Avanos Medical, Inc. (NYSE:AVNS) Q4 2023 Earnings Call Transcript

Avanos Medical, Inc. (NYSE:AVNS) Q4 2023 Earnings Call Transcript February 20, 2024

Avanos Medical, Inc. misses on earnings expectations. Reported EPS is $0.32 EPS, expectations were $0.37. AVNS isn’t one of the 30 most popular stocks among hedge funds at the end of the third quarter (see the details here).

Operator: Good day and welcome to the Avanos Fourth Quarter and Full Year 2023 Earnings Conference Call. All participants will be in listen-only mode. [Operator Instructions] After today’s presentation, there will be an opportunity to ask questions. [Operator Instructions] Please note today’s event is being recorded. I’d now like to turn the conference over to Scott Galovan, Senior Vice President, Strategy and Corporate Development. Please go ahead.

Scott Galovan: Good morning, everyone and thanks for joining us. It’s my pleasure to welcome you to Autodesk’s 2023 fourth quarter and full year earnings conference call. Presenting today will be Joe Woody, CEO; and Michael Greiner, Senior Vice President CFO and Chief Transformation Officer. Joe will review our fourth quarter and full year results, the current business environment, as well as provide an update on our transformation efforts. Michael will share additional details regarding these topics and our 2024 planning assumptions, we’ll finish the call with Q&A. The presentation for today’s call is available on the Investors section of our website avanos.com. As a reminder our comments today contain forward-looking statements related to the company, our expected performance, current economic conditions and our industry, no assurance can be given as to future financial results.

Actual results could differ materially from those in the forward-looking statements. For more information about forward-looking statements and the risk factors that could influence future results. Please see today’s press release and the risk factors described in our filings with the SEC. Additionally we’ll be referring to adjusted results and outlook. Press release has information on these adjustments and reconciliations to comparable GAAP financial measures. Now I’ll turn the call over to Joe.

Joe Woody: Thanks Scott. Good morning, everyone and thank you for joining us to review our operational and financial results for the fourth quarter and full year 2023. Net sales for the fourth quarter were $173.3 million impacted by the company’s hyaluronic acid pain relief injection products as a result of continued pricing pressure due to the Medicare reimbursement changes and lower than anticipated sales across the company’s North America digestive health products due to a major distributors ordering pattern change. Net sales negatively impacted our margin profile. However, we were able to mitigate some of these top line challenges through our transformation initiatives and deliver $1.03 of adjusted EPS with adjusted gross margins of 59.1% and SG&A as a percentage of revenue of 43.3% for the full year.

For the fourth quarter, we delivered adjusted gross margins of 58.6% and SG&A as a percentage of revenue of 38.9%. Separately we remained focused on reducing our backorder and ended the year with less than $2 million back order. And we have continued to reduce this through our first two months of 2024. This is a significant improvement over last years back order loans of over $10 million serving as tangible proof that our supply chain organization is executing effectively on its transformation initiatives. As we have consistently communicated since I first presented our transformation plan at the January 2023 JPMorgan Conference, 2023 would be a bit uneven given the transformation priorities, the realignment of our commercial organization, M&A execution and our other portfolio optimization activities.

But we are continuing to make steady progress against each of our transformation priorities. And as always our primary focus is on getting patients back to the things that matter as we meet the needs of our customers. As I just noted, our sales from continuing operations during the quarter were approximately $173 million, adjusted for the effects of foreign exchange and the impact of our strategic decision to discontinue revenue streams that did not meet return criteria specified by our portfolio transformation priority. Organic sales were down 4.5% compared to a year ago. For the quarter, we generated $0.36 of adjusted diluted earnings per share and about $32 million of adjusted EBITDA from continuing operations. For the year, our sales from continuing operations were above $673 million, adjusted for the effects of foreign exchange and as I mentioned, above the impact of our earlier strategic decision to discontinue revenue streams that did not meet our return criteria.

Organic sales were down 0.3% compared to a year ago. We delivered adjusted diluted earnings per share of $1.03 and adjusted EBITDA of $99 million. Although we are disappointed with our fourth quarter sales results, we were pleased with our overall execution which was driven throughout the year by our three year transformation priorities. This performance gives us confidence in our ability to be within the range of the 2025 financial targets we established last year during our Investor Day. Now, I’ll spend the next few minutes discussing our results at the product category level. As we mentioned during our third-quarter earnings call, we anticipated that our digestive health business would have a tough comparison in the fourth quarter given the release of backorder products in the fourth quarter of last year.

