Owens & Minor Inc (OMI) 2003 Q2 法說會逐字稿

Ladies and gentlemen, thank you for holding and welcome to the Owens & Minor second quarter 2003 earnings conference call. During the presentation, all participants will be in a listen-only mode. Afterwards, we will conduct a question and answer session. At that time if you have a question, please press star followed by 1 from your touchtone to place your line into queue until your name is announced. As a reminder, this conference call is being recorded for transcription today, Wednesday, July 17, 2003. I with now like to turn the conference call over to Gil Minor, chairman and CEO of Owens & Minor. Thank you for using Sprint Conferencing Services.

Good morning, America. Thanks for being with us. We're delighted to have you and we're going to talk about our second quarter and year to date results. We've got some great news to share with you and we look forward very much to your questions. On the call today Craig Smith, President and Chief Operating Officer, Jeff Kaczka, Senior Vice President and Chief Financial Officer, Dick Bozard, Vice President and Treasurer, Olwen Cape, Vice President and Controller, and our general counsel, Grace den Hartog. Before we begin, Trudi Alcott, our communications manager, will read a brief Safe Harbor statement. Trudi.

Thank you, Gil. Except for any historical information, material discussed today may constitute forward-looking statements that involve risks and uncertainties and could cause actual results to differ materially from those projected. These include the success of strategic initiatives, intense competitive pressures within the industry, and the loss of major customers. They also include changes in customer order patterns, pricing pressures, changes in government funding to hospitals and other health care providers and other factors discussed in reports filed by the company with the SEC. The company assumes no obligation to update information contained in this release. Just a reminder, you can find the audio of this conference call on our web site until August 6. Thank you, Gil.

Thank you, Trudi. We really do have some good results to share with you so let's get to it. Jeff will talk first and then Craig will have some brief remarks and we will open itself up for questions. Jeff take it away.

Thank you, good morning, everyone. We're pleased to report another very strong quarter, not only with the financial results but also with our strategic initiatives where we've had several key wins. Sales for the second quarter were $1.05 billion, that's up $75 million or 8% over last year. We've seen an acceleration in sales growth since the third quarter of last year and a great deal of that growth comes from penetration with our existing customers where we tend to have long term relationships. Of course, this really is the most efficient way to grow our business. Year to date sales with $2.07 billion, up 6.5%. Diluted earnings per share was very strong at 37 cents, up 19% over last year second quarter, net income was $13.6 million, up 18% from last year. And we're particularly placed with this in light of the fact that we've been making investments in our strategic initiatives.

Year to date EPS was 72 cents, up 20%, compared to last year and net income was $26.5 million, up 19%. Now, turning to some other results. Operating earnings as a percent of sales remains consistent compared to second quarter of last year at 2.5%, even as we invested in our new strategic initiatives. And this consistency is a result of our strong sales supported by productivity improvements achieved in the core business. I've got to tell you our field operations have done a great job handling this increase in sales in a productive manner and this is clearly seen in measurements. We look at regularly such as lines picked per hour, sales per team mate and sales per square foot all of which have been steadily improving. Our gross margin for the second quarter was 10.5% versus 10.6% last year, but in reality the difference was only two basis points. And we had similar consistency in SG&A which was 7.7% of net sales compared to 7.6% in the prior year. On a year to date basis, gross margin was 10.6%, the same as last year and SG&A was 7.7% also consistent with the prior year.

Asset management was also quite strong with inventory turns at 9.9 and DSO improved to a very strong 28 days. Consequently, operating cash flow for the quarter was $34.8 million bringing our year to date cash flow to a positive $114.9 million. I've got to give credit to Dick Bozard and his team for hitting this milestone DSO.

Lets turn to our outlook for 2003. As a result of our strong performance so far this year, we're raising our expectation for sales growth to the 5 to 7% range. We're also raising our earnings per share guidance to a range of $1.40 to $1.45. This guidance is for 2003 and doesn't necessarily imply changes for subsequent years and, as usual, will provide guidance for 2004 with our year-end results. So in summary, sales have strengthen, we're generating cash, our earnings are growing, we are getting impressive productivity, and we're investing in exciting new initiatives. Thank you. Now I'll turn it over to Craig.

Thank you, Jeff. Good morning, everyone. Thank you for joining us today. In the last few months we have announced some significant progress in our strategic initiatives. Our team has done an outstanding job of converting our initiatives into agreements with health care customers. This quarter was also marked by strong sales, productivity gains, and by continued investment in our core business and our strategic plan. We will continue to make these investments in the months ahead.

