financial profile and outlook with lower interest rate margins and greater operational flexibility. Sales in the first quarter amounted to $142 million, compared to $131 million in the first quarter of 2017, where the total organic growth was 1%. The Prosthetics segment grew by 4% organically, corresponding to a two percentage point contribution to total growth. Bracing & Supports sales declined by 1% organically, with a negatively one percentage point impact on total growth. After a slow start of the year in Bracing & Supports, we expect the remainder of the year to be stronger, supported by recent product launches. Total growth in dollar terms was 8%, with changing currency rate sales growth was positively impacted by $9 million. This corresponds to a positive seven percentage point contribution to total growth. Now let's look further up at each geographic region, starting with the Americas. Americas sales growth was 1% in the quarter. The Prosthetics segment in the Americas continued to show good growth, with Bracing & Supports sales in the U.S. declined slightly, which can be traced to delays in new product launches and competitive market environment for certain products. However, our own distribution companies showed modest growth at a two-to-three year period of negatively impacting consolidated growth of around one percentage point each year. I have already mentioned the expectation is that sales growth in the remainder of the year will be stronger, supported by recent product launches and better market conditions. Sales in EMEA declined by 1% organically, but it should also be noted that growth in the EMEA region was negatively impacted by about 2 percentage points due to shift in sales days. In both Prosthetics and Bracing & Supports, we continue to see good contribution from our high-end innovative product in an otherwise soft quarter. As in the Americas, we expect sales growth in the remainder of the year in EMEA to be stronger. APAC sales were excellent in the quarter and grew by 19%, both Prosthetics and Bracing & Supports. We are seeing strong growth with all major regions performing well there. Over to you, Sveinn. Thank you, Jón. As already covered by Jón, the organic sales growth amounted to 1% in the quarter. Gross profit margin was stable or 62.4%, which is exactly the same as we had in the comparable quarter last year. EBITDA amounted to $20 million or 14% of sales compared to 16% in Q1 last year, and I will break the margin difference on the next slide. Share in net profit of associated companies amounted to $1 million in the quarter. The profit is from a few minority investments in both technology and distribution companies, and we expect similar profit from these investments going forward on a quarterly basis, although subject to some fluctuations between quarters. Income tax amounted to $3 million, corresponding to 24% effective tax rate compared to an effective tax rate of 26% for the comparable quarter in 2017, which is then in line with our guidance on the effective tax rate. Net profit was $10 million, same as in the comparable quarter last year and amounted to 7% of sales. Next slide, please. As I mentioned earlier, EBITDA amounted to $20 million in the quarter, which is a 14% EBITDA margin compared to 16% in quarter one of 2017. On this slide here, you have a bridge on the left. To bridge the difference, we have a slight positive impact on the gross profit margin, mainly from product mix. However, we grew our sales and marketing expenses by 4%, with increased investments in sales efforts, primarily in a few emerging markets. R&D expenses grew 9%, mainly due to investments in projects for high-end products, such as the bionic products, and the G&A expenses grew 3%. Finally, the currency movements impacted the EBITDA margin negatively by about 50 basis points. The combination of low sales growth in the quarter and OpEx investments led to lower relative profitability in the first quarter of the year compared to last year. With expectations of higher sales growth in the next couple of quarters and somewhat lower OpEx growth, and also contribution from the savings initiatives, we will see higher profitability in the remainder of the year. Go to the next slide, please. Just a very short update on these efficiency initiatives, which are basically on track. We have made investments in various equipment in our Mexico manufacturing facility, and good progress has been made in several categories relating to initiatives within strategic sourcing. The previously communicated savings of about $3 million in 2018 are expected to materialize towards the second half of the year. Next slide, please, on cash flow. Cash generated by operations in the first quarter amounted to $6 million or 4% of sales. Cash generation is seasonally weak in the first quarter, partly due to sales and profitability being seasonally low, but also due to some working capital movements, which we expect to reverse in the