安捷倫 (A) 2017 Q1 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the Agilent Technologies Inc first-quarter 2017 earnings conference call.

(Operator Instructions)

As a reminder, today's program is being recorded. I would now like to introduce your host for today's program, Alicia Rodriguez, Vice President of Investor Relations. Please go ahead.

Thank you, Jonathan, and welcome, everyone, to Agilent's first-quarter conference call for FY17. With me are Mike McMullen, Agilent's President and CEO, and Didier Hirsch, Agilent's Senior Vice President and CFO. Joining in the Q&A after Didier's comments will be Jacob Thaysen, President of Agilent's Diagnostics and Genomics Group, and Mark Doak, President of the Agilent CrossLab Group. Patrick Kaltenbach, President of Agilent's Life Science and Applied Markets Group, and a regular participant in our calls is on a well-deserved vacation, and will not be joining us today.

You can find the press release and information to supplement today's discussion on our website at www.investor. Agilent.com. While there, please click on the link for financial results under the financial information tab.

You will find an investor presentation, along with revenue breakouts and currency impacts, business segment results, and historical financials for Agilent's operations. We will also post a copy of the prepared remarks following this call.

Today's comments by Mike and Didier will refer to non-GAAP financial measures. You will find the most directly comparable GAAP financial metrics and reconciliations on our website. We will refer to core revenue growth, which excludes the impact of currency, the NMR business, and acquisitions and divestitures within the past 12 months.

Unless otherwise noted, all references to increases or decreases in financial metrics are year over year. Guidance is based on exchange rates as of the last day of the reported quarter.

We will also make forward-looking statements about the financial performance of the Company. These statements are subject to risks and uncertainties, and are only valid as of today.

The Company assumes no obligation to update them. Please look at the Company's recent SEC filings for a more complete picture of our risks and other factors. And now, let me turn the call over to Mike.

Thanks, Alicia. Hello, everyone. I'm pleased to announce that the Agilent team started 2017 with another strong quarter.

First, we continue to deliver above market growth. Revenues of $1.07 billion exceeded the high-end of November's guidance by $7 million, and were up 4.8% on a core basis. We will dig deeper into details behind the strong performance later in the call.

Second, our adjusted EPS of $0.53 for the quarter is $0.03 above the high end of our guidance. Adjusted EPS is up 15% over the first quarter of last year.

Finally, this is our eighth quarter in a row of improving profitability. Adjusted operating margin of 21.2% is up 100 basis points from Q1 of FY16. Let me now highlight the drivers behind our stronger than accepted revenue growth.

First, we are seeing some segments of the chemical and energy business growing again. Second, growth in China is a bit higher than expected.

Let's take a closer look at our results by end market and business group. I'll start first with the end markets. Growth in pharma was up 7% as expected, against a tough compare.

Growth is being led by continued strong demand across the entire portfolio. The pharma business is particularly strong in China and India.

After seven quarters of year-over-year declines, we see chemical companies beginning to increase their purchases. However, our energy exploration refining business remains challenged. This results in overall 3% growth for our chemical and energy business.

Clinical and diagnostics markets are strong, with revenue up 8% year over year. Growth drivers include our companion diagnostics and CrossLab businesses. As expected, academia and government is down 1% for the quarter, with sustained tight funding across most regions.

Our food testing business is up 11%, driven by China. Environmental and forensic revenues are down 1% for the quarter, with strong China environmental growth being offset by weak US forensic spending.

Let's talk about China. A major part of the story, as you heard today. Geographically Asia, driven by China, continues to lead regional growth.

Coming into 2017, we expected China to grow in the low double digit range for the year. We expected Q1 growth rates to be lower than the full year, because the Lunar New Year falls in our fiscal Q1. However, we ended up delivering low double digit growth in Q1, above our expectations.

The Americas were up in mid-single digits, with strength in the United States. Europe and Japan were flat.

Let's turn to our business groups. The life and sciences applied markets group delivered core revenue growth of 4%, with end market strength in pharma, food and chemical energy. Innovative new offerings, such as the Infinity II LC series and Agilent 8900 ICP-MS are driving growth.

Industry trade publications and analytical scientists also recognize our innovation strength. They named the Agilent Intuvo 9000 GC system as 2016's number-one innovation of the year. The Agilent CrossLab group continues consistently strong performance, with 7% growth in the quarter. Growth is healthy across both services and consumables.

We are focused on future growth. In November, we announced an opening of a new technology center in Folsom, California. This new $14 million facility reflects our investment in new technology.

