Q3 2020 Zimmer Biomet Holdings Inc Earnings Call

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Good morning, ladies and gentlemen, and welcome to the Zimmer Biomets third quarter 2020 earnings conference call if anyone needs assistance at any time during the conference. Please press the star followed by the zero as a reminder, this conference is being recorded today November six 2020. Following today's presentation, there will be a question and answer.

<unk> session at this time all participants are in a listen only mode. If you have a question. Please press the star followed by the one on your push button phone I would now like to turn the conference over to Keri Mattox Senior Vice President Investor Relations Chief Communications Officer. Please go ahead.

Thank you operator, and good morning, everyone. I Hope you are all well and welcome to the her Biomets third quarter 2020 earnings Conference call. Joining me virtually today are Brian Hanson, our president and CEO and CFO Suky Upadhyay before we get started I'd like to remind you that our.

Our comments during this call will include forward looking statements actual results may differ materially from those indicated by the forward looking statements due to a variety of risks and uncertainties. Please note we assume no obligation to update these forward looking statements, even if actual results or future expectations change materially. Please refer to our SEC filings for a detailed list.

Got you know these risks and uncertainties. In addition to the inherent limitations of such forward looking statements.

Additionally, the discussions on this call will include certain non-GAAP financial measures reconciliation of these measures to the most directly comparable GAAP financial measures is included within the earnings release and on our website at Zimmer Biomet dotcom with that I'll now turn the call over to Brian Brian.

All right great Karen Thank you and as you know we are now with our third virtual earnings call. It was hard to believe that so much time has already passed as we live inside the pandemic environments, but either way, we're here and I, certainly hope that that you're listening somewhere safe and socially distance, we're clearly taking precautions here.

And we continue to follow our safety protocols and that's the reason why curious looking I or in different locations again for this call as we've seen in the past hopefully we again do not have any jet missteps, but just know if we do for whatever reason will push faster and make sure that we move forward. So 2020, there's clearly been one like any other year in GB nearly.

100 year history as I'm sure. It is for every company that's out there right now and as you know I think we're all probably too aware, it's not over yet just definitely not over yet. That's a you know I have to say that I look at how we manage to and just really navigated cope ignite genius years, and specifically in the third quarter and I'd say that I'm proud of the team.

I am confident about see these future buying more confident now than I ever have been about GBP futures I truly believe we are well positioned for success in our strategy is absolutely working you know as you all know we've been acutely focused on transforming GB since I joined the company. That's almost three years ago. Now you know we faced challenges before.

Well nothing could ever prepared us fully for Cobiz, 19th I do believe our ability to rise to those earlier challenges they truly put us in a stronger position to effectively manage the pandemic situation. The environment that we're in right now so I actually think it's been a catalyst for CB. The teams focused on our mission our strategy, how we show up.

Then execute every day is the strongest it's been since I joined the company in the way I look at it as a things we can control we are absolutely galvanized around executing flawlessly against so it feels good right now as much as it's noisy around us with Covance the execution inside the organization is as strong as I've seen that said the unpredictability of coal.

I mean, there are several variables and unfortunately, they are pretty big variables that are outside of our control and as a result, the pandemic continues to be challenging. It continues to be fluid. This requires us to quickly adjust to change you know given the changing environment. So ultimately we can effectively meet the needs of our customers and very importantly, our station.

At all times and that's exactly what we've been focused on you know along those lines. There are really three key areas that I'm going to talk about today that I think are important to you take away to be aware of and also see the progress that we're making inside of each the first one you should be pretty obvious it's our view.

The Cove in 19 recovery path from here and where we see it going and I think importantly inside of that you know the areas of concentration of execution that we're gonna have inside of the covert recovery path. You second is an update on our strategy to drive long term growth and through that value for CB and for you.

The third is an update on the ongoing transformation of our business, which I truly do believe we're making great progress on and I'll get I'll spend time on each of these and then I'll pass it to so he's going to give you more detail color about Q3 on the financials and then how we're thinking about in framing Q4 in our minds as first let's talk about the recovery and execution we saw.

In the third quarter ultimately the recovery of the elective procedures going from Q2 to Q3 is encouraging I would imagine it is encouraging for everybody at this point looking at Q2 to Q3, but it's still difficult to predict from here, what's going to happen. The fact is we've talked about how the key variables impacting procedure volumes.

[noise] needed to remain constant obviously that can improve but they needed to at least stay where they were for the recovery to continue and to see sequential improvement from Q2 to Q3, you know as you probably remember that we said that these variables include both positive and negative influences on procedure volume on the positive side would you be pretty obvious we have the new patient volume.

And in the backlog of patients that have deferred treatment during the pandemic for whatever reason on the negative side, we have the effects from the economic downturn, but most importantly surges in the virus that can drive negative policy decisions and door increased patient fear no those would be the negative influencers, obviously, if I look at the combination of those in terms of retail.

During Q3, the variables played out in a way that allow continued improvement over Q2. So overall the fourth quarter was stronger than expected and we actually returned to growth over 2019 faster than we thought we would.

This was driven again by these kobin recovery dynamics, but but importantly, our teams strong focus on and probably even more importantly execution against our strategy Weve been very focused on moving the strategy for regardless of the noise around us we saw steeper rate of recovery in July followed by a more modest recovery or even a flattening of the curve.

Towards the end of the quarter and this was driven by the shift in the recovery variables that I just outlined a minute ago. We see continued increasing surges of the virus, especially in Europe, Middle East and Africa and in the U.S. and this has negatively impacting both patient feared and in certain areas policy decisions and as a result, we exited the quarter with September.

Gross flat versus 2019, there's not much we can do to stem the virus surges, but we have launched a unique and a very large scale direct to patient campaign focused on patient fear I. So it can influence the virus, but we can try to influence patient fear and the focus of the campaign to educate and support patients about.

