Ladies and gentlemen, thank you for standing by, and welcome to the Vitrolife interim report January to June 2020 conference call. At this time, all participants are in a listen-only mode. After the speaker presentation, there will be a question and answer session. To ask a question during the session, you will need to press star one on your telephone keypad. I must advise you that this conference is being recorded today on Monday, the 13th of July, 2020. I would now like to hand the conference over to your first speaker today, Thomas Axelsson. Please go ahead, sir.
Thank you very much, and welcome to Vitrolife interim report, January to June 2020. The speakers of today will be Mikael Engblom, the CFO of the company, and myself, Thomas Axelsson, that is the CEO. Please change page to number two. Our headline today of the report is an extensive impact of COVID-19. Our mission today is to try to explain more in details the development during quarter two and maybe some projections going forward. Let's see then of quarter two first. It was a sales of 209 million SEK, and it was to -45% then, and that's the same as local currency. Today, when we are talking about SEK is the same as local currency in all places. The EBITDA was 40 million SEK then corresponding to a margin of 19%.
Let's go over then and look into Q2 and change page to number three. It is sales and growth per market region. The ambition today with the sales and growth per market region and later also regarding the product is to try to explain what happened during Q2 and also what are the current status. What I then will do is that if we're looking into page number three then, we are starting in China, where the flu started, the COVID-19. We can see that it is a decline in that territory of minus 46%. What has happened then? China was first into this, and they are also first out of this situation.
As earlier informed the market, we saw within the first month that it was a decline about 2/3, so sales was around 1/3, and we are currently up to around 2/3 of normal sales. In China, we can see that the best guess from our side is that the clinic is up running and are doing around 70% of normal procedures, and they have a good intake of new customers. We can see that it is a variation between the regions, the provinces, where the south provinces are almost up to 100%. In Wuhan Hubei area, it's a little more than 50%, and Beijing has gone back and forth because they open up, and then they're closing down a little bit of some centers. They are maybe between 30%-50%, but it is a trend going up, which means for us also more sales.
In the rest of that territory than what we are calling Asia, we can see a good recovery in Korea and Taiwan, Hong Kong, while they're still quite behind in India, for instance then. The recovery in India, Pakistan, and those territories are between 30%-50% of normal intake of customers. The belief, at least right now from talking to the clinics, is that the cycle rate will be normal at the end of the year then. I will then jump into Japan Pacific. That region was -10%, so that's our best region so far in quarter two. Why is that? Why have they been able to still keep up the clinics and do the procedures? Mainly due to that it's not been the lockdown in Japan and the decline in Japan may be around -10%, so it's similar to these numbers.
Talking to the clinics, they feel that it is almost recovery at this time. Down in Australia, they had a lockdown, so they have been opening up, and what they've been doing is that they have supported the patients with telemedicine. When they are now opening up the clinics, it is a full speed of recovery for the IVF clinics. So far, we have not seen any changes regarding the situation in Victoria, where part of Melbourne is also closed. It is a good pickup of cycles in Japan Pacific. Going then from Japan Pacific over China, Asia into the EMEA region, we can see a dramatic drop with minus 52%. That's due to that we all know that COVID-19 has moved west, so it's impacting the territories one by one when we go west. What's the recovery then?
The best recovery is in the northern part of Europe, where maybe currently, it's up to 80%-90% of normal cycle rates. Russia, it's around 50%. We can see, for instance, in U.K., where it's a big difference between the private clinics and the public NHS clinics because the NHS clinics are not opening up in the same rate as the private. The private clinics in U.K. are indicating and they're currently having open within six, seven days a week, so they can pick up and take care of all the customers that were not able to do the transfers or had the treatment in April, May then. Spain, maybe around 75%-80% pick up right now. Turkey is a little bit below 65%-70%.
