Waters Corp (WAT) 2017 Q2 法說會逐字稿

Good morning. Welcome to the Waters Corporation Second Quarter 2017 Financial Results Conference Call. (Operator Instructions) This call is being recorded. If anyone has objections, please disconnect at this time.

It is my pleasure to turn the call over to Mr. John Lynch, the Vice President of Investor Relations. Sir, you may begin.

Thank you, operator, and good morning, everyone, and welcome to the Waters Corporation second quarter earnings conference call. Before we begin, I will cover the cautionary language.

During the course of this conference call, we will make various forward-looking statements regarding future events or future financial performance of the company. In particular, we will provide guidance regarding possible future income statement results of the company for the third quarter and full year 2017. We caution you that all such statements are only predictions and that actual events or results may differ materially. For a detailed discussion of some of the risks and contingencies that could cause our actual performance to differ significantly from our present expectations, see our 10-K annual report for the fiscal year ended December 31, 2016, in Part 1 under the caption: Risk Factors, and the cautionary language included in this morning's press release and 8-K.

We further caution you that the company does not obligate or commit itself by providing this guidance to update predictions. We do not plan to update predictions regarding possible future income statement results except during our regularly scheduled quarterly earnings release conference calls and webcasts. The next earnings release call and webcast is currently planned for October 2017.

During today's call, we will be referring to certain non-GAAP financial measures. A reconciliation of the non-GAAP financial measures to the most directly comparable GAAP measures is attached to the company's earnings release issued this morning.

In our discussions of the results of operations, we may refer to pro forma results, which exclude the impact of such items as those outlined in our schedule entitled Quarterly Reconciliation of GAAP to Adjusted Non-GAAP Financials included in this morning's press release.

Unless we say otherwise, references to quarterly results, increasing or decreasing, are in comparison to the second quarter of fiscal year 2016. In addition, unless we say otherwise, all year-over-year revenue growth rates, including revenue growth ranges given on today's call, are given on a comparable constant currency basis.

Now I'd like to turn the call over to Waters' Chief Executive Officer, Chris O'Connell. Chris?

Thanks, John. Good morning, everyone, and thank you for joining us today. Along with John Lynch, joining me on this morning's call is Sherry Buck, Waters' Chief Financial Officer.

During today's call, I will provide an overview of our Q2 and year-to-date operating results as well as some broader commentary on the business. Sherry will then review financial details for our reported results and provide an update on our full year 2017 financial outlook. We will then open the lines for Q&A to take your questions.

Jumping right in, I am pleased with our second quarter results, where we delivered growth in all 3 of our major customer-defined end markets of pharmaceutical, industrial and governmental and academic. In addition, product sales were balanced, with steady growth in our recurring revenue and our core LC, LC-MS and thermal analysis systems.

Geographically, we continue to see strength in Asia and Europe, with slower demand in the Americas, though with improving trends in the United States.

Overall, second quarter revenues grew at 5% against the strong base of comparison in the second quarter last year. Year-to-date, our sales are up 6%, also against a strong comparison, led by solid growth in our pharmaceutical markets and a continued improving demand from our industrial end markets.

Looking at our P&L, disciplined operating spending and operating efficiencies resulted in operating leverage and, therefore, adjusted earnings per share growth of 11% in the quarter and 13% year-to-date. Additionally, we delivered another record quarter of free cash flow.

Taking a closer look and starting with a review of our market categories at the corporate level. Sales to our broadly defined pharmaceutical category grew 4% in the quarter against double-digit growth comparisons in the prior year.

Pharmaceutical demand continues to be driven by macro trends of rising global regulatory standards, increasing worldwide patient access to medical therapy and growing volume of more demanding biologic drug testing.

For the first half of the year, overall sales for our pharmaceutical markets were up 6% against a strong prior year performance, with balanced growth from small molecule quality control testing applications and large molecule research workflows.

Sales to our worldwide industrial category, which includes the materials characterization, food, environmental and fine chemical markets, were strong and balanced in the second quarter, growing at 7% against a strong performance in the prior year. This result continues the positive momentum we saw in the closing months of 2016 and the first quarter of 2017.

Year-to-date, sales in our industrial category were up 8%, representing a strong first half to the year. As we see continued evidence of a cyclical recovery in global industrial demand, we believe we are well-positioned in our chosen markets.

Looking at our governmental and academic category, we saw sales grow by 5% in Q2, driven primarily by an improvement in Asian and European markets related to environmental and medical research applications. As we've discussed before, the governmental and academic category is a small percentage of our overall business and quarter-to-quarter growth can be highly variable given the nature of purchasing activity and our product mix, particularly in the United States. That said, we are starting to see signs of increased activity with U.S. government-funded accounts.

