Orthofix Medical Inc.
Q4 2019 Earnings Call Transcript

Published: 25 Feb 2020

[Operator:]

Ladies and gentlemen, thank you for standing by, and welcome to the Orthofix Fourth Quarter 2019 Earnings Results Conference Call. [Operator Instructions]. I would now like to hand the conference over to your speaker today, Mark Quick, Senior Director of Business Development and Investor Relations. Please go ahead.

[Mark Quick:]

Thank you, operator, and good afternoon, everyone. Welcome to the Orthofix Fourth Quarter 2019 Earnings Call. Joining me on the call today are President and Chief Executive Officer, Jon Serbousek; and Chief Financial Officer, Doug Rice. I'll start with our safe harbor statements and then pass it over to Jon. During this call, we'll be making forward-looking statements that involve risks and uncertainties. All statements, other than those of historical fact, are forward-looking statements, including any earnings guidance we provide, and any our plans, beliefs, strategies, expectations, goals or objectives. Investors are cautioned not to place undue reliance on such forward-looking statements as there is no assurance that the matters contained in such statements will occur.The forward-looking statements we make on today's call are based on our beliefs and expectations as of today, February 24, 2020. We do not undertake any obligation to revise or update such forward-looking statements. Some factors that could cause actual results to materially different from the forward-looking statements made by us on the call include the risks disclosed under the heading Risk Factors in our Form 10-K for the year ended December 31, 2019, as well as additional SEC filings we make in the future. If you need copies of these documents, please contact my office at Orthofix in Lewisville, Texas. In addition, on today's call, we will refer to various non-GAAP financial measures. We believe that in order to properly understand our short-term and long-term financial trends, investors may wish to review these matters as a supplement to financial measures determined in accordance with U.S. GAAP. Please refer to today's press release announcing our fourth quarter 2019 results for reconciliations of these non-GAAP financial measures to our U.S. GAAP financial results.At this point, I'll turn the call over to Jon.

[Jon Serbousek:]

