Colfax Corporation (CFX) on Q1 2021 Results - Earnings Call Transcript
Operator: Good day, and thank you for standing by, and welcome to the Colfax First Quarter 2021 Earnings Call. At this time, all participants’ lines are in a listen-only mode. After the speakers’ presentation, there will be a question-and-answer session. I would now like to hand the conference over to your speaker today, Mike Macek. Please go ahead.
Mike Macek: Good morning, everyone, and thank you for joining us. I’m Mike Macek, Vice President of Finance. Joining me on the call today are Matt Trerotola, President and CEO; and Chris Hix, Executive Vice President and CFO. Our earnings release was issued this morning and is available on the Investors section of our website, colfaxcorp.com. We will be using a slide presentation to walk you 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.
Matt Trerotola: Thanks, Mike. Welcome, everyone, and thanks for joining our call today. As many of you know, we’ve had a very active quarter, and we made significant operating and strategic progress. We announced our intent to separate into two companies, completed an equity offering and finalized several key acquisitions. I’m also pleased to report better-than-expected results in Q1 that sets us up for a great year ahead. Building up the momentum we have in each of our businesses, we delivered strong organic sales per day growth of 9% in Q1. As a reminder, Q1 2020 included several extra selling days, resulting in approximately a 5% headwind in our reported sales numbers. Despite this and continued challenges from COVID, we delivered adjusted EPS growth of 16% to $0.44 per share, and above our guidance range of $0.35 to $0.40 per share. We also posted another strong quarter of free cash flow, continuing the improvements we saw last year. Our results and momentum strengthened throughout the quarter, as we benefited from improving market conditions in both of our businesses. In early March, we announced our intention to separate into two independent, publicly traded companies, with a target completion date for the first quarter of 2022. This separation will create a global leader in fabrication technology and specialty med tech innovator, both companies with tremendous focus, momentum and opportunity. This decision is a result of a thorough strategic review undertaken by the Board with management and it reflects our ongoing commitment to create long-term value for all stakeholders. We’re confident that separation will position both companies for maximum flexibility for long-term growth and value creation.
Chris Hix: Thanks, Matt. At our Investor Day last month, we highlighted our positive momentum and the opportunity to perform at the top end or even above our first quarter expectations. That revenue momentum did, in fact, continued through the end of the quarter, largely as a result of better industrial demand and an increased number of elective surgeries, and we delivered above our EPS guidance range. For the full quarter, sales grew 8% year-over-year despite 5% fewer selling days. Sales per day increased 9%, and we had 2 points of benefit each from both acquisitions and currency. Gross margins for the quarter were 42%. ESAB is again successfully passing its inflationary pressures to customers through pricing actions. Of course, when sales and costs each increased by roughly the same amount, profit is protective, but margins are artificially compressed as we’ve seen in the past. Our true underlying margin performance was an increase of 50 basis points from operating leverage, high-gross-margin acquisitions and restructuring benefits. Restructuring benefits also kept core SG&A, that is SG&A excluding acquisitions, flat year-over-year. Our effective sales and operating execution led to a 50-basis-point increase in EBITA margins, and we finished the quarter at 12.2%. As mentioned earlier, we exceeded our EPS guidance by $0.04, earning $0.44, which is a 16% year-over-year increase. We generated $60 million of free cash flow in Q1, including the tax refund and a payment related to a divested business, neither of which are expected to repeat. Our treasury and business finance teams are leveraging robust processes to ensure that our growth translates into healthy cash levels.
Operator: My pleasure. And your first question comes from Jeff Hammond with KeyBanc Capital.
Matt Trerotola: Jeff, are you there?
Jeff Hammond: Yes. Can you hear me?
Matt Trerotola: Yes. We got you. Good morning.
Jeff Hammond: Okay, great. Just any surprises as you kind of went through the quarter, any surprises, positive or negative, in the trend line? I know the guide is unchanged in MedTech. But just as things kind of reopen, what are you seeing versus expectations on surgeries and activity levels? Well, maybe I’ll start there.
Matt Trerotola: Yes. Sure, Jeff. Thanks for the question. Yes. I would say a couple of changes as we went through the quarter. We certainly saw the U.S. elective surgery environment and mobility environment improve nicely as we move through the quarter. And I would say it improved at least in line with our plan and probably a little bit better than our plan. And we saw the – outside the U.S., particularly Europe was tougher. We had planned for it to be tougher, and it was tough. And I’d say it was probably a little bit off of our plan. So as we’ve said, we had a good strong start in MedTech, and we expect to be right on track with our plan going forward. I think we’ll have a little more out of the U.S. in the second quarter than we planned for and a little less out of Europe than we planned for. And then the back half of the year will sort of come back in line with what we expected for the plan. So those are a couple of things that we saw on the MedTech side.
