ConvaTec Group PLC
LSE:CTEC
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ConvaTec Group PLC
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Welcome to today's ConvaTec Q3 Trading Update for the 3 months ended 30th of September 2021. My name is Jordan, and I'll be coordinating your call today. [Operator Instructions]I'm now going to hand over to Frank Schulkes, CFO, to begin. Frank, please go ahead.
Yes. Thank you very much. Good morning, everyone. Thanks for joining this Q3 trading update call. I hope you have all had an opportunity to read the release. But before I open it up to questions, I thought I would just make some opening remarks about the performance during the period and the outlook.Our Q3 trading was in line with expectations, and we continue to drive good momentum in the business. As well as achieving a positive operating performance during Q3, we made further strategic progress, including the disposal of HSG's incontinence activities, which were considered noncore.During the period, we also signed an agreement to acquire Patient Care Medical, a quality service provider in the U.S. that focuses on marketing to existing catheter users. This transaction, which is due to complete in December, is highly complementary to ConvaTec as it enables us to leverage the 180 Medical infrastructure while accelerating HSG's direct-to-consumer digital marketing efforts. The revenues from Patient Care Medical are expected to broadly offset the disposed noncore incontinence revenues.During the period, we also introduced a new and consistent product development and launch process to advance our new product pipeline. This end-to-end process governs our actions and milestones from ideation through development to scale up and finally approval launch. It includes a suite of online tools to help with the entire workflow process along with metrics and milestones.In keeping with this new process, we conducted investment development and scale-up gate reviews for new products such as MioAdvance Extended Wear Infusion Sets and the GentleCathT's Air Male catheters, both of which we're planning to launch in 2022.As you may know, we have moved regulatory to report to the Head of Technology and Innovation. And during the period, we have continued to improve our processes within the regulatory function. To improve the effectiveness and robustness of the MDR implementation and to use our resources most efficiently, we have proactively chosen to leverage certain existing MBDC marks until they expire in 2013. And as a consequence, there will be approximately $8 million of MDR costs in 2022.We are continuing to make progress with key initiatives such as new and future digital marketing interventions to further increase and improve our interactions with health care professionals and customers. We're also progressing plans to expand our global business service center beyond finance to include HR and IT in 2022.Another achievement during Q3 was ConvaTec's inaugural issuance of $500 million of unsecured notes at 3.875% on an 8-year term, which strengthens our balance sheet, diversifies our sources and extends our debt maturity profile by approximately 2 years to 4.3 years. The impact will be an extra $5 million of interest in '21 given the higher interest rates and the write-off of the unamortized bank fee, plus roughly $9 million to $10 million of incremental finance expense in 2022.Moving back to the financials for the quarter. Revenues rose 2.7% on a constant currency basis. And if we remove the incremental revenues from Cure during the period and adjust for the disposal of the U.S. skincare business, which last year contributed about $7 million in Q3 2020 and then revenue rose 2.2% on an organic basis. This relative slowdown in growth from the second quarter was anticipated given the profile of the COVID impact in Advanced Wound Care last year and a particularly tough prior year comparatives in Q3 2024 Infusion Care and Critical Care.So let me take it slightly. Starting with Advanced Wound Care. We saw strong growth in wound with revenues up 5.3% after adjusting for the disposal of skincare products. This was a slower rate than the second quarter given the relatively tougher comparatives in the second half last year. We showed another quarter of strong growth in Latin America and Asia Pacific, with the exception of Japan, which was impacted by lockdown. In Europe, we saw good growth in most countries, offset primarily by declines in France following the reimbursement cut as already disclosed. And in the U.S., we continue to experience good growth.If we try to adjust for one-offs, notably phasing in COVID, we estimate that growth on an underlying basis was around 4%. Our Q4 growth expectations are more moderate than the third quarter, reflecting the continuing uncertainties relating to COVID and some potential phasing of fulfillment of orders.Moving on to Ostomy Care. We delivered 1.6% organic growth in the third quarter. The business experienced continued strong growth in our global emerging markets, except Japan, Australia and New Zealand, which declined given lockdowns in place during the quarter. This growth was largely offset by rationalization and pressure in some established markets. On an underlying basis, growth remained in the low single digits. Given the expected tapering of government funding in certain emerging markets, coupled with the second phase of rationalization, Q4 results are likely to show some softness against last year's relatively robust fourth quarter.In Continence & Critical Care, revenues increased by 9.2% on a constant currency basis. And if we remove Cure Medical and adjust for the noncore incontinence disposal, the revenues rose 1.3% on an organic basis. This was primarily driven by robust performance in Continence, up nearly 3%, offset by an expected decline in Critical Care as we lapped a period of very strong performance last year. Nonetheless, Critical Care sales were slightly better than anticipated.Now looking forward, we continue to expect moderate growth in Continence Care. And in Critical Care, we anticipate a year-on-year decline versus the fourth quarter last year.Infusion Care declined 1.4% on an organic basis, reflecting the tough year-on-year comparatives. This performance was slightly better than anticipated, reflecting the phasing of orders. And we expect a strong pickup in growth in Q4 given order patterns and a relatively easy Q4 comparators. With respect to our 2021 guidance, we now expect to deliver organic growth towards the upper end of our revenue guidance of between 3.5% and 5%. Our constant currency margin guidance of 18% to 19% remains unchanged, although the FX headwind has reduced slightly to 16 basis points from 60 basis points -- sorry, 90 basis points. So the published EBIT margin is expected to be between 17.4% and 18.4%.With that, I'd like to open this call up to questions. [Operator Instructions] With that, I would like to hand it over back to the operator. Thank you very much.
