All right. Good morning, everyone. Why don't we get started here? Sorry for running a minute late here. I'm Jason Bednar. I cover med tech here at Piper. Next fireside chat is with Masimo. Very happy to have with us today, Masimo's CFO, Micah Young, and VP of Investor Relations, Eli Kammerman. So thanks a lot for being here, both of you. I really appreciate making the trip across the country. So why don't we get right into Q&A? You know, Micah, a lot to discuss. I asked for actually two sessions for your fireside chat. They didn't give it to me. But so we're just gonna have to talk twice as fast.
All right. We'll do that.
So, why don't we start with the macro, you know, patient census in the hospital, visibility you have on the healthcare side of the business. I think you've counseled us in the past, really to focus on hospital census and patient volumes as really an indicator of the direction of demand, and sensor use. Is that still the best indicator long-term?
Yeah. Absolutely. So if you look at our sensors, over the long-term, they track within patient admissions and patient surgical volumes, especially if you think about surgical volumes, the throughput that we get from, you know, the consumption of sensors that go through on those surgeries. That's really how we track, is really around the inpatient. You know, we also get, in addition, inpatient volumes. If you think about our long-range plan, we've always kinda guided that high single-digit range. And, you know, 1% to 3% usually comes from kind of the normal market growth, the inpatient growth. And then, of course, we get share gains. That comes through our strong contracting that we've seen. So, and that gets us to where, you know, we've kinda guided set to that 6%-8% range.
We've guided our overall healthcare revenues to 8%-10%, but that's kinda the breakdown of it. The inpatient volume gives us that nice tailwind to growth.
Okay. Are there other underlying variables we should have in mind when we consider, you know, sensor utilization?
Yeah. I think, you know, one of the things that we, you know, in addition to inpatient volumes, of course, you know, we've been tracking ordering patterns with customers very closely. So in addition to just normal kinda the inpatient flow, the census flow going through the hospitals, that contract revenue is what really, you know, adds on to give us that growth each and every year. And that, that's what gets us up into that, you know, 6%-8% zone.
Okay.
Yeah.
Okay. I wanna come back a little bit to sensor inventory. It's been pretty topical for you the last couple quarters. You know, it seems like we've had maybe some encouraging developments just based on the comments from the last quarter call, at least with respect to the direction of order sensor orders. So maybe can you expand on what exactly this means? Are you actually seeing order volumes growing month over month? So, like, you know, July better than June, August better than July, and so on?
Yeah. So we're seeing good, in terms of the last four months, especially as we were moving into providing guidance for this quarter. You know, we've seen steady improvement in terms of sensor utilization. We think that that's stabilized. We think the majority of the inventory challenges that we've seen as we kinda transition away from those larger ordering patterns that we've experienced over the last few years, during COVID. You know, inventory, we believe majority of that's behind us. There will still be some pockets here and there, but the majority of that issue is behind us. Now we've got a much better feel for kinda where things are landing on utilization. We've monitored—I mean, I'm monitoring them daily, kinda the what we're seeing in terms of ordering patterns from our customers, and we feel like, you know, things are back.
If you look at another important metric for us is, you know, as we think about consumable revenue per driver, that's what we're seeing that's very close to what we saw back in 2019. We had a much smaller installed base back then. It was about 1.8 million drivers. Today, we're sitting around 2.5 million. If you recall, back during 2020, we shipped probably about 240,000. We shipped double the normal amount of drivers that we typically ship. We were running about 60,000 a quarter back then, about 240,000 a year. We shipped 480,000. So, call it 240,000 of that 2.5 million installed base, call it 10% of that, is probably lower utilization because it's, you know, they put it beside the beds, they added more beds to hospitals, created more ICU capacity.
We had a high, you know, high acuity COVID patients going through those hospital systems, and, you know, we believe they are moving that and shifting it more to other, you know, lower acuity care areas, but it's gonna be. It's lower utilization, but if you look at the overall revenue per driver of our consumables, you know, even with that 2.5 million drivers today that includes those lower utilization monitors, we're still seeing things kinda get back to that revenue per driver that we saw back in 2019, and we, we expect that to improve as we move forward.
