Executives
Mike Mahoney - President and CEO
Dan Brennan - SVP and Corporate Controller
Analysts
Brooks West - Piper Jaffray
Boston Scientific Corporation (BSX) 25th Annual Piper Jaffray Healthcare Conference Call December 3, 2013 8:30 AM ET
[No presentation for this event]
Question-and-Answer Session
Brooks West - Piper Jaffray
All right, we’re live? Good, thank you. So, welcome to the next session here. My name is Brooks West, I’m one of the senior analysts on the healthcare team here at Piper Jaffray, very pleased to have the guys from Boston Scientific here Mike and Dan thanks for (inaudible) a little time out of your busy schedule for us.
Mike Mahoney
Pleasure to be here.
Brooks West - Piper Jaffray
Let’s get right into it. The recurring theme so far, dinners and breakfast and early meetings has been the return of volume in the cardiovascular space, specifically in the CRM space, but also more broadly, I mean I’m looking at even one year ago it was almost unthinkable that we would be returning to growth here. You were actually very prescient in your Investor Day in predicting return to growth.
So one of the -- I wanted to start with how does this change the options that you have in front of you? If you look even into your guidance for this year, you are ahead of plan, looking into next year these trends seem sustainable. As you look at -- it was a diversification play away from some of these CRM franchises. What are your options now and how are you changing your thought process in looking at the business?
Mike Mahoney
Thanks. Good morning. I would say overall we haven’t changed our thought process. We have a couple of main objectives, one is to we articulated at the Investor Day to improve our execution in our core markets where CRM and interventional cardiology represent 55% of our sales. Second one was expand into new adjacencies, globalization, and then ability to improve profit margin. So our overall strategic plan will stay intact. The great news is, as you said through third quarter, we're ahead of plan, ahead of our targets, and we look at the improvement in the markets as additional tailwind there.
And so it is slightly above the market growth in terms of procedure volume that we anticipated. We're seeing essentially flat growth for CRM which is an improvement. We're pleased that we grew faster than market in ICD business. So we see that market improvement as an additional tailwind. But overall, we're very excited about through third quarter, being ahead of our plan and really our strategic plan of improving our core, these adjacencies we can talk about and globalization is working.
Brooks West - Piper Jaffray
But I’ll push -- let me just push a little bit more. As you look and you are ahead of plan, you’re throwing off a ton of cash; does it -- take CRM in particular, does it allow you to look at either speeding up some of the new investments that you're planning on making? Do you look at -- hey this is now a business with a return in volume that I can maybe put a little bit more emphasis there? I mean how does…
Mike Mahoney
I think we’re putting a lot of emphasis on it already. So, if you look at what we've done within the Rhythm Management area, so we look at it beyond CRM, we look at Rhythm Management where EP influence is a $13 billion market between ICDs, pacers and EP. And so, we put a significant investment in that Rhythm Management area over the last two years and particularly that when you look at organic pipeline, new launches that we'll have in 2014, the S-ICD acquisition, the Bard EP acquisition, the Rhythmia acquisition, our own internal pipeline within EP, we've really kind of thought the procedure volume would stabilize and improve. And we see the power of having a full suite of solutions with the management. So I think we’re very adequately invested currently.
And if anything, one really encouraging point, if you look at our global P&Ls and we put it out this way. Beyond the growth opportunity which we see is exciting for S-ICD in that pipeline, the margin improvement opportunity in the CRM is significant. And a big portion of the story when we look at 500 basis point, 600 basis point improvement over the next five or six years in our income margin, so like the growth side. But as importantly if not more, we see a margin improvement story within that segment of our business.
Brooks West - Piper Jaffray
Okay. One other thing, there has been some speculation with the CFO change on points of emphasis. And again, I want to go back to the Analyst Day presentation. It’s been very much a leverage story and kind of a slow return to growth. Dan, you are sitting here with us today; is there a change in any of the thought process, do you focus more on top-line versus leverage or how do you think about that as you take Jeff’s chair?
