Ladies and gentlemen, thank you for standing by, and welcome to the Integer Holdings, LLC Q3 2019 Earnings Call. [Operator Instructions]. I would now like to hand the conference over to your speaker today, Tony Borowicz, Senior Vice President, Strategy, Corporate Development and Investor Relations. Thank you. Please go ahead.

Thanks, Rob. Good morning, everyone, and thank you for joining us, and welcome to Integer's Third Quarter 2019 Conference Call. The call is being webcast live and a replay, along with a copy of the press release and earnings presentation will be available on the Investor Relations section of our corporate website. The results and data we discuss today reflect the consolidated results of Integer for the periods indicated. During our call, we will discuss some non-GAAP measures. For a reconciliation of these non-GAAP measures, please see the appendix of today's presentation and the notes to the financial statements in today's earnings Release. As a reminder, today's presentation includes forward-looking statements. Please refer to the company's SEC filings for a discussion of the risk factors that could cause our actual results to differ materially. Joining me on the call to discuss our third quarter results are Joe Dziedzic, President and Chief Executive Officer; and Jason Garland, Executive Vice President and Chief Financial Officer. On today's call, Joe will provide his opening comments. Jason will then review our financial results for the quarter, and then provide updated full year 2019 guidance. Joe will come back on for his closing remarks, and then we'll open it up to your questions. At this point, I'll turn the call over to Joe.

Thank you, Tony, and good morning, everyone. I'm pleased to report that Integer delivered another strong quarter of earnings and cash as we execute our strategy to win in the markets we serve and achieve excellence in everything we do. We delivered 4% growth in adjusted EBITDA and 14% growth in adjusted net income on flat sales. We paid down $36 million of debt and we expect our debt leverage to be below 3x by the end of the year. Our third quarter results give us the confidence to once again increase our full year profit guidance. We have increased the midpoint of our full year adjusted EBITDA guidance by $3 million and the midpoint of our adjusted earnings per share guidance is now $0.25 higher. The midpoint of our new EPS guidance is $0.45 higher than our original guidance at the beginning of the year. We are executing our strategy and it is delivering strong results. Our full year sales are still within our original 2019 guidance, despite the end of life of our electrophysiology program, the recent decline in the neuromodulation marketplace and the change in our fiscal year-end. Our full year guidance remains unchanged at 4% to 5.5% growth, which is within the growth rate of the market. Our quarterly sales are not linear, and this variation is our reality as the medical device outsourcer as the timing of our sales do not link directly to the daily flow of medical procedure volumes. Our sales are buffered by the inventory that our customers hold, which can cause quarterly shifts in volume as inventories are adjusted. We believe it is easier to predict volumes over a long time period than in any single quarter, which is another reason why we emphasized the rolling four quarter view of revenue.…

Thank you, Joe. Good morning, everyone, and thank you again for joining our call. I'll start with a review of our third quarter adjusted financial results. Third quarter sales were flat to prior year at $304 million. I'll provide more details on our sales results during our product line reviews. Adjusted EBITDA increased 4% on a reported basis and 1% organically. We delivered $40 million of adjusted net income or $1.20 of adjusted earnings per diluted share, up $0.14 or 13% on a year-over-year reported basis. To provide some additional detail on our adjusted net income growth, let's turn to Slide 9. Our third quarter adjusted net income increased $5 million year-over-year, up 14% on a reported basis on flat sales. This growth was generated by operational improvements and productivity, driven by traction in our manufacturing excellence strategic imperatives and strong operating expense management, both continuing to offset price and inflation headwinds. In fact, our adjusted SG&A was down $600,000 year-over-year, including covering the unfavorable $2 million impact from the expiration of our transition service agreement with Viant. Foreign exchange was favorable due to a currency headwind last year that did not repeat. And we reduced our interest expense by $2 million through our debt and interest rate management. And though we continue to benefit from strategic tax planning and reported an adjusted effective tax rate of 15.7% in the third quarter of 2019, this was higher than last year's 14.3% that included a discrete benefit from stock compensation. Year-to-date, our adjusted effective tax rate is 17.6%, and we have lowered our full year guidance to a range of 17.0% to 18.5% from the previous guidance of 17.5% to 19.5%. Now let's turn to a review of our product line sales results. As a reminder, Slide 11 reflects trailing four…

