Invacare Corporation
Q4 2018 Earnings Call Transcript

Published: 14 Feb 2019

[Operator:]

Good morning, ladies and gentlemen and thank you for standing-by. Welcome to the Invacare Fourth Quarter and Full Year 2018 Conference Call and Webcast. After the management overview, we will open the call for questions. Investors and analysts interested in asking questions will need to dial in as questions cannot be submitted via the webcast. For the first part of the call, all phone lines will be muted. This conference is being recorded Thursday, February 14, 2019. I will now turn the call over to Lois Lee, Invacare's Director of Treasury and Investor Relations. Please, go ahead.

[Lois Lee:]

Thank you, Brian. Joining me on today's call from Invacare are Matt Monahan, Chairman, President and Chief Executive Officer and Kathy Leneghan, Senior Vice President and Chief Financial Officer. Today, we will be reviewing our fourth quarter 2018 financial results and providing investors with an update on the transformation. To help investors follow along, we have created Slides to accompany this webcast. To those dialing in, you can find a link to our webcast slide presentation that we will be referring to during today's call at invacare.com/investorrelations. Further, information can be found in our SEC filings. Before Matt begins, I'd like to note that during today's call, we may make forward-looking statements about the company that by the nature addressed matters that are uncertain. Actual future results may differ materially from those expressed statements today due to various uncertainties and I refer you to the cautionary statements included on the second page of our webcast slides and on our fourth quarter earnings release. For explanation of the items considered to be non-GAAP financial information that will be discussed on today's call such as constant currency net sales, constant currency sequential net sales, constant currency SG&A, free cash flow, EBITDA, adjusted EBITDA and adjusted net earnings and loss. Please see the notes in the appendix of our webcast slides and the related reconciliations in the earnings release posted on our website. I will now turn the call over to Matt Monaghan

[Matthew Monaghan:]

