Invacare Corporation
Q4 2016 Earnings Call Transcript

Published: 9 Feb 2017

[Operator:]

Good morning, ladies and gentlemen, and thank you for standing by. Welcome to the Invacare Fourth Quarter and Full Year 2016 Conference Call and Webcast. After the management overview, we will open the call to 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 have been placed on mute. This conference is being recorded, Thursday, February 9, 2017. I will now turn the call over to Lara Mahoney, Invacare’s Senior Director of Investor Relations and Corporate Communications.

[Lara Mahoney:]

Thank you, Leanne. Joining me on today's call from Invacare are Matthew Monaghan, Chairman, President and Chief Executive Officer; and Rob Gudbranson, Senior Vice President and Chief Financial Officer. Today, in addition to reviewing the fourth quarter and full year 2016 financial results, we will give investors an update on our multi-year, three-phase turnaround plan to re-orient the company’s resources to a more clinically complex mix of products and solutions, particularly in North America. To help investors follow along, we have created slides to accompany this webcast. For those dialing in, you can find the link to our webcast on www.invacare.com\investorrelations. On our Investor Relations page, you will also find a PDF file of the webcast slide presentation that we'll refer to during today's call. Before Matt begins, I’d like to note that during today's call, we may make forward-looking statements about the company that by their nature address matters that are uncertain. Actual future results may differ materially from those expressed in our statements today due to various uncertainties, and I refer you to the cautionary statement included on the second page of our webcast slides and in our fourth quarter earnings release. For an explanation of the items considered to be non-GAAP financial information that will be discussed on today's call, such as free cash flow, constant currency net sales, adjusted earnings and loss, adjusted consolidated gross margin and EBITDA, please see the explanatory note in the appendix of our webcast slides and in the related footnotes and reconciliations in the earnings release posted on our Web site. Also, please note that the company completed divestitures of certain of its businesses in the third quarter of 2016 and 2015. Those businesses are included in the 2016 and 2015 results that will be discussed on the call, unless otherwise noted. With that, I will now turn the call over to Matt Monaghan.

[Matt Monaghan:]

