Coloplast A/S (OTCPK:CLPBF) Q4 2023 Earnings Conference Call November 9, 2023 5:00 AM ET
Kristian Villumsen – President and Chief Executive Officer
Anders Lonning-Skovgaard – Chief Financial Officer
Conference Call Participants
Anchal Verma – J.P. Morgan
Hassan Al-Wakeel – Barclays
Maya Pataki – Kepler Cheuvreux
Christian Ryom – Danske Bank
Veronika Dubajova – Citi
Oliver Metzger – ODDO BHF
Graham Doyle – UBS
Martin Parkhøi – SEB
Thank you, operator. Good morning and welcome to our Full-Year 2022/2023 Conference Call Ladies. I’m Kristian Villumsen, the CEO of Coloplast and I’m joined by our CFO, Anders Lonning-Skovgaard; and our Investor Relations team. We will start with a short presentation by Anders and myself and then open up for questions as we usually do.
Could I ask you all to please turn to slide number three. We delivered 8% organic growth and a reported EBIT margin before special items of 28% for the 202/2023 financial year. Return on invested capital after tax and before special items, was 17%, reflecting impact from the ATOS medical and Kerecis acquisitions. Now fourth quarter, we delivered organic growth of 8% and a reported EBIT margin before special items of 28%.
I’m satisfied with this year’s organic growth result as we continue to take market share across all our business areas. More importantly, we continue to help more than 2 million people with intimate health care needs, and we also welcome more than 260,000 new users into our patient support program, Coloplast Care.
In this challenging macro environment, we maintained an industry-leading profitability level. Still, this year’s EBIT margin is below our long-term expectations with a decline in absolute profits reflecting significant inflationary headwinds across many cost categories.
This was a year of heavy lifting. A lot has happened, both in our external environment and internally. We managed through COVID repercussions in China. We managed through supply disruptions in both Wound Care and Continence Care. We’ve been integrating ATOS. We’ve acquired Kerecis. We’ve had a lot of ongoing work to prepare for a year of launches.
2023-2024 is a comeback year, a year of launches in our core business, a year in which we reap the rewards of the ATOS medical integration, a year which includes revenue and gross margin benefit from Kerecis. It’s also a year of a turning point in our profitability where we expect to return to significant growth in absolute profits.
Now, let me start with some key highlights from our Strive25 strategy. Please turn to slide number four. Three years into our Strive25 strategy, I’m satisfied with the progress we’ve made on our priorities, focused on four key pillars; growth, innovation, operational efficiency, and sustainability.
Let me start with growth. Our core chronic care businesses, Ostomy and Continence Care, delivered high single-digit growth in the year. Momentum in our core is strong. A key highlight from chronic care is our Ostomy Care business in the U.S. which grew a double-digit rate, continued market share gains, and solid progress across all channels.
In the acute channel, our contracts with the two largest group purchasing organizations, Vizient and Premier, were both extended and are now valid into 2026. We also obtained a sole platinum partnership for Ostomy Care with Medline, a leading medical supply company which represents a significant opportunity to strengthen our position in home health and advance our growth in the community channel.
With Strive25, we set out to build also mid and long-term growth and value creation options through M&A. We’ve made three significant investments in the first half of the strategic period with Kerecis as the latest addition to our portfolio. We expect Kerecis to be growth accretive as of 24/25, adding around one percentage point to our organic growth, and EPS accretive as of 26/27.
Getting closer to the company since we completed the acquisition on 31st of August has confirmed our conviction that Kerecis is the emerging category leader in the U.S.-centric biologics Wound Care segment. Patented and clinically potent fish skin technology that Kerecis has developed holds immense potential to strategically transform our presence in our largest market, advanced Wound Care, and it also provides us with a strong commercial footprint in the U.S.
At the same time, our global infrastructure provides Kerecis with a backbone for expansion beyond the U.S. in the medium and long term. Now let’s turn to the second pillar of our Strive25 strategy, innovation. Luja, our new intermittent catheter with a Micro-hole Zone technology is now launched in six markets with very good feedback from both users and clinicians.
We’re preparing for launch in more markets in the first half of 2023/2024. We already have positive news from the U.K. where we’ve been awarded reimbursement for Luja at the price level ambition and from the U.S. where the product has received a 510-K approval. Heylo, our digital leakage platform in Ostomy Care, is now expected to be launched in Germany and the U.K. in the first half of 2023/2024.
Reimbursement discussions are ongoing, and we remain optimistic about Heylo as we believe it has the strong potential to raise the standard of care for Ostomy Care users. We now also have clinical evidence to support this, with the results of the first clinical study showing significant improvement in both quality of life and not least a 31% reduction in leakage for users that used Heylo.
Now let me zoom in on operational efficiency. 2022/2023 was the final year of our Global Operations Plan 5, which had an ambition of keeping blue color headcount neutral through automation effectively releasing around 1,000 FTEs. The program has been impacted by longer component lead times, and in 2022/2023 we achieved a release of around 800 FTEs with the remaining FTE release expected in 2023/2024.
Today we also announced our Global Operations Plan 6, which covers the three-year period until 20252026. GOP6 will support Coloplast long-term financial guidance through key initiatives such as establishing a new manufacturing site in Portugal and a company-wide procurement program aimed at driving cost efficiency.