Thanks, Jason. This slide summarizes our strategy to win in the markets we serve and achieve excellence in everything we do. We developed this strategy during the second half of 2017, we've built out the multiyear plans during the first half of 2018 and formally launched this strategy in September of 2018. So we are just now entering the second year of executing our operational strategy. We have been making the necessary investments in both human and financial capital to ensure the successful execution of our strategy. I told you back in May about the two new business presidents, Joel Becker and Carter Houghton, as well as the internal promotion of Jen Bolt to the leadership role of our Global Operations and manufacturing excellence. During the third quarter, we made additional investments by adding more lean manufacturing and business process experts to further accelerate our plans. We've strengthened our manufacturing leadership with several leaders who bring deep experience and expertise in lean manufacturing, strong automation and robotics backgrounds and medical device manufacturing experience. In addition to the two new leaders, we continue to make the necessary investments in our operations to develop and expand both capability and capacity to support our product line strategies. We anticipate investing approximately $50 million in CapEx this year to support the innovation and growth in our strategy. Additionally, I'm happy to say that we have hired Elizabeth Giddens as our General Counsel and Chief Ethics and Compliance Officer. Her expertise in the areas of securities law, mergers and acquisitions and corporate governance bring the skills we need to accelerate our strategy. The Integer executive leadership team is now complete. Our full year guidance is to grow sales 4% to 5.5%, increase adjusted EBITDA at twice the rate of sales and grow adjusted EPS by…

[Operator Instructions]. Your first question comes from the line of Matt Mishan from KeyBanc.

I get there's inherent volatility in your business, but you're also the largest CDMO. Your customers are booming. And I feel like you and the new management team have made significant positive changes to your business and to your relationships with your customers. I mean, I guess the question is, are you seeing enough tailwinds to your business and the changes you've made to kind of push through a potential headwind next year from neuromodulation and still deliver that mid- single-digit market growth.

Matt, Matt, it's a great question. So we're absolutely making tremendous strides with our customers to ensure that we are their first choice for outsourcing their medical device manufacturing needs. And I believe we're beginning to get into the pipeline of those deals and those products that take longer to get designed in to go through clinicals or qualification and then position us to accelerate above the market. Right now, where we see ourselves is we've achieved the goal of growing profit at twice the rate of revenue. There is still more work to be done to get sales to grow above the market, which we've said all along will take longer. And the reality is with the neuromodulation market, as best we can tell, the spinal cord stem piece of that market has declined mid-single digit in the first half of this year. We're just looking at what the industry players are reporting, and we have not felt the impact of that this year because of our supply agreement. So we're still growing high single digit, low double-digit in our neuromod business. We think that's about a $10 million of revenue that's over and above that market growth rate and we do see that as something that is a potential headwind next year. As we look into 2020, we're kind of assuming a flat neuro market, kind of the end markets. If the market growth rate is faster, that would obviously help us offset some of that $10 million. In the absence of that, we do see about a $20 million year-over-year headwind. The rest of the business is still growing at about the market rate. And until we can see a pipeline of deals and products that we believe are going to push us to be above the market rate, that's the market rate or extra growth rate that we'll have. So we look at the neuro decline as a market reality, so the market rate, in fact, has declined this year. And the benefit for us is we won't feel that impact until next year, which maybe, to your point, gives us time to work to address that. But we're not immune to the markets that we serve, and we do see the neuro market decline this year after growing in the strong double-digit range.

Okay. And then you also talked something new here year about sort of the breadth of your neuromodulation customers, which included a lot of -- I don't want to call them early stage companies, but a lot of early commercialization type stage customers. Have those progressed as you've expected this year, as they expected or has there also been some modest slowdown or moderation in their expectations.

Great question, Matt. We have not seen any change whatsoever in that segment of the market. We've seen most of the decline in the spinal cord stim. The companies we're working with that are early stage all the way through their clinicals and working on commercialization plans, we continue to be extremely excited about the growth prospects. And we're making the necessary investments in capacity to ensure we can support their growth. And we're working with a number of those customers that we feel have the potential to drive meaningful growth in the market and for us. And we will incorporate that in our future guidance as those plans firm up.

Okay. And then on the margin side, first off, the EP product that's rolling off, was that a margin-accretive or dilutive product for you? And then as you move forward into 2020 and '21, how durable are some of these improvements you're seeing kind of moving forward?

