Hologic's (HOLX) CEO Steve MacMillan on Q1 2017 Results - Earnings Call Transcript

| About: Hologic, Inc. (HOLX)

Hologic, Inc. (NASDAQ:HOLX)

Q1 2017 Earnings Conference Call

February 1, 2017 16:30 ET

Executives

Mike Watts - Vice President, Investor Relations and Corporate Communications

Steve MacMillan - Chairman, President and Chief Executive Officer

Bob McMahon - Chief Financial Officer

Analysts

Dan Leonard - Deutsche Bank

Jack Meehan - Barclays

Bill Quirk - Piper Jaffray

Vijay Kumar - Evercore ISI

Tycho Peterson - JPMorgan

Isaac Ro - Goldman Sachs

Jon Groberg - UBS

Doug Schenkel - Cowen & Company

Scott Lange - Morgan Stanley

Brian Weinstein - William Blair

Anthony Petrone - Jefferies

Ravi Misra - Leerink Partners

Derik de Bruin - Bank of America Merrill Lynch

Operator

Please standby. Good afternoon and welcome to the Hologic Inc., First Quarter Fiscal 2017 Earnings Conference. My name is Callianna and I'll be your operator for today's call. Today's conference call is being recorded. And all lines have been placed on mute. I would now like to introduce Mr. Mike Watts, Vice President, Investor Relations and Corporate Communications to begin the call. Please go ahead, sir.

Mike Watts

Thank you, Callianna. Good afternoon and thanks for joining us for Hologic's first quarter fiscal 2017 earnings call. With me today are Steve MacMillan, the company's Chairman, President and CEO; and Bob McMahon, our Chief Financial Officer. Steve and Bob both have some prepared remarks today, then we'll have a question-and-answer session.

Our first quarter press release is available now on the Investors section of our Web site. We also will post our prepared remarks to our Web site shortly after we deliver them. Finally, a replay of this call will be archived on our Web site through February 24.

Before we begin, I would like to inform you that certain statements we make during this call will be forward-looking. These statements involve known and unknown risks and uncertainties that may cause actual results to differ materially from those expressed or implied. Such factors include those referenced in the Safe Harbor statement that's included in our earnings release and in our filings with the SEC.

Also during this call, we will be discussing certain non-GAAP financial measures. A reconciliation to GAAP financial measures can be found in our earnings release. Finally, unless otherwise noted, all percentage changes we discuss will be on a year-over-year basis, and revenue growth rates will be expressed in constant currency.

Now I’d like to turn the call over to Steve MacMillan, Hologic's CEO.

Steve MacMillan

Thank you Mike, and good afternoon everyone.

We're pleased to discuss Hologic's financial performance in the first quarter of fiscal 2017. We posted solid results. Both revenue and earnings per share exceeded our guidance, illustrating the progress we're making on our journey from turnaround story to sustainable growth company.

As we discussed at the recent JP Morgan conference, the success of our turnaround to-date has been based largely on improved execution by our U.S. commercial teams. They stabilized market-leading products that were once in decline, and optimized the potential of innovative growth drivers. Both of these trends continued in the first quarter of fiscal 2017.

But at the same time, we are beginning to see the next chapter of our growth story emerge this quarter in two important areas. First, our efforts to revitalize our research and development pipeline are beginning to bear fruit, as new products contributed progressively more to growth. And second, we generated growth internationally after four consecutive quarters of declines in fiscal 2016. While we realize we still have much work to do outside the United States, we are encouraged by the progress we are making and the foundations we are building.

As we look toward the future, new products and international growth will play an increasingly important role in our success. And we expect a third area, business development, to contribute as well. In this regard, the divestiture of our blood screening business, which closed yesterday, will increase our financial flexibility as we seek growth through acquisitions and other capital deployment activities.

With that introduction out of the way, we'd like to provide an overview of our first quarter revenue results, highlighting both established growth drivers and the early contributions from new products and international. Then I'll review the blood screening sale briefly before handing the call over to Bob.

Let's start with our first quarter results. Revenue of $734.4 million grew 5.6% on a reported basis, or 6.3% in constant currency. We posted good growth over and above our most difficult comparison from the prior year. As a reminder, sales in last year's first quarter grew a strong 8.1% in constant currency. This quarter we also absorbed a headwind of roughly 50 basis points from discontinued products, mainly a cystic fibrosis test in molecular diagnostics. On the positive side, as discussed in our last quarterly call, we benefited from four extra selling days between Christmas and New Year's, which we estimate contributed roughly half our growth for the quarter.

In terms of geography, U.S. sales grew a healthy 5.2% in the quarter, versus a very difficult comp from a year ago when sales increased 12.8%. This performance was a continuation of strong recent results, and once again validated the quality of both our products and our people.

We are also encouraged that international sales grew 6.1% excluding blood screening. Growth was again led by our molecular diagnostics and surgical franchises, both of which grew faster than 20% in constant currency, and are beginning to show results from the foundations we have built over the last couple of years. While international sales clearly improved, we want to emphasize that it's only one quarter, and we are still very much a start-up outside the United States. But now we have our leadership team in place and are beginning to establish a strong basis for future growth. As a reminder, in the past 12 months we have hired four new commercial leaders for Latin America, Asia Pacific, Canada and Europe.