Dan Brennan
No I don’t think there is really a shift in emphasis there because 2013 has been successful. If you think back, there was a slide we had shown at Investor Day talking about 2013, our goal is to return the company to growth in the second half. As you mentioned earlier, we did that little bit early in the second quarter and should be growing for 2013.
Looking forward, we had talked about getting to low single-digit growth in top-line and mid to high single-digit growth in EPS in the ‘14, ‘15 timeframe and then longer term getting to that mid-to-high single-digit revenue growth with continuously expanding margins. That’s still the goal. What we are trying to build through the turnaround of ‘13 and beyond as a company that consistently grows the top-line and with the margin expansion story that Mike had mentioned that provides us a lot of headroom relative to margin.
Brooks West - Piper Jaffray
Okay. I want to get into some specifics, Mike, on your comment on better execution. But before that, the other thing that we’ve talked a lot about so far at this conference has been the notion of a heart team. And you’ve now got this concept of [interventulous] working with surgeons, and as the company has approached that, there seems to be an emphasis on scale and breadth of product. Do you feel like – you’ve made some recent acquisitions, but as you think about the concept of a team approach within the cardio suite, do you have what you need?
Mike Mahoney
Well, you always want more. But we are really pleased with the progress of our pipeline. And so, we’ve been very focused on looking at a cardiovascular service line administrator and offering a breadth of our portfolio that we have been speaking. And if you look at the adjacencies we have organic pipeline and what we’ve acquired, they tie to that strategy. So within interventional cardiology, having a leading DES platform, we just recently been had the premier product approved, we have SYNERGY approved in Europe, with the DES line, what we’ve done with BridgePoint with chronic total occlusions for complex coronary, we are making advances in our imaging line. We’ve moved over to structural heart, we’ve moved over to hypertension.
So, we do believe there is a benefit to a hospital system in today’s market to be a broader-based provider of solutions. And we feel like we have an excellent pipeline vis-à-vis the competition in those categories. And so, we think that is a competitive advantage for us. And we also -- that’s similar to the Rhythm Management story that we talked about with our CRM and EP.
So those are the things we are interested in and we also have a BSC venture group that we’ve really stood up over the last two years. And we’ve made we think some smart investments. It’s in early stage kind of wide space and adjacencies that potentially could fill in some other opportunities within that strategy.
But also I do want to emphasize the rest of Boston Scientific, the rest of Boston Scientific that would never get less play, the 45% the MedSurg businesses and our peripheral business actually grew 12% in the third quarter. So very strong quarter with 8% year-to-date and excellent market conditions, and better market conditions, better priced environment and we’re [leading] the shares. So, we spend a lot on our cardiovascular service line and our Rhythm Management service line, the other 45% of the business is doing, performing very well as a company.
Brooks West - Piper Jaffray
Right. And I think as analysts we’re guilty of focusing more on the negative over the top of markets. But again, it comes back to my original premise that I just couldn’t imagine sitting here a year ago that we’d be talking about growth in the CRM markets and here we are. So it kind of -- the stocks were all up, you guys have had a phenomenal share price performance this year. And I think we’re all getting used to kind of rebasing how we’re looking at value, how we’re looking at opportunities given what's going on again with the volumes. And it’s intriguing to kind of talk about what this might accelerate or open up new opportunities.
I want to focus on may be as an analogy of better execution, your EP business. You came from Johnson & Johnson, you had the number one franchise, it’s been a bit of a rebuilding process. But maybe as an analogy of broader, better execution, talk about EP, talk about going in trying to take a real estate within the lab, the product portfolio and kind of how that's going where that can go.
Mike Mahoney
Sure. Overall, we really like the EP market. It's about $2.5 billion, $3 billion, it's growing double-digits, there is lots of new innovation there and there is many synergies with our existing CRM business. From a customer call point, from cost synergies, so makes strategic sense for us. We think there is room for a third, a stronger third player in EP. And given the synergies, we think it's a smart place to invest globally.
