Q3 2021 Zimmer Biomet Holdings Inc Earnings Call

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Good morning, ladies and gentlemen, and welcome to the Zimmer Biomet third quarter 2021 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 4th 2021 following.

Today's presentation, there will be a question and answer 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 Kerry Maddox Senior Vice President Investor Relations and Chief Communications Officer. Please go ahead.

Thank you operator, and good morning, everyone. I Hope you are all well and safe welcome to Zimmer Biomet third quarter 2021 earnings Conference call. Joining me today are Brian Hanson, our chairman, President and CEO, and EVP and CFO Sui if I die.

Before we get started I'd like to remind you that 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 discussion of 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 our Q3 earnings release, which can be found on our website Zimmer biomet dot com with that I'll now turn the call over to Bryan Bryan.

Alright, great. Thanks, Kerry and thanks, everyone for joining us. This morning, let me just start with the things that I'm happy about when it comes to Q3, you know first of all I'm happy on our progress with our new product introductions are going quite well our execution on recent M&A is going as planned if not better our commercial focus and our discipline is as good as I've seen it.

I'm very happy with our growth versus our key competitors in both large joints and insert, particularly when it comes to the U S. The team in my view continues to drive results in the areas under our control.

And as a result, I continue to be proud of them for doing so.

Turning to the Q3 was also a quarter with unexpected negative environmental impacts that are for the most part out of our control Q3 brought greater COVID-19 pressure than I think anybody expected no more customer staffing shortages certainly than we expected and an earlier China V P impact than we anticipated and this resulted in Q3.

<unk> revenues that were lower than we had projected and unfortunately, we expect these pressure points to continue into Q4 and as a result, we need to update our 2021 financial guidance and really the view we have of the fourth quarter as we look forward until we see a fundamental shift in these trends were just going to assume that these pressure Paul.

<unk> aren't going away, but we will be with us into Q4, and possibly into early 2022, well, let's just start by taking a look at COVID-19 and staffing concerns kind of together because I believe they're somewhat related.

As I think most of US know by now that there was a significant delta varying surge in Q3 that drove more COVID-19 pressure, then again I think anybody expected. We previously thought COVID-19 pressure with lesson through the back half of the year, but instead, while procedures did seasonally step up in September it wasn't by as much as we expected again due to the end.

Has COVID-19 and staffing pressures and as a result September was our least attractive month relative to growth and until we see a real shift in COVID-19 and staffing related recovery, we're projecting that the pressure. We saw in September will continue through the end of the year.

Gotcha. That's of you of Covid, if we think about China V. P. The process in China is moving forward in although it's still fluid we are getting more clarity on what it will mean this year ended 2022, and our assumption going into the process was that <unk> would pose no more than a 1% risk in terms of impact.

Back to <unk> overall revenue and although for a number of reasons. The overall impact will likely be greater than what we originally anticipated. We do believe that sizing. This at around 1% of revenue impact is still accurate that is the right way to size. It that said the timing of the revenue impact is definitely shifted forward and we now.

Spect that much of this impact will be felt in 2021 and there are a few factors that are driving this shift into 2021 first one is around current year inventory reductions by distributors and the second is around just ongoing negotiations we have with our distributor partners that are beginning to include price concessions.

On existing inventory and then unfortunately, we're now seeing patients differ their surgeries until after the lower <unk> pricing is in effect, apparently even though China achieved near Universal public medical coverage. There are out of pocket expenses that increase or decrease based on implant pricing and this is substantial.

Enough for patients to defer their procedures. So clearly in summary, although we feel very good about our execution in the areas. We can control. These macro environmental issues continued to mute our overall performance and these are fluid. These issues for sure. They are fluid, but we've done our best to incorporate our current view of their impact and our revised guidance.

And I think that's a pretty good segue to move to Sookie section, where he is going to focus on Q3 financial performance and I think very importantly, our forward looking guidance Okay Suki.

Thanks, Brian and good morning, everyone.

I'm going to briefly discuss our Q3 results and updates that we've made to our full year 2021 financial guidance.

Moving forward unless otherwise noted my statements will be about Q3, 'twenty, one and how it compares to the same period in 2020, and my revenue or P&L commentary will be on a constant currency or adjusted basis.

We've also provides comparisons to the third quarter of 2019, as we feel that performance to pre pandemic results is an important comparison.

Net sales in the third quarter were one point 92, 4 billion a reported decrease of <unk>, 3% and a decrease of <unk>, 8% on a constant currency basis.

When compared to 2019 net sales increased <unk>, 4%.

On a consolidated basis as Brian mentioned, we were growing through August, but then declined in September as we saw Delta Varian cases, and staffing shortage increases.

In short there was a seasonal step up in procedural volumes for the quarter, but the recovery has not taken hold as fast as we thought it would especially in our hip and knee businesses.

The Americas declined three 2% or flat versus 2019.

The U S declined four 4% or up 1% versus 2019 lower U S performance in September was the key driver to lower our consolidated results.

EMEA grew five 9% or up 3% versus 2019. This is the first time the region posted positive growth since the start of the pandemic.

In the quarter, we saw an improving trend across a number of markets. However, the U K, France, Spain in most emerging markets continued to be challenged despite higher vaccination rates.

Lastly, Asia Pacific grew <unk>, 5% or up one 5% versus 2019.

While we did see growth versus 2019, it decelerated versus what we observed in the first half of the year. This was driven in part by pricing adjustments on channel inventory as we continue to negotiate with our distributor partners ahead of GBP implementation in tandem with continuing COVID-19 pressure throughout the region, especially in Japan and Australia.