Overall, we can see that it is a recovery, and the recovery in the EMEA region as well as in U.S., I would like to say, has a couple of considerations. One it is that where the IVF clinics do belong to hospitals, there are some fear for the couples to go to the hospital. There has also been, as you know, different regional lockdowns, and that has impacted, of course, the cycle numbers. What we can see in meeting customers, also talking to customers, is that the restrictions that they are doing around each patient means that they are working 100%, but they're not able to see as many customers, patients as usual because of the restrictions, mainly in the waiting room. Going over to U.S., where they still have had a lot of problems within the clinics.
I would like to say that even if they had the increase of the COVID-19, almost 100% of all the clinics are opened. We can see that they are dealing very professionally with the customers and the increase of telehealth appointments are helping the customers and the clinics to provide the cycles that are needed. If you go further down in the region of Americas, for instance, to Brazil, there's a situation that is more troubled. Currently, maybe 30% of the clinics are open, and they're only doing special cases or, for instance, that patients are only being seen certain days of the week. Try to do then a summary of the situation. We go to page number four then because the short-term outlook is that we can see from a situation more or less where the IVF clinics was locked down in April.
We can see it's picking up. As mentioned before, around two third at the end of June. We also see huge differences, large differences in the recovery between, for instance, Japan and U.S. There's a huge difference. We can also see a difference between the northern part of Europe and southern part. The recovery, to some extent, are also being delayed due to the restrictions. We are also saying that we believe that it's going to be a recovery. The recovery will take place during Q3 and Q4 this year. What the clinics are talking about is also the situation that there are customers or patient that are in need of IVF treatments. There are potential pent-up need for more treatments when this crisis is slowly, hopefully going away. By that, we are going to page number five. Page number five is about the growth per division.
The growth per division is also following the trend what currently is happening on the market. The first thing that the customers are doing is that they need to replace and start to have a fresh inventory of consumables, and then especially the media or nutrition solutions. Our nutrition solutions have a limited lifetime and shelf life, and that means that we can see when clinics are starting up, they are starting to order media, so they can do the oocyte pickup and also the culturing. Interesting also is the quick and extra demand that we have seen in June on vitrification products, and that is due to that they have vitrified, frozen down a lot of oocytes that they could not transfer during the period.
Consumables are the first one to pick up in sales, and the situation there is for us to have a balance between our inventory and the difficulty to predict exact demand on each product. The other large division that we have is the technology, and that's mainly the time-lapse products. That's a decline there with minus 50% then. Customers, as we see, they are first trying to get back and get an efficient clinic, and then they will later on continue to further invest into capital goods as time-lapse. What we first believe is what we can see on this side, consumables decline minus 40%, technology minus 50%, and genomics is minus 60%. Why is minus 60% on genomics, even if it is small numbers, is due to the situation that we are only selling genomics in Americas and in EMEA.
The biggest market there is Americas, and since the Americas are down and has not yet started up, even if they're reaching about 100% openness of the clinic, it's going to be a little bit delay on that side. From sales and growth in different territories and the divisions, I'm handing over to Mikael. Please, page number 6.
Thank you. I'll take you through the key financials during the second quarter. The gross margin during the second quarter was 53% compared to 64% in the same quarter last year. The drop in margins was due to high scrapping costs of 7 million SEK, related to media primarily, and that's due to the variations in sales and the shelf life that Thomas mentioned earlier. The other major factor behind the drop in margin is negative economies of scale. Sales declined with 45% during the quarter, we had the fixed cost to be shared with fewer products and thereby reducing the average margin. The EBITDA margin was 19% compared to 38% last year. The variation is due to the decline in gross margin, as I just mentioned. The other major reason is negative effect of economies of scale and operating expenses.
Even though operating expenses in absolute terms declined, in percentage of sales, they increased due to the drop in sales. Net debt in relation to EBITDA was minus 1.6, and we had a positive cash flow adding on to the cash in the end of the quarter. Of course, the decline in EBITDA makes this metric to increase. With that, move to page number seven for the long-term outlook. The long-term outlook after the corona crisis, we believe is unchanged, and we believe the market will grow with 5%-10% in the foreseeable future. As before, we believe this will be driven by the demographics that people wait long time with having children, the growth in income, and increased social acceptance for IVF. When it comes to Vitrolife, we will continue to focus on sales expansion and expanding the product offerings.
