Let's go ahead and get started here as we power through the morning and afternoon. My name is David Lewis, Medical Device Analyst here at Morgan Stanley. It's before I begin, please go to the Morgan Stanley Research website and see Morgan Stanley Research disclosures to find fun, friendly facts about me. You can also get that information on our registration desk. So it's my pleasure to have with us here members of management of Teleflex, both Benson Smith, the CEO and Tom Powell, the CFO.
And Benson has kindly said no preamble for him. So we're going to jump right into Q and A. I think let's jump, Benson, right into the principal debate. I think you've mapped out a plan at last Analyst Day for sort of three fifty to 400 basis points of expansion by 2018. But we've already seen sort of a lot of progress on that front.
I think you've I think in the announced restructuring programs, get my math right, you sort of have two forty to two ninety basis points of announced programs, but you came out and gave us another incremental piece, which is sort of another 60 basis 90 basis points of that. So it feels on the margin that you're making a lot of progress on that point. So help us understand the cost restructuring program you gave us initially and the progress you've made there since that point.
So I'm going to actually have Tom handle the margin questions. Sure, sure. So we feel very good about where we are from a margin expansion standpoint. I think the numbers you were citing referenced three programs that we've announced. In 2015, we announced a program to restructure some of our North American facilities and shared services.
And that program has largely been completed. In addition, in 2014, we announced a facility restructuring program. And I would say that that program is kind of in the middle innings of it. Then in 2016, we announced a second facilities reengineering program. And we're just getting started.
We don't expect to see much benefit from that program until the end of 2017 into 2018. So as we think about those programs, I'd say overall, they're kind of halfway through their life cycle. But I think the important point is that when we guided to 2018, that contained a number of programs. There are also a number of initiatives beyond that. And so we expect to be able to continue to drive margin expansion beyond the 2018 timeframe.
So there's more to come beyond that, but we feel very good about the guidance we had given on that initiative or those initiatives.
So from here, Tom, I think if you look at Street consensus number, I sort of want to talk about consensus in reality. If I look at where the Street number is, and we're a little ahead of the Street, we're perhaps sort of more bullish on numbers. There basically is the Street's kind of already at the sort of 3.5 to $4 number, if I'm kind of doing the math right. So it's almost as if the Street's already there, maybe the buy side expectation is sort of a little higher. So additional upside from here, if you take about where the cost has come from today and where it's going to come from in the future, where is there additional room?
Well, when we gave the initial guidance, we had only included the first phase of the manufacturing restructuring program. We since announced the second program, and that could be incremental. We said not to roll it in necessarily into the numbers quite yet as we wanted to have some cushion for the unexpected, but that's still out there and could be an upside to that initial guidance. In addition, we've got the potential for a third phase that we have not yet announced with our additional facilities that fit the criteria of the first and second. We just haven't gotten to that point as of yet.
In addition, we've got a number of additional initiatives out there that we're focused on. One that's fairly sizable, in fact, it's of similar scope as the initial footprint program and that's material substitution and product reengineering, where we're working products to take cost out. Additionally, we had not included additional direct distributor conversions. We had also not included additional M and A. So there's a number of avenues that we still have available to us to drive margin expansion beyond that guidance that we had provided.
And just to add a little color to that also is I think that assuming and we certainly have a high confidence level of this three fifty to 400 basis points, That still only puts us at the high 50s. And if you look at our portfolio compared to other competitors, they're well into the 60s. We continue to find, I think, additional opportunities for margin expansion as we uncover things in our own shop. And so we have certainly indicated that it doesn't end at 2018. I think that we introduced that, that there's some conservatism built into that number.
The most difficult thing for us to do is to have a lot of accuracy specifically around timing. So some of those things might happen sooner than 2018, which would create upside. Some of them would be post 'eighteen. But I think we have a high degree of confidence that it doesn't stop in 2018 or at the numbers that are currently out there.
Okay. How do you think your guidance kind of conforms to consensus to a certain extent? I mean, you obviously are on pace to do 55% gross margins this year. Benson, you talked about where you think roughly this guidance or LRP gets you. I mean, do you feel like it gets you kind of to a 57% gross margin, 28% operating margins by 2018?
I mean, how do you think about gross and operating margins through the LRP?
