Q2 2020 Merit Medical Systems Inc Earnings Call
Ladies and gentlemen, thank you for standing by and welcome to the Merit Medical systems second quarter 2020 earnings call.
This time, all participants' lines are in listen only mode. After the speakers presentation there'll be a question and answer session.
Ask a question during that such and you will need to press star one on your telephone.
Please be advised that today's conference maybe recorded if your car any further assistance press Star Zero I would now like to hand, the conference over to your Speaker day, Mr. Fred Lampropoulos, Chairman and CEO. Please go ahead Sir.
Thank you very much.
Ladies and gentlemen, thank you for joining us today, usually we opened our comments by stating that our staff has assembled and present.
However, like almost all of our activities today, <unk> power and Brian Lloyd or with me today.
The rest of the staff its virtual like you.
We'd like to turn the time over now to Brian Lloyd to read our Safe Harbor provision Brian.
Thank you Fred.
I'd like to remind everyone that this presentation contains forward looking statements the receive safe Harbor protection under Federal Securities laws.
Although we believe me say forward looking statements are based upon reasonable assumptions.
There are subject to known and unknown risks and uncertainties.
The realization of any of those risks or uncertainties, including the unpredictable affected the cobot Nitin Kumar virus outbreak.
Just negatively affecting public health.
Natural markets and global economic activities.
Some cause actual results could differ materially from those currently anticipated.
In addition, any forward looking statements represent our views only as of today.
July 29 2020.
That should not be relied upon as representing our views as of any other day.
We specifically disclaim any obligation to update such statements.
Please refer to the section entitled disclosure regarding forward looking statements.
Today's presentation for important information regarding such statements.
Please also refer to our most recent filings with the FCC for a detailed discussion of the factors that could cause actual results to differ from these forward looking statement.
This presentation also contain certain non-GAAP measures.
Reconciliation of non-GAAP measures to the most directly comparable U.S. GAAP measures.
Included in today's release and presentation furnished to the FCC underperformed Craig.
Both today's preliminary earnings release and presentation are available on our website.
Thank you, Brian and again, thank you, ladies and gentlemen for taking the time to join us today.
We have adapted our business locally as well as globally by conducting project in business meetings and sales training through Microsoft teams, which has been of a tremendous value to us we have to accomplish this without a hitch.
The company has adapted to market conditions with health and safety is our primary concern.
Because of the lower sales levels, we have had employed various strategies to reduce costs.
Some of these programs and reductions will be permanent.
Others will be modified in order to keep the company nimble and prepared for opportunity.
In some ways, we have had an advantage in that we started many of these programs one in advance of the emergence of the cobot 19 pandemic.
Every day, we hear of new solutions to the pandemic. We also hear about how things are improving.
From our point of view things have improved as represented during the quarter by month over month sales improvement.
However, the over the last few weeks the momentum of slowed down.
We have surveyed physicians, who are very tired and more in out.
That's we're cautious during the third quarter as we always are especially with new variables added to the seasonal conditions.
We believe in many ways that the health care system, and how we conduct business have changed forever.
Many of our conversations in negotiations had been with different personnel and administrators, which is quite a change from the past.
Going forward, we will provide more clinical training and support why we shift resources from products. It's simply don't require the resources we have directed previously.
Let me clarify for a moment our direction in the developing new products.
For many years, our core growth complemented with targeted acquisitions have helped married to have growth numbers in the <unk> top cortile about competitors.
We continue those efforts with fewer projects and more focus which will allow us to get to the market faster.
And that no what I would like to discuss the market areas of interest to watch going forward.
The nobody has the company has a number of electrophysiology product ready for relieved in several in development. We believe this double digit market segment, which merit already has a presence has great promise.
As you are aware, our Rhapsody Endo prosthesis Stench system is now cleared in Australia, New Zealand and the European Union.
In fact, this very day, we received our first orders from Europe.
The company will proceed over the next several months to proceed with the wave pivotal I D, which has been approved by the F.D.A. This study is the approval process for the Rhapsody in the United States.
This study will take three to four years to fully enrolled and monitor upon which time well submit a P. M. A request to the FDA for consideration.
Equally important now where <unk> is the E. P. D. IP technology, we have developed and the numerous opportunities for products and other parts of the anatomy are to developed and deployed.
We've also developed a number of new products for testing a patient suspected of cobot 19.
This area has been somewhat dormant my view for several years and it's a waiting additional innovations.
We expect a rapid increase in revenues in this segment and then topping unsettling as we go forward. However, we do believe that this will be a very viable opportunity for merit for a long time to come.
Finally in importantly, we're looking forward to reporting our financial growth objectives. During the third quarter. What you can expect is a plan, which is sustainable reliable and competitive.
In closing I would like to announce that and Murray Wright has left the company to pursue opportunities in writing and to spend more time with family.
She's been an immense value to me in the company for over 16 years.
I of course, we'll still see her everyday I, but I will miss the perpetual collaboration the advice and the many long hours she dedicated to several very important areas of the company.
I'll now turn the time over the <unk> para.
To discuss the financial data for the second quarter.
Hello.
Thank you Fred.
Let me now turn to the financial highlights for the quarter.
On the revenue from.
Revenue for the second quarter was approximately 218 million as reported a 14.5% decrease over the comparable period of 29 tea and 13.6% on an organic constant currency basis.
He puts and takes on these results included.
FX headwinds of approximately 2.7 million for the quarter.
Peripheral intervention products decreased by approximately 16.2 million or 18.2%.
I'm really as a result of our biopsy localization, where do you feel compression fracture.
And we'll therapy angiographic and intervention products.
Cardiac intervention products decreased by approximately 13.7 million or 17.1% primarily read it related to our intervention access and geography in CRM BP products.
Oh, Yeah, I'm products decreased by approximately 2.7 million or 9.4% primarily related to our geography on geography, and CRM LP products offset partially by increased kit fluid management and sensor sales.
Got some procedure solutions decreased by approximately 1.9 million or 4% primarily related to our kits and trace partially offset by increased sales of our critical care products, which saw increased demand due to cover 90.
Including 4.4 million sales of our new sample collection and transportation used to collect and transport samples for carbon 19 testing.
