Good day, ladies and gentlemen, and welcome to the First Quarter 2018 ICU Medical, Inc. Earnings Conference Call. At this time, all participants are in a listen-only mode. Later, we will conduct a question-and-answer session and instructions will follow at that time. [Operator Instructions] As a reminder, this call is being recorded. I would now like to introduce your host for today’s conference John Mills with ICR. Mr. Mills, you may begin.

Thank you. Good afternoon, everyone, thank you for joining us today to discuss ICU Medical’s financial results for the first quarter ended March 31, 2018. On the call today representing ICU Medical is Vivek Jain, Chief Executive Officer and Chairman; and Scott Lamb, Chief Financial Officer. We have a presentation accompanying today’s prepared remarks, and to view the presentation, please go to our investor page at icumed.com, click on the Events Calendar, and it will be middle of your screen. Before we start our prepared remarks, I want to touch upon any forward-looking statements made during the call, including beliefs and expectations about the company’s future results. Please be aware, they are based on the best available information to management and assumptions that are reasonable. Such statements are not intended to be a representation of future results and are subject to risks and uncertainties. Future results may differ materially from management’s current expectations. We refer all of you to the company’s SEC filings for more detailed information on the risks and uncertainties that have a direct bearing on operating results and the financial position. Please note that during today’s call, we will also be discussing non-GAAP financial measures, including results on an adjusted basis. We believe these financial measures can facilitate a more complete analysis and greater transparency into ICU Medical’s ongoing results of operations, particularly when comparing underlying results from period-to-period. We’ve also included a reconciliation of these non-GAAP measures in today’s release and provided as much detail as possible on any addendums that are added back. And with that, it’s my pleasure to turn the call over to Vivek.

Thanks, John. Good afternoon, everybody. The first quarter of 2018 marked us owning Hospira Infusion Systems for a full year, and we are balancing our time between active customer dialogues to improve our commercial execution and being deeply in the midst of an integration to create a single unified company. We continue to execute well through a large volume activity, and operationally, we make progress every day on integrating Hospira Infusion Systems. Our last call was only short eight weeks ago and not that much is really new with the businesses. But on this call we did want to comment on the sequential changes in Q1 2018 from Q4 of 2017 and our current thinking around business performance trends, provide the status on our checklist of items we outlined in our January investor presentation in terms of what to expect in 2018 along with the integration work, explain our financial expectations for the near-term in 2018 and when we will affirm or revise our view of the year; and lastly, provide some thoughts on the longer term value creation at a high level from both an income statement and balance sheet perspective as the margin drivers become more evident. The short story in Q1 was very straightforward income statement results that were almost exactly in line with the previous quarter as highlighted on the last call and a balance sheet at the end of the quarter that needs a little explaining. We finished the quarter with approximately $354 million in adjusted revenue, adjusted EBITDA came in at approximately $73 million, and adjusted EPS came in at $2.26, and we finished the quarter with net cash of $279 million on our balance sheet. Pro forma revenue growth was 8% quarter-over-quarter, but please remember, we had easier comps as late 2016 and…

Thanks, Vivek, and good afternoon, everyone. I’ll first walk down the income statement, highlight key items impacting operating performance and finish with tax and the balance sheet. And as a reminder, we closed our transaction of Hospira on February 3 last year. So when comparing the first quarter of this year to last year, quarter one last year only included two months of results of legacy Hospira. So to begin, our first quarter 2018 GAAP revenue was $372 million when compared to $248 million in the same period last year. Also, please remember the $372 million and $248 million includes $18 million and $15 million, respectively, of contract solution sales to Pfizer. Adjusted diluted earnings per share for the first quarter of 2018 were $2.26 as compared to $1.68 for the first quarter of 2017. And adjusted EBITDA was $73 million for the first quarter of this year compared to $50 million for the first quarter last year. So now let’s discuss our first quarter GAAP revenue by market segment. Also as a reminder, in 2017, revenue data related to delayed closing entities was not available by product line and was recorded as other revenue. However, by the end of December, all delayed close entities were closed. So for your reference, the 2017 and 2018 pro forma unaudited revenue numbers can be seen on Slide 3 of the presentation. So GAAP sales of Infusion Consumables were $120 million versus $76 million last year. IV Solutions sales were $144 million, and excluding $18 million of contract sales to Pfizer, IV Solutions sales were $126 million versus $83 million last year. And just to reiterate what Vivek already mentioned, we continue to benefit from unique industry supply circumstances into the first quarter longer than expected. Sales of Infusion Systems were $93 million…