Failure in New Zealand.

Turning to business performance in the third quarter, the global knee business declined 7% or down 1% versus 2019.

In the U S knees declined five 3% were down <unk>, 7% versus 19.

Our global hip business declined six 6% or down two 4% versus 2019 in the U S. Hips declined 11, 3% were down two 4% versus 19.

The sports extremity and trauma category increased four 2% or seven 7% versus 19, driven by continuing commercial specialization new product introductions and the contribution from strategic acquisitions, we added to this portfolio in 2020.

Our dental and spine category declined six 1% or down 2% versus 2019.

The dental business posted good growth in the quarter and continued to benefit from strong execution and market recovery, while the spine business declined when compared to 2020 and 2019 due to increase in COVID-19 pressure throughout the quarter.

Finally, our other category grew 15, 4% or down one 1% versus 2019 inside this category, we saw ongoing demand for Rosa knee as well as increased revenues from the launch of our Rosa partial knee and hip applications.

Moving to the P&L for.

For the quarter, we reported GAAP diluted earnings per share of <unk> 69 cents lower than our GAAP diluted earnings per share of $1 16 in the third quarter of 2020.

This increase was driven primarily by cost of goods and higher spending related to litigation or spinoff and R&D. In addition, our share count was up versus the prior year.

On an adjusted basis diluted earnings per share of $1 81 was flat compared to the prior year, even though sales were down we implemented targeted reductions in SG&A, which in tandem with a slightly lower tax rate helped to offset higher investments in R&D and a higher share count.

Adjusted gross margin of 70.3 was just below the prior year and the results were slightly below our expectations due to lower volumes in tandem with less favorable product and geographic mix.

Our adjusted operating expenses of $852 million were in line with the prior year and stepped down sequentially versus the second quarter inside of that we continue to ramp up investment in R&D and commercial infrastructure across priority growth areas like S E T robotics and data and informatics.

And we are offsetting those increases with improvements in efficiency across other areas of SG&A.

Our adjusted operating margin for the quarter was 26, 1% largely in line with the prior year and prior quarter.

The adjusted tax rate of 15, 8% in the quarter was in line with our expectations.

Turning to cash and liquidity, we had operating cash flows of 433 million and free cash flow totaled $307 million with an ending cash and cash equivalents balance of just over $900 million.

We continue to make good progress on deleveraging the balance sheet and pay down another $300 million of debt totaling $500 million of debt Paydown for 2021 to date.

Moving to our financial guidance.

We've updated our full year 2021 outlook based on two factors.

First COVID-19 and customer staffing pressures continuing at levels higher than previously expected.

And while we expect procedure volumes to seasonally improve into the fourth quarter. We are taking a cautious approach and currently assuming that the more acute pressure. We saw in September will continue through the fourth quarter and second as Brian mentioned, we now know more about the dynamics, leading up to the implementation of the China Pvp and project that it will have a bigger impact in the <unk>.

Fourth quarter than originally assumed.

The impact across inventory reductions price write downs on existing inventory and a new factor, which is patients deferring their procedures have increased the impact of GBP and the timing of that impact.

As a result, our current projections for Q4 BP impact is about 300 basis points of headwind to our consolidated results.

But the situation remains fluid and we will continue to update you as the implementation of EVP unfolds.

For the full year, we now expect reported revenue growth to be 11, 3% to 12, 5% versus 2020 with an FX impact of about 140 basis points of tailwind for the year.

While we are taking steps to further reduce spending in the fourth quarter as a response to our lower revenue outlook, we are reducing our adjusted operating margin projections to be 26% to 26, 5% for the full year, our updated full year adjusted diluted earnings per share guidance is now in the range of $7.32 to $7 40.

Seven sets.

Our adjusted tax rate projection is unchanged at 16% to 16, 5% and finally, our free cash flow estimates remain in the range of $900 million to $1 $1 billion.

This updated full year 2021 guidance range implies that Q4 constant currency revenue growth will be between negative two 3% and positive one 8% versus Q4 2020.

And we project Q4 adjusted earnings per share to be between $1 90 to $2.05.

We kept a wider range of potential Q4 outcomes in our guidance to account for the uncertainty around COVID-19 searches customer staffing pressure N V. B P implementation.

As a note we do believe that COVID-19 pressure, including the related staffing shortages will continue to mute pandemic recovery as we move into 2022.

Additionally, as we mentioned earlier GBP is expected to reduce 2022 consolidated revenues by about 100 basis points.

That impact will be felt in our large joint segments.

And we will negatively impact gross margins as we move forward.

To respond to this we are accelerating transformation and efficiency efforts to help offset these headwinds.

In summary, the macro environment presents challenges, but our underlying business fundamentals remained strong as we continue to execute successfully against what we can control with that I'll turn the call back over to Brian.

Alright, great. Thanks, Sookie into close out our prepared remarks, I'm going to talk about what <unk> can control are our strategy and our execution and that's why I have such confidence in our long term growth projections. The ZB team remains intensely focused on creating value and most importantly, delivering on our mission or under.

<unk> business is strong and overall, we're pleased with our performance in large joints and set versus market. This is a significant shift for CEB versus where we were just a few years ago and an important driver of our ongoing growth.

Our innovation is in full stride and that's a big part of this we're going to enter 2022 with the new product pipeline of more than 20 anticipated product launches across the next two years and of course. This is incremental to a number of new products, we recently launched including but certainly not limited to Rosa partial knee Rosa hip and persona IQ, which is the first.

