Steris Plc (STE) — Q1 2025 Earnings Call Transcript

Thank you, Joe, and good morning, everyone. As usual, speaking on today's call will be Mike Tokich, our Senior Vice President and CFO; and Dan Carestio, our President and CEO. I do have a few words of caution before we open for comments. This webcast contains time-sensitive information that is accurate only as of today. Any redistribution, retransmission or rebroadcast of this call without the expressed written consent of STERIS is strictly prohibited. Some of the statements made during this review are or may be considered forward-looking statements. Many important factors could cause actual results to differ materially from those in the forward-looking statements, including, without limitation, those risk factors described in STERIS' securities filings. The company does not undertake to update or revise any forward-looking statements as a result of new information or future events or developments. STERIS' SEC filings are available through the company and on our website. In addition, on today's call, non-GAAP financial measures, including adjusted earnings per diluted share, adjusted operating income, constant currency organic revenue growth and free cash flow will be used. Additional information regarding these measures, including definitions, is available in our press release, as well as reconciliations between GAAP and non-GAAP financial measures. Non-GAAP financial measures are presented during this call with the intent of providing greater transparency to supplemental financial information used by management and the Board of Directors in their financial analysis and operational decision-making. With those cautions, I will hand the call over to Mike.

Thank you, Julie, and good morning, everyone. It is once again my pleasure to be with you this morning to review the highlights of our first quarter performance. Our discussions today will be focused on results from continuing operations. As you saw in the press release, we started the year strong with total revenue growth of 8% in the quarter, constant currency organic revenue growth of 6% driven by volume, as well as 270 basis points of price. Gross margin for the quarter increased 30 basis points compared with the prior year to 45.1%. Positive price and favorable material costs were somewhat offset by inflation. EBIT margin decreased 20 basis points to 22.3% of revenue compared with the first quarter last year. Increased compensation and higher insurance costs are impacting EBIT margins. The adjusted effective tax rate in the quarter was 21.3%, lower than the prior year due to favorable discrete item adjustments. Net income in the quarter was $201.7 million, and adjusted earnings per share was $2.03, a 10% increase over last year. Capital expenditures for the first quarter of fiscal 2025 totaled $108 million, and depreciation and amortization totaled $112.7 million. Capital expenditures were higher year-over-year, mainly due to timing. With the closing of the dental divestiture on May 31st, we were able to pay down debt, reducing total debt to $2.3 billion. Total debt to EBITDA at quarter end was approximately 1.6 times gross leverage. Free cash flow for the first quarter was $195.7 million. Free cash flow was impacted by the timing of capital spending. Last week, we announced our 19th consecutive year of dividend increases. Our quarterly dividend increased $0.05 per share from $0.52 to $0.57. With that, I will turn the call over to Dan.

Thanks, Mike and good morning everyone. Thank you for joining us to hear more about our first quarter performance and our outlook for the rest of the fiscal year. As you heard from Mike, we had a strong start to our new fiscal year. Looking at our segments, Healthcare constant currency organic revenue grew 5% in the quarter. Our outperformance in consumables and services continues to be driven by procedure volumes in the U.S. as well as price and market share gains. It is our expectation that recurring revenue will continue to grow above procedure volumes and relatively independent of our capital equipment shipments. Over half of our consumables and service revenue is not related to our capital equipment. As anticipated, our Healthcare capital equipment revenue declined in the quarter against challenging comparisons. However, we still anticipate low single-digit revenue growth for Healthcare capital equipment for the full fiscal year. We remain confident in our expectations of a strong year for our Healthcare segment. Turning to AST. Constant currency organic revenue grew 8%, the best performance we have seen in over a year. Supporting that growth, Europe MedTech grew nicely in the quarter and bioprocessing was about flat year-over-year globally. We are pleased to see these two factors playing out as planned and continue to anticipate a return to growth in bioprocessing revenue in the second half of our fiscal year. Constant currency organic revenue growth for Life Sciences was 4% in the quarter, driven by strong growth in consumables. As expected, the divestiture of the CECS business on April 1st impacted our as-reported revenues. For the full year, we are reiterating our outlook, including 6% to 7% constant currency organic revenue growth and adjusted earnings per diluted share of $9.05 to $9.25. Our expectations for free cash flow also unchanged at about $700 million with approximately $360 million in capital spending. All-in, we are pleased with the start of the fiscal year. Trends continue to head in a positive direction for all of our segments and we are confident in our ability to deliver on our full year guidance. That concludes the prepared remarks for the call. Julie, would you please give the instructions so that we can begin the Q&A.

Thank you, Mike and Dan, for your comments. Joe, can you please give the instructions for Q&A and we can get started.

Hey guys, good morning. Thanks so much for taking the questions. Just wanted to start off on Healthcare capital equipment. I'll repeat my question a little bit since it sounds like you already kept kind of the directional low single-digit guidance for the year. I'm just curious how the first quarter compared versus maybe your internal expectations? And then what drives the step-up in trends through the year?