Thank you, Lois and good morning. Before we jump in and discuss our results, I want to take a moment to reflect on where we are on our exciting path forward. Since we last spoke, we have made tremendous strides to mitigate external unknowns while taking deliberate actions to keep the business on a path towards profitability. To that end today, we will share an updated transformation plan that will enable us to achieve our long-term goals. Our fourth quarter performance set the foundation and we're confident that 2019 will provide clarity on our roadmap to achieving these targets. With that, let me now turn to slide four to discuss our quarterly performance. We entered 2018 on a high note, reflecting the progress we've made on our transformation plan. After a challenging third quarter, we rebounded strongly with 9.3% growth and reported net sales of mobility and seating products, the largest and strongest part of our portfolio. As part of our transformation, we guided that while net sales would decline in the near-term, gross margins would improve, which is reflected in the 60-basis points expansion realized during the quarter. Through operational improvements and focus on SG&A expense reduction we achieved positive EBITDA of $3.1 million, an improvement of $7 million and a GAAP loss per share of $0.04, compared to a GAAP loss per share of $0.54 in the same period last year. You're entering 2019 with momentum and feel confident the company is on track for profitable growth in 2019 and beyond. During the slide five in our full year financial results, we delivered strong growth and reported net sales of mobility and seating products, which increased 10.6% globally and 8.5% in North America HME. As part of our cost containment initiative, we realized meaningful reductions in constant currency SG&A of $19.9 million. The combination of these factors led to a $23 million improvement in EBITDA, a significant accomplishment in one year's time. Europe, IPG and Asia Pacific are positive contributors and continue to emphasize returning North America HME to profitability. On slide six, you will see the 2018 was an extremely busy and productive year. We made significant progress in our transformation by taking actions that should yield positive results in 2019 and beyond. In innovation, since exiting the injunctive phase of the consent decree in July 2017, we've introduced new products that add clinical values and drive profitable sales growth. On our TDX SP2 wheelchair, the world's first to include a wirelessly programmable control system with remote diagnostics. We've added a captain seat option and increased the weight capacity which will allow us to pursue additional market opportunities. In Europe, we launched our E-pilot and E-motion, our add-on products that allow manual wheelchairs to operate like powered wheelchairs. Also, in Europe, we expanded our lifestyles product line with the introduction of the Birdie EVO patient lifter and Ocean Ergo bath lifter, products which assist patients and caregiver's safety. In our adaptive sports product line, we've launched the top end Eliminator NRG racing chair, which has already assisted athletes to more than 20 podium finishes, consecutive wins in the Chicago and New York marathons and two world records. These are just a few examples of how our continued focus on innovation is helping drive the shift towards higher margin profitable sales growth. At the same time, we implemented cost optimization initiatives expected to result in annualized savings of $10.8 million in 2019 and beyond. We completed the transfer of two manual wheelchair production lines from Sweden and from Switzerland to an existing facility in France which is expected to generate annualized cost savings of $3.3 million. In November, we took actions to optimize the cost structure in both North America and Europe which are expected to yield $7.5 million in annualized costing. With some additional investment in IT and infrastructure, there are further opportunities to reduce costs from the many acquisitions that have not been fully integrated over the company's history. In terms of regulatory and quality compliance, we're proud of the culture of quality excellence and regulatory compliance we've built over the past few years. In 2018 we successfully closed two warning letters related to our upstart [ph] Germany and Sanford, Florida facility. This August 2018, the company has been operating globally without any regulatory selling restrictions, the first time since 2010. In addition, our main facilities in Europe, Asia and North America have certified the latest version of ISO 1345 requirements a stringent international standard for medical device quality management systems. Regarding governance, throughout our journey the company's management and its board of directors have been aligned with the business strategy and have operated in a strong governance framework. During 2018, we added two new Board members, one with expertise in Europe to help guide our success in our largest business segment and another with financial and consumer products experience to guide our alignment to emergent trends in health care. We're proud of the diverse board with assembled, all of whom have public company experience the majority with broad health care backgrounds and four with CEO experience. The Board is continuously refreshed with 75% of directors having tenures of less than five years to ensure we have new ideas and skills while maintaining independence and engagement. We are committed to achieving our transformation and growth plan as well as increasing shareholder value. The accomplishments we achieved in 2018 will set the stage for continued momentum in 2019 and beyond. Turning to slide seven, well we've made great progress in our transformation and we also took immediate actions last year to build resilience against two external headwinds that impacted the North America HME and IPG segment, U.S. tariffs and changes in reimbursement. Regarding tariffs, as you'll recall in 2018, the U.S. government implemented three ways of tariffs on imported goods at rates of 10% to 25%. Like many other companies, we experienced higher costs as a direct result of tariffs and material cost increases from domestic suppliers raising prices, because imported finished goods were not affected by tariffs. We have faced a disadvantage as a vertically integrated U.S. manufacturer versus competitors who directly import finished goods. We continue to work to offset this disadvantage. Based on the current tariff levels, we had previously guided that a full year's unmitigated impact would be $5 million to $7 million. To lessen that impact, we took deliberate actions during the fourth quarter which are expected to mitigate approximately $5 million of these costs in 2019. We were able to qualify some goods for duty free status under existing rules and we took certain supply chain actions to limit additional exposure. Going forward, we will continue to identify opportunities to offset cost. Also, during the third and fourth quarter, anticipated changes in national competitive bidding reimbursements impacted sales of respiratory products in the United States. Effective January 1, 2019, CMS opened reimbursement to any qualified provider willing to transact at the existing reimbursement rates in the bid areas that had previously been awarded to sole bid winners. We believe this change significantly reduced respiratory sales to providers who were cautiously evaluating the impact of this change. Lifestyles products were affected to a lesser extent. We expect the market uncertainty for respiratory and lifestyle products to persist until these new reimbursement dynamics are settled and future changes are funded [ph]. CMS is expected to release information on the next round of competitive bidding in the next few months. To mitigate the impact on sales and operating margins, we continue to optimize the cost structure of these product lines. The respiratory products we have minimized production as we sell through the inventory on hand until buying patterns normalize. Turning to slide nine, we're sharing our enhanced transformation plan and updated to account for the previously discussed external factors that began affecting North America in 2018. These factors have prompted the company to accelerate its actions to drive growth and improve operation. We're taking these actions to maintain the timeline to achieve the previously disclosed EBITDA targets by late 2020. The enhanced transformation and growth plan balance innovative organic growth, product portfolio changes across all regions and cost improvements in supply chain and administrative functions. We have engaged third party experts to help assess, plan and support the execution of improvement opportunities to ensure the best plans are adopted across the entire enterprise. The key elements of the enhance plan are first, globally, we're re-evaluating all business segments and product lines for the potential to be profitable and to achieve a leading market position. On our path to profitability, we are creating a more agile organization and narrowing our focus to more clinically complex products that offer higher margin. Second, in Europe, we're leveraging centralized innovation and supply chain capabilities, while reducing the cost and complexity of our legacy infrastructure. For instance, we have introduced new more valuable products in mobility and seating, while also optimizing our footprint through the previously noted production transfers. We believe actions such as these will enhance our profitable growth across the region and unlock additional value. Third, in North America, we will adjust the portfolio to consistently grow profitably amid cost increases by adding new products, reducing costs, continuing to improve our customer's experience. For example, we're evolving the way we do business by increasing investments in our B2B e-commerce platform, which will simplify the ordering process for our customers. Fourth, in Asia Pacific, we remain focused on sustainable growth and expansion in Southeast Asia with initial focus on opportunities and tightening. And finally, we're taking global actions to reduce working capital and to improve free cash flow by prioritizing our highest value-added products, improving our cost structure and reducing working capital, we will be well-positioned to deliver free cash flow and sustainable long-term profitability. This enhanced transformation and growth plan will guide us towards our long-term goal of $85 million to $105 million in adjusted EBITDA run rate by year end 2020. As you can see on slide 10, our updated adjusted EBITDA guidance range differed very slightly from our previous long-term goals. On the left-hand side of the original target, where we previously guided to $100 million EBITDA run rate by third quarter 2020 we now expect to achieve a similar long-term adjusted EBITDA run rate of $85 million to $105 million by year-end 2020.With a combination of low single-digit sales growth, gross margin improvement and substantial cost reduction. While it's still early in the development of external factors, we think we're well-positioned to deliver EBITDA at our original target. To get there, we have continued confidence in the path for Europe and for North America HME mobility and seating. These planned improvements are unchanged. In the near-term, we have reduced the contributing benefit from additional sales for our post-acute care and respiratory product lines, due to the previously mentioned headwinds. To offset this, we will accelerate the investments and take actions and driving efficiency and enhancing profitability with significant since incremental cost improvements in supply chain and general administrative areas. While the adjusted EBITDA measured is comparable to EBITDA, it excludes restructuring charges now expected to continue through 2020, it's stock compensation expense, which is a non-cash charge that varies from year-to-year. In our previous guidance, restructuring was expected to cease in 2019 and therefore was not part of the 2020 metric. The actions of our updated plan will continue through 2020 and therefore, we are excluding restructuring charges from our updated goal. Similarly, we are removing stock compensation expense to eliminate year-over-year non-operating variances. We believe these changes provide a more meaningful measure of the company's future performance as it works through the transformation. The comparable adjusted EBITDA performance measure for 2018 was $6.6 million. I'll now turn the call over to Kathy Leneghan to discuss the performance of the segments and additional financial results for the fourth quarter.

