Thanks for joining us. We'll, we're gonna be kicking off our next session. My name is Mike Ryskin, I'm BofA Life Science Tools and Diagnostics analyst, along with Derek De Bruin . Joining us for our next session, we're pleased to host Align Technology. Joining us is John Morici, Chief Financial Officer, Raj Pudipeddi, Chief Product and Marketing Officer, and Shirley Stacy. Gentlemen, Shirley, thank you for joining us.
Thank you.
Thanks for being here.
Thank you.
Thank you.
I guess just to kick things off, you know, our standard first question is, you recently reported 1Q results. Maybe give us a couple highlights, key thoughts, you know, what transpired during the quarter, and how you're looking for the rest of the year.
We just had our Q1 results. We're pleased. You know, we saw in China, there's a lot of uncertainty going into the quarter in terms of COVID and some of the effects of that. We saw some improvement there and things became a little bit more stable, which was good to see. As we reported our numbers, we exceeded our expectations for revenue. Good, good, you know, start. We have some new products that came out with some of the products that we had, the three and three.
Mm-hmm
... a product that we have. It's a comprehensive product, but it was really well adopted in the Q1 . Overall, when we looked at what we had for the Q1 , we felt it was more stable operating environment and allowed us to achieve the Q1 and then give a guidance for Q2, which was another, you know, good outlook to where the business is.
Great. I'm gonna pick it up right there. You know, stable operating environment. That's something we definitely sort of picked up during your earnings calls. You used the word stabilization or stabilizing a number of times. Just give us a little bit deeper insight on what you mean when you're talking about that. Is that, you know, visits to dentist offices? Is it spending patterns? Is it?
I think it's all part of that. What we saw for the last 3 years, just with the effects of COVID and then the effects of the, you know, some of the inflation and some of the consumer sentiment and, you know, the things that were affecting people in terms of what they wanted to do for treatment, when they wanted to go. It does come into office visits. Does someone want to go in to get their teeth straightened? They go in for care and so on. That plays in. What we saw is just more stabilization. It just was so up and down for the last 3 years, and as we came through the 1st quarter, we saw things more stable.
There's still uncertainty in the marketplace, as we know, with interest rates and inflation and kinda that consumer sentiment. Some countries are further or along than others on this. Overall, we felt that there was more stable operating environment. We're able to deliver what we did in Q1 and felt that we could give good guidance for Q2, under that environment.
I take it that stability, to your point, has extended into April in terms of what you're seeing?
Well, we didn't, you know, we didn't talk about, you know, from an earnings standpoint, we kinda talked about where we were through the Q1 . Look, we gave our guidance based on what we see like we normally do and, you know, it's a reflection of that environment. That, you know, the stability, there's still uncertainty. You know, we know with some of the financial banks and others that are impacted by things, that weighs on some of the consumers' minds. Broadly, it's, you know, it's a good environment, a better environment than we saw in the Q1 .
Okay. Talking about the 2Q guide, you know, you talked about sequential improvement from 1Q across the board in terms of volumes, ASPs, revenues. Now you typically do see seasonality in the business, and historically, you know, 1Q to 2Q, you do see an improvement of, you know, 5%-6%, 7%-8%, depending on the geography, depending on orthos versus GPs. You know, you see a little bit more in international markets, I think 10%+ improvement typically, sequentially. Is that sort of generally what you're kind of assuming, a return to historical seasonality? Like you said, the last couple years have been so volatile. Are we back to historical seasonality trends now?
You know, I don't know if we're, you know, we're saying we're fully back to. I think the stability that we're talking about is kinda plays into that sequential kind of seasonality that we normally have. Like you said, based on our guidance, we expected volume to be up from 1Q to Q2. We'd get more iTero, the equipment sales would come up from Q1. We've been able to see some of the pricing and some of the other actions that we've taken to be able to see us up from having an overall ASP standpoint. You kinda take that all together, you get into the range of what we talked about from a guidance standpoint.
You know, I think once you get, you know, fully into a much more, a more stable operating environment, that then you get back to more of that seasonality. There's still markets that are doing better or worse than others, but our guidance is a reflection of what we're seeing. Like you said, it's getting closer to that more normal operating environment.
Okay. You know, you do have a 2Q guide out there, but not your standard fiscal year guide. Is that exactly what you just said, still some of that uncertainty? You know, you're moving in the right direction, but not quite there yet to have 12-month visibility?
I think, you know, we've gone to now at the beginning of this year, gone to more of the specifics around Q, you know, Q1 and then now, you know, Q2 guide, which is good to be able to give. We've kept the 20% or slightly above 20% op margin, the non-GAAP op margin that we have for the year. That's a reflection of how we think we can, you know, with our model, we have a lot of investments that we can make, and then other investments we can wait to make, based on the economic and kind of the overall environment. We continue with that approach. As we go through the year, you know, the total year will kinda play out.
We'll get to that, at some point. There's still some uncertainty in the second half. We wanted to be able to kind of get through the Q2 . Then we'll assess what we do for the total year.
Okay. Talking about some of the benefits you saw in the Q1 , you know, you flagged price. You took a pretty well telegraphed price increase early in the year. You saw the benefits of that in 1Q. You know, could you quantify that for us? Give us a little more color on that? Did you see the full benefit in 1Q, or was it sort of phased in as the quarter went in? Is that sort of what should be expecting the rest of the year?
