ICU Medical Inc

NASDAQ:ICUI

Earnings Call Transcript 2018-Q1

[Operator]

Good day, ladies and gentlemen, and welcome to the First Quarter 2018 ICU Medical, Inc. Earnings Conference Call. At this time, all participants are in a listen-only mode. Later, we will conduct a question-and-answer session and instructions will follow at that time. [Operator Instructions] As a reminder, this call is being recorded.

I would now like to introduce your host for today’s conference John Mills with ICR. Mr. Mills, you may begin.

[John Mills, ICR]

Thank you. Good afternoon, everyone, thank you for joining us today to discuss ICU Medical’s financial results for the first quarter ended March 31, 2018. On the call today representing ICU Medical is Vivek Jain, Chief Executive Officer and Chairman; and Scott Lamb, Chief Financial Officer.

We have a presentation accompanying today’s prepared remarks, and to view the presentation, please go to our investor page at icumed.com, click on the Events Calendar, and it will be middle of your screen.

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 risks 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 risks and uncertainties that have a direct bearing on operating results and the financial position.

Please note that during today’s call, we will also be discussing 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’s my pleasure to turn the call over to Vivek.

[Vivek Jain, Chief Executive Officer and Chairman]

Thanks, John. Good afternoon, everybody. The first quarter of 2018 marked us owning Hospira Infusion Systems for a full year, and we are balancing our time between active customer dialogues to improve our commercial execution and being deeply in the midst of an integration to create a single unified company. We continue to execute well through a large volume activity, and operationally, we make progress every day on integrating Hospira Infusion Systems.

Our last call was only short eight weeks ago and not that much is really new with the businesses. But on this call we did want to comment on the sequential changes in Q1 2018 from Q4 of 2017 and our current thinking around business performance trends, provide the status on our checklist of items we outlined in our January investor presentation in terms of what to expect in 2018 along with the integration work, explain our financial expectations for the near-term in 2018 and when we will affirm or revise our view of the year; and lastly, provide some thoughts on the longer term value creation at a high level from both an income statement and balance sheet perspective as the margin drivers become more evident.

The short story in Q1 was very straightforward income statement results that were almost exactly in line with the previous quarter as highlighted on the last call and a balance sheet at the end of the quarter that needs a little explaining.

We finished the quarter with approximately $354 million in adjusted revenue, adjusted EBITDA came in at approximately $73 million, and adjusted EPS came in at $2.26, and we finished the quarter with net cash of $279 million on our balance sheet.

Pro forma revenue growth was 8% quarter-over-quarter, but please remember, we had easier comps as late 2016 and early 2017 was a tough period for Hospira. We also did have a small TSA reversal which made adjusted EBITDA and EPS look a little better than Q4.

I will address the balance sheet change momentarily after we talk about the businesses integration. Lastly, the other category has essentially gone away, meaning the management results I refer to should finally match all the reported values, excluding the IV Solutions contract manufacturing.

Turning to the individual segments, and please use Slide 3 in the posted deck for the base comparisons. Let’s start with what we expect to be our largest business over time, Infusion Consumables. We’ve been running this as a single segment for a number of quarters now and a year has lapsed, so we will stop referring to any legacy ICU or legacy Hospira sales, it’s all one segment and we own all of it.

Infusion Consumables had revenues of $120 million in Q1 2018, which imply 10% growth year-over-year. Oncology continued to be strong with over 20% growth in the category and at least for Q1 U.S. growth outperformed the international growth for the balance of the segment. This is a segment where we are the most advantaged now as a joint entity. We are hard at work on rationalizing the product portfolio and bringing together all the operational efficiencies of the combination.

Commercially, we have all the pieces, all the technology and all the scale to compete globally and should be able to offer more value to the customer.

On the last call, we stated we believe this segment could grow mid-single digits in 2018, which we sanity checked by annualizing our Q4 2017 exit run rate. Today with another two months under our belt, we believe this segment could grow high-single digits in 2018.

Second segment to discuss was our largest segment in Q1, Infusion Solutions. This segment reported approximately $126 million in revenues, equaling 11% year-over-year growth, which was slightly higher than we expected due to the unique temporary industry issues that have been widely reported in the press, and therefore, I don’t need to detail it on this call.

