Owens & Minor Inc (OMI) 2005 Q1 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the Owens & Minor first quarter 2005 earnings conference call. My name is Carlo, and I will be your coordinator for today's presentation. At this time all participants are in a listen-only mode. We will be facilitating a question-and-answer session towards the end of this conference. If at any time during the call you require assistance, please press star followed by zero, and a conference coordinator will be happy to assist you. As a reminder, this conference is being recorded for replay purposes.

I would now like to turn the presentation over to your host for today's call, Mr. Gil Minor, III, Chairman and Chief Executive Officer of Owens & Minor.

Good morning, America. We are very pleased to have you with us today, to share our first quarter results, they are excellent results, as a matter of fact by our measurement they are outstanding results, and Jeff and Craig will do that for you in a few minutes. On the call today is 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 Manager, Grace den Hartog.

Before we begin, Trudi Allcott, our Communications Manager will read a brief Safe Harbor statement.

Thank you. Except for any historical information, material discussed today may constitute forward-looking statements that involve risks and uncertainties that could cause actual results to differ materially from those projected. These include the ability to assimilate the operations of an acquired business. The potential loss of key personnel and intense competitive pressures such as pricing within the healthcare industry.

They also include the success of direct marketing programs in attracting new customers, the ability to retain existing customers, changes in customer order patterns, changes in healthcare laws and regulations, changes in government including Medicare reimbursement guidelines, private insurer reimbursement amounts, the ability to maintain product price increases by suppliers, and other factors discussed from tile to time, and reports filed by the Company with the SEC.

The Company assumes no obligation to update information contained in this conference call. And this call will be archived on our website for the next three weeks.

Thank you. Gil.

Thank you, Trudi. Let me comment briefly on the transition that was announced with Craig and me. Succession planning can be a tough task for a lot of companies, can be very sensitive can be very arduous and can be sticky wickets. That's not the case here at all. Craig came with the Company in 1989, moved to Richmond in '92, was promoted to President in '99 and Chief Operating Officer, and for the last five, six years has really worked his way through all of the things that he needs to do, to become the Chief Executive Officer. And it's all been by design. So this is a wonderful transition that's going on.

Craig has a respect of his teammates, customers, suppliers, and complete confidence of the Board that he will join very soon, hopefully when all the votes are counted, I presume that will take place.

On the light side, I have four bonafide offers to coach little league baseball teams which pleases me to no end, and I'm weighing them very carefully. Now, on with the show. Jeff and then Craig will have brief remarks and then we'll take your questions.

Jeff.

Thank you. Good morning, everyone. We've gotten off to a strong start this year, and we are very pleased with our results. Before I go through the numbers I'd like to say congratulations to both Gil and Craig. We are grateful that Gil is going to continue as Chairman and look forward to work with Craig in his expanded role.

Revenue for the first quarter was quite strong at $1.19 billion, up 7.9% over last year. Revenue growth came primarily from penetration of our existing accounts, but also growth in new business, as well as contribution from Access Diabetic Supply and OMSolutions. Diluted earnings per share for the first quarter was $0.40 up 8.1%, and net income for the quarter was $15.9 million, up 8.8% from last year. Both of these numbers were right on target with our expectations.

Now, turning to other results, operating margin for the quarter was 2.5% of revenue, equivalent with the first quarter of last year. Gross margin for the first quarter was 10.5% of revenue, improved from 10.3% in the first quarter of last year. Despite on going industry pressures and a decline in alternate source purchasing, the Company's gross margin was positively affected by the strategic initiatives, including the acquisition of Access, and the impact of MediChoice and OMSolutions. After just two months, we're pleased with the contribution from Access as its acquisition was mildly accretive in the first quarter.

SG&A was 7.9% of revenue compared to 7.6% of revenue in the first quarter last year. Again, this includes two months of Access Diabetic Supply expenses. We are very pleased with these SG&A results as we continue to perform well in our core business.

Asset management continues to be one of our greatest strengths, and quite frankly, we are thrilled with our results here. Not only did we achieve another milestone in DSO which is now at 24.4 days. We've also seen improvement in our inventory turns to 10.3. Our teams in the field and home office did an outstanding job in focusing on inventory management in the first quarter. As a result of the strong asset management, we reported operating cash flow of $123 million, so even after paying for the Access acquisition, we had $74 million of cash on the balance sheet at the end of the quarter.