And so we have done a nice job of we think tying some assets together with our existing therapeutic catheter baselines, with the mapping capabilities, which we think are very unique and positive in terms of their efficiency with Rhythmia. And then we picked up some scale with the C.R. Bard EP business, not only in terms of diagnostic catheter line and coding devices but also globally. We’ve got very strong presence in Europe and a stronger presence that we have in Asia.
So, we're optimistic about the future. We clearly respect and have a lot of respect for that competition in that area. But we think there is room for a very aggressive strong [field] player. And as we look over the [strat] plan, we do see that providing meaningful lift in revenue and earnings story.
Brooks West - Piper Jaffray
So, as you're calling on the hospital, you've got -- and again going back to the real estate question, you've got Biosense system in, you've got a St. Jude system in. Is there appetite to have a third player; is there a room for a third player?
Mike Mahoney
Yeah. We did a lot of due diligence on that question prior to the acquisition of Rhythmia a year ago. And so hospitals are looking for productivity in their lab. They're looking for efficiency in a lab and the physicians are looking to make a very complex procedure which many times can take three or four hours to reduce that. And the Rhythmia platform has some unique capabilities with its 64 pole catheter [CP], inching very quickly and efficiently and reduces the turnaround time and time it takes to map the ateria.
Brooks West - Piper Jaffray
Okay. Maybe let’s spend a little bit of time on international. This has been a stated focus for kind of all the big med tech companies. Talk maybe a little bit, Mike, about how your approach is different versus your peers. Are there specific opportunities for Boston Scientific given your mix or given the history of the company, and kind of how we should think about emerging markets?
Mike Mahoney
Sure. It’s one of our key imperatives. And as a company through third quarter in 2013, I think it’s 48% of our sales or so, 47% of our sales are outside the U.S. And those regions are actually growing more quickly. The great news in the emerging markets, if you look at the BRIC countries, through third quarter were up almost 30% growth. The broader configuration of emerging markets now represents about 9% of our company and growing at 20%. So it’s a key critical piece of our longer term growth story and earnings improvement, so strategic and important for us.
And I think what’s unique, everybody is proud of the team, but we think we have an excellent leadership team that we’ve put together to lead these BRIC markets. We have leadership categories, for example in endoscopy and urology where quite frankly we hadn’t put a lot of focus in these markets in the past. So we have very high share and capabilities there that we are now registering products with a lot of training events, innovation centers, capabilities to bring those segments which are highly profitable to BSC and this market is starting to have an impact.
In addition obviously our core businesses of IC and PI, we are registering products. So a lot of basic portfolio registrations to launch those products, an excellent leadership team, innovation capabilities, we stood up our R&D center in Shanghai, training centers. And I think key piece of this is we run the business globally now. So our business presidents are responsible for global sales and global operating income. So, they are clearly incentivized and should if we make the right investments in the right regions to grow quickly.
And so, I think our operating structure is aligned to that, and it’s a lot of focus for the company. But I think what’s unique is some of these leading businesses that we haven’t been present but are now making an impact, and settling our phase for example in interventional cardiology, we’re leaders of the market there versus some of our competitors. So, our share position has been lower. But now we are growing 30% a year in BRIC, faster than many of our competitors. And we have a portfolio that we’re registering.
So longer term, we feel good about the sustainability of our growth in the BRIC markets because of our low share that we are now increasing and these new businesses that we’re registering portfolio in.
In terms of acquisitions in those markets when that comes up, I think they are very expensive. We look, but to-date we haven’t seen the right targets that would make sense for Boston Scientific very much.
Brooks West - Piper Jaffray
Do you feel like you need in country brands, I mean one of your larger competitors has gone after this notion of you know there is going to be a top tier of the market, but how it’s going to call the top 10% that can have western branded to access that next 10% to 20%, you actually need in country brands. I mean do you agree with that philosophy?
Mike Mahoney
We think you need a tiered portfolio for certain segments of the business. For example in interventional cardiology, we have one now. So in Europe we have a good, better, best strategy now. But our SYNERGY is our premium portfolio, PREMIER and then Promus. And so with that scale of advantages with one [ever own] this drug across those three drugs, three platforms, we feel like we have some cost advantages in that. So with that tiered portfolio, we think we can drive the right price points and cost capabilities in those markets with that current portfolio.
