CONMED Corporation (NYSE:CNMD) Q4 2023 Earnings Call Transcript

CONMED Corporation (NYSE:CNMD) Q4 2023 Earnings Call Transcript January 31, 2024

CONMED Corporation misses on earnings expectations. Reported EPS is $1.06 EPS, expectations were $1.11. CNMD isn’t one of the 30 most popular stocks among hedge funds at the end of the third quarter (see the details here).

Operator: Thank you for standing-by. Before the conference call begins, let me remind you that during this call, management will be making comments and statements regarding its financial outlook, its plans and objectives. These statements represent the forward-looking statements that involve risks and uncertainties as those terms are defined under the Federal Securities laws. Investors are cautioned that any such forward-looking statements are not guarantees of future events, performance or results. The company’s actual results may differ materially from its current expectations. Please refer to the risks and other uncertainties disclosed under the forward-looking information in today’s press release as well as the company’s SEC filings for more details on the risks and uncertainties that may cause actual results to differ materially.

The company disclaims any obligation to update any forward-looking statements that may be discussed during this call, except as may be required by applicable law. You will also hear management refer to non-GAAP or adjusted measurements during this discussion. While these figures are not a substitute for GAAP measurements, management uses these figures to aid in monitoring the company’s ongoing financial performance from quarter-to-quarter and year-to-year on a regular basis and for benchmarking against other medical technology companies. Adjusted net income and adjusted earnings per share measures the income of the company, excluding credits or charges that are considered by the company to be special or outside of its normal ongoing operations.

These adjustment items are specified in the reconciliation supporting the company’s earnings releases posted on the company’s website. With these required announcements completed, I will now turn the call over to Curt Hartman, CONMED’s Chair of the Board, President and Chief Executive Officer for opening remarks. Mr. Hartman?

Curt Hartman: Thank you, Jonathan. Good afternoon, and thank you for joining us for CONMED’s Fourth Quarter and Full Year 2023 Earnings Call. With me on the call is Todd Garner, Executive Vice President and Chief Financial Officer. Today, I’ll provide a brief overview of the financial and operating performance for the fourth quarter and the full year. Todd will then provide a more detailed analysis of our financial performance and discuss our 2024 financial guidance. After that, we’ll open the call to your questions. Overall, I’m pleased with our fourth quarter results, which delivered record revenue for CONMED. Total sales for the fourth quarter were $327 million, representing a year-over-year increase of 30% as reported, and an increase of 32% in constant currency.

These growth rates are obviously aided by the fourth quarter 2022 warehouse disruption, which impacted each part of our business differently in the fourth quarter of 2022. Fourth quarter earnings delivered GAAP net income of $33.1 million, an increase of 24% over net income of $26.6 million in the fourth quarter of 2022. Excluding special items that affected comparability, our adjusted net income was $33.2 million and our adjusted diluted net earnings per share was $1.06. For the full year, sales reached a new record of $1.245 billion, representing a year-over-year increase of 19% as reported and 21% in constant currency. 2023 was a year of balanced growth when you look at the full year growth rates across Domestic and International, General Surgery and Orthopedics, and Single-Use and Capital.

My perspective is that this speaks to the underlying strength of the entire product portfolio that has been built strategically over time. 2023 GAAP net income totaled $64.5 million compared to a net loss of $80.6 million in 2022. Excluding special items that affected comparability, our adjusted net income of $108.3 million increased 27% year-over-year and our adjusted diluted net earnings per share of $3.45 increased 30% year-over-year. Looking back at 2023, I’m very proud of both the top- and bottom-line performance, which exceeded and finished at the top end of the original respective 2023 guidance. Early in the year, we quickly remediated the warehouse issues from late 2022, and I can confidently say our global distribution strategy has never been clear.