Jeff Hammond: Okay. And then it sounds like you’re managing price well in FabTech. Can you just talk about inflation in the MedTech business and how you’re managing pricing there? And then just across both businesses, anywhere that you’re seeing any kind of emerging supply chain issues that would prevent some of this strong revenue momentum? Thanks.
Matt Trerotola: Yes, sure. So, well as you said, certainly, we’re seeing a lot of inflation in FabTech. We’re passing that through. In MedTech, absolutely we got a lot higher gross margins, and so that makes the sort of product cost inflation a little less of an issue. And there are mechanisms to get that passed through, sometimes immediately, sometimes over time. But what do I say is we’ve certainly seen other forms of inflation like freight, freight inflation and things that we’ve been doing for the last quarter or so in terms of expediting in the supply chain to make sure that we serve customers well. And so again I think we’re expecting that some of those extra costs within the MedTech business will subside as we work through the year.
Jeff Hammond: Okay. Thanks, guys.
Operator: And your next question comes from Joe Giordano with Cowen.
Joe Giordano: Hey, guys. Good morning.
Matt Trerotola: Hey, Joe
Chris Hix: Hey, Joe.
Joe Giordano: Hey. So can you just address the FDA warranting from on STAR portfolio that we got a little bit ago and like what – and talk about the time frame for that, how it’s been addressed and like how we should think about that going forward?
Matt Trerotola: Yes, sure. Thanks, Joe. So we acquired the STAR Ankle as the step into foot and ankle for us, because it’s a tremendous product. It’s got the best long-term outcomes data as a technology-advantaged product, and that’s something that takes a long time to build. And that long-term outcome data in terms of survivorship for the STAR Ankle that is superior, is outcome data that includes all forms of failures. We were well aware in the diligence that there was an ongoing dialogue between Stryker and the FDA about polymer cracking. We’re also well aware that Stryker had made some changes a number of years back that they believe addressed the situation through some sterilization and packaging changes. And we’re also aware that the market was fully aware of the situation that, even including these stress cracks-related failures, the long-term outcomes were superior for the product. We had a plan from the start, and we’ve already moved on that plan to replace the polymer with e-Poly that we use in our – e-Poly technology that we use in our other products. And so that plan is ongoing, and we expect to work through and make that change. It’s unfortunate that the FDA got frustrated with Stryker and made the warning that they did. We’ve had – certainly do some handholding with customers to remind them of the great overall data for the product and to point to the limited sample size that was related in that warning. And the feedback from customers has been good. It’s a product that the people that are using it are very attached to the product. They’ve liked it for a long, long time. And so we’re confident we’ll be able to work through and move to the other side, and it won’t have any change on our plans for our foot and ankle business growth over time.
Joe Giordano: All right. That’s really helpful. And a follow-up for me. I know we’ve talked about robotics several times as something you guys are interested in, in the right way for MedTech. Can you also talk about like ways of doing that? I mean – I know there’s – we talked to start-up companies that have kind of like open-source robotics platforms essentially, where they can use kind of their free agents to use any kind of knee or anything like that, like things surgical, those kind of companies. Is that a preferred path? Or is that like a complementary path for you guys?
Matt Trerotola: Yes. I think as we’ve talked about before, I think Brady talked a little bit about – and Louie at our Investor Day, we really think about surgical workflow overall, and that ranges from the planning on the front end, to the guidance within the product and within the surgery and the use of robotics in various different ways to automate that. And we had a strategy for how we can bring the right total solution for each of the parts of the anatomy. And we’ve got some already strong capabilities in the planning and are already in a terrific position in shoulder where that’s the most important. We’ve also invested, as we’ve talked about in the company in the guidance area that it’s going to be bringing us the capability to bring virtual reality guidance that we’re excited about and our surgeons were excited about. And on the robotics front, again, I think we’ve talked about before. We think there’s going to be multiple ways to this as the technology becomes less costly and less bulky. And we’ve got a strategy for how we can bring a robotic solution that is the right solution for our value proposition, and in particular, the right solution for the ASC, which is a more constrained environment through robotics. And that’s something that we’ll bring through partnerships as well as internal innovation over time.
Joe Giordano: Thanks, guys. I’ll pass it on.
Operator: Your next question comes from Andrew Obin with Bank of America.
