Merck KGaA

XETRA:MRK

Earnings Call Transcript 2022-Q1

[Operator]

Dear ladies and gentlemen, welcome to the Merck Investor and Analyst Conference Call on the First Quarter 2022. [Operator Instructions] May I now hand you over to Constantin Fest, Head of Investor Relations, who will lead you through this conference. Please go ahead, sir.

[Constantin Fest, executive]

Thank you very much, Kevin. A very warm welcome to this Merck Q1 2022 Results Call. My name is Constantin Fest. I'm Head of Investor Relations here at Merck. I'm delighted to have here today with me Belén Garijo, CEO of the group; as well as Marcus Kuhnert, CFO. Also joining for the Q&A part of this call are Matthias Heinzel, CEO of Life Science; Peter Guenter, CEO of Healthcare; as well as Kai Beckmann, CEO for Electronics. We would like to now run you through the key slides of this presentation, followed by a Q&A.

And with this, I'd like to directly hand over to Belén Garijo, Group CEO, in order to kick off this presentation. Over to you.

[Belén Garijo López, executive]

Thank you very much, Constantin, and welcome, everyone, also from my side to our Q1 earnings call. Please go to Slide 5 of the presentation, starting with the highlights. Overall, we came strong out of the gate with our Life Science sector being the key driver. Organically, our revenue for the group increased by almost 8% and EBITDA pre was up by 1.6% against tough comparables in 2021. Paired with significant currency tailwinds and a small portfolio effect, reported sales and EBITDA pre amounted to EUR 5.2 billion and EUR 1.6 billion, respectively, while EPS pre of EUR 2.41 billion was up 11% year-on-year.

Even mounting supply chain and inflationary pressure, the operating environment is increasingly challenging, as you very well know. However, thanks to the outstanding commitment of our global teams, we are navigating these challenges reasonably well, and we continue to make significant progress with our strategic agenda. Based on the strong Q1 performance and a positive outlook for the remainder of 2022, we are now confirming our full year guidance. And as usual, at this time of the year, we are getting more specific, anticipating net sales in a range of EUR 21.6 billion to EUR 22.8 billion and EBITDA pre of EUR 6.6 billion to EUR 7.1 billion with EPS pre of EUR 9.60 billion to EUR 10.50 billion. More details on our assumptions later in the presentation.

Turning to Slide #6, an overview of our performance by business sectors. As you can see, all our 3 business sectors contributed to strong organic sales growth in Q1. Our key growth engines, so-called BIG 3, Process Solutions, Semiconductor Solutions and the new Healthcare launches are very well on track. And those account for almost 90% of the growth in the quarter. Life Science was once again the key driver with sales rising to 10% organically, followed by Healthcare with almost 7% and electronics with 5%.

Currency was a significant tailwind across the board, adding 4.4% to the group revenues and 6.4% to group EBITDA pre. The acquisition of Exelead, which closed, as you know, in February also contributed slightly to sale, while drag is slightly on earnings due to [ patients ]. Within Life Science, growth was entirely driven by the strength of the core business while the COVID sales were slightly dilutive to both and significantly down from Q4 levels. Despite lower in COVID sales, Process Solution continues to stand out with 13% organic growth, Applied is on par this quarter also delivering a remarkable 30% while Research was up by 2% against very tough comparables of Q1 2021.

Solid organic growth in Healthcare was driven by 50%, 5-0%, growth from recent launches, mainly Mavenclad and Bavencio, while the established portfolio remained stable. From a franchise perspective, oncology was the highlight of the quarter with organic growth of almost 30%. In Electronics, our Semi business delivered very strong organic growth of 16% more than offsetting the decline in Display while Surface was slightly up. Regarding earnings, EBITDA pre came in at EUR 1.63 billion leading to a strong margin of 31.3%, slightly down year-on-year.

The margin in Life Science, however, increased with EBITDA pre growth of over EUR [ 130 million ] in absolute terms.

Moving on to Slide 7. You see the regional breakdown of the sales and overall, a performance that is broad-based with organic growth across all the regions. This is yet another strong testament to the global relevance of our very well-diversified portfolio. Among our largest regions, Europe was the fastest growing in Q1 with sales up 11% organically, followed by Asia Pacific with 7% and North America with 5%. Life Science delivered double-digit organic growth in all of these regions, while Healthcare and Electronics were up in Europe and Asia Pacific. Overall, our geographic footprint remains nicely balanced with a significant exposure to strategic growth markets in Asia Pacific at 36% of our sales followed by Europe and North America, both at 28%.

With this, let me hand the call over to Marcus for some additional detail on our Q1 results. Marcus, over to you.