[Operator Instructions] Our first question comes from Patrick Wood of Bank of America.
I'm just curious if you could give us any more color just around the edges on cost inflation and the supply chain, just what you guys are seeing at the moment because we get a lot of conflicting feedback, as you can imagine, from a lot of the other companies we cover. So I'm just curious any comments you'd add there would be really helpful.
Sure. So in terms of supply chain, we communicated after our first half results that we expected the input prices to go up in terms of material -- in materials as well as in freight. And that would be an impact on our EBIT in the second half of about 100 to 150 basis points and that is very much the case. So we clearly see those higher input prices in materials, specifically resins, PVCs, all the derivatives, including the increases in container cost, specifically sea containers are up, as you know, pretty significantly. So within that 100 and 150 basis points for the second half, that's very much what we experienced.Second, in terms of supply chain challenges. Yes, we see delays in some of the shipping lanes and overall supplies. But it is manageable. Our supply chain teams are doing an absolutely terrific job dealing with those challenges. And I think that the business is performing well. We're managing through the issues here. And we're working with the freight forwarders with our vendors on prioritization and, in some cases, rebalancing to basically make the impact as minimal as possible. We expect in Q4 some headwinds related to that. But again, as I said, it is very manageable. I hope that helps.
Our next question comes from Hassan Al-Wakeel of Barclays.
So very quickly, firstly, on the top line, and congrats on a very strong 9-month performance of 5.4%. As comps ease into Q4, particularly in Infusion Care, why do you think the business should slow as implied by your guidance? And where could this be more conservative to your mind? And if I can just quickly follow up on margins. Given you now expect the top end of revenue growth guidance, could you see margins in the upper end of the range? And any color here would be helpful.
Okay. Yes. So for -- to understand Q4, I think it makes sense to just click through some of the different product categories business units here. So if we think about Q4 in wounds, first, we see a little tougher comp last year. We saw a pickup from Q3 to Q4. As we said, Q3 benefited from some order phasing coming from Q4. So that is a small headwind for the business in the fourth quarter.And then as I just mentioned, with the supply challenges, it's manageable, but we expect a little bit more headwind in Q4 in wound and basically all the different product lines. Of course, we will continue to have the impact of the French price cut, but that was very similar. So therefore, we believe that Q4 in wound will be softer than it was in the third quarter.Ostomy Care, looking at Ostomy Care, low single digits, underlying growth in the third quarter. If you look at last year, from Q3 to Q4, there was a pretty significant step-up in fact, of about $10 million. So that comparative will be tougher. And we're starting the rationalization wave 2 in the fourth quarter, which will have an impact versus Q3. So it will basically drive the overall revenue growth down.Last point I want to make here is that we've seen terrific growth in the emerging markets, of course, because of great commercial execution and a lot of great other interventions. However, also a little help that's in the market by government programs during COVID, and we believe that those government programs are starting to taper off, and specifically the Ostomy Care business and to a lesser extent the wound business benefited from that. So therefore, the Ostomy Care growth will be weaker than, in fact, we've seen in the third quarter.And CritiCare finally as a variable is -- was low single-digit negative in Q3, and we expect with continuation of vaccination programs that, that in fact, that the client will be much more pronounced in the fourth quarter. So if you all add that up, you basically get to a fourth quarter growth that is going to be for several business units so much softer.In terms of on, sorry...
And on Infusion Care within that, given the improvement in...
