Q2 2023 IDEX Corporation Earnings Call
[music].
Greetings and welcome to the IDEXX Corporation earnings Conference call second quarter 2023.
At this time all participants are in a listen only mode.
Brief question answer session will follow the formal presentation.
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As a reminder, this conference being recorded it is now my pleasure to introduce your host Allison losses, Vice President and Chief Accounting Officer. Thank you you may begin.
Good morning, everyone. This is Alison losses, Vice President and Chief Accounting Officer for IDEXX Corporation.
Thank you for joining us for our discussion of the IDEXX second quarter 2023 financial highlights.
Last night, we issued a press release outlining our company's financial and operating performance for the three months ending June 30th 2023.
The press release, along with the presentation slides to be used during today's webcast can be accessed on our company website at IDEXX Corp Dotcom.
Joining me today are Eric Ashman, our Chief Executive Officer, and President and Bill Grogan, Our Chief Financial Officer.
Today, we will begin with Eric providing an overview of the state of IDEXX. This business then.
And then bill will discuss second quarter financial results and update on segment performance in the markets they serve and our outlook for the third quarter and full year 2023.
Lastly, Eric will close the call with his final remarks.
Following our prepared remarks, we will open the call for your questions.
If you should need to exit the call for any reason you may access a complete replay beginning approximately two hours. After the call concludes by dialing the toll free number 8776606853, and entering conference I D number 137344.
Six three.
Simply log onto our company homepage for the webcast replay.
Before we begin a brief reminder, this call may contain certain forward looking statements that are subject to the safe Harbor language in last Night's press release and in IDEXX as filings with the Securities and Exchange Commission with that I'll now turn this call over to our CEO and President Eric Ashlin.
Thank you Alison and good morning, everyone I'm on slide six.
IDEXX delivered record sales and adjusted earnings per share in the second quarter, along with strong free cash flow are fluid metering in fire and safety diversified products business has delivered exceptional performance on strong market fundamentals, both posting strong organic growth and profitability with FMT, you're delivering an all time high EBITDA margin.
Our health <unk> Science technologies segment continue to face challenges impacted by inventory Destocking in our analytical instrumentation life Sciences, Biopharma and semiconductor markets. Our teams within the segment drove double digit organic growth over the last two years admirably executing for customers in the business in very difficult conditions.
Now on the backside of the post pandemic recovery, our OEM partners are aggressively reducing higher inventory levels, beginning with those suppliers that have demonstrated the quickest returns to pre pandemic lead times.
Our teams are appropriately balanced as they execute targeted cost reductions to mitigate a portion of these volume declines drive strong cash flow overall and continue to innovate for our customers.
During our last earnings call, our revised outlook for the year assumed our industrial businesses would slow moderately in the second half while our H S. T segment would experience a modest rebound well our view on the industrial markets has not changed we are no longer projecting a recovery in H S. T volumes in the second half of the year.
Our outlook is based on revised forecast from our key customers, who are reevaluating their end market demand alongside their current inventory levels there.
We're considering many factors overall, including supply chain improvements lower than expected growth in China, and overall macro pressures within their market verticals. This is a complex and rapidly evolving context, which played out for us in Q2 with a 27% year over year organic drop in HST orders.
This moderating demand profile, none of our incremental cost containment actions drives an additional 45 cents of EPS pressure at the midpoint versus our previous guide.
With that as we noted in our press release, we are revising our full year 2023, adjusted EPS guidance to $7 90.
Two $8 per share Bill will discuss the specifics in greater detail during our segment and guidance updates.
In the second quarter. We also closed on the Iridium spectral technologies deal, we announced earlier this year, adding another market leader in custom optical filter solutions, serving the space life science and telecommunications markets.
We continue to focus on driving strong operational performance, regardless of business environment, delivering and innovating for our customers, we're driving speed and agility within our businesses, taking out inventory and driving world class lead times positioning us best for growth cycles to come.
We remain committed to managing through the short term, while not losing focus on critical investments in the development of our people and capital deployment and in our differentiated technologies to enable our long term growth path and deliver above market performance over a cycle.
I'll turn it over to bill to discuss our financial results.
Thanks, Eric moving onto our second quarter consolidated financial results on slide eight all comparisons are against the second quarter of 2022, unless otherwise stated.
Orders of $766 million were down, 9% overall and down 13% organically.
Mainly driven by a 27% organic decrease in HST due to timing of project orders for next Gen sequencing equipment as well as the OEM pressure across the life Sciences analytical instrumentation pharma and semiconductor markets.
Record sales of $846 million were up 6% overall and up 3% organically, we experienced 10% organic growth within FMT, 8% organic growth within FSD and 6% organic decrease in HST.
Gross margin of 44.7% decreased by 10 basis points compared with last year.
This was driven by lower volume leverage in HST, the dilutive impact of acquisitions and unfavorable mix.
Partially offset by strong price cost and favorable operational productivity across the segments.
Adjusted EBITDA margin was 28, 4% up 90 basis points I will discuss the drivers of adjusted EBITDA in the next slide.
Our second quarter effective tax rate was 22, 4% with comparable with the prior year effective tax rate of 22, 1%.
Net income was $139 million, which resulted in an EPS of $1 82, adjusted net income was $165 million with an adjusted EPS of $2 18, which was up 16, 8%.
Finally cash from operations of $141 million was up 26%, primarily due to lower investments in working capital versus last year.
Free cash flow for the quarter included higher Capex and was $120 million.
24% versus last year coming in at 72% of adjusted net income we drove over $20 million of inventory out of the business in the quarter through our targeted reduction efforts.
And we saw inventory turns improved versus last quarter.
Moving on to slide nine which details the drivers of our second quarter adjusted EBITDA.
Adjusted EBITDA increased by $22 million compared to the second quarter of 2022, 3% organic growth included over 4% of price, placing volumes negative for the quarter.
This lower volume unfavorably impacted adjusted EBITDA by $9 million flowing through at our prior year adjusted gross margin rate.
Price cost was accretive to margins and we drove operational productivity.
Offset employer related inflation.
Mix was unfavorable unfavorable by $3 million, mainly centered in HST due to continued volume declines in our analytical instrumentation or life science components.
Resource and discretionary spending was approximately flat versus last year, we've executed tight cost controls given our volume pressure and we continue to identify reduction opportunities for the balance of the year.
Reductions in variable compensation expense based on our updated outlook contributed $5 million of benefit in the quarter.
These results yielded a 60% organic flow through.
Mulan and Casey valve acquisitions net of the night divestiture and FX contributed an additional $9 million of adjusted EBITDA.
Inclusive of acquisitions divestitures, and FX, we delivered 43% flow through excluding.
The impact of variable compensation flow through was about 35%.
With that I'll provide a deeper look at our segment performance.
And our fluid metering technology segment, we experienced strong sales performance with organic growth of 10%.
But orders did contract by 4% organically, mainly driven by the slowing industrial landscape.
Adjusted EBITDA margin expanded by 340 basis points versus the second quarter of last year drew.
Driven by strong price cost performance and volume leverage.
We saw our industrial day rate decline early in the second quarter remained steady at that lower level.
Customers are taking a cautious view of the second half as they process a variety of economic factors that influenced their demand.
Our water business performed well the north American market continues to be positive with extreme weather necessary technology and infrastructure upgrades and improved funding all fueling growth.
Our energy markets remain mix improved chassis availability is driving strength in our mobile applications and the teams continue to work down past due backlog.
But lower oil prices look to slow the pace of investment in the second half of the year.
And the chemical market, we saw positive results across the U S Europe , and Asia with battery markets, providing additional opportunities for growth.
Okay.
The agricultural demand landscape remains mixed farm fundamentals are positive overall and our OEM business remains strong however, distributor inventory levels remain high and we have not seen a material bleed downs, we've progressed with the planting season.
Moving to the health and Science technology segment organic orders contracted 27% in the quarter driven by analytical instrumentation life science and Biopharma customers inventory Destocking.
<unk> of next Gen sequencing, our orders soft semiconductor and slowing industrial demand.
Sales were down 6% organically and adjusted EBITDA margins contracted by 420 basis points, driven by unfavorable volume leverage and mix as well as higher employee related costs, partially offset by strong price cost performance.
As Eric noted our life science and analytical instrumentation businesses are being impacted by customers inventory destocking and reduced demand.
This was driven by a combination of improved supply chain conditions macroeconomic factors and lower than expected China demand. We expect this pressure remain throughout the balance of the year.
The semiconductor market continues to experience softness, resulting from memory oversupply as well as customer is feeling the impact of U S export controls.
We have exposure in multiple parts of the semiconductor value chain and expect demand will stabilize in the third quarter with recovery in the fourth quarter.
Our material processing technology business continues to experience softness across pharma, biopharma and nutrition markets, driven by tighter capital availability and customer hesitancy due to recession concerns, we're seeing some strength in aftermarket and positive impact from our battery market opportunities.
And we see some signs of improved quotation activity, but these early days.
Industrial markets in HFC slowed in the quarter in line with FMT results.
Finally, turning to our fire and safety diversified product segment organic orders grew by 2% versus last year, mainly driven by favorable fire and safety and dispensing results.