Now I will review product line dynamics within our Waters and TA brands. Waters' branded instrument sales grew 3% in the quarter and 5% year-to-date. We continue to see strong growth from our ACQUITY Arc, a system that scientists -- a system for scientists working with established methods who are looking for the versatility and robustness required to bridge the gap between HPLC and UPLC while continuing to support validated assays. Benchtop, LC tandem mass spec systems, including our recently introduced higher-end Xevo TQ-XS, as well as the popular Xevo TQ-S micro, continued to grow solidly in the quarter and year-to-date, primarily in food safety and biopharmaceutical applications.

Overall, we continue to see mass detection adopted for broader uses, such as routine pharmaceutical and biopharmaceutical applications, including strong utilization of both ACQUITY QDa and the TQ-S micro. These market trends are driving our strategy to integrate LC and MS technologies along with advanced informatics in chemistries into true system solutions.

While not a new theme for Waters, enhancements to our LC-MS workflows and improving the characterization of biologic drugs was an emphasis at this year's American Society of Mass Spectrometry conference in Indianapolis, which I personally attended.

As you are aware, recurring revenues, the combination of service and precision chemistry, now represent approximately 50% of our business. During the second quarter, we saw 7% growth in recurring revenues, driven by global strength from both service and chemistry offerings. Year-to-date, our chemistry and service businesses have grown at 6%, indicating continued high utilization rates for the installed base of Waters instruments.

Turning to our TA product line. We are encouraged by the 6% growth for TA products and services in both the quarter and year-to-date. Instrument systems for TA grew 8% in the quarter, led by our new Discovery line of thermal analyzers that we began to introduce in 2016. Material scientists rely on TA for the highest performing instrumentation and the new Discovery line embodies the most advanced thermal analysis technology for superior measurement outcomes.

Finally, I will review our performance by geography at the corporate level. As you know, we have a globally balanced portfolio and Asia now represents our largest region in terms of revenue.

In the quarter, Asia grew 14%, again led by China, which grew even faster. And also, included double-digit sales increase -- increases for both India and Japan.

Our China operation saw solid growth across all core markets. Within the pharmaceutical category, growth drivers continue to include new regulatory requirements from China's Food and Drug Administration. In the industrial category, China experienced strong growth across our materials characterization, food testing and environmental customers.

Japan benefited from balanced sales growth from pharmaceutical, industrial, governmental and academic markets.

Turning to the Americas, sales declined by 3% in the quarter with our U.S. sales down 2%. Macroeconomic and government policy uncertainties appear to be affecting general business activity in the United States.

While we are off to a slower-than-anticipated start, we did see improved trends in the U.S. in Q2 versus Q1. We anticipate that our sales growth will continue to improve throughout 2017 based on an outlook for more normalized customer spending and as year-over-year comparisons become more favorable.

Europe was a strong contributor again with second quarter sales growth of 5% overall. Europe growth was led by pharmaceutical and in government and in academic customers, with product sales generally balanced across our instruments and recurring product lines.

Summarizing the state of our business through the first half of 2017, I am pleased that we are delivering strong mid-single-digit revenue growth with operating leverage. Additionally, our double-digit earnings per share growth is tracking above our historical average.

Our key growth drivers of global pharma demand, Asia markets generally and the consistency of our recurring revenues remain intact. And I am especially encouraged with the robust balance of our growth combination, including the improvement of our overall industrial end markets.

Stepping back and looking at the bigger picture, I believe our strong and consistent results validate and reinforce the 5 elements of the Waters value creation model that we outlined at our Investor Day held in March of this year. We hold a unique leadership position in structurally attractive markets. We have a clear growth strategy driven by organic innovation. We see opportunity for continuous operational improvement. We are a disciplined capital allocator, and we operate with a performance-oriented culture and management team.

Finally, I would like to update you on a few key changes within the Waters organization. First, in support of our ongoing efforts to lead the industry in innovation, we have integrated our Waters-branded product groups into a single R&D organization under the leadership of Ian King. This important change combines our technology centers, including LC, mass spec, precision chemistries and informatics. This move is driven by our transformational engineering vision that Ian introduced at our Investor Day, as well as our strategic plan that emphasizes integrated workflow solutions for our key customer-defined business segments. Ian is an experienced, broad-based, technical and business leader with particular expertise in chemistry and instrumentation.

Furthermore, this combined Waters global products group provides a strong complement to the existing Waters global markets group under the leadership of Mike Harrington, further emphasizing our focus on high-value work flows and delivering on the needs of our increasingly global customers.

At the board level, we recently introduced and welcomed our newest director, Flemming Ornskov, Chief Executive Officer of Shire plc, a leading global biopharmaceutical company focused on serving people with rare diseases and other highly specialized conditions. Dr. Ornskov's broad global experience in the biopharmaceutical industry combined with his passion for improving human health positions him to make significant contributions to our growth strategy and makes him a great addition to our diverse and experienced Board of Directors.