Thanks, Mark, and good afternoon, everyone. I appreciate you joining us on today's call, my first Orthofix earnings call since transitioning to President and CEO. The agenda today is to walk through the key aspects of our strategic plan, after which we'll provide commentary around our fourth quarter top line results before handing the call over to Doug to discuss the remaining financial results plus our outlook for 2020.Since joining Orthofix, I spent significant time with our global teams as well as many surgeon customers, distributor partners and industry administrators. As a result of these conversations, I'm even more enthusiastic about the opportunity in front of us than before I joined the company. First and foremost, we have well-defined market and/or technology leadership positions in bone growth stimulation, cellular based allografts, extremity deformity correction and, of course, artificial cervical disc. There is significant opportunity for us to enhance and build around these strong offerings.In addition, we have the most comprehensive offering of cervical products, and with the recently announced asset purchase of FITBONE, we will be the only company offering both internal and external limb length options, collectively, these are impressive positions for the company of our size. Needless to say, I'd like to amplify how excited I am to be here at Orthofix and express my gratitude for the patience you've delivered during a very quiet period leading up to this call. During this time, we've been working to assess the company's current status and prepare a strategic plan with key strategic initiatives to create accelerated growth and take Orthofix to the next level.While this transformation won't happen overnight, and will take some investment, I'm certain the company can execute on these objectives, and I'm pleased to say we can fully fund these initiatives that I'm about to talk about.Apart from our product and technology strengths, the talented team at Orthofix has done a great job creating a solid business foundation from which we can grow. With our strong infrastructure, legal, finance, accounting, ordered cash and compliance programs, Orthofix is well positioned to execute commercially. I've been impressed by the spirit and enthusiasm that I've personally seen in the team at Orthofix across all geographies, in all business units and at all levels. I would like to thank everyone at Orthofix for their support as we collectively developed the strategic plan to take the company successfully into the future.Now let's move on to areas where I see substantial opportunity to improve our commercial performance and financial results. As we discussed on the third quarter earnings call, the distraction from the CEO transition, combined with leadership departures in the Spine business over the last year, negatively impacted our performance, some of these challenges carried over into the fourth quarter, as I will discuss in a bit. However, I'd like to -- I think it's important to remind everyone that the leadership departures occurred, while we were also implementing a 2018 strategic initiative to realign the legacy businesses of Bone Growth Therapies, biologics, Spinal Implants and motion preservation into a single Global Spine business unit and leadership. As a result, we experienced a great deal of organizational uncertainty and a lack of clear path forward.So let me tell you about the strategic plan. I'm going to outline 4 key strategic areas of investment in focus, which are structure and leadership, operational execution, new product and procedural innovation and commercial channel development.I'll start with our first strategic initiative, which is focused on structure and leadership. In terms of structure, we will complete the previously announced business unit realignment efforts to focus our Spine and Extremity businesses, while we seek to improve coordination between these businesses to maximize revenue across our entire organization. Filling some of the vacancies and adding to our talented leadership team has been a huge focus for me since I have arrived, and I'm pleased to share with you some of our early progress. Let me start with Kevin Kenny, our new President of Global Spine. Kevin has successful general management and commercial expertise. He has considerable Spine and Biologics expertise and has built many high-performance teams throughout his career. In fact, at Medtronic's Spine and Biologics, he was part of the team that built the largest and most successful sales channel in spine. I believe the combination of his spine market knowledge, leadership skills, channel creation expertise and key relationships will give us a huge advantage in the marketplace.We have also made great progress in bolstering Kevin's Spine team with the addition of Joe Ross as Senior Vice President of Motion Preservation. Joe has spent his entire career in Spine, and I consider him one of the foremost experts in commercializing spine products and procedures. Importantly, Joe has significant experience in artificial discs. He's part of the first commercial launch of the lumbar disc in the United States, then most recently, he was at LDR Spine, where he took the artificial cervical disc to the fastest-growing product and most sought-after disc in the market. Joe is excited to join the team, and we think he can generate success on our next-generation artificial disc.Another significant addition to the Spine team is Paul Kosters, who recently joined as Senior Vice President and Managing Director of International Spine. Paul comes to us having held similar roles at NuVasive and Medtronic Spine and Biologics. We have a significant opportunity in our international markets and Paul's relationships and experience will maximize their potential. We are close to filling our U.S. VP of Spinal Sales position. We have identified a number of excellent candidates and others have reached out to me directly based on the opportunity at Orthofix. I'm pleased to report these candidates are experienced spine leaders looking for a new opportunity.I'm very excited about the Spine leadership team we are building. These executives have tremendous spine experience and have done this before. We are already making a big impact, and I know this is just the beginning.At the corporate level, Ehab