Organic sales growth was strong at 8% with double digit growth in both fire rescue and band it adjust.
Adjusted EBITDA margins expanded by 300 basis points versus last year, largely driven by strong price cost performance operational productivity favorable volume leverage and positive mix.
The paint market remains mixed with positive North America results offset by delays of Europe , and Asia customer investments.
Within our fire business, we continue to gain share with North American mid tier in China Oems through our integrated system strategy underlying truck demand remains positive and Oems continue to improve their output.
Rescue markets are stable or stable overall with some distributors burning off excess inventory being balanced by growth in our <unk> products.
Standard results remain positive we continue to gain share in an otherwise flat automotive market, which is partially offset by slowing energy and industrial markets.
With that I'll provide an update for our outlook for the third quarter and full year 2023.
I'm on slide 11.
In the third quarter, we are projecting GAAP EPS to range from $1 16 to $1 65, and adjusted EPS to range from $1 84 to $1 89 organic revenue is expected to decline 7% to 8%.
And adjusted EBITDA margins are estimated to be approximately 27%.
We project six sequential volume declines across HST, and FMT with relatively flat FSD sales on a year over year basis, we expect negative mid teen organic sales decline in HST negative low to mid single digit declines in FMT and low single digit growth in FSD.
Turning to the full year as.
As Eric mentioned, we have reduced our full year revenue guidance in response to a softening H S. T second half outlook, we now expect organic revenue declines of 1% to 2%.
This implies high single digit revenue contraction in HST with low to mid single digit growth in FMT in FSD.
At the midpoint, we have reduced our EPS guidance by 45.
With approximately 60 cents related to lower volume and the associated leverage and unfavorable mix, we offset 15th of this pressure with additional cost containment actions related to targeted restructuring and lower resource investment and variable compensation along with discretionary spend.
In summary, we estimate full year organic revenue contraction of 1% to 2% GAAP EPS of $6 80 to $6 90 and.
And adjusted EPS of $7 90 to $8.
Adjusted EBITDA margin will be approximately 27%.
Capital expenditures are anticipated to be about $70 million.
Free cash flow is expected to be 100, plus percent of adjusted net income with that I'll turn it back over to Eric for his closing remarks.
Thanks, Bill I'm on Slide 12, as we've said in the past our IDEXX leadership will not allow short term economic fluctuations to alter our foundational objectives delivering strong execution for our customers building, great global teams and deploying our capital with discipline.
We've always invested in our best growth opportunities across our well positioned diverse franchises over the last 10 years, we leveraged 80 20 to optimize business performance and fine tune our portfolio towards faster growing application sets, we're now adding power and next level potential to our best advantage businesses and platforms through thoughtful and aggressive capital deployment.
Our <unk> business acquired last year supports the most difficult applications within high quality semi con just like our businesses in sealing solutions and optical technologies. Those optics businesses also play a critical role within space broadband markets now complemented by our most recent acquisition of Iridium spectral technologies.
Our acquisition of KC valves opens the door for our banjo franchise to play even deeper within fluid handling for precision agriculture solutions.
Our next site business brings more software intelligence and channel assets into the water platform Aerotech opens doors within alternative energy Gen sets Apple pump helps customers mine deeper to find them and minerals required to power the E mobility Revolution.
The reality is that IDEXX products are everywhere, playing close to the core of the world's most advanced technologies are components orientation allows for maximum tuna ability and flexibility to pivot resources to the fastest growing megatrends.
None of this is possible without talented people and teams to thrive in an outstanding entrepreneurial culture. This aspect is a source of competitive advantage for IDEXX.
We knew this was going to be a year of transition and dynamic recalibration with of course that would be hard to predict where managing the near term urgently and appropriately, but with an enthusiasm that recognizes the potential for great things ahead with that I'd like to turn it over to the operator for your questions.
Thank you we will now conduct a question answer session. If you would like to ask a question. Please press star one on your telephone keypad.
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Our first question comes from Mike Halloran with Robert W. Baird. Please proceed.
Hey, good morning, everyone. So.
So a couple of questions first let's talk about the.
Obviously, the biggest piece in the quarter, the little instrumentation life science, Biopharma et cetera pressure points and not not overly surprising given what your customers are saying publicly as well.
Maybe talk about a couple of things here, how you look at this bottoming curve. When do you think we can get back to maybe a little bit more normalized environment in the context of some of the funding the oversupply over investment et cetera, I know you don't feel any differently about the long term growth curve.
I'd love to get a sense for internally how you guys are thinking about the recovery since.
Well, thanks for that so I.
I think if we step back and kind of think about this traversing over a course of a year ago.
Back to kind of the end of Q4, that's where we went from virtually unbounded demand essentially only capacity and capability.
Entering the mix as a constraint to those first signs that okay. We're gonna have to tune this thing and get it to something more sustainable long term more normal. So we saw that play out initially as a lot of focus on inventory just too much inventory all over the place I think over time and here, especially in the second quarter view as people start to attack that with.
Analytics, and we got a lot closer to our customers you can see kind of the depth of it where it was accumulated how much it with how long it was going to take to burn that off that became kind of a secondary component for us in Q2.
And then I think I think the piece that has really played out and we saw a lot of this calibration in the second quarter was another assessment of end markets and where they really are on the customer's part.
So you kind of had markets clicking along kind of at the top end of high high single digits I think in the pandemic kind of move back down to an assumption that they would be more normal, let's say more mid single digits and I think closer now to in the near term at least balance of the year.
At low single digits with those factors that I talked about in the opening remarks, and I think probably maybe a strength of China being the only one that was the most pronounced and started to really pop onto the page for and the conversations that we had in Q2.
So we sort of backed up took a look at those forecasts that situation and as you can see here essentially cleared the deck for the rest of the rest of the year I.
I think we bottomed out from an orders perspective, we've seen kind of the levels that we're at now hold here through July .
Even with all of the analytics that we have in inventory you can see the two kind of working together.
I think they'll all of the visibility shifts to probably the real spirit of your question, which is when does this start to get back to something thats more traditional for in terms of growth rates.
For us I think honestly, we see that past certainly past six months that are ahead of us somewhere probably out in 'twenty four obviously, the comparative as we get a lot easier, but I think we're still going to all have to watch we're gonna have to watch and see what's the long term call on China. You know is this a is this a trough or a <unk>.
Cycle, there and there is ultimately an uptick will be listening for that intelligence as well.
Funding environment, how are people leaning in to kind of approving projects and outfitting plants and things that we see in the capex intensive sides of our business probably the semi con piece of that I feel the best about it I mean, that's tracked by everybody and we can kind of see everybody pointing to better days ahead, starting in kind of for us probably be.
Getting a Q4 and certainly leaning into the year. So I think the arrow up in 24, probably still with some variable rates coming out of it and a lot more assessments that we've got to make as we go through a period that we think now has been de risked and sort of laid out there in a way that we can all get comfortable with.
Great No that's super helpful and maybe the exact same conversation on the short cycle industrial pieces, the weakening side of things.
You know obviously build in the prepared remarks gave a lot of context on where some of that softening is but just would like to understand how you think that bottoms out and how that recovery curve plays out in the context.
Clearly a lot of moving pieces out there.
Yes.
Yes, I want to emphasize that that side of the business is it's kind of run its course exactly the way we thought it would.
As you've seen here in our order rates declining that's the normalization of backlog I wanted to make it clear to everybody that.
You all recognize how close to normal we actually are now.
So our backlog.
When you net out sort of the compounded price the aggressive price that's happened over the last couple of years and compare it to sort of pre pandemic levels, where we're basically pretty close for a little higher than normal, but we will get there soon certainly in the back half of the year.
So that's on the industrial side of the business our quarterly coverage that we have.
You are familiar with us we typically talk about half the quarter covered and the other half we have to go find where theyre now.
And so really now we are able to see into these markets and understand you know and.
And take a lot more about the future than the past.
And that's where as you've kind of got <unk>.
Reexamine the list of markets that Bill went through and you are seeing I think in many ways kind of in absence of catalysts, unless it's really really tied to <unk>.
<unk> Mega trend with a bunch of funding sources like the water space for us.
Youre seeing kind of that same story of hey.
Hesitancy, I wonder where things are going.
A little reticent to go ask for big funding of large capital projects. So.
We're well positioned for what inevitably at some point will start to move up.
And I do believe that next cycle is going to be a good one but I think here in the near term, it's still going to be kind of a story of watching the rest of the world catch up and kind of get to the same point of calibration that we are and then I think it is going to be a much bigger broader kind of macroeconomic conversation as we head into 'twenty four of which catalysts will be out there.
The good news for them from an IDEXX perspective, as I know you know Mike we.
We do really well on the entry point.
Once we've kind of hit this point and are ready to go short lead times rapid recovery out there at the tip of the spirit of innovation. So.
That's kind of my take on where things are now with an emphasis on how close to normal the companies actually position.
That's great if I could just squeeze one more in you know you mentioned it confident in this cycle.
We added slide 12, where you were talking about how well you're positioned for growth could.