So the -- given the size of the EP program, it's not a meaningful impact on the margin rate. It's not meaningfully different from the total enough to have an impact. And it's also not meaningful enough dollars on the $300 million quarterly or $1.3 billion total year revenue to have a mix impact. So it's not really impacting the rate much. With respect to your question about the durability of our margin expansion, we feel it's very durable. We feel that we sit here today, we're in the sixth quarter of our manufacturing excellence and strategic imperative. We launched it in July of 2018. So we've got 5 quarters under our belt. We're in the sixth quarter. We feel that's going to continue to be durable. It'll continue to build, and it's going to enable us to continue to expand margins, and we expect to be able to grow profit at twice the rate of revenue going forward. So we feel as though we've achieved that critical element, the financial element of our strategy in terms of the increased profitability and cash flow that allows us to reinvest more aggressively in the business. So we see ourselves growing at twice the rate of revenue for profit going forward.

Okay. I have two more, and I apologize to the people who are behind me, but I'm going to ask it anyways. First off, how interested are you in another leg of the stool. And I'm specifically asking a strategic question around potentially building out a diabetes platform, it would seem to align very well with your customers and it's an area of growth in devices?

Great question, again, Matt. What I can say about our strategy at the moment is we launched our strategy in September of last year. We are very focused on executing this strategy and ensuring that we get revenue to be growing faster than the market by at least 200 basis points. And when we do that, we create the capacity to make bigger investments and to branch outside potentially of our existing markets that we serve. But to your point, we do think about and explore and contemplate what are some other adjacent products in the medical device industry, where we think we could bring a point of differentiation. But I can tell you, for the near term, we're very focused on executing this strategy and demonstrating that we're growing 200 basis points or more above the market, growing profit at twice that rate, and then that earns us the right to place bets in other areas.

Okay, got it. And lastly, when you -- in your revenue that's exposed to the energy patch in Electrochem. It seems like some of your customers are -- and it seems like some of the producers are actually kind of manufacturing or producing very productively and not necessarily investing a ton in CapEx here. How confident are you that the nonmedical piece can sustain at current level and not have a drop-off in 2020.

Yes. One of the interesting developments in the energy market is our customers, they seem to have become much more responsive to changes in market demand. The recent disruption in Saudi Arabia in supply was almost immediately met with additional supply from other parts of the world. And so there really wasn't a sustained price increase in oil. And it seems as though our customers in that space have adjusted their investment -- their investment strategy to react very quickly, much more quickly than they have in prior cycles. So we expect there to be a much less pronounced -- both decline or growth during the future energy cycles. And as we look at the market, we see it softening a little bit, but we're also confident given some of the new products that we're introducing in that space and some opportunities that we have that we'll be able to grow above that market. But we're not seeing, looking for the same magnitude of spike and decline because the customers seem to be reacting much more responsively to the slight changes in that sector. Right.

And your next question comes from the line of Jim Sidoti from Sidoti & Company.

Apologize in advance, I'm trying to listen to two calls at once and that never goes well. But it seems like from what you guys have reported that you're basically on track with a lot of the initiatives that you've put in place over the past couple of years. The one question I had for you -- two questions I have for you is the revenue guidance for the year implies double-digit growth in the fourth quarter. What ticks up there so much?

Yes, if you look at the fourth quarter, number one, we've got -- we still have a couple of extra days versus last year, despite the fiscal year change that we made. So that's a lift for us. The -- we've talked about the end of life electrophysiology program, that drag lessens in the fourth quarter. We've also highlighted the significant growth that we'll see from neuro. CRM has got a low comp from last year. And then we also highlighted just the strength we see also AS&O and the Electrochem product line. So we really just have a lot of things going in the right direction. The great news, Jim, is that the plants are -- and factories are geared up to execute the backlog we've got. So we're looking for a strong sales quarter for 4Q.

Okay. That was the one question. The second question is, you've made a lot of progress on the margins. You made an acquisition in the quarter, do you take a little bit of a step back as you integrate that? Or do you think you keep going with the same momentum that you've had so far?

Jim, we expect to keep going. It's a small bolt-on acquisition. It really brings deep expertise for us in complex braiding, nitinol heat setting testing, lectropolishing and some other capabilities, but it's really about adding capability. It's today a small operation with de minimis sales, but they're in the pipeline for a number of products with our customers that are really exciting for us and for US BioDesign. So we don't expect any impact whatsoever on our ability to continue executing on our manufacturing excellence to drive the margin expansion and keep the momentum that we have going.

[Operator Instructions]. And we have no further questions. I'll turn the call back to Tony Borowicz for closing remarks.

Thank you, Robin, and thanks, everyone, for joining us on today's call and your continued interest in Integer. Please note that this conference call will be available for replay on the website -- Integer website. Thanks again. That concludes the call. Happy Halloween and be safe.

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