Thank you, Lara, and good morning. We appreciate you joining the call this morning. As Lara mentioned, our company is undertaking a comprehensive transformation that is essential for growth and profitability. As we have shared with investors before, the magnitude of what we are changing is significant and fourth quarter results reflect this. During the quarter we accomplished a lot of heavy lifting. Before we dig into the details, I’d like to make sure everyone on the call has the same essential overview of our company and the reason for this major renovation. Slide 3 in our webcast presentation gives a basic overview of Invacare. From it you will see that our company makes products that help people move, breathe, rest and perform essential hygiene, and with those products we focus on supporting people with congenital, acquired and degenerative conditions. These are important parts of care with people with a range of challenges, from those who are active in heading to work or school each day and may need additional mobility or respiratory support to those who are cared for in residential care settings, at home and in rehabilitation centers. Invacare has been broadly a one-stop shop provider of these products for its nearly 40-year history. Starting several years ago, especially in the United States, with reimbursement reductions focused on basic aids for daily living, the market for these products has changed. And where customers have intensely focused on lowest cost single-use alternatives, it has become impractical and uneconomic for Invacare to continue with a common infrastructure geared for making sophisticated products needed to solve clinically complex problems but also be making basic aids for daily living if durability is not of focus. Since the middle of 2015, the company has moved away from our one-stop shop strategy and has elected to share products and business infrastructure associated with lower clinical and economic value. Our new strategy focuses on the parts of our portfolio that engage our expertise and resources to solve tougher clinical challenges with better returns. This leverages the best of what Invacare has long done and eliminates the diluted parts of the business, bringing alignment of resources focused on patient-centric solutions for tough challenges. This transformation is substantial, especially in our North America businesses, where it could change product mix, the commercial approach, our sales organization and reduce the less strategic parts of the business in a quick and orderly fashion. At the same time, we’re shifting resources to execute a heavier emphasis on the more clinically complex parts of our business and making progress on quality remediation. To do this, we’ve divided our renovation program into three phases as you’ll see on Page 4, beginning in 2015 and taking us through 2019 and beyond. This is a crawl, walk, run kind of program. The three phases of this transformation are first, assessing our strengths and re-orienting our business to match long-term market trends, followed by phase two, which is about rebuilding the company in alignment with our new direction. And finally phase three, which is growth and acceleration built on a foundation of phases one and two. In 2016, we made significant progress through phase one of our transformation. We strengthened our balance sheet with a convertible debt issuance in February which financed our transformational activities for the year. We added talent at the global leadership level of quality, regulatory, engineering in leading our European business. Within North America we added substantial resources to our commercial, marketing and product management team. We have continued to make progress building a culture of quality excellence. And we’ve shifted our product mix to more clinically complex products while also discontinuing our broad swath of non-core product lines and divesting our single user aids for dealing within portfolio. In 2016 and especially in the fourth quarter, we saw the impact of significant costs from investing in the North America sales forces, quality remediation and research and development ahead of the expected benefits and efficiency gains in commercial results. We chose to do this to hasten change and get to building momentum sooner. People will ask if fourth quarter was worse than expected. In the fourth quarter we made a lot of change. We had a few things that did not go as planned. For example, we put a vast amount of change to a very new North America commercial organization, especially in October with the announced discontinuation of products and a normal amount of supply chain variability, which prevents us from getting the traction generally in the North America/HME and especially in mobility and seating that we expected. Given the combination of lower net sales and slower inventory velocity, our lower payables balanced growth in our free cash flow. Despite this, we completed a lot of foundational work that will help us in the future, such as building the new North America commercial organization which sets us up well for 2017. Two weeks ago, I attended our U.S. sales training meeting in Phoenix where over 40% of our U.S. commercial team is new and practically a 100% of our sales force have been re-oriented in some way; new call points, new products or new geography. The positive conversations and the tone of the event combined with consumer insights, clinical panels and great clinical content gave great confidence that we’ve built a strong team to execute our strategy. But we still have to ask, was the business worse in fourth quarter? And I turned to my house renovation strategy which I’ve used before. If someone has a big kitchen remodeling project and during the initial phase all the drywall has to come out, the floor and cabinets have to removed, is it worse on the first day in the dust? Well, it is if you wanted a dinner party that day but not if you’re objective is to execute a major renovation as part of the process needed for real change and a great result. That’s our objective and that’s the plan we’re executing. On Slide 5, you’ll see the results of the fourth quarter compared to the key financial indicators of phase one that we’ve referred to in our investor presentation. Revenue, as I mentioned, has to come down in the short term to reduce less strategic business and focus on growing the part of our business that provides more value in rehabilitation and post-acute care. We need to be able to shed this type of business to the extent possible which then allows us to reshape our business infrastructure for efficiency and costs. If we still do most of everything we’ve ever done in the past, we will not get to the resize, re-cost of business we need. As a result of these actions, the fourth quarter consolidated constant currency net sales decreased 11% for the quarter compared to the fourth quarter of 2015. Constant currency net sales increased for the Europe and Asia-Pacific segments but were more than offset by declines in the North America/HME and IPG segments where this renovation is most intensive. Excluding the divested Garden City Medical business, constant currency consolidated net sales decreased 8.1% compared to the fourth quarter of 2015. Along the way in phases one and two, we expect gross margin is going to shift; first with gross margin percent increasing and later with gross profit dollars increasing. With adjustments as described in the release in North America/HME, consolidated adjusted gross margin was lower by tenth of a percentage point comparing fourth quarter 2016 to fourth quarter 2015. Despite favorable sales mix, gross margin was lower primarily due to unfavorable pricing from customer rebates and product discontinuation activity, as well as increased warranty and R&D expense. Gross profit dollars declined for all segments expect Asia-Pacific with the majority of the decline occurring in the North America/HME segment. Excluding foreign currency translation and the divested Garden City Medical business, SG&A expense decreased $1.8 million or 2.3 percentage points for the fourth quarter of 2016. The SG&A expense for the fourth quarter of 2015 included a write-off of a cancelled legacy software program. Excluding this write-off, SG&A expense increased largely due to product liability expense, partially offset by a decline in employment costs. In the fourth quarter of 2016, the company reported negative $10.6 million of free cash flow compared to a positive $28.6 million of free cash flow in the fourth quarter of 2015. Free cash flow in the fourth quarter was driven by increased net loss and reduction in accounts payable and accrued expenses. EBITDA in the fourth quarter was negative $3.2 million compared to positive EBITDA of $6.1 million in the fourth quarter of 2015. The decrease in EBITDA was impacted by lower net sales, reduced gross margin and unfavorable foreign exchange partially offset by reduced SG&A expense. While not noted on the slide, I’d also like to point out that the adjusted net loss per share was $0.46 compared to adjusted net loss per share of $0.09 for the fourth quarter of 2015. The increases in net loss and adjusted net loss were driven by lower net sales. The company incurred net interest expense of $4.6 million in the fourth quarter of 2016 compared to $0.9 million in the fourth quarter of 2015. That increase was primarily due to the company's 2016 convertible debt issuance. I’ll now turn the call over to Rob Gudbranson, our CFO, to discuss the performance of the segments and additional financial results for the fourth quarter.