Our outlook for 2005 remains unchanged. We expect to see revenue growth in the 5 to 7% range, and diluted earnings per share in the range of $1.71 to $1.73 with stronger comparative earnings growth in the second half of the year.

So to recap, very healthy revenue growth of 7.9%, earnings per share at $0.40. Excellent asset management and cash flow which allowed us to fund our acquisition, and further improve our balance sheet, and a good start for Access, as well as continued progress in our initiatives.

Thank you. Now I'll turn it over to Craig.

Thank you, Jeff and good morning everyone. Before we start to talk about the quarter, I do want to say a few words about Gil and the upcoming transition. This is a great honor and I am truly humbled by the responsibility. I am looking forward to serving the Company, our customers, our teammates, and our business partners. For over 21 years as CEO, Gil has created a very special and unique corporate culture that stresses ethics, integrity, customer satisfaction, and teamwork. As we move Owens & Minor forward, these elements are not negotiable.

I am very grateful to the Board for this opportunity, but I am also very comforted and pleased to know that Gil will remain as Chairman, and work closely with me, and will also be available to our teammates and to our customers. Before we take a look at the quarter, it's important for us to put our performance in the context of our long-term business strategy.

Owens & Minor is well positioned to capture opportunities in a growing healthcare market with strong demographics. As a leader in supply chain management solutions, we've made a name for ourselves by listening to our customers, and providing programs and services to meet their needs. In the last three years, we have successfully entered the supply chain consulting business. Third party logistics, private label marketing, and now direct-to-consumer distribution. Today we successfully serve customers from one end of the supply chain to the other. From suppliers to consumers at home.

In the first quarter we continued to see very strong growth in existing accounts along with new customers, such as our new integrated service center customers. We do anticipate an ebb and flow of business through this year, as comparisons will be more challenging. As we look ahead to the rest of 2005, we remain committed to our guidance of 5 to 7% revenue growth.

We did see improvements in productivity in our core business this quarter. Lines per warehouse hour improved along with sales per FTE. DSO and inventory turns also improved. Efficiency has been an on-going story for us, as we have leveraged our core business to free cash for acquisitions and investments in teammate development and technology.

Since we launched our strategic initiatives, we we have pursued a margin enhancement strategy that includes growing our CostTrack business, growing our MediChoice private label line, and we're making progress in our OMSolutions effort, which added accounts in every category this quarter. And now with the acquisition of Access Diabetic Supply, we have entered a into higher margin business that is allowing us to sell more disposables in a new market.

Let me just say a few words about the Access acquisition. The management team has been exceptional. They are motivated , and their business model is working. Just this month we completed one tuck-in acquisition for Access, purchasing a small Florida-based company called Direct Diabetic Supplies. We converted the customer base quickly, and we will easily leverage this new business with the current staff and resources that we at Access.

We also completed a small acquisition for OMSolutions, Cyrus Medical, a small software company creates and markets tracking software for tissue implants. Currently, or before, today this technology replaces what was an outdated manual process. The founder for Cyrus, such as HOS, QSight and Access have joined our team, and we are very pleased to offer this one of a kind technology solution to our customers.

We are pleased with our sales growth, our productivity, and our cash flow, and we could not do this without the dedication and hard work of our 3400 teammates who put our customers first every day. Thank you and now we would be glad to take your questions.

Thank you, sir. [OPERATOR INSTRUCTIONS] Our first question is from the line of Larry Marsh, Lehman Brothers.

Good morning, everyone. Gil, I just wanted to say I've had the privilege of covering Owens & Minor for a long time, I want to tell it's a real honor following your efforts as CEO for the Company over that time, you've added a substantial amount of value to this Company and really been a beacon of integrity over the years, so I echo some of what Craig has said, I really appreciate that. I'm sorry I won't be able to to say it in person at the annual meeting next week. Also had heard, don't know if you can confirm that Steinbrenner had contacted you about the Yankees job?

Well, I'm not sure I want to get into that level of pressure. That's almost like being in the CEO role there. Well, little league maybe the same thing to parents, you know.

