U.S. Markets closed

Edited Transcript of OMI earnings conference call or presentation 7-May-19 12:30pm GMT

Q1 2019 Owens & Minor Inc Earnings Call

MECHANICSVILLE May 14, 2019 (Thomson StreetEvents) -- Edited Transcript of Owens & Minor Inc earnings conference call or presentation Tuesday, May 7, 2019 at 12:30:00pm GMT

TEXT version of Transcript

================================================================================

Corporate Participants

================================================================================

* Chuck Graves

Owens & Minor, Inc. - Director of Finance & IR

* Edward A. Pesicka

Owens & Minor, Inc. - President, CEO & Director

* Robert K. Snead

Owens & Minor, Inc. - Executive VP & CFO

================================================================================

Conference Call Participants

================================================================================

* Kevin Caliendo

UBS Investment Bank, Research Division - Equity Research Analyst of Healthcare IT and Distribution

* Kevin Hartman

Goldman Sachs Group Inc., Research Division - Business Analyst

* Steven James Valiquette

Barclays Bank PLC, Research Division - Research Analyst

================================================================================

Presentation

--------------------------------------------------------------------------------

Operator [1]

--------------------------------------------------------------------------------

Good morning, ladies and gentlemen, and welcome to the Owens & Minor First Quarter 2019 Financial Results Conference Call. My name is Amanda, and I will be your operator for today. (Operator Instructions) As a reminder, this conference is being recorded for replay purposes.

I would now like to turn the presentation over to your host for today's call, Mr. Chuck Graves. Please proceed, Mr. Graves.

--------------------------------------------------------------------------------

Chuck Graves, Owens & Minor, Inc. - Director of Finance & IR [2]

--------------------------------------------------------------------------------

Thank you, operator. Good morning, everyone, and welcome to the Owens & Minor First Quarter 2019 Earnings Call. I'm Chuck Graves, and on behalf of the team, I'd like to read the safe harbor statement before we begin.

Our comments today will be focused on financial results for the first quarter of 2019, which are included in our press release. In our discussion, we will reference certain non-GAAP financial measures. Information about these measures and reconciliations to the most comparable GAAP financial measures are included in our press release.

In the course of our discussion, we may make forward-looking statements. These statements are subject to risk and uncertainty that could cause actual results to differ materially from those projected. Please see our press release and our SEC filings for a full discussion of these risk factors.

Participating on our call this morning are Ed Pesicka, our President and CEO, who will provide an overview of the business and an update on the progress we are making; and Robert Snead, EVP and Chief Financial Officer, who will provide details on the first quarter results and more insight into our business performance.

Now I would like to turn the call over to Ed, who will start things off this morning. Ed?

--------------------------------------------------------------------------------

Edward A. Pesicka, Owens & Minor, Inc. - President, CEO & Director [3]

--------------------------------------------------------------------------------

Thank you, Chuck, and good morning, everyone. I would like to thank everyone for joining us on the call today. Robert will give an in-depth analysis of our quarterly results, but I am pleased that our earnings were in line with our internal operating plan for the first quarter of 2019.

Today, I want to spend most of the time talking to you about my observations from my first 60 days. Since I joined Owens & Minor in March, this is the first opportunity I've had to talk to you about the company. And I'd like to give you a sense of where we stand today based on what I've seen firsthand as well as where we are going in the future. I will discuss our customers, our value proposition and changes we are focused on within our company.

From day 1, I felt the most important thing I could do was to meet face to face with our customers as well as our teammates, and that's exactly what I've done. These interactions have allowed me to have open and honest dialogue on a firsthand basis. In addition, the meetings and conversations have helped me to validate some of our strategies as well as my initial perspectives. Specifically, the meetings helped me to shape the initial adjustments and actions that needed to be made to the business. We have already made some changes and others will come as I continue to gain more information and insight around the needs of our customers as well as how we can best service these customers and meet their needs.

The main takeaway from these interactions is that we have a great foundation that's based on our broad offering of products, our solutions and our services, and I'm increasingly confident in our ability to drive profitable growth in the future. If you combine our offerings with our ability to adjust quickly to the unique demands of our customers in a rapidly changing health care environment, we have a recipe for success.

So let me first start with our customers. Over my first 60 days, I've made it a priority to meet with existing customers as well as prospective customers. These conversations have been extremely valuable. I've gained an understanding of our customers' wants as well as their needs. This has allowed me to focus on how we serve our current customers as well as identify 2 things: one, opportunities for improvement at Owens & Minor; and two, ways we can expand our relationships with existing customers.