Okay. I do wanna come back to that point, but first.
Yeah.
Maybe first on drivers. You mentioned we had a big bolus of demand during the pandemic. I mean, you had, you know, ventilators and all a lot of different connected care respiratory equipment that hospitals were investing in. Your drivers just exploded.
Mm-hmm.
In the second half of 2020 through 2021. Never really reset lower, but now it seems like, you know, it's that maybe is starting to happen. Some of that retrenchment is happening.
Mm-hmm.
You're seeing it across hospital equipment. But it seems like you're, I mean, nobody's immune. You're not immune. But are we, are we at a defensible level with drivers? Or, I mean, what kind of visibility do you have as you look forward that you can do, what, whether it's 65,000 or 70,000 or 75,000.
Yeah.
Drivers in a given quarter?
Yeah, so you know, right now, with hospitals, you know, constrained budgets, cash flow challenges, we have seen pullbacks in the amount of orders, and we've seen that in the last two quarters. I mean, we were up in the 70s, shipping, you know, 70,000-plus drivers a quarter, and that settled down around 64,000, I believe, in Q2, 63 in Q4 or Q3, and that's come down. I mean, the OEMs, our OEM partners have reduced. They've seen their order books reduced as well. What I believe is happening, and based on, you know, conversations with sales force and their conversations with hospitals is, you know, hospitals are extending the life of that installed base, and I think replacement monitors is has been, you know, something where those capital budgets are constrained. So they're extending the life of how long they're keeping those.
When I look at, though, the health of our business, you know, we've seen strong contracting. You've seen that. You've seen it in our unrecognized contract revenue, which I'm sure we'll talk about.
Yes.
What I believe is happening is we go into contracts. We enter into contracts with hospitals, five- to seven-year contracts. There's typically a minimum volume threshold that's put into those contracts for the amount of sensors that we expect. But we place a lot of that equipment, free of charge, for example, in return for the commitment on the sensor revenue. So that gives us our recurring revenue. It's a razor-razor blade model. The way I look at it, though, is the better leading indicator of the strength of our business is how well we're contracting because we are, since we're providing that equipment, and we're often funding that equipment. That's not a concern 'cause we're getting those installed with, you know, they're not having to come up with the capital for those.
And that's allowing us to continue to place, you know, and win new customers, convert new customers at a pretty rapid pace. So, although albeit we're still behind on the pacing that we're winning new customer business, in terms of getting that installed, but we're still seeing strong installations. Even if customers are extending the life of the installed base, we still see strength and growth in that in our business.
Okay. Your Masimo branded equipment's bigger today than it was five years ago, which probably helps buffer a little bit against some of those OEM challenges. Can you give us a sense? You know, what's the mix of the drivers that are Masimo branded drivers versus those that are going into OEMs? What is that today versus maybe what it was pre-pandemic?
Yeah. I'd say we're hovering anywhere between 20%-25%. I think pre-COVID, we were around 20%. So we're getting up closer to 25% of those drivers that are being shipped out are Masimo branded.
Okay. All right. That's helpful. So then let's go back to, I think, the sensor question. And I guess one of the things I wanted to probe on—you brought it up, you have a much larger installed base today.
Mm-hmm.
As a result of pulse ox basically being the de facto diagnostic tool during the pandemic to determine if a patient was deteriorating and needed to be admitted to an ICU. So that's all, that's all good. But a lot of those new drivers did go to, like, the general ward or call it lower.
Yep.
Utilization setting. So why is 2019—this is the question I've been wrestling with a lot, you know, internally and also, like, discussed with a lot of investors. Why is 2019 the right level for sensor utilization when a lot of those new drivers that have come out over the last, call it, four years, you know, have been probably a greater mix towards general ward or maybe aren't even being used 'cause they're on ventilators that are sitting in the closet?
