Good day, ladies and gentlemen, and welcome to the Getinge Group Conference Call. Today's conference is being recorded, and at this time, I'd like to turn the conference over to Mr. Johan Malmquist. Please go ahead, sir.
Well, thank you very much, and thanks to all of you for taking time to take part in this telephone conference here that is in reference to the press statement that we issued earlier today. I'm joined here by Ulf Grunander as well, and I'll just make a few introductory statements before we open up for questions in this clearly disappointing announcement we made today. So you could say that the press statement covers two topics. The first topic is the quantification of the costs associated with remediation work that we're doing relative to the Medical Systems quality management system. And it also provides for a bit of an outlook for the pre-tax results for the Q1 of fiscal 2014.
In the end of last year, as I think you, you all know, we issued a press statement that said that as a result of observations that we made ourselves, but also as a result of a number of observations made by the FDA in conjunction with audits that were carried out in the second part of 2013, or say, from the middle of 2013, that we have initiated a relatively comprehensive program to strengthen Medical Systems, quality management system. In the last few months, we have engaged external support to help us design that system and also to help us implement a robust business area-wide quality management system.
And you can say that what we're sharing with you today is the outcome of this analysis that calls for relatively significant investments in consultancy resources so that we can rapidly ensure that all of our operations are aligned with regulatory expectations. And I would say that the magnitude of the costs reflects, more than anything, the number of sites that we are addressing with this program, and also the change we're bringing from a rather decentralized to a more centrally managed quality management system within the business area in question. Considering that the cost of SEK 125 million per quarter is already a significant earnings impact, we also wanted to provide, to say, a bit of a perspective on our earnings for the Q1 of 2014.
And, we've done so in the absence, actually, of a February and obviously a March result, but we think we have a relatively good bearing on the quarter. So we now estimate that our pre-tax earnings for the Q1 will be around SEK 160 million. This represents a major deviation from the prior year period, if you factor in that the restructuring costs posted in the Q1 of 2013 were quite substantial. So the reason for the deviation from the prior year comes from two areas, that is, if we exclude the remediation costs of SEK 125 million.
Firstly, we see that we have a weaker quarter in terms of capital equipment shipments, meaning that revenues will be declining in the quarter, sort of on an organic basis and also on a nominal basis, most likely. And secondly, we've had a supply chain disturbance within our cardiovascular division, that has an earnings impact, we estimate, of about SEK 60 million in this quarter. This relates to a sub-supplier of ours who changed specification on materials that we used that had impact on the performance of the device that we make with that raw material. And so we've had to go through multiple iterations of tests and evaluations, and this has caused shipment disturbances that has this result impact.
For the full year, like we also stated in the press statement, we believe that the top line, I mean, we haven't guided fully for the year, as you know. We see that the top line will remain around the guidance that we have provided, but clearly, there will be the impact of the quality system reinforcement. And we don't think that we can make up for the supply chain disturbances that we have experienced, and are still experiences, even if we're quite close to re-resolving the issue. But what is a little bit gone is, we feel, gone. So we have those two incremental impacts on the full year. So I think I have nothing further here.
I'm sure that the questions will sort of drill into some details around sort of background, why we haven't said this and that earlier, and blah, blah. So, I suggest we open up for questions now.
If you'd like to ask a telephone question at this time, please press star one on your telephone keypad. Please ensure also that the mute function on your telephone is switched off. Once again, if you'd like to ask a question, please press star one. We'll pause for a moment to allow everyone to signal. Our first question comes from Michael Jungling from Morgan Stanley. Please go ahead, your line is now open.
Good morning, and thank you for taking the call. I have three questions really on the consulting cost. If I look at sort of $19 million per quarter, it seems to me like you have a very sort of serious issue, and I've been following this device sector now for sort of 15 years, and it's hard to think that you could possibly spend, like, $150 million or so on FDA remediation costs. I mean, how serious is this issue that you have here? How many facilities do you need to address? Question number two is also on the consulting costs. Will there be additional costs going forward? Because if these costs are for consultants, they may make some recommendations on spending more money.
So is this contained in your guidance, or could there be additional costs on top? And then question number three is on new product launches. Will the FDA remediation work have an impact on your ability to launch new products, and/or take away significant capacity, or production capacity away from you, to deliver on your organic order book growth from the previous twelve months? That's all. Thank you.
Okay, thank you. Thank you, Michael. Well, and Amber, and, I'll possibly ask you to, repeat, and precise some of your questions, so I make sure I cover all the, cover the entire list, so to speak. But you can say that the first reason why this, magnitude of cost, and I would, attribute that to two reasons. That, A, obviously, the actual standing from where we are in terms of, of, the work to be undertaken, right? So the delta relative to where we really want to be and where the business is done today. So this is sort of the assessment of the work to be undertaking, and, and this is part of the cost, the actual cost of assessing the work to be done that is in there.
What you could say, the two things that drive the cost is that we have decided, and this is sort of also maybe a little bit precautionary, to ensure that we don't end up in a challenging situation, that we do the work upfront. We may have sort of taken both an aggressive stance on how quickly we want to bring the quality management system up to the highest standard. But we're talking about 10, 11 manufacturing units that are concerned. So I would say the number of sites is one of the drivers of costs involved here.
The second driver is that the system, up until today, has been very much centered around individual manufacturing units that we have, you know, businesses we have acquired who have maintained their quality management system, so their individual quality management systems. What we're doing now is applying a business area-wide quality management system that will include a consistent complaint handling and electronics, consistent complaint handling system. We need to ensure that we address CAPAs, and validations are done in a homogeneous way across all of these facilities. Not all of these facilities have been subjected to FDA review, but we have decided to implement it business area-wide. So these are some of the cost drivers. Within the consultancy, I mean, one is advisory components, but one is simply manpower.
