Stryker Corporation (NYSE:SYK) Q4 2022 Earnings Call Transcript

Stryker Corporation (NYSE:SYK) Q4 2022 Earnings Call Transcript January 31, 2023

Operator: Welcome to the Fourth Quarter and Full Year 2022 Stryker Earnings Call. My name is Tanya, and I will be your operator for today’s call. At this time, all participants are in a listen-only mode. Following the conference, we will conduct a question-and-answer session. This conference call is being recorded for replay purposes. Before we begin, I would like to remind you that the discussions during this conference call will include forward-looking statements. Factors that could cause actual results to differ materially are discussed in the company’s most recent filings with the SEC. Also, the discussions will include certain non-GAAP financial measures. Reconciliations to the most directly comparable GAAP financial measures can be found in today’s press release that is an exhibit to Stryker’s current report on Form 8-K filed today with the SEC. I will now turn the call over to Mr. Kevin Lobo, Chair and Chief Executive Officer. You may proceed, sir.

Kevin Lobo: Welcome to Stryker’s fourth quarter earnings call. Joining me today are Glenn Boehnlein, Stryker’s CFO; and Jason Beach, Vice President of Investor Relations. For today’s call, I will provide opening comments, followed by Jason with the trends we saw during the quarter, Mako performance insights and updates on Vocera and Wright Medical. Glenn will then provide additional details regarding our quarterly results and 2023 guidance before we open the call to Q&A. I will begin with the macroeconomic environment. 2022 was a year where we, alongside many companies, faced unprecedented supply chain challenges and inflationary pressures. We faced these challenges and delivered for over 130 million patients and for our customers all over the world.

We also remain focused on the future, as we progress our pipeline of innovation, enabling a super cycle of new product launches across our portfolio in 2023 and 2024. I want to thank our 50,000 employees for their unrelenting determination and agility. In the fourth quarter, we delivered organic sales growth of 13.2%, which brought our full year organic sales growth to 9.7%. During my 10-plus years in this role, these were record quarterly and annual growth rates. The growth was balanced across our businesses and regions in implants, disposables and capital equipment, and was highlighted by our Medical division, which had Q4 organic sales growth of over 25%. Additionally, for the fifth consecutive year, our international organic growth rate exceeded our U.S. growth rate, demonstrating the progress we are making on globalization.

This was highlighted by Europe, Canada, Australia and emerging markets, which all posted double-digit growth in the quarter. International growth remains a significant opportunity in the years ahead that should continue to complement our strong U.S. business. Next, we delivered quarterly and full year adjusted EPS of $3 and $9.34, respectively, exceeding our latest guidance range. This was driven by our strong sales performance, which offset inflationary pressures and negative foreign currency. Also, we are progressing with our actions to address higher costs, which include both pricing and targeted restructuring plans. We have begun to see the impact of these initiatives and expect an improving trend over the course of 2023. We also expect the positive trends in procedural recovery to continue alongside strong demand for capital products.

And while component availability will continue to be variable in 2023, we do expect that it will gradually improve throughout the year, lessening the need for spot buys. We will remain disciplined with our spend and we will continue to invest in innovation, including potential tuck-in M&A. We remain confident in the outlook of our business and expect to continue to deliver sales growth at the high end of med tech, which is reflected in our full year 2023 guidance of organic sales growth of 7% to 8.5%. This growth combined with the continued challenging macro emit environment, our pricing and cost actions will translate to an adjusted EPS of $9.85 per share to $10.15 per share. I will now turn the call over to Jason.

Jason Beach: Thanks, Kevin. My comments today will focus on providing an update on the current environment, as well as Mako, Vocera and Wright Medical. Procedural volumes continue to recover throughout the fourth quarter in most countries. Parts of Asia-Pacific, however, have continued to be more volatile due to ongoing COVID-related impacts. While volumes are recovering, hospital staffing pressures have continued in pockets around the globe and patient backlog remains. As mentioned on the Q3 call, these challenges will likely resolve gradually and we continue to expect this will be a moderate tailwind as we move through 2023. Additionally, demand for our capital products remained very healthy in the quarter, as seen from the double-digit organic growth of our Medical, Endoscopy and Instruments divisions.

Even considering our finish, we exited the year with a very strong order book. Next, specific to Mako, we had a record quarter of installations in both the U.S. and internationally. We continue to be agnostic to the form these deals take and will continue to offer flexible options for our customers to acquire capital equipment. The great progress of our Mako offense has resulted in strong growth of our installed base alongside continued increases in utilization. In the U.S., we saw approximately 55% of knees and almost 30% of hips performed using Mako in the quarter. Also, in December, we surpassed our 1 million cementless knee procedure with cementless knees continuing to index higher in make accounts. So in addition to being the leader in robotic-assisted surgery, we are also well ahead on cementless knee adoption.