We have been trying to operate with transparency to customers by illustrating the generic drug-like regulatory framework, high capital expenditures and value in a healthy supply side situation to a business that was a historical price anomaly. From a value perspective, we have sacrificed short-term profits for longer-term supply contracts, which we believe offers us more NPV as it makes us a more competitive supplier over time.

Practically speaking, that means you should not assume that 2018 just annualizes at the Q1 2018 or the Q4 2017 run rate. We’ve been very focused on the longer-term, but we want to be clear, verbatim from the first presentation on the transaction we are going to make economically rational decisions and not sell products at a loss.

In the medium-term of 2018, we see the run rate of this business more in line somewhere between Q2 and Q3 2017 levels, i.e., before the market shortage occurred and appropriately corrected for us getting more contracted volume at a less trading oriented price. If we pick the midpoint of the range of Q2 and Q3 2017, and annualized that, it would imply a flattish business in 2018, but with more business under long-term contract.

There are two important value drivers in this segment to note. The first, we just talked about, more predictable revenue with better certainty and the ability to participate in market and contractual growth. But the second, which is equally important, is to optimize our production assets. At the outset of the acquisition of Hospira, we believe that we have lost a substantial amount of contracted business and a significant production volume, and significant production line in a fixed cost manufacturing environment.

The recent events combined with a logical integrated value proposition have enabled us to improve the amount of business we have under our long-term contract and will allow us to fill up the factory we acquired in Austin with more volume.

We’ve been heavily investing as reflected in our CapEx to increase our own domestic capacity, which can give us the option to increase output when combined with our five-year agreement with Pfizer Rocky Mount or to move away from Rocky Mount – Pfizer Rocky Mount if market conditions change. We believe that was one of the attractive aspects of the structure we laid out originally with Pfizer and allows us to keep maximum flexibility.

Lastly, we continue to be vigilant here on quality even as Hospira and Pfizer invested significant resources as it is mandatory to be in this business.

To finish the big three, let’s talk about Infusion Systems, which is the business of selling pumps, dedicated sets and software, which is important because it brings a lot of recurring revenues. This segment did $93 million in revenue and was flat year-over-year. The flattening of this quarter was not yet something we did competitively, rather just a few specific customers that were known losses ordering the disposable they needed in advance to convert away from us.

The International business is holding together reasonably well and our view is unchanged from the previous call with the segment continuing to have declines through the middle of 2018 with the lowest level installed base in the last 10 years.

To finish the discussion on the segments, since we acquired Hospira, we’ve been actively calling on customers and trying to illustrate the value we can add to the system and the value to the system in having us as a healthy participant. While it is a long journey, we do believe this message is resonating.

Feedback on the products continues to be solid. The products are necessary for the system and have been reliable for many years. When we started the transaction with our defensive mindset for doing it, we looked at the business we saw – and we saw roughly 50% of the total business Infusion Consumables and the international portion of Infusion Systems where we thought then we had a good offering and the right to win.

Today, almost halfway to 2018, we’ve seen a somewhat better picture where we believe we have a right to win most of the portfolio, with really the domestic portion of our Infusion Systems segment as a key challenged area and we’re working hard to address that business.

Okay, we’re already into May, so we want to give an update on our checklist of items we outlined in our January investor presentation, in terms of what to expect in 2018 which is attached on Slide 4. This will help us explain some of the balance sheet changes and the integration status.

On the top of the page, under the green light items, we have resolved much of the transactional accounting. All the intercompany profits are being captured and the only gross margin adjustments are related to the Pfizer contract manufacturing.

I did want to spend a few minutes on the second point, which was clean up of certain legacy Hospira contracts. When we bought Hospira, we knew there was a decent list, like more than five but less than 10 of contractual business deals that had to be restructured or redefined. We have no work our way through most of these. The two largest agreements were related to the infusion pump and consumables businesses, respectively.

We inherited a pump development relationship with a company named Q Core and that relationship provided for exclusive distribution of Q Core products by Hospira in exchange for 10 years of committed purchases from Q Core that would’ve exceeded $100 million as well as numerous R&D milestone payments and manufacturing rights exchanges.