Our 2022 acquisitions performed well with In2Bones, now CONMED Foot and Ankle, delivering double-digit growth for the full year while absorbing the growing pains of supplier integration and leadership transition so common in private acquisitions. BioBrace platform is a game-changer and exceeded our expectations and as important has a great trajectory as we expand the market reach through sales channel expansion and geographic registrations. Overall, the entire portfolio was strong, and in 2024, we expect the introduction of several new products across each of our businesses. And while I usually reserve the financial detail analysis for Todd, I’m proud of the team for driving our leverage ratio down to 4.1 times as our increased focus on working capital and overall asset management continues to improve.

In summary, 2023 was a great year for CONMED. Looking forward, I could not be more confident in our prospects to continue delivering top-line growth and leveraged earnings growth, driven by clinically differentiated solutions across our business. This stems from my confidence that we have a talented global team armed with an innovative high-growth portfolio which was built through a disciplined combination of organic and inorganic development across both our General Surgery and Orthopedics categories. The strategic outlook for CONMED remains strong and this will benefit patients, customers, employees and shareholders in the quarters and years ahead. With that, I’ll turn the call over to Todd, who will provide a more detailed analysis of our financial performance and discuss our 2024 financial guidance.

Todd?

Todd Garner: Thank you, Curt. All sales growth numbers I reference today will be given in constant currency. The reconciliation to GAAP numbers is included in our press release. As usual, we’ve included an investor deck on our website that summarizes the results of the quarter, the year and our updated guidance. For the fourth quarter of 2023, our total sales increased 31.5%. As a reminder, during the fourth quarter of ’22, we were dealing with our warehouse software implementation that affected our ability to ship product. For Q4, our sales in the US increased 33.3% versus the prior-year quarter and our international sales grew 29.0%. Worldwide Orthopedics revenue grew 19.4% in the fourth quarter. In the US, Orthopedic sales grew 6.0%, and internationally, Orthopedic sales increased 29.8%.

As we talked about last quarter, supply constraints in our domestic Orthopedic business, including our MTF allograft tissue, kept us from being on offense as much as we would like. The MTF supply returned to normal during the fourth quarter and we expect to be able to move more fully to offense on the rest of the Orthopedics portfolio by the end of Q1 2024. BioBrace again delivered strong growth in the fourth quarter and has good momentum going into 2024. What we’ve previously referred to as In2Bones, we will refer to as Foot and Ankle going forward. As Curt said, we are currently dealing with normal growing pains in this business, which caused Q4 to be below trend, only growing in the mid — I’m sorry, in the high-single digits. So, still above market, but below what we’re used to and what we expect.

We continue to expect this business to outgrow the market and be a double-digit grower for us in 2024. Total worldwide General Surgery revenue increased 41.7% in the quarter. US General Surgery revenue grew 47.6%, while internationally, General Surgery revenue increased 27.8%. Obviously, these elevated growth rates are aided by easy comps from the prior year, but we continue to see the same trend of strong growth from our leading products on this side of the business. For the full year of 2023, our total sales increased 20.9%, which represents 18.4% growth on an organic basis. For the full year, our US and international sales, both grew 20.9% versus the prior year, which is amazing from a balanced perspective. Worldwide Orthopedics revenue increased 17.7% for the full year of 2023.

In the US, Orthopedic sales grew 15.2%, and internationally, Orthopedic sales increased 19.2%. Total worldwide General Surgery revenue increased 23.4% for the full year 2023. US General Surgery revenue grew 23.4%, while internationally, General Surgery revenue increased 23.5%. Now, let’s move to the expense side of the income statement. We will discuss expenses and profitability in the fourth quarter and the year excluding special items, which include charges for acquisitions and contingent consideration, termination of distributor agreements, legal matters, debt refinancing costs, restructuring and software implementation costs, amortization of intangible assets and amortization of deferred financing fees net of tax. Adjusted gross margin for the fourth quarter was 56.4%, which is a 50-basis-point sequential improvement over Q3 and an increase of 220 basis points from the prior-year quarter.