We’ve chosen Portugal as the new location for our manufacturing site due to its proximity to key European markets, stable supply of qualified labor, and a very clear sustainability focus. The new site in Portugal is expected to be operational in 2026, and it will also be the largest Coloplast site to date with around 30,000 square meters, removing the need for additional sites until 20292030.
Investment level is expected to be around DKK700 million Danish Krone, evenly split over the next three years starting 2023/20424, which also means that our CapEx ratio for the remainder of the Strive25 period is expected to stay around 5% to sales. Finally, on our sustainability initiatives, we continue to make good progress on our recycling efforts where we have already reached our 2025 ambition with 75% of our production waste now recycled.
In addition, we reduced our Scope 1 and 2 emissions by 10% from the base year of 2018-2019, including ATOS Medical, and positively impacted also by phasing out of natural gas as well as electrification. Before we take a closer look at today’s results, I’d just like to take this opportunity to say thank you to our around 16,000 employees at Coloplast for their continued commitment and hard work in another challenging year.
In a dynamic labor market, our voluntary employee turnover rate remains stable, and the employee satisfaction score continues to be well above the healthcare industry benchmark. I’d also like to thank our users, clinician partners, and investors for their confidence in our company. With that, please turn to slide number five.
In Ostomy Care, organic growth was 8% for the full year, and growth in Danish Krone was 5%. In Q4, organic growth was 9%, with growth in Danish Krone of 2%. Our SenSura Mio portfolio continues to be the main growth driver, followed by the Brava supporting products, and our SenSura and Assura/Alterna portfolios continue to contribute to growth in emerging markets.
From a geographical perspective, growth in Q4 was broad-based, with a strong quarter in emerging markets driven by double-digit growth in China, and Europe driven by UK, and the U.S. also made solid contributions to growth. In Continence Care, organic growth was 7% for the full year, with growth in Danish Krone of 4%. In Q4, organic growth was 6%, and growth in Danish Krone was negative 1%.
Growth in Q4 was driven by solid high single-digit growth in intermittent catheters across the SpeediCath portfolio, with a good contribution from compact standard as well as flexible catheters. The Bowel Care business had another good quarter, with solid growth contribution, while the Collecting Devices business attracted from growth in the quarter, impacted by order phasing.
From a geographical perspective, all regions contributed to sales growth led by the U.S., and a good quarter in emerging markets, while growth in Europe was held back by collecting devices. Markets where reimbursement has been recently established or improved such as Poland, Australia, Japan, and South Korea, continued to perform well, and all grew double-digit.
Voice and Respiratory Care posted 10% organic growth for the period, since 1st of February, and 13% in Q4. This also includes some benefit from a lower baseline last year. Growth in laryngectomy was high single-digit, driven by an increase in the number of patients served in both existing and new markets, as well as an increase in patient value, driven by the Provox Life portfolio. All regions contributed to growth, led by Europe.
Growth in tracheostomy and the ENT business was double-digit, with continued solid demand and positive impact from forward integration in key European markets, as well as the U.S. During the year, we made good progress on the integration of Atos medical into Coloplast infrastructure, and we are on track to deliver operational synergies of up to DKK100 million.
Organic growth in Advanced Wound Care for the year was 7%, and growth in Danish krone was 8%, which also includes one month of impact from the Kerecis acquisition. Q4 organic growth was 8%, and growth in Danish Krone was 14%. The advanced dressings business grew 6% in the full year and 12% in the fourth quarter.
Growth in the quarter was driven by strong performance in Europe, benefiting from the resolution of the backorder situation, as well as emerging markets driven by another solid quarter in China. The Biatain Silicone portfolio continued to be the main growth contributor in the quarter.
Kerecis delivered pro forma revenues of DKK772 million for 2022/2023, growing around 50%. Revenue growth was broad-based, led by the hospital channel and surgical wounds. Kerecis’ operating profit margin, excluding PPA amortization was around 6% for the year, as expected.
In Interventional Urology, organic growth was 10% for the full year, and growth in Danish Krone was also 10%. In Q4, organic growth was 5%, and reported growth in Danish Krone was 0%. Growth in the quarter was both up against the high baseline last year, and driven by men’s health in the U.S., as well as emerging markets’ detraction to growth that basically was impacted by order phasing.
With this, I’ll now hand over to Anders, who will take you through the financials and outlook in more detail. Please turn to slide six.
Thank you, Christian, and hello, everyone. Before we look at the numbers, I would also like to thank all our employees for their dedication and contribution in a year challenged by macroeconomic factors, inflation, high interest rates, and unfavorable development in currencies have all put pressure on our financial performance in the year. But we remain prudent on cost and focused on helping our users, posting a solid growth rate.
Reported revenue for the full year increased by DKK1.9 billion, or around 9%, compared to last year. Organic growth contributed DKK1.7 billion, or around 8% to reported revenue. Acquired revenue contributed DKK708 million to reported revenue for the full year, or around 3%, reflecting four months of impact from the Atos Medical acquisition and one month of impact from Kerecis.