Endoscopy was the hardest hit sales channel and saw sales decrease of approximately 2.7 million or 30.1% as elective procedure stopped.
Our revenue contributions by sales division based on an organic constant currency.
Were as follows for the quarter, Yeah me down 16%.
You asked direct down 20%.
Oh, you haven't down, 9% endoscopy down, 30% and worldwide dealers was flat.
Co in 19 impact for the first half of the year, resulting in a reduction of approximately 7 million from the revenue line, which includes 10 million in Q1 and 60 million in Q2.
The most impacted regions year to date or U.S. direct business, which is 33 million off plan.
And why dealers currently at 20 million under plan and EMEA 12 million below plan.
We saw sales improved from the low of April.
Steady cadence through June.
I would have seen a slight slowdown in July and the U.S. Yemeni and emerging markets. That's come in 19 cases increased and elective procedures in certain areas are limited.
Operating margin, our Q2 operating margin on a non-GAAP basis was 11.2% for the quarter, a decrease of 210 basis points over the comparable period.
The decrease in operating margin is really a function of a lower revenue related to cover 90.
Our non-GAAP gross margin decrease of 400 basis points was mostly related to product mix obsolescence and increased freight cost again, mostly related to cover 90.
The decline in revenue and the pullback on gross margin.
Offset by decrease in operating expenses on a non-GAAP basis by 190 basis points or $17 million over the comparable period. Additionally, our operating expenses saw additional decreases for the third consecutive quarter dropping sequentially by approximately 14 million on a non-GAAP basis.
Overall, we're pleased with our management of operating expenses and these unpredictable ties.
These cost savings came primarily from lower employee costs, R&D and lower discretionary expenses, including travel trade shows marketing and promotions.
In addition, we continue to evaluate our head count and footprint to increase our operational efficiencies.
As part of our operational efficiencies program in 2020, we have decided to close or pack business in Australia, along with the manufacturing site, we expect us to be done by the end of year and to be accretive to operating margin in early 2021.
We continue to be back on track for a previously disclosed improvement.
In addition, we didnt take it one time charge of approximately 18 million for the DLJ settlement. This amount is accrued as of June and is expected to be paid sometime in the third quarter.
Tax rate on a non-GAAP basis was 18.1% for the quarter compared to 23.3 for the comparable period.
The difference in the tax rate was primarily driven by changing the forecast a mix of earnings.
On the earnings from non-GAAP earnings were 31 cents for the quarter as compared to 42 cents for the comparable period.
Again, we're happy with how we have managed so far through these times, taking advantage of certain opportunities and remain committed to our operating expense improvement plan, even with the impact of cover 19 on our revenue.
To wrap up let me hit a few balance sheet and cash flow items and add some color on covre 19 for everyone.
That balance was for it and in 10 million in our cash balance was 50 million putting this added 2.65 net leverage ratio on an adjusted basis.
A little borrowing capacity on a net basis was approximately 183 million.
Our cost of debt is approximately 2.08%.
We're happy to report that we had free cash flow from Q2 of approximately 32 million, which brings our total free cash flow year to date to 47 million.
The increase in the quarter was primarily driven by receivables and capital expenditures.
Working capital was 272 million.
Capex for the quarter came in at 12 million DNA of approximately 24 million and stock comp expense of 3.4 million.
Little more color on uncover 19.
The decline in procedure volumes observed in the first quarter continued through April and we started to seems some level of recover in may and June, but I've seen a slight slowdown in July.
We continue to believe that Covre 19 will continue to be a headwind in 2020, but we are cautiously optimistic you're also seeing some tailwinds.
Our sample collection and transfer console sales of approximately 4.4 million.
Visibility for procedures for the remainder of the year is limited and we are not able to predict when or how quickly procedure volumes will recover nor do we expect the tailwinds to outpace the headwind.
Accordingly, as we previously disclosed.
We are not a position to provide annual financial guidance for 2020, we continue to fuel our broad product portfolio is particularly well suited to weather the storm.
But we also cannot be precise on the pace of recovery.
Models from some of our markets and more advanced states in the process give us some optimism.
As we try to estimate the timing and impact of the pandemic on our operations and financial results.
However, we can't predict how long it will take to see the rebound, but we know this is a very fluid situation and with some over areas of our business down. We also have some areas with higher than normal sales.
We have seen some states open elective procedures up only to pull back in place limits on access or elective procedures. For example, our U.S. sales tend the average has seen a 6% decline in the last 10 days.
Having said that it's our current belief based on the information we have reviewed that sales will see a gradual return to normal through the remainder of the year. However, with the fluctuation in models and underlying assumptions, we're not in a position to make any concrete forecast for the year.
As many of you know, we historically see a decline in sales from Q2 to Q3 as our business is a level of seasonality to it as we look forward and assess the impact of covert 19, which is causing some anomalies and we try to forecast for Q3, we anticipate the following based on fluid information.
We believe based on current trends that revenue for the third quarter.
Could be down 5%.
Were up 5% sequentially from Q2.
We expect our gross margin to be roughly in line with Q2.
And we expect our operating expenses to carefully increase in a gradual direction approaching levels close to Q1.
As we some of the temporary furloughs and salary reductions in preparation of a gradual recovery.
As we continue to manage through the impact of Copel 19, and as we start to see some market stabilize our models will continue to improve.
In the meantime, we continue to take the following steps.
Continued execution on previously disclosed operational efficiencies as evidenced by the closure of Australia pack business.
The please reference the slide deck for nothing on previous to.
Previously disclose plant.
Implement implementing salary reductions for our executive officers and most nonproduction employees.
Controlling discretionary spend across the organization, including travel trade shows and events deferring and or controlling capital and project spend.
Adjusting manufacturing capacity based on demand, while ensuring sufficient inventory levels to support current demand.
I'd like to end, we're thinking Emery for all her years of service. She had some great insights and made our jobs significantly easier.
We're going to definitely mr.
In the meantime has we look to fill her role we have asked Judy Wagner to take on the corporate communications and Pat Mccarthy VP of finance to take on the IR rule.
We will be filling the position externally when someone is identified.
Fred.
Yes, I will thank you very much a lot of information there I think the cash flow in the free cash flow is a significant issue I think the focus that we are our spending on the transfers are projects and the previously announced a.
