Thermo Fisher Scientific Inc.
Q3 2012 Earnings Call Transcript

Published: 24 Oct 2012

[Operator:]

Good morning, ladies and gentlemen, and welcome to the Thermo Fisher Scientific 2012 Third Quarter Earnings Conference Call. My name is Nancy, and I will be your operator for today. [Operator Instructions] As a reminder, this call is being recorded for replay purposes. I would now like to introduce our moderator for the call, Mr. Kenneth Apicerno, Vice President, Investor Relations. Mr. Apicerno, you may now begin.

[Kenneth J. Apicerno:]

Thank you. Good morning, and thank you for joining us. On the call with me today is Marc Casper, our President and Chief Executive Officer; and Pete Wilver, Senior Vice President and Chief Financial Officer. Please note this call is being webcast live and will be archived on the Investors section of our website, thermofisher.com, under the heading Webcasts and Presentations until November 23, 2012. A copy of the press release of our 2012 third quarter earnings and future expectations is available on our website under the heading Financial Results. So before we begin, I'll cover the brief -- briefly just the Safe Harbor statement. Various remarks that we may make about the company's future expectations, plans and prospects constitute forward-looking statements for purposes of the Safe Harbor provisions under the Private Securities Litigation Reform Act of 1995. Actual results may differ materially from those indicated by these forward-looking statements as a result of various important factors, including those discussed in the company's quarterly report on Form 10-Q for the quarter ended June 30, 2012, under the caption Risk Factors, which is on file with the Securities and Exchange Commission and also available on the Investors section of our website under the heading SEC Filings. While we may elect to update forward-looking statements at some point in the future, we specifically disclaim any obligation to do so even if our estimates change. Therefore, you should not rely on these forward-looking statements as representing our views as of any date subsequent to today. Also, during the call, we'll be referring to certain financial measures not prepared in accordance with generally accepted accounting principles or GAAP. A reconciliation of these non-GAAP financial measures to the most directly comparable GAAP measures is available in the press release of our third quarter 2012 earnings and future expectations and also in the Investors section of our website under the heading Financial Information. So with that, I'll now turn the call over to Marc.

[Marc N. Casper:]