[Marcus Kuhnert, executive]

Thank you very much, Belén, and welcome also from my side. I'm now moving on to Slide #9 for an overview of our key figures for the first quarter. Overall, we had a strong start to 2022 with double-digit growth in sales and earnings per share pre. Taking into account significant currency tailwinds and a small portfolio effect from the acquisition of Exelead, net sales increased 12.2% to EUR 5.2 billion, EBITDA pre was up by 7.8% to EUR 1,629 million, and EPS pre rose 10.6% to EUR 2.41. Operating cash flow came in at EUR 840 million, down 31% year-on-year, mainly due to phasing effects on payables and tax positions.

Net financial debt increased by EUR 475 million compared with the end of December, mainly due to the acquisition of Exelead, while our net debt-to-EBITDA pre ratio remained stable at 1.4x.

Let me briefly comment now on our reported results on Slide #10. EBIT increased by EUR 130 million in the first quarter in absolute terms, which is basically in line with EBITDA pre. The financial results improved significantly mainly due to lower interest expenses from lower interest on tax liabilities and reduced financial debt. The effective tax rate came in at 22.4%, so in the lower half of our guidance range. Net income and reported EPS both increased by more than 17%.

With that, let's move on to the review by business sector, starting with Life Science on Slide #11. Life Science had a strong start to the year with sales up 9.7% organically. Within this, the core business showed robust performance with organic sales growth of 11%, while COVID sales were slightly dilutive to growth and significantly below Q4 levels. From a portfolio perspective, Process Solutions remains the key driver with sales up 13% organically. Here, the core business increased by 15% organically, while COVID impact turned negative at around minus 2%. Bioprocessing led the growth, followed by actives and formulations. [ The increased ] capacity in bottleneck areas further, although output was temporarily impacted by supply challenges at the beginning of the quarter.

The order intake continued to grow despite tough comps and the order book remains strong. Research Solutions delivered organic growth of 2.1%, which is remarkable in light of very tough comparables. Solid organic growth in the core business of 5% was dampened by lower COVID sales, which were up sequentially though given temporarily higher testing activity amid the Omicron wave. Applied Solutions had an outstanding quarter with organic growth of 13% in a strong market and broad-based performance across all business lines.

As a reminder, our COVID sales in Applied are negligible. Geographically, we recorded double-digit organic growth in all major regions. From a customer perspective, we saw double-digit organic growth in Industrial and testing and in pharma and biotech, while academia was slightly up and diagnostics down by double digit amidst lower COVID demand. The lockdown in China did not impact Q1 much. However, we do expect a significant effect in Q2. With regard to earnings, EBITDA pre cracked the EUR 900 million mark for the first time, rising 12% organically with a record margin of 37.9%. Plus 70 basis points increase in the margin reflects a positive product mix in the core business as well as operating leverage and favorable pricing, partly offset by a lower share of COVID business and ongoing strategic investments.

That said, please note that we continue to expect a slight margin contraction for the full year.

Moving on to Health Care on Slide #12. Healthcare also had a strong start into the year with sales up 6.5% organically driven by, as Belén just mentioned, a 50% growth of our recent launches and flattish sales in the established portfolio. By franchise, oncology was a star performer with organic sales growth of 27% up. This was fueled by continued strong launch momentum of Bavencio, especially in Europe, with sales more than doubling year-on-year and strong growth of Erbitux at plus 10%.

Our N&I franchise reported slight growth of round about 1% as the ongoing decline of Rebif at minus 15% was more than offset by further ramp-up of Mavenclad, up 25% organically amid a flat U.S. dynamic market. The Fertility franchise rose 4% organically, in line with our midterm guidance with growth of Gonal-f in most markets. Sales in CM&E increased by 2.5% organically, supported by strong Euthyrox and Concor performance while Glucophage was down due to still tough comps related to the VBP program in China.

In terms of our pipeline, let me focus first on evobrutinib. The war in Ukraine has posed a challenge to every pharma company that is running clinical studies in Ukraine and Russia. We are no exception in this regard. Therefore, we have taken additional measures to ensure the integrity of our studies which include looking for patients outside of these countries. Also for the pipeline, we have advanced enpatoran, our highly selective and potent dual TLR7/8 inhibitor to Phase II development.

Regarding earnings, EBITDA pre came in at EUR [ 529 ] million, down 7% organically with a margin of 29.5%. Please note that the 300 basis points margin contraction was mainly due to tough comps. In particular, Q1 last year included nonrecurring income of around about EUR 75 million, comprising of around EUR 50 million for 2 Bavencio milestones, some EUR 20 million from GSK deferred income and about EUR 5 million from active portfolio management. Q1 this year included nonrecurring income of only around EUR 15 million stemming from active portfolio management and fully in line with our low double-digit million euro guidance. Adjusted for these differences in nonrecurring income, the margin would have been about stable.

That said, we confirm our full year guidance for income from active portfolio management in the low to mid-double-digit millions and expect another low double-digit million euro amount in the second quarter.