Relating to prospective customers. I've been able to learn why they are seeking change and how we, at Owens & Minor, can best meet their needs. To date, I have visited the facilities as well as talked to the leaders of our health care networks that represent approximately $2 billion in existing revenue. Next, I've met with a significant number of prospective customers. These customers represent over $0.5 billion of potential annual revenue for Owens & Minor. And then finally, I've met with our major GPOs, whose members represent approximately $6 billion of our revenue.

While early in the process, I wanted to let you know that: one, we have already closed on incremental business that may bring us up to $100 million of revenue; and two, we have extended our Vizient contract through August 2020 with no significant changes in terms.

I have also learned that when properly articulated, our customers value: one, our ability to be flexible, to adapt quickly and to customize our solutions to solve their challenges; two, our integrated solutions and services that help them mitigate risk, increase value and ultimately improve the clinician's experience; and three, our ability to move at a speed equal to the pace of the industry that's in change.

While our customers want their partners to be flexible and move quickly, they also expect a high level of service. If you think about it in a different way, this is just the basic price of admission to be able to compete. For many years, Owens & Minor had a well-deserved, market-leading reputation providing exceptional service. However, during 2017 and 2018, our service levels lagged and at times led to customer dissatisfaction. However, we have made a number of changes and investments in our operations to improve services.

These investments have resulted in significant improvement in service levels compared to 2018. We are now consistently meeting our overall service level targets and more aggressively addressing issues as they arise in the course of business. We're also beginning to drive productivity in our operations with improvements from 2018 levels.

The service challenges in 2018 led to net customer losses, which has continued into the first quarter of 2019. Let's be clear, we've had our share of wins and losses with customers both large and small. Those that have moved away have done so largely in part because of our previous service challenges, and this includes a large customer that will not renew its contract. Because this contract ends in late 2019 and the customer is at the low end of our customer profitability, this transition will not have a meaningful impact on our 2019 results. However, we have a multipronged approach to offset the impact in the future, which in one part includes a robust pipeline of customer pursuits, as I mentioned earlier. Going forward, we know we must deliver service levels at or above our customer's expectation. And every day that we consistently demonstrate a high level of service, the opportunity for retention and net customer gain improves.

Also I have personally stress-tested our solutions and service value proposition, and at the appropriate customer contact point, it resonates. For example, I was recently at a customer meeting where we discussed QSight as a great example of one of our solutions. Once we showed the customer how QSight can mitigate risk, provide value, specifically with a return on investment greater than 5x and also improve the clinician experience, we captured their attention. Currently at this customer, we are in a pilot phase with an opportunity for a broader application into the future.

Then if you consider the role we play along the health care continuum, we can deliver even more value to providers. We can serve patients in the home with our Byram home health care. We offer a portfolio of leading products from our Halyard and MediChoice brands and provide patient care coordination with Fusion5. Here, again, we have not done a great job in messaging our ability to bring the value to the health care providers. This is going to change as we continue to develop a higher level of intensity and make changes to better serve the customer and drive profitable growth.

Now moving on to our teammates. Over the last 2 months, I have visited a number of our facilities and met with many of our teammates. As I travel around the country, I am learning more about the inner workings of our business, the current markets we serve and most importantly, our culture. Our teammate-focused culture defines Owens & Minor and sustains us. However, we must understand that while we are teammates, we must also be leaders, whether that is as a coach or a captain. And as we always have, we will continue to operate with the highest level of integrity. As I've met with our teammates, I've been frank. I've been frank about what needs to change so that we can further stabilize our business.

First, we need to drastically increase our intensity. We must also maintain a firm focus on serving our customers while running our business effectively and efficiently. Second, we must continue to develop our teammates to ensure that we have the ability to serve a rapidly changing health care industry. Third, we will have a higher level of accountability and authority to honor our commitments to our customers, stakeholders and teammates. Fourth, we will improve our ability to leverage the vast amount of data that we collect to serve our customers. Next, we are operating at a renewed sense of confidence as a team that we are one company, focused in one direction through the alignment of our goals and priorities. Our sense of urgency is high. And lastly, we are laying the foundation for sustained growth and improved cash flow. We are working to deleverage the balance sheet as quickly as possible while continuing to make smart investments in our business.

So in closing, I'm pleased that the overall results for the first quarter of 2019 are in line with our internal operating plan, allowing us to reconfirm our guidance range for the year. I'm also incredibly excited to have the opportunity to lead Owens & Minor and build on its long and proud history of serving health care. As I mentioned, I've spent significant time with customers since joining the company in March. I've heard firsthand that our offering resonates with these health care providers. We provide efficient, customized solutions with the ability to adjust on the fly that allows our customers to mitigate risk, increase value and improve their experience. I will continue to meet regularly with customers. These face-to-face meetings are extremely valuable and there will be no letup. In fact, over the next few weeks, I will be meeting with customers, suppliers and teammates throughout the Mid-Atlantic and Northeast regions. I look forward to these meetings. Thank you.