Andrew Obin: Good morning.
Matt Trerotola: Hello, Andrew.
Chris Hix: Hey, Andrew.
Andrew Obin: Hey, just a question on your M&A strategy. You seem to have found a very good niche on extremities, sort of a bunch of singles. Given your capital raise, is there an opportunity for a larger deal? And the second question is, you also highlight pet care. I think it’s one of the adjacencies that you have entered. Is that something that the company could look down the line?
Matt Trerotola: Yes. Andrew, first of all, we’re really excited that we’ve been able to get the three great deals done in the foot and ankle space that established that strong position that we can then build from. And that’s – I think it’s been great timing in terms of stepping in as I think people are becoming more and more aware of how exciting and attractive that space is. And we’re in a position where we can now build the business organically plenty and have strong double-digit growth over time. But there’s also other bolt-ons and tuck-ins within that space that we can take a look at. We certainly have more flexibility now. But I would say that most of the things that we’re thinking about are in the kind of small to medium-size range versus big moves in the short to medium-term. There – we’ll always be considering the larger possibilities that we could consider. But we’re spending the vast majority of our time and energy on things that either greatly improve the strategies of our businesses, like some of the things that we’ve done in Surgical, like the LiteCure acquisition in Recovery Sciences, and there’s other opportunities within Surgical, within Recovery Sciences, that we’re embracing to do, bolt-on acquisitions that greatly advance the strategy of our businesses. We’re looking at opportunities around global expansion and participating in more of the attractive parts of the global markets beyond the great U.S. market where we’re so strong. And so I think that that’s where you’ll see us. As far as your specific question about pet care, it is obviously a very attractive space. We were excited that LiteCure gives us a position in that space and there’s certainly opportunities to think about. Really if you focus more on the rehabilitation aspects of pet care, that’d be an area that we already participate in that there are other adjacent things to think about. There’s obviously lots of other possibilities in pet care that we think about over time. But in the short-term, I think there’s some more logical things that we can think about that are close in.
Andrew Obin: Got you. And then just a follow-up. In terms of folks getting vaccinated and betting – getting more active, should we think that there is this catch up as older people actually catch up on all the procedures that they were not able to do in 2020? And does that mean that 2021 is relatively flat versus 2022? Or can you grow off that base? Thank you. And this is a MedTech question clearly.
Matt Trerotola: Yes. So yes, again, I think, clearly, it’s been talked about a lot, and we’ve talked about it that the vast majority of the demand drivers related to our surgery products didn’t stop when COVID stopped. And so the diseases that drive most of those surgeries continued to advance. And so there’s backlog that’s been created. And I think the – certainly, the – a lot of the published things that are out there as well as our perspective is that it’s not a quick catch-up in one year. If it were, this year would be meaningfully more than what we have forecast. But I think our expectation, I think the expectations of people that has published a lot in the space is that there’s going to be multiple years where we’re working off some of the things that got delayed during COVID. And that’s going to create a little bit elevated growth versus the norm for a couple of years. And so again what the shape of that is, if that were really sharp, then maybe there wouldn’t be a vac side of it. But I think our assumption, in terms of the growth that we’ve planned for this year, what we’ve talked about is between one and two years of growth versus 2019, which would say that there’s still additional catch-up opportunity there in 2021 versus a flat back – or sorry, 2022, versus a flat back side.
Andrew Obin: Thank you.
Operator: Your next question comes from Chris Snyder with UBS.
Chris Snyder: That margin guidance for rest of the year. Q1 EBITDA margins came in above the full year guidance. And it doesn’t seem like you guys expect volume declines. So are the sequential headwinds just costs coming back to the business? Or is the expectation that price costs will be a more substantial margin drag the rest of the year relative to Q1? And then also, is the $25 million to $30 million restructuring savings fully reflected in the Q1 run rate?
Matt Trerotola: Yes. I think, Chris, your question got cut up at the beginning, but I think it was about the sequential margin progression here...
Chris Hix: ESAB, in ESAB.
Matt Trerotola: Okay, in ESAB. Okay, all right.
Chris Hix: Specifically in ESAB, yes.