There are options to get procedures during coven and really even beyond focusing on the fear of the patients typically have to come and get a procedure and what were finding early on in this campaign is that the feedback has been very positive and in particular associated with the concept of my mobility and its ability to allow for virtual care capabilities. During this challenging.

Alright. So those are obviously some of the factors surrounding cove, it and its recovery dynamics, but but I also want to make sure that we spent time talking about the things that we have more control over the execution of our strategy and the performance of our business inside the impact of the pandemic and even in the midst of this turbulence, we continue to deliver against our goals.

This focus and execution against our strategy is the reason we have performed well over the last two quarters versus the overall market specifically for look at Q3, our performance in U.S. knees and hips is a great example of this underlying momentum we grew 3% in the quarter and U.S. knees. We also saw 10% growth in.

Yes, hips I got to say these numbers are strong even without the backdrop of cove. It. So the question is going to be you know whats driving the performance I'm sure I'm going to get that right away. Some is going to answer it now our core business is strong really for it for four major reasons in the way that we view. It. The first is pretty obvious we have truly shifted from this tree asking of X.

Accusing challenges to launching meaningful innovation and I'm going to spend little bit more time on this one in particular, but that's a big one second our operating mechanism and really the resulting operational discipline has never been stronger and I'd argue probably as good as I've ever seen it anywhere and third our compensation programs have shifted towards.

Minutely rewarding growth not just paying you for keeping the business you have but truly disproportionately paying and rewarding for growth and then finally and I'm not sure. If this is causing it or because of it but our commercial confidence is higher than I've ever seen in my tenure here in GB the commercial confidence the swagger or whatever you want to call. It.

Higher than I've ever seen so again those are really the combination of things that has helped create the momentum inside the pandemic, but let's talk specifically about innovation that as a component of this equation broadly speaking over the last year, we've taken a very dismal low single digit vitality index to a.

Double digit number and that's still not as good as we'd like it to be but that's a pretty big jump in with our current product pipeline I can promise you that is only going to continue to move in the right direction and as you know obviously vitality index speaks to the percent of sales driven by new product launches. So in other words those products that have been launched within the last three years the revenue associated with.

Them versus your overall revenue.

Again, a real nice job in the right direction vitality index and more coming but to get a little more specific I think go to some of the key launches that you're interested in and I'll start with our knee franchise. Our Roes the execution continues and I'm very proud to report that we have already passed the 200 Rosen new placement mark in the worldwide placement strategy.

That we have and importantly, our utilization continues to increase and the placement pipeline remains very strong. So again remember we're way under penetrated in robotics for our business and across all orthopedics. So the tailwind associated with rose in our opinion is going to be around for a while and it feels very good right now on the persona.

A revision side of things, we keep gaining traction in the marketplace with this product launch Q3 results were even stronger than last quarter, which had been our best quarter to date post the launch and revision remains on track as I said before to hit $100 million of gross revenue. This year and that's 40% of that will be new growth in other words for.

$40 million of net of cannibalization revenue this year from percent of revision by itself isn't really exciting and not only because it shows strong momentum for a percent a revision because it also opens the door to more growth revision system is truly a tip of the spear product when we convert competitive surgeon to.

Our revision system, we absolutely have the right to hunt for their primary knee business and that's exactly what we're going to do and if you know about this marketplace. You would also know that the primary business is usually much larger than revision business. So you can get the order of magnitude of opportunity. We have to go after now so exciting stuff there on the knee side, you're shifting the hips Avenue are complete.

There's really still outperforming our expectations for 2020, that's even with the pandemic impact. These are the expectations that we had for 2020 before we knew about the pandemic just to give you some perspective on that on how well. It's doing this launch has really helped provide a great implant to leverage the high growth direct anterior approach submarket in hips as one of the most attractive so.

Markets in hips, and the sand plant is the perfect opportunity for us to take advantage of that attractive market and then one more product I'll highlight in the quarter is in our upper extremities business. Our signature one planner I talked about this last quarter as well we had another 50 plus percent increase in surgeon registrations in Q3, and we already have one in four cases using.

Pre surgical planning for shoulder replacement. This increased penetration of the system is important in my mind in two very important ways first of all there is a real potential for mix benefit or maybe said another way share of wallet gain it each procedure that you used appreciable planning in and it also provides more stickiness with the surgeons.

Right on the surgeons stickiness, it's probably obvious when surgeons using our implant and they're also using a pre surgical planning it's harder for them to want to move away from that environment because are used to it on the share of wallet benefit. This is may not be as obvious, but it's pretty significant opportunity. It comes because you get a higher utilization in augments and guy.

When you do a pre planned procedure versus those of that pre surgical planning. It's because you know the anatomy before you get in and you know that if you're going to have an anatomy issue you've already got your augment is ready to go in your guys ready to go. So that's great for the patient because we're going to get better outcome. It's great for the surgeon because they have what they need to do the procedure and it's great for us because we get more red.

Revenue for that surgical procedure, so very exciting stuff and so in short I would just say that even with the challenges of coven, we're driving our business forward meeting our customer needs and improving patient lives as we go that's the whole mission of this organization I didn't mean it truly is what we do and wake up for every day alleviating the pain.

Patients around the world and improving the quality of their life and we're doing that during cobot and as a team we've dealt with many challenges over the past three years was prepared us for this moment I've said it before this is the time when companies and teams can slow down they can hesitate they can take their foot off the pedal hey, we're being smart and safe, but we are not.

Letting up and it shows it shows in the CV performance and in the energy of this team right now all right. So I'm going to move on to cover our strategy to deliver long term organic growth and ultimately drive more value for Zeevi and very importantly for you as well and as we've outlined to drive our strategic pillar of top quartile performance of TSR and truly bring value team.

