Invacare Corporation (IVC) CEO Matt Monaghan on Q4 2021 Results - Earnings Call Transcript

Mar. 09, 2022 1:12 PM ETInvacare Corporation (IVC)1 Comment
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Invacare Corporation (NYSE:IVC) Q4 2021 Results Earnings Conference Call March 9, 2022 8:30 AM ET

Company Participants

Lois Lee - Director of Treasury, Investor Relations and Corporate Communications

Matt Monaghan - President and Chief Executive Officer

Kathleen Leneghan - Senior Vice President and Chief Financial Officer

Conference Call Participants

Robert Labick - CJS Securities

Matthew Mishan - KeyBanc Capital Markets

Operator

Good morning, ladies and gentlemen, and thank you for standing by. Welcome to the Invacare Fourth Quarter and Full-Year 2021 Conference Call and Webcast. After the management overview, we will open the call to questions. Investors and analysts interested in asking questions will need to dial-in as questions cannot be submitted via the webcast. For the first part of the call, all phone lines have been placed on mute. This conference call is being recorded, Wednesday, March 9, 2022.

I will now turn the call over to Lois Lee, Invacare's Director of Treasury, Investor Relations and Corporate Communications.

Lois Lee

Thank you, Katie. Joining me on today's call from Invacare are Matt Monaghan, Chairman, President and Chief Executive Officer, and Kathy Leneghan, Senior Vice President and Chief Financial Officer.

Today we will be reviewing our fourth quarter and full-year 2021 financial results and providing investors with an update on our business. To help investors follow along, we have created slides to accompany this webcast. For those dialing in, you can find a link to our webcast slide presentation that we will refer to during today's call at global.invacare.com/investor-relations. Further information can be found in our SEC filings.

Before Matt begins, I'd like to note that, during today's call, we may make forward-looking statements about the company that, by their nature, are just matters that are uncertain. Actual future results may differ materially from those expressed in our statements today due to various uncertainties. And I refer you to the cautionary statements included on the second page of our webcast slides and on our fourth quarter earnings release.

For an explanation of those items considered to be non-GAAP financial information that will be discussed on today's call, such as constant currency net sales, constant currency SG&A, free cash flow, adjusted EBITDA and adjusted net loss, please see the notes in the appendix of our webcast slides and in the related reconciliations in the earnings release posted on our website.

I will now turn the call over to Matt.

Matt Monaghan

Thank you, Lois. And good morning. Beginning on slide 3, I'd like to thank our associates who continue to work diligently to navigate the challenges caused by the pandemic where continued dedication to our mission is inspiring.

I'm proud of how the team finished the year, ending on a strong note and achieving constant currency net sales growth in the fourth quarter compared to prior year. Driving this improvement was mobility and seating products, which delivered a double-digit increase in reported net sales in the quarter, with particular strength in Europe. Shared with strong new order intake, excess backlogs remain higher than was typical before COVID.

In addition, we realized a sequential improvement in gross margin and adjusted EBITDA, primarily from favorable product mix and the benefit of price adjustments to offset rising costs. Coupled with lower SGA expense, sequential profitability and free cash flow improved materially. Overall, the fourth quarter improvement reflects strong demand and the result of effective action.

That said, to position Invacare for long-term success, we must continue to improve operating performance, optimize our portfolio for the current operating environment and continue to improve working capital and the balance sheet.

On slide 4, we note some of the initiatives to help us pivot to a more profitable and competitive business model. To that end, we've already taken steps such as the combination of our Europe and Asia-Pacific businesses under one leader, expected to create scale-based cost savings and synergies starting in 2022.

This year, we expect sustained customer demand and persistent now-familiar supply chain challenges. As a result, we expect to make business improvements, including optimizing our product line for efficiency in the current supply chain environment; shifting where and how we manufacture, assemble and distribute products, especially considering freight and logistics trends that have emerged from COVID; aligning staff levels and how staff are organized to be streamlined and responsive; and improving working capital to enhance free cash flow and strengthen the balance sheet as a result of actions aligned to current supply chain conditions.

While first quarter 2022 is expected to be our low point this year following a typical seasonal pattern of lower sequential performance, we anticipate these actions will drive sequential quarterly improvements for the final three quarters of the year where the majority of benefit is expected to occur in the second half of the year. As a result, we anticipate improved full-year adjusted EBITDA with North America expected to return to profitability.

We anticipate sequential quarterly revenue growth after the first quarter of 2022 and expect, as part of the product portfolio review, to see positive mix shift and better velocity as a result of selections that fit our operating model. Importantly, anticipated restructuring actions will drive improvements in gross margin, adjusted EBITDA and free cash flow over the full year to create long-term shareholder value.

