Smith & Nephew PLC (SNN) 2017 Q4 法說會逐字稿

Well, good morning, everyone, and welcome to our full year results presentation. I'm here with Graham Baker, our CFO, as you know now; Matt Stober, who's the President of the Global Operations; and the famous Phil Cowdy at the end of the table.

I will start by covering the highlights of the year and the last quarter and then talk about a topic close to my heart, innovation. I will then hand over to Graham and Matt to talk about the numbers and our program to strengthen our competitive position and drive further efficiency. And I will conclude with a summary and we'll take question, as usual, at the end.

So starting with the full year results, our underlying revenue growth in 2017 was 3%. There are many highlights, including an improved performance, meeting our guidance for the full year; returning the Emerging Markets to strong double-digit growth; our Knee Implant franchise consistently beating the market; and PICO, strong growth continues, transforming the way negative pressure is used.

There are also headwinds and areas we improved. In 2018, we faced competitive pressure in Enabling Technologies. And we're still working to return Advanced Wound Care in Europe to growth.

Our trading profit was just over $1 billion, giving a trading margin of 22%, a 20 basis point improvement compared to 2016. Adjusted earning per share grew 14% to $0.945, helped by the improvement in our tax rate, including one-off benefits.

Our cash generation improved significantly with 90% cash conversion, and our balance sheet remains strong. Our full year dividend is $0.35, up 14% year-on-year in line with adjusted earnings.

In summary, we delivered better revenue growth and margin than in 2016, and I'm confident that Smith & Nephew can do even better.

Turning now to our Q4 trading performance, as usual, this slide capture our underlying growth, on the left-hand side, geographically; and on the right-hand side, by product franchise.

In the fourth quarter, we have seen a continuation of many of the trends that we saw in the first 9 months. The U.S., our largest market, grew 1%, and sales in the Other Established Market declined by 1%. In contrast, our Emerging Market drove another quarter of strong growth, up 14%; and with this, China grew double digit.

Now turning to our individual franchises in more detail. We had another good quarter in Sports Medicine Joint Repair, growing at 6%. This includes the first contribution of our Rotation Medical acquisition, which closed in early December. Our sales team is very excited about the addition of this bioinductive technology to the portfolio.

Enabling Technologies declined by 3% due to ongoing competitive pressure in both mechanical resection and the legacy RF technology. The rollout of new LENS visualization and WEREWOLF COBLATION systems continue, and we expect a gradual improvement in AET in 2018.

Our Trauma & Extremities business grew by 5%, with strong growth coming from the Emerging Market. Our recently launched ATLAS nail is growing strongly. And finally, our INTERTAN nail continues to attract new customers in Established Market, supported by its excellent clinical evidence.

In our Other Surgical Businesses, we grew 4%. This included another solid quarter in ENT and continued growth in robotics, with further sales in the U.S., Asia Pac and Europe. Other Surgical Businesses also include the range of smaller legacy products, such as bone cement. And this portfolio, overall, had a weaker quarter.

So now turning to Reconstruction. Globally, our recon implant revenue was up 4%. At 6% growth, the Global Knee grew at more than twice the market rate. This was driven by continued uptake of JOURNEY II, our LEGION Revision portfolio; and ANTHEM, our emerging-market knee system.

We have seen high customer interest in our new bi-cruciate retaining knee, JOURNEY II XR. This offer improves tissue penetration, and our NAVIO robotic system is uniquely positioned to assist surgeon achieve excellent results with XR.

The Global Hips delivered second quarter of positive growth of 1%. Our recent product launches in revision hip are contributing to the improved momentum, and we're seeing further growth from our POLARSTEM Cementless Hip.

Now turning to wound, Advanced Wound Care revenue declined 3%. End market demand remained broadly consistent with previous quarters, with the exception of the U.K. We're adapting our business in response to this.

Advanced Wound Bioactive was flat. As expected, SANTYL delivered growth in the second half of the year. The reimbursement structure for skin substitute means OASIS remained a headwind. Advanced Wound Devices grew at 14%, continuing the strong growth trend. This completes another good year for PICO, a trend that we're confident we should continue.

New pioneering products are at the heart of our business, and we are in a period of many important launches. So starting with 2017, we're seeing the fruits of our increased R&D spend and the investment in technology acquisitions, which we initiated a few years ago. On the slide, you can see some of the products we have launched during the year. This respond to unmet needs and, hence, deserve premium prices.

2017 is the first year that our R&D organization has operated as a global function under one leader. I'm very pleased with the increased rigor of our resource allocation and delivery in this new structure. I'm confident that this will bring more truly strategic products in the years to come.

In 2018, we have another year with important new product launches across our franchises. First out of the block is a next-generation of PICO, PICO 7, launched this week, actually yesterday, in Europe and Australia. We have improved the many aspects of PICO, including introducing an indicator, signaling the dressing is full, thereby reducing the need for routine nurse visits.

Innovation in itself is not enough in todays environment of constrained budget, and we need provide more robust proof of value for our innovations.

This has been a focus for us in 2017, and we are delivering results. The number of journal publications has tripled compared to 2016, and we expect an even higher number in 2018. We have a strategy of supporting high-impact evidence. In the last quarter, we have seen the result of 2 randomized clinical trials in pressure injury prevention, demonstrating the effectiveness of ALLEVYN LIFE and Leaf, and the meta-analysis showing the effectiveness of PICO in reducing surgical site infections.

We know that compelling evidence translates into action. A mature product like our INTERTAN nail reaccelerated following the publication of evidence showing its superior performance in treating hip fracture patients. And if you did not already see our press release about eCAP, I urge you to have a look. The first customer study reported an impressive 97% reduction in hospital readmissions following joint replacement surgery under eCAP.

So we'll now hand over to Graham to take you through the numbers.

Thanks, Olivier, and good morning, everyone. I'll cover 2 things: first, the 2017 full year results and guidance; and second, the details of the business review we announced at Q3.