Q and ultimately to achieve mid single digit growth organically, we have got to focus most intensely on driving long term growth in our key focus areas and first as we've said in the past the first and foremost area of concentration is above market performance in knees and just given the size and the scale. This business, we need to be ahead of market here.

No we're going to do that by focusing aggressively in the fastest growth submarkets of needs robotics data and informatics cementless and for US revision. These are the areas of concentration in investments that are going to allow us to sustainably perform above market in knees and next we've got to drive consistent at market growth it not the higher end.

The market for our performance and set that's focusing on the most attractive sub elements of set for us that's going to be sports and it's going to be extremities also we've got to make sure that we have a consistent at market performance in hips. That's in the short term right in the longer term when we launch into robotics, we absolutely expect above market growth.

In hips as well and then finally, while our other businesses at least at this point will not receive the same level of investment and will be managed differently. We would still expect these businesses to drive in line to the lower end of their market growth and that's our pathway. That's our pathway for long term durable, 4% to 5% organic growth rates in this business.

Okay. So next I want to talk about Zeevi transformation, you probably heard me outline to three phases of ours. He be transformation that I was going to go over them again, just quickly or phase one capturing the hearts and minds of the team truly capturing the hearts and minds of the team and addressing our execution challenges that was really phase one and with this in mind, we have a.

Aggressively shifted to the one zeevi mission the ones he be culture, we've added new and very diverse executive talent and we've stabilized the business across all key areas. So good progress in phase one phase two is really around shifting to a disciplined strategic clarity for the organization that is more focused on long term success not so.

Having problems, but surely long term success. This is where is he be shifts to innovation.

As our strategic plan as our pillar priorities that are very clear to the organization locks in our operating mechanisms and evolves organizational structure to ensure that we can drive a focused approach to execution of this strategy in phase three is where we transformed for the future through active portfolio management, we look to change the portfolio company.

Action to accelerate growth right. So we've made pretty significant and really durable progress in phase one we've laid the foundation for and are absolutely executing against phase two and now we're moving squarely into phase three of the CB turnaround and so for us when I think about phase three and I think that that active portfolio management includes.

Three main components and really should include these same free for anyone is looking at active portfolio management, but the first one is disproportionately investing in our priority businesses young in our priority markets and that would be across research and development commercial infrastructure, just mindshare being disproportionately invested in those areas for number two being select.

In M&A prioritizing opportunities that are accretive to our weighted average market growth and aligned to our strategy. So selective M&A and the final one when appropriate and in line with our overall strategy divesting non core assets that are financially less attractive to our core businesses right. So those are the three components of active portfolio manager.

But in a way that we see them as we manage the CD portfolio, we're going to continue to focus on high growth areas in areas, where we truly believe we have a right to win no size is going to be a factor here, particularly in the short term you know out of the gate here, we're going to have a preference towards smaller tuck in deals that can be easily integrated and operationalized.

While also maintaining very importantly, our investment grade rating and I really do believe this philosophy is apparent when looking at the recent transactions. We just highlighted in our earnings press release, you know again, while these deals are not material in terms of acquired revenue. They are absolutely instrumental in filling some of the product gaps we haven't CV.

Our assay in sports portfolios and really they add to our pipeline of new technologies and product launches in markets that are accretive to our growth rate and these deals are smaller so they're going to be easily integrated and we're going to be able to validate our new deal process, our new team. The integration playbook that we now have in place. So I think great first step.

On the M&A side of things from a looking at the individual deals if I look at the acquisition of incisive. So this isn't all our solutions company and the $1.2 billion integrated into our market and this is going to provide you with a soon to be launched its not launched yet but soon to be launched surgical booms in lights portfolio that will help us push more aggressively.

Into the attractive assay market, which is clearly an area. We want to go. We also see some real differentiation is not just filling the gap of the portfolio, it's surely bringing differentiation for really two reasons first of all they have a smaller footprint and this focuses on reducing the acquisition cost, but also the construction costs, which we know is a pretty important aspect of the.

The market looking at controlling these costs and second reason why we think its differentiated is they've really done a really interesting job incorporating an innovative and automated way to capture data in the operating room that ultimately leverages artificial intelligence and that helps us in the operating room drive efficiency and productivity potentially.

Better outcomes again, this is really lending itself to the needs of the sea setting. So again, you'll pretty excited about this portfolio opportunity that this idea of a smart Omar and really leveraging data to drive decision support and efficiency is also reflected in our exclusive relationship with coronary medical through this partnership we actually.

You see the opportunity to further differentiate our knee ecosystem, which is a major focus of ours right. Now our goal is to launch an intelligent persona total knee implant that incorporates Canary smart sensor technology, and we feel a combination of active data capture from this smart implants that we already have from nine mobility and we already.

Half from Rosa is going to provide an unmatched data set that ultimately could be leveraged through AI for a decision support related to how best to treat and care for the patient and this give us a unique opportunity we feel to create an intersection between the $4 billion total knee market and the tele health solution space, which is growing somewhere north.

15%, so a very attractive area for us to differentiate ecosystem and kind of enter into a a in adjacent space until health in the last deal and talk about is our acquisition of re line and this is focused on the sports medicine market, which we know is a $5 billion market and its growing 5% to 7%. So again accretive to our overall weighted average market growth.

And this still clearly helps fill our gaps in arthroscopic capital the capital makes up about 30% of the sports market until now we had absolutely no offering in this space with this acquisition, we not only filled the gap. We also see some real differentiation in the portfolio has done a nice job of again innovatively consolidate.

Leading three tower components into a single comprehensive system, both at the equipment side and on the end defector sides. So this is a first in the industry. This system is very early in commercialization stage, but I would say, it's getting very positive feedback early on and we see this is another great opportunity to drive successful product launch leveraging our zebra.

Commercial infrastructure, which we absolutely know we can do so I'll, just say that hey, we've got other portfolio management opportunities in the near term funnel and we're not ready to talk about those yet, but we've got other ones in the funnel and we will continue to keep you up to date as we make progress here and.