Since Jeff has just reviewed the numbers with you, I will update you on our strategic and operating success. In our core business, we have seen solid sales growth in the last year, particularly this quarter. Our plan to grow our sales through account penetration is working. Our sales growth this quarter came primarily from existing customers. And we are beginning to bring on a number of new customers including DHA mountain states front range in Colorado and the University of Louisville. We also resigned several customers during the quarter including community health network in Indiana. Even though we have watched several new initiatives, we have not lost sight of the importance of maintaining our highly regarded customer service, best in class distribution and our award winning technology. These factors continue to play critical role in our sales growth. With our new strategic initiatives we are expanding range of supply solutions we offer our customers helping us get a larger portion of health care dollar. Now lets take a look at these initiatives with a brief scorecard.

Our OM Solutions group signed three new outsourcing accounts of which the children's hospital of Philadelphia is the most comprehensive. This top ranked pediatric institution is making use of a variety of OM Solutions services and importantly we will also serve the children's hospital with our traditional core business distribution services. The team also signed six new consulting engagements and two more clinical inventory management projects. Now more than 160 OM Solutions teammates of which 90% are in the field working with customers. We now have 22 Wisdom II accounts with four new agreements signed in the second quarter including UCLA, Sharp Health Care in San Diego and the university of Louisville. With our first generation of wisdom we have over 170 healthcare systems on board.

We announced last week that[Mark Van Sumeren] (ph.) will join us as V.P. in OM Solutions. Mark has over 24 years of experience in health care and comes to us from [Capt Gemini and Earnsten Young] (ph.) he is very skilled at working with customers and with building an organization and we are extremely pleased he is joining the Owens & Minor family.

During the quarter we signed a comprehensive logistics and distribution agreement with the department of defense. Our team put a detailed plan into place in a matter of weeks and by all accounts the DOD is very pleased with our performance to date. With this deal, we are cross docking medical material bound for the military forces in Europe and the Middle East. As part of this agreement, we were also named the med surge prime vendor for the command. Now a big theme for us this quarter ability of our team to cross sell our services in the health care marketplace. Our agreement with the defense department utilizes the services of core business and 3PL expertise and children's hospital will work with our OM Solutions group and will receive traditional distribution services.

In June, we signed a five-year master distribution agreement with the Health Trust Purchasing Group. This agreement gives us an opportunity to meet with the various hospital members. So far we are working steadily to meet with these hospital members during the sign up period. In our core business, we expanded the number of MediChoice product categories to 55 and conducted two product launches this year for one more plan for the fall. During the quarter, we also prepared the first catalogue for MediChoice featuring more than 260 SKUs. We have created both an online and a paper version of the catalogue.

In our operations strategy, we have been focusing on improving productivity with obvious good results this quarter. We are in the process of implementing various parts of the OM model which will help us improve standardization of our service from coast to coast. With our OM model package working throughout our distribution system to implement standardized staffing schedules, truck schedules and guidance how to handle all processes in our warehouses. This quarter we open the door to Owens & Minor university. Our teammates are signing up every day for more than 100 classes in leadership, sales, finance, operations, and technology. Gil recently taught his first class on business ethics and next week I will teach a class on leadership to all of our warehouse managers. Our team has risen to the challenge this quarter. We are pleased to report significant process -- progress in each of the strategic areas we laid out for you last November. We believe that with these new initiatives and a stronger, more productive, core business we will be setting the pace in health care supply chain management. Thank you and now I'll turn it over to Gil for questions.

Thanks, Craig. Thanks, Jeff for excellent reports and I think let's get to the questions. So that end his the follow-up presentation. Turn it back to you, Mr. Operator.

Thank you, sir. The first question is from Tim Leahy from Goldman Sachs. Mr. Leahy your line is open.

Good morning.

Good morning Tim.

First question is just on the cash flow. Obviously, very strong results again in a year to date we're at well exceeding that income and I guess we just love to hear Jeff or Dick's view on what the rest of the year should look like.

Tim, I'm not going to do any forecasting. Grace doesn't allow us to do that. But what we can tell you is that, you know, the basics of our management are always centered around training. As Craig just mentioned with OMU and the company's always had a high interest in that level so I think the training, our guidance, our policies, our -- are very good and practical programs, but it really comes down to a great team of professionals in the treasury area here in Richmond and also the teammates in the field that work on this every day. But all of that is wrapped in our longstanding relationships with the customers and the quality and the value that we provide for them every day. And I think the fact that they comply with the contracts and agreements that we enter into it just demonstrates, again, the value and the service levels that the customers truly appreciate.

