Enovis Corp

NYSE:ENOV

Earnings Call Transcript 2021-Q2

[Operator]

Thank you for standing by, and welcome to the Colfax Second Quarter 2021 Earnings Call. [Operator Instructions]

I would now like to hand the conference over to your first speaker today, Mike Macek. Please go ahead.

[Michael Macek, executive]

Thank you. Good morning, everyone, and thank you for joining us. I'm Mike Macek, Vice President of Finance. And joining me today on the call are Matt Trerotola, President and CEO; Brady Shirley, Executive Vice President and CEO of DJO; and Chris Hix, Executive Vice President and CFO.

Our earnings release was issued yesterday afternoon and is available in the Investor section of our website at colfaxcorp.com. We will be using a slide presentation to walk through today's call, which can also be found on our website. Both the audio and the slide presentation of this call will be archived on the website later today and will be available until the next quarterly earnings call. During this call, we'll be making some forward-looking statements about our beliefs and estimates regarding future events and results.

These forward-looking statements are subject to risks and uncertainties, including those set forth in the safe harbor language in yesterday's earnings release and in our filings with the SEC. Actual results might differ materially from any forward-looking statements that we make today. The forward-looking statements speak only as of today, and we do not assume any obligation or intend to update them, except as required by law. With respect to any non-GAAP financial measures made during the call today, the company reconciliation information relating to those measures can be found in our press release and today's slide presentation. With that, let me turn it over to Matt, who will start on Slide 3.

[Matthew Trerotola, executive]

Thanks, Mike. Welcome, everyone, and thanks for joining our call today. I'm pleased to report another strong quarter of financial results and strategic progress at Colfax. We exceeded our second quarter expectations, both on the top line and earnings effectively managing through an improving but still dynamic operating environment. As a result, we're increasing our full year financial outlook. We're also pleased to announce another exciting med tech acquisition that further expands our fast-growing reconstructive platform. Brady has joined today's call to provide more details about this strategic addition to our MedTech business. We also made strong progress towards separating our company into 2 independent public companies and continue to target completion in the first quarter of next year. Our strong performance this quarter highlights the momentum and growth opportunities we see in both MedTech and ESAB. End markets continued to recover and both businesses reported organic daily growth above 2020 and 2019 levels, including 10% growth over 2019 in our MedTech Reconstructive platform.

Despite some supply chain friction, our global teams are executing well and continuing to outgrow their markets. We expect continued market improvement in the second half of the year with accelerating growth over 2019. Second quarter higher sales translated into higher profit, and we earned adjusted EPS of $0.56 per share in the second quarter, a 27% sequential increase versus Q1 and above our guidance range of $0.48 to $0.53. ESAB achieved EBITA margins of 16.4%, another record, while successfully managing high levels of raw material inflation. We also posted another strong quarter of free cash flow and are well on our way to exceeding our original guidance of $250 million or more this year.

All of these improvements are reading through to our full year performance, and we're increasing our 2021 guidance. Chris will walk through these details later.

Slide 4 provides an update of our plans to separate into 2 independent public companies in the first quarter of next year. Our experienced leaders are making substantial progress across many work streams and we remain on schedule. We are complementing ESAB's strong operating team with additional public company support capabilities. Shyam and his team have already hired several of these key leaders and are well on their way to building a highly effective team of top talent. We expect that the initial capital structure of ESAB will have net leverage of 2.5 to 3x upon separation, a very comfortable level, given the business is strong and consistent cash flows and disciplined operations. We expect the business to have ample financial capacity to execute the growth strategy that we outlined at Investor Day in March. We selected a new name for MedTechCo that reflects our vision of continuous improvement, innovation and great patient outcomes. We have a thoughtful and impactful plan to unveil the new name to investors, customers and employees later in the year. Stay tuned.

The company has made significant progress creating the 2 separate Boards of Directors. Both businesses will benefit from a combination of continuity from existing directors and new members with additional experiences and perspectives. You will hear more from us on this important topic as we get closer to the separation.

We continue to target the separation to be completed in the first quarter of 2022, and we're confident that we will position both companies for maximum long-term growth and value creation. Each of the businesses have demonstrated that they are ready for the separation by continuing to achieve strong operating performance and strategic progress.

Slide 5 demonstrates this in part through our record of sustainable margin improvement at ESAB. Congratulations to the ESAB team for achieving another record this quarter. The improvement of almost 500 basis points since 2015 reflects the consistent execution of our profitable growth strategy and application of our proven business system across a range of conditions. ESAB's global teams use CBS tools and processes every day to improve productivity across the regions, factories and functions. This continuous improvement is complemented by supply chain and back-office consolidations that create structurally lower costs. CBS has been used for growth, successfully focusing the teams on attractive commercial opportunities. And ESAB's market-leading innovation engine has also contributed to growth, share gain and operating leverage.

Acquisitions have further positioned the business in attractive growth markets like medical and life science that reduce the cyclical exposure of the overall business. We are proud of this margin performance and the business is on track for even higher margins in the coming years as communicated at Investor Day.

At Investor Day, we also discussed the many acquisition vectors within our MedTech business, and Slide 6 shows the significant progress made in the past few quarters to expand our market, accelerate the growth and create a path to structurally higher margins. We complemented our Recovery Sciences franchise with a fast-growing laser technology that also opens opportunities in the vet space. We made an important investment in insight medical systems that could lead to a breakthrough augmented reality guidance technology for the surgical theater.