Thank you. [Operator Instructions] Our first question comes from Matthew Mishan with KeyBanc. Your line is now open.

Hey, good afternoon, and thanks for taking the questions. And I guess, you guys haven’t gotten rid of me yet. So I just want to make sure I understand what you’re indicating as far as EBITDA margins go. The past two quarters, it looks like you are at 21% – basically 21% EBITDA margin. It seems like you might drop down a little bit in late 2Q into 3Q from some duplicative costs then come back in 4Q. What are you generally indicating from there? Are you saying that without any kind of revenue growth, you think there’s enough room with exiting the TSAs and additional medium-term synergies to get you into the mid-20s from there? Or like I’m just trying to understand.

Welcome back. Thanks, Matt. I don’t think we put out – and we said in the call before, we’re not chasing some magic margin number, right? We want to run the best business we can. Of course, we’ve studied what other comparable companies that produce the same types of products make and they make more than our current levels. And so we would like to get there. I don’t think there’s a magic number we’re shooting for. The math I would do is we laid out what we believe the TSA savings were, what the other synergies were. We feel like those aren’t changing in our minds, right. They’re still there, they’re still real, and so even if we’ve got some temporary goodness on the revenue side in one of the business lines, if the other business keep growing and offset that over time, so as we look at those savings, we feel okay from a margin perspective. You could do the math for yourself in those synergies. I don’t want to start to think we were just like chasing a number that doesn’t necessarily built value to me, we should just try to optimize it. I don’t want to set an unrealistic or goal that leads to bad behaviors to get there.

Okay, that’s fair. And then, I guess, on the cost synergies, kind of what run rate of the $35 million are you guys – have you guys currently realized? And then if I’m not mistaken, I think you talked about medium-term synergies at some point. And I don’t want to jump ahead, but are there additional synergies behind – beyond the $35 million that you kind of have previously kind of laid out?

I’ll do the first part and then Scott do the second part, right? But I’ll do them in reverse. So there are synergies beyond the $35 million. We don’t know – we intuitively believe that because we see the business running on systems that are cumbersome and disparate and when we manage our legacy business, we operate at a very different level. Remember, ICU was a 35% EBITDA margin business in just what used to be the consumables business. Obviously, the other businesses don’t have those kinds of margins. But we see opportunities to improve beyond, but I don’t think it’s the easy stuff. It’s really the dirty work in improving your logistics network, improving your procurement process, those types of things. It’s just stuff we’re supposed to do every day. There’s no target set for those. On the first part of your question, Scott, why don’t you take a crack at that? I feel like we’ve kind of laid that out already on the blue bubbles from the Investor Presentation here, but maybe you want to say how we’re accounting it.

Yes. I think you know part of it, Matt, is really around the system integration and how we find synergies from the system integration, that’s why we’re spending so much – that’s one of the reasons why we’re spending so much time and energy on this. I mentioned on the call the shutdown of the factory in Costa Rica, for example, and that’s one of the – those synergy saving items that we talked about previously and there’s still more to come. I think that those are really more about what’s coming and what we’ve done so far.

