ICU Medical, Inc. (NASDAQ:ICUI) Q4 2023 Earnings Call Transcript
ICU Medical, Inc. (NASDAQ:ICUI) Q4 2023 Earnings Call Transcript February 27, 2024
ICU Medical, Inc. misses on earnings expectations. Reported EPS is $-0.71031 EPS, expectations were $1.18. ICU Medical, Inc. isn’t one of the 30 most popular stocks among hedge funds at the end of the third quarter (see the details here).
Operator: Good day, and welcome to the ICU Medical, Inc. Fourth Quarter 2023 Earnings Conference Call. [Operator Instructions] Please note, today's event is being recorded. I would now like to turn the conference over to John Mills. Please go ahead, sir.
John Mills: Good afternoon, everyone, and thank you for joining us to discuss ICU Medical's financial results for the fourth quarter and full year of 2023. On the call today representing ICU Medical is Vivek Jain, Chief Executive Officer and Chairman; and Brian Bonnell, Chief Financial Officer. We wanted to let everyone know that we have a presentation accompanying today's prepared remarks as well. To view the presentation, please go to our Investor page and click on Events Calendar, and it will be under the fourth quarter 2023 events. Before we start our prepared remarks, I want to touch upon any forward-looking statements made during the call, including beliefs and expectations about the company's future results. Please be aware they are based on the best available information to management and assumptions that are reasonable.
Such statements are not intended to be a representation of future results and are subject to risk and uncertainties. Future results may differ materially from management's current expectations. We refer all of you to the company's SEC filings for more detailed information on the risk and uncertainties that have a direct bearing on operating results and financial position. Please note that during today's call, we will also discuss non-GAAP financial measures, including results on an adjusted basis. We believe these financial measures can facilitate a more complete analysis and greater transparency into ICU Medical's ongoing results of operations, particularly when comparing underlying results from period to period. We've also included a reconciliation of these non-GAAP measures in today's release, and provided as much detail as possible on any addendums that are added back.
And with that, it is my pleasure to turn the call over to Vivek.
Vivek Jain: Thanks, John, and good afternoon to everyone. I'll walk through our Q4 revenue and earnings performance, highlight and provide some commentary on the main topics of 2023 and then turn it over to Brian to recap the full Q4 and fiscal 2023 results and provide our 2024 guidance. After that, I'll come back with some brief comments on our medium-term outlook and the actions and opportunities in front of us to improve our performance. Revenue for Q4 was $576 million for total company growth of 2%. Adjusted EBITDA was $86 million and EPS was $1.57. We added $56 million of cash to our balance sheet as a result of the actions we've been taking on inventory, combined with modest growth. As we had anticipated, we had sequential growth in all the segments and a larger inventory reduction in Q4 versus Q3.
The broader demand and utilization environment in Q4 was the most positive since 2021 across almost every geography. The capital environment was status quo, and it does appear investments that customers need to get done do get done. There were no additional macro headwinds or tailwinds as compared to earlier in the year, but the inflationary labor environment in some of the larger production countries continued. Getting into our businesses more specifically, our consumables segment grew 4% in constant currency or 5% reported. The legacy ICU product families of IV therapy and oncology combined, again hit a record level in absolute sales with 11% growth, which is probably a few points overstated due to the Italian tax accrual in Q4 of '22. But more importantly to us, all four product lines in this segment grew well sequentially, with Vascular Access finally turning around and at least reaching Q4 2022 levels.
The sequential growth was driven by new global customer implementations, improved census throughout the quarter and increased capacity and ability to serve the market with focus on clinical differentiation and creation of niche markets. Our IV Systems business was down 1% constant currency or down 2% reported, and was the best quarter of the year in total. There was a wide range of performance across the product lines here. Our LVP pump business grew 11% with the best performance since 2021. This was due to strong census environment, a larger installed base and the usually robust Q4 for capital. Syringe pumps sold near normal quarterly levels but were down year-over-year, due to the higher shipments in Q4 of 2022 from the release of certain product holds.
Ambulatory pumps and their dedicated consumables were down year-over-year and are still below historic levels, but had a nice sequential improvement as did the segment. Since our last call, we've been putting our newly cleared Plum Duo infusion system and LifeShield IV safety software through real-world use cases in a large U.S. IDN environment, and we're starting to be production ready to make Plum Duo generally available. The early feedback is meeting our expectations, and we're incorporating super user feedback into our roadmap and believe we have a hardware product and related safety software that can be the anchor of our offering for many years to come. Just wrapping up the business segments, our Vital Care 7 grew 2% with IV solutions being up 6% and flat sequentially.