In Q1, we were able to modify our relationship to eliminate all future obligations while continuing to have certain nonexclusive distribution rights for existing products in exchange for a $35 million payment to Q Core and very minor continuing payments over the next three years. This was not the easiest of situations as both parties were very passionate and committed to their interest and discussion was ongoing for quite a while. So we’re happy to have reached resolution and ICU and Q Core are committed to ensuring a positive customer experience.

The settlement reduces our cash estimate for the end of the year by $30 million to $35 million. At the time of the original $400 million estimate, we were not sure it would be resolved and it would’ve been premature to make a public estimate. The second contract was with a company called NP Medical for some disposable items. We’ve been able to find alternative value in these products and the other items they produce from this group. And we look forward to working with them. We think both situations resulted with the best possible outcomes. Continuing down this list, we still expect integration spend to peak, mid-year and then, a decrease, which is incorporated now into our $370 million or so cash estimate.

On the yellow light items, let me start with the second and third points. So a lot of the complexity of the separation is coming down. As we exit TSAs, we do have issues that arise. An example of this quarter is that both we and Pfizer were spending a disproportionate amount of time estimating cash collections to us and that subsequently truing up the calculations. We together decided to take a timeout from this process for a couple of weeks in Q1 and rather have Pfizer send us the actual cash collection and skip a bunch of the middle steps.

As a result, we deferred a couple of weeks of cash collection and we expect this to come back sometime in Q3. This change, plus the Q Core resolution and the normal Q1 sales commissions or bonus payouts led to a decrease on our cash balance sheet, which we don’t like. We did have some sequential growth in SG&A. Some of that was extralegal cost to get these contracts cleaned up. Some of that was non-cash item with the portions also the duplicate cost we referenced that will stay likely through Q3.

On the integration, a lot has happened since last call, and we are now in all-out execution mode. We have stabilized Canada to over 95% in our opinion, and have cut over almost all of Europe, Latin America, all distributor markets and will start Asia and Australia inside of 60 days from now. All of this leads up to the largest cutover, which is the main event, the cutover of our U.S. operations sometime in Q3.

On the integration, philosophically, as the founder of ICU used to say, we’re trying to measure twice and cut once. These IT systems migrations are complex, filled with legacy issues and require a great caution. I’ve personally been burned in prior experiences, when these projects become more transformational than migrational and so we’re being very deliberate.

We know a lot of companies that have more M&A experience than us don’t get into this much detail on integration and systems conversions because it spooks everyone. It’s not as exciting as revenue growth or synergies, but it is important that we explain what we are literally doing. This transaction was so unusual in that it was not like buying a business that came with IT systems or even people providing what we would call support functions. It was literally the acquisition of manufacturing plants, product lines and local commercial organizations that were run by disparate legacy systems. We’re actually uniting all of this onto a single integrated system.

And let’s be clear, our customers don’t care about any of this unless it affects them negatively. But we care about it because it first offers us deep value in the form of operational improvements that can be realized over time; and two, it sort of super-sizes us for the ability to handle more on these platforms when we are through this integration. But the consequence from doing this, and practically we have no choice because that was the deal, is that it can be bumpy during these cutovers. We think, right now, it’s best to be cautious and plan that we will not be of these systems until the fourth quarter of 2018.

Okay. To bring this all back to the topic of short-term results, how do we thinking about the medium term with 2018 and longer-term value creation. We expect Q2, which is almost halfway done from a profitability standpoint, to look a lot like the previous two quarters, maybe just a little less due to duplicative costs and excluding some of those TSA reversals. We expect consumables to increase sequentially and IV solutions to normalize back to guidance levels, and we expect those TSA exits to drive some savings in Q4 of 2018 as we previously have described. Given that, we recognize that our current annual guidance of $240 million to $260 million of EBITDA implies significant declines in the back half of 2018. We know – we will know a lot more by the time of our Q2 call and be right in the middle of our largest system cutovers.

We also want to make sure we do not skimp on infrastructure investments that allow us to handle more. So those investors have been with us a long time. We’ll see the exact same annual behavior from us when we address the back half on our Q2 call. This year, it is extremely important to be cautious as we work through the U.S. integration in the summer right around the time of our Q2 call. Now with all that said, into the longer term of 2019, we continue to have a view that we can improve our profitability regardless of the revenue environment. We believe that the last two quarters have given us a look as to what the opportunity can be.