Foreign exchange rates had a negative impact of DKK495 million, or around minus 2%, on reported revenue, mainly due to the depreciation of the British pound and the basket of other currencies against the Danish Krone. Please turn to slide seven.
Gross profit for the full year amounted to DKK16.3 billion, corresponding to a gross margin of 67%, against 69% last year. The gross margin was negatively impacted by increased prices for raw materials and energy, double-digit wage inflation in Hungary, and ramp-up costs at our sites in Costa Rica.
The above-mentioned headwinds were partly offset by positive impact from the inclusion of Atos Medical, price increases, country and product mix, as well as efficiency savings from the Global Operations Plan 5. The gross margin includes negative impact from currencies of around 30 basis points for the full year.
Operating expenses for the full year amounted to DKK9.4 billion. The like-for-like increase in operating expenses, excluding inorganic impact from Atos Medical and Kerecis, was DKK409 million, or 5% compared to last year. Atos Medical contributed with DKK1.1 billion to operating expenses, of which DKK210 million in PPA amortization included under distribution costs.
Kerecis’ contributed with DKK71 million in operating expenses, reflecting one month of impact. The distribution to sales ratio for the full year was 31%, compared to 30% last year, and includes impact from Atos Medical and Kerecis, and an increased level of commercial activities. Distribution costs also include continued commercial investments in Interventional Urology, consumer and digital initiatives, as well as Atos Medical.
The admin to sales ratio in the full year was 5%, compared to 4% last year, primarily impacted by the inclusion of Atos medical. The R&D to sales ratio for the year was 4% of sales on par with last year. Overall, this resulted in a decrease in operating profit before special items of 1% for the full year, corresponding to an EBIT margin before special items of 28%, compared to 31% last year.
The EBIT margin for the full year contains around 90 basis points impact from the PPA amortization costs, majority of which related to the Atos Medical acquisition. Currency had a negative impact of around 60 basis points to the reported EBIT margin, related to unfavorable development across a basket of currencies in the second half of the year.
Special items for the full year amounted to DKK74 million Danish. The special items include the final provision of DKK200 million, related to the mesh multidistrict litigation cases in the U.S. in Interventional Urology business, and an income of DKK244 million from the reassessment of the Atos Medical billing compliance provision, both booked in Q3.
In addition, special items include DKK65 million related to the Atos Medical integration, and DKK54 million related to transaction costs from the acquisition of Kerecis. Financial items for the full year were a net expense of DKK746 million, compared to a net expense of DKK312 million last year, driven mostly by interest expenses related to the financing of Atos Medical acquisition, as well as losses on balance sheet items denominated in mostly U.S. dollar.
The tax expense for the full year was DKK1.2 billion with a tax rate of 21%, compared to a tax rate of 23% last year, positively impacted by the transfer of Atos Medical intellectual property to Denmark. As a result of the increase in net financial expenses, net profit before special items for the full year decreased by 4%, compared to last year. Diluted earnings per share before special items decreased 6% to DKK22.46.
Please turn to slide eight. Operating cash flow for the full year amounted to DKK4.2 billion, compared to DKK5 billion last year. The decrease in cash flows was driven by higher income tax paid, increased interest payments due to the Atos Medical acquisition, and an increase in working capital driven by inventories.
Inventories increased due to the higher level of safety stock on raw materials, price increases and an increase in finished goods due to the transfer of production to Costa Rica. Cash flow from investing activities was an outflow of DKK9 billion impacted by the acquisition of Kerecis, compared to an outflow of DKK11.8 billion last year, impacted by the acquisition of Atos Medical.
CapEx for the full year amounted to DKK1.2 billion, or 5% of sales on par with last year As a result, the free cash flow for the full year was an outflow of DKK4.7 billion, compared to an outflow of DKK6.7 billion last year, both impacted by the acquisitions. The adjusted free cash flow for the year was an inflow of DKK3.7 billion.
Net working capital amounted to around 26% of sales, compared to around 25% at the end of last financial year, mostly impacted by the increase in inventories. We expect the net working capital to be around 25% in 2023/2024, and return to our long-term expectations of around 24% at the end of the strategic period. The trailing 12 month cash conversion was 84%, impacted by the development in working capital.
Now let’s look at the guidance for the 2023/2024 financial year. Please turn to slide nine. For 2023/2024 financial year, we expect organic revenue growth of around 8%, and a reported revenue growth of around 12%. The reported EBIT margin before special items is expected at 27% to 28%.
I will go through the detailed assumptions on the next slide, but at the high level we are looking towards a year with easing pressure from inflation, which will be offset by around 100 basis points dilution from the Kerecis’ acquisition. For 2023/2024 I also expect around DKK50 million in special items related to the ongoing integration of Atos Medical.
The net financial expenses for 2023/2024 are expected at around minus DKK700 million, mostly driven by the Atos Medical financing. The blended interest rate for the debt financing of Atos Medical is expected to be around 3.3%. CapEx guidance for 2023/2024 is around DKK1.4 billion and includes investments in existing and our new manufacturing site in Portugal.
Our effective tax rate is expected to be around 22%, positively impacted by the transfer of Atos Medical intellectual property. Following the transfer of the intellectual property, there will be an extraordinary tax payment of DKK2.5 billion in the second quarter of 2023/2024 financial year, which will be offset by reduced tax payments in the following years.
