Orthofix Medical Q2 2023 Earnings Call Transcript

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Provided by Quartr
August 8, 2023

There are 8 speakers on the call.

Operator

Ladies and gentlemen, good afternoon. My name is Abby, and I will be your conference operator today. At this time, I would like to welcome everyone to the Orthofix Medical Second Quarter 2023 Earnings Conference Call. Today's conference is being recorded and all lines have been placed on mute to prevent any background noise. After the speakers' remarks, there will be a question and answer star key followed by the number 1 on your telephone keypad.

Operator

Thank you. And I will now turn the conference over to Louisa Smith at Gilmartin. You may begin.

Speaker 1

Thank you, operator, and good afternoon, everybody. Welcome to the Orthofix Second Quarter 2023 Earnings Call. Joining me on the call today are President and Chief Executive Officer, Keith Valentine and Chief Financial Officer, John Lufthanssen. During this call, we will make forward looking statements that involve risks and uncertainties. All statements other than those of historical facts forward looking statements, including any earnings guidance we provide and any statements about our plans, beliefs, strategies, expectations, goals or objectives.

Speaker 1

Investors are cautioned not to place undue reliance on such forward looking statements call as there is no assurance that the matter contained in such statements will occur. The forward looking statements we will make on today's call are based on our beliefs and expectations as of today, August 8, 2023. We do not undertake any obligation to revise or update such forward looking statements. Some factors that could cause actual results to be materially different The forward looking statements made by us on the call include risk factors disclosed under the heading Risk Factors and our Form 10 ks for the year ended December 31, 2022 and Form 10 Q call this afternoon, August 8, 2023, as well as additional SEC filings we make in the future. In addition, on today's call, we will refer to various non GAAP financial measures.

Speaker 1

We believe that in order to properly and our short term and long term financial trends. Investors may wish to review these matters as a supplement to the financial measures determined in accordance with U. S. GAAP. Please refer to today's news release announcing our Q2 2023 results for reconciliations of these non GAAP financial measures to our U.

Speaker 1

S. GAAP financial results. At this point, I will turn the call over to Keith.

Speaker 2

Thank you, Louisa, and thank you everyone for joining us this afternoon. Orthofix had a strong quarter marked by solid operational and financial performance following the merger in January. We grew order volumes and leveraged cross selling opportunities across complementary portfolios and perhaps most significantly continue to effectively manage through the revenue to synergy risk associated with the business combination. The Orthofix team is incredibly motivated by these successes and our teams are working relentlessly to capture market share and deliver value. I'm pleased with the progress of the business and I'm eager to share with you some high level achievements for the Q2.

Speaker 2

Revenue for the Q2 of 2023 was $187,000,000 representing reported growth of 58% and pro form a constant currency growth 7% year over year. The strong quarter reflects our commitment to delivering consistent above market gains through innovative products and an expanded distribution reach. For this afternoon's call, I'll begin by providing color call. Our first question comes from the line of John then John will provide a detailed look at financial performance and guidance for the full 2023 year before we open the call for your questions. Bone Growth Therapies or BGT revenue for the Q2 of 2023 was $52,700,000 an increase of 10% year over year.

Speaker 2

This marks 2 consecutive quarters of double digit BGT growth, which was primarily driven by the fracture channel on the strength of the recently launched XcelStent product and investments made in 2022 to create a more focused sales organization. The spine channel also performed well, growing mid single digits year over year, driven by cross selling through the legacy C Spine distribution channel and from healthy complex spine surgery volumes. Overall, both commercial channels have also benefited from the more than 6% rate increases that were approved by Medicare this year. Moving on to spinal implants, biologics and enabling technologies. Global revenue totaled $105,300,000 representing 145 percent growth year over year on a reported basis and 5.4% on a pro form a basis.

Speaker 2

Growth in the U. S. Exceeded 7% on a pro form a basis, while international revenue declined as a result of SeaSpine's exit from the European spinal implants market in the Q3 of last year. We continue to see strong growth generated by the larger, more exclusive distributor partners to be more aggressive in rationalizing the less exclusive and revenue inefficient distributors. From a product perspective, our cervical franchise led by Northstar and Waveform C was the fastest growing franchise within the quarter.

Speaker 2

In June, we commercially launched the Waveform A interbody system to target anterior lumbar interbody fusion or ALIF procedures. To better address the $200,000,000 market in the U. S. Additionally, we see increasing interest in our foundational Mariner modular pedicle screw system technology as adoption of the Fathom pedicle based retractor system for use with the Mariner MIS system accelerates. As we participate in more complex spine procedures through the Mariner adult deformity system, which we launched earlier this year.