Thanks, Ken, and good morning, everyone. Thank you for joining us today on our third quarter earnings call. I'm very pleased to report that we continued our growth momentum from the first half of the year into Q3. Our teams executed well to deliver record third quarter revenue and EPS by continuing to focus on our initiatives to grow the business and gain market share. Our strong results so far this year positions us to meet our goals for 2012 and give us a solid foundation as we move into 2013. Later in the call, I'll share a few thoughts on our updated guidance as we close out the year. But first, let me focus on the quarter starting with our financial highlights, then moving onto what we saw in our end markets and ending with some great examples of how we're positioning the company for continued growth and success. So first the financials. As I mentioned, we delivered record third quarter adjusted EPS with an 11% increase over 2011. Our revenue, another record performance, grew by 5% over last year. Finally, our adjusted operating income also increased 5% in Q3. Our results highlight how well we've continued to navigate the economic environment. Our strong top line performance, solid operational discipline and effective capital deployment have resulted in adjusted EPS growth of 20% over the first 9 months of the year. The dynamics of our end markets have played out as we expected. We planned accordingly, we executed well, and we set ourselves up to deliver a very strong year. Let's talk about our growth for a minute and where it's coming from, and I'll share a few observations. First, our value proposition is really making a difference for our customers and puts us in a unique position in our industry. We have innovative, high-impact products through our Thermo Scientific brand. We have a leading channel to market through Fisher Scientific, and we have the most comprehensive service capabilities through Unity Lab Services. This differentiated offering is what we bring to our customers when they work with Thermo Fisher Scientific. I spend a significant amount of my time meeting with our customers. I think it's one of the most important things that I do. I recently visited several of our largest European accounts, serving markets ranging from pharma to industrial. It was clear from my discussions that they appreciate the value we provide as a strategic partner, and they are looking to us to help them achieve their goals in the current environment. Second, our global presence is a key advantage in terms of market penetration and cost efficiency. As you know, we're expanding our presence in emerging markets, and we had another strong quarter in the APAC region. China came in with better than 20% growth again this quarter. The team there is doing fantastic work, and we plan to have the grand opening for our new life sciences consumable plant in Suzhou next month. I'll mention here that we had excellent growth in the quarter in South Korea and good growth in India as well. In fact, I just came back from visiting our operations in Mumbai. For us, India is about a $2 billion addressable market. We're very excited about the long-term opportunities that we have there in industries such as a pharmaceutical health care, food safety and the environment. The last point I want to make about growth is that we never stop innovating. Our innovation pipeline is full, and we're continuing to introduce new products and services that create real value for our customers. For example, the new analytical instrument products we've recently launched are selling well. The Q Exactive has turned out to be a game-changing instrument for mass spectrometry customers in both research and applied markets. We also have excellent momentum with our share gain initiatives in gas chromatography where we are leveraging the leading technologies of both Thermo Fisher and Dionex. Both our TRACE 1300 GC and our TSQ 8000 triple quad GC/MS systems, launched earlier this year, are selling extremely well especially in applied markets such as food safety and environmental testing. I'll highlight some of our more recent launches within Specialty Diagnostics in a minute. While we have a lot of initiatives in place to position the company for growth, we are also being prudent and carefully managing our costs as we always do. Through our productivity levers, including our PPI business system, sourcing programs and global footprint optimization, we delivered 70 basis points of adjusted operating margin expansion through the first 9 months of the year. Looking ahead, we know the potential for sequestration is around the corner. We've been planning for it. We'll closely monitor the market environment, and we'll take additional cost actions as necessary. Turning to our 4 primary end markets. As I mentioned at the beginning of my comments, the dynamics played out pretty much as we expected in the quarter. In pharma and biotech, conditions have been very consistent what we've seen all year long, and we're continuing to gain share across a broad base of customers. Our value proposition is really resonating, and we're helping our pharma and biotech customers meet their goals for both innovation and productivity. Once again, we grew in the high single digits with these customers and saw a continued strength in our bioprocess production business as well as clinical trials logistics. We had a good quarter in health care and diagnostics, which grew in the mid-single digits. We have great momentum here and had strong sales across a number of our Specialty Diagnostics businesses, including biomarkers. We significantly enhanced our Specialty Diagnostics portfolio over the past year, and we're clearly benefiting from being able to offer these customers a more comprehensive menu of products. We're also leveraging our extensive Asia-Pacific presence to serve the growing health care needs in that region and accelerate growth of our Specialty Diagnostic businesses. Looking at our other 2 key end markets, our comparisons with the year-ago quarter were more of the story here. In academic and government end markets, conditions were basically the same as what we've been seeing all year. So our view here hasn't changed. Our customers are dealing with the weaker funding environment, and spending on capital equipment continues to be constrained, while sales of laboratory consumables remains less effective. We benefited this quarter from an easy comparison, so we actually grew in the low single digits for the quarter. Last, in industrial and applied markets, we declined in the low single digits in Q3. This is where we had our toughest comparison, having grown in the mid-teens in Q3 last year. Some of our industrial customers are taking longer to make decisions in the current environment. We did see pockets of strength however. For example, our air quality monitors are selling well, especially in China, and we saw good demand from customers in applied markets such as food safety. Let me cover a few of our business highlights for the quarter. These are good examples of some of the initiatives we're pursuing to better serve our customers and generate growth. First, you know we're committed to innovation, and I already mentioned that our key Thermo Scientific products introduced this year in Analytical Technologies are doing quite well. This quarter, we launched new products in our Specialty Diagnostics portfolio at the American Association for Clinical Chemistry, including new immunoassays, analyzers and related chemistry controls. This reinforces that we're focused on helping our customers in clinical laboratories improve both productivity and patient care. For example, our new QMS Tacrolimus immunoassay, which is now available in Europe, is used to monitor the most commonly prescribed immunosuppressant drug for transplant patients to prevent organ rejection. This is a liquid, ready-to-use assay with bar-coded reagents that runs on our Indiko benchtop analyzer. We recently upgraded this successful analyzer platform to launch a new-generation instrument called Indiko Plus in the U.S. This new analyzer is designed to deliver higher throughput for specialty testing in the clinical lab, including drugs-of-abuse screening and monitoring of therapeutic drugs. In immunodiagnostics, we expanded our offering for the diagnosis and monitoring of allergies, asthma and autoimmune diseases. Our EliA rheumatoid factor assays give clinicians a reliable and simple tool for the diagnosis of arthritis and our ImmunoCAP Tryptase assays provides an indication of systemic mast cell disease. Both of these assays are cleared for sale in the U.S. Let me turn a minute to our biosciences business, which, as you know, has been doing well all year, especially in bioprocess production for the biotech industry. We also have a great opportunity here for our molecular biology portfolio, which we haven't talked about as much. We had some developments here in the quarter that speak to our initiatives to expand our offering and better serve our customers on a global scale. You may remember that we acquired 2 businesses a couple of years ago, Fermentas and Finnzymes, to increase our capabilities in the high-growth market for PCR testing. Fermentas had a significant presence in Vilnius, Lithuania, which is known for its outstanding academic institutions and a highly skilled life sciences workforce. Last month, we established a Center of Excellence for molecular biology in Vilnius. The new facility provides products for our life sciences customers globally, who are accelerating their work in PCR-based testing and DNA research to develop treatments for disease. In addition to world-class reagent production, the site has an outstanding R&D center that's focused on the development of new products for all aspects of molecular biology. The new center not only increases our depth of capabilities to support our global customer base, but also strengthens our presence in emerging high-growth markets within Eastern Europe. Let me now turn to capital deployment, an important part of our growth strategy, and give you a quick update on our activities in the quarter. First, as you know, in September we closed our acquisition of One Lambda, which is now part of our Specialty Diagnostics segment. I participated in our Day 1 activities at the headquarters in California, and it was great to personally welcome 300 new colleagues to our team. The business has a terrific legacy of innovation in tissue typing and antibody testing for transplant patients, and it's a nice complement to our immunosuppressant assays for monitoring therapeutic drugs. We're very excited about this combination and the opportunities it offers to prevent donor rejection and ultimately improve the lives of transplant patients around the world. I'll make one last comment to highlight the effectiveness of our capital deployment strategy. When you look back, we've reported excellent free cash flow so far this year, generating about $1.2 billion in the first 9 months. This has allowed us to invest to expand our offering for our customers, such as our recent acquisitions of Doe & Ingalls and One Lambda. And it's allowed us to return about $900 million of capital to our shareholders in stock buybacks and dividends through the third quarter of this year. Before I turn it over to Pete, I'll make some comments about our full year guidance. As you saw in our press release, we're raising both our revenue and adjusted EPS guidance for 2012. We have a strong 9 months behind us, and we're also factoring in the close of One Lambda and slightly improved foreign exchange rates. We now expect a generate revenue of $12.32 billion to $12.40 billion in 2012, which leads to 7% revenue growth year-over-year. In terms of our adjusted EPS, we're raising our guidance to a new range of $4.81 to $4.88, which leads to 16% to 17% adjusted EPS growth over 2011. So let me summarize the key takeaways from Q3. It was a great quarter. We executed well, and we're seeing the results of our growth initiatives in our strong revenue and earnings performance. We continue to keep a close eye on our end markets and are prepared to take additional actions, if necessary, to ensure that we successfully navigate the economic environment. We were able to raise our guidance throughout the year in a tough environment and are confident that we'll achieve our goals and deliver a strong 2012. Now I'll turn the call over to Pete Wilver. Pete?