Longer term, if we’ve made the assumption that the combined effect of the operational synergies and GSA savings, plus future margin improvements based on the integration, the new high-hanging fruit collectively, can offset the NPV choices we’ve made and the temporary revenue benefits we received in the last few quarters, then we’ll see the case for margin improvement without significant revenue growth assumptions. We have to execute well in 2018 to allow for these to be available and likely – and it will likely not be all a straight line in getting there.

As always, what really matters to us for value creation in the longer-term outside of servicing our customers is real free cash generation. While adjusted EBITDA is a useful metric, given all the noise of the transaction, it’s important to get these real cash expenses of integration behind us and focus on the real free cash generation for the longer-term value creation. Q1 of 2018 was the first quarter in a long time that we did not add cash to our balance sheet, excluding M&A. We’re getting back to that right now, and believe we played the situations correctly.

If we can have the strongest balance sheet possible at the end of 2018 with over $500 million of liquidity, which will be our cash on hand plus revolver, have an infrastructure as a company that can handle more and have continued margin improvement opportunities, our base business, with minimal revenue growth assumptions, we think we have a case for continued value creation.

Our goals are just like our previous experiences, to first enhance margins and then improve overall growth. In the best case, we’ll have better execution to improve our top line performance over time, drive operational improvements and improve cash conversion and returns.

In the worst case, we continue to fight headwinds in the top line, but we can still drive operational improvements and generate solid cash returns over time, relative to the capital we deployed due to the levers I just mentioned.

And just like ICU historically, there are a number of continuing intrinsic value drivers, including high-quality or hard-to-reproduce production assets, sticky product categories and the opportunity for more cash generation. But what is different than our previous experience at ICU is the sheer size and scale of the work we have to do. It is very rare when the minnow swallows the whale. This is a complex corporate carve-out and has the aspects of a turnaround in certain of the business line, at the same time while being kind of a public LBO, just without any debt. We’ve been lucky on a few items, but it is about as challenging as any corporate project many of us have faced.

We feel that we’ve been very transparent with investors on our plans over the last few years and cautious with our own expectation, and we want and need that mentality to continue, particularly through these system conversions, not to talk down or talk up the circumstance, just to be realistic on what we have ahead of us.

As always, I’d like to close with things are moving fast. We’re trying to improve the company with urgency and we’re trying to take responsible actions and break some of the inertia that many companies in our position face. We may hit some bumps as we take these actions, but we will overcome them and emerge stronger. I really appreciate the effort of all combined company employees to adapt, move forward and focus on improving results. And our company appreciates the support we’ve received both from our customers and our shareholders.

And with that, I’ll turn it over to Scott.

[Scott Lamb, Chief Financial Officer]

Thanks, Vivek, and good afternoon, everyone. I’ll first walk down the income statement, highlight key items impacting operating performance and finish with tax and the balance sheet. And as a reminder, we closed our transaction of Hospira on February 3 last year. So when comparing the first quarter of this year to last year, quarter one last year only included two months of results of legacy Hospira.

So to begin, our first quarter 2018 GAAP revenue was $372 million when compared to $248 million in the same period last year. Also, please remember the $372 million and $248 million includes $18 million and $15 million, respectively, of contract solution sales to Pfizer.

Adjusted diluted earnings per share for the first quarter of 2018 were $2.26 as compared to $1.68 for the first quarter of 2017. And adjusted EBITDA was $73 million for the first quarter of this year compared to $50 million for the first quarter last year.

So now let’s discuss our first quarter GAAP revenue by market segment. Also as a reminder, in 2017, revenue data related to delayed closing entities was not available by product line and was recorded as other revenue. However, by the end of December, all delayed close entities were closed. So for your reference, the 2017 and 2018 pro forma unaudited revenue numbers can be seen on Slide 3 of the presentation.

So GAAP sales of Infusion Consumables were $120 million versus $76 million last year. IV Solutions sales were $144 million, and excluding $18 million of contract sales to Pfizer, IV Solutions sales were $126 million versus $83 million last year. And just to reiterate what Vivek already mentioned, we continue to benefit from unique industry supply circumstances into the first quarter longer than expected.