Projects are on schedule I think the Capex budget is well disciplined and well within the parameters, which we set so despite all of these challenges I think that we are focused on improving the business and preparing the business.
With new products, and new opportunities, while reducing cost inventory and really spending a lot of time on the business in many ways.
We did not comment and won't comment today as I mentioned in our previously prepared comments on the DLJ, but after that is finalized we will have an opportunity to explain.
The.
The structure of the deal and why the deal was made and we'll do that in the future and we look forward to that opportunity to essentially tell our side of the story.
All that being said I hope you're pleased where the revenue line I hope you're pleased with the things that we're doing a lot more to come in a lot more work to do and.
And we wish.
And thank you all again for being on the call taking the time today, Anna and I in a very busy week for earnings calls so with that said a we'll go ahead and turn the time back over to the administrator and we will take your calls and your questions.
And we will also be here for a good hour or two following.
The the questions for clarification of issues that you may not have understood or need clarity. So that being said. Thank you again and we'll go ahead and turn the time over to our administrator to go ahead and present, the calling structure for comments.
[noise] Rishi.
Right now.
Okay, well the administrator is a away so thank you again.
I wouldn't take Larry Biegelsen, it's called Bursa, Larry I don't know if they have to on mute you, but if you can speak we're here.
Sorry, I was on mute, ladies and gentlemen, as a reminder to ask the question you will need to press Star then one on your telephone to withdraw your question press the pound key again Nexstar wanting to ask your question. Please standby Bobby compiled the culinary roster.
Our first question comes from the line <unk> with Wells Fargo. Your line is open.
Good afternoon. Thanks for taking the question can you hear me Fred.
Again, thank you good good well congrats on a a better than expected result in a tough environment and the free cash flow result is nice to see.
Thank you Fred I wanted to understand the the trends through Q2, and the recovery a little bit better. Thanks. Thank you for all the color.
You know is it are you willing to kind of give us what your growth rate was even June on <unk> on a worldwide year over year basis, I assume it was better than the 14% decline and the July comment.
Was it was helpful to here, although a little little disappointing to see that you've got worse in the U.S. The negative 6% decline you talked about but on a worldwide to basis is July.
Well a worse the year over year growth in July worse than what you saw in June. So June you know a growth on a worldwide basis and as July trending were sent a worldwide basis.
Yes, we've seen a slow down a larry a little bit in China, just a little bit there were still seeing some issues in Europe with dealers are still a little bit slow we really.
It's and again remember this is a 10 day average we go back and look to watch the trends and you know in June we saw something and then came back strong on the and so what we're just trying to say, we just don't quite know, but the one thing I do know is this in talking to physicians as I mentioned in my comments.
Yeah, we thought this year well, there's this pent up demand they'll still be busy and in talking in serving our customers and when I talk to no less than five or 10 physicians in different countries.
As saying look out we're tired were worn out we're going to go ahead and take our holiday when I hear that it sounds to me like what I would normally see in a summer quarter, So and then with as little bit of.
An issue at least for 10 days I remember it now it's a four month the first half of the month was reasonably strong and then slowed just a little bit. It's just tells me that people are going to take a break and I just was concern that all but we've seen sequentially every month that you could see in the quarter, maybe July slows down just a bit and we.
And that's the big problem, we just don't know.
We see signs of theirs and then it turns around reverses and you'll see this or that the point is its difficult to predict.
From a seasonal point of view every year, we always see that kind of slow down and we always try to talk about a 5%.
Applied in the in the third quarter, but in this <unk>, Yeah, We said plus five minus five because it's maybe we end up neutral, but remember we're taught we've seen April may and June all improved sequentially.
I'm not going to talk about this month, we did see this little bit of a slowdown.
We're just trying to say that that which still no I don't know how else to say it any better and we still have too much I can let robin will come at a for a moment role.
Larry maybe to give you some color on the you know what what the quarter kind of progress like.
We were roughly and they need a rough numbers not 22% down.
On April.
May looked a little worse than April, but only because of the number of selling days. So when I factor that in your you're talking about approximately 18% and.
And then in June you saw roughly a 1% to 2% you know.
Decline in sales. So hopefully that gives you a color of the you know the cadence of how things are progressing.
And you know as Fred mentioned July we saw a little bit of the step back, but you know I think we're optimistic of how things are trained them I think what are the other things. It's interesting and these are comments Larry that we get from.
Administrators me, it's not as much as that.
In the U.S. at least that they're not there that they haven't dealt with and modified both the.
Where they can treat patients and still do elective as much as it is according to the people that talk to us about the willingness of people to go back to a hospital. So we were talking for instance to a hospital on the East coast and he was saying that they're Ob Ella's swamp and the hospital is very quiet. So you know it's going to take.
Take some time for patients to want to get back to the hospital and have confidence that they're not going to have a problem. There and again I don't think that demand is there. It's just that it's not at the at the treatment point at least in our view anywhere in the same thing by the way in Great Britain. So it's somewhat consistent about same story is that it's patients.
For going.
Unfortunately that means these problems may go from being acute or chronic but that's I mean I'm just tell me what people are telling us as.
It's there they're worried about the patients and they're willing to get back to the hospital.
Thank you that's very helpful. Just two quick ones for me and I'll drop one China is a big market for you about 10% of sales could you rolled are you willing to kind of disclose with the growth was in China in Q2, and Fred the sample kit I know you said 4.4 million in the first half in the slides that it's difficult to predict but you did say in your prepared.
<unk>.
One of you said that you could have a there could be a good opportunity for you a rapid increase in revenues I think I heard any way to any any color you can provide and how big that opportunity could be in the second half were going forward Fred Thank for taking my questions. Let me have role answer the first part of it on China, and then I'll come back on the test kits.
On an organic constant currency basis, it was about 12% Larry.
Growth.
But that's compared to 20, what we've seen in the past like Glassia year over year Korea. So let me go to the test kits.
We're awaiting approval of the of our VTM a viral test media.
From the FDA, we believe that approval is imminent.
And I think thats part of what drives the ability to.
To take the business and ramp up from there.
Swapped for all while in fine, but it really is the kit in the entire solution. Another thing that we're doing Larry is a bye.