This state of the art micro fabrication and technology facility is for the development and manufacture of a whole new generation of unique core instrument components, and consumables for our customers. The new Intuvo 9000 GC's components and associated supplies are the first example of this new capability, now housed within Agilent.

We are relentlessly focused on our customers. We are now the first in the industry to allow customers to renew their service contracts online. Our e-renewals program was just introduced in the United States, with other regions to follow.

Finally, the diagnostics and genomics group continued to deliver solid growth. DGG had core revenue growth of 4% in Q1, while continuing to drive improvements in their operating margin. The group delivered operating margins of 14.3% for the quarter, up 470 basis points from a year ago.

Q1 marked several key milestones for our DGG business. This quarter marked the successful integration of the former Dako business onto Agilent's system and infrastructure platform.

We closed the acquisition of Multiplicom, a leading European diagnostics company with state-of-the-art genetic testing technology and products. Multiplicom's solutions enable clinical apps to unify DNA variants associated with genetic disease, and help direct cancer therapy. With this acquisition, along with the Cartagenia acquisition in 2015, we continue to expand our genomics platform.

We launched Cartagenia Bench Lab 5.0. This was a major software vision providing even more capabilities to the platform of choice for higher throughput diagnostics labs, to help them validate and automate their results.

You may recall we developed in concert with Merck the PD-L1 companion diagnostic for Merck's Keytruda drug. Use of this companion diagnostic continues to grow, as Keytruda has become a first-line treatment for non-small-cell lung cancer in a growing number of geographies, now including Europe. Our test helps identify potential candidates for Merck's Keytruda drug, which targets patients with non-small-cell lung cancer.

Turning to our updated FY17 market and Company outlook. We were quite pleased with how the Company started 2017. While still early in the year, the Q1 results in China and some segments of the chemical energy markets are encouraging.

We do see continued challenging conditions in the academia and government market in most geographies, as well as the global energy segment of the chemical and energy market. We also anticipate continued weak economic conditions in Europe and Japan.

These cautions aside, we are encouraged by the Company's growth prospects and have raised our full-year core revenue growth expectations. Didier will share the details. Before I turn the call over to Didier, let me close by making a few comments on where we have come from, and where we are going.

Our leadership team that was put in place almost 24 months ago delivered on our promise to increase shareholder value. We are outgrowing the market in sometimes challenging economic circumstances. For eight quarters in a row, we have delivered improved profitability.

We are deploying our capital in a balanced manner, with Q1 stock repurchases of $111 million, cash dividends of $42 million, and $70 million set aside for the Multiplicom acquisition. Having built momentum, we are facing the future with confidence. We have a deep commitment to customers, a strong team, and a belief that we can deliver a superior customer experience, and exceptional innovative new offerings.

I look forward to answering your questions later in the call, and I would now hand off to Didier. Didier will provide additional insights on our Q1 results and updated guidance. Didier?

Thank you, Mike, and hello, everyone. To summarize Q1 results, they were above the high end of our revenue and EPS guidance, even as currency negatively impacted revenue by $12 million, and operating profit by $4 million. The EPS beat was mostly the result of the revenue beat, and EPS was 15% higher than in Q1 of FY16.

We continued to improve our adjusted operating margin, at 21.2% in Q1, and up 100 basis point versus Q1 of FY16. And finally, our operating cash flow of $116 million was $5 million higher than in Q1 of last year.

I will now turn to the guidance for FY17. We are raising the core revenue growth guidance of 4.0% to 4.5% that we provided in November by 25 basis points, or $11 million. The new core revenue growth guidance is therefore 4.25% to 4.75%.

However, the strengthening of the US dollar since our November guidance is expected to have a negative impact of about $36 million on full-year reported revenues. Finally, we expect to generate $11 million in revenue from the Multiplicom acquisition, which closed on January 20.

The net impact of the increase in core revenue guidance, negative currency headwinds, acquisition of Multiplicom and rounding, and is a reduction in revenue guidance of $20 million. As a result, we now expect FY17 revenues of $4.33 billion to $4.35 billion.

Turning to EPS, we are reaffirming our November guidance of $2.10 to $2.16, even as currency and acquisition have a negative impact of $0.03, most of it currency-related. There's no change to our previous guidance of $825 million operating cash flow, $200 million CapEx, and buyback of $430 million for the year.