That will be done both through in-house development and through acquisitions. With that, operator, we are ready to take questions.
If you wish to ask a question, please press star and one on your telephone keypad and wait for your name to be announced. If you wish to cancel your request, please press the hash key. Once again, if you wish to ask a question, please press star one and wait for your name to be announced. Okay, your first question comes from the line of please ask your question.
Hi, Thomas and Mikael. Good morning. First off, I have a few questions. If we can just start off with, obviously, the demand is down due to COVID-19 for all specific regions. It seems like you're talking about a little bit softer recovery in each respective markets with this year being heavily affected. If we were to look into 2021, do you see any limitation in capacity through these IVF clinics that could limit your growth even if there is a significant pent-up demand next year?
Morning. That's a good question. It's difficult to say what's going to happen. If you're asking about the demand inside the clinics and if they have the capacity in the same situation, if we have the capacity. If we are then looking on consumable products, yes, I don't think that will be any major challenge for us on our biggest product assortment, the nutrition solutions, the media. The challenge there will be for us, as Mikael also said, to be able to cope with the variances on the demand. We can see the situation right now where it is picking up quickly, that we have to react and do some extra lots. The same situation when it was going down in March, April, it took some time to coordinate the production.
If we're going into the clinics, it is an interesting situation right now that many of the clinics are having an on demand, and there are couples, patients that are a little bit frustrated, let put it that way. They have frozen embryos that they want to transfer. Therefore, there's some extra demand right now on some regions to do the transfer, of course, because they've been frozen. We can also see that clinics in many territories in the EMEA region that are private, not public, private are opening up and having the clinics open six, seven days a week, so they can deal with the demand then. If your question is, if we see that there is any restrictions within the clinics, if it gets back to normal situation, no, not really.
If there is any problem for Vitrolife, it could be if it is exploding the demand, but I think we are following this quite closely, so we would be able to manage it.
Okay. That's great. Perfect. As you mentioned, you're selling to private clinics, and you obviously made some provisions on bad debt during the quarter. Do you see any sort of major chains closing down IVF clinics? Obviously, since especially for the private ones, one would assume that they were to wait buying into your technology equipment until the turnaround as the patients have already come back. Is that something that you're seeing right now or expecting to see some sort of dependent demand being initially the consumables, but especially for the private clinics?
For the private clinics, yes, there are some clinics that has a cash flow problem. I don't think it's going to be any major problem if what's going on will continue. If it's going to be a new lockdown, I don't know. The route that we are on right now, I don't see any major challenges. The concern that private clinics have is how quickly to invest, how quickly will the demand come back. They will, of course, as every other private industry owner are doing, manage their cash and being on the safe side before they go into any investments. The technology will be behind the consumable growth initially. Yes.
Okay, good , just one last question before I get back into the queue. You have a very strong balance sheet, and obviously there is M&A opportunities out there. Do you see any limitation from COVID-19 of you finding suitable targets to acquire, or have these become more approachable based on this pandemic?
I would like to say there are two sides on this coin. One is that companies that have considered, especially family companies, are in a situation that should they continue with all the regulatory changes going forward, et cetera. I do feel, and I can say that there are a flow on some potential opportunities with companies that are considering if they would continue themselves. Another thing that is a challenge, and that is to do the due diligence process. I do think it's going to be similar to what's going on within the clinics. There is going to be a lot to do when we are finally being able to travel.
That's perfect. Thank you very much, gentlemen. I will just get back into the queue.
Thank you.
Once again, that's star then one to ask a question. Your next question comes from the line of Patrik Ling. Please ask your question.
Yes, good morning, everyone. Just a clarification. I think it was when you talked about China or Asia that you said that you expected the, or that the clinics expected the cycle rate to be back at normal by the end of the year. Was that the correct interpretation that it was only for China and Asia, or was it for everything?