<unk> knee implant in the World. We're very excited about this launch and we continue to see strong Rosa placements increased robotic penetration into our accounts I think most importantly, just more robotic procedures as a percentage of our overall procedure base and Rosa is even more attractive because it's a key component of our E. B edge suite of truly integrated solutions.

And it really does help to tie pre intra and post op data together with the goal of changing patient care and finally, we are accelerating our corporate transformation and we're making great progress on the planned spin off of our spine and dental business. We've just recently appointed a new CFO and other key leadership team members for Zimbabwe, we can.

To be strategic and selective in our active portfolio management process in Nevada key assets over the past year that have helped us to better compete and more importantly to win across robotics and data dental set C. M. S T and the broader ASC market, we're reinvesting in our business for sure, but we're also advancing efficiency programs designed to streamline and improve.

How we operate and very importantly drive savings all of this forward momentum plus Z vs differentiated portfolio the expected value creation of our planned spin transaction and our ability to execute really does give us continued confidence in our path to grow revenue in the mid single digits and to deliver a 30% operating margin by the end of 2023.

And I can tell you that this is clearly a time of significant challenge in market pressures, particularly given the fact that we have such a dependants on elective procedures. So there's no doubt about that but this is also a time of significant opportunity for Zimmer Biomet, we look forward to delivering for our team members delivering for our shareholders and most importantly, the customers and patients that we.

Okay, and with that I'm going to turn it back over to Karen to begin the Q&A session. Okay Carrie.

Thanks, Bryan before we start the Q&A session. Just 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 B T I G.

Great. Thank you for taking the questions. So okay I really appreciate the guidance for the fourth quarter strength, maybe $200 million or so ahead of kind of where your land and for the fourth quarter.

<unk> 40 cents or so below.

Below consensus in terms of EPS fine and so just I'd love to understand specifically kind of where you see the greatest delta kind.

Between your previous expectations from our product segment, a recovery standpoint, it sounds like <unk>, maybe it's three fourths of that $200 million, but.

Outside of that kind of where you see an impact that we should be thinking about from a from a guidance perspective.

Yeah. So thanks for the question Ryan.

Absolutely our Q4 implied is lower than where we were when we last provided guidance in August and updated in September and if you remember that guidance is predicated on you know COVID-19, not worsening and actually starting to see things recover and improve <unk>.

And as we came into the third quarter. The early part of third quarter, we actually saw some positive momentum with some modest growth in the first two months, but then as we came into September we saw.

While we saw electric procedures increase in September as they generally do seasonally.

That pressure from Covid and from staffing shortages was greater than expected such that the growth wasn't there and we just didnt get to 2019 levels. So you really have to think about recalibrating. The third quarter and then you move into the rest of the year because it was much lower than what we thought and then you know our original guidance suggested that Q4.

It would be odd.

At about market growth or slightly better that clearly is not what we saw in September and so what we're doing is we're taking that September trend, which was down and we're carrying that forward into the fourth quarter. So that I would say is the largest component of our takedown for our rest of your guidance for Q4, specifically in addition to that there is.

Some incremental additional pressure due to BBB, we had always assumed that there would be some inventory dynamics that we accounted for within our are our forward looking guidance range, but what we're seeing now is a slightly bigger impact primarily driven by this notion of were seeing in market and from our local teams are telling us that.

Patients are beginning to defer their procedures until the implementation. So they can secure a lower out of pocket. So I haven't really pull back and say that the biggest component is due to that headwind due to COVID-19 and instead of the fourth quarter and growing as we originally thought that pressure that we're seeing in September we're assuming that continues for the rest of the year and that that really is your biggest stuff.

Cause deviation.

Okay I appreciate that color and then just from a margin perspective, I'll stick with you soon.

Longer term margins.

As we talked about 30% adjusted operating margins the strength, assuming about $26 seven in 'twenty, two just given the dynamics today and the expectations kind of how does that stay with you today from that perspective, where consensus is at right now and what is your view of kind of a normalized operating margin and call. It a steady state.

Normalized operating environment.

And then because you do have kind of some operating expenses and fluctuation as a result of some of these dynamics.

Yeah, great Great question so.

I'll try and unpack that first of all we see next year.

As a bridge year into that 30% operating margin, but you really have to step back and there are a lot of moving parts into 2022, and I'll I'll, just try and break that down one by one to help give you. Some additional color first of all like I said about <unk> going into <unk> as you think about 'twenty. One go into 'twenty. Two you got to recalibrate, the starting point right, we're going to be on a lower revenue.

Because of the pressure that we're projecting to see in the fourth quarter and then from that.

Would expect this COVID-19 pressure to continue at least until the early part of 'twenty two right. So so revenue will be pressured we believe in the at least the early part of 'twenty two that that's one overarching assumption and then you know margin largely follows revenue, especially for our company.

From a from a leverage standpoint, and the ability to to get profit off of our fixed cost base, but from there as you move into operating margin. There's number of moving parts I would say first inside of operating margin you have gross margin the way I've always talked about gross margins sort of in the mid term is to take the second half of 2020.

Kind of think about gross margins being stable from there.

It could be slightly up or down in any given quarter, but largely stable to the back half of 'twenty. We still think that that's the right starting point, but what we have to watch out for now is the impact of GBP and what that does is a headwind and also what we're seeing like many of our peers in our sector is some inflationary pressure on cost of goods and input.

Cost of labor costs. So, we'll just have to watch those headwinds look our teams are working really hard to help offset those but you know that that's still a moving target for us and something that we got to continue to put a.

