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Good day, and thank you for standing by. Welcome to the Embla Medical Q1 2024 Conference Call and Webcast. [Operator Instructions] Please note that today's conference is being recorded. I would now like to turn the conference over to your speaker, Mr. Sveinn Solvason, President and CEO. Please go ahead.
Thank you very much, and good morning, and thank you all for joining our call. With me here today is our CFO. Today, we'll cover the financial results for the first quarter followed by a Q&A session.
Quarter 1 was an eventful quarter where we continue to take steps to execute on our Growth'27 strategy. This is the first quarter we reported Embla Medical, the establishment of Embla Medical parent entity is strategically an important milestone, a natural next step as we develop the business from being a niche product supplier to a company that is working across the whole value chain serving individuals with chronic mobility challenges as well as providing bracing solutions. And our stock market ticker is now EMBLA.
In January, we acquired d FIOR & GENTZ, a leading maker of lower limb neuro orthotic components. This acquisition is a big step on our journey and marks our entry into a neuro orthotics field, further enhancing our ability to support individuals with a chronic mobility challenge and fully aligned with our Growth'27 business. And we're excited to leverage our global infrastructure to bring more FIOR & GENTZ products to individuals in need of these types of solutions.
Also in January, Medicare, the main public payer in the U.S., published a draft proposal that would broaden the access to high-quality mobility devices, granting law after that which is access to Bionic solutions. This is a significant development and supports our strategic objective of bringing high-quality prosthetic devices to more entities, thereby creating value for both patients and health care systems. The effective date or when these proposed changes will be effect is yet to be announced.
If you go to the next slide, please, yes, I'm very happy to report strong sales performance in the first quarter of the year with 10% sales growth, of which 7% is organic. The growth is largely attributed to strong volume growth in prosthetics and neuro orthotics and patient care, driven input -- yes, particularly by very good performance in our EMEA region. Gross profit margin was flat compared to last year, and we have executed our cost reduction initiatives in manufacturing to lower unit costs. EBITDA margin is increasing, driven by scalability in our cost structure. I would also like to note that the first quarter is seasonally weakest in terms of sales, and therefore, operating margins, yet stronger in the second half of the year.
Free cash flow was, as expected low, here in quarter 1, further impacted by high CapEx. The leverage ratio was above our target range. However, this was expected, and priced back to the acquisition of FIOR & GENTZ here in January.
If you go to the next slide, please. Total sales amounted to $200 million. And here, we have an overview of growth across our geographical and business segments for the quarter, and I'll go through this in more details on the following slides. Starting with [Technical Difficulty]. This segment has been renamed to Prosthetics and Neuro Orthotics to include sales from FIOR & GENTZ. Organic growth amounted to 10%, driven by strong volume growth, also compared to a strong quarter 1 from last year. Growth in EMEA was very good in the quarter driven by solid contribution from Bionics sales in Americas were also good while sales in APAC were soft as they were impacted by a decline in Australia, which is a result of, yes, delay in reimbursement approvals. We expect this situation to be temporary. And sales growth in other APAC countries continues to be solid. Bionic sales accounted for 21% of prosthetic product component sales in the quarter.
Moving on to Bracing & Support, which grew 1% here in quarter 1. Growth in APAC was strong and we had good growth in EMEA, while sales in Americas declined. In Americas, growth was, yes, in line with our expectation, in line with market in January and February, but sales were partly impacted in March as an indirect result of the Change Healthcare cyberattack in late February, which impacted our customers' ability to process claims in the U.S. market.
If you go to the next slide. Patient Care organic growth amounted to 6% attributing or related to strong patient volume growth, while increases in reimbursement rates are generally limited. With a strong start of the year in EMEA, while sales in Americas were soft, and again, in APAC declined due to the previously mentioned delay in reimbursement approvals.
If I could now hand it over to you, Arna, to go through the financials in more details, please.