Now let's turn to divisional performance in the first quarter. Surgical remained our growth leader, and posted its eighth straight quarter of double-digit growth globally. Let me emphasize that's two years of double-digit revenue growth -- not to mention high profitability -- from a division that many people thought we should sell three years ago.

In the first quarter, which is seasonally strong for Surgical, sales were $114.8 million, an increase of 17.2%. MyoSure led the way by posting sales of $48.3 million and growth of 32.1%. We are achieving exceptional growth for MyoSure as our commercial teams continue to expand the market and capitalize on our new MyoSure Reach line extension.

As a side note, MyoSure Reach was the biggest sales contributor in the basket of new products that we track regularly. Last quarter we said these products exceeded $10 million in quarterly sales for the first time, and this quarter they showed good growth on a sequential basis.

NovaSure sales of $66.4 million grew 8.6%, as we continued to capture market share based on a competitive withdrawal. We should point out, however, that we have almost completely annualized this benefit, so NovaSure growth rates are expected to slow going forward, as we previously forecast.

Before we leave Surgical, let me mention that we recently received FDA approval for our new NovaSure Advanced line extension. We are pleased that in GYN Surgical, like the rest of our divisions, R&D is becoming an integral part of our growth strategy. For example, over the last few quarters, we have been able to gain U.S. approval for two new products that will extend our leadership position in the field.

Moving to Diagnostics, we posted sales of $325.4 million in the first quarter, and 5.5% growth.

In molecular diagnostics, sales of $139.9 million grew 8.8% -- despite the discontinued products headwind-- based on share gains and increased utilization of women's health assays on the fully automated Panther instrument. Of note, international sales grew 25.8% as we continue to see the benefits of new leadership, record Panther placements, and increasing assay pull-through on those instruments. Specifically, revenue from our three viral load assays is increasing nicely in Europe, although admittedly off a small base.

And in the United States this quarter, we were pleased to receive FDA approval of our first viral load assay, for HIV-1. This is a highly complex assay that required a prospective clinical trial and a Pre-Market Approval from the FDA, so the approval is a testament to the quality of our Diagnostics R&D and clinical teams. Building on the HIV approval, we hope to gain clearance for our hepatitis C test later this fiscal year, and our hepatitis B assay in 2018. Once we have all three viral assays approved in the U.S., we are optimistic that they will begin contributing to domestic revenue growth.

Elsewhere in Diagnostics, blood screening sales of $65.2 million exceeded our expectations and grew 7.4%. Most of the upside came from initial sales to support investigational testing for the Zika virus, and from international ordering by our partner Grifols that rebounded from very low levels a year ago. Overall, blood screening sales declined in the United States, but increased significantly in international markets, so keep that in mind as you're analyzing the performance of our core businesses by geography.

Finally, cytology and perinatal sales were $120.3 million in the quarter, with modest global growth of 1.1%, as domestic share gains by our ThinPrep liquid Pap test continued to offset headwinds from longer cervical cancer screening intervals. It's worth mentioning that while cytology products comprise more than 85% of this revenue line, the perinatal portion of the business has started to perform better as well. This will be an area to watch in the future as we revitalize our new product development efforts.

Now let's move on to Breast Health, where global sales of $273.3 million grew 4.6%. Domestic placements of our innovative, market-leading Genius 3D mammography systems again increased modestly, and orders remain healthy. We continue to gain market share while maintaining price discipline, based on our superior product profile and strong customer relationships. And we still have significant conversion runway ahead of us, as less than 45% of our domestic installed base has upgraded to our Genius platform thus far.

Importantly, other supplemental growth drivers have begun to emerge in Breast Health, as we very deliberately planned. Specifically, in the mammography segment, strong growth in service revenues from a growing installed base of Genius systems, combined with sales of our new Affirm prone biopsy system, drove a 5.5% increase in domestic sales.

Outside the United States, Breast Health sales were basically flat, as we continue to work, on a country-by-country basis, to optimize our channel strategy and build our commercial capabilities. With each passing quarter we feel better about our prospects here. But as we have said before, it will take time to fully realize the considerable opportunity in front of us.

To round out the revenue discussion, Skeletal Health revenues of $20.9 million decreased 10.7%. Although this is a small business for us, this performance is clearly unacceptable. As a result, we have refocused our commercial efforts, and are beginning to see an increase in DXA bookings that bodes well for improved performance later this year.

Now let me shift gears and touch briefly on our blood screening divestiture, which closed yesterday.

As a reminder, we sold our stake in our blood screening business to our former commercial partner, Grifols, for a purchase price of $1.85 billion in cash. Blood screening was a non-strategic business for us, as our partner managed sales and marketing, and we lacked the ability to control our own commercial destiny. We believe this deal makes Hologic a fundamentally stronger company in 2017 and beyond.

We are receiving excellent value for our blood screening assets. The $1.85 billion purchase price represented a premium to our own, internal valuation on an after-tax basis, and is particularly attractive when you consider the underlying headwinds facing the blood screening market, both declining unit volumes and increased price competition. By monetizing the business today, we have significantly derisked our portfolio going forward.

In addition, divesting the blood screening business removes a drag on our growth, which will enable us to increase both revenues and EPS at a faster rate. And as competitive pressures intensify, this benefit will likely increase over time.

And finally, the deal markedly strengthens our balance sheet and increases our financial flexibility to grow through acquisitions. As mentioned earlier, we continue to believe that M&A -- as a supplement to internal innovation, commercial execution and international expansion-- will be an important part of our future growth strategy.