When you come in and say that you have significant amounts of, say, validations or revalidations that you want to undertake, this drives cost in this dimension. We see that the 6-7 quarters on this level, and maybe you should see that as SEK 125 million multiplied by 6-7 quarters, as sort of the investment we are making to put the system where we think it should be. Then after that, and obviously, we've asked that question, what type of costs, or if we make these reinforcement or changes in the quality management organization, what will be the resulting organization or the remaining impact on a going-forward basis?
We would say that we probably, from 2013 levels to, let's say, 2016 and going forward, we probably have somewhere around SEK 60-75 million as a remaining cost for maintaining and develop the quality management system going forward. But those would then be our own internal costs on a going-forward basis, which would be resource additions, most likely. So that is the perspective on why the cost is of the magnitude it is, and also what will be the remaining cost. I'm not sure, Michael, if I answered all of your questions. I had a feeling there was something in between there as well. Could you repeat that question?
Yes. The last question was in relation to this FDA remediation work. I suspect with that sort of cost, you've got significant headwinds, perhaps on your production capacity as these consultants go through and make these improvements. Should we be concerned that the order bookings that you've been booking over the last, let's say, 12 months, cannot be delivered in full, purely because you lose capacity?
No, I don't think so. I mean, I think it's a very relevant comment, and I would maybe argue that you know, I wouldn't rule out that there could be outbound supply disturbances, but I would more see those potentially on the cardiovascular side in that I think that in an environment where we're putting a lot of emphasis on this, and I think you can imagine the organization understands that this is an area that we are investing in. This is an area where we think that we have to bring improvements to our existing systems. And for that reason, I think that people will take a very cautious stance when it comes to product release and those type of things, right?
So you will be more prudent, I think, and this, in the end of the day, could have impacts on sort of timelier release of shipments and products and so forth. But we've debated this a lot, and, I mean, we're confident that we're selling and sending sort of safe and great products out to our customers. But I still think that this is an area where people would be sort of more, how can I put it? More cautious when they if there is sort of the slightest risk, I think that we would then say, we don't ship. We should always do that, I mean, but I think the balance now is towards more caution.
That would be my view of the positive reaction we might get out of this. But I don't see this on the capital side. I think. And same to your question regarding are there limitations, well, you could say that of the audits that have been undertaken, so there was a number of them from the middle, say, to primarily through the Q3 of last year. But before that, as we have said, we had a warning letter issued into our Wayne facility that dates back a couple of years, and we also had a warning letter relating to the Atrium business that we acquired in 2011.
What is typically the situation is that if you have a warning letter in place, you will not be granted pre-market approvals, and, and that those typically apply to Class III devices. And so the only, I would say, limitation we have now is that the iCast, which is a covered stent, that we had intended to go for a PMA, is in pending mode. And you could say that that was also the triggering point to the situation that led up to the Atrium warning letter. Because for a PMA, on the one hand side, you submit the clinical data, and, and we had a, a solid file for clinical data on the iCast.
But you also need to fulfill higher levels of sort of regulatory compliance, and there is more of an in-depth audit of your manufacturing operations in conjunction with a PMA approval. And this is where Atrium fell short in a way, and which ultimately resulted in the Warning Letter that will now prevent us from obtaining the PMA until we have removed the Warning Letter.
Okay. Clarify one thing is, because I... and the last thing we need is perhaps another bit of negative news in 2, in 2 or so quarters. Can I just confirm that these consultants are, are not suggesting that they will have to close, let's say, a quarter of your production, in various facilities to do the remediation work? Because the last thing that we need is another negative surprise that, I'm sorry, but we can't do 4% organic growth because, we suddenly have less capacity. Can you make some specific comments on that, please, on, on what that risk is? Have these consultants mentioned something like this to you?
No, I mean, we have the basis of the work that we are doing is that we have sort of created a vision of where we think that our quality management system should be, to be sort of a top-class quality management system. And then you can say we've made a benchmark and say, this is the baseline, this is where we stand today, this is the amount of work that we need to accomplish. And the result that you see is the timing that we need, the time frame we think we need to get to where we want to get. So, I mean, it's a significant undertaking, obviously, this level of investment, but we think it's sort of a sound investment into the future.
And, you know, we have grown through acquisitions, and, I think this is something that we can always argue we should have done it before and so forth. And I think that is a valid comment, if that comment is fair. But from where we stand now, this is the work we need to do.
Great.
Yeah. So I can't comment on the other one. You know, we live in a regulated environment and so forth. I can't sort of make predictions of everything. It's disappointing, the situation we're in right now and having to have this conversation, but unfortunately, that doesn't give me new insights into predicting the future entirely.
Great. Thank you.
Thank you, Michael.
Our next question comes from Richard Koch of Kepler Cheuvreux. Please go ahead, your line is open.
Hi, Richard Koch at Kepler Cheuvreux. If we focus on the underlying business, where you also had quite a big shortfall with poor invoicing, then in what divisions were primarily affected? And to what extent do you expect this business to come back later during the year?
Come back and come back. I think it's, you know, we had 4% growth last year. We are predicting 4% growth this year. So I don't think that it's a matter of sort of coming back. Our capital equipment business that makes up just under 50%, has had a tendency to be quite variable also in the past. It's a fact of the nature of the business we have that makes it extremely difficult to predict, and therefore, we've sort of also earned ourselves a reputation for being out and changing our estimates here and there, right? And we fully understand that predictability is an important aspect of a business, and not least for shareholders, right? So we're obviously working on it.