Yes. Infusion Care, we expect, and Infusion Care typically -- the best way to look at Infusion Care in terms of growth is really looking at a safer 12 months rolling average. And if you do that, you in fact see that the business is growing at sort of the higher single-digit range. So we expect a good growth of Infusion Care, a good performance in the fourth quarter. Sorry I missed out. Yes.In terms of margin, listen, on 1 side, indeed, we are -- this model from a top line point of view, moving towards the upper end of the range. At the same time, there are a lot of variables in the equation here, including, of course, inflation that we talked about. So I don't want to point at this moment to a specific area within that 18% to 19% EBIT margin in constant currency, and we feel comfortable with that 18% to 19%.
Our next question comes from Paul Cuddon of Numis Securities.
Thank you for the color on the Q4 outlook by division. We've talked about the challenges on supply and freight. And I'm just wondering to what extent your customers are sort of changing their stocking intentions with the kind of general uncertainties continuing through Q4?
Yes. We have not really seen a lot of stocking activity. I think the challenges are global and in all sectors. And as I said, we are managing through that, trying to prioritize as much as possible, rebalancing with one goal and that is to make sure that all of our patients and customers are getting the products they need. But we have not seen any specific additional stocking activities. There is always going to be some stocking and destocking in this business, as you know, but nothing more than I've seen before.
Our next question comes from Graham Doyle of UBS.
Just one on pricing. So obviously, you've got headwinds from inflation and supply chain cost pressures, but could you give us a flavor in terms of your flexibility on pricing over the next sort of 6 to 12 months? And also, do you expect the environment more generally to sort of go from a price pressure environment as you've seen in the past few years to maybe sort of inflationary environment where you have the ability to pass some of that cost increase on to your customers?
Yes. So if we think about pricing and inflationary pressures here, I would say most of our markets are really reimbursement markets. So for instance, the opportunity to pass on inflation in terms of price is pretty limited given that we see this inflation hike in '21. Nobody is going to change the reimbursements because of that. So it is relatively limited. Now we have certain contracts with distributors, and these contracts are indexed.So where possible, we are executing the indexations. However, we got to be smart of course about this because in the end, the end price is not changing, and that means that distributors, if we would raise prices, distributors margin wouldn't get squeezed. So we're smart about this because we don't want to end up in a position where the distributors are going to favor another OEM, and we are ending -- losing market share. But wherever possible, we do that.More importantly, I would say that typically, in our industry, we see a 1% to 2% price erosion on medtech, I have to say. ConvaTec has been experiencing historically about a 1% price erosion. And as part of the transformation, we invested in a pricing COE. With that pricing COE, we have improved overall pricing strategies. We have created much more visibility around pricing.We have done better training, and there is more discipline around pricing. And therefore, in the last 18 months, in fact, we've been able to get that price erosion below 1%, closer to 0.5% more structurally. So that is a great achievement by the pricing COE.So if I think then about the longer term, it's very hard to forecast what governments are going to do. I don't think it's going to have an impact on reimbursement. In terms of tenders, there might be some impact in the future.
Our next question comes from Lisa Clive of Bernstein.
Just a structural question about your distributor business in the U.S., 180 Medical, which was in a real success in the Continence market. I recall a while back I thought there were plans to move it into Ostomy or maybe you already have. I was just wondering whether that's a growth opportunity for the business in the U.S. and sort of how you -- if you have impacts in that direction where you are in the process?
Okay. So yes, the HSG business historically has been, of course, very successful and will be very successful going forward in the Continence area. It's a great model with high Net Promoter Scores and executing very well, outpacing the market over a long period of time. We have, in fact, as part of the Ostomy Care strategy, moved into collaboration with HSG to drive growth are very much in line with what we've done with Continence.Great patients care, a very much focused team on one side, patient on the other side, insurance, and that model, which we basically see as a team selling between the Ostomy Care business and the HSG business, started last year with a pilot and that pilot has been very successful. So we are now expanding and that business is, in fact, doing very well off of, of course, a small base.
Our next question comes from Veronika Dubajova of Goldman Sachs.
Just one for me, please. Thinking about next year, just would love to get your thoughts. I mean you previously made the commitment that 2021 would be the trough year for profitability. Just kind of curious whether you're still comfortable with that?And maybe if you can help us think through some of the pushes and pulls that you see for margins as we think about 2022. And I'm thinking both some of the nonrecurring costs starting to roll off, so maybe not all of them. If you can give us some insights into that, continuation of pressures from raw material and cost inflation.And then, of course, any investments as it relates to new product launches as well. If you can just help us think through some of the moving parts. I'm not asking you for '22 guidance just yet, but maybe just help us think through the moving parts.