Little bit more rigor on and obviously, we will give more detail when we give guidance at the end of the fourth quarter.

Then within operating margin as well the second key component as SG&A I'm really proud of what the team has done already this year to respond to lower revenues and lower margins because all the factors I talked about and quite frankly, we're accelerating our transformation journey and we're doing that in a number of ways. One we're looking at regional profitability where look.

At restructuring a number of markets that are just below where our expectations would be we're looking at other areas of our cost base and accelerating our global business services strategy and there are other structural type initiatives that we're taking inside of SG&A to help some of those revenue and gross margin headwinds that I talked about so those are some of the moving parts im not going to get into.

Exactly what 22 looks like yet I think we got to let a lot more play out in the rest of this year, especially around Covid before we can we can give you a more detailed view of 'twenty two but hopefully you've got some good color there to help you start on 'twenty.

Thank you.

Thanks, Brian.

Our next question comes from drew Ranieri with Morgan Stanley.

Hi, Brian Thanks.

Thanks for taking the question I guess just to go off of.

The previous question, but more so on your long range plan.

You're mentioning that you're pulling forward some initiatives but.

Just how are you thinking about your long range growth right now at margin targets.

Just maybe help us kind of better understand if any of the composition has really changed in reaching.

30% operating margin, it's about a 400 basis points of expansion it looks like.

But just any more that you can provide there.

Yes, so maybe what I'll do is I'll start off with the components that we've defined as you know what we need to see for growth rates and then you can take it from there on the op margin piece first.

First of all when we think about this 4% to 5% growth that we're trying to accomplish and we've been pretty clear on what we need to see to make that happen first and foremost we need to see above market growth and our biggest franchise, which is knee and we've been able to prove that over the past six quarters or so that we were able to get a trend in that direction.

<unk>.

Second is we need to be at market growth in hip trending to above market growth as we get Rosa traction, which is now in the market new to the market, but now in the market and then we needed to be in that mid single digit growth rate for set.

Not to the upper end of that and so those are the areas that we're really focusing on what we believe are the building blocks as we get into 2023 figured that 4% to 5% revenue growth. We still believe that that is absolutely possible for this organization. So that's kind of the topline view, which would be a big component obviously of driving that operating margin that we're.

Projecting in 2023 as well.

I'll pass it to you for that Yeah, I think that's one of the key components and we're consistent on how we think about that operating margin expansion that is largely leveraged driven right. We talked about gross margins being stable I've talked about some headwinds that we're going to look to offset over time, and then SG&A, becoming a lot more efficient in the ability to reinvest that back against that higher growth, which.

<unk> gives us that leverage to 30% operating margin. In addition through active portfolio management.

<unk> also had the spin which is going to create a.

A tailwind for us from an operating margin standpoint, as well so feel good about that so we still think we have all the right building blocks in place to get to that that 30% operating margin run rate as we exit 2023.

All of this obviously assumes that when were in 2023 that Covid is in the rearview mirror and no longer a headwind obviously.

Thank you and just as a follow up just on persona Iq.

Brian you just launched the product, but would love to get your initial feedback on what Youre hearing in the field and maybe if you could set expectations of.

How long should progress over the next 12 months I mean would you be disappointed if it wasn't.

They don't know why I don't know why but as we collect this data and again the data Lake gets larger we're going to be able to predict y and be able to change that outcome. That's the intent here and why that's really important is because when we can do that you got patients sitting on the sideline right now that would enter the funnel, but are afraid to because they don't believe they're going to get the satisfaction, they're looking for.

We can change that paradigm, we can get more patients into the funnel. That's good for everybody in this space. So IQ is very attractive to us, but it's a part of a bigger equation and I can tell you from IQ perspective, we're in a very limited launch we want to learn as much as we can as fast as we can we do have some supply constraints here and that will put a little bit of a.

A damper on how we're going to roll. This out microchips are tough to come by it's not impacting us in Rosa because youre talking hundreds, but when you move to IQ youre talking thousands and so it is going to get in the way in the short term that we're again, we're trying to work through it but that is going to put a damper on our on our launch the demand is great. There's a lot of noise around this and people are very interested.

So that's a good sign we've got to work through the supply constraints and move this forward, but overall, we're very happy.

Thanks for taking the questions.

Sure.

Thanks, and Lauren can we move to the next question the key thing.

Our next question comes from Amit <unk> with Goldman Sachs.

Oh, Thanks, and good morning, just wanted to maybe first to get a clarification on the China situation.

I'd love, a little bit more color on what Youre, what youre thinking now in terms of your share within the China market going forward, but also whether you are contemplating spine and trauma and and the new impact an end and then perhaps most importantly, why would next year be 100 basis point impact given the.

Are you already seeing pretty significant impact this year.

Yeah.

Maybe I'll start with with the impact no matter what happens in this base year, we're still predicting a 1% shift to whatever revenue assumptions you had in 2022 right. So if you look at growth rate from 'twenty, one to 'twenty two that's going to change because you can have more in your base, but the actual impact to consolidated revenues is still 1% in 'twenty.

Two is that that's why we're looking at it I'm going to say, 1% sounds like I know exactly just know theres still some variability here could be a little more it could be a little less but I think the right way to model. It is 1% remembering again that even though it's 1% of consolidated revenue. It's all in large joints. Okay. If I think about our share position in China.

Great and just give you a factoid.

Just as an example, if you look at our Asia Pacific specifically, China, but gives you. Some context here. If you look at our Asia Pacific knee business revenue that we do on an annual basis, it's bigger than all three of our major competitors O U S knee business. So that gives you some sense for our market share inside of Asia Pacific and inside of China. So this is a pretty important market for.