[Kathy Leneghan:]

Thanks, Matt. Turning to slide 12. During the fourth quarter, reported net sales in Europe decreased 0.1%. Constant currency net sales increased 3.3% compared to last year and 1.1% sequentially, as a result of increased sales of mobility and seating and lifestyle products, despite strategically reducing sales of less profitable products across Europe during the year. Operating income increased by 1.4% due to increased volumes, favorable sales mix and reduced warranty expense, which was partially offset by increased freight costs and SG&A. Operating income declined sequentially consistent with historical seasonality. In addition, operating income was negatively impacted by $0.4 million of increased costs, related to product transfers among facilities. Turning to slide 13, North America HME constant currency net sales decreased 7.3% driven by reduced sales of respiratory and lifestyle products, which more than offset a 5% increase in mobility and seating. Constant currency sequential net sales decreased 0.5% primarily due to lower lifestyle sales and sequentially flat respiratory sales due to the reimbursement changes discussed earlier. Operating loss decreased slightly due to the reduced gross profit partially offset by reduced SG&A. Gross profit was negatively impacted by $0.9 million of costs related to tariffs and other material cost increases. However, sequential operating loss improved $3.4 million due to increased gross profit and reduced SG&A expenses. Turning to slide 14. Constant currency net sales in IPG increased 3.3% primarily due to increased sales of patient transport, other lifestyle products and interior design projects. Operating income improved significantly by 54% due to increased net sales and reduced warranty and SG&A expenses. Turning to slide 15, Asia Pacific constant currency net sales increased 4.3% year-over-year and 15.8% sequentially, driven by increased sales of mobility and seating and lifestyle products. Operating income improved $1.4 million as a result of increased net sales and reduced R&D and SG&A expenses. We have successfully transformed Asia Pacific over the past several years and remain focused on driving sustainable growth in the region. Moving to slide 16, the company generated free cash flow of $1.1 million. This was unfavorable compared to last year due to increased accounts receivable and a lower benefit from inventory reduction. For the year, free cash flow usage was higher than previously guided due to temporary increases in inventory levels related to the production transfers in Europe and reduced sales of respiratory products in North America HME. Comparing the full-year, free cash flow 2018 to 2017, the significant improvement in operating loss of $21.9 million was more than offset by significant investments in working capital, specifically inventory. The company expects inventory levels to return to normal levels during the first half of 2019 as the company converts this excess inventory. As of December 31, 2018, the company had nearly $117 of cash on its balance sheet. The company believes its strong balance sheet along with expected operational improvements will support the company's transformation plan and provide the flexibility needed to address future debt maturities. The reduction in cash conversion days of 3.1 days benefited from reduced days in accounts receivable. As a way point to our long-term adjusted EBITDA run rate of $85 million to $105 million, we are providing full-year guidance for some key metrics. Turning to Slide 18, we are guiding to full-year 2019 adjusted EBITDA of at least $20 million compared to $6.6 million in 2018, a near 200% increase. Improved performance will be driven by net sales in Europe and in North America by sales growth in mobility and seating products, stable sales and lifestyle products partially offset by declining sales in respiratory products. We expect gross margin expansion and improved operating results from supply chain actions and substantial cost reduction. For the full year 2019, which you can see on slide 19, we expect free cash flow usage of $25 million, due to a significant improvement in segment operating performance and the benefit of converting our temporary higher inventory levels in 2018 to cash in 2019. These benefits are partially offset by increased working capital requirements to support growth, especially in North America mobility and seating with its extended quote to cash cycle. In addition, higher capital expenditures and cash needed to fund restructuring activities. First quarter 2019, free cash flow usage is expected to be similar to the first quarter 2018, with expected improvement in subsequent quarters compared to the prior year. The company has historically generated negative free cash flow during the first half of the year and this pattern is expected to continue due to the timing of annual payments such as customer rebates and employee bonuses earned during the prior year and higher working capital usage from seasonal inventory increases. The absence of these payments, as well as seasonally stronger second half sales, typically result in more favorable free cash flow in the second half of the year. The company expects improvements in adjusted EBITDA and in working capital, specifically inventory reduction that will drive improved free cash flow. I will now turn the call back over to Matt.