We created a fast-growing foot and ankle franchise that we expect will reach $100 million of revenue within 3 years. And now we're pleased to announce the acquisition of Mathys, a highly complementary global expansion of our fast-growing reconstructive platform. When we established our MedTech business with the acquisition of DJO, we had revenue of about $1.2 billion. Based on Recon's double-digit organic growth and these acquisitions, our MedTech segment now has over $1.5 billion of pro forma revenue that is quickly tilting to faster growth. We are well on our way to achieving the near-term $2 billion revenue target discussed at Investor Day.

Slide 7 includes more information on Mathys. The company has a long-standing position in implants, serving primarily the European markets with an obvious and compelling geographic fit between our 2 businesses. Like DJO, Mathys has a well-deserved reputation as an innovator and each business brings unique product strengths to customers. We are excited by the potential for growth from cross-pollinating the 2 sets of products and market channels. We expect other benefits from the combination that Brady will discuss in a moment.

We're forecasting this business to generate about $150 million of 2022 revenue in its first full year under our ownership. As we scale the business and realize high-margin revenue and supply chain synergies, margins are projected to start in the low double digits and improve to segment averages. We funded the acquisition with Colfax shares to the Mathys owners who yesterday launched a secondary offering of the shares they received in the deal. The offering priced last night and the allocation included a terrific new long-term investor who is excited about the potential of both ESAB and our MedTech businesses.

The acquisition closed last night, so let me officially welcome the Mathys team. I got to spend time with key leaders of Mathys a few weeks ago and was incredibly impressed by the talent, passion and dedication. I'm excited about the future that we'll create together.

Brady will now take you through more of the acquisition details, starting on Slide 8, and then Chris will review our Q2 results and improved outlook.

[Brady Shirley, executive]

Thanks, Matt. Good morning, everyone, and special welcome to our new Mathys team members. I'm really excited to be here today and to have the opportunity to speak specifically about our acquisition of Mathys. Mathys is a company that I've known and respected for a long time, and I've always thought it would be a great fit with DJO. There are a number of opportunities with the combination, but in broad strokes, there are 3 that really stand out. The simple one is geographic. As you know, our Recon business is almost entirely in the U.S. and their business is outside the U.S. Therefore, there are significant cross-selling opportunities with virtually no commercial disruption in the combination, which is unique.

As you know, our Recon business has historically been anchored in 2 big technologies, one the AltiVate Reverse Shoulder, and two, the EMPOWR 3D knee. Mathys, on the other hand, is really strong in anatomic shoulder and particularly stemless shoulders and hips led by the RM cup. So expanding each bag with the strength from the other is very logical and should elevate the performance of both.

Finally, both companies are passionate about driving innovation to improve patient outcomes. And in fact, our missions are remarkably similar. DJO's mission is powering motion and Mathys' mission is preservation in motion.

I was there a couple of weeks ago and all 3 of these are not only recognized from our perspective, but also by the broader Mathys' team. There's a great excitement on both sides of the pond. Mathys has had a long and successful history in medical technology. Their focus is on the development, manufacturing and distribution of products and technologies for total joint replacements. As I mentioned earlier, the Recon portfolio is very complementary to ours with many differentiated and clinically proven products. A couple of products I would highlight are the Affinis Short Stem Anatomic Shoulder, which in the U.S. would be called stemless. Mathys, with Affinis, is the leader in the European market and has consistent growth in Europe and Asia with the platform. It also provides a terrific access for our reverse platform for shoulder surgeons outside the U.S.

The other highlight I'd point to is the RM vitamys acetabular cup for total hip replacement. The RM cup has broad acceptance across the EU based on excellent long-term clinical success and its reliable repeatability across the various patient segments in hip arthroplasty. As I mentioned earlier, this is one of the unique technologies that will expand our range of current offerings in the U.S.

Another technology to highlight is that Mathys is one of the few manufacturers of ceramic components for orthopedic implants, where they have a long and extensive clinical history. Strategically, we see great benefits from having this in-house knowledge and capability, giving us the potential to incorporate it into future product innovations across the anatomies.

Like I mentioned at the start, geographically, Mathys is a great fit. All their sales are outside the U.S. Historically, the majority of our sales were within Europe, where they have strong share positions in their home country of Switzerland and solid share throughout. We are also impressed with their progress in extremities and broader joint recon in Asia Pacific, particularly their growth in Australia and Japan. We also see an excellent opportunity to leverage their international sales channels to expand our recently acquired foot and ankle base outside the U.S. as well.

On Slide 9, let's talk about why this makes sense and why Mathys and DJO together will strengthen our positions. The acquisition creates a global platform and basically doubles our addressable market in both extremities and the broader joint reconstruction market. As you know, we've had sustained double-digit growth in Recon for a number of years. And with the combination of strength plus utilizing the channel across Recon, we see a great opportunity to grow double digits globally across this expanded market. The shoulder growth dynamics around the world are similar to the U.S., high single-digit growth with reverse expanding more rapidly than anatomic. We feel very strongly that we can accelerate Mathys' growth by introducing our market-leading AltiVate Reverse Shoulder into their channel.

In the broader joint reconstruction market, hip and knee, the EMPOWR 3D knee will strengthen the competitiveness of the Mathys offering with a modern knee backed by strong clinical data. Simply said, with the combination of our technologies, we see strong revenue synergies. And worth noting the 2 strategic product platforms I mentioned, the AltiVate Reverse and the EMPOWR 3D knee products already have CE Mark approval. So our impact opportunity is positioned to start soon.