And now I'll call on Robert for his assessment of our first quarter results. Robert?

--------------------------------------------------------------------------------

Robert K. Snead, Owens & Minor, Inc. - Executive VP & CFO [4]

--------------------------------------------------------------------------------

Thank you, Ed. Good morning, everyone. Today, I'll provide an update on our first quarter results, including a discussion of segment results and our outlook for the year.

For the first quarter, consolidated revenues were $2.5 billion, an increase of 3.7% compared to prior year. Quarterly revenue growth includes Halyard contributions of $189 million, net of intercompany sales, and strong growth from Byram. Revenue growth was partially offset by declining revenue from lost distribution business.

The GAAP net loss for the first quarter was $14.1 million or $0.23 per share and adjusted net income for the quarter was $1 million or $0.02 per share. You may recall that in February, we spoke of very minimal earnings for the first quarter, and our results were in line with our expectations.

Now let's turn to our segment performance for the quarter. The Global Solutions segment revenues were $2.2 billion, representing a 4.6% decrease compared to the prior year. Results were positively affected by Byram revenue growth and growth in manufacturer solutions, offset by decreases in our distribution business. Operating income was $21 million compared to $37 million last year. The decline resulted from lower revenue, ongoing distribution margin pressure, increased warehouse and delivery expenses and increased expenses to develop new customer solutions. These were partially offset by contributions from Byram.

As Ed discussed, we are seeing positive trends in our customer service metrics, which are now at or above targeted levels. While still a headwind year-over-year, we also saw sequential improvement in our distribution operations' productivity, and we expect that to continue through the year.

Turning to the Global Products segment. For the quarter, revenues were $347 million compared to $121 million last year. Revenues for the quarter included Halyard contributions of $240 million. Operating income for the quarter was $7.7 million compared to $11.1 million last year. Results were impacted by commodity price increases, softness in sales, which were offset by expense control. In addition, as shown in our summary segment information, our results also include intersegment income of $1.7 million. This income is attributable to our product segment and occurs when in-market product sales exceed product segment sales. Our segment earnings were in line with our expectations.

Turning to the balance sheet and cash flow. Consolidated long-term debt was $1.7 billion at March 31, and we used $61 million of operating cash flow during the quarter. Operating cash flow was affected by lower net income, plus the timing of working capital changes. This timing was due to the normal holiday inventory build combined with the impact of the flu season, resulting in a higher level of working capital. We have already seen much of this normalize in April, and we expect working capital to be a positive contributor to cash flow for the year.

Now let me touch briefly on the new lease accounting standard we adopted this quarter. Our first quarter balance sheet includes approximately $200 million of assets and liabilities representing the present value of our operating leases. The new standard has no impact on cash flow. Finally, I'd like to remind everyone of the expected cadence of our earnings. Last quarter, I mentioned several factors impacting our outlook, including health care plan deductibles, typical seasonality, Fusion5 investments and the pace of customer on-boarding in our manufacturer and provider solutions businesses. As a result of these factors, we believe that our adjusted earnings per share for the second quarter of 2019 will be in the mid to high single digits, but we expect improvement over the course of the year, with the bulk of the earnings late in the year. In closing, I'd like to reiterate our commitment to driving cash flow and deleveraging the balance sheet. Thanks.

And with that, I'll turn the call back over to the operator to begin the Q&A session.

================================================================================

Questions and Answers

--------------------------------------------------------------------------------

Operator [1]

--------------------------------------------------------------------------------

(Operator Instructions) Your first question comes from the line of Steven Valiquette of Barclays.

--------------------------------------------------------------------------------

Steven James Valiquette, Barclays Bank PLC, Research Division - Research Analyst [2]

--------------------------------------------------------------------------------

So I guess for us, I mean the results looks pretty much in line, as you guys described. Maybe just curious for an update on where you stand right now on the approximate percent of SKUs that you're distributing that are self-manufactured. And also, do you think that will continue to ramp up either throughout this year or over the next couple of years as well? Just an update around that whole part of the strategy.