[Matthew Monaghan:]

Thanks, Kathy. In summary, 2018 was a strong year of progress in our transformation. Looking ahead, we have a good plan for improved financial performance, which we expect will accelerate operational improvements and return to profitability in North America/HME. I'm confident that 2019 will be an exciting period in the company's journey. We appreciate the continued support of our shareholders and associates through this process. We have a strong long-term strategy to rebuild this business to deliver shareholder value and be a sustainable leader in the markets we serve. Thanks for taking the time this morning. We'll now take questions. Right?

[Operator:]

Thank you. [Operator Instructions] We'll take our first question from Bob Labick with CJS Securities. Please, go ahead.

[Bob Labick:]

Good morning and congratulations on a nice rebound in Q4.

[Matthew Monaghan:]

Well, Bob. Thanks. A lot of hard work.

[Bob Labick:]

Okay, I want to start with North American seating and mobility, obviously, a big component in terms of getting to the goals in 2020. You know it seems like you should be regaining - you had a good year this year sounds like you need to even accelerate that growth. So, I was wondering if you could talk a little bit about know had there been any near-term RFPs or where you see the ability and kind of the visibility to regain market share there? And then just as a kind of second question to give us context you say you need $50 million to $80 million in sales gains over the next couple of years. Can you give us a sense of where that is where revenues would be relative to prior to the consent decree if you get to that $50 million to $80 million gain?

[Matthew Monaghan:]

Sure. Thanks for the question. You know in North America, we continue to be very well aligned with our customers really no change with regard to the relationships and placement with our customers. We have more time and market to continue selling the products that we've been delivering since 2017 that are new. We have some new line extensions; software features and I think there's better uptake now in the marketplace with the benefits of remote diagnostics which substantially reduce the costs of our provider customers as they deliver great service to their clients. So fewer spare parts, fewer and shorter phone calls to resolve issues, elements that allow them to prevent truck rolls that save substantial cost and we continue to be a leader in that area, that's good. And then we have a very strong product portfolio that we can see coming out in 2019 and 2020. And I assume beyond that too. So, we expect the North American market to continue to be strong for us and a good selling team that's well organized to deliver that. I think relative to where we were before in 2012 or 2011 roughly, we would have been $130 million higher in seating and mobility sales in North America before the consent decree. So, getting back $50 million to $80 million more of that is roughly half of that plan in raw terms and we think that's doable. We have good competitors, we have good customers and in the mix is a good competitive landscape, where I think we can win.

[Kathy Leneghan:]

And the guidance that we've given the growth in mobility and seating is more than just power wheelchairs, which is what we lost during the consent decree. So, the population of what we can gain back is very good.

[Matthew Monaghan:]

Correct, yes good point.

[Bob Labick:]

Okay, great. And then shifting over to Europe, seating mobility was very strong, and it sounds like a bunch of new products, maybe you can expand a little bit on the new products coming out to drive the growth there over the next two years?