Could you just give some context of what you think that growth algorithm looks like for you. What are we talking about in terms of what the sustainable organic growth profile looks or the relative outperformance you can get versus when the markets are doing maybe just put that in context on a longer horizon.
I think the examples I cited there, particularly now that they've been augmented with some really really strong capital deployment.
That's closer to that 300% outperformance that we've been shooting for.
In terms of potential and delivery.
Let's say, we enter a world that has kind of a 2% nominal floor.
We would be expecting to drive with combination of solid price capture innovation and the assets that we have something closer to that 5% level and then continuing to deploy capital on top of that.
Ultimately if you kind of run it through the algorithm of contribution margins in the compounding nature of what we have as a company that sets up the double digits, earning growth that I think everybody kind of expects and is looking forward to from an IDEXX.
Thanks really appreciate Eric Thank you.
Our next question comes from Deane Dray with RBC capital markets. Please proceed. Thank you good morning, everyone. Good morning.
I wanted to follow up on the some of the commentaries pulse on the HST and industrial side and on H S. T and we agree this has been well vetted in terms of the public company analytical instrument companies discussing the destocking and and it it we're getting the sense that the bottoming is coming.
But just share with us you're one step removed.
Supplier to these Oems so what is your level of visibility and how has that changed and what has happened with lead times now that you've had.
Much of this destocking happening yeah.
Youre, absolutely right I mean, it's important that people understand.
Typical IDEXX solution here is a component, which is going into some system or device that sends out there. It goes out into the market and then there's a whole bunch of other revenue streams that come with it service and consumables and things we don't participate there.
And so we're talking and we're talking primarily with people in factories in supplying and purchasing change obviously engineering on the innovation side, but typically not the first person that theyre going to talk to you on a commercial conversation about kind of where they are saying so that's always been a little harder for us as a conversation to have and so on.
You can kind of think of the way. This has played out as we've kind of crawl up from the factory floor into front and center commercial conversations mainly because of our criticality. We're in a place we get there were others, probably don't because of the essence of what we're making and what it does for the end device.
I will absolutely tell you that one of the benefits of what we've come through here as we have a lot deeper relationships, where it in different conversations than we've been able to be untrue and our understanding of kind of inventory positions and philosophy is better now than it's ever been before because it has to be.
Your second question then was related to lead times I mean, we are really really good shape and that in some ways is why youre seeing and have seen kind of the rapid degradation of order rates. When we did the same thing when we're thinking about taking inventory out of the system and you can essentially do 80 20, you lineup dollars of supply in your secondary.
Factors always assurance supply Oh, GDN capability when those two things come together essentially hammer the order book and so in many ways, we've seen that play out probably the most aggressive given who we are and what we do.
And it's an indication of where we are from a lead time are all our ultimate backlog position for the company quarterly coverage of quarter rates is also a validation of where we are.
Because it's right back to.
Very very typical levels for us.
Alright, that's real helpful and just a flip over on the industrial side, what we're trying to do is connect the dots here about your commentary about slowing industrial orders and and slowing industrial landscape and I'm trying to parse out.
How much of this is just a result of a normalizing supply chain.
And release of buffer inventories from shortening lead times, which in itself is kind of a.
A normalized process.
But it's not in it.
It doesn't sound like there's anything disturbing on the end market the sell through side the end market demand, but I just wanted to get clarification on that so how much of this is strictly from a normalizing supply chain on the industrial side versus any deterioration on the end market demand.
No I think you're thinking of it right I mean as the predominant driver here is normalization of the cycle absolutely.
It's just I said this I don't know in these calls a couple of last couple of times that eventually you run into physics Theres no need to keep all this backlog around unless youre going to altra permanently the capability of the system.
And nobody wants to do that so a lot of this is playing out if you look at our last quarter here, particularly on the industrial side, we posted double digit organic growth, it's not necessarily indicative of the environment. That's out there that's us eating the last of the backlog in the past due and getting our own lead times, where we want to get too.
As we're doing that it's telegraph through to the customer Who's then dropping their order rates in exactly the way you would expect that they would underneath all of that this allows us to as I said before really see okay. What is this environment that's out in front of US both today and tomorrow and you're right I don't see a lot of things in there that are overly negative.
I see kind of a lot of the same behavior that we saw before this you know in many ways.
Some continued reluctance to make big capital purchase pets, and all of those things, but to be honest that was really werent here over the last couple of years either so.
Theres not theres not a lot of negative noise, that's behind out that recalibration curve. That's happening there I would also say, though there isn't a lot of tons of Super positive things, there as well where people are saying well now that this is behind US we're ready to go on project, a b and C. But I don't know that that is actually different from where we've been so.
I hope that's helpful. But I think at your opening statement is pretty close here that the major driver is a cycle playing out and then fundamentally underneath it.
Not a ton of noise in terms of what's going on market to market.
Eric.
Exactly what we were looking for and I appreciate all the color. Thank you.
X gene.
Our next question comes from Allison <unk> with Wells Fargo. Please proceed.
Hi, good morning.
Yeah.
The H S. T. Thanks for the color on the organic decline in Q3 on the EBITA margin obviously down.
Down year over year this quarter does that take another step down or you stemming the decrementals now just given yet aggressive approach to cost just any color on how we should think about it just given that the sharp decline in organic next quarter.
Yes, so it's bill I think in the third quarter Youll see a little bit of additional pressure as volumes steps down.
In the third quarter, and we bottomed out in the orders side here in Q2 sales will bottom out in Q3, I think margins hit its low point and we will start to build back up obviously the additional cost actions. We've taken have helped mitigate that and then the <unk>.
Volume leverage will get as we start to build back.
The fourth quarter, we will start to set our journey back to a 29% 30%.
EBITDA type margin as we progress through the recovery.
Got it and then just in terms of the dislocation here in these the analytical instrumentation market is that driving any incremental sort of M&A opportunities just given the unusual nature of it or kind of steady as it then just any color there yeah.
Not really I mean, I haven't seen anything there I mean that that backdrop matters that might prevent some folks from putting something out there because they want to let things clear and not be quite as noisy or something like that in the short term.
But nothing that's really popped and said because the cycle is playing out a certain way. The funnel is now composed much different than it has been.
For us.
Got it and then just one last quick one on the inventory draw down on your side and did you say you guys were largely done with that is there still more to go in the second half here now there is still more to go I think from absolute dollars. I think we will continue to bleed inventory turns there will be a little bit pressure just with the decreased volumes.
Within HST, but the teams continue to track and Theres, probably another $20 million to $30 million of inventory reduction here in the back half.
Perfect. Thank you.
Thanks.
Our next question comes from Vlad <unk> with Citigroup. Please proceed.
Good morning team, thanks for taking the call.
So.
I just wanted to ask within SDP, a couple of things there.
In terms of the durability of the strength, you're seeing in fire and rescue.
Are you able to parse out sort of how much of that is a better chance as chassis availability with your traditional <unk>.
And this is versus.
Youre growing relationships with mid tier Oems in the retrofit offerings you now have available.
And I don't know that that particular fine tuning is a big driver here I would say the chassis availability and that improving nature of it as a positive catalyst for that business.
And something we knew when we saw that backlog extend.
For frankly.
A long period of time that as it would start to expand itself, we knew that would be pretty gradual but ultimately positive for us for our business the composition of who they are.
In terms of suppliers inside it is interesting around the margins, but I would say, it's kind of it's going to be put it in the category generally positive and probably positive for all.
Got it Okay. That's helpful. And then just to follow up within that within that segment.
The strength in the North American paint dispenser business I think.
It was a little surprising.
What I was expecting anyway, so were there any.
Larger onetime type deliveries in there that contributed to that strength in.
How are you thinking about the outlook for the NIM dispenser business going forward.
I think the dispensing had a couple of large project orders that theyre delivering on here as they progressed in the second quarter and within the third quarter.
And then I think as we passed the end of the year, the North American replenishment cycle will be for the most part over and then we look for some of the opportunities to continue on the emerging market side Europe was a little bit slower for us this year and see if theres a bit of a recovery going into next year to help offset that but.
That business will start decline, especially on the orders as we progress through the back half of the year.
Okay, Great. That's helpful. Thanks, I'll get back in queue.
Okay.
Thank you. Our next question comes from Joe Giordano with TD Cowen. Please proceed.
Hey, good morning, guys.
Hey, Eric I was just kind of wanted to square.
I know your commentary about like a lack of catalysts.
A lot of the markets and what Youre seeing and just how do you kind of.
Juxtapose that with confidence around an optimism around chip stack, an infrastructure bill in manufacturing non res spending kind of like very high levels right here, how do you kind of square all that stuff, but I think those are all absolutely legitimate through the things we're planning on it it's what we're tuning the company to be.
In some ways, helping people understand and I'm, describing we're at a position now where we can kind of see exactly the mindset of people in the current and the next corner in a way that for years, we have not been able to.
And so I'm with you.
I think many of the kind of bigger broader trends that are out there are going to have nice runs as we go forward. Some of them are underway now some are going to be in the next period to come.
I do think there is some noise in the system, where again people are processing a lot of their own backlog and things like that and then it it's easier to sort of link that to those trends and say well there. It is that's validation.