Finally, moving to the guidance for our second quarter, we are expecting Q2 revenues of $1.040 billion to $1.060 billion, reflecting typical second-quarter seasonality versus Q1. The midpoint corresponds to a core revenue growth of 3.5%. This sequential reduction in revenues will translate into a sequential reduction in EPS, and we expect Q2 EPS to range from between $0.47 to $0.49, or a 9% year over year increase at midpoint. With that, I will turn it over to Alicia for the Q&A.

Thank you, Didier. Jonathan, will you please give the instructions for the Q&A?

(Operator Instructions)

Paul Knight, Janney Montgomery.

Could you talk a little about FX in China, specifically? Are you selling in dollars, what are the puts and takes on the currency volatility, or the strength of the dollar versus the yuan there?

Paul, I'm going to start with a good afternoon from California, and I'm going to pass it over to Didier.

You are correct. Paul, we are selling more than 60% of our business in US dollars, and less than 40%, mostly around our service and consumable business, and also locally produced products in renminbi. So the overall, renminbi weakened by about $0.07, if I recall.

On a year-over-year basis, the impact for us in terms of top line was about 3 points reduction. In local currency, our growth in China would have been mid-double digits versus low double digits that it is on a reported basis. Besides that, we are perfectly hedged in terms of the bottom line in China, with local manufacturing, as well as a strong presence offsetting our local currency revenue.

And then lastly, Mike, on the analytical instrumentation side of the business, was the applied market pickup more pronounced as the quarter wrapped up?

No, actually, I would say the flow, and again I just want to clarify, hope it came through clear in my remarks, it really was the chemical side of the chemical and energy. We saw the order flow consistent throughout the quarter.

Great, thank you.

Ross Muken, Evercore.

This is Scott Levitt in for Ross. So can you walk me through the key drivers of demand upside in China, and then tease out the core momentum in industrials versus pharma and academic?

Yes, so I'd say in China, what we saw from an end market perspective, it was stronger across all end markets, with the one exception being the chemical energy. So we saw good growth across all the end markets in China. I also would want to make a comment here about the impact of Lunar New Year.

You may recall in our guide discussion in last call, we talked about the fact that the Lunar New Year fell for us here in our fiscal Q1. Well, it turned out that it did have an impact on reported revenue, but not as much as we had predicted. It did have the impact on our recurring revenue business such as DGG and service and consumables, but on the instrument side, it was fairly limited, as our order fulfillment team did a great job of converting those orders into revenue much earlier in the quarter.

But I would say we really were pleased overall by the performance in China. It looks like we are off to a good start there. Good, solid growth, across almost all the end markets. And if you wouldn't mind, could you repeat the second question for me?

It was just to tease out the core momentum in industrial, pharma and academic?

Yes. So I'd say there's really in academia and government right now. We are still seeing fairly subdued levels, and constrained levels of funding. There's almost a wait and see attitude we are seeing in some of the agencies, here for example in the United States.

Pharma continues to perform quite strongly. As you know, we talked about, as we came into 2017, we expect a continued, strong demand the in pharma, although the growth rates have come down as we ran into some tough compares. Pharma is really a development, just as we thought coming into 2017, no surprises there. And then, I would say, the one surprise that we had in Q1 was the fact that we finally saw some signs of growth in the chemical side, of the chemical and energy market in the first quarter.

And then just as a follow-up, can you walk me through how the order book has looked and developed in industrial, inclusive of the chemical energy? And what's your level of visibility or confidence in the sustainability of momentum given the macro and commodity data that has come out?

Yes, I'm going to pass on the first question since we've stopped our reporting on orders a while back. But what I can tell you is we have good visibility going forward from, I'd say the three to six month timeframe. So that's typically how we can see our sales funnels.

And then probably two-thirds of our revenue in the coming quarter perhaps, can come from existing backlogs. So we have pretty good visibility I'd say, in the three to six month timeframe, in terms of the order funnel. But as you'll hear me talk a little bit later, I am sure it will come up in the Q&A, is although we were really pleased to see the return of growth in the chemical side, the chemical and energy market, I don't think one quarter is a trend yet. So we're still going to be keeping a close eye on that one.

Great. Thanks.

Derik de Bruin, Bank of America Merrill Lynch.

I'm just a little bit curious about the adjustment to the operating margin target for this year. You took it down by 10 basis points. Could you, it seems like you have got levers to offset, so can you talk about higher margins, and a little bit more detail what drove that? Is it all FX driven?

How about I repeat the question, Didier. We had a little bit trouble hearing, and then I'll have you answer. So I think the question of Derik is, it looks like we brought down the operating margin guide by about 0.10%, and he was wondering if that was really driven by FX, or if there's any other considerations?