[Matthew Monaghan:]

Yes, we continue to see greater uptake of products actually developed in North America that we'll be bringing into Europe in greater numbers as we increase the mix of clinically complex power wheelchair products in Europe, clearly, an important part of that marketplace. So that's a great expansion opportunity for us. And then, we have strong product development from our Alba [ph] unit in Europe, which has great worldwide views of how to bring powered mobility to manual wheelchair users typically. E-motion is a product that allows the manual converter, the electrification essentially of manual wheelchairs. We have E-pilot which is a twist grip product that converts manual wheelchair into a powered tricycle kind of puts a motorcycle looking front end on it. Really great aesthetics durability, safety, and ease of getting around for people that want to go long distances and enjoy the outdoors with others. And then the other products that are coming out that will be really, I think game changers in that marketplace. The Alba [ph] team not only does great anesthetic development and they make great feature products, but they have a different way of looking at the market and bringing connectivity to those. So, they're easy to provide service, they're easy for consumers to use really delightful in lots of ways. So, products for North America going to Europe and products being developed in Europe should increase our share and size.

[Bob Labick:]

OK. Great. Thanks. And then just last one, I'll get back in queue. In terms of North American cost reductions, I know it's hard to say too much before things happen, but if you can speak generally, you're expecting greater cost reductions than you previously had. What changed or what are you able to do now that you didn't want to do or weren't able to do before that should give investors' confidence in achieving the significant cost savings in North America.

[Matthew Monaghan:]

Yes, it's a good question. You know when tariffs were not affecting us or weren't present, we had a certain waterline of profitability that was using our infrastructure in certain ways. And when you have a higher level of costs you have to fundamentally look at doing things differently. And when we look at our global footprint and the mix of things that we do within four walls how our factories are organized what we choose to distribute remotely or produce locally or sourced from faraway places those equations change. And when you take a big long-term look and as we've done, we want a plan that's resilient to reasonable each size potential future changes that ends up making us have a list of different things that we weren't previously going to do. And now facing into that I think we've got a really exciting plan for 2019 we're aligned to do it we're going to end up with a great infrastructure that will deliver regional performance based on that new economics and then you know we look forward to things like changes in the status of Britain with regard to the UK. And we're trying to be smart about how we're organized going forward. It's just a different a different list of things based on those assumptions than we've previously had.

[Bob Labick:]

Great. Okay. Thank you very much.

[Matthew Monaghan:]

Thanks, Bob.

[Operator:]

[Operator Instructions] We'll take our next question from Chris Cooley with Stephens. Please, go ahead sir.

[Chris Cooley:]

Good morning Matt, Kathy and Lois. Thanks for taking the questions this morning. Just a couple for me. Maybe a bigger picture first then just a couple of model questions to kind of down things and I just want to make sure I understand what you're communicating when you talk about the enhanced transformation and growth plan and more specifically the ongoing product evaluations here? Now, that's something that you've always viewed fairly critically on an ongoing basis in terms of reviewing the portfolio. Just trying to think about maybe what may or may not be different now some of the parameters that you'd be using to conduct those types of evaluations and the timing in which we should expect to hear something about this, as it moves forward or maybe those decisions have already been made? Just trying to get some granularity around that. And I have just a couple of quick follow ups. Thanks so much.

[Matthew Monaghan:]

Sure. So, if any of the listeners could imagine a plan that's plotted on a timeline, where you'd have a vertical axis that some representation of profitability in the horizontal axis is time, you'd imagine we previously had a plan that that profitability was going to increase towards our 2020 goal of $100 million in EBITDA. As tariffs and reimbursement changes occurred, there's got to be kind of a flat spot that we wouldn't have extrapolated toward that same goal had we not taken any other action. As we looked at this in the third quarter, before the earnings release frankly because we had seen some of those trends starting to develop in August or September and then more urgently we were taking actions in fourth quarter, we had to offset that kind of trending flat spot in our progress and by doing that and say you know what we afford to do certain things that had been part of that original plan. We need to do more consolidation and distribution, we need to look at every single product to say, can we really afford to continue making it with the mix of imported goods or locally sourced goods, can we consolidate many varieties of products into fewer varieties that still provide those features and benefits, but have greater sourcing synergies, are the other things that we have that we've been doing that no longer are paid for the variety or cost levels of customization we have. And we looked at that and we've come up with kind of a whole new set of portfolio constraints and things that we see are going to be delightful to customers and when we face into doing it we say you know what, not only that, but let's really accelerate our easy to do business with. E-commerce platforms that should make it easier to do order entry, so we can take our highly skilled customer service agents and really get towards the heart of the matter that our customers are trying to solve and be more effective at the things that previously on our subsidiaries. There's not too specific an answer for you Chris, but really, we've done that to every single product line around the world and it's allowed us to accumulate lots and lots of changes that we're going to aggregate into simplifying our overall network. How we take customer service, orders through B2B platforms and in a more simplified ways how we do demand planning and sourcing, how we distribute products and then move things around the world. And all that accumulates to a fairly large amount of savings that we wouldn't have looked at if we had had different pressures in the absence of tariffs.