Turning on to Electronics on Slide #13. The Electronics had a solid start to the year with organic sales growth of 5.2%. Semiconductor Solutions remained the key growth engine with sales up 16% organically, once again exceeding our midterm guidance. This strong performance was fueled by mid-teens growth in Semi materials, given strong demand across all material categories and further contributions from project business in DS&S. Sales in Display Solutions were down minus 12% organically, mainly due to a continued decline in liquid crystals, which was accelerated by a lower utilization at some of our Chinese customers.

Surface Solutions was roughly stable with sales up 1% organically as growth in cosmetics more than offset the decline in coatings against tough comparables and amid challenges in the automotive industry. The EBITDA pre amounted to EUR 289 million, up in reported terms but down 6% organically. The margin declined 160 basis points year-on-year to 30.2%, mainly due to gross margin pressure from inflationary developments.

Before handing back to Belén, let me also comment briefly on our balance sheet and cash flow statement.

You can see on Slide 14, our balance sheet expanded slightly compared to the end of December. Main drivers behind this development were strong growth of the business and FX. In addition, the acquisition of Exelead, which was fully financed from existing cash resources, resulted in some shifts on the asset side, especially in a reduction of cash and cash equivalents and the difference between purchase price and equity at the moment sits entirely in the intangible assets as goodwill.

On the liability side, we saw a decline in pension provisions due to actuarial gains which together with retained earnings and positive FX effects drove net equity higher. As a result, the equity ratio improved further from 47% to almost 50%.

Turning to cash flow on Slide 15. Operating cash flow came in strong at EUR 840 million, although it was down significantly compared to Q1 last year, mainly due to phasing and with respect to tax positions and payables. Cash out for investing activities significantly increased primarily driven by the acquisition of Exelead as well as higher CapEx to support our growth ambitions. And last but not least, the difference in financing cash flow can be explained by higher repayment of financial debt. And with that, let me hand back to Belén for an update on ESG and the outlook.

[Belén Garijo López, executive]

Thank you, Marcus. I'm now on Slide #17 to share with you a brief update on ESG and mention an important milestone that we have achieved on our road map. In the past couple of months, we have been intensively evaluating our path towards climate neutrality by 2040. You may remember that as part of this ambition, we set targets for limiting our Scope 1 to 3 greenhouse gas emissions by 2030. The following emission targets have now been confirmed by the science-based target initiatives as being science-based with our absolute production target of minus 50% for both Scope 1 and 2 emissions, we even exceed the SBTi requirements to limit global warming to 1.5 degrees.

And for Scope 3 emissions, SBTi confirmed an intensity reduction target of minus 52% in relation to gross profit. To achieve our goals, we have started various initiatives and invested in technologies for the reduction of process-related greenhouse gas emissions, the purchase of renewable electricity and energy efficiency. In addition to our climate targets, we have launched several programs to further improve our waste score. For example, our smart packaging initiative in Life Science will be now extended by additional projects like smart [indiscernible] packaging in electronics and the so-called [ Slim Pack ] in our Fertility franchise.

More details can be found in our sustainability report 2021, which was published a month ago. And with this, let me go straight to the outlook. Before I give you the numbers, let me refer to the comments that I made earlier about the increasingly challenging operating environment.

Now I am on Slide 19. As you may remember, we already addressed the topic of pricing, inflationary and supply chain pressures during our Q3 earnings call back in November 2021. Well, since then, the situation has further evolved to say the least, and in particular, the war in Ukraine and the recent lockdowns in China have created new challenges and added to the existing ones. While we are obviously preparing for different scenarios, this chart summarizes some of the key assumptions and mitigated actions that serve as the basis for our guidance. For example, we assume energy supply shortages will last throughout the remainder of the year but will be limited to EMEA with no outages expected.

We anticipate continued volatility and upward pressure on input costs, but assume only very minor raw material shortages. And with regards to the lockdowns in China, we assume that the situation will normalize around the end of Q2 and that we will be able to make up for the lost business, especially in Life Science and Electronics afterwards in H2 this year. To be clear, should the lockdowns in China extend significantly beyond June, we believe that this is still covered by our guidance range. In response to these challenges, we are considering alternative sales and production channels. We are passing on higher input costs via price increases when and whenever this is possible. We have also increased our safety stocks for critical raw materials. And of course, we are actively monitoring our supply base.

[indiscernible] that as a science and technology company, we continue to act from a position of strength when it comes to navigating the challenging situations, our margins are attractive, our end markets are strong, and our systems and processes are designed to flexibly adapt to a rapidly changing environment and effectively protect our business.

With that, I'm going to Slide #20, let me take a closer look at the numbers. We now expect group net sales in 2022 in a range of EUR 21.6 billion to EUR 22.8 billion, with EBITDA pre in a range of EUR 6.6 billion to EUR 7.1 billion and EPS pre in a range of EUR 9.6 billion to EUR 10.5 billion. This is based on organic sales growth of 6% to 9% and organic EBITDA pre growth of 5% to 9%, in line with our qualitative guidance that we provided to you in March. Currency is expected to continue to provide tailwinds between 3% and 6% for sales and 4% to 8% for EBITDA pre against 1% to 4% and 2% to 5% guided before, and this is mainly due to the further strengthening of the U.S. dollar.

