I'm Connor McNamara, the Life Science Tools and Diagnostics Analyst for RBC. It's my pleasure to introduce Brent Jones, the CFO of Avantor. Welcome. Thank you for being here. Now, just ahead of this fireside chat, the company did issue some new slides, which are available on the webcast for those at home, on the company website, and for those of you in the room, the printouts are there. Brent is going to walk through those slides just to kick things off, and then we're going to go to fireside chat. Brent, I'll kick it off to you.
Perfect. Connor, thanks for having me. As you've seen, the slides are available and in the room in front of you. After our last earnings, we've gotten a bunch of questions on different aspects of the bioscience production segment, so we thought it made sense to provide some additional color on that. That is the purpose of the slides. Slide two, we have the standard forward-looking GAAP disclaimer, all that that we need to have. If you go to slide three, let's level set on what are our segments there to put in context. We have lab solutions, which constitutes our lab specialty products, advanced services, and our total science solutions. That is a comprehensive portfolio of high-quality lab consumables, equipment, services, and digital solutions. It is our largest segment. It represents about two-thirds of our revenue and just over half of our adjusted operating income.
The other segment, which is really the focus today, is bioscience production. Now, that's mission-critical high-purity materials and solutions, particularly in highly regulated environments. That's about one-third of our revenues and just under half of our adjusted operating income. Let's double-click on bioscience production. Going to slide four. Three pieces of that business broadly. I think important aspects at the beginning there, highly recurring revenue, regulatory and quality expertise that's critical to our customers there, and very frequently in tightly regulated markets. 75% of this content is proprietary. Previously, we've talked about this on an end market basis. Here, we're talking about it on a product perspective because we think that provides additional insight. Now, breaking that down, two-thirds of the segment, 67%, is bioprocessing. There you have process ingredients and excipients, single-use solutions, and then control environment consumables.
Silicones, which we've spoken of frequently, it's our new sill, ultra-high purity, medical and aerospace-grade silicone formulations. Finally, applied solutions. That's a combination of our electronic materials business, proprietary chemicals that go into healthcare and pharma applications, but not in production environments. Finally, chemicals and PPE that are used in industrial applications. Important to recognize here, this is a very high-margin segment, as you see by the operating income contribution. Generally, these are highly recurring revenue and very attractive growth profiles in these end markets. Not only that, we have strong entitlements against them, and particularly when you think of, obviously, bioproduction, the number of approvals and throughput there. Going to slide five, let's double-click in bioproduction. We indicate here the whole production workflow. Upstream, downstream, formulation, and final fill. Three categories: process ingredients and excipients.
That's 44% of revenue that ranges in the upstream from activation of cell culture media to the downstream buffers, salts, viral inactivation solution, and then finally, formulation, fill, and finish are excipients, which are so critical to that. Single-use systems, 26% of revenue. That's everything from our end-to-end fluid handling solution that we believe is a real differentiator for us. Other single-use, two-day and three-day bags, connectors, tubing, system solutions, hydration, exactly what you'd expect of a broad single-use portfolio. Finally, control environment consumables. Now, this is really support for clean rooms. Clean rooms go across all the workflows here. They're completely integrated with the production workflow. This piece of the business includes PPE, chemicals, and other sterilization products that are critical to ensuring that the clean rooms can operate the way they're intended to.
In summary, the fundamentals of this business continue to be very strong. These are two segments that have a common customer base. We are taking actions to strengthen them, as we have talked about. The whole focus here is driving value creation, not only in the near term, but in the long term.
Great. Thanks for that, Brent. We really appreciate the clarity. I think this is incredibly helpful. As we've gotten questions from investors, I think there's been a little bit of confusion on the bioproduction side. I think clarity is always good. Maybe just starting on the bioproduction business, can you walk through what's embedded in your guidance for this year, now that we know the pieces of the business a little bit better, and maybe kind of walk through exactly what you've incorporated in the guidance?
Certainly there. On the guidance basis, we did not change the guidance for the bioscience production segment. That continues to be mid-single-digit growth and guidance just for bioprocessing within it. We took that from mid to high single digits to mid-single digits. The performance in single-use and process ingredients is exactly as we expected it for the year. It was the same in Q1 on that. The primary difference was the headwinds in control environment consumables in Q1. We have made some modifications to some of our go-to-market there. We have seen improvements in the past few months, but just given the Q1 impact and not assuming a full recovery, that is what we took bioprocessing from mid to high to mid.