I'll start with the income statement. Full year revenue in 2017 increased 3% on an underlying basis, excluding the impact of foreign exchange and M&A, and 2% on a reported basis. Trading profit grew by 3% to over $1 billion, and trading profit margin was 22%, an increase of 20 basis points. Both sales and margin growth were at the low end of the guided range as indicated in Q3.

Moving further down the P&L, EPSA growth was substantially higher at 14%, mainly due to favorable movement in the tax rate on trading. Basic earnings per share was stable year-on-year, and in this connection, I remind you that 2016 benefited from the gain on disposal of the Gynaecology business.

The lower tax rate on trading at 17% was mainly driven by a one-off tax provision release, as announced at the first half year results, and further tax provision releases in the second half prompted by expiry of statute of limitations time limits and beneficial geographic mix.

Moving on to the effective U.S. tax reform, we've recognized a onetime benefit in 2017 of $32 million outside trading results, principally arising from revaluation of U.S. deferred tax balances.

Finally, on EPS and EPSA, the average number of shares is 2% lower following the buyback program in the second half of 2016. Of course, we remain focused on driving returns, and our return on invested capital improved 280 basis points in 2017 to 14.3%.

Now turning to cash, trading cash flow for the year was $940 million, a 23% increase on 2016; and trading cash conversion improved to 90%, well above the 75% realized in the prior year. The improvements reflect principally higher EBITDA, lower capital expenditure and better working capital performance across inventory, payables and receivables.

The restructuring, acquisition, legal and other cash outflow of $44 million was $78 million lower than in 2016, reflecting a cash inflow from settlement of a patent litigation case. Overall, free cash flow was $256 million higher than 2016, a 56% increase.

Improved free cash flow generation in 2017 meant we were able to meet the capital investment needs of the business, the acquisition of Rotation Medical, as well as the dividend return to shareholders, while also reducing net debt by around $270 million to $1.3 billion, which represents approximately 1x EBITDA.

Our capital investments continue to be for instruments, manufacturing capacity and IT systems to support the needs of our customers and midterm growth of the business.

To conclude the financial section, I'll now turn to guidance. In 2018, we expect underlying revenue growth of 3% to 4%. Foreign exchange rates prevailing on the 2nd of February, together with the acquisition of Rotation Medical, will add just under 4 percentage points to growth, so we expect reported revenue growth around 7% to 8%.

We also expect a year-over-year trading profit margin improvement of 30 to 70 basis points. As previously announced, we expect our future tax rate on trading results to reduce by 4 to 5 percentage points as a result of U.S. tax reform moving down to a range from 20% to 21% starting in 2018. This new lower tax rate excludes the impact of any further possible changes to tax legislation or any one-off items.

Some of you already asked about the European Medical Device Regulation, this came into force in 2017 and requires the reapproval of product marketed in the European Union over a transitional period of 3 years. The regulations apply industry-wide, and the exact cost for each company will depend on the pace of progress and the detail of implementation.

Based on our initial assessment, we expect 2018 costs between $20 million to $30 million, which will be charged outside trading profits owing to their one-off nature and scale. Our medium-term guidance is unchanged with the exception of the improvement in the tax rate.

With that, I'll now turn to the business review of our cost base. This is the same slide I showed you in November at the Q3 update. Based on the preliminary work we started when I joined Smith & Nephew, we've undertaken a thorough review of opportunities to strengthen our competitive position and be more efficient. We've now built the outputs of this work into budgets and begun executing the programs.

Internally, we're calling the program APEX, which stands for Accelerating Performance and Execution. We group the opportunities into 3 work streams: manufacturing, warehousing and distribution; general and administrative expenses; and commercial effectiveness. These are summarized on this slide, and the 3 of us will now go into more detail.

I'll start with the financial overview and talk about the G&A work stream. Matt will then talk about global operations and the manufacturing, warehousing and distribution work stream. And Olivier will conclude with commercial effectiveness.

From a purely financial perspective, we expect the APEX program to deliver annualized benefits of $160 million by 2022. These savings underpin our confidence in delivering our guidance for meaningful ongoing trading margin improvement over the medium term. The bulk of the activities in G&A and commercial will complete within 3 years, and we'll be making good progress in manufacturing and supply chain by then, too. So we expect around three quarters of the benefit to accrue by the end of 2020.

We expect nonrecurring costs of the program to be around 150% of the peak annualized benefits, which translates into a payback of less than 3 years. Timing of costs will be front-end loaded, with around $100 million in 2018 and approximately 3/4 of the total by 2020.

As Matt will tell you, we will need to invest in some manufacturing sites that will see increased volume and scale. Most of this investment relates to capacity expansion, which we will need to incur any way. But a proportion relates to manufacturing transfers. Hence, I expect our CapEx levels to remain slightly elevated at around 8% to 9% of sales in the first 2 to 3 years of the program.

Turning now to more detail about the general and administrative work stream. We've identified a number of areas where similar transitional services, such as payroll, invoice processing and basic technology support are performed by local teams without scale benefit.

We've been building out a Global Business Services, or GBS, function for the last 2 years starting with a few discrete areas. We've proven the concept and we're now ready for expansion. GBS will provide process standardization and automation from 3 low-cost hubs on the slide.

Costa Rica is our most advanced site currently, and we've successfully transferred day-to-day HR services for the Americas there, achieving an improvement in efficiency and service levels. Based on the early successes, we also plan to in-source a number of services currently provided by third parties.

I'll now hand over to Matt to cover the global operations aspect.

Thank you, Graham. Good morning, ladies and gentlemen. So let me first start by introducing myself since this is the first time I'm speaking to everyone. I'm Matt Stober, and I head up our global operations function. I joined Smith & Nephew in October of 2015, having held a similar role at Hospira. Prior to that, I worked in a number of manufacturing roles across GSK and Novartis.

So I'd like to start with the scope of global operations at Smith & Nephew, what we've achieved over the last couple of years and then where we're going as part of the APEX program.

So global operations is responsible for the manufacture of our products, the purchasing of raw materials, the management of our suppliers and the movement of finished products to our customers. We also ensure that the finished products meet the required quality standards and satisfy all regulatory bodies.