--------------------------------------------------------------------------------

Edward A. Pesicka, Owens & Minor, Inc. - President, CEO & Director [3]

--------------------------------------------------------------------------------

Sure. Yes, when you think about the SKUs, we look at it 2 ways. We look at both SKUs as well as revenue as a percentage of our total revenue, and I'll talk specifically in the distribution business. There is a plan actively in place to continue to increase the SKUs and increase the portfolio, both of our own self-manufactured product, that being the Halyard brand and the MediChoice brand. Probably in the mid-teens right now, with the expectation to be able to grow that revenue steadily over the next 18 months.

--------------------------------------------------------------------------------

Operator [4]

--------------------------------------------------------------------------------

Our next question comes from the line of Robert Jones with Goldman Sachs.

--------------------------------------------------------------------------------

Kevin Hartman, Goldman Sachs Group Inc., Research Division - Business Analyst [5]

--------------------------------------------------------------------------------

This is Kevin on for Bob today. Just quickly, I know you guys had mentioned a number of different factors that are contributing towards the ramp that's implied in guidance like deductibles, seasonality, et cetera. Which of these items would you say you have significant line of sight into and which would you say could be maybe more meaningful swing factors moving you between the $0.60 and $0.75 that you guys have outlined for guidance?

--------------------------------------------------------------------------------

Edward A. Pesicka, Owens & Minor, Inc. - President, CEO & Director [6]

--------------------------------------------------------------------------------

Yes. I'll let Robert start and then I'll add the color on to it.

--------------------------------------------------------------------------------

Robert K. Snead, Owens & Minor, Inc. - Executive VP & CFO [7]

--------------------------------------------------------------------------------

Yes. So as I mentioned in the prepared remarks, health care plan deductibles is a big factor. Byram is a big contributor to that or is impacted by that. Their fourth quarter tends to be significantly higher than the first quarter, so that's one. And we have reasonable insight in that based on how revenues are developing through the first quarter.

The other one is the seasonality that exists in the business. That's a pattern that we can look at historical data to see how that manifests itself. That is driven partly by the flu season. Also, it impacts our global business, not just in the U.S., in Europe as well.

The pace of customer on-boarding that I mentioned is another one that we have some visibility into as we've signed some contracts with both our provider solutions business as well as our manufacturer business. And so as we're on-boarding those, we're expecting that business to be phased in how it's coming on later in the year.

And then the next one is our Fusion5 business that we've talked about. That's more in an investment phase and is more of a fourth quarter event in terms of where that ends up. A little less clarity in where that ultimately shapes up to be because it's a newer business and we're still working our way through that, but it's one that's more fourth quarter-oriented.

And then the last thing I didn't really talk about in the prepared remarks that is a factor is the commodity price headwinds that we had talked about last year. We saw that impact the results in the fourth quarter. We saw that in the first quarter of this year. There had been some abatement in that in terms of where more recent spot prices have gone. So we do expect to see improvement in the products business next quarter and then the later quarters in the year.

--------------------------------------------------------------------------------

Edward A. Pesicka, Owens & Minor, Inc. - President, CEO & Director [8]

--------------------------------------------------------------------------------

And then let me just add a little bit of color. The way I think about it is consistent. You think about Global Products, our manufacturing businesses, the end of the year, we have year-end buys, which helps the seasonality of that business.

From a Byram home health care, the deductible issue really drives significant improvements, specifically in the fourth quarter related to that where they'll generate substantially more profit in the fourth quarter than they do in the first quarter as people hit their deductible maxes and then start to continue to increase their buys.

On the distribution, the core business, it's going to be continued operating efficiencies, what we've started to see here in the beginning of the first quarter as we progress through the year. And we're continuing to see it here going into the second quarter.

And then last, as Robert stated, is Fusion5. So Fusion5 has the investment in -- through the beginning of the year. And then based on the occurrences that occurred last year in October through March and the government reconciliation on that, we'll start to see that in the fourth quarter, the revenue, which is a pull-through to profit. So that's the way to think about it in the 4 major portions of our business.

--------------------------------------------------------------------------------

Kevin Hartman, Goldman Sachs Group Inc., Research Division - Business Analyst [9]

--------------------------------------------------------------------------------

Great. That's really helpful. And then just a quick one on free cash flow. I know you guys had mentioned a couple of the working capital items which should hopefully benefit next quarter. Just at a high level, are you guys expecting to see growth in free cash flow this year? Or any sense of just trends would be helpful there.

--------------------------------------------------------------------------------

Robert K. Snead, Owens & Minor, Inc. - Executive VP & CFO [10]

--------------------------------------------------------------------------------

Yes. We are. We focused on working capital management, as we've talked about in past calls. This has been something last year that was probably domestic business that we've had. We've expanded our efforts for that globally. So part of the headwind we've had is just getting off the TSAs with the Halyard business. And so that's kind of a temporary issue, an issue with us really getting at driving some of that opportunity. As we've gone through some of those transitions here in the first quarter, that's given us more access and control over the business. And so we expect to drive working capital through the balance of the year and have that be a positive contributor to operating cash flow for the year.