Yeah. Well, I mean, what's encouraging to me is, you know, we have, you know, that 10% extra that was acquired by hospitals during 2020. We're still seeing revenue per driver now settling in currently. We're seeing it settling in utilization at 2019 rates. So, you know, if you strip that out, we would see revenue per driver above 2019. So the reason I look at 2019 is, I mean, we typically see a stepped improvement in revenue per driver every year, as we're driving, you know, leveraging the installed base, especially the equipment we're installing. We're continuously driving more revenue per driver. We're also getting premium, you know, for certain sensors as well, upcharged for some of those higher premium sensors.
So that, you know, I look at 2019 as kind of, you know, feel very good about where we're sitting today, the fact that we're sitting right on that number, on our consumable revenue per driver. And that includes the extra, you know, the infusion of that extra 10% of those drivers. And we expect utilization per driver's gonna go up, as we go forward.
Okay. Okay.
Mm-hmm.
Come back to the unrecognized contract revenue. I know you and Joe have been talking about this quite a bit. It is really impressive. I mean, the growth of that unrecognized revenue is real. What's it going to take to start realizing some of that business? I mean, how much control do you have versus how much is it just dependent on hospitals saying, "Yeah, we're ready for your drivers. We're ready for the equipment. And we're gonna start buying the sensors that we committed to"?
Yeah. I mean, the last few months, I've spent a lot of time looking at, you know, having the team look at, diving into are we seeing the translation from customer contracting 'cause we've seen our new customer wins, you know, some of that up 2 to 3X what we saw even pre-COVID levels in terms of winning new business. We have to continue to grow at this pace and outpace the market. But we've seen good translation of revenue into, you know, from those contracts. And, you know, that was a concern. Are we not seeing it? But it's helping offset some of the lower utilization we've seen. But what we've gotta do is, you know, there's still challenges. There's really, right now, two things that are challenging for us.
One is, we have seen longer OEM lead times with our partners, to be able to get the equipment for install. We've also seen the challenges with scheduling at hospitals, that have slowed us down, especially with staffing. It seems like staffing is getting better, so that's, you know, going the right direction now. But some of the things we're doing is, you know, we've got the resources internally. We've redirected on the team to really focus on the installs to make sure that when things become available, we're ready to go. That's been in our control. The other thing we've done is we've looked at trying to secure some equipment that can help us go in, convert, until we have the equipment from the OEM. Some of those things are helping.
But, again, the installations that we're seeing, the level of installations is very strong. It's just as strong as it was, you know, even back in 2019. But we're not keeping pace with the new customer, you know, wins on contract. And that's where we're seeing, you know, backlog. Our unrecognized contract revenue increased about 4% sequentially from Q2 to Q3, and we're up about 16% year- over- year. So it's encouraging. That'll gonna be a nice tailwind for us. We just gotta continue to focus on installs.
Okay. I'll ask you the same question I could probably ask you probably half a dozen times on this unrecognized contract revenue. I'm gonna compare against my notes to see if the answer's changed. What are they? Have, what's driving it? Is there another factor driving it? Are you talking about now longer contracts that are helping?
Mm-hmm.
You know, drive some, like, some of that increase in, like, the call it the backlog? Are the terms just more favorable, more like higher guarantees? Or is this purely all new customers that are coming in or, like, growth of the customer base?
Yeah. I mean, it's a combination, so our contract ranges usually are about five to seven years. I would say they were probably more the five to six range. We're seeing it probably six plus on average, so and the reason for that is we're getting much larger customers, and a lot of them will sign up for larger commitments and longer term, so that is a combination, but we're seeing the strength, really the bulk of that strength coming through just, you know, gaining new business.
Okay. I may come back to margins. This is why I needed a full 50 minutes or a full hour to talk to you guys. There's too much to talk about. But let's talk about 2024 for a little bit. I think investors are having really a hard time trying to peg the right growth level for each of your businesses, the healthcare business, the non-healthcare business, as well as what, you know, margins and earnings are gonna look like. I mean, you look at street estimates right now. You could drive a truck through where the street's currently sitting. That's a little atypical for your business.