I mean, just to give you – to Matt, to give you a more precise answer, right. If you look at the middle bucket of the one slide, you usually get $25 million that had logistics capacity, DR plant closure underneath it, capacity utilization is happening. I mean we used to talk a lot about what can gross margins be in this business, and we feel really good about what’s happened there. And so if capacity utilization plus the DR plant closure already in the run rate, commercial restructurings already on a run rate, some of the other buckets still need to get done, but it’s all building throughout FY 2018. I’m not sure we’re going to specify how much exactly we’ve captured at what point. That will be incorporated into what our view of the world is in August.

Okay. Okay. I think that’s fair. It looks like you guys are still spending $50 million in R&D in a year. You haven’t really talk about the product development pipeline a little bit. What are your top priorities there?

I don’t think we’ve ever really talk about what’s in the R&D pipeline in the last four or five years, right? So I guess, it’s not something we want to publicly make a habit of. I mean, I think being in the pump business costs significant more significantly more from an R&D perspective than being in this rate of consumables business and the features that we compete on in the pumps, and you hear all the vendors talking about on software and the interoperability, et cetera, right? That’s where the value is moving to and that’s clearly where the spend is also driving towards. The amount of money that’s being spent on the consumables business is very much in line with what we used to spend at the legacy ICU.

All right. Thank you very much.

Thanks, Matt.

[Operator Instructions] Our next question comes from Larry Solow with CJS Securities. Your line is now open.

Just to follow up on the TSA part of that question. So you still expect to realize – the nuances in the TSAs, it’s still expected to be $10 million realized this year and then another $25 million remains?

Yes, exactly

Okay. And then the synergy number…

Larry, if you look at SG&A quarter-over-quarter, I mean, yes, it was good. Gross margin expanded, but SG&A went up $10 million, right? Some of that was legal stuff, but some of that was truly duplicative costs where we’re doing it ourselves and paying the TSA. And if we’re safe and say, we’re going to ride the TSAs all the way to the end of third quarter, then we only get one quarter, but that’s still a meaningful amount.

I think soon you’re going to realize that $25 million additional next year. Is there more to that? I mean, you’ll still have some other TSA spending there, right? Is there more reductions potentially as you look out?

No. The – well, let’s take those in two parts. And Scott, correct me if I’m wrong, right? The TSA should be done, right? There may be some very limited, limited stragglers into the end of this year. The next wave is just running yourself efficiently, which just – some allows you to do, right, the same question we just talked about.

Right. And the – I don’t know if you can discuss details about the contract settlement with Cukor, I assume that’s beneficial to you guys. Is that sort of assumed in some of your synergies? Is that like assuming incremental benefit in like gross margin inevitably?

It makes – it’s not so dramatic on the P&L side. It’s just – it’s more like a logical thing, which is we shouldn’t be buying products that – we’re buying doesn’t match the end user demand, right? So it frees up cash and others things for us to do, sort of things with allocating different places.

Got it. And I know from a high level, you said things haven’t changed too much in the last six, seven weeks since you reported. But true-up, what’s the – driving sort of a little bit of a bump up in your expectations on the Consumables side?

Two things; oncology is not falling down, which has been good. It’s slowing down just in lieu that it’s a bigger business, right? You’re not getting as – the base is bigger so you’re not getting as big chunks, but it’s still running at a very nice clip. And then some of the business that we did manage to get back under contract also had consumables incorporated with it, and so that would help the last four, five months of consumables.

Okay. And then just lastly on the solutions side. I guess, hanging on a little bit more still than you thought and has anything on the macro level changed there? Is the shortage thing is improving? I guess, it sounds like you believe they are.

I think things are, which are great for the customers, right? I think it is improving. Obviously, the competitors have made very clear what they want to do. We’re happy about that, right? We, too, can improve capacity. And we think the country is well served from two healthy participants. And I think customers are realizing putting all your eggs in one basket is a high-stake thing in this category because it’s been a tough one. So I think we do think things are getting better. That’s why we’re trying to be cautious in what we assume. And we still feel like we should get to the profitability levels we want to, absent the cutover issue, right.

