Good morning, everyone and welcome to the STERIS plc Fiscal Second Quarter 2024 Conference Call. All participants will be in a listen-only mode. [Operator Instructions]. Please also note, today's event is being recorded. At this time, I'd like to turn the floor over to Julie Winter, Vice President of Investor Relations. Ma'am, please go ahead.

Thank you, Jamie, 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. And 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 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 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 second quarter performance. For the quarter, constant currency organic revenue increased 8% driven by volume as well as 330 basis points of price. Gross margin for the quarter decreased 50 basis points compared with the prior year to 44.3%. The favorable price was more than offset by lower productivity and continued material and labor inflation. EBIT margin decreased 130 basis points to 22.5% of revenue, compared with the second quarter last year, which reflects the decline in gross margin as well as the anticipated increase in year-over-year incentive compensation expense. The adjusted effective tax rate in the quarter was 23.7%. Net income in the quarter was $202.2 million and adjusted earnings were $2.03 per diluted share. Capital expenditures for the first half of fiscal 2024 totaled $149.9 million, while depreciation and amortization totaled $290.2 million. We are adjusting our capital spending outlook for fiscal 2024, down from $375 million to $310 million. This change reflects the timing of projects for our AST business. This change will allow us to offset higher-than-planned inventory levels, keeping free cash flow outlook for fiscal 2024 at approximately $685 million. Debt increased to $3.4 billion in the second quarter, reflecting borrowings to fund the acquisition of the BD assets. Total debt-to-EBITDA at quarter end was approximately 2.3x gross leverage. Free cash flow for the first half of fiscal 2024 was $284.7 million as we benefited from lower capital spending and a decline in cash used for tax and compensation related payments. Inventory remains elevated as we continue to focus on reducing lead times and meeting customer demand. With that, I'll turn the call over to Dan for his remarks.

Thanks, Mike, and good morning, everyone. Thank you for making the time to join us to hear more about our second quarter performance and our outlook for the rest of the fiscal year. As you heard from Mike, our second quarter continued the momentum we have experienced in our Healthcare segment for the past few quarters. Overall, we are very pleased with our performance in the Healthcare segment and is anticipated to outperform our original expectations for the fiscal year, offsetting the macro challenges impacting demand in our other segments. Looking at our segments. Healthcare constant currency organic revenue grew 14% in the quarter. We experienced double-digit growth across capital equipment, consumables and service again this quarter. This is driven primarily by procedure volume rebound in the U.S. as well as price and market share gains. As anticipated, our backlog has reduced as we were able to ship at a faster pace than new orders are coming in as we get back to normal lead times for our customers. During the first half, we saw strength in replacement orders, representing 65% of our total orders in Healthcare. We are increasingly confident in our expectations of a strong year for our Healthcare segment. Growth will, however decelerate in the second half as we face very challenging comparisons in the fourth quarter. Turning to AST, constant currency organic revenue declined 1%. While our services business grew 5%, our capital equipment business declined due to the timing of large shipments. In addition, our performance in the quarter continued to be impacted by two short-term situations; inventory destocking in the Medtech space and the year-over-year market decline of the bioprocessing customer demand. We do see very positive signs of recovery in the Medtech demand. We saw good growth in the U.S. during the quarter,…

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

Ladies and gentlemen, we will now begin the question-and-answer session. [Operator Instructions]. Our first question today comes from Johnson Jacob from Stephens. Please go ahead with your question.

Hey, good morning. Thanks for taking my questions. Maybe Dan or Mike following up on kind of the last comments and the 2024 outlook. It seems like some of the year is playing out as expected, and I appreciate the comps, but -- it also seems like Healthcare is going better than expected. Can you just talk about the other three segments and where things have changed the most? I think reading the material, Dan, maybe it seems like Life Sciences is the biggest delta since the beginning of the year, but just curious kind of how those other three segments are playing out this year versus original expectations?