For some additional color by business sector, please go with me to Slide #21. And as you see here, we continue to expect organic sales and earnings growth in 2022 to be supported by all 3 business sectors. We also still expect Life Science to be the fastest-growing sector in terms of sales, followed by health care and electronics. Within Life Science, we see an improved outlook for the core business, offsetting our reduced COVID expectations, and this is simply a strong testament to the quality and sustainability of growth in our Life Science sector, our largest business sector.

Regarding COVID, we now expect COVID sales in Process Solutions of up to EUR 700 million versus the up to EUR 900 million that we previously announced. While we confirm our guidance for below EUR 100 million in reserve solutions. We also still expect the margin in Life Science to be slightly down year-on-year. For Health Care, our quantitative guidance is in line with our qualitative statements from March. And in Electronics, we have become slightly more cautious on margins due to the inflationary pressures that we are expecting.

With that, thank you very much for your attention, and we will now be happy to take all your questions.

[Constantin Fest, executive]

One remark from my side. I would kindly ask yourself -- ask you to limit yourself to a maximum of 2 questions per person. This will allow all of your questions to be heard in the first place. Thank you very much, and let's start with the Q&A, please.

[Operator]

[Operator Instructions]

And the first question today comes from Matthew Weston of Credit Suisse.

[Matthew Weston, analyst]

Two questions, please. The first is on Life Science growth. And Belén, I fully hear your optimism about the growth trajectory of the business, but I'm a little bit confused about making the numbers add up. In Q1, you did 10% organic growth, and it was an easy comp for COVID. Marcus has already mentioned that China will be a noticeable drag in 2Q. But your guidance suggests that the underlying growth must be really going to accelerate in Life Science in the second half of the year.

And I just really love to understand what's driving that acceleration? Is it new capacity that you added? Is it good visibility on the order book? Any commentary would be really reassuring.

And then the second question, you mentioned that extended Chinese lockdown is included within your guidance range or captured within your guidance range. But I'm very interested around German energy rationing. And I realize it may not happen, but I would love to understand what proportion of your business relies on German-domiciled manufacturing? And what can you do to protect it given the uncertainty as we go into year-end?

[Belén Garijo López, executive]

Matthew, let me get the second question and then I will ask Matthias to comment on Life Science growth. So I assume you are referring to the gas -- the potential gas embargo in Germany. So if there would be a gas embargo, of course, our main risk would be in Europe and Darmstadt makes 50% of our gas consumption in Europe. So obviously, from the very beginnings of the context of the war, we have been articulating our mitigation plan, and we are now very highly confident that we are prepared, very well prepared to avoid any disruption on our production sites in Darmstadt. But perhaps, Kai can offer a couple of more details on what is within that plan.

[Kai Beckmann, executive]

Matt, this is Kai speaking. So our plans foresee to replace our gas consumption by other energy sources, including oil and the grid for electricity. And with that, I think we are confident to cover [ full space ] in order to stay productive with our production in Darmstadt.

[Belén Garijo López, executive]

Matthias?

[Matthias Heinzel, executive]

Matthew, it's Matthias. Let me cover your question. Indeed, I mean, we are fully confirming our guidance for the year for Life Science of 7% to 10%. And it's indeed important that we dissect the demand dynamics from the core business. As we have demonstrated in this quarter, although COVID is declining, we have offset that with a very strong core business growth. Essentially, [ PS ] core is 2 points above the overall number for Process Solutions and also Research Solutions, where we show the 2% for the total business, if I extract the core business, we're up 5%.

A key driver for our confidence into the full years also, like you mentioned, the order intake and the order book. If I look at the order intake, so all the orders coming into the quarter booked in the quarter, they are still going up. So order intake is slightly up year-over-year. It's slightly up sequentially. And while it's declining for the COVID portion of the business, it is substantially up for the core business. So if I take that all together, yes, I mean, we are navigating, as Belén mentioned, a lot of the macro challenges, but we're very confident in our core business. And we also, as we mentioned before, we have a growing base of capacity, which is coming online. So this growing core demand is meeting now our growing capacity.

[Operator]

Our next question comes from Richard Vosser of JPMorgan.

[Richard Vosser, analyst]

One question on the Ukraine impact on clinical trials. Marcus, you highlighted looking for additional patients as 1 of the measures across your clinical trial program, which makes sense. But how should we think about the time line impact and in particular on evobrutinib, if you can say anything to that? Just some more color there would be very helpful. And then maybe also a pharma-related question on Mavenclad. You highlight a 15% increase in demand of new patients in the U.S., which looks good. How are the ex U.S. dynamics on Mavenclad in terms of new patients and returning patients. That would be helpful, too.