Yes. Thanks, Sveinn. In the quarter, we had $6 million positive sales contribution from acquisitions and currency impact on sales was not just -- resulting in positive sales growth of 10%. The gross profit margin was 62% before special items, same as in the comparable quarter last year. Our unit cost in manufacturing has been increasing at faster rate than sales had an increases in recent years, driven by inpatient. We executed on cost savings initiatives in late quarter 1 to lower unit costs and increased productivity. We therefore expand special items to $3 million in the COGS line with expectations to save $5 million to $6 million on a full year basis or $4 million to $5 million in 2024. We did mention this plan as part of our 2023 results and therefore, the estimate is already effected in the margin guidance for the year.
EBITDA before special items amounted to $33 million or 17% of sales compared to 16% of sales in the same quarter last year. The EBITDA margin is increasing to strong sales and scalability in our SG&A despite the negative currency impact of 70 basis points. The effective tax rate was 24% and net profit amounted to $8 million, although impacted by special items.
Could we go to the next slide, please. Free cash flow was negative as it is seasonally low in quarter 1, but also impacted by higher CapEx. We expect higher cash flow throughout the year with increase in operating profit and lower CapEx. Inventory levels remain high, , inventory reduction remains a priority and is expected to gradually normalize. CapEx was high in the quarter and above normalized level due to facility upgrades. We do expect CapEx to be lower in the second quarter.
The net interest bearing debt to EBITDA was 3.3x at the end of the quarter, above the range of 2x to 3x EBITDA. The ratio is above our target range, as expected due to acquisition of FIOR & GENTZ. With all else equal, we expect to be back within range in 2024.
That concludes our overview of the quarter. And over to you again, Sveinn.
Thank you, Arna. no changes have been made to the financial guidance where we expect organic sales growth to be in the range of 5% to 8% and EBITDA margin before special items to be 19% to 20%. For modeling purposes, we updated the special items line to $4 million in relation to the cost reduction initiatives in manufacturing. The line for CapEx and tax remain unchanged.
Now that concludes our review for the quarter. And operator, if you could go to the Q&A session.
[Operator Instructions] We are now going to proceed with our first question. And the questions come from the line of Martin Brenoe from Nordea.
I'll just start off with two, and then I'll jump back in the queue. I'll take one by one, please. So my questions are related to the top line. Just maybe trying to dissect the number a little bit more than in the statements given. So when I look at the geographical segment, I see that you have quite nice growth in the EMEA region but it's actually flat organic growth in Americas and APAC. Can you maybe elaborate a little bit what's behind these quite big differences across the geographical areas that you have?
Martin, yes. If we start with the Americas, as we mentioned in our report, the Bracing business declined in quarter 1 in the U.S. And across our other business segments in the U.S., growth was in line -- largely in line with expectations, perhaps a little bit slower than what we had anticipated in the beginning of the year. But looking at the rest of the year in the Americas, we don't have any reason to believe that we won't get back on track. It's hard to estimate the exact impact of this cyberattack on Change Healthcare, which provides revenue cycle management and exchange of payment information in the U.S., but that has definitely had some impact, especially here in March in our Bracing business.
If we look at APAC, we generally have -- continue to have good growth across our private pay markets in the Asia region. Let's say, the reason we are flat in APAC is principally due to a change in reimbursement approval processes in Australia. This has caused a big -- or created a big backlog of approvals in that system. And we expect that to normalize in the remainder of the year, the system in a way, it remains the same. It's consistent, pay the same price for the same product. So it's more of a delay than anything else. And then EMEA was simply a very strong performance across all our major markets and whole business segments.
Okay. The second question and then I'll jump back in the queue. I guess that you haven't really flagged it in the report and not either in the statements. But you were, I guess, to some extent, negatively impacted by phasing. And I guess Easter must have been also a negative, the timing of that, on a year-over-year basis. So can you just help me a little bit, how much were you negatively impacted by Easter by best your assessment and some phasing? And also how big is this potential backlog? How big are the numbers, just roughly speaking?