Okay.

I'll just leave it at that if that's okay.

That's fine. I guess if I could ask it a different way would you say your current DSO level is sustainable?

That's my objective.

Okay.

Tim, let me weigh in for just a moment, Tim. Dick Bozard is the best credit man in this industry. He does many other great things but when he joined us how many years ago, Dick?

A little over 15.

15 years ago and the progress we've made since then in credit management is unbelievable. And our philosophy, as Dick said, is to pro active with our customers and to anticipate. Everyone tries to do this but there's really a general win interest in that and that was the case with health [choice] and we've been able to manage through some pretty tough times and come out fine. Is that going to continue well to the best of our abilities it will continue but this performance getting it under 30 days down to even 28 is a remarkable achievement in a very tough economy. But it goes to our policy of collecting our money ode in the local areas, being decentralized to that extent, and managing our inventory on a pro active basis. So these are two functions that we do differently from our competition. And it shows up in these excellent results. From that standpoint, you know, by golly, we're going to do the best we can to continue it.

I appreciate that. One last question, I’ll let others step in, there's been some discussion recently on Broad [Lane] changing its relationship to [Tennat], and I think officially kind of severing ties from an ownership standpoint. Do you think that has any implications in the supplier community and I'll leave it there.

Craig, do you want to take that?

I don't think so, Tim. I think that's just something that they've been working on for a period of time and I think what I just think I read an article, maybe it was yesterday or the day before yesterday, that, you know, Broad [Lane] which has the majority of their customer base today is for profit. They are really trying to work more towards a for profit not for profit than customer base. So I think that’s just a matter of them deciding if it would be a bigger opportunity for them for not for profit perhaps they have a little bit more of an arm length relationship with [Tennat]. I think Broad [Lane] has always picked their partners, we're one of their partners, we have a smaller number of partners that they work with and that's been a great relationship for us over the years and we continue to see that to be a great relationship and a good working relationship going forward for the next several years.

Great. Thanks a lot.

Next question from [Eric Caldwell] (ph.) of [Robert Baird] (ph.). Mr. Caldwell your line is open, sir.

Can you hear me?

We can hear you Eric, good morning.

Great, good morning guys. I'd love to hear your thoughts on hospital admissions and utilization data. As it relates to some of the calls coming out of a select group of hospitals as well as some manufacturers as well as manufacturers and hospitals.

As you know, Gil dispi are on the road a lot. We talk to a lot of customers. I think overall there has been a sense that admissions are perhaps down in relationship to us that may not have the impact on us that it might have for certain manufacturers that do a lot of non-surgical products. Our -- the majority of what we sell is consumed in the operating room. We are actually showing through SMG data through may of 2003 that surgeries are up so we've been very fortunate this year that we really focused on getting a bigger percentage of the distribution dollar in the hospitals and really expanding our presence in the operating room where the majority of our products are consumed. So Gil and I have met with some CEOs across this country who do say that admissions are somewhat down but it is not impacting our business like it might some manufacturers.

Fantastic. Second question is a little more nebulous. Great additional with Mark Van Sumeren. I am curious what you see in this skill set, what he is going to bring to the table as immediate objectives in terms of leading OM Solutions and I guess this is kind of a little trickier. I don't know if you can respond but do you have any expectations that he might introduce [inaudible] some of his old CEG relationships.

I have always had one call from one of his old customers so I've had two calls from two customers in the last week who would like to see him. So I think just the fact that Mark -- first of all, I am not sure that people are aware of thes, he comes from a hospital background. First of all, he understands the needs of hospitals and he hasn't been in a hospital for a while but he understands how they work and how they function, so that's a big feather in his cap. He's been in the business for 20 years. He helped build the practice where he was before it was acquired. He has great relationships in the hospital market. I've been fortunate to know Mark for the last three or four years. He put on a presentation with [Nick Gache] (ph.) from Stanford and arms which was standing room only presentation. They had so many people sign up for it they had to do it twice. My expectation that, one, Mark will bring a better understanding of the whole consulting business, secondly, relationships that he's formed, third, my expectations are that, of course, he will grow OM Solutions to where it should be in the future.

First, just a housekeeping item. I didn't catch it if you mentioned on the call. Did you give the per cent of revenue going through CostTrack and whether you are still on target for your penetration goals? Second question, cash flow strength. I'm curious continued cash flow strength what looks like strongest cash position on the balance sheet whether that allows you to get more aggressive in buy backs or capital structure changes.