[Peter Guenter, executive]

Yes, Richard, thanks for your questions. So I'll tackle both. First, on evobrutinib, as Marcus mentioned at the beginning, and this obviously is not a surprise to you. It's a challenging situation from a clinical trial perspective, and that is a generic thing within the industry and definitely not limited to Merck. A couple of points on the mitigation. So first of all, we mentioned before that we have put in place a number of proactive measures, for example, increasing study mitigation, stock levels in the affected regions. And what we also did is work hard to ensure that we keep patients on study in the affected territories, for example, by moving them to areas where they can continue to participate in our study whether that is in Ukraine or by the way, outside of Ukraine.

Now to really answer your question, and to Marcus' point, so we have indeed decided to add additional patients outside of these countries. And we also took the opportunity and that's important to amend our protocol to make it event-driven, which we believe is the best approach under these circumstances. And this design, which, by the way, is commonly used in [ NS trials ], as you know, it was submitted to major health authorities, and it will allow us to leverage more data from the remaining patients in the trial and help to mitigate the impact caused by those circumstances.

Regarding time lines, you heard us speaking before the war about having the clinical trial data in-house in Q4 2023, and we are still aiming for this given all the mitigating measures and the change in protocol, which I just explained to you. Of course, given the fact that the protocol is now event driven, the exact data would depend on the accrual of the necessary events like the other key competitors in the BTKi space.

Regarding your question on Mavenclad. So you mentioned indeed new patients up 15% in the U.S. Let me make you a little correction here. This is the new patients up globally. This is not necessarily in the U.S. To give you a little bit more color in the U.S., the high efficacy market still depressed, as you have also heard from some of our peers in that market. But the good news is that we keep our market share, contrary to, for example, [indiscernible] piece, we are losing market share against the anti-CD20s.

And then on the other side of the Atlantic in key countries in Europe, we have strong positions, and we continue to reinforce those positions because we continue to gain market share in the dynamic segment of the high efficacy market. So overall, with the EUR 189 million, we came in right spot on the consensus, and I'm optimistic as the year unfolds to see the fruits of this relatively good dynamic in new patient starts.

[Operator]

The next question comes from Gary Steventon of BNP Paribas Exane.

[Gary Steventon, analyst]

Just a follow-up on Mavenclad and perhaps the Healthcare guidance, please. So it looks like the health care top line guidance might be slightly widened just translating the previous [ solid ] into the new 4% to 7% range. So it would be helpful if you could share your thoughts here and what kind of recovery for Mavenclad might be assumed in a 4% growth scenario versus 7% or really what the key swing factors are for that perhaps slightly widened Healthcare guidance?

And then a question on Life Science and China as well, please. I think it would be helpful if you could just remind us of the sales exposure for each of the 3 divisions to the Chinese market. And then specifically on Life Science, you recently announced the investment in single-use capacity for bioprocessing. So I'm just wondering how this fits within the network. Is it mainly to service the domestic Chinese market? And if so, kind of how a significant driver of future growth, do you think China should be? Or is it more and to shift production out to kind of European and U.S. markets on a relative basis, which might support margins longer-term?

[Peter Guenter, executive]

Yes. So thanks. I'll take the first question. So within the 4% to 7% it's not really one single product or one single reason. There are plenty of things where we are in the range, right, especially with recent launches. So Mavenclad obviously is part of that variability of the range but also Bavencio, we still have a lot of launches to come. So we don't know exactly when pricing and reimbursement occur. This is always a little bit variable. And for example, I can tell you in the case of Bavencio that we just got the reimbursement in Spain in May, and we got a reimbursement in Italy in April.

So we continue to rollout of the product as we speak. But of course, this comes with a certain degree of variability. And then perhaps the last element, I would add to that is the Fertility in China. Although Fertility in China is less than 20% of the worldwide sales of Fertility, of course, we may see in certain parts of China, for example, Shanghai, certain temporary effect of the lockdowns on the Fertility business.

[Matthias Heinzel, executive]

All right. Thanks, Peter. It's Matthias here. Let me then cover your 2 questions on Life Science. First of all, around China. Overall, our regional split is in a way that total Asia is about 25% of total Life Science and China is about 10%, and that's spreading across our entire business from Process Solutions, Research and Applied.

First of all, I mean, we are fully operational in our plants in China and in Nantong, Wuxi, right? We are fully operational. However, as most of the other companies, we are impacted by the lockdown, especially in the Shanghai area. So that's certainly having a short-term impact on us, especially as we look into the Q2. There was no impact in Q1, but obviously, getting stuff out of the warehouse is currently a bit challenged. Depending on how long that goes, we expect that to recover that for the full year. So that is all kind of baked into our guidance.