Okay. So that's 30% of your business, a little bit of weakness in Q1.
30% of the bioprocess.
Thank you. Thank you for that. How should we think about that going forward, X this Q1 flip? Is that the whole bioprocessing business, is that a good way to the high mid-single digit X this one-time issue in Q1? Is that a good way to think about that?
Absolutely. Feel strongly about the growth of those. The great part of our portfolio is it's driven by throughput. We're largely not subject to capital cycles or anything else there. It's throughput of drugs. My other comments, the approvals, the volumes of scripts, that business is functioning exactly as I want it to do as this recovery cycle is coming in.
What percentage exposure do you have to early-stage biotech development versus late-stage?
All of the early-stage development exposures in the lab business, nothing in the bioproduction or virtually nothing in the bioprocessing side.
Perfect. All right. So bioprocessing, mid-single-digit growth. Let's talk about the other two pieces because obviously those are having a drag on the overall business. Can you walk through what you're assuming for growth rates for those? How do those businesses compare on just are they cyclical? Are there different macro exposures?
Yeah. First, I wouldn't call them a drag on the growth there. No, when you go through our silicones business, that's at least a mid-single-digit grower there. We talked about that in the expectations for the year. I mean, we have exceptional technology with our competitive moat there and the customer relationships, both on the medical side and the aerospace side. The other applications, we have had headwinds in electronic materials that will annualize kind of in Q2, Q3, but those should be mid-single-digit entitlements there. You combine when you're getting the full throughput and you don't have the CEC headwinds, high single-digit bioprocess, these other pieces of the business that can be mid-single-digit or better can bring you to that mid to high single-digit entitlement for the segment.
Got it. Obviously too early to start talking about 2026. As we exit this year, it sounds like that will be a better run rate for how you think that overall business will look because you have kind of these one-time issues on the bioprocessing side will be gone, and then any of the comps will get easier on some of the other businesses. If you have mid to high single digits, it is a good way to think about the entire business with ex lab solutions going forward.
No, I think that's absolutely fair. I think an important thing for the year, even with those headwinds, our guidance for the segment is mid-single digits. You are seeing the bioprocess recovery. You are seeing execution in that business.
Great. Now, I guess the next question I have is, again, with all of this clarity and the fact that you are going through the divestiture of one business, should investors think of, "Hey, maybe some of these pieces aren't core"? Would you consider divesting any of them? Are you trying to signal that as an option at all, or is this purely just for clarity, and that's not something that investors should really dig into?
Yeah, I would say short answer is this is all about investor clarity. We had enough questions about that that we felt that was an important thing to do. Look, we were always looking at the portfolio. I mean, that's what you do. Fundamentally, management is always assess what you have, and it's all about maximizing value. There is no signaling to this that this disclosure is due to divestiture thinking.
Great. Thank you for all of that clarity. Maybe we'll move on to start talking about the other two-thirds of the business, the lab solutions. Can you walk us through on that business as well? What's incorporated in your updated guidance? There were some moving pieces, including what you called competitive intensity and obviously some NIH impacts. Maybe just walk through what you're thinking of that business for the year, and then we'll get into some of the pieces specifically.
Yeah. The original guidance for the business was low single-digit growth, and we modified that to minus low single digit to flat for the lab solutions segment. When we talked about Q1 and the reasons for the updated guidance, the primary driver in Q1 was what we broadly call sort of the policy implications, i.e., the NIH, the funding piece of it. That primarily impacts the U.S. higher education part of the business. Of total revenue at Avantor, that represents about 5% of revenue. We saw meaningful impacts in Q1 in connection with that. That is the primary driver of the adjustment to the guidance.
Okay. Let's dig in there a little bit. This is 5% of your business, you're seeing a slowdown, and that started kind of mid-February when there was, I mean, I guess it's probably been a week going into last year, but mid-February, we had these NIH proposals where it looked like the NIH would cease funding for certain grants. Was that kind of, is that the timing of when you saw a real slowdown? Maybe walk through what's embedded for the rest of the year. Post that, have you seen any change in buying patterns from your customers that do receive NIH funding?