You see some carryover from, you know, 'cause if there were orders right at the end of the year, they're-
Yeah
... kind of under the old pricing. That subsides as you go through January.
Right.
After that, you're kind of into the new pricing. We took about a 5.5% price increase on many of our products to be able to be a reflection of what we're seeing in the environment. It really starts with the technology that we put in and the marketing and advertising that we put in just as a core for the company is really important from an investment standpoint. Some of that pricing reflects that. It's really also the operating environment that we're in and some of the inflationary aspects of it. That's what has gone into the price for us for this year. It's been very well received. I think our customers understand that.
They understand the technology that we've added and the new innovations that keep coming, the marketing that we spend to be able to drive awareness and turn those, you know, potential customers or potential patients into patients at those doctor's offices. They understand that piece of it. We gave them some flexibility with some of the products where I mentioned a product that we put out just called Three and Three. 3 years with 3 additional refinements. It's a modified version of our Comprehensive product that we have. Typically, a Comprehensive product that we have is 5 years with unlimited refinements. The Three and Three didn't actually take a price increase.
We let doctors decide if they wanted to stay with the full Comprehensive or this modified version. We've seen good uptake on that. That is another way for doctors to kinda manage through the pricing pressures that they have as well. That was well received. You know, we feel good about those changes. We were on the road last week. A lot of good conversations with doctors and so on. Really, price was not even really a discussion about this. You know, it's more about the technology, what we can do to help solve, you know, some of the problems that they face at their offices. What can we do and come with solutions was much more about the conversation.
Okay. Given you were talking to docs last week, I guess what are you hearing from them in terms of the economy, in terms of the consumer, in terms of willingness to spend, you know, and maybe price factors into that? You know, are they able to pass on the price, or are they seeing a little bit more price sensitivity, as the economy's a little shaky?
I think it's mixed. I can start, and maybe Raj can talk about, you know, specifics that he's seeing as well. I think there are some doctors that, you know, they told us they raised price. They're in an environment where they're not just products that they're using, but the staff that they have, the locations that they're in, they're under price pressure. Some of that gets passed on. You know, others are maybe more price sensitive to things where they don't want to show a price increase, and have just tried to manage some of the costs within their practices and so on. That's something that they've been able to manage.
Overall, I think doctors, As you go through this environment, this is where you get into, you know, kind of the overall consumer sentiment. Some, you know, might not, you know, as a, as a potential patient, you don't go to the dentist or the orthodontist as much. Or maybe you delay some of the treatments. So there's some traffic that, you know, adjusts based on what they're seeing in their locations. That shows up in some of the data that we see, some of the gauge data which says-
Mm-hmm
... you know, that, you know, people are coming back and it's more, but there's still some uncertainty. Many of the doctors talk about that, it's not that people are unwilling to go into treatment, it's more, "I wanna go into treatment, but I'm gonna wait." It's not a no, it's a maybe, or it's a maybe a wait and see. I think some of that is part of what happens. You know, they have to work through that just like we work through it. That's maybe some of the uncertainty that you have in terms of the overall economy. You know, is, you know, recession severe, not severe? Interest rates, you know, maybe stabilize a little bit now, maybe inflation stabilize a little bit now.
I think, you know, as we see it in the economic environment, they're seeing it in the practices that they have, and they're managing through that.
Right. What is your expectation in a recession? I mean, we have the numbers from 2008, 2009. Not every recession is the same. Obviously, I'm not an economist, but I think our BofA internal macro team is still sort of has their base call as a mild U.S. recession in 3Q. I mean, I'm not even sure I know what that means exactly. Sort of what's your expectation? What happens to the business in that scenario?
I think with our business, if we look at the changes that, you know, if you go back to, you know, 2008, 2009, we're a much different business than we were then. I mean, we didn't have iTero. We didn't even have this kinda device, you know, business that we have, which has now become a significant part of our overall business on this equipment business. We were much more of a U.S.-centric business back then, much more tied into adult cases versus even teens and so on. I think as you think about what's gonna happen to overall economy, it's gonna vary by various geographies that we have. We're much bigger outside the U.S. than we were back then.
Different in terms of, you know, we've developed a digital platform and with iTero and just kind of the whole digital ecosystem that we've been able to create much more outside the U.S. We've grown our teen business, which, you know, look, our products become discretionary as you go through a maybe a tougher operating environment with recession or so on. In the end, there are products that get used, where if you're a teenager and you get, you know, you have teeth that now become permanent teeth and your jaw is needing to be adjusted and so on, there's points in time that you need that to happen. I think, you know, with teenagers, it's a little bit less discretionary.
Or maybe if you're a child that you're seven or eight and you need, you know, as you get mixed dentition coming in, but your palate needs to be kind of enlarged and expanded a bit with Invisalign First, that happens at a point in time. We see some of those products, like when you go back to your question about what we felt good about the Q1 . Our teen business was up on a year-over-year basis. We saw that improvement there. We think that puts us in a good situation as we head into Q2 and Q3 when it's really more of a teen season, especially in the U.S. and in China.