I just this is a unique point that it's taken us a few years to get to that says everything we see now is actually near term are.
Talking about the world, it's right in front of us so.
And again some of those things are playing out we have that in the walk we talked about water, we talked about some decent things happened and chemicals, we just talked about some of the chassis availability. That's building. So I don't want to diminish those in any way, but in some ways I'm just trying to show that we've really got solid visibility here will be able to see them as they inevitably start to play in.
And layer in at different points, along the curve as we go forward.
Yes, I think Thats fair and would you just would you categorize it seems like most companies.
This quarter are kind of like are certainly changing their their commentary around like industrial distribution and things like that seems to be weakening in orders are getting worse and you guys. Maybe you feel like you were just kind of their first and this is Jeff.
Uh huh.
I will be in a category now I think actually we're in sync with distribution we're out there with them, we're looking for new opportunities and we are already live that.
We were seeing that when others weren't talking about it which is always the frustrating part of the beginning of one of these curves for us. So I knew this year was going to have this element.
Puts us to the back side of it which then says I think youll see that we will be talking about other things other catalysts.
And on a solid way that maybe it's going to take some some time for others to kind of walk into but that is a perfect example.
Fair enough thanks, guys.
Thank you. Our next question comes from Nathan Jones with Stifel. Please proceed.
Good morning, everyone, Hey, Nathan.
I wanted to start with just putting a finer point on some of the inventory correction can you quantify what you think that the headwind to growth or the dollars of inventory that are coming out of the business or coming out of your customers. These days.
This year that will obviously, if we get that destock complete this year won't repeat next year.
Nathan let me take a crack at that I think that's a reasonable amount of the current volume declines as the folks have calibrated on their monthly supply pulling down so that was really our expectation in the first quarter as they looked at their end market demand in their inventory positions had a second tier bleed.
Again here in the second quarter with I think where were order patterns that are volumes are for the balance of the year that's holistically through.
And then any any any volume shifts are really going to be reflective of true end market demand really what Eric talked about us being in sync relative to our lead times.
With where they've calibrate around the new expectations of their volumes.
I would say is a reasonable portion of the pressure we have experienced so far this year.
Okay, and then I'm going to ask a question on a metric that I don't think anybody.
There has really talked about it last year. He is which is on time delivery.
Because you had all the supply chain challenges everybody has on time delivery metrics start to line up.
Now that Youre talking about.
Lead times being fairly back to normal.
How much improvement have you seen an on time delivery metrics, where are they relative to where they were before COVID-19.
And how much more improvement is left to go on that.
Yeah.
That is a great question and our on time delivery has been really really good shape. I mean, so think of this in the 90% plus that's what we need to be.
A huge piece of that and when you think about it is that's measured against.
Lead time expectations that customers have so one of the things that's really changed here in the last couple of years as people have.
Essentially put orders into one or two buckets either as soon as you can do it please.
Theres, no yardstick or they've taken the queue from businesses like ours to say well, what's your current capability, Okay put it into my order for that level.
What's important is you start to get better you have to communicate it to your customers. So they understand it that's how that's kind of the one of the first things that we teach within our own operating model make sure people know, where we are so that frankly, they understand that they can start to dial that into their own requirements. We can plan, a better factory that way and so youre actually the improvement that I'm, citing is again.
They moving bar that moves closer.
With lower lead times.
That's that's a really really interesting point that.
We're always on the lookout for to make sure that we kind of moved out of that world that promises to actual customer requirements and that our lead times are in sync with those and then the ultimate metric says prove it with the OTT number and so we're in really really good shape and I think for a couple of businesses where were still struggling with.
Extended lead times or.
On time delivery those are the business is actually the orders, it's still been fairly positive because those behaviors haven't been able to calibrate on their customers exactly the point, Eric highlighted earlier, where we have seen all of those improvements you've seen the order rates compressed because theyre aligned with shorter lead times.
And just one last one on the cost actions that you're taking here.
Understand you guys plan for the long term here and there.
Probably not going to cut too deep.
Given that this might be a short sharp correction market could recover next year can you talk about the type of costs that you are taking out any type of cost that youre not taking out.
Yes.
First phase of cost reduction is obviously on the discretionary side things that we've implemented broad based across the portfolio, we've talked about that last quarter, even in the businesses that weren't as impacted as HST helped mitigate some of the profit.
Shortfalls and the second phase has been volume related costs, we've done a little bit of restructuring internally.
Save some of the economics, but to your last point fundamentally we're leveraging 80 20, and our resource allocation model to preserve a vast majority of our growth resources.
Eric's point I think we are going to be through this phase at some point in time next year the investments that we're making now will drive results.
Into the future.
This is bill mentioned it but this is where 80 20 really helps us as a company and essentially.
If you think of us in its simplest form it says take your existing people that already work here and know the company and leveraging them as powerfully as possible. So you don't have to hire incremental head count at a time that youre pressured.
And we use 80 20 day guide that so just make sure you are at a point with maximum power and impact and you'd be surprised how much how much work people can do and then you kind of get through this and that maintains the base.
Great. Thanks, very much for taking my questions.
Once again, ladies and gentlemen to ask a question. Please press star one on your telephone keypad. Our next question comes from Robert Wertheimer with Melius Research. Please proceed.
Hi, Thanks, good morning, everybody.
You've touched on this throughout the call and I think you've been pretty clear, but if the issue is.
Trying to figure out how channel inventory dynamics in HST.
It relates to the rest of the business or whether there is a risk of that happening I wonder if you could step back a little bit and talk about how the channel and HST differs from the other two segments and then I assume the analytic processes you put in the kind of focus on your comments on HST is applied broadly throughout the business. So I wonder if you can just sort of.
Help with that understanding and that risk of the channel Destocking.
Great question.
Important that people understand everything we talked about generally in those HST markets with a massive change those are direct relationships.
And there are some of the most customer concentrated customer sets. We have so not a lot of names and we're very directly linked to them.
So your first point, where it's very different is when you go over into kind of the FMT worlds and even the industrial side of HST those are typically distribution environments not.
Not a lot of stocking that happens there, but think of it mark the more important element is theres just a lot of people [laughter]. So <unk>.
<unk> markets lots of positions lots of partners and so it is fragmented.
And you just got a natural buffer there against any real swing either on the way up or the way down you just don't typically see that dramatically.
And you've got Optionality I mean, even some people out there we'll choose to carry more inventory through all of this you know they're gonna make different differentiated calls, but that concentrated Oems that does tend to move like a pack.
And here we've seen it move the most aggressively your last point was on analytics.
We've always had great distribution analytics.
It's a participated model it's not this kind of stocking model, where there's a curtain between us and the end markets.
Right.
We are partners in this we've known each other for a long time, and we actually need to participate in the south so because of that we've got we've long had good analytics on inventory positions, who are selling it to how they're thinking about things. So that's been a staple I would say that the move forward to something more positive I referenced earlier was getting even closer to the nuts.
And both of those OEM relationships, where we have that direct line of sight.
Perfect.
Thank you and just because I don't know and I'm not sure you say, but what is the China mix within HST and is that weakness in China, Obviously, China is weak I don't know, if thats general economic slowdown or something industry specific that accentuated at for you there.
It's it really doesn't hang for us as a China sale.
Because we're typically selling to north American partners or something like that we're reading through their commentary about and placement of instruments and things.
Perfect. Okay I'll stop there. Thank you.
Sure.
Thank you there are no further questions in queue at this time I would like to turn the call back to Mr. <unk> for closing comments.
Thank you very much thanks for everybody joining today just a couple of summary takeaways here I mean, we said from the beginning this was going to be a year of <unk>.
Aggressive recalibration, that's certainly proven out.
But I think this is truly the final economic phase of this pandemic is going to play itself out here through the balance of the year and we'll be done with it and for US that means look our backlog is almost back to normal it will be here soon.
Our quarterly order coverage is normal now.
I don't think we've got a lot of abnormal pandemic induced order trends that we're going to be processing and talking about and it couldnt be looking more forward.
I assure you and then really just go back to kind of what I talked about on that last slide in the intro here the future is going to be really really good.
We will accelerate quicker than others is whatever the next cycle is plays out positively for us will see that we're good diagnostic there.
Because of the strength and resiliency, we built over the last couple of years here, we're going to perform very very well when that happens all of the things we talked about in terms of capital where we've deployed it.
The work we've done intensively around strategy, that's going to take us up another 100 basis points and that outperformance and I referenced that earlier too as we're thinking about outgrowing our core markets and then just last I know a lot of our team members listen in on these calls I really want to thank them for just solid solid execution through all of it in particular.
Our teams in HST.
Might imagine to kind of go from as fast as you can go to slowing down.
In the amount of time to short duration, there that has been really challenging for them and they are absolutely stood up and the way that we know IDEXX employees do all over the place. So thanks for that have a great day, we'll talk to you soon.
Thank you. This does concludes today's teleconference. You may disconnect. Your lines at this time. Thank you for your participation and have a great day.
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Greetings and welcome to the IDEXX Corporation earnings Conference call second quarter 2023.
At this time all participants are in a listen only mode. A brief question answer session will follow the formal presentation.