[Rob Gudbranson:]

Thanks, Matt. As you’ll see on Slide 6, constant currency net sales for the Europe segment increased 2.7% in the fourth quarter 2016, principally due to increased net sales of mobility and seating and lifestyle product categories. Operating earnings decreased by 2.5 million compared to last year. The decrease in operating earnings was driven by unfavorable gross profit and increased SG&A expense related to employment costs. Gross profit was negatively impacted by pricing, largely due to higher customer rebates, foreign currency and R&D spending. Gross margin as a percent of net sales and gross profit dollars decreased in the quarter compared to the fourth quarter of 2015. For the fourth quarter of 2016, constant currency net sales for the North America/HME segment decreased 27.4%. Excluding the net sales impact of the divested GCM business, constant currency net sales decreased by 21.4%. The decrease in constant currency net sales was across all three product categories, most notably in lifestyle and respiratory. Operating loss for the fourth quarter increased by 8.2 million compared to the same period in prior year. The increase in operating loss was primarily a result of the net sales decline and an unfavorable gross margin, partially offset by reduced SG&A expense. While gross margin benefitted from favorable sales mix, it was more than offset by warranty, pricing and R&D expenses. Including the adjustments that are detailed in the release, adjusted gross margin would have been only slightly lower comparing fourth quarter of 2016 to fourth quarter of 2015. The reduced SG&A expense in the fourth quarter of 2016 was related to the 2015 write-off of a cancelled legacy software program, the sale of the Garden City Medical business and reduced employment costs which were partially offset by increased product liability expense. In the fourth quarter of 2016, gross margin as a percent of net sales and gross profit dollars decreased compared to the fourth quarter of 2015. For the fourth quarter of 2016, IPG constant currency net sales decreased by 19.4%. The decrease in constant currency net sales was driven by declines in most major product categories. Operating earnings decreased by 0.5 million compared to the fourth quarter of 2015 primarily related to net sales declines and gross margin impacted by unfavorable sales mix, partially offset by reduced SG&A expense and employment costs. Gross margin as a percent of net sales and gross profit dollars decreased compared to the fourth quarter of 2015. For the fourth quarter of 2016, Asia-Pacific constant currency net sales increased 2.7% compared to the fourth quarter of 2015 driven by the Australia and New Zealand distribution businesses. For the fourth quarter of 2016, operating earnings increased by 1.1 million to a positive 0.2 million primarily due to volume increases and an improved gross margin driven by favorable sales mix and reduced SG&A expense related to employment costs. Gross margin as a percent of net sales and gross profit dollars increased in the quarter compared to the fourth quarter of 2015. Moving to Slide 7, total debt outstanding was 196.5 million as of December 31, 2016 compared to 197.2 million as of September 30, 2016 and 48.3 million as of December 31, 2015. The company’s total debt outstanding as of December 31, 2016 consists of 163.4 million in convertible debt and 33.1 million of other debt, principally capital lease liabilities. The company has zero drawn on its revolving credit facilities as of December 31, 2016. And since year-end, as announced in our release on January 31, 2017, we retired the remaining 2007 tranche of convertible debt for approximately 13.4 million in cash on February 2, 2017. As of December 31, 2016, days sales outstanding were 42 days comparable to December 31, 2015. Inventory turns were 4.3 as opposed to 4.9 as of prior year year-end. I’ll now turn the call back to Matt. We then can address questions.

[Matt Monaghan:]