Mm-hmm.
It used to be really predictable, and it was a pretty narrow range out there.
Mm-hmm.
So why the Street's at, I think, modeling 3% revenue growth, 6% EPS growth. I'll just take your temperature on how you feel on each of those right now.
I mean, right now, I feel pretty good. We're still working through the budgets. I mean, the next three weeks, I'll be reviewing budgets with each of our team members. And we'll be able to size all that up. But you know, we feel good about you know, heading into next year. The healthcare business, I mean, you know, it's strong. We just gotta work through understanding those comps. I mean, we've got tough comps in Q1, easier, very easy comps in Q2. And I just need to understand kinda the trajectory going into next year. But we believe the underlying you know, health of that business is gonna get back to growth.
Okay.
And it's just a matter of, you know, what, what does that look like? Is it mid-single digits? Is it high single digits? You know, that's what we're working through. On the consumer side, it's more, you know. I gotta work through with the teams to understand why we've got some tough comps in Q1.
Right.
That was a very strong quarter for that business. So but the hearables products are doing very well. They doubled, you know, in revenue, year over year. They're also now at, you know, they were, call it, 4 or 5% of revenues a year ago, maybe 3 or 4% of revenues. Now they're up, close to 10%. So.
Mm-hmm.
So that could help stabilize where, you know, you've got a tough macro environment where the core audio is being challenged right now. But the growth in hearables could help us to offset some of that softness. So, still a lot to work through. But, you know, based on, you know, what the numbers you just mentioned, I'm feeling pretty good.
Okay. All right. Great. Within the outlook, you know, we didn't have to get too specific here, but just as we talk, maybe think high level and talk about gross margins, you know, they've been under considerable pressure. I know this has been, you know, probably a frustration of yours.
Yeah.
We've talked a lot about it.
Yeah.
The lag over the last few quarters, and you know, some of it's been outside your control.
Mm-hmm.
I mean, especially the.
Yeah.
The situation in Mexico. You're exposed to moves in the peso. You're exposed to labor wage inflation in Mexico. But you're shifting a lot of that production over to Malaysia.
Mm-hmm.
So, maybe give us a sense. Does the move to Malaysia enable that shift to Malaysia? Can you realize benefits in 2024 from that shift?
Mm-hmm.
That's question one. And then question two would be, how much of what you've lost can you get back?
Yeah. Before I jump into Malaysia real quick, I wanna step back.
Sure.
You know, the gross margins that we saw, you know, when they were kind of around their peak was around we were getting close around 66%, maybe even a little bit better than that. This year, we're sitting around 61%. So we've had about 500 basis points of headwinds, challenges over the years. And if you look at it, the peso, we're heavy down in Mexico, as you mentioned. The peso has strengthened against the dollar. And that's probably created at least 200 basis points of headwinds for us. We've had supply chain challenges come and go, like, it's very heavy the past couple of years, especially when there was chip shortages. We had to navigate that. We had high freight costs. We've experienced labor inflation. But a lot of that's starting to subside. So that's impacting underlying starting to improve.
But then we've had those other headwinds with Mexico. So it's not only the peso, but it's also labor inflation. So minimum wages in Mexico have increased over the last three years about 20%-25% a year. We've been really watching closely, because Malaysia now is about 30% cheaper or lower cost on the labor rate. So this last year of increase has put Mexico labor well ahead of or higher than what we see in Malaysia. So we're trying to transition there. We wanna get up to about 80%-85% of our high-volume sensors manufactured in Malaysia. We believe we'll be about halfway there, second half of next year. We believe we'll be all the way transitioned by the second half of 2025. So we've already had a lot of transition going on.