[Peter M. Wilver:]

Thanks, Marc. Good morning, everyone. I'll start with an overview of the total company's financial performance and then provide some color on each of our 3 segments before moving onto our updated guidance. To reinforce what Marc said, in Q3, we delivered another quarter of strong top line and bottom line results, which led to an 11% increase in adjusted EPS to a third quarter record of $1.19. GAAP EPS in Q3 was $0.79, up 14% from $0.69 in the prior year's quarter. Starting with the top line, total revenue increased 5% year-over-year. On a pro forma basis, as if Phadia were owned for the entire third quarter in 2011, reported revenue was up 3% and organic revenue was up 4%. Pro forma revenue includes 1% growth from acquisitions other than Phadia, which was more than offset by a 3% headwind from foreign currency translation. Two things to note

[Kenneth J. Apicerno:]

Thanks, Pete. Operator, we're ready to open it up for questions.

[Operator:]

[Operator Instructions] We have our first question in the queue from the line of Jon Groberg from Macquarie.

[Jonathan P. Groberg:]

Do you think, Marc, you could maybe -- there's a lot of interest obviously and focus given throughout this earning season on just kind of sequential trends and specifically, I think kind of capital equipment weakness going into the kind of ending the quarter and going into the fourth quarter. So can you maybe just talk about kind of what you saw and what you're seeing there?

[Marc N. Casper:]

Yes, from the -- how both Q3 played out and how we thought about our guidance at the beginning of Q4, remarkably consistent activity throughout the quarter and going into the beginning of this quarter. So we feel good about the guidance that we outlined.

[Jonathan P. Groberg:]

So nothing of note in terms of things that were -- I mean, industrial was maybe a little bit weaker than Analytical Technologies, but there's nothing major of note there that you see changing in your markets?

[Marc N. Casper:]

From the way I thought about that question was more about what do the 13 weeks look like. Looking forward, right, which is as we're sitting here today on the end markets, our basic assumptions are industrial and applied markets, while we continue to see good pockets of strength in environmental and food safety, as we look to Q4, our guidance is reflecting a softening of the industrial end markets. And obviously, we have another difficult comparison, so we're assuming that the end market in industrial gets -- is going to get a little bit softer.