Speaker 2

With respect to the M6 motion preservation franchise, we were pleased to present in June initial results from a 7 year study of the M6 device at the International Society For the Advancement of Spine Surgery or ISIS. The abstract is the 1st public presentation of specific 7 year clinical results associated with the use of the M6 CE artificial cervical disc for the treatment of single level symptomatic cervical radiculopathy. The study highlights that using the M6 C artificial cervical disc leads to decreases in disability as measured by the neck Disability Index and decreases in the neck and arm pain scores that were observed at prior follow-up periods and were then retained through 7 years post op. Only 6.9 percent of secondary surgical interventions were observed among the M6 C disc cohort, which is comparable to 7 year SSI rates reported for other commercially available artificial cervical dips. Within the biologic franchise, we were looking forward to the expected launch of OsteoCo, an advanced synthetic collagen matrix in the Q4, which should significantly strengthen our product offering and drive growth in this approximately $250,000,000 market segment, which has not historically been a strong product category for the combined company.

Speaker 2

The biologics team also has several additional line extensions and new product launches scheduled in 2024. Turning to the Enabling Technologies franchise, we placed 670 units in the 2nd quarter with 5 being placed in the U. S. And one of those via earn out arrangement. This brings the total number of 70 units placed via earn out to 8 with an annual revenue commitment of $4,800,000 in total.

Speaker 2

In the Global Orthopedics segment, revenue totaled $29,000,000 which represents 6.4% year over year growth on a reported basis and 5% on a constant currency basis. We posted mid single digit growth in both our U. S. And international markets. Our increased investments in product innovation, our sales channel and our market leading surgeon education programs continue to yield positive results.

Speaker 2

Revenue growth in the quarter was led by our recently launched TRULOCK, EVO, Galaxy, Gemini and FitBone product lines. In June, we announced the launch of TRULOC, Phantom and Tornado hinges, the latest addition to the TRULOC circular frame portfolio for which we recently celebrated 30 years of clinical use in more than 100,000 patients worldwide. Based on our progress to date and the meaningful market share taking opportunities ahead of us, We are confident in our ability to drive top line growth across multiple business segments. Coupled with an improving macro environment as a backdrop, The confidence led us to raise our guidance for full year 2023 revenue to be within a range of 752,000,000 and $758,000,000 an increase of $2,000,000 to the low and high end of our prior guidance. The integration of the 2 merged businesses continues to progress nicely and the teams made many critical decisions and executed on many programs that will benefit revenue growth, reduce complexity and generate future P and L and cash flow leverage for the combined organization.

Speaker 2

Some of those key decisions and actions include the implementation of a cross selling capability to distributors for each of the legacy companies' spinal implant systems, decisions to meaningfully rationalize the many redundant spinal implant systems, final selection of critical ERP and other information systems and the development of a new mission and vision statement for the company. We are also continuing to refine and identify new operating expense and cost of goods sold synergies, which John will provide more details on later. From a macro perspective, Procedure volume trends are improving throughout the med tech sector, especially within the spine market, where Orthofix is an advantage position to strategically capture additional share. Our broad and innovative products portfolio satisfies demand from patients and surgeons across the continuum Care. And with an increased number of product offerings, increased product utilization, higher revenue per case In an effective cross selling strategy, our commercial team is ready to capitalize on those underlying tailwinds.

Speaker 2

I'm thrilled with our momentum coming out of a successful Q2 as a combined organization and I'm confident that the best is yet to come. With that, I'll turn the call over to John for further detail with respect to our Q2 financial results and updated financial guidance for the full year.

Speaker 3

Thanks, Keith, and good afternoon, everyone. As Keith noted earlier, total revenue for the Q2 of 2023 was $187,000,000 a 58% reported increase over the prior year and 7% growth on

Speaker 2

a pro form a basis. Revenue

Speaker 3

growth was led by BGT, which grew 10% year over year to $52,700,000 This marks the 2nd consecutive quarter of double digit growth for the BGT franchise and was led by the recently launched XLStem product, which grew more than 20% sequentially over the Q1 of 2023. While we are very enthusiastic about the 12% year to date growth rate, We are setting expectations for mid to high single digit growth for the remainder of this year. GAAP gross margin for the Q2 of 2023 was 63.9% compared to 73.2% for the Q2 of 2022. Adjusted gross margin was 71.6 percent for the Q2 of 2023 compared to 73.9% for prior year period for legacy Orthofix. The decrease in GAAP gross margin was almost entirely driven by the following merger related Investors.