next couple of quarters. CapEx was high, amounted to $8 million or 6% of sales. This is also mainly related to the efficiency initiatives and also various investments in computer equipment and integration of the new CRM software. About $2 million can be traced to the efficiency initiatives. Again, CapEx will be somewhat lower towards the latter half of the year. Net interest-bearing debt was about $146 million at the end of the quarter, which corresponds to a 1.4 times net interest-bearing debt to EBITDA. Jón, if you could go over the guidance, please. Yeah, thank you, Sveinn. No changes have been made to the financial guidance. The full-year guidance is as follows: organic sales growth in local currency is expected to be in the range of 4%-5%. EBITDA margin before special items is expected to be around 19% of sales. We expect capital expenditures to be around 4% of sales and effective tax rate to be in the range of 23%-24%. Thank you all. Let us now go to the question and answer session. Thank you. Ladies and gentlemen, if you have a question for the speakers, please press zero followed by the one on your telephone keypad to enter the queue. Thank you. Our first question comes from Christian Ryom from Nordea. Please go ahead. Your line is open. Hi. Good morning. This is Christian Ryom from Nordea. I have three questions. The first is on the growth in Bracing & Supports. Can you help us a little bit with some color on how the different effects stack up against each other? You talk about that you had a challenging quarter in soft goods solutions. How big a share of Bracing & Supports sales is that, and how does the negative impact from that compare to the effect from delayed product launches? Secondly, on your OpEx growth in the quarter, I noticed especially that you saw quite a big uptick in sales and marketing investments. How should we think about this for the rest of 2018? Should we expect this to be nominally flat for the coming quarters, or what is the outlook here? How will this impact also your expectations for growth in emerging markets, as it seems that it is particularly here that you have increased your investment? Finally, on currency, you now state in your guidance statement that you expect a 20 to 30 basis points negative effect on the EBITDA margin for the full year. Is that to be understood as increased headwind on the EBITDA margin relative to your guidance in connection with the full-year results? Thank you. Yeah. First of all, thanks for that. The Bracing & Supports growth, we had quite a headwind in the soft goods or the soft goods part. It is not a very well-defined product group. It is kind of a word of mouth. Soft goods is the products that are not generally more inexpensive product. I would say that, and then there is an effect of the delay. I am not going to go into how much the soft goods is in relation to the other product, because we do not categorize it in a very accurate way. I would say that the biggest part of it is the delay of the products we have planned to be out there, but more than that. There is a softness in the market, and it is really difficult to say how much is attributable to the Easter, going between quarters, and also that we had very bad weather on the East Coast. I hate to mention that as an explanation, but we can see that the East Coast is softer than the other parts of the countries. I know it is not a very clear answer, but that is about the best I can do. Okay, thank you. On the OpEx growth. Yes, I'll take that. OpEx growth, yes, on the sales and marketing side, in local currency, we grew our OpEx by about 4% in the quarter, and that is mainly investments we've been making in a few emerging markets. For example, you see our growth in APAC region, which is largely driven by China. Also, we changed our go-to-market model early last year, and this is to somewhat reflecting those changes, and we are taking the benefit of that. Yes, you mentioned whether we expect a higher growth from this region as a result of some of these investments, and the answer to that would also be yes, we expect this region to continue to contribute at least double-digit organic sales growth. Yes, towards, let's say, the latter half of the year, I would expect the increase or growth in sales and marketing cost to level out somewhat, as some of the increase we see now in quarter one was in relation to investments that we made in quarter two, quarter three last year. So we have the full impact now in the first half of the year. Okay, thank you. On the currency impact, yes, let's say since we set the guidance, the currency has moved, again, a little bit against us. It's mainly Icelandic krona has appreciated a bit, or let's say the average exchange or average rate of the Icelandic krona was over 10% stronger than average in Q1 last year, which is sort of moving a bit against us. So yes, we expect some slight more headwind for the full year. Yes, I think that's fair to say. Maybe just to