Esmail has been hired as our newly created Global Head of Quality, Regulatory and Clinical Affairs to support existing and accelerate new product introductions. He is an experienced med tech executive who has previously worked at Zimmer Biomet, Wright and Smith & Nephew in similar capacities. To build our operational excellence, Roberto Donadello has been promoted into a newly created global operation role. Previously, he was managing our Extremities operations group, where he built a high-performance group in our Verona, Italy, business starting in 2007, and truly embodies a flawless execution culture we seek to have globally.Taking the new additions and roles, combining them with the existing strong Orthofix talent will position us for success, and I look forward to this team coalescing as we execute commercially within our new streamlined structure. That will segue us into our second strategic initiative, which is operational execution.To me, this means ensuring that we get our high-quality products and tissue to our customers when they want it and how they want it. The win is pretty obvious and primarily entails optimizing supply chain. While this will have financial benefits down the road, my immediate focus is on creating an aggressive, agile, competitive culture, focused on flawless execution and winning.How our customers want their products and tissues is just as important as when. We aim to have a market-driven customer service, which will be defined by our customer. We are currently in discussions with many customers who include physicians, patients, hospital administration and payers to understand their views, and assist us in defining our future direction. This is something I'm very passionate about, and will focus on going forward. We are creating the view that everyone at Orthofix owns the total customer experience.Now let's move to our third strategic initiative, which is product innovation and differentiation. Those of you on the call know how competitive our markets are, and how difficult it is to develop disruptive technologies. Having been in spine and orthopedics for over 30 years, I can tell you that there are market trends today that are creating unmet needs that require solutions. We're going to be laser-focused on both developing and acquiring high-value products and procedure solutions that solve these unmet needs.As we will discuss later, this is you will see the bulk of our investments in the short term. It is easy to talk about new product innovation, but executing on these initiatives requires a focused plan. We've not fully invested in research and development over the past few years and rebuilding the spine pipeline takes some time. As we focus on accelerating our product innovation cycle, it will be done with intense engagement, talent additions, changing the processes used, redefining the delivery expectations of development groups and alignment with spine and extremity thought leaders around the world. We will also invest in our clinical and regulatory execution with the launch of our new M6-C two-level study to expand our future market opportunity. Additional studies in our spinal and extremity businesses are also planned.On an inorganic front, we will continue to be disciplined acquirers of assets that have strong strategic fits, and we can purchase at a reasonable price and add significant value. Both our acquisition of Spinal Kinetics as well as the recently announced acquisition of FITBONE, that I will discuss in a moment, are good examples of the types of deals that we are looking to execute on. In both cases, we acquired products that fit well, strengthen our portfolio and where Orthofix can add significant value. We also believe that both of these acquisitions will drive significant revenue in the future.Now I'd like to spend a moment sharing my excitement about the recently announced agreement to acquire the FITBONE platform. This is a highly strategic asset for us as lengthening nail technology has been a gap in our extremities pediatric deformity correction portfolio. This is clearly an area where we want to maintain our market leadership. With this technology, we'll be the only company offering both internal and external limb lengthening options, along with the eight-Plate for angular deformity correction. While the FITBONE motorized active implant technology is the only one of its kind in the market, we are very excited about where we can take it. We'll work to integrate our HEX-RAY preoperative planning software, which has currently used our TL-HEX products, into our FITBONE product offering in order to make these complex extremity procedures simpler for the surgeons and their patients.In addition to the FITBONE lengthening nail, there is a scoliosis application technology called FITSPINE. While the clinical and regulatory efforts are very early for the use in deformity care this, along with future applications, have us excited about the platform technology for years to come. We estimate the market opportunity for this technology at roughly $300 million today, growing high single digits, and only about 1/3 penetrated by 1 competitor. While we only expect the sales contribution from FITBONE to be approximately $1 million in 2020, we believe this technology will generate significant revenue for us in the future. We will purchase these assets for $18 million, which excludes a tax benefit of almost $4 million. As Doug will touch on in a bit later, we expect this deal to be approximately $2 million dilutive to 2020 adjusted EBITDA. We expect to close the transaction in late March of 2020.Lastly, and definitely not least, our fourth strategic initiative is our commercial channel. With the leadership teams we have created in both Spine and Extremity businesses, we intend to transform and invest in our commercial channels. Over the next 24 months, our plan is to focus on adding or developing long-term strategic partnerships. These partners will share our vision for differentiation and growth and sell multiple Orthofix product lines. This will enable us to realize inherent synergies across our product lines and realize sustained growth.At this point, we are agnostic to model. Whether it be sales agents, stocking distributors or direct reps, our focus is on commercial talent. The fundamental thread to our sales partners