With that, I'd like to pass the call over to Sherry Buck for a deeper review of the second quarter financials. Sherry?

Thank you, Chris, and good morning, everyone. We recorded net sales in the second quarter of $558 million, an increase of about 5% before currency translation, which reduced sales growth in the quarter by about 1%. This resulted in 4% reported sales growth.

In the quarter, pharmaceutical markets grew 4%, our industrial markets grew 7% and sales to academic and governmental customers were up 5%. Product line growth was strongest in our recurring revenue with a combination of precision chemistry products and service revenue growing 7%, while instruments sales grew 4% in the quarter.

Breaking that down further, sales relating to Waters' branded products and services were up 5%, while TA's grew 6%.

Combined, LC and LC and MS instrument platform sales increased by 3% and TA's instrumentation system sales grew 8%, as we continue to see the benefits of new product introductions. Our total recurring revenues associated with both Waters and TA products grew by 7%.

Looking at our growth rates in the second quarter geographically and before currency translation, sales in Americas were down 3% with sales in the U.S. declining 2%. European sales were up 5%. Sales in Asia were up 14%, led by double-digit sales growth in China, India and Japan.

Now I'd like to comment on our second quarter's non-GAAP financial performance versus the prior year. Gross margins for the quarter were solid, coming in at 58.9%, consistent with the second quarter of 2016. Positive mix dynamics and product manufacturing efficiencies were offset by approximately 80 basis points of currency headwind.

Moving down to the second quarter's P&L, operating expenses were up 3% on a constant currency basis. Foreign currency translation reduced operating expense growth by about 2% on a reported basis.

On the tax front, our effective operating tax rate, before the effects of the new stock compensation rule, for the quarter was 14.7%. This is the result of the mix of our legal entity profits in the quarter.

Including a $0.05 benefit from new stock option accounting rules, the non-GAAP effective operating tax rate was 11.9%. In the quarter, net interest expense was $6 million, down slightly from prior year.

Our average share count came in at 80.8 million shares or approximately 700,000 shares lower than in the second quarter last year. This is a net effect of our ongoing share repurchase program.

During the second quarter, we bought 430,000 shares of our common stock for $77 million. Our non-GAAP earnings per diluted share in the second quarter were up 11% to $1.76 in comparison to earnings of $1.58 last year.

On a GAAP basis, our earnings were $1.63 versus $1.57 last year. Both our non-GAAP and GAAP earnings include a benefit of $0.05 resulting from the new stock compensation accounting rules.

The impact of foreign currency translation in the quarter on earnings per share was a negative $0.02, bringing the full year impact to neutral. A reconciliation of our GAAP to non-GAAP earnings is attached to our press release issued this morning.

Turning to the balance sheet. Cash and short-term investments totaled $3.1 billion and debt totaled $1.9 billion, bringing us to a net cash position of $1.2 billion. We define free cash flow as cash from operations, less capital expenditures and excluding special items.

In the second quarter of 2017, cash flow was strong and came in at $159 million after funding $17 million of capital expenditures. Modest improvements in working capital efficiency and disciplined capital spending contributed to our cash generation.

This represents both a strong quarterly performance and year-to-date growth of approximately 14%.

Accounts receivable days sales outstanding stood at 75 days this quarter, which was down 1 day compared to Q2 of last year. In the quarter, inventories were approximately flat in comparison to the prior year quarter, which was in line with our expectations.

As we look forward to the balance of the year, I'd like to share our full year and third quarter 2017 guidance. Our outlook generally assumes continued global growth and demand from our pharmaceutical and industrial end markets and consistent growth in our recurring revenue. Bringing this all together, we continue to expect a strong mid-single-digit constant currency sales increase for the full year, which we consider to be in the range of 5% to 6%.

At current rates, currency translation is assumed to reduce full year 2017 sales growth by about 1%. Our outlook for gross margins for the year is consistent with our previous guidance in the range of 58.5% to 59%. Higher volume and manufacturing efficiency gains are expected to continue to be offset by negative effects from foreign currency translation.

Our plan for the full year is to continue managing operating expense growth at a rate that is less than our sales growth. Moving below the operating income line, net interest expense is expected to be approximately $23 million.

We estimate our full year tax rate, including an expected benefit to EPS of $0.18 due to stock option accounting rules to be about 12%. This is comprised of the $0.14 benefit realized year-to-date plus an assumed amount of $0.02 in each of the remaining 2 quarters of this year.

Quarter-to-quarter variation is a result of the timing of actual stock option exercises and our stock price. We will continue to provide a reconciliation of this item for the remainder of 2017.

Our guidance regarding capital allocation assumes continuation of our share repurchase program through 2017 at a rate that will result in an average diluted share count of about 80 million shares outstanding.