Before I turn the call over to Bob, let me summarize by saying that Hologic is off to a good start in 2017. In the first quarter, our domestic commercial organization continued to drive growth of our market-leading products. At the same time, the next chapter of our growth story began to emerge, as new products and international started to contribute. As a result, both revenue and EPS exceeded our guidance. And we significantly increased our financial flexibility by divesting our blood screening business for an attractive price.

Now I will turn the call over to Bob.

Bob McMahon

Thank you Steve, and good afternoon everyone.

I'm going to walk through the rest of our first quarter income statement, the balance sheet, and our updated financial guidance for 2017. Unless otherwise noted, my remarks will focus on non-GAAP results.

As Steve described, our first quarter was a quarter of solid execution, and this began on the top line with revenue growing 6.3% in constant currency. In addition, non-GAAP EPS finished at $0.52, a reported increase of 13%, as we continue to show good leverage down to the bottom line of the income statement.

Now, let's start by discussing how we accomplished this.

Gross margins of 65.2% were flat compared to a year ago, as favorable product mix was offset by increasing international sales and the negative effects of a stronger U.S. dollar.

Total operating expenses of $231.1 million increased 4.6% in the first quarter, mainly due to the extra days in our fiscal calendar and the timing of marketing expenses. As Steve mentioned, we are pleased with the returns that we are beginning to see from research and development, and expect to continue investing there to generate sustainable growth. Even while accommodating these investments, our operating margin of 33.7% improved by 30 basis points in the first quarter.

Below the line, our non-GAAP effective tax rate of 31% was 175 basis points lower than a year ago. And while we have no special insight into the prospects for corporate tax reform, we do believe we would benefit significantly from most of the changes being discussed in Washington.

And to wrap up the discussion of the income statement, EPS of $0.52 grew 13% compared to a year ago, more than double the rate of sales and ahead of our guidance. Please note, we estimate that our blood screening business contributed $0.10 of EPS in the first quarter, flat versus the prior year period. You'll see that we included in our press release the historical contributions of blood screening to quarterly EPS, to help you with an apples-to-apples comparisons going forward.

Now let's turn to cash flows and the balance sheet.

In the first quarter, adjusted EBITDA of $269.1 million improved 6.8%. We continued efforts to reduce our convertible debt by calling what was left of our 2037 notes. Once the administrative procedures are complete, we will have eliminated from our balance sheet this most dilutive tranche of notes, which originally totaled $450 million in principal. And as you know, the remaining two tranches of our converts are callable in December of this year and March of 2018, just over a year from now.

We continue to generate strong cash flows, with operating cash flows of $169.6 million in the quarter. We spent only $24.7 million on capital, leading to free cash flow of $144.9 million.

And turning to the balance sheet, we closed out the quarter with $646 million in cash and $3.3 billion in total debt outstanding, resulting in $2.7 billion of net debt. This represents a reduction of $0.3 billion versus a year ago. And based on this, our leverage ratio, net debt over EBITDA, stood at 2.6x at the end of the quarter, a much healthier level than just a few years ago.

To wrap up the discussion of results, we have steadily improved our return on invested capital through consistent profit growth coupled with lower debt. At the end of our first quarter, ROIC was 13.1% on a trailing 12-month basis, a 180 basis point increase over the prior year.

Now I'd like to shift gears and discuss our non-GAAP financial guidance for the full year and the second quarter.

We are updating our guidance based on our good first quarter results, the divestiture of our blood screening business, and the stronger U.S. dollar, which is affecting all multinational companies. With the divestiture and FX changes, it's important to understand that our expectations for our ongoing, base business are consistent with our initial constant currency guidance. We remain on track for a good year with mid-single-digit sales growth for our core business.

Now, let's start with that updated revenue guidance for the full year 2017. Given the number of moving pieces, I'm going to take a minute to walk everyone from our previous guidance to our current guidance. As a reminder, we previously guided to reported sales of $2.94 billion to $2.98 billion, which represented constant currency growth of between 4% and 5.5%. As you know, the U.S. dollar has strengthened materially since we gave our initial guidance back in November. Given our relatively higher proportion of U.S. sales, currency represents less of a headwind for us than most of our peers. Nonetheless, based on recent exchange rates, we estimate that currency fluctuations are driving an incremental reduction of just over $20 million to our previous revenue guidance. This applies to our core business, excluding blood.

Now let's fold in the much larger impact of the blood screening divestiture. Since the deal closed yesterday, at the end of January, we are essentially removing from our full-year forecast eight months of regular blood screening sales. But we do expect some trailing, low-margin revenue, mainly related to raw material and instrument supply that we will continue providing. We forecast this trailing revenue to total $15 million to $25 million for February through the remainder of the year. So taking into account our first quarter actuals and relative to our last blood screening revenue forecast of $240 million, the net impact of the divestiture is a revenue reduction of between $130 million and $140 million.

Said another way, we now expect to record blood screening revenue of between $100 and $110 million this fiscal year, with the majority of it in the first and second quarters. Factoring in a few other minor adjustments, this leads to our new revenue guidance of $2.785 billion to $2.825 billion. Underlying this, our base business remains healthy. For example, if you were to exclude at the midpoint $105 million of blood screening sales from 2017, and also remove blood from last year's results, our new guidance would imply constant currency growth for our core business of between 4.2% and 5.8% on an apples-to-apples comparisons.