Very good.

Thank you.

Just also I want to say, Craig, I know you'll have do a great job as the new CEO. I think if I could get you to elaborate a little about the tuck-in acquisitions that you talked about with DDS and the software business, and maybe a discussion as to whether you think that the, you know, you may be able to step up the pace of these small acquisitions here in the next year or so?

Larry, we are very actively looking for these type of acquisitions. That was one of the things that brought us to Access is this is a group of bright young managers, who have great connections in this industry and business, and they have several smaller companies that they talk to on a regular basis, so we would look to see more tuck-ins as we move forward.

The other thing, though, I would say is that their organic business is also growing, so we are going to have a combination in this business plan, of not only growing organically, but also doing small acquisitions. What was nice about this one was they were able to complete this very quickly. They had the infrastructure in place today to absorb that, and they have the infrastructure in place to absorb several more before, before we have to do anything, in terms of growing headcount.

The second piece on Cyrus, that was something that came up, that as you know we've been going to a lot of shows, talking to a lot of people. We're trying to build this technology arm. We are in beta tests with WISDOM3 this month, so we got WISDOM2 going very strong. We are now moving to WISDOM3.

QSight is doing very well and this will just be another technology that will be in the bag for these folks to sell. The nice piece about Cyrus is, they have a contract with the customer that we have never had, either core business or OMSolution business with, so this is going to give us an opportunity to go into a customer. They currently have a contract with and talk with them about that.

That's one of the keys with solutions. It is getting us into competitive accounts through different avenues. It's getting our foot in the door, and here we have Cyrus, and we already have an opportunity very quickly to expand our presence with this customer.

Okay. Have you -- have are you describing the size of DDS at this point or purchase price, or will that be disclosed in the Q?

I think it's very small Larry in terms of the overall impact on Access, but if we do a number of these, of course it's going to have a much bigger impact, but both of these acquisitions are pretty small.

Okay. Then finally if you were to look at the gross margin of your business, ex Access, would you describe the margins to be roughly flat from last year, up or down? And how would you describe the pricing then environment of the business excluding Access?

Well, you know, this has not been a new topic for us. We've been working on this for two years. The hospitals as you know better than anybody else, continue to be under pressure.

There is a lot of activity in the marketplace just for hospitals to either validate what they currently have, or you know, is there something maybe a little bit better, so this is something that we've been anticipating for two years, and that's why we are in Access, we are in solutions, we are in CostTrack, we are in MediChoice.

We're really looking to manage the overall margin for the Company, but the competitive pressure has not let up. We are working on all of that every day, and have been for the last two years, and we're going to continue to work on that, but CostTrack, we've seen good improvement in CostTrack again in the first quarter, we're up to a run rate of about 39 to 40%.

We are continuing almost all of our presentations today now include CostTrack, and we're going to continue to move our customers from that cost plus environment to activity-based costing.

Okay. So would you describe it then as gross margin being, what, about the same as last year, maybe a little less, or do you break it out that way?

We're doing we very well as a Company, and the core business is doing just as strong as ever.

Okay. All right. I'll stop there. Thanks.

All right. Thank you, Larry.

Our next question is from the line of Christopher McFadden, Goldman Sachs.

Thank you. Good morning, everyone. And certainly let me add my congratulations, Craig, to your new responsibility. Certainly well deserved and Gil wish you best in your continued efforts and look forward to your on-going association with the organization.

If I could get you to step back a a little bit and maybe build on a couple of Larry's questions relative to DDS, and what you've done with Access, and I guess try to allow us to flush out a little bit how you see this evolving, and I guess one of the areas I'd like to get some additional detail on, is really when I think about some of the competencies that this line of business requires in contrast to your traditional businesses. Clearly we're talking about a different payer and accounts receivable management expertise.

We're talking about a different client development and sales generation expertise, and we're obviously talking about, while complementary, a different manufacturer, and certainly some circumstances set of relationships, and so I'm interested now a quarter or so later, to try to was understand how you're fusing together a core team in Access to the Owens & Minor team, to make sure that we've got scale in those core competencies to make sure that as this business continues to grow, and as I imagine additional acquisitions will be part of your growth strategy in this area, how we are making sure we've got the same execution expertise in this segment as we've historically enjoyed in core OMI.

