Zimmer Biomet Holdings, Inc. — 2024 Q1

Thank you, operator, and good morning, everyone. Welcome to Zimmer Biomet's First Quarter 2024 Earnings Conference Call. Joining me today are Ivan Tornos, our President and CEO; and CFO and EVP Finance, Operations and Supply Chain, Suky Upadhyay.

Thank you, Keri, and thank you, everyone, for joining the call here this morning. I'd like to start today the way that I typically do by taking a moment to recognize and to show my gratitude to the 18,000 Zimmer Biomet team members across the globe, who each and every day work relentlessly in driving our mission forward. Simply put them, I'm very proud of each and every one of you. Thank you for your dedication, for your commitment, resilience and for your strong performance to start off this year 2024.

Thanks, and good morning, everyone. As Ivan mentioned, we had another good quarter driven by healthy end markets and solid execution across the organization. Overall, we remain on track to deliver on our 2024 financial guidance with mid-single-digit constant currency revenue growth, adjusted operating margin expansion and over $1 billion of free cash flow. Assuming current market conditions, this is a financial profile that we believe is durable going forward.

Thanks, Suky. And thanks, Ivan, for the kind words. It's been such a privilege to be part of the Zimmer Biomet team these 4.5 years, and I wish the team much continued success moving forward.

Keri, great working with you and good luck in your next endeavors. I guess, kind of high level, you guys have this kind of algorithm, 5% to 6% revenue growth potential for some margin expansion and possibly kind of low double-digit EPS growth. And just trying to think about how we should think about that algorithm over the long term. Is it more of a base case or kind of best case? There's just a lot of skepticism from the investor community on that algorithm. And trying to think about what's the Zimmer growth rate kind of on a sustainable basis in a normalized market? And then just the second question I'll go ahead and throw out too. Just any color on Q2 sequentially. It's usually down, Hips and Knees is usually down a little bit sequentially, but with some of the selling day stuff, I just wanted to make sure there wasn't any titration on Q2.

Travis, Ivan here. Thanks for the question. I'll touch on both components of your question, and I'll make sure that Suky speaks up here as well. So starting with the algorithm on revenue, EPS and free cash flow. We're going to give more color in the Investor Day, but I will tell you today, as per the prepared remarks, this is a long-term commitment. So it's not a 2024 only deliver revenue above market, EPS above revenue and free cash flow above EPS growth. And unpacking the drivers here on revenue, it's all about new product introductions. We're going to gain share by delivering innovation that matters. 100 to 200 basis points, largely is going to come from new product introductions. And as we said all along, we got a pipeline that we didn't have before, 40 new product introductions over the next 24 to 36 months, more in the making. So that's the #1 driver on revenue in addition to obviously pricing dynamics and commercial execution.

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Yes. I think Ivan summarized it really well, so I'll just try to build some incremental points here. I think at that mid-single-digit growth top line profile that Ivan mentioned, we do have a durable path to operating margin expansion as well as improvements in overall free cash flow conversion.

Katie, can we have the next question in the queue?

Congratulations on the quarter, guys. And Keri, it's been great working with you. I guess I'll first start on pricing commentary. I thought that was notable. Ivan, can you talk about where the positive surprise came from on that front? Are the benefits of your efforts coming sooner? Just some general comments on the pricing environment would be great.

Yes. We're very -- Steve, thank you. We're very pleased, obviously, with pricing performance. Recall that in 2023, the second semester of '23, so the last half of '23, we're already flattish when it comes to price. So this is a business that in previous years was having 300 to 500 basis points of price erosion in the U.S., pretty significant OUS. That's not the change that we have going on. We put a structure in place. We put governance, new product introductions are helping from a category contracting.

I think overall we're in more favorable environment than we've been, let's call it, 3, 4 years ago. When you combine that with some of the structural changes we're making inside the company, that's -- I think those 2 things are really leading to better price performance. I'll tell you, I'm really impressed and optimistic about the cultural change, quite frankly, within Zimmer Biomet as I talked to distributors or field level reps and their desire to want to make sure that we're getting the value for the products that we bring to market. That's encouraging. And I think that makes it durable.

Great and then quickly follow-up -- just wanted to follow up real quickly on the ROSA shoulder. Just on the initial launch and your outlook for ramp this year?

Yes. Thank you. Obviously, very excited in terms of this product launch. We did the first cases at the Mayo Clinic a couple of weeks ago. Feedback was very solid. It is a product that has a high degree of accuracy in the cuts in the visibility of anatomy. It is efficient from an instrumentation standpoint. It's fully interconnected with the rest of the CVH ecosystem. Case over case, the feedback was that you do achieve time efficiencies. So the learning curve is rather short.