I'll let somebody answer the second question first and then I will answer the first question.

Jeff.

Sure. The second question was in regard to the strength on the balance sheet and certainly we are very pleased with our year to date asset management and the cash flow and, quite frankly, it gives us really nice options which will continue to evaluate.

Answer to the first question, Eric, we are on track to still hit our goal for 2005. We have, I would say, leveled off a little bit at this point. We're at 32.5%, 33%. So that is a high priority for me to make sure that that continues to move along. Now, let me say, though, that activity base costing is still very heavily used in our 3PL business and in our OM Solutions business. And we feel that as an organization that it is still a key initiative for us in all three initiatives that we are moving forward in and I am absolutely committed to Gil that I hit my goal. Not only because it is the goal that Gil gave me but it is the right thing to do for the industry.

Very good. Thanks. Very nice quarter, guys.

The next question is from Mr. Larry Marsh of Lehman Brothers. Mr. Marsh, your line is open.

Thank you, Gilmer. Morning. A couple of questions. First of all, customer situations, Craig, the HPG business is out to be, I guess, completed by September the 1st. Could you give us a progress report there. And then maybe a little bit of elaboration on the DOD business. I know it goes through November '04. And I think you said in the release it's a $25 million annual opportunity. Is it activity base costing or is it activity base fee and what's the difference?

First of all, I'd like a little credit for my homework assignment that you gave me last quarter on finding Mark.

Oh, yes. I was going to ask about that next.

I was under a lot of pressure, Larry. I had to get that thing done before this conference call. First of all, on the HPG, obviously, we're very active and have been for the last several weeks making presentations and if you look at the HPG group outside of HCA there are multiple groups that belong or use HPG contracts. So Gil's been on the road, [Timothy Callahan] (ph.), [Marshall Simpson] (ph.), we've been making presentations all over the country. So I think probably what we would do, Larry, is once the sign up is done is give some kind of scorecard on where we ended up on that total book of business. But we are really actively every week making presentations all over the country. So, you know, I think we’ve got a great group in the field. They're being supported by our corporate folks and we're just very pleased with the presentations that we've made so far.

On the second piece on the department of defense, that was really a fee for service cross docking initiative where we're actually helping assemble large shipments for people which palletized and they are coming to pick that up either on a daily basis, sometimes multiple \pickup\pick ups during the day but it is primarily staging and getting that ready for them. So we are not in a buy/sell relationship. We are actually doing the aggregation work which we feel it is going to be fairly successful for us going forward as we start to do this for other providers in the sector. The activity based costing, as you know, the CostTrack really is activity base costing. That is a marketing name that we use for activity based costing in the core business. Activity based costing is just a standardized pricing process system that we use. For instance, if we sat down and did a 3PL initiative for a manufacturer hospital, we would sit down and price out all the activity buy process for that customer. So activity base costing is really the underpinning that we've used in the company for the last five or six years, very active in the hospital market, using that exclusively in OM Solutions in terms of any process improvement that we do in terms of outsourcing where we're pricing out labor or we're pricing out an onsite warehouse manager. That would all be priced out with profit ability that is built into that fee and the profitability would be different margins for different things that we're doing for the customer.

So that might be a little vague but really what we're trying to do is bring a discipline to the organization which we have and trying to include our manufacture partners and our hospital partners in that so we are all working on reducing that extra 50 cents that goes on top of that product price to deliver the product.

Okay. So this is an activity based costing piece of business.

Right. The DOBP. On the part, now, we have a prime vendor agreement with them so there are some things that we do in a traditional distribution style where we buy and then resell to the department of defense. And then there's also an initiative with direct manufacturers that traditionally use some form of transportation for the department of defense that we now have stepped in and we are doing activity based costing on the direct manufacturer piece getting that ready together to be shipped overseas. So we are pricing that out by pallet, by activity and getting that together to ship overseas.

But the buy/sell part of our work with DOD is the 25 million. And that does not include nor is that related to the third party logistics cross docking effort.

Okay.

That is fee for service and that's not in the 25 million.

Okay.

I think that's what you wanted.

Yes.

That's part of our prime vendor relationship with the DOD and the central command.

Okay. Just remind us, your current relationship with Tennant extends through 2006. Is there an expiration date with our current relationship with [Health South] (ph.) or is that an annual renewal?