I could say almost for all countries. Where it's going to be quickest back to normal are Japan, Australia, as we do believe. China is picking up, but they're quite careful also, as you know, within the Beijing area, for instance. If you see on the Beijing clinics, and they have a couple of big ones there, around 60% of all patients going to the Beijing clinics are from outside the city center, which means that when they're locking down, they're also doing some restrictions. You are asking for a long term, let's say long term, but two quarters. The only thing we can foresee and what we believe in is that the pickup will take place during Q3 and Q4, and we can see how quickly it's getting back in some territories, like in the Nordic and Germany, et cetera.
Okay. You do not expect to have positive growth numbers until we come into Q1. Is that the right way to see it?
Yeah, we are guiding that we believe that the third and the fourth quarter will have a negative impact of COVID-19. That is the guidance that we have done, and we cannot make assessments that is a longer period than that at the moment given the uncertainty. We believe there are gradual increase in sales, and therefore we will have a gradual growth from the level that we had in the second quarter.
Okay. Can I also ask you about the gross margin? You said that you had SEK 7 million in scrapping costs. If we adjust for that, you would have had a gross margin of 56.5%, I think. Is the rest of the decline, is that completely due to negative economies of scale, or are there any other items in the gross margin that we should be aware of?
No, that is the big factor in the gross margin variation. If you look on the scrapping cost, we had SEK 7 million in scrapping cost. Even in a normal situation, we have some scrapping costs. In a normal situation, we probably have between SEK 1 million and SEK 2 million in scrapping cost in a quarter. The scrapping cost that's out of the ordinary is probably in the range of SEK 5 million-SEK 6 million.
Okay. What level of sales would you say that you need to reach to be able to start to see positive economies of scale? Because when I look at your numbers and go back maybe four years or something like that, you had sales at the same level as you saw this quarter, but significantly higher gross margin, even if you adjust for the genomics operation and the dilution that you get there.
Yes. We have also, of course, invested in our operations since those years and added products and changed the product mix. There has been a lot of variations. Of course, as we increase our sales, we will get closer and closer to the previous gross margin. Then it's just a matter of how big decline compared to the previous situation that will be the factor.
Okay. You also took SEK 6 million in bad debt reserves this quarter. Is that what you think will be needed? Because when I listen to you, it sounds very much like we have a recovery situation in almost all markets. In that number, have you made an assessment for the second half as well, or is that only for the second quarter?
No, that is the added provisions that we added during the second quarter, and that is based on individual assessment, clinic by clinic. Of course, that's on a base of close to SEK 200 million of total accounts receivable. If you look in that context, it's not a huge provision, but it's our best estimate in terms of potential bad debts.
Okay. Have you had any clients that have gone out of business due to the pandemic?
Yeah, we had one client in the U.S.
Yeah. Okay.
They didn't go out of business, really, but it was a bankruptcy of a clinic chain, and then the clinic has popped up in a new identity.
Okay. Great. Good. Thank you. I'll jump back into the queue. Thank you, guys.
Thank you.
Your next question comes from the line of Björn Olander. Please ask your question.
Yes, thank you, Björn Olander, Murgata Equity Research . Of course, the recovery is the most important thing here, and I think you have been as clear as you can be. I will continue along Patrik's questions on the expenses and so on. You participated in the support programs that generated SEK 5 million in the quarter. Where has that been booked in the P&L?
It's booked under other operating revenues.
Okay, it's almost the entire other operating revenues then. How is that right now? What is the situation with those programs and participations and also more importantly, your own organization? Are you doing any sort of long-term changes there, or some changes that, not only related to these programs as it is?
I can answer first on the first question. We used these programs during the second quarter, and then as we saw demand increasing in the end of the quarter, we closed these state support programs, and then staff returning then to normal working hours. When it comes to the long-term effects, Thomas, do you want to say anything about that?
Yeah, we are not doing any changes. We believe that it's going to come back, and also that the things that we are working with on, for instance, the development, all the activities that we are doing, we have been able to do those to a large extent through the digitalized world that we're working in. All this with new software programs, the development within the genomics, for instance, is something that's about the future. We still believe in the future. Also the regulatory thing, there are opportunities with this too. We have been able to focus and, for instance, on the regulatory side, when you are not having as much people inside office, it's an interesting thing that with the digitalization and this kind of work, you can also be more effective. There isn't always bad things with this life.