No. So in terms of, we basically have maintained the operating margins at the 21.2%, the last estimate was 21.25%, which rounded to 21.3%, this time it's 21.25%, that rounds to 21.2%. There's no change. The idea was to maintain that there was a little bit of currency impact, which we could have offset. So consider g the operating margin unchanged at 21.25% as it was in the first. There was no intention to reduce it, except the rounding ended up slightly.

Great. And can you talk a little bit about how the Intuvo has been doing, in terms of, you're starting to see a pickup -- because chemical sales are -- you're seeing a lot of interest in chemical customers and this new product, just some early feedback from what you're sort of seeing would be great.

Yes, Derik. Really appreciate the opportunity to talk about that, as I highlighted in my conference call, we're also getting some nice external recognition. But what's most important is what customers are saying about the product, and we got a lot of excitement within our customer base.

Now as you know, we had indicated earlier that the sales cycle here is going to be a little bit longer because the customers are going to want to check out the product. So we placed a large number of demo units. The orders are starting to come in, but I'd say it's really, we're still early in regarding the ramp of the volume. So we're really delighted by how the customers are perceiving the new offering.

The surprise for us, I'd have to say has been what we've been calling the halo effect, which is, we're also seeing a lot of interest in our other GC platforms, in particular the 7890, where we're out talking with customers about our new Intuvo GC, and they're showing some interest for certain other applications with the 7890. So if you will, a halo effect. I think both speak positively about the future for our prospects in gas chromatography.

I'd also say that in addition to the chemical customers, those customers, particularly contract testing labs and environmental testing labs, really like the value proposition of the Intuvo, tied to the mass spec for the productivity gains. So as a reminder, we think about 60% of the application space can be covered by this platform.

It goes beyond the chemical side. I was just down in Australia, talking with one of our contract testing labs, and they really like the productivity benefits that they see with the products. So still too early to call material impact on our revenue, but the early interest by customers is really quite, quite good.

Great. Thank you very much.

Brandon Couillard, Jefferies.

Mike sticking on the chemical and energy business, I think the positive experience this quarter would suggest, tell me if I'm wrong, that instruments are actually up in the quarter. And can you remind us when the last time that happened? And then secondly, when should we expect that the new GC actually begins contributing to revenue, that orders actually convert to revs?

Great question, Brandon. So I have to say it's been a while, from my calendar math, it looks like seven quarters. It was great to finally see a return to growth on the instrument side and the chemical energy side. And again, it's just one quarter, so we're trying not to get too far ahead of ourselves, but it was an encouraging sign after almost two years of declines of instrument sales in this segment. I think we are really looking at the back half of this year, for us to start to be talking more about Intuvo ramping, in terms of the revenue. Again, we had indicated this last year, and said this going to be a slower ramp than typically a direct replacement product, because of the need to try it out, it's so different. But our view is it will start, we'll be talking more about a revenue impact probably in the second half of this year.

Thanks. And the question on Lasergen. Any update you can share with us in terms of the progress there? And what milestones should we be looking for over the next 12 months, that might inform your decision to exercise the exclusive option a year from the now?

Great, thanks for that question. I want to make a few opening comments, and then I'll pass it over to Jacob for some additional detail. As those on the call probably recall, that this was an equity investment we made into a Company in Houston, Texas, and the idea here is to be able to complete our development of an integrated workflow for the clinical diagnostics market. And part of the provision is a call option, which we have in front of us, and I think Jacob, perhaps you can remind everybody the timing and how you think we are coming so far?

Thanks, Mike, and approximately a year ago we made the investment. I think it was in March, and the call option is in next March, 13 months from, now so there's a little bit of time. In the meantime, we have a really good relationship with Lasergen, and are working together as one team. They have the primary focus on developing the box, and the rest of the genomics team is highly focused on developing the rest of the workflow, including automation up front, and of costs, putting interpretation in place.

Also through Cartagenia, and with the recent acquisition of Multiplicom, we also have a panel that fits very well into the clinical market. So overall, we continue to be highly excited. The program is running forward according to our planned expectations. But I think that the next you can say milestone will be when and if we decide to make the call of Lasergen.

When will not be any earlier than March. Because you don't have to.

Right. Exactly.

He never lets us spend money before we have to.

Super. Thank you.

Isaac Ro, Goldman Sachs.

So question for you on your top line outlook. There's been a lot of focus around the macro environment, a lot of factors that are interesting, but in a lot of ways not in your control. So I was interested in the things you can control, specifically market share, new product cycles. It sounds like your guidance is a little bit higher because of the macro, but not necessarily because of the former items, new products, market share. I'm curious, is there any evidence in the quarter here where you feel a little bit better about your ability to do better than your guidance, if in fact product cycles play out? I'm just looking for any signposts here, where you feel like you've got good momentum going to the rest of the year, either with TC or diagnostics, things like that?

Isaac, I appreciate the opportunity to clarify remarks. So I think the reason we've able to have this ability to continue to, from our perspective, outgrow the average of our peers is the strength of our new offering. So it's very clear by our growth rates, and as we look at some of the -- all of the data, particularly in the life-sciences and Applied Markets Group side, we can see where we are picking up market share, and that is why I highlighted in my remarks the value contribution, if you will, on the new offering.

So we think we are picking up shares. I think that when we look at our guide, we're above what our peers are talking about, relative to core revenue growth. I would tell you, if you're thinking about upside for the Company, I think it really hinges on chemical and energy, and let me share with you our thinking as we put together the guide, particularly for the second quarter.

Perhaps I already tipped my hand here, but we said, okay, we were encouraged by the fact that the chemical side of the market, of that segment is growing, which as a reminder is about 50% of the total. We are encouraged by the sign, but said, listen, one quarter is not a trend, so right now what we are going to do, we're assuming kind of flattish overall growth in our Q2 guide. What that means is if there's some growth there, that would represent some upside to our current guide.

So I think that's one macro factor that could help us on the top line. If in fact, this return to growth is sustained. But I would want to reemphasize the fact that we think these new offerings are really making a difference in the marketplace, and allowing us to pick up some sustained momentum.

Okay, that's helpful and second question on diagnostics. You mentioned the integration there has been completed. Aside from the obvious cost savings that you will realize, can you talk a little about the opportunity to execute, either in terms of share or new products, or channel reach? Anything you think can really help drive better growth in that business, now that it's more integrated?

Let me make a few comments here, then Jacob, if I miss anything, feel free to chime in here. But we had focused on the integration of the former Dako business and Agilent mainly as a cost integration savings and simplification of the platform. As you know, when I came into this role, I felt that we really need to integrate the business, and we have been on a pretty aggressive path since then. But the real benefit is exactly what you described, which is the ability for us to have an integrated reach to the customers, where we can have one commercial interaction with the customer, and now, we're able to integrate our sales forces and have a combined solid portfolio.

Without going into a lot of the details inside the Company, we really weren't able to leverage the full power of our sales force, which where we combine our genomics and diagnostics sales force until now, when we have them on the scene systems for revenue recognition and commission paying. So Jacob, anything else you might want to add to that?

No, Mike, I think you said it very clearly.

I got it right. All right. Thanks.

Okay, thank you. Appreciate the detail.

Jack Meehan, Barclays.

So Mike, I want to get your perspective on the strategy with the Multiplicom acquisition, and your desire to continue building out the diagnostics portfolio in different specialty areas?

I want to make a comment, and then Jacob, I will allow you provide the more lengthy response this time. The overall theme here, as we continue to try to build out our genomics portfolio, particularly as it focuses in the clinical research, and also into the routine diagnostics segment. And I want to just describe for the audience why we bought the Company, and what we are hoping to be doing.

Let me do that, Mike, and again, the overarching strategy for DGG and one reason also why the integration of Dako is so important is that we see a tremendous opportunity in the cancer diagnostics space, that will molecular profiling will be a key element in the cancer diagnostic going forward, together with staining wet pathology, the Dako pathology business is very strong today. So what we saw the opportunity of Multiplicom is that with our workflow that we are building together with Lasergen and with Cartagenia interpretation we can see our current target investment business, the SureSelect is very strong on larger panel, up to exome business, which really fits the genetic sort of space.

But going to cancer, you are looking for more targeted panels, and there we could see that the Multiplicom offering was stronger than what we have in house. So we thought it was a very good opportunity, both short-term, to leverage our current sales force regarding selling broader range of target investment portfolio, and then of course in the future integrate it into the full workflow, together with Lasergen and Cartagenia, and use as an opportunity to go out with a fully validated system in the future.

That makes sense. In then one follow-up, just on margins. It looked like you had really nice progression here in LSAG in the quarter. I was curious if there was anything worth flagging there? And then maybe conversely just in CrossLab, was any of that related just to a little bit of slower growth on the consumables side, or just anything worth highlighting would be great. Thank you.

Didier, you want to take that when?

Yes I would say regarding DGG, no, we consider this as being the new normal. I'm looking at Jacob, and he agrees. Regarding ACG, a slight reduction to what -- on the gross margin. What happened is there was a little bit higher than normal inventory adjustments, and that was one factor.

And then a little bit also on the currency front. And the last factor which impacted ACG but not Agilent overall is how at the beginning of the year, we changed our locations among our three businesses, and Mark in ACG was fortunate to grow faster than the other businesses basically, so a little bit of a bigger increase in allocation of our shared services. Again, no impact to Agilent overall, but it did explain a little bit of the ACG year-over-year.

And Didier, may I finish the story in a few comments on LSAG as well. On the instrument side, we have seen, we obviously benefit from the growth, but also as we mentioned in prior calls, we have a series of initiatives underway in our order fulfillment team, really focusing on improving the gross margin. I think we are starting to see some of the impact of those efforts on the instrumentation side of our business.

Thanks, guys.

Dan Leonard, Deutsche Bank.

First question, how are you thinking about the pacing of pharma demand throughout the year? And I ask because the Q1 comparison was very difficult, and I was surprised that the number came in as healthy as it did in pharma, given that comp?

We've been pretty consistent in our view. We think it's going to be mid to high single digits. We would expect our ability to sustain growth rates in this area throughout the year.

So, the first quarter, you're right, and appreciate the recognition. We had really stellar growth Q1 of last year, so we were pleased that is how the numbers were coming in. And I would say Didier, we probably expect some similar patterns through the year.

It's similar to what basically the guidance we provided last November. We're talking about 6% core revenue growth for pharma for the whole year. And we are about at that level.

Okay. And then a follow-up for Jacob. Jacob, I feel like you've often tried to temper expectations for the PD-L1 from a sizing perspective, but now that assay has moved into first line lung cancer, is that something that by itself can cause a notable acceleration in DGG revenue growth in the back half of the year, or sooner?

So I will say first of all, we continue to be very pleased with the uptake of the PD-L1. Last year was really about second line, and this year will be about first line, so we expect a pick up again. I do believe that we will see a contribution to our performance, but I don't think it will bring us up in the double digit growth area, as one asset is not making the whole DGG. But we continue to see a very strong contribution, and I'm very pleased with what we see in PD-L1.

Okay. Thank you.

Doug Schenkel, Cowen and Company.

This is Ryan Blicker on for Doug, thank you for taking my questions. Can you explain a little more on what you're seeing from customers in Europe overall, and by end market, and how you are thinking about growth in Europe for the rest of the year?

We remain fairly conservative on our outlook on Europe, in general. I think we're basically assuming flat. Not a lot of growth at all in Europe.

And I think it varies a bit by end market. I think the most subdued are those that are the recipients of government funding, so the government funding side of the European market is really quite soft, as well as the chemical and energy market. And haven't really talked about this yet in the call, but the US and European refineries are really under a lot of margin pressure, and they're getting new competition coming in from the US shale gas producers, who now can produce alternatives with ethane, due to the naphtha products that come off of crude refineries.

I think the chemical and engineering guys are still quite cautious. I think the bright spots are probably the pharma and food testing side. Those areas of investment tied directly to the human health investments of those parts of the world want to make.

Okay.

But overall, we're fairly subdued on Europe. As of now.

Okay. Thank you for that. And I know there's been a lot of questions here, so hopefully not to beat a dead horse, but can you expand a little bit more on what you are seeing specifically from refining and E&P customers outside of the revenue performance in the quarter?

And I guess given the stabilization of oil prices, as well as the early interest you're seeing for the new GC and what seems to be some early indications of CapEx spending for at least US E&P companies next year, maybe why your guidance there isn't a little bit overly conservative? Thank you.

Thanks the question. I really appreciate the opportunity to talk a bit more about this. So just again for the audience, when we talk about our chemical and energy business, we talk about it in three primary segments. 15% in exploration related, 35% in refining related, so about half in what I would say energy, and then about 50% on the chemical side.

So that 50% on the chemical side grew in the first quarter. Energy did not, and I think it's pretty well publicized that the exploration side still remains fairly subdued. Again, there's interest coming from customers in the exploration side, but we really haven't seen it yet turn into revenue.

I think the real interesting thing is what is going on with the refineries, because it's mixed story here because US and European refiners, their profits continue to be quite slim. I think in 2016, they're about half of the levels of 2015. And what's going on here are flat demand, and as I mentioned earlier, increased competition for natural gas alternatives.

These guys continue to relentlessly manage CapEx and OpEx spending, so hopefully that will translate into an interest in our new offerings, which gives them a cost advantage. That is why we talk a lot about the Intuvo GC, and what it might do to the segment. The Asia refining side is a little bit different, which is, they're actually adding capacity so there's a number of products that are still set to come online in 2017 and 2018 which could lead to some new demand.

I wouldn't use the word conservative. I would use the word perhaps prudent. So what we're saying is one quarter is not yet a trend, but I would be very forthright to say this would represent upside to our guide, if this growth rate continues in the segment. Hopefully that's helpful insight.

Very helpful, and makes sense given the points you made. Thank you very much.

Tycho Peterson, JPMorgan.

Apologies, I'm going to ask another one on Intuvo.

No problem.

When we think about the upgrade cycle here, you've got 150,000 or so GC systems out there. It's been a while since we've had a product refresh. How do you think about the duration of the upgrade cycle? Is it a four year cycle, or could it be a little bit longer? Obviously some caution in the near-term is warranted, but I'm just trying to think about the out years?

That's a great question, and you have the numbers right. So when we look at the install base of instrumentation, it's well in excess of 150,000. So a huge addressable market for us, so that's why we've had a lot of excitement about the offering. I think this is a multi-year upgrade cycle, and I think I put three to five years, four to five years is probably a good number, given our experience in the LC side.

Okay. And then just one follow-up on the question earlier on Europe. It was up mid single digit last quarter, you're flat this quarter. Did something change in the end markets there from quarter to quarter?

No, not really, Tycho. The numbers bounce around a bit, depending on quarter to quarter, but we really didn't see anything significantly different, in terms of our competitive position. I think it may just have been matter of timing of business closings. So Didier, I don't know if we really saw anything unusual?

Nothing special.

Okay. Thanks.

Catherine Schulte, Robert W. Baird.

Given that you have an extra month that you're reporting out today versus most of your peers, and I know you touched on chemical energy being pretty consistent throughout the quarter, but anything you saw in January and other end markets that was different from the first two months of the quarter?

No. Not really. The seasonality of our business, in Q1, was very consistent with historical patterns. So nothing really unusual. Typically we see a lot of activity from a shipment and order bookings in December for the calendar year end money, and the patterns were what we've seen in prior years.

Okay. And then one clarification on margin. I though I heard you say that DGG is at the new normal, I think you have talked in the past about driving that to be more of a 20% margin business?

Yes, I would say it's a new normal for Q1, and improvements. I was comparing to obviously the last time. So I should say we are migrating towards a new normal, and thanks for asking for clarification, because we, Jacob is still very, very, I mean he is going after the 20%.

He is not off the hook.

Thank you, perfect. Thank you.

Puneet Souda, Leerink Partners.

Just briefly on China, could you parse out for me, in terms of the spending there, is the instrument spending, was it more driven by the CFDA changes, or was it more on the food and environmental end, and what's specifically benefiting there, in terms of application wise?

Thanks for the opportunity to provide more insights here. So I think there is a macro statement above all three of those market segments, which are specific government policies are driving sustained growth in China. So the CFDA is focusing on really changing the fundamentals of the Chinese pharma industry, and the Chinese pharma companies are investing aggressively to adhere to the new rules.

Lots going on in terms of the environmental cleanup efforts, consistent with the China five-year plan. There's been a lot of more publicized work around land and water, for example. So I'd say the focus in China, both environmental both in terms of water, soil and air analysis, is really, really going well.

I think I may have mentioned this in the prior call, but the real step up has been in the area of soil analysis for remediation of construction areas, and then finally, the growth in food safety continues. So I really think it's the government policies across those three segments, are really driving very strong growth for us in China.

Got it, thanks. Just a quick follow-up. In terms of US, you pointed forensic funding somewhat being weak. Could you parse that out a little bit, in terms of what's driving, in terms of regulation there, or how should we think about the rest of the year?

I think you should just think about this as the nature of the beast. This space, particularly in the United States, tends to be very lumpy with lots of big deals. So it just so happened we had some big deals last year, we didn't have them this year.

We are not seeing anything fundamentally different in terms of the funding levels in the United States, beyond, there does seem to be some level of wait-and-see, people trying to figure out where all the new government policies might land here in 2017. But I wouldn't read too much into the first-quarter number. Our view was just a byproduct of the timing of deal activity.

Great. Thanks for taking my questions.

Tim Evans, Wells Fargo.

I think I will take the obligatory tax reform question this quarter.

Okay, Tim. We've been waiting for that one.

Yes, right? I know that the repatriation issue would be a positive for you. But if you could just speak beyond that to particularly the border tax adjustment issues, help us understand some of the nuance there?

Sure, Tim. I'm going to pass it over to Didier. He's done some high-level analysis on how we think about it.

Firstly, in terms of the cash repatriation, you're absolutely right, it would be a positive. Not just when it's effective, but also on an ongoing basis, as we continue to generate the lion's share of our cash offshore. So on an ongoing basis, we would have access to that cash, which is great.

Then regarding the border tax adjustment, yes, we looked at our imports and exports, like everybody else, and we are fairly balanced. We are very balanced. So level of imports and level of exports are about similar.

And we export about 70% of the production in the US and we import into the US about 70% of manufactured outside. So net-net, it will be very neutral. So there are aspects of the tax reform that we are eager to understand, to know more about, and read all the details, but at this point in time, it's speculation.

Great, thanks for that.

Dan Arias, Citi.

This is actually Bryan Kipp on behalf of Dan. It's been about three years since we saw the consolidation of the Chinese food safety into the FDA, but they were restructuring food safety standards around there. You saw strong year-over-year uptick in foods, with China being cited as a driver there. How much of that was food safety, one? And two, what inning would you say we are in the whole investment cycle around food safety in China?

Yes, you have a great recollection of the progression of the agencies in China, because as you know, a couple years ago we were pointing to a slow down in this area because of the reorganization. So I would say we are probably still in the early innings of this. If you follow the typical five-year plan, this is an area of focus, so I think we are probably still in the early innings of the growth in the food area.

I think it's primarily food safety, but I would tell you what is growing very quickly is the food authenticity. We're looking for various forms of counterfeiting of products that may be trying to find their way into the market. So it's still being driven by food safety, but the authenticity side of things is really growing quite strongly. Both from a government customs perspective, but also our private sector clients also want to ensure some testing is done.

Helpful, and just to pivot, Didier, you cited some inventory write-downs as a headwind for gross margins in the quarter, but there's been a lot of reference to new product launches over the last year, year and a half, that really accelerated organic growth. How should we think about the progression of gross margins throughout the year, and how much pricing should we think is the flow through in 2017?

We are overall, I mean certainly ACG was not impacted per se on the new product, things like that, but you are absolutely correct that whenever we introduce new products, it's an opportunity to increase our gross margin, for two reasons. Number one is, we now design our products using the latest and greatest value engineering techniques. And then second, because we introduce products that are truly differentiated, we are able to price them, Intuvo is a great example.

So we do, in time, you will see the gross margins going up all the time. And throughout the year. I cannot quantify precisely the impact of pricing, new product introduction, and a few other things. Again, Q1 was a little bit special, especially for ACG, because of the factors that I noted.

Thank you.

Jonathan Groberg, UBS.

Mike, can you just remind us how big your target enrichment business is today?

Excuse me, Jonathan, I had a little bit difficulty hearing the question?

Can you just remind us how big your target enrichment business is today?

It's an important part of Jacob's genomics business, but we don't provide that level of detail outside the Company, sorry. But it's a nice business for us. And I'll just leave it at that.

Okay. And I just have one other one on the genomics side. I think you had an investment at Gen9 that just got bought by a Company called Ginkgo. Does that have, how are you thinking about synthetic genomics and the like at the moment?

Yes. I think you are referring to Gen9 investments. Gen9 has been purchased by Ginkgo, and Agilent was a shareholder in Gen9.

Overall, we think there is aspects of the synthetic biology market that are going to be quite strong, in terms of growth. A lot of tools out there with some of our customers in the Bay Area, for example, as well as Ginkgo, so they are using our tools. Not clear to me though whether our companies will be able to build a sustainable business around R&D services in syn bio, and that's why we went in a different direction in terms of our view of Gen9. Jacob, anything else you would add to that?

I would just add that we continue to be a new vendor to the new Ginkgo.

That's right. Thanks for that.

Thanks.

Thank you. This does conclude question-and-answer session of today's program. I'd like to hand the program back to Alicia Rodriguez for any further remarks.

Thank you, Jonathan. So on behalf of the management team, I wanted to thank everybody for joining us on the call. And if you have any questions, please give us a call in IR, and we'd like to wish you a good rest of the day. Thank you. Goodbye.

Thank you, ladies and gentlemen, for your participation in today's conference. This does conclude the program. You may now disconnect. Good day.