US here's what's great job, when we think about share position going forward, even though it's not as an attractive market now because of the margin profile of the business in large joints. We want every one of the categories. There are any categories number one it may be in an attractive space, but you still got to win and the first step in winning as you gotta be in play and we are in play in every one of the categories, where the only multinational company to do that.

Number two now is going to be negotiating with distributors. So we get the best distributors to be able to get the most share at the best margin and that's exactly what we're focused on right. Now so that gives you a sense for how we're feeling about it and when I think about trauma spine. It's too early what I'll tell you on trauma Theres a provincial tender that just went through is 12 provinces tender.

That we think we're at least hearing rumors could end up being a national tender kind of transitioned to a national tender, but we don't have any sense for when that would occur but anyway. That's our that's our sense for China, our share position and BBB.

And then I wanted to focus on market share with the with my second question just is obviously.

Important for investors and I think that one of the things that investors have a harder time understanding and I was just the fluctuations in share quarter to quarter, especially in the U S market and so the question is really whether anything is changing in a way you sell the product you know is there more end of quarter selling what is it that you're seeing or doing differently now.

That makes it more difficult for all of us to assess whether you're gaining share and are you kind of consistent basis. I know like you said theres been more quarters of share gains than not in the last six but.

It's still investors are I think uncertain as to where that's going because of some of that fluctuation. So what can you do to help us understand what's happening on a quarterly basis Thats changed in this COVID-19 era.

Well, what I would say is that there is nothing that I would point out for us I mean, we're conducting business. The way. We always have my sense is probably everybody elses too I think what's happening is just theres a lot of variability in the market because of Covid.

Think about it I mean, you know COVID-19 is surging at different times in different states in the U S different cities in the U S and it all kind of depends on your mix in those in those states and Thats just looking at the U S. It's even broader than that and more volatile outside the U S.

The challenge in seeing these individual quarters have these these deltas between competitors is not necessarily because competitors are doing anything different it's because the market dynamics are very different that's why I continuously look at trends even in these turbulent times. The trend typically tells the story because it neutralizing some of that.

Creation, but but I don't think there's anything that anybody is doing differently I just think that the market is creating a much more challenging environment to look at consistency from company to company.

Okay. Thank you.

Thanks, Tony.

Can we go to the next question in the queue.

Our next question comes from Joanne Wuensch with Citi.

Hi, good morning, and thank you for taking the questions.

Just two in particular are the first one has to do with the month of October it sounds like you're taking September and applying back, but we have a whole another month of data in between is there anything you can share with us on how that is looking or how it looked.

So without giving specifics.

We haven't seen anything in October that would indicate that this logic that we're using is incorrect.

Okay.

And then the other category, which houses where is that.

Can you share a little bit of color on how that launch is going in terms of utilization Halo effect other products competitive accounts anything that flushes out out of that would be appreciated. Thank you.

Yeah, you know it's interesting because in these turbulent in challenging times you always look for things that you are excited about our innovation pipeline is one that I'm very excited about and at the center of that is Rosa. There's no question that we continue to deliver on our expectations. There if not above and I'll. Just go back to the design characteristics that we've put into place you know, we really took off.

Time to make sure that we learned from who went first and we designed a robotic system that surgeons are really want it and that's translating into demand and that continues. The fact is surgeons don't want to change the flow of their procedure and we have created a robotic system that that keeps it as close as possible to non robotic procedure.

Big time neutral to be able to use robotics at the same amount of time it would take to do a non robotic procedure.

Including all the accuracy, though involved in it.

We made sure that we didn't change the standard of care relative to imaging, we don't have to UCT scan people don't use it otherwise and they can use a typical imaging that they would use for a procedure all those things combined with the best implant that we have in persona is what's driving traction right now and we are absolutely seeing strong demand.

Is continuing for us we're seeing deeper penetration as a result of that into our accounts in competitive accounts as well and what's really important about that is with all these placements now in place remember the pull through that you're asking about the commitment of volume is being muted by COVID-19. So when the Covid you know cloud is gone.

<unk> units that we have in place will actually increase their overall input not just in the disposable price point that you have with robotic procedures, but also the pull through of competitive business. So we're very excited about where we are with Roes that we know that we've got the right design in place and we're seeing great traction.

Thank you.

Sure.

Thanks Joanne.

Our next question comes from Kyle Rose with Canaccord.

Great. Thank you for taking the questions two from me as well first on <unk>.

You talked a little bit about accelerating some of the transformation program. Just wondering if you could maybe break that down a little bit more granularly, what specifically have you accelerated and then maybe what costs do you expect to unlock over the course of the next year 15, or 12 months to 15 months.

Yep.

So thanks for the question.

Still in the planning phase of that and we'll have a lot more detail around that on our fourth quarter call as we come into 2022.

But the key areas for us are really around as I talked about earlier accelerating our view.

<unk> profitability in regional profitability, how we ultimately go to market, what's our infrastructure in a lot of our smaller markets and just making sure that investments are in fact aligned to growth and opportunity. So I would say that's one the.

The second area as we look across our organization, we looked at how we're structured relative to benchmark and where we had outliers, where we had higher costs.

We're looking to take actions to make ourselves more efficient either through just restructuring and de layering and or accelerating moving resources through our highly capable global business services that we have in lower cost countries. So those are probably the two key areas I think the third structural area. We're looking at is consolidated continued consolidation of our ERP.