Additionally, as we have noted, we experienced distributor inventory rebalancing in the fourth quarter. As a result, our digestive health portfolio grew 3% in the fourth quarter on a constant currency basis below our full year trending. Our core portfolio continues to overperform globally growing double digits compared to the previous year, driven by the sustained expansion of our US contract standard of care offering. Separately, our new unit product line delivered another robust quarter growing mid-single digits sequentially, but faced a tough comparison as the previous year benefited from the node backwater relief and was flat year over year. Despite lower than anticipated sales in our fourth quarter, we are extremely pleased with the full year performance of our digestive health portfolio, growing double digits globally, excluding the slight negative impact of currency.

We continue to anticipate mid to high single digit growth organically for our digestive health portfolio and our ability to deliver above market growth will be supported by innovations we plan to launch during the back half of the year, expansion into additional global markets with attractive growth prospects and low growth product rationalization. Now, turning to our pain management and recovery portfolio. Sales for this quarter were down approximately 12% excluding the benefit of DRS. related sales, the impact of foreign exchange and our previously announced strategic decision to discontinue certain low growth low margin products. As previously communicated, our HA portfolio was the main contributor to the decline, primarily as a result of continued pricing pressure due to Medicare reimbursement changes.

We anticipated and communicated near term volatility along with the sequential and year-over-year quarterly declines. However, the impact in the fourth quarter was greater than anticipated. That being said we believe we have the right strategies in place to capitalize on our HA growth opportunities over the long term. Some benefits of which will be seen in the current year, meaningfully slowing the pace of decline in that portfolio. Our overall surgical pain business was flat sequentially with our combined ON-Q and IT portfolio growing 13% versus the third quarter. These are early signs that our new go-to-market strategy and structure for this part of the portfolio supports our low single digit growth expectations for 2024. Similarly, our IVP portfolio showed sequential gains posting 10% growth versus the third quarter, excluding the positive impact of Diros revenue as supply constraints alleviated in the latter part of the fourth quarter.

We are encouraged by the double-digit growth seen in IVP generator sales in the U.S. this quarter versus the prior year, driven by our renewed ambulatory surgical center strategy and fully deployed sales structure. Our Game Ready portfolio performed very strongly in North America achieving double-digit growth compared to the prior year boosted by capital sales. The favorable performance in North America was offset by a decline in international sales due to transient registration delays. Finally our newly acquired Trident product line has produced results in line with our expectations. Upside opportunities were limited in the fourth quarter as we scaled up manufacturing capacity in our Toronto facility to support our growth objectives including capitalizing on our U.S. market launch which kicked off in November of last year.

For the full year sales of our pain management and recovery portfolio were down approximately 11%, excluding the benefit of Diros revenue, the impact of foreign exchange and our previously announced decision to discontinue certain low growth, low-margin products. As previously shared, this decrease was primarily driven by our HA portfolio down almost 35% year-over-year. While we are disappointed by the decline in performance in our pain management recovery portfolio in 2023, we are encouraged by the progress we saw in the second half of the year. In particular, the organic sequential improvement in our fourth quarter that I just highlighted reinforces our expectation of mid single-digit growth for 2024. Again this expectation excludes HA, which we anticipate decreasing approximately 20% in 2024 versus 2023.

Now moving to our 2023 to 2025 transformation priorities and efforts. As a reminder, we have four-key priorities for the next two years that will optimize our go-to-market opportunities and meaningfully enhance our financial profile. These priorities are strategically and commercially optimizing our organization, transforming our portfolio to focus on categories where we have attractive margin profiles and the right to win, taking additional cost management measures to enhance operating profitability, and continuing our path of efficient capital allocation to meaningfully improve our ROIC. As you can see, we’ve made substantial progress against our transformation priorities. We’re particularly excited by our commercial optimization and portfolio transformation accomplishments, which I’ll review now.

Later in the call, Michael will discuss the other transformation priorities, he is leading in his role as Chief Transformation Officer. In 2023, notably, we made significant leadership and go-to-market changes to improve our commercial effectiveness, executed the acquisition of Diros Technologies, as well as the divestiture of our Respiratory Health business, exited low-margin, low-growth product categories, and delivered double-digit growth across our DH portfolio. While we’ve seen improvements in our pain business that accelerated between the third and fourth quarter, we remain about two quarters behind our original sales expectations, as I shared in January at the JPMorgan Conference. This two-quarter delay is due to the pain commercial reset necessary to address the breadth of strategy structure and talent changes in the pain business.

Although, it is taking longer. Supply chain challenges impacting product availability slowed the ability of our commercial teams to execute on the new go-to-market strategies. The sequential sales improvements I just referenced to give us confidence in our strategies as we move forward into 2024 and include the following. Our Surgical Pain business has reversed several years of decline to flattish results in the back half of this year, supporting low single-digit growth in 2024. Our US Trident RF launch exceeded our expectations and we were able to maintain double-digit growth in our US — our OUS markets. Our Game Ready business returned to growth due to renewed focus on capital sales and international expansion. We’re seeing tailwinds from COOLIEF reimbursement OUS, including the UK and Japan.