Thanks, Rob. Turning to Slide 8, I’ll summarize the key actions from 2016 and then look forward to 2017. As we’ve discussed today, the fourth quarter has a challenging combination of significant investments ahead of anticipated benefits. That said, we made good foundational progress in 2016 and on this side, we’ve highlighted our most recent updates in green. In terms of strengthening the balance sheet at the end of the fourth quarter, the company had over $124 million in cash. We made progress with our quality efforts first with the third party certification of the third phase of the consent decree in February 2016, and more recently by completing the remediation of the specified design history files in December 2016 which have been submitted for third party expert review in January this year. We largely rebuild a North America commercial team with significant investments in the complex rehabilitation and post-acute care sales teams, including a lot of recruiting and training. As I mentioned, over 40% of our U.S. sales force is new and they were fully on-boarded in the fourth quarter. We expect the new sales representatives to be accretive by the end of 2017. Since we started the rehab sales force process earlier than the post-acute care team, we expect to see improvements in that area first. Also in 2016 we reshaped our North America product portfolio. For example, we integrated complex rehab products from several highly focused specialty subsidiaries including Alber electromotive technology, Adaptive Switch Lab’s alternative drive controls and Freedom Designs pediatric and adult tilt-in-space wheelchairs, all into the company’s broad product portfolio. These products now are available across the full North America commercial team but previously these were standalone businesses with unrelated [ph] commercial programs. Now these also have been ramping up its global innovation pipeline with the focus on clinically complex solutions, including the fourth quarter launch of our new Invacare Platinum Mobile Oxygen Concentrator. Invacare Platinum Mobile has better battery life, durability and ease of use with comparable models with the same oxygen output, sound level and weight, a very exciting program. Also in December, the company received 510(k) clearance to launch the Swiss Kuschall line wheelchairs in the United States, which brings a whole new line of lightweight, high-performance wheelchair products to the U.S. active segment. Kuschall has long been an innovator mixing great performance, lightweight materials and attractive designs. We’re excited to bring this great product line to the market. To effectively re-orient the company towards clinically complex product portfolio, we significantly reduced sales of non-core products. This was partially done through the divestiture of Garden City Medial at the end of September, which sourced and distributed primarily single-use lifestyle products. We also discontinued many nonstrategic and uneconomic product lines, including basic consumer power in wheelchairs in North America. We’re still making great power wheelchairs for millions of combinations of options with even faster order to ship times for highly customized configurations. Finally on Page 9, let’s look forward. After heavy investments in 2016, 2017 will be more of an execution year as we shift to phase two activities in North American businesses and start capitalizing on commercial improvements we made during 2016. Our new product pipeline is filling with more than 10 new products that were released in the complex rehab and post-acute care markets in 2017. In the next phase of this transformation, we’ll begin shifting our focus to operational improvements, including the realignment of our infrastructure and processes to drive efficiency and reduce costs. As an example, on January 31, 2017, we announced a workforce reduction that will begin to align our organizational structure with our new sales level and drive simplicity. As part of this realignment, we announced the closure of our Kirkland, Quebec facility which while relatively small represents another step towards optimizing our supply chain footprint. We expect these actions will result in annualized savings of $6.6 million. We plan to continue implementing broader, sustainable quality improvements throughout the business, which include making progress with the consent decree and continuing to drive on quality culture. The combination of these efforts is critical to moving us forward, particularly as we expect continued pressure from foreign exchange, especially in our Europe segment and as we work to complete the remaining reductions in non-core sales during the first half of the year. The magnitude of Invacare’s transformation is significant and we appreciate the support of our shareholders and associates through this process. We have a long-term strategy to rebuild this business, be a sustainable leader in our markets and we’re committed to delivering our long-term objectives. Thanks for taking time to be on the call this morning. We now have time for questions.

[Operator:]

[Operator Instructions]. We’ll take our first question from Bob Labick with CJS Securities.

[Bob Labick:]

Good morning.

[Matt Monaghan:]

Good morning, Bob.

[Bob Labick:]

Now [indiscernible] in terms of the ongoing transformation on the complex product. You talked a little bit about R&D in the quarter. Can you tell us overall where you stand in terms of re-product sales now and how much of your future sales are going to come from product being in development and just give us kind of the timeframe in pipeline of the new products and potentially if there are new categories that you’re looking into going into?

[Matt Monaghan:]

Okay. I heard the question on the R&D in the quarter, sales of products and development pipeline and new categories. So R&D in the quarter was really focused on getting remediation done and I’m excited to have reported that we met our internal deadlines of getting these design history files remediated ahead of our internal deadline, which is a substantial body of work. I’d just speak to that for a second. If people don’t know, a design history file isn’t just a vanilla folder file. It’s an entire body of work that represents the company’s consideration of user needs, how a product’s designed to meet those, how to product is specifically designed, tested, validated and verified. And if we took those four design history files and printed them and lined them up, it’d probably be 20 feet of paperwork, which is a lot of paper but more importantly it’s a representation of a tremendous amount of effort by the company to harmonize our design, to clearly document what these products do in a world-class way. So R&D in the quarter was really in the second half focused on getting that done with many, many associates and we chose to keep that timeline and support new product development, like the launch of the Platinum Mobile oxygen concentrator. As I mentioned in the past, we look forward to R&D in the future. It’s not about really an increase in R&D spending, it’s about focus our R&D resources on more essential work, fewer nonessential line extensions and a better clinical portfolio, which I’m pleased with what we did in the quarter; things like the Kuschall line and the 510(k) taking a lot of effort.

[Rob Gudbranson:]

Matt, the only thing I’d add to that and I agree 100%, particularly in North America/HME, you’re right. It was all driven by the DHF. I would point out that we had increases in Europe and we did have an increase in Asia-Pacific; Europe working on new products too and Asia-Pacific working on the LiNX product which we introduced. So there were other things too and, again just wanted to expand on that.

[Matt Monaghan:]

So sales and development across the pipeline is I’m sure you and other listeners know is it takes a while to get traction. So, for example, on the Platinum Mobile oxygen concentrator, we started showing that in the United States, the first week in November as an example and we use that to show customers what the new products are about. It takes a little while to get customer appointments to get into the details. Customers typically will give you an RFP for a small number of units to start trialing to see how they’re going to fit in their fleet, maybe watch those for 90 days or something like that. And then get into a greater order pattern. So we’re excited about having this product portfolio coming into market in 2017, which really has meaningful new products in all our categories. No new categories but in all our existing categories we have meaningful new products, which start being accretive immediately from the sense that it gives a sales associate a reason to have a deep conversation with a customer about what Invacare is about and how we help patients. So I would say, while we’re not going to see increased sales from new products immediately in the year, we’re going to start seeing stimulated activity of our commercial team as a result of that, and we believe we have a sustainable pipeline process that will continue in the future beyond 2017.