Please turn to slide 10. The organic revenue growth guidance assumes continued good momentum in 2023/2024, with growth across businesses and geographies in line with our Strive25 assumptions, with the exception of China. In China, while we are looking into an improvement in growth year-over-year, we do not expect the business to be back to double-digit growth, due to continued impact from lower average value per patient on our consumer business.
We have no current knowledge of significant healthcare reforms, and expect positive pricing impact in 2023/2024, however, at a lower level compared to 2022/2023. The reported revenue growth guidance assumes around four percentage points contribution from the Kerecis’ acquisition, reflecting 11 months of impact and limited negative impact from currencies.
The gross margin is expected to be around 68%. We expect raw material prices to increase by around mid-single-digit, compared to around double-digit last year. Blue color wages in Hungary are expected to increase at a similar level to last year, of around double-digit. And on the positive side, we expect tailwind from lower freight rates and energy prices, as well as one-off benefit from the provision of the Italian payback reform of around 40 basis points last year.
Finally, Kerecis is expected to contribute to the gross margin with around one percentage point. The EBIT margin guidance before special items assumes prudent cost management of operating costs, expected to grow below reported revenue in Danish Krone, excluding acquired growth. The EBIT margin also includes synergies from the integration of Atos Medical.
On the other hand, as mentioned, Kerecis is expected to have a negative impact on the EBIT margin of around 100 basis points, which also includes around DKK100 million in amortization charges. Impact from currencies on the EBIT margin is expected to be negative around 50 basis points with current spot rates.
In terms of phasing, we are expecting organic growth in the first half of the year to be in the lower end of the guidance, accelerating to the upper end at the guidance in the second half. The contribution from Kerecis to reported growth is expected to have a similar level across the quarters.
I expect significant negative impact from currencies on both the reported growth and the EBIT margin in Q1, mostly impacted by the development of the US dollar. As a result of this, the EBIT margin in the first half of the year is expected to be in the lower end of the guidance, accelerating to the upper end of the guidance in the second half.
With this, I will hand over to Christian for final remarks. Please turn to slide 11.
Thank you, Anders. We now have half the Strive25 strategic period behind us. As we announced the strategy, our financial performance has been challenged by macroeconomic trends and events, including the COVID-19 pandemic and inflation.
These challenges have also confirmed the strength of our company and our model. We’ve been able to maintain growth and industry-leading profitability despite the external pressure. We expect to emerge stronger in the last two years of our strategic period, and we’re working on a number of initiatives that position us well for long-term value creation.
Our strong core, chronic care businesses, will be further strengthened with a significant number of product launches in the second half of our strategic period. Combined with solid contribution from our smaller business areas and the strengthening of the portfolio through the acquisitions of Atos Medical and Kerecis, I feel confident that we can accelerate our long-term growth to 8% to 10%.\
At the same time, inflation across our key cost categories has started to come down. And combined with initiatives from our GOP6 plan, we’re looking towards returning to an EBIT margin of 30% by the end of the strategic period, excluding Kerecis, and an EBIT margin of more than 30% long-term, including Kerecis.
Thank you very much. Operator, we’re now ready to take questions.
Ladies and gentlemen, at this time, we will begin the question-and-answer session. [Operator Instructions] One moment for the first question, please. The first question is from Anchal Verma with J.P. Morgan. Please go ahead.
Hi. Good morning. Thank you for taking my questions. I have three, please. Firstly, can you please give us an update on how the Kerecis integration is going? And perhaps if you can talk us through the phasing of OpEx costs through next – to this year FY 2024 and going into FY 2025. And second, could you please provide us an update on your outlook on China? You have mentioned that growth will probably be below the double-digit Strive25 ambitions.
So just trying to see how to quantify this and the impact on the Ostomy business going to FY 2024? And in terms of the anti-corruption campaign, is that mainly impacting the Wound Care segment? Or have you seen a drop down to the other businesses as well? And just finally, on your midterm guidance, which you have reiterated, of around 30% excluding Kerecis, can you provide us a bridge of how you plan to get there from the 27% to 28% margin here, and then going into the midterm of just below 30% including Kerecis?
Thank you, Anshul, for three good questions. I’m going to – let me just start with the question on Kerecis. Kerecis ended the year as planned with 772 million worth of turnover at Danish Krone, and about 50% growth, and EBIT of around 6%. So basically, on plan, we’re off to a good start. Just a reminder, when it comes to integration, there’s not that much going on this first year. We’re also very much focused on delivering the earn out. We are focusing the integration activities on four core areas related to quality and regulatory affairs, legal, IT, and things like that. And of course, there will be over time a big piece of work on getting Kerecis onto the Coloplast infrastructure. We’re also beginning the work on preparing for – if you will, geographical expansion. There was a question – what was the – there was a question on cost phasing?
Yes, just the phasing of OpEx. How should we think about the dilution at the EBIT level from the additional OpEx spend for Kerecis? And you’ve given 100 bps rough dilution impact, but is it fair to say that that impact is probably going to be larger in the first year as you start integrating versus going to 2025, just kind of splitting that between 2024 and 2025?