I must say September.
First of September Merit will have its all of its own vials. So we are tool.
And once those are qualified there'll be molded here and then we'll have all of the pieces and so I think that's really what drives that and the biggest limitation right now is the ability to get those vials from other vendors. The good news is as we've we've invested capital still staying within the courage rephrased bar.
Capex and and you know that we promise, but we have capacity that can be both for OEM as well as for our own a kit. So we will provide the demand for four catch to customers and then when we use our excess of for Oems. So those are the factors it's getting the.
Final approval, which could be as I mentioned imminent what does eminent mean in the next week or so two weeks in my view and then and then having our own molding. So it's kind of a hand to mouth on the molded parts on the biles right now once those things are in house that I think it changes the the dynamics and.
I'll just to ramp up pretty quickly to meet the demand.
Thanks, so much Scott.
Thank you.
Our next question comes phenomenon of Steven Lichtman with Oppenheimer. Your line is open.
Thank you hi, guys.
As you look at the Opex saving sequentially into QQ, how much of that we would you say sort of durable expense savings looking ahead versus obviously some of the temporary shutdown that you.
In response to cope it.
Yes, I think that's a great question.
If you remember back to kind of our original guidance, we essentially we're keeping operating expenses flat you know since then we've identified a few other cost saving measures.
So I think you know.
Essentially if you compare to Q1, I think Q1's, a better number on kind of where we expect operating expenses to be.
You know from kind of a more permanent standpoint, I think Q2, obviously has a lot of the furloughs and salary reductions in some of the temporary things we've done so.
I think Q1 is a better baseline I think if you're kind of trying to point to where we should be.
And that before any any new identified cost savings.
Okay got it and then just a clarification role. So you mentioned that that 10 day down I knew you asked so that would go up year over year that growth rate you were talking about it was down year over year and they tend to average.
Yeah, I know that that's really just comparing it to our most recent trend right. So it's no paired you know there you know the prior 10 days, we looked that we notice that we saw a little dip.
Just a slight today.
Got it and then lastly, Fred you mentioned in your prepared remarks, you know obviously lots of changes in the delivery of health care. A lot is fluid just wondering what you what that needs to you in how you things are changing at merit to to prepare for that.
Yes, Thank you I listen I'm, one of the things that we do and I alluded to this too it's in the out in the in the relation that is that for instance, like on on the issues of test kit, that's almost done at the administration level and at the.
The level, where you're working with premier and those guys. That's what's kind of driving best part of it and although we always contract for various types of products that were being driven not down on the unit level or down you know.
Like you would if you were in the Cath lab or in the specials lab. So I think that is.
An important part of that things are changing and and I think the other thing that that then thank you for asking this question.
One of the things that and I wanted to use this word and I didn't but I'll say it here today, you know some pieces of our business are very sticky and by that I mean, there are things that people use routinely.
It was that in products that people get used to using and although they may be parts of bids and this and that and the other national accounts. They are there things that people like they like Merrick product I think one of the things that we've been looking at Rotwo alluded to it somewhat and that is as we take a look at the resources.
We're directing to those kinds of product I think we're gonna I, we're going to ease up a bit ever not just a bit but quite a bit and say that some of those can stand on their own or have you know much a lower level of support while we take the much higher margin products you know like the Rhapsody in Europe like.
Our biopsy products like.
Our asciano products and those areas that would acquire more technical support but have higher margins I think we're just going to shift kind of the emphasis on the areas that give us higher margins and what we have a much more proprietary position than we do and I'll say on some I'll call legacy products. So that's one of the things that.
But we bird and then finally on this and I'm sorry to go on on it but you know I've I've got three people in my room right now we've been operating this way for now formats.
And I think that one of the things that we look at is to say you know what we've been doing this in the past and we've been doing bad in the past and we don't need to do those things I really totally believed that the way business walks in the way, we do business, what changed dramatically and we'll see things and costs and the use of.
The teams and and zoom and all these things for training and this is that a lot less money. So we can take and use that money elsewhere or just put it into the coffers.
And I think business Primerica is going to change structurally how we've done business in the past and rolled you want to comment on that because we've all been we've talked about this every day. So yes, I mean, I I think everybody's probably experiencing this you know I think.
People like face to face than there used to doing business face to face I think what this.
Allowed was really kind of a big testing environment to see how things would workout no via webcast arm and you know I think business is being conducted.
Just fine we haven't skipped a beat and I think a lot of people are finding that so I think as we look at our office space our meetings, our sales meetings and shows I think all those things we've got a really think about and see what type of ROI, we get well in breast cancer, even investor conferences. Yeah, you don't think of all that time, we spend.
You know week after week going back and forth the cost and and all those things I think.
No I think we're going to be the virtual guys. We can do a virtual investor day, there's a lot of things. We think that we can do that will be more efficient for us less costly and allow us very candidly to get our message out I think better than we have in the past so those would be my comments Steve.
Got it. Thank you guys you bet.
Thank you.
Our next question comes from the line up for sale or for a long with Canaccord. Your line is open.
Hi, fed unravel thanks for taking my questions. Fred I guess I just wanted to start with your commentary around prior to the nation at their pipeline and really are focused on EPA and just see if he could provide a bit more color in terms of what your targets there are and what your focus areas huh.
Yeah, you know there were a number of those facility that we could have picked up I was trying to point out a couple of areas.
Let's go to the ERP area, you know access.
Coronary sinus calculation.
The various types of products for closure.
Bailout blows and things that you need to do to help preserve life. If you have a problem when they're removing leads I could go on and on and on those opportunities many of the bigger boys and we know who they are when we talk about.
Habits, Saint Jude you talk about Medtronics and then of course.
Boston and others.
Really are doing the defibrillators the pacemakers those sorts of things, but almost all of those players that I, just mentioned use our delivery systems and and being a double digit.
Growth.
Area and one of the few and cardiovascular area.
We have just I think we have seven or eight product that we have developed and several more so we've got this full pipeline and people no matter what they buy on the other side you know Medtronics Abbott whoever Boston, they almost all use our delivery system and all these other ancillary products, which are.
Hi margin.
And have that merit quality and things that we're good at I mean, whether it'd be in these are things that came out of the.