[Bob Labick:]

Okay, great. Thank you. I’m sorry if it’s hard to hear me. I’m working from home because of the snowstorm and I have a new headset on.

[Matt Monaghan:]

Okay, great. Well, I’m glad you can join us. Thanks, Bob.

[Bob Labick:]

Sure. And if you can, I’ve got one more too as well. You have this multiyear history of organic growth in Europe and obviously that business is very strong. Can you just remind us again and compare and contrast similarities between the operations in Europe and the U.S. in terms of distribution and payers’ reimbursement? And particularly as you’re moving the U.S. furthermore, clinically complex will be more a lot like when you get to the end of this transformation.

[Matt Monaghan:]

Europe has a lot of similarities in terms of the type of needs we need with our products and the types of products that we have. But I’d say just one significant exception in Europe and that is most of the countries have if not a single payer system, a strong federal payer system. And in single payer systems, as implemented in Europe and Sweden and Norway and UK, you get a strong value for total cost of care and there’s still an appreciation for durable medical equipment. So if you look a Nordic government, they’re going to buy a product with the intended use and reuse and ability to refurbish and reuse products over and over again for their citizens which I think they can demonstrate reduces total costs of serving a population. Specifically in North America it has gotten different through national competitive bidding, because there’s been such a severe reduction in reimbursement to our customers for aids for daily living that is not always economic to even take up the product that’s been deployed with the patient. So in that case, a customer of ours has often turned out to get a single use product where it’s not about total cost over a long life, it’s about cheapest cost to buy one with the expectation it’s going to be left behind. And that’s fundamentally different, because Invacare is more than based on building really robust durable products. And in North America this shedding of lifestyles is really because there was a change in market expectation around single use. Now in the residential care facilities and in the VA and other institutions where costs are managed more looking at total cost of care, less on purchase price, we still have a great exchange of value; durable products at a reasonable price where we get rewarded through margin by being innovative in delivering. But there’s more change in that area in the United States because of reimbursement cuts I would say than in any place else in the world.

[Bob Labick:]

Okay, great. Thank you very much.

[Matt Monaghan:]

Okay. Thanks, Bob.

[Operator:]

We’ll take our next question from Matthew Mishan with KeyBanc

[Matthew Mishan:]

Good morning, Matt, Rob, Lara.

[Matt Monaghan:]

Good morning, Matt.

[Rob Gudbranson:]

Good morning.

[Lara Mahoney:]

Hi, Matt.

[Matthew Mishan:]

Could you first dig a little deeper into some of the events in the quarter and particular around I guess you mentioned supply chain that impacted mobility and I think some of the discontinuation of the – because it were power products. And what impact that had on the quarter?

[Matt Monaghan:]

Okay. Well, fundamentally in fourth quarter we had North American results and honestly they were a little disappointing. We had expected to bring sales down to a certain extent and for everybody’s recollection, the North America/HME business is really lifestyles, respiratory and seating and mobility. We have continued to plan to take lifestyles down as we’ve talked about for some time and we did that in the quarter. Respiratory was a little softer than we had expected. That’s the kind of continuation of what we’ve seen in 2016 and it’s still early days for our Platinum Mobile oxygen concentrator. That’s going to be a great product but it takes time to get going. And then in seating and mobility I think that was really the myth. We have this great new sales team that’s out with a good understanding of the products and the customers and our new quota process and everything. But with the amount of change that we were driving through that team, I think we underestimated the amount of less productive time that was going to be required talking to customers about discontinued products, shifting quotes and orders to the configurations that we’re going to continue past discontinuation and doing a lot of things that didn’t result in a number of direct sales that we would normally expect for that same number to keep on that same amount of time. There was really a tremendous amount. And then you don’t go through a big product discontinuation which is effectively a supply chain hustle to execute all the orders for products that are about to stop and then stopping. So there was a lot of work with vendors and internal supply chain operations to make sure that that gets done as efficiently as possible and those kinds of things require more explanations with customers, so we were clear on all the dates and milestones along the way. I think in the future, as we mentioned, there’s a little more sales reduction to do but it’s not of the wholesale variety, especially in the seating and mobility lines like we’ve had recently. That discontinuation of consumer power really took a lot of time.

[Matthew Mishan:]

Is it possible for you to look at North America/HME and the sales decline there and say that what is the – and quantify what the impact was of the discontinuations and the rationalizations versus what the impact of just the underlying business – the underlying environment is on your results?