Sales of Infusion Systems were $93 million versus $47 million last year, and we’re slightly ahead of expectations due to certain orders coming in sooner than expected. In Q1 sales of Critical Care were up $2 million year-over-year to $14 million.

Now for the first quarter, our GAAP gross margin was 40% compared to 36% for the same quarter last year. And as you can see from Slide number 5, backing out the contracted sales to Pfizer that we sell at cost, our adjusted gross margin was 42% versus an adjusted gross margin of 45% last year.

Now last year the first quarter only included two months of legacy Hospira cells, which carry lower gross margins than legacy ICU Medical. However, the almost 300 basis point sequential improvement from Q4 is primarily due to increased manufacturing overhead absorption and the cost reduction initiatives put into place since the acquisition of Hospira such as the shutdown of our Dominican Republic manufacturing facility.

Now just to remind you, last year, whether correctly or incorrectly, we temporarily slowed down production in order to work down the inventory inherited in the transaction. That production slowdown is now behind us. While gross margin expanded sequentially, we also had an increase in SG&A.

As Vivek already mentioned, the sequential increase from the fourth quarter includes additional legal cost related to some legacy Hospira contracts clean up and new hires to help stand up to the Hospira business. By the end of this year, we should begin to see a drop off in cost as we migrate off of Pfizer’s systems and the cost of related TSAs.

R&D expenses increased $1 million year-over-year and we expect a little change in spend as a percentage of revenue this year when compared to last year.

Regarding the accounting for the contract resolution Vivek spoke about, the P&L impact was $29 million not including associated one-time legal cost in SG$A, and the one-time cash impact this quarter of $35 million.

For restructuring integration and strategic transaction expenses, those were $22 million for the three months ended March 31 and were mostly related to our integration of the Hospira business. And just as we said on our last call, we’re making consistent progress on our integration as we continue to see a clear path forward to separating from Pfizer and standing up our business, completing several new cutovers since our last call. These costs for integration should start to come down towards the end of the year as we continue to progress through the Hospira integration.

In addition, there was a $4 million non-cash adjustment this quarter to the carrying value of our contingent consideration payable to Pfizer. And this is based on reaching a certain cumulative earnings target by the end of 2019. The change was created by many factors including the discount factor, time value of money and the probability of reaching the target. These changes impact our GAAP earnings, but are excluded from our adjusted earnings since this has nothing to do with the operational performance of the business.

Historically, our average tax rate of 35% has been one of the highest in the industry. This was our first quarter of operations under the new U.S. tax legislation, and as expected, our first quarter was helped by an overall lower tax rate on earnings as well as tax credits related to R&D and option exercises. We continue to believe our tax rate for the full year should be at a historical low and be approximately 20% to 22%.

Now moving on to our balance sheet and cash, we continue to concentrate on cash earnings and free cash flows, especially as we focus on managing our working capital, such as converting over $100 million of inventory into cash over the past year.

In the first quarter, we’ve spent $27 million on CapEx for general maintenance, integration and infrastructure. And we expect to spend approximately $90 million for 2018, which includes investing in production capacity expansion. As we said on our last call, over time, we expect expenditures to come down to approximately 3% to 5% of revenue.

Regarding integration, as Vivek already mentioned, we have ticked off several go-lives with the U.S. to come later this year. And we expect to spend approximately $60 million this year on integration with most of that spending coming in the first three quarters. This is built into our estimated year and cash balance.

So this year, we remain focused on system cutovers at additional sites as we continue to manage our way through the complexity of the task. At the same time, creating a very efficient integrated system and organization with the ability to flex up if needed that will then allow us to focus even more on other aspects of the business, and we look forward to a very positive remaining 2018.

And with that, I’d like to turn the call over for any questions.

[Operator]

Thank you. [Operator Instructions] Our first question comes from Matthew Mishan with KeyBanc. Your line is now open.

[Matthew Mishan, KeyBanc]

Hey, good afternoon, and thanks for taking the questions. And I guess, you guys haven’t gotten rid of me yet. So I just want to make sure I understand what you’re indicating as far as EBITDA margins go. The past two quarters, it looks like you are at 21% – basically 21% EBITDA margin. It seems like you might drop down a little bit in late 2Q into 3Q from some duplicative costs then come back in 4Q.