Matt Trerotola: Hey so within ESAB, the – let me answer the question first about restructuring. The benefit from last year’s restructuring is fully baked in, in the Q1 results that we had. And of course, that will continue to – we’ll get the benefit of that throughout the year. But the restructuring that we’re doing in 2021, as you would expect, takes time to fully bake. And you don’t really get to the run rate of that until you get into the – deep into the year. And that’s why we end up with a partial year benefit this year. And then the additional benefit that flows into next year. I think that should address the question about the restructuring. On the margin side, yes, you raised a really good point, which is what we touched on in our prepared remarks, Chris, which is, the business is doing an excellent job of dynamically managing the price and inflation to protect profit, but you’ve still got that compressing effect it has arithmetically on the margins. And we’ve seen that happen in the past. It tends to obscure the real improvements that we continue to make in the business. And yet, here we are talking about record margins in the first quarter. So we’ll continue to manage that. We do expect that will have some impact. The more price inflation that happens, the more of that effect will be reflected in the sequential performance of the business. But again, the underlying performance is very healthy, growing. And as we get past the inflation curve, just like we’ve done in the past, you’ll continue to see those margin improvements reading through.
Chris Snyder: Okay. I appreciate that. So it sounds like just the cost inflation is going higher. And even if you offset it to the same capacity as Q1, it’s a sequential headwind just because it’s zero margin on a higher pricing.
Matt Trerotola: Yes, that’s right.
Chris Snyder: These – and if I could just – okay. If I could just follow-up on MedTech margin, can you provide some color on seasonality here? As we’ve never really seen a normal 1H since you acquired DJO, I’m just trying to think about the normalized sequential move into Q2.
Chris Hix: Yes, sure. Hey Chris, just generally, this is a business that has its lowest revenue in Q1 and its highest revenue in Q4. There’s always a bit of a step-up in Q1 to Q2. And so the margin profile tends to fall off the revenue. As you imagine, the operating leverage with these high gross margins is pretty big in the business. And so it’s the expectation that as we go from Q1 to Q2 and revenue steps up and this year, it’s stepping up both seasonally, and because of the improving recovery, that you’d expect to see the margins expand. And then you’ll see another step-up in the second half of the year, which, again, will be because of more revenue in – typically in Q4. And then also, we’re always working on productivity and other projects that should drive additional benefit. Having said that, we did have a little bit of supply chain friction in the first quarter, as Matt touched on briefly in his – the answer to your question a moment ago, and we expect to work past that as well as we get into the second half. So there’s a number of factors there, but largely, volume-driven operating leverage.
Chris Snyder: Thank you.
Operator: Your next question comes from Nathan Jones with Stifel.
Nathan Jones: Just starting with a question on the guidance. Yes. You baked the first quarter here relative to your original guidance by $0.67, $0.04 of headwinds from the capital allocation actions. And you raised the guidance by about $0.025, which leaves 2Q through 4Q pretty flat relative to what you had in the previous guidance. You talked pretty bullishly about better trends in MedTech, better volume trends in MedTech and better volume trends in Industrial. Can you talk about what’s holding you back from having increased the guidance a little bit more? Maybe taking the top end up? What the concerns are there?
Matt Trerotola: Yes. Hey, Nathan, so I wouldn’t say that there’s any concerns there. What I would say is that we’re early in the year. We’re pleased with the first quarter performance. We thought it was prudent and appropriate to reflect the de-risking in the guidance by picking up the lower end of the range. As you mentioned, we have the capital structure actions there that create a little bit of a headwind. Obviously, a terrific move the company made strategically and for the long-term benefit of the business. But that did have a little bit of headwind. And so really, the operating results of the business ended up absorbing that. And so the underlying performance is pretty good here. Now as we progress through the year, we continue to see how it plays out. I will give us additional opportunities to assess the performance, assess the trajectory that we’re on and think about how that might be reflected in the forecast going forward. But at this point, we don’t see any risk to the guidance that we’ve given, and we’re very bullish.
Nathan Jones: That’s helpful. Thanks. On these capital moves with the equity raise, the debt pay down, it sounds like you’re still planning on doing a number of acquisitions in MedTech this year. Is there any further color you can give us on what the capital structures of each of the businesses might look like post the split?
Matt Trerotola: Yes. Thanks, Nathan. As we’ve talked about, we’ll be providing a lot more detail on that as we get deeper into the process. So it’s really important that we underscore a couple of key principles here. One of those is that we intend to make sure both businesses are set up for success. These are two terrific franchises with great futures and the capital structures need to support the strategic direction of both of these businesses. That’s one principle. Second principle is we expect to have differentiated balance sheets. They are different businesses. There’s a bigger gap between MedTech and its goal of being a $3 billion company than there is for bad debt. And so we want to make sure that we’re considerate to that as we’re thinking about the capital structure for these businesses at the time of separation. So we’re going to launch two great healthy businesses with terrific capital structures that are consistent with the strategy of those businesses. And we’ll provide more details as we get closer to the finish line here.