We’ve addressed most of our supply and quality issues which has given confidence to our commercial team. We’ve established programs to help stabilize the HA business in the second half of 2024. While 2023 was a year of transition and transformation we believe we established a foundation that will yield dividends in 2024 for our pain management and recovery business to gradually return to sustainable mid single-digit growth over the mid to long-term. Now I’ll turn the call over to Michael who will provide further insights into our fourth quarter and full year financial results.

Michael Greiner: Thanks, Joe. From a continuing operations standpoint for the fourth quarter and full year, net sales were $173.3 million and $673.3 million, while adjusted gross margin was 58.6% and 59.1%, respectively. We generated $0.36 of adjusted diluted earnings per share during the quarter and $1.03 for the year. Adjusted EBITDA in the fourth quarter was $32 million and $99 million dollars for the year. For the year, we generated $15 million of actual free cash flow which included onetime cash outflows of $10 million to settle an outstanding litigation during the fourth quarter and approximately $33 million of restructuring expenses related to our transformation efforts as well as our RH divestiture. As I just noted adjusted gross margin for the quarter was 58.6% which is slightly favorable compared to the third quarter.

We previously expected gross margin above 60% in the fourth quarter. However, with the nearly $4 million underperformance in our HA business combined with the lower sales in our North America pain management and recovery business, our mix unfavorably impacted our fourth quarter gross margin. In the fourth quarter SG&A as a percentage of revenue stood at 38.9% reflecting a sequential improvement of 270 basis points and marking the fourth consecutive quarter of disciplined spending. As you know this is part of our ongoing journey to further enhance our financial profile with continued improvements in 2024 ultimately leading to our 2025 goal of between 38% to 39%. These improvements are driven by reduced headcount, third-party cost savings and business process optimization to name a few.

Overall for the year adjusted EBITDA margin improved to 14.7% compared to 13.3% in 2022 and 140 basis point increase year-over-year. Now turning to our financial position and liquidity. Our balance sheet remains strong and continues to provide us with strategic flexibility with $88 million of cash on hand and $168 million of debt outstanding as of December 31. We have maintained bank debt leverage levels of onetime or less over the past eight quarters and will continue to be good stewards of our balance sheet. As we have noted in the past, we will look to deploy capital against both strategic M&A that meets our returns criteria as well as opportunistic share repurchases. We repurchased a total of $15 million worth of shares during the second half of 2023 leaving us $10 million of buying power for additional shares that can be repurchased under the current Board authorization.

Finally, from a free cash flow perspective going forward we anticipate approximately $20 million of capital expenditures annually, while seeing meaningful improvement in working capital primarily through inventory reduction in both 2024 and 2025. As Joe noted earlier, we made meaningful progress in 2023 against our transformation priorities including product portfolio rationalization, the divestiture of our Respiratory Health business, the acquisition of Diros, repurchasing of shares, organizational changes and meaningful cost management initiatives. As a result of these, we established a solid financial framework to build towards our 2025 goals, which I will touch on again in a few minutes. But first, let me highlight our 2024 planning expectations.

As already announced, we expect 2024 revenue in the range of $685 million to $705 million in line with our target of mid single-digit organic growth. Separately, we expect our adjusted gross margin to range between 59.5% and 60.5%. And our SG&A as a percentage of revenue to be between 41% and 42% for 2024. Those financial metrics support, an adjusted diluted earnings per share between $1.30 and $1.45 for the year as well as adjusted EBITDA margin improvement of at least 200 basis points. As I mentioned earlier, we are excited about our transformation journey and I’m confident we will improve on each of these metrics as the year progresses. With the first quarter starting off slow and accelerating in the back half of the year similar pacing to what we have experienced in 2023.

With regards to specific execution of our 2024 transformation priorities, we are maintaining a sharp focus on our digestive health and pain management and recovery business strategies as Joe just described, executing on additional business process efficiency and cost management initiatives. And we’ll seek opportunities to allocate capital that enhance our overall return on invested capital. Year two of this transformation journey is critical to ensure that we can deliver on the 2025 financial metrics we outlined on Investor Day, which included consistent mid single-digit growth that will take our organic revenue to approximately $750 million in 2025. Overall margin expansion of between 400 and 500 basis points supported by gross margins surpassing 60% and SG&A as a percentage of revenue being between 38% and 39% and free cash flow generation of approximately $100 million in 2025 supported by these operational financial metrics consistent CapEx spend and meaningful improvement in working capital.