Rolling all of this together and on a non-GAAP basis, full year 2017 earnings per fully diluted share are projected to be within a range of $7.30 to $7.45.

At current rates, foreign Currency is assumed to negatively affect full year earnings per share growth by approximately 2%.

Looking at the third quarter of 2017, we expect constant currency sales growth of strong mid-single digits.

At today's rates, currency translation is expected to reduce third quarter sales growth by about 1%. Combining these top line factors with a moderate increase in expenses and assume $0.02 of tax benefit due to the new accounting standard and an estimated 4% to 5% negative impact to adjusted EPS from currency translation at current rates, we estimate third quarter earnings per diluted share in the range of $1.68 to $1.78.

Now I'd like to turn the call back to Chris. Chris?

Great. Thank you, Sherry. As we move to 2017, we will continue to emphasize execution in our core businesses and delivering on our operating performance objectives.

As always, we will strive for balance in our results, and we will seek to cover unexpected changes in our assumptions with the breadth of our growth opportunities.

Additionally, as we have stated consistently, we will seek to balance growth, operating leverage and investment in the business.

With that, we'll now open the phone lines for Q&A. (Operator Instructions) And if you have additional questions, please contact our Investor Relations team after the call.

Operator, first question, please.

Our first question comes from Steve Willoughby from Cleveland Research. (Operator Instructions)

A couple of questions for you. First, Chris, if you could just explain a little bit more about what you're seeing in I guess, both the U.S. as well as with your pharma business. I heard your comments, you're seeing some incremental positive signs in the U.S. and expect better trends in the back half of the year. Can you just talk a little bit about what you think is holding things up so far in the first half of the year? And how you think that might be changing in the back half of the year, and if that's related to your growth with pharma? And then I just have one follow up.

Sure, yes, happy to address those and those are 2 related, but different questions. So I'll just start with the U.S. question and really the broad U.S. market and the patterns we saw in the first half. Clearly, I think, when we look at the U.S., we're looking at both the broader business environment but also our comps, where -- which were strong in the second quarter here. The U.S. business environment is clearly seen across multiple markets, not just pharma. And we do believe there is some holding back due to the uncertainties with government policy, et cetera. Some companies are holding back and some companies are investing elsewhere. Clearly, the U.S. is a little slower right now, and Europe is a little faster. As you point out, U.S. was actually better in Q2 than Q1, not exactly where we want it to be, but clearly heading in the right direction. And I think just looking at broad trends and the order book and demand, I would say that I'm cautiously optimistic that the U.S. will normalize. We think the demand is still there and are assuming some improvement in the back half of the year in the U.S., but certainly not assuming a strong big bounce, but we are assuming some improvement. As it relates to pharma, and I think the best way to look at this picture is globally and is with the rolling trends, the quarter that we had in pharma I think reflects timing in comps. Recall that a year ago in the second quarter, our pharma business worldwide grew 12% with strong comps, in particular, in Asia. And I think that if you look at the slightly bigger picture of say, a rolling 6-month or a rolling 12-month, our year-to-date pharma is up 6% and our last 12 months in pharma is up 8%. And so I think when I look at pharma, I think pharma is healthy, and I think it's balanced on strong comps. So looking at the back half, I think it's on track and expect at or above historical trend lines on a strong base from 2016. So that's how I'd characterize the pharma picture overall.

Okay, that's very helpful, Chris. The quick follow-up I had is just going back to comps. I know you're going against, I believe, negative comps in your TA business in the back half of the year. And so given the stronger instrument trends here in the second quarter, how are you thinking about the TA business overall and for the TA instrument going into the back half of the year based on what you're seeing out there in the comps you have?

Yes, thanks. On TA, I'm pleased with the TA in the year they're having. They've been solid in the first couple of quarters and as we've talked about in the event of a cyclical recovery in industrial demand, TA is very well positioned with their new product family, the Discovery series. And so I was actually just out of TA a week ago with their worldwide management team, and I think the team is looking at the back half of the year with those factors. And hopeful we'll continue to see good end markets and good contribution to the growth of the company.

Our next question comes from Derik from Bank of America.

It's Derik De Bruin. Just to -- Sherry, can you just clarify one accounting question and then I'll ask a more broader question. On the accounting question, so if the stock-based comps track -- tax treatment for the second quarter, your prior guidance was $0.02. When you updated last time, it was $0.05, this quarter it was incremental $0.03, is that I'm looking at that?

That's correct.

Okay, just want to clarify that. All right. And then you called out strong Japan, which is the first time I have actually heard anybody say strong Japan, those words in a long time. Can you just sort of elaborate that and just also talk a little bit more about India. I know you're facing some tougher comps in that market as well. Can you sort of elaborate on that as well?