That should be coming up. I think there's been a lot of concern with Health South is for us. I mean, that is a piece of our business but it's not material. I think that actually comes up stimulate this year for renewal for the beginning of next year. But, again, we've worked pretty closely with them these last three or four months and have become pretty integrated with them in terms of a partnership. So, you know, it is up, I believe, the end of this year but again, it's probably we've had that relationship for several years now.

Okay. All right. And, finally, not to let you completely off the hook, Craig, I think you said last November at the analyst’s meeting we can start to grade you on your progress of 3PL and consulting business whether there is some metric you can give us in 2003. Where do you stand in terms of specific information.

I think what we said, Larry, when it becomes material we would start to break that out. What I am trying to do is through this score card through the engagements, the Wisdom II customers, the outsourcing is at least give you folks some idea of the momentum that we have within OM Solutions and I will say that I have been pleased with their progress. I am proud of [Tim Gill] (ph.) who stepped up to the plate and led that group. Once it becomes material we will break that owl separately on a P&L to show what that is. But what I am going to continue to do is to give you guys by category a progress report on how we're doing on each of the different services that we offer within OM Solutions.

Uh-huh. Okay. You hope to have that maybe sometime later this year or next year do you think?

Well, as soon as we make that material, believe me, I'm the first one that wants to make it material. So, you know, that's my priority is to get that to a point where you guys could see that financially on a P&L.

All right.

You know, I've got high expectations for Mark. You put a lot of pressure on me.

Well, good. Good to hear. Thanks.

The next question is from [Jeffrey Allen] (ph.) of Silver Crest. Mr. Allen, your line is open.

Good morning.

Morning

Just one minor blemish on the quarter’s results. Our SG&A expense was higher year-over-year as a per cent of sales. And I think in the past couple quarters you've been able to reduce that in spite of the investments in your new initiatives. What can we expect going forward?

Jeffrey, we're actually quite pleased with the SG&A results for the quarter in light of the fact that we said we would be investing in the new strategic initiatives and we've done just that. We're very pleased that the productivity in the field operations has served to offset virtually all of that investment and, therefore, the difference as a per cent to sales was only four basis points between last year and this year.

I think this is a start up situation with OM Solutions and 3PL so we've been bringing on people to support our ongoing efforts so we've -- and we anticipated this and so we've brought on a number of people in the field and here at the home office building our team for oath OM both OM Solutions and 3PL as evidenced by Mark Van Sumeren who's a very high profile consultant in our industry. So we knew the expenses were going to go up but our goal was to manage through that to expense those items, obviously, and to keep our momentum going with good results overall. I mean, I think we've absorbed those expenses pretty well.

Okay. I mean, maybe is there any way that you could indicate, you know, what point do you think you'll sort of suffer the maximum pain from these new initiatives in terms of having, you know, the highest expenses with the least amount of revenue coming from them? At what point is the maximum pain? Is it now or is it still to come?

I think it's, you know, we are right in the middle of it.

Okay.

the focus is on getting this done. It's a year long project so we'll have some more expense in the second half as you see we raised our expectations for ourselves in the second half. Some might say we should have raised them more but we're going to continue to invest and focus on getting our team together for greater performance next year in these areas but also focus on our operating earnings which is what drives the company.

Okay. I guess the bottom line you think the SG&A ratio will rise much more or is this about the --

Can't predict that.

Okay.

See, that's where the productivity part and that's the nebulous thing is productivity because it comes in different ways. But I can tell you with the use of technology and the use of our systems and the things that we are doing we are very conscious of in managing expenses as we always have because this is a [inaudible] tax on business probably beern we have ever done in the past. So, hopefully, there's an offset.

Thanks a lot guys.

Thank you.

If there are any other questions, please press star 1 on your touchtone phone at this time. Okay. There are no other names in queue so that concludes the question and answer session of today's conference. Mr. Minor, I will turn the call back over to you at this time.

Thanks very much. Thanks for being with us. As you can tell, we are very pleased where we stand so far this year. We are showing great financial strength, strong balance sheet, improved income statement, asset management continues to be a corner stone of our performance and as it has been in the past. The initiatives we've introduced on course and we are really demonstrating not only to you but internally ourselves that we are becoming strategy based organization. We are really planning and executing on our plans on a consistent and regular basis. This discipline that Craig mentioned earlier is in place, it's working, and it feels good. So we're excited about the second half. We have to work hard to match up to the first half but we are sure going to try. Thank you all very much. Have a great day.

Ladies and gentlemen, this does conclude the conference call for today. We thank you for your participation. And ask that you please disconnect your lines. Thank you.