And finally, we are fully committed to our margin expansion goal of at least 30% operating margin by the end of 2023, and so he's going to talk more about this but our restructuring plan is on track and the cost savings were delivering will help drive margin expansion, which has got to be there, but also support reinvestment in the business for growth, it's got to be able to do both and that was.

But the whole idea behind the restructuring plan was so again, so if you'll give more detail on that but its on track. So far overall, we are clearly watching the covert recovery trends closely and complete the realize as everybody does the short term market performance and I want to reiterate market performance is out of our direct control as a result of the Covance recovery trends.

That said and I hope it is very clear we feel confident in JV, we feel confident in our business strengthen our execution and the long term growth prospects, we have as a business and as a result of that the value creation opportunity, we have as a company and with that I'm going to turn the call over to Suky again for more financial details for the quarter and looking forward.

Certainly.

Thank you and good morning, everyone.

To Echo Brian's comments, maybe its underlying fundamentals remain strong.

Overall, our Q3 performance was better than expected.

Revenue was ahead of expectations as we posted operational growth due to faster market recovery across most developed markets in tandem with strong commercial execution.

Group revenue performance drove better margins, the solid quarter of free cash flow.

But a genuine feeling of pride in how our 20000 plus team members have responded to a very challenging environment.

Net sales in the third quarter were $1.9 billion, a reported increase of 2% in constant currency increase of 1.1% versus the same period in 2019.

Sequentially Q3 improved over Q2 as expected and.

Inside of that we continue to see variability in recovery by market and region as we progressed throughout the quarter and we did see a flattening of the recovery curve with September effectively flat versus the prior year.

Let's talk about performance across our regions and then move to our business segments.

And moving forward unless I note otherwise my comments will be on a constant currency basis.

Beginning with Asia Pacific the reach and return to growth, increasing 0.7% versus Q3 2019. So.

We saw strong performance in China with results well ahead of normal levels and while Japan has not yet returned to prior year volume Submarket continues to show stability.

Australia, and New Zealand made steady progress in Q3, but were negatively impacted by searches of fires late in the quarter.

Finally, India and other small southeast Asian countries continue to significantly underperformed the broader region.

EMEA decreased 5.7%, while we saw a recovery from Q2 the region did not return to growth in any part of the quarter and we observed a slowing in September due to recent COVID-19, surges and corresponding policy actions.

Developed countries, excluding the UK showed the strongest signs of recovery, but decelerated that latter part of the quarter.

UK and emerging markets continue to be a significant drag on overall regional growth at our lagging developed markets recovery.

Lastly, the Americas region continued to grow increasing 3.3% with strong growth of 5% in the U.S.

While the recovery was robust in the U.S., we observed the same flattening in the recovery curve due to increases in fire searches in September.

Similar to Q2 caseload, an elective procedures and hard hit regions are continuing at about 70% to 90% when compared to 2019 volumes.

Outside of the U.S. the rest of Americas continues to lag with numbers well below normal levels.

Turning to our business performance for Q3.

Global knee business declined 1.4% versus Q3 2019, a marked sequential improvement from the 47% decline we saw in Q2.

Yes knee business returned to growth increasing 3% in the quarter.

Overall execution was strong with continued momentum for Rosa. Additionally, our posada family of primary revision and partial knee continues to gain great traction with existing and new customers.

Our global hip business increased 4.4% another big sequential improvement from the 31% decline we saw in Q2.

I do want to call out that us hips increased about 10% in the quarter strong market recovery for sure, but also a great illustration of our commercial teams execution in the backdrop of new product introductions.

Sports extremities and trauma sales grew 2.5% over Q3 2019.

Notably the Americas grew about 6%, but that growth was offset by softness in EMEA and Asia Pacific.

Also stressed that upper extremities was partially offset by slower growth in sports and trauma due to lower social activities as a result of covance.

Dental spine at CMS team increased 6.5% due to strong execution, new products, including robotics and market recovery and finally, our other category this down 11.1%.

I will now walk through our third quarter, PNM and liquidity and then share more color and insights that may provide shaping of our expectations for the remainder of the year, so moving off to the piano.

As we've previously discussed we move quickly have taken a disciplined proactive approach to mitigate the earnings impact of the pandemic. While also enhancing CBS liquidity profile results in the third quarter were better than we expected at the time of our second quarter call as we saw margins earnings and cash flow sequentially improved versus the second quarter consistent with our revenue.

And the third quarter, we reported GAAP diluted earnings per share of $1.16 and adjusted diluted earnings per share for dollar 81.

GAAP earnings per share versus the prior year were lower primarily due to a sizable one time Swiss tax credit that the company realized in 2019.

For additional details on GAAP results. Please refer to today's press release, and our 10-Q, which will be filed later today.

On an adjusted basis versus 2019 earnings grew in line with revenue growth as lower acetate AD spending offset lower gross margins and a higher share count.

Adjusted gross margin was 70.6% for the third quarter and as expected results for sequentially better than Q2, but lower than 2019.

Versus the prior year pressure from prior period deferred costs and lower volumes due to Cove. It were partially offset by a favorable regional mix tailwind as we saw stronger recovery in the U.S. and developed markets in the quarter.

Adjusted operating expenses increased sequentially over Q2, driven by commissions related to higher revenues and increased commercial investments.

Passes were lower than prior year due to the early impact of our restructuring programs and due to moderated investment levels as we continue to navigate pandemic uncertainty.

Overall, adjusted operating margins for the quarter was 26.3% better than expected and driven by the favorable geographic mix and gross margin and a slower ramp up spending.

Moving beyond operating margin net interest expense and adjusted other income totaled $52 million at the adjusted tax rate of 16.6% was slightly better than expected due to some modest discrete benefits in the quarter.