So let me take that one. So this financial year, we will include the amortization of around DKK100 million, and then the underlying EBIT margin X, the amortization for Kerecis, we are expecting that to develop linearly from the around 6% they delivered last year to the 20% EBIT margin we have communicated in 2025/2026. So you should see that EBIT margin improvement as linear over the period.
And then to your question on China, I just spent a week in China meeting with our team out there, and as we’ve communicated, we’ve come out of a year now with low single-digit growth in China, reflecting that we had negative growth in the first half battling COVID incidences and things like that, and then a double-digit growth here in the second half. We have strong growth in new patient discharge, so the performance in the hospital channel has been good throughout. Really where we’ve seen a dip has been in the consumer channel where consumers have purchased less. They’ve tended to trade down.
And so part of my review and visit to China was also going into quite a lot of depth on the dynamics in the consumer channel. We’ve made a number of changes, and we’re a month in, and I’m cautiously optimistic that we’re going to see a better performance come out of the consumer channel, but I’m not expecting Chinese consumers this year to come back and start purchasing at similar rates that they were pre-COVID. There’s just too much uncertainty in the China economy.
There has been, of course, some rumbling from the anti-corruption campaign that creates a bit of uncertainty. I view that as a thing that’s basically a passing. We welcome that, but of course, when these things happen, Chinese hospitals tend to not make decisions, and you can’t really start new things, and activity levels go a bit down, but it’s passing. Anders, you want to talk to midterm?
Yes. So let me speak to the midterm moving parts. We are still committed to deliver 30% EBIT margin ex- Kerecis in 2024/2025. The main drivers, first of all, that’s growth. We are expecting to continue to grow the business in the level of 8 to 10, as we have communicated after the Kerecis’ acquisition. Secondly, we are expecting that the gross margin will improve as inflation, input costs are starting to ease. We have also initiated a pretty large procurement program that is addressing all our external spend across the company, and we also expect that will contribute to the margin improvement.
And then, finally, we are continuing with a very tight cost control, and I will also expect the scalability across the whole business will impact the margin outlook. So we are still comfortable that we will get back to the 30% level ex-Kerecis in 2024/2025. And in terms of our longer term guidance of 30%, including Kerecis, that will be in some years after.
Perfect, that’s clear. Thank you.
The next question is from Hassan Al-Wakeel with Barclays. Please go ahead.
Hi, thank you for taking my questions. I also have three, please. If I could start with guidance, could you help with the margin bridge to 2024, given the 27.9 you reported in 2023 and some of the key cost buckets here? What are the key drivers for the top and bottom end of the guidance? I guess I’m trying to understand the degree of buffer you have, given you’re now talking about the lower end now for the first half?
Secondly, following up on Kerecis, could you talk about the driver for the weaker pro forma margin of 6% versus your initial expectation at the time of acquisition of 10? Has anything changed since you gave the guidance, and how should we be thinking about 2024 margins? And then finally, could you provide an update on the Italian payback reform? You mentioned a baseline benefit next year, given the 40 basis points of headwind to gross margin you booked in the last year. How is this resolved versus your expectation, and what has been accrued historically? And was this impact higher or lower in the fourth quarter? Thank you.
Yes, Hassan, let me start with the guidance for this financial year and the moving parts. So I already talked to most of the, you can say, moving parts in my initial review. But as I communicated before Kerecis, we are guiding an EBIT margin in the level of 28% to 29%. There are a number of moving parts on the cost of goods sold. We, as I said earlier, are seeing the raw materials prices increasing by something around a mid-single digit. Energy, we have hedged, as we have talked about a lot. So we will see a quite significant improvement versus last year on that one, and the same thing goes for freight.
And then, on the wages in Hungary, that will be around double digits, as I mentioned earlier. And on the gross margin, and now I’ll take your Italian provision question. So as we talked about last year quite a bit, we are part of this Italian claw back. And throughout the year, we have made an accrual of around 40 basis points. So it has been equal across all the quarters. We actually anticipated that it would be settled during autumn, but it continues to be delayed. And now we expect some kind of a conclusion around Christmas. But that’s of course uncertain. But I am confident that we have accrued for the historic, you can say, challenges related to the claw back.
But that is giving us some tailwind this year of around the 40 basis points. So, on the gross margin, the real, you can say, moving parts, that is the raw material development, how is that going to develop? My best view right now is the mid-single digit. So that’s definitely something we are focusing a lot on also through the procurement activities that we are currently doing. And then for the remaining part of the margin, so we are, you can say, very prudent on our cost. So I’m expecting that the remaining part of our cost will grow at a lower level than the growth. And we will also see some benefits from synergies. And the uncertainty around the full year, EBITDA, that’s on the currency side, with the spot rates we are looking at currently, we will have some headwind of around 50 basis points. So those are some of the main moving parts towards the guidance for this year before Kerecis.
And then, Hassan, to your question on Kerecis, it’s quite simple. We are ramping up, and the ramp up has begun. We have a team that’s very eager to try and deliver the earn-out. So it’s basically ramp up costs. We’re adding quite a few people this year. And you will see, like we’ve said before, the margin will gradually expand as we move toward the end of the period, 2025.2026, and we’ll get to a margin of 20%. So nothing really changed, but we are ramping up.