Yes. I mean I think we still expect to deliver a good year in Life Sciences. It's just there's still some continued destocking going on in the space. And you see this across, everybody that's reported that sells either tools or disposables into the biopharma and pharma industries, in general. It's been announced in the last month or so that Pfizer is doing a $3.5 billion cut. And other -- some other pharma companies are sort of following suite. So generally speaking, we see -- when we see that start to happen, there'll be a short-term pullback in the industry. But the long-term outlook for biopharma and aseptic manufacturing, which is really our sweet space is really positive, and we have a great portfolio and expect to do well. In terms of the AST business, as I mentioned, we've seen a positive trend in the U.S. I think the procedures have crossed over with sort of the excess inventory that was out there in the past quarter, and we're seeing very positive growth from our Medtech customers. In terms of Europe, it's taken a bit longer for that to happen. There's been a lot of strikes and there's been a lot of labor shortages in Europe and just have not mobilized healthcare delivery in many places the way the U.S. has to date. Eventually, that will abate and even if doesn't eventually, they're going to burn down the inventories and access that they have sitting around. And I would have expected that around the time that we saw it in the U.S., I think as I've mentioned in previous calls, we expected sometime in the Fall time period. That's still the case. That could burn into the winter, I guess. But generally speaking, it's a matter of weeks or a few months, not quarters at this point. And then I think we've covered bioprocessing at length. Last year, Q2 was our high point, and then we started seeing it slowing in Q3 and ultimately sort of bottomed out by Q1 of our fiscal year, give or take. So the comps get easier for us in the second half for that in terms of our performance, especially as we get into Q4 and then next fiscal year.

Got it. Thanks for all that. Just I guess, my follow-up. Just on backlog, both Healthcare and Life Sciences down sequentially. Is it fair to say healthcare is more about kind of execution and you catching up on lead times and maybe Life Sciences a little bit at the macro or anything else you'd share on that?

Yes, no, I would say both, are just getting products out the door. We had a lot of stuff that was supposed to move out in the prior quarter in Life Sciences, in particular, that slipped till the end of the quarter and didn't get recognized until this quarter. So that's just purely a timing issue, and orders remain pretty strong. And we've just been able to get a lot more stuff out of our factories as we bring our lead times down pretty significantly. So we just had a great delivery quarter for capital and general cross-post businesses.

Got it. Thanks for taking my questions.

Sure, thanks.

Our next question comes from Dave Turkaly from JMP Securities. Please go ahead with your question.

Hey, good morning. I just wanted to ask one follow-up on the AST side. It seems like we have some companies that are saying demand is super high. They're actually like experiencing bottlenecks to get devices sterilized, and you mentioned the timing of projects for AST. I'm just curious, is there a shift going on between some of the modalities there? Or what exactly the Medtech customer inventory that you're highlighting are you seeing?

Well, like I said, we have seen demand come back really strong in the U.S. market in the past quarter, back to what I would consider sort of normalized growth rates versus what we saw for the past two or three quarters. It's taken a bit longer for that recovery to happen outside of the U.S. The plants are busy in North America, and they're not as busy I would get -- I guess, is what I would say outside of the U.S. We expect that to change in the next quarter or so.

And Dave, the shortages, I think, have been more tied to EO sterilization.

Yes.

Where our softness has been on the radiation side.

Yes.

That makes sense. And then maybe just a follow-up for Julie or the team that master filed the pilot program. I'm just curious as to what you think that means for you? Obviously, it's -- I think you said it's -- STERIS is first, but I don't know how to sort of analyze that or what you think that will mean for you moving forward?

Yes. So -- Dave, so what it does is it really gives our customers the ability to significantly improve and build much more resilient supply chains. Specifically, it allows them to switch between different modes of sterilization, whether that's EO to X-ray or gamma to X-ray or even e-beam to gamma or even to switch within our network of either our facilities or technologies without having to do a massive refile from a regulatory perspective. So products that are under 510(k) would not have to do a refile effectively. They would enter under our master file program. And then when they had their next normal sort of course of audits from the agency, they would check their records just to make sure everything was in place. But it lowers a significant regulatory hurdle, I would say, that allows customers to build a much more resiliency and also switch between technologies.

Great. Thank you.

Our next question comes from Michael Polark from Wolfe Research. Please go ahead with your question.

Hey, good morning. AST question for the back half. It obviously, the segment has the Mevex in it and you break it out, so that's helpful. Not a lot of Mevex in the front half. Can you help level set how much Mevex you expect in the back half?