[Chris Cooley:]

I understood. Appreciate the additional color there. And then just from me I guess to wrap up when we think about the respiratory offering and specifically respiratory in North America. Can you speak to some of the steps that you're taking there to right that ship in terms of a restoration of positive sales growth? Whether that's portfolio or valuation? Is that a function of bundling? Just talk to us about how you've seen that market evolve? And if you could also maybe just quickly give us what was the contribution to top line growth in the quarter from price? I remember you put in some step ups in ASP back in October of last year to reflect the higher costs from tariffs. Just curious if you could break out the contribution from price in the most recent quarterly results? Thanks so much.

[Matthew Monaghan:]

So, first on respiratory growth. I mean honestly there are some pretty big external factors in the United States market with this change in how CMS is opening up these previously exclusively awarded bid areas. And I think that's bigger than something we can affect our business is really to support our B2B customers. And I think still for a while the dynamics of those marketplaces are going to have a chilling effect on selling. So, in the short term, we are really looking at how do we minimize costs, optimize cash flow and to get through this inventory that we had accumulated in the fourth quarter. Although we saw or forecasted sales declines, we didn't expect it to be quite as quick or as drastic as it turned out to be. We'd have a fairly long supply chain. So even despite that, we still accumulated some inventory during that period. I think it's a healthy market. It's a sizable market. I know there's a fair amount of debate going on right now and how big the market is and how they experienced customer service, based on specific product cost increases that we were getting from tariffs directly or from the secondary effects of our suppliers having tariffs. Those rolled in to the marketplace through the end of the year some didn't actually go into effect depending on the product or region until the beginning of this year and I think it's too early to see what the effect of prices and the offsetting potential effects we've become on competitive in certain areas. I think there are other competitors of ours who are putting price increases into the market. So, I think that still hasn't washed out and we have reported that yes certainly.

[Kathy Leneghan:]

Yes, and if you look sequentially at the lifestyle product in the North America HME segments, they were down roughly about 1% from Q3 to Q4. So probably seeing the leveling out of what their customers are - would be hard to say.

[Matthew Monaghan:]

Thanks for the questions, Chris.

[Chris Cooley:]

Thank you.

[Operator:]

We'll take our next question from Matthew Mishan with KeyBanc. Please go ahead.

[Matthew Mishan:]

Hi, good morning Matt. I guess your previous long-term financial objectives were based on sales of somewhere around like $1.1 billion and also a gross margin I think greater than 30%. What is that $85 million to $105 million of EBITDA are now based on sales and gross margin?

[Kathy Leneghan:]

Yes, if the sales number were probably a little of the $1.1 billion but we would still anticipate margin expansion to be at that 38% level and then the offset would be leveraging the SG&A structure.

[Matthew Mishan:]

All right, got it. And then North American seating mobility was up 5% in the quarter. How should we think about the momentum with which your kind of exiting 2018 I think this is a business we would've been expecting to kind of accelerate exiting 2018 I think you saw a little bit of deceleration on the growth rate.

[Matthew Monaghan:]

Yes, it's not like a lot of things it's not steady quarter-to-quarter, we expect the market is continuing to be strong probably grows as low single digits, grow faster than the market. You know there are regional differences. And I think we've probably had a little headwind after the last third quarter of earnings release with a lot of chat in the marketplace over our share price change. We emphasize how strong our company is how much innovation we have how well-positioned our sales force is and how much we are aligned to help our customers drive their own profitability and growth. And I think we're seeing really good engagement everywhere. So, I don't think there's anything too different than what we expect that we've long said it's not going to be a straight line to where we want to go, and we still are in good position in all the places we want to be.

[Matthew Mishan:]

And then what changed in Europe this quarter obviously kind of return to growth after six quarters of flat to down. Was it hinder or was it the rationalization is starting to wind down?

[Matthew Monaghan:]

I think Kevin can probably add to this, but you know third and fourth quarter are typically seasonally very strong quarter, so strictly on a sequential basis we expect to see third quarter strong, fourth quarter is generally not quite as strong as third quarter, but in the latter half of the year we - generally see strength in Europe. I think some of the difference in fourth quarter is just the curtailment of the other shrinking things that we were doing earlier in the year in the business in a period that's normally stronger relative to the first two quarters of the year.

[Kathy Leneghan:]

And I think it would tie in as well to the conversation earlier about the new products that have been introduced, particularly in the mobility and seating segment and seeing that come through to the markets.

[Matthew Mishan:]

And then roughly just on respiratory. I think you kind of talk about like sort of the apprehension of some of your customers on making purchasing decisions ahead of national competitive bidding changes. Could you parse out maybe the difference between that what they're hesitant on or are they hesitant on replacing equipment or they are they hesitant on - maybe the POC strategy and shifting their fleet to POCs - from the delivery oxygen tanks.

