Hill-Rom Holdings (HRC) John J. Greisch on Q2 2016 Results - Earnings Call Transcript

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Hill-Rom Holdings, Inc. (NYSE:HRC)

Q2 2016 Earnings Call

April 29, 2016 8:00 am ET

Executives

Michael Macek - Treasurer & Vice President

John J. Greisch - President, CEO & Executive Director

Steven J. Strobel - Chief Financial Officer & Senior Vice President

Carlyn D. Solomon - Chief Operating Officer

Analysts

David Harrison Roman - Goldman Sachs & Co.

David R. Lewis - Morgan Stanley & Co. LLC

Robert A. Hopkins - Bank of America Merrill Lynch

Lawrence S. Keusch - Raymond James & Associates, Inc.

Matt Mishan - KeyBanc Capital Markets, Inc.

Operator

Good morning, and welcome to the Hill-Rom Conference Call. At this time, all participants are in a listen-only mode. Later, we will conduct a question-and-answer session and instructions will be given at that time. As a reminder, this conference call is being recorded and be available for telephonic replay through May 4, 2016. See Hill-Rom's website for access information. The webcast will also be archived in the Investor Relations section of Hill-Rom's website, www.hill-rom.com.

If you choose to ask a question today, it will be included in any future use of this recording. Also note that any recording, transcript or other transmission of the text or audio is not permitted without the written consent of Hill-Rom.

I would now like to turn the call over to Mr. Mike Macek, Vice President and Treasurer.

Michael Macek - Treasurer & Vice President

Thank you, Nicole. Good morning and thanks for joining us for our second quarter fiscal year 2016 earnings call. Before we begin, I'd like to provide our usual caution that this morning's call contains forward-looking statements, such as forecast of business performance and company results, as well as expectations about the company's plans and future initiatives.

Actual results may differ materially from those projected. For an in-depth discussion of risk factors that could cause actual results to differ from those contained in forward-looking statements made on today's call, please see the Risk Factors in our annual report on Form 10-K and subsequent quarterly reports on Form 10-Q.

Also, we will discuss certain non-GAAP or adjusted financial measures on today's call. Reconciliations to our comparable GAAP financial measures can be found in our earnings press release, the associated Form 8-K and are also available as part of the presentation materials posted on our website.

Joining me on the call today will be John Greisch, President and CEO; Chief Financial Officer, Steve Strobel; and our Chief Operating Officer, Carlyn Solomon. The usual ground rules will apply to make the call more efficient. We've scheduled an hour in order to accommodate our prepared remarks and leave plenty of time for Q&A. During Q&A, please limit your inquiries to one question plus one follow-up per person. If you have additional questions, you may rejoin the queue.

As you listen to our remarks, we are also displaying slides that amplify our disclosure. I would encourage you to follow along with us. The slides were posted to our website and will also be part of the archive.

With that, I'll turn the call over to John.

John J. Greisch - President, CEO & Executive Director

Thanks, Mike. Good morning, everybody, and thanks for joining us today. We're pleased to report another quarter with higher than expected adjusted earnings growth, driven by significantly improved operating margins. Although revenue performance was below our expectations due to headwinds in several international regions, all of our businesses continue to perform strongly in the United States where we saw a pro forma revenue growth of over 10%. Adjusted earnings per share of $0.71 were ahead of guidance and up 11% over 2015. This is our ninth consecutive quarter of year-over-year adjusted earnings improvement.

Underlying our strong earnings growth was an increase in revenue of 33%, adjusted operating income growth of 60% and a 230-basis-point improvement in adjusted operating margin.

At our September 2015 Investor Conference, we committed to improve operating margins 450 basis points to 550 basis points by 2018. For the first half of 2016, our adjusted operating margin is up 320 basis points over last year, so we're well on our way to our LRP commitment.

For the first six months of the year, the 320-basis-point operating margin improvement was driven by an increased adjusted gross margin of 270 basis points. This improvement is due to the addition of the higher-margin Welch Allyn business, continued strong performance in North America, portfolio optimization and operational efficiencies. In addition to the strong gross margin improvement for the quarter and year-to-date periods, we're achieving solid SG&A leverage across the company as we drive additional synergy savings and integrate operations around the world. So on the margin front, we're having a great year which is driving better than expected adjusted earnings.

Turning to revenue, similar to the first quarter, our growth rate was negatively impacted by 3% due to declines in our capital-dependent businesses in the Middle East and Latin America. Although overall revenue for the quarter was below our expectations, we are pleased with the 3.5% pro forma constant currency growth rate in the first half of the year. This is in line with our 2015 to 2018 LRP growth objectives of 3% to 5%.