Finally, we work hand-in-hand with R&D to make sure the product ideas can be manufactured. We have 20 manufacturing sites, over 70 distribution centers in our supply chain and nearly 8,000 people working hard to make and deliver 70 million units per year.

For the last couple of years, we focused on getting the basics right. The SQDCP framework that you can see on this slide, with safety, quality, delivery, cost and people being the 5 dimensions, is really operations 101. If you've had any experience in global operations, you'll certainly recognize it. It is important to do these things well because without focusing on the 5 pillars, we cannot achieve sustainable ongoing improvement.

So you might ask why focus on the basics? Because I wanted to show you how we've strengthened the foundation to give you confidence that we can move on to something more ambitious.

So looking at where have we come from, for example, in 2014 and 2015, Smith & Nephew had 2 FDA warning letters. This partly reflected the FDA's increased focus on medical device industry and partly the need to modernize Smith & Nephew's systems and processes. This impacted many areas of our business, from the resources required for remediation to the product delivery timelines.

Focusing on the basics has changed this, as you can see from the charts on the slide. Our factory safety metrics, and here I'm talking about accidents that lead to injuries and loss time, are best in class. We have no warning letters today, and our recent track record of site inspections is much more favorable.

Our service levels, a measure of how good we are at fulfilling customer orders correctly and on time, have reached 97%, a great metric, I assure you. Importantly, for our commercial teams, this means back orders have been reduced by more than 80%. And we continued to generate annual unit cost reductions while doing all of this. Hopefully, I'll get a chance to speak with many of you after the meeting. You'll quickly find I'm relentless and always believe that we can perform better.

Now that you know what we've achieved so far, let move to the future, starting with manufacturing. On this slide, you can see our current manufacturing footprint. This is largely a function of historical investment decisions and acquisitions going back many years where we maintained existing manufacturing and supply chain setup and structure. This has left us with a relatively complex network for the size of our business.

There are many advantages to simplifying and streamlining this footprint. These include benefits of scale, reduced overhead and freight cost, and strengthening of our centers of excellence. Our goal is to establish a best-practice-facility footprint, with larger manufacturing hubs supported by specialty facilities as appropriate.

So you might ask, how do we plan to do it? Designing an optimal manufacturing footprint is not easy, so I thought it would be helpful to look at some of the considerations we are evaluating, a few of them are the scale and scalability of our sites, proximity to our key customers, specialization, risk mitigation through dual sourcing and the regulatory constraints. And our current capacity utilization compared to future volume growth will probably mean the construction of an additional site.

The APEX program will also give us the opportunity to rethink our strategy regarding where we outsource versus where we in-source, as well as the amount of automation we have in our manufacturing operations.

As we start to execute the detailed plans, we are doing so with clear guiding principles to ensure customer supply, quality and regulatory standards. This will mean we carry more-than-usual levels of inventory at times. The end result will be a much simplified footprint that delivers better performance and efficiency levels with the capacity to meet future demand.

So turning now to supply chain. We have identified more than 100 projects to improve the efficiency of our supply chain organization. Broadly, I'll group these initiatives in 4 key areas: first, reconfiguration of our supply chain network to leverage scale and reduce freight costs; next, rationalization of the number of partners that we work with; third, improvement and standardization of processes to enable centralization of routine functions; and finally, reduction in complexities of flows and border duties.

You will see a few examples of actions on the right-hand side of the slide. We will be consolidating our warehousing network and increasing the use of sophisticated planning and production software tools. The project even goes right down to optimizing country-by-country, product-by-product freight and duty cost.

In summary, our manufacturing, warehouse and distribution work stream represents a significant amount of work, but is essential. Yes, it will result in a reduction of overall cost, but more importantly for me, it will give us best-in-class global operation functions supporting Smith & Nephew's growth aspirations.

With that, I will hand back over to Olivier and happy to be -- take questions at the end. Thank you.

Thank you, Matt. Thank you, Graham. I will finish with the commercial effectiveness part of the APEX program.

We are seeing our market and structure evolving permanently. On the one hand, price pressure, increasing use of tenders and new entrants. On the other, opportunities from new technologies, new ways of offering broader value to our customer and greater insights from clinical data.

Under this work stream, we're continuing to drive global commercial and sales force best practices. We have made good progress on pricing and training and on sales force effectiveness. We have already made a start with standardized metrics, a redesigned incentive scheme and sharing of best practices.

A deeper analysis shows potential for optimizing our local sales organization efficiency. One example is in the U.K. Here, we are sharpening our commercial organization in response to the more challenging market environment. We've removed layers of management and streamlined local marketing, while increasing key account capabilities and reinforcing our tender response team.

In terms of approach, we are moving to a diseased-based model and one where we will place increased emphasis on selling our whole portfolio, both our pioneering and more value-oriented products.

So in summary, I think we have a stronger business today with the structures and platforms we have built. The platforms enable us to deliver on our 2017 promises to improve the top and the bottom line. In 2018, I expect Smith & Nephew to build on 2017, delivering another year of improved performance from our strong product portfolio and our strong pipeline.

Looking further ahead, our better focus on commercial execution give us confidence we'll outgrow our market, and the new APEX program supports our expectation of improved trading margin into 2018 and beyond.

So that ends our formal presentation. We will now take question, starting here with the audience. (Operator Instructions) Thank you.

Veronika, first row.

Thank you very much. Veronika Dubajova from Goldman Sachs. My first question is on the APEX program, Graham. I think last year, this was before your time, but when Olivier gave them a medium-term margin guidance for ongoing margin improvement and he discussed 10 to 50 basis points as achievable, how should we think about that range in the context of $160 million? So that's my first question. And then my second question is for Olivier on the organic growth outlook. The range for this year is, again, 3% to 4%. But looking at the business, you've been far from 4% for a little while now. What do you think needs to happen for you to get to 4% organic growth this year? And what's your degree of confidence in your ability to achieve that?

I'll take the margin question first. Thanks, Veronika. Obviously, I can't control what my boss said before I joined the organization...

I forgot what I said last year.