Speaker 3

A $9,400,000 non cash purchase accounting fair value step up charge attributable to SeaSpine acquired inventory that was amortized during the quarter. $3,800,000 of excess and obsolete spinal implants inventory charges recorded in connection with merger related product rationalization decisions and the dilutive impact of the acquired legacy SeaSpine business on legacy Orthofix's overall gross margin, which we estimate to be more than 200 basis points. Recall that legacy SeaSpine's financial results for the Q2 of 2022 are not selected in Orthofix's GAAP results. Likewise, the year over year decrease in adjusted gross margin is entirely due to the dilutive impact of the acquired legacy SeaSpine business on Orthofix's overall adjusted gross margin. On a pro form a basis, Including the financial results of SeaSpine for the Q2 of 2022 revised to conform to the Orthofix presentation, We estimate that adjusted gross margin increased by 120 basis points to 71.6%.

Speaker 3

We expect adjusted gross margins to increase over time as we recognize efficiencies from spinal implant set utilization and product rationalization as well as other economies of scale that we expect to generate from the merger. GAAP gross margin in the second half 2023 is likely to be negatively impacted by additional merger related E and O inventory charges driven by further product rationalization decisions. GAAP sales and marketing expenses in the Q2 of 2023 were 53% of net sales, up from 51% in the Q2 of 2022. Adjusted sales and marketing expenses were 50% of net sales for the 2nd quarter, consistent with the prior year period. The increase in GAAP is primarily driven by integration related severance and retention costs associated with the merger and higher stock based compensation.

Speaker 3

GAAP G and A expenses in the Q2 of 2023 were 18% of net sales, up from 13% in the prior year period. Adjusted G and A expenses were 11% of net sales for the 2nd quarter compared to 10% for the prior year period. The increase in GAAP G and A expenses was driven primarily by $6,200,000 in higher stock based compensation as well as $3,000,000 of merger related costs, including accrued severance and retention costs and professional fees. We expect to record additional severance retention expenses throughout the remainder of 2023, albeit at lower dollar amounts per quarter as those affected employees work through their respective end dates. GAAP R and D expenses in the Q2 of 2023 were 10% of net sales, down from 11% in the prior year period.

Speaker 3

Adjusted R and D expenses were 8% of net sales for the Q2, consistent with the prior year period. The decrease to GAAP R and D was primarily driven by lower spin related to EU MDR, Readiness and Compliance and the realization of merger related synergies, which were slightly offset by higher stock based compensation expense. Our focus continues to be on bringing innovative and differentiated new products to the market. And to that end, We expect to invest between 8% and 9% of revenue on R and D in 2023. Adjusted EBITDA for the Q2 of 2023 was $9,900,000 compared to $11,400,000 for the Q2 of 2022.

Speaker 3

On a pro form a basis, including the financial results of SeaSpine for the Q2 of 2022, we estimate that adjusted EBITDA increased by $3,200,000 in the Q2 of 2023 compared to $6,700,000 in the prior year period. We expect adjusted EBITDA to continue to increase in subsequent quarters of 2023 as we realize increasing amounts of merger related operating expense synergies Q4. Adjusted gross margin and adjusted EBITDA are non GAAP financial measures that we believe provides valuable information on our operating results that facilitates comparability of the core operating performance from period to period and against other companies in our industry. A reconciliation of GAAP to adjusted gross margin and adjusted EBITDA is presented in the financial tables of the news release we issued this afternoon. A reconciliation of pro form a adjusted gross margin and pro form a adjusted EBITDA is included in the back of our updated investor presentation that was included in the current report on Form 8 ks that we filed today.

Speaker 3

Cash and cash equivalents on June 30, 2023 totaled $37,600,000 and including the $8,000,000 of additional borrowings we made in July, we now currently have $59,000,000 of outstanding borrowings under our $175,000,000 credit facility. Our free cash flow, which includes operating cash flows and capital expenditures, was an outflow of $18,300,000 for the Q2 of 2023, A significant sequential decrease from the $45,900,000 reported for the Q1 of 2023. Free cash flow for the 1st and second quarters of 2023 included an estimated $15,500,000 and $5,800,000 respectively of spend on merger related items. As Keith indicated, we are increasing our revenue guidance and now expect revenue for the full year 2023 to be between $752,000,000 $758,000,000 which represents 7% to 8% year over year growth on a pro form a basis. While we aren't providing specific quarterly guidance, We expect that 3rd quarter revenue will be fairly consistent with 2nd quarter revenue and we are anticipating a meaningful increase in the Q4 due to typical seasonality patterns and from the additional revenue enabled by the deployment of a significant number of spinal implant sets later in the Q3.