As a tack-on if we could talk about some of the self-manufactured initiatives, how that continues to develop, and certainly Craig, any comments on customer acceptance and adoption there, would always be appreciated. Thanks.

Chris, I'm going to take the second half of the question and then turn it over to Dick. As you know, he is the executive sponsor for Access, and has been very key working with them down there in building a strategy and moving forward. MediChoice continues to grow. We are up pretty dramatically year-over-year. I would say that the acceptance is still improving and expanding. We have another launch coming up here fairly soon. We will continue to have launches.

We are seeing customers on the commodity, low end commodity items being open to looking at alternatives and options, so overall I'm still very pleased with MediChoice. That was something new for our sales organization to go out and sell and market. We've been in that for two years. It continues to grow, and I think our sales force is really starting to embrace that along with our Focus program.

So we really have not only the MediChoice, but the Focus program as you know that our people go out and work with, not only private-label but our most efficient manufacturers, and we're seeing some success in that marketplace, so we're seeing our customers more open to a combined offering of Focus and MediChoice together, so that they can impact their product portfolio on the low end commodity items.

Craig, just when we first talked about this program, one of the ground rules you seemed to lay out, was that MediChoice wouldn't have any SKUs in product categories where GPOs had existing contractual footprints, is that still the ground rules for MediChoice, or does customer acceptance suggest that perhaps it expands beyond its original target?

Well, we've expanded past our original target, but we also are to some degree not bumping up against GPO contracts yet. But as you know, our relationship has always been with the individual hospital, and we work very hard to meet their goals, whether it's in product price reduction or process improvement, so we really let the customer, the individual hospital drive that decision for us, and we have had much better acceptance in the last year.

Thank you.

All right. And I'll turn it over to Dick on the first part of your question.

Chris, this is probably one of the most exciting areas in my opinion, that we've entered into in a long, long time . And as you know, we've been very selective, and we do quite a bit of research with our strategy, and we've been selective, and the company that we selected in Access as a management team that is unrivaled, in my opinion, in this business. They are hugely talented people. They know this business very well.

One of the things that excites us in addition is the fact that it leads us to the EBA model, low asset intensity, high margin, huge area for growth. A lot of consolidation opportunities for us as we go forward, and as Craig pointed out, we've worked on a strategy that we think is going to be very successful for us.

It's the type of strategy with these tuck-ins where we are able to manage the risk as we go forward as opposed to betting the Company. So it's a very exciting time for us as we look at your question on the receivables and the payors, one of the advantages is, that from a bad debt perspective, a financial inability to pay, you don't have a high concentration. You're dealing with some very sound companies in the payor group. There are clearly some compliance issues that we focused on. There was a law firm that specializes in auditing, that assisted us when we did our initial due diligence, and continues to work with us.

The company had established a very complete compliance program that includes required training for every teammate each year, a specified number of hours, and we will continue to have a high focus on that as we go forward. So as we look at the platform that the company has, we see that there's a great opportunity there to expand. We know that 80% of the products that they have today, are comparable to our current products that we handle with the suppliers, so there are a lot of opportunities and synergies that are not readily visible on the surface, that we've seen as we get into it, so you know, great platform, great people, high focus on managing the compliance issues, and great opportunity for future consolidation.

Hey, Dick, perhaps a bit for granularity, how would you expect the DSO profile of this line of business to contrast this with the core business at least directionally and are there any different reserving policies for, as a consumer co-pay business, as opposed to your legacy institutional hospital business?

The first thing I'd point out, Chris, is that the 24.4 does include the Access receivables. In that sector, it's not uncommon for companies to have 60 to 65-day DSOs, so there is that issue to deal with.

The nice thing about it is that, I believe if we can continue to -- if we can develop and continue to develop strong relationships with the payors, that we'll be able to use technology to help us expedite the cash flow as we go forward. So we're going to look at that very closely.

As it relates to the co-pays, they have and we will continue to do our best to make sure that the co-pays are paid. Typically these are very small amounts of money, but that does add up to a lot of money through the year, so that will be an area of high focus for us also.