But look, the APEX program, we've clearly recognized that one of the questions that this business needs to answer is to deliver margin progression and margin improvement. We've maintained our margin guidance for medium-term margin improvement year-over-year. If we were talking about the bottom end of that range coming for 3 to 4 years, that would not be what I would call meaningful margin progression. But I'm not upping the guidance for medium-term margin progression because, as everybody knows, the business faces ongoing headwinds at the top line and we have a cost base supporting our customers' needs for service. Quality, we're a regulated industry and we operate in a competitive environment. So to drive midterm growth of the organization, we have to maintain those investments at a competitive level, and they're subject to inflation every year. But we are talking about meaningful margin progression. I hope that answers the question.

Okay. On the question of how can we grow for a 3% to a 4%? Well, the guidance is between 3% and 4%, okay? I think there's a number of things that we are going to build. First of all, we see an extremely good dynamic in most of our portfolio, and this will continue. Emerging Market will continue to grow strongly next year. China will be a very key driver of the growth also. Latin America is boosting. And have excellent results in most of the geographies, including the newcomer, Colombia. We have, if you come back to franchises, very, very strong dynamic in wound care in the U.S. Wound devices will be strong everywhere, including in the Emerging Market, where we are launching the TIO which is in between PICO and RENASYS, which is Emerging Market negative pressure wound therapy. ANTHEM development next year will be stronger and stronger with launches in new countries, and we are extremely happy with the results of this. In terms of knee business, we have the knee development in the XR as well as the combination of XR and NAVIO, which will be showcased at the AAOS, which I believe will be very strong. By the way, we start to realize how important is the device NAVIO in the center, where we have placed or sold the robot, we see an increasing demand of the knee, of our knees. So there is a correlation -- direct correlation between placement and the knee expansion. So I think that's a very important for the products. In Sports Medicine, not only we have this good dynamic of 6%, but we have also the launch of Rotation Medical, which, I remind you, is a product which is a strong product, which has been launched in the past and successfully launched with 17 reps within Rotation. We now put more than 100 reps behind this product. So that will accelerate our shoulder franchise within the Sports Medicine. So hip, you have seen hip today coming back on growth. Hip will continue its dynamic. And on the rest of nonfranchise things, you have very more rigorous pricing efficiency, and this is really something which is happening and it's going well. We have the market access data and we have more clinicals than any other competitors. I mean, we are publishing, and I've said that during my presentation, much more publication this year, and we'll have much more again in the year to come. And that includes PICO, it includes SANTYL, that includes new data on other products. It includes also outcomes on robots, and so on and so forth. We are also the eCAP program, which is showing synergies between our wound business and our recon business. So I mean, there's a number of things. Now you can say, well, okay, fine. Why is it changing? Well, this is accelerating. And in the second hand, the 2 issues that we have because we have, as usual, the bullish and the bearish, but that's the life of the company. And the bullish, I've mentioned that, the 2 issues we have faced in 2017, which are wound care in Europe, we don't expect to see the market of wound care in Europe. Which, by the way, is not as bad as in the U.K. and the other geographies. France is strong, Spain is strong and Italy is strong. The 2 issues we face are Germany and the U.K. Germany is improving, and U.K. is still really, really bad. Actually, the market dynamic itself is negative in Q4 in the U.K., and we're not doing well as you know. So we are working on this. The reorganization that I was mentioning also will help to do the things better. For the rest of the world, wound care works well. We have no issue in the U.K. -- in the U.S. We have no issue in the emerging market. It's purely a European issue, which I believe we're going to solve slowly, slowly. Enabling Technologies, which is the second issue that we have been facing in 2017. It's not new news. I mean, you know that the blades in mechanical resection have been going down for a while, and that the COBLATION -- traditional COBLATION has been facing new competitors. Now I can tell you, we were a bit ambitious in thinking that WEREWOLF and LENS will be able to compensate the issues we are facing, now we know it works. So you will see a gradual improvement in 2018 on this. So that's why I'm very confident. And that's why I have no issue about the guidance that we are placing for 2018.

Let me ask it differently. I mean, are you confident -- do you see 4% as a possibility this year?

It is, that's why we gave you 3% to 4%. It is. Yes? Okay. Go ahead, sorry.

Hi. Thank you for taking the question. Kyle Rose from Canaccord Genuity. Just wanted to see if we can get a little more color on the strength of the new franchise and then just your thoughts on the Global Knee business, more broadly? I mean, we've got a one of your competitors, Stryker, is talking cement-less knee, taking down 25% of their overall mix. Just thoughts on the cement-less portfolio and your potential there. But then also, more broadly, on NAVIO. I mean, when do you expect that we'll be able to get more metrics on your boxes-placed utilization? And is 2018 really setting up to be maybe one of the breakout years for NAVIO to really start to be a market share driver?

Well, on -- let me -- maybe, Phil, you will talk about the recon as a whole in terms of market and what is happening. I can answer to you on NAVIO and on the portfolio of knee in general on a worldwide basis. I mean, NAVIO, I think that we have decided not to disclose many data on NAVIO. But I mean, I can give you a few data though. We have been growing almost at 50% CAGR, so things are exactly aligned with our expectation. Actually, we disclosed that last year, saying we're expecting 50%. We are almost there in the -- at the end of the year. Remember, MAKO has announced a training of 800 doctors, surgeons. We have been able to train, in 2017, more than 500 surgeons with NAVIO, 500 surgeons. We have double utilization since introduction of the TKA. So the link, as I was mentioning, TKA and Total Knee and NAVIO is really, really tight. So we see a fantastic development on this one. We see a huge development in the ex-U. S. countries, actually the U.K. is one of them. We're very ambitious about the U.K. development for NAVIO. We see an amazing performance also for NAVIO in the emerging market, India had been the highlight of this country, with a number of units sold at very high price in India. So I mean, I'm very happy, actually, with what is happening with NAVIO. And I do believe, I do believe, as I said to you, that having the NAVIO in the hospitals is generating a fantastic dynamic for our JOURNEY II business. So that is what I can tell you. Now as I said, the knee business is growing, as usual, I would say, as a whole in terms of market. You have seen the recon market this quarter is about 2% growth. Phil, am I correct? It was 0 the previous quarter. So it's always like this. We don't expect to see changes actually. We don't expect to see more price erosion. We don't expect to see a significant improvement in volume either. We are doing extremely well in the Emerging Market in the knee business, extremely well, wherever we are. In the high tier or in the mid-tier with ANTHEM. I mean, ANTHEM is, for me, a second booster of the growth of the recon in the Emerging Markets. So I think the portfolio as a whole is doing well. You will see at AAOS the XR with NAVIO, and I think you will be very impressed by this dynamic. So Phil, do you want to talk about cement-less and all this?