Yes, that sounds very good. I noticed that there are exactly 418 employees at the end of this quarter, and it was expected the same number half the Q1, so that's very encouraging for the organization, I think. Speaking about this new world and with digitalization and so on, do you expect any changes in the way you work? I mean, ESHRE was remote this year and so on. Will there be any changes in your sales process? I've also heard some companies in other med tech industries that this period has been a period of education, and the clinics are thinking more about how they will change their way of working and so on. They could be more open to new ways of thinking in terms of that. Any thoughts on that?
Oh, yes. The speed that the digitalization, especially the sales and marketing and the education and training side that you're mentioning, are incredible. When our customers have not been able to run the clinics as they usually do, they have been on different kinds of sessions. The situation that you are able to have 300 or 400 people on a training session, that was impossible before. We could have 30, 40 on that side. Also the situation you mentioned, the big exhibition congress, ESHRE, that was last week. The situation that you can be at six, seven sessions at the same time instead of just going into one conference room and listen to one session. This will for sure change the market.
My projection then is that within some time, we are going to have more digitalized support for our own sales rep and also for our customers, and maybe changing also the profile on the ones that are meeting our end users.
Finally, I know Ulrik touched upon this, and I was interrupted by the operator, so apologies if you already answered this question. These financial constraints and so on among both the clinics and also your competitors, especially the smaller ones. Do you expect some kind of change in dynamics there? Are smaller clinics being bought by larger clinics? Obviously, some are having financial challenges and go bankrupt, perhaps. Also, the smaller competitors are, I suppose, struggling more than you in this environment with the strong balance sheets and so on. Any thoughts on that would be very interesting.
Okay. I can quickly say. Regarding the industry itself, we are a couple of larger players, larger in this field, and all of us have good financial situations. I don't think there's going to be any major change between us. There will be opportunities, however, in companies that might well consider how they will be owned and managed going forward. Regarding the clinics, the only thing that I have seen is that some of the ones that were going around very interested in buying clinics are maybe a little bit more careful right now. The larger PE situation, they are maybe slowing down a little bit regarding the acquisitions. That's just my guess.
Yeah. That sounds fair. Buying sales that doesn't exist or is just sort of questionable is probably a challenge right now. Thank you very much.
Thank you. Thank you again.
Call comes from the line of Charlie Law to ask a question.
Hi. Good morning, Mikael and Thomas. I've just got a few questions. The first question is on the recovery of Asia. I'm just looking at the Q1 growth rate for Asia, which is -22% from Q1. This quarter, it is -46%. Obviously, my understanding is the recovery has worsened in Q2. Just thinking back, obviously in this quarter, China has started to recover in March. This is my first question then. Could you give us a bit more color on the recovery rates, especially on the -22% and the -46% in Q2 please?
Okay. Who wants to do this?
I can start with a comment. It's correct. China was first to enter into the lockdown situation, so we had a negative impact in the first quarter from China. However, it wasn't the full first quarter that was impacted in China, but rather the last months of the first quarter. When it comes to markets outside China, there was not a big impact in other markets such as India, for example, in the first quarter. When it comes to the second quarter, we also had a very strong second quarter in Asia last year. We had a big sale of time-lapse to a single clinic in the end of the second quarter going to China, which had difficult comparison numbers in the second quarter of this year. Those factors have an importance to these percentages.
Okay, that's clear. I was thinking maybe that something happened last year. Right. Just on the U.S., also the recovery, I think Thomas has mentioned that U.S. is opening up, 100% open up. Just wanted to know about the volume recovery. How much of the volume has come back in the U.S.?
The volume recovery are slower. They're opening up, they have a lot of restrictions regarding how to see the customers. What first happening there is that they are taking in the patients that has not been able to have the transfer done. I'm not really sure because it's a little bit more difficult to actually get a clear understanding about what kind of rate that they are doing full cycles. What we can see is they have started the hormone cycles, which is good because that's the first step on it, and then that they're doing more transfers. There is this kind of in-between. That means that I do think that they will pick up.