We still anticipate consistent mid-single-digit organic growth for 2024 and 2025, albeit this growth rate will be off a lower base due to the decreased sales in our ag business that we have already discussed. That being said, we remain confident in our ability to achieve the other components of a 2025 financial profile as a result of the progress we are making against our overall transformation priorities. Operator, please open the line for questions.

See also 11 Best Big Name Stocks to Buy Right Now and 20 Best Divorce and Child Custody Lawyers in New Jersey.

Q&A Session

Operator: Thank you. We will now begin the question-and-answer session [Operator Instructions] Today’s first question comes from Daniel Stauder with JMP. Please go ahead.

Daniel Stauder: Yes, great thanks. First question for me. You’ve commented that M&A is still very important pillar but just wanted to ask with the recent updates you gave earlier this year as well as in this call, do you feel you have to wait a little bit for some stabilization before committing to acquisitions. I know you commented that share repurchases will also be a big part. Just any thoughts on how you’re looking at M&A in 2024. That would be great. Thanks.

Joe Woody: Hi, Daniel this is Joe. We thank you for the question. I mean obviously we’ve kept a really strong balance sheet and our leverage extremely low in this environment. That said we do think we’ll conduct some sort of a bolt-on this year. And like we have in the past, we have enough capability inside to onboard these well and to get this integrated. So I don’t see it attracting really from us being able to deliver our plan, or actually do some of the share back buyback, if we so choose you know, as we as we progress. So for pipeline, we still have to make sure we’re executing in particular on the strategy around that just developed.

Q – Daniel Stauder: Great, and then just one follow-up on some of the HA business. You talked about it a bit as well as some of the programs, you’re implementing to stabilize that part of the business. But just any more thoughts on what gives you confidence in getting this to level out, or any macro color that you could give that we should think about throughout 2024 would be pretty helpful. Thank you.

Joe Woody: Yes. So, a couple of things. One is, we have been maintaining a disciplined price strategy purposely and strategically and we do know that ultimately some of the specialized reimbursement for a couple of companies where people are going, because they can make more money and making decisions that way customers that’s going to go away as you sort of end of the year, we think we can also do some things with market access to some of the commercial programs and cross selling initiatives that we have, and there are new markets as well for us that we think that we can achieve. So again, what we believe will happen. This is a strategic area for us, because of the focus on orthopedic pain and recovery and it fits nicely into our channel — has great gross margin. We think it’s a low single-digit grower, once we make our way through this year.

Q – Daniel Stauder: Great. Thanks very much.

Operator: Thank you. And our next question today comes Rick Wise with Stifel. Please go ahead.

Q – Rick Wise: Good morning, Joe. Hi, Michael. Joe, to keep pushing on the HA side of things, but I wanted to make sure I better understood your thinking, about the potential for stabilization. I appreciate what you said about your strategy and your discipline, but maybe talk to us a little more depth about you talked about some of the commercial team sales changes. And did I hear you correctly, you’re thinking that in the second half of this fiscal year, we’re going to see the business stabilize or return to growth. I want to make sure I understood what you — what you were saying there.

Joe Woody: Sure, I see stabilization toward the end of this year towards the end of 2024. I see growth possible in 2025 and again, sort of the obviously the big target volumes have sort of somewhat remain about where they were. And so the — it’s really the price affected by the Medicare changes that’s really hurting the business and in particular I think everybody’s fighting, a little bit with that. In some cases a couple of competitors have specialized pricing that’s going to go way up the middle of the year, and that creates more of a level playing field. And so we think with the customers, that will be also selling to in terms of Game Ready and really frankly, our Surgical Pain business and our Diros business that we’re going to be able to get this to more of a low single-digit grower, as we get into 2025.

And I can see it based upon some of the progress, some higher, some of the programs and the traction. But at the moment, we’re also protecting our price for the longer term.

Michael Greiner: Dosing to consider, Rick, is that volumes, although different in three and five and how these have developed over the last year, three shot and five shot, they have been relatively stable. The majority — heavy majority of the revenue decline has been due to pricing. So, the volumes to remain stable, and we can get pricing into a more stable environment, which we believe will happen, as Joe just mentioned, in the back half to exiting 2024, then we have something to build on going into 2025.

Joe Woody: One of the things, too, Rick, that we said at the JPMorgan conference was that we can achieve the mid-single-digit organic to the total global company with this type of decline in HA and still achieve mid-single-digit growth in the other parts of the Pain business on a global level. So, we feel good about that portion of it as we manage through, quite frankly, is a tough aspect with the HA piece.

Rick Wise: Got you. On operating margins, if I’m doing my math correctly, sales and EPS guidance midpoints imply operating margin something like 14% for the full 2024 year. Maybe could you all help us think through, how that’s likely to set up for the first half versus the second half? In the past, you’ve started typically with operating margins more in the high-single-digit range. Is that the right way to think of all that to think about 2024, Michael?