is that we are highly aligned to collectively grow our businesses together over the long term. That requires a great deal of trust, commitment and delivering on expectations from both sides.As we execute on our 4 strategic initiatives, we know we have significant work ahead of us. Here are some tangible goals and metrics we'll be looking at for 2020.Construction and leadership, we must fill the vacancy of the VP of Sales for our Spine business and transition to our new structure. In operational execution, we tend to continue to implement supply chain improvements to reduce the lead time and set availability for our sales organization. With respect to product innovation and differentiation, on the organic side, our goal is to implement a new product development process. Our objective is to reduce our concept-to-commercialization time, increase while increasing the volume of new product introductions. On the inorganic side, we expect to close the FITBONE acquisition and initiate integration. For our commercial channel initiative, we intend to increase the number of Extremity distributors selling Biologics by 10%. In addition, we will target increase in the number of our U.S. spine sales distributors to carry more than one of our product lines by 5%.We have areas that will require more time and effort than others to reach our expected performance levels, and I look forward to updating you on our progress. Now let's shift and discuss the fourth quarter sales performance. Overall, the results of the quarter illustrated a continuation of the trends from the third quarter, which caused us to come in at the low end of our guidance range. On a constant currency basis, we grew 0.9%.Revenue growth was muted by the distraction from the leadership changes and business structure transition, which was offset by growth driven by the success of M6-C U.S. launch. In our Global Spine segment, the revenue decreased 0.7% over prior year.Let me provide you a little color on each of our key product families. Starting with Bone Growth Therapies, the business was down year-over-year at 3.5%, which was at the low end of our expectations. This was due mostly to normal churn in the commercial channel and a loss of 2 key distributors, which are now being backfilled. We have taken steps to rectify this disruption, and early 2020 sales reflect stabilization. However, I do expect the recovery in this business to be very gradual throughout 2020.I would also like to address an item with respect to our Bone Growth Therapy business, as some of you may have questions about this in the coming weeks. Today, FDA published, in the Federal registry, a notice announcing an advisory committee panel meeting on April 23 to consider whether bone growth stimulator devices should be reclassified from Class III to class II medical devices. You may recall that in 2006, FDA convened a panel and, ultimately, determine for safety and efficacy reasons to maintain the Class III status of these products. We continue to be very confident in our position that these devices should remain class III in order to ensure efficacy of the therapy. We, together with other manufacturers of bone growth stimulators, will participate in the hearing and submit testimony.Orthofix has the market-leading bone growth stimulation platform. We enjoy the only cervical indication granted by the FDA, and we are the only company investing in ID studies to expand indications for use. BGS devices encompass a range of intended uses, distinct technologies, wave parameters, functionalities, design and dose symmetries. Given the nature of -- and of the dissimilarities among BGS devices, a single set of special controls could not reasonably assure the safety and effectiveness of each distinct type of BGS device. Simply stated, these are not 510 (k) devices even with special controls.Now let's move back to Spinal Implant performance. In Spinal Implants, sales were up 2.3% in constant currency over prior year with M6-C U.S. sales driving the growth for the quarter. Let me give you a little more detail around the product performance in Spinal Implants. In Spine Fixation, our core spine hardware products, sales were down 8.4% in constant currency over prior year, which was driven by the slow ramp-up of new distributors and continued void in sales leadership. As mentioned earlier, with our new tenured spine team, we have significant attention on this business and have a good understanding of the current dynamics. We are currently crafting a plan for success and feel positive about the future of this business.Moving on to Motion Preservation, sales grew 68.5% constant currency over prior year due to the success of the U.S. launch. U.S. sales finished above our guidance at $4.1 million for the year. We are very excited about the early adoption and what the new team can do to continue to propel the trajectory. We are continuing our focus on education and training to ensure long-term success of this novel technology.In Biologics, we demonstrated a solid quarter with 4.2% year-over-year growth. A deceleration from previous quarters was due to tougher comps after the anniversary of distributors that were added in the fourth quarter of 2018. We do expect some headwinds for this business as we progress into 2020, given the continuation of our realignment efforts. However, with the strong MTF Biologics partnership, and the Trinity ELITE tissue, I believe we have a solid platform to build on.Additionally, we continue roll out fiberFUSE DBM with handling characteristics like Trinity ELITE, which should continue to contribute to these sales over the coming years. Our Biologic portfolio built around Trinity ELITE, and this competitive offering meets the needs of our surgeon customers. In our Global Extremities segment, sales grew 6.4% at constant currency during the quarter. This was buoyed by a large international tender, which was offset by weakness in the U.S.The trailing 12-month constant currency revenue growth was 0.3%. While the FITBONE acquisition is not expected to materially contribute in 2020, having the product available will relieve some of the competitive pressure we've been experiencing in certain geographies. With that, I will now hand over the call to Doug, for further commentary around the quarter's financial performance and 2020 guidance.