What are you generally indicating from there? Are you saying that without any kind of revenue growth, you think there’s enough room with exiting the TSAs and additional medium-term synergies to get you into the mid-20s from there? Or like I’m just trying to understand.

[Vivek Jain, Chief Executive Officer and Chairman]

Welcome back. Thanks, Matt. I don’t think we put out – and we said in the call before, we’re not chasing some magic margin number, right? We want to run the best business we can. Of course, we’ve studied what other comparable companies that produce the same types of products make and they make more than our current levels. And so we would like to get there.

I don’t think there’s a magic number we’re shooting for. The math I would do is we laid out what we believe the TSA savings were, what the other synergies were. We feel like those aren’t changing in our minds, right. They’re still there, they’re still real, and so even if we’ve got some temporary goodness on the revenue side in one of the business lines, if the other business keep growing and offset that over time, so as we look at those savings, we feel okay from a margin perspective.

You could do the math for yourself in those synergies. I don’t want to start to think we were just like chasing a number that doesn’t necessarily built value to me, we should just try to optimize it. I don’t want to set an unrealistic or goal that leads to bad behaviors to get there.

[Matthew Mishan, KeyBanc]

Okay, that’s fair. And then, I guess, on the cost synergies, kind of what run rate of the $35 million are you guys – have you guys currently realized? And then if I’m not mistaken, I think you talked about medium-term synergies at some point. And I don’t want to jump ahead, but are there additional synergies behind – beyond the $35 million that you kind of have previously kind of laid out?

[Vivek Jain, Chief Executive Officer and Chairman]

I’ll do the first part and then Scott do the second part, right? But I’ll do them in reverse. So there are synergies beyond the $35 million. We don’t know – we intuitively believe that because we see the business running on systems that are cumbersome and disparate and when we manage our legacy business, we operate at a very different level. Remember, ICU was a 35% EBITDA margin business in just what used to be the consumables business. Obviously, the other businesses don’t have those kinds of margins.

But we see opportunities to improve beyond, but I don’t think it’s the easy stuff. It’s really the dirty work in improving your logistics network, improving your procurement process, those types of things. It’s just stuff we’re supposed to do every day. There’s no target set for those. On the first part of your question, Scott, why don’t you take a crack at that? I feel like we’ve kind of laid that out already on the blue bubbles from the Investor Presentation here, but maybe you want to say how we’re accounting it.

[Scott Lamb, Chief Financial Officer]

Yes. I think you know part of it, Matt, is really around the system integration and how we find synergies from the system integration, that’s why we’re spending so much – that’s one of the reasons why we’re spending so much time and energy on this. I mentioned on the call the shutdown of the factory in Costa Rica, for example, and that’s one of the – those synergy saving items that we talked about previously and there’s still more to come. I think that those are really more about what’s coming and what we’ve done so far.

[Vivek Jain, Chief Executive Officer and Chairman]

I mean, just to give you – to Matt, to give you a more precise answer, right. If you look at the middle bucket of the one slide, you usually get $25 million that had logistics capacity, DR plant closure underneath it, capacity utilization is happening. I mean we used to talk a lot about what can gross margins be in this business, and we feel really good about what’s happened there. And so if capacity utilization plus the DR plant closure already in the run rate, commercial restructurings already on a run rate, some of the other buckets still need to get done, but it’s all building throughout FY 2018. I’m not sure we’re going to specify how much exactly we’ve captured at what point. That will be incorporated into what our view of the world is in August.

[Matthew Mishan, KeyBanc]

Okay. Okay. I think that’s fair. It looks like you guys are still spending $50 million in R&D in a year. You haven’t really talk about the product development pipeline a little bit. What are your top priorities there?

[Vivek Jain, Chief Executive Officer and Chairman]

I don’t think we’ve ever really talk about what’s in the R&D pipeline in the last four or five years, right? So I guess, it’s not something we want to publicly make a habit of. I mean, I think being in the pump business costs significant more significantly more from an R&D perspective than being in this rate of consumables business and the features that we compete on in the pumps, and you hear all the vendors talking about on software and the interoperability, et cetera, right? That’s where the value is moving to and that’s clearly where the spend is also driving towards. The amount of money that’s being spent on the consumables business is very much in line with what we used to spend at the legacy ICU.