Those are things that are, you know, happening now that give us some confidence as we go through some of the uncertainty whether recession or not. You know, we feel like we have the products and the portfolio to go to market to solve solutions. We've got a global team that even back in 2008, 2009, we had a lot of distributors and a lot of just not direct sales force teams. We basically have gone direct where we're close to the customers and being able to drive solutions for them as we go forward. You know, we'll manage in that way as we go through some of the economic uncertainty.
Yeah. Let me build off that, John. Look, last week when we met right, doctors here in the U.S., but also globally over the last few weeks, the first thing doctors said really, Mike, to your point is, consumers are a little bit more reluctant, you know, kinda just now given the operating environment, right? What they also said is when they get into the practice, teens actually prefer Invisalign much more than several years ago to John's point, right? Everything that we've done in terms of marketing, in terms of creating this platform, making it easy for doctors and moms to kinda use Invisalign, I think it's helped, right? You know, if you take that as a whole saying that, look, you've built a brand, and by the way, you know, most doctors last week, you know, recognized that.
Usually, you know, kind of being in marketing, I get inputs from pretty much everybody on how we can do better, right? Last week, doctors actually were very complimentary. They said, "Look, pretty much all moms and teens, and frankly adults know about Invisalign." When they come to a practice, many teens actually prefer Invisalign to brackets. Now the question really is: How do we leverage that and continue to convince them, you know, in the context of whatever the economic environment is?
Okay.
Maybe just on the context of economic environment and how the business has changed in the last 10 years, let's talk about DSP a little bit. That's something that's, you know, relatively novel, relatively new for you, and is playing a bigger and bigger role in the business. You spent a lot of time talking about it in the Q1 . Maybe just talk about, you know, what are the trends you're seeing there, and where do you think that could go over time?
Yeah. For those that don't know, DSP is our Doctor Subscription Program. Really what it was, it really focused on driving incremental business to our company. It really is focused in on many times these orthodontists that we have, they'll give us these complicated comprehensive cases. They'll give us the tough cases to move that they want. You know, it's a teen patient, maybe a mandibular advancement or Invisalign First. Some of these more complicated cases and our products are used for that. You also have orthodontists that have minor movement cases. They might need five sets of aligner to like, you know, move some crowding that. Someone didn't wear a retainer and now they have to do some, what we would call a touch-up case.
They also have many patients that they provide retention to, retainers to. What we found is many of these orthodontists who gave us a lot of these comprehensive cases were doing their own from, you know, manufacturing some of the aligners that they would have, retention or minor movement, you know, and they'd be making them themselves. They'd make the 3D molds. They'd kind of put the plastic on and create this for themselves. What DSP was really designed to go after these high volume orthos who were doing just that. That subscription program allows them to choose a certain amount of aligners that they want, and we let them choose to what they want to use it for. They could use it for minor movement cases.
It would get too expensive for them to use it on a comprehensive case. We've kind of priced it at the right level on a, on a per aligner basis that once they commit to that, they can use it for other types of cases that they have. Many of what they use is for retention. What we've seen is a really nice combination of continuing to get these comprehensive cases. Quite honestly, the 3 by 3, I keep going back to that. The 3 and 3 which is the 3 years, 3 additional refinements, that marries well with the DSP so that they can... Most of their cases, they can finish in 3 years and with 3 refinements.
If should have that more complicated case that kind of falls out, they use DSP to kinda use it for those additional aligners that they could need, and then they use it for retention. We saw that, you know, meeting with customers. DSP was just taken up. Everybody seems to be doing more and more. From our standpoint, it's a great product. We get, you know, it's, you know, great gross margin on it. It's per. We know now how much they're gonna take in terms of, you know, we can set the capacity that we need to be able to supply. We've done a lot of things to make a very fast turnaround. From a supply standpoint, especially like retainers and so on, we can get them to them in, you know, 48 hours, 72 hours.
There's very fast turnaround that we have to this. It's a nice combination and it's a way that, you know, doctors wanna buy in a certain way, and we're able to sell them that way. It's a good combination to some of the more, comprehensive products that we have. Really, quite honestly, from a supply standpoint and being so close to the customers that we have and being able to turn it around, that's what they told us over and over again, that they don't have to wait weeks to get this turned around. It's down to days.
What you see in our P&L, and we talked about it in the Q1 , as we see this ramping up and more and more doctors, more and more usage of this, it doesn't actually show up as case volume. The majority of it is still retention, so it's not really fallen out anyway. There are some cases where a doctor in the past would have used a, you know, five sets of aligners, and that would have been a case. It's just shows up in DSP, shows up in other revenue. That's why you see kinda that difference. It's been showing up more and more.
That's why when we talk about kind of a total revenue standpoint compared to the cases that we ship, that's kinda the, you know, the thought process that we want with that. It's becoming more and more part of our business. It's selling the way the doctors wanna buy, and we're also offering other solutions for them around that where if we can have this dental Doctor Subscription Program to those doctors are now finding that they can set up subscription programs for their patients with retainers and so on. It's a really good mix of using our technology to help them. That's a revenue stream that many doctors don't even have.
They do great work to move teeth and get your teeth as a teenager to where they should be, and now they can help provide retention, and we make it easier for them.
Remind me, is it a quarterly subscription? Is it a semi-
It's an annual.
Annual subscription.