[Douglas Rice:]

Thanks, Jon. I'd like to begin by saying it's been a great few months already, and on behalf of the rest of the team, we want you to know how excited we are that you are here. With that, good afternoon, everyone. I will provide some additional details into our net sales and earning results, along with our outlook for 2020, and then discuss some of our other financial measures.Starting with revenue, total net sales for the quarter were $121.5 million, up 0.3% on a reported basis and 0.9% on a constant currency basis when compared to the fourth quarter of 2018. Based on the current outlook for our business, we expect full year 2020 revenue to be in the range of $467 million to $477 million, representing 1.5% to 3.7% year-over-year growth on a reported basis. On a constant currency basis, growth is expected to be between 2.3% and 4.5%, given an estimated foreign currency headwind of approximately $3.5 million. This growth is led by our Global Spine segment, which we expect to grow at 3% to 5% in 2020.Going through each of our spine product categories, Bone Growth Therapies is expected to be flat to 1% growth due to the gradual recovery expected throughout the year that Jon mentioned. We expect Spinal Implant's global revenue to grow at approximately 10% to 14%. Within this category, we expect our Motion Preservation U.S. sales in 2020 to be between $15 million and $17 million.In Biologics, given the headwinds and realignment initiatives that Jon mentioned, we expect flat to low-single-digit revenue growth for the full finally, in Extremities, with the majority of the $3.5 million foreign currency headwinds negatively impacting this business, we expect reported 2020 revenue to be approximately flat to down 2%.This includes approximately $1 million of contribution from FITBONE, as Jon mentioned. Considering the cadence impact from these moving parts, we are providing first quarter 2020 net sales guidance of $106 million to $109 million, which includes approximately $2 million impact from currency headwinds, stabilization and recovery through the year in Bone Growth Therapies and spinal implant. On a reported basis, this represents a decline of 2.9% to flat from the prior year. On a constant currency basis, this reflects a decline of 1% to growth of 1.7% from the prior year.Gross margin in the fourth quarter of 2019 was 78.4% compared to 78.8% in the prior year period, in line with our expectations. For the full year 2020, we expect margins to be to in the 78% to 79% range, approximately flat to 2019. Sales and marketing expenses were 48% of net sales in the fourth quarter of 2019, up from 44.5% in the fourth quarter of 2018. This increase primarily reflects both product mix as well as increased training and education programs to support the M6-C U.S. commercial launch.For the full year 2020, we expect adjusted sales and marketing expenses, as a percentage of sales, to be roughly flat with 2019. GAAP G&A expenses were 18.2% of net sales in the fourth quarter of 2019, up from 16.2% in the prior year period. This increase was due primarily to higher spending on succession and transition expenses as well as legal settlement expenses in the fourth quarter of 2019.R&D expenses for the fourth quarter were 7% of net sales, down from 7.3% in the prior year period, due primarily to decreased clinical studies. For the full 2020, we expect adjusted R&D expenses, as a percentage of sales, to be between 9% and 9.5% as we significantly ramp up our efforts to drive organic innovation and differentiation, including the initiation of our M6-C two-level study, the M6-C post-approval study, continued enrollment in our BGT Rotator Cuff study, investments in next-generation tissues and building a robust product pipeline in spine and extremities. As a reminder, due to the significance and the varying timing of the underlying compliance initiatives associated with the recent EU medical device regulations, we will continue to adjust for these implementation costs.We expect to incur $5 million to $5.5 million of these implementation costs in 2020. Adjusted EBITDA decreased to $22.5 million or 18.5% of revenue, down from $24.4 million or 20.2% of revenue in the fourth quarter of 2019. This decrease reflects our continued investments towards accelerating top line growth, primarily related to the M6-C commercial launch, that are reflected in sales and marketing. For the full year 2020, we anticipate adjusted EBITDA to be in the $65 million to $68 million range, which reflects increased R&D spending as well as approximately $2 million of dilution from FITBONE, as Jon mentioned.Now turning to tax. We had income tax benefit for the quarter of $7.5 million or a negative 176% of income before income taxes as compared to income tax expense of $2.7 million or 24% of income before income taxes in the same period of 2018. The tax provision for this quarter was significantly impacted by the timing of earnings during the year, including the impact of the spinal kinetics contingent consideration expenses recorded in Q3, which were largely nondeductible for tax purposes and did not recur in Q4.For our non-GAAP results, we will continue to use 27% as our adjusted effective long-term tax rate in 2020. For the fourth quarter 2019, we reported GAAP EPS of $0.60 per diluted share as compared to $0.46 per share for the fourth quarter 2018. After adjusting for certain items, and when normalizing for tax using a non-GAAP long-term effective tax rate, adjusted EPS for the fourth quarter 2019 was $0.51 compared to $0.56 in the fourth quarter of 2018. The majority of the decrease was due to the investments in the M6-C U.S. launch.For the full year 2020, assuming weighted average diluted shares outstanding of $19.7 million, we expect adjusted EPS to be in the range of $1 to $1.10, which includes approximately $0.08 of expected dilution from FITBONE. Consistent with our historically lower volume in the first quarter, we expect our Q1 2020 adjusted EPS to approximate $0.09 to $0.12.Moving on to the balance sheet highlights. Day sales outstanding or DSOs were 66 days at the end of the fourth quarter of 2019, up from 59 days at the end of the fourth quarter 2018. We expect this increase to be temporary and to improve in the coming quarters. Our inventory turns at the end of the fourth quarter 2019 were at 1.2x compared with 1.3x in the fourth quarter 2018. Cash and cash equivalents and restricted cash at the end of the year 2019 totaled $70.4 million compared to $72.2 million at the end of the previous year. Cash flow from operations for the quarter was $11.9 million, down from $20.1 million from the fourth quarter 2018, due primarily to increases in inventory and other working capital investments to support our top line growth initiatives, including the commercial launch of M6 in the U.S. Capital expenditures were up in the quarter to $5.6 million from $4.5 million in the prior year, due primarily to investments in manufacturing capacity expansion for the M6C artificial cervical disc. For full the year 2020, we expect CapEx to be approximately $25 million, a year-over-year increase of about $5 million that is mostly due to the deployment of additional instrument sets.Free cash flow, which we calculate by taking cash flow from operations and subtracting CapEx, was $6.3 million during the quarter compared to $16.6 million in the prior year. This reduction during the quarter was primarily due to changes in working capital with the ramp in inventory to support our growth. I will now turn the call back over to Jon.