[Matthew Monaghan:]

Yeah, it's interesting. I think it's different than the POC strategy I think if you could imagine there were roughly 100 MSAs around the country big metropolitan statistical areas, that had been awarded to sole providers or solely awarded to providers in each of those areas and those providers have done a nice job over a period of time serving the clients in those catchment areas. You could imagine if those providers had an installed fleet that they had purchased and were using and on January 1st of this year, it was - changed so that other providers could come into those MSA and get reimbursed for servicing customers. The incumbent isn't likely to go out and just all of a sudden continue buying at the previous rate, that probably have a little wait and see attitude maybe instead of buying new units they're going to hang on to existing units a little longer. Maybe change the level of economic repair to keep their fleet going a little longer to see. On the other side the new entrants to those markets maybe providers who had long ago then in those markets we're going to try to come into those markets but without knowing exactly how successful they were going to be. Probably they weren't making huge investments in a portfolio to come into those markets. So, I think what we're seeing here is how the dynamics are playing out and as confidence grows an incumbent or a new entrant provider. I think you'll see purchasing come back to normal levels and then the first thing will probably come back in probably the same mix this has previously been certainly compared to many years ago there are more availability of POC, but I'd probably pass that differently between B2B and the consumer side of that.

[Matthew Mishan:]

All right. Thanks Matt.

[Matthew Monaghan:]

Thank you.

[Operator:]

We'll take our next question from Jim Sidoti with Sidoti & Company. Please, go ahead.

[Jim Sidoti:]

Morning. Can you hear me?

[Matthew Monaghan:]

Yes Jim. Good morning.

[Jim Sidoti:]

Great. I just want to clarify or make sure I understand some of the comments you made regarding your adjusted EBITDA guidance. Did you say that going forward, that guidance now excludes stock-based expense, but prior to this that stock-based expense was included in that guidance?

[Kathy Leneghan:]

Yeah. In the original $100 million target, that comp would have been included as an expense in the adjusted EBITDA target of the $85 million to $105 million, we have excluded it. If you look back at history, our stock comp expense averages about $5 million to $6 million on an annual basis. But it can move between year and so. As a good example, this year in 2018, the expenses about $5.3 million in 2017, it was over $7 million.

[Jim Sidoti:]

Okay. And what do you mean - sorry go ahead.

[Matthew Monaghan:]

Well I was just going to say that, we took restructuring out, because we had previously thought we would have everything tidied up by the end of 2019 and we didn't specifically make the calculation to take restructuring out of our private guidance, we just had a plan that was based on not having any restructuring after 2019. So, ultimately the guidance didn't have it in before although it was more specific about it, but that was the underlying plan. Now, to accommodate the headwinds of tariffs and changes in post-acute care and respiratory, we'll be taking action through 2020 that will include restructuring charges of removing those basically gets us back to an equal comparison to before.

[Jim Sidoti:]

Right. So, you're responding to the external effects of the tariffs and that's why we have the additional restructuring?

[Matthew Monaghan:]

Right.

[Jim Sidoti:]

Okay. What are you assuming for depreciation and amortization for 2019?

[Kathy Leneghan:]

If you take a look at 2018, we were roughly $17 million, I would assume might be in a similar range with that, while we will make investments on the CapEx side of the house to drive efficiencies within the operation, there will be other CapEx that would roll off. So, I'd say in that 2017 range it's probably reasonable.

[Matthew Monaghan:]

And pretty consistently I don't think if we go too much differently than we've ever set them up, probably not more than 2% of sales in CapEx. So, that depreciation rate will stay pretty consistent.

[Jim Sidoti:]

Okay. And then on the balance sheet, it was a pretty material change in other current assets and then a corresponding change in other long-term obligations. What was that about?

[Kathy Leneghan:]

It's the fair value of the convertible debt related instruments. So, it's a non-cash item, but it does impact both other long-term assets and other long-term liabilities. There was a significant move and you see that on the income statement with the gain or loss on the convertible debts as derivatives.

[Jim Sidoti:]

Okay. Is that impacted by the share price.

[Kathy Leneghan:]

It is yes.

[Jim Sidoti:]

Okay. All right. And then just going forward you know you talked a lot about the respiratory business. How long do you think before that returns to a more normal buying patent, is that two quarters or could that be below?

[Matthew Monaghan:]

So, nobody knows the age of those, who are here, my assumption is at least your first quarter, maybe in the second quarter. It's unclear but we've taken actions that should mitigate the worst parts of cost increases for any reasonable amount of time in 2019. And we're putting actions in the hopper of things we're going to do to offset that in other areas. But I don't think it will. I don't think it'll materially improve in the first quarter probably.

[Jim Sidoti:]

Okay, great. All right.

[Matthew Monaghan:]

Thanks, Jim.