After two years of external changes that have greatly impacted our business, we have a clearer view of new patterns likely to remain after COVID. These include changes in employment and labor availability, transportation routes, cost and duration, higher material costs and scarcity, and longer supply times. In 2022, we plan to make fundamental changes for stability, customer engagement, and improved financial performance that will make us more competitive and be a better partner for our customers.

I'll now turn the call over to Kathy who will provide a detailed financial summary.

Kathleen Leneghan

Thanks, Matt. Turning to slide 6, we finished 2021 with strong performance since both reported and constant currency net sales in the fourth quarter increased by 1%. Gross profit was unfavorable to the prior year as the benefit of pricing actions implemented during the quarter lagged the impact of higher material and freight costs. However, gross margin improved sequentially, driven by the benefit of pricing actions and favorable product mix, partially offset by higher input costs.

Importantly, operating income improved by $8.6 million and adjusted EBITDA increased by $3.6 million, driven by lower SG&A expense due to employment costs, including stock compensation.

Free cash flow improved by $3.6 million, driven by lower working capital, with continued elevated inventory levels higher than typical.

Turning to slide 7. In Europe, fourth quarter reported and constant currency net sales increased 7.1% compared to the prior year. Sequentially, revenue growth of 8.7% was driven by increases in all key product categories as a result of the easing of healthcare restrictions and the benefit of pricing actions to offset higher input costs.

Operating income more than doubled, improving by $9.3 million compared to the prior year as a result of gross profit improvement and reduced SG&A expense.

Turning to slide 8. In North America, fourth quarter reported and constant currency net sales both declined by approximately 7%. Constant currency net sales growth of 4.3% in mobility and seating products was more than offset by declines in lifestyle products.

As a result of the inefficiencies and the controlled deployment of our latest ERP expansion in North America in the quarter, revenues were temporarily impacted. The system was fully operational by quarter-end, with further efficiencies expected. As the system matures and supports more customers, we expect to recognize benefits that will continue improving customer engagement and financial performance.

Gross profit margin decreased as higher input costs, supply chain disruptions, and parts shortages led to unfavorable operating variances. In addition, we incurred higher operating costs to support the early activation of the latest ERP software. We realized a small benefit from pricing actions taken during the quarter, even though latent orders were fulfilled at previously-quoted rates.

Turning to slide 9, Asia-Pacific fourth quarter reported and constant currency net sales decreased with growth in respiratory products more than offset by declines in mobility and seating products, largely due to freight delays for inbound finished goods.

Operating loss for all other, which includes the Asia-Pacific business and unallocated corporate costs, increased compared to the prior year. This was due to lower profitability in the Asia-Pacific business attributable to lower revenue, almost fully offset by lower SG&A expense related to employment and corporate stock compensation.

Moving to slide 10. As of December 31, 2021, the company had approximately $316 million of total debt and $84 million of cash on its balance sheet. In 2021, we took steps to improve our financial flexibility with the issuance of new convertible notes which allowed us to retire nearly all of our 2022 convertible notes and extended debt maturity to 2026.

As always, we continue to look for ways to improve our financial results and to manage the balance sheet. In 2022, we expect to reduce working capital from the recent higher balances caused by COVID and our reaction to global supply chain disruptions. We are planning to have transformative restructuring investments, which we expect to fund throughout the year, and we may further optimize our balance sheet to support business needs.

Turning to slide 11. In 2022, the company is taking strategic actions, which by the end of the year will position Invacare for durable long-term success. These actions include organizational and supply chain changes and a narrowing of the product portfolio for those items which no longer meet customer or business needs, driving improved profitability.

As a result, the company anticipates full-year 2022 adjusted EBITDA and free cash flow to improve compared to the prior year and the first quarter 2022 adjusted EBITDA to be negative, with sequential quarterly improvements for the balance of the year as the expected profit improvement actions take effect. For clarity, the adjusted EBITDA guidance is based on 2021 actual performance, excluding the CARES Act benefits.

In 2022, SG&A expense is expected to be higher in the first half of the year based on the timing of the restructuring actions. Foreign exchange was also anticipated to be a headwind due to changes in foreign exchange rates compared to 2021.

Finally, free cash flow is expected to be variable in the quarters, but in line with historic seasonality, especially in the first half as the company funds customer rebates earned from 2021. However, the company expects sequential improvement in free cash flow for the final three quarters of the year aligned with the expected improvement in adjusted EBITDA.

I will now turn the call back over to Matt.

Matt Monaghan

Thanks, Kathy. Turning to slide 12. We're figuratively standing on high ground, able to look back at the impacts to our business over the last two years, and now look ahead to make reasonable assumptions about the foreseeable future.