[Jon Serbousek:]

Thanks, Doug. On a closing note, I would like to thank all of our team members, customers and investors for their patience during this leadership transition period. Change is hard. It would have been easy to come here and not make the necessary hard decisions, but I did not come here to do that. I came here to do the work needed to make this company a growth organization, one step at a time, and I'll try to inspire every member of the Orthofix team to do the same. Orthofix already has a strong margin profile for its size and scale, the easy path would be to continue slowly expanding margins and growing in low-single-digits. However, I don't believe that this is the path that maximizes shareholder value. Rather, I see an alternative path, where we invest to accelerate our organic growth rate that will provide us with scale, and then ultimately, future higher margins, free cash flow generation 3 to 5 years down the road. I look forward to discussing the strategic plan and sharing our successes with you over the coming quarters.As Doug highlighted, we are stepping up our investments to implement our 4 strategic initiatives. I want to be clear that I'm carefully monitoring all spending going on throughout the organization. Through my previous role as working in and advising private equity owned or companies, I have developed an acumen for prudently managing expense to drive future value. Furthermore, we have cost rationalization programs in place in certain areas to help offset some of these investments.We are seeking to build a culture of passion at Orthofix, passion for developing innovative and differentiate spine and extremity solutions that help surgeons provide superior care for their patients. Passion for delivering these solutions to our customers with flawless execution. Passion for all the hard work behind the scenes that facilitates these efforts. And last but not least, passion for growing markets and growing Orthofix.Finally, I just want to reiterate my excitement to be here, and thanks to the current and new team members, the future at Orthofix is very bright. With that, operator, we are ready to open up the lines for questions.

[Operator:]

[Operator Instructions]. Your first question comes from Raj Denhoy of Jefferies.

[Anthony Petrone:]

This is Anthony on for Raj. And congratulations on the first call here and look forward to working with you, Jon. Maybe just a few on loan growth, and then I'll have one on M6, just to follow-up. But when we look at Bone Growth, obviously, last quarter, facing a number of headwinds, it was partially sales leadership related, also sales force turnover, and then as an extent of that just lost market share. So when we look at the 1% constant currency, we're off that historical sort of mid-single-digit growth range. When you look at those 3 categories, leadership, sales force, turnover and just share, can you kind of just frame to what extent the business is facing pressures from each 3? And then your sort of outlook for when we should see a turn in some of those drivers? And then I'll have a follow-up.

[Jon Serbousek:]

Anthony, regarding those three items, the leadership is being addressed now as we basically bring on the new Spine team. And that was a gap that had been opened for a number of quarters. And so from that, basically, focusing on the sales and then competitive conversions and also market expansion for those products was basically -- had been more in a dual mode, and that was part of the issue. Regarding the point on constant currency, we sell BGT only in the U.S. right now. And so I think that will do that matter.

[Anthony Petrone:]

I guess, the follow-up here would be, again, can you quantify how much share has actually been lost in Bone Growth, one? And then you mentioned the panel coming up the potential classification shift to class II status from Class III. Can you just sort of maybe frame the risk around that? It strikes us that it's mostly around the competitive front as a risk. But on the other hand, we're in the camp that the moat around this business for Orthofix is sort of expansive and durable. So how much of a risk is the panel? But on the other end, how durable is the competitive positioning for Orthofix within Bone Growth stem?

[Jon Serbousek:]

Well, on the competitive risk, we see a number -- a portion of this is just normal churn as far as moving customers around and basically -- and distributors around. So that's part of the issue that we were not addressing, and so we'll look to get after just the normal churn and then, basically, make more strategic acquisitions as available. Regarding the risk, as I said in my prepared remarks, we -- I -- the team believes this is a Class III device, and we've gone through this with the FDA since 2006. And because of the safety and efficacy requirements, and the diversity of those products that are in this BGT category, our Bone Growth category, we see it as a hard decision to move off the Class III device.

[Anthony Petrone:]

Okay. And then the last for us here would be just on M6, obviously, better than expected. Can you maybe describe a little bit in more detail, how much of that, in the quarter specifically, was from new surgeon adds as opposed to just deeper utilization within early adopter accounts?

[Jon Serbousek:]

Yes. Anthony, at this stage, we are adding surgeons at a rapid pace. And so we look at not only surgeons and to -- surgeons added, surgeons to do their first case and surgeons who do multiple cases after that, and we see increase in all those categories. So it's a combination of all of the above.

[Operator:]

Your next question comes from the line of Craig Bijou of Cantor Fitzgerald.

[Craig Bijou:]

Jon, you, obviously, laid out a number of strategic initiatives in your plan. And from a high level, I wanted to get a sense for how much of what you're planning to do is getting Orthofix kind of back to normal or a status quo -- basically status quo versus some of the future growth initiatives that maybe you brought in with your experience? And I guess, just kind of the timing on getting back to a normalized business?

[Jon Serbousek:]

Thanks, Craig. The way I'd approach that is that, bringing the talent on is a key component of getting back to a state where this is an operational Spine business. When you ever have gaps, especially the gaps that were there, it basically takes away from the growth or even the future view of that business. So we're bringing the talent back. And then also to basically just capitalize on our existing portfolio just through execution, just through sales and commercial execution is really key.And then as we move on into the out-year -- out-periods, is looking at new technologies or new additions to the portfolio, organic and inorganic. And as I -- as you mentioned my background for the previous 4 years of joining -- prior joining Orthofix, I spent in a space where -- working with venture and private equity, looking at how do we disrupt these markets, and we think there's really good avenues, not only product and procedure based that can help disrupt these markets and, basically, take and transition them to where healthcare is being provided with these procedures in the future. So we look to explore all those.