[Operator:]

We'll take our next question from Mike Madison with Needham and Co. [ph]. Please go ahead.

[Unidentified Analyst:]

Good morning. Thanks for taking my questions. I guess I just want to go back to the commentary around the reevaluation of the various business segments in this incremental cost optimization. So, what is the timing of this? When do you expect to have answers and you know do you plan to make some sort of an announcement when all this is done?

[Matthew Monaghan:]

Timing is throughout the year and I guess honestly, I'd say it's already started. We have a continuum of small to bigger changes that we would expect to make on the smaller end, we curtailed we've already curtailed production or sales of products that didn't meet minimum thresholds for profitability, but we look not only within families on certain production lines we look at more production lines. We can look at bigger units of things that we do. And we're not going to go out too far in advance and talk about what those things are, but they are absolutely part of the plan that we have to get 2019 goals and those will continue throughout the year. We want to make sure that our customers are always well served with great products and the variety of products that they expect. But we've got lots of constituents to keep involved in those as we consider those communication efforts, so nothing to disclose today beyond the plan that we have. But those actions are already underway. And as we've done in the past and there are various publications, we've put out there with timelines of things that we've done, and you can see there's a relatively consistent frequency of actions that we've been taking and that's the kind of thing that should continue probably for the next 24 months.

[Unidentified Analyst:]

Okay. And then, with regard to the respiratory business I mean would it be feasible to exit the parts of that business that excluding the POCs or do you feel like you need to have the other products and their tank and the home full type products to kind of - is there some synergies there with the POC business?

[Matthew Monaghan:]

Good question. I think consumers like POCs, providers like POCs to the extent that consumers ask for them. But it's a pretty expensive way to provide portable oxygen and certainly much more expensive than allowing consumers to fill their own small tanks at home. And interestingly as consumers like to have something that small and lightweight and super quiet, there is really nothing smaller lighter weight or super quiet than the M tanks that a user can fill at their home that weigh as little as two pounds, that provides several hours of oxygen and aren't much bigger than a water bottle. And they're delightfully cost effective for our providers and really very easy to use for consumers. So, I think, it's a little bit [ph] today to have an electronic device. We have a wonderful one. We also think the home field device and the 5- and 10-liter units that supply source oxygen to those would continue to be viable and they're good business for us. Within that though, we look at how we improve cost, always looking at reliability and making sure that we're not having too many varieties of products that have more varieties, than really makes a difference in the marketplace, especially with those varieties costs as incremental effort to bring to market. So, I would say simplifying the respiratory product portfolio is the first level of things that we're doing already.

[Unidentified Analyst:]

Okay. And then just with regard to your POC business, I know you talked about doing some POC marketing. Is that still part of the strategy? And to you what sort of resources, or I guess capital do you have to kind of deploy there?

[Matthew Monaghan:]

We were pretty excited about being available for consumers to see our products and transact how they were. We think it's preferred that they're around the provider ecosystem of support because people who need oxygen provision, probably have lots of other needs in their lives. And we have a long legacy of strong relationships with providers, so we like that. But for folks who need to get online, they're somehow inconvenienced and that's better for them. We did develop that capability and I think we ended the year with a recipe that works. You can put a lot of money into that kind of expansion and with the absorption of working capital and inventory at the end of last year, we curtailed our efforts. It wasn't the best return on a cash rate then. We had that capability going forward in the very short term where we're hyper focused on making sure that we're as profitable, as we need to be in that working capital is moving through the system. So, it's less of an emphasis for us right now. But we continue to do things to make that portable oxygen concentrator still novel in the marketplace, with what we're doing with wireless connectivity, diagnostics, ease of use things like that. So, I think it'll be a little mixed with less cash going into that in the short-term.

[Unidentified Analyst:]

Okay. And then finally, just the cash - the free cash flow guidance for the year of the $25 million. Does that - would that include any brief additional restructuring? So, I mean if you were to hypothetically announce some sort of larger restructuring to occur - start to occur this year. Would you have to adjust that?

[Kathy Leneghan:]

We do have some restructuring built in. But, as we continue to finalize our plans, there could be additional restructuring, but we would anticipate there would be savings from those actions to offset that. So, we're not looking at a significant deviation of that $25 million.

[Unidentified Analyst:]

Okay. Great. That's all I have. Thank you.

[Matthew Monaghan:]

Thanks, Mike.

[Operator:]

It appears there are no further questions at this time. I'd like to turn the conference back to you for any additional or closing remarks.

[Matthew Monaghan:]

Well, thanks for your time and attention in today's call. There is always Kathy, Lois and I are available for follow up questions. Hope you have a good day. You can contact Lois to make any of those arrangements. Thanks for helping us out today.

[Operator:]

This concludes today's call. Thank you for your participation. You may now disconnect.