[Matt Monaghan:]

It’s tough to do precisely but I’d say we start with the market. So I think fundamentally the market is as it’s been. The number of new needs for people in those kind of products continues. Pricing continues more or less the same. We had some customary based. Those were based on volume achievement, not other forms of pricing really. And then I think our fourth quarter was really – that execution just on sales and mobility and lifestyles, we expect in respiratory that was still soft. So when we look back at the quarter and think about what would have been a better quarter for us, I’d say 80% of that decline would have probably been closer to what we had anticipated and the difference would have been better performance in seating and mobility as a result of less disruption through that process. In respiratory we’ve been talking about coming back for some time. That’s our anticipation. We thought it would come back a little sooner with more distance between now and national competitive bidding, that last round of rollout, because that home build system is still a great way to eliminate transportation costs for customers that are willing to go to non-delivery methods of oxygen. But I think it’s a big CapEx expenditure and it’s still being shift. So that’s a change that still remains in our future that we expect to happen. And then our product portfolio in respiratory is getting a little tighter. So it’s time to get the Platinum Mobile out there but it’s still early to see that making the general improvement yet on respiratory. We expect that to happen through 2017.

[Lara Mahoney:]

And as we note in the release [indiscernible] respiratory with some majority of the decline. So obviously mobility and seating was down but it’s primarily the [indiscernible].

[Matthew Mishan:]

Okay, got it. Thanks. That’s helpful. And just following up on the respiratory, I believe you’ve indicated in the past that the customer base there is a little bit more consolidated, a little larger and you kind of deal with them more on a corporate sales level. And I’m just curious if you can give us a little bit of indication around what your conversations have been like with the C-suite around the new Platinum Mobile concentrator? And how your customers are kind of looking at that?

[Matt Monaghan:]

They’re looking at with interest. I think that is a new segment in our market relative to the age of the market where consumers want to get away from the cord in a lot of lifestyle conditions. They want to be very, very mobile. And this battery operated, relatively small output, portable oxygen concentrator is a great lucrative market because it brings more people into this part of therapy. The challenge is these are more expensive to operate and maintain for a provider in a fleet if compared to more sturdy modalities like oxygen tanks or stationary concentrators which aren’t moving. So one of the things that smart operators do is evaluate products for the total cost to serve their customers and we’re getting good interest on our Platinum Mobile, and we’re in that phase of them evaluating numbers of these in their fleet on a trial basis to make sure they’re holding up the way that they need to move the cost to serve for their markets. So that’s one of the things we’ve been focused on with the Platinum Mobile was same weight, noise and output as the best competitive product out there. Those are important for the consumer but we’ve also really focused on durability which is important for the customer who’s got to do as much as they can to manage costs to serve those end users as possible. We think the Platinum Mobile is going to be really good in that area. But it’s going to take us a couple of quarters to get through the 90-day trials, the results review, the RFQ and then bringing it more fully into their fleets. But we’ve got really good engagement.

[Matthew Mishan:]

Okay, great. And then on the shift to phase two, which I think is really encouraging. In the presentation it basically indicates that in that shift you’d expect sales dollars and gross profit dollars to be up later in 2017. And I just wanted to assess your confidence that in the back half of 2017 you’re going to start seeing those results turn and you’re going to get some positive comps in the business as you exit the year.

[Matt Monaghan:]

We have a great commercial team that we’ve built. That’s the team we’re going forward with. So the increased cost affiliated with the selling of our products is going to start tapering off units and we might have a few here and there. But it’s essentially where we need it to be and 2017 is about sales execution. So you’re right. From now we’re looking for shallowing [ph] out of the sales decline and ultimately leading to that increase and we expect 2017 to be an execution year that way. And 2018 is the year where we have the anniversary out of those other things. So you look at like fourth quarter this year where we discontinued consumer power in North America. Well that’s only the first quarter of that discontinuation, so we’ve got three more quarters of consumer powered anniversary out in 2017. But the focus on the more clinically intensive, more economically contributing products will be at play really immediately.

[Matthew Mishan:]

And then the last question from me for Rob, I think. Does some of the changes in free cash flow in the fourth quarter reverse out some of the seasonality you typically see in the first quarter? And on tax expense that’s been higher the past couple of quarters. I’m just curious your explanation as to why it’s bounced.