Let me spend a few minutes addressing what we're seeing in our various businesses and geographies from a revenue perspective, starting with Welch Allyn. I couldn't be more pleased with how Welch Allyn has performed, posting pro forma year-to-date constant currency growth of 8%. This was driven by an exceptional performance in the United States where we saw a growth of 11% in the second quarter following a very strong first quarter. Welch Allyn internationally was up about 5% on a pro forma basis.

The integration of Welch Allyn has also gone very well. We are exceeding our revenue expectations, delivering ahead of our synergy targets and seeing real value of our expanded portfolio with customers. Carlyn and his team have done a great job integrating Welch Allyn into the company without missing a beat. With our recent new product introductions, together with additional commercial synergy opportunities, we are very optimistic about the future growth potential for Welch Allyn.

North America had another strong performance with revenue up about 10% for the quarter and year-to-date. We had another very solid performance by our sales team with product and service orders up 18% for the quarter and 22% year-to-date. Order backlog is up about 24% at the end of the quarter compared to the prior year. We're seeing particularly strong growth in our ICU franchise and Clinical Workflow Solutions business, reflecting the benefit of new product introductions over the past several years.

On the rental side in North America, we posted revenue growth of 6% and again improved our adjusted gross margin to the highest level in nearly two years. So we're pleased with the growth and margin performance in North America in the first half of the year. Looking forward to the second half, we expect the business to continue to perform well although year-over-year comparisons will be more challenging. That said, we expect the overall environment in North America to remain steady.

Our Surgical business performed very well domestically where we saw 8% growth in Q2. However, similar to our PSS business, we had a tough quarter internationally where we saw revenue declines in all regions with the exception of Asia Pacific. Overall, Surgical constant currency revenue was down about 3% for the quarter driven by the international weakness. We remain very optimistic about our ability to accelerate Surgical growth driven by new product introductions and the channel leverage we're seeing in markets around the world.

For the second half of this year, we expect to see accelerated growth over the first half due to our new products and seasonality similar to what we saw last year. We are optimistic about the partnership we recently announced with Intuitive Surgical. Customer reception to our new integrated motion product has been very positive. You may recall we received FDA approval during the second quarter and although revenue for the quarter was not material, we expect adoption of this product to accelerate growth in our Surgical business in the second half of 2016.

Our International segment, which is largely our International PSS business, has had a tough six months particularly in the second quarter where constant currency revenue declined 21%. We experienced declines in most major regions with the largest percentage declines in the Middle East and Latin America. You may recall we began implementing some organizational changes throughout our international leadership team in the second half of fiscal 2015. Those changes, including integrating our country and regional operations under common leadership across our businesses, are now largely behind us.

I'm confident we will see improved performance internationally in the second half of 2016 and as we move into next year. Although we expect a stronger second half compared to the first six months of the year, we have lowered our full year revenue outlook.

In addition to solid earnings growth for the first half of the year, we are on track with the initiatives we highlighted at our September Investor Conference. We are delivering on our commitment to improve gross and operating margins and are well on our way to our 2018 goals. In addition, most of the benefits from our manufacturing footprint optimization and procurement consolidation lie ahead of us. These actions are expected to yield additional margin expansion beyond 2016.

We're also driving portfolio optimization initiatives which are improving our revenue and margin profile. Looking forward, we still have several lower growth and lower margin product lines that we plan to exit providing additional improvements to our revenue mix and margins. Our increased investment in innovation is resulting in a steady stream of new product introductions across the portfolio as you saw in our press release and recently with the Integrated Table Motion product in our surgical franchise. This will continue to accelerate revenue growth in the future, a clear commitment and necessity for us.

As we look forward to the remainder of 2016, we are tightening our earnings guidance to the higher end of our previous range despite the reduction in our full year revenue outlook. We now expect our full year adjusted operating margin to be approximately 15%, up over 300 basis points, reflecting our disciplined operational focus.

With that, let me turn the call over to Steve.

Steven J. Strobel - Chief Financial Officer & Senior Vice President

Thanks, John, and good morning, everyone. Before we get started, I'd like to highlight some financial reporting changes we're making this quarter. First, regarding segment reporting, during the quarter, we formally began operating our Front Line Care segment which includes Welch Allyn and our global Respiratory Care business. The Surgical portion of our former Surgical and Respiratory Care segment will now be referred to as Surgical Solutions and is comprised of our Trumpf, Aspen and Allyn franchise.

Additionally, we have changed the term capital sales to product sales and service to better describe the more diversified revenue streams we have achieved through our M&A activities in product development over the past several years.

So now let's shift to the financial results. Second quarter revenue increased 33% to $633 million. On a constant currency basis, total revenue was up 35% and up 2% over pro forma 2015 revenue which combines standalone Welch Allyn revenue with the previously reported revenue of Hill-Rom.