Turning to cash and liquidity will return to positive free cash flow earlier than expected totaling $287 million.

This is lower than the prior year as we used a portion of our better than expected operating cash performance to reduce our AR securitization program.

We ended Q3 with cash and cash equivalents of just under $1 billion at our $2.5 billion of credit facilities remain intact.

Relative to the deals that Brian referenced earlier, we expect the cash call to be approximately $80 million in the second half of this year and that will be funded through existing cash balances.

Turning to Q4.

Our consolidated revenue outlook for the remainder of the year has a heightened level of uncertainty given recent cobot surges that we have seen in a number of markets and due to that backdrop, we will not be providing financial guidance for the fourth quarter.

So far through October regional trends have been similar to what we saw for the full third quarter, except for a man.

That is Asia Pacific and the Americas continue to grow in line with full Q3 growth rate, albeit with more pressure or risk in the U.S. due to increased virus surges.

On the other hand, EMEA has worsened due to surges in the virus as declines have accelerated in October with some governments and the recent taking new policy actions to limit elective procedures.

We expect consolidated Q4 revenue performance to continue to be fluid based on the major variables impacting their recovery, which include the rate of pull through on the backlog patient.

Patient anxiety and elective procedure capacity constraints due to covert surges and or result in policy actions, while market dynamics remain uncertain. What I do know is that our commercial and supply execution combined with our innovative new product introductions will continue to drive strong performance relative to the market.

Looking ahead on gross margin, we expect sequential improvement, but continued year over year pressure because the same drivers we saw in Q3.

Adjusted operating expenses are expected to be sequentially higher in Q4, but down versus prior year. As we also saw in Q3.

Interest expense will be stable to Q3, and we expect that our tax rate will be slightly higher than Q3 2020.

Lastly, fully diluted shares outstanding are expected to step up in Q4 due to the exercise of options as a result of the acceleration of stock price we saw in the third quarter.

Longer term, we remain committed to our target of at least 30% adjusted operating margins by the end of 2023.

Our near term initiatives relative to reorganization consolidation and zero based budgeting as examples are complete or near completion.

We're steadily advancing our longer term structural initiatives around supply and DNA efficiency.

To summarize our underlying business performance is strong our execution is our point zero. These transformation is delivering positive proof points, even in the midst of a challenging pandemic.

We continue to believe that CB is well positioned to address near term challenges and to accelerate growth over the long term with that I'll turn the call over to Carrie.

Thanks to the supplement that the given a session. A reminder to please limit yourself to a single question and one follow up so that we can get through as many questions as possible during the call with that operator may we have the first question. Please.

Thank you ladies and gentlemen at this time, we will now begin the question and answer session. One moment. Please for the first question.

Our first question comes from Ryan Zimmerman with E G.

Great. Thank you good morning, everyone.

Brian I want to start on the.

Backlog in the commentary about the September exit rate and then I have one on Rover.

If you recall back to the last quarter, you talked about $700 million backlog diseases.

Was wondering if you could comment a little bit of a of around that backlog in terms of what do you feel like you achieved against that in the third quarter and how we should think about that maybe refilling back up in light of some of the dynamics with co that in the fourth quarter here that you're talking about.

Yes. So appreciate the question so what I would tell you that the we saw in Q3.

Because we actually saw positive growth relatively in line, if not a little above say for instance in hips and no.

The market growth that would indicate that we did not build further backlog or deferred patients in the way that I calculate it in Q3 that said, we still have hundreds of millions of dollars of deferred patients that will eventually come back in the funnel. So I still feel very bullish about the fact that we have these deferred patients.

Our patience as we know from most of our business that have a disease that progresses. It does not get better by itself and as a result of that those patients typically come back in the fall.

So I wouldn't say that we built more backlog in Q3, but we certainly still have quite a bit of backlog to go through.

So that that's my view of where we are from a backlog standpoint, and again I think eventually when we get to the point, where we have a vaccine that people have competence in or treatment that people have confidence and we're going to have that backlog of patients begin to come through in concert with new patients and that should be.

Really nice headwind for our business looking forward to that day for sure.

Understood and then the second question.

Rosa.

Really nice number there on the 200 exceeding the Thunder placements on Rosa you talk a little bit about the visibility on the order book and your expectation for 21 and another.

Unreasonable to believe that you can accelerate beyond that two to 300 place run rate you're expecting this year. Thank you for taking the questions.

Just to just clarification just to make sure that two to 300 is is what we've done from a patient standpoint since launch and that wasn't two to 300 that we would expect Justin 21, but it would be no since launch, which as you know this call about a little over a year and a half now since full launch of the girls the system, but I would say.

Hey, I'm I'm pretty enthusiastic as is the team around the Rosa placements that we saw in Q3. It was the best quarter that Weve had relative to the number of installations. We did in a single quarter and I can tell you that that momentum is continuing into Q4.

And even though I think it will be slightly better it is still slightly better than we did in Q3 Thats, what our expectation will be in Q4.

And so you know that that pipeline, the bumps going to call future customers.

Is robust as it's ever been with our product and as I mentioned before in the prepared remarks, I really do believe the under penetration of robotics is at such a point that this is a tailwind for the organization for a long time to come in it's a very exciting tailwind no question about it because not only is it before losses for the patient it really is provide.

Creating a level of accuracy in the operating room that you can see when you're in the operating room with surgeon.

Forget studies, we've got those coming but when the surgeon uses the robotic system. The operating room, you can see the lights go I mean gone they clearly understand that they have an opportunity to get better cuts more accurate, that's but also and very importantly, he back right away in the operating room around tissue balancing.

It's really need to see actually.

They have an opportunity to go in and see that you know that kind of light bulb will often the surgeons mines that are using it is pretty amazing.

Relative to 2021, I don't want to give specifics there, but what I would tell you that I would be disappointed if the the level of placements that we saw in Q3, and Q4, which were better than the first half of 2002 and I would be disappointed at that level of placement Didnt continue into 2021 and.