In the second half, it will be less than $15 million of total revenue versus the first half, which was about $3 million. Again, not material, but unfortunately, year-over-year, the percentages are large, but the dollars are not.

Yes. Understood. No, that's helpful. And then on the AST services phasing, look, I hear all the destock comments, and it sounds like light at end of tunnel, especially in U.S. devices and bioprocess worst of it annualized in now. I'm looking at AST services in the front half, up 5% year-on-year. What's kind of a good either sequential growth rate or year-on-year growth rate to planned for in the back half?

Yes, in the second half, like we expect double-digit -- low double-digit growth rates getting back to more normalized.

In the AST services line?

AST services line, exactly.

Okay. Helpful. I appreciate that. And then the follow-up topic equipment, healthcare, it's not a metric you report, but we can do our own math, I calculate a book-to-bill, if you will for you, for healthcare equipment. It's -- it was like 1.0 last quarter. It was sub 0.9 this quarter. But -- my question is unlike the fresh order environment, and I want to set it up this way, like you have a big backlog, your -- you have been working real hard to convert the backlog and we're seeing conversion rates tick up, and that's pretty clear. I wonder about like your willingness to refill the backlog as fast? Like is there an element where are you just -- do you need to bid for new business as much at the moment right now as you otherwise would because of the backlog, and that's a dynamic. So I'm curious there and then just broadly on hospital capital spending, if you will, as we move into calendar '24, like similar seeing stresses and strains, no impact? And any thoughts on this would be great. Thanks.

Yes. Just a couple -- it's a lot. Just a couple of comments. And I would say our orders remain strong, and I mean there's so much activity out in the field in terms of our portfolio right now. And, yes, one of the positive signs I saw was the significant increase in the replacement business in the last quarter or so versus the prior few periods. And that tells me that: A, our customers have confidence. We can -- and our field also has confidence and we can deliver in a relatively short period of time with normal lead times; and B, they're willing to spend money on a lot of pent-up maintenance CapEx that hospital systems have. I've talked about this before, and that is that although the healthcare providers are not necessarily killing it financially right now, they definitely are on a path to profitability and many of them are in a good cash flow situation where there was a lot more concern a year ago. And the reality of it is as well is that our capital equipment is not -- they're not luxury products. These are capacity enablers. You can't do procedures without lights and tables. You can't do procedures without adequate capacity in the sterile processing department. And that's really what we do. It's not all that sexy, but it's a requirement.

Thank you.

And our next question comes from Mike Matson from Needham & Company. Please go ahead with your question.

Yes, thanks. I guess I'll start with the Dental business. It was down again. It looks like you're starting to lap some of the declines that you've been seeing. So -- is that, I guess, just what's the outlook there? Is it just really boil down to kind of the economic headwinds or something else, maybe?

Yes. I mean short term, we expect it to be about flat this fiscal year. And we would attribute that entirely to the economic downturn and the ability of people to spend cash right now on elective type dental type procedures, and it's just generally impacting the entire industry, and others have spoken on that topic prior to us, I'm sure, in the last couple of weeks. Long-term, we think it's a solid mid-single digit grower. But some of these challenges facing discretionary spending, in particular, the U.S. economy you've got to get sorted out in order for it to get back to those type of numbers.

Yes. Okay. And then it does look like you're obviously working on the backlog in the Healthcare business. But -- and I wanted to ask about just hospital staffing with regard to the -- getting the equipment installed. I know that, that's been an issue in the past, at least, with some companies. Have you seen that improving? Is that still a constraint on the ability to book the revenue there?

No. We've seen that. I mean, there's more coordination today than there used to be maybe in terms of getting stuff received at the docks and getting shipments married up, so we do install. But keep in mind, we've got well over 1,000 techs in the U.S. that do this work for us, that are full-time STERIS employees, that are ready to go to help shepherd the process to get our stuff into the doors and also get it installed properly.

Okay. Got it. And then I know you may have addressed this in the prepared remarks, if I got on the call a little late. So I just wanted to ask about the gross margin. It did look like it was down a little bit sequentially. And you had a nice improvement, I guess, last quarter sequentially from the fourth quarter, but just any kind of commentary there would be helpful.