Product sales and service revenue increased 41% to $529 million. On a pro forma constant currency basis, the increase was 1% and rental revenue grew to $103 million, a 4% increase. U.S. revenue increased 48% to $438 million. On a pro forma basis, U.S. revenue increased approximately 10% behind solid growth in each of our segments. Revenue outside the United States increased to $194 million, a constant currency increase of 13% driven by the addition of Welch Allyn.

Turning to revenue by segment, North America revenue increased 9% to $270 million or 10% constant currency. North America product sales and service revenue increased 11% to $193 million driven by continued strong growth in our ICU franchise and Clinical Workflow Solutions. Second quarter product sales and service orders were up 18% from the prior year. In addition, the second quarter backlog increased 24% versus prior year. North America rental revenue increased 6% to $76 million driven by increased volume.

Front Line Care revenue was $185 million in the quarter. We again saw a strong growth in Welch Allyn as pro forma constant currency growth was 8% driven by 11% sales growth in the United States. We continue to make good progress on the integration and are pleased with Welch Allyn's year-to-date performance. The Respiratory Care franchise of this segment recorded growth of approximately 2% for the quarter.

Moving to Surgical Solutions, revenue decreased 3% on a constant currency basis to $95 million. U.S. sales growth of 8% was offset by international declines particularly in the Middle East and Latin America. Our International segment revenue was $82 million, down 21% on a constant currency basis. We continue to see significant headwinds in our International segment as we experienced larger than expected declines in most regions. Similar to the first quarter, we saw the largest percentage declines in Latin America and the Middle East.

Adjusted gross margin was 47.9%, an increase of 250 basis points compared to the prior year driven by the addition of Welch Allyn as well as organic improvements. Year-over-year adjusted product sales and service gross margin increased 360 basis points to 47%. The increase was driven by the addition of Welch Allyn, favorable sales mix and improved operational efficiencies. Rental gross margin in the quarter was 52.5%, a decrease of 40 basis points versus the prior year.

Moving on to operating expenses, R&D increased 55% year-over-year, driven by the addition of Welch Allyn and a 16% increase in organic investment. Adjusted SG&A increased 31% year-over-year, driven largely by Welch Allyn, and as a percentage of revenue, adjusted SG&A was down 50 basis points.

Adjusted operating profit for the quarter was $88 million, an increase of 60% from the previous year, and as a result of the increased gross margin and SG&A leverage, adjusted operating margin for the quarter increased 230 basis points versus the prior year to 13.9%. The adjusted tax rate for the quarter was in line with our expectations at 28.9% compared to 30.4% in the prior year.

So to summarize the income statement, we achieved adjusted earnings per diluted share of $0.71 in the second quarter, an increase of 11% over the prior year. Earnings were driven by the additional of Welch Allyn, strong revenue growth in the United States across all of our businesses and improved operating margins.

Looking at year-to-date results, adjusted earnings per diluted share grew 23% to $1.39, highlighted by a 320-basis-point expansion in adjusted operating margins. Year-to-date operating cash flow of $88 million compares to $87 million last year. The current period included planned outflows of approximately $30 million related to the Welch Allyn acquisition and related ongoing integration activities. Year-to-date capital expenditures of $46 million declined significantly from 2015, which included, as you'll remember, sizable investments in our rental fleet.

Now let's move on to 2016 guidance. For fiscal 2016, we now expect reported revenue of between $2.64 billion and $2.67 billion compared to our previous guidance of $2.66 billion to $2.7 billion as international sales declines are more than offsetting the continued strength we see in the United States. Our forecast is based on the following assumptions. Low to mid-single-digit constant currency pro forma revenue growth, more specifically, mid-single-digit constant currency revenue growth in North America, mid to high-single-digit pro forma constant currency revenue growth in Front Line Care, Surgical Solutions constant currency revenue growth in the low single digits, International segment revenue decline of 10% to 12% on a constant currency basis compared to mid-single-digit declines previously. And we continue to expect a negative impact from currency of approximately 2% to 3% at current rates.

Moving to earnings, we now expect fiscal 2016 adjusted earnings per diluted share of between $3.26 and $3.30 compared to $3.24 to $3.30 previously. Our revised earnings forecast assumes gross margin of approximately 48% compared to 47% to 48% previously. R&D spending of approximately 5% of sales, adjusted SG&A spend of approximately 27% to 28% of sales, a tax rate of 29% to 30%, and we expect approximately 66 million to 67 million shares outstanding for the year.

To summarize, our revised 2016 forecast translates to an adjusted operating margin of approximately 15%, reflecting an increase of over 300 basis points compared to the prior year and a 23% to 25% growth in adjusted earnings per share. We continue to project 2016 reported operating cash flow to be approximately $315 million and capital expenditures of approximately $110 million to $120 million.