And that would indicate that that does happen that 2021 should have more placements overall between two and it sort of I think real positive momentum great feedback from our customers and in a really strong pipeline of future customers that are out there right now.

Thank you.

Thanks, Brian sure Larry can we get that question. Our next question comes from Bob Hopkins with Bank of America.

Hey, Good morning, guys can you hear me okay.

Yeah, no great yes good.

Morning. Thanks.

Hi, Rick could quickly I appreciate your comments on the heels of the vector courage and it.

We could deal given out quick.

Quick question there is one.

Are those deals that could start to have an impact from a revenue perspective more in 2022, just kind of how should we be thinking about those launches and then on the divestiture side kind of how would you characterize how likely divestitures might be in 2021. Thank you.

Okay. So what I would tell you that the deals that we just talked about obviously are not super accretive relative to acquired revenue growth and there's not much there that I think about a more product launches that we have facilitating product launches in these very attractive spaces AOCI.

It would also be in sports, which is kind of accommodation and see no impact and then also in the data informatics portion of things, but I would absolutely expect revenue growth to be driven in 2021, I wouldn't say 2022, I definitely believe that the portfolio being.

Being provided by these these acquisitions will immediately give us traction to be able to go out and hunt indeed.

In the marketplace in the sports marketplace.

And continue in 2021 to provide more unique offerings inside of our new category, we talked about that ecosystem. So all three are things that we just know that we just talked about in the prepared remarks, we will provide revenue growth just not acquired revenue growth in 2021, and well beyond that way as far as divestitures go.

Yeah, I wouldn't talk about a timeframe and I won't get into any expectation here, but the fact is is when we think about active portfolio management that is one of the factors now one of the obvious ones is M&A for us M&A that were going to focus on will always be to build scale and innovation that matters in markets that are accretive.

Two rzb weighted average market growth and very importantly, where we think we have a right to win and we see a clear path to leadership.

In those categories that that would potentially be on the docket for divestiture it.

Would be in those areas that are not as financially attractive to the business.

Not as core to our strategy and where we don't really see a clear pathway to leadership those would be the things that we look at when we think about shedding business, but I just don't want to give you a specific timeframe said I'm all set that expectation, but just know that that is part of the equation as we think about active portfolio management with the intent over time.

To move more of our revenue in higher growth markets. That's the intent if we're going to be a top four top performer in total shareholder return we have to have more of our revenue in higher growth markets. Some stuff about lifting bids to upper single digit markets and thats. The intent of the active portfolio management process.

Thanks, So much Bob largely go to the next question if you think.

Our next question comes from Josh Jennings of Cowen.

Hi, good morning, Thanks for taking the questions one on Roes and then just one on your other extremities business.

Just on Rosa just wondering just trying to parse out just the implant performance in knees in the quarter.

What sort of headwind from a third COVID-19, gross or upfront purchase revenues.

Versus the.

Placement dynamic this has been happening over the course of the pandemic and just can you help us as we think about modeling. These rules will placements out in terms of 21.

And just on robotic solutions out there in New York marketplace. When do you think that its percentage of systems that are placed.

Tribe of upfront capital purchase and that upfront revenue.

50% bars, a 25% anything you can help us just in terms of modeling out that system revenue as we think about 2021 and beyond will be helpful.

Okay, maybe I'll hit that piece first what I would tell you. It's we're definitely seeing it's not dramatic, but we're already seeing a slight shift back towards customers, having a desire to acquire either lease or acquire.

Robotic systems that almost seems like it's already starting although not nearly at the pace that it was let's say last year and so I would guess that.

Purely a guess, but but I would you know again based on that assume that as we move into 2021, you might see more of a shift in that direction, but.

But I just don't have a good sense, but where it's going to land.

I'll tell you that right now it's definitely.

The larger portion of installations are these placement programs, which is truly what we would prefer I really like having that longer term contracting relationship with the customer that does require a certain volume commitment to the company just build that relationship in a more stable way.

But I would I would assume that as you know our customers get more confidence in a in a market that they may want to shift back to where they were before we're just maybe acquiring more I just want to try to give you a sense for what the percentage would be but.

But it is moving slightly back in that direction relative to Q3 interestingly enough.

In other words, some sales growth in Q3 on a relative basis. It was actually a headwind for us if I think about U.S. needs particular, I talked about 3% growth in U.S. needs. If I eliminated rose as a part of that and just looked at core news no base news.

We actually grew closer to four maybe even a little better than 4% NIM in base news in the U.S. So was once a 100 bips and actually a little more than hundred bips of headwind from rose in the quarter.

So hopefully that answers question.

Well, that's that's very helpful. Thanks for those details I'm, just I heard suky called out strength in upper extremities in the quarter are you seeing any disruption from the Stryker right combination maybe hard to parse out in the middle of Pandemics, plus just want to get your thoughts on.

Opportunity with the integration next year.

Second biggest competitor.

What that opportunity represents in your mind freezing for extremities business. Thanks for taking the questions.

Yeah, absolutely I mean, it's the fact is you know when we look at the performance in right that you've had a pretty good quarter. So you know clearly leads based on that performance one would indicate that it's not disruptive yet.

The.

Always hoping for things to happen you would be very I'd be very happy if that wasn't disruption when when you try to bring those two organizations. Together. Finally, the fact is most of the time in our industry when you're bringing Jordan as agents together there is dyssynergy risks risk. There just is it that's why I like some of the small deals that we just did it really eliminates that dyssynergy.

Risk because it really more product launches versus bringing two sales organizations together. So I would expect at some point just given historical views of acquisitions in our space that you are going to see some level of dis synergies.

