Owens & Minor, Inc. (NYSE:OMI) Q2 2023 Earnings Call Transcript August 4, 2023
Owens & Minor, Inc. misses on earnings expectations. Reported EPS is $ EPS, expectations were $0.16.
Operator: Good day, and thank you for standing by. Welcome to the Owens & Minor Second Quarter 2023 Earnings Conference Call. Please be advised that today’s conference is being recorded. I would now like to hand the conference over to your first speaker today, Jackie Marcus, Investor Relations. Please go ahead.
Jackie Marcus: Thank you, operator. Hello, everyone, and welcome to the Owens & Minor second quarter 2023 earnings call. Our comments on the call will be focused on the financial results for the second quarter of 2023 as well as our updated outlook for 2023 both of which are included in today’s press release. The press release along with the supplemental slides are posted on the Investor Relations section of our website. Please note that during this call, we will make forward-looking statements. The matters addressed in these statements are subject to risks and uncertainties, which could cause actual results to differ materially from those projected or implied here today. Please refer to our SEC filings for a full description of these risks and uncertainties, including the Risk Factors section of our annual report on Form 10-K and quarterly reports on Form 10-Q.
In our discussion today, we will reference certain non-GAAP financial measures, and information about these measures and reconciliations to the most comparable GAAP financial measures are included in our press release. Today, I’m joined by Ed Pesicka, President and Chief Executive Officer; and Alex Bruni, Executive Vice President and Chief Financial Officer. I will now turn the call over to Ed.
Edward Pesicka: Thank you, Jackie, and good morning, everyone, and thank you for joining us on the call today. The second quarter showed a continuation of positive momentum in many areas, including exceptionally strong cash flow, meaningful improvement in net debt, mid-single-digit organic growth in our Medical Distribution division and continued double-digit growth in our Patient Direct segment. However, we continue to see a slow recovery in our Global Products division as demand for our higher-margin S&IP products remain constrained. One of the objectives for 2023 is to significantly reduce debt to provide flexibility for the business. Our performance in Q2 has put us well on the way to achieving this objective. Strong execution and focus by the overall organization, combined with the operating model realignment program, has led to over $300 million in operating cash flow in the quarter, driven by the reduction of working capital, net proceeds from AR sales and the disciplined capital deployment.
After celebrating the 1-year anniversary of the acquisition of Apria at the end of the first quarter, Q2 marks the first quarter with a year-over-year comparison of the Patient Direct segment. After a year of double-digit pro forma growth in each of the previous four quarters, I am pleased to report that the segment continued to produce double-digit revenue growth with top line performance fueled by strong growth in most of our major product categories. In addition, we delivered year-over-year operating margin expansion of 25 basis points in the quarter. It is clear that the powerful brands of Byram and Apria are working well together with a broad offering to serve the patient in the home. We remain bullish on the outlook for the Patient Direct segment for the remainder of the year, as well as the long term as demand for chronic condition health care in the home continues to increase.
Moving on to our Products and Healthcare Services segment. The results in this segment were mixed. In our Medical Distribution division, we saw year-over-year revenue growth accelerate to over 5%, driven by growth at our existing customers and the implementation of new wins, partially offset by the residual impact of previous losses. In addition, it should be noted that same-store sales, excluding PPE, showed growth of 10%. However, as we recognize the positive momentum in our Medical Distribution division, it is prudent to recognize headwinds we face elsewhere, specifically in our Global Products division, as demand for our higher-margin PPE products declined year-over-year. When combined with our fixed manufacturing costs, this means we must work much harder to control costs.
With elevated supply levels and lower demand for PPE, we are remaining cautious on the balance of the year given these trends. We are working hard to navigate these uncertainties recognizing what we can and cannot control and managing our business as closely as possible. One of the key elements to minimizing this headwind is our Operating Model Realignment program. With our Operating Model Realignment program well underway, we have already implemented cost-saving efforts while enhancing processes to drive operational excellence, as well as diligently review each segment’s opportunity for growth. First, within our sourcing and demand management work stream, the team has made significant strides to date, with positive results already. Second, redesigning our organizational structure will allow us to invest and build teams and areas central to our growth opportunities in the coming quarters.