Beyond growth, we see significant margin opportunities as well. We expect to create savings from increased scale and operational synergies as well as a favorable mix shift over time from extremities expansion with reverse shoulder and foot and ankle as well as accelerating growth in key geographies. Overall, we feel it's a winning combination that was a critical step in building our Recon business.

Moving to Slide 10. With the addition of Mathys, we now have pro forma annual revenue of over $500 million of Recon and a clear path to grow $1 billion in the next 5 years. We are confident that our proven surgical offense that has delivered 5-plus years of strong double-digit growth will continue to deliver as we go forward. We extended our high-growth extremities core into the fast-growing foot and ankle segment. And now with the Mathys acquisition, we have doubled the addressable market to drive our clinically superior technologies into globally. Additionally, we have a very healthy funnel of Recon bolt-on acquisition opportunities that could get us to the $1 billion mark even faster. Our platform has been built on our strategic imperative of delivering superior clinical outcomes, which has served us, and more importantly, the patients we serve very well. We believe clinical outcomes are both a key responsibility for us and also the key to deliver sustainable growth over time in our MedTech business.

If you recall our comments at our Investor Day back in March, we talked about our vision of expanding to approximately $2 billion in the near term and $3 billion in the longer term. Scaling our Recon business is a key component in that vision, along with extending our leadership in P&R and expanding in the new high-growth segment. Lots of work remains, but with our amazing global team made even better with Mathys, strong momentum, iconic brands and great customers, we are confident that we will realize that vision.

With that, let me turn it over to Chris. Chris?

[Christopher Hix, executive]

Thank you, Brady. I'll start on Slide 11. We had a terrific second quarter. Revenue levels continue to recover as we've been expecting. The MedTech business is solidly growing past 2019 levels, including the Recon platform at 10% on a daily rate basis. ESAB also grew off 2019 results, including the successful pass-through of inflation in the form of price to customers. Both businesses have a line of sight to further growth improvements in the second half of this year.

Operating leverage and benefits from restructuring projects are flowing through to both the EBITDA and EPS lines. We are successfully managing both significant inflationary pressures and supply chain friction in our businesses. Q2 operating performance was better than we expected, and we were pleased to outperform in the quarter and achieved $0.56 of EPS.

We also produced a healthy level of free cash flow in the second quarter. The standard work that we strengthened during COVID is driving better sustainable performance across our businesses. We are carefully managing pressures on working capital that are coming from supply chain disruptions to ensure that we support our growth with financial discipline.

MedTech business details are on Slide 12. Late last year, we projected that our MedTech business would return to growth over 2019 levels by the first half of 2021. Our business grew 3% over 2019 on a sales per day basis in the second quarter as COVID-related restrictions continue to become less of a drag on patient demand. As you unpack this, you can see that the reconstructive part of the business returned to double-digit growth despite some regions of the U.S. continuing to have sporadic restrictions. This growth is impressive given that the industry continues to operate a bit below pre-COVID levels. The prevention and recovery product lines also grew over 2019, and we expect these growth rates to pick up as countries outside the U.S. further ease restrictions.

Margins sequentially improved as expected on higher revenues, and we continue to expect additional improvement in the year related to typical seasonal strengthening of revenues. Our operating teams are doing a terrific job working through global supply chain constraints to keep up with improved customer demand. We remain on track to deliver a healthy step-up in EBITDA margins as outlined at our March Investor Day, and we expect to continue to manage logistical and supplier challenges through the end of the year.

Turning to Slide 13. Our FabTech business is successfully managing the significant wave of raw material cost inflation by using dynamic customer pricing actions. These inflationary pressures are not abating, and we're projecting another 4 points of price in the second half to reflect customer pricing actions already taken. Isolating for the pricing actions, the business' underlying volume growth came very close to matching 2019 levels in the quarter. The developing economies of the world remain constructive and growing and European and North American customer demand is getting healthier. Overall, we expect volumes to continue to strengthen and we're projecting volume growth versus 2019 in the second half of this year.

Well, the big star of the show is record EBITA margins of over 16%, which Matt covered off earlier in detail. This equates to 18% EBITDA margins. So I want to say congrats again to Shyam and the team who are well on their way to the 20% EBITDA margin objective outlined at Investor Day.

Our updated outlook for the year is included on Slide 14. Based on strong second quarter performance, we are again improving our guidance for the year. We are expecting $2.10 to $2.20 per year of adjusted EPS, up $0.05 from previous guidance. This now includes $0.03 to $0.04 of net dilution from the Mathys acquisition in the second half of this year. We continue to expect the typical seasonal pattern of revenue and profit and are forecasting third quarter earnings per share of $0.50 to $0.55.

We're also projecting at least $25 million more free cash flow in the year and have increased our full year guidance to $275 million or more. We continue to track to about 90% conversion in the year before any outlays related to the separation. As noted earlier, both businesses have strengthening revenue pictures and our slide highlights some of the key components. In addition to healthy organic growth in both businesses, our acquisitions are off to a great start. As noted earlier, business margin performance is forecasted to be in line with the amounts communicated at Investor Day.

The tax rate is expected to remain in the low 20s in the second half of this year and interest costs should be sequentially lower based on the $700 million bond redemptions that occurred in April. The CapEx levels are expected to remain in line with amounts originally communicated for the year.