Now, for the second quarter of fiscal 2017, we expect sales of between $675 million and $685 million. Again, this includes one month of regular blood screening sales, plus a portion of the trailing revenue related to raw material and instrument supply that I mentioned before. So in total, we expect blood screening to contribute between $25 million and $30 million to our second quarter reported results.

To give you a sense of guidance for our underlying core business, if you were to back out $27 million of blood screening sales at the midpoint, and also remove blood screening revenue from last year, our quarterly guidance implies constant currency growth rates for our core business of between 3.6% and 5.3% on an apples-to-apples basis. As part of this, let me remind you that Surgical sales are somewhat seasonal, so we expect them to decline sequentially from our first quarter to our second quarter, like in prior years.

Now let’s move on to our revised EPS guidance. As a reminder, we previously guided to earnings per share between $2.12 and $2.16. Using the same logic as before, we are essentially removing eight months of regular blood screening EPS from our previous forecast. Then we add back a small amount of earnings from the $15 million to $25 million of trailing revenue that I mentioned. These sales will come in at lower-than-normal margins, so relative to our initial guidance, we forecast the net reduction in EPS from the blood screening divestiture will be about $0.21 for the full year in 2017.

Factoring in a slight headwind from currency, we arrive at our new, non-GAAP EPS guidance of between $1.90 and $1.94, which includes roughly $0.13 related to blood screening. Again by way of illustration, if you were to back out blood screening EPS from this year's forecast and last year's results, our forecast implies reported EPS growth rates for our core business of between 11.3% and 13.8% on an apples-to-apples basis.

Now, for the second quarter of fiscal 2017, we expect earnings per share of $0.45 to $0.46, which includes roughly $0.03 of regular earnings from our blood business that was just divested. Using the same methodology as before, this implies reported EPS growth rates for our core business of between 13.5% and 16.2% on an apples-to-apples basis.

Our new guidance assumes a full-year tax rate of approximately 31%, and diluted shares outstanding of between 287 million and 289 million for the year. Our guidance does not assume any additional capital deployment, although we do intend to explore repurchasing some of our remaining convertible notes, and our common stock. We're not incorporating any potential benefit into our guidance for two reasons. First, the magnitude and timing depend on market and other conditions. And second, since we're already four months into the year, the 2017 impact is likely to be very small.

As you update your forecasts, we would again encourage you to model around the middle of our guidance ranges. Not only have we incorporated both upsides and downsides into our forecast, we also have some added uncertainty around the trailing blood screening revenue.

Now, before we open the call for questions, I'd like to conclude by saying that we are off to a good start in 2017. We began our fiscal year with quarterly revenues that exceeded expectations, encouraging results from key future growth drivers including new products and international, and earnings that grew at a multiple of sales. Finally, we completed a divestiture that strengthens our balance sheet while accelerating the company’s growth rates.

With that, I will ask the operator to open up the call for questions. Please limit your questions to one plus a related follow-up, then return to the queue. Operator, we are ready for the first question.

Question-and-Answer Session

Operator

Thank you. [Operator Instructions] We will go first to Dan Leonard with Deutsche Bank.

Dan Leonard

Hello. Thank you. So, first off, I'm curious. If you can comment on whether or not your M&A pipeline has built since you announced the blood divestiture.

Steve MacMillan

We've had a lot more calls from bankers, but I would say we are pursuing the same plan. We've got a lot more people that we meet with -- at various conferences. But, at the end of the day Dan, we are keeping very focused, very disciplined and going about things to see where we've always been.

Dan Leonard

Okay. Thank you for that. And not an entirely related follow-up, but can you comment on as it relates to your order book for Tomo, may be any thoughts on the hospital capital spending environment and whether any of your customers have shown any more uncertainty given all the changes, potential ACA and what we have here?

Steve MacMillan

Sure, Dan. We continue to be in very close touch with our sales folks around, are they sensing anything changes in the environment, we are not hearing much or anything. And I will tell you, I think we continue to feel very good about the bookings that are still coming in on the business. So, that can always change. But, nothing at all at this point.

Operator

We will hear next from Jack Meehan with Barclays.

Jack Meehan

Hi. Thanks. Good afternoon. I wanted to ask about the molecular franchise maybe start with sexual health and just anything worth pointing out in terms of the trends with some of the protest you have there?

Steve MacMillan

Yes. I think at a high level when you see the 8.8% global growth in molecular, we continue to feel very good both domestically and really internationally and a lot of that is -- frankly, it's all the core business. It's the women's health assays. Internationally the virals are starting to contribute Jack, but there is still a very small and we've got a few ancillary assays here and there. But, for the most part, it is our core women's health assays driving the growth.

Bob McMahon

Yes. I think Jack just add to that. If I look at the core assays that we have both on a domestic and global basis, I would say we grew faster than market. We gained share and the three key assays that we have and we are already looking for number one share in CTGC, HPV and [indiscernible]. And I think we continue to feel very good about continued piece of our Panther placements as well. So, I think that bodes well for the future.

Jack Meehan

Great. That's helpful. And then, just want to follow-up Bob on the share repurchase, I was surprised that just with the upcoming proceeds from blood screening that you weren't a little bit more active in the quarter, you thought about putting it to work. Just your philosophy there and any update thoughts, would be great? Thanks.