[Jonathan P. Groberg:]

Okay. And then if I could just follow up on specifically on Lab Products and Services, I mean, Marc, maybe because over the last few years, it's been a business that kind of has a good year and then kind of doesn't have as good of a year. And then has a good year and then maybe not as good of a year. And looks like this year, it's shaping out to stabilize the margin. Is there something sustainable you think happening there or maybe just talk a little bit about that business?

[Marc N. Casper:]

Yes, our Lab Products and Services business is basically driving productivity for our customers, and as the economic environment came out of the recession, it was more muted than other recoveries. This business is clearly gaining share. And so we're very positive on the outlook for our Lab Products and Services business, and we are making a huge difference for our customers. So it doesn't mean that every single quarter is going to be perfect, smooth growth, but the reality is that the business is doing well, and it's contributing to our earnings growth, and it's contributing to our top line growth as well. So we're excited about the prospects for that business.

[Operator:]

We have the next question from the line of Jon Wood from Jefferies.

[Jon Davis Wood:]

So, Marc, just I know it's early, but if we kind of look at -- out to 2013, is it reasonable to assume kind of a normal year on capital redeployment in terms of the percentage of free cash flow back to shareholders? I mean, obviously, you're tracking well ahead of that with something like 75% returned year-to-date, but I'd love to hear kind of the way you're thinking big picture about redeployment in '13.

[Marc N. Casper:]

Jon, as we think about 2013, we're going to give our guidance in late January when we do our Q4 earnings call. So we'll come out with the -- with our plans for capital deployment. But clearly, we obviously have a dividend in place, and we're likely to return some portion of our cash flow through buybacks. I mean that's consistent with the modeling that Pete laid out in May. But we have more debt on the balance sheet, so we'll probably strengthen the balance sheet by repaying some debt, and then obviously we'll be opportunistic on terrific acquisitions.

[Jon Davis Wood:]

Okay, great. My follow-up is for Pete. On the restructuring program this year, the $75 million, what do you expect to be the payout or payback in terms of savings of that program in '13?

[Peter M. Wilver:]

So it's probably something in the range of $45 million, which will help. So kind of similar to what we're getting this year on a year-over-year basis. So we're going to get same as with the $100 million we put in place last year. We'll get a portion of it this year and most of it next year and then a little bit of carryover into 2014.

[Operator:]

We have a next question from the line of Dan Leonard from Leerink Swann.

[Daniel L. Leonard:]

For the fourth quarter, can you maybe comment on your organic growth outlook for the fourth quarter? It seems like it might be negative, and I'm wondering if there's anything there besides the softer industrial assumption.

[Peter M. Wilver:]

So what's implied in the guidance is about 1% organic growth for the fourth quarter. That's the midpoint.

[Daniel L. Leonard:]

Okay. And then on the gross margin or, I guess, on the operating margin in Specialty Diagnostics, it's oscillating quite a bit year-to-date with the third quarter being the low point. Can you give a little more color on what's driving the oscillation in that line?

[Peter M. Wilver:]

So in the fourth quarter, as I mentioned in my comments, the margin decline year-over-year was really impacted by foreign exchange in Specialty Diagnostics over the 100 basis point headwind. So when I look down at all the other factors that affect margins year-over-year, that's the prime factor. Everything else was pretty much in line. We had good pull-through on organic growth. We always have inflation of some level, which offsets some of our productivity, but the big factor was really foreign exchange.

[Daniel L. Leonard:]

Oh, but I was more speaking to the prior quarter's, the 20.5% [ph] then 27.2%, then 24.1%. I'm just not sure where the trend line might sit for forecasting.

[Peter M. Wilver:]

So the -- it's probably best to look at the more recent quarters. Obviously, we've got transplant diagnostics coming in, in Q4, so we'll probably see a little uptick as a result of that.

[Operator:]

Next question is from the line of Ross Muken from ISI Group.

[Ross Muken:]

So you finally got into a pretty good groove here in terms of outperforming the peers on growth, execution, et cetera. I mean if you sort of go back to Q3 of last year, which was obviously a challenging period for you guys, and you think about within the organization how you've approached things differently and how you've approached the Street differently, I mean walk us through sort of the transition path from what was a tough period and the sort of lessons learned and sort of what -- how you've sort of reflected that in the business for the last couple of quarters where you've had obviously much better execution and really done well versus the peers in the broader market.

