Owens & Minor, Inc.
Q3 2015 Earnings Call Transcript

Published: 28 Oct 2015

[Operator:]

Good day, ladies and gentlemen, and welcome to the Owens & Minor Incorporated Third Quarter Earnings Results Conference Call. At this time, all participants are in a listen-only mode. Later, we will conduct a question-and-answer session and instructions will be given at that time. As a reminder, this conference is being recorded. I would now like to turn the conference over to Trudi Allcott at Owens & Minor. Ma'am, please go ahead.

[Truitt Allcott:]

Thank you, operator. Good morning, everyone, and welcome to Owens & Minor Third Quarter 2015 Earnings Call. I'm Trudi Allcott, and on behalf of the team, I'd like to read the Safe Harbor statement before we begin. Our comments today will be focused on financial results for the third quarter of 2015, which are included in our press release. In our discussion today, we'll reference certain non-GAAP financial measures. Information about these measures and reconciliations to GAAP financial measures are included in our press release and in the supplemental third quarter presentation. These items are posted on our website along with an archive of today's call. In the course of our discussions today, we may make forward-looking statements. These statements are subject to risks and uncertainties that could cause actual results to differ materially from those projected. Please see our press release and our SEC filings for a full discussion of these risk factors. Participating on our call this morning are Cody Phipps, our President and CEO; Randy Meier, President-International, and EVP, and Chief Financial Officer; and Grace den Hartog, our General Counsel. Looking ahead, we plan to host our annual Investor Day on Friday, December 4, in New York starting at 8

[P. Cody Phipps:]

Thank you, Trudi, and good morning, everyone. Since our second quarter call, I've been immersing myself in the business to gain a better understanding of our customers, challenges and opportunities. At the same time, I've been working in close collaboration with our leadership team and the board to craft our strategic agenda, which is designed to position Owens & Minor for sustained profitable growth. As part of my immersion, I traveled across the U.S. to visit many of our facilities, meeting with our teams in the field and seeing our operations firsthand. I witnessed the enormous dedication and willingness of our teammates to serve the needs of our customers every day. I also traveled to Europe, touring our facilities, spending time with leadership, and meeting with our teammates. I'm impressed with the progress the European team has made over the past year, and I see great potential for this pan-European platform. During the quarter, I also met with provider and manufacturer customers, further reinforcing for me the vital role that Owens & Minor plays in healthcare. I witnessed firsthand the complexity and challenges that our customers deal with every day. From what I've learned in my first 100 days at Owens & Minor, I know our customers need us now more than ever. They are asking for our help in conquering the challenges in the healthcare system. Because we operate with a high level of transparency and seek to reduce complexity, our position in healthcare is unique. As for the performance of our team, so far this year, I'm pleased with our solid results in revenue, expense control, and profitability. Both the domestic and international segments have performed well. Looking ahead, our goal is to craft a strategy that will deliver sustained, profitable earnings growth. Accordingly, along with our senior leadership team, I've just presented our strategic agenda to the board. While we intended to discuss the strategy with you at our Investor Day, I wanted to provide a high level overview of the plan today. With our new strategic agenda, we are putting ourselves in a stronger position now and for the future. In order to carry out our plan, we will need the right leaders to help us reach our goal. Consequently, the first element of our strategic agenda is to strengthen and align our leadership team. We have given new assignments to certain leaders and have already added new talent to the team. Erika Davis, a long-time Owens & Minor leader who most recently served as Head of Operations, is my new Chief of Staff, while Randy Meier has added President of International to his responsibilities. As for new leaders, we welcome Jay Romans, a highly experienced human resources executive, to our team. And we also appointed Marshall Simpson as Executive Vice President and Chief Commercial Officer. Marshall, who spent the last four years running his own healthcare consulting company, previously worked for Owens & Minor for 20 years in a variety of sales and operations roles. His industry knowledge and relationships in healthcare are significant and we are very pleased that he has rejoined our team. Finally, we have also streamlined and focused our leadership talent in Europe. Our goal is to ensure that we have the right leaders with the right skills and talents to execute our strategy. The second element of our strategic agenda is to strengthen our domestic logistics business. It's no secret that healthcare providers and manufacturers are under enormous pressure to reduce cost. In order to effectively meet customer needs, we must continually streamline our operations so that we are as efficient and cost-effective as possible. Therefore, the goal for this element of our plan is to maximize the effectiveness and efficiency across our network, simplifying and aligning the organization to achieve cost reductions and productivity gains. As such, we intend to attack our cost structure across the board with aggressive goals to streamline and standardize our operations in order to drive continuous operations improvement. The third element of our agenda is enhancing the execution of our existing growth strategies. Our two main growth initiatives today are our business in Europe and our clinical and procedural kitting business. Our vision for Owens & Minor Europe is to create a differentiated logistics and service business for leading global manufacturers. After all the work we've done to stabilize the European operations, I believe we are well positioned and I see great potential for our platform in Europe. Our second growth strategy centers on our two surgical kitting companies we acquired last year, one in the U.S. and one in Ireland. We will organize these two businesses into one focused global business unit. Led by Randy Meier, our vision for this business is to provide clinically relevant solutions for both hospitals and manufacturers, enabling us to further attack the complexity in healthcare systems. This group will also be responsible for integrating all of our global sourcing activities into one cohesive unit. We will share additional detail and insight into our new strategic agenda along with our financial outlook for 2016 at our Investor Day in December. Looking forward, we are uniquely positioned to help our customers meet today's challenges in healthcare by providing transparent and comprehensive solutions that enhance the delivery of care. With the help of our talented leadership team and our dedicated teammates in the U.S., Europe, and Asia, I know we can achieve our goals. Thank you. And now, I'll turn the call over to Randy for a review of our financial results. Randy?