They come up with an. It's really been just in the U.S. that we've done this. We've tested with certain doctors and so on. Like we do at our company, in success, we'll expand it to other areas. We could see it in Europe, we could see it in Asia, in other places where we're seeing those benefits. Again, it shows up in our revenue. It, you know, kind of the traditional way is just our case volume times ASP. There's still some of that, but there's so many other parts to our revenue stream, and this is one of them.
Right. Just to build off that comment, right? Look, retention is such a huge opportunity for us. Think about it, right? You know, kinda if we do close to 3 million primary cases, of that, a very minuscule part actually goes into retention, right? Think about it as all the cases that we've done so far, more than 15 million patients. You want them to kinda have the beautiful teeth that they've achieved, the smile they've achieved. You want to protect that, right? That they can do with our retainers. So far, before this program-
Yeah
... I don't think, you know, kinda took off the way we wanted it to. To John's point, the flexibility and also the choice of the doctor being able to kinda choose what they want to do. That really helps us get to that opportunity.
Any questions from the audience? Can tell someone's stretching or... Yeah. Is that a question? Oh, okay. All right. You're right under the lights, so I can tell. All right, so we'll keep going. I have to ask the obligatory question about competition, right? You know, you guys still have dominant market share in terms of total volume, dominant market share in terms of revenues among other clear aligners. We are seeing some of your competitors, some of whom are here at this conference, report more and more on their aligner numbers and aligner growth. Where do you think they're having the most success? You know, what part of the market are they attacking? 'Cause it is, you know, there's an adults versus teens, there's a comprehensive, non-comprehensive, there's ortho, GP, US, OUS.
You can slice the market five different ways.
Mm-hmm.
Where do you think the competitors are able to sort of get their foot in the door a little bit better than others?
Well, we know from a technology standpoint, the investment and the time that we've put in to get the technology, it's not easy to move teeth in a predictable and reliable way. I mean, companies can come in. We see all different types that depending on their investments and so on, they can move teeth. The question is, can they finish to what they want? Can they give the doctor the confidence that they can move teeth in a predictable and reliable way? you know, some of these comprehensive cases, I see our technology and what we've put in and understanding back to what Raj was saying, you know, 15 million plus patients, but now being able to take the AI and the machine learning of those cases and actually get the preferences down to the individual doctor level.
You know, I think, as we move forward, it's much more about providing a solution to the doctor. Cause what we see on the road and we hear from doctors so much is they want a solution. They want a, you know, a company that comes in that can help them, you know, meet the needs of their practice. If you're an orthodontist, you're gonna see all types of complicated cases. 75% of the cases that an orthodontist sees are teenagers. Those are complicated. You've got mixed dentition, you've got jaw that needs to be aligned with mandibular advancement. You've got, you know, a product that we'll have soon, which will be a rapid palatal expansion. It will actually, you know, break the suture on top.
If you need, really, upper palatal expansion, it's a product that will do that. It'll be the first fully 3D-printed product that we have that will replace, we think, the metal device that goes up there now that gets cranked every night. Those are innovations and technologies that take, you know, years to be able to produce. To be able to give that to doctors so that they could treat, you know, in a, you know, all these comprehensive cases, and to be able to provide solutions like DSP that we're talking about. To be able to do that, you need to have fast response times. You need to have the capacity to be able to. You know, we'll produce upwards of 1 million unique aligners in a day.
We're the largest mass customized product, company in the world. In the history of manufacturing, no company has been able to do this. It's 26 years of being able to figure out how to be able to ultimately solve problems and solutions for doctors. The long answer to that is there's a lot of technology that needs to go in. You've got competition. Most of the competition will come in and, you know, talk about things, and then ultimately they'll talk about price. It'll be, "Oh, try these," and it'll be at a lower price or so on. That's not sustainable.
When you look at, you know, companies that talk about, you know, you've gotta be thinking that the gross margin is a lot lower than the rest of their business or their ASPs are lower. Maybe they can fly under the radar screen now because their business isn't as big. Ultimately, you've gotta be serious about solving, you know, doctors' problems. You know, providing solutions to doctors so they can provide better care to their patients. That's been our focus and continues to be the focus. That's why the investments that we're making, you know, hundreds of millions of dollars a year in innovation to provide technology to those, to those...
The last thing I would say just on competition too is in the history of our business, there's never been more awareness about clear aligners than there is right now.
Right.
In some ways, that's come back to the marketing and other things that others have done, to make clear aligners, you know, much more relevant. Because in the end, the competition goes back to wires and brackets. Ultimately, with all the changes and other things that have happened, 80%+ of the cases are still done with wires and brackets. If that awareness by other companies in could get consumers more aware of what alternatives are, we think that's a good thing.
I agree, John. Not just that, right? Look, the market is so underdeveloped, Mike. I think, you know, the real question to ask is not about, you know, who's growing, but how much can you grow? Because if 80% of the market is still wires and brackets, and you start with the notion that that's just of the orthodontic starts, that doesn't cover the $500 million potential patients who want to get their teeth straightened, right? Then you go on to, okay, so Invisalign is by far the best-known product, the most trusted product across multiple geographies, the most adopted product with doctors, right? The only company with the end-to-end digital system, whether you call it innovation, whether you call it removing friction or manufacturing.