add to your first question on the Bracing & Supports, because I want to make a reference to what has been a sort of a red thread in our communication on Bracing & Supports growth, the sort of restructuring we've been doing on the distribution companies in the U.S. That is now sort of complete in the sense that those businesses contributed marginally to our growth, actually, in Q1. The Bracing & Supports business has, on average, been growing roughly in line with market if we adjust for the impact for the distribution companies. Even though we have had a very slow start to the year, this is still what we expect from this segment for the remainder of the year. Okay. Thank you very much. Thank you. Our next question comes from Thomas Bowers from Danske Bank. Please go ahead, your line is open. Yes, thank you very much. I will kick off with the Prosthetics. You again see quite solid growth in RHEO and Touch Bionics. I also get the impression that the rest of the division seems to be at close to zero growth. I am just wondering if you see some quarterly fluctuations here or any competitive pressures in certain areas, maybe new launches from competitors. Is there any concerns now here after Q1 on the outlook, especially if the RHEO launch, sort of the momentum start to wear off. Do you, for example, expect that for RHEO, the upgrade you expect here to launch in mid 2018 to sort of take over in order for you to keep momentum here? Then maybe just same question, just on the associated companies. I noticed that you get about $1 million in the quarter, so quite significantly higher than previous quarters historically. What to expect from here? Is this sort of something that is a one-off, or is this going to be longer term that you will see these levels? Then just on the FX, just to follow up on the previous question. I did not really catch, when you say that you see some slight more headwinds, is that compared to last year, or is that compared to your full year guidance for 2018? Regarding the Prosthetics growth, Thomas, we do not see any change in the market. This is just one of those quarters. This is just slow. This is just soft quarter. There is a lot of things that just go against us. It is Easter, it is a severe weather. It is just a lot of things, and there is nothing we see out in the market that should change the dynamics on the market against us in any way. I do not think so. Already this quarter is starting well. There is nothing that indicates that we will live up to the expectations which we have. On the associated companies, Thomas, we have a handful of investments in companies where we hold minority of the shares, and these are both investments in technology companies and also on the distribution side. We expect this level of profitability on a quarterly basis going forward, although with some fluctuations. So around maybe $600,000-$700,000 to $1 million in profit on a quarterly basis going forward until we communicate otherwise. Just to clarify on the FX, I was probably unclear earlier. Let us say when we communicated the guidance, with the prevailing exchange rates at that time, we had communicated that the impact would be approximately neutral for the year. However, with the exchange rate as they developed during the quarter, we now see about maybe 30-ish basis point impact on a full year basis in 2018. Great. Thank you very much. Thank you. As another reminder to register for a question, please press zero followed by the one on your telephone keypad. The next question comes from Niels from Carnegie. Please go ahead. Your line is open. Yes, good morning. First question on the timing of your Bionic Brace. Since you have scaled up R&D expenses for this product also, could you talk about the timing of the product launch? Secondly, could you just give a few words on your M&A pipeline? Thank you. Thanks, Niels. The timing of the Bionic Brace, we are looking at 2019. As of now, it's mid-2019, but we have seen those deadlines slip in the past. So far it's 2019. The M&A pipeline is, as we mentioned many times, it's very, very difficult to comment on it. The business is such, it is hot and cold. I would categorize the M&A pipeline more active than it has been for a long time. Okay. Thank you. Thank you. There appear to be no further questions. I will return the conference back to you, speaker. Yes. Thanks. Thank you for your questions. Lastly, I have been asked to do a bit of advertising here. We will be on the road in relation to our first quarter release starting in Iceland in the beginning of May, and then visiting the mainland of Europe in mid-May. It is a little bit later than usual. Please reach out to our investor relation team if you would like to meet us or if you have any follow-up or question after this call. Thank you for listening, and have a good day. Thank you, ladies and gentlemen. This does conclude today's conference call. Thank you very much for attending. You may now disconnect your lines.