Speaker 3

For adjusted gross margin, we are maintaining previously issued for the full year 2023. For adjusted EBITDA, we are raising the range from $40,000,000 to $45,000,000 to $42,000,000 to $46,000,000 for the full year 2023, which represents a 53% to 68% increase on a pro form a basis. We expect to generate a very modest sequential increase in Q3 to Q4 as we increase revenue and more fully realize operating expense synergies. We continue to expect that free cash flow will be an approximately $100,000,000 outflow for the full year 2023. As revenue continues to grow and we continue to gain operating leverage throughout the remainder of the year, we believe that we will have sufficient borrowing capacity under the credit merger related expense synergies to include initial estimates for cost of goods sold synergies related to product rationalization and other initiatives.

Speaker 3

We now anticipate generating more than $50,000,000 in comparison to the previously estimated $40,000,000 We expect to have realized more than $30,000,000 of those synergies on an annualized run rate basis as we exit 2020. It's now expected to total approximately $45,000,000 compared to the previous estimate of $40,000,000 with more than $30,000,000 of those dollars being spend in 2023. We have a great integration progress that we have achieved so far this year. We will continue to highlight and update our progress on those initiatives on future earnings calls. We plan to host an Investor Day in our Lewisville, Texas headquarters.

Speaker 3

At this point, I'd like to turn the

Speaker 2

call back over to Keith to wrap up. I'm extremely proud of the Orthofix team and all that we've been able to accomplish so far, just 7 months after the closing of the merger. I like to say that we collaborate, Innovate and improve the lives of patients. We make it personal and we aim to do this through our new rally cry. Be bold, relentlessly innovate

Speaker 4

Is there any way and I appreciate this is probably challenging, but is there any way to Quantified the magnitude of dis synergies you saw in the Q2, so revenue dis synergies. And then how far along are you in that? Is there anything baked into the now higher guide for potentially lost sales as you rationalize that the portfolio a bit? And then I've got a follow-up. Thanks.

Speaker 3

We haven't seen a meaningful impact on the market. So there's not much to quantify, which is the good news, right? It's more focused on growing and taking market share and we've been most the second question was?

Speaker 4

Just on rationalizing the portfolio And whether there's potential revenue lost sales as you as you have now for the rest of the year.

Speaker 3

Yes. Yes. So one of the early decisions made in the Q1 was the rationalization of the overlapping spinal implant systems By about 50%, right. So that's a meaningful reduction in the systems. And the good news is it was a balanced outcome of about half of the go forward systems will be from legacy Orthofix and the potential for lost revenue, we're being very careful to outline plans for that product rationalization.

Speaker 3

We've got sort of a runway of short term kill immediately generating growth activities and then opportunistically look to cannibalize existing sales for the systems that are going to survive that rationalization over time. And that's going to be a tough attack to do that without losing any revenue. So we feel confident with the plans we've outlined. The goal is to get all of that done within the next 2 years. Some systems will be rationalized to redeploy those sets that aren't going to growth to just Accelerate the rationalization where possible.

Speaker 4

I really, really appreciate that. And then I'll just ask one follow-up. Obviously, nice to hear Sort of an you found and would it be your hope that as you continue to sort of dig in here that you may uncover incremental opportunities on the Offside above and beyond what you've just laid out. Thanks.

Speaker 3

Synergy targets, dollars 40,000,000 by year 3, that was really just focused on operating expense synergies because we didn't really have a good sense of what the COGS opportunities would be and one of the saving of cost synergies by 2025 is coming from the COGS line because now that we've made those critical decisions around product rationalization, We can outline sort of the expectation. There's lots of ancillary cost benefits that come with a supplier rationalization, fewer supplier audits, fewer sustaining resources needed to maintain those legacy systems and that supplier base, the margin accretion we've talked about on prior calls.

Speaker 4

And I apologize, I have one more sort of follow-up question on that. Is there a rule of thumb on, again, let's take this as an example, the higher About reinvesting, just any sort of framework to think about that? Thanks.