Temperature Management and Respiratory both had nice sequential improvements. From an operational perspective towards our customers, the company is running the best it has in the last two years. Customer backorders are at the lowest levels in eight quarters and fulfillment has been very stable because all of the efforts of our team and finally, what appears to be a more predictable supply chain and logistics environment. The discussions have shifted far more to innovation and the integrated value of what we've amassed. Quality has been an area of heavy investment. We feel we're on solid footing. We have had and likely will have a few more important customer notifications, all as part of the overall remediation efforts previously discussed and enhancements we have made.
We started 2023 with five goals that we reiterated on each call last year. Ultimately, we had revenue growth in most, but not all of our differentiated product lines. We did progress our quality remediation and ensured quality for patients and high compliance for regulatory authorities, respectively. We finished the TSA separation and have the groundwork and operational stability in place to pursue remaining synergies. We finally improved cash flow towards the end of the year, but continue to be burdened by necessary investments in quality and integration projects to unlock additional synergies as well as certain underutilized production assets that we're working to address. And we're improving the portfolio from a revenue growth and quality perspective, which will increase any opportunities to rationalize the portfolio at sensible levels.
That's my brief recap of Q4 and 2023 at a high level. I'll now turn it over to Brian and then come back with a few comments on our medium-term outlook, some targets and a few other thoughts.
Brian Bonnell: Thanks, Vivek, and good afternoon, everyone. Since Vivek covered the Q4 revenue for each of the businesses, I'll focus my remarks on first, recapping the full year revenue performance compared to our original expectations; second, discussing Q4 performance for the remainder of the P&L, along with the Q4 balance sheet and cash flow; and third, providing guidance on our expectations for 2024. So to recap our full year 2023 revenue performance, consolidated adjusted revenue was down 1% on a reported basis and flat constant currency. At the business unit level, consumables revenue for the year was down 1% reported in flat constant currency compared to our original expectations of mid-single-digit growth. The shortfall was due primarily to the vascular access product category, where the decline was larger than anticipated, along with a few other variances within the business unit.
But Q4 was important because after three previous quarters of stability in Vascular Access, we finally saw sequential improvement. Infusion Systems revenue for the year was up 2% on a reported basis and up 4% constant currency, in line with our original guidance of mid-single digits, driven by a combination of the LVP and syringe product lines. And Vital Care was down 3% reported and down 2% constant currency for the full year, which is at the low end of our original guidance range of flat plus or minus a little. Here, IV Solutions was the largest gap to our expectations, offset partially by solid growth within the temperature management and critical care product categories. Moving on to Q4 results and further down the P&L. As you can see from the GAAP to non-GAAP reconciliation in the press release, gross margin for the fourth quarter was 34%, which was in line with our expectations and reflects the impact from lower manufacturing absorption as we continue to reduce inventory and improve cash flow.
Recall that for the first six quarters following the acquisition, we increased inventory levels each quarter by an average of almost $50 million in order to, one, address the legacy SM backorder situation; two, build bridge stock in anticipation of the new EU MDR requirements, the effective date of which was eventually delayed; and three, bolster safety stock levels across the combined company. However, as each one of these situations evolved, in early 2023, we took action to bring inventory levels in line with underlying demand. And during the third quarter of '23, we decreased inventory levels for the first time. We said on the Q3 earnings call, that we expected inventory reductions to accelerate in the fourth quarter, and they did as we saw a cash flow benefit from inventory reduction of over $60 million.
However, the lower production levels in Q3, and to some extent Q4, negatively impacted gross margins in the quarter. Adjusted SG&A expense was $113 million in Q4 and adjusted R&D was $22 million. Total adjusted operating expenses were up 3.5% year-over-year and reflect a combination of increased selling expenses from higher revenues, along with lower incentive compensation in Q4 2022. Restructuring, integration and strategic transaction expenses were $11 million in the fourth quarter and related primarily to acquisition integration. Adjusted diluted earnings per share for the quarter was $1.57 compared to $1.60 last year. The current quarter results reflect net interest expense of $24 million, which is an increase over the prior year of $4 million and equates to just under $0.15 on a per share basis.