[Rob Gudbranson:]

Okay. Let’s hit the second one first, Matt. So in terms of looking at the tax and I’ll focus on the adjusted interest in particular, which only removes the amortization of the discount on the convertible debt. But the big drivers there – sorry on the tax; I’ll focus on the adjusted tax. So the advantage point I have for you is that we ended up having 5.1 million in the quarter as opposed to 3.7 million on tax, which is 1.4 million higher. A piece of that was related to our valuation allowance that was put on the European country. Additionally, we had some discrete withholding issues in some European countries. So at first glance you would say, hey, those are not necessarily “repeatable.” But I guess the key for me is Europe’s becoming a little less profitable. I’d emphasize earlier what Bob Labick said, they’re still showing organic growth. And most of their decline in operating performance is driven by the FX pressure they’re seeing particularly on the pound, a little bit on the euro. But as Europe gets less and less profitable, we get less benefit from our Swiss Kuschall [indiscernible] which is a much lower rate. So we’re paying tax in higher jurisdictions so that’s been slowly maturely going up. Really Europe’s the key tax payer location. We’ve got Canada too. We’ve got some other locations where we pay tax but the biggest piece by far is Europe. So again that was true in the quarter and true in the year in terms of an increase. So I wouldn’t say that I’d see anything move though again there were some very discrete items that bit us in Q4. In terms of cash flow, let’s talk about that maybe as a year as opposed to specifically the quarter. These are always timing issues in a specific quarter. As we look back and Matt related in the release description we had for the webcast, we ended up having a drain of ballpark 67 million as opposed to in 2015 10 million in free cash flow. That’s a swing of about 77 million. I’d give you a couple of things that won’t repeat. We know that we paid in that year of 2016 12.5 million related to the Danish tax issue that we had. So we had some payments that – and 12.5 million is substantial that would explain a portion of that. I’d give you the other big buckets because I think they’re going to be important for talking about 2017. So let’s go through first the GAAP loss. We lost in 2016 versus 2015, we lost 16.7 million more. But in that GAAP loss in '16, we had a gain on a sale of business and in '15 we had a loss on a write-off of a legacy system. So if we sort of adjust for those and sort of look at the GAAP loss after I’ll call non-cash impacts, we went down by 27.5 million. It’s going to be very important as Matt related that we continue to see a turn both in terms of lowering our cost but then additionally start seeing North America deliver that improved sales line in gross profit dollars. The biggest opportunity of the balance sheet is the inventories. We ended up having a generation in 2015 of about 12 million. And in 2016 we ate 10 million. That is not a good performance for us. We were 4.3 inventory turns at the end of '16 versus 4.9. If we’ve been at 4.9, we would have been better in cash flow by about almost 17 million. So we got a lot of opportunity on inventory. We got to reduce the problem that we saw with the loss both GAAP and the adjusted number I threw out. And then finally we got the fact that the Danish tax won’t return. So from my advantage point those are the big buckets. We got to look hard at those in terms of making some movement, but lowering inventory, continuing to look at cost to reduce our loss whether it be SG&A or a footprint in terms of cost for our supply chain. And then finally I’d say looking at the DSOs, those performed well but we’re going to have to keep a close eye on those as we sell more mobility and seating, those will slightly go up. So I wanted to give you a sense of the year and what we need to focus on as opposed to focusing on one quarter.

[Matthew Mishan:]

All right, thank you. And look forward to that dinner party when it’s all done.

[Rob Gudbranson:]

Thank you.

[Matt Monaghan:]

Thanks, Matt.

[Operator:]

[Operator Instructions]. Our next question comes from Jim Sidoti with Sidoti & Company.

[Jim Sidoti:]

Good morning. Can you hear me?

[Matt Monaghan:]

Yes, Jim. Good morning.

[Lara Mahoney:]

Good morning, Jim.

[Jim Sidoti:]

So just bookkeeping for Rob. Garden City Medical, that was about 8 million to 9 million in the quarter a year ago. Is that right?

[Rob Gudbranson:]

You’re talking about the sales line.

[Jim Sidoti:]

Right.

[Rob Gudbranson:]

Yes. Ballpark, you’re in that range for net sales. For external sales they actually were larger if we include they’re intercompany. But I don’t think that’s a concern for you.

[Jim Sidoti:]

Okay. So you’ll face that headwind for three more quarters and then in the fourth quarter of '17 that should – you’ll be apples-to-apples with that?

[Rob Gudbranson:]

Yes, I think if we’re looking at external sales I think they were about ballpark 27 million for 2016. And then just so the people on the call have it and you can see it ballpark from an 8-K that was filed when it sold it. But it might be ballpark 2 million of operating income pressure. But again that’s a ballpark on both those numbers for the three quarters.

[Jim Sidoti:]

Right. So just to be clear, so you may report it down a quarter – let’s say the third quarter of the year but it’s less than 8 million, it’s actually an up quarter on an organic basis.

[Rob Gudbranson:]

Jim, that’s a good point and what I’d say is what we’re going to do when we put this together is we always indicate what the sales will be, excluding Garden City Medical. Even though it’s not a discontinued business, we’ll always make sure to give you visions of that, Jim. So investors will always see, like we did in this release, what the sales change was not just constant currency but constant currency, excluding Garden City Medical.

[Jim Sidoti:]

Okay. And then you mentioned there were some unfavorable pricing I believe in the HME business with this quarter. Was that due to reimbursement change or competition or can you give us a little more color on what caused that?