And then the second part of your question around single-use. As of today, we have a strong footprint in the U.S. in our facility in Denver for single use. We have announced a regional expansion into Europe, we went live with our [indiscernible] facility with kind of 2 steps. And now we announced the single-use capabilities built up in Wuxi, China. And indeed, at the end of the day, we want to have a very strong regional footprint. So essentially, the China facility should serve the highly growing market out of China.

[Operator]

And the next question comes from James Quigley of Morgan Stanley.

[James Quigley, analyst]

I've got a couple on margin development. So in Electronics, would you be able to give us a little bit more color on the EBITDA development. You mentioned maybe the bottom end of the guidance is nudged down a little bit. But can you give us an -- some more sort of details on your pricing initiatives in semis and any other levers you have in -- or may not have in Display Solutions and Surface Solutions.

Then in pharma. You mentioned in the release that R&D was down in absolute terms. So how should we expect this to trend through the rest of 2022? And can you talk to your flexibility for investment in pharma that comes with the termination of the bintrafusp program in lung cancer. Do you have any plans to accelerate investment in certain areas or leave flexibility for in-licensing or the R&D attached in-licensing? Or should we expect the R&D savings continue to be an EBITDA driver? So any thoughts there would be great.

[Kai Beckmann, executive]

James, I take the electronics question first. So you asked about the margin development in Semi, Semi do have a pricing levers. And we have stable margin development in Semi while we already started, of course, investing into future growth with additional R&D investments as well as our capacity investments, which definitely weigh on margins too. So there is currently -- there is no margin progression. However, we enjoy a stable margin.

In Display, the margin development is continued impacted. This is not a situation that is based on the inflation. That is the market development that we have reported for a couple of quarters meanwhile a couple of years. And this is at present not any more fully compensated by the Semi development. In Surface we do have pricing -- positive pricing environment, too. So in Surface, we even expanded our margin slightly, which is [ 2 parts ], based on our transformation activities and cost initiatives in Surface too. So there is a combination of different factors. That in a mix has led to the margin assumptions that we have put forward in our guidance.

[Peter Guenter, executive]

Yes, James, so the question on R&D spend, what you should expect moving forward is the ratio that we have today is going to be more or less stable as a percentage to sales. And as you know, there is lots of moving parts, right, in the R&D spend, to your point, in the [indiscernible]. You have seen in the catalyst that we have bought enpatoran into Phase II studies that we will start [indiscernible] trial during summer. And so I think that when we look at the portfolio of R&D that we have enough flexibility to continue to do what we have to do and to maximize the assets that we have, but at the same time, making sure that our ratio to sales remains more or less in the ballpark that you see now.

[Operator]

Our next question comes from Sachin Jain of Bank of America.

[Sachin Jain, analyst]

Just 2 quick questions, please. So firstly, for Process COVID. So you just commented the phasing of COVID sales you expect across the year. I think the first quarter was EUR 150 million is -- should we expect that a fair run rate for the remaining quarters? Just trying to get an idea of what drags to expect from COVID going forward, given the different phasing in '21?

And the second one is just an update on Mavenclad patent term extension. I think it was rejected in the U.S. and you appealed it and you're still pending to hear from a couple of European countries, Germany and U.K. So any update there would be very helpful.

[Matthias Heinzel, executive]

Yes. Sachin, it's Matthias. Let me answer your first question. Indeed, I mean, we are expecting more flattish kind of development in COVID with maybe a slightly decline over the quarters, and that's what we have kind of used for our adjusted kind of top line guidance. At this point, and of course, it all depends on how the virus and the rollout of the virus kind of develops. But with Omicron prevalent, more milder symptoms, we expect that this rather remains flattish and not kind of growing throughout the year.

[Peter Guenter, executive]

Sachin, your question on Mavenclad patent situation, the short answer is there is no update. So in the U.S., the patent term extension appeal is still pending. And as you know, in Europe, we have obtained a certain number of [ SBCs ] in some key countries such as Spain, France and Italy. And the other request for the [ SEPs ] are still pending. These are processes country by country, and so we have to wait what comes out in the future.

[Operator]

And we can go to Keyur Parekh of Goldman Sachs.

[Keyur Parekh, analyst]

Two questions, please. The first one, just wondering if you can give us a bit more precise guidance about the flow or from a quarterly perspective. Clearly, you're flagging some headwinds into the second quarter and a recovery kind of into the second half of the year. Just wondering, as we think over kind of year-over-year for the second quarter, kind of what, how you would characterize it?

And then separately kind of from a cost inflation perspective, I think kind of Slide 19 talks to it a bit. Just wondering kind of if you can be a bit more quantitative of what is kind of priced in or what is kind of assumed in your guidance, especially relative to input costs.