Thomas you know a medical acquisition years ago, Transseptal needles, Steerable catheters, they can sell up to $1000 those sorts of things, which we do well we have focused a lot in that development and we see a lot of opportunity there when we go over two and talk about the Rhapsody.
Yes, the technology around the Rhapsody.
In terms of.
And again I don't want to give away my competitive advantage, but but even at as example, we have a.
A product that we buy that we're paying $750 for.
As part of one of our advanced products, we can make it for 75 impact that developed it and we will file for a five 10-K in about 60 days and I think by the end of year.
It's some of those technologies using P.T. EFI that weve dealt developed for the Rhapsody and while I'm on the Rhapsody and made a mistake when I want to correct that I said that we had approval in Australia. It's pending what we do have as we've done the number of procedures. There based on this special access.
Capabilities that you file with the government and the physician file sorry, I misspoke on that and I want to take that opportunity corrected so to see of those are some of the areas and very candidly and the test kit area.
And as I talk about its been an area. That's been just kind of going along and what we found that there was a lot of things that we did here with molding and science and coatings and things like that that we think it open up and while everybody is just you know really trying to meet that need what we found as this is the quality of products that merit produces is highly appreciated.
There are still a lot of offshore products coming in and which.
People have a low level of confidence in and then there's a lot of things that we do and capabilities. We have here to advance those art instead of just trying to meet existing demand, we'd like to be able to have the newer products and new ideas that come along with it we have a number of those so and maybe just one more area.
Of clarification.
We're not stopping our R&D what we've done is where we had maybe 50 projects. We've cut that to 25 increased the team size and we've actually had some reductions in headcount there too, but what we've done as we focus more on the things will have the biggest impact and so we brought it down we focus more on it we.
Think that'll have an impact both on revenues on our ability to focus on sometimes married have too many products and we can get better focus on things that will have a better impact in higher margins for the company. So I want to make sure I get maybe you know address that so so see a thank you any other questions.
Yeah, just one follow up and thank you for that Fad and then I was just wondering if you could talk a little bit about your outlook around CNN going for it just your relative view versus other potential areas of strength in your evolving portfolios focus and how you really do you the ability to unlock the full potential that yeah. It's a good.
Question.
And more than it was one of those areas because it had a capital part to it it was really essentially elective and it's interesting we're talking about a woman with breast cancer.
And that's elective I mean, I think thats part of this whole balancing issue that had to be looked at.
We're doing cases now that are starting.
In Europe, we placed units in Europe of course, now we've missed three or four months.
With all this but we are starting to see life's coming into it.
And you know I was talking to a position the other day, who took the time to call me and she had getting use a competitive product and she took the time series called me and say I want you to know that I looked at this yours is the best product.
And I want to get it and these other hospitals. So there's that part of it and that's always comforting and in one of the things that we hope to do.
In I don't know up it will be in the fall or early part of next year, but we've not stop the R&D in that particular area and we have I think.
So the most exciting things we have to advance the art from where it is today, even beyond that point and those kinds of things that we'll be talking about as we start to deliver our forecasts and talk about next year.
You know or the at year end result, so we've been actively engage people in the office practicing all the things that we should but theres a lot of activity and some pretty neat stuff. We're working on so we've not lost.
Any enthusiasm for easy on I want to make sure. That's very clear we think it's a terrific technology. We think it's a market leading technology and we have something that's going to increase our lead from a technology point of view in the future.
Great. Thank you Fred Thank you Susan.
Thank you.
Our next question comes from the line of Mike Petoskey with Barrington Research. Your line is open.
Hi, good evening guys.
So oh I guess.
Second half of last year 19, you know you guys. It's up your toe in and you.
And I were out and you sort of reassured investors, how you start to deliver on free cash flow next year.
Okay. Thanks, Thanks for delivered on that can you just speak to.
Maybe that two or three biggest.
You know contributors to.
Turning that metric around pretty significant way. Thanks.
Yes focus I mean, I think there isn't a day.
That goes by that we we talk about free cash flow.
Fred and I, you know, we essentially along with the help of RFP in a group.
Changed how we monitor Capex, we're meeting every three weeks on it and making sure that we understand what what's going out the door, what's coming down the pipeline.
So I think Thats, a big driver really the focus.
And also kind of the reduction in R&D.
Project as Fred mentioned that that also helps ease the pressure.
We have developed essentially a process, it's very nimble for for our liking and so we're able to make decisions and that quickly on opportunities that we see.
Mike if I could just it's about data, it's about having the that the information and having a budget and being able to essentially have a pay for attitude. If we're going to do this than what we have to do as we have to give up this and the data comes forward, we sit down with the ops group the R&D group and.
Rob will FPL myself and say, okay, here's the budget, where do we stand and if we need to do this.
Then we have to again, we're going to back off on this or defer that so it's about having the data from the DNA group.
Bringing it forward and just keeping an eye on it and I think thats kind of.
I it's no.
And we should have been doing in a long time ago. So I think it's really great credit goes to a lot of folks who have to have the dividend or the discipline at the problem is if you don't have the data. So we're looking at the front window and not looking up the rearview mirror and that the beheld great ROE. So one thing also you know receivables the collect.
And obviously with the drop in sales that helped out into two.
You know maybe to give some color on what you know going forward I think Q2 was very good quarter for us.
But obviously if sales start to rebound we will eat into that specifically in Q3, we've got a payment that's going out to the DLJ of $18 million.
We might.
Depending on the demand.
Inventory builds might.
Eat into that a little bit too. So I think we're still excited about the number we can hit for the for the year, but just want to kind of level set expectations. You know for Q3 as as we move forward, but we're very excited about it.
Mike and obviously the focus is there and where we want to continue to deliver on it.
Okay. So just turning to turning to sales and specifically to the commentary around.
Three expectations I guess.
Hard time, believing that the range, particularly the bottom end of the range is anything other than super conservatism, because you're comparing the.
Plus or minus 5%, you're comparing to a quarter.
Which April and May two thirds of the quarter.
Was down in aggregate, 20%. So it's hard for me to see unless you're.
Minus 5%.
Hey, severe deterioration in terms of Corona and and just sort of wide spread shutdowns, it's hard for me to see.