[Marc N. Casper:]

So, Ross, I think the way that we think about it here is our job is to do a great job of serving our customers, do a great job of communicating how we're performing and what our expectations are and manage the company well. And Q3 was a disappointment to our shareholder base, and it wasn't something -- it wasn't our best quarter. And when I think about it, for all of us, it was a re-energizing moment, right? I mean it was one of those things where, well, if you look at it versus Q2 or Q1, it really wasn't that different. But it disappointed, and therefore, we used it to re-energize our 39,000 colleagues. We learned from it, and if I think about the last 4 quarters, we've got a lot of confidence, I mean, across the company. Our customers are excited to working with us. I'm spending a huge amount of time with customers as is the entire leadership team. And Pete's out there, visiting CFOs and heads of procurement at organizations. I mean, we're having fun, right? We don't make excuses. We deliver good results, and we don't get too high. We're not sitting here doing victory laps. It's a tough world out there, but we feel good about our prospects. We feel great about our market position. And our job is to communicate how we think the world's going to play out and then execute well.

[Ross Muken:]

That makes total sense. I mean obviously as you're kind of going into the fourth quarter, you talked about some of the puts and takes, and obviously, industrial is a key piece. I mean as you were thinking about the fiscal cliff, the sequesters, you're talking about that with customers. There's a lot of questions, right, both on demand, on taxes, et cetera. I mean, how do you sort of contingency plan for that? I mean, you've left a wider range maybe than typical by $0.01 or so for the fourth quarter, but how do you sort put in place at least whether it's on the cost side, maybe it's on what you do with buyback, et cetera, measures to make sure you feel comfortable about, sort of your bottom line execution is obviously -- it's harder to know what pushes and pulls will happen over the next couple of months.

[Marc N. Casper:]

Yes, I think that first of all we put expectations on the top line to reflect that uncertainty, right, with a 1% organic growth at the midpoint, and the basic underlying assumptions is that we've got good momentum in pharma and biotech. We have good position with health care and diagnostics so not big changes there. Industrial will soften, and we're assuming that academic and government, because the comp is harder, is going to, again, be more muted in terms of contribution to our growth in the quarter. So that's the assumption we made. We've been managing our costs aggressively to position ourselves for this environment. And that was what Pete referred to with the $75 million of additional work. We chose not to do it in a program but actually, just do the work throughout the year to reduce our costs and set ourselves up to be successful in this environment. So the range is a little wider as Pete articulated, and we think it's a reasonable assumption given the uncertainty in the end markets.

[Operator:]

We have a next question in the queue from the line of Daniel Brennan from Morgan Stanley.

[Daniel Brennan:]

Marc, you discussed in your prepared remarks how the company continues to take share. Maybe can you just highlight the key businesses where this is occurring and where you see the biggest opportunities going forward for continued share gains.

[Marc N. Casper:]

Yes, so we only have maybe 20 minutes left, so I can't use it all up on this one, Dan. But no, I'm joking. But the areas of highlights is, if you look at it in the quarter, life sciences mass spec did really well. Bioprocess production did really well. HPLC did really well. GC did exceptionally well. So that gives you a flavor of the instrument portion. Our channel business is doing well in the marketplace. So I feel good about that. More of our biopharma customers are outsourcing activities from in-house to us, so share of wallet is increasing. It's -- we don't have that many competitors there, but we're taking more of that business that used to be done in-house. So that gives you a flavor for some of the areas where we feel like we're gaining market share.

[Daniel Brennan:]

And are you seeing related to that -- I mean some of that is obviously innovation driven, but given the environment we're in and your kind of strategy to kind of get closer to your customers and deliver more, how much is that really playing into it now, whether it be you're able to offer better price or you can just offer a spectrum of services that competitors can't? Can you kind of distinguish between that?

[Marc N. Casper:]

Yes. I mean, it's not really price driven. When you look at the -- on the technology side, that's clearly just great product, right? So that -- we talked about it at the Analyst Day. We talked about it at some of the conferences earlier in the year. We just have a sweet spot in our innovation launches. So that's driving that portion. But the environment -- more of our customers are just spending disproportionate time with us. I mean that's the reality, which is they're thinking about how do they make their innovation goals, how do they make their productivity goals. And this industry is so fragmented, we are so much larger than the other players that it's too much work to go to the smaller players. Why do you want to have 7 meetings when you can meet with 1 company that will say, "okay, what do you need to accomplish?" And then we just put the playbook out and say, "okay, here's how you're going to make your productivity goals." And that's resonating incredibly well with the customer base.

[Operator:]

We have a next question from the line of Paul Knight from CLSA. Paul R. Knight - Credit Agricole Securities (USA) Inc., Research Division The VWR and Fisher businesses 10, 15 years ago never grew, even in a good year, 5%. What's behind 5% product growth of that division?