The real conversation is not about, look, you know, kind of, you know, where are you seeing the herd? The real conversation is, you know, how do you actually bring this incredible competitive advantage to bear on the vast majority of the wires and brackets market, and how do you grow from there?
Yeah. Maybe just in what little bit of time we have left, Raj, one for you on China and what you're seeing there. You know, some stabilization, some improvement as well, but still obviously a lot of uncertainty. Just what are your expectations and how do you see that market returning?
Sure. Look, all of us know that, you know, China went through a pretty chaotic opening, right? You know, kind of think about last year, think about this January. To go back to John's earlier point, none of us really knew how the opening would be, right? You know, kind of when the year started, there was so much uncertainty on China. There still continues to be uncertainty really, Mike. You know, if you kinda look at it, you know, consumers, you know, patients are slowly coming out, right? Coming out of a very difficult time. We said it during our earnings, you know, Feb was better than Jan, March was better than Feb.
We see sequential improvement in terms of how we see from a consumer attitude and an openness to different things, but I think there's still a lot of uncertainty there. One of the things that I tell you that we've done in China that helps us, you know, we did this last year, is we expanded our portfolio. John talked about Comprehensive three and three. Think about this as 90% of the cases can be done by the SKU, so, you know, it increases flexibility at a lower price. We did the same thing in China. We launched Invisalign Adult and Invisalign Standard, right? The insight there was we wanted a broader portfolio to meet patient needs. That's actually getting very good adoption in China right now. Other thing I tell you is the Chinese cases tend to be complicated.
Small jaws, lots of teeth. Skeletal changes are more important for doctors, right? We launched CBCT, which is, you know, cone beam computed tomography, helps you see the roots of the teeth integrated with the crown so that you could move them in unison. That's been accepted incredibly well in China. Again, think about this as solving real problems doctors have to improve to improve treatment plans for patients. The last thing I'd say to you that, you know, we are very encouraged with is, look, China has got its own digital ecosystem.
When we talk about the Align Digital Platform, in China, you know, if you think about their ecosystem with WeChat, Baidu, and Weibo, and everything else they have, Align Technology is probably one of the few companies that's got the infrastructure to kinda set up a manufacturing, a treatment planning, as well as, you know, kinda, infrastructure in the cloud to be able to treat patients there.
Great. Thank you. Thanks, Raj. Unfortunately, we're out of time, but we'll have to keep going. Plenty more to discuss, but thank you so much for joining us, John, Raj, Shirley.
Thank you.
II ballots are not open yet, but contractually obligated to ask you to keep us in mind. Thanks, everyone. We're good. Thank you for joining us for our next session. For those of you that don't know me, I'm Mike Ryskin on the Bank of America Life Science Tools and Diagnostics team with Co-Senior Analyst Derek Tabrown. Joining us for the next session is Danaher. We're excited to host Rainer Blair, Chief Executive Officer. Rainer, thank you so much for coming.
Thanks for having me.
Yeah, great. The format will be a fireside chat as usual. Maybe just to kick things off, any prepared remarks or any intro you'd like to give just to get us warmed up?
Sure. Well, good morning, everyone. Thanks for coming. I thought I would kick off with the strong start in the Q1 that we had as Danaher. Our base business grew 6%. Recall the base business is the business without COVID impact, whether through testing, vaccines, or therapeutics. From a geographic perspective, we saw we were down mid-single digits in the developed markets, again, this is with COVID, and up low single digits in the high-growth markets. I think it's important to call out that our cash flow for the quarter was $1.7 billion, a real hallmark for Danaher because it not only speaks to the quality of our businesses, but also the quality of our execution, leveraging the Danaher Business System.
Looking forward, we did adjust our guide, as you know, and kept essentially everything the same in the guide, with the exception of taking down the bioprocessing business expectations, which I'm sure we're gonna talk about here in a little bit. In summary, good start to the year as it relates to the outlook, keeping everything the same, bioprocessing adjustment.
Great. Yeah, I'll just follow up right on that. The bioprocess adjustment, I mean, it's something we've been talking about for a couple of quarters now, obviously in terms of what's going on in that end market, what's going on with customer inventories and destocking. What did you see as the quarter progressed that made you sort of reassess that?
We've been watching the bioprocessing business very carefully. Just a couple data points here. We had orders down 17% in the Q4. This is non-COVID bioprocessing, and then in the Q1 down 20%. So we were really looking to see a stabilization in the Q1 and more positive activity to be able to underwrite a step-up in the second half in the bioprocessing business. Essentially, that's not what we saw. We saw, you know, continued weakness. January was weak. February was weak. March was a little bit better. We see April really fundamentally the same as the Q1 .
We just have not seen the type of activity that we would need to see at this stage in order to be able to underwrite a step-up here in the second half. Really, it's on that basis that we said, "Okay, we have to adjust that down." The factors that drove that are really twofold. First of all, you know, large pharma customers are doing well with their demand, and they're burning down inventory, not quite at the pace that we had expected. We thought that they would be growing in the high single digits area and saw more in the Q1 , mid-single digits growth.