What we're faced with is a sort of a facing situation. It's relatively broadly spread, I would say, over the three businesses, so we don't have one business sticking out here really. It's Infection Control, it's Extended Care and Medical Systems. So, and on the business environment, we've said we've sort of outlined the trends that we see, that we've sort of experiencing an improvement in Western Europe, to confirm that. We're sort of seeing a stabilization since a while back in North America, I can confirm that. And we've also said that we possibly have more volatile developing economies, where a lot of the larger projects are, that can grow numbers around a bit between quarters. And that is to an extent also what we are experiencing in this quarter here.
Okay. And some of the problems with the manufacturing here seems to be related to the fact that you've been doing a lot of acquisitions in the past. Is that a reason for you to sort of review your acquisition strategy going forward?
Not as such, I would say. I mean, I mean, if I elaborate, I've had the opportunity to sort of meet investors here over the last week or so. And again, I mean, we're obviously here as a company to respond to the wishes of the owners of this corporation, of which there are many, and there's obviously the major shareholder as well, who's sort of taken a long-term, both responsibility and perspective on our group.
I would say that it would seem that a majority of shareholders thinks that we should emphasize sort of the realization of the margin expansion opportunities that we have, would be my take, and that the emphasis on corporate acquisitions should possibly take a little bit of a backseat for that specific reason, so that we can concentrate on taking out the potential of what we have. On the other hand, we have said that, you know, long term, we think size is an important success factor for a company in our industry. And I think both of those are very, very important.
The fact is that companies are relatively expensive right now in our space, wherever you go, sort of valuations relative to sort of underlying market fundamentals is such that they are expensive. So I think that the natural reality for us is that we will be spending a lot more efforts on bringing internal improvements to the company. But I wouldn't say that it is the acquisition per se that has sort of led to the situation with the remediation or remedial work that we need to do now in medical systems. I think it's sort of a natural evolution of where the regulators have higher requirements on device companies. I'm sure they have good and valid reasons to expect more in terms of compliance.
We have a degree of complexity, that's a reality in our business, from several acquisitions. And, as always, there is a human factor also around this, and I think that, we've made quite a lot of management alignment as a result of this quality situations with people who didn't quite have the right understanding and attitude, towards these regulatory, demands on the business. So, in summary, a little bit, we still believe that acquisitions is important. I think that, the situation would suggest that we have work to undertake in our existing businesses, both in quality, but also to make it more efficient to realize the margin expansion targets.
And I think that will be the majority of the focus here, if we think about the business short term, but it's not like we've written off acquisitions. But the environment also makes it a little bit less likely that you will do major acquisitions here in the short term, immediate future.
Okay, thanks. I'll get back into the queue.
Thank you.
Our next question comes from Hans Mähler of Handelsbanken. Please go ahead, your line is open.
Good morning, Hans Mähler here. First, can you please repeat the cost you expect per annum post the initial six, seven quarters? And secondly, I know you don't guide on profitability for 2014, but is it still fair to assume that an adjusted EBITA would grow for 2014? Could you say anything about that? Thank you.
So the number we said, I think I used the phrase to say, if you look to 2016, and well, sort of to ask yourself, what will, relative to, say, last year, what will be the remaining cost for the hopefully much better quality management system, then we estimate that to be between SEK 60 million and SEK 70 million per annum for medical systems.
Okay. Thank you.
When it comes to, I mean, we haven't commented in our outlook at the beginning of the year, and we're not commenting now, either. We've commented on this quarter. We have an upcoming Capital Markets Day, where I believe the purpose is to be a little bit more transparent around the outlook for not only this year, but also for the coming years. And I believe that we will be coming out here, hopefully in next week, with a specific date. And I think it might be good to have that opportunity in the not too distant future to interact with the capital markets on the future outlook.
Will I get the same answer if I ask you whether the 2015 margin target is valid or not?
Most likely, yes.
Okay. Thank you very much.
You're welcome.
Our next question comes from Justin Morris of Merrill Lynch. Please go ahead, your line is open.
Hi, gentlemen, thanks for taking my questions. Firstly, I just wanted a clarification. When you say 10-11 manufacturing units, is that out of the roughly 25 you have in total for the whole group, or are we talking smaller units here? Could you please go into more detail of what products are manufactured in these units, what percentage of sales, what percentage of profits? That's my, that's my first question.
Now, let's take them one there. You, all of you have a rather, a lot of questions and rather lengthy, so I, I'm mindful of not missing. So let me take them one by one, Justin.
Okay.
So we are conducting review of all of the facilities within Medical Systems, you could say. The other two business areas have their work to do, which is not what this press statement refers specifically to the Medical Systems business. I mean, I think we have given rough guidelines previously that our Critical Care business is sort of exclusively operated out of Solna in Sweden. This is about a SEK 2 billion-SEK 2.5 billion business, sort of rough numbers now. We have the Surgical Workplaces business that is operated out of facilities in Germany, and the facilities in France, and a facility in China. They have revenues, SEK 5 billion-ish, I would say.
Then the remainder of the medical systems, up to, say, the revenue base of some SEK 13 billion, is made up of Cardiovascular, which is facilities in France, its facilities in Germany, its facilities in the United States, its a facility in Turkey, and a facility in China, which is not up and running yet, but which is pending to be up and running. So that is sort of the magnitude of operating units involved in this remediation work.
Okay, that's clear. Second question is similar to one that was asked earlier. These, these total restructuring costs of some SEK 800 million-SEK 900 million, I mean, how much of that actually relates to, you know, paying, paying consultants' salaries as opposed to actually fixing, manufacturing or, or, or IT issues? You know, is this purely IT, or is there anything you need to do in terms of your production lines to bring them up to scratch?
Well, well, firstly, A, it's like I wouldn't maybe call this restructuring cost. It's you could say it's to some extent an extraordinary item in the sense that it will disappear down the road. But I mean, these consultants that we're using is both in an advisory capacity, but because of the amount of work we want to accomplish in this time frame, it's to a very large extent just arms and legs and brains, it's resources, to undertake large volumes of revalidation works and the like, to ensure that all the documentation and everything is up to the required level. So I don't think that you should sort of think that we're spending you know, SEK 125 million every quarter for people coming to tell us what to do.