Yes, I would say that it was right in line with our expectations. There's always orders that ship, slip one way or another in terms of our general outlook for the year remains unchanged and typically with last year being the exception, Q1 is our slowest quarter in capital shipments. It’s a New Year in terms of sales and sales commissioning and it generally is our lowest quarter. But tough comps to last year as we were still pushing through an enormous backlog as a result of some supply chain and manufacturing challenges that we were having in the comps.

And then just on the rest of the Healthcare segment, it was really nice to see some of the double-digit growth trends continue in services and consumables more than offset at least for our model, the miss and capital equipment. I mean, you mentioned market share gains, healthy market activity. Is there anything else that you would call out just driving the continued trend that we've seen in either of those segments?

We reiterate the fact that most of those products and services that are consumables are recurring in nature of procedural driven. And as we've seen the continued rise in sustained growth of procedures, in particular, in the North American market. We've been lifted in that area by market in general. But as you're well aware, we've punched above our weight for the last couple of years in capital sales. So having those new placements out there, having that access from a sales perspective has helped fuel our ability to take a little share as part of our total enterprise solution selling process, where we're really working with the large IDNs and large healthcare systems to take the full value of STERIS.

All right. Got it. And last question for me. Just touching on operating margin, I know 1Q is sometimes a little bit seasonally lower, but just given that it was down 20 bps year-over-year. I'm curious if you could give a little bit more color that you touched on a couple of the high-level drivers there. And then if you still expect to demonstrate a level of year-over-year operating margin expansion for the full year FY 2025? Thank you very much.

Yes, certainly, Brett. Yes. As I spoke with my comments, we definitely did have some increased compensation year-over-year in Q1, which negatively impacted our margins. And we did have significantly higher insurance costs in the quarter. Everybody looks at EBIT margin. I mean if you look at EBIT dollars, EBIT dollars were up $20 million. So obviously, we're not getting the leverage that we anticipate, but it's Q1. We still anticipate that we will drive positive EBIT margin leverage for the full year as we talked about last quarter.

Yes. Following up on the discussion about inflation, it seems that while the situation with material components has improved, the labor side is still under pressure. Is that correct? Do you expect the labor situation to improve this year? We've noticed that unemployment rates are starting to rise. Or is it still quite challenging to hire and retain employees?

Yes. The situation with compensation and labor often reflects changes that take several months to manifest. These changes accumulate over time. I don't expect compensation to rise significantly going forward. Our staffing ability and turnover have improved considerably, indicating that we are managing the situation effectively. We are simply adjusting to the labor rates established over the past several months as we transition into this new fiscal year.

I wanted to get an update on the Life Sciences business as a medical device analyst. It seems like it's been a little slower, and I’m curious about the outlook and what you are observing in the market.

Yes. We've definitely seen some slowdown in demand for capital problems, and that's a result of some of the decreased funding and some of the cutbacks that we've seen in general pharma and bio pharma over the last six, nine months and there is some natural cyclicality to those purchases. However, having said that, we're showing strong growth in our services businesses and have been more importantly, in our consumables business, which drives a disproportionate amount of the income through the Life Science segment. So we feel confident in our ability to continue to deliver on those aspects.

Okay. Thank you.

Hi. Good morning. Thank you for taking my question. I apologize for bringing this up again, but I find it difficult to believe the Healthcare capital equipment guidance of low single-digit revenue growth for this year, especially considering where the first quarter ended up and what we see from the backlog. Over the past 90 days, I assume you've received this feedback, and I would like to hear your thoughts on it. What are we missing in our models and why? You might think I am a poor analyst or have a flawed model, which could be true, but I really struggle to reconcile this. Are you expecting bookings to be significantly higher for the remainder of the year compared to what we have been observing in terms of dollar amounts? Any additional insights would be helpful.

Mike, I don't think you're a bad analyst or model or by any means. The problem is the model got broken over the last 18 months in terms of how it normally has operated historically. And we ended up having a lot of backlog and a lot of large project orders. What we have now, now that manufacturing and supply chain is back in control back to normal lead time levels is the ability to sell a lot more on the turn business, which is something we weren't really able to do over the last 18, 24 months where we were much more challenged. So we're confident in our ability, even with a lower backlog to be able to turn product and get it installed in our customers by the end of fiscal year.

Appreciate that. A follow-up on AST. Obviously, you see kind of a continuation of the higher growth rate here. I heard positive comments out of Europe. As you look forward to the rest of this fiscal year, are capacity expansions, and you've obviously been investing a lot of growth dollars here to expand your fleet and network. Are capacity expansions expected to be differentiated growth contributor here to AST over the next year or so? Or would you say that bid as normal relative to the last few years?

I would say it's normal. It's a long-term strategy, and you can't really compare the expansions as same-store versus new store because most of our expansions involve adding new capacity to existing locations. We view this as a continuation of the historical growth we've experienced.