If anyone should require operator assistance during the conference. Please press star zero on your telephone keypad.
As a reminder, this conference being recorded it is now my pleasure to introduce your host Allison losses, Vice President and Chief Accounting Officer. Thank you you may begin.
Good morning, everyone. This is Allison losses, Vice President and Chief Accounting Officer for IDEXX Corporation.
Thank you for joining us for our discussion of the IDEXX second quarter 2023 financial highlights.
Last night, we issued a press release outlining our company's financial and operating performance for the three months ending June 30th 2023.
The press release, along with the presentation slides to be used during today's webcast can be accessed on our company website at IDEXX corporate dotcom.
Joining me today are Eric Ashman, our Chief Executive Officer, and President and Bill Grogan, Our Chief Financial Officer.
Today, we will begin with Eric providing an overview of the state of IDEXX This business than.
Then bill will discuss second quarter financial results and update on segment performance in the markets they serve and our outlook for the third quarter and full year 2023.
Lastly, Eric will close the call with his final remarks.
Following our prepared remarks, we will open the call for your questions.
If you should need to exit the call for any reason you may access a complete replay beginning approximately two hours. After the call concludes by dialing the toll free number 8776606853 and entering conference I'd number 137344.
Six three or simply log onto our company homepage for the webcast replay.
Before we begin a brief reminder, this call may contain certain forward looking statements that are subject to the safe Harbor language in last Night's press release, and then IDEXX as filings with the Securities and Exchange Commission.
With that I'll now turn this call over to our CEO and President Eric Ashlin.
Thank you Alison and good morning, everyone I'm on slide six.
IDEXX delivered record sales and adjusted earnings per share in the second quarter, along with strong free cash flow or.
Our fluid <unk> metering in fire and safety diversified products business has delivered exceptional performance on strong market fundamentals, both posting strong organic growth and profitability with FMT, you're delivering an all time high EBITDA margin.
Our health <unk> Science technologies segment continue to face challenges impacted by inventory Destocking in our analytical instrumentation life Sciences, Biopharma and semiconductor markets.
Our teams within the segment drove double digit organic growth over the last two years admirably executing for customers in the business in very difficult conditions now on the backside of the post pandemic recovery, our OEM partners are aggressively reducing higher inventory levels, beginning with those suppliers that have demonstrated the quickest returns to pre pandemic.
Lead times.
Our teams are appropriately balanced as they execute targeted cost reductions to mitigate a portion of these volume declines drive strong cash flow overall and continue to innovate for our customers.
During our last earnings call, our revised outlook for the year assumed our industrial businesses with slow moderately in the second half while our HST segment will experience a modest rebound well our view on the industrial markets has not changed we are no longer projecting a recovery in HST volumes in the second half of the year.
Our outlook is based on revised forecast from our key customers, who are reevaluating their end market demand alongside their current inventory levels there.
We're considering many factors overall, including supply chain improvements lower than expected growth in China, and overall macro pressures within their market verticals. This is a complex and rapidly evolving context, which played out for us in Q2 with a 27% year over year organic drop in HST orders.
This moderating demand profile, none of our incremental cost containment actions drives an additional 45 cents of EPS pressure at the midpoint versus our previous guide.
With that as we noted in our press release, we are revising our full year 2023, adjusted EPS guidance to $7 90.
Two $8 per share Bill will discuss the specifics in greater detail during our segment and guidance updates.
In the second quarter. We also closed on the Iridium spectral technologies deal, we announced earlier this year, adding another market leader in custom optical filter solutions, serving the space life science and telecommunications markets.
We continue to focus on driving strong operational performance, regardless of business environment, delivering and innovating for our customers, we're driving speed and agility within our businesses, taking out inventory and driving world class lead times positioning us better for growth cycles to come.
We remain committed to managing through the short term, while not losing focus on critical investments in the development of our people and capital deployment and in our differentiated technologies to enable our long term growth path and deliver above market performance over a cycle.
With that I'll turn it over to bill to discuss our financial results.
Thanks, Eric moving onto our second quarter consolidated financial results on slide eight all comparisons are against the second quarter of 2022, unless otherwise stated.
Orders of $766 million were down, 9% overall and down 13% organically mainly.
Mainly driven by a 27% organic decrease in HST due to timing of project orders for next Gen sequencing equipment as well as OEM pressure across the life Sciences analytical instrumentation pharma and semiconductor markets.
Record sales of $846 million were up 6% overall and up 3% organically, we experienced 10% organic growth within FMT, 8% organic growth with an FSD and 6% organic decrease in HST.
Gross margin of 44, 7% decreased by 10 basis points compared with last year.
This was driven by lower volume leverage in HST, the dilutive impact of acquisitions and unfavorable mix.
Partially offset by strong price cost and favorable operational productivity across the segments.
Adjusted EBITDA margin was 28, 4% up 90 basis points I will discuss the drivers of adjusted EBITDA in the next slide.
Our second quarter effective tax rate was 22, 4% with comparable with the prior year effective tax rate of 22, 1%.
Net income was $139 million, which resulted in an EPS of $1 82, adjusted net income was $165 million with an adjusted EPS of $2 18.
Which was up 16, 8%.
Finally cash from operations of $141 million was up 26%, primarily due to lower investments in working capital versus last year.
Free cash flow for the quarter included higher Capex and was $120 million.
24% versus last year coming in at 72% of adjusted net income we drove over $20 million of inventory out of the business in the quarter through our targeted reduction efforts and.
And we saw inventory turns improved versus last quarter.
Moving on to slide nine which details the drivers of our second quarter adjusted EBITDA.
Adjusted EBITDA increased by $22 million compared to the second quarter of 2022 or 3% organic growth included over 4% of price, placing volumes negative for the quarter.
This lower volume unfavorably impacted adjusted EBITDA by $9 million flowing through at our prior year adjusted gross margin rate.
Price cost was accretive to margins and we drove operational productivity.
Offset employer related inflation.
Mix was unfavorable unfavorable by $3 million, mainly centered in HST due to continued volume declines in our analytical instrumentation and life science components.
Resource and discretionary spending was approximately flat versus last year, we've executed tight cost controls given our volume pressure that we continue to identify a reduction opportunities for the balance of the year.
Reductions in variable compensation expense based on our updated outlook contributed $5 million of benefit in the quarter.
These results yielded a 60% organic flow through.
Mulan and Casey valve.
Valve acquisitions net of the night divestiture and FX contributed an additional $9 million of adjusted EBITDA.
Inclusive of acquisitions divestitures, and FX, we delivered 43% flow through.
Excluding the impact of variable compensation flow through was about 35%.
With that I'll provide a deeper look at our segment performance.
And our fluid metering technology segment, we experienced strong sales performance with organic growth of 10%.
But orders did contract by 4% organically, mainly driven by the slowing industrial landscape.
Adjusted EBITDA margin expanded by 340 basis points versus the second quarter of last year drew.
Driven by strong price cost performance and volume leverage.
We saw our industrial day rate decline early in the second quarter remained steady at that lower level.
Customers are taking a cautious view of the second half as they process a variety of economic factors that influence their demand.
Our water business performed well the north American market continues to be positive with extreme weather necessary technology and infrastructure upgrades and improved funding all fueling growth.
Our energy markets remain mix improved chassis availability is driving strength in our mobile applications and the teams continue to work down past due backlog, but lower oil prices look to slow the pace of investment in the second half of the year.
And the chemical market, we saw positive results across the U S Europe and Asia with battery market is providing additional opportunities for growth.
The agricultural demand landscape remains mixed farm fundamentals are positive overall and our OEM business remains strong however, distributor inventory levels remain high and we have not seen a material bleed downs, we've progressed with the planting season.
Moving to the health and Science technology segment organic orders contracted 27% in the quarter driven by analytical instrumentation life science and Biopharma customers inventory Destocking timing of next Gen sequencing.
Orders soft semiconductor and slowing industrial demand.
Sales were down 6% organically and adjusted EBITDA margins contracted by 420 basis points, driven by unfavorable volume leverage and mix as well as higher employee related costs, partially offset by strong price cost performance.
As Eric noted our life science and analytical instrumentation businesses are being impacted by customer inventory destocking and reduced demand. This was driven by a combination of improved supply chain conditions macroeconomic factors and lower than expected China demand. We expect this pressure remained throughout the balance of the year.
The semiconductor market continues to experience softness, resulting from memory oversupply as well as customer is feeling the impact of U S export controls.
We have exposure in multiple parts of the semiconductor value chain and expect demand will stabilize in the third quarter with recovery in the fourth quarter.
Our material processing technology business continues to experience softness across pharma, biopharma and nutrition markets, driven by tighter capital availability and customer hesitancy due to recession concerns, we're seeing some strength in aftermarket and positive impact from our battery market opportunities.
We see some signs of improved quotation activity, but these early days.
Industrial markets in HFC slowed in the quarter in line with FMT results.
Finally, turning to our fire and safety diversified products segment organic orders grew by 2% versus last year, mainly driven by favorable fire and safety and dispensing results organic sales growth was strong at 8% with double digit growth in both fire rescue and band it.