Sure, Derik. Put both India and Japan and the broader category of Asia and as I pointed out, we really feel good about Asia. It's our largest geography in terms of revenue contribution. It's been growing very steadily. Japan, as we talked about last quarter, had a little bit of a soft Q1, but that was, as we talked about, somewhat timing related in the later stages of what typically can be fiscal years in Japan and a tough comps and as that -- as some of those factors normalized in Q2. We saw good solid performance actually in each of the end markets in Japan. And so Japan historically has been a relatively consistent and very reliable generator of modest growth and profitability. We still expect that modest growth going forward, but are glad to see them post a solid quarter. As it relates to India, I think we're continuing to see consistency out of India really on the backs of the generic drug industry. We have a strong competitive position, as you know, in India and the growth rates we're seeing there in the double digits really in the mid-teens, continue to validate the economic engine that India is and in terms of providing the generic pharmaceutical base for many markets and there, it's just a consistent performance on instruments, on service, on chemistry. And we've got a very strong team there and expect to continue to see good things out of India.

Is that India market most -- still mostly Alliance or has it shifted to ACQUITY yet?

It's mostly Alliance. It's mostly well-established HPLC methods there in India, but we are beginning to try to see some opportunity for ACQUITY Arc. But also keep in mind, in India, the Empower chromatography data system backbone for regulated methods is really the key factor. As you know, regulatory standards in India have been rising. FDA has been taking a more active interest over the years in factories in India for the exporters into the U.S. market. And the Empower business has really solidified our leadership position there.

Our next question comes from Doug from Cowen Company.

Chris, in Q1, U.S. biopharma revenue growth was weak. You attributed this to slow budget releases, but at that point, noted that trends had improved at the end of Q1 and in early Q2. Based on your U.S. growth performance for the quarter and pharma growth performance, it's not obvious that the trend of improvement that you described carried through the quarter. So the question is, did revenue tail off at the end of the quarter in the U.S. relative to what you would have expected given the early momentum you described? And if so was this (technical difficulty) pharma.

So to answer your first question, Doug, about pharma, I think when we're in the first quarter, keep in mind, it's our smallest quarter, and we're hyper focused on early trends out of the gate, and so we do in the first quarter, tend to look a little more at that balance through the quarter. But with the benefit of looking at our first half, I think we tried to point out in my commentary that the trends in the U.S. are probably more reflective of the broad economic backdrop and questions and uncertainties in the U.S. that many companies are facing and so don't want to get into too many details around the shape of revenue in the middle of the second quarter. But it is true that our second quarter was definitely better in the U.S. in pharma and in other markets than in Q1. And so we are hopeful and cautiously optimistic that there is a normalization pattern emerging. We're watching it very, very carefully and to the last part of your question, the U.S. phenomenon in terms of a market backdrop did affect all markets, not just pharma.

Okay, yes, I know that's helpful because I'm just trying to reconcile what you described in an encouraging way about trends improving, but also the fact that you are highlighting the uncertainty related to Washington having an impact at the end of the quarter or seemingly over the course of the quarter maybe more so than maybe you would have expected coming out of Q1. So I'm not sure there's more to say there, but that's why I'm drilling in here.

Yes, I know that -- and it's a good question. And I think it's fair to say that this -- there is a clearer picture, as we said, halfway through the year of that broader governmental policy backdrop. And the good news is that we have a lot of levers to pull to continue to deliver numbers and even with relatively modest contribution from the U.S.

Okay, one more quick one, Sherry, you bumped up EPS guidance by I think it's $0.075 at the midpoint for the year. How much of this was the Q2 beat, how much of it's FX? I guess I'm just looking for a bridge between old guidance and new guidance.

Yes, so it is about an 8% difference between our last guidance, and I would characterize it, the $0.08 as FX and the stock option favorability we had in Q2 and then FX favorability we're looking at.

Our next question comes from Paul Knight from Janney Montgomery.

I know you guys have been doing a great job on the operating margin improvement, but you've been really not manufacturing in the Chinese market. Are you thinking about footprint? Is there more margin according to how and where you manufacture? I'd love some color on that.

Sure, Paul. Yes, I know we're very pleased with the P&L and think that the strong P&L that we showed for the quarter and for the year-to-date demonstrates that consistency and resiliency of our model. And I'd further note that we are able to deliver that P&L while -- for the year-to-date so far, we're actually growing our R&D 9% on a constant currency basis, so we're investing for the future while continuing to get the operating leverage through good efficiencies operating wise and in G&A. In terms of the manufacturing base, as we've noted before, Paul, we have a very balanced geographic footprint on manufacturing with our biggest centers in the United States, the U.K., Ireland and Singapore. We do not have any manufacturing in China, but we certainly have a very global supply chain and continue to work that to gain ongoing efficiencies and continuous improvement in our costs.