The world is certainly still dynamic and business conditions will continue to change. We have enough perspective, though, to take some big steps that will make us more successful by the end of 2022. Our markets continue to be healthy. We appreciate all the change our customers and end users have dealt with too.

Thanks to all our associates and the broader community that support Invacare. We're looking forward to a bright future.

We'll now take questions. Katie?

Question-and-Answer Session

Operator

[Operator Instructions]. We take our first question from Bob Labick from CJS Securities.

Robert Labick

You just discussed optimizing and narrowing the product portfolio. Maybe you could expand a little upon that, what segments and how much revenue might you walk away from? I'm assuming this means higher gross margins initially, but maybe lower gross profit initially and could enable lower SG&A down the road? So, help me understand if that's right. But kind of what segments, how much revenue is this affecting? And how should we look at it from a modeling standpoint going forward?

Matt Monaghan

From a high level perspective, it's not whole segments. It's really looking at the vast variety that is offered in all of our segments practically around the world. And just looking at the challenges that come from having that vast array of options and features in the supply chain environment, the easy hypothetical example is, if you have 23 colors of everything, maybe 22 or 12 or something else is easier when you multiply that by sizes and all sorts of features in all our custom and semi-custom products. That's one of the things that's caused our working capital to balloon so much, especially on inventory, and not be able to deal with the challenges of the current supply chain environment as effectively as we'd like to. So, that's a big thing.

It effectively makes us a better service provider to customers, lowers working capital and increases the velocity of things moving through our facilities with effectively no change to what customers are able to get from us. Maybe hypothetically, going from 23 colors to 20 colors, somebody loses out on some fringe variety, but, essentially, it's tightening up that offering, the breadth of the offering.

Kathleen Leneghan

I would add to that. From a modeling perspective, while revenue would decline because of the actions that we would take with product elimination or discontinuation, the offset to that would be the pricing actions that we have put in place. And so, that revenue could be flat, maybe down slightly, there would be puts and takes on both pricing as well as the discontinuations.

Robert Labick

You discussed incremental and additional, again, transformative restructuring. Can you talk about the overall scope and size and what geographies? Will this be eliminating some manufacturing facilities? Or how should we think about the cost reductions? And where will they be coming?

Matt Monaghan

Again, maybe a two-part answer. Kathy too. If you imagine the map that we operate in our network of sales offices, manufacturing facilities, service centers, and distribution locations, that map was created pre-COVID, pre current constraints of supply, current routes of trade, which are not at all what they were two years ago or even longer ago. So, the fundamental principles this year are looking at how does inventory move most easily. It's different ports of entry, different nodes of distribution network where we accumulate inventory, so we're close to customers and can be really effective in avoiding lanes of passage that are either unpredictable or too expensive or not always available [indiscernible]. And as Kathy mentioned in the prepared remarks, these examples to talk about Asia-Pacific where – when you're going to certain smaller countries that we serve, there are just points in the calendar lately where a bookable sea crate is not easily available. We've got to revise how we operate our physical infrastructure in this reality and go forward. And when we do that and look at narrowing the product portfolio, so that that variety flows smoothly in the current conditions, then the recipe is successful.

Kathleen Leneghan

Robert, in the process to finalize actions related to restructuring and as we solidify those, obviously, there will be costs that the company will incur as we go through 2022. But we're expecting the benefits to start being very visible in the second half of the year.

Matt Monaghan

Well, I think the other way to answer that, Bob, is that they're in the plan. We see those internally as making 2022 as effective as reported today with our outlook.

Robert Labick

Last one for me, I'll jump back in queue. Can you give us an update on a competitive environment? Obviously, a lot of the headwinds, vast majority of the headwinds you face are not unique to Invacare, right? There is supply chain, raw materials and everything else. How are volumes trending? And how is the industry overall doing? How's your share trending, I guess, would be the question. How's the industry overall, kind of handling these same impacts and headwinds?

Matt Monaghan

Well, I think nobody likes inflation. But I guess, what's common is it more or less affects everyone relatively equally. Now, maybe if one company in any industry is manufacturing in a location that's better or worse relative to freight or labor availability or costs than another, then there can be some arbitrage there. But I would say, generally, the markets that we serve, healthcare access is recovering. Maybe long term care facilities aren't fully back to pre-COVID census, but there's general access everywhere. And I think our customers and the suppliers who we compete with to exchange value in this industry are relatively working well together. I think everyone's more or less in the same situation, trying to deal with a very dynamic environment. And probably the most dynamism we have right now is just cost and availability of components and freight. And that's really for everyone.

Operator

We take our next question from Matthew Mishan from KeyBanc.

Matthew Mishan

I just want to start off with 1Q sales sequentially down. How should we think about them compared to kind of 1Q 2021 last year because there's a big delta between where those were last year in the first quarter and where you ended the fourth quarter?