The concern regarding Americas is more about South America and what's going on there, where, as I said, I think I said it at least, that it is around 30% of the clinics are open in Brazil. Chile, Argentina are just, they're hardly doing anything at all. The most interesting thing is about U.S., and they have also changed. I have spoken to some of the clinics where they are putting more and more emphasis on the telehealth appointments. It's one of the changes that I do think we will see going forward, that it's going to be more of this kind of pre-discussion with couples before they're coming into the clinic and actually starting their procedure.
Okay. Third question is on the, for example, on telehealth and on what you have mentioned in terms of virtual training. I'm just thinking out loud, does this actually make Vitrolife a stronger player across the world? Because obviously previously we know they could be constrained by geography, but now do you think Vitrolife will be in a better position compared to competitors to digitally or virtually reach out to customers all across the world?
As we can see, we are two companies that has reacted, and my best guess, and it's a qualified guess, is that we can see that CooperSurgical and Vitrolife, the largest and the second one in this field, has been quick in arranging seminars and trainings, which, of course, not the smaller companies has been able to do. I do think that's going to be a long-term advantage of size.
Sure. Just one more. On the capital side, maybe could you shed some light on, the decline in technology is -50%, on consumables -40%. In fact, relatively, the decline in technology is not that bad. Could you give us a bit more as to why? Is it because there are back orders, you're still delivering in this quarter? Does that mean that in the future quarters, the technology will take a more hit as the consumables come back?
The situation when you sell technology is that when we are selling it, we need to get into the clinics. We need to install it and do those things. The restrictions for us to get into clinics and to travel, as you're well aware, has been quite limited. What I expect is that clinics that we had in our different pipeline for buying within quarter two, they have come back, and they are delaying that. We don't know for what time, but I don't think it is out of the picture that they will come back and ask for those products.
I can also maybe add a comment that a portion of the revenue in our technology division comes from recurring revenue in the terms of service agreements and the slides, the consumables that you use in connection with the equipment. There is a portion of revenue there that is not linked to new sale of equipment.
Okay. Just last question on China. I think you have mentioned this before. Could you just give us the overall China recovery rate so far or at the end of June, or currently you see?
Once again, I was missing a little bit of your question, excuse me.
Sorry. You might have mentioned this before. I'm just double-checking on the China recovery volume. You have mentioned it varies across the regions. I just wanted to get an overall feel for how much volume has come back.
Yeah.
That would be my last question.
Yeah. What I said, I will repeat what I said, is that in the south provinces of China, we can see that the recovery is almost full. It's almost 100% of the normal cycles. Just mention, since everyone knows about Wuhan today, there it is a little more than 50% then. In Beijing it was opening up, and then it was closing down a little bit. Beijing is maybe within 30%-50% then. Totally, where are the recovery right now? Around 70%.
Okay. No problem. Thank you very much. That's all from me.
Thank you.
Thank you.
We have another question from the line of Björn Olander. Please ask your question.
Yes. Thank you. I just have a minor question, more out of curiosity. You booked SEK 9 million for BioLamina this quarter due to revaluation and so on. What is the reason for the revaluation right now that is more common to see in Q4? It would be interesting to hear.
Yes, I can answer that. There was a new issue of shares in Illumina that was done at a different-
Illumina.
Sorry. BioLamina, sorry.
Sorry. Yeah.
That was the reason for us revaluating our shares.
Okay. You sort of got a price, so you could have to adjust it. Did you participate in that ?
No, we did not.
Okay. Could you comment on your long-term ambitions with that investment?
In BioLamina?
Yeah.
We went into that as we are doing in some small businesses to get more insight into different fields that are quite close to Vitrolife. Back then we were having business development thoughts within the embryonic stem cells. It's been a good area of interest for, let's say, knowhow development inside Vitrolife.
Okay. Thank you very much.
No further questions. Please continue.
Okay. If there isn't any further questions, thank you very much for listening in, and goodbye for today.
That does conclude our conference call today. Thank you for participating. You may all disconnect.