Third, our focus on network rationalization and operational excellence will be critical in the ongoing management of our products and Healthcare Services segment, particularly if the broad demand challenges continue in the coming quarters. And finally, we are having important conversations with customers and partners to improve our commercial excellence and product profitability. Everyone recognizes the difficult nature of an inflationary environment but at the same time, our customers have come to rely on our proprietary distributed products as critical components of patient care. We are on a clear path to achieve the $30 million target for contribution to adjusted operating income in 2023 from this program with the vast majority of the benefits in the coming months.
Many of the actions have already taken place, and we are confident in the value provided by the Operating Model Realignment program for the remainder of the year. When I look at the back half of the year, I like the opportunities presented by the Operating Model Realignment program, the continued strength of our Patient Direct segment and the revenue growth in our Medical Distribution division. However, the previously mentioned caution around the outlook of S&IP products has resulted in a slightly adjusting our full year expectations. Finally, the team and I hope you will join us for our 2023 Investor Day in early December in Boston, at which we will share our vision for the future of Owens & Minor. I will now turn the call over to our Chief Financial Officer, Alex Bruni, to discuss our second quarter financial performance and our guidance for the full year.
Alex?
Alexander Bruni: Thank you, Ed. Good morning, everyone. I’d like to start by reviewing our financial results and the key drivers of our performance in the second quarter of 2023. Following that, I’ll briefly touch on our outlook for the remainder of the year and the cadence for the third and fourth quarters. Starting with our second quarter results. Our revenue for the quarter was $2.6 billion, which represented growth of 2.5% and was driven by continued strong performance in our Patient Direct segment and growth in the Medical Distribution division of products and health care services. For the quarter, Patient Direct revenue was up 10.5% versus the prior year with strong growth across most categories, especially in our largest categories of diabetes and obstructive sleep apnea.
Products and Healthcare services revenue was relatively flat compared to the second quarter of 2022 with growth in medical distribution of 5%, offset by headwinds in our Global Products division. Second quarter gross margin was $519 million or 20.3% of revenue compared to $533 million or 21.3% of revenue in the second quarter of 2022. The gross margin contraction was driven by a change in product sales mix as less higher-margin PPE was sold, partially offset by a reduction of LIFO expense of $6.7 million versus the prior year, driven by a significant reduction in our medical distribution inventory. Our distribution, selling and administrative expense for the quarter was $455 million, making up 17.8% of revenue. This expense increased by $33 million versus the prior year, primarily due to variable expenses in Patient Direct to support revenue growth, along with increased teammate [ph] benefits expenses and inflationary pressures negatively impacting wages and occupancy costs, which affected both segments.
GAAP operating income for the quarter was $10.8 million, and adjusted operating income was $62 million. Strong top line performance in our Patient Direct segment was critical to our margin performance during the quarter. Interest expense for the quarter was $41 million, which reflected an increase of $4.9 million as compared to the prior year, primarily due to interest rate increases. GAAP net loss for the quarter was $28 million or a loss of $0.37 per common share. Adjusted net income for the quarter amounted to $14.2 million or $0.18 per share. Adjusted EBITDA in the second quarter was $113 million with a margin of 4.4%. Additionally, and as Ed mentioned, our operating model realignment program continues to gain momentum, which improved our margin performance.
We remain on track to achieve $30 million of contribution to adjusted operating income in 2023 from this program as well as exiting the year with a $100 million run rate. Let’s now look at cash flow, the balance sheet and our capital structure. In the second quarter, we generated significant operating cash flow of $313 million, inclusive of $150 million in net proceeds from AR sales. During the quarter, it became economically attractive for us to enter into a program that allows us, from time to time, to sell receivables related to a handful of customers across the businesses. Also, as you’ve seen over the trailing few quarters, our business is capable of producing strong levels of operating cash flow, which is driven by margins within Patient Direct, followed by cash conversion and rigid working capital management across all business lines.