Kathleen Leneghan

Matt, normally, the first quarter is our lowest quarter from a revenue perspective. We would anticipate the same seasonality that we would normally see in a year, so the first quarter would be the lowest. We would have, obviously, benefits from pricing actions that have been taken. But as Matt mentioned earlier on this call, we also will see a drop because of product elimination or product discontinuation. That will impact Q1, probably more towards Q2, but there will be some impact on that as well. But Q1 would naturally be our lowest quarter for revenues and we expect that same seasonality in 2022.

Matthew Mishan

It sounds like if you take just the moving pieces, somewhat similar to where the first quarter of 2021 was last year. Is that a fair characterization?

Kathleen Leneghan

That could be a reasonable assumption.

Matthew Mishan

Can you talk a little more about the ERP implementation and how that impacted sales in the fourth quarter and kind of where are you now in it?

Matt Monaghan

The ERP implementation, the next wave of it really brough online availability of customers to order and have orders fulfilled for non-custom configured products, starting in October and, as company would do, starting off this kind of normal throttling of order and output, so you can check all the technicalities, make sure invoicing is right and shipments are right and things like that. And that took two or three weeks to make sure that we were ramping up the velocity appropriately, kind of a light October, normal November and a little bit higher December output. But December up wasn't enough to offset the first couple of weeks of throttle output in October as we were going live. So that was really the impact. All the functionality is online now and throughput is working. So, we expect efficiencies to grow from here, already have more customers using the system than the previous system. So, we're encouraged by that, and I think a lot of mid-functionality is helping customers interact with us more easily.

Matthew Mishan

I'd say what the bright spot in the fourth quarter for me was the profitability in Europe. Can you just help me understand what drove that and how much of that is typical seasonality versus some of the actions that you kind of implemented to improve that?

Matt Monaghan

Kathy can take you through that.

Kathleen Leneghan

Yes, definitely. We had nice profitability in the fourth quarter. A portion of that are sustained SG&A cost savings that had been implemented previously, and we've seen the benefit of that in the financial results.

We also had nice growth, growth both sequentially as well as year-over-year. Markets seem to open more in relation when you compare it to 2020. So, because of the additional volume as well, there were manufacturing efficiencies within the operation side of the house, which definitely impacted and improved their margins versus historically where we were at earlier in the year as well. They continue to be challenged by supply chain issues, just like the rest of the businesses as well, but definitely a nice improvement in the fourth quarter and really driven by the revenue growth as well as expanding the margin, but most cost savings that have been implemented previously that we can now see coming through the SG&A.

Matthew Mishan

Any update on the FDA warning letter? And did that have any impact on the quarter or on guidance?

Matt Monaghan

Typical update, very clear observations that needs a different kind of corrective action internally. We're very clear on what those actions are. We've submitted our normal monthly updates to FDA, and we take all those very seriously. We think we know we need to do that to correct those and I would say normal course of those corrections underway [indiscernible].

Matthew Mishan

Lastly, the accounts payable balance, I look back and there has been some variability as you move from 3Q to 4Q in that historically, but is there anything you want to call out around accounts payable and how you're managing that, given the supply chain and how you expect that to reverse out into next year.

Matt Monaghan

Maybe we both answer that. As we transition into the COVID period and transportation costs have gone – for example, crossing an ocean in four or five weeks to 17 weeks by the time a container has gotten out of a port, it's easy to imagine that working capital stretches out inventory payables and not so much on the receivable side. But, clearly, terms have needed to lengthen out that follow the physical flow of inventory and the total days to converting inventory into cash on the back end. So, I think that's kind of a normal cycle. As we improve velocity, narrower selection of products, that helps us make inventory moves through the system more swiftly in 2022, we would expect those things to improve. I don't know, Kathy, if you'd add to that.

Kathleen Leneghan

I think that's spot on. It really is a relation of the transit time. And the receipt of inventory is significantly lengthened. And just matching up those payment terms without those delays that we would anticipate the AP beyond is just going to continue to come down as we come into 2022.

Matthew Mishan

And you guys still think you can improve free cash flow year-over-year with the accounts payable coming down?

Kathleen Leneghan

I was just going to say we have significant investment in inventory on our balance sheet that needs to turn to cash, but still would see improvement in free cash flow.

Operator

[Operator Instructions]. We currently have no further questions. So, I'll hand it back to our speaker team.

Matt Monaghan

Yeah. Thank you, Katie. And thanks to everyone for taking time for the call this morning. I hope you have a good day. Happy to follow-up by contacting all three.

Operator

Thank you all for joining. This now concludes today's call. Please disconnect your lines.

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