[Marc N. Casper:]

So in Lab Products and Services, you have our channel business, you have our lab consumables, lab equipment and very strong growth from our biopharma services business, which is our outsourcing business. So it's a blend of all of those businesses, and those businesses generally are serving the sweet spot of customers driving for productivity, and particularly our biopharma services business, as well as our channel businesses, is really helping our customers there. So that's where you're seeing nice, strong sustainable growth.

[Operator:]

We have a next question from the line of Derik De Bruin from Bank of America.

[Derik De Bruin:]

So a couple of questions that are sort of boring. How are you thinking about the med device tax mixture? Do you guys get impacted by that dramatically?

[Marc N. Casper:]

So yes, the answer is not dramatically, but yes, we are affected by it. It's about $25 million of costs that we'll be picking up in our Specialty Diagnostics business as a result of the regulation that goes into effect January 1.

[Derik De Bruin:]

Great. The -- since you've mentioned Fermentas and the PCR market, what are you seeing in the dynamics of that market now that some of the qPCR patents have expired? What's happening with pricing the space in the competitive landscape?

[Marc N. Casper:]

We are a small player, so our prospects there, we think, are good because we're leveraging our huge commercial reach. When I look at our portfolio, we have very good products. We have a huge sales force, and we are manufacturing in a very, very low-cost location with an incredibly talented workforce. In my last trip to Lithuania just -- we have a huge number of Ph.D.s, huge number of folks with Masters degrees and great relationship with the local universities, so we can really get terrific employees. So we like our competitive position, and for us, it's one of the very few businesses we have where we're relatively a niche player, and we're building that out to gain share.

[Operator:]

Next question is from the line of Amit Bhalla from Citi.

[Amit Bhalla:]

Wanted to just ask about Phadia and Dionex and their contribution in the quarter. They have heavy presence in Europe, and I know I think last quarter the businesses were dilutive. So can you talk a little bit about the performance this quarter?

[Marc N. Casper:]

Yes. So Dionex is 100% integrated into the business at this point. It's well over a year past the acquisition, and Phadia is at the anniversary as well. But the organic growth of the company would be the same with or without those businesses. Obviously, only Phadia was pro forma, so we would have delivered the 4% growth either way.

[Amit Bhalla:]

Could you be a little more specific on just how Phadia is doing in the U.S. versus Europe?

[Marc N. Casper:]

Sure. Absolutely. So in terms of Phadia in North America, it's doing extremely well with good growth. We also have launched some new products that will position the business for bright growth. We're still seeing significant softness in Southern Europe, which we highlighted last quarter. So Phadia in aggregate is growing a little bit less than the Specialty Diagnostics segment average.

[Amit Bhalla:]

Okay. And then on the mass spec side, you talked about gaining share there. Can you just talk about what your view is of market growth and what are the types of accounts and products you're gaining share from within mass spec?

[Marc N. Casper:]

Thanks for the question, Amit. The Q Exactive is doing extremely well. So that's for both applied markets as well as traditional life sciences, and it's at the high end of that market segment. So we clearly are seeing very strong momentum with the Q Exactive in life sciences mass spec.

[Amit Bhalla:]

And how fast do you think the market's growing?

[Marc N. Casper:]

That's -- it's probably growing mid-single digits, I would think, but my take is, is that we've got a lot of customer attention right now.

[Operator:]

We have a next question from the line of Doug Schenkel from Cowen and Company.

[Doug Schenkel:]

Pete, I think this first question's for you. A solid sequential increase in Analytical Technology operating margins, but I think it was about a 60 basis point year-over-year decline. Was this as expected? I guess, specifically what I want to get at is there were no changes in pricing dynamics, correct? It just sounds like this was FX and the fact that some of the investments you highlighted in your prepared remarks had a disproportionate impact on this business. Is that correct?

[Peter M. Wilver:]

Yes, it really is the same story, as I mentioned, on Specialty Diagnostics. When I look across the different elements of the year-over-year margin bridge and how that's trended over the last few quarters, price is basically the same number. Productivity is actually stronger than normal. It's way in the high end. Investments were higher, and FX hit us by about 80 basis points in that segment.

[Doug Schenkel:]

Okay. And then I apologize if I'm missed this, but One Lambda, what was the contribution in Q3? And can you remind us what your expectations for One Lambda are for year 1 assuming those haven't changed?

[Marc N. Casper:]

Yes. So, Doug, in terms of the -- it was de minimis in Q3. It closed with less than 2 weeks to go or so in the quarter, so it had no impact there, a minimal impact.

[Peter M. Wilver:]

And then the first year, accretion in 2013, we guided to $0.09 to $0.11.