[Belén Garijo López, executive]

Look, we usually don't give a precise quarterly guidance, right? The challenges that we spoke about on Q2, exclusively referring to the China lockdowns, which didn't have any influence on our business or very little influence on our business in Q1. And obviously, we have made assumptions for Life Science and Electronics and Healthcare, as Matthias mentioned before, we are expecting Q2 to be highly dependent on the way the lockdowns evolve. We have distribution challenges basically. So we are expecting to catch up on those sales in future quarters, but this is the only specific challenge that I mentioned for Q2. Marcus, do you want to speak about the inflation?

[Marcus Kuhnert, executive]

There's also not much to add from my perspective. So as we outlined in the guidance, we believe that relatively high inflation is going to prevail throughout the entire year 2022, which is driven on the one hand by some raw material cost challenges, on the other hand by elevated freight logistics cost and also energy prices, which has, by the way, also hit us in the first quarter. So there, let's say, on the inflationary side, there should be not so much news actually when we further move into the year.

The major topic that might drag down the second quarter a little bit is, as Belén just mentioned, a more visible impact from the China lockdown, which also what we said, which we expect to relieve them step by step when we enter into the second half of the year.

[Operator]

We can go to Falko Friedrichs of Deutsche Bank.

[Falko Friedrichs, analyst]

My first question is, could you precisely quantify the COVID-related sales in Q1, I'm sorry, if I missed it. And then the second question is on the semiconductor materials business. And whether there's any risk that the demand side could potentially be negatively affected by everything that's going on around us on a macro level, be the inflation, everything or whether that is not so much of a risk going forward.

[Matthias Heinzel, executive]

Yes. Falko, it's Matthias here. As I mentioned before, I mean, we gave you an upper end of the guidance for COVID number of about EUR 700 million. And I think your colleague before asked and did the math around how Q1 kind of phased out over the year that gives you kind of an indication how Q1 was. I mean if you kind of annualize it, I think you're pretty close to that.

[Kai Beckmann, executive]

I may take the semi question. we don't have any negative perspective from our customers on the demand side. It's the opposite of the case. They are running on a full UT in their factories. They are still catching up what is known as the chip crisis and this backlog continues. So the market forecast is on 8% growth in MSI or wafer starts which is pretty intact. So here, we are prepared for continuous high demand on the end use in all different areas of semiconductor.

[Operator]

Our next question comes from Daniel Wendorff of ODDO BHF.

[Daniel Wendorff, analyst]

2 from my side. So 1 one question on Life Science. The strong underlying demand development for your core business, in particular, also in Process Solutions. Maybe you can talk a bit about where this is coming from? And you mentioned also the strong order development in Process Solutions. I would be interested in a number like order intake growth, excluding the COVID part. So if you can help me there, that would be nice. And then a follow-up question on Falko's question really for Electronics or semiconductor solutions. Is there any risk that you might see supply chain topics rising for you as a supplier and also depending on certain products. To my understanding, that was also part of the business in Display Solutions, but maybe you can provide some color here.

[Matthias Heinzel, executive]

Yes. Daniel, it's Matthias. Let me address the first question. So first of all, when we talk about our strong core business, it really goes across all the 3 businesses. Research, Applied and Process Solutions. They all had a very strong, if you will, core business growth, right? We usually talk about Process Solutions. But if you look at Applied as well, that was very strong and also Research, if I take out COVID [ the 5% ] really also about our midterm guidance. And it goes across sector. Obviously, we are strong in pharma biotech but also in Applied, for example, we have industrial testing, which goes also in the food and beverage industry. Also here, we saw a very nice, very nice update.

So the key point is here, it really goes across all business segments and across all regions. Secondly, your question around Process Solutions. Actually, we are not splitting out our order intake into further details. But as I mentioned before, we are seeing year-over-year still a slight order intake increase and also a sequential from Q4 to Q1, a sequential order intake increase with a very healthy still book-to-bill ratio. And then very important, the dynamics within this order intake and leading to a strong order book that the quality, if you will, and the spate of the business is much more now towards the core of the business versus COVID. So sequentially, if you ask me, the core business order intake is up substantially Q4 to Q1.

[Kai Beckmann, executive]

Daniel, let me take the Semi supply chain question. So we're managing supply chains in a couple of quarters very, very tightly. And kudos to the supply chain team, raw materials are tracked one by one, dual sourcing for whatever is possible, checking on dependencies, direct and indirect. And looking into port congestions last year U.S.; this year, China, we have not let down any of our customers with any missed delivery.

So this is very, very tightly monitored. We Don't have a crystal ball, but we don't foresee any limitations on our side. Of course, we stay in contact with our customers, whether they are dependent on other materials and may see shortages nothing of that was mentioned so far. And it's how we track supply situation. From today's knowledge, we don't foresee any shortages.

[Operator]

Our next question today is from Simon Baker of Redburn.