Very helpful. And if I can just follow up on the margin point, I think you’ve talked about the phasing of margins clearly. How should we be thinking about phasing of growth given easier comps in the first quarter?
So the growth, as I also mentioned earlier, we will have a little bit lower – in the lower end of the guidance in the first half from an organic growth point of view, and then higher in the second half, and it’s mainly due to our urology business. And then also the reported growth before Kerecis will in the first quarter, be quite significantly impacted by currency due to the U.S. Dollar.
Perfect. Thank you.
The next question comes from Maya Pataki with Kepler Cheuvreux. Please go ahead.
Yes, good morning. Thanks for taking my questions. I have a few. Let me start on China. Kristian, China and lower spending due to consumer sentiment has been a topic now for several quarters. How convinced are you that this is not a structural trend that we’re looking at and that China is just going to be impacted by that headwind for more than just a year? That would be my first question.
My second question is on the gross margin. You’ve been talking to the costs of goods sold with Hassan and during the call. You sound hopeful that there would be a positive impact from the development on that side, yet I’m surprised to see your gross margin guidance really just embedding the Italian payback system. Is that just a cautionary approach to the gross margin from your side or is there anything else in there? And then,
Kristian, the last question again back to you. On Medline, you mentioned that you have now a partnership there and offer significant opportunity. Could you maybe talk to how big or how we should think about the opportunity going forward? Thank you.
Let’s start with the two questions for me, Maya. Thank you. Good questions. So, yes, it’s true, this dynamic has persisted in China and really I am not too optimistic that the average spend is going to change much this year. I don’t have visibility to say that. But what I can see is that the company is very competitive in the hospital channel. So, we win probably two out of three patients that leave a hospital in China. We’ve got good growth in new patients. We’ve had some hiccups in the consumer channel that where we over the last year donated a few share points to some local competitors.
We’ve made some changes to how we work in the consumer channel, and I just spent a week there with the team. I feel confident based on about six weeks’ worth of data that we are rectifying this and can maintain a strong share position also in the online channel and get some growth. So we are guiding for higher growth this year, mid-single digit in China, maybe mid-single digit plus, depending on how successful we are over the coming quarters. But I’m not – I don’t really have visibility to being much more optimistic about the Chinese economy. I don’t think it’s going to persist forever. I don’t think it’s going to persist forever. And if you look at the raw data on China and the demographic explosion that will happen there, this will continue to be a significant growth driver for the company over the medium and long-term.
Medline is a really good opportunity. Medline, very strong distributor, lots of salespeople, a very, very strong presence in home health. So I view this as part of the equation to the plan where we need to continue to grow Ostomy Care double-digit in North America that we’ve done over the last 24 months. So that’s how I see it.
Yes. And let me take your question on the gross margin. So I am saying, we have an expectation of around 67%. So I am, you can say, optimistic that we will see an improvement in our gross margin versus 2022, 2023. But I’m not going to guide specifically on decimals. And the same thing goes for when I include the Kerecis. I’m optimistic that we will sit with a group gross margin of around 68%.
Got it. Anders, just very quickly on the tax, the one-time tax payment that you’re taking in Q2 next year, and then you say that this is going to enable you to have lower tax payments going forward. Could you give us an indication of what kind of impact that should be?
So we will have this negative cash flow impact in our second quarter of around DKK2.5 billion. And then you can say the reduced tax will then be spread out over a four to five-year period.
The next question comes from Christian Ryom with Danske Bank. Please go ahead.
Yes, good morning, and thank you for taking my questions. I have three as well. First one is on your pricing expectations for 2023/2024, and why you don’t spell out any impact of pricing in the gross margin bridge that you show on page number 10? And then second question is the outlook for your working capital ratio to sales. You end the year at about 26%. How do you expect that to develop in 2024? And then final question is to Atos. As I understand it, you now believe that you realize the full synergies that you spelled out when announcing the acquisition. Do you see scope for more potential synergies here as we look ahead? Thank you.
All right, Christian, let me take those questions. Thanks. In terms of pricing, so as we have also talked about quite a bit, we saw positive price impact last year, and I’m also expecting positive price impact in 2023/2024, driven by basically all businesses and most regions. The impact I’m seeing in 2023-2024 is however a bit lower than last year, but it’s not that significant that I am calling it out in the gross margin bridge year-over-year. The second question around working capital. Yes, we ended the year with a working capital ratio of around 26%. We are working on getting that reduced again, and my expectation for the coming year, 2023-2024 is around 25%, and I’m still having the ambition to deliver around 24% at the end of this strategic period. And the improvement, it’s a mix of improvement in our, you can say, accounts receivable, but also on our inventory.
Then in terms of your Atos integration question, so that’s something we have been working a lot on over the last year, one and a half years, and the work will also continue in the next couple of years. We have gotten around half of the synergies so far, and we are expecting that will continue into the next year. So, the synergy will continue to contribute to our EBIT margin development in the coming years.
Okay, thank you. Maybe just a quick follow-up. So, the Atos synergies that you are including for 2024, is that the 100 million run rate that you were, I think, spelling out when you did the acquisition?