Bob McMahon

First, obviously with that, we weren't able to even if we wanted to because we were in blackout for the large majority of the time. But, that being said, I think our priorities continue to be Jack that we want to clean up the balance sheet. We talked about the converts, we have taken now the first tranche in those converts by doing that it also helps with the dilution.

So we will continue to look at that and then also be very disciplined that's around M&A and growth and augmenting our R&D activities and be opportunistic with the share repurchase. And that's kind of the order of priority. So, we are looking at all of those levers throughout the course of the year, timing is always difficult to predict on those things. But, rest assure that we plan to utilize those capital -- those proceeds in a various ways.

Operator

We will hear now from Bill Quirk with Piper Jaffray.

Bill Quirk

Great. Thanks. Good afternoon, everybody.

Steve MacMillan

Hey, Bill.

Bob McMahon

Hey, Bill.

Bill Quirk

So, I guess the first question is on [NovaSeek] [ph] kind of continues to surprise the upside despite kind of lapping some of the competitive dynamics. Can you just talk maybe a little bit about what's your expectations are for, I guess surgical broadly and [NovaSeek] [ph] in particular here as we think about 2017?

Steve MacMillan

Sure, Bill. I think we have been very pleased with what our team had already done by stopping the declines of NovaSure and trying to get into a modest growth business before the competitive withdrawal. We have clearly benefited for the last almost four quarters from a competitive withdraw that's inflated those growth rates. But, we still think it can be a growth business. And MyoSure as well continues to probably defy a lot of expectation. So, we continue to be very, very encouraged by what this business can do. Now, after eight straight quarters of double-digit growth, certainly that the comps and the stacked comps and everything else continue to get tougher and tougher. But, we feel good about where the business is going and good about the international opportunity and good about the fact that we are just launching NovaSure Advance that will bring some new life into the franchise.

Having said all of that, we are clearly assuming a return to single-digit growth here as we go into the second half of the year and probably a more modest growth rate from what we have been able to achieve.

Bob McMahon

I was going to say Bill if you -- if you recall the competitive product was first recalled at the end of the -- our fiscal first quarter and then was permanently taken off the market in our second quarter. So we would expect Q3 and Q4 to be at a more normalized growth rate to Steve's point.

Bill Quirk

Okay. Got it. I appreciate the color on NovaSure, no question. And then, just secondly for me, I guess thinking a little longer range, it's more of a housekeeping question, I guess. That the raw material supply going to Grifols that's not a one time or a one year phenomenon, all right? That's presumably something that should continue albeit at low margins in 2018 and beyond. Thanks.

Bob McMahon

Yes, Bill. That's right. I mean, it's a combination of a couple of things. Probably the biggest piece is actually the Panther systems. And the spare parts associated with those, so we will continue to be a partner there for a period of time as well as that raw material that we just talked about. But, that is a -- we would expect that to continue on into beyond 2017 for a period of time, yes.

Operator

And from Evercore ISI, we will hear from Vijay Kumar.

Vijay Kumar

Hey, guys. Congrats on a nice quarter.

Steve MacMillan

Hey, thanks Vijay.

Vijay Kumar

Steve maybe going back to that M&A question on -- if I think about -- you have the proceeds, right? If you think about pause the uncertainty whether it's from water tax or from a corporate tax reform, is that an impediment or hurdle when you think about available asset?

Steve MacMillan

Not really. I think we are going to continue to look at the assets. There is so much uncertainty now certainly around whether it's tax rates around everything else. We are going to continue to look at everything on its own merits and continue to be very disciplined in what we are looking at. But, we have the money, it doesn't mean we are going to rush out and spend it.

Vijay Kumar

And just a follow-up for that. is that the net impact of water tax and corporate tax, is that a -- in general that's a positive benefit for Hologic, somewhere around 500 bps of production tax rate, is that how should we be thinking about it?

Bob McMahon

Yes, Vijay. This is Bob. It is a positive for us when you think about our manufacturing and obviously our revenues are largely U.S. based but also when you look at our COGS, it's roughly 70:30 U.S. international. So we would expect to be benefiting. It's hard to put a number on that because we don't know what the actual base rate is. But, rest assured we would expect to be a net beneficiary associated with any kind of border tax adjustments.

Operator

We will hear next from Tycho Peterson with JPMorgan.

Tycho Peterson

Thanks. Steve, can you talk a little bit about international breast health flat in the quarter but presumably you got a timeline for that to start to grow, is there right management team there. So can you just talk a little bit about when you think that may start growing again?

Steve MacMillan

Sure, Tycho. As we said, earlier on diagnostics and surgical probably leading the growth internationally given the fact they are more direct than dealer. Having said that, we are seeing some pockets of building and even our European Breast Health business, where we have put a new leader in place nine or ten months ago we are starting to see some better results there. But you also have other businesses like Latin America that are little more fluctuating. So I think as we look fundamentally, we feel the business getting stronger and I think it will slowly start to tick up over the course of this year.

Yes, it's probably going to be more 2018, 2019 before it can hit more of a stride. And again, just as we work through dealer issues and other things. But, feel we are definitely on the right path and making good progress.

Tycho Peterson

And then, from my follow-up on skeletal health, you had a tough quarter there last quarter as well. It sounds like things have turned, can you maybe talk what's driven the softness and what you can really do to -- from that business?