So, the product mix tailwind we’re counting on is real and working. The challenges we had in Q4 in the US Orthopedic business affected gross margin. We also made some process improvements in one of our plants that drove some period costs that we recognized in the quarter. For the full year, adjusted gross margin was 55.2%, a decrease of 10 basis points from 2022. While margin improved sequentially throughout the year, inflation experienced throughout 2022 was cycling through the P&L in the first half of 2023, offsetting the underlying favorable mix impact of the product portfolio. Research and development expense for the fourth quarter was 4.3% of sales, 60 basis points lower than the prior-year quarter. For the full year 2023, R&D expense was 4.2% of sales, 30 basis points lower than 2022.

For the fourth quarter, adjusted SG&A expenses were 36.7% of sales. Leverage gained on the higher sales drove the 300-basis-point improvement over the prior-year quarter. So, despite the gross margin headwinds, we delivered 15.8% adjusted operating margin in Q4. For the full year, adjusted SG&A expenses were 37.4% of sales, 140 basis points lower than in 2022. On an adjusted basis, interest expense was $8.0 million in the fourth quarter and $33.7 million for the full year. The adjusted effective tax rate in Q4 was 24.2%. For the full year, our adjusted effective tax rate was 23.0%. Fourth quarter GAAP net income was $33.1 million. This compares to GAAP net income of $26.6 million in Q4 of 2022. GAAP earnings per diluted share were $1.05 this quarter compared to $0.86 a year ago.

For the full year, GAAP net income was $64.5 million compared to GAAP net loss of $80.6 million in 2022. GAAP earnings per diluted share were $2.04 in 2023 compared to GAAP net loss per diluted share of $2.68 in 2022. Excluding the impact of special items discussed earlier, in the fourth quarter, we reported adjusted net income of $33.2 million, an increase of 156.5% compared to the fourth quarter of 2022. Our Q4 adjusted diluted earnings per share were $1.06, an increase of 152.4% compared to the prior-year quarter. For the full year of 2023, we reported adjusted net income of $108.3 million, an increase of 27.4% compared to 2022. Our full year adjusted diluted net earnings per share were $3.45, an increase of 30.2% compared to the prior year.

Turning to the balance sheet. Our cash balance at the end of the year was $24.3 million compared to $30.5 million as of September 30th. Accounts receivable days as of December 31st, were 67 days compared to 68 at the end of Q3. Inventory days at year-end were 198 compared to 215 at September 30th. Long-term debt at the end of the year was $903.1 million versus $942.2 million as of September 30th. Our leverage ratio on December 31st was 4.1 times. Cash flow provided from operations in the quarter was $56.4 million compared to cash flow used for operations of $11.6 million in the fourth quarter of 2022. Cash flow provided from operations for the full year of 2023 was $125.3 million compared to $33.4 million in 2022. Both Q4 and the full year are all-time records for this metric.

Capital expenditures in the fourth quarter were $4.9 million compared to $5.7 million a year ago. For the full year, capital expenditures were $19.0 million compared to $21.8 million in 2022. Now, let’s turn to financial guidance. For the full year 2024, we expect revenue in the range of $1.34 billion and $1.365 billion, representing year-over-year growth of approximately 8% to 10%. Q1 2023 had the benefit of the backlog catch-up from our 2022 warehouse issue. So, the Q1 2024 growth rate, we estimate between 3% and 5%. Q1 also has one less selling day than the prior year. Q3 and Q4, both have one extra day, so the full year has one extra day over 2023. We believe the growth rate should accelerate as we move through the year. Q2, maybe more like mid to-high single-digits as the Ortho business ramps back up, and then Q3 and Q4 performance should get us to that 8% to 10% for the full year.