No, we are not at that level yet. So, it’s not at the DKK100 million yet. That will be a little bit later. And I also said up to DKK100 million.
Okay, great. Thank you.
The next question comes from Veronika Dubajova with Citi. Please go ahead.
Hi, guys. Good morning, and hope you can hear me okay. I had three questions, please. The first one, I just want to understand the inflation assumption that you have in the gross margin guidance. Your degree of confidence that the mid-single-digit raw material inflation number is the right number. I’m asking this not just as a risk to the downside, but also risk to the outside. Obviously, we have seen some deflationary pressure, so I’d love to get a little bit more insight into what you’re seeing there. My second question is just on the Heylo progress. And thank you for sharing some of the clinical data this morning. Where are you with the discussions with the German payer? And what has been the holdup that’s leading to that process taking longer? And then I have a third follow-up after that, but maybe I’ll let you answer these two.
Yep. Thanks a lot, Veronika, for your questions. Let me start with the raw materials. So what I said earlier, right now I’m expecting mid-single-digit price increases on our raw material cost base. And when we double-click on the total cost category, we are seeing some, you can say, categories that are increasing more. And then we’re also seeing quite a bit of categories where we have a decline in the price increases. So it is really a mix of a number of different categories, so injection molding, packaging, et cetera. I must say I am becoming more optimistic, also because the general inflation level is starting to come down. But for now, my assumption is mid-single-digit.
And then to your question on Heylo, Veronika. Yes, we had some really promising results here now with a more than 30% reduction in leakage, super positive responses from the people participating in the study. And the holdup with the payer is really, it’s a dialogue that we’ve had around what the – if you will, the app support to the user should actually entail. And the German payer basically insists that we complete the app development before formalizing a decision. And there’s a bit of time in actually making that happen. So I’m, therefore, saying that we’ll launch in the first half. I am still optimistic that this thing is going to make it to market. And definitely with the data that we now have on the clinical side, we have a strong case to make.
That’s very helpful. Thanks, Christian. And maybe my final question really ties into Heylo and slightly more of the bigger picture on the clinical innovation program. It’s been a number of years that we’ve talked about it and waited for some impact here. I’m just curious how you’re feeling just more broadly about this initiative and its ability to drive accelerated growth rate? And is fiscal 2024 when we start to see this? Or are we still a number of years away from that? If you can sort of do a little bit of self-assessment and grading of the program, that would be helpful? Thank you, guys.
Well, as the CEO of the company, I always want more and I want it faster. But Luja is coming. And the second half of the strategic period, it will make an impact. This is an absolutely incredible platform. We’re live in six markets. We’ll launch in most of the major markets now. We are ahead of plan in the first markets, and the conversion of our offering to be spearheaded by Luja is well underway. I am very optimistic about what we can do with that product, Veronika. It will set a new standard for the category, and I can see the way that our competitors is reacting. They can see it.
So I am definitely expecting that this is going to accelerate the Continence Care growth in the last half of the strategic period. Remember, this also needs to be rolled out to the full platform. We’re starting with male, which is two-thirds of the market. It will come for females [ph]. We’ll do a set version, and so, definitely optimistic. We’ve always been more hesitant about, if you will, the path to market for the digital Ostomy appliance. We’ve got a great product. We now know that it also works clinically.
But the dialogues with payers to basically get it into market are – they’re more technically complex, and they’re also just – they’re not as linear. But once we get it into market, I also feel confident that this will be a great addition to the Ostomy portfolio and also upgrade the value of Ostomy users, and therefore also upgrade the value of the market. And then finally, I just remind you, Veronika, there’s a lot of other launches coming. So we are looking into two years now where we will be launching a number of things on Ostomy, Bowel management and Wound Care. So we are really moving into a more, if you will, from a launch point of view, a significantly more active period from the company. We’re basically rolling out the largest innovation roadmap in my 15 years with the company.
That’s helpful. Thanks, guys.
The next question comes from Oliver Metzger with ODDO BHF. Please go ahead.
Good morning. Thanks for taking my questions. The first two are on GOP6. So you focus on the company-wide procurement. Can you remind us how procurement is organized currently? So as we visited your facility some years ago, I had the impression that procurement is already well organized. And in this context, can you give us an indication where do you see procurement costs to decline relatively? And the third question is a more general question on the Wound Care market. So apart from Kerecis, I think you’re doing a good job. However, the overall market dynamics remain unchanged, so quite a mature market.
So given the changes we have observed over the last one and a half years in the current environment, high interest rates, also more pressure from health care systems, do you see any changes that some confirmation might start or a shift in landscape that, for example, some manufacturers become more aggressive in price and market share, so that would be quite interesting to know? Thank you.
Thank you for those two good questions. So just as a reminder, procurement is organized under operations. We’ve not changed the way we organize, but of course what’s happened to the company over the last 24, 30 months, the environment has changed significantly. So this has become a key focus area. We are throwing resources after it, a lot of renewed attention. We’re anchoring it in the executive team. And this is – we’re not really giving you specific guidance on the impact of that program. We view it as part of a portfolio of initiatives for us to get back to the 30% margin.