[Doug Schenkel:]

Okay. so that -- does that change because the deal closed a little early? Or should we still be thinking about that for 2013?

[Peter M. Wilver:]

Yes. I probably -- to be honest, I haven't done the year-over-year compare, but there's -- we'll probably lose a little bit on the year-over-year accretion as a result of getting a little bit more this year.

[Marc N. Casper:]

Shouldn't be particularly meaningfully difference.

[Operator:]

We have a next question in the queue from the line of Jeff Elliott from Robert Baird.

[Jeffrey T. Elliott:]

I want to try to ask this 2013 question a little bit differently. So I think earlier this year, you commented that you saw a path to double-digit earnings growth kind of with or without sequestration, and I'm just kind of curious, has the environment changed enough that you're going to back off those earnings comments? Or can you still stand by that double-digit growth range?

[Marc N. Casper:]

So, Jeff, thanks for the question. So we're right in the midst of our detailed 2013 planning process right now, and it's obviously clear that the environment hasn't gotten any easier and some of the end markets have gotten tougher, but we're remaining focused on delivering on our goal of 10% adjusted EPS growth in 2013. Our plan is to give you the guidance in our Q4 earnings call in late January, but that's the goal we're working towards.

[Operator:]

Next question is from the line of Dan Arias from UBS.

[Daniel Arias:]

Just a question on investment levels going forward. At this point, how are you guys thinking about deployment of SG&A in China and the emerging markets relative to U.S. and Europe? Do those regions continue to get a bigger piece of the pie in the near term? Or have the things that you've done sort of gotten them closer to where they need to be?

[Marc N. Casper:]

I think just given the differential growth rates that we're seeing in emerging markets and is likely to continue for many years, you're going to see more investment in those markets and a tighter level of investment control, much tighter level in Western Europe and the U.S., so I think that's just the reality, probably every company is facing that dynamic of a shifting customer base. So that's the plan. But our job is to manage costs tightly, where we have to take them down and we do, and where we're spending to position the company for success, we will.

[Daniel Arias:]

And just quickly on One Lambda, how are you thinking about timelines in terms of extending those products into the emerging markets and seeing a benefit from that?

[Marc N. Casper:]

So just given that we want to really get it right, get the right infrastructure in place, you're probably talking most of that impact late 2013 into 2014 in terms of emerging market expansion. We're already doing work on it, even though it's only been 5 weeks. It's not as if we haven't started on it, but it takes a while to get momentum in new geographies for business. And when we do our synergy planning, typically revenue synergies come in sort of the year 2, year 3 timeframe not in the year 1 timeframe.

[Operator:]

Next question is from the line of Peter Lawson.

[Eric Criscuolo:]

This is Eric Criscuolo just filling in for Peter. I guess just getting back to the med device fee quickly, where do you plan on recognizing that fee in your P&L?

[Peter M. Wilver:]

That goes into cost of goods sold, so it's going to affect margin not revenue.

[Eric Criscuolo:]

And then the sluggishness in the industrial end markets this quarter, I know you faced a difficult comp, but was there any other particular subsegment of that, that was causing some weakness?

[Marc N. Casper:]

No, I think we had a mid-teens comp, and against that comp, we declined low single digits. When you look at it, what I would classify as the more applied markets, did actually quite well, and you look at the more classic industrial, a little bit softer, mostly characterized by slowing in decision making as opposed to anything more dramatic at this point.

[Operator:]

We have our next question from the line of Isaac Ro from Goldman Sachs.

[Isaac Ro:]

I wanted to talk about China for a minute. That was obviously very strong, and I was wondering if you could comment on the spending patterns you saw across your various end markets there. And the reason I ask this is I'm just trying to get a sense of how the government funding is shaping up relative to the more cyclical spending drivers that you're exposed to in that region.

[Marc N. Casper:]

Sure. So, Isaac, we had our strongest performance of the year this quarter in China on a very difficult comparison. We've seen some softness in industrial markets, but we've seen great growth in applied markets, such as environmental and food safety and also in health care. And we stated many times in the past, we're extraordinarily tightly aligned with the 12th Five-Year Plan. So the big focus on health care expansion, food safety, environmental improvements is a sweet spot for Thermo Fisher, so we're powering through the tougher industrial end markets and delivering 20% plus growth for many quarters in a row now.

[Isaac Ro:]

Yes, that's very impressive. Okay. And then secondly on diagnostics, do you see a heightened level of competition for the assets out there that you're interested in? If so, how are you reevaluating your priorities and the kind of hurdle rates you need to get to, to keep growing that business?