But this is to a very large extent, sort of, just manpower as well.
But is it IT or is it production related as well?
I-
Or this is just purely quality management systems?
Yeah, but as you can see, the IT piece of this is that when you, if you want a sort of a good complaint handling system, and just to try and describe where we come from and what we're sort of heading for, like, so we've made these acquisitions, and you have companies who've had their own quality management systems. And a very, very important part of the quality management system is obviously to pick up remarks, failures in the markets, what is typically referred to as complaints. But it's sort of broader than that, but it's sort of grouped under the heading complaints, and the system used is typically referred to as a complaint handling system. That complaint handling system from a sales company is very different from one entity to another, right?
So if you represent, say, medical systems in the United States, you may have to input data in 5, 6 different complaint handling systems to different manufacturing units. And this is not only cumbersome, it's ineffective, and this is highly manual systems. So a part of what we want to do is to put in place sort of a comprehensive complaint handling system, where the sales company sort of input data in a uniform way, and that data then gets sort of conveyed to the units concerned. And we want to do this electronically so that data is available quickly, that we can quickly establish trends of non-compliance, so that we can address problems before they become problems, et cetera, et cetera.
Mm.
So that is the IT component of the changes we're doing fundamentally.
Okay, thanks. And just again, I know you've been asked about whether this would affect product launches going forward, but I just wanted to clarify in terms of products currently on the market. I mean, if I look through your Atrium Medical warning letter, it talks about, you know, infections in C-QUR mesh products, you know, hair in the chest drainage manufacturing facility, as well as the IT and the complaints from the iCast stent. So I was just wondering, you know, have any of those products been withdrawn from the market at all? Is there any risk to sales there going forward if those products are withdrawn? Have you now addressed those issues from that warning letter at the end of 2012 on those products?
Yeah. I mean, it's when you, how can I phrase this in a quick way here? I mean, I think when I said before that, when we look at where we want to be and where we stand today, we've sort of adopted a way of establishing this is the level we want to reach. This is baseline, this is where we stand. That delta between where we want to be and the baseline is partially based on observations from FDA, but it's also based on other areas of improvements that we want to bring to the table. So you could say that when FDA goes in and audits a facility, their job is to identify or give us recommendations on improvements.
We cannot assume that we need to address only those things identified by the authorities or by the regulators. Our job is to make sure that we are compliant across everything, both things that have been identified, but things that haven't been identified because they may have not been investigated during the audit, and many reasons, right? So this is the work we're undertaking. Do we have products that we need to withdraw from the market? Not to my knowledge. We are shipping the product now. We are obviously taking great care that we are shipping safe products, and we are shipping safe products and great quality products. But the system behind is not at the level where it needs to be.
I don't know if that makes sense, Justin, but that's sort of the reality of it, if you will.
Okay, that's clear. Just last, to tidy up question on the financials. Will these remediation costs be taken as an exceptional or will it be an ongoing cost in terms of your reporting? Also, just on the Q1, could you clarify the total exceptional costs for the business? Just trying to get a balance between the 160 reported PBT you’ve guided for, and what that would be on an adjusted basis. Thanks. That's my last question.
Yeah. If you, if you, so we firstly, yes, we will record the remediation expenses quarter by quarter as a separate item or, or highlight that item. I'm not suggesting we're going to have a special line in the P&L, but we're most likely going to put it under other operating.
It will be under other operating expenses.
Which also contains other non-operating expenses that, but we will single this out. Secondly, I'd like to point out that we will not be—this will only be the external costs we are incurring, so no internal costs will go into that category. I think that is important because we obviously have own resources also working on remediation, but that will remain in the operation. The second one, I mean, the only further sort of guidance I can give on the quarter, which I presume is right now a little bit of an open, is on the restructuring charges that we believe will be about probably somewhere in the range between SEK 30 million-SEK 50 million of restructuring charges in the Q1 of 2014.
Okay. And just, sorry, to clarify the-
Sorry, Justin, I have to correct that last statement there.
Between 15 and 20.
Sorry, between SEK 15 million and SEK 20 million-
Okay
-restructuring charges.
Just to clarify, so the adjusted EBITA that you report, will that include the SEK 125 million quarterly consulting costs, or will it adjust that out? Sorry, I apologize.
No, no, it will be in the EBITA. I mean, as before, the only thing that is not in the EBITA is sort of restructuring and amortization on business acquired over values, and to the extent that we have acquisition costs also. But,
Okay.
The SEK 125 will be in the adjusted EBITA, if we call it that, under other operating expenses-
Okay
... specifically marked only external costs.
Okay, thanks for your time. That's very clear. Thanks. I'll get back in the queue.
Thank you. Thank you, Justin.
Our next question comes from Scott Bardo of Berenberg. Please go ahead. Your line is open.
Yeah, thank you. A few questions. Just to take the, the first. You mentioned that you would had been discussing some sort of resolve to these quality issues for some time. And I just wonder if you can comment a little bit on timing as to the release today. It certainly feels to me as the communication we received in December and I think subsequent communication from the company, that these costs initially were to be seen as being relatively manageable within the guidance framework that you issued. And if anything, I think the general consensus amongst most that have met management in recent weeks has been one of an upbeat tone.
So I just wonder if you could, perhaps, just comment, you know, how did these costs creep upon us? And when really did you have an indication of how meaningful and severe they could be for the group? And following on from that, why weren't they communicated before?