[Craig Bijou:]

Got it. That's helpful. If I could ask on guidance in 2020. Obviously, the Q1 is a little bit softer than the overall guidance -- revenue guidance for 2020. So just want to get a sense for your confidence that you can see that acceleration throughout the year? And I know you touched on it in the script, but maybe just a little bit more detail on what specific products or segments are going to be driving that full year 2020 guidance?

[Jon Serbousek:]

So our initial activities are to make sure that we stabilize leadership and just start executing on our core -- and basically, that will be the process will happen in the near-term. And then mid- and later in the period and the year, we look forward to executing and driving top line with M6. And then also we have some new additions that are coming into the market with an expandable interbody. And then also moving into BGT and its performance with some of the stem on track initiatives that we have in place as well.

[Craig Bijou:]

Great. That's helpful. Last one for me. Just on the PMA study for 2 -- or sorry, the two-level study. I wanted to see, is that a PMA study? And any help on timing or maybe spend on that study?

[Jon Serbousek:]

So it's an ID amendment that we just submitted to the FDA a few days ago. And we did -- we went to an amendment because -- for economic reasons. We found a pathway where we think we can economize portions of the two-level study. And so we're looking at doing that as well as we put together a fairly aggressive plan to have patient enrollment. So it will be at the typical IDE pace. Hopefully, we'll basically take some of it off the front end of it, but it will be at a relatively rapid pace for a full IDE study.

[Operator:]

Our next question comes from Ryan Zimmerman of BTIG. .

[Ryan Zimmerman:]

Jon, welcome to Orthofix. So I want to touch on a few items here that have already been asked about, and I asked a few others. Just a soft to Anthony's earlier question. Is the FDA giving you any indication in terms of timing around the decision? I know, when this last came up, it kind of puttered along for some time and kind of dissipated. But do you have any sense for timing on when we can hear about reclassification for bone stem?

[Jon Serbousek:]

Well, we know certainly the April date that they gave us today. But after that, it goes through a process and determining what happens in the April date. And if it's positioned back to the agency. It will take months, the historical on the 4 that have gone before in that area have taken between 6 and 20 months to actually go through the agency and make a ruling. And so from that standpoint, we'll monitor it closely. We are all part of the Bone Growth coalition, and so we'll manage that very closely in the upcoming period.

[Ryan Zimmerman:]

And then, Jon, just there's been quite a bit of disruption in the business late in '19. You're resetting numbers here meaningfully. What's your confidence that the disruption is behind you? Because when I think about kind of some of your commentary, too, around the commercials channel and working agnostic to sales agents or stocking agents, does that imply that there's more churn that you have to go through on some of your distributors over the course of this year?

[Jon Serbousek:]

Well, first, it leads with -- starts with solidifying the sales leadership and with that, then you start basically -- they bring a great deal of their own channel there out -- that brings new distributors or agents and reps. But for me, we have very good distributors right now. And where they're motivated and driven to basically align with this, we'll basically develop and go with them. And we'll also need to expand that pool to basically people who want to be dedicated and aligned to our objectives. And so from that standpoint, it's a combination. The reason why I say agnostic is because, I think, there's opportunities in certain geographies to go with direct reps. That doesn't mean that we're moving away from distributors at all. It means that basically, it's an opportunity we have, and i have done in organizations where we have hybrid models, and they work very, very effectively, depends upon geography and location and timing. So it's a matter of investing in this distribution channel and finding the best commercial talent out there.

[Operator:]

Your next question comes from the line of Jeffrey Cohen of Ladenburg Thalmann.

[Jeffrey Cohen:]

So could you talk a little bit about the large extremity order from the quarter? Looked like it came in a 28 handle versus 25. What was that specific from and what geography was that specific to?

[Jon Serbousek:]

At the end of the quarter, we had some stocking distributors sourced out of our Italian branch that totaled just right around $1.5 million, Jeff.

[Jeffrey Cohen:]

Okay. So part of it was strength for the quarter even outside of that -- those large orders?

[Jon Serbousek:]

For extremities?

[Jeffrey Cohen:]

Yes.

[Jon Serbousek:]

Yes. We had good performance outside of the U.S., I think we continue to look internally at some challenges in the U.S. with our Extremities business, but but overall, we are pleased to get the stocking distributor orders up there at the end of the year.