[Matthew Mishan, KeyBanc]

All right. Thank you very much.

[Vivek Jain, Chief Executive Officer and Chairman]

Thanks, Matt.

[Operator]

[Operator Instructions] Our next question comes from Larry Solow with CJS Securities. Your line is now open.

[Larry Solow, CJS Securities]

Just to follow up on the TSA part of that question. So you still expect to realize – the nuances in the TSAs, it’s still expected to be $10 million realized this year and then another $25 million remains?

[Vivek Jain, Chief Executive Officer and Chairman]

Yes, exactly

[Larry Solow, CJS Securities]

Okay. And then the synergy number…

[Scott Lamb, Chief Financial Officer]

Larry, if you look at SG&A quarter-over-quarter, I mean, yes, it was good. Gross margin expanded, but SG&A went up $10 million, right? Some of that was legal stuff, but some of that was truly duplicative costs where we’re doing it ourselves and paying the TSA. And if we’re safe and say, we’re going to ride the TSAs all the way to the end of third quarter, then we only get one quarter, but that’s still a meaningful amount.

[Larry Solow, CJS Securities]

I think soon you’re going to realize that $25 million additional next year. Is there more to that? I mean, you’ll still have some other TSA spending there, right? Is there more reductions potentially as you look out?

[Vivek Jain, Chief Executive Officer and Chairman]

No. The – well, let’s take those in two parts. And Scott, correct me if I’m wrong, right? The TSA should be done, right? There may be some very limited, limited stragglers into the end of this year. The next wave is just running yourself efficiently, which just – some allows you to do, right, the same question we just talked about.

[Larry Solow, CJS Securities]

Right. And the – I don’t know if you can discuss details about the contract settlement with Cukor, I assume that’s beneficial to you guys. Is that sort of assumed in some of your synergies? Is that like assuming incremental benefit in like gross margin inevitably?

[Vivek Jain, Chief Executive Officer and Chairman]

It makes – it’s not so dramatic on the P&L side. It’s just – it’s more like a logical thing, which is we shouldn’t be buying products that – we’re buying doesn’t match the end user demand, right? So it frees up cash and others things for us to do, sort of things with allocating different places.

[Larry Solow, CJS Securities]

Got it. And I know from a high level, you said things haven’t changed too much in the last six, seven weeks since you reported. But true-up, what’s the – driving sort of a little bit of a bump up in your expectations on the Consumables side?

[Scott Lamb, Chief Financial Officer]

Two things; oncology is not falling down, which has been good. It’s slowing down just in lieu that it’s a bigger business, right? You’re not getting as – the base is bigger so you’re not getting as big chunks, but it’s still running at a very nice clip. And then some of the business that we did manage to get back under contract also had consumables incorporated with it, and so that would help the last four, five months of consumables.

[Larry Solow, CJS Securities]

Okay. And then just lastly on the solutions side. I guess, hanging on a little bit more still than you thought and has anything on the macro level changed there? Is the shortage thing is improving? I guess, it sounds like you believe they are.

[Vivek Jain, Chief Executive Officer and Chairman]

I think things are, which are great for the customers, right? I think it is improving. Obviously, the competitors have made very clear what they want to do. We’re happy about that, right? We, too, can improve capacity. And we think the country is well served from two healthy participants. And I think customers are realizing putting all your eggs in one basket is a high-stake thing in this category because it’s been a tough one. So I think we do think things are getting better. That’s why we’re trying to be cautious in what we assume. And we still feel like we should get to the profitability levels we want to, absent the cutover issue, right.

[Larry Solow, CJS Securities]

Right.

[Vivek Jain, Chief Executive Officer and Chairman]

Even with that, I think we’ve done a reasonable job of kind of bracketing that for ourselves.

[Larry Solow, CJS Securities]

Okay, great. Thanks, I appreciate it.

[Operator]

Thank you. Our question comes from Jayson Bedford with Raymond James. Your line is now open.

[Jayson Bedford, Raymond James]

Good afternoon. Can you hear me okay?

[Vivek Jain, Chief Executive Officer and Chairman]

Yes.