Could you just talk to China a little bit more in depth, like was it the manufacturing for Biologics? Was it the government, academic or industrial, what was -- any of those 3 areas stand out, Chris?

Sure. Yes, China was very balanced. In fact, it's important to note about China that China is probably a more balanced market than almost any of our major markets in terms of its contribution, where our worldwide mix is maybe 60% pharma or just under 60% pharma in China. It's 10 points less than that. Furthermore, we've got our strongest concentration of our food testing business in China versus any major market. If I look at the quarter, the growth was very balanced. In fact, perhaps the highlight of the quarter in China was the industrial business. We had a huge comp in pharma for a year ago in China, and I do want to quantify that too much, but we had good growth in pharma in China of an enormous comp. But really in the quarter, the star of the quarter in China was our broad-based industrial business.

Our next question comes from Dan Arias from Citi.

Chris, I just wanted to touch on the competitive dynamic inside TA, if I could. Just sort of curious about -- on the new product introductions, whether the team feels like it's taking part in a broader portfolio refresh across the industry or whether you are sort of more off cycles so to speak. I don't mean to be out of left field with the question here. I'm just -- I'm trying to understand how much the new Discovery line up is kind of poised to stand out in a market that's clearly improving.

Yes, it's a good question. I'd rather not comment on competitive launches because I just don't have the inside as to how people stage those, and so forth. What I can talk about is Discovery, which is a pretty significant leap forward in both performance but also cost. It's a wide ranging portfolio across different modalities of thermal analysis and like any launch in the analytical instrument field, it does take time to get traction. And so even though we had launched the DSC and the TGA last year, I think we're only beginning to find our sea legs in those products and still have additional modules to go. And as we do that, we really define, as we say, winning the measurement in the field and are confident in product superiority. And furthermore with a platform that's been engineered with great attention to tearing, but also scaling technology and platform so that we can get profitability enhancements. And so our TA business with that additional growth is just a terrific profit generator for the Corporation.

Got it. Okay. And then, maybe Sherry, on the gross margin outlook, you noted the effect of currencies. I'm just wondering if you can just touch on the impact that you think new products are having on the gross margins as those ramp. I think that was something that you touched on a little bit at the Analyst Day, just curious how you're thinking about that as an offset.

Yes, so as we look at our gross margins, I look at FX impact, as I mentioned in the quarter, it was about 80 basis points. I'd say we are going to continue to see some impact of FX for the year as a headwind, probably in the range of 80 to 100 basis points. And I'd say as far as new products, when you look at our overall Waters' results and the portfolio, I wouldn't say it was a big contributor to the gross margin.

Our next question comes from Tycho Peterson from JPMorgan.

Chris, you've talked about the government uncertainty here as being a bit of an overhang in the U.S., but to Doug's question earlier U.S. pharma got a bit better. Seems like academics improving a bit. So is that overhang mainly on the industrial side? And then as we think about where U.S. is improving in the back half of the year, how much of that is more academic versus an industrial pickup?

Yes, Tycho, it's a important question and certainly the -- I think our results at least, looking at our different categories, show that this overall backdrop and environment is affecting most businesses. My comment on better than Q1 reflected the U.S. business overall, but specifically pharma, which was not quite positive, but definitely better than Q1. And so I think what I look at is the underlying tone of demand in the market. I talked to a lot of customers, as you know, and try to get into this dialogue. And when I look at the combination of the demand, which I still think is there, certainly in some cases global companies can move some of that demand to other parts of the world which we do see a little bit off. But there is probably some holding back and the combination of that in our order book gives me, I'd say, some cautious optimism that we should see a continuing pattern of improvement, and hopefully, in the back half of the year, see U.S. in positive territory.

And can you touch on the demand in Europe. The results were solid there. Can you just talk on where they are in terms of the replacement cycle versus maybe some of the U.S. pharma counterparts?

I don't -- the question to replacement cycle, as we talked about our -- at our Investor Day, is not really a major factor in the business. And it's not clear that there's any evidence that a replacement cycle demand affected demand in Europe and Japan or any of these markets. Really, owing to the very broad diversity of today's biopharmaceutical market, so I think the trends we saw in Europe and Asia were evidence of solid growth out of the developed markets. And that growth does tend to move around a little bit between the U.S. and Europe and Japan. And I think that reflects the global nature of our business. We have plenty of examples where multinational companies ordered in Europe but not in the U.S., or ordered in Japan but not the U.S. And so the way I look at the business is more broadly at those developed markets. And if you look at trends for pharma in the developed markets, they've been pretty steady quarter-to-date, year-to-date in that kind of low single-digit way, while the emerging markets is a strong double digit, solid double-digit type growth picture. That's a slightly different way of cutting the business, but probably gives you a little more flavor as to what the global picture looks like.