Systems, which is going to give us a better global process orientation, which could yield savings over time and then of course, we're always actively looking at site rationalization to help with gross margin and I'm really excited about where the team is moving with pricing improvements going forward. So again, we're going to provide more detail as those big.

More refined both on the contribution but also the relative cost to those when we give our fourth quarter earnings.

Yeah.

Great. Thank you and then.

Maybe Brian on could you maybe some of the bigger picture longer term initiatives, you've talked about I mean, you talked a lot about <unk> and my mobility and we've got persona IQ in and I understand that IQ is going to be a slower rollout, but maybe just help us understand.

Where you are as far as commercializing some of these initiatives that you talked about from a long term perspective, I'm just trying to really kind of put some goalposts around.

Expectations for investors as far as you know when we will actually start to see these materially impact your business and be a driver or a competitive differentiator.

Yeah.

You're already seeing some of this and the nice thing is is we're just in the forefront of that innovation pipeline, Here's what's interesting I think one of the most important things about that five quarters out of the last six where we've been above market and need isn't necessarily the amount that we've been above market or just even though six quarters just looking at the trend.

Break that youre seeing from VEB, and what I mean by that if you go beyond those six quarters and you look at the 20 plus quarters that <unk> has been a company. We did not have one quarter as a company above market in knees, not one quarter and more than 20 quarters. So that is a significant reflection.

The transformation, taking hold and it's a reflection of the transformation taking hold when we were at the just the beginning of the innovation cycle. We're only about a mid single digit vitality index right now our strap plan would indicate that is going to triple over the strapline period, that's a dramatic tailwind that we expect to see in our innovation pipeline, which is a big part of why we believe this is.

<unk>, if you look at specifically in knees and the execution is definitely better than we've seen before our compensation structure is now focused on growth rather than just maintaining business and our operating mechanisms are as good as I've ever seen there's clearly no more supply issues anymore. It's all around innovation now and innovation still drives from persona revision.

That is still getting conversions on the revision side, but most importantly, now it gives you a beachhead with customers that are using our revision system and somebody else's total knee guaranteed we're going to be pursuing that total knee business and that's bigger than the revision business you still have Rosa knee. That's just getting started and we've got a lot of headroom in Rosa knee and that continues to pace very well.

Rosa partial just launched remember partial we have a very large share position. So even if we didn't get competitive business, which you're certainly going to try we have a mixed benefit associated with that and those partial in those partial procedures persona IQ just starting as we talked about before <unk> is exciting and then in 2022, we've got a new form factor for our.

Persona, <unk>, which is going to remove all stops for us to be able to pursue a conversion to cement lists cement less knee. So all those things just give you a lot of shots on goal to continue to drive strong performance in knee.

Great. Thank you.

Sure. Thanks Kyle.

Lauren can we go to the next question in queue. Please.

Our next question comes from Sam <unk> with Truest.

Alright, Thanks for taking the question and then I'll just ask both upfront and so when we think about that September pressure continuing into the fourth quarter with the two components the colon and staff shortages I think the general thinking is that Covid is getting a bit better here. So should we take that to mean that shortages are becoming a bigger portion of the problem into the fourth.

Quarter, and then as a follow up to that a little bit harder to predict windows those staff pressures ease up so how long do you think about those impacting volumes and what are you looking to looking forward to indicate that the pressure from staff shortages is easy.

Yes.

So I guess, either one of you and I can answer this.

What I'd tell you is that it's probably a bit of a conservative approach to look at September and then assume that that's going to continue through a lot of indicators would say, it's going to get better the combination of COVID-19 pressure on staffing, but here's what we've learned every time I try to use an external view of when COVID-19 is going to get better we seem to be wrong.

I'm not going to go with that I'm going to go with what we are actually seeing in the marketplace and what we're seeing in the marketplace is consistency not always the same mix of pressures between COVID-19 and staffing, but consistency in the overall pressure in October that we saw in September.

And so I've learned my lesson I'm not going to try to predict this anymore until I actually see proof in the marketplace that we're seeing firsthand that were bending that curve. We would expect this to continue into 2020. Your guess is as good as others have tried to predict when this is going to stop your guess is as good as ours. We truly do believe this whole flowed into 2020, we don't know how far but we do believe.

Thats going to flow into 2022, and San Francisco just to build on what Brian said I think the labor shortages is the toughest component picked really try and read right because it is unprecedented.

It's not just that the nurse levels really throughout the hospital setting what we do know through survey data. This is not statistically relevant. So please don't run too far with it but.

Over half of the physicians that are reported in the third quarter stated that they are they've suffered from labor staff shortages and windows.

Windows particular physicians have that challenge theyre doing about 10% fewer procedures than they normally would do so that's very real.

And we're also seeing that that impact is greater in the hospital setting than it is in the ASC setting and as you know we've got a we've got a more prominent share in a hospital setting. So I think it more disproportionately impacts us because of those.

We're taking the approach until we see substantial durable improvement.

We're going to continue to take.

Take a view that this is this is lingering with us but again hopefully it is a conservative view as Brian said, hopefully it lifts sooner than we all expected and we're better off but that's how we're thinking about it.

Yes.

And Sam did you have another follow up I think that was two.

Two questions in one but anything that close yes, sorry that was my two thank you great.

Alright, Lauren can we have the next question in queue then.

Our next question comes from Mike Matson with Needham <unk> Company.

Yes, thanks for taking my question.

I guess I wanted to start with.

M&A.

Thought you would've done more by now.

