Abbott Laboratories (ABT) Q3 2013 Earnings Conference Call October 16, 2013 9:00 AM ET
Brian Yoor - Vice President, Investor Relations
Miles White - Chairman of the Board, Chief Executive Officer
Tom Freyman - Chief Financial Officer, Executive Vice President of Finance
Mike Weinstein - JPMorgan
Larry Biegelsen - Wells Fargo
David Roman - Goldman Sachs
Glenn Novarro - RBC Capital Markets
Rick Wise - Stifel Nicolaus
David Lewis - Morgan Stanley
Jeff Holford - Jefferies
Kristen Stewart - Deutsche Bank
Good morning, and thank you for standing by. Welcome to Abbott's third quarter 2013 earnings conference call. All participants will be able to listen-only until the question-and-answer portion of this call. (Operator Instructions). This call is being recorded by Abbott. With the exception of any participant's questions asked during the question-and-answer session, the entire call including the question-and-answer session is material copyrighted by Abbott. It cannot be recorded or rebroadcast without Abbott's expressed written permission.
I would now like to introduce Mr. Brian Yoor, Vice President of Investor Relations.
Good morning, and thank you for joining us. Joining me today on the call will be Miles White, Chairman of the Board and Chief Executive Officer and Tom Freyman, Executive Vice President, Finance and Chief Financial Officer. Miles will provide opening remarks and Tom and I will discuss our performance in more detail. Following our comments, Miles, Tom, and I will take your questions.
Before we get started, some statements made today maybe forward-looking for purposes of the Private Securities Litigation Reform Act of 1995, including the expected financial results for 2013. Abbott cautions that these forward-looking statements are subject to risks and uncertainties that may cause actual results to differ materially from those indicated in the forward-looking statements.
Economic, competitive, governmental, technological and other factors that may affect Abbott's operations are discussed in Item 1A Risk Factors to our Annual Report on Securities and Exchange Commission Form 10-K for the year ended December 31, 2012. Abbott undertakes no obligation to release publicly any revisions to forward-looking statements as a result of subsequent events or developments except as required by law.
In today's conference call, as in the past, non-GAAP financial measures will be used to help investors understand Abbott's ongoing business performance. These non-GAAP financial measures are reconciled with the comparable GAAP financial measures in our earnings news release and regulatory filings from today, which will be available on our website at abbott.com.
With that, I will now turn the call over to Miles.
Okay, thanks, Brian. Good morning. This morning, we reported ongoing earnings per share of $0.55, ahead of our previous guidance range, strong performance across our businesses as well as gross margin and operating margin expansion, expense controls and lower tax rates enabled us to deliver strong double-digit ongoing earnings per share growth, despite the impact of a supplier recall in International Nutrition.
We also announced this morning a 57% increase in Abbott's dividend, demonstrating our confidence in the long-term growth of the company and our commitment to increasing shareholder returns. This declaration increases our quarterly dividend to $0.22 per share from $0.14 a share, effective with the dividend to be paid in February 2014.
Reviewing the results for the quarter in more detail, total company sales increased 4.3%, operationally, but excluding the sales disruption in International Nutrition, sales would have increased approximately 6%. Sales growth in International Nutrition was affected by the supplier recall initiated in early August in China and two other markets for certain pediatric nutritional products.
While there were no health issues associated with the recalled products and the supplier subsequently determined the products had been safe for consumption, the recall created significant disruption in these markets. As a result, International Pediatric Nutrition sales were significantly lower than our previous expectations in the quarter. We anticipate that it will take time to work through the impact of this supplier recall and expect lower sales growth in the fourth quarter of 2013 and the first half of 2014. We initiated additional marketing investments in the third quarter in these markets as part of our recovery plans.
The long-term fundamentals of this business have not changed. Demand for both, adult and pediatric nutrition is strong and we remain optimistic about our growth prospects. Excluding the impact of this disruption, International Pediatric Nutrition sales would have increased in the strong double digits.
Reviewing the results of our other businesses in the quarter, Performance was in line with or ahead of expectations. Diagnostics delivered double-digit growth and Medical Devices delivered nearly 4% growth with double-digit growth in Medical Optics. We again saw a strong growth in emerging markets and also began to see better performance in developed markets.
Total company sales in developed markets increased in the low-single digits, which was ahead of our expectations and a sequential improvement over the second quarter. Abbott's leading market share position and the introduction of new technologies are driving profitable growth in these markets.