Mm-hmm. I think it's a good question, Scott. I'm glad you asked it. I'm sure it's one that many of you ask yourself. I think it's fair to say that when we first embarked on this project, if we go back to last year or the tail end of last year, when we had sort of a picture of that here is an area that we need to address, I would say we did not have this understanding that these were the resources that we were going to engage. So we, because our own organization, to some extent, you could say, had failed to resolve these issues by themselves, we took in external advisors and resources to make sort of a very comprehensive assessment.
And this has involved site visits to every manufacturing facility around sort of medical system, the number we've talked about previously. They spent quite a lot of time on each site. I mean, when you dig into the details of the quality management systems, it's a lot of details. So you could say it took a while to get sort of a quantification of the resources and the time necessary to build a system that we can be proud of. And so you could say that, you know, it's extremely difficult.
I mean, if you try and put yourself in our situation a little bit, and I'm not asking for any sort of deeper understanding here, because it's our job to manage this, but we were in a situation that, yes, we know we will have expenses, but if, if we said, yes, this is going to cost money, the first two questions we're going to get is how much and for how long? And we simply did not have the answers to any of those questions until very, very recently. And then the second question that, that, comes up, which is, is sort of our obligation, is to ensure that all shareholders can take part of information on this magnitude at exactly the same point in time. So, so between those two, I think that is sort of the, the very, very simple explanation why, why now?
Why, why not before? And that is what it is. And somehow, when it's the news are not good, it's difficult to come out well, whatever you do, but that is really the reason why now is the time when we can talk about it.
Okay, thank you. I appreciate it must have been difficult to quantify the magnitude, but even the direction seems to have escaped many in the market, that there was some meaningful cost to come. And I guess, you know, some meaningful costs were clearly part of the future outlook for Getinge, even in the last quarter, I guess, given, you know, some of the consulting costs that you had. Can you just specifically on the financials, just clarify, was SEK 125 million taken in this Q1, or is that to come as of next quarter? And perhaps then-
It's in this Q1.
So we have in the Q1. So could you then perhaps just allude a little bit as to what you think the underlying margin for the group will be, or the EBITA margin for the group will be in the Q1?
I think we've given a bit already. I mean, we've said that the restructuring charges that were quite substantial last year will be meaningfully lower. We said SEK 15-20 million worth of restructuring charges. We've given you a pre-tax number, we've quantified the SEK 125 million. I think the rest of the math you can do reasonably well. The top line, I think, will. And again, it's, they're obviously not sort of full certainty, but it looks like we're gonna be down about 2%, organically on our top line in the Q1 versus prior year. There's relatively little translational impact on top line in between this year and last year. So that should probably also be the nominal number you will see. But currencies move, and there's obviously a few uncertainties.
But our prediction is that on a pre-tax basis, we're talking about this circa SEK 160 million.
Okay, thank you. And just to talk a little bit about the sort of consulting revenues or consulting costs going forward, and obviously very steep, you know, $100 million or so, which seems to me from what you've discussed, mainly personnel costs. So it sounds to me like this is a huge undertaking and perhaps even up to, you know, 1,500-2,000 additional employees that the Getinge Group need to encompass over the course of the next few years. Just wondering if you could help clarify, you know, roughly, does that number make sense? And are these all on sort of temporary contracts that you think, you know, will fall off quite quickly?
No, Scott, I think we—you know, what we said is that our quality management organization, if we look to 2013, you know, it's what it is with its shortcomings, et cetera. And when we come to 2016, when we have sort of brought improvements to the quality management system, structured it the way we think it should be structured for this business, we will have an organization that will cost, we think, SEK 60 million-SEK 70 million more than it cost us in 2013. But hopefully, also a quality management system that will lead to sort of benefits in other areas, I mean, fewer recalls. So I think that SEK 60 million-SEK 70 million of incremental cost the organization will have going forward, I think will be money well spent.
The challenge is that between now and getting to that position, we have a workload of closing the gap between where we should be and what the baseline is. That requires a combination of expertise that consultants are providing, and also requires resources to process data that other consultants or the same consultants are also providing. So I don't think that you should. We can sit and translate this money into numbers. I will certainly not be in a position to do so. But it's a workload that we need to accomplish, and changes we need to bring to the quality management systems to get it up to the required level or where we want it to be.
What I think that you the investment, which is huge, I'm totally with you, but I think you should see it at the requirements to bring a small facility up to snuff and a big facility up to snuff, and particularly with the variety of the products we do is a big amount of work. But we certainly are not talking in the thousands. And I think that if you're looking at the organization that we will have, our internal organization, which is set to cost some SEK 60 million more two years from today compared to last year, it will be very differently shaped to the one we have today. I mean, a lot of the resources that have been on plant level will be on a higher hierarchical level.
It will certainly be, in many instances, upgrade qualification-wise, but bigger roles that we can attract the more qualified people we need to maintain and develop our quality management system long term. I would may-- I don't know, investment is maybe not the right word, but this is sort of an investment to put in place a strong quality management system that is aligned with operating procedures, et cetera, et cetera. I think it's gonna be bring other improvements that I'm not in a position to quantify now. You know, would I have liked to avoid this? Yes, of course I would. This is what it is. I think the description from some of you, I don't think is totally accurate.
Okay. And please, two other questions, which I think are important. At the last call, you mentioned into the capital markets day, you're gonna announce some new cost measures to structurally lower the cost base to take margins north of 22%. Can you confirm that the costs you refer to here today are excluding any future costs that you will need to take to accelerate cost efficiency measures? And also, given the additional cost burden that now comes to light as compared to only a few months ago, are we to assume that those previous comments are invalid about the potential to take your margin north of 22% in a near-term time horizon?
Yeah, I'll ask the question to myself just to make sure that I understand exactly what you mean. I mean, we have clearly said that we believe that we have a potential to deliver margins beyond 22%. That is not in question. We have, as we've said, also this capital markets day coming up, where we hope to be able to elaborate on that in more detail. We will have here now over the next, like we say, 6-7 quarters, incremental costs that will disappear. The remaining cost of the SEK 60-70 million will obviously be there.