Thank you.

Good morning. This is Mac on for Jacob. Just following up on the Life Sciences side of the business, there. I think this is important tied to injectable drug demand, and we are seeing a number of capacity additions in this end market. In the near-term, I know, there are some headwinds that you called out around capital spending, but are you seeing any issues in the injectable market at this point?

We are seeing a favorable trend that is helping to counterbalance some of the challenges in the industry. The injectables market aligns well with our expertise in aseptic manufacturing and complements our products related to chemistries, critical environments, and barrier solutions. We have established relationships with several major manufacturing customers, which positions us well in this area.

And then you'd previously announced some supply chain initiatives. I think you're working on moving to some larger suppliers. How is that going? And do you expect any margin impact and looking forward?

Yes, but it's a long-term strategy. It will take time to establish and evaluate those suppliers and get everything organized. The long-term goal is to enhance our scale and value from our manufacturing operations over time. However, the most crucial aspect is ensuring a reliable supply. One key lesson we've learned over the past year and a half to two years is the importance of partnering with the right suppliers.

Thank you. Appreciate the color.

Hey, good morning, everyone. Apologies upfront here. I'm going to come back to this Healthcare equipment topic. I know you don't provide exact numbers on orders, but I think all of us back into your order book based on the revenue and the backlog figures that you do provide. So I guess I'm wondering if we can go one step further beyond the Healthcare equipment revenue guidance of low single digits. Can you remind us or help us with what your assumptions might be for order growth this year? And are you anticipating Healthcare backlog to move higher or lower from where we are at the end of the first quarter?

Yeah, I would say that in our assumptions, the order growth would be mid-single digits, and we would have backlog somewhere in that $350 million range, but it could be lower than that easily. That is just a target that we have. But the big thing that we really need to do, as Dan spoke earlier about, is really have the opportunity to get and tackle the turn business that we did not have the ability to do that with our lead times coming down significantly, that's really the driver. And that's something that you guys really can't see what we're doing and how we're doing it. And as Dan said, the model has been broken. And obviously, we're doing everything we possibly can to get back to more sustainable model that we were used to and when capital equipment wasn't such a large conversation in the past, right?

That's helpful, Mike. I have a couple of follow-up modeling questions for you. Apologies if I missed it, but you mentioned some discrete items in the interest other line that showed a significant difference from our model. Were these included in the original guidance, and can you provide any additional details on that? Also, regarding the 21% tax rate for the period, is that the rate we should be considering moving forward, or were there one-time events that brought the rate down lower than expected in the first quarter?

Yeah. On the tax rate, there were some favorable discrete item adjustments that were one-timers that definitely pushed the rate lower. I think our full year guidance still calls for 23% year rate. I would stick with that at this point in time. And we did pick up a little bit of benefit on the interest line year-over-year, as we were able to use the proceeds from dental sale much more quickly than we anticipated. So we got a little bit of favorable benefit. But again, those are pennies here and there. It doesn't really change our full year outlook.

Okay. Helpful. Thank you.

You're welcome.

Hey. Good morning. Can you hear me?

Yeah.

Yeah.

Thanks. Just where we look at the BD ad that you guys did, does that sit primarily in consumables, in the Healthcare business like from a mix standpoint? And I think you said it was similar margin to your core, but I just wanted to reconfirm that.

Yes, on both. It is classified as consumables in our Healthcare mix.

90%, Dave is in consumables in the last time that that, containers are there in the capital bucket.

Yeah.

Thank you for that. And then, I think, you have a restructuring plan underway. And I don't recall exactly the size or the timing. But any detail on that?

Yeah. We had announced last quarter that we had a $100 million restructuring plan. The bulk of that was for a closure of 1 of our manufacturing facilities. That will continue to occur throughout this year. We've got about a $25 million benefit coming from that, but the bulk of that benefit will happen in fiscal year 2026, not in 2025.

Great. And last one and I saw the increase in the dividend, obviously, 19 years is a pretty good track record. But as you look at M&A and share repo, I guess, some other capital priorities, anything changed on that front given what we're seeing out there and maybe even the valuation of some the smaller peers in the space?

No. I mean, our investment priorities remain the same. And we don't really talk about forward-looking M&A. But we have a history of being active and obviously, we're in a good position in terms of debt. And if opportunities present themselves over the coming years, we will obviously do what we normally do.

Thank you.

Yeah.

Just one more, please, for the model. The interest in other line, I heard the discrete items called out in the quarter. What is a good number with your pro forma balance sheet now for that line on a quarterly basis for the rest of this year?

On a quarterly basis, I don't have that in front of me, but for a full year basis, we're still looking at about $100 million in total.

Sure, we can discuss that later. I appreciate it. Thank you.

Yeah. I just don't have it in front of me, Mike.

Thanks.

Thanks, everybody, for taking the time to join us this morning. Look forward to catching up with many of you, in the coming days.