Yes. Mike, we had mentioned in the prepared remarks that even though margin -- gross margin was down 50 basis points, we did have favorable price. But unfortunately, that was more than offset by lower productivity and continued material and labor inflation. So the productivity, as we are moving stuff through the facility, we are not as efficient as we typically would be. So that negative productivity is hurting us in the short run.

Yes. Got it.

AST volumes declined sequentially don't help margin.

Yes. Okay. Thank you.

[Operator Instructions]. Our next question comes from Jason Bednar from Piper Sandler. Please go ahead with your question.

Hey, good morning. Thanks for taking the questions here. I want to start on, I think, the topic of the day here with AST, but maybe first on the CapEx side with AST. Just the decision to postpone some of those projects that's influencing the CapEx outlook for the year. I appreciate you wanting to protect free cash flow. But is there a risk at all here that you're foregoing future growth in AST, just been not adding capacity? And should we be thinking about this CapEx spend shifting out of fiscal '24 into '25 and just next year being an above normal year of CapEx spend?

Yes. Jason, this is Dan. Thank you for the question. Just to be very clear, we're not delaying these shipments. They were delayed just by the natural building and just current environment of getting things installed and everything else and permitting processes and everything else. So it's -- we have not intentionally slowed those in any way as they've just naturally slowed. And yes, the answer is we would expect those now to be -- would bleed over into next fiscal year from a CapEx perspective. We haven't pulled any projects specifically.

Okay. Dan, you're talking about the CapEx spend, not the equipment that you're recognizing as revenue, just to be clear?

Correct. Yes. I'm talking about CapEx spend.

Okay. Okay. So it was like $65 million of spend that's shifting out of this year into next year?

Yes.

The bulk of that is AST. It's not 100% in AST, but the bulk of that $65 million is directly related to the AST segment.

Got it. Okay. All right. Thank you. And then we've had some questions here on backlog. It sits down $100 million from peak levels. I know we were running well above normal for a long period of time. What do you see as the baseline? Where do you think backlog settles in a normal environment? How much more backlog work down do you think we need to see before we're kind of at that again, that normal level?

Yes, we think normal is somewhere around 350, but we're happy to keep it higher if we keep pulling in orders. It was artificially high in the past because of our ability to manufacture and deliver. And as we've sort of solve those issues from a supply chain perspective, it's now really coming down at an accelerated pace.

Although I would say that our lead times continue to be longer than we would like them to be.

Okay. All right. Thanks. And then last one for me. I don't think I heard it, but if I did, I apologize. Are you able to bifurcate what you're seeing with your U.S. AST services business and contrast that against what you're seeing in Europe? How much the growth rate delta are you seeing across those two markets? It seems like the opportunity for improvement here is more dependent on the European market improving. So just wondering what kind of visibility you have on procedures in that geography recovering and if you're seeing anything or hearing anything from your partners, that would be an encouraging leading indicator?

We do look at it. We have a lot of data points, obviously, being in the hospitals and also dealing with -- directly with all of our customers and their insights of what's going on in the market. And there's a lot of public information from NHS and the other public health commissions in Europe. What I would say is it's got to get better. And even if the procedure rates don't improve, at some point, the inventory burn down crosses over and we get back to normal stocking from our customer perspective. And everybody got really bloated on inventory over the last couple of years, and everybody now is trying to bring it down. And we've heard some customers say as much as 40% or 50% and that takes considerable time. Like I said, we crossed over that line in the U.S. And we believe that we'll get to that point in the coming weeks or months, definitely not quarters, I would say, relative to the European destocking as it relates to Medtech. And the other driver we talked about is as we get into the back half of the year, the comps on bioprocessing, the single use disposables become a little easier against us. That's been a real headwind for the first two quarters of the year.

Okay. All right. Thank you.

And ladies and gentlemen, at this point in showing no additional questions. I'd like to turn the floor back over to the management team for any closing remarks.

Thank you, everybody, for taking the time to join us. I know you have a busy week. We do look forward to seeing many of you out on the road over the next few weeks of several conferences.

Ladies and gentlemen, with that we will conclude today's conference call and presentation. Thank you for joining. You may now disconnect your lines.