Adjusted EBITDA margins expanded by 300 basis points versus last year, largely driven by strong price cost performance operational productivity favorable volume leverage and positive mix.
The paint market remains mixed with positive North America results offset by delays of Europe , and Asia customer investments.
Within our fire business, we continue to gain share with North American mid tier in China Oems through our integrated system strategy underlying truck demand remains positive and Oems continue to improve their output.
Rescue markets are stable or stable overall with some distributors burning off excess inventory being balanced by growth in our <unk> III products.
Standard results remain positive we continue to gain share in an otherwise flat automotive market, which is partially offset by slowing energy and industrial markets with that I will provide an update for our outlook for the third quarter and full year 2023.
I'm on slide 11.
In the third quarter, we are projecting GAAP EPS to range from $1 16 to $1 65, and adjusted EPS to range from $1 84 to $1 89 organic revenue is expected to decline 7% to 8%.
And adjusted EBIT margins are estimated to be approximately 27%.
We project six sequential volume declines across HST, and FMT with relatively flat FSD sales on a year over year basis, we expect negative mid teen organic sales decline in HST negative low to mid single digit declines in FMT and low single digit growth in FSD.
Turning to the full year.
As Eric mentioned, we have reduced our full year revenue guidance in response to a softening HST second half outlook, we now expect organic revenue declines of 1% to 2%.
This implies high single digit revenue contraction in HST with low to mid single digit growth in FMT in FSD.
At the midpoint, we have reduced our EPS guidance by 45.
With approximately 60 cents related to lower volume and the associated leverage and unfavorable mix, we offset 15th of this pressure with additional cost containment actions related to targeted restructuring and lower resource investment and variable compensation along with discretionary spend.
In summary, we estimate full year organic revenue contraction of 1% to 2% GAAP EPS of $6 80 to $6 90 and.
And adjusted EPS of $7 90 to $8.
Adjusted EBITDA margin will be approximately 27%.
Capital expenditures are anticipated to be about $70 million.
Free cash flow is expected to be 100, plus percent of adjusted net income with that I'll turn it back over to Eric for his closing remarks.
Thanks, Bill I'm on Slide 12, as we've said in the past our IDEXX leadership will not allow short term economic fluctuations to alter our foundational objectives delivering strong execution for our customers building, great global teams and deploying our capital with discipline.
We've always invested in our best growth opportunities across our well positioned diverse franchises over the last 10 years, we leveraged 80 20 to optimize business performance and fine tune our portfolio towards faster growing application sets, we're now adding power and next level potential to our best advantage businesses and platforms through thoughtful and aggressive capital deployment.
Our view on business acquired last year supports the most difficult applications within high quality semi con just like our businesses in sealing solutions and optical technologies. Those optics businesses also play a critical role within space broadband markets now complemented by our most recent acquisition of Iridium spectral technologies.
Our acquisition of KC valves opens the door for our banjo franchise to play even defer deeper within fluid handling for precision agriculture solutions.
Our next site business brings more software intelligence and channel assets into the water platform Aerotech opens doors within alternative energy Gen sets Apple pump helps customers mine deeper to find them minerals required to power the E mobility Revolution.
The reality is that IDEXX products are everywhere, playing close to the core of the world's most advanced technologies are components orientation allows for maximum two an ability and flexibility to pivot resources to the fastest growing megatrends.
None of this is possible without talented people and teams to thrive in an outstanding entrepreneurial culture. This aspect is a source of competitive advantage for IDEXX.
We knew this was going to be a year of transition and dynamic recalibration with of course that would be hard to predict where managing the near term urgently and appropriately, but with an enthusiasm that recognizes the potential for great things ahead with that I'd like to turn it over to the operator for your questions.
Thank you we will now conduct a question answer session. If you would like to ask a question. Please press star one on your telephone keypad.
A confirmation tone will indicate your line is in the question queue. You May Press Star two if you would like to remove your question from the queue for participants using speaker equipment. It may be necessary to pick up your handset before pressing the star keys. Once again Thats star one to ask a question at this time one moment, while we poll for our first question.
Our first question comes from Mike Halloran with Robert W. Baird. Please proceed.
Hey, good morning, everyone, Hi, Mike So so a couple of questions first let's talk about the.
Have you seen the biggest piece in the quarter the analytical instrumentation.
<unk> life science, Biopharma et cetera pressure points, I mean, not overly surprising given what your customers are saying publicly as well.
Maybe talk about a couple of things here, how you look at this bottoming curve. When do you think we can get back to maybe a little bit more normalized environment in the context of some of the funding the oversupply over investment et cetera, I know you don't feel any differently about the long term growth curve.
We'd love to get a sense for internally how you guys are thinking about the recovery curve.
Well thanks for that so.
I think if we step back and kind of think about this traversing over a course of a year I'll go back to kind of the end of Q4, and that's where we went from virtually unbounded demand essentially only capacity and capability.
Entering the mix as a constraint to those first signs that okay. We're going to have to tune this thing and get it to something more sustainable long term more normal. So we saw that play out initially as a lot of focus on inventory just too much inventory all over the place I think over time and here, especially in the second quarter view as people start to attack that with.
Analytics, and we got a lot closer to our customers you can see kind of the depth of it where it was accumulated how much it with how long it was going to take to burn that off that became kind of a secondary component for us in Q2.
And then I think I think the piece that has really played out and we saw a lot of this calibration in the second quarter was another assessment of end markets and where they really are on the customer's part.
So you kind of had markets clicking along kind of at the top end of high high single digits I think in the pandemic kind of move back down to an assumption that they would be more normal, let's say more mid single digits and I think closer now to in the near term at least balance of the year.
At low single digits with those factors that I talked about in the opening remarks, and I think I can probably maybe strength of China being the only one that was the most pronounced and started to really pop onto the page for and the conversations that we had in Q2.
So we sort of backed up took a look at those forecast that situation and as you can see here essentially cleared the deck for the rest of the rest of the year.
I think we bottomed out from an orders perspective, we've seen kind of the levels that we're at now hold here through July .
Even with all of the analytics that we have in inventory you can see the two kind of working together so that I think they will all have the visibility shifts to probably the rail spirit of your question, which is when does this start to get back to something thats more traditional for in terms of growth rates.
For us I think honestly, we see that past certainly past the six months that are ahead of us somewhere probably out in 'twenty. Four obviously, the comparative doesn't get a lot easier, but I think we're still going to all have to watch we're going to have to watch and see what's the long term call on China is this a is this a trough or a <unk>.
Cycle, there and there is ultimately an uptick will be listening for that intelligence as well.
Funding environment, how are people leaning in to kind of approving projects and outfitting plants and things that we see in the capex intensive sides of our business probably the semi con piece of that I feel the best about it I mean, that's tracked by everybody and we can kind of see everybody pointing to better days ahead, starting in kind of for us probably be.
Our Q4, and certainly leaning into the year. So I think the arrow up in 24, probably still with some variable rates coming out of it and a lot more assessments that we've got to make as we go through a period that we think now has been de risked and sort of laid out there in a way that we can all get comfortable with.
Great No that's super helpful and maybe the exact same conversation on the short cycle industrial pieces, the weakening side of things.
Obviously bill in the prepared remarks gave a lot of context on where some of that softening is just would like to understand how you think that bottoms out and how that recovery curve plays out in the context.
Clearly a lot of moving pieces out there.
Yes.
I want to emphasize that that side of the business is kind of run its course exactly the way we thought it would.
Yeah.
You've seen here order rates declining that's the normalization of backlog I want to make it clear to everybody that.
You all recognize how close to normal we actually are now.
So our backlog when you when you net out sort of the compounded price the aggressive price that's happened over the last couple of years and compare it to sort of pre pandemic levels.
We're basically pretty close were a little higher than normal, but we will get there soon certainly in the back half of the year.
So that's on the industrial side of the business our quarterly coverage that we have.
If you are familiar with us we typically talk about half the quarter covered and the other half we have to go find where theyre now.
And so really now we are able to see into these markets and understand you know.
And take a lot more about the future than the past.
And that's where as you kind of go.
Reexamine the list of markets that Bill went through and you are seeing I think in many ways kind of in absence of catalysts, unless it's really really tied to identifiable.
Identifiable mega trend with a bunch of funding sources like the water space for us.
You are seeing kind of that same story.
Hesitancy, I wonder where things are going.
A little reticent to go ask for big funding of large capital projects. So I think we're well positioned for what inevitably at some point, we will start to move up.
And I do believe that next cycle is going to be a good one but I think here in the near term, it's still going to be kind of a story of watching the rest of the world catch up and kind of get to the same point of calibration that we are and then I think it is going to be a much bigger broader kind of macroeconomic conversation as we head into 'twenty four of which catalysts will be out there.
The good news for them from an IDEXX perspective, as you know Mike we.
We do really well on the entry point.
Once we've kind of hit this point and are ready to go short lead times rapid recovery out there at the tip of the spirit of innovation. So.
That's kind of my take on where things are now with an emphasis on how close to normal the companies actually position.
No that's great if I could just squeeze one more in you mentioned that confident in the cycle.
We added slide 12, where youre talking about how well you're positioned for growth could.