On a quarter-over-quarter basis, we have around 1 fewer selling days. We had almost 3 fewer selling days in March, but more sales days in the prior months. But obviously, the whole Easter week is shifting between quarters. So that has most definitely had some impact on our Patient Care business, particularly in Europe. So it's hard to put an exact number on it. But let's say, it has had a small moderate negative effect here in quarter 1.
Okay. And the backlog that you were talking about, just how large numbers are we speaking here? Just, yes, whatever you can say to elaborate a little bit on that would be helpful.
You're referring to the backlog in Australia?
Yes. Yes, exactly.
It's -- how should I put it? I mean in the absence of this delay, we would have seen just as we -- as our typical run rate has been in the APAC region, close to double-digit sales growth.
We are now going to proceed with our next question. And the questions comes from the line of Christian Ryom from Danske Bank.
They are also related to the top line and maybe somewhat along the lines of the questions that Martin has just asked, but I still wanted to pursue them a bit more. So now you remarked on the potential phasing impact from these delays in Australia. And when we think about these sort of disruptions that you've seen at Change Healthcare, two questions in there. First, is that only related to the Bracing business? Or has it also impacted your Prosthetics business? And the second part of that question is should -- the basic assumption there be, so looking at the last few quarters, you basically delivered between 5% and 11% organic growth year-on-year in the Americas region. Any reason to expect that this quarter should have looked materially different from that absent, this cyberattack effect at Change Healthcare? That's my first couple of questions. .
Yes. So let me -- on the Change Healthcare issue, we estimate that largely to be impacting our Bracing business. Our O&P customers have -- are not exposed to that particular set up as far as we know, at least. So we don't estimate that to impact our prosthetics business. And what we do see, we see very -- yes, we see some clear patterns at least in the customer segment in Bracing that has been exposed to this, to Change Healthcare cyberattack, that's rather sharp decline in March at least.
Yes, I mean, looking at the U.S. in general, apart from this nothing has really changed as far as in terms of the underlying dynamics. And our priorities remain largely impacted. And then again, going back to -- obviously, we have not factored in any impact from these potential reimbursement changes that will open up for more access for lower active entities that remains to be seen when and how those changes will be rolled out. But overall, we haven't changed our view on the Americas market as such, even though we had a rather slow beginning of the year.
And if I may, just one more question on this Change Healthcare issue just to understand the market structure. So should we think of this basically as part of the market that has been served due to this cyberattack disruption, meaning that all things equal, there is an unserved demand that should come back in April and May. Or is there a likelihood that this demand has basically been channeled through other distributors or other vendors and that it will end up being, say, lost for you?
That's a great question that I think remains to be seen because, let's say, it's not -- the way I understand it at least is that it varies what when per -- a lot of our end customers use for this revenue cycle management and exchange of health care and insurance-related information. So yes, some of the business may have been lost and some will be retained. For what it's worth, we've seen a decent start to quarter 2.
Okay. Great. And then my final question, a fairly quick one, the gross margin trajectory. So when we look at the adjusted number for the quarter, they're sort of slightly below 62%. And how should we think about that? Should we think about that this -- basically, what are you thinking in terms of gross margin trajectory for the year? Should we expect a meaningful upside from current levels as we look to the coming quarters? Or how are you thinking about it?
If we look back at what has been impacting our gross profit margin has been principally 2 -- or yes, 3 things. It's been on the -- if we start on the positive side, generally more higher-margin business has been growing faster with Prosthetics and Neuro Orthotics division growing -- outpacing growth of Patient Care and Bracing Support. What is -- what the headwind has been on, firstly, the supply chain disruption going back to 2021 in particular, where we've had to onboard new vendors as well as having some disruption in terms of ability to source the right components.