Due to the level of cash from operations, we reduced total debt by $49 million and net debt by $269 million during the second quarter. We have built invested cash balances, much of which is earmarked toward our 2024 series notes. Presently, these investments are out earning the coupon on much of our near-term and longer-dated debt. It’s also worth noting that we have reduced total debt by $309 million since the finalization of the Apria acquisition. At the end of Q2, our total debt was $2.3 billion, and net debt was $2 billion. Delevering remains a top priority. With another quarter behind us, we are able to narrow our guidance for 2023. We are revising our revenue, adjusted EBITDA and adjusted EPS outlook to reflect our confidence in Patient Direct and the Operating Model Realignment program, balanced against the lack of visibility and caution we have around S&IP product sales in the back half of the year.
The new details are available in our press release from earlier this morning and the supplemental slide on the Investor Relations portion of our website. As we think about the cadence for the second half of the year and consistent with our expectation that our earnings will be heavily weighted to the back end of the year. It’s reasonable to expect that Q4 earnings could be roughly twice that of Q3 due to traditional seasonality and moreover, timing of the realization of the operating model realignment benefits. We are heavily focused on delivering savings on time and in full as well as driving the performance of the business. Before turning the call over to the operator for Q&A, I’d like to thank all of our dedicated teammates for their efforts in enabling Owens & Minor to provide the highest quality of service to our customers.
With that, I’ll now turn the call over to the operator for questions. Operator?
Operator: Thank you. [Operator Instructions] We’ll go first to Kevin Caliendo at UBS.
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Q&A Session
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Kevin Caliendo: Hey, guys. Last one pack [ph] here. But I guess to start, sort of help us bridge first half to second half, third quarter to fourth quarter in terms of what is embedded in the expectations to go from, in essence, at the midpoint, $222 million of EBITDA to $333 million in the second half. Like what needs to happen in your opinion to get there from now third quarter, fourth quarter. I get part of it is the cost savings plan, but operationally, ordering patterns, what needs to – what do you need to see to get comfortable that you can achieve this?
Alexander Bruni: Sure. Let me break it out in different components. Let me start first with Patient Direct. So Patient Direct has normal seasonality in their business, and that’s historically shown. If you look at what the performance was last year in Patient Direct as patients hit their deductibles, the increase in the demand for products escalates at a pretty rapid pace in the back half of the year. In addition to that, just the traditional – the continued strong performance in our Patient Direct business. So that’s the normal traditional ramp there. And we expect that to continue at the pace if not accelerate from where it’s been historically. Then the second aspect of it is you’re absolutely right in the Operating Model Realignment and the four major work streams that we have, a lot of that work has already been done and locked in.
It’s just it needs to work its way through the system. So take sourcing, for example. While we’ve gone on and been able to source product and raw material at a lower price that – those products, raw material are working their way through the inventory through the systems, which those will end up coming into place in the back half of the year. I think another example in that would be the way we’ve structured our organization in – from our network optimization. Those actions have taken place, so those are locked in and going into the marketplace. The next thing is really the continued reduction of debt. We’ve done a really good job on taking debt down, which is actually going to help drive that impact, not so much on EBITDA but on the adjusted operating income.
Then in our Medical Distribution segment, the continuation of the growth in that segment and the fixed costs were leverage we’re getting in it. And lastly, which is really the toughest one for us to predict in full transparency is the expectation of improvement within the demand for our products within our products – Global Products division, specifically PPE. What I can say is we have seen sequential or month-over-month improvement in the demand for those products as the year has progressed. But look, it’s still difficult to put your finger exactly on it to put a pin on it because what the customers have in safety stock, in addition to that, I don’t want to miss the fact that then you’ve got major distributors out there that carry our product and distribute them that have significant excess stock, both of our product as well as other brands in there.
So that’s why we’re trying to be cautious that last component. Look, the first four I talked about. They’re pretty much locked in. We just need to continue to execute on those. And then the one at the end is the one that’s really difficult to put a pin on, which is why we’re trying to be a little bit more cautious in the back half.