Now moving to the third quarter, we expect reported revenue of between $640 million and $650 million. This reflects low-single-digit constant currency pro forma revenue growth and a negative impact from currency of approximately 1% at current rates. We expect adjusted earnings per diluted share to be in the range of $0.75 to $0.77 compared to $0.62 in fiscal 2015.

And with that, I'll turn the call back over to John.

John J. Greisch - President, CEO & Executive Director

Thanks, Steve. So we had a strong quarter and first half of the year on a number of fronts. We're particularly pleased with the margin expansion and earnings growth we have achieved. Welch Allyn is a great example of the kind of strategic move we are focused on to drive improvement to our company. It has been seamlessly integrated and is performing ahead of expectations.

As the same time, our North American PSS business continues to perform very well. We expect to drive incremental growth in both of these businesses with more new products and investments behind our higher margin, higher growth potential products and service offerings, such as our Clinical Workflow Solutions business.

Internationally, we're excited by the opportunity to leverage our broader portfolio into markets around the world while we ride out the economic and political challenges in several of our key geographies currently affecting some of our more capital-dependent businesses. We are redeploying resources as quickly as we can to accelerate growth in markets where the greatest potential exists and where businesses such as Welch Allyn and Surgical have been under-penetrated.

We're well on our way towards our LRP goals. Looking forward, we remain focused and committed to driving improved margins and earnings and deploying our strong cash flow in a value-creating manner. With that, Operator, please open the call to questions.

Question-and-Answer Session

Operator

Our first question comes from the line of David Roman from Goldman Sachs. Your line is now open.

David Harrison Roman - Goldman Sachs & Co.

Thank you and good morning, everyone.

John J. Greisch - President, CEO & Executive Director

Hi, David.

David Harrison Roman - Goldman Sachs & Co.

Hey, John. Hey, Steve. I wanted to start with the international businesses, particularly in the Surgical and Respiratory franchises. I know you made some reference to certain regions that were a challenge in the quarter, but can you maybe just go into a little bit more detail on what's happening ex-U.S. and what changed specifically in the second quarter and then what gives you confidence in the turnaround to the back half of the year besides the comps?

John J. Greisch - President, CEO & Executive Director

Yeah, I'll take the first crack at that, David, and then ask Carlyn to talk about what changes we have made there to drive growth. You heard in our comments, most of the shortfall in Surgical and Respiratory specifically but also in our PSS business has been in the Middle East and Latin America where everybody on this call is well aware of what's going on in those regions. For us, with the heavy capital reliance that we have, with particularly our PSS and Surgical businesses internationally, they were getting hit harder probably than most med device companies because of the capital squeeze that's going on in the Middle East, the Brazils, the Mexicos.

So, those two regions were the majority of the decline in Surgical and PSS internationally. If you look at Asia Pacific for us as a company, we were up about 20% overall including in our Surgical business in that region. So good growth in the region where you expect growth to be strongest and really across all the businesses, we're seeing good activity, good growth, good margin performance there as well.

The biggest surprise we had this quarter was in Europe in our PSS business. You heard me comment on some portfolio optimization moves we're making, so we're going to continue to shrink where we are not seeing growth and margin potential. And just as you saw this quarter, that helps drive our margin and our earnings growth at a faster rate than revenues as we get rid of some of the lower growth, lower margin product categories. There were some of that in Europe but we had a disappointing performance in Europe this year. If there was one surprise in the quarter, it was in our European PSS business. And we do expect that to turn around on the back of some of the changes which Carlyn can comment on. But Surgical in the Middle East, Latin America together with PSS is going to continue to struggle. Asia Pacific, very pleased with the 20% growth, Europe is where we have most of the work ahead of us.

Carlyn, you want to add to that?

Carlyn D. Solomon - Chief Operating Officer

Yeah. So one thing I would add is in our Surgical business, our Trumpf business. When we purchased this business, we had a number of B2B contracts that we provided tables to at a very, very low margin. And we started to execute or exit some of those businesses, as John mentioned, we're continuing to look at the portfolio. So, that influences the growth rate internationally as those sales occurred in Europe.

But let me take you back up to another level. Our strategy we laid out for you guys internationally as we're coming together in one international division, all three GBUs will be represented. We're doing this in an effort to be more effective and more efficient as we communicate the values of our products in the international arena.

So what that leads to and our strategy, or as John said, there are some assets that we are exiting like the Trumpf B2B stuff that I mentioned that was low margin. There will be others to come. And we're emphasizing other products in our portfolio because coming together as one international division lets us do that much more easily. Things like CWS which hasn't been emphasized internationally, we're developing products and starting to launch some of those internationally.

Our Respiratory Care products have been underrepresented. As John mentioned, some of our surgical products have been underrepresented, so we want to correct that. And then we're also shipping resources from lower-margin products to higher-margin products. And you see the good growth rate, we've already started that in Welch Allyn. You see the nice growth rate that we've had in Welch Allyn internationally, and we'll continue to do that, we're going to do that very aggressively.