Well, we certainly have gotten off to a good start this year. Our gross margins are up aligned, perhaps a little bit ahead of our initial expectations internally. And we had guided for a gross margin of 54% to 55% this year. So we feel very good about that. What we've talked about over the longer term is an increase of three fifty to 400 basis points by 2018.
And we feel as if we're on track for that. We had talked about a ratable increase throughout the time frame. So I think that's probably the best way to think about what the potential is for the next couple of years.
I think the other point is that we obviously get this the questions you're asking, on some repeated basis. And initially, we had a five year goal that we didn't comment much on in the interim in terms of changing the goal or changing our expectations. We have put out a shorter time frame here and I think are very much leaning towards more of a rolling forecast. So I don't think we're going to wait until 2018 and then announce the next set of goals. I think we'll try and bring this forward with more clarity about what 2019 is going to look like and then what 2020 is going to look like when we are in a position to be able to do that.
So we can provide a better sense in terms of not just the confidence for 'eighteen, but what the next couple of years looks like.
Do you think more of a it's a three year rolling LRP? Or how about would you give a three- and a five year view?
So I think what we learned last time was five years is a long time. A lot can happen to influence particularly the operating margin, the medical device tax being one of them. Certainly, by 'seventeen, we'll probably by the end of 'seventeen or middle of 'seventeen, we'll have a good idea whether the medical device tax is likely to be renewed or done away forever. So I think it's more of a rolling forecast as we have visibility into it, and it may not be year for year. Sometimes we have more clarity for a couple of years, and sometimes that clarity is a little bit more shortsighted.
But I don't think you're going to wait until 'eighteen to find out what 'nineteen is going to look like.
Okay. Is the appropriate time to do that when you provide guidance for 'seventeen?
If not, then I think it's not unlikely that we would have an analyst meeting sometime in 2017. That may be a more appropriate time. I think it's always true that the closer you are to the event, the more visibility you have to it. So I think our certainty around what it's going to look like is more of the driving factor than the calendar.
Okay. So it's pretty clear that investors have taken. It took a long time of good execution to get there, but the investor base has clearly shifted to a long term view. Mean, no one's betting on 2016 earnings. Everyone's betting on 2018 through 2020 earnings.
So Benson, your sense of terminal margins, you gave us some sense of where they're terminal at the gross margin level. It sounds like 60% is a reasonable long term aspirational goal. Is that generally consistent with how you see things?
So I think there's certainly plenty of room beyond the numbers we've put out for 2018. And I think my only reluctance to try and quantify it at this point is that we're still not sure to the extent that it could be much improved. We continue to look at things like material substitution and find additional opportunities. Obviously, we did not include the benefit of any scale acquisition. And I think it's very unlikely that over that planning period, we don't have another scale acquisition.
It's hard for me to believe that that's not going to be accretive to our gross margin. So there's just enough things that aren't in those numbers that I think can be upside of certainly where even where we think that could be, depending on what happens. Look at the slope
of the trajectory. You said before, I mean, it's been a little jagged. The path has been jagged, but it's still sort of been making higher highs. Do you feel that the visibility is better now than it was eighteen months ago and that the curve investors from margin expansion gets a little smoother?
So not necessarily. I think our longer term numbers have enough conservatism built into them to allow for the so everything doesn't have to go perfect to get to those numbers. Shorter expectations tend to be in a much narrower range and can be impacted more by even a little volatility. Do we have a recall one quarter or not have a recall? Is there a collapse of the oil markets?
Those kinds of things, I think, would be naive for us to think aren't going to continue to happen. So there's I think we feel a lot more comfortable about the longer term numbers because there's enough conservatism and leverage to pull almost no matter what.
Okay. So it's always hard to figure out what's in consensus. But I think if I would talk to 100 investors two years ago, I think there'd be virtual certainty, which tells you how much virtual certainty is worth, that you would have done a deal in the last twenty four months. And you haven't done a deal. We haven't seen a VitaCare a VitaCare esque deal.
And I wonder, to a certain extent, because you're having so much success on margins, are you less inclined to do these deals, less inclined to chase a transaction because the margin story is coming together?
Well, I think what's true in the past was we chased things that were really attractive to us. And I think we've got a pretty tight criteria of what is attractive to us. And it's that appetite has not lessened at all. I do think that we don't feel the necessity to do a deal just to solve other problems within our portfolio, and that may provide us a little bit more pickiness. But we were, quite frankly, picky before.