[Simon Baker, analyst]

Two questions. Just continuing on the question of the semi cycle. One of my colleagues is at the SPIE Lithography Conference a couple of weeks ago and got the impression that EUV take-up is probably slightly slower than some people expected. So I just wanted to get your perspectives on that and frankly, how much it matters to Merck. Are you positively or negatively exposed to a faster rollout of the EUV. Does it not really make much difference?

And then secondly, on Healthcare, at the end of April, there was a paper in nature suggesting that somebody has found TLR7 [ gain of function ] genetic variance which obviously all goes well for your efforts with enpatoran in lupus. I just wanted to get your perspectives on that and whether you are conducting or have conducted any sequencing in the planned Phase II study that started in Q1.

[Kai Beckmann, executive]

Simon, on the SPIE discussion on EUV, it's a delay. It's still a small portion of the materials business is related to EUV across the industry, not just for us. So that delay of the adoption of EUV is not material. On the other side, we see an acceleration of node transitions on all our leading-edge customers, probably if you look across the industry, more of the opposite that we can see right now, that's indicated easily monitored by our R&D projects that even see some accelerations on, I don't know, going to [indiscernible] layers NAND and smaller node sizes in advanced logic. I'm not pessimistic about the speed of innovation on our leading edge customers.

[Peter Guenter, executive]

Yes, Simon, to your question, the answer is yes. And I think that the nature publication actually reinforces our hypothesis on TLR7/8 and the role that it plays in the pathogenesis of lupus. So we really think it's playing an important role in both the innate and the adaptive immune responses. And I think, indeed, the Nature publication only reinforced our postulation that TLR7/8 in enforced in SLE pathogenesis. So the study with the WILLOW study, which is a proof of concept and a dose-finding BASKET study, to evaluate the efficacy and safety of enpatoran in both systemic lupus and cutaneous lupus. We have recently dosed our first patients. We're very happy with that, and we estimate an enrollment of roughly 440 patients.

[Operator]

Ladies and gentlemen, our final question today comes from Florent Cespedes of Societe General.

[Florent Cespedes, analyst]

Two quick ones. First, a follow-up on the guidance. Could you please give us a little bit of color of what could the assumption that could bring you to the low end of the range of the guidance. We understand that the inflation side, there should not be much during the rest of the year. So it seems that most of the uncertainties are coming from the China and the current lockdown. That's first question.

My second is on Fertility. You said that you have kind of back to normal situation with a plus 4% top line growth for the first quarter, but it seems that you are facing some challenges in China. So just if you could give us a little bit more color on the performance of this business. Thank you very much.

[Belén Garijo López, executive]

So Florent, let me address your first question. I mean, as you know, we are navigating a very complex environment and have activated multiple mitigation plans, leveraging alternative sales and production channels, passing higher input costs via price increases whenever -- whatever this is possible, increase safety stocks. But at the end, there is uncertainty in multiple points, right? I mentioned the China lockdowns. I mentioned that even if the China lockdown extends significantly beyond June, we believe this is still covered by our guidance, but the uncertainty and volatility of the environment asks for us to give you a reasonable view what I believe is a very transparent view of our assumptions underpinning the guidance. This is what I can say for the first question.

On the second question, Peter is going to address Fertility.

[Peter Guenter, executive]

Yes. Thanks, Belén. Look, on Fertility, first of all, we had a nice first quarter the [ group ] continues in what we call the post-pandemic phase with a 4.3%, which is in line with our midterm guidance. So we're very happy with the first quarter. And then to your part on China, look, I already mentioned in the call, the China fertility business -- total China fertility business is less than 20% of the global one. And of course, within that, we have a temporary lockdown in Shanghai, it is only a small fraction of that -- relatively small fraction, right? So and then last but not least, we also have seen in the past that after lockdowns ease that you also have a catch-up effect on the Fertility.

We saw that in last year in Europe and the U.S., for example. So we would also anticipate the same. So we're not particularly worried, but it's an attention point, I would say.

[Constantin Fest, executive]

Yes, I think these were all the questions with this. I'm happy to hand over to Belén Garijo for any closing words Belén, closing remarks.

[Belén Garijo López, executive]

Yes, very quickly. Thank you, everyone, for your continued interest Merck. In brief, we had a very strong start to the year with double-digit growth in sales and earnings. We confirm our organic growth targets for the year despite an increasingly challenging operating environment. And of course, we will remain laser-focused on executing on our strategic priorities. Please keep in mind what I said before that as a science and technology company, we continue to act from a position of strength when it comes to navigating uncertain environments.

Our margins are extremely attractive, and our end markets are strong and our systems and processes are designed to flexibly adapt to this rapidly changing environment and effectively protect our business. With this, I just wanted to announce that we will be hosting our Capital Markets Day in October 6 here in our headquarter in Darmstadt. And our IR team will follow up with details. In due course, we will be delighted to welcome as many of you as possible. Thanks again, and goodbye.

[Operator]

Ladies and gentlemen, thank you for your attendance. This call has concluded. You may now disconnect.