Diagnostics, one of our most durable growth businesses, increased more than 6% in developed markets with double-digit growth in point-of-care and strong growth in U.S. Core Laboratory Diagnostics, driven by several large customer account wins.
Medical Optics, also contributed to our improvement in developed markets. Growth of our Cataract business has accelerated over the last three quarters, driven by new product launches, including the TECNIS Toric in the US and TECNIS OptiBlue in Japan.
Total company emerging market sales in the quarter increased 8%, operationally, driven by double-digit growth in each of our three Diagnostics businesses as well as high single-digit growth in Medical Devices. Excluding the sales disruption in International Nutrition, emerging market sales in our Nutrition business would have increased in the high teens.
In Established Pharmaceuticals this quarter, sales increased modestly. While recent macroeconomic and market pressures in certain emerging markets resulted in somewhat slower sales growth this quarter, growth rates in emerging markets have been and are expected to continue to be higher than the growth rates of the developed world and the overall global economy.
Established Pharmaceuticals remains well aligned with the fundamentals driving long-term growth in emerging markets, a rising middle-class, improving access to healthcare, and consumers that are seeking and willing to pay for high-quality brands. Emerging markets are projected to drive 70% of the global pharmaceutical growth over the next several years, and the majority of that growth will be from branded generics.
In addition to sales outperformance in several businesses, we delivered strong gross margins and operating margins. Adjusted gross margin was nearly 56% in the quarter, ahead of our expectations with strong execution in both Diagnostics and Nutrition. Adjusted operating margin was 19.3%, a 210-basis point improvement over the third quarter of last year.
We have sequentially improved adjusted operating margin each quarter of this year as we remain focused on improving gross margins and reducing G&A expense. In the third quarter, we increased marketing investment in our Nutrition business to support recovery from the supplier recall while we reduced G&A expenses in other areas.
As I mentioned earlier, this morning we announced the 57% increase in Abbott's quarterly dividend, as we have indicated since early in the year. Over the course of our first year post-separation, we’ve continued to assess capital allocation for the company. We have now completed that assessment and this announcement reflects Abbott's commitment to providing immediate and significant returns to shareholders in the form of dividend.
A strong and increasing dividend has always been important to Abbott. We are recognized as an S&P dividend aristocrat having consistently increased the dividend for each of the last 41 years. We have built the company to continue to deliver sustainable earnings growth and our investment identity continues to be one of growth with now an increased commitment of returning cash to shareholders.
I will now turn the call over to Tom and Brian to discuss third quarter results in more detail. Tom?
Thanks, Miles. Before I go through our results for the quarter, I would like to summarize at a high level the major changes from the expectations we had when we provided guidance back in July. As Miles indicated in his remarks, the disruption in our International Nutrition business that occurred in the third quarter had a meaningful impact on that business in the quarter. As a result of this event, sales in our International Nutrition business were around $90 million lower than our previous expectations.
In addition, we decided to make additional marketing investments in the quarter to accelerate recovery. Combination of lower sales and higher spending related to this event negatively impacted our ongoing earnings per share by around $0.05. This was offset in the quarter by better than expected gross margin performance, reductions in G&A expenses, and a lower tax rate. This resulted in ongoing EPS of $0.55, which represents a 31% growth over 2012 and exceeded the midpoint of our previous guidance range by $0.03 per share.
Turning to the details for the third quarter, sales increased 4.3% on an operational basis. That is excluding an unfavorable 2.3% impact from foreign exchange. The sales disruption in our International Nutrition business is estimated to have reduced Abbott's worldwide sales growth by nearly 2%, the sales would have increased around 6% without this event.
Emerging market sales were up more than 8% in the quarter on an operational basis and it would have increased more than 12% on an operational basis without the disruption. Sales growth was driven by strong performance across a number of our products and businesses including operational sales growth of more than 10% in Diagnostics and nearly 12% in Medical Optics, along with an improvement in total company sales growth in developed markets.
Reported sales, which include the impact of exchange, increased 2% in the quarter. The third quarter adjusted gross margin ratio was 55.9% of sales, ahead of our previous guidance and up 70 basis points over the prior year, despite the impact of exchange reflecting strong underlying performance. Foreign exchange negatively impacted the gross margin ratio by almost 150 basis points in the quarter, somewhat lower than our previous expectations.