And then there's also been this general inflation across all input categories. So we've seen unit cost growing faster than our ability to pass on pricing, so putting some pressure on our gross profit margin. Now going into 2024, we see some of these things easing, inflation coming down, some price increases in the end markets from public payers. And what we are doing now here in quarter 1 is we are adjusting our capacity.
We've had some overcapacity, as we've consistently communicated, due to these supply chain complication. So we are making that adjustment and expensing cost in relation there to -- so again, gross profit margin expectations for the remainder of the year will depend on sort of product mix, but we should start to see some progress on the unit side. And I don't want to give us -- we don't guide on gross profit margin in particular, but our guidance assumes progress over '23 or positive progress in 2023.
We are now going to proceed with our next question. And the questions comes from the line of Niels Granholm-Leth from Carnegie.
Could you elaborate on the manufacturing changes that you're implementing, which will then generate most of your one-off costs for this year? And then just on the same topic. So you expected to generate cost savings of USD 5 million to USD 6 million from these changes, which are apparently included in the guidance for this year and has been included in the guidance from the beginning of the year. So why didn't you flag the one-off costs associated with the same changes in the beginning of the year?
And then on another topic, net working capital, would you say that the changes to the net working capital in this quarter is according to plan? Or is the reduction that you're expecting in net working capital progressing according to plan?
Yes, Niels. Thanks for your question. On the gross profit margin side and the changes that we've done in manufacturing, this is in relation to lowering headcount in manufacturing and impacting our major locations. And as I did mention briefly in my answer to a prior question from Christian is that we have had some overcapacity on the manufacturing side, partly in relation to some sporadic delivery of key raw materials and other supply chain complications such that we've had to sort of operate with some order for overcapacities adjustment we've made here in quarter 1. The reason we're not explicit about it is when we communicated our 2023 numbers was simply due to the sensitive nature of these changes. So we were not able to be very detailed in our communication around that and how we are detailing these actions. .
On the net working capital side, what is -- I mean, seasonally, quarter 1 is always a low quarter for us cash flow-wise. We usually end the year December with a moderately big month and sort of and close the quarter with one of our strongest sales month of the year. So on the receivables side, it's usually a quarter where we absorb some cash. The only sort of variance from our expectation is probably that the absorption around accounts payable and the reversal of our overinvestment in inventory has -- continues to be a priority. But we did expect a marginally more cash impact on the inventory side than we did see here in quarter 1.
We are now going to proceed with our next question. And the questions come from the line of Yiwei Zhou from SEB.
I have 3 questions left here. And just first question, just a follow-up to Niel's question here. You have mentioned that the one-off costs here in the manufacturing. And just to understand, this headcount reduction, I mean, how much is sort of a permanent change? And are those reduced headcount replaced by automation or increasing efficiency? Or you have to increase headcount again at some point in time when the demand increasing further? And I'll do one question at a time.
I can -- you can assume that this is a permanent reduction in cost. But then again, as the business grows, we'll have to grow our capacity, which is -- and as I referred to earlier, we have been -- we've had to operate with somewhat of an overcapacity in certain locations due to some of the complications we've had around our supply chain. So we are making that adjustment. But obviously, as the business grows we'll need to add headcount or find other ways to operate more effectively as -- which is always the theme in and around for manufacturing operations to find opportunities to lower our cost and increase productivity.
Okay. Clear. And my next question is the timing to harvest the cost savings. Should we already expect some savings from the Q2 on the second half or has to be next year?
We should expect $4 million to $5 million, let's say, in this year. But on a full year basis, we said $5 million to $6 million. So you'll see some of it phased into quarter 1 next year.
Okay. Okay, cool. And the last question is on Patient Care. You mentioned the strong volume growth in the key markets in EMEA. Could you elaborate a bit here, the volume growth is it driven by a strong market? Or you think you have -- GENTZ increased the share of the market with the clinics?