We'll wrap up our prepared remarks on Slide 15. We entered 2021 with significant growth planned for revenue, profit and cash flow. The first half of the year has played out even better. And for the second quarter in a row, we have improved our annual guidance. We have been actively expanding our MedTech business with acquisitions that helped to position it for sustainable improvements in growth. Mathys is just the latest example and we are excited about the growth and margin synergies that this acquisition creates for our fast-growing Recon platform. Our strong operating performance demonstrates that our businesses are well positioned to be separate independent public companies. We are making great progress on this strategic project and continue to target completion in the first quarter of next year.

And with that, I'll ask the operator to open up the call for questions.

[Operator]

[Operator Instructions] First question from Scott Davis from Melius.

[Scott Davis, analyst]

Well, you guys have been busy, I guess. Mathys looks interesting, too. The Mathys is -- is it more exciting from a channel perspective or a product perspective? Kind of if you could just talk through that, if Brady wants to take that or Matt, whichever is fine by me?

[Matthew Trerotola, executive]

Yes, Brady, go ahead.

[Brady Shirley, executive]

To me, I would say it's actually a blend of both. I think it's a great question. As I mentioned, where their strengths are, those are opportunities for us. And so some of their hip technologies, very specifically, like I said, the RM cup, which is quite unique, has phenomenal data. We view that technology as a big opportunity in the U.S. as well as, quite frankly, some of the really unique aspects from Affinis on the short stem and stemless shoulder. But that channel is something, as you know, that we really needed. And so when you look at our -- particularly our AltiVate Reverse, having an opportunity to really put that technology that has just really changed the shoulder environment in the U.S. into a great channel, a great direct channel was a humongous part of the strategy. But then as I said, their knee also has been really lagging behind the rest of their growth. And I can tell you that when I was over there a couple of weeks ago, their teams could not be more excited about both our reverse shoulder and EMPOWR knee. So it's a blend of both, for sure.

[Scott Davis, analyst]

Brady, do you have to go through any regulatory or any kind of channels to get your reverse shoulder into that market? And I know there's a lot of different health care systems over there, but -- so perhaps it's country by country. But maybe you could help us navigate that a little bit?

[Brady Shirley, executive]

Yes. So as I said earlier, as you look at Europe, we already -- we have the CE Mark on our AltiVate Reverse. And so there's not really things for us to navigate on the main product line, the lead product in our reverse platform. Now there are other new reverse components that are -- when I say newer, there are additional reverse components that are not that main piece that we've launched over the last couple of years. And so we'll have to go -- we're in process on those and have been in process even before acquiring Mathys. So our main AltiVate Reverse, CE marked, so it will make a big opportunity for impact early in Europe. And then as we -- in some of the other countries like Australia and Japan, there are additional steps on top of the CE, but early on, we should be able to really, really go quickly with our main reverse platform.

[Scott Davis, analyst]

Okay. And sorry, I usually don't ask more than 2 questions, but I'm dying to find out how -- Matt, how long of your on-time delivery has gotten in this environment? Have you been able to keep the wheels on getting product to the customers on time? Or is it really off?

[Matthew Trerotola, executive]

Yes. Well, like -- I mean, like everybody else, I think we've definitely had a lot of pressure on the supply chains in both businesses. I think the teams have been doing a fabulous job. I think philosophically, we put the customer first, and I think both businesses have been doing a great job of serving customers and having customers as satisfied as possible and having most of what doesn't get served going to backlog versus go somewhere else. And so I'm really proud of what the teams have been able to do there.

I think the teams have done a nice job with some of their planning to try to make sure that we're as positioned as possible for some of what we're going through, but there's no question that we built up some backlogs in each of the businesses. And we've also had some frictional costs in the businesses and in particular in the DJO business. And so we're looking forward to in the coming months and quarters, some easing of that situation and being able to pull down some of that backlog and leave some of those short-term costs behind.

[Operator]

Next question from -- it's Joe Giordano from Cowen.

[Joseph Giordano, analyst]

Just curious, when you bring these types of products to Europe, do you already have like the surgeon network on, like, a new product like Reverse? I know Reverse is used in Europe, but do you have the right kind of channel of surgeons to promote that product already existing in Europe? Or is it something you have to kind of go get?

[Brady Shirley, executive]

Joe, it's Brady. What I would say is the surgeons that are doing anatomic shoulder for Mathys and their key KOLs are also the same surgeons that would be doing reverse shoulders as well within our practice and reverse is really expanding. What was interesting that we -- something that we learned through the process was if you look at their shoulder development pipeline with their R&D team outside the acquisition, their key focus was to develop a more lateralized reverse similar to ours, and that's from their KOL. So we believe the channel is ready as well as their surgeons are ready to really take that and run with it. And our shoulder surgeons that have helped us on that development have deep relationships also broadly outside the U.S. And so I think it will be a great blend between the 2 sides, and this product will really help to accelerate the strategy they had in place, that they've been growing their shoulder really fast and just really needed the right reverse. So we...

[Joseph Giordano, analyst]

Got it. And then on ESAB, can you maybe just talk through how that looks geographically? And the margins there with that kind of price component, pretty surprising to be able to pull off margins like that. So can you maybe talk about how much more room there is internally to drive the cost side?