In the quarter, ongoing R&D investment was approximately 6.5% of sales, in line with previous expectations. Ongoing SG&A expense was also in line with previous expectations reflecting additional marketing investments in our International Nutrition business, offset by G&A expense reductions. Overall, our adjusted operating margin ratio improved 210 basis points in the quarter over the prior year.
Our year-to-date ongoing tax rate through the third quarter was 19%, lower than the forecast we provided on the second quarter call. This 19% rate also reflects our expectations for the full year 2013. The revision to this lower tax rate for the full year resulted in a tax rate of 15.7% for the third quarter.
Turning to the outlook for the full year 2013. Today, we are confirming our ongoing full-year earnings per share guidance range of $1.98 to $2.04 reflecting double-digit growth. We are forecasting operational sales growth that is excluding the impact foreign exchange in the low-to-mid single digits for the full year 2013. Based on current exchange rates, we would expect exchange to have a negative impact of around 2% on full-year reported sales. This would result in reported sales growth in the low-single digits.
We forecast an ongoing adjusted gross margin ratio for the full year of approximately 55.5% of sales, ongoing R&D at around 6.5% of sales, and ongoing SG&A expense of somewhat more than 30% of sales. We also forecast the full-year net interest expense of approximately $100 million, non-operating income of around $50 million, and around $40 million of expense on the exchange gain/loss line of the P&L. Finally, as previously indicated, we forecast the full year ongoing tax rate of 19%.
Turning to the outlook for the fourth quarter of 2013. Operational sales growth is expected to be in the low-to-mid single digits, which includes the impact of the Nutrition disruption. At current exchange rates, we would expect roughly 3% negative impact from exchange. We forecast an ongoing adjusted gross margin ratio in the fourth quarter of approximately 55.5% of sales. We also forecast an ongoing tax rate of 19% for the fourth quarter, in line with the year-to-date rate.
Lastly, similar to the third quarter, we expect the recent sales disruption in our International Nutrition business to impact our ongoing earnings per share by approximately $0.05 in the fourth quarter, which is factored into our forecast.
With that, I will turn it over to Brian for the operating highlights and growth outlooks by business.
Thanks, Tom. This morning, I will provide an overview of third quarter performance and our outlook for the fourth quarter. My comments will focus on operational sales growth, which excludes the impact of foreign exchange.
I will first discuss Nutrition, where global sales increased more than 3% in the third quarter. The sales disruption in International Nutrition is estimated to have reduced global nutritional operational sales growth by approximately $90 million.
Global Pediatric Nutrition sales grew 2.7% in the quarter, including International Pediatric sales growth of 3%. Excluding the sales disruption, International Pediatric Nutrition continues to drive strong growth as it launches new product innovations and executes on geographic expansion initiatives.
U.S. Pediatric sales were up 2%. Abbott remains the market leader in the non-WIC segment of the U.S. infant formula market and continues to drive uptake of recent innovation launches, including Similac Total Comfort, our first switch formula that addresses a broad range of mild-tolerance symptoms.
Global Adult Nutrition sales increased 4.4% operationally in the quarter. International adult sales grew 7.5% overall and double digits in the emerging markets, driven by product innovations in our Ensure product line and execution of market expansion initiatives. U.S. Adult Nutrition sales were up 1%, negatively impacted by the exit from certain non-core business lines as part of our margin improvement initiative. Excluding the impact of these exits, U.S. Adult sales would have grown mid-single digits.
As previously discussed, we will continue to see the impact of the sales disruption on International Nutrition growth in the fourth quarter and in first half of 2014 as we continue to work towards recovery, so for the fourth quarter we expect our Global Nutrition business to grow low-single digits on an operational basis.
Moving onto Diagnostics, which delivered another quarter of strong growth with sales increased 10.5%. Core Laboratory Diagnostics operational sales increased 9% in the third quarter, driven by strong growth in the U.S. and internationally.
International sales grew 7.7%, driven by continued strong double-digit growth in emerging markets. U.S. sales increased 15%, driven mainly by a number of key account wins as large health systems continue to choose Abbott's integrated and flexible solutions to management the testing volumes and to increase operational efficiencies.
We also continue to broaden and differentiate our industry-leading assay menu and expect to launch new tests in the area of diabetes, cancer and cardiac care. Most recently, preliminary clinical trial results suggest that Abbott's high sensitive component test on ARCHITECT may improve the diagnosis and prognosis of patients presenting with heart attack symptoms.