Could you just give us some context of what you think that growth algorithm looks like for you. What are we talking about in terms of what the sustainable organic growth profile looks or the relative outperformance you can get versus where that where the markets are doing maybe just put that in context on a longer horizon I.
I think the examples I cited there, particularly now that they've been augmented with some really really strong capital deployment.
This is closer to that 300% outperformance that we've been shooting for.
In terms of potential and delivery.
Let's say, we enter a world that has kind of a 2% nominal floor.
We would be expecting to drive with combination of solid price capture innovation and the assets that we have something closer to that 5% level and then continuing to deploy capital on top of that which then ultimately if you kind of run it through the algorithm of contribution margins in the compounding nature of what we have as a company that sets up the double digit.
<unk> gross it I think everybody kind of expects and is looking forward to from an IDEXX.
Thanks really appreciate Eric Thank you.
Our next question comes from Deane Dray with RBC capital markets. Please proceed. Thank you good morning, everyone. Good morning.
Wanted to follow up on the some of the commentaries pulse on the HST and industrial side and on H S. T and we agree this has been well vetted in terms of the public company analytical instrument companies discussing the Destocking end and it is we're getting the sense that the bottoming is coming.
But just share with us.
Youre one step removed.
As a supplier to these Oems. So what is your level of visibility and how has that changed and what has happened with lead times now that you've had.
Much of this destocking happening yeah.
Youre, absolutely right I mean, it's important that people understand.
Typical IDEXX solution here is a component, which is going into some system or device that sends out there. It goes out into the market and then there's a whole bunch of other revenue streams that come with it service and consumables and things we don't participate there.
And so we're talking and we're talking primarily with people in factories in supplying and purchasing change obviously engineering on the innovation side, but typically not the first person that theyre going to talk to you on a commercial conversation about kind of where they are saying so that's always been a little harder for us as a conversation to have and so on.
You can kind of think of the way. This has played out as we've kind of crawl up from the factory floor into front and center commercial conversations mainly because of our criticality. We're in a place we get there were others, probably don't because of the essence of what we're making and what it does for the <unk> device.
I will absolutely tell you that one of the benefits of what we've come through here as we have a lot deeper relationships, where it in different conversations than we've been able to be untrue and our understanding of kind of inventory positions and philosophy is better now than it's ever been before because it has to be.
Your second question then was related to lead times I mean, we are really really good shape and that in some ways is why youre seeing and have seen kind of the rapid degradation of order rates. When we did the same thing when we're thinking about taking inventory out of the system and you can essentially do 80 20, you lineup dollars of supply in your secondary.
Factors always assurance supply OTT and capability when those two things come together essentially hammer the order book and so in many ways. We've seen that play out probably the most aggressive given who we are and what we do.
And it's an indication of where we are from a lead time are all our ultimate backlog position for the company quarterly coverage of order rates is also a validation of where we are.
Because it's right back to.
Very very typical levels for us.
Alright, that's real helpful and just a flip over on the industrial side, what we're trying to do is connect the dots here about your commentary about slowing industrial orders and and slowing industrial landscape and I'm trying to parse out.
How much of this is just a result of a normalizing supply chain.
And release of buffer inventories in shortening lead times, which in itself is kind of a yes and no.
Highest processor.
But it's.
It doesn't sound like there's anything disturbing on the end market the sell through side the end market demand, but I just wanted to get clarification on that so how much of this is strictly from a normalizing supply chain on the industrial side versus any deterioration on the end market demand.
No.
I think you're thinking of it right I mean as the predominant driver here is the normalization of the cycle absolutely.
It's just I said this I don't know in these calls a couple of last couple of times that eventually you run into physics Theres no need to keep all this backlog around unless youre going to alter permanently the capability of the system.
And nobody wants to do that so a lot of this is playing out if you look at our last quarter here, particularly on the industrial side, we posted double digit organic growth, it's not necessarily indicative of the environment. That's out there that's us eating the last of the backlog in the past due and getting our own lead times, where we want to get too.
As we're doing that it's telegraph through to the customer Who's then dropping their order rates in exactly the way you would expect that they would underneath all of that.
It allows us to as I said before really see okay. What is this environment that's out in front of US both today and tomorrow and you're right I don't see a lot of things in there that are overly negative.
I see kind of a lot of the same behavior that we saw before this you know in many ways still some continued reluctance to make big capital purchase paths and all of those things but to be honest that was really werent here over the last couple of years, either so yes there.
Theres not theres not a lot of negative noise, that's behind that that recalibration curve. That's happening there I would also say, though there isn't a lot of tons of Super positive things, there as well where people are saying well now that this is behind US we're ready to go on project, a b and C.
I don't know that thats actually different from where we've been so.
I don't know I hope that's helpful. But I think in your opening statement is pretty close here that the major driver is a cycle playing out and then fundamentally underneath it there's not a ton of noise in terms of what's going on market to market.
Alright, Eric that was exactly what we were looking for and I. Appreciate all the color. Thank you. Thanks Dan.
Our next question comes from Allison <unk> with Wells Fargo. Please proceed.
Hi, good morning.
Right.
On the H S T. Thanks for the color on the organic decline in Q3.
EBITA margin, obviously down.
Down year over year this quarter does that take another step down or you stemming the decrementals now just given yet aggressive approach to cost.
How we should think about it just given that the sharp decline in <unk>.
Next quarter. Thanks.
Yes, so it's bill I think in the third quarter Youll see a little bit of additional pressure as volume steps down.
In the third quarter, and we bottomed out in the orders side here in Q2 sales will bottom out in Q3, I think margins hit its low point and will start to build back up obviously the additional cost actions. We've taken have helped mitigate that and then.
The volume leverage will get as we start to build back.
In the fourth quarter, we'll start to set our journey back to a 29%, 30% EBITDA type margin as we progress through the recovery.
Got it and then just in terms of the dislocation here in these the analytical instrumentation market is that driving any incremental sort of M&A opportunities just given the unusual nature of it or kind of steady as it then just any color there yeah.
Not really I mean, I haven't seen anything there I mean that that backdrop matters. It might prevent some folks from putting something out there because they want to let things clear and not be quite as noisy or something like that in the short term, but nothing thats really top 10 said because the cycle is playing out a certain way. The funnel is now composed much different than it has been.
For us.
Got it and then just one last quick one on the inventory draw down on your side and did you say you guys were largely done with that is there still more to go in the second half here now there is still more to go I think from absolute dollars. I think we will continue to bleed inventory turns there will be a little bit pressure just with the decreased volumes.
With an HST, but the teams continue to track and Theres, probably another $20 million to $30 million of inventory reduction here in the back half.
Perfect. Thank you.
Excellent.
Our next question comes from Vlad <unk> with Citigroup. Please proceed.
Good morning team, thanks for taking the call.
So.
I just wanted to ask.
Within SDP, a couple of things there.
In terms of the durability of the strength youre seeing in fire and rescue.
Are you able to parse out sort of how much of that is better chance as chassis availability with your traditional Oems versus.
Youre growing relationships with mid tier Oems in the retrofit offerings you now have available.
I don't know that that particular fine tuning is a big driver here I would say the chassis availability and that improving nature of it as a positive catalyst for that business.
It's something we knew when we saw that backlog extend.
For frankly, a long period of time that it would start to expand itself, we knew that would be pretty gradual but ultimately positive for us for our business the composition of who they are.
Suppliers inside it is interesting around the margins, but I would say, it's kind of it's going to be put it in the category of generally positive and probably positive for all.
Got it Okay. That's helpful and then.
Just a follow up within that within that segment.
The strength in the North American paint dispenser business I think.
It was a little surprising versus what I was expecting anyway. So were there any.
Larger onetime type deliveries in there that contributed to that strength.
How are you thinking about the outlook for the NIM dispenser business going forward.
I think the dispensing had a couple of large project orders that theyre delivering on here as they progressed in the second quarter and within the third quarter.
Then I think as we passed the end of the year, the North American replenishment cycle will be for the most part over and then we look for some of the opportunities to continue on the emerging market side Europe was a little bit slower for us this year and see if theres a bit of a recovery going into next year to help offset that but.
That business will start to decline, especially on the orders as we progress through the back half of the year.
Okay, Great. That's helpful. Thanks, I'll get back in the queue.
Okay.
Thank you. Our next question comes from Joe Giordano with TD Cowen. Please proceed.
Hey, good morning, guys.
Hey, Eric I, just kind of wanted to square.
I know your commentary about like a lack of catalysts.
A lot of the markets and what Youre seeing and just how do you kind of.
Juxtapose that with confidence around an optimism around chip stack, an infrastructure bill in manufacturing non res spending kind of like very high levels right here, how do you kind of square all that stuff, but look I think those are all absolutely legitimate through the things we're planning on it it's what we're tuning the company to be.
In some ways, helping people understand that I'm, describing we're at a position now where we can kind of see exactly the mindset of people in the current in the next quarter in a way that for years, we have not been able to.
And so I'm with you.
I think many of the kind of big broader trends that are out there are going to have nice runs as we go forward. Some of them are underway now some are going to be in the next period to come.