Fourth quarter adjusted effective tax rate was a benefit of 1% and includes certain discrete benefits in year-end items that contributed approximately $0.35 per share. Diluted shares outstanding for the quarter were 24.3 million. And finally, adjusted EBITDA for Q4 decreased 11% to $86 million compared to $96 million last year. Now moving on to cash flow and the balance sheet. For the quarter, free cash flow was a positive $61 million, which represents a significant step up relative to Q3 free cash flow of $14 million. And if you recall, Q3 was the first quarter of positive free cash flow since the acquisition if you exclude the onetime benefit from the accounts receivable sales program in Q1 of 2023. This improvement was driven primarily by a reduction in inventory during the quarter of more than $60 million.
The focus on inventory allowed us to generate meaningful free cash flow while still investing in the areas that will drive future returns. These investments included $14 million of cash spend for quality system and product-related remediation for legacy SM, $11 million on restructuring and integration and $30 million on CapEx for general maintenance and capacity expansion at our facilities as well as placement of revenue-generating infusion pumps with customers outside the U.S. And just to wrap up on the balance sheet, we finished the quarter with $1.6 billion of debt and $255 million of cash and investments. Moving forward to the 2024 outlook, we expect full year consolidated adjusted revenue growth in the low to mid-single-digit range, and we expect the growth rates for each of the underlying business units to be in line with the longer-term outlook that we've discussed before, which is mid-single digits for both consumables and infusion systems and roughly flat for Vital Care.
The consumables growth reflects a combination of volume and some price, with volume increases driven by continued share gain in core infusion, modest recovery in vascular access and the benefit of higher growth markets for oncology and specialty. The infusion systems growth reflects normal market growth, a little bit of price and the assumption of limited P&L impact from Plum Duo in 2024, given the usual lag between customer contract signing and implementation. Moving further down the P&L, we expect adjusted gross margin for the full year to be approximately 35%. The 35% includes price increases offsetting the negative impacts from labor inflation in our Mexican plants, as well as continued pressure from the peso exchange rate, and assumes a relatively stable environment for freight rates and fuel.
It also reflects the temporary impact from lower absorption as we expect further inventory reductions over the course of 2024. In terms of progression over the year, we expect gross margin to be lowest in the first quarter as a result of the delayed P&L recognition from the inventory reduction that occurred in Q4 of 2023, with improvement over the course of 2024 from higher manufacturing volumes as inventory reductions taper and revenue growth takes effect. We are planning for adjusted operating expenses as a percentage of revenue to be similar to 2023 levels, which is just under 24%, reflecting the benefit from synergies offsetting the impact from resetting incentive compensation plans and general inflationary increases. Net interest expense is expected to be approximately $105 million based on current market forecasts for interest rates as well as the roll-off of a portion of our interest rate swaps.
The adjusted tax rate should be around 23%, which is our normalized tax rate before discrete items. And finally, diluted shares outstanding are estimated to average $24.6 million during the year. Bringing these components together results in 2024 adjusted EBITDA in the range of $330 million to $370 million and adjusted EPS in the range of $4.40 to $5.10 per share. Now on to cash flow. We ended 2023 with $83 million of free cash flow for the year, which is driven mostly by the onetime benefit from the implementation of the accounts receivable factoring program during the first quarter. For 2024, we expect free cash flow to be around the same levels as 2023, but to be driven entirely by operations. And the final amount will depend on, one, the degree of inventory reduction; and two, the amount that we choose to invest in quality remediation and integration activities as there is value in completing this work sooner to capture additional synergies.
In terms of remaining inventory reduction, we said on the last call that the total opportunity was ballpark $100 million. And after more than $60 million captured in Q4, that would leave roughly $40 million left to go, and we think that's a fair assumption headed into 2024. In addition, we expect to see our CapEx requirements in 2024 to be in the range of $90 million to $110 million. Timing of free cash flow throughout the year should be consistent with our historical trend, which is lighter in the first quarter as a result of payments for prior year annual incentive compensation, with improvement over the remainder of the year helped by the benefit of revenue growth. To wrap up, we're happy with the sequential improvements in Q4 revenue that we saw across all three businesses as well as the meaningful step-up in free cash flow.