[Matthew Trerotola, executive]

Yes. So first of all, the geographic question, I think we continue to have a similar story to what we've been talking about that the emerging market parts, high-growth market parts of the business that make up over half of the business are having solid growth this year on top of solid growth next year. So a nice 2-year run of growth. And the developed markets keep improving and have not gone back to growth over '19, but certainly have strong growth over '20. And so there's still room to go there, particularly on the volume front in developed markets. And so I think we've been certainly happy with what's happened so far in that business with most markets moving forward quarter by quarter.

On the margin front, yes, the team has done a terrific job. And as I talked about, it's been a 5-year journey. And I think it is important to note that some of the key things that have fueled the ESAB journey over time are tools that we're actively applying on the DJO front and getting increasing levels of momentum to make sure that we can fuel that journey to 25% EBITDA that we talked about at Investor Day. And so certainly, the team has done a great job in ESAB of continuing to push the price through to cover costs and keep driving productivity. And so we've certainly signaled there with the guidance that the margins will be up nicely over '19. And we also see the team having a very clear path to that 18% EBITDA margins from the 20% EBITDA margins that were shared at Investor Day.

[Operator]

Next question from Chris Snyder from UBS.

[Christopher Snyder, analyst]

So first question on Mathys and the international opportunity. Of the existing roughly $350 million of reconstructive revenues, how much of those -- is there an opportunity in the international market for all of that, just a subsegment of that? And then in that same vein, is there -- can you maybe talk about any incremental challenges of integrating masses relative to the previous string of bolt-ons you guys have done because this one is, I guess, one substantially larger and, obviously, very different from a geographic perspective?

[Matthew Trerotola, executive]

Yes. I'll make a quick comment there, and then let Brady provide some additional color there. Again, I think, as Brady's talked about there, there's a lot of opportunity across this whole product line that we've got and maybe you can provide some more color on how much that applies into the international markets. But as far as the acquisition, again, one of the great things about the acquisition is how complementary it is and that there's kind of a limited situation, almost no channel or product overlap, which -- those things can be very difficult to work through, particularly in the orthopedic industry. And so the fact that there's so little channel or product overlap is just terrific, and I think paves the way for that healthy acceleration of growth quickly as the cross-selling synergies come through.

We've set the business up thoughtfully in terms of having the right amount of autonomy to be able to execute in those markets, but then also having opportunities to drive like leverage in the supply chain and leveraging product innovation. And so there's been a lot of work actually with a number of us, Brady and I and others, really thinking through how do we really set this thing up for success structurally and that right balance of agility and scale. And I think we've got a great game plan and are off to a great start.

Brady, do you want to provide a little more color there?

[Brady Shirley, executive]

Yes. Well said, Matt. So I would say this, I would take you to think about it in technologies and in products. And so from a product perspective, we outlined a couple of those that are critical. But for instance, I mentioned the strength of their hip portfolio, which is really good, and they've had fantastic growth over time and also very much so in recent years. Well, some of the technologies that we have in the U.S. that we've had and been growing in the U.S. are quite similar, stem that's well suited on both continents and in place. However, in the hip, for instance, one of the things that we've launched recently, which is our dual mobility cup, big opportunity for that business. Our revision stem for hip, another big opportunity. So I really think in each of the key segments, starting with upper extremity with shoulder, not just reverse, some other platforms. There are products that will go both directions and really help both businesses. So I think the majority of that $300-plus million that you mentioned is very applicable on both sides.

The other thing I'd tell you is that on the technology side, which is one of the things that we saw as a big opportunity. There are some key technologies that are on the U.S. side that have been solely focused on the U.S. side, like our coating. And like the AR investment that you've heard us make inside, we view those as big global opportunities that we can take across all the channels. And at the same time, the RM technology that has been launched within the hip, that also we think is applicable across other anatomies, we think will play extremely well in the U.S. market also. So I think the majority will fit very well.

[Christopher Snyder, analyst]

Appreciate all that. And then I wanted to follow up on ESAB actually. So over the last couple of years, the majority of Colfax capital has been directed towards MedTech. But -- so can you talk a little bit about the opportunity for a stand-alone ESAB? The business will have $450 million or so of EBITDA to really reinvest. You guys have talked a lot about higher growth verticals there. Is that where we should expect all the capital? Are there any regions? I know it's very diverse, but are there any regions you think you could try to push into? And lastly, are there opportunities to invest to drive further just efficiency in the business and get these margins continuing to go higher?

[Matthew Trerotola, executive]

Yes. So a couple of different thoughts on that. The first is that you're correct that in the past couple of years, as we signaled the day we acquired DJO, we have invested most of our acquisition capital in the MedTech business and have a terrific progress in shaping and expanding that business in a very positive direction. If you step back and look more at the past, 6 or 7 years, we put a lot of important capital into the ESAB business as well that is really bearing fruit today in a number of strategic acquisitions that were made over time that were terrifically executed, the most recent significant with the GCE acquisition that is performing tremendously well.

Strong growth last year and this year. So now 2 years of strong growth, really powered right through some of the challenges of last year and substantial expansion in the margins of that business, and it opens up all kinds of additional avenues as to where we can go in that gas control space. And so there has been quite a bit of capital deployed by the team in ESAB through the years in a very productive way, and that's part of what's made it such a successful business today, alongside of all the great operating improvements in the business.