And I think that investors can do two things. They can expect us to be serial acquirers over the next decade. And I think they can expect us to be prudent about what we buy. And not everything is going to be a VitaCare, but we hold ourselves to a pretty high standard in terms of what we're willing to buy.
Okay. And in terms of range of outcomes here, you said about a year ago, you kind of took up incrementally the size of deal you would look at to, I think, around $700,000,000 Does that still define kind of the ceiling of sorts to the average deal you're looking at?
So it's a little bit of how much time goes by before we do a deal. We're obviously building up cash. We've continued to delever considerably. And I think the commentary at the time was designed to at least let the investment banking community understand that whereas previously, we sort of said $250,000,000 to $350,000,000 is about our limit, to open up their expectations that we would be certainly willing to look at and purchase something higher. And just the way things work, there's a property for sale, the investment banker is going to take it to the two or three companies they think are the most likely to buy it, maybe four.
They're not going to put out a bulletin.
Put out how that works.
Yes. They're not going to put out a billboard that the asset is for sale. So we wanted to definitely start being included in deal size at that level. We still have more of a favoritism towards limited product offerings within the company. VitaCare and LMA both were largely one product sort of categories.
They're easier to integrate. They're easier to sell. It's easier to train your sales force. There's not that mix of good, bad and ugly contained within those kinds of companies where there can be with the multiple product lines. So we still favor that.
And there are some assets out there that are in that 500 to $700,000,000 purchase price that still combine that. Okay.
Tom, if you think about this year, we talked a lot about long term margins, and sounds like you're relatively bullish. In terms of this year, your confidence you get to the 55%, last year, we had a little bit of disconnect at the end of the year. I mean are there factors, headwinds that could prevent you from getting to the 55%?
From a gross margin standpoint, what we've spoken about publicly is a range of 54% to 55% for the year. Obviously, we've gotten off to a good start. First quarter, I think we're at 53.6%, 55% than in the second quarter. And we feel good about getting to that range of 54% to 55 on a full year basis. So 55% is the upper end of that range.
We'd have to perform exceedingly well in the back half of the year to get to that level.
Okay. For the average year, but obviously finishing the year certainly. The commentary may have been finishing the year at 55% and being 54% to 55% for the year.
So we typically finish with a strong fourth quarter just given volume leverage and other factors. So we that's a good estimate for how we finish the year.
And in the whole year, I feel like there's been some conservatism around this notion of currency. And still, by our math, depending on the spot rate, I still feel like you're sitting on zero five zero one zero of currency upside, certainly a $0 maybe not a dime. Do you kind of generally jive with that view there's still about $05 of cushion in the number from a currency perspective?
Based on how we projected the euro, I would say that if the euro stated stays spot rates, would be about right from an upside into our forecast. Now with that being said, there's always puts and takes. There's pluses and minuses. And over the past couple of years, we've seen a number of shocks, whether it's the oil shocks or currency going the other direction. And so as we look at the forecast, there's always an upside, and that sometimes offsets some of the negatives.
So we still feel good about the guidance we've put out there. And I wouldn't necessarily take that FX upside in the back half as something that could be incremental.
I would add to that, that we are particularly enthusiastic about our product pipeline right now. I think that it's that some of the products we've discussed publicly, some are still yet to be discussed publicly. And some of them are going to require some investment to really get seeded properly. Percuvance is a good example. It's going to be a surgeon by surgeon You have to have a tech stand in the first several cases.
Then you have the process of going through a value analysis committee. So this isn't going to be an instant revenue generator for us. We want to be in a position to be able to appropriately support that, especially as we get really better and better news about the clinical enthusiasm around the product. So I think to Tom's point, even if that cushion materialized, there we may find other things that we think are in our best or better long term interest to make some investments around.
So you're like my straight men. You've been here a lot of years. So I want to talk about growth, and let's transition to the growth story for this year and into the next year. Look, the message at this conference so far has been one of stability. Most companies are guiding to kind of comp adjusted stability.
Based on how your year plays out and consistent with your guidance, you actually are one of the few companies modeling for comp adjusted acceleration into the back half of the year. And then optically, actually, the model, it looks tough to get to unless you have this sort of underlying momentum. So based on your guidance, so why are you so comfortable that you can get this kind of comp adjusted acceleration into the back half?