In Molecular Diagnostics, worldwide sales increased 16% in the third quarter. International sales growth of 24%, was led by continued strong infectious disease growth and geographic expansion in emerging markets, including the benefit of tender wins in Brazil, Russia and Africa, as well as continued growth of companion diagnostics.
In Point of Care Diagnostics, worldwide sales increased 17%, driven by continued growth in the U.S. hospital and Physician Office Lab segments, as well as strong double-digit growth in emerging markets. For the fourth quarter, we are forecasting our Global Diagnostics business segment to generate high single-digit operational sales growth.
In our Established Pharmaceuticals business sales in the quarter increased modestly. Sales growth in key emerging markets was 2.3%. We continue to focus on implementing tailored strategies to accelerate growth in emerging markets that are projected to remain attractive for branded generic pharmaceuticals over the long-term. In the fourth quarter, we continue to expect low single-digit operational sales growth from our established pharmaceuticals business.
Lastly medical devices, which includes our vascular, diabetes care and vision care businesses. Sales growth in medical devices increased 4% in the quarter. In our vascular business, worldwide sales increased 2.5%. Sales growth continued to improve sequentially over the second quarter inline with our expectations.
International sales increased nearly 3% driven by continued momentum in key geographies of our next generation drug-eluting stent, XIENCE Xpedition and our bioresorbable vascular scaffold Absorb. This includes continued share gains in Europe as well as Japan where we launched XIENCE Xpedition in August following the successful launch of the XIENCE PRIME small vessel drug-eluting stent earlier in the year.
MitraClip, our first-in-class device for treating mitral regurgitation also contributed to international growth in the quarter. U.S. sales increased nearly 2%. While the drug-eluting stent market declined in the quarter, we have continued to gain share over the course of the year with the U.S. launch of XIENCE Xpedition. Mid single-digit growth in our global endovascular business also contributed to vascular performance in the quarter.
In August, Abbott completed its acquisition of IDEV Technologies which expands our endovascular portfolio by adding the SUPERA stent. SUPERA is available in Europe and is under review by the U.S. FDA for the treatment of blockages in the superficial femoral artery or the SFA. This unique technology provides Abbott an opportunity to further penetrate the largest and the fastest growing SFA segment of the global peripheral market. For the fourth quarter of 2013, we expect our global vascular business to increase in the low-single-digits on an operational basis.
In diabetes care, global sales in the third quarter increased 1%. International sales, which comprise 60% of total diabetes sales, increased nearly 9% in the quarter driven by continued strong double-digit growth in emerging markets. As expected, U.S. sales were impacted by the implementation of the CMS competitive bidding program for Medicare patients. We project fourth quarter diabetes care sales growth to be down low single-digits on an operational basis, reflecting the impact of CMS competitive bidding in the U.S. partially offset by strong growth internationally.
In Vision care, we exceeded our previous expectations by delivering nearly 12% growth in the third quarter. Cataract sales which represent more than 60% of our global vision care sales, increased double-digits, well outpacing the market. Strong cataract growth was driven by the uptake of new products, including TECNIS OPTIBLUE in Japan and TECNIS Toric in the U.S. Both products provide Abbott with access to large and growing segments of the cataract market, where Abbott wasn't previously competing with Toric lenses representing the fastest growing category in the premium segment. Strong double-digit growth in key emerging markets also contributed to performance this quarter.
In August, Abbot completed its acquisition of OptiMedica, which provides Abbott with a state-of-the-art laser system and immediate access to the rapidly developing laser cataract surgery market. This allows Abbott to have broader reach in the growing cataract market. For the fourth quarter, in our global vision care business, we expect another quarter of double-digit operational sales growth, driven by a continued strong performance of our cataract business.
In summary, while sales and earnings were affected by a disruption in our international nutrition business, we delivered strong performance across our businesses and improved operating and gross margins. Excluding the impact of the supplier recall of nutrition, total company's sales growth was balanced across both developed and emerging markets, with continued sequential sales growth improvement in developed markets and continued double-digit growth in emerging markets. We improved gross margin by 70 basis points and expanded operating margin by 210 basis points in the third quarter.
Finally, we announced a 57% increase in our quarterly dividend demonstrating our confidence in the long-term growth of the company and our commitment to increasing shareholder returns.
We will now open the call for questions.
Earnings Call Part 2: