ICU Medical Inc (ICUI) 2006 Q4 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the fourth quarter 2006 ICU Medical Incorporated earnings conference call. [OPERATOR INSTRUCTIONS] I would now like to turn the presentation over to your host for today's call Dr. George Lopez, CEO. Please proceed.

Good afternoon. Thank you, for joining us in our review of ICU Medical's results for the fourth quarter and year-ended December 31st, 2006. I'm Dr. Lopez, Chairman and President of ICU Medical. With me today is Frank O'Brien our CFO and Scott Lamb our Controller.

On today's call I will provide an overview of our operating results and Frank will provide detailed financial information for the fourth quarter and provide 2007 revenue and range targets. I will wrap up our prepared remarks with a discussion of current business trends before we go to the Q&A. As always, we will limit the length of the call to about 45 minutes.

Before we begin, in the event we touch upon any forward-looking statements during this call, please be aware that they're based on the best information available to management and assumptions of management beliefs are reasonable. Such statements are not intended to be a representation of future results and are subject to risks and uncertainties. Future results may differ materially from management's current expectations. We refer all of you to our filings with the SEC for more detailed information on the risks and uncertainties that have a direct bearing on our operating results performance and financial condition.

With that said, I will begin. We are pleased with our strong revenue growth which exceeded our expectations for the fourth quarter and achieved 22% top line growth for the fourth quarter of 2006 in 28% top line growth for the full year of 2006.

Revenues in both periods were company records. The 201.6 million revenue marks our first year over 200 million the 52.8 million in the fourth quarter was our highest quarter ever.

We were able to achieve these top line results even as we relocated an entire factory to Salt Lake City from San Clemente California and began the relocation of most manual assembly from Salt Lake City plant to our facility in Mexico.

During the fourth quarter, all of our lines performed well, led by our custom products which were up 36% and our international sales increased by 54%. Even though our top line was stronger than expected in the fourth quarter and we achieved earnings per share of $0.44. Our gross margin was 33% not the 45% as expected This is a $6 million swing.

We encountered some temporary inefficiencies related to our recent plant relocations. We will talk about these in detail but let me be clear.

First, the gross margin had nothing to do with pricing which has remained steady. It was all temporary manufacturing issues.

Second, we are very aware of the issues, some are already behind us and the rest will be resolved before mid year.

Third, we firmly believe that after they are resolved by mid year our gross margins will be 45% plus in July and we will continue to increase our gross margins by 50 to 100 basis points until we approach 50% in 2008.

These plant relocations will improve our margins over the long-term and we are very well-positioned to continue to be the low cost and most efficient manufacturer in our industry.

We continue to strengthen our balance sheet and operating cash flow in 2006. Operating cash flows were 14.4 million for the fourth quarter and 31.6 million for 2006. At year-end, 2006, we had no debt, cash and investments totaled 116.9 million. Even as we continue to invest in property and equipment.

As of December 31st, 2006, working capital increased to 30.6 million to 154.5 million from 123.9 million at December 31st, 2005.

In addition, we continue to buy back stock which has totaled eight million in 2006 and 2007 we have decided to expand this program to purchase up to at least an additional 20 million. As always, this is subject to market and conditions but right now we expect to continue to execute on this buy back plan.

In addition to our continued stock buy back plan we will reinvest our cash flow from core product lines, into developing new products, improving manufacturing efficiencies and making new strategic investments and acquisitions.

As we look down the road, we are very excited about the launch of our new products and the transition to a very strong 2008.

We will also be discontinuing production of two product lines. One is a low margin product under our Salt Lake City agreement with Hospira which was planned and the other is Punctur-Guard line of [inaudible] needles that we bought in 2002. Margins are low and we would rather focus our efforts on product lines that will offer us a better return. The sales of the two discontinued lines totaled 14.3 million in 2006.

Before I get into more detail about our plans moving forward, I would like to turn the call back over to Frank to discuss our quarterly and year-end financial results in more detail. Frank.

All right. Thank you, John. Good afternoon everyone. Before I begin, let me remind you that all the sales numbers we are covering as well as our financial statements will as usual be available on our website before this call is over.

Our revenue in the fourth quarter exceeded our expectations and increased 22% to 52.8 million. Net income for the quarter increased 24% to $6.8 million or $0.44 per diluted share compared to $5.3 million or 35% per diluted share in the fourth quarter of 2005.

For the year-ended December 31, 2006 revenue increased 29% to $201.6 million as compared to $157.5 million for 2005. Net income for the year increased 27% to $25.7 million or $1.64 per diluted share compared to $20.3 million or $1.35 per diluted share for 2005.

Now, let me discuss our sales mix. Product diversification is one of the key elements of our growth strategy and here is where our product mix was at the end of the fourth quarter. Sales from CLAVE products excluding Custom IV systems increased 24% to $17.7 million for the quarter. The increase was in all channels but principally in domestic markets.

For the year CLAVE product sales again excluding trust increased 10% with good growth in all channels. When you add together CLAVE and CLAVE Custom IV sets combined sales were $25.7 million in the fourth quarter of 2006, up 24% from the $20.8 million in the fourth quarter of 2005.

For the full year sales of all CLAVE products including custom CLAVE increased 14% to $97.9 million, just shy of the $100 million mark. The increase was $12 million and almost half of that was in international markets.

Let me point out something about CLAVE sales in the fourth quarter. The year-over-year growth in the fourth quarter was 24% of the annual growth year-over-year was 10%.

In the third quarter the comparable numbers for the quarter and year were down 5% for the quarter and up 5% for the year. I said at the time the apparently weak sales in the third quarter were of no significance. I was mostly just timing of a week or two of shipments.

The apparent strength in in the fourth quarter is the same thing going the other way. Looked at another way 26% of our 2006 annual CLAVE sales for the fourth quarter as compared to 23% in 2005. That is less than a two week swing.

Sales from custom products which include CLAVE, non-CLAVE and Critical Care Custom products increased 36% to $16.8 million compared to $12.3 million in the fourth quarter a year ago. For the year, sales of custom products increased $14 million or 33%, to $56.6 million. We continue to see a huge growth potential in the custom market and believe that we are well positioned to capitalize on this long-term growth opportunity.

Sales from critical care products excluding custom products increased 13% to $13 million compared to $11.4 million for the comparable quarter a year ago. For the year, critical care products again excluding custom products had sales of $49.4 million, up 60% from the $30.8 million in the eight months we had critical care in 2005.

Now, let's move to sales by distribution channels. Sales to our [inaudible] increased $6 million or 19% to $38.4 million in the fourth quarter of 2006, compared to $32.4 million in the fourth quarter of 2005. For the year sales were $148.4 million, compared to $115 million in 2005. A $33.4 million or 29% increase.

Sales for both the quarter and the year were led by increases in CLAVE, custom medical products and critical care products.

Domestic distributors generated $7.4 million of revenue in the fourth quarter of 2006, up 28% from last year. This increase was principally due to robust sales of CLAVE and custom CLAVE products. For the year the domestic distributors were $24.4 million up 13% from last year, again primarily due to robust sales of CLAVE and custom CLAVE products.

International sales for the fourth quarter increased $2.1 million or 54% year-over-year to $6 million. More than 75% of the increase in international sales was driven by growing demand in Europe, principally for our CLAVE and custom products including oncology products.

We will continue to establish the company's footprint in the international markets to support our future growth. For the year international sales as a percent of overall sales increased to 10% from 8% of sales a year ago. For a growth of 58%.

Now let me discuss some of our key operating metrics. Gross margin on revenue was 33% compared to 39% in the third quarter of '06 and 43% in the fourth quarter of 2005.

The temporary decrease of gross margin was due to approximately $6.2 million of temporary expenses as Dr. Lopez mentioned earlier. Without these costs our gross product margins would have been 45%. As Dr. Lopez stated, we will get these issues behind is by June and after that we should experience continued improvement in our manufacturing efficiencies which will translate into better margins in the future. We'll have more to say about the gross margin when Dr. Lopez picks up.

We still think we can get gross margins on the existing products to approach 50% in 2008. We think can go higher, perhaps into the mid 50's, in a few years if the new products we are launching are successful.

SG&A expenses for the fourth quarter increased only 6% to $10.3 million compared to $9.7 million in the same period last year. This increase was primarily due to expanding our sales force. However, as a percentage of total revenue SG&A expenses were 20% in the fourth quarter of 2006, compared to 22% in the fourth quarter last year.

Research and development expenses totaled $2.1 million in the fourth quarter of 2006, compared to $1.7 million in the same quarter last year. We'll continue to use our strong cash flow to develop innovative critical care and next generation products.

Our tax rate had a significant adjustment in the fourth quarter. We benefited from being able to take federal R&D credits because the law providing for them was extended to December.

We were able to accrue benefit from some [pharma] losses we had not anticipated. And we concluded that provisions we had made in prior years for potential statement for our taxes was no longer required. We estimate our effective rate for 2007 to be 34.5% at this time.

During the fourth quarter we continued to improve our balance sheet. As of December 31, 2006 we had 116.9 million cash or $8 a share, that's cash and investments. We ended 2006 with $153.5 million in working capital and no debt this was after buying back approximately $8 million in common stock during 2006 and early 2007.

Accounts receivable at the end of the fourth quarter decreased 18% compared to September. Days sales outstanding were 47 days compared to 62 days in the previous quarter.

Our inventory levels decreased 16% in the fourth quarter to 16.3 million as compared to 19.4 million in the previous quarter. As we discussed, these levels in September included some bumper stock for the plant relocations which are now done. CLAVE inventory alone accounted for $2.1 million of this decrease.

Our operating cash flow continued to be very strong and we generated 14.4 million of operating cash flow in the fourth quarter.

Now let me briefly review our targets for 2007. We held off setting forth our targets for 2007 in order to get better insight into the impact of new products.

These have taken longer to launch than anticipated and we do not see much contribution from them until the second half of 2007. To be conservative, we have excluded virtually all new product sales from the 2007 targets that we'll be discussing.

To be clear, however, we do expect sales of those products, particularly in the second half of 2007, with possibly some in the first half of 2007. We believe we will achieve sales of approximately $206 million in 2007 and diluted earnings per share of $1.97. Both of these exclude new products and 30% of income on a legal settlement is included.

In 2006, two discontinued product lines contributed $14.3 million in revenue. If you back that out of our revenue for 2006 the baseline becomes $187.3 million so the real growth is $18.7 million or 10%. This is with minimal contributions from new products. Balance the metrics of 2007 - and these are full year numbers, not quarters - gross profit as a percentage of total revenue, 43% to 44%. That's for the entire year.

SG&A, 22% to 24% of revenue. R&D, 4% to 5% of revenue. Operating income, 16% to 18% of revenue. And the legal settlement included in income was $0.32.

Before I conclude my report here I would like to quickly recap a few key numbers. For the year revenue increased 28%. International sales increased 58% in 2006. Diluted earnings per share increased 28% for the year. For the year operating cash flow totaled $31.6 million.

We bought back $8 million in common stock during 2006 and early 2007 and are scheduled to buy back at least another $20 million in 2007. We've reduced inventory by $3.1 million in the fourth quarter. Cash and investments of $116.9 million at the end of 2006, up from $86.7 million at the end of 2005.

There is one other item I should mention concerning our lawsuit against Alaris Medical Systems. Last week the U.S. District Court issued an order granting Alaris' summary judgment motion against the company's claims of patent infringement against Alaris. The Court concludes it is subject to appeal therefore a judgment is entered and the company is currently evaluating its future actions.

Now let me turn the call back over to Dr. Lopez to discuss ongoing business trends and more detail about the outlook for 2007.

Sure. Thanks, Frank.We're very pleased with our sales performance in the fourth quarter of 2006 and the overall demand we are seeing in our products as we enter 2007, including all custom products as well as CLAVE and critical care product lines.

In 2007 we believe we will experience continued strong growth domestically and superior growth internationally. We continue to invest in our international channel and demand for our specialized products is gaining ground throughout Europe, South Africa, and the Pacific realm. We believe our growth is the very -- is in the very early stages and will be a large contributor to our growth for years to come.

We expanded our sales force over the past year to prepare for our more diversified product line and also to be in a strong position for launching of several new products that will expand our overall market share domestically and internationally in areas such as oncology, and dialysis with the TEGO.

Although sales of these new products will not be much, until later in 2007, we're very excited about the potential these products offer in the coming years. I want to address what happened to our gross margins in the fourth quarter, but I will preface my remarks by saying that the issues are in our manufacturing and are temporary. Pricing has remained firm and has had no effect of on margins.

What we were talking about adds up to 6.2 million or 1,200 basis points on the gross margin. Of this, about half is clearly not going to reoccur after the fourth quarter of 2006.

Mexico, in the first three quarters of 2006, we have a significant amount of through put, both organic and from Salt Lake City. To meet this demand we increased headcount from 450 to 1,100 people.

This was more than needed for the increased production levels but was warranted in the short term to maintain the quality of our products and meet delivery schedules for increased volume. Turnover among new employees has always been high down high but down in Mexico and new employees require training, both of which create inefficiencies.

In addition in the fourth quarter, we started instituting a major change in our production processes, which will increase our efficiencies but in the short term causes inefficiency as production people and supervisors adapt to the new method. The combined effect is 2.1 million. We have already put one quarter of this behind us.

The number of people employed at the plant should be stable through May and we will solve most of the inefficiencies in the first quarter in the balance of the second quarter. After that, we expect increase in efficiencies, margins will increase through this entire period.

Salt Lake City, the fourth quarter was our first full quarter of production in Salt Lake City of the CLAVE and other products transferred from San Clemente. We saw inefficiencies and under absorption in the third quarter. Which we thought was mostly short term but they were not. This and lower production schedules throughout the holidays cost us 2.8 million in the fourth quarter.

Going forward, about half the unabsorbed production costs and inefficiencies are behind us. For the balance, we have identified the reasons and the steps we need to fix them. We have initiated corrective action and we will get them fixed in the first half of the year. We may get them fixed sooner, but I don't want to promise more than I can deliver so we'll leave it at that.

Punctur-Guard. We are discontinuing this line. Cost which hit our gross margin mostly non cash asset write off is 840,000, this will not reoccur.

Excess transportation costs. Because of the expedited shipments stemming from rapid increases in our business total of 500,000, this will not reoccur.

So in summary of the 6.2 million, we have put 3.2 million behind us and the balance will be resolved before the end of the second quarter. We anticipated some of these issues but I had been talking about these issues that I have been talking about would reoccur -- would occur, but clearly some were worse than expected.

We are taking actions. We have analyzed the problem, found the root cause, are making changes and monitoring changes in production on a daily basis. These are temporary issues. Once we get them fixed they will stay fixed and we will be well positioned in growth to manufacture for many years.

Our new product launches are not going as quickly as we had hoped but we are definitely on track. Where are the delays? The critical path is finalization of product design and built production capability or capacity. Finalization of product design tends to be [idirate].

The product is launched on a limited basis and tested and customer feedback is obtained. Adjustments are made and the process is repeated.

Where are we in in this process? Oncology. The oncology line. The basic sets are extensions of our custom IV sets which we have long been accepted. So this has gone well.

We have run into capacity constraints so sales have been very small.

Closed male lure. An important element in keeping the oncology IV set a closed system with no escape of toxic oncology drugs into the environment. We have done a complete redesign from the product we launched originally. It is at validation and current tooling will enable us to launch soon with large production tooling coming in August.

Genie, our revolutionary new vial access device that eliminates leakage on accessing drug vials still awaiting FDA approval for the 510 (k) and which we need before we can sell.

TEGO, our new connector designed to control infection in dialysis catheters. After almost two years we have a stable design and are currently selling small amounts. We have applied for a Medicare reimbursement number but have not heard back. We can sell the TEGO without Medicare reimbursements but reimbursement will help greatly.

Orbit 90, we have made numerous design improvements and now have locked down the design and are working on fine tuning the production process. Ready for full scale launch.

With the exception of the close male lure and Genie, we are ready to go. The status of tooling orders is, close male lure, current capacity is support annual sales of ten million, excluding the custom oncology sets which will use many of these products. The closed male lures. We'll order more tooling.

Genie, tooling has been ordered. Currently has capacity to support annual sales of 14 million. More capacity coming.

TEGO, tooling is now here. Capacity to support annual sales of 12 million.

Orbit, we'll be in production by next week. Capacity to support annual sales of 14 million.

You should not expect that we will sell out these capacities in 2007. None of these tooling includes automated assembly equipment. Initially, all products will be hand assembled. We do not expect production volumes to warrant automation until 2008. So we'll have plenty of time to get there and as the sales increase, we will be ordering more production molds.

We're building additional space in Mexico to handle these new products and the significant expansion of our existing business, this space will be ready late in the spring of 2007. So by the second half of 2007, we should start seeing sales of the new products. Market interest and acceptance so far has been very strong.

Our existing lines continue to perform very well and generate very strong cash flow. Sales CLAVE is still viewed as the best IV connector on the market.

Infection control continues to be an increasing issue in healthcare today. It is one of the reasons we are so excited about the international opportunity for CLAVE and custom CLAVE. The CLAVE's patented design feature has significantly lowered infections over other connectors on the market. IC was the first with a swabbable connector and we believe that CLAVE is still the best the market has to offer.