I do think there is some noise in the system, where again people are processing a lot of their own backlog and things like that and then it it's easier to sort of link that to those trends and say well there. It is that's validation.
I just this is a unique point that it's taken us a few years to get to that says everything we see now is actually near term.
Are talking about the world, it's right in front of us so.
And again some of those things are playing out we have that in the walk we talked about water, we talked about some decent things happened and chemicals, we just talked about some of the chassis availability. That's building. So I don't want to diminish those in any ways, but in some ways I'm just trying to show that we've really got solid visibility here and we will be able to see them as they inevitably start to play in and layer.
And at different points, along the curve as we go forward.
Yes, I think Thats fair and would you just would you categorize it seems like most companies.
This quarter are kind of like are certainly changing there.
Commentary around like industrial and distribution and things like that it seems to be weakening in orders are getting worse and you guys. Maybe you or what do you feel like you were just kind of their first and this is Jeff one thing.
I will be in a category now I think actually we are in sync with distribution. We're out there with them, we're looking for new opportunities and we already live that.
We were seeing that when others weren't talking about it which is always the frustrating part of the beginning of one of these curves for us. So I knew this year, what's going to happen this element.
It puts us to the back side of it which then says I think you'll see that we'll be talking about other things other catalysts and are.
We're in a solid way that maybe.
Take some some time for others to kind of walk into but that is a perfect example.
Fair enough thanks, guys.
Thank you. Our next question comes from Nathan Jones with Stifel. Please proceed.
Good morning, everyone.
I wanted to start with just putting a finer point on some of the inventory correction can you quantify what you think that the headwind to growth or the dollars of inventory that are coming out of the business or coming out of your customers. These days.
This year that will obviously, if we get that destock complete this year won't repeat next year.
No no.
Nathan let me take a crack at that I think thats, a reasonable amount of the current volume declines as the folks have calibrated on their monthly supply pulling down so that was really our expectation in the first quarter as they looked at their end market demand in their inventory positions had a second tier bleed down again here in the second quarter with I think.
Where where order patterns that are volumes are for the balance of the year that's holistically through.
And then any any any volume shifts are really going to be reflective of true end market demand really what Eric talked about us being in sync relative to our lead times.
Where they've calibrate around the new expectations of their volumes.
So I would say as a.
A reasonable portion of the pressure we have experienced so far this year.
Okay, and then I'm going to ask a question on a metric that I don't think anybody.
There has really talked about last year, which is on time delivery.
Because you had all the supply chain challenges everybody has on time delivery metrics start to line up.
Now that Youre talking about.
Lead times being kind of fairly back to normal.
How much improvement have you seen an on time delivery metrics, where are they relative to where they were before COVID-19.
And how much more improvement is left to go on that.
Yeah.
That is a great question and our on time delivery has been really really good shape. I mean, so think of this in the 90% plus that's where we need to be.
A huge piece of that and when you think about it is that's measured against.
Lead time expectations that customers have so one of the things that's really changed here in the last couple of years as people have.
Potentially put orders into one or two buckets either as soon as you can do it please.
Theres no yard stick or they've taken the queue from businesses like ours to say well, what's your current capability, Okay put it into my order for that level.
What's important is you start to get better you have to communicate it to your customers. So they understand it that sounds thats kind of the one of the first things that we teach within our own operating model make sure people know, where we are so that that frankly, they understand that they can start to dial that into their own requirements. We can plan, a better factory that way and so youre actually the improvement that I'm, citing is again.
They moving bar that moves closer.
With lower lead times.
That's that's a really really interesting point that.
We're always on the lookout for to make sure that we've kind of moved out of that world of promises to actual customer requirements and that our lead times are in sync with those and then the ultimate metric says prove it with the OTT number and so we're in really really good shape and I think for a couple of businesses where were still struggling with.
Extended lead times or.
On time delivery those are the business is actually the orders have still been fairly positive because those behaviors haven't been able to calibrate on their customers exactly the point, Eric highlighted earlier, where we have seen all those improvements you've seen the order rates compressed because theyre aligned with shorter lead times.
And just one last one on on the cost actions that you're taking here I understand you guys plan for the long term here and there.
Probably not going to cut too deep.
Given that this might be a short sharp correction markets could recover next year can you talk about the type of costs that you are taking out in the type of cost that youre not taking out.
Yes.
First phase of cost reduction is obviously on the discretionary side things that we've implemented broad based across the portfolio, we've talked about that last quarter, even in the businesses that weren't as impacted as HST helped mitigate some of the profit.
Shortfalls and the second phase has been volume related costs, we've done a little bit of restructuring internally.
Save some of the economics, but to your last point fundamentally we're leveraging 80 20, and our resource allocation model to preserve.
A vast majority of our growth resources to Eric's point I think we are going to be through this phase at some point in time next year the investments that we're making now will drive results.
Into the future.
This is bill mentioned it but this is where 80 20 really helps us as a company and essentially.
If you think of us in its simplest form it says take your existing people that already worked here know the company and leveraging them as powerfully as possible. So you don't have to hire incremental head count at a time that you are pressured.
And we use 80 20 day guide that so just make sure you are at a point with maximum power and impact and you'd be surprised how much how much work people can do and then you kind of get through this and that maintains the base.
Great. Thanks, very much for taking my questions.
Once again, ladies and gentlemen to ask a question. Please press star one on your telephone keypad. Our next question comes from Robert Wertheimer with Melius Research. Please proceed.
Thanks, Good morning, everybody.
You've touched on this throughout the call and I think you've been pretty clear, but if the issue is.
Trying to figure out how channel inventory dynamics in HST.
Relates to the rest of the business or whether there's a risk of that happening I wonder if you could step back a little bit and talk about how the channel and HST differs from the other two segments and then I assume the analytic process that you put in the kind of focus on your comments on HST is applied broadly throughout the business. So I wonder if you can just sort of.
With that understanding and that risk of channel Destocking.
Question.
Gordon that people understand so everything we talked about generally in those HST markets with a massive change those are direct relationships.
And there are some of the most customer concentrated customer set so we have so not a lot of names and we're very directly linked to them.
So your first point, where it's very different when you go over into kind of the FMT worlds and even the industrial side of HST those are typically distribution environments not.
Not a lot of stocking that happens there, but think of it the more important element is theres just a lot of people.
So.
Numerous markets lots of positions lots of partners and so it is fragmented.
And you just got a natural buffer there against any real swing either on the way up or the way down you don't typically see if that dramatically and.
And you've got Optionality I mean, even some people out there we'll choose to carry more inventory through all of this you know they're gonna make different differentiated calls, but that concentrated Oems that does tend to move like a pack.
And here we've seen it move the most aggressively your last point was on analytics.
We've always had great distribution analytics.
It's a participated model it's not this kind of stocking model, where there's a curtain between us and the end markets.
Got it.
We're partners in this we've known each other for a long time, and we actually need to participate in the south so because of that we've got we've long had good analytics on inventory positions, who are selling it to how they're thinking about things. So that's been a staple.
Say that the move forward to something more positive I referenced earlier was getting even closer to the nuts and bolts of those OEM relationships, where we have that direct line of sight.
Perfect Alex educational thank you and just because I don't know and I'm not sure you say, but what is the China mix within HST and is that weakness in China, Obviously, China is weak I don't know, if thats general economic slowdown or something industry specific that accentuated at for you there.
It's it really doesn't hang for us as a China sale.
No because we're typically selling to the north American partners or something like that we're reading through their commentary about and placement of instruments and things.
Perfect. Okay I'll stop there. Thank you.
Thank you there are no further questions in queue at this time I would like to turn the call back to Mr. <unk> for closing comments. Thank.
Thank you very much thanks for everybody joining today.
A couple of summary, takeaways here I mean, we said from the beginning this was going to be a year of aggressive.
Aggressive recalibration, that's certainly proven out but.
I think this is truly the final economic phase of this pandemic is going to play itself out here through the balance of the year and we'll be done with it and for US that means look our backlog is almost back to normal it will be here soon.
Our quarterly order coverage is normal now.
I don't think we've got a lot of abnormal pandemic induced order trends that we're going to be processing and talking about and I could not be looking forward to that.
I assure you and then really just go back to kind of what I talked about on that last slide in the intro here the future is going to be really really good.
We will accelerate quicker than others is whatever the next cycle is plays out positively for us will see that we're good diagnostic there and because of the strength and resiliency. We built over the last couple of years here, we're going to perform very very well when that happens all of the things we talked about in terms of capital where we've deployed it.
The work we've done on intensively around strategy and it's going to take us up another 100 basis points and that outperformance and I referenced that earlier too.
We're thinking about outgrowing, our core markets and just last I know a lot of our team members listen in on these calls I really want to thank them for just solid solid execution through all of it in particular, our teams in HST you might imagine to kind of go from as fast as you can go to slowing down in the amount of time to short duration there that has been.
Really challenging for them and they are absolutely stood up and the way that we know IDEXX employees do all over the place. So thanks for that have a great day, we will talk to you soon.
Yeah.
Thank you. This does concludes today's teleconference. You may disconnect. Your lines at this time. Thank you for your participation and have a great day.