So I think if you look historically, we've had really strong fourth quarters. And so that is I think that's probably the biggest single factor. And it's often hard even in the middle of fourth quarter to completely size what it's going to look like. I'll go back to 2013. We were in an analyst meeting on December 17.
We lowered our guidance and then two weeks later blew out the original number by a considerable margin. Last year, we had a really whopping fourth quarter. There are several underlying reasons for that being the case. But I think if we were sitting here last year at third quarter, there would have been certain reasonable skepticism about our hitting the numbers last year as well. So we do tend to have a lot riding on a strong fourth quarter.
Okay. So sorry, is that there's two different ways I could have read that commentary. Still feel very good about the momentum into the fourth quarter.
I would Or
you're saying some stuff can fall out of the fourth quarter into the first quarter next year, and it's not that big of a deal from a long term strategic perspective?
So I would say what we are observing at the underlying hospital level looks quite positive. I think that we're seeing stability come out of Europe, which is a good sign. So to that extent, I think that we have lots of reasons to believe that the same things that occurred in fourth quarter last year are going to occur again this quarter. But I'll go back two weeks ahead of time. We don't always have the best short term visibility.
Okay. Understood. One of the products that I won't call transformational, but a product you keep on coming back to is obviously Percuvance. I mean talk about where we are in Percuvance development, how big you think that market is. But if there's one product that can sort of change the debate of this trajectory of the rate of growth profile, it's got to be Percuvance.
So why are you so bullish? What is the market opportunity? And what's the trajectory?
So just in a three year perspective, we have put negligible volumes in our three year stated numbers. So I want to make it clear that to hit that 5% to 6% growth, we're not depending on a lot of Percubance volume. So we think it's has a lot of upside to it in that time frame. The clinical response we're getting to it is extremely positive. We have now taken it to the level of moving it through valuation committees at the hospital level.
About 90% of those that have gone to these committees have come through. We think the task will get a little easier to get the next surgeon through the committee and the next surgeon after that. The clinical or the enthusiasm is really built around that this is much easier to use than what they might have thought when they first just looked at the video, that it's pretty much the same way they've been doing the surgery. They get into patients sooner because they don't have to put those trocars in. They get cleaned up faster because they don't have to sew up the trocar incisions.
And it provides them more flexibility. And we're hearing this over and over again. And then it's the instrument itself, the rigidity of the shaft, the working nature of the graspers and the scissors are quite good. So we're getting really good marks. Now this is still at the age of early adapters.
It's going to be by the middle of next year before we start to roll this out in any meaningful way to kind of rank and file surgeons. And I think our intention is to provide continuous updates in terms of what the look is and what the adaptability curve is. When we made original estimates, and then again, these aren't the estimates that are in our three year plan. We were expecting that this should take about 25% of the non robotic laparoscopic market. In The U.
S, that's about 4,000,000 procedures a year. This has a sale price per procedure between 300 and $400 So that equates to something like a 300 to $400,000,000 market in The United States. When we get there, we'll have a better idea of if we can get there and what the timing might be to get there as we start to roll this out more. On top of that, we're seeing our early success in Europe. So that's not in those numbers.
So I think it's fair to say that we haven't had anything in that in our product pipeline that even comes close to those kinds of numbers and one of the reasons that we're enthusiastic about it. We do want to have a little caution about it because not everything turns out as you expected. And in this particular area, single site incisions was one of those things that looked like it had enormous potential and didn't do well. All the signs we're seeing right now lead us to be at least to believe it's very encouraging.
So remind us again of the 5% to 6% growth you provided at the Analyst Day, how much of that comes from the pipeline? And how much of that is Perky Events?
So are you talking this year or the three year plan? The three year plan. So our new product numbers ramped up from where they are to above 2% for the majority of that planning period. Not much of that is coming from Perkivance. We have Protector, which is another product that we think is going to do well.
And then there's a host of smaller products also that are released. So, whether or not it turns out that way may not interfere with the 5% to 6% because some of those products are cannibalizing other products. So if the new product sales are a little less than what we anticipated, we still have the original product we're selling into the hospital, and that will show up into volume instead of new products. Okay. So you talked a
lot about three year plans, and you've recently made some senior level management changes. You promoted Liam to President of the business, I believe. So how should investors be thinking about the three year plan and whether you're going to be here through the majority of that three year plan? How should we be thinking about succession planning into next year?