And then just if I could ask one last one. There's been a lot of changes on the CRO side in terms of consolidation in that phase. Any change in demand from other than CROs? And then also we've heard about a bit of a slowdown on the bioprocess side from Sartorius and others. Is that something you've seen from your biotech customers as well? Any change in events?

No. I'd say it's probably too hard to piece out any particular CRO or CDMO trend. As you allude to, there is clearly a robust contract business out there. It's one we're well aware of. We've been a leader in and continue to prioritize. And yes, there is some consolidation, but really the underlying volumes in those type of operations continues to be, as they were, and we don't see consolidation necessarily affecting that in the near term. In terms of bioprocessing, I would say that I wouldn't accentuate any unusual trends in our bio area. Keep in mind, most of our business in biotech is in the development stage. And we're excited about that because that portends greater volumes as some of that type of testing moves into the more routine operation workflows later in the cycle. So our perspective is probably a little more narrow there in the development phase.

Our next question comes from Tim Evans from Wells Fargo Securities.

So Chris, I hear you on the comp on the pharma, but even on the stack comp basis, it did decelerate off of Q1. And I think we're all trying to just get a sense for like what was driving that deceleration. And then another way to think about it is just, you said that you felt comfortable that, that was going to kind of maintain trend line. The trend line really in pharma has been high single digits, so what should we be thinking about in terms of growth for that market going forward?

Sure. Fair question, you're right. Our recent trend line has been up in the high single digits in '16, pharma was 10%. Like I said, rolling 12-month pharma is 8%. We did head into -- we are heading into a period here of Q2 and even Q3 with very strong global pharma comps. But when I say trend line, Tim, recall, I'm referring to more of the long-term trend line of the pharma market, which for us has been in that 6% range. And so as we talked about at the beginning of the year, as we look at the year, we always kind of revert back to our broad historical trend lines, maybe not the near-term trends, but the broad longer-term trends. And in pharma, that's more in that 6% range. Certainly, as it relates to stack comps, in Q1, the last 2 Q1's, the stack comp is 9% and the last 2 Q2's, stack comp is 8%, so that's been more of a near-term phenomenon. But, as you know, we don't always assume everything goes right. And we forecast more of a long-term trend line for that and that I would say is where we're looking at for the year we're in now.

Our next question comes from Jack Meehan from Barclays Capital.

Chris, I was wondering if you could elaborate a little on the comments related to the industrial demand, what you're seeing in order trends? And what's embedded for growth in the end market through the end of the year?

Sure. Just to -- Jack, to reiterate on the industrial side, we, again, had a really solid 7% quarter, just to give you a sense on the broader picture now year-to-date, we're growing industrial at 8% and the 8% is also the growth of the industrial business for the last 12 months. And so recall, we had come into the year after some lesser consistency, we'll call it, in the industrial markets in '15 and '16, hopeful that some of the backdrop would improve. We have a very diversified industrial business, as you know, between materials characterization, food, fine chemicals, et cetera. And so far, the way the years played out is we're very much benefiting from that industrial picture and that's a real positive for Waters. Again, as I've said a few times, one of the things that I really like about our model and the resiliency and consistency of our model is the fact that we have multiple levers to pull and not every quarter plays out exactly like you think it's going to play out, but the fact that we're getting such good balance from our industrial end markets is a real positive for the company right now.

Great. And just to follow-up, may be within Europe the growth there, outside of the biopharma customer class, is there any commentary around Western versus Eastern Europe? Any pickup in the eastern side of the continent?

Yes, I mean I would say the Europe business, we're very pleased with in terms of its consistency and balance. And I would say, to your question that we are seeing some encouraging signs in Eastern Europe, albeit Eastern Europe is much smaller than Western Europe. We definitely saw a nice pick up in the Eastern Europe business to create a picture in Europe that's pretty well balanced across most markets there.

Our next question comes from Isaac Ro from Goldman Sachs.

Wanted to ask a couple of long-term questions as it relates to where you're going to expand your end market opportunities. First off, I was just curious if you had an update on health sciences initiative. You said that you can take some of your technology into more clinical diagnostic settings, kind of curious how you're thinking about that. And then secondly, on large molecule drug production to the extent that that's a growing part of the drug pipeline. Interested in your latest thoughts and how do you monetize your technology for QA/QC in those markets?

