Avanos Medical, Inc. (NYSE:AVNS) Q3 2023 Earnings Call Transcript
Avanos Medical, Inc. (NYSE:AVNS) Q3 2023 Earnings Call Transcript November 4, 2023
Operator: Good morning, and welcome to Avanos' Third Quarter 2023 Earnings Conference Call. All participants will be in listen-only mode. [Operator Instructions] After today’s presentation, there will be an opportunity to ask questions. [Operator Instructions] Please note, this event is being recorded. I would now like to turn the conference over to Scott Galovan, Senior Vice President of Strategy and Corporate Development. Please go ahead.
Scott Galovan: Good morning, everyone, and thanks for joining us. It's my pleasure to welcome you to Avanos 2023 third quarter earnings conference call. Presenting today will be Joe Woody, CEO; and Michael Greiner, Senior Vice President, CFO and Chief Transformation Officer. Joe will review our third quarter, expectations for the remainder of 2023, and provide an update on our transformation efforts. Michael will share additional detail regarding these topics. We will finish the call with Q&A. A presentation for today's call is available on the Investors section of our website, avanos.com. As a reminder, our comments today contain forward-looking statements related to the company, our expected performance, current economic conditions and our industry.
No assurance can be given as to future financial results. Actual results could differ materially from those in the forward-looking statements. For more information about forward-looking statements and the risk factors that could influence future results, please see today's press release and risk factors described in our filings with the SEC. Additionally, we'll be referring to adjusted results and outlook. The press release has information on these adjustments and reconciliations to comparable GAAP financial measures. Now, I'll turn the call over to Joe.
Joseph Woody: Thanks, Scott. Good morning, everyone, and thank you for joining us to review our operational and financial results for the third quarter of 2023. We are pleased with our third quarter results, which align with the expectations outlined during our second quarter earnings call. We anticipated a continued reduction in supply chain disruptions and strong demand for our products. Last quarter, we indicated that our year end back order would be around $3 million, down from over $10 million at the beginning of the year, and we are making steady progress toward achieving this target by the end of December. Additionally, we continue to make steady progress against each of our transformation priorities, which I will further comment on in a few minutes.
As always, our primary focus is on getting patients back to the things that matter as we meet the needs of our customers. For the quarter, our sales from continuing operations were $171 million, adjusted for the adverse effects of foreign exchange and the impact of our earlier decision to discontinue revenue that didn't meet our return criteria. In addition, we generated $0.30 of adjusted diluted earnings per share and almost $28 million of adjusted EBITDA from continuing operations during the quarter. Our adjusted gross margin exceeded 58% and our SG&A as a percentage of revenue stood at approximately 42%. Now I'll spend the next few minutes discussing our results at the product category level. On a constant currency basis, our Digestive Health portfolio showed robust growth exceeding 10.5%.
This growth was bolstered by our NeoMed product line, which delivered another strong quarter compared to the previous year, as we continue to take advantage of the demand for ENFit conversions in North America. Our legacy Digestive Health product line grew just shy of double digits globally, primarily behind the performance of our legacy enteral feeding portfolio coupled with the continued expansion of our U.S. CORTRAK standard of care offering. Our ability to continue to deliver above-market growth and leadership in our core Digestive Health markets will be supported by innovations that we plan to launch over the next 12 months, expansion into high potential global markets, low growth product rationalization, and actionable M&A targets in large attractive adjacencies.
Turning to our Pain Management and Recovery portfolio. This quarter sales were down approximately 10%, excluding the benefit of Diros revenue, the negative impact of foreign exchange, and our previously announced decision to discontinue certain low growth, low margin products. We continue to see softness across the Game Ready and HA product categories, both of which were down greater than 10% versus the prior year. Our Interventional Pain portfolio experienced an 8% decline compared to the previous year due to supply challenges. Given our Q4 supply chain improvements, we anticipate our IVP portfolio to be at least flat versus prior year, excluding the positive impact of Diros revenue. Separately, our Surgical Pain business is showing improvement.
After several consecutive quarters of decline, we're making progress in executing our new go-to-market strategy and structure. In the current quarter, we delivered low single-digit growth, excluding the previously described market withdrawals of certain low growth and low margin products. We anticipate that our fourth quarter revenue for our Surgical Pain business will be largely consistent with our third quarter results. Our HA portfolio, though down versus prior year, met our internal expectations. As discussed during last quarter's call, we continue to experience volatility in our three and five shot offering, largely due to the competitive pricing and dynamics of the market environment. Nevertheless, we believe we have the right strategies in place to capitalize on our HA opportunities over the long-term, but continue to anticipate near-term volatility and sequential quarterly declines.