So when I took this role, I was 63. I don't think either myself or the Board envisioned that this was going to be a normal CEO fifteen year assignment. And I for that reason, I thought it was imperative that we start thinking about and working on succession right away. And so and not just myself, but also the division presidents, a really strong bench to be able to take over. And I would say the one thing that I'm quite comfortable now is we have that bench in place.
I think the product pipeline and our management team is exceptional. And my plan is to exit when I won't be missed.
Okay. That's big of you. Do you think we get an update on succession plan at the Analyst Day next year? Is that a reasonable way of thinking about it?
Well, I'm getting older every day. So
That's a truism. Okay. Fair enough. We'll leave it at that. The other area of acquisitions that's sort of not classically inorganic is this whole notion of distributor direct conversions.
You're one of the few companies that sort of talks about it this way, but you have such a robust opportunity for Distributor Direct, it's kind of worth talking about. So this is the idea of basically going direct from an indirect distributor. You're buying those assets. And you've had a lot of success in doing so, which has driven growth and certainly price. Where do we sit now on sort of the total Distributor Direct business as a percent of Teleflex revenue?
And not that, what's really the piece that actually can still be taken organically?
So we have about 9% of our total distribution that's going through that kind of distributor. So that's not an Owens and Minor or Cardinal in The U. S. That's that kind of selling distributor that is generally making a fairly significant margin, and these are all in foreign markets for us.
Just kind of like $150,000,000
In that, yes, so correct. There is onethree of that, that is extremely attractive to us and our interest in that onethree is quite high. There is a small portion of other distributors that we would have some interest in after we were able to execute on that because they would be additive in those same countries. We might not have the same distributors selling surgical products that are selling vascular access products. So before we're going to buy the smaller distributor, we'd be interested in having the larger distributor first, which is exactly what we did in Australia.
The remaining number are in areas we have limited interest in. So we don't want to go direct in The Soviet Union. We have no interest in going direct in the Mideast. We have no interest in going direct in some Latin American countries. So the and this is sort of a natural event that happens over time.
The reason we have the opportunity is because it was another thing that was just neglected at Teleflex where other companies would have done this years ago. So the cadence is a little hard to predict. I think it's going to be quite similar to what it's been over the last three or four years, but that's about the magnitude of where it stands. Tom, what's that worth from
a margin perspective? We take that $50,000,000 bring it in house, what's that do to the operating margin?
Well, we think that we've probably got about three points of growth overall from that, and it flows through pretty direct to gross and operating margin. So it's a pretty direct flow through.
I'm sorry, three points of growth over the LRP. Is that how you think about it?
Yes.
Vincent, what about this notion of size and scale? And can Teleflex kind of remain sort of an independent player? I mean bigger is better has been a theme that's been thrown out amongst some of your larger CEOs over time, and the supply assets have sort of been consolidated. How do you feel about your relative competitive position and whether the best path for Teleflex going forward is an independent
So first of all, I think we can't assume that someone's going to swoop in and buy us at a price that would be acceptable to our either our investors or to our Board of Directors. What's that price? If I told you, you'd see why we can't assume that someone's going to do that. But I think we have to and have crafted a very rational strategy as an independent company. And it really boils down to this notion of portfolio enrichment.
We want to be in as many product categories as we can where there's not a good substitute for us. We think that's the best protection. No matter how much business a hospital wants to do with Medtronic or with Johnson and Johnson, they want to buy a VitaCare, they're going to have to come with us. They want to buy a coated CVC catheter, they're going to have to come to us. If they want to buy Percuvance, they're going to have to come with us.
We also think from the perspective of continued price pressure, the higher percentage of our products that are in that category, the less subject we're going to be to have to succumb to pricing pressure in the marketplace. And the third area of that is we've deliberately tried to move most of our product into what we call difficult to postpone kind of event. So if there is rationing in Europe about a certain procedure, we're less likely to be influenced by that. Now I think that's going to do two things. If no one buys us, number one, that's the best strategy we have to pursue at our size to really be irreplaceable in many markets.
And that there's certainly an argument that says that could make us even more attractive to someone who's buying into the size and scale argument. I would say, personally, we're hearing it more from other companies than we're hearing it from GPOs or hospitals. So I'm not sure customers have completely bought into that.
Yes. We would agree with you. Unfortunately, we're out of time. Vince and Tom, thanks so much for being here. Thank you all