[Jeffrey Cohen:]

Okay. Got it. Doug, can you talk a little bit about the tax benefit. So from the quarter was $7 million and unchanged. And with the close of FITBONE you're saying it'll close in -- by the end of Q1? And when do you expect that $4 million tax benefit from that?

[Douglas Rice:]

Yes. So with regards to our tax rate, this year, we got a large benefit from eNeura and the write-down realized loss that we had on eNeura. And so that drove a lot of the tax rate. And in the fourth quarter, our tax rate is lumpy. For example, in the third quarter, we had a lot of spinal kinetics contingent consideration expense, that wasn't deductible, but drove a lot of book tax differences. But in terms of FITBONE, we expect a lot of that to be deductible over time, but it will take probably several years to realize the full tax benefit on that spend.

[Jeffrey Cohen:]

Okay, got it. And then lastly, Jon, can you talk a little bit about Verena and Italy? And what percent of the Extremity business is related to elective procedures? I'm just trying to get a sense of any kind of risk factors that are associated recently.

[Jon Serbousek:]

Certainly, the Verona facility is roughly a little over 20% of the business. And what it comes down to is that it's highly elective. And so the area we work into a specialty trauma, foot and ankle and pediatrics. And so in the specialty trauma, there is trauma that basically is addressed, but it's not really acute or hot trauma late night trauma in that regard. So there'll be fracture management with external fixation that's done because of the severity of the injury. And usually, they take -- and they put those patients off for days and so they can plan them, but they are planned and executed.

[Jeffrey Cohen:]

Okay. I guess, my question, I'm just trying to get a sense of have you seen any types of disruptions or procedures being put off at facilities, particularly in Italy? Can you give us a sense for what percent of the extremity market in Europe is coming out of Italy versus some of the other top 3 or 4 countries?

[Jon Serbousek:]

So we're heavier in Europe, and Italy is one of our better markets in Europe. So -- but we're talking to Italy this morning. They have not seen any disruptions of surgeries to date, and they're still operating their business at full force. They are taking precautions to follow all the governmental regulations within Italy and also outside of Italy. So from that standpoint, we've not seen the disruption yet, and the direction we've heard from them is that they're not going to, especially in the specialty trauma area. And the foot and ankle on pediatrics area is more -- foot and ankle area is more prevalent in the U.S. so we haven't seen that as well.

[Jeffrey Cohen:]

Okay. And then lastly for me, could you talk about for 2020, did you give out any numbers related to any M6 growth rates or top line number? You had some number earlier that you mentioned $15 million to $17 million range. Can you refresh for me what that was referring to?

[Douglas Rice:]

Yes, we were guiding total U.S. M6 revenue at $15 million to $17 million, which compares to the $4 million this year.

[Operator:]

Our next question comes from Jim Sidoti of Sidoti and Co.

[James Sidoti:]

Doug, when you gave guidance, you indicated you expected $5 million to $5.5 million of implementation costs. I believe that's related to CE. Can you just tell me where that'll wind up on the income statement?

[Douglas Rice:]

It will be in R&D.

[James Sidoti:]

Okay. And why -- is that because of the changes in CE that you have to recertify things?

[Douglas Rice:]

The European Union recently came out with some new guidelines on certifying your product that will require us to invest in some more clinical research and other infrastructure and so those costs are reflective of that effort. We think we'll take advantage of the early transition period to get CE marks on as many of our products as possible before the first deadline here in May.

[Operator:]

[Operator Instructions]. Your next question comes from the line of Ryan Zimmerman of BTIG

[Ryan Zimmerman:]

Just a quick follow-up for me. The Spinal Implant guidance for the year, I think, calls, if I heard you right, Jon -- or excuse me, Doug, it's 10% to 14% for the year. You called out motion preservation of $15 million to $17 million. If we just take that and assume we have a $16 million increase, roughly implies about a 17% step up. So just trying to understand kind of what the underlying Spinal Implant growth imply there is in the guidance?

[Douglas Rice:]

Yes. For total Spinal Implants for the year, the Spinal Implant is made up of spine fixation and motion preservation, which is M6. So spine fixation, as we guided in the script, we expect to be roughly flat, a decrease of about minus 1%, maybe to 1% growth. And then the rest of it is Motion Preservation. We expect Motion Preservation outside of the United States to be roughly flat in 2020.

[Ryan Zimmerman:]

And that $15 million to $17 million includes some o U.S. sales?

[Douglas Rice:]

No, that's just U.S.

[Operator:]

There are no further questions over the phone lines at this time. I turn the call back over to the presenters.

[Jon Serbousek:]

Thank you, operator, and thank you all for joining us on the call today, and I look forward to future conversations throughout the quarter and beyond.

[Operator:]

This concludes today's conference call. You may now disconnect.