Looking forward in the business, I've already talked about, on the margin front, there is clearly headroom to continue. I think Shyam shared some of this at Investor Day, some of the same things that we've been driving for years in the business in terms of productivity, supply chain restructuring and simplification, some of the back-office simplification and automation. Those still have room and the acquisitions we've done the most recently have higher gross margins and create paths to higher margins. So we do see continuing opportunity to move forward, some incremental investments in restructuring that will help keep lifting the lid but also just operational improvements and high-margin growth that will help to keep driving the margins up to that 20% EBITDA and beyond that was shared at Investor Day.

In terms of the acquisition pipeline, we have a healthy set of opportunities within the ESAB business. There are -- there continue to be -- at this point, while any given region is pretty concentrated in that business and that has some real benefits, it's still a pretty fragmented global business with the leaders -- the 3 leaders in the business having maybe 35% share of the global market. And so there's still plenty of opportunities to pick up regional assets that are in high-growth countries. There are still attractive product line additions like the TBi torches edition that we did a number of years ago that gave us additional technology and exposure for robotics, those kinds of opportunities.

There are additional technology-based opportunities, digital opportunities like some of the software acquisitions that we've done. And there are some straight-on product bolt-on opportunities. And the team's got a clear view, as Shyam shared, that the acquisitions are going to be focused on enhancing our growth and continuing to bring down the cyclicality of the growth, enhancing our margin profile and opening addition to the space.

And then finally, the ESAB business does have attractive adjacencies. Again, I think GCE is a great example and there's more to do in that space. And there are other logical directions that the business can go with adjacencies that enhance the growth profile, strengthen the margins and open up additional marketplace to address organically and address through other acquisitions. And we feel, as I said in the comments, that the 2.5 -- the Board put a lot of thought into this and feels that the 2.5 to 3x capital structure that we've indicated as what we expect for ESAB as an independent company. If you put that alongside of the strong and consistent cash flow that the business has had and the demonstrated operational execution capability, we feel like that creates a healthy envelope to execute on the growth strategy that Shyam outlined at Investor Day and grow the business nicely in the years to come and expand the business in the years to come.

[Operator]

Next question from Jeff Hammond from KeyBanc.

[Jeffrey Hammond, analyst]

Just on the deal, can you just kind of talk through the rationale for doing equity? It seems like the sellers wanted cash. You just did your recent equity offering. I don't know if that speaks to the pipeline behind it, but it seems like debt capital is cheap and the balance sheet is already in much better shape?

[Matthew Trerotola, executive]

Yes, Jeff, thanks for the question. Yes, a few things. First, I think -- I hope you get a sense from the discussion here on the call and from the things that Brady shared, this is a terrific acquisition. It's highly strategic, really strengthens our MedTech platform and opens up great avenues for growth. And there's a lot of synergy in this acquisition, really over $15 million in supply chain synergy opportunities annually by the time we get about 3 years in. So there's a lot of synergy here. And so this is just a great deal for our investors, first and foremost.

Second, we've consistently said that we're going to set both these businesses up for success and define that as ESAB having healthy room to execute its strategy, and we've painted in on this call the 2.5 to 3x leverage that we think does that. And we've also said we want to make sure that MedTech has a clear path to grow to $2 billion-plus quickly and be a high-growth med tech innovator. And we feel like the equity financing helps to create the right envelope for those commitments that we've made around these 2 companies.

And finally, we've consistently said that this is -- we expect this to be a tax-free separation. And this transaction, the form of it, is part of how we're executing that tax reseparation.

[Jeffrey Hammond, analyst]

Okay. Great. And then just on the margin dynamics in MedTech. Is there anything unique in some of the supply chain challenges they're seeing versus ESAB, which seems to be kind of overcoming those maybe, at least in the margin drop-through a little bit better?

[Matthew Trerotola, executive]

Yes, Jeff. So there's a couple of things. One, it's certainly the sharpness of the drop in recovery in MedTech last year was more severe, and I think that put more stress on the supply chains. And so it's -- the supply situation is probably a little bit more aggravated in that business and the kind of sort of customer expectations and what you need to do to protect customers in the business are, I think, a little bit higher and that's resulted in probably more expediting costs, both in terms of bringing stuff inbound and stuff outbound and more kind of extra cost in the factories from just kind of doing whatever it takes. So I think there are some differences there. And then there's also -- there's some inflation coming through both the businesses, a lot in ESAB with all the steel as well as other things, but also inflation coming through the MedTech business. And in ESAB, I think with the steel inflation already coming through, the pass-through efforts around the broader set of inflations, they're not easy, but the team has kind of -- and the industry has a kind of a well-worn path of that going through the industry.

In the med tech industry, as there's some inflation coming through, I think it's going to take a little bit more time and specific effort in different areas to step-by-step get that inflation passed through in an industry that operates in a little different way.

[Jeffrey Hammond, analyst]

Okay. And then just last one. You mentioned, I think, supply chain as a cost opportunity. But just talk more broadly about kind of getting the Mathys business from low double-digit margins to kind of the corporate average.

[Matthew Trerotola, executive]

Yes. So let me jump in there. So first, from a supply chain standpoint, they're big opportunities. We've got the opportunity to optimize across the 2 supply chains, optimize what's made where, opportunity to in-source products. Each of our businesses have a meaningful amount of outsourced product into that implant supply chain, and we've got a chance to in-source more and more over time. We've also got productivity opportunities in terms of automation technologies and different efficiencies. In some cases, investments that will drive those; in some cases, cross sharing of capabilities that will drive those. And so we see that significant supply chain impact that I talked about as certainly the biggest opportunity to drive up the gross margins, and ultimately, the net margins of the business.