Sure. Thanks, Isaac, appreciate the question. As it relates to health sciences and, in particular, clinical diagnostics because there's a couple of different pieces of what's been traditionally referred to as health science. I, as you know, in the strategic process tried to separate some of the more medical research applications around OMEX and some of the really leading-edge technology from the clinical diagnostics question, which is a different one in a regulated market. Those markets are smaller for us as we pointed out. Our top priorities are of course, pharma, materials and food. I think we continue to see intriguing long-term upside and another growth engine to light at some point, but we've not disproportionately shifted investment in that area. We think technology is going to take some time to evolve in those markets, and we're being patient with that, I'd say. We do have, as you know, some very differentiated technology in that space around direct ionization mass spectrometry, and we're very committed to leading the science in that area. At some point that could turn into a big business opportunity, but it's not in the near term. But that's how I'm thinking about it. Meanwhile, we're beginning to build capability. We've made some strong hires in the area of quality and trying to make sure that we do all the right things in the near term to position for longer-term opportunity. As it relates to the manufacturing in large molecule and really the production side, I guess what I'd say, Isaac, there is our focus is really on all phases of biopharma. I think the opportunity we see to move routine mass spectrometry measurement into more routine work flows is a huge opportunity. And that's why you've seen us really lead the market in technologies like the QDa and Xevo, TQ-S micro, where we can achieve a great balance of sensitivity, size and value and reproducibility, so that companies can introduce assays for multi-attribute monitoring and more sophisticated measurements in routine operational workflows. And I think that's really where our focus is. At the investor conference, you heard us talk about the BioTOF program as an example of that, which is really our first signature move in our transformational engineering program, which is now backed up by a really bold organizational move to pull that off. So I think we're doing all the things we can do to make sure we're delivering technology to that segment over time.

That's helpful. Maybe just a follow-up, on the -- on both of those initiatives, as we think about the like the long-term kind of cadence of new flows, is it something where we might expect a more meaningful update in 2018? Or is this more of a 3- to 5-year thing? Just kind of curious about how you're thinking about manifesting some of these opportunities with investors.

Yes, I'd say starting where I ended the previous comment with, I think we, hopefully, were helpful to investors in talking about this vision for transformational engineering at our investor conference and backing that up when an example of a product system. There's, obviously, more where that's coming from and those type of product milestones and system milestones coming out of that philosophy and that R&D strategy, will certainly be visible as we roll into '18 and beyond. In terms of meaningful changes or updates on the clinical diagnostics or as you called, the health science side, I think that's an area that we'll just certainly share information when we have it. But just assume for the foreseeable future, we're plugging away to service that business and trying to position for future opportunity without distracting from our #1 priority, which is investing to grow in our core businesses.

We still have a question here from Dan Leonard from Deutsche Bank.

This is Mike Sarcone on for Dan Leonard. Just had a quick question I know you said growth in India has been really strong, and you expect it to continue. Are you seeing any effect, even if it's a modest one from the implementation of the goods and service tax?

Thanks, Mike. Thanks for dialing in. You're talking about the GST tax?

Correct.

Yes, I mean this is a harmonization of state and national transaction taxes into a national system, long-term goal of creating a single market in India and to hopefully, facilitate trade across their states. We think in the long run, it should be positive. In the short run, there is not a material impact to Waters.

We have a question here from Ross Muken from Evercore ISI.

This is Luke on for Ross. Can you just talk about how the underlying core business guide on profitability has changed from your prior forecast? And what are the biggest swing factors for the second half aside from tax and FX?

The guide for the core business, I think Sherry, Luke, had been pretty detailed in terms of how some of the numbers stack up, but I -- let me just -- I'll just offer a general comment on second half guide, which is, we're solid through the first half, of course, in that strong mid-single-digit range on revenue and that's the type of guide that we're expecting in the second half of the year. And again, all of this is on strong comps from a year ago. So we're -- really believe that we're tracking to another really solid year consistent with our historical pattern. And a lot of the key drivers in the core business, as you ask, are in place; the global pharma market, the Asia market, the recurring revenues and as a number of people have asked, with the added benefit of a really solid industrial business. So as it relates to some of the questions people had on U.S., we've been relatively conservative on the U.S. recovery, and so we're cautiously optimistic that we see some normalization, not assuming any big bounds. And we think that all adds up to a solid outlook with no material changes in margin assumptions and consistent modest leverage in the P&L outside of FX and tax so hopefully that summarizes the big picture. I'm not sure if you want to add anything to that.

No. I think, Chris, that you covered it. I think our outlook for the year reinforces our overall model with a strong mid-single digits and double-digit earnings per share growth.

Good. We have may be one more or are we all done with questions?

We show no questions in queue at this time.

Well, thank you all for your great questions. And just in conclusion, we are very pleased with our results through the first half of 2017. Headlined by our ability to deliver strong organic top line growth, operating leverage and double-digit digit earnings per share growth. As we move into the back half of 2017, we remain focused on delivering results and feel that market conditions and our strong competitive position support continued success. So on behalf of our entire management team, I'd like to thank you for your support and interest in Waters. We look forward to updating you on our progress during our Q3 2017 call, which we currently anticipate holding on October 24, 2017.

Thank you very much, and have a great day.

That concludes today's conference. Thank you all for joining. You may disconnect at this time.