So, a lot of those headwinds are already in our run rate. What we're trying to do is neutralize as we start to move equipment around and shift that over into production over in Malaysia, trying to neutralize the impact of that and hopefully create a tailwind for us, moving forward over the next even into 2024. So if we look at it, I think you know Malaysia could give us 100 to 200 basis points of margin opportunity over the next couple of years. So you know and we'll be fully ramped up second half of 2025.
Okay. So as you bring that online in the second half of 2024, do we see the margin benefits immediately, or does it take a bit of time to get those?
I think we'll start to see it in the second half of next year.
Okay.
Yeah.
Where are you at in terms of, like, ability and the, like, the build-out of that facility? Is this an, you know, a Masimo-owned facility? Are you working with a, like, a contract manufacturer?
No. We're leasing the facility.
Okay.
So that's, that's minimizing some of those headwinds as well.
Okay. All right. Great. Maybe go back to the investor day. I know we got just a few minutes left here. But you laid out some growth rates out to 2028, based off of 2023 numbers, which are different today than they were then.
Yeah.
But at least thinking about the growth rates, I wanna hold you to, like, what that implies for 2028. And I know that's still several years away. But I think you've laid out 7%-9% revenue CAGR, 10%-12% EBITDA CAGR.
Mm-hmm.
You know, or do you still feel comfortable if we were to, like, have that investor day again today, do you feel comfortable with those long-term growth rates that you have out there for revenue and EBITDA?
Yeah. We still gotta work through 2024, but.
Right.
I think over the long term, I think, you know, that's the goal is to be on that track for EBITDA growth. Plus, I think we've seen the worst of the headwinds on gross margins, and I think we've got a great opportunity to continue to leverage our operating expenses, so that would definitely be our target for the long term.
Okay.
Yeah.
All right. Trying to even figure out how to even manage these last two minutes. We've got, you know, you have an activist investor. You have Apple. You have, you know, some corporate governance and board updates here recently. I really could go on either of these for probably 10. You know, maybe on Apple. We're waiting on Biden for, you know, to basically make a decision to weigh in on this recent U.S. ITC decision. You know, Apple's already said they're gonna appeal to the federal court. I guess, do you have a sense on whether or not they're going to get their stay that they're gonna try and get to make sure they can still sell the Apple Watch even while that appeals process is going on?
Still a lot of back and forth with the attorneys. You know, a lot of things I'm not even privy to. So, you know, there's 60 days under presidential review that'll take us, I think, to December 26th, and we'll know a lot more then. You know, what we're trying to understand is, you know, what has Apple done to work around, you know, removing the infringing technology? We don't know that. I don't know that. But then, you know, you move forward to December 26th, and as long as there's no veto by the president and either president supports the decision by the commission or does nothing, then that ban would go into effect unless they have some stay that comes in place. But still a lot to it. It's hard to speculate on that right now.
Are you anticipating Apple to have some kind of workaround? I mean, that's, I don't know. I can't.
Okay.
I can't answer that question. But, you know, that's what we're trying to understand. Okay. All right. I guess last 10 seconds, we can go over maybe a 30 seconds. I know because I was running a little bit late. I know you're working through the 2024 budgets. But if we're sitting here, again, a year from now at this conference next year, I guess, how would you expect the business to be different? What and.
Mm-hmm.
Or sorry, the same, what's different, what's gotten better? You know, just maybe a forward-looking view.
Yeah. I mean, I think we'll see the underlying growth of our healthcare business come back and, you know, be fully visible next year. I think we'll.
Mm-hmm.
We'll see the strength of that coming back, and I think we'll start to see the right progression on gross margins. There's been a lot of focus on that as well as cash flow and inventory and things that have been challenging over the past few years. You know, but I think gross margin improvement, expansion, and hopefully we'll start to see some very good traction on some of those consumer health products that we're launching.
All right. Great. Well, thanks so much for being here. I know we're out of time. You know, Micah, Eli, so much for making the trip. Everyone in the room, thanks for your attention. Thanks and join me in thanking Micah and Eli.
All right. Thank you.
Thanks, guys.