Sure. First, when we provided guidance and we made some comments about this, we knew there was some uncertainty in the environment, so we were careful in our guidance in that connection. The day we released Q4 and provided guidance, that evening, the NIH news hit the tape. That was not perfect timing in that connection.
That was the social media post that they put out, right?
Yeah.
That's right. Okay.
Yeah. We had seen just fine performance, even though some uncertainty at the beginning of the year. You saw sort of immediate impact, and then it has gotten back to a pace, even though there is impact on the demand there. That business has, frankly, been pretty consistent since that and very similar to how we guided for 2024 in that we are just assuming continuation of, again, solid performance, but with some of the dampening due to that for the balance of the year. That is exactly what is in the guidance.
Okay. Here we are late May, almost in June. Have you seen any change in what those customers are doing? Just by way of background for those in the room and on the phone that do not know what we are talking about, on February 15th, there was a post where the NIH said we are going to stop funding a specific percentage of grants that have already been approved that we are already paying for. Anything related to indirect costs, we are going to limit that to only 15% of the total grants. Anything above that, we are no longer going to fund. That was blocked in the courts, and that is an ongoing debate. We did some checks, and we put out some public, we published notes on this, but basically, it created uncertainty for any academic institution that received NIH funding via grant.
That came out February 15th, just so we're all clear. That created an initial shock, is my understanding from the customers. What has developed since then?
A couple of things. There was the shock, but there has been consistency since then just at a somewhat lower level. That is absolutely what informed our guidance there. I mean, people are open for business, just at somewhat of a lower level on that. Now, when you have a shock like that, the reaction from people is predictable. They want to preserve cash, preserve resources. The most immediate impact is on capital. Equipment and instrumentation are impacted the most. Another important part of it, though, is we are really an activity and throughput-based business there. When you have headcount reductions, when you have slower replacement of staff and that, you have fewer people working on things. That also has had some impact on consumables and chemicals there. Again, it is just the somewhat lower activity.
To your point, the shock in the system happened quickly, and then it has stabilized since then just at a somewhat lower level.
From a relative perspective, you are more on the consumable side than equipment. Do you sell any equipment into those companies?
Oh, we definitely do. As a firm, capital is about 15% of our total revenue. In lab, it's about 20%. In higher ed, it's a somewhat higher percentage. It is an important piece of the business.
Okay. Got it. It was more capital that's probably impacted this year, though.
Definitely.
Somewhat on the consumables. Okay. Just going forward, first off, did you have any lab customers at these universities that their lab shut down, that are no longer purchasing? Have you seen that impact yet? Just longer term, how does this, other than the initial shock, do you think this changes the health of that piece of the business within lab solutions?
I mean, I do not know every lab or any of that, but certainly nothing of that has come to my attention. Look, this comment we make frequently, it is the golden age of science. Even if this creates a baseline that you grow off and that, but frankly, the fact that we have seen the consistency in the business, even at the other demand levels, is encouraging given the level of uncertainty. I do not believe it resets what the business will be over time.
Great. Just outside of the U.S. policy, one other piece, which, it's a smaller piece of the guidance cut, but you highlighted something called competitive intensity. I just want to talk about that a little bit. Is that something new that you're seeing, or is that just something that you wanted to highlight that's outside of the NIH? Maybe if you could give any more color on that.
Sure. No, I think we just highlighted that as good disclosure. When people ask questions about competitive intensity, I mean, it absolutely is a competitive business. That is nothing new. When you have circumstances where you're not getting the full volume growth you'd have otherwise, then people will compete for the buckets of growth that there are and will compete for share that way. We did see an increased level of that. However, and definitely in a handful of large accounts, there were volume shifts that impacted us. On the other hand, we had a number of really good wins in Q1. Now, those will not hit the P&L for a few quarters in that. Certainly, there was nothing in the statement to say, "Oh, we're impacted by the competitive intensity, but we're not driving competitive intensity ourselves," which we are.
I'll tell you, the new leadership in lab, what Corey Walker's doing there, very impressive. We're going on the offensive there in a good way.
Okay. And the timing for that to reverse, I mean, it sounds like the new wins that you've got, that'll be a couple of quarters. Should we think about this, it'll take a few, two to three quarters to drag out, that this headwind will continue, and then it will go away and potentially reverse and become a tailwind as some of those wins hit the P&L?