The other reason, part of our strategy in bringing together a single international division is to become more efficient, and we're in the middle of that right now probably on the back end of it. But we're combining offices to take expenses out. We're combining management as well, that's driving some expenses out and some of the support people in the regions.

So when you couple all that, we've made tremendous progress in executing this strategy. As John said, what we saw in our PSS business in Europe was really a surprise and disappointing to us and we're going to work aggressively to fix it. But aside from that, I would say we're on track with the strategy that we had prepared and shared with you.

David Harrison Roman - Goldman Sachs & Co.

And then maybe just to follow up on the U.S. side of the business. The order growth and backlog that you're reporting is still growing at a very healthy rate despite the fact that I think we're now 18 months into what's been a better capital period for the company. Could you just maybe, John, update us on your thoughts on the sustainability there especially as what appears to be looking across the U.S. medical device and hospital network a fairly strong set of results over the course of the first quarter. At least that would suggest that there's quite a bit of momentum left to go. And that franchise, would you agree with that characterization and maybe give us your thoughts on how that business might unfold over the balance of the year and then on a forward?

John J. Greisch - President, CEO & Executive Director

Yes. So I would agree with that, David. I think you saw that across our portfolio here in the U.S. where we were up 10% on a pro-forma basis. So assuming we had owned Welch Allyn last year, overall, we're up 10%. Our Surgical business was up 8%; our North America PSS business, up 10%; Welch Allyn, up 11%. Outstanding performance across the portfolio in the U.S., very consistent and even in many cases strong than I think what you're seeing across the med device landscape.

Specific to the PSS business, we feel really good about the momentum in that business. Orders were up strongly, the backlog is up strongly. As we look forward into the rest of this year, we see no signs of weakening of – in terms of the order rates. I think I mentioned in my prepared comments we've got some tougher comps in the second half of the year. So, the growth rates are going to slow down a little bit. But as we've demonstrated here this quarter and the last several quarters, we continue to over deliver in that business. And as you well know, it's not the easiest one to see around the corner with. But as far as we see today and I think I made the same comment last quarter, the quote bank that we've got and the activity we were seeing, we feel really good about the activity not just in the PSS business, but again, across the portfolio.

And I think if you go back to Carlyn's comments just on the strategy, this is a work in process and we're seeing the benefits of exactly the moves we've made over the last couple of years, Trumpf in the Sates, up 8% with the Surgical business overall; Welch Allyn, nearly double the growth rate that that business had been achieving before we bought it. So the moves that we've made strategically, the growth and the change to the profile of the company that we're trying to drive through some of the moves we've made, we're certainly achieving those.

Unfortunately, we're running into some big headwinds in some regions internationally which we're going to fight through. And as Carlyn said, where there is lower margin, lower growth opportunity, expect us to continue to – improving the portfolio particularly internationally where we've got some opportunities to do so.

David Harrison Roman - Goldman Sachs & Co.

Terrific, thank you for all the perspective.

John J. Greisch - President, CEO & Executive Director

Thanks, David.

Carlyn D. Solomon - Chief Operating Officer

Thanks, David.

Operator

Thank you and our next question comes from the line of David Lewis of Morgan Stanley. Your line is now open.

David R. Lewis - Morgan Stanley & Co. LLC

Good morning.

Unknown Speaker

Morning.

David R. Lewis - Morgan Stanley & Co. LLC

John, and maybe, Carlyn, I'll start with you, I just want to come back to some of David's questions and push you a little bit more. So I think they were sort of the pulls in the quarter here. So, Carlyn, listened to you talk about Europe, I feel like there's a component that's in your control and component that's not in your control. Clearly, you're in control with the businesses that you exit. Was it more this quarter of this disruption associated with the reorganization that really surprised you?

And then for John, in the U.S., you've given us sort of this ex-HCA capital number or backlog number in the past, wonder if you can let us know what that number is, and I had a quick question on profitability as a follow-up.

John J. Greisch - President, CEO & Executive Director

Yeah. I'll take the second one first because it's easy. HCA orders this quarter were very minor. So not much impact at all and I think that's true with the backlog as well, David. So the underlying strength we're seeing in North America really is across the board without the benefit of some of the big additions from HCA that you've seen over the past 18 months.

Carlyn D. Solomon - Chief Operating Officer

Yeah. And, David, just to add a little bit to that as well, don't forget we're innovating in the U.S., so some of our growth and throughout the globe, but this is taking hold first in the U.S. So some of the new products that we talked about at our investor conference, they're doing quite well. CWS is one that's been mentioned.