And then one final, would you expect, you focused on the diabetes area, is it logical to assume, Craig, that additional complementary patient and consumer-directed initiatives would be part of this growth strategy for the Company?

Yes, Chris, it will be. What we would like to do, again, we've been in this two months, you know, we want to ramp up, we think there's a lot of opportunity just in the diabetes supply business, but we see this as an excellent opportunity long-term to expand MediChoice, to work with some select manufacturers, to go into some other product categories. I think that's down the road. We'd like to ramp up and get a good presence in this business.

We do see some synergies coming out of the hospital and how patients leave the hospital, and where they go to get their supplies, so we see some opportunities from that standpoint.

Very good. And again, Craig, congratulations.

Thank you, Chris. I appreciate it.

Thanks, Chris.

Sir, our next question is from the line of Terri Powers, Robert W. Baird.

Good morning, everyone.

Hi, Terri.

Have a few questions for you here. One of the things I was looking at was the SG&A costs this quarter as a percent of revenue. We're a little higher than we would have expected even with Access, and I wanted to see if there was anything unusual in there, going back to the healthcare issue of several quarters ago, or was that primarily related to Access, and is that probably a realistic base going forward, with the exception of obviously continuing to get more benefits from productivity improvements, et cetera?

Terri, I'll take it. It's Jeff. The SG&A increase was related to Access. The core business has been performing very well from an SG&A standpoint. I will caution you to realize again that two months worth of Access results are included in those numbers, so you can take that into consideration going forward.

Okay. That's great.

And nothing unusual.

Excellent. Wanted to follow up with Craig on your comment regarding revenue growth and comps. Obviously great, great job this quarter. And Craig, you mentioned that expecting some business to ebb and flow, and talking about challenging comps, and to me looks like comps actually ease in the second half of the year, so I was hoping you could give us a little more color there?

I think first of all, if you look at fourth quarter of the last two years, we have had very strong sales in the fourth quarter. If you do apples-to-apples last year, that number actually is a lot higher, so there will be some opportunity to hit those numbers in fourth quarter again. A lot of what we saw in the first quarter, Terri, was we did see some strong sales growth in some existing accounts, probably stronger than it's been over the last year or so.

We did pick up a little bit more on Access, and then we were ramping up on our integrated service centers, but again we are working on profitability. We are working on margin enhancement, and it's pretty early in the year, so we just want to make sure that we reiterate our guidance of 5 to 7% over the full year.

That's great. One tiny question related to revenue growth. Are there any selling day comps that we should be aware of? Either one less or one more?

No. As a matter of fact we're fortunate in that compared to last year. Each and of quarter as has the same amount of sales days this year.

Excellent. Also wanted to follow up, Craig with, you also indicated some great growth from integrated service centers. Can you give us a little more color surrounding how those are going?

They are going very well. We have two that are in full progress starting somewhere in the middle of last year, but really kicking in a little bit late in the fourth quarter, and then some carryover early in the first quarter of this year, but they are different phases, Terri.

We completed the first phase, it's a three-to four-phase process that you go through one of these integrated service centers. We have finished the first phase in both of those integrative service centers, and we're now looking at adding additional services within both of those integrated service centers, so they are going very well.

As a matter of fact, we had both of them in in the first quarter to share information and opportunities that they think that collectively the three of us, we have a third one that we're working with, that is up and running. They have taken a little bit different twist, but we actually had a summit in the first quarter to share information, and see how we might leverage the relationship between the two service centers going forward.

Excellent. And I just had one final question. This is for Jeff and Dick probably. You guys obviously have done a great job with DSOs, looking to focus more on inventory turns going forward. Just wanted to see, those are pretty good right now, but just where do you think those can go, and maybe over what timeframe?

I'll take the inventory one, Terri. That's my goal for this year, but I'll let Dick answer the other one.

Terri, the DSO's at a pretty efficient level.

Yeah.

You know, I would say we'd be very pleased if we can remain in this area that we're currently in, the 24, 25 range, we'd be tickled. That would serve us very well.