There are multiple too high or are you waiting to kind of get through all this COVID-19 uncertainty you need to delever the balance sheet more or is there. Some other reason that you haven't gotten more active in terms of acquisition.

Yeah. So clearly we would like to do more to but I got to be honest with you. If you think about the COVID-19 pressure there from an EBIT standpoint, and you look at the debt leverage ratio that that's created for US. The fact that we've done as much as we have with the limited firepower. We do have is pretty impressive I'd actually give the team.

Compliments to be able to select targets get creative in the way that we pay for those targets even in an environment with high multiples and bringing in technologies that are absolutely fundamental to success inside of set for instance, our A&D acquisition helps us in our thoracic space, which is a big growth area for us that we're focused on the <unk> technology that we brought in.

That significant gaps we had in sports and that gives us the ability then to leverage that full portfolio.

And even omni suite, which is not overly exciting when you talk about booms and lights, but it gives us a bigger presence in the ASC market all those things happened in concert with a relationship with Canary.

Smart implants long term smart implants beyond just neat.

During the time that we just didn't have a lot of firepower, we absolutely expect over the next five years to increase that firepower, particularly as Covid gets behind us and we will then flex more muscle in this area, but I would say the opposite I would say that we did more than I think it would have been expected given the firepower we had.

Okay. That's helpful. And then just looking at it in the right kind of category. It looks like your hips were down substantially more than your needs in the quarter.

I thought the hip.

Hips were somewhat less likely than maybe would have been less affected by the Covid wave is does that is that really just a reflection of the new products and burrows.

Or is there something else going on there.

Yes, so that is a switch because what we have seen in the past and I think everybody has seen that the knee procedures were lagging behind hip mainly because you've got two factors number one.

Really hurts when you've got a hit procedure issue and there was some trauma related to it as well, but I think what you're finding is that that initial wave was where backlog was being consumed at a faster pace with hip and some of that is caught up is my view on it and then the knee procedures now or are they just really been waiting you've got patients that have been out there for a year.

That are finally coming in to get a procedure and so I truly do believe these patients have waited as long as they could from a pain threshold standpoint, but now we're entering the market where a lot of those that had significant pain with hip or trauma, we're already in the funnel.

Only thing I can I can predict is the only thing I can say why it's happening we will see what happens next quarter, but that's what I think is happening right now.

Okay got it thank you.

Sure. Thanks, Mike Lauren can we go to the next question. Thank you. Please.

Our next question comes from Robbie Marcus with Jpmorgan.

Oh, great. Thanks for taking the question.

Sookie on the the 100 basis points impact from China and next year is it fair to assume that since its price it pretty much just drops through to the bottom line as well.

That's the that's the right way to think about it Ravi.

Got it.

So second question.

Does that hinder your ability to get to your operating margin target at all in 2023 since I imagine that probably wasn't included and then just two quick clarifications. If you could let us know what the M&A and selling day benefit was in the quarter I appreciate it. Thanks.

Sure. So on the operating margin point, it certainly does add another headwind right to get to that 30%, but when we put that 30% aspiration out there there were two big components that we had not contemplated one was VP as you just mentioned, but the other was the active portfolio management and the spin of the spine and dental business, which will be margin.

<unk> we.

We think that those two largely offset one another so.

Again, that's another reason why we're even in the backdrop of this headwind still confident on our ability to deliver that exit run rate at the end of 2023.

Relative to the day rate there is no meaningful.

Headwind tailwind relative to the day rate and thats going to be true for the full year as well and then on the M&A contribution.

I would put it in.

The low single digits.

So if you think about M&A. If you looked at set by itself, which is about 20% of our overall revenue. It's in the neighborhood of about 300 bps of benefit.

So probably less than a percent for the overall consolidated results, but and set it helped by about 300 basis points.

Great. Thanks, a lot.

Sure.

Thanks Ravi.

And we have time for a few more questions can we go to the next one the Q.

Our next question comes from Matt Taylor with UBS.

Hi, Thanks for taking my question guys.

Brian I just wanted to ask you about.

What youre seeing in the marketplace and predicting cobo.

Very challenging.

What about the last year would help I guess inform you what we.

Could see for 2022.

Terms of how things could.

Start to come back I mean, we have had these ebbs and flows and after the third.

In.

The early part of the year, we saw a strong Q.

More muted this time in terms of they come back do you think the Delta is.

Daphne or is there something else going on and just in terms of what we see so far.

Yeah. It's just so it's so hard to predict every time I think I've got it nailed because im looking at trends from the past I'm wrong.

But what I would tell you is I do believe it has been so far anyway more recently a pretty.

A combination of those two the delta surges are absolutely real and that is impacting capacity in the hospitals lessor in the ASC, but definitely in the hospital and staffing surges are very real again, you referenced more in the hospital and the ASC.

Both of those things are contributing what we typically look at though and we still do is to look at starts when a patient enters the funnel.

Usually it takes from the time, they do to the time to get a procedure at four to five weeks that seems to be extending now because you've got more people that are entering the final I believe but here's the thing. We're just not seeing those starts change north versus more than what seasonality would would allow.

So seasonality is occurring procedures are increasing you know August September was better procedurally speaking, we expect the fourth quarter would be better than the third quarter, but that's being muted by these pressures associated with Covid and staffing and so that's the reason why we're changing the guidance, it's not that procedures arent increasing they are they're just not increasing nearly at the clip we would expect because of these pressures.

I wish I could.

I don't have a better answer for us.

Sure. There's a lot of cross one currently but I guess I wanted your view on how much of the staffing is related to cope in another words conceptually.

In 2022, Covid really wave.