[Jayson Bedford, Raymond James]

Okay. A couple of questions here. I guess when you look at the quarter here, the two areas of outperformance, Infusion Systems, which I think you explained pretty well, and then gross margin. So the question on gross margin is, is this a sustainable level here? There was nothing kind of onetime-ish in that first quarter result, correct?

[Vivek Jain, Chief Executive Officer and Chairman]

Scott, why don’t you give your opinion on gross margin first?

[Scott Lamb, Chief Financial Officer]

Yes, sure. So I think we – as we mentioned already, last year, we had slowed down production to consume some of this inventory that we inherited from Hospira. That’s now behind us. So we now have added fixed overhead absorption in the factories, and that’s a big part of it.

Part of it also is some of the synergies that we’ve been able to capture. One of them I’ve already mentioned around Dominican Republic. And so we think that we still have more to come. And so we feel good about sort of that sustainability.

[Vivek Jain, Chief Executive Officer and Chairman]

My view on that, Jayson, as we have – these are hard things, right. With one less factory and the other four are far more busier than they were last year, which is good. That’s what’s happening.

[Jayson Bedford, Raymond James]

Then the sequential jump in SG&A, can you quantify the legal cost associated with that lift?

[Vivek Jain, Chief Executive Officer and Chairman]

I’d rather not. It wasn’t – somewhere between 0 and half. I mean, I think we’re doing the right thing. We’re not carving – it was – it is expense we had to bear to solve this. So we didn’t want to put it, call it, a restructuring or something, it’s the right thing to do to put it in there. It’s real cash expenses for running our business, but I don’t want to pinpoint the exact amount.

[Jayson Bedford, Raymond James]

Okay, okay. On the Consumables, did I hear you correctly? The expectation is Consumables revenue will grow sequentially?

[Vivek Jain, Chief Executive Officer and Chairman]

I think that’s what we said. That’s what we believe today. Yes.

[Jayson Bedford, Raymond James]

Okay. Is there anything just kind of bridging that with your full year expectation for consumables? I realize the fourth quarter is a little bit of a tougher comp, but is there anything in the back half of the year that would slope down growth in Consumables?

[Vivek Jain, Chief Executive Officer and Chairman]

I mean, if we execute well in opportunities there in front of us. So that’s the most – that’s like the core of this whole thing, right, and the rest of this is the connecting rods around it. But that was the core business. And so I’d feel like we’re organized around that pretty well right now.

[Jayson Bedford, Raymond James]

Okay. And just in terms of the International business and kind of build-out there, are there growth – and if you can, what was the U.S. international mix in the quarter? And are there opportunities internationally that you’re focused on right now?

[Vivek Jain, Chief Executive Officer and Chairman]

I’ll do the qualitative, and then Scott can do the splits. It’s hard. It’s hard to get global. It was hard at pre-Hospira, it’s still hard. I think we’re doing it one place at a time. And this Australian situation, the company we bought, we closed, we’re integrating. We have good people there, and we’re starting to fight. That’s a key country. And so we’re just trying to knock it off right now, one country at a time. There’s two different conversations. There’s today’s conversation which is there’s four, five, six seven countries that drive a lot of the economic value and we need to make sure we’re getting good penetration there.

Then there’s the more strategic conversation, which is some of the emerging markets that obviously offer a lot of long-term value, we don’t have stakes in yet and so we’re working on how do we do that. But you will hear the competitors talk a lot about those things. I mean, that is one of the advantages of being big. And I feel like that box is still unchecked for us at the moment. I think we’re doing a good job in the first one starting to get organized in places that drive profits, but in the more strategic longer-term ones, it’s tougher for us to have the footprint make the investments today.

Scott, you maybe want to run through the economic split?

[Jayson Bedford, Raymond James]

I can follow-up offline. That’s fine. Thanks guys.

[Vivek Jain, Chief Executive Officer and Chairman]

Okay. Thanks, Jas.

[Operator]

All right, we have no further questions at this time. I would now like to turn the call back to Vivek Jain for any further remarks.

[Vivek Jain, Chief Executive Officer and Chairman]

Thanks, everybody, appreciate the interest in ICU. We look forward to updating everybody the call in August and we appreciate all the support. Thanks very much. Have a great summer. Bye.

[Operator]

Ladies and gentlemen, thank you for participating in today’s conference. This does conclude today’s program. You may all disconnect. Everyone, have a great day.