Based on current rates, we expect currency to have an immaterial impact to 2024 growth rates on the top- and bottom-line. For the past seven months, we have attempted to allay concerns regarding a potential insufflator integrated with the new surgical robot, beginning with a very detailed discussion of the clinical benefits and patent protection around our technology as part of our second quarter 2023 earnings call. To be clear, we continue to believe the impact on AirSeal will be minimal, but we don’t think it is wise to have company guidance that ignores such a pervasive theoretical market overhang. So, we have elected to include in our guidance, what we believe to be a worst-case estimate of what that impact could be. While we aren’t going to share the specifics of our model, I will tell you that our guidance allows for a conversion rate associated with placements of the new robot that is roughly half of what we have seen historically.

As a reminder, AirSeal has successfully treated millions of patients and has significant data showing 50% reduction in length of stay and other significant benefits. We believe surgeons value the clinical outcomes and associated data, and will want to see similar or better results from any new technology before making a change. Finally, to mitigate a theoretical slowdown in conversions, we would accelerate the shift of our resources and energy in favor of general laparoscopic cases. Turning to adjusted gross margin. The improving mix of the portfolio remains strong, which we think should drive between 100 basis points and 150 basis points of margin expansion in 2024, that’s gross margin expansion. This is a little slower than we envisioned for 2024 when we talked about it a year ago.

The expected slow start in Orthopedics and some improvements we still need to make in our manufacturing processes are contributing to that headwind. Having said that, it is still a very good gross margin story, and it should build throughout the year. We expect Q1 to be about 100 basis points better than the prior year, and by Q4, we expect to be providing about 150 basis points of improvement over the prior year. So, where does that put us on our quest is 60% gross margins by the end of 2025? If Q4 2024 is around 58% and the mix and improvements should be accelerating, we believe it is still possible to be around 60% by the end of 2025. If not, we would expect to be on a strong trend and hit that milestone comfortably in 2026. As a percentage of sales, we expect adjusted SG&A to improve between 60 basis points and 80 basis points in 2024 for the full year.

Q1 will likely be at a similar rate to the prior-year Q1 given our typical sales expansions to start the year, but we expect to gain leverage as we move through the year. We expect full year R&D expense in 2024 to be between 4% and 4.5% of sales. We expect Q1 in the mid-4%. We expect adjusted interest expense to be between $33 million and $34 million in 2024. Keep in mind that we have $70 million of the 2.625% converts that mature this week. Those will be funded by our revolver, so expect interest expense for the first two quarters of 2024 to be between $8.5 million and $9.0 million per quarter. We expect the adjusted effective tax rate to be around 24.5% in 2024. We expect adjusted EPS in 2024 to be between $4.30 and $4.40, representing growth between 25% and 28%.

Because gross margin is expected to build throughout the year and interest expense will be higher in the first half, we expect adjusted EPS in Q1 to be between $0.72 and $0.75. And we expect the first half to be between $1.65 and $1.71. We expect full year operating cash flow in 2024 to be between $145 million and $155 million, with capital expenditures in the $20 million to $25 million range, putting free cash flow between $120 million and $135 million. We project adjusted EBITDA between $270 million and $280 million for 2024. Given the heavier cash requirements in the beginning of the year, we expect our leverage ratio to stay relatively flat for the next six months and then drop into the low 3s by the end of 2024. As Curt said, we are pleased with our record-setting 2023 performance and are focused on delivering a stronger 2024.

We remain confident in our ability to deliver innovation to our customers while driving above-market growth and profitability over the long-term. And with that, we’d like to open the call to your questions, and I’ll hand it back to Jonathan.

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Q&A Session

Operator: Certainly. [Operator Instructions] Our first question comes from the line of Rick Wise from Stifel. Your question please.