That's related, really to it taking a little bit longer to burn down inventories as not only inventory of our own products and those of others, but their own finished good inventories are now being looked at more closely, let's say, by their CFOs as working capital has become much more relevant with the higher interest rates. We see that in, in that segment. Then in a segment we call emerging biotech, which is simply, smaller customers that do not yet have a commercialized program in the market. No commercialized program, preclinical up and through, phase III. That customer segment in particular, continues to struggle. We saw some of that in the, in the Q4 . We've seen more of that in the Q1 . Really, it's a global phenomenon.
We see it in the U.S. and as well as in China that funding constraints there continue to hamper investment. Of course, you see CapEx being reduced here, but also OpEx. I'm sure many of you have noted the layoffs that are happening in the sector. All that together just didn't give us the databases in order to support a step-up here in the second half.
Got it. On that inventory point, especially when you talk about, you know, large pharma burning it down, is there any way for you to quantify how much is left until they're back to what should be their ready run rate, I guess as sort of a forward indicator for when orders will re-accelerate?
You know, it's very difficult ultimately to categorize how much of that inventory is burned off by when. Of course, we stay very close with our customers. I'll tell you how this played out. We saw, you know, the orders contraction there in the Q4 and, of course, went to J.P. Morgan and discussed with many customers what they saw. Many were, you know, saying, "Yes, you know, things are softening a bit here, but ultimately we're holding our budgets." As we progressed, we saw that in fact they're having to address their own working capital challenges or additional funding constraints.
It's pretty. You know, the visibility to this, is not what it has been, you know, prior to the pandemic, due to some of these dislocations.
What's your assumption, you know, in your latest guide-?
Right
... for both the large pharma and emerging biotech for the rest of the year?
Going forward for the rest of the year, we really are expecting the same type of activity level as we saw in Q1. That's why we're saying in the bioprocessing business, we continue to see that, you know, we were 1% in the Q1 , so call it flat, and that's essentially what we're saying for the remainder of the year, expecting no change in that dynamic as the market works through, you know, these various points.
Maybe, you know, taking a step back from some of the near-term inventory, components, just thinking about the underlying health of the industry and specifically to bioprocess. You know, you've cited that a number of times. That's what gives you confidence that it'll return because you're seeing the underlying demand there.
We are. We are. Our customers are continuing to produce these drugs. Patients are receiving these drugs. We don't see any fundamental change in that. As we look at the number of projects in the pipeline, again, we're talking about thousands of projects in the pipeline, we are as bullish as we have been on the long-term prospects of the industry. You know, there are many things to look at here that are positives and just reinforce our perspective of the long-term growth rate in this industry. You all are reading about Alzheimer's drugs or GLP-1s.
These are all exciting things that when they play out, meaning, you know, they do need to be approved, they do need to be reimbursed and ultimately prescribed and taken by the patients, but these are all positive indicators on the health of the industry and support our long-term growth view.
You took it exactly where I wanted to go, was GLP-1s and Alzheimer's.
Yeah.
Obviously, a lot of discussion in the market in the last couple of years on some of these new drug classes, or even new modalities. Can you help us characterize that? I mean, first of all, some of that is already in the numbers because you're involved in them when they're in-.
Right
... phase two, phase three, and some of these drugs have been around. Still, just what's the incremental opportunity as these become more commercialized? What do you need to see to gain more confidence in that?
Yeah. First of all, I'd bifurcate when you're looking at Alzheimer's. Today, at least Alzheimer's therapeutics appear to be heading into the monoclonal antibody area, and that, of course, is impactful as it relates to the bioprocessing industry. We know monoclonal antibodies well in terms of their requirements. We're well-represented on all of those drugs as Danaher. Of course, we now need to see data. As I mentioned, we need approvals. We need reimbursement. We've had that before with other approved Alzheimer's drugs, and that did not result in an uptake. That means we also need to see physicians prescribing the therapeutics despite them being approved, and then ultimately patients taking them.
Having said that, these are drugs that if they were to, you know, meet their potential, they would have a meaningful impact, both for the industry overall as well as for us, as we're very well represented there. If you think about the GLP-1 drugs, now these are different. They're not monoclonal antibodies. There's various molecules there. And they are not as intensive in terms of the equipment and consumable requirements that, for instance, a monoclonal antibody would have. Nonetheless, they are also important to support the overall growth hypothesis we have for the market.
To be more specific, some of these are produced synthetically and don't require, you know, cell lines and cell culture media, and all the things that you might have on the upstream side of these. They all do require the purification type of steps that, of course, we're very well re-represented in with Pall and Cytiva. Not quite as impactful as a large-scale monoclonal antibody, but still an important contributor to our overall growth perspective.
Okay. now I do wanna move on from bioprocess 'cause you're not just a bioprocessing company. Let's maybe touch some other parts of the portfolio. Maybe we'll start with analytical instruments. You guys have had really robust growth there in the last couple of years, moderated a little bit in 1 Q as well. Again, sort of what are you seeing in that market? What are your assumptions as you go through the rest of the year?
We've seen over the past years, you know, double-digit plus kind of growth here in our what we call the Life Science instrument group. They have done very well, including here in the Q1 . We've talked about the normalization of demand in that particular segment for some time, and we're seeing that. We would expect that demand to be, you know, in the mid-single digits here this year, which we still consider, you know, very strong growth in view of some of the comps that are out there. Nonetheless, a recognition of the fact that we're returning to normality here in terms of the funding levels and also in terms of, you know, what has already been acquired here over the last 2, 3 years.