So if your question is, once we have implemented these changes, if we consider the increase in costs to maintain a stronger quality management system, will we still be able to deliver those improved margins? Then the answer is yes.
But those costs will be incremental.
But hopefully of a very temporary nature, they will disappear in the future, I mean, so they will not be there forever. So it is more a question of what is sort of the interim on an interim basis, sort of between where we want to get and where we are today, these costs are realities that we will have, and they will obviously not contribute to margin expansion, rather the opposite. But we consider them to be of a temporary nature, and they will disappear, and when they disappear, we will be a stronger organization in this capacity.
Thank you. Last question from me. Obviously, there is an awful lot going on in the Getinge group at the moment, at a time when, you, you've had, some weakness in demand in some of your core regions. You know, you're conducting widespread manufacturing facility consolidation, sourcing from low-cost country initiative, shared service initiatives, and now huge and widespread, remediation work, for the FDA. So the question, really is, do you think that you have adequate management resource to deal with all of these moving parts? And when you look at also, the, the capital structure of the company, a company which I think had about 3.3 times leverage in 2013, do you see any necessity to, potentially, raise some equity to help you through this, relatively rocky period, in Getinge's history?
No, I mean, if you look at the, like we've said, that we can raise, I mean, debt, if we needed to, or if we wanted of some SEK 8 billion, after we have paid for Pulsion. And you look at the level of earnings, I can't see that happening. I mean, I don't know why we would do that. Why would we need to do that?
Let me ask another way: Is it still your anticipation that you can delever over the course of 2014?
If we don't acquire anything, yes, absolutely.
Sure, sure.
I mean, we have, we have positive earnings, positive cash flow. I mean, it, it it's not, it's not where we want it to be, but it's still not-
Earnings supposed to be net debt to EBITDA .
Yeah.
So by all means, we will deliver.
Yeah.
Okay. I'll jump back in the queue. Thank you, gents.
Thank you as well.
Our next question comes from Justin Smith of Société Générale. Please go ahead. Your line is now open.
Thank you. Just a couple of questions. First one was just to clarify, the remediation costs. I presume they're all cash costs. And then the second question, I apologize if I've missed this, but can you just talk about FDA inspections in your other two divisions as to whether they've happened recently, or is that something that could happen going forward? So I guess I'm just trying to get comfortable that, what's happening in medical systems is not going to happen in the other two divisions. Many thanks.
Yeah. I mean, that's it. Firstly, yes, the costs are cash. The SEK 125 per quarter is cash. The other question, I think is, you know, valid question. And I would say that, your... You know, every inspection on a facility is something you should take very seriously. And every, and sort of in between inspections, we should obviously work very hard to continuously work to improve our quality management system. If I look at the recent track record of inspections in the other two divisions, and mind you, FDA concerns itself with facilities that ship products in the U.S. environment, right?...
So, we've had one inspection in Infection Control during 2013 that was left without the observation, to the best of my knowledge, so I don't think they got a 483 at all. Extended Care that had also a challenging situation from a regulatory standpoint, if I go back four, five years, undertook a lot of work, but it's a different class device. I think it's important to underline as well. But they undertook a lot of work, and they've had inspections over the last few years that they have cleared largely without any observations. So, I would say if I'm sort of using FDA's audit results, I would say that they would seem to have done a better job than what we've done in Medical Systems.
It's also worthwhile saying that in both the case of Extended Care and Infection Control, we operate under business area-wide quality management systems, which is not the case within Medical Systems, so there are some differences in there.
Great, thank you very much.
You're welcome. We have-
Can I-
Operator, if I could just now, this is normally we sort of try and limit a call to one hour and in the interest of people's time. But I think that, I mean, I'm quite happy to open up for or maintain this call open and answer the questions that are in the queue. I don't know if you could inform us how many we have in the queue for asking questions.
We have five remaining questions in the queue, sir.
Okay. I suggest that we take those five individuals to ask questions, and if anyone needs to check out from this conference, I'm sure there's a transcript connected to this. Oh, is that correct? There's a transcript from the call?
There's a recording, yes.
Yeah. Okay, good.
Okay.
Recording is good. Okay, let's take the five and then hope that that will conclude this call.
Perfect. So our next question comes from Mattias Häggblom of Danske Bank Markets. Please go ahead, your line is open.
Thanks so much. My first question is, if you can comment if there were any consultancy costs related to this project ordered in Q1? If yes, how much?
Sorry, Mattias, if there were any consultancy costs in Q1 of 2014?
Of Q4 in 2013, were there all the costs related to this project that we can know of today, to better understand the phasing and the initiation of this project?
Okay. Yes, Mattias, there were some, but not sort of material to the extent we're talking now. But there were some. The work commenced then, and then it sort of increased or sort of been intensified during the January and February of this quarter.
Okay. And then secondly, with you doing the work upfront, as you call it, prior to any further influence by the U.S. FDA, can you ensure that the work you do is enough to please their future requirements, or is there additional risks with doing it upfront, as you call it?
There always is, Mattias. I would say. I couldn't say that it's sort of, you get to a point, then you're sort of out of the risk. This is a live sort of system that needs continuous improvements to it. And there is also changing regulatory requirements from the authorities or from the administration that one needs to be aware of. And I think that some of the challenges that we have right now is actually local quality management at individual facilities that haven't fully grasped, perhaps, that dimension, that whereas you may have been compliant in the past, regulations move along, and you have to make sure that you're always sort of up to snuff.