And the hope is there that we have an opportunity to take advantage of that that said no business strategy. We have a very clear strategy in our extremities business and we're executing against that and and I feel very confident in the commercial infrastructure, we're putting together the product pipeline that we have and the and the traction that we're getting in the marketplace right now with or without.

Disruption coming from our competitors.

Thanks Brent.

Thanks, Larry next.

Our next question comes from the Jay Kumar with Evercore ISI.

Hey, guys. Thanks for taking my question and congrats on the group from here.

Bryan maybe a big picture question now if I look at back 2021, the Street's modeling earnings about 2019, I'm just curious about a couple of your peers have cargo gross margin manufacturing variance Africa is there anything you need to be aware from a margin perspective and I.

Sure, Steve perhaps you guys comfortable that the street EPS number.

Mig what I'll do for that one is just to pass it over to Suky to provide a little more color. There I know you had some of that in your prepared remarks that you, but maybe you can comment on that.

Yes, sure. So we're not obviously, giving guidance on 2021 and I'm not going to speak to you know street numbers, what I would say.

Extra profile, obviously, it's going to be driven by revenue and a large component of that is going to depend on what happens relative to to COVID-19.

Yeah from a topline perspective, we saw situation where the recent surge is within experiences began to abate or moderate and that stabilize there could be a pathway to seeing a 21 revenue profile. That's in line with 2019 revenue.

And you know we got into next year and saw that stabilization moderation, but also on top of that fall back seen.

More credible treatment in tandem with APAC seem you could potentially see volumes or revenue rules header of 19 levels. So that's kind of how we're thinking about it from a broad strokes perspective, but theres look a lot of runway between here and there relative.

Relative to covert and how thats going to play out so we're going to we're going to pause on giving too much additional color beyond that from a market perspective, it's really going to fall in line with overall revenue and volumes right. As you would expect volume for revenue is better so margins that backs into it.

I would say as we think about our margins going into next year. There are a number of headwinds and tailwinds that we have taken a consideration using sort of second half this year as well as a starting point or is the run rate first on gross margin as you know, we've actually had a pretty good quarter and create.

We expect a sequential step up in gross margin into Q4 based on on overall volumes the seasonality that we typically see in the fourth quarter, but as we move into next year and as overall regional mix starts to stabilize a little stabilization occur but were seeing a mix tailwind right now that that may abate until next year. So.

That could be a slight headwind as we go into next year and then we have had some pressure on the overall cogs here because of lower volumes because of prior year deferred costs. Those are going to continue into next year. So there are a couple of headwinds in gross margins that were closely watching now having said that we're also very.

Very aggressive on our costs down opportunities and cost of goods, so that that could be a tailwind for next year, but you know weve always talked about coming out of 2020 as part of our broader restructuring program or 30% more operating margin aspiration that you should expect to see a stabilization through 2020.

As you move out to 23 when it comes to gross margin and then within operating margin I'll tell you that we're going to continue to ramp up investment I think what youll see over the last two quarters as our performance relative to market has been strong one of the recent behind that because we've been able to really smart investments and our commercial the team.

We have been optimizing those investments and getting quick ROI on those and so we're going to continue to ramp up that spending because we got a lot of great products. We've got great execution very strong end markets and so we're going to see a step up.

An investment as we move into as we move into 2021, having said all that were consistent with where we were before that if we saw revenue at 19 levels, we would expect.

We'd be disappointed if operating margin within 2021 didn't reach those levels, maybe not for the full year, but within 2021, we would expect to get that kind of margin level. So hopefully that gives you a little bit more perspective on how we're thinking about 21, but again a lot more to play out yet with covance.

No that's helpful.

Helpful. Thank you and Brian one for you on that.

Thanks for all the color on that person a bigger one.

I guess when you look at next year as you guys came crashing on their religion site.

Good good I guess gains actually as you round and gain a beachhead into the primary side of me as well.

I'm, sorry could you repeat that I missed part of the first part of your question you went out a little bit for me could you repeat it.

So on the on the person that revision knee side I.

Nothing to come to move goods so that.

That could allow you guys to.

Go out the crime we.

Implant.

Right as well.

Oh, I got $40 million net gains on the revision side should we perhaps be looking at an accelerating share gains for next year as it could begin sharing too on the primary side.

Yes, I'd say, it's that's the most exciting thing for me on for some of the revision you know and it probably was a little lost the meditating truth in the beginning because I assume to better connection between revision sets in primary but what we're finding is that a good portion of that 40 million or so of competitive conversions.

Our our Tibetans.

Competitive conversions, where we have the primary to so already we did not have the revision system, but a lot of them are the other way around but we didnt have the primary or the revision and so when we pick up that revision business. It absolutely as I said before it gives us the right to hunt for the primary business.

And it's an order of magnitude larger than the revision business. If you just look at the market differential let's call revision somewhere in the neighborhood of 10.

10% to 15% of the.

Overall in the market. The rest of it is really primary units that are out there and that again once we get the revision business.

We then can go after that primary the UTI that that that the surgeons doing it.

It doesn't mean, you're going to natural together automatically get it but you again have a right to go after it and you build the trust and build the relationship with the surgeon and it gives you that chance. So I absolutely expect two things in 2021 continued competitive conversions with primary and with revision, but also that opportunity to pull in the primary business as well.

And that will clearly be one of the catalysts that we use to continue to drive towards above market growth needs. Just as we've been saying it will absolutely be one of the variables that will drive us in that direction in 2021.

Understood. Thanks, guys.

Sure.

And our next question comes from Raj Denhoy with Jefferies.

Hi, good morning.

A couple of questions if I could so just trying to.

To put a finer point on your comments around the fourth quarter. So it sounds like youre, suggesting that Asia Pacific and the Americas, perhaps in line with the third quarter, but given that it is worsening I guess, we should assume that the growth rate in the fourth quarter will be below what you posted during the third quarter was that is that a fair way to think about that.