To your question, Oliver, on the Wound Care market, I’m probably – I’ve been in the game too long to come with any – definite answers on what will happen to that market. I think there’s been talks about consolidation for as long as I can remember. I am not necessarily seeing that change now. We would need to see somebody fundamentally change their strategic stance, as you can see from the way that we are moving on the chessboard. We are, of course, bullish about taking a real position in biologics with the acquisition of Kerecis. And I can talk at length about why we think that there’s a really interesting play there with that particular technology. And there will also be opportunity for combination products with our existing business incentives to the existing wound care business. So, we definitely think that there’s a good play where we can drive growth and value creation over the medium and long-term.
Yes, okay. Thank you. But do you see any more intense price competition in this very traditional Wound Care?
You fell out of my end. Can you repeat the question, please?
Sorry, but do you see any form of stronger price erosion in the traditional Wound Care segment?
So, there’s definitely hard competition, also price competition. And, of course, in this type of environment, this may go up. There’s definitely a risk that this may go up, Oliver.
Okay, great. Thank you very much.
The next question comes from Graham Doyle with UBS. Please go ahead.
Good morning, guys, and thanks for taking my question. Just one from me. It’s really on the cost side, we obviously focus a lot on the COGS line, the gross margin specifically. But there’s more cost below that in sales and marketing and R&D and G&A. And I suppose one of the things that’s been kind of interesting over the last four or five years is clearly you’ve been investing heavily on the sales and marketing line and pass-through.
The U.S. opportunity around GPOs, but growth hasn’t really accelerated on the back of that. And it kind of begs the question, is it getting harder to generate that growth in the core business ex Kerecis? Or is the investment just not paying off in this particular instance? Because presumably you could have the margin be materially higher at the EBIT level if you were to maybe just rein in some of that spend. And I think most of us would have expected that spend to ease off at this stage, given we’re well advanced into the GPO opportunity. So it would be good to get a sense as to how you think about that and maybe just like what’s the line or the bar that has to be met before you either increase or decrease that spend? Thank you.
Yes. So a couple of reflections to it. That’s a really good question. So look at the growth of the Ostomy business. This is an 8% growth business. So depending on where you look three, four points above market. Continence Care and here I’ll look at the catheter business, high single digit, multiple points above market. Of course, what’s happened now to the business is that we’ve been impacted by China. So if you look at the way that we’ve talked about growth acceleration in that mix, we had U.S. at the double digit. We had China. We had innovation. And, of course, Atos.
When we talked about it the last time we had investors assembled here in HQ, Atos is delivering. U.S., I would say, on Ostomy, really delivering. We’re just a tad below on Continence Care but still doing well. But China is, of course, not. And now, like I said to Veronika’s question earlier, the latter half of the strategic period is when we need to reap the benefits of the investments that we’ve made into innovation. So I am definitely expecting that the Luja platform will accelerate the Continence Care franchise.
And, Graham, maybe we can also just add that. In the first part of this strategic period we invested quite significantly across the business. So we invested in the U.S., selected European and emerging markets. We also increased our investments in innovation. And we are not expecting to continue investments at that level in the remaining part of the strategic program or strategic period. So that is because we have done a lot of investments that we now expect will pay off.
Okay, great. That’s actually really helpful. I appreciate the clarity there. Thank you, guys. Bye-bye.
In the interest of time, the last question comes from Martin Parkhøi with SEB. Please go ahead.
Yes. Thank you very much. And then I will just give them to two. Just on the – back to the Martin. Sorry for that. Of course, with the guidance this year of 28% to 29% adjusted for Kerecis, you still expect to deliver 30% by the end of this Strive25 period. So I appreciate you cannot give as detailed a bridge as you have done for this year. But still, at the midpoint of 28.5%. How will it reach the 1.5% by the end of this Strive25?
And then, secondly, just on Portugal, and I know there was a question earlier. So sorry for repeating that, but can you maybe talk a little bit about how much volume at the end, you know, in five-year time you expect to get out of Portugal? You talk about an attractive salary level in Portugal. Maybe you can elaborate a little bit on that compared to the other manufacturing sites there?
So thanks a lot, Martin. To your first question around the moving parts towards the 30%, I think I already spoke to some of the key moving parts earlier in the call. But firstly, it’s growth needs to be in the level of 8% to 10%. We are expecting gross margin will continue to improve, also through the procurement program that we have initiated. And then we will continue to be prudent across the rest of the cost base, including having impact from scalability. So those are some of the main moving parts towards the 30%.
In relation to your second question around Portugal, so as you know, we are also currently ramping up in Costa Rica. And in Costa Rica, we are expecting around 20% to 25% of the production volume will be produced by 2025. Portugal, now we announced it today, we are expecting it will be up and running in 2026. So it will take some time until we will see a significant, you can say, volume coming out of Portugal with the forecast we are currently doing
So Martin, to your question on salary levels in Portugal, right now they’re on par with what we have in Hungary, but of course, much, much lower salary inflation. It will be a Continence Care factory. So this is where we will base our Luja expansion to begin with. And I guess, Martin, when we get further down, we can give you a bit of pointers on how much of the volume it will be, but that will be at a later stage.
All right, ladies and gentlemen, thank you for your questions today. We hope to see you on the road over the coming days and weeks.