Steve MacMillan

Yes. I think we probably took our eye off of the ball just a little bit. We have been continuing to evolve the sales organization in the U.S. And frankly, it sold in conjunction in a lot of cases with our Breast Health portfolio. As we launch our firm and have the managers focused on other new products, I think we would probably took our eye a little bit off the ball on staying as focused is also a little bit of competitive activity in the see arm space. But, in general I think just we reported as a segment but it is managed more as a product line to some degree and a relatively small one and just didn't -- haven't delivered for the last couple of quarters. So, but we feel good, the order trends were starting to pick up here.

Tycho Peterson

Okay. Thank you.

Steve MacMillan

Thanks Tycho.

Operator

We will hear next from Isaac Ro with Goldman Sachs.

Isaac Ro

Hey, good afternoon guys. Thank you. How are you?

Steve MacMillan

Hi, Isaac.

Isaac Ro

Yes. One question on molecular and maybe a follow up on business development. On the molecular side, I think between yourselves and Roche, there has been pretty good growth trend from a couple of the major players this quarter. Curious, if there is a market share dynamic that you think is meaningful or is it really just market growth, we obviously don't have good visibility into every player, but certainly seems like you guys are holding your own against some of the bigger companies?

Steve MacMillan

Isaac, our first assumption whenever we are doing reasonably well is always that the market is doing well. Sometimes after the fact that it actually looks like share has been -- has helped. I mean clearly Roche continues to do well. They are a very strong player. We think we have certainly done okay. But the market was probably half of this in last quarter, we don't have complete visibility but I would always rather assume, it was that then be taking credit for share.

Bob McMahon

Having said that, I mean just -- I think the market dynamic has been healthy, but if you look at the major products that we track the three big ones, we definitely believe we are a share gainer over time in all three.

Isaac Ro

I think it's helpful. Thank you. And then, just a follow-up on --

Steve MacMillan

I always look to come out after the fact as you know, the same with Genius 3D.

Isaac Ro

You got it. Thank you. And then on the business development side, you guys talked a little bit about your plan to invest time in resources there. How do you feel about your ability to execute on M&A to be sent that -- interesting deals you want to flow across your radar tomorrow? Did you feel like you will be able to go ahead and execute on them given the balance sheet? And really I’m just talking about the team from the senior level, do you have all the people in place and will appreciate to the extent that you can comment just remind us the metrics that you guys typically tried it to apply on ROIC versus the EPS accretion when you are evaluating these deals? Thanks.

Steve MacMillan

Sure, the highest level I put the – that we do have the team in place now we added our final addition was a Head of Corporate Business Development and I liking it a lot of what we've done internationally with our leaders that over the course of the last year, we put the foundations in place, we put the right people in place. That I do think we’re in good place to execute on deals now. Each division has a very good business development lead and then we’ve got the resource at corporate. So we’ve quietly been building that up and we’ve looked at a lot of deals and I’ve learned long ago from my mentor at Stryker, John Brown.

In most cases, the best decision on business development is no, and we'll continue to be very disciplined, but the flow and the amount of time that certainly Bob and I've spent on deals over the last six months much, much better. And I think as we sit here, I probably will be surprised if 12 months from now if we haven't some something, but continuing to stay focused.

And to your second point, ROIC is going to continue to be the key part and then ultimately we’ll launch something that is top-line and bottom-line accretive in growth rate for the company. So we'll be looking at things that could accelerate our top and bottom-line growth, not just up for example that would make us bigger. But at the end of the day, it's going to be about both growth rate and ROIC will be the big things we will be looking at as well as obviously being able to leverage our existing channels is always going to be kind of the first port of call.

Operator

We'll hear next from Jon Groberg with UBS.

Jon Groberg

Great. Thanks a million. Just two related questions for you if you don't mind. The first is if you could maybe give a little bit of more detailed update on the firm and some of the other new products how that did. And then, more broadly I'm curious one of the question works around logic has been some of the assets whether all kind of women's health don't necessarily fit together. I'm wondering if you can just talk about, are you finding synergies or finding ways to better find revenue synergies whether it would be to the OB/GYN channel across all the different products. I'm just kind of curious how that sales development is going with your existing assets and kind of what opportunities you might think in the future. Thanks.

Steve MacMillan

Sure, Jon. I think the first part in terms of our firm, I think we feel very good about each of our products continuing to build momentum. And I think as we said about things like a firm, the firms going to add to our growth here in 2017. It will be bigger in 2018 than it will be in 2017, it will be probably even bigger in 2019 than it is in 2018. So I think we're in the early stages of all of these launches like virals like a firm and then things that will be coming on behind these. So feeling good about that.

In terms of the leverage, I think one of the more obvious paths we’ve been able to leverage is in Genius 3D mammography for example where we’ve been able to detail to OB/GYNs that we have this technology. And in the past all we did is call on radiology. So we are looking and there are opportunities where sales forces are at least talking about some of the other products in our portfolio. And we're looking for them where they opportunistically exist. We’re not forcing synergies where they don't exist.

Bob McMahon

And that said even though there is not a tremendous amount of cost synergies. We're still a very profitable business as you know, Jon.

Steve MacMillan

Yes. What we also like to as you look forward in terms of our diagnostics business, which is on the molecular side and also the cytology side and then you've got an imaging side. As we look at where science is going the ability to have people that have some general expertise in different modalities of diagnostics across women's health, we think ultimately there are some opportunities that may play out deeper into the future.

Jon Groberg

Thanks.

Operator

And from Cowen & Company, we'll move to Doug Schenkel.