[Marc N. Casper:]

We don't change -- I mean we're growing the business organically. That's the focus. We don't change our hurdle rates because of the competitive dynamics on M&A. So if people are willing to do transactions that are value destroying for their shareholder base, let them have that and do it. We're not going to, so our take is we really like the acquisitions we've done. One Lambda looks extraordinarily attractive. It's brand new, but we feel good about the economics there. And when we see those gems, we'll pounce on them, and when we don't like the economics and we've obviously not even looked at a couple of transactions given prices that have transpired, we're extraordinarily disciplined on return metrics.

[Operator:]

Next question is from the line of Sung Ji Nam from Cantor.

[Sung Ji Nam:]

So just a couple of questions on the end markets. First, obviously, you're -- you continue to see strength in food and environment. Could you maybe provide more color around the food and environmental testing outside of China? Are you seeing strength there given that some of your competitors are starting to see slowdown? Just curious as to if you're potentially taking market share or if you are continuing to see the market the grow -- continue to grow in that segment.

[Marc N. Casper:]

Well, some of the products that serve that market are doing very well for us, so gas chromatography, our applied app parts of the mass spec business, HPLC, all had strong quarters. And our growth in food safety is not just China. We saw the momentum in India and as well as in other parts of the world, so it's not a single geography. The China one just gets more publicity because the opportunity there is just quite huge in terms of improving the food quality supply within the country.

[Sung Ji Nam:]

And then in terms of India, you guys are seeing continued strength, but obviously, there are some challenges with currency in terms of CapEx spending. Are you -- is that -- just kind of curious as to what type of -- what trends you're seeing with respect to that.

[Marc N. Casper:]

I was just in India, and I actually, through a number of vehicles, I interacted with, they were several hundred customers. I mean so it's was a fascinating catch-up on what's going on. I actually think some very recent reforms going on in the country is actually putting more optimism. So there's this period where the currency weakened and there was pessimism in Q3, but by the end of the third quarter actually and going into this quarter, there seems to be more optimism on what the growth outlook is for the country. So I'm not an economist, but talking to a wide range of customers, there seems to be a view that the government is taking sort of pro-growth, pro-reform actions, which should help the environment for our business.

[Operator:]

We have our last question from the line of Tycho Peterson from JPMorgan.

[Tycho W. Peterson:]

A lot of them might have been answered, but maybe just, one, you talked a lot about the innovation-driven gains you've seen in mass spec and other areas. A lot of this seems to be the function of the stepped up R&D that you implemented a couple of years ago. Can you just talk at a higher level of how you're thinking about R&D investments? Obviously, you're pulling costs in other areas, but it does seem like you got a fairly good return on the step-up in additional R&D. So I was just wondering how you're thinking about the investments there.

[Marc N. Casper:]

Generally, I'm comfortable with the level that we're spending on R&D. If a great project comes in front of us, we're willing to spend more, but we also take out areas where we see lower returns. So we are clearly benefiting from the confidence we had in 2009, 2010 in our R&D pipeline. And if you want to make an interesting analogy, which I always like to do, which is if you look at this quarter, we spent a lot more money in emerging markets in this quarter because we're confident in the momentum, and we're setting ourselves up for a bright '13 and '14. And we took that opportunity to strengthen our position in India, strengthen our position in China and a few other markets. And when you're doing well, you're driving good earnings growth, sometimes you get that opportunity to put some money where you think you're going to get great returns for our shareholders. And I think we'll be sitting here a couple of years from now and saying that Thermo Fisher made the right call in terms of even further building out our presence in those high-growth markets. So that's both our view on innovation, Tycho, and emerging markets.

[Tycho W. Peterson:]

And then one of the areas you called out as strong this quarter was bio production. One of your peers had a delay yesterday, but in general, it seems like there's a little bit more enthusiasm for the bio production market. Is that a function of your view of the pipelines and what could be coming to market over the next couple of years or bio generics, can you just talk to the trends there?

[Marc N. Casper:]

I think you have a big shift towards the disposable manufacturing going on. So part of it is definitely the demand picture that you just articulated, but part of it moving from stainless steel to disposables. And we have a very strong position in the plastics side of that business in terms of sterile manufacturing. That's done very well for us. So let me wrap it up. A few closing thoughts, first of all I'm very proud of our teams for navigating the tough environment to deliver excellent performance through the first 9 months of the year. We're positioned to deliver our strong 2012 and that gives us a solid foundation going into 2013. We look forward to reporting our results for the full year in late January and providing our guidance for 2013 at that time. Thank you for your support of Thermo Fisher Scientific. Have a good day.

[Operator:]

Thank you for your participation in today's conference. Ladies and gentlemen, this concludes the presentation. You may now disconnect. Have a good day.