[Rob Gudbranson:]

There were unfavorable pricing in both North America/HME and in Europe in both the segments. Europe was primarily catching up on a customer rebate accrual as we had some larger customers who brought strongly at the end of the year, which is a good issue to have. There were also FX pressures, which we’ve mentioned before, particularly on the GDP that went down substantially. So both those were really the key drivers there. In terms of North America, we went through a number of impacts in the release in terms of talking about unfavorable pricing. So I guess I’d just focus on two and Matt’s talked about them earlier. One is we were exiting the consumer power business and as part of moving that product and moving them and other pieces that was not as high a margin businesses we would normally see from the other efforts. And then finally if we look at ProBasics, we did have some inventory on the North America/HME balance sheet that wasn’t on the Garden City Medical balance sheet that is part of just the overall sale. We transferred that inventory at cost and that ended up also obviously being a margin impact too. So those were the two major unfavorable pricing issues for North America/HME. Does that help?

[Jim Sidoti:]

You’re right. So at least for North America you don’t expect those issues to recur in 2017.

[Rob Gudbranson:]

Very true, Jim, and I guess I’d say one, we don’t expect those to reoccur on a margin basis. I would say on those pieces, we made a little bit of money on consumer power and we basically made no money obviously at transferring the cost. But we don’t have much headwind in terms of the gross profit dollars on those pieces. But to your point on the margin, yes, we don’t expect that to continue.

[Jim Sidoti:]

All right. And then just a couple more. Matt, do you think you’re about done with the demolition mode? Do you think there’s more businesses that you’ll have to shed or do you think that you’re at the end of it?

[Matt Monaghan:]

We’ve got a little bit more to do in lifestyles, which we’ll do in the first half of this year. We didn’t get it all done last year. When we looked at the feedback on customers on different segments, we parse that. The majority of it was the beginning of '16. We’ll do a little bit at the beginning of '17. And then the anniversary and the other things that we’ve discontinued through here like consumer power. But when you look at the products that we have going forward, now the things that we’re focused on are substantially what we’re going to move forward with plus the new things.

[Jim Sidoti:]

Are the pieces that are left that you might still shed, are they the same order of magnitude as Garden City or are they smaller?

[Matt Monaghan:]

At this point, everything that’s in our portfolio now is coherent with our strategy and that’s important because now whether you’re an employee who’s being asked to focus their time on things that are essential or a customer or a commercial person who’s interfacing those customers, everything we’re doing now is germane and coherent to our strategy. We like the portfolio we have in the future and there’s always the question of capital allocation and if somebody came along with something that looks fantastic, you might have a different consideration. But right now, we like the portfolio we have. So that’s what we’re going to move forward with.

[Jim Sidoti:]

Okay. And then with regards to consent decree, you said that you’ve submitted your design history files to the third party expert for their review. Is that a process that takes weeks or is that more months?

[Matt Monaghan:]

Probably weeks. Maybe I’ll give you the process. As I mentioned in my earlier comments, there’s probably 20 feet of stacked paper that document all these thousands and thousands of hours of good work. And the diligence of our third party will require that they take some time to go through those and the tests that they’re performing is to assess the compliance with our design control procedures and ensuing that those fit these requirements. We think they do but it will take some time, let’s say weeks or maybe a little more than a month to complete that work. We got to assume a little bit of time for Q&A or maybe there’s a little dressing up we have to do and then they will write a report. We assume it will be a favorable report when we get to that point. It will take a few weeks for them to get that done. And then we’ll turn that over to FDA along with our own report called the 5H report. And that report – or those two together will take some time for the FDA to examine. I’m sure there’s a Q&A segment there. And then it will be at the point where we’re talking to the FDA about next steps, which if things continue to go well would be a third phase inspection.

[Jim Sidoti:]

So will you report to us when you’ve submitted this to the FDA or will you wait until you get FDA approval?

[Matt Monaghan:]

I think these are meaningful milestones along the way. And I’ve said before, it’s important that we give information to shareholders that’s likely to be correctly interpreted. And I think if those milestones look unambiguous, we’ll be reporting them. So I think there are a few things we’ll be talking about in the next couple of quarters that reflect continued milestones on quality progress.

[Jim Sidoti:]

Okay, all right. Thank you.

[Matt Monaghan:]

Okay. Thanks, Jim.

[Operator:]

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

[Matt Monaghan:]

Look, I appreciate everybody’s interest in our story and the renovation in this company and we’re working very hard to make that effective as quickly as possible. Thanks for your time today. We’re available for questions by contacting Lara Mahoney directly. Thank you.

[Lara Mahoney:]

Thank you.

[Rob Gudbranson:]

Thank you.

[Operator:]

That does conclude today’s conference. Thank you for your participation. You may now disconnect.