I think this is not. This is an area where you need a good system at the base, and then you need an attitude of continuous improvement to combine with and always strive for sort of the next level. So saying that the risk is gone would be wrong. Saying that the risk is down significantly, I think is the accurate definition or the accurate description.
Okay. And then just lastly, I think someone else asked probably in a different, somewhat different way, but you launched a plant construction program in Q1 last year, and you announced the move of the headquarters to Gothenburg during the autumn, with additional savings to come. And now you have this significant change in investment for medical systems, and all three quite material events happening during a single year. So if I wouldn't have known the company before, I would probably have thought that something material has changed. So has it? Or why all events now?
It's also a very good question. I don't know if I have the, I mean, as you know, I've been around here for 17 years, I see, this is an, what should I say? That the group has grown, I mean, it may be that in the complexity that the growth has generated, you could say that we don't have the amount of oversight that we should have had, because this, clearly, on the quality management side, has popped up as a little bit of a surprise. And that's maybe more the aspect, I would say, that the headquarters change and the others, they're not born out of sort of-- They're not surprises in any way.
They're sort of part of being in an environment where we can recruit the talent we need for a somewhat different role for the corporate center in terms of extracting synergies between business areas. So I think we talk about different things, but I think the quality management system, I don't think. Oh, I think that there is an element of the result of multiple acquisitions that we have done, and not sort of taking this bigger perspective on the type of structure we're building, specifically in medical system. I think that is a fair comment and a fair conclusion.
Thank you.
You're welcome, Mattias.
I'll take the next question from Martin Wales from UBS. Please go ahead.
Thank you. Excuse me. Good morning. Coming back to your reiteration of your 4% sales growth guidance for the year, despite the fact your business has apparently declined 2% organically in the Q1, what gives you the confidence you can still make those numbers, particularly given that, if I read you correctly, it's the emerging markets business in all different segments of your business that's causing the problem at the moment?
Mm-hmm.
So why the confidence you can still do 4%, I guess, is the question?
Yeah. No, I mean, I would say that is sort of the ongoing dialogue with our business areas. I mean, that is sort of a blend between the development of demand, such as we read it, and also the health of our own operation and our ability to capture that sort of more or better demand. I mean, we're talking about a level that is comparable to last year. We're not talking about sort of a hike compared to last year. And, I mean, if you go back over the last three years, so 2013, 2012 and 2011, we were up around 4% in 2011. We were down to 3% about in 2012. We were up to 4% last year.
I think that most people would agree that the European market has stabilized and U.S. has returned. I'm not alone in believing this. There is, as always, uncertainties. And I think at this present point in time, I think the uncertainty presents itself in a few emerging markets that are experiencing more turbulence today compared to a year ago. And I think this is what is reflected in our commentary around the volume outlook. So, yes, I feel rather confident in that growth number, I would say.
Okay. Thank you.
Thank you, Martin.
I'll take the next question from Luca Orsini from ONE Investments. Please go ahead.
Hi. Actually, it's Peter Testa for Luca. I just wanted to understand how these factors you've talked about today are likely or have been affecting either bookings of or sales or bookings of orders. You're describing on the consultancy side something which will last 6-7 quarters, and there's a, you know, raw material issue inside the cardiovascular division. Can you give some sort of explanation as to how and why this won't affect your business flows, given the time frame it's going to take to fix the issues in medical systems from an FDA perspective, for example, why this won't have a market share or impact on order intake or delivery timing issues that customers may need more satisfaction?
Yeah, I think that we're talking about sort of different items here. I think that if you talk about this raw material, for example, this is sort of an unfortunate event where yes, of a passing nature. I mean, we had a change in specification, which resulted in the product not having the properties or the device we manufacture using this raw material did not have the properties that it requires. Which meant that we had to go through a series of validations of the outcome with this new raw material. And the issue is largely resolved so that we can resume shipments.
Our view is that the shipments we haven't been able to do are shipments that other people have them done, or procedures have been postponed, possibly, but not so likely. But we don't see that this will have sort of an effect going forward. The other top line, I mean, is more like we said, the variability of our business is born out of a relatively high portion of capital equipment, and some of that concentrated into rather big projects that can move, and when they move with a month here or there, which is sort of not unusual in any way.
It can happen to fall on one or the other side of a quarter, and this has always sort of meant that we've had a relatively big volatility between quarters, as I'm sure a number of analysts covering us can testify to. This is just the nature of our business. Will the work we're undertaking on the quality management system sort of lead to further disturbances in supply? I think I would like to think that if we have a product that for some reason that we make is not safe, that we would stop shipping that product under all circumstances, whether or not we're taking up this work.
But I, as I've said, that I hope the organization is always cautious, but I think that undertaking this work now, the organization could maybe step up to a different, a new and higher level of cautiousness. That's a possibility, but I think even when we've discussed internally and tried to factor that in, we still come around to this number we have in terms of growth, we feel good about. So the 4% is what we expect revenues to grow with.
But within medical systems, for example, since the process of consultants the last 6-7 quarters, I assume the remediation process will last a similar amount of time. You know, customers have competitive alternatives. Can you just explain why you don't think this will have an impact on market share?
Yeah, can I maybe ask you why it would?
Well, because the customers may wonder, you know, may ask more questions about what's going on, whether, you know, remediation has occurred or still has to occur. There could be questions about product, product quality, et cetera.
Yeah. No, but I mean, I would hope that no supplier provides products that aren't safe. I mean, let's be clear, the role of the regulators in this respect here is to ensure that products that are shipped to U.S. citizens are safe to use. That is the prime responsibility. There are other aspects also, that devices should be sort of economically and clinically effective, if that is indeed the claim you're making or if you're into sort of PMA and others. I would say that we send out only sort of products that are safe to use for customers. And to the best of my knowledge, that has always been the case and will continue to be the case.