Are you seeing any separation in terms of different technologies? You know, SCIEX versus some of the more, you know, traditional, instruments in Beckman Coulter. Are there any parts of the market that are doing a little bit better?
Not, it's not significant. It would be at the margin. You know, today, we still see the higher-end analytical instruments perhaps incrementally stronger, and then some of those that are, you know, lower price points perhaps a little softer. I think in general, what we're seeing is, you know, an extension of the funnel velocity, so the amount of time it takes to close a deal. We've continued to see that. We see that customers, rather than ordering, you know, six of one type of instrument are going down to three and four. And that's really across the board. That's an indicator for us that things are returning back to normality in what we consider to be sort of a, you know, a mid-single digit market for the long term.
Are you seeing any cancellations, any delays yet, or is it just, again, sort of just reducing the number of new orders?
It's rare to see cancellations here because the lead times are relatively short. What we are seeing is, you know, the hesitancy to place, you know, larger orders, perhaps, start with a lower number first and then confirm later on.
Okay. All right. What about Cepheid and the diagnostics outlook? You reiterated, you know, as it relates to COVID and respiratory, you reiterated the $1.2 billion-
Right
... guide for the year. Obviously, that's an environment that's also still really fluid, sort of what gives you confidence in that number going forward?
Well, I mean, we have to start with it's hard to believe, but the Q4 , we shipped 20 million tests still at Cepheid, and we do think we're gonna be, you know, in that $1.2 billion range here in 2023, which is the approximate equivalent of about 30 million tests. We saw in the Q1 , you know, 10, 11 million tests skewed more towards the four in one, so the higher priced tests here for obvious reasons. We had RSV all over the place along with COVID. It also shows you that we're starting to step down now to that endemic phase that we've been talking about for some time, right? Q4 , 20 million. Q1 here, 11 million.
We would expect that step down to continue here as we head out of the respiratory season, and, you know, be along the lines of, you know, 5 million tests per quarter here, Q2, Q3, and then to see again a pick up in the Q4 with the respiratory season picking up again. That, you know, we stick there with a ± on the 30 million tests.
Same thing, 2Q, 3Q, more likely to be a little more COVID only, and then 4Q back to four in one.
I think that's right. Then, you know, not to be dismissed, we continue to see our non-respiratory menu make, you know, significant progress in the Q1 . Our non-respiratory menu grew over 30%, on the basis of, you know, some newer, you know, the expanded menu that we have, of course, vaginitis, as a, as a newer test, but also, you know, group A strep, an important test or hospital-acquired infections.
Our hypothesis that our larger installed base, which is 2.5x larger now than it was before we went into the pandemic, over 50,000 instruments installed, that hypothesis continues to play out as more menu is being taken advantage of here at the point of care, and we see customers consolidating other platforms onto the GeneXpert platform because of its ease of use and, you know, its turnaround time on the right answer.
That 30%, I mean, I'm glad you touched on that. I mean, that's not the new run rate for Cepheid non-respiratory, right? How much of that is timing benefit and maybe, like you said, some of the new products coming in? I guess what's the new profile, just given all the changes in the last couple of years?
I, you know, I think we see sort of the longer term growth rate in the low double-digit type of range. Having said that, you know, we do see the adoption here in the early days to be quite strong.
Low double digits non-respiratory.
Correct.
Just even just for that, for the rest of the other part of the business. Okay, great. Any questions from the audience? All right. I wanna touch on margins a little bit. That was the other factor that you updated for the guide. You know, a lot of that obviously is gonna be tied to the volume-
Right
... fall through from the bioprocess, but still, can you deconvolute that a little bit in terms of like where the costs are, where the decrementals are?
Sure. We have a fall through from the volume takedown. In addition to that, we've said, look, we're gonna be aligning our capacities here. Now that we do see the step-down, we of course always knew that we would at some point have to align Cepheid's capacities when we went to the endemic phase. It just, that seemed to be postponed, one variant at a time. It kept extending. Now that we've seen that step down, we're taking care of that business here, primarily in Q2 and Q3, a little bit in Q4. You know, to think about it this way, that you're probably looking at, you know, about $200 million of costs associated with aligning capacities.
What we're doing there is, you know, not just aligning capacity, we've seen a great opportunity to improve our supply security for the industry. During the pandemic, we didn't have much of a choice because we couldn't move and had to expand our capacities, not only through manual labor versus the robotics that we typically would use because the lead times were just not compatible with the pandemic. Also we couldn't move around, so we had to do things more in the Sunnyvale, California area, and it turned out that, you know, two of our plants are on the San Andreas Fault.
We're taking now the necessary steps in this capacity alignment to really relocate that capacity to Sweden, where we already have a plant for Europe, and then also for Lodi in California, not on the San Andreas Fault. That's a great opportunity there. We're taking, you know, another $100 million or so, to align our capacities in the biotechnology group as well, to adjust for, you know, the vaccine and therapeutics.
all that you said is primarily 2Q, 3Q...
The, the, the-
As we're kinda exiting this year should be.