This is Vik Chopra in for Larry Biegelsen. Keri, thanks for all your help and good luck. So 2 for me. I just wanted to get a sense as to kind of what we can expect at your upcoming Investor Day at the end of the month. With regard to financial goals, will you have specific LRP goals for revenue? Or will it be relative to the market, for example, growth of 100 to 200 basis points above market. And then I had a follow-up.

Yes. No, we'll definitely cover the -- how we plan to achieve these 3 commitments we're making from a financial perspective in terms of what are the drivers of revenue, EPS and free cash flow. So we'll definitely provide those details. We'll cover the new product introductions, we've seen that. We'll talk about the capital allocation on the strategy moving forward. So it's going to be very robust. So that's the Analyst Day.

The second question I had was you beat consensus EPS by about $0.07, but you didn't really raise the guidance on EPS. Can you just provide some color on that?

Yes. I think Ivan said it really well in his opening remarks. We had a good start to the year, and it was great to see the better-than-expected performance in revenue. We saw a very good flow through all the way to the bottom. So I love the discipline that we've got throughout the company. I would say that this just reinforces and gives us more conviction in the guidance range that we provided earlier this year.

And we'll miss you, Keri. I'll ask my question and my follow-up at the same time. Ivan, obviously, on all these new introductions; OsseoTi HAMMR, the robotic shoulder, but -- and all of them sound like they'll be meaningful and I assume will help pricing, will help gain share, will help leverage your fixed cost, your operating costs.

Thank you, Rick. I'll cover the Hip question, and then we'll proceed with the interrogation of Suky here when it comes to the margin. One product is not -- one product is not what's going to win the battle here, right? It is a category of products. We've been very transparent. We've not done great when it comes to hips over the last 3 or 5 years and essentially driven by 3 product categories.

And Rick, it's Suky. Always good to hear from you. On the margin front, I know the past isn't always indicative of the future, but I'll just -- it is a good validation and proof point, I think, in our situation. Both '22 and '23, we're able to expand operating margins quite significantly, I would say, even in the backdrop of a pretty hostile inflationary environment. And so again, kudos to the entire [ CE ] team.

This is actually Imron Zafar in for Pito. First question is on ROSA, obviously, a strong first quarter there. Can you talk about placement trends in the quarter by site of care, hospital versus ASC? And then also competitive dynamics for [ ROSA ] Joint orthopedic robots?

Absolutely. Thanks for the question. So let's start with the global picture, if you will, very excited in terms of where we are overall with ROSA. So globally, ROSA is becoming the preferred robotic option in many markets outside of the U.S. Here in the U.S., we're approaching around 20% penetration of ROSA in cases.

Just as a quick follow-up. Can you remind us what the site of care mix is for shorter Recon hospital versus ASC?

So we're starting to see a dynamic in where cases are moving to the ASC for shoulders, getting the CMS change. I would say today, probably around 60% to 65% of the cases of shoulder are now done in ASC, but that's moving pretty rapidly, given the change of reimbursement. And we've got a strong position both in the inpatient, outpatient as well as the ASC. But I would say net-net, is around 60%, 65% to 35% in terms of that mix.

Just touching a little bit further on ROSA and the strength in the other line, Suky, did you say that you expect lower growth in this segment through the year?

It was a little bit choppy there, Caitlin, Sorry, did you ask if -- you asked something about other? Could you repeat the question?

Yes, apologies. Did you say that you expect lower growth in the segment throughout the year?

Yes. Yes. So we had a pretty strong quarter in our other category, primarily driven by ROSA Capital. So we saw good installs. And we saw a higher mix of sales versus placements which drove a higher level of dollar revenue in that quarter. The good news is we saw a lot of new placements and new ASCs, which is exactly where we want to see ROSA's position and the capital sales were very good.

Okay. And then any updates on Persona?

Go ahead with a follow-up. Line is kind of choppy. Go ahead.

Okay. Apologies. And any updates on the Persona IQ rollout?

Yes. Thank you, Caitlin. It's moving in the right direction. I will say, as of late, things are accelerating, both from an innovation and a commercial execution standpoint. So on innovation, we did receive recently the 510(k) approval for -- didn't make it to the press release for the study. So as the shorter stem version of Persona IQ, which has been a gating factor for some surgeons that don't use the longer stem. So that's an innovation and they are right there.

Yes. So I just want to ask one about kind of what the guidance implies for second quarter revenue. you're saying you expect to be at the low end of the mid-single digits to sort of like 4% in the first half. Based on what you did in the first quarter, that implies kind of like 3.5% constant currency growth, but you have the 1.5% selling day benefit. So that applies like 2% kind of underlying growth. Is that -- is my math right there? And I guess why do you only expect 2% growth in the second quarter?