Are the remediation steps to occur, have they occurred, and this is basically inspection, or are there remediation steps still to occur?
Well, the cost that we have just described over the coming 6-7 quarters, I would describe as remediation work that we will undertake to bring the quality management system up to the level where we want it to be. So, of course, I mean, this is what these costs are about, I mean.
Right. Okay. And just one last question. If I could just confirm that there are no other particular restructuring charges taken in Q1 beyond the SEK 60 million highlighted and the SEK 125 of quarterly costs?
Yeah, as long as we will not be referring to either of those as restructuring costs, just so we would, you know, the SEK 60 million will just sort of be an integral part of a lower gross profit in the quarter, and the SEK 125 million will be another operating, clearly specified. We clearly see them as unusual, but still part of the cost of running this operation at this point in time.
Okay.
True restructuring cost is going to be SEK 15 million-SEK 20 million, not yourself.
Yeah, I think you, you picked that up earlier.
Yeah.
Yeah.
Fine. Thank you.
Thank you.
I'll take the next question from Michael Jungling from Morgan Stanley. Please go ahead.
Great. Three brief questions. Johan, when you attended our conference this week, I got a slightly more positive stance than what happened today. Can I just confirm that on the order booking side, that you are still—or can you give us indications on how the order bookings growth is growing in the quarter, and not just the invoicing or the sales for the quarter? Question number two is on the weak invoicing. Can you comment on what geographic regions the weak invoicing is occurring, and whether perhaps also it's somewhat, like, weather related, perhaps, in North America? And finally, on the remediation costs, it seems that the size and the communication style today is sort of very, very sudden, very abrupt.
Is this driven by recent discussions with the FDA, where they perhaps have given you a slightly more stern warning, saying: If you don't fix this now, we will escalate the issues that we've had with you in the past? Thank you.
Yeah, if I, the reason for the communication now is, I think where I started this conference, it is in itself a material amount. I mean, SEK 125 million in a quarter and coming up, and you could say that this is communicating it at the point where we're comfortable and have visibility of what we believe the cost is going to be. It happened to be... I wish so much that we had been able to communicate this two weeks ago, sort of before your event in London, for example, Michael, would have made me a lot more comfortable. The rest, if we sort of-...
To take this aside, you said the sort of optimism we have, I think, is the beliefs in an improving market environment and the potential we see in improving our existing business. Those fundamentals haven't changed, I mean. Though that opportunity and all of those aspects are there, but I do fully appreciate that the news that we brought to the market today doesn't fall into the category of good news. So, it's a little bit, I mean, I hope and believe that if we were sort of deemed to be positive and optimistic, it's around the market dynamics and the potential for improving the performance of this business, and that remains very solid.
Is the optimism on order bookings in the Q4 still valid? Meaning, it's
For us, I would say over a twelve-month period, the orders and the shipments need to be pretty much aligned. I mean, if we don't grow our orders organically by 4%, we're quite unlikely to drive our revenues organically by that percentage. And, I don't want in a, in a close, sort of, in a conference call to disclose information on how we have performed in the first two months. I don't believe that is wise. It's not in the public domain. But, but, we haven't changed sort of our view on the market dynamics, but I can't comment specifically on the Q1.
And then, some feedback on what actually you're referring to when you mean weak invoicing. What regions would they have been in?
Don't have that detail. Sorry, I do not have that detail, actually.
Okay.
But my, but my guess would be that we're talking about shipments to emerging markets on larger project. That would be my, my... But I, I couldn't quantify it here.
Then, were there any recent sort of FDA discussions which caused you to, if you like, escalate the remediation work?
No. I mean, in terms of what the ambition is, I think that, I don't know if surprise is the right word, is—I mean, we recognize this is a significant amount of money to fix something. So you sit and look on the one hand side, you know, this amount of cost would indicate big problems. And what I think it is, is in the assessment that the external advisors we have in terms of, and our level of ambition with our Quality Management System, going forward, has sort of led to the level we have of investments here and also to do it in a timely. I mean, you may consider that 6 or 7 quarters doesn't sound like in a timely manner, right?
It's a relatively prolonged time period, but this is to take it to sort of, we believe, top-notch. And also set in place a culture that can actually, sort of, from a quality perspective, perpetuate itself, so that we create an organization that can learn from mistakes, implement them into improvements, and move forward.
Okay. So these remediation costs would not be, for instance, because the FDA would have said, "Fix it or we'll give you a consent decree on the facility that you've got a warning letter on there." Is that a fair assumption?
Implied in this is obviously, if we don't fix shortcomings in our quality management systems, there will ultimately be repercussions. That, I think, would be the case if we talk about Extended Care, Infection Control, or anything. If FDA, and they have, as we've said, they've made audits, they've had observations, they have clearly sent a strong signal to us that you seem to have a problem because they conducted a number of audits over a relatively short time space. So yes, this is a situation we need to address forcefully, fix outstanding issues to come out clean and, create a system that we can, sort of, that is robust enough that we can build from and improve from.
Great. That's very helpful. Thank you, Johan.
Thank you, Michael. Okay, I didn't count, but shall I assume, operator, that was the fifth person in the queue, just got an opportunity to ask his question?
That is correct, and we still have two participants in the queue.
I think we since we said we need to conclude there, if I think anyone who feels their questions haven't been answered, they should obviously feel free to call either myself or Ulf Grunander for sort of further clarification. And I'm sure also that I've made myself very available at the beginning of next week also, if there are questions sort of down the road and people who haven't had the opportunity to participate in this conference. So I think we'll wrap it up here, and thank you for spending time with us. We are clearly as disappointed as you are that we come out with this news here.
We'll do our best to ensure that this is an isolated event and work hard to sort of try and live up to your expectations. Thank you very much.
Thank you. That will conclude today's conference call. Thank you for your participation.