Speaker 3

Yes. We're doing that as part of our strategic planning process, which we're deep into and we mentioned that certainly looking at both and some

Speaker 4

of them will go to

Speaker 3

the bank and others will be redeployed towards growth or other efficiency or economies of scale type activities. So more color to come on that as we provide

Operator

Your line is open.

Speaker 5

Hi, this is Izzy on for Ryan. There's one for me. How has the integration of the sales force progressed so far? And what areas have been most challenging or most impact.

Speaker 2

There's obviously relationships to both existing and turning over new relationships. So feel good about the stability team. I think we have some great examples already next year progresses as well, but we've always kind of mapped this out. This is not a quick play. This is something that will be done over the course of a few to 5 quarters, something like that.

Operator

Berg Baumann, your line is open.

Speaker 6

Just a couple from our end. So could you stratify for us where that's being driven from And what's become more complex? Is it the sales of Orthofix products or the cases that you're seeing?

Speaker 2

Certainly, A lot of the momentum we're getting on 70 is excitement in and around deformity. We continue to not only advance applications, but make sure that The more we're doing in that voice for deformity has created this greater awareness, greater opportunity for us in that sector. And then of course, there is a great opportunity that marries in if needed for the patients, assist with BGT.

Speaker 6

Okay. Got it. And one more from me. The you talked a little at the beginning of the call about a cell stim and it's 20% quarter over quarter sequentially.

Speaker 2

1st, that's going to be later this year launch, but we're excited about it and certainly getting plans place and getting everything organized. We're most excited just because that has been traditionally an area for both of them. The first question was in and around And

Speaker 3

on AccelStim, yes, I mean, it's a meaningful part of the year over year growth dollars, Jeff. It's still not a meaningful part of the sales meeting and obviously that was a product that was focused on and love seeing that post sales meeting we continue to see more and more momentum with it. So We're certainly very excited about the update.

Speaker 7

Hey, good evening.

Speaker 4

Hi.

Speaker 7

I think you called out or actually maybe it was Keith, the cervical being the fastest growing component of You called out cervical as being the fastest group of component of the spine franchise. If we look at that sort of 105,000,000 base. I was wondering if you could maybe help us think about

Speaker 2

The biggest opportunity or the highest billable is posterior cervical. I think the excitement we have though specifically on the cervical product line is it was a newer portfolio, fits nicely with a strong motion preservation in cervical. And we're excited about it. As I mentioned, the 7 year data, that 7 year data Really aligns nicely to what we've seen elsewhere in newest product range on the market.

Speaker 7

And I guess as a quick follow-up, if you look at bone growth therapies, obviously growing well, any thoughts about from Keith On the spinal side.

Speaker 2

Yes, it's actually something we do are strategically looking at and trying to I'll tell you it's been great. We just had our quarterly business. There's an incentive for the spine teams that are out there to not only engage with their surgeons, but also engage with local representation. Keep in mind, our much co selling is going on. And so clearly there is an opportunity to continue to expand that.

Speaker 2

And I think that team has got some really nice plans to continue to incentivize and drive that forward because keep in mind.

Operator

And there are no further questions at this time. I will now turn the call back to Mr. Keith Valentine for closing remarks. Ladies and gentlemen, this concludes today's call and we thank you for your participation. You may now

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Key Takeaways

  • Orthofix reported Q2 2023 revenue of $187 million, up 58% year-over-year (7% pro forma), and raised its full-year 2023 revenue guidance to $752–758 million.
  • The Bone Growth Therapies franchise grew 10% to $52.7 million, driven by the newly launched XcelStent product in the fracture channel, mid-single digit spine growth, and Medicare rate increases.
  • Spinal implants, biologics & enabling technologies revenue reached $105.3 million (145% reported, 5.4% pro forma), led by new cervical franchises, the Waveform A ALIF system launch, Mariner pedicle screw adoption, and positive 7-year M6 C artificial cervical disc data.
  • Post-merger integration advanced with a 50% rationalization of overlapping spinal implant systems, enabling cross-selling, and raising cost synergy targets to over $50 million by 2025 and adjusted EBITDA guidance to $42–46 million.
  • Global Orthopedics grew 6.4% to $29 million, fueled by new product lines including TRULOCK, EVO, Galaxy, Gemini and expanded circular frame offerings.
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Earnings Conference Call
Orthofix Medical Q2 2023
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