But then also, we've got an opportunity to scale the business over time. We -- as I said, we've got an integrating structure that is going to preserve that agility of each of our businesses, but at the same time drive scale in the dimensions that make sense. And in the short term, we'll be focused on making sure that we're getting after all the growth. But then as that growth comes through in the coming years, there'll be scaling of that infrastructure that will also help with the margins.

And then third, Brady talked about it, our revenue synergy plans are disproportionately weighted towards higher-margin products. And that's things like shoulder out of the gate. That's also certain countries out of the gate that have higher margin profiles. And then over time, as the foot and ankle products can come through, they will also contribute higher margins. And so we'll get a mix effect that comes through as well. And the combination of those, we feel very comfortable, we'll get the business at least to fleet margin averages and certainly opportunity to go beyond that over time.

[Operator]

Next question from Andrew Obin from Bank of America.

[David Ridley-Lane, analyst]

This is David Ridley-Lane on for Andrew. A question on FabTech. The volume growth implied in the second half looks like sort of low to mid-single digits. So first, is that math correct?

And then second, what are you seeing that makes you a little bit more conservative around the volume growth in FabTech in the second half of the year?

[Matthew Trerotola, executive]

Yes. So I think Chris talked about the fact that we're about passing through the volumes of '19 here in the second quarter and that we expect to have continued improvement as we move into the back half of the year. And so I think that would match about with your comments, although there'll continue to be price coming through the business as well. And so I think there's kind of a balance there. I think certainly, there's a good healthy recovery underway. But at the same time, we're just cognizant of -- around the world, some of the different places that are still having some significant challenges around COVID, and we're trying to make sure that we've got the appropriate view of how things are going to make their way through this year and into next year versus an overly aggressive view.

I will tell you that from a planning standpoint, we've tried to make sure in each of the businesses, that we think about what the possibilities are for how a recovery could shape as well as what our forecast is, and we're trying to make sure that our supply chain planning is thoughtful up against that and that where appropriate, we plan for a little extra inventory in case we get a little stronger recovery and make sure that we're ready to be able to serve that. And so I think we're trying to just walk through this step by step. The team has done a terrific job, and we're making progress every quarter.

[David Ridley-Lane, analyst]

Got it. And then on MedTech, if I take the 59% organic growth and the 14.2% organic EBITA margin, I get about a 35% incremental margin. How much of an impact were the supply chain issues in the quarter on a year-over-year basis? If it wasn't for those supply chain issues, what do you think your organic incremental margin would have otherwise been?

[Christopher Hix, executive]

Yes, sure. I'll take that one. We've made it clear that our priority is to serve customers and patients and to make sure that you keep the supply chain going for our customers' benefit there. And that has been -- we've had to work a bit harder. There's some additional effort and actions that we've taken and certainly some costs that have been incurred along the way. And it does show up in the P&L. We've been talking about this, I think, for a little while now. And we'd expect as the supply chain in the world sort of corrects itself and we get past that, then we get to a healthier spot. It's weighing on us a little bit here, I'd say kind of in the sort of low single-digit billions and perhaps a little bit more here and there, but we're definitely incurring, like everybody, extra effort here. But in our case, to maintain the outperformance relative to peers. So we serve customers, we get the revenue. We continue to take share and that really positions us well for -- not just for this year, but as we continue to progress.

[Matthew Trerotola, executive]

Yes. The only thing I'd add there is, yes, about -- on the incrementals, obviously, from last year, there's the restoring of temporary cost measures that is a pretty significant factor in incrementals. And comparing to '19, there's quite a bit of growth investment and talent investment that we put into the business for all the right reasons. So those factor into the incrementals as well.

[Operator]

Next question from Nathan Jones from Stifel.

[Nathan Jones, analyst]

First question here for Brady. We talked about the opportunities to cross-sell various products between Mathys and DJO. Can you talk about why it is that Mathys doesn't already have any revenue in the U.S.? Do they just lack channels to market? Or are there any regulatory hurdles that need to be overcome to do that?

[Brady Shirley, executive]

Yes. So great question and what I would -- just be -- it's a very simple response, and that is really for companies to compete in the U.S. They have to build a channel and building that channel successfully in the U.S. is difficult. And in some ways, it's not dissimilar to what our approach has been, which is not heavily trying to invest and build our organic channel outside the U.S. And so both companies had, at least in this space, that in essence made the same decision. And so really, that's it. It's just expensive to build a channel and difficult to compete in the U.S. market.

From a regulatory perspective, though, the majority of their products, I would say the large majority, if not all of them, should be 510(k) products, which would mean they're not going to require clinical trials as we bring those products across into U.S.

[Nathan Jones, analyst]

So it should be a fairly smooth transition till you're able to sell their products in the U.S. Okay. And then my follow-up for Matt. Matt, you talked about some products, some business going into backlog rather than going to competitors, which is reasonable. Everybody's got the same kind of supply chain challenges.

Can you give us some idea of the scale, of the amount of revenue that you think is sitting in backlog at the moment that would have otherwise run through the P&L during the first half of the year and when you expect that to normalize?