<unk> percent down.
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Realistic expectation can you can you speak to what.
Dissipated in a down 5%.
Yes, let's just maybe if we if we talk about it in the terms of prior year. So last year, we did around $243 million.
Assuming you kind of have the same growth rate as you did in Q2 that kind of puts you at that 5%, Bob you essentially kind of be it.
At 15%.
Year over year growth for Q3, if you go kind of to that to the top 5% increase sequentially that gets you to roughly 6%.
Decline in sales over Q3 of 29 team. So I I think what if you kind of look at it that way you do see some progression.
And in kind of the you know the decline in sales from Q2 to Q3.
Well look again, historically, we do see a decline in sales.
And so we know we've got a factor that in two along with what we're seeing on covert 19.
Does that help out a little bit.
Yes, I guess last one for Fred Fred you're part of that committee that sort of trying to come up with a longer term target and I think particularly maybe operating margin is there any chance you know the uncertainty around covert call causes you guys sort of punt that down the road or or are you guys coming out with sort of long term.
Normalized target and come Hell or high water.
Speak to that Q3.
Yeah, well you know the old I.
I don't like this term, but I'll use it you can't spilled into the wind.
No I think what we want to do is take a look and analyze the business and we are doing math, we're having other people help us consultants looking at the longer term situation and we've met at least five or six times Lonny Carpenter is the chairman of that group and again I mean, that's right.
A combination that goes to the board, but I think what we want to do is to make sure that under normal conditions that we would we would see these kinds of goals listen if you take a look at our operating income if you take a look at our growth rates. If you look at this we want to make sure that we can have a plan and the goal.
And and we want to be responsible and doing that here's what I do know might when we set goals before and we get the entire team working on it together when you know whether it be this free cash flow whether it be.
On improving gross margins were beyond this out or the other.
We've been very successful in doing so now you're seeing some of that already.
B plant consolidation many of the things that we'll be talking about going forward. Some of those things we've already done I mean, this we don't need a consultant to help us as that but we have engaged the Boston consulting group.
And we're working with them to analyze they worked with many of the larger companies and we are going through the process of making sure that what we look at as bonafide. It's professional its look by third parties. So that when we bring those those number forward. They are realistic there as I pointed out my comments there sustained.
Oh, and and I think the way we're going about it is quite different than we have in the past and tried to say over a period of time, we can see this kind of growth and these will be our goals compensation will be tied to it and every employee of the company will be working towards those goals. We've already started some of the.
This stuff and there'll be a lot of work done not only in the next 90 days to formulate that what you'll hear at the end of third quarter, but then there's the other part of it it's developing the plan and that is implementing the plan to make sure that we can reach that and really kind of climb out of this.
I don't want to call it being unreliable, but being something that people can look at merit as being a premium company being a star being able to do things that you've seen some other companies do in the past and I think we wanted to kind of up our game, but we couldn't do it by ourselves we need other people, we need to kind of take the prejudice is in the.
Preconceptions off the table and lay it out to have a really.
Academic and honest answer about where we can go where the business in the future, we think with the technology and all the things that we're doing and then we've taken patent party to working RFP Inagua open. We've we've complement those guys. Several times today to be the kind of a champion raw were not.
I have to run the business.
On a day to day basis, but on in terms of all of the various areas whether be skews, whether it be facilities, whether it be in rationalization or this and that we've got to have somebody and I think we are structural ourselves to deliver those kinds of.
I would put you first have to have something ask yourself. The question to be honest with ourselves and I think we're going through that process and I we are.
Engaged in food.
About the possibilities that we see where the company and that's we're working very hard on while dealing with all these other issues and I think you're starting to see you saw the fourth quarter you saw the first quarter, you've seen the second quarter and we're going to continue to work to deliver the results that we think that are necessary and.
Our required of a premium company, where we just got to get back on that Frac and we will roll.
No I mean, I think you know we did carve out a patent was head of our peanut group.
That's going to be has dedicated job he's the day to day Guy and.
No you're going to lead the transformation.
Fred Nai and along with no Ron Frost will sit on the on the on the committee.
And we're we're razor focused on it and as.
As you can see by you know dedicating a one person nearly carved that out as a specific job in the long term job.
We're serious about it and you know on that note. The other members of the committee.
Have really melded into the business and by that I mean, we haven't convince them that were right what I'm, saying as they are people who are experienced who been through taking a billion dollar company that several billion they've been on the other side. They even have to go through this so this isn't like foreign to them they've all had to work at these things and to have.
The benefit of these directors.
Who are on the committee and remember that to go to the full board for approval, but I think we have developed this board and the members of this board into a really good fighting it I mean it is a good group of people who are working hard you know there's no one's offended no one's threatened we're working towards the common goal, we're all that together and it's it's been.
In an improvement in our business or just flat out say, it's improved our business and we're working together, all well and and and you'll you'll see that as we move forward and you've seen some good already but you'll see even more in my view.
Only I don't want to.
Okay, Alright, alright, guys. Thank you so much really.
Great last couple of quarters, great job. Thank you very much. Thank you.
Thank you.
Our next question comes from a lot of Jason Bedford with Raymond James Your line is open.
Hi, guys.
Excuse me appreciate all the detail I got on the call little late so I apologize if any of this has been covered.
You mentioned, the U.S. softness in July and I guess, a bit in China or you see any relative softness.
Other geographies in July.
Yeah.
Places like Brazil is this spend as never recovered it's been very slow and some of those but you know it's a small part of our sales, but there's a few places like that.
We have good I think Russia is kind of heated up there are few little areas, if they've been a little slow in southeast Asia. Yeah. I think if you think about it the emerging markets is kind of the.
EMEA and again, we're taking you know slight softness here, so I don't know.
Really kind of one point that out you know just just.
Just a general slight slowdown not as not as good as June but remember. This this average we saw yes. We're talking about July is a 10 day rolling ever yet so I mean, what we need to make sure that we keep in perspective, but I think it I'm not going to say its book this but lets it okay, well, let's let's make sure that we that we're you know we're conservative and that.
And we can't ignore things that have happened in the past or what you do is repeat them and we don't want that to happen. So I think we're trying to be conservative, but but realistic and.