Our growth in our Patient Care business is driven principally by obviously getting the right -- getting patients in our patient care facilities and also dependent on what types of solutions we are making. So what we see here across our Patient Care platform in EMEA, and frankly, in a global context is that patient volumes continue to be healthy. And we continue to see a positive impact also in terms of the solution mix that we are providing, meaning, all else equal, to factor mobility to divisive proportionately more people all else equal that drives value growth. And yes, I think that's -- it's a little bit hard for us to be explicited about whether this has translated into market share gains as we're the only public company here on that report on a quarterly basis. But we are happy with the progress that we're making in our Patient Care business.
Okay. Very clear. If I'm allowed, I have one more question here regarding the U.S. and Medicare reimbursement expansion. Is there any update from your side?
No, no update, really. What -- I mean, since we spoke last time, there has been a process where Medicare has collected feedback from the industry. We have provided feedback as well as the other industry stakeholders. And now we wait until we hear more about how this proposal will ultimately be implemented, the details of -- in and around these changes and timing obviously. And yes, we don't have a firm confirmation of when that can be, but we expect it this year.
We are now going to take our next question. And the questions come from the line of Martin Brenoe from Nordea.
I have 2, and I'll just take them one by one. Just on the special items, I completely appreciate that you have some sensitivity towards your employees and when you do these kind of things. But I guess shareholders will be a bit curious whether you have any other secret operations going on or anything like that. So can you completely confirm or deny whether you have any special projects going on that might creep up the special items during this fiscal year? That's the first question.
No. We don't have any expectations of further one-off costs this year. And it is just so that said, it's always tricky with these one-off costs. We had communicated one-off costs in relation to, obviously, acquisition of FIOR & GENTZ, which is on -- somewhat of which is a reasonably large project for us. And the costs -- deal costs are reasonably high also with regard to these changes that we've done in manufacturing. It's always a choice for us to simply take the cost as they come along, but we would always be explaining it. And it's our view that this provides more transparency to do it this way. But again, this is -- it's complicated when you are doing changes that impact people's jobs and organizations on how we can be transparent about our plans. But we don't have any reason or we don't expect any further one-off cost this year.
Okay. That's very clear. I'm glad you brought it up. On FIOR & GENTZ, I guess that you didn't expect to get away with just saying that it was a strong financial performance on the analyst call here. I mean, what should we think in terms of -- it previously have had teens growth in the teens area. Is that also what it delivered here? And in terms on the EBITDA margin, I guess, with no synergies, it's around 30% EBITDA margin. Maybe there's some seasonality in there. But can you confirm that we are in the sort of historical level of the performance with both the growth profile and the margin profile of FIOR & GENTZ?
Yes, absolutely, a strong quarter 1 with just continuing on the same growth trajectory, double-digit growth and margins are in line with the average margins that we communicated for that business on a full year basis.
Okay. And sorry, just one follow-up on that. In terms of the margin profile, how much can you actually do on the cost synergies here in 2024? And is some of the one-offs that you've had, is that actually partly related to the acquisition here?
No, not related to the acquisition. And cost synergies in and around that acquisition will not be meaningful -- or have a meaningful impact on our P&L. It's principally our growth case, and we, if anything, continue to be very optimistic on the potential of these products. And remember, we are acquiring a company that has built up a strong presence in one of the biggest health care markets in the world, in Germany. And we have relationships with O&P clinics that serve patients, that have the same -- had mobility challenges that can be helped with this FIOR & GENTZ solutions. So our focus with regard to FIOR & GENTZ is more on how to -- on the commercial side, how to make the right investments to bring these products to more individuals.
We have no further questions from the phone line. I'll hand back to you. Thank you.
Appreciate the questions and all of you who are listening into our call this morning. Please reach out to our Investor Relations team if you would like to have a meeting or if any follow-up questions come up after this call. And yes, wishing you all a good day, and we'll speak after quarter 2. Thank you very much.
Thank you. This concludes today's conference call. Thank you all for participating. You may now disconnect your lines. Thank you.