Okay. So in terms of do we think '21 is a trough? I would say, yes. It's the one we think it is. And as you know, we are investing to pivot to sustainable profitable growth to grow in line or better than the market, so 4-plus percent and a gradual improvement in EBIT margin over time. And as we communicated before, also, we don't see any structural reason not to be able to be in the mid-20s in the medium to long term. Without getting into guidance, let me give you a couple of factors here.So we are expecting nonrecurring transformation investments to come down materially in 2021. But at the same time, we still see nonrecurring spend going forward. As for instance, we are expanding, as I mentioned, the scope for GBS beyond finance. We have created a great platform here. And we're expanding that into IT and HR in 2022, leveraging that platform. This is a multiyear program and is a very important G&A project for us to improve efficiency and effectiveness.Furthermore, of course, we are continuing to invest in IT and digital infrastructure, which will bring with it some nonrecurring spend. I already mentioned the MDR for next year. And then beside the reduction in nonrecurring, we will also see an annualization of the recurring investments, OpEx investments and the increases we've seen in '20 and '21. And then of course, we will invest to support the new launches that are coming down the pipeline in the next 30 months, and I will talk a little bit about that in a second.So if you look at all of that, again, growing in line or better than the market. We're pivoting towards that and a gradual improvement in even margin. Now look, if you think about inflation, clearly, we have seen the impact, and we feel the impact in the second half of '21. It's probably fair to assume that some of that inflation will flow into '22. It's very tough to forecast. At this moment, it's very fluid. But again, some of that will probably flow over in '22. Obviously, in March when we do our full year results, we'll have a better insight in sort of the macro outlook related to that.And then I think the last point here was regarding the new product launches in 2022 or over the next 30 months. So what we expect in '22 is the launch of the extended wear infusion set, which is a great differentiated infusion set. Great for patients because, in fact, it increases the wear time from approximately 3 days to up to 7 days. So that is a launch in 2022.On top of that, we expect in '22 to launch the GC Air Male, so that is the compact catheter male in Continence business. And then thirdly, we are expecting ConvaFoam. So the first products on this new ConvaFoam platform better absorption adhesion and those type of things in 2022. And as I said in the sort of the 30 months, you can add to that later. So I think more '23 time frame Avelle 2.0. And for instance, the female version of the compact catheter are some of the key launches. And then finally, we are working on refreshing the Ostomy portfolio. And our expectation is that, that will come somewhere in 2023. But first we are targeting [indiscernible] which is basically a complex product line.Finally, I forgot to mention here also in '22, we are expecting to launch eSports, which is sort of a -- an infusion set for a hybrid patch durable pump with Tandem. So we have a good pipeline here coming out in the next couple of years, and we're, of course, investing behind that as well. I hope that answers your sort of multiphase question, Veronika.
No, that's great, Frank. Can I just quickly follow up on something here. So you've kind of said in the midterm you still feel comfortable with the sort of mid-20s margin. I mean do you think that improvement is more gradual? Sorry, is kind of even paced if we -- if I think about 2021 to, let's say, '25 to '27? Or is it more front-end loaded or back-end loaded as you think about you guys moving towards what you see is that sustainable midterm margin?
Yes. So first of all, we indeed don't see any structural reason to be able to be in the mid-20s in the medium to long term, okay? So that's how we think about it, medium to long term. And we believe it's a gradual EBIT margin improvement. It's gradual, for all the reasons I just mentioned, right? Nonrecurring coming down, still some nonrecurring, MDR and then annualization and investing behind. Of course, the great products and the pipeline we're developing in here. So that's basically how we have to think about it.
Our next question comes from Craig Mcdowell of JPMorgan.
It's another one on pricing, please, but specifically on your Infusion Care business. Just considering other B2B businesses that we cover, typically, there's more of a contractual mechanism, which would to allow pass-through raw materialization. Can you comment whether that's the case in your IC business? And if so, what kind of offset inflation should we expect and over what time period? And similarly, could this pass-through pricing mechanism actually be a tailwind to growth in the IC division in the near term?
Okay. Yes. I prefer not to reveal contract terms in our contracts within the Infusion Care business. We have long-term contracts with our customers and they're typically indeed 5 years. There is some indexation there. It's also triggered at certain points, but I prefer not to reveal too much about the content of those contracts.The business is performing very well. The market is doing very well. We have great differentiated technology that we have developed sometimes in collaboration with our customer base. And we expect the business to continue to do very well over a long period of time, that we expect also that this market, given the smart glycemic control has indeed the potential to sustainably grow in the higher single digits.
[Operator Instructions] We have no further questions on the phone line, so I'll hand back.
Okay. Okay. So thank you very much for participating. Of course, for further follow-ups, Kate will be available going forward. And we will probably talk to several of you over the next couple of weeks. And if not, then we'll see each other in the new year when we will announce our full year results. Thank you very much and for later, have a great weekend. Bye-bye.
This concludes today's call. Thank you for joining. You may now disconnect your lines.