As far as the reorg, I think you're on it. I think one of the key things that happened in the quarter is we had very significant changes, the management structure, reporting structure, some sites that are being told that they're going to be closed and we're consolidating things. I believe that absolutely had a large effect on the results that we saw. The environment isn't great in Europe, but certainly better than what we posted. And so I think that was a very big part of the results we saw.

David R. Lewis - Morgan Stanley & Co. LLC

Okay. Thank you for that clarification. And then speaking about profitability, John, one of the real debates on Analyst Day was that you gave an X number for margin expansion over the LRP, half of that came from Welch Allyn, half of it didn't. And I think investors are very focused on the underlying improvements. So beginning with this quarter, the profitability is obviously better. What are the drivers and sustainability of that profitability? Why are you still confident? And specifically in this quarter, how much of that operating margin improvement has been mix basically from the deal, and how much of that is coming from organic sources? Thank you.

John J. Greisch - President, CEO & Executive Director

Yeah. I won't quantify it, David, but the three main sources are Welch Allyn clearly adding – I think we said coming into year, it was going to add a couple of hundred basis points to our margins. You saw more of that in Q1 because of the low base that our first quarter generally has. So the mix impact of Welch Allyn was even stronger in Q1.

We expect that to continue, the couple hundred basis points, as we go forward this year. The rest of it, for the full year, I think you heard Steve say we're expecting our operating margin to be up over 300 basis points for the full year to a 15% level, which is a significant improvement from where we have been. About two-thirds of that is Welch Allyn, a third is coming from the organic business, some of it is geographic mix, some of it's the new products and innovation benefit that Carlyn mentioned, and some of it is grinding out some of the portfolio optimization moves that we have.

I think as we look forward even more importantly than this year, in addition to the manufacturing footprint moves that we talked about in September and as I mentioned in my prepared comments are yet to come, I think some of the benefits of our new products, margin uplifts, together with exiting – and it's probably a $50-ish million number that we plan to exit here in the coming quarters of revenue that's just not contributing, all of that's going to continue to contribute to our margin expansion.

And sitting here today, I think we feel even better about the commitment that we made on our margin opportunities back in September. Because of the progress we've made, we've over-achieved on our synergies here in year one. So the margin story and the margin opportunities from all of those areas I think we continue to feel highly confident in.

David R. Lewis - Morgan Stanley & Co. LLC

Okay. Thank you very much.

Operator

Thank you. Our next question comes from the line of Bob Hopkins of Bank of America. Your line is now open.

Robert A. Hopkins - Bank of America Merrill Lynch

Hi. Great. Thanks and thanks for taking the question and good morning.

John J. Greisch - President, CEO & Executive Director

Hi, Bob, good morning.

Robert A. Hopkins - Bank of America Merrill Lynch

Hey. So, John, it's been frustrating because you guys are so close to firing on all cylinders. So, I have a couple of questions just on Europe, not surprisingly. I guess my first question is just a really easy one. Was the weakness that you're seeing kind of all throughout the quarter or was this more towards the very end of the quarter with kind of quarter-end activity that you typically see?

John J. Greisch - President, CEO & Executive Director

It was probably more towards the end, Bob. It's hard to quantify it exactly, but with our particularly PSS business tending to be heavily back-end-loaded for the quarter, it was more towards the end of the quarter.

Robert A. Hopkins - Bank of America Merrill Lynch

Okay. And then, I guess, one of my sort of bigger picture questions here as it relates to Europe and O-U.S., this isn't the first time that we've seen negative surprises in your international business. And so, I'm just trying to get a better understanding here, is this your kind of a structural market demand issue or more of a Hill-Rom-specific execution surprise? Just help us understand kind of the bigger picture of what's going on in Europe.

John J. Greisch - President, CEO & Executive Director

Yeah. I think your first comment, Bob, was spot on. It is frustrating to be close to firing on all cylinders. And if you look at the two major challenges we have today, I'll bucket them in two different areas. Latin America, Middle East, I feel we got great teams. I feel we have the benefits of the strategic moves we've made starting to take hold. Asia, clearly, is taking hold. But the CapEx squeeze in those regions on the back of oil and on the back of the economic disaster in Latin America, not much we can do about there. Europe, the structural, fundamental attractiveness of the PSS business in Europe is a challenging one.

We're not going to invest to grow that business so we're probably going to continue to see some top line reductions, some macro driven from just the unattractiveness of the fundamentals of the market and some along the lines of what both Carlyn and I mentioned in terms of shrinking to get better.

So, I think Carlyn hit the nail on the head. There were some disruptions over the last six months. Of the organizational changes that we made, the majority of those have impacted our European team and our European organization. And I'd be naïve to sit here and say that did not have some impact on our European performance in PSS this quarter. Whether it was half, a third, it's not something that I can precisely identify. But that's behind us. I feel confident about that.