Rick Wise: Good afternoon. Sorry about that. Let’s start-off with maybe one big-picture question. My follow-up would be something specific. I appreciate and you’ve laid it out extremely clearly some of the moving pieces in the timing. What do you think, Todd, how should we think about fourth quarter growth, let’s say, on a normalized basis, let’s say, adding back if allografts had been normal, what kind of growth might we have seen? And maybe you can talk about your confidence in the timing of getting that back on track? And what I’m really trying to get at here is we’ve heard from some other larger companies how the environment is improving, procedures rebounding, a lot of strength. Do you feel like you’re seeing that ex some of these moving pieces?

Todd Garner: Yeah. So, let me take that first part and maybe Curt can chime in on that second part. It’s really impossible, Rick, to try and normalize what Q4 would be, really not because of the allograft tissue. That’s a smaller issue, right? It affects margins because that’s 100% margin product as we’ve talked about before. What’s hard about getting to a normalized growth rate for Q4 is that Q4 ’22 had that major disruption of our warehouse software implementation. And so, it’s just impossible to know what a normal quarter would have been a year ago, and so it’s impossible to get to kind of what this Q4 is normalized, because it’s impossible to know. So, we feel very good about all the growth drivers of our business as we talked about.

The Ortho business has had lingering supply issues that are getting better. Every quarter, they get a little better. We’re just not out of the woods yet. And we think we’re a few months still from getting out of the woods there where we can move back to offense the way we want to be on that side of the business. But that’s the beauty of diversification and balance that we talked about. And so, the total business remains healthy and headed in the right direction. And when we can get all cylinders pumping like we like, it will be even better.

Curt Hartman: And, Rick, on the last part about the markets, we just came a week or so ago from our global sales meeting, leadership meetings, and I would tell you, our teams are pretty optimistic about the markets broadly. That’s across our categories of Orthopedics and General Surgery, but also across our geographies. We have a higher concentration outside the US than most med-tech companies and having folks from the various markets in attendance and talking about what they’re seeing and what their experience, we feel like healthcare generally speaking is pretty solid right now.

Rick Wise: Yeah, that’s great. And just as a follow-up, I mean, it sounds like BioBrace is in great shape. Talk just a little more about the challenges, the near-term issues affecting In2Bones or Foot and Ankle that drove high-single digits. So, what happened and help us understand what you dialed into the ’24 guide, and why does it get better and when? Thank you very much.

Curt Hartman: Yes, I think the first part of that question I’ll take, and I’ll let Todd talk about guidance. You buy a private company, you go through the integration steps, putting them into your systems, your process that includes supply chain. We’re working hard on international registration. There’s far more demand on the supply of the product out of the gates and working with that new supplier base and trying to get them integrated into our systems and our processes, as is typically the case in smaller private companies or some evolution transition and disruption and really those are the things that slowed us down. And we think to Todd’s earlier comment, we think those things clear up here as we get through the first quarter, and we get back on full stride as we get into second quarter.

So, I don’t think it’s anything systemic. I think it’s all about integration and taking a private company, put it into a public company’s framework and trying to let those processes work the way they should.

Todd Garner: Yeah. And as far as guidance, Rick, we definitely have included in our guidance the assumption that that business grows double digits in 2024. As Curt said, we think this hiccup is temporary. It doesn’t magically go away with the turning of the calendar. But we do think it’s a short-term hiccup that we will get through and get this business back to double-digits, and we do think it will be double-digits for the full year.

Rick Wise: Great. Thank you.

Operator: Thank you. One moment for our next question. And our next question comes from the line of Robbie Marcus from JPM. Your question, please.

Robbie Marcus: Yeah, thanks for taking the question. Wanted to follow-up on Rick’s and I guess I’ll ask it this way. Fourth quarter missed and margins were weak, and 2024 is all predicated on improvement over the course of the year, although recognizing it includes a potential headwind for something that hasn’t even happened yet with AirSeal. So, I guess a lot of it is predicated on trust that the business will improve. And I was just wondering if you could give us any more concrete reasons to believe that growth could be in essentially double digits towards the end of the year to get to the guidance range. And why that’s — what the building blocks are that you have visibility to today versus just a bit of hope?