Finally, we are making good progress with the development of our Mako spine and shoulder applications, and expect to have the initial launch of spine in the back half of 2024 and the initial shoulder launch at the end of 2024. Now to our key acquisition and integration activities, our Vocera integration continues to progress well, and as a reminder, we will anniversary in February of this year. Q4 results were consistent with our commentary on the last earnings call, as is the expected sales ramp beginning in Q2 of this year. Turning the page to Wright Medical, we have now passed the two-year mark of the integration of Wright Medical. This has been our largest acquisition to-date. Now complete, we have exceeded expectations on both our sales and synergy assumptions, as the cultural fit was strong and we implemented our integration playbook very effectively.

Additionally, it was a catalyst that drove the creation of three separate business units, allowing us to serve unique customers across core trauma, upper extremities and foot and ankle. All three businesses exited the year with terrific momentum and strong R&D pipelines. Overall, this acquisition has proven to be a great success and we are excited about what the future holds. With that, I will now turn the call over to Glenn.

Glenn Boehnlein: Thanks, Jason. Today, I will focus my comments on our fourth quarter financial results and the related drivers. Our detailed financial results have been provided in today’s press release. Our organic sales growth was 13.2% in the quarter. The fourth quarter’s average selling days were in line with 2021. The impact from pricing in the quarter was unfavorable by 0.6%. We continue to see a positive trend from our pricing initiatives, particularly in our U.S. MedSurg businesses, which all contributed positive pricing for the quarter. Foreign currency had a 3.8% unfavorable impact on sales, the supply chain disruption somewhat lessened during the quarter and our capital order book continues to be very robust as demand from our customers remains strong.

In the quarter, U.S. organic sales growth was 11.2%. International organic sales growth was 18.3%, impacted by positive sales momentum across most of our international markets. For the year, organic sales growth was 9.7% with U.S. organic sales growth of 8.9% and international organic growth of 11.7%. The impact from pricing in the year was unfavorable by 0.9% and 2022 had the same number of selling days as 2021. Our adjusted EPS of $3 in the quarter was up 10.7% from 2021, driven by higher sales and strict cost discipline, partially offset by inflationary pressures and the impact of foreign currency exchange translation, which was unfavorable $0.16. Our full year adjusted EPS was $9.34, which represents growth of 2.8% from full year 2021, reflecting the favorable impact of sales growth, lower net interest costs and a lower effective tax rate, partially offset by inflationary pressures and the unfavorable impact of foreign currency exchange translation of $0.31.

Now I will provide some highlights around our quarterly segment performance. In the quarter, MedSurg and Neurotechnology had constant currency sales growth of 19.3%, with organic sales growth of 16.9%, which included 14.9% of U.S. organic growth and 22.5% of international organic growth. Instruments had U.S. organic sales growth of 11.7%, led by double-digit growth in the Surgical Technology business. From a product perspective, sales growth was led by power tools, Steri-Shield, waste management and smoke evacuation. Endoscopy had U.S. organic sales growth of 9.7%, highlighted by strong growth in sports medicine, communications, video, general surgery and ProCare. Medical had U.S. organic sales growth of 22.9%, driven by our emergency care and acute businesses.

The growth was fueled by double-digit growth across our emergency care and Prime Structure businesses, and also benefited from improvement in product supply throughout the quarter. Our U.S. Neurovascular business had organic sales growth of 1.5%, driven by continued market softness and competitive pressures. The U.S. Neurocranial business had impressive organic growth of 19.7%, which included double-digit growth in our Sonopet iQ, Signature High Speed Drills, silver glide bipolar forceps and Max space Neuro product lines. Internationally, MedSurg and Neurotechnology had organic sales growth of 22.5%, reflecting double-digit growth in all businesses. Geographically, this included strong performances in Europe, Australia and emerging markets.

Orthopedics and Spine had constant currency sales growth of 8.3% with organic sales growth of 8.4%, which included organic growth of 6.2% in the U.S. and 13.6% internationally. Our U.S. hip business grew 11.3% organically, reflecting strong primary hip growth fueled by the recent launch of our Insignia Hip Stem, the ongoing success of the Mako THA 4.1 software upgrade and continued procedural growth. Our U.S. knee business grew 7.8% organically against a very strong Q4 2022 comparable of over 14%. This reflects our market-leading position in robotic-assisted knee procedures. Our U.S. Trauma and Extremities business grew 11.9% organically with strong performances across all three businesses, led by double-digit growth in upper extremities and foot and ankle, and strong performances in plating and nailing.

Our U.S. Spine business grew 0.5%, led by performance in our enabling technology business, including the recently launched Q Guidance navigation system. U.S. Other Ortho declined organically by 18.7%, primarily driven by the impact of deal mix changes, specifically more rentals related to Mako installations in the quarter. Internationally, Orthopaedics and Spine grew 13.6% organically, which reflects strong performances in Europe, Australia, Canada and India. Now I will focus on operating highlights in the fourth quarter. Our adjusted gross margin of 62.7% was unfavorable, approximately 310 basis points from the fourth quarter of 2021 and in line with Q3 2022, reflecting the impact of the purchases of electronic components at premium prices and other inflationary pressures primarily related to labor, steel and transportation costs, and unfavorable business mix.