That's right. The bolus is in Q2 and Q3. There might be a little tail in Q4, but, you know, I think it's fair to assume that, you know, a good share of that, you know, call it, $200 million is sort of a one time that you wouldn't see, in a subsequent year. You'd also, see, a margin pickup in the Q4 as well.
That's a reasonable jumping off point for next year as far as margins go?
I mean, I think that's a reasonable place to start. Yeah.
Okay. Great. Maybe just taking a step back and thinking about the broader worldview in terms of macro. I mean, I think it's a question that actually I don't think it was even asked on your earnings call was, you know, recession risk, macro, what's going on in the broader environment? Obviously, it's something that changes every day and, you know, none of us sitting here are economists or strategists, but what's your latest thinking in the area? You know, how big of an area of upside or downside risk do you see from macro?
Well, I mean, there's no doubt about the fact that the waters have gotten choppier here in the last year or so. You know, our portfolio and our business system, the Danaher Business System, has allowed us to navigate what have been, you know, some pretty significant impacts if you think of the supply chain disruptions that we've had, the inflationary surge that we've overcome. Now we're seeing, you know, venture capital funding, and I know you'll have a talk on that here at the conference as well. More generally, liquidity tightening up. Nonetheless, we're still talking here about our base business growing, you know, in the mid-single digits for the year.
I think it's a testimony to the strength of our portfolio, the Danaher Business System, of course, but also the fact that, you know, we've got, you know, 70-75% recurring revenue, so a portfolio that performs very well in that kind of environment. As we think about the wild cards out of the that are out there, of course, everybody's watching geopolitical issues out there. For us, China is an attractive market that we believe in. In the long term, China is looking to improve the level of healthcare in its country, its society. We can help with that.
As we think of the U.S. here, the U.S. continues to be a hotbed of innovation in biotechnologies, and we expect that to continue. While the geopolitics are, you know, of course, always a concern and we watch them very closely, we feel that on the basis of how we've positioned our portfolio, with the Danaher Business System and the specific needs of the countries involved in these discussions, that we're quite well positioned.
Have to ask sort of the obligatory capital deployment question.
Sure.
You know, very healthy balance sheet. You've been sort of poised to deploy some capital for a number of years now, and you've done some deals, but still, balance sheet's in a really good place. How are you thinking about some of the opportunities out there?
For starters, M&A continues to be our bias in terms of capital deployment. As we think about our balance sheet, I think you all know that we are in excellent shape here. We believe the environment that we're in and continue to head into is one of opportunity for Danaher with the optionality on our balance sheet. As always, our funnels are very, very active. It's important to note, and I like to say it as often as possible, we stay with our discipline of attractive end markets, assets within those end markets for which we can either acquire or create a competitive advantage for the long term with that asset. Of course, the financial model has to work for us.
That continues to be our discipline. As you think about the market environment that we've been in, it's been more constructive. The conversations that we've had have been more constructive than, let's say, 12 months ago. I do think there is still more to be done here in terms of aligning, you know, board expectations with what the, what the reality is, from a valuation perspective.
What about services business specifically? I mean, I know that's something that's come up a number of times. different financial profile, you know, but there are both pro and con considerations from a, from a strategy or synergy overlap. How do you weigh all those factors?
We've often said that if our customers ask us to help them with services, that's something that, you know, we would do. I like to point to an example I spoke about this particular example during the earnings call as well with Aldevron, where, you know, our customers are buying today, you know, call it raw mRNA for lack of a better word, and they have to ship that mRNA to a number of other companies until it becomes a drug product for them. That's an enormous headache in the sense that, you know, all these companies have different quality assurance systems, and you have to revalidate. They just came to us and said, "Look, you have this capability within Danaher.
Could you help us make this drug product?" We've embarked on that. In fact, we announced that service capability just recently, and there you see us, in fact, you know, making now not just this sort of raw mRNA, but going all the way through the fill-finish process to a drug product. That's an example of a pragmatic way for us to help our customers in an area that they're specifically requesting for. There are other examples with all of these new modalities.
If you think of bispecifics or ADCs, the antibody-drug conjugates, or, you know, other types of drugs, our customers need help in understanding how to use, you know, equipment and consumables and so forth in order to scale up and build an efficient manufacturing system. You know, what we do also see is that our customers are not asking us for doing, you know, work at scale. They're not asking us to, you know, make acquisitions in order to mix up their supplier base. They're asking us to solve very, very specific problems.
Got it. Thanks. Any questions from the audience you want us to ask? All right. I'll go to our standard concluding question. What do you think is underappreciated about Danaher? What's misunderstood?
I think that the strength of our portfolio, and how we have re-rated both the growth and earnings profile here really for the long term, is underappreciated, where our journey and our portfolio transformation continues. We are on track, for instance, to separate Veralto, the environmental and applied solutions business here in the Q4 . That positions us very well, in... You know, we talk about the macro dynamic with, you know, higher growth profile as well as a higher earnings profile, in what are, you know, some of the most attractive end markets in industry.
actually, let me throw in one more to that. The EAS spin, you know, still proceeding on plan, still Q4 .
We're a go. We have a very tight process as it relates to this. All the work streams are on schedule. We should be ready to go here in the Q4 for a successful separation.
Great. All right. With that, we're going to call it. Rainer, thanks so much for joining us.
Thanks, Mike.
Thanks, everyone.
Thanks, all.
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