[Richard A. Meier:]

Thank you, Cody, and good morning, everyone. We are pleased to report the third quarter results were very solid, and our teams continue to make steady progress toward achieving our financial, operational and strategic goals. This morning, I would like to update you on our quarterly and year-to-date results. However, before I begin, I'd like to remind you that we made certain adjustments to our reported results that are detailed in our press release. Third quarter consolidated revenues improved 3.6% to $2.47 billion when compared to $2.39 billion last year. Excluding results from last year's two acquisitions, quarterly revenues increased 1.2%. On a year-to-date basis, consolidated revenues grew 4.8% to $7.29 billion. Excluding the acquisitions, revenues grew 2.6%. On an adjusted basis, quarterly consolidated operating earnings improved $10.4 million to $59.7 million. For the first nine months, consolidated operating earnings improved $20.6 million to $164.2 million. And looking at the segments, domestic revenues for the third quarter were $2.37 billion, a 4.7% increase over last year's third quarter. Excluding the acquisition, quarterly revenues improved 2.6%. Revenue trends echoed what we have been seeing all year and the most significant growth resulting from our large customers. For the first nine months, domestic segment revenues improved 5.6% to $6.97 billion. Excluding last year's acquisition, domestic revenues grew 3.8%. Quarterly domestic operating earnings improved $7.2 million to $58 million. Margins benefited from strong revenue growth and the positive impact of manufacturer product price changes. On a year-to-date basis, domestic segment operating earnings improved $9.1 million to $160.9 million. Turning to the international segment, for the quarter, international revenues declined $20.4 million to $104 million. On a constant currency basis, excluding the 2014 acquisition and the 2014 transition of a customer from a buy-sell to a fee-for-service, the international segment revenues declined approximately 7% for the quarter, and were essentially flat for the year-to-date period. The quarterly decline was primarily due to the previously discussed exit of a UK customer in July. As for the operating earnings, the international team achieved a fourth consecutive quarter of profitability with operating earnings of $1.7 million. This was a quarterly improvement of $3.2 million over prior year. Year-to-date international operating earnings were $3.3 million, an improvement of $11.5 million compared to the same period last year. Turning back to consolidated results, quarterly interest expense was $6.7 million, reflecting last year's refinancing. Our adjusted tax rate year-to-date was 37.3% compared to 40.3% in the same period last year. Consolidated on-site (11

[Operator:]

Thank you. Our first question comes from the line of Robert Jones from Goldman Sachs.

[Adam C. Noble:]

Hi. Thanks for the questions. This is Adam Noble in for Bob. I just wanted to go back to the domestic operating margin. Obviously, very strong in the quarter both sequentially and year-over-year. You mentioned that some of the manufacturer price increases -- you shouldn't see the same magnitude of benefit going into 4Q. I'm just wondering if you could parse out what type of benefit that was in 3Q and why you don't think that's as sustainable as maybe typically.

[Richard A. Meier:]

Hi, Adam. This is Randy. Probably this question deserves a little bit of color before we get down to some of the more specifics. Over the last year or two, we've been seeing a trend in sort of product price increases. Historically, we've seen this effect typically year-end where we have the impact into the first quarter. And then, throughout the remainder of the year, there's a much lower impact or potential benefit as we went through the year. Beginning about last summer, or about four quarters ago, we began to see a number of manufacturers begin to take some price increases in a very targeted fashion, but outside the normal year-end pace that they usually have. This year, we've seen sort of a benefit come through because of price increases in the first three quarters of the year. And while we continue to think that manufacturers will probably take advantage of these periodic price increases, we're just going to take kind of a conservative approach to this and we just don't think this is going to be sustainable at the levels we've seen the first three quarters of the year. So our comments are more related to just the sustainability of the way we've been seeing these price increases and the potential tailwinds that we've had. So we're just sort of – as we look to the fourth quarter, we think that there's probably going to be less benefit going there. So I think that's all what we're trying to give people some color on.