Adjusted R&D spending was 5.5% of sales, which represents a 90-basis-point decrease from the fourth quarter of 2021. Full year adjusted R&D spending was 6.7% of sales, which was slightly higher than our 2021 adjusted R&D spending of 6.6% of sales. Our adjusted SG&A was 30.6% of sales, which was 150 basis points lower than the fourth quarter of 2021. This reflects the impact of increased focus on discretionary cost control and headcount discipline. In summary, for the quarter, our adjusted operating margin was 26.6% of sales, which was approximately 70 basis points unfavorable to the fourth quarter of 2021. This performance is primarily driven by the aforementioned inflationary pressures, primarily on gross margin and the negative impact, resulting from foreign currency exchange translation, somewhat offset by cost discipline.

Other income and expense of $53 million for the quarter decreased from 2021, primarily due to net favorable interest income. For 2023, we expect a quarterly run rate of $65 million for other income and expense. Our fourth quarter and full year had an adjusted effective tax rate of 13.8% and 14%, respectively, reflecting the impact of geographic mix and certain discrete tax items. For 2023, we expect our full year effective tax rate to be in the range of 14.5% to 15.5%. Focusing on the balance sheet, we ended the fourth quarter with $1.9 billion of cash and marketable securities, and total debt of $13 billion. Approximately $150 million of term loan debt was paid down in the quarter, which brings our year-to-date payments to $650 million. Turning to cash flow, our year-to-date cash from operations is $2.6 billion.

This performance reflects the results of net earnings, partially offset by lower accounts receivable collections due to higher sales at the end of the year, the impact of higher costs for certain electronic components and pre-buying of certain other critical raw material inventory during the year. For 2023, we anticipate that capital spending will be approximately $600 million. Again, in 2023, we do not plan to do any share buybacks and we will continue to focus on further debt reduction. And now I will provide 2023 full year sales and earnings guidance. As we assess the current operating environment, we believe that there will continue to be macroeconomic volatility, including supply chain constraints, recession and inflationary risks and currency fluctuations.

Despite this environment, we have positive momentum in many parts of our business heading into 2023, including continued procedural recovery, many new product introductions and a very robust order book for our capital products. Given the above, we expect organic sales growth to be in the range of 7% to 8.5% for the full year 2023 when compared to 2022. There are the same number of selling days in 2023 compared to 2022, with one extra day in Q1 and one less day in Q3. Based on the steady progress of our pricing actions, we would expect the full year impact of price to be between zero percent and minus 0.5%. If foreign exchange rates hold near current levels, we anticipate sales and EPS will be modestly unfavorably impacted for the full year, being more negative in the first half of the year.

This is included in our guidance. While we are not specifically guiding the quarters, keep in mind that as you compare the first quarter to the prior year quarter, Q1 2022 did not have the inflationary pressures that we are now experiencing. So despite a strong growth outlook, we do not expect Q1 EPS to be much better than Q1 2022. Finally, for the full year 2023, we expect adjusted net earnings per diluted share to be in the range of $9.85 to $10.15, representing a return to op margin expansion. This guidance range assumes a gradual improvement of the global operating environment, including a progressive easing of supply chain disruptions throughout the year. And now, I will open up the call for Q&A.

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Q&A Session

Operator: Our first question comes from the line of Robbie Marcus with JPMorgan. You may proceed.

Robbie Marcus: Great. Thanks for taking the questions and congrats on a really nice quarter. I wanted to start out on the MedSurg side of the business, where you had really, really strong performance in the fourth quarter. You talked about a healthy order book, but I was hoping you could give a little more visibility into exactly what you saw, was there a bolus of demand there, was this all underlying or catch-up demand and then you talked about a healthy order book, but just what you are seeing in terms of your hospital clients around the world and their desire to continue to buy capital here?

Kevin Lobo: Yeah. As you can tell, Robbie, it was a terrific quarter for all of Instruments, Endoscopy and Medical. Medical in particular, had a giant growth in the quarter, really digging out of some of the backlog that they had of orders. If you look at the backlog entering 2023, it’s actually higher than what we had at the end of 2022. So it was a little bit of catch-up from prior quarters, but as we think about next year, right, the outlook for all divisions is strong again next year. We also have a lot of new products coming in those three divisions. So strong order book, strong demand for our product, strong cans of new pipeline, terrific leadership teams. This really — these three divisions have been, if you go back even from 2016, there — every year they are either high single-digit or low double-digit growers and that was no different in 2022.

Robbie Marcus: Great. And maybe a follow-up for Glenn, you talked about second half, probably, better than first half. I have been on this call a bit before this call and you talked about first quarter EPS not being much better year-over-year. Any other color you could give us both on the topline as we think about 2023, just given there are some highly variable growth rates on the topline, as well as margin things to think about down the P&L? Thanks.

Glenn Boehnlein: Yeah. Yeah. First of all, just picking up where Kevin left off, if you think about the topline, entering the year with such a strong order book, it’s really going to kind of bode well for growth of our big capital businesses. The other thing we are really seeing is this procedural expansion and so we feel really good about our momentum, especially in hips and knees and trauma and extremities. So we are going to continue to see those grow as well. That plays into the mix of what we see when we get down to gross margin. We do think the first half of the year we will be working our way through some of that higher dollar inventory that was built up at the end of last year. We are seeing some bright spots in supply chain.