Yeah. Look, I'm a big believer in what that business wants to do. We just need to get through the period of uncertainty, but I would say we're taking really significant actions there to drive the business.
Okay. Great. The other piece I wanted to touch on for guidance is tariffs. Maybe can you remind us what was incorporated in your guidance specifically related to tariffs? Then we'll go from there.
We actually did not incorporate any tariff impact in our guidance. The foundation for that is because we believed we'd be able to offset it. Now, it's obviously a very, very dynamic environment right now, but sort of the bottom line to put in the bullet point there is we don't expect to have tariff impacts into the P&L this year, particularly after the changes. The gross exposure has decreased dramatically. We're now saying that the in-P&L impacts, that is, the cost impact of tariff taxes would approximately be $30 million, which we believe we'll be able to offset. The vast majority of that is China to the U.S. and then the balance is from other regions. Unmitigated, that would be 3%-4% of EPS. We already have significant plans in place there.
Now, it's a combination of alternate suppliers from regions where you do not have the same tariff impact. That is either tariff surcharges or price. We are working very closely with our customers on that. Obviously, no one wants those things to happen. Again, that is with the new leadership in lab. I think we are executing very thoughtfully, and we feel good about how we are going to mitigate that.
Okay. Obviously, the policy, the tariff situation is fluid, and it changes almost on a daily basis. Anything that you're seeing that potentially now with the new policy, hey, maybe this will be a tailwind, especially if you're able to put through some pricing, or is it the impacts will only be done to mitigate the headwinds, and we shouldn't be thinking about any type of actual tailwind this year?
I mean, mitigates in price can help the top line there, even though we did not incorporate that into guidance. No, I would not take that as a tailwind to guidance.
Okay. Great. Just a high-level question. You did cut organic guide by 200 basis points, but you left EPS where it is. I mean, you've got a range on the EPS, or is that because you're finding more opportunity on the cost outs, or are there other actions you're taking to offset the revenue headwinds you're seeing? Or should we think, okay, now we should be looking more towards the lower end of the range on EPS, or?
No. No, we certainly haven't directed to the lower end of the range there. I mean, the simple math there is we guided the year with a $1.03 euro dollar, and the update was $1.10 or blended $1.10 for the year. So that's FX dropping through. So the 200 basis points in lab is offset by the FX tailwinds.
Great. Okay. Makes sense. We've only got a few minutes, so did want to touch on the CEO transition. Can you give us any update on that process and kind of what you see as the ideal candidate to replace Michael?
Oh, look, I wouldn't want to get ahead of the board there, but they're leading that process, and I believe they'll find the right person there. They're moving expeditiously.
Okay. Got it. That's a good update. What challenges does this present for you? Obviously, you came on board, and you've done a lot. You changed more of the company, which I'll give you credit for just because you're here. You changed the reporting structures of the business. You just gave more disclosures. You found a bunch of cost outs that obviously have helped the earnings power. Now you've got a, assuming you have a higher burden with the departing CEO. Just how has your role shifted and kind of how do you think that will evolve over time?
Two pieces there. First off, I would never individually take credit for anything there. That is, it is a team sport, and we have a great team. My burden has not changed here. Look, Michael made this decision with the board. It was the right time for him. Frankly, he is the CEO, and he is as engaged as he has ever been. The other members of senior management are just as focused. It is frankly all about driving improvement in the business. That is all we are focused on.
Right. A couple of high-level questions. From a long-range target perspective, you guys did an analyst day at the end of 2023, I believe. When should we see the next analyst day if you have talked about that? What types of things are you seeing now in markets versus what you saw at the end of 2023? How important is seeing in-market stabilization before you lay out new long-range targets?
I mean, we haven't scheduled one yet there, so we'll see on that. Our long-term view hasn't changed. Obviously, there's been an unprecedented amount of in-market noise since the last investor day, and none of us had hoped for that. The long-term view on both what this platform can do and what our entitlement is absolutely hasn't changed.
Great. That just about wraps up our time. Brent, we appreciate you attending the conference. We appreciate all the clarity you gave in the slides. Thank you for everyone here and everyone attending at home. We appreciate it. Thanks.
Thank you. Good to be here.