The underlying fundamentals are going to be continue to be challenging and rather than continue to try to figure out how are we going to grow in an unattractive market where the margins are not terribly attractive either, I think we're going to identify what size business can we profitably manage there, and if that means shrinking it, as I said, by $50 million or thereabouts. That's the approach we're going to take strategically and redeploy our resources behind the Welch Allyn, the Respiratory Care and some of the products that Carlyn mentioned.

Robert A. Hopkins - Bank of America Merrill Lynch

Ex the $50 million, is there a growth rate outside the United States you're comfortable talking about when you think about the company over the next couple of years?

John J. Greisch - President, CEO & Executive Director

I'd rather save that for our fourth quarter call, Bob, once we make some of these moves. I think we laid out in September a low-single-digit growth for international, if I remember correctly, and I think that's realistic. That could be improved somewhat but I don't want to get over our ski tips on that one until we actually make the moves that we want to make.

Robert A. Hopkins - Bank of America Merrill Lynch

Great, thanks very much.

John J. Greisch - President, CEO & Executive Director

Okay. Thanks for your question.

Operator

Thank you. Our next question comes from the line of Larry Keusch from Raymond James. Your line is now open.

Lawrence S. Keusch - Raymond James & Associates, Inc.

Thanks, good morning. John, switching gears back to North America and the PSS business, could you provide a little bit of color on so what segments of that business are doing well? I know you mentioned ICU, but again, if you could sort of help us understand a little bit of the complexion of what products are doing well, and I know there's been some moves in the past between big refurbs at hospitals and replacements, some color there would be helpful.

John J. Greisch - President, CEO & Executive Director

Yeah. I'll let Carlyn take the first crack at that, Larry. Thanks for the question.

Carlyn D. Solomon - Chief Operating Officer

Hey, Larry, ICU is doing well, as John said, and that really is driven by the best ICU bed frame in the world, offers a lot of advantages to the hospital and Progressa. And we continue to see very nice growth in that franchise, and that's the franchise you want to be in because of the profitability of it, because of the more clinical nature of it.

We also, as we mentioned, have seen very, very nice growth out of our Clinical Workflow Solutions business, and this one we highlighted of course at the investor conference. It's growing very, very nicely. And to remind everybody, this is what I would call a smart nurse call system. And we've seen really nice growth out of that. It links with our beds in the Med Surg space, and so people have really appreciated some of the advantages that offers in terms of reducing falls risks in their hospital. And so we're seeing nice growth as we bring that value proposition to life for them.

We've seen nice growth in our rental business and particularly in some of the higher-end stuff we offer. We shared with you probably a year ago that we are launching Compella which is far and away the best bed frame for obese patients. And mostly, people read that promise, so that's driving a nice growth rate in our rental business.

We've also seen an uptick in our service offering, so one of the things we put an emphasis on was growing our service offering. We weren't capturing as much of that opportunity as we felt we should. We reallocated resources to it and we're seeing a nice uptick with that. And then the final thing I would mention, it's early days but we covered this at our investor conference, we like a lot our addition to our ICU space of MetaNeb, and this is the noninvasive breathing procedure that you can go through that really helps patients, and we link that with our ICU offering.

So when you pull all that together, we're clicking in a lot of areas of this business and pleased with that.

John J. Greisch - President, CEO & Executive Director

Hey, Larry, just to add to that, the investor angst over the volatility of the North American business and now the International PSS business, but the source of that angst and the source of that volatility historically has really been our Med Surg bed frame product category.

I think the really positive news and fact around our North American business, while that has been – while the North American business has been growing around 10% pretty persistently here for the last six quarters to eight quarters, our Med Surg business has actually been pretty flat. So the products that Carlyn just mentioned, ICU, service, Clinical Workflow Solutions are patient handling lift products, those are driving the growth.

So, the really encouraging thing, back to David Roman's first question about our confidence in North America is, it hasn't been driven over last couple of years by massive growth in what has been historically the most volatile product category. You look at International, we don't have all those other products internationally because these are the price points, don't make them attractive for us, or in the case of our Clinical Workflow Solutions business, we haven't introduced that internationally historically. Hence, the volatility that we're seeing today together with some of the organizational disruptions.

So, as good as we feel about North America's growth rates, I think it's important for investors to understand that really hasn't been driven by the volatile products segment. And I know a few months ago everybody is worried that we're about to fall off the cliff with the growth in North America. Had that been driven by the more volatile product categories, that risk probably wouldn't have more legitimacy associated with it, but that hasn't been the case. And I think, as we look at the business, we feel really good about the momentum in North America generally.

Lawrence S. Keusch - Raymond James & Associates, Inc.

Very clear, thank you for that. And then just quickly on the free cash flow generation, looks like still around $200-ish million for the year. Just to remind us, Steve, again on sort of how you're thinking about the capital allocation.