In summary, we are at a good position to expand our top line and make long-term improvements in our operating efficiencies. Looking forward we are very excited about our new products and the long-term steady growth of our existing line.

We expect a very strong 2008. 2007 will be a decent year and serve as a transition to a very strong 2008. For example, operating cash flow will be over 40 million in 2007.

Now, I would like to turn the call over for any questions if I may.

Thank you for that presentation. Ladies and gentlemen, [OPERATOR INSTRUCTIONS] your first question comes from the line of Mitra Ramgopal with Sidoti. Please proceed

Good morning, guys. First, could you repeat the guidance for 2007?

Yes, top line this again is without new products, 206 million and the bottom line including the litigation settlement, $1.97.

And again, if you could clarify the litigation settlement.

$0.32.

Sorry?

$0.32.

$0.32. And could you comment just in terms of again we saw the SG&A was up a little on absolute basis, what we should expect for that in '07 in light of all the moving parts you have.

It will be up a bit. We're looking at the range of 22 to 24% of sales. That does not include any abatement of legal expenses which could occur depending on what happens with our patent suits.

Again, I think you said the tax rate for '07 should be a more normalized 34.5%.

Yes.

Okay and just finally, if you could comment on a share repurchases in the quarter, how much you spent.

I believe it was $3 million. It was a million dollars a month so that would be three million.

Okay. Thanks.

Plus a million in January.

Ladies and gentlemen, again, [OPERATOR INSTRUCTIONS] your next question will come from the line of [Paul Berliner], representing Schottenfeld please proceed.

Can you go over what the litigation, the $0.32 is?

As we announced a while back, beginning of January, we settled some litigation against our former attorneys.

Okay.

It involved conflict of interest.

Okay. The recognition of that is?

When we get the cash, which we anticipate sometime in the next week.

Okay. So $1.97 includes $0.32 benefit?

Yes.

Okay. Thank you.

Your next question will come from the line of Gregory Macosko representing Lord Abbett. Please proceed.

Hi. Just wondered about the product design issues. Have you done anything to change the management of the product design or any things to -- sounds like there was difficulties in all of the major products that you're introducing.

Can you restate the question, Greg?

Are you changing -- is there anything you're planning to manage the product design process differently in the future?

Keep in mind something, Greg, that for our products, the CLAVE took me three to four years to get the CLAVE where it is today. Make the designs -- it takes years to get a brand new revolutionary product, if it's a new product, new product concept, never been done before, it takes a while to get the design correct. It's not like a remodel of a car. So it takes -- it's not unexpected. It would take 24 months to get the TEGO right. I'm not shocked that it took us that long to get the TEGO where we want it. We don't anticipate any changes to TEGO at this time because it's working well.

It's a process of making the product, get it it on the marketplace, testing it, finding out what needs to be changed, coming back, and you change the design it takes sometimes six to -- six weeks to six months to change the tooling. So, it's a long thorough process. But we think that the Genie is where we want it, TEGO is definitely where we want it. The closed male lure is in validation right now. So, everything is ready to go. We're waiting for 510 (k) approval from the FDA. That's something that's not our issue. It's really the FDA issue. And TEGO sales have without any reimbursement have hit over $100,000 a month. To me, that pace is about $1 million a year which means that we have a product without reimbursement. So, I think the best answer to your question is probably not. I think I need to understand why it takes us so long to test the product in our laboratories and to get the process, the bureaucracy of getting the product tested. But other than that, not really any changes to it. All of our products should hit at the same time, so --

I see are there any other products from Hospira that will perhaps be delayed or eliminated?

No. We've gone through the Punctur-Guard line and the surgical line, that add up to about $14.2 million in sales. Those are the only two lines that we really wanted -- they're low margin products. Low margin and time consuming. We want everybody selling oncology.

On the new products, other than the Orbit, do you expect those to go mainly through distribution or through Hospira?

As always we'll go through independent distributors and through Hospira.

They'll be launched in both channels together?

Correct. As always.

There are no further questions at this time. I would now like to turn the call back over to Dr. Lopez for closing remarks.

Thank you very much, for the call. If you have any questions, feel free to call.

Operator, could you give the dial in instructions? Replay instructions? Hello?

She hung up.

You would like me to give them the replay instructions?

Yes, please.

In order to dial into the replay the number is 1-617-614-4949. The replay pass code is 34971169. Thank you for your participation in today's conference. This concludes your presentation. You may now disconnect. Good day.