Doug Schenkel

Hi guys, good afternoon. Thanks for taking the questions. Both things I want to talk about are specific to diagnostics. In the U.S. and the quarter with some extra days we might have expected a bit more growth. I was just hoping that you might be able to provide a little more color on how things broke out between blood, cytology and U.S. molecular specifically.

And then on a more positive note, international sales was strong in diagnostics. I know it's early to say too much about how things are progressing with the international sales force and how they are progressing, but it would just be good to hear a little bit more about whether this is driven largely by instrument placements or whether utilization is also ramping up. Thank you.

Steve MacMillan

Sure, Doug. I think the highest level in terms of the U.S., lot of our customers we actually have sort of standing orders every month and the extra days didn't have as much of an impact as we probably would have thought. We traditionally do very little business in that week between Christmas and New Year. So, it helped a little bit. It would have been nice to help more maybe, but again I think a fairly light week. Internationally, Panther placements I think continue to be probably the single biggest driver, utilization is starting to get up, but we're definitely getting some new customer wins that's starting to drive that.

Bob McMahon

Yes. I was going to say Doug a couple of other things to think about we had mentioned the -- one the headwind of the cystic fibrosis product that we are going against. So if you actually strip that out that was couple of million dollars in the quarter last year that didn’t happen this year. That would add at least the 0.5 of growth. In addition to your point around blood actually declined in the U.S., high single-digit. And so despite the sales of the Zika and so forth, it was still down and so that is actually depressing the overall diagnostics business and if you strip that out the business would be a lot better in the U.S.

Operator

We'll go next to David Lewis with Morgan Stanley.

Steve MacMillan

Hi David.

Scott Lange

Hi, guys. This is actually Scott Lange asking for David. Two quick ones from me, Steve or Bob, the 2Q revenue guidance adjusted for blood screening and the [stud] [[ph]] sales seems a little light versus our assumptions. Are there any timing related dynamics to consider in the second quarter or pull forward into the first quarter?

Steve MacMillan

There is not pull forward I can promise you that. I think it's our toughest comp. I think we're going to easier comps in the third and fourth quarters. So it's a little bit below our annual guidance, but…

Bob McMahon

Yes. And the other thing is Scott, when you're looking at -- when you're modeling our surgical business typically the fourth quarter -- calendar quarter, which is our first quarter is the largest quarter there and you'll have a sequential decline for our second quarter that happened last year we're anticipating it happening in this year. So when you look quarter-to-quarter that's when you would see that core business sequential decline largely because of the surgical business. Now versus a year ago, we still expected to grow, but you do see that kind of step down.

Steve MacMillan

Yes. That business is becoming a bigger chunk. It probably is a little bit more pronounced.

Scott Lange

Got it. And then just as a quick follow-up for Bob, regarding the dilution from blood screening, does an ASR not make sense to lock -- in order to lock-in some dilution offsets and can you also comment quickly on the margin dilution you expect from the overall blood screening divesture? Thank you.

Bob McMahon

Yes. Every company has -- each indication or instances is different around whether an ASR is appropriate or not. What I would say is we have -- we still look at our balance sheet and say hey, we can clean it up with the converts and simplify our balance sheet there. And I think given the short-term nature of those things getting ready to be callable. I think that's probably our first priority versus an ASR.

And then, again, as Steve was talking about we're really looking at opportunities for growth as well. And so I think those would probably take priority over the share repurchase and we think that there maybe some opportunities as Steve said between now and the end of the year or year from now we would expect to be doing something in both of those cases, so that's kind of how we're thinking about that.

On the margin perspective to your point, we do -- blood was a very profitable business as you know, our margins will decline. Again on a core apples-to-apples basis, we expect margin to increase year-over-year, but you would see a slight decline versus year ago on an actual reported basis. Less than probably 100 basis points given that we do have still at 4 plus months worth of blood in our business, but that kind of -- should give you a kind of a perspective.

Operator

We'll hear next from Brian Weinstein with William Blair.

Brian Weinstein

Hi, guys, thanks for taking the question. Question on OUS infrastructure, you talked about some of the heads that you have in place now in kind of the four territories that you decided, but could you talk about any added investments that are needed to either people or infrastructure over the next several quarters and how you think about profitability OUS versus U.S.?

Steve MacMillan

Sure. We've got the right leaders in place. We're investing in people -- adding sales people were needed and all of that, but we're all self funding effectively that and just being rigorous like we are in every decision we make add few, so we're not coming out and saying hey, we're going to take a quarter or a year half while we make investments. We're self funding those as things take off in one market, we'll add some reps for example in another market and build it that way.

So, I think we feel good, overall to your second part of that question, profitability internationally is lower. We typically on a margin basis, we typically have a combination of factors from some lower selling prices, we're also by the way because we produced a lot of our products in the U.S, the strong dollar is not – not our friend as it relates to international margin. And also going through dealers particularly in the Breast Health, all of those serve to depress the gross margin, which therefore as our business continues to grow and international picks up, the ability for that much more expansion of gross margin starts to moderate.

Bob McMahon

Yes. Couple of follow-on things on that Brian, I think one of the things that's really exciting is the opportunity now that we do have these regional heads and they are going to be able to prioritize the investments across the regions rather than having the spread them across the globe and that's what those teams are doing right now and I think that actually-- we’re actually increased the productivity of the spend that's there.