Nathan Jones: It sounds like it’s a fair assumption that MedTech is going to have the lower leverage there?
Matt Trerotola: Nathan, we’ll give you more details on that later. I don’t mind the question, but we’ll – stay tuned.
Nathan Jones: Okay. Thanks guys.
Operator: And your final question comes from Steve Tusa with J.P. Morgan.
Steve Tusa: Hey, guys. Good morning.
Matt Trerotola: Hey, Steve.
Steve Tusa: The kind of seasonality, I think you guys had talked about last year that the first quarter would be some percentage of the year. I think it was like 23% or something like that. But obviously, you have this negative day sales impact. So I would think that the first quarter would be even lower kind of on a reported basis as a percentage of the year. I’m just trying to kind of wrap my arms around the seasonality dynamics sequentially into the second quarter on sales, if you might.
Matt Trerotola: Okay. Let me take a stab at that, Steve. And it says that – there’s a couple of different dynamics there. We’re always talking about the selling days just to make sure that we separate that out from the reported results. So last year, we highlighted that we had more selling days in the first quarter, and then we benefited from that. Now this year, on a comparative basis, we have fewer selling days. And that’s why I support that view, given you pull that part, you can see the underlying performance, which is I think we had 9% growth on a selling day basis and 8% reported and 5% headwind on fewer selling days, so peeling that apart, the basis for the discussion starts with the 9% SPD growth in Q1. Now as we move forward here, we’ve got a couple of different things. We’ve got the typical seasonal strengthening of the business going from Q1 to Q2. That’s in both of our businesses. And we expect to see that is the reason why we wouldn’t this year. And on top of that, we still have the sequential recovery that’s sitting into the numbers as well. Now we generally talk about SPD growth. That’s getting a little bit cloudy as we start comparing against COVID periods there. And so really, it’s important that we think about the sequential performance and whether that’s in line with the expectations that we had coming into the year. And so far, what we’ve got, everything is lining up the way that we’d expected. Little bit of a faster recovery in Q1, that de-risks the full year. But the trend from Q1 to Q2 is lining up just pretty much the way we would have expected when we gave the original guidance for the year.
Steve Tusa: Got it. So I guess maybe could you just let us know kind of roughly what you expect for annual sales? I mean if you do normal seasonality off the first quarter, I mean it looks like you’re comfortably into kind of the $900 million range, like almost like $950 million of revenues. And as I look out for the second half of the year, I mean if that just holds flat, I mean you’re at some pretty – or down even a little bit, you’re kind of well above where we are for sure. Can you just maybe give us an annual framework for revenues?
Chris Hix: Yes. So if you go back and look at the guidance that we gave back in February, where we gave some – we gave percentage ranges there. And then we talked about also the timing of that within each of the quarters. I think we’re still comfortably following that what we gave you now. Q1 is a little bit – maybe a little bit hotter than what we had originally guided to. But for the full year, we still expect that. Steve, the other thing to keep in mind is as we go from Q2 to Q3 in our FabTech business, oftentimes, we’ll see less – sequentially less revenue. That’s a typical trend in the business. You’ve got summer holidays in Europe and other factors that come into play that we’ve seen repeated year-after-year in the business. So whatever your expectations are for Q2, I wouldn’t just sort of bake that all the way through for the rest of the year. Just think about a little bit of a sequential step down in Q3 and a seasonal step down and then a step back up in Q4.
Steve Tusa: Right. But as far as normal seasonality, like you feel as though if we go back over time and look at kind of the normal seasonality of at least FabTech, because you’ve had that for a long time, that is the – that’s what you would expect off of this 1Q print for the rest of the year?
Chris Hix: Yes. Generally, that’s the case. So it’s also in the mixtures. We’ve got this price dynamic. And that’s why one the comments we made in our prepared remarks was that we expect 4 points of additional price reading through, but it won’t be driving any profit and that’s why we try to give you almost like a model that is and then set it aside did not expect any incremental margins to come out of that.
Steve Tusa: Yes, yes. That makes it tight. This makes a sense too, is that you’ve – the sales aren’t going to necessarily read through. Okay. That’s very helpful. Thanks a lot.
Chris Hix: Thanks, Steve.
Mike Macek: Okay. With that, I think we’re wrapping up the call. Thanks, everyone, for joining today. I appreciate you, and look forward to talking to you over the next few weeks.
Matt Trerotola: Thank you.
Operator: That does conclude today’s call. Thank you for your participation. You may now disconnect.