Yes, I mean, good question though. Because there's been debate around cemented, uncemented for many, many years. And what we've seen is that new technologies, I think, are bringing the debate back about uncemented and the stability you get from it. So currently, both our GENESIS and LEGION core systems do have an uncemented option. It's not a big part of the portfolio, but it is there. As you can imagine, with the expertise we built in, 3D printing, which offers some interesting technology, we are working on a next-gen uncemented knee that we will bring out in due course. It won't be in 2018, but sometime after that. But it does remain a small part of the marketplace overall.

Great, thank you very much taking the questions.

Yes?

Thank you very much. It's Patrick Wood from Citi. Two from me, please. The first would be thank you for the chart showing the sort of manufacturing cost per hour and how everything was going down in that way. Excluding the APEX cost-savings program, obviously the pricing environment remains relatively deflationary. Do you expect to continue to make those savings over time if you were to extend that internally in your forecast going forward to make those savings to offset that price deflationary environment excluding the APEX costs, because it's quite hard to keep your modeling flat in that environment? So that's the first question. The second one, speaking to Phil about it earlier, appreciate it might be quite small, but if you were in our shoes, how would you interpret Hollister's decision to dispose some of its firm assets? Why do you think they took that choice? And should we read anything into the market about that or is it just noncore from them?

Let me answer Hollister, and then I will give you the floor, or Matt. I mean, Hollister, what are we talking about? $45 million of sales of divestment, which is nothing, okay? So it's a very tiny part of the business, which we have no interest for -- especially for us. I mean, it's very small. Many people believe that this at the start was a big deal. Actually, it means nothing. So I think we should not focus on this one.

In terms of -- I mean, I'll seek support from Matt on the detail. But I mean, the reality is that job gets harder every year as you go by, and there isn't a bottomless pit of things that you can do. This -- like he said, he's a relentless guy and he keeps his team under a lot of pressure. But eventually, it becomes more and more difficult to achieve those things. So one of the reasons why, tempting as it might have been to up the guidance around the APEX program, I've deliberately not done that as an anticipation that life gets -- in the underlying business, gets a little bit tougher each year. And so although a meaningful part of the benefits of the APEX program are going to drop to the bottom line, some will get swallowed up in the normal inflationary pressures that we face, top line and through our cost base. Rest assured, he isn't ever going to give up and we're not going to give up on those sorts of business-as-usual opportunities anywhere in our business. But we think the APEX program is important for us to actually deliver on that guidance from margin progression, which, in reality, we haven't actually been able to shoe in the last 2 to 3 years. Matt, is there anything you want to add?

Yes -- I mean, I think, Graham, you've covered it. We are working and we do every year work on the, you saw that cost trend line, investments from a technology standpoint to try to drive down labor costs. We got procurement initiatives across the organization, again, to drive down spend that we've got going on. Those things are not in the cost that you saw for APEX, those are normal activities to offset inflation and ultimately improve the cost profile. So you'll see us continue to do those because we've been doing -- and you see the trend what we've done over the last 4 or 5 years. So it gets more difficult, and now we've got to take some, I'll say, bigger, tougher decisions in order to deliver the savings numbers, yes.

Yes?

Lisa Clive from Bernstein. First question on PICO, it's been a great franchise for you, but there is some competition looming. You've had a competitor in the U.K. market for the past year and a half or so, and said competitor is hoping to get FDA approval pretty imminently. Do you have enough of a lead in terms of clinical data, just general market awareness of your product being particularly a good product, it's not just a category that people need to be in? Or does a new entrant, that is a very similar product, really represent something of a new competitive threat? I'm just trying to understand how you'll adapt to that. And particularly how you'll adapt to that in the U.S. versus the EU. You've mentioned historically it's very important to have a sort of comprehensive negative pressure portfolio, but in the U.S. because of the RENASYS withdrawal, that's a bit of a gap in the portfolio. So perhaps not as helpful there. Second question on hips. It has been obviously a frustrating business, particularly with the implosion of BHR through no fault of Smith & Nephew's, but really a market issue. But it is something of a lagging portfolio and just would be helpful to understand what initiatives are in place to get that business back on track.

Phil, do you want to take this one, and I will come back on the PICO?

You want -- okay. Yes, I think in the hip portfolio, I think as we've said for the last couple of years, the biggest gap in our hip portfolio was in revision. And we started to roll out REDAPT, our hip revision system, next-generation, state-of-the-art getting great feedback from customers. We're really at the start of that. But as you know, there are many, many components to a full revision system and we're just sort of starting to roll it out, and you'll see more and more over the coming years. And I think what you've seen this year as we move from a negative to a positive in the second half, a big contribution to that is now having that portfolio. I think if you go back to sort of the primary hip system, yes, there is some life cycle management that we need to do to refresh part of it, and that is in training. So all in all, we're relatively comfortable about where our sort of hip portfolio is at the moment.