And then on the second piece while international is lower -- lower margin than the U.S., year-over-year, we do expect margins to expand on a global basis. So we're compensating for that.

Brian Weinstein

Okay. Thank you guys.

Operator

We'll go now to Anthony Petrone with Jefferies.

Anthony Petrone

Thanks and good afternoon. Maybe couple on Breast Health and then two quick tax questions. Just on Genius installed base, I'm not sure you’ve given at the end of the quarter, but if that's available that would be helpful. And Steve you mentioned share gains -- continued share gains in the U.S. driving Breast Health, I'm just wondering what the outlook is going forward for ongoing share gains.

And then on tax, I'm just wondering what the political environment. It looks like a logic could be a big beneficiary as it relates to both border tax adjustment, but also the reduction in statutory tax rate, so any thoughts around that would be helpful. Thanks.

Steve MacMillan

Sure, Anthony. On the Genius placements, we only provide the numbers on an annualized basis, so we did that at the end of last quarter. We don't provide quarterly numbers. Having said that, it grew modestly in the U.S. this quarter versus the same quarter last year, so continuing to grow. And on the share front, I think we continue to feel good that we are probably punching above our weight and continue to feel good about what we're doing in terms of market share gains there.

Bob McMahon

Yes. Steve, let me add in a shadow out to our Breast Health team here in the U.S. is just doing a fantastic job around price and price discipline. So despite two competitors at a lower price, our pricing continues to now only be stable, it was actually up slight in this last quarter. I think that speaks to the value of our products that competitive differentiation that we have in the ongoing clinical and technical support that we have with our product. So I think that's one of the hidden gems that are helping to continue to drive that business.

And then on tax, as you rightly assume, we do think that we will be a beneficiary of whether it would be kind of the border tax or more -- any type of corporate tax reform. There is still a lot of details to be kind of figured out there. But one thing, I think we're probably in pretty good shape given not only our geographic footprint from a revenue perspective probably even more so. So, our geographic footprint from a manufacturing essentially all of our -- almost all of our Breast Health business and diagnostics business has produced here in the U.S -- our surgical business outside the U.S., but that's obviously our smallest piece and as I said before roughly 70% of all of our COGS, M&A is out of the U.S. So I think we would benefit nicely given the potential for corporate tax reform.

Operator

And from Leerink Partners, we'll move to Richard Newitter.

Ravi Misra

Hi, this is actually Ravi in for Rich, can you hear me okay?

Steve MacMillan

Yes, Ravi.

Ravi Misra

Hi, great. Thanks for taking the question. Just maybe one on the capital deployment areas, is there any sort of limit to how much of the converts that you guys can refer just or sort of any covenants loaning the amounts that you will be able to call back? And then, I just kind of sneaking a follow-up on sort of portfolio management and strategy with the underperformance in the skeletal health business. Are you guys for now, what's your take on whether the portfolio needs to be where is that or are you continuing to evaluate the businesses for additional sales or not? And then I'm trying to get one last one in, some of our checks here are talking about strong flu season, any commentary there would be appreciated. Thank you.

Steve MacMillan

Yes. We'll take the last one first and our flu related assets are very small, so that's our -- not a real impact for us. I would say I guess on the converts, there are certain limitations if you would go out and privately negotiate those creeping tender rolls and so forth it depends on. It also depends on whether the -- the holders are willing to sell. So that would happen overtime, but again within 12 months those things are all going to be callable.

And the last one I think was around skeletal and underperformance there. When I can't sell a business because it had one or two quarters of underperformance we think -- first thing is, let's fix it, we're not going to sell it in that. And the other thing is, it does have -- it's fairly integrated into our breast and skeletal -- our breast business especially around the service component and so we've got a large installed base as well as the service tax out in the field that can service both our products. So it's probably more integrated actually than even the blood business that we do just recently divested.

Bob McMahon

Callianna, I think we're coming up on 5.30 Eastern, so I think we've got time for maybe one more question.

Operator

And that will be from Derik de Bruin with Bank of America Merrill Lynch.

Derik de Bruin

Great. Thanks for squeezing me in.

Steve MacMillan

Hi, Derik.

Derik de Bruin

Hey, thanks. Couple of questions. So the cytology markets has been very tough, obviously some changes in protocol and such, is there anything that you see that can potentially sort of revitalize the business. And then also along those lines, you mentioned some of the products in the perinatal market, are you looking like pre-eclampsia or some other things in that area, can you sort of elaborate on that?

Steve MacMillan

Sure, Derik. I think as it relates to cytology, the way we think about it is, flattish in the U.S. is probably about as good as, as we could expect for sometime here and as we continue to offset the extension of the intervals with our own share gains. We still do think there is opportunities outside the United States, significant opportunities that is going to be a longer term build. But when you look at the presence of liquid base cytology outside the U.S. it's still underdeveloped. So there we think we do have some opportunities.

On the perinatal piece, I would say we've got our own clinical programs and it maybe more indication related or other things that we're looking at, but we realized we've got a nice little perinatal business and a dedicated sales team there. So there are maybe some opportunities to try to drive that business, that's one of the smaller businesses that we've quietly refocused on a little bit internally so you don't forget about it and starting to feel there are maybe some opportunities for us in the coming years.

Operator

And thank you everyone. That is all the time we have for questions today. This now concludes Hologic's first quarter fiscal 2017 earnings call. Thank you everyone. Have a good evening.

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