You know maybe tomorrow picks back up on the other side. The next 10 days take that off the table, but I mean, it would be irresponsible if we didnt pay attention to this and we didn't we have and we will okay.
If I back out the 60 million in let's call. It lost Covidien related revenue I think it implies about eight 9% underlying growth and I realize that the 60 million is not an exact science here, but I guess question is do you think you can sustain high high single digit revenue growth.
Even with the slimmed down cost structure.
Yeah, well I'm, just going to say that and I did addresses a little bit.
I think that what this has taught US is you know we put in weight certain things with certain.
Amounts of.
Cost and what we've seen through this without a sales person being in and without without this and that there are certain areas of our business that are I use the word sticky and as people buy I like our products they like our product there competitively.
Price and because of the breadth of our portfolio. They by several products I think we're going to taken kind to redirect resources.
For the areas that we think have higher growth opportunities. So what I'm really saying is it's kinda. There's some areas of the legacy side that don't require as much support and expense and other areas that we think have higher margins and higher growth opportunities and we're going to focus and pivot to those areas. So.
We do think that we can sustain growth.
We're just looking at you know again through a different set of eyes that we would have let's say six months ago or year ago. Okay. Okay. That's helpful.
Gross margin.
Is there a revenue level, where the overhead absorption becomes a little less of a drag and maybe if you can just kind of identify the the key drivers here that could help gross margin expand from these levels.
Yeah, I mean, I I think a lot of it is really kind of sales driven right and unfortunately, so we had some.
Negative variances, obviously that we created.
During.
April and May.
June actually turned out to be a a fairly good.
And we've got obsolescence, which some of that's related to covert 19. When we're looking at that is one of the initiatives that we're working on because we think there's leverage there to be had.
And freight did you know to be honest with you we had less revenue less shipping the customers, but the freight costs are up so as a percentage of revenue there kind of almost fixed and kind of squeezing the margin. So I think as we progress and revenue growth I think we should see are the gross margin rebound specifically as some of these higher.
Margin products no start to come back as siano, as our business or south of fuel business, which I think our strategy I business started to come back I think it's also asked to do with mix. So if you take a look at our critical care business. We had a lot of demand in the last quarter to meet needs of the National Health service with Cvcs.
Pressure in future bags, and some of those things that are all relatively.
Low margin so what what will happen there as we think that will shift back over to some form of.
Normalization at some point and then I think you'll see as as both products come along in including Rhapsodys that starts to go in and those costs drop and it's just a matter of absorption there. So I think it would really the.
The.
Effects of cobot, and the mix and what customers were buying tubing products and things like this and you know they've started to slow down we're not seeing as much. There was already that we're going forward should we now just need to come back end with those other product and I think you'll see an improvement overtime.
The gross margins back to the areas that we've seen previously.
Right.
And just last one for me I think you mentioned closing the pack business in Australia.
Do you are shutting it down I'm just trying to figure out is their revenue impact to that move or are you manufacturing most products elsewhere.
No. So so we we manufacture and sell those products in Australia, the revenue impact would be about $10 million.
But it'll be immediately accretive once that's fully shutdown so sometime in Q1 of 2021.
Accretive to margins or dropped off.
Accretive to EPS gross margins and operating margin okay.
Okay. Thank you.
Thank you very okay, let's go.
Our next question comes from the Lamin, Jim Sidoti with Sidoti and company. Your line is open.
Good afternoon, good to hear your voice. Good you guys are okay. Thanks, Jim.
So just a couple of quick ones, you've got Rhapsody approved in Europe, but can you launch it or are you kind of been putting a holding pattern now into your reps are able to get into C. <unk> C. <unk> C. Physicians no no. It is not in holding we have in fact launched it we've received orders.
We have I think another three or four cases before the weak as out now all that being said, Jim the access and the ability and things like this or not what they were before but I will tell you that theres. So much enthusiasm because as you'll recall, we know we did most of our first in man all of our first in man were done in Europe and.
Many of the physicians and hospitals.
This is a product that a superior performance gives you in my view superior outcomes and that's what people, especially for these dialysis patients you want to keep them out of the hospital. So if you have a product that can reduce.
You know restenosis thrombus and those sorts of things.
That's pretty important so no. It is launch it is starting up it's slower than I like it to be but it's not slower than what I've expected. So it is out there and then as I mentioned, we've done some cases.
Australia under special access and were approved in in.
New Zealand remember, we'll be talking about the wave study.
The wave studied the Rhapsody arterial Venus efficacy product and that's a big deal. There's about 30, U.S. hospitals that will be engaged in that and again, it's going to be you know.
It's an exciting future for this company.
Very exciting.
Are you able to start enrollment of patients now even with cold or are you waiting for covert to come down before you started loan payoffs, but yeah, we don't get to say Jim.
It's the hospitals, but we are in the enrollment we have a number of the hospitals already you know, they're all tied down in contracts and more that are being negotiated and as things get up in hospitals are able to.
Find the proper mix of how they treat kobin patients and how they how they treat elective so called elective procedures.
Most of those procedures will come online I actually had made to give you kind of an example, I had an individual call me.
Who is a tail.
From an east Coast Hospital.
Yesterday.
And was are not arguing but was trying to convince me that they ought to be pleased we need to be in this study. This is significant so I've got them, calling me and that's that's kind of a nice thing to see so we've seen that as well.
And then the last one from me on the legal you I know you'd have the settlement that you you dinner I know its details from a detailed on next quarter, but.
It's been kind of a drip drip drip the last couple of years with legal expenses.
And the wars now the issues resolved does that go away and at about how much where you spend another.
Yeah I all of this is in our K.
It's all disclose their and all that information is in there I would say it was a little more than a drip drip drip.
It was a lot of money to defend ourselves and to go over four and a half years now that all being said, Jim I I've said now say to you.
What we've agreed to do is the final documents will be done.
We think in the next four to eight weeks, but again this is the government and when they're done they'll make their statement and then we will have our so called if I could use this are they in court will get to tell our side of the story and I think you will become very very clear to you.
Exactly what the situation was and something that is.
I'm looking forward to telling the story, let's just put it that way.