Thank you. So on PICO, Lisa, we have a number of good things to say on PICO. The first one is we have a very strong growth, which is continuing. In -- to give you an example, in the U.S. actually, we have increased about 80% since 2016. So it's really a superb dynamic. In terms of what can make a difference between, I guess you were mentioning AVELLE. Well, AVELLE, I've read some different papers on AVELLE issues actually. We don't see AVELLE popping up, as I said before actually, in the field. We have no -- we have not found any evidence of danger with AVELLE at the contrary. I think the PICO strength is -- they have no clinicals evidence. We have 65 published studies in clinical evidence. We have a number of studies coming next year. We have, for patient, a number of advantages also in terms of leakage, in terms of noise. It's very quiet, AVELLE very noisy, and so on and so forth. And I think it's, for us, not a big issue, which doesn't mean this will not change one day. But for the moment, we don't see that as a threat. We just want to focus on our product and bringing more and more clinical evidence of the value of this. The PICO 7 launch, I think, will be fantastic because it reduces the costs, so it's exactly where it should be in the difficult environment that we are facing. It's not in the U.S., by the way, yet. It is in Europe. We launched also the negative pressure of -- I mean, a part negative pressure with TIO, which was -- which is a type of box, a bit bigger than PICO that we'll use in the Emerging Market in the mid-tier. RENASYS is back on the market, which is also important, not because we want to make RENASYS a huge product but because, as I said many times, we believe a lot that the sourcing effect of having RENASYS in the few places, in Tier 1 and so on, is one of the best generator of sales for the portable negative pressure outside the hospital. And we also know that the changes we are managing on our PICO, which is better pumps, better absorption, better -- all this will also be able to really compete with the issue negative pressure in the future. Tom, and then we have questions from the phone, please.

It's Tom Jones from Berenberg. Two questions for Graham, I'm afraid, Olivier. The first, on the APEX program, could you give us an idea of how much of that $160 million do you expect to reap from genuine cost reductions, paying less for something, shutting something down, et cetera, et cetera? And how much do you expect to come from efficiency savings? A term we hear quite a lot in the U.K. press, but a lot of people have a natural skepticism around. And then the second question, just on the 30 to 70 basis points of margin expansion you expect for this year, could you give us some at least qualitative steer as to how much of that do you expect to come from the early gains under the APEX program, how much from mix improvement, how much from operating leverage, how much from favorable FX, unfavorable FX hedges rolling off, that kind of thing? Just give us an idea of how much of it is kind of very predictable and how much of it requires better operational performance from Smith & Nephew.

Thanks, Tom. I fear I'm going to disappoint you a little on the detail that you're looking for there, but I will do my best. I think one of the things that Matt mentioned was that sort of procurement and our regular is business-as-usual activities are not part of the APEX program. Our APEX program is driven by meaningful interventions to change the cost trajectory of our business. Now whether you count those as genuine cost reductions or efficiency savings, I'm not exactly sure what distinction you're making there, because all of our business is subject to inflationary cost pressure. We -- one of the defining features of this industry is -- well, 2 of them are high quality. You have -- you're putting things into people's bodies, or onto people's bodies, they have to be consistently high standards of quality. And the second, and this truly is differentiating, is the level of service that we provide to our customers. There aren't many industries left on the planet that have tied sales forces, servicing their customers day-to-day. And actually, med tech is different from pharma in this space because, actually, our customers want our people working with them, they're not trying to screen them out from being with them. And that, of course, means a lot of our costs are in headcount costs. So there is inflation pretty much everywhere in our business, and there is downward pressure from payers on our top line. So at the end of the day, the composition of the savings within APEX doesn't matter so much to me as the fact that we're delivering margin progression at the bottom line, which has been elusive for this business. And so I'm not going to get into a detailed breakdown of fine distinctions between what's eliminating cost inflation and what's genuinely year-over-year reducing costs. I'm just going to say it's going to feed through to real meaningful margin progression.

I guess where I was coming with it -- or from with it, rather, was I was trying to understand how much of the $160 million comes from generating the same revenue of lower costs and how much of it comes from generating more revenue of the same costs.

Yes, I mean, again, it's a great question and I understand why you're asking this, so I'm not going to shut it down completely. But one of the reasons why I'm not going out there with an eye-grabbing headline figure is because, of course, I can't make our business completely immune to the realities of life. And one of those is foreign exchange, as you've seen in the past; another of them is that all businesses have some sort of natural leverage in them. The point of the APEX program is intended to give us the greater confidence in delivering that margin progression in a broader range of scenarios on our top line progression. But I can't say that those savings and the quantum that falls to the bottom line is completely independent of how we build the top line. So the program is intended to deliver meaningful margin progression. I believe it will do that. It's built our confidence and a clear path delivery -- to delivery of that medium-term guidance, but there are some realities out there in our business. I hope I'm coming close to the intent of your question. In terms of the 30 to 70 basis points in 2018, how much of that comes from APEX, some, but again, I'm not going to give a specific answer. Again, we're in the early phases of the program, the benefits will build over time. What actually will make a difference to margin progression year-on-year is how many incremental benefits we deliver year-over-year. So of course, although the overall total of the benefits will be building, actually what makes the difference to margin progression is the delta year-over-year on those benefits. So some, but I'm afraid I'm not going to specify.

And I know it's 3, but maybe I'll chance on a third one. You kind of -- effectively let us know what the tax thing was in H1. You've told us what the U.S. tax issue was, but you haven't quite quantified the provision releases in H2 on the tax side. Wondering if you might do that.

I think I might need to help -- ask a friend for help on the precise number and perhaps you can take it off-line with Neil. But I mean, essentially, it was the same nature of things. We had a favorable settlement that arose as a result of expiry of statute of limitations on an audit, as well as that we had some favorable geographic mix and some of the benefits of that, overall tax planning that came through slightly more strongly than we'd expected. So those things that happened in the second half were a little more complicated than just we had a favorable settlement with the IRS. But they came about as a result of because of a statute of limitations and audit not happening and, therefore, we are able to release a provision for that. And a little bit of it was due to geographic mix. Neil, correct me if I'm wrong on that. I mean, it looks -- I'm not getting any scowling looks from my tax director, so it looks like I've got it right there.

Okay. Thank you, Tom. So let's take a question from the phone call please.

(Operator Instructions) We can take our first question from Julien Dormois from Exane BNP Paribas.