Steven J. Strobel - Chief Financial Officer & Senior Vice President

Yeah. I don't take too much in the way it changed there. I mean, our initial and first accountability and objective is de-leveraging and we've taken debt down through the first half around $55 million and we continue to deploy our cash flow in that manner along with obviously growing the business internally and continue to look at if there's opportunistic small bolt-ons and other investments that we can make to accelerate growth in some of the areas that Carlyn and John have talked about, we'll continue to look at those. But first and foremost, we're focused on generating cash to take the appropriate measures and de-lever and hit our targets on that.

John J. Greisch - President, CEO & Executive Director

Yeah. Larry, until we have a few quarters under our belt where we are hitting on all cylinders, don't expect us to do anything major on the M&A side. As Steve said, we're going to continue to look and we may do a few little things. But we got a lot on our plate internally at the moment.

Lawrence S. Keusch - Raymond James & Associates, Inc.

Understood. Thank you very much.

John J. Greisch - President, CEO & Executive Director

Yeah.

Operator

Thank you. And our next question comes from the line of Matt Mishan of KeyBanc. Your line is now open.

Matt Mishan - KeyBanc Capital Markets, Inc.

Hey, good morning and thank you for taking my questions.

John J. Greisch - President, CEO & Executive Director

Hi, Matt.

Unknown Speaker

Hi, Matt.

Matt Mishan - KeyBanc Capital Markets, Inc.

I guess the bigger surprise for me is the strength in Welch Allyn. What's driving that mid to high-single-digit revenue growth for a business that was traditionally kind of like low single digits?

Carlyn D. Solomon - Chief Operating Officer

Yeah. I think there's a number of things and, boy, it's been a great acquisition for us so far. As John said, the integration has gone very smoothly. We see nice growth in the U.S. in vital signs. They launched and we've launched a new product called the Connex Spot Monitor. That's really well received kind of across the U.S. and around the world.

We also have some new technology that's starting to roll out, a new product called RetinaVue, which is just getting launched that we're pretty excited about as well. And then I think there's just an operational cadence and discipline that Alton Shader, who is the President of Welch Allyn that we put in place, there has driven and it's really benefited them. I think that Welch Allyn was a great brand. But as a privately held company, we definitely picked up the pace around some of what our expectations are, some of the innovation. We're backing harder some of the products that are doing well in the market than maybe they would have been before. And so, I think you combine all that, it's been a really nice story.

John J. Greisch - President, CEO & Executive Director

Yeah, Matt, just one other quick thing to add. You heard Carlyn talk about redeploying resources. Two of our four regional leaders are from the Welch Allyn organization. So, that's a good example of redeploying senior talent in the company to drive growth in that part of the portfolio. The international growth that we saw with Welch Allyn here in Q2 of nearly 5%, you're right, it's a heck of a lot stronger than it had been and I think a lot of it is driven by things Carlyn said and the redeployment of resources behind what is a very high margin opportunity for us.

Matt Mishan - KeyBanc Capital Markets, Inc.

Okay, great, that's helpful. And then can you talk about the early expectations and indications around the Trumpf Integrated Table Motion, and then I also believe it's sold through your sales force non-Intuitive, are you guys going to be in there early or late in the sales cycle and does it enable you to cross sell other products?

John J. Greisch - President, CEO & Executive Director

Yeah. So, first of all, we're excited about the technology, Matt, and our customers are excited about it. It seems to offer them a lot of advantages and surgical reduction, surgical time and safety. We're still working through a lot of the details of how we sell this and how we work productively, most productively with the Intuitive Surgical reps. But all this starts with the placements and them selling an Xi robot and them also selling, up selling them to the software that would enable Table Motion.

And in some cases, we're seeing that the rep will introduce the table, they obviously know they need the table, but we definitely lag after that. And sometimes it's short depending on the relationship in the field, sometimes it's longer and we'll get in there later to sell the table. So, hence, that's kind of the delay from what you might see from Intuitive Surgical to what you'll see with us. But we still anticipate it's a big opportunity for us. I think it's going to take longer than maybe all of us wanted it to and what we even might have thought it would as follow in after the Xi robot sold, after the software is sold to get in with our table.

Matt Mishan - KeyBanc Capital Markets, Inc.

Okay, great. Thank you very much.

John J. Greisch - President, CEO & Executive Director

Thanks, Matt.

Operator

Thank you. I'm showing no further questions at this time. I would like to hand the call back over to management for your closing remarks.

John J. Greisch - President, CEO & Executive Director

Okay. Thanks, everybody, for joining us and look forward to catching up with you at various conferences and at the end of Q3. Thanks a lot.

Carlyn D. Solomon - Chief Operating Officer

Thanks, everyone.

Operator

Ladies and gentlemen, thank you for participation in today's conference. This does conclude today's program. You may all disconnect. Have a great day, everyone.

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