Right.

Even with that, I think we’ve done a reasonable job of kind of bracketing that for ourselves.

Okay, great. Thanks, I appreciate it.

Thank you. Our question comes from Jayson Bedford with Raymond James. Your line is now open.

Good afternoon. Can you hear me okay?

Yes.

Okay. A couple of questions here. I guess when you look at the quarter here, the two areas of outperformance, Infusion Systems, which I think you explained pretty well, and then gross margin. So the question on gross margin is, is this a sustainable level here? There was nothing kind of onetime-ish in that first quarter result, correct?

Scott, why don’t you give your opinion on gross margin first?

Yes, sure. So I think we – as we mentioned already, last year, we had slowed down production to consume some of this inventory that we inherited from Hospira. That’s now behind us. So we now have added fixed overhead absorption in the factories, and that’s a big part of it. Part of it also is some of the synergies that we’ve been able to capture. One of them I’ve already mentioned around Dominican Republic. And so we think that we still have more to come. And so we feel good about sort of that sustainability.

My view on that, Jayson, as we have – these are hard things, right. With one less factory and the other four are far more busier than they were last year, which is good. That’s what’s happening.

Then the sequential jump in SG&A, can you quantify the legal cost associated with that lift?

I’d rather not. It wasn’t – somewhere between 0 and half. I mean, I think we’re doing the right thing. We’re not carving – it was – it is expense we had to bear to solve this. So we didn’t want to put it, call it, a restructuring or something, it’s the right thing to do to put it in there. It’s real cash expenses for running our business, but I don’t want to pinpoint the exact amount.

Okay, okay. On the Consumables, did I hear you correctly? The expectation is Consumables revenue will grow sequentially?

I think that’s what we said. That’s what we believe today. Yes.

Okay. Is there anything just kind of bridging that with your full year expectation for consumables? I realize the fourth quarter is a little bit of a tougher comp, but is there anything in the back half of the year that would slope down growth in Consumables?

I mean, if we execute well in opportunities there in front of us. So that’s the most – that’s like the core of this whole thing, right, and the rest of this is the connecting rods around it. But that was the core business. And so I’d feel like we’re organized around that pretty well right now.

Okay. And just in terms of the International business and kind of build-out there, are there growth – and if you can, what was the U.S. international mix in the quarter? And are there opportunities internationally that you’re focused on right now?

I’ll do the qualitative, and then Scott can do the splits. It’s hard. It’s hard to get global. It was hard at pre-Hospira, it’s still hard. I think we’re doing it one place at a time. And this Australian situation, the company we bought, we closed, we’re integrating. We have good people there, and we’re starting to fight. That’s a key country. And so we’re just trying to knock it off right now, one country at a time. There’s two different conversations. There’s today’s conversation which is there’s four, five, six seven countries that drive a lot of the economic value and we need to make sure we’re getting good penetration there. Then there’s the more strategic conversation, which is some of the emerging markets that obviously offer a lot of long-term value, we don’t have stakes in yet and so we’re working on how do we do that. But you will hear the competitors talk a lot about those things. I mean, that is one of the advantages of being big. And I feel like that box is still unchecked for us at the moment. I think we’re doing a good job in the first one starting to get organized in places that drive profits, but in the more strategic longer-term ones, it’s tougher for us to have the footprint make the investments today. Scott, you maybe want to run through the economic split?

I can follow-up offline. That’s fine. Thanks guys.

Okay. Thanks, Jas.

All right, we have no further questions at this time. I would now like to turn the call back to Vivek Jain for any further remarks.

Thanks, everybody, appreciate the interest in ICU. We look forward to updating everybody the call in August and we appreciate all the support. Thanks very much. Have a great summer. Bye.

Ladies and gentlemen, thank you for participating in today’s conference. This does conclude today’s program. You may all disconnect. Everyone, have a great day.