For 2024, we're focused on foundational work that will drive earnings improvement in 2025 and beyond, which Vivek will expand upon. Now I'll hand the call back over to Vivek.
Vivek Jain: Okay. Thanks, Brian. And that's the reality of where we are right now. But what's not lost on us is the reality of where we should be. Profitability in parts of this industry has obviously been impacted by the lag between inflation and pricing and the underlying competitive dynamics and differentiation in each category. But even with all that, we think most reasonably efficient companies in these types of markets now are somewhere in the low 20s EBITDA margin level. We do not think this can apply to our IV Solutions business, which has its own unique competitive dynamics and with a general misvaluation of the product in the market. But we do think the rest of our portfolio is capable of achieving such a margin over time.
Given what we have been through the last few quarters, we are not willing to commit to a certain date of being there, but our experience in time in the category makes us believe that, that's a fair metric. For our lean type of company, achieving this metric is all about revenue growth and our gross margins, which for us include all costs related to logistics and many other areas. And most of the improvement opportunities with these items should be directly under our control. We still need to prove that we're capable of predictable, sustained revenue growth, which has not been the case as certain lines were going backwards, but we are on more solid footing now. Our original model for a number of these products and our goal was to just get back to near historical sales levels, and we will need additional price given some of the share losses.
But in the background, we've been actively refreshing the portfolio to ensure we're capable of either creating new markets or protecting product families that can take share. Plum Duo was the first step of a series of products in our next generation of infusion technologies. We should have a single-channel Plum Solo and a refreshed syringe pump on file at the FDA by the end of this year. These products will work with our already cleared LifeShield infusion safety software and would be just at the beginning of a long cycle in that space. Alongside that, over the last year or 2, there have been a number of new launches. Examples include a series of capital and disposable devices in the Diana family to be used in drug preparation that should help our CSTD prep products, a refreshed tracheostomy series called Blue Select, and a refreshed hemodynamic monitor that upgraded the already newer Cogent.
We would expect certain new filings over the next 12 to 24 months in our consumables area and the valuable temperature management business. We're growing our positions with the existing products of today, and these will be supplemented by a significant refresh in key parts of the portfolio, with a large portion already done. We've been carefully targeting these investments because, obviously, innovation drives sustained revenue growth. But the other challenge has been gross margin volatility, and we mentioned some of the areas for optimization on this call last year. Where we have businesses at record levels, those production environments are fully utilized and improving efficiencies. But where we have businesses that are smaller, we have real inefficiencies where the pain has been compounded with the inventory choices we've made or the loss of revenue.
There's no magic here nor do we need to talk about transformational programs or anything like that. This is the basic blocking and tackling of network consolidations. Some have been announced, like the move of our syringe and ambulatory pump production to Costa Rica and our U.S. pump service center consolidation to Salt Lake City, and other projects are in flight. Simply said, have less places and have them in the right place in full, and the same goes for real estate. Logistics network consolidation is also embedded in this gross margin work for us, but it's more in the planning stage and it depends on our IT system integration. That foundation has been laid, and we'll integrate our U.S. system sometime in Q3 of this year. We've done that type of project several times now.
This list of actions is economically meaningful and contributes a huge portion of getting where we need to be and offsetting the normal bumps that happen in business, but they do take some time to execute. Out of our control are interest costs, which we do expect to change eventually. But from a value perspective, we felt it more sensible to bear more interest expense as long as manageable, versus eroding value by not maximizing the assets where the revenue, earnings and quality of those assets is improving. Debt paydown continues to be our highest capital allocation priority, and any extra cash above our needs would go to repayment. To be direct on our goals for the next year or 2, we want our consumables and systems businesses to be reliable growers with an industry acceptable profit margin, with the tightest and most optimized manufacturing network, and each with a multiyear innovation portfolio.
And we want the rest of the portfolio to add up to levels where we deliver an acceptable profit margin that ultimately allows us to transfer value from debt to equity. There is no confusion within the company and the pursuit of these goals, and we don't really have any frivolous activities here. We produce essential items that require clinical training, hold manufacturing barriers, and in general items that customers do not want to switch unless they must. The market needs ICU Medical to be an innovative, reliable supplier and our company is stronger from all the events over the last few years. Thanks to all our team members and customers as we improve each day. And with that, I'll open it up to questions.
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