There's going to be ongoing staffing issues.

Second half of the year.

Monetization.

It's challenging to say because there are multiple components associated with it. Some what people are saying is that this this mandate for vaccinations that is driving some of this change so that would be changed say vaccination requirements change because COVID-19 starts to leave the pressure point maybe.

But I don't know I think that although they may have started because of COVID-19 challenges just fatigue because of COVID-19 vaccination pressures whatever it may be I don't know that theyre going to work and see.

That's just my guess because I have no idea, but my guess is that there is somewhat disconnected now and you may see lingering staffing beyond COVID-19.

Okay. Thanks, Brian.

Sure. Thanks, Matt.

Can we go to the next question please.

Our next question comes from Enron Zafar with Deutsche Bank.

Hi, good morning, Thanks for taking my question.

I was wondering if you could comment on them.

Are you thinking about.

Blended implant asps in the U S. Over the next couple of years in large joints, obviously, a lot of moving parts with <unk>.

New products higher mix of robotics, maybe AFC versus inpatient.

Case mix things like that.

Net net how youre thinking about <unk> over the next couple of years. Thanks.

Yeah, So I'd answer that in two ways first and foremost we're going to focus on is pricing discipline in the organization and so if I just take everything else out of the equation, we look to be able to mute some of the pricing impact that we've been experiencing as an organization for a long time.

That by itself could obviously help from an ASP standpoint, despite doing better job on the pricing front. That's one area separate from that a big focus for US is mixed benefit. The fact is when we think about share of wallet in a procedure allows the technologies that we're launching.

Actually do have an effect of taking up the amount of money you make per procedure and so if I think about robotics, you've got a premium every time somebody use of robotic procedure in that procedure. When you think about some Atlas you get a premium every time somebody uses it when you think about my mobility every time somebody use it you get a premium in that procedure. So we would actually expect as we get deeper penetration in these key areas of <unk>.

<unk> persona IQ is another one that was it.

We get deeper technology penetration, we would expect the ASP that we capture inside of an existing procedure to go up and actually be a tailwind for market growth.

Okay, great. Thanks, and then secondly can you just talk about your latest views on the opportunity internationally for Rosa.

Solar and timing in key international markets. Thanks.

So I'd say, we've been very happy actually with our ability to get traction with robotics very early on outside the U S launch.

A lot of times, we see a nice split between our U S business and our O U S business I truly do believe in certain markets, specifically Asia Pacific, we have an opportunity to surpass anybody in the robotics space. We continue with the trends that we're seeing we can be the number one share player in robotics pretty quickly in Asia Pacific and not in the too far distance.

In EMEA that take a little longer in the U S. But those are the way we look at it we don't want to just get presence in the U S. We want to make sure that we're getting traction in the U S as well and so far we've seen that.

Thank you very much.

Sure. Thanks, Imran Lauren I think we have time for maybe one last question.

Our final question comes from Anthony Petrone with Jefferies.

Okay.

Hey, Anthony do we have you on the line.

Great. Thanks for taking my question, maybe just to double back on staffing it seems like there's a number of headwinds as it relates to staffing whether it would be.

Just step burnout turnover just in terms of of.

Personnel from health care services to industry and we also heard early retirements could be a big trend in <unk>. So when you think about sort of the stack of headwinds out there.

How deep into 'twenty two do you think some of these trends could last then.

What do you think that could mean in terms of throughput for ortho recon, specifically and then the quick follow up would.

It would be just on as we navigate the next few quarters just to recap on pricing for both hips and knees. Thanks again.

Yes, so again I think I think it's really challenging to try to predict when staffing concerns are going to and I think what's interesting about it is just the fact that there are staffing concerns is driving a whole new sub market for nurses and other folks because you can leave the hospital you're in and you can become a traveling nurse.

And you can get paid a lot more than you're getting paid inside of the hospital youre at and so if you're willing to take that flexibility and youre willing to travel you can get paid a lot more so it is creating a whole new kind of submarket for nurses, which is exacerbating the problem.

I just I, just can't predict that I'd love to be able to do for you, but I'm definitely assuming it's going to happen continue to happen in 2022, I, just I can't say with any accuracy when it would stop.

And could you just repeat the second question you had.

Apologies, just as we sort of navigate.

This period here with some of the delta headwinds in staffing.

And in particular staffing with some inflationary pressure in hospitals, just how you think that will translate to pricing as we head into next year I got you. That's a good question because if you think about it as people are having to pay for traveling nurses are paying a lot more to and theyre trying to retain their talent in this market, which also cost more but this is.

Nothing new I mean hospitals get pressure all the time in their margin and they pressure us all the time from a pricing standpoint, so no matter what the pressure, they're feeling theres going to be a real no really no change associated with how much pressure they put in us for pricing and so I don't I don't predict any real change in our pricing dynamics as a result of this as we said before.

I actually would predict over the five year Strat plan to reduce the pricing impact for number of reasons number one just better pricing discipline as an organization and number two better contracting skills as we contract, particularly with arose in place and multi category contracting we can stabilize our pricing. So there's clearly going to be headwinds, there's clearly going to be people looking for better pricing. There is no question about that.

I don't believe this particular variable will change the dynamic there though.

That does conclude today's question and answer session I'd like to turn the conference back to <unk> for any additional or closing remarks.

Thanks, Lauren and thanks, everyone for your questions today of course will be speaking to many of you today tomorrow and throughout the next couple of weeks and if you have questions and need more information. Please don't hesitate to reach out to the IR team anytime. Thanks, so much for joining.

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

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