Hi. Good morning, gentlemen. Thanks for taking my questions. I have 2.5. The first 2 would actually relate to your business. The first one is on an area that you have not really touched upon in the release or in the discussion, which is bioactives, so which is to be presented as a star franchise. And now we are out of 2 years with no growth, and I know the split between OASIS and SANTYL. But do you expect that, at some point, you should recover in that place and deliver meaningful growth and what you should -- what we could expect over the next couple of years? And then the second question also relates to wound management and most specifically on wound care. Here, again, we are out of 2 difficult years in wound care. I'm just curious if you could elaborate on the share of business in wound care that is coming from the U.S., which apparently is growing nicely. And on the opposite, what is coming from Europe and give us a magnitude of what the slowdown that we see in Europe. And the last half question is just about the CEO transition. And it's not that I'm in a hurry to see you leave, Olivier, but just wondering if there's anything you would like to communicate at this stage?

Sorry, I didn't get the last question? I'm sorry...

The split between OASIS and SANTYL.

Yes. Well, on this -- let's start with bioactives, Julien. Thank you on the question. On bioactives, yes, it's a flat business in 2017, this is true. However, as we have said, H2 was growing actually; when H1 was not growing, it was decreasing. I can give you a thousand explanation of this. What I can tell you that we are having more and more good data on SANTYL. We are confident that SANTYL will continue to grow in the future at a low single-digit figure. So for us, SANTYL is settling out the 10% we're expecting years ago. Actually, the market is more and more difficult, more and more cost conscious. And so we expect to have a good dynamic mainly based on the good data that we get in terms of clinical evidence. So that's for the bioactive. Now on the wound care, what is the split between the U.S. and U.K. in terms --we don't disclose, actually, the pure split of this. I mean, U.S. is an important part, obviously, but as you know, it's not as developed in terms of wound care than what it is in Europe. In Europe, you have a very strong business of wound care, and that's why we are struggling with a negative growth in a few geographies for the market. In some geographies, we really feel the gap of the market issue by a superb performance. Why I'm confident in the future for the U.K., very simple, because in the U.K., we have exactly the same portfolio than what we have in the U.S. and what we have in France, what we have in Italy and what we have in Germany. So there is no reason, except by lack of execution, not to be able to compete and to win in this market. It is true that we have some specificities of the U.K. I mean, tender business, very cost conscious, actually, and you see the emergence of small competitors with very low price and lower quality, which are winning tenders. We're addressing this. We are dedicated a lot of resources in tender management and we're also taking the opportunity in the tenders of our large portfolio to have specific products dedicated for tenders, as well as big innovation for the rest of the market. So I'm not anxious at all about our ability to come back to growth in Europe. I'm just saying, after having seen what is happening in Q4, that it can take some time to come back and -- but you will see, Julien, a better dynamic for Smith & Nephew in wound in Europe. There's absolutely no reason not to happen.

CEO succession.

What? The CEO succession, I forgot this one. I am still so involved in this business that I forgot that I'm going to retire one day. I'm sorry. So the -- look, I'm really -- I mean, I'm in this business. I'm not at all thinking about departing. I would say that the good thing is that I gave the board a very long time, help them to find the right successor, highly qualified and the right person to drive this great company. So the board is making a lot of progress. We have a list of good candidates. Things are happening, interviews are happening also, and they will take their time to find the right person. So that's what I can tell you. But so far, so good.

We have 1 more -- 2 more questions from the room, and the first one is Alex Gibson from Morgan Stanley.

(technical difficulty)

Can you hear me now?

Yes, we can. Yes.

It's Alex Gibson from Morgan Stanley. The first one is on the APEX program. Is this program an internally designed program or did you use consultants to help benchmark best practice?

Okay, so the answer is, as a whole, it's an internally designed program. Actually, when Graham came on board a year ago, I've asked him to work on this because I was a believer that we had a number of good opportunities. Then I asked Matt to think about the manufacturing footprint and the manufacturing warehousing distribution. Why? Because Matt, since 2015, has dramatically changed the quality of our operations. And I didn't want to start the program of simplification without having something strong. I mean, good roots. And I think that what Matt has done in manufacturing, whether it is because you're very modest in that, actually, in terms of supply chain management, in terms of customer, in terms of quality. And you have mentioned quality, the FDA warning letters that we had in '14 and '15. I mean, these are -- touch wood, but I mean, it's really, really good now. So once we have this, then we can start an APEX. Now coming back to your point, which is do we do that internally or do we use consultants, most of it, I would say, 90% of it is internal. We are using few consultants to help us on very specific things, particularly in Matt's area. But I mean, it is mainly internally driven.

And that's for the design. In terms of the execution, is that as well going to be 90% internal?

Yes, absolutely.

Okay, and my second question is on the Enabling Technologies business. The ArthroCare acquisition was meant to restore growth in the business through new technology biz, but the business is still, overall, in a bit of a decline. Can you identify the 2 or 3 things that you think of went wrong over -- since the acquisition was made? And what's going to unfold over the next 2 or 3 years to hopefully improve that business' growth rate?

It's funny you said that, because we did review yesterday with the board the postmortem of our deals during the last 5 years, including all the small Emerging Markets business one. I mean, ArthroCare is extremely successful, I mean, in terms of return for the company, in terms of value creation for the company, in terms of dynamic for the company. I just want to put emphasis on 2 things. A, it has been, for us, a tremendous reservoir of portfolio opportunities. WEREWOLF, for example, is a good example of a fantastic product coming from ArthroCare. The COBLATION hydro frequency, cold temperature is also something which is obviously a very strong thing, not only for this but also for ENT, also, in our portfolio. I mean, the joint repair as a whole is doing fantastically well, with devices coming from ArthroCare and from our own portfolio. So I mean, I don't believe that it is not bringing us what we need. It has given us a lot of energy, it has given us in many countries, including in the Emerging Market, a very strong market share and a very strong position. I remind you, we are #2 in the world for rheumatoid arthritis, with a market share which is, correct me if I'm wrong, Phil, now about 25%, 26%. So it's very strong dynamic here. Now yes, we are facing issues with low-cost competition, okay. This is true in COBLATION RF. Yes, we are facing issues in our own portfolio of product, which is the mechanical resection with the blades. Yes, that is true. So I think it's -- it is not -- you cannot say it's advancing. Now with the strength we have, we have also the Rotation Medical acquisition, which will, I believe, be a very strong booster of the growth of Sports Medicine as a whole. So I mean, I'm confident that Sports Medicine will be high single-digit business growth in the future. So for me, it's not at all an issue, even if we have had this slowdown in AET.