Yeah, So maybe I'll I'll start if you want to provide any more color you know feel free to do so I would say generally what you're seeing is accurate I would say that Asia Pacific, which is clearly being less impacted by surges in the virus seem to be relatively consistent again, it's early in the quarter, but based on what we've seen so far.

Are pretty consistent with the growth rates that we saw in Q3 overall Q3.

The Americas, even though it's a positive growth it has slightly decelerated versus Q3, but the good news is even with the surgeons that were seeing in the U.S., we're still seeing positive growth and it's close to what we saw in Q3 again, it's early and the risk feels a little more tenuous right now because the surgeons are so much more prominent.

Than they were in Q3, but the fact is it you know you guys just hanging in there and still has positive growth that in EMEA too to your point.

We are seeing more pressure.

The policy decisions and the reaction to the virus surge is more acute in Europe middle East and Africa.

Question about it and I would expect Q4 to be slower growth and it was already negative in Q3 than Q3 was so but we're really watching this everywhere, obviously, but but right now Europe Middle East and Africa is a key area of focus for us to understand what was happening in that region and then importantly inside of that storm if you will.

What are we going to do to make sure that we stay ahead of the competition levels Kern.

So how did you just anything else you want.

No I think you summarized it really well Brian.

Hi, Thanks really my second question is that gets somewhat related fracking you made the comment that that demand in some areas is still at 70% to 90% of normal.

So I'm curious how to think about that is that it's kind of broad statements. Like you still you know more than 10% below which you would consider normal demand and that it's going to take something like a vaccine or better treatments ultimately to get that to 100% beyond.

Well, let me clarify what are you, saying there is what he's saying is that if you take the U.S. for instance, if you look at us specific state or county inside the U.S. and its being very hard hit by surges, where he was referencing is that even in those very hard hit areas. You know account your state you're still seeing 70% to 90% of procedure volume.

That youve typically seen say versus 2019, so that doesnt necessarily mean that broad based we're seeing 70, 90% of demand. It just would say that in that hard hit area, you're still seeing 70, 90% a typical procedure volume.

So that was what he was referencing yeah.

Yeah, I think perfect Roger I think the yeah. The Appalachian from there in any very acute second service, we're not seeing anything that resembles what we saw in April and May right. So clearly the.

The end markets.

The whole system for precision more capex being provided to them.

We are prepared to deal with all of it.

At better protocols Maple tree out here patients.

And they've got incentives to discussing elective procedures, so that thats very to keep going and that of that statement a 79%.

Great great. Thanks for the clarification.

Thanks, Brian It looks like we have time for at least one maybe two more questions.

Well take our next question from Matt Miksic with credit Suisse.

Hi, good morning, Thanks for taking the questions.

One on the <unk>.

UTI and one on just to follow up on Roger's question. There on trend so on on the sports medicine extremities trauma.

You provided global reporting going here.

20% or so your business I was wondering if you could maybe expand a little bit on how the major moving.

Moving parts of that business.

Performing and maybe proportions or geographic color.

It would be helpful and I had one quick follow up.

Okay.

We don't really provide a breakdown beyond the sep overall category.

But what I would tell you is that the U.S. and I think that so if you referenced this in your prepared remarks, just said I think that the overall Sep category. The U.S. was definitely the strongest performer in the world I.

I think we have somewhere in the neighborhood of 6% and U.S. Sep performance from a growth standpoint, so that would indicate that we clearly had lower growth in other parts of the world, which isn't surprising when you think about our Sep category say for instance in Asia Pacific a bigger part of that category would be trauma in that region for some of the reasons just discussed.

And.

The eminence or the significant portion of revenue any specific that you know China has <unk> and <unk>.

Even though we're seeing less surges of the virus in that in that part of the world. We still are seeing less activity in that typically would drive lower volumes in our <unk> revenue growth in sports that would drive our revenue growth in trauma. So.

So just you know when people arent moving as much and not doing as much you typically see those two businesses with inside of as he did get hurt.

And I would say that you know as we've talked a lot about we've had pretty significant focus in extremities now obviously upper extremities is one of the key areas of focus for us and I would just say our growth rate there is promising and as by all the details are provided below sep that debt, but overall, if I look at the category the U.S. region the U.S.U.S.

Or the Americas was definitely the strongest fourth region.

Thanks for that and then just done on fifth year. Your comments, just now on trends and what we could expect and not expect potentially around the surge is is there anything there was a pretty.

Tight period, I guess is this summer in Arizona, Texas, when there were some.

Very narrowly focused constraints like count the other and I'm just wondering if you could talk a little bit about what you saw there.

Quickly is it now.

Now it's back.

And sort of what we might learn from that.

And maybe the next the next few months and some other areas.

Yeah, I think we actually commented on that on our second quarter call and some of those very hard hit County and that's.

Takes that you mentioned, we're operating somewhere in that 80% to 90% range. So.

So we've seen a very consistent pattern now for a few months, where we've seen heightened surfaced.

So like a capex.

Again, another positive inflection that we're not going to return back to those periods of April or may.

I cant service at least based on what we're seeing today.

You know the time to abate it really it's variable right. There is no broad statement it depends on the specific market the specific sub market that you're talking about or territory and the number of searches and how quickly how big that population there and how quickly that that assert rates come back down so it's tough to say, but I in some of those.

Ours hits, where we were at 80 90.

We've seen a path from some of those where they've gotten back to normal or perhaps a little bit above normal within a few months, but again, it's really bearable from market to market.

Thanks.

And that concludes today's question the question and answer session I'd like to turn back to Keri mattox for additional or closing remarks.

Thanks, so much and thanks, everyone for joining us I know will be attached today you have questions. Please don't hesitate to reach out to the IR team and we look forward to continuing the conversation.

Hi, great. Thanks, everyone.

Thank you again for participating in today's conference call you may now disconnect.

Yes.

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