[Matthew Trerotola, executive]

Yes, Nathan, I'm not comfortable giving the scale, but I will say that each of the businesses have some excess backlog as we clear midyear here. And we expect likely most of it to run through. Again, what's in the backlog now will run through. It's just a question of how the order flow comes as to whether there's still an elevated backlog as we exit the year. But I think it's -- there is some opportunity here. And I think we feel like in both the businesses, we probably had a situation where we hear from the marketplace that we're doing at least as well, if not better, than our competitors in terms of serving the marketplace. And certainly, when we look at our growth, whether it's year-over-year or from '19, we feel like across both the platforms in Q2 and year-to-date, we feel like we're showing very strong organic growth versus our peers and outperforming even with some revenue going into backlog.

[Operator]

Next question from Joe Ritchie from Goldman Sachs.

[Turner Hinrichs, analyst]

This is Turner on for Joe Ritchie. So you all mentioned you're guiding to core EBITDA margins 20%-plus for MedTech. What is core EBITDA margin's trend in MedTech so far this year in the first half? And what's the framework for improvement going forward in 2H?

[Christopher Hix, executive]

Yes. The margin progression in this business is linked to the sort of seasonal revenue progression as well, so that you typically see the lower margins in the first quarter and you see the strongest margins in the fourth quarter. That's been a demonstrated pattern in the business, and that's one that we would expect to see continue to play out as you get the operating leverage on the higher revenues. I'm sorry, what was your other question?

[Turner Hinrichs, analyst]

How it's going to shape out for the second half?

[Christopher Hix, executive]

Yes. So we would expect to see the same sort of progression for this year. And so we've given our expectation for the total margins for the year. And on a core basis, we've said we've broken out the acquisitions as well. We feel like we're well on our way to achieve that step-up in margin. And as we've talked about, we've also got the clear path to 25% on a sort of longer-term basis there as we continue to reshape the portfolio, driving faster growth and drive the benefits of CBS in the business, just as we've done with -- you've seen us do with ESAB and other businesses over time.

[Matthew Trerotola, executive]

The only thing I'd add -- I'd just add there, we had a big, nice step-up in core EBITDA margins from Q1 to Q2. As we talked about, even with a little bit of pressure, Q3 tends to be a little more kind of seasonally lower than Q4. And so we expect to have a little bit of improvement in core margins as we move from Q3 to -- Q2 to Q3 and then really significant opportunity in Q4 as we hit the highest revenue quarter as well as when we expect to have more of these temporary costs behind us.

[Turner Hinrichs, analyst]

Great, great. That makes a lot of sense. If I could ask a question about sort of M&A plans. I mean looking at your Investor Day, you outlined a few areas in the ortho market that you're not yet playing. With the Mathys acquisition, you've got into sports medicine. Could you talk about whether future M&A is going to be more focused on building out of that portfolio versus going internationally? And specifically, also referencing the 2019 Investor Day, like you gave some points on portfolio breadth and same surgeon sales. I'm wondering how long that's progressed and how your future sort of targets for M&A will incorporate those same things.

[Matthew Trerotola, executive]

Yes. So Brady can come maybe on same surgeon sales in a sec. But as far as where we're thinking about going with M&A and MedTech, I think we've been consistent with our comments here and talked quite a bit about Investor Day, and I'll reiterate that here. We see quite a bit of opportunity in the existing ortho markets where we participate today, great bolt-on technology adds that we can do in our existing businesses like some of these, again these great foot and ankle adds we've done after the first foot and ankle acquisition, like the LiteCure add that shaped P&R into a positive direction. We see more of those kinds of bolt-ons to do in the core markets where we participate today. We also see opportunities in the broader ortho space. But we've got a view into that whole space based on how we compete in surgical and our P&R business. And as we think about where else to move in the orthopedic space, we'll be very focused on things that enhance our growth and margin profile the way that foot and ankle did.

And then there's logical adjacencies for us to look at as well that are adjacent to where we are in ortho and opportunities to move into high-growth, high-margin areas. So a rich pipeline of opportunities that we're going to execute through. And certainly, a number of those do create same surgeon growth opportunities. I don't know, Brady, do you want to talk a little bit about, for example, how the foot and ankle acquisitions, as we put them together, have created same surgeon crossover opportunities?

[Brady Shirley, executive]

Yes, sure. And you certainly would see that both with what we've done in foot and ankle if you take -- if you look across that platform with MedShape and Trilliant. For instance, Trilliant has had predominant focus in application on the forefoot, MedShape in the hindfoot. And then with the staples, actually, both had staples where MedShape was -- certainly had a stronger share that plays into the midfoot towards the forefoot. What we're seeing as we're putting those businesses together, same surgeons doing procedures all the way across, including ankle, total joints. And so that cross-selling is one of the big opportunities. Now we're early there, but we're very confident in our ability to take share as we go.

Additionally, as you look into upper extremities and when you think about strategically what we're doing from an M&A perspective, the shoulder arthroplasty surgeons that we work with historically in the U.S. and today around the world are going to do about 50-ish percent of their procedures are arthroplasty. And the balance of those are sports medicine and trauma in the shoulder, those same surgeons. And so there are a number of opportunities as we expand our business and technologies within the same group of surgeons in same-store sales, you might say, with deep customers with long-term trusted relationships with us.

[Operator]

That is all the time we have today for questions. Mike, please go ahead.

[Michael Macek, executive]

Thanks, everyone, for joining our call today, and we'll talk with you soon. Thank you.

[Operator]

That does conclude our conference for today. Thank you for participating. You may all disconnect.