--------------------------------------------------------------------------------

Operator [11]

--------------------------------------------------------------------------------

(Operator Instructions) Our next question is from the line of Kevin Caliendo of UBS.

--------------------------------------------------------------------------------

Kevin Caliendo, UBS Investment Bank, Research Division - Equity Research Analyst of Healthcare IT and Distribution [12]

--------------------------------------------------------------------------------

Sorry. I apologize, but I was on mute. Can you talk a little bit about if you've contemplated doing any kind of asset securitization to help near term on the balance sheet? Is that something that's necessary or something that could be opportunistic for you?

--------------------------------------------------------------------------------

Edward A. Pesicka, Owens & Minor, Inc. - President, CEO & Director [13]

--------------------------------------------------------------------------------

Yes. I'll start and let Robert talk on the specifics. So from that, I think we constantly -- or we began to continue to look at different ways to deleverage the balance sheet and additionally, different ways to continue to provide more cash flow, and I'll let Robert talk specifically about this.

--------------------------------------------------------------------------------

Robert K. Snead, Owens & Minor, Inc. - Executive VP & CFO [14]

--------------------------------------------------------------------------------

Sure. We have within our credit agreement an ability to do an asset securitization. And we are certainly looking at that. I think the main focus of that would be geared towards driving interest savings. Those types of financings tend to generate lower interest expense. So that would result in cash savings for us and then help improve deleveraging. So that's certainly top of mind and something that we're focused on.

--------------------------------------------------------------------------------

Kevin Caliendo, UBS Investment Bank, Research Division - Equity Research Analyst of Healthcare IT and Distribution [15]

--------------------------------------------------------------------------------

Second question, this is a little bit more broadly just about sort of industry dynamics. In some of the checks we've done talking to some hospitals, we've heard that some hospitals are contemplating combining their wholesalers, meaning using their acute care providers to RFP out both the acute care side and also their physician or alternate sites on campus. Can you talk a little bit about if that's really a trend and if you guys are positioned to be able to participate in that kind of RFP? I know with Scripps, you had the entire campus. I was just wondering sort of, is that a dynamic that's happening and how you guys are positioned to take advantage of it?

--------------------------------------------------------------------------------

Edward A. Pesicka, Owens & Minor, Inc. - President, CEO & Director [16]

--------------------------------------------------------------------------------

Yes. So absolutely it is happening. From spending time with customers, they are looking at their acute care as well as their ambulatory service centers and the external part of their businesses. And Scripps is a great example of how we, with our ability to be flexible and provide unique solutions, can, I believe, better serve those customers and others out there in that space. It's a similar call point but it's a different service delivery model. Just think about it in a basic sense, some of those remote locations don't have loading docks where the hospital does have a loading dock. And with our ability to deliver and customize a solution, it enables us to, I believe, better serve them as that continues to change within the health care field. So we are seeing it. It's IDN by IDN-specific based on the way they're structured, but we are positioned, I believe, very well to be able to serve that as the industry continues to migrate in that direction.

--------------------------------------------------------------------------------

Kevin Caliendo, UBS Investment Bank, Research Division - Equity Research Analyst of Healthcare IT and Distribution [17]

--------------------------------------------------------------------------------

What percentage of hospital systems do you think are actually moving in that direction?

--------------------------------------------------------------------------------

Edward A. Pesicka, Owens & Minor, Inc. - President, CEO & Director [18]

--------------------------------------------------------------------------------

It's still early on. So right now it's been low, but we're seeing the trend increase.

--------------------------------------------------------------------------------

Operator [19]

--------------------------------------------------------------------------------

(Operator Instructions) And there are no further questions. At this time, I would like to turn the call back over to Mr. Pesicka for his closing remarks.

--------------------------------------------------------------------------------

Edward A. Pesicka, Owens & Minor, Inc. - President, CEO & Director [20]

--------------------------------------------------------------------------------

I want to thank everyone for joining us on the call today. As I mentioned earlier, I'm extremely excited to lead Owens & Minor as we continue to build upon our company's strong legacy in the health care field. I look forward to updating you on the progress in the future. So thank you, everyone.

--------------------------------------------------------------------------------

Operator [21]

--------------------------------------------------------------------------------

Ladies and gentlemen, thank you for your participation in today's conference. This does conclude the program. You may now disconnect. Everyone have a great day.