[Adam C. Noble:]

No, that's really helpful, and I guess to kind of dig into that a little bit more, again, the sequential increase was pretty significant, domestic operating margin. It's – while there was strong revenue growth from the domestic business, you had seen pretty strong revenue growth in the first half. I'm just wondering what might have changed – have you hit maybe a, I guess, a critical juncture with regards to the fixed expense base in the domestic operating business where the incremental revenue growth really should drive that leverage? Or was 3Q more of a – just a really strong quarter that shouldn't necessarily repeat next quarter?

[Richard A. Meier:]

Well, I think the broader organization, as you know, has been doing a lot to try to manage the cost side of the equation. And I think when you look at some of the benefits that we're finding you see, (18

[Adam C. Noble:]

Got you. Thanks a lot.

[Richard A. Meier:]

You bet.

[Operator:]

Thank you. Our next question comes from the line of Evan Stover from Robert W. Baird.

[Evan A. Stover:]

Hi. I wanted to dig into the comment that your two kitting businesses have modestly underperformed. I mean, at least from my perspective, what I can see on the revenue, the larger of the two deals, Medical Action, actually had a nice revenue quarter here. Is there something I am missing maybe as we dig below revenue and how margin performance in those businesses are going? And as part of the strategic plan, I mean, what are really the key things you need to do to fix those businesses?

[P. Cody Phipps:]

Yeah. Evan, I'll go first. And then, Randy can jump in, too. First, as we said, we hit our cost synergies for those businesses. So, that was kind of job one, and I give the team a lot of credit for that. We're pleased with that outcome. As we looked at the businesses, we just have higher expectations for where we want to take those businesses and then how they can collaborate together. So, we're not – the way I would say it is they haven't met our revenue and performance expectations yet on that dimension. And one of the things we're doing is, as we've said, forming one cohesive business unit – a global business unit. And the reason we're doing that, as we see opportunities to leverage capabilities on both sides. So the ArcRoyal business over in Ireland has very advanced lean techniques to improve productivity and drive a better operating environment. We're going to transpose those techniques over here. And similarly, we see capabilities on the Medical Action side that we want to borrow. So, we're just – what we're seeing is we can do better there. And we've aligned a leadership team to go after that. Randy, you want to add anything?

[Richard A. Meier:]

Sure. Just to echo what Cody said. I think the – we've done a nice job with some of the integration activities. I think that – I would consider this more consolidating the two business units and adding our global sourcing capabilities to it and trying to leverage some of the structures that we have in a combined unit to make a more complementary organization to our global logistics capabilities here in the United States and over in Europe. So, this is really just more taking advantage of opportunities out there that we think a combined unit will allow us to do.

[Evan A. Stover:]

Okay. Thank you. That's helpful and my second question goes back to the previous question on price changes. I mean, I don't get a lot of quantitative disclosure, but I kind of get the feeling that – I know they're becoming more varied, but I get the feeling in some of your comments that I've heard more about positive manufacturer price changes. Is that a incorrect assumption? I mean, if I just think about maybe year-to-date this year versus last year, is the overall pricing environment about the same, better, or worse?

[Richard A. Meier:]

I wouldn't say it's any better. I think what we're seeing from manufacturers is much more targeted price increases in very specific product categories. So, I wouldn't say across the board that manufacturers are seeing just wholesale price increases. That's sort of historically what you'd see at the end of the year. What we're seeing is manufacturers look at their portfolios and at different times through the year taking on specific price increases in a specific product category. And we've seen some reasonable benefit of that over the first three quarters of the year.

[Evan A. Stover:]

All right. Thank you.

[Richard A. Meier:]

Thank you.

[Operator:]

Thank you. We'll pause one moment to see if we have any additional questions. And I see no additional questions at this time. I would like to turn the conference back over to Cody Phipps for any closing comments.

[P. Cody Phipps:]

Well, we thank you for your time today, and we'll look forward to updating on our progress at our Investor Day in December. Thank you.

[Operator:]

Thank you. Ladies and gentlemen, thank you for your participation in today's conference. This does conclude the program, and you may now disconnect. Everyone, have a good day.

[P. Cody Phipps:]

Thank you.