I'll answer the inventory piece since one of my goals with Gil this year is improvement in inventory, we've made good progress in the first quarter, and since that's my goal, it's also Scott Perkins who runs the field, and Charlie Colpeo who's over operations, that's their goal, and they tell me that there's still some opportunity over there over the next nine months, so we're going to continue to focus on that.

We did do an upgrade on Manugistics, which is our forecasting system. We are wrapping up fully implementing that and we see some opportunities coming out of that. That's been a while since we've upgraded that package, so we think there's still upside on inventory reduction, and I check in with Charlie and Scott every week on how we're doing on that because I've got to report to the chief each week.

Without compromising service, too. Inventory management turnover has to maintain the service level, so that's a given.

Excellent. Great quarter, guys.

Thanks, Terri.

Sir, we have a question from the line of Lisa Gill with JP Morgan.

Good morning, it's actually [Otto Forheman] for Lisa. How are you guys doing? Most of my questions have already been answered, but going back to MediChoice, you [ratcheted] that opportunity pretty significantly, but looking forward where do you think you are in terms of percentage of products launched, in terms of total opportunity, and also any closing opportunities you could have there to improve your margins?

Well, I think we are -- it's hard to put a number of how far we're going to go on this. We are going to continue to work with our customers to find out where there are opportunities, where they are willing to look at private label.

Again, I would also focus on the Focus program because it is a combined program together, an offering of where we work on process improvement, operational efficiency, and product cost, and I think we still have a lot of opportunity there to move forward. And as we work with our larger systems, they are taking a great deal of interest in a combined program, where they are not only working on process improvement, but product price reduction, so I think we've got a ways to go.

In terms of the sourcing opportunities?

Pardon me, I couldn't --

In terms of sourcing, are you looking to source internationally to improve margins or -- ?

Well, we do both today. We are sourcing with current manufacturers here and, as you know, most of those manufacturers are moving offshore. We're also looking at sources that OEM for other manufacturers and going directly to them, and also looking to go overseas. What we want to make sure is that we don't compromise the Owens & Minor name or quality.

We want to make sure that we put a good product out there with the MediChoice label name on it. It's not all just about price. It's making sure that we maintain the quality of the product so that we can maintain our customer satisfaction.

Okay. Great. Thanks, very much.

Thank you.

Dave, let me just add something to this whole issue of the GPO and the competitive environment. Let me just say, Owens & Minor is the strongest proponent of GPO support in the country. We've grown our business that way, and we are dedicated to the success of our GPO customers. Our relationships, as Craig said, are with the individual hospitals. That's because healthcare is very local.

The things that we do, we take that relationship with the total GPO into consideration, and try to blend it into a better model to help us both be successful, and more strategically focused and more profitable, so the things we are doing with our private-label program, the things that we're doing with our technology, the things we're doing with our supply chain, are all devoted to complimenting what the GPOs are doing, and therefore helping the customers, and being responsive to the customers' special needs, and they have some. So that's a -- you know, I just want everybody to understand where we stand on that point in issue. Thank you. Next question.

[OPERATOR INSTRUCTIONS] Our next question is from the line of Jim Bell with Lee Munder Capital.

My apologies, I joined the call late. But could you remind me how much acquisitions contributed to the top line in the quarter?

We haven't disclosed that. It's a small amount. The acquisition that occurred was that of Access and it was closed January 31st. The other two acquisitions we spoke about came in the second quarter. They were closed in April.

Got you. And is there any seasonality on the Access business, or is it --

No. It's all diabetic today, so it's fairly consistent over the year.

And in terms of your revenue guidance going forward, I'm assuming that is not factoring in any other acquisitions it at this point, is that correct?

No other major acquisitions.

Right.

Yeah. When we put that in place, we knew of Access.

Sure. Absolutely. I'm assuming those that have been completed are probably part of that, but I didn't know if -- ?

Right.

Great. Thanks very much.

Thank you.

[OPERATOR INSTRUCTIONS]

Sounds like we got it, huh? Carlo?

Sir, we have no further questions. Back over to Mr. Minor for any closing remarks.

That's it, gang. Thank you for being a part of the conference call, and look forward to a good day. Thanks a lot. Good bye.

Ladies and gentlemen, we thank you for your participation in today's conference. This concludes your presentation and you may now disconnect.