Finally, early performance of our newly acquired Trident product line has been solid, and we are excited about the U.S. market launch, which kicked off yesterday. Now moving to an update on our 2023 transformational priorities and efforts. As a reminder, we have four key priorities for the next three years that will optimize our go-to-market opportunities and meaningfully enhance our financial profile. These priorities are: strategically and commercially optimizing our organization, transforming our portfolio to focus on categories where we have attractive margin profiles and the right to win, taking additional cost management measures to enhance operating profitability, and continuing our path of efficient capital allocation to meaningfully improve our ROIC.
We are very pleased with our execution against these priorities as evidenced by divesting our respiratory health business, enhancing our portfolio growth and margin outlook, closing the Diros acquisition, which runs our Interventional Pain portfolio with accretive growth and margin products, continuing strong performance throughout our DH portfolio, progressing our pain go-to-market strategy, as I just noted, and accelerating our transformation cost savings, which we now expect to exceed $20 million in 2023. As we have consistently communicated, since I first presented our transformation plan at the J.P. Morgan Conference in January, this year will be a bit uneven given to the transformation priorities: the realignment of our commercial organization, M&A execution, and our other portfolio optimization activities.
We continue to execute solidly on each of these priorities, which serve as the building blocks for achieving the 2024 and the 2025 financial metrics we outlined in our June 2023 Investor Day. Now I'll turn the call over to Michael, who continues to lead these efforts as Chief Transformation Officer and will provide further insights into our third quarter financial results.
Michael Greiner: Thanks, Joe. From a continuing operations standpoint, net sales were $171.3 million. Adjusted gross margin was 58.2% and adjusted net income for the quarter totaled $14 million, translating to $0.30 of adjusted diluted earnings per share. Adjusted EBITDA for the quarter was almost $28 million, favorable more than $2.5 million versus prior year. For the quarter, we generated over $25 million of free cash flow, despite continued headwinds in supply chain in our Pain Management and Recovery portfolio. Subsequent to quarter end, we successfully closed the sale of our RH business and used most of the proceeds to pay down a portion of our revolving credit facility. As a result, we currently have $105 million of cash on hand and $169 million of outstanding debt, giving us a leverage ratio of less than 0.5 turn.
As I just noted, adjusted gross margin for the quarter was 58.2%, which is down compared to the previous quarter. This decline, however, was mainly due to our efforts to reduce inventory, which negatively impacted fixed cost absorption, coupled with ongoing inflationary pressure on electronic components. We anticipate gross margin will exceed 60% in the fourth quarter. SG&A as a percentage of revenue was 41.6%, marking a 140 basis point improvement versus the prior year and a notable sequential gain of 350 basis points. Looking ahead, we anticipate SG&A as a percentage of revenue to range from approximately 40% to 41% for the fourth quarter from a continuing operations standpoint. This is part of our ongoing journey to further enhance our financial profile with continued improvements in 2024, ultimately leading to our 2025 goal of between 38% to 39%.
These improvements are driven by reduced headcount, third-party cost savings, and business process optimizations, among others. Adjusted diluted earnings per share were $0.30 versus $0.24 a year ago with adjusted EBITDA margin of 16.2% compared to 14.6% in 2022. We are reaffirming our previously stated full year continuing operations guidance, which was presented during our second quarter earnings call. This guidance includes an adjusted diluted EPS range of $1.05 to $1.15, gross margin greater than 59%, and adjusted EBITDA margin of approximately 15%. Taking into account the current year effects of the approximately $17 million annualized impact resulting from product portfolio rationalization, the company anticipates comparable organic revenue for the year to be flat to low single digits.
As previously shared, the cost management component of our transformation program is on track to generate gross savings between $45 million and $55 million by 2025. As Joe noted earlier, we remain committed to the execution of our transformation priorities, and are maintaining a sharp focus on our business strategies for both our Digestive Health and Pain Management and Recovery businesses. The successful implementation of these portfolio strategies, in conjunction with our other transformation efforts, will enable us to achieve mid-single digit organic revenue growth, gross margins surpassing 60%, adjusted EBITDA margins greater than 20%, and free cash flow generation of approximately $100 million in 2025. Finally, as outlined at our Investor Day in June, we anticipate generating ROIC greater than 8% over this horizon with ROIC exceeding 6% by the end of this year.
Operator, please open the line for questions.
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