So we have one more question. I'm sorry, Phil, just get me a paper. We have one more question on the phone and then we go back to the room.

Next question is from Yi-Dan Wang from Deutsche Bank.

Yes, so just a couple of questions. The first question is on your new head of R&D, not quite new anymore, but nevertheless, a new addition to your team over the last year or so. Just commenting on if you can comment on what attracted you to him? And what progress he has made on your R&D initiatives and when we could see some visible benefits of his work. And I'll have another one after that.

Okay. Thank you. So I mean, we have a great head of R&D. Vasant has been able to bring us process, to bring us relations. When I say relations, internal relations. I mean, R&D was very isolated within the divisions in the past. Now we have a global visible R&D working on not only as a silo but working with Matt Stober. As Matt mentioned, in terms of potential of development of the product and manufacturing capability of this, is working with Brad Cannon, our Head of Global Marketing, very early stage to work on clinical evidence, to work on health outcome data and so on and so forth. So this is really the work and we have a very good process and global marketing also, by the way. Now it has been able to give us more rigor in the management of the programs. So we are -- we have built actually a new committee, not that I like committees, but this one I think is a good one. It's called product innovation board that we meet every quarter. I chair this committee with Vasant as the cochair. We are reviewing every quarter all the programs, all the new opportunities. And Vasant has been able to work on the, very strong now with finance, actually, on the NPVs of the project. On the timing, we have clear explanation with the delay. We have some project that we are boosting because we believe they are extremely strong. So we are pushing and putting more resource in that. So I mean, I think it's a lot of things. But globally, professionalism, innovation, mindset, and I really think Vasant, who came by the way from Medtronic in the past, came to Smith & Nephew because I think he believe that there was a lot of things to do there, a lot of attractive things to do. I think he had a good background to help us on this. He has been able to bring in some very good talents. We are working on digital, so is Vasant. Vasant has hired someone in digital. As you know, it's one -- because we look at R&D with 3 legs, I would say. One is tomorrow, so what do we do for the next 2, 3 years. We look at R&D in the next 10 years, and this is also something that Vasant has been able to do, which is bring in people who are thinking long term. Thinking long-term means investing, for example, in sensors, in digital for the wound care business, working on digital solution as a whole. And who also work, this is the third leg, with the venture fund, where we have also a process of investment, saying that we want, for example, to grow to cartilage because we believe that cartilage repair will become the state-of-the-art in 10 years. Which may be right, may be wrong, I don't know. But I think the point is instead of having us developing that internally, we use resources to put bets on startup, on small companies, with the right of first refusal or the right of acquiring the company later on. And so this, I think, gives us a full scope of today, tomorrow and after tomorrow possibilities.

So just a follow-up for that. So when I look at your business -- I've looked at your business obviously for many, many years and have seen a lot of new products come to the market. And most of those products, other than PICO I think, are actually products with just slight improvements versus the prior generation product. Do you see in your industry scope for more substantial innovations in new products that the company could introduce in the next 3 to 5 years? Or is it just a function of industry that would be kind of somewhat limited to what we have been seeing in the past?

I'm sorry. Understand, I don't fully agree with your statement. I think that we have obviously been able to launch life cycle management, I would say, products. But I mean, believe me, and I can give you a number of example, and I'm going to give them to you just to refresh your memory. We have been able to launch OXINIUM, which is a fantastic coating, which is in 30 years we're claiming that nobody else has. We have been able to launch PICO, which was the first portable efficient negative pressure wound therapy. We have been able to launch JOURNEY II. And the JOURNEY II, I would say, between the BCS, the CR, the XR and so on. We have been also the inventor of new business models like the mid-tier in the Emerging Market, which is doing very well. So -- and I can give you -- and WEREWOLF is another one. So I mean, it's not only -- and I even don't talk about the dressing. But I think it's -- it is not very visible maybe, and maybe we don't communicate enough on this one, but believe me, we have been able to bring disruptive technology to the market. And this is the start of the game. We are having, in our portfolio today, some fantastic products, which will really bring disruptions in the market. So I understand what you say, but I think we should not just focus on life cycle management that really what makes the difference. And I think that JOURNEY II makes a big difference. We have today also been able to find this MolecuLight distribution agreement, which I think is fantastic. I mean, we have been able to acquire -- and we are the first one after Stryker and MAKO to go to Blue Belt technologies and start with the NAVIO system. NAVIO also, which is today used for the knee, is going also to extend its scope to potentially the hip or potentially Sports Medicine. I mean, we have Leaf technology is another example of something, which for pressure ulcer, is changing the game. So I mean, I'm going to stop here because we can talk hours about this. But it's really something which I am very strong and think we are a disruptive company and we have disruptive technologies, and we will have more and more of disruptive technologies in the future because of the efficiency of our R&D and the great drive of our new head of R&D.

So here in the room. Yes, Inês.

Inês from Bank of America Merrill Lynch. Just one last question. In order to achieve your sort of midterm guidance, would you ever or are you considering divesture of businesses that you see underperforming even if they are small and not visible to us?

Well, we are -- first of all not to achieve our guidance, that's not the point. But we are permanently looking at the portfolio. You remember -- I mean, we did the spin-off of our biologic division years ago, Bioventus. We did the spin-off recently of Gynaecology business, which was more than $300 million last year. So it's a permanent thing that we have in mind. I mean, we have obviously looked at every single business we have from the recon to the wound to the ENT, everything. So -- and it's a permanent process that we organize with the board because I think it's a very important thing to do. At this stage, we do not think that there is anything in our business today which important thing that we need to divest. The ENT business is doing well. We're evaluating this as part of the global evaluation, but we're pretty happy with what is happening. We're pretty happy with the portfolio of products coming on this one. So if things are going well, you know what, there's no reason to do it. So for the moment, it's not in the air.

Done? Okay, well thank you very much for your attention, and all the best.

Thank you.