Yes. Mike, directionally, the way you think about it, right, I wouldn't quite go as low as that. But look, quarter-to-quarter, there's going to be choppiness. There's going to be noise based on timing, contracts, et cetera. We had a great start to the year. We continue to believe and reinforce our guidance and still believe that the first half is going to land as we expected to when we initially gave guidance. So nothing in particular about the quarter of note, but just the overall cadence, that's how we expect first half versus second half to play out this year.

Okay. And then just a follow-up on OsseoTi. So you mentioned it's gaining share. Does that mean that it's actually converting competitive surgeons? Or does that just mean it's cannibalizing the cemented Persona?

No. We definitely are upgraded, if you will, some or for cementless -- legacy cementless platform over to Persona OsseoTi but at the same time, a sizable amount of the business coming from converting accounts. So you've seen that the U.S. knee number in the quarter was strong and a large component of that was the fact with pretty heavy comps, by the way, comes from the introduction of Persona OsseoTi and the expectation is that as we continue to move into the acceleration of the product launch, we're going to continue to gain share. So it's both existing accounts and new accounts.

Yes. No real -- in any given quarter, there's going to be puts and calls, both in gross margin and operating margin, but nothing material or out of the ordinary. We did a little bit better on gross margin than we expected to. We saw that flow through in the operating margins. So we feel really good about the start of the year.

Yes. We always have a robust pipeline. And we'll talk about the pipeline and the optionality of M&A in more depth once we meet in later in the month. But the same 3 key areas apply. We're looking for assets that are mission-centric from a strategic standpoint, fit in the higher-growth segments of Recon, certainly the high growth segments of S.E.T. as a category and then in the ASC space, which is a mixture of both 1 and 2. So we later focus on those 3 key areas while also keeping an eye on broader diversification.

Congrats on a good quarter. Maybe just one for me. You kind of talked about second quarter and the expectation on the top line, and you just answered kind of margin cadence through the year. But I want to put a finer point on it and try and avoid some of the cadence issues that we had last year. So you talked about operating margin expanding.

Yes. So Robbie, just a little bit of a correction. I'm not sure if I caught everything you said or understood, I should say everything you said. Fourth quarter will be our high watermark relative to operating margin in line with that being our high watermark from a revenue perspective. And so our margin does, in many ways, correlate heavily to our revenue outlook.

Ivan, you talked about 4 points of your revenue growth this year coming from market gains and then 100 to 200 basis points with outperformance. It gets you to your 5% to 6% goal. When we look at the first quarter, Recon growth was actually a little bit better than that, and that's really hard comp, [ parts ] comp of the year. So that 4% feels pretty conservative at this point.

Yes. Thank you, Chris. First of all, I wouldn't categorize our performance being below market. And we're going to have a healthy debate on whether it's above or below. But what I will tell you is that when we stay here right now, it is not below market. Certainly not from a training standpoint over a period of time and now that everyone is reported in Q1, we're not below market. So I'll start with that.

Okay. And then following up on OsseoTi. Can you remind us where your cementless mix stands today in the U.S.? And over what time frame you think you could close the gap between your current penetration and where Stryker is at the moment?

Absolutely. So closing the Q1 quarter approaching 20%. So it's fairly similar to robotics. So cementless is approaching 20%. We'll break down some of these commitments, we keep repeating the same answer at the Investor Day. But our expectation, our ambition is to be where our competitors are, 60% 6-0. We'll provide time lines in that regard, but the north star is to have robotic penetration in the 60% range and cementless penetration in the 60%. So the fact that today we're at 20%, that tells you that there is pretty significant upside, and we're excited about the journey.

Chris, thanks for the question. Katie, I think we have time for maybe one more question in the queue.

So it seems like orthopedic robotics uptake stepped up for the market in Q1 or at least it was better than expected. Has anything changed from a capital appetite standpoint -- any reason you are seeing more upfront sales versus operating leases? And then just a follow-up on M&A. Ivan, you had indicated that you want to be -- you want to go bigger and bolder and we haven't seen a whole lot of that yet. I appreciate all the commentary on deal capacity of up to $2 billion and favoring tuck-ins. But very specifically, how do you plan to raise your weighted average market growth from 4% today mostly with tuck-ins?

So starting with robots and capital dynamics. Look, I will tell you one thing that is pretty prevalent is that here in the U.S., we've seen the cases move today, I see not a week goes by that is not a new ASC opening. And those ASCs do want to acquire robotics and you either install or you purchase it. And we saw a dynamic in Q1 where we saw more purchases.

Thanks, everyone, for joining. We'll be talking to all of you today. If you have questions, of course, please don't hesitate to reach out to the IR team. Thank you again for joining the call this morning.