So so the fact that that expense goes away in 2021, we should see improving cash flow from that as well yeah. I mean, it was a big grain and both time and money.
For something that.
We'll talk about in the future that we spend about second half million sellers and legal cost last year and 5.6, yeah. That's more like a bye bye bye instead of drip drip drip.
Okay, but but all that should should go down to free cash right. That's correct. There. Thank you.
Thank you Jim Nice Siri voice again.
Thank you next question comes from a lot of Mike Matson Needham and company. Your line is open.
Hi, Thanks, Thanks for fitting me in since the calls going on we're now I'll just limit to one question here, but can you just talk about the wave trial design for Rhapsody of your expected expectations around the timing of enrollment and follow up and when you could potentially have that product launched in U.S. Rhapsody products start launch.
And you asked thanks.
Yes, let me at a couple of pieces of that will start enrolling patients in January. So we still have a few months to get everything squared around make sure we have all the inventories in place.
In many of these sites micro places, where you don't have one you've got maybe 30 to 50 Stenson there and you could have 30 accounts. So I'm, just saying you've got to put them in there and then they'll size them. According to the patients.
My estimates I'm hearing from my regulatory staff is three to three and a half years to get it fully done and to go through and follow through with with the the appropriate follow ups I don't have all of the information on that.
But I will say that and I'm looking at 350 patients.
I've got my regulatory Guy here suddenly a tax rate filling in and.
What else I want to say about 350, Oh I don't forget that we have breakthrough status on three of the cohorts. They're involved with this that were issued by the FDA and incidentally getting approved from 98 is a very long and conversion process in which we had to take the first in man data, we worked with the FDA.
Okay. They by the way they are working fabulously.
They believe in at least this is my assessment that this isn't important product and so we've worked with them and we've come to an agreement on all of the numbers and all the things that need to be done well start in January and then you know with its all about the data and but the first in man data, which bye bye.
The way, we hope to publish sometime in the very near future I think will answer the questions for a lot of people as to the significance of this product. So that's the best way for me to answer it and I'll have some more stuff from my my regulatory Mike If we have a follow up so nothing that's out of line, but there's more to your questions.
Okay. That's helpful. Thank you okay, Sir thank you so much.
Thank you. Our next question comes from the line of Matthew O'brien with Piper Sandler Your line is open.
Oh afternoon, Thanks for taking the questions I'll I'll ask to here together and then and then drop.
Well the free cash flow and I know, you've gotta DLJ payouts are coming in you've had a benefit from from collections on the cobot.
Due to cold bid and inventory benefits et cetera, but if you were in a net out.
Those benefits you've seen on a cobot side, what does the free cash flow for the year look like and can we extrapolate that kind of performance I don't know $20 million year to date, if you exclude.
The covert benefits.
It's such a thing.
Or is it $25 million would that have been 40 or 50 million for the full year, just excluding the DLJ, which is onetime how do we think about that.
Metrics, specifically and where do you still that cash not necessarily this year as you're probably hoarding cash given what's going on around you, but are you paying down debt aggressively next year, how do we think about that and then for Fred just on the on the operating committee side of things.
You know who makes the final decision as far as what exactly you're you're going to commit to and then what kind of metrics should we be thinking about.
And just typical operating margin kind of commentary are you going to give more on gross margins exactly where the benefits are gonna be.
Derived from you know.
Products that you're going to stop selling in the future lower margin stuff you know things like that what else should we expect.
Next quarter. Thank you.
Sure. So so real quick I think originally at the beginning of the year, we get thrown out free cash flow of a 40 to 50 million I think.
Given everything that's happened.
We'd love to be somewhere in the you know.
35 or closer to 40 million range.
Yes.
Yeah, but just so just to roll that that's the adjusted I think I'm voting the deal, though that's the adjusted number adjusted number.
So so then why would you be at the lower end of the range, if you're making these improvements on the on the.
Capex side of the business it elsewhere.
Merger with 35 to 40 versus 40 to 50, because you're you're going to have a our that'll that'll come back you know as sales come back and then you're also going to have inventory I think you know a little bit or.
A few questions ago I did mentioned the Q3, we expect we expect to see.
No.
Centrally negative free cash flow, just because of the working capital component of that and as things bounce back so you'll you'll heat into the 47 million.
You know for year to date and then.
We'll see how much of that we can retain and in Q4, but right now we're shooting for.
We'd love to hit that that the low end of the range, but I think there's upside Matt I think hopefully we can get there we'll see how it we'll see how it works out.
Okay, and then spread on the operating committee side, Yes. So again, it's the three new directors and myself the ultimate decisions made by the full bore let me just say that we have met with a number of advisors, an analyst, including Star Board and look.
At various types of models of what others have done how they've done that.
And we're analyzing the capabilities and what thing we think that we can do and analyzing you know we don't want to.
And do something Thats irresponsible, we don't want to get.
Out in front of ourselves and I don't want to get in front of the committee. So we're meeting I.
I think every two weeks and the we have committee assignments in between that and then we will bring that think board. We as I mentioned I don't know if youre on the call. We brought in the Boston Consulting group, that's going to walk through our business and as those things are all formulated and the step buys into the recommendations and we will have on that.
Doshi Asian with that would that consultant who worked for merit and then we will bring in the committee will go ahead and establish what they think is realistic what they think is sustainable and then we will make that recommendation to the full board. The full board will decide and then we will make that presentation to this.
Shareholders at the end of next quarter, So that's kind of the scenario.
Okay. Thank you.
Okay.
Thank you.
I'm showing no further questions in the queue I turn the call back over to management for closing.
Well again, ladies and gentlemen, I know, it's been a busy day, we had Boston and we had a con mad and a whole bunch of people out there reporting today and so we appreciate the time you've taken to be on the call I'm I'm pleased with this quarter I am I think the entire SAP is.
As committed.
And we'll look forward to the next call and.
Where we're engaged and we'd like the challenge so I want to thank you again, a role and I will be here for the next couple of hours, if you need clarification on some things and.
Again, we thank you for your interest in the company and wish you a good day well sign up now from Salt Lake City God Bless you own. Thank you.
Ladies and gentlemen. This concludes today's conference. Thank you for participation you may now disconnect everyone have a wonderful day.
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