Brooks West - Piper Jaffray
Okay. Let me -- and please if there are any questions in the audience, raise your hand and we’ll get you in a minute here. Let me ask a margin question. Again, you’ve got the stated goals of margin improvement, it’s been I would argue, what’s been driving the Boston Scientific story; op margins going from 18% to 24%, gross margins coming into the kind of low 70%. Again, you’re ahead of plan.
Mike Mahoney
Exactly.
Brooks West - Piper Jaffray
Does it give you options, does it change anything, should we think about just accelerating those strategic plans that you laid out earlier this year?
Mike Mahoney
Yeah. I think that overall, we’re still committed to that 600 basis points over the timeframe that we have talked about at the Investor Day. The gross margins have been great this year, so we’re going to be up, our Q3 gross margin was north of 70% which is great. I think we’re always going to have the trade-off of looking at where to invest in the business and where to return in terms of getting ahead of ourselves relative to margin, again with that goal of building a company that can grow the top-line consistently. So you may see changes and challenges within one year or the next, but we’re committed to that 100 basis points per year over that six year timeframe -- five year timeframe.
Brooks West - Piper Jaffray
Is there -- now that you’ve shown gross margin improvement more quickly, does it change your thought about where gross margins can ultimately get to as you look at a more mature mix and some of the addition to the -- when the adjacencies start to kick-in in a couple of years in a more meaningful way?
Mike Mahoney
That's a good point. There are some of the adjacencies that we have that are going out and they go out with margins there as a company and some of them are accretive. So as those start to take hold, those value improvement programs that we have not only on those adjacencies, but on the rest of our business that we drive every year has us feeling like the gross margin is a place where we're going to continue to focus. Again, we’ll probably be, as I said over 70% in Q3 and if we have something in that range in Q4, we consider that a great success for 2013.
Brooks West - Piper Jaffray
Okay. And, but we should see that trend continue I would imagine as we look out and there is opportunity that continue to move that on?
Mike Mahoney
Yeah. And I think the way we look at that again is overall operating income margins that we may make trade-offs between SG&A investments and cost of goods and look to continue to deliver the 600 basis points and make trade-offs within the line.
Brooks West - Piper Jaffray
Okay.
Mike Mahoney
But certainly feel great about 2013 from a gross margin perspective.
Brooks West - Piper Jaffray
Okay.
Dan Brennan
I think that's what’s really beyond the growth piece, which we've had two consecutive quarters and we are optimistic given some of the market improvements and globalization. But I think what is unique on the margin story versus maybe our peer set is we're sitting at about 1,920. And over this five year period between R&D which is about 12.5% SG&A which is 37% gross margins. Between those mix of those levers, we clearly see about a point improvement if not more over that period. And I think we’ll use those different levers to deliver that.
Brooks West - Piper Jaffray
How do you think about the trade-off, Mike? St. Jude makes, I think St. Jude sits at about 26% op margins, Medtronic is 31%, call it 30% to 32%. St. Jude makes a commitment to spend a disproportion more on R&D. I mean as you look at the maturation of your business, is it the 30% operating margins, I mean is that doable at some point in the horizon, I'm not trying to get you to say next year or anything like that, but….
Mike Mahoney
That would be a good job.
Brooks West - Piper Jaffray
I think it’s such a drop on that actually, yeah. Do you want to make that statement?
Mike Mahoney
No, I didn’t make that statement.
Brooks West - Piper Jaffray
Okay. But how do you think about….
Mike Mahoney
We’re focused on our plan now that we've laid out. We think it's appropriately balanced as it need for us to improve margins and we want to grow the business. And so some of these adjacencies that will begin to have a bigger top-line impact as you start to get down the strategic plan are dilutive. And so working through that, the good news the business is performing and we believe despite the near-term dilution of some of those adjacencies the mid term and long-term benefits for those within the portfolio is significant. And so we think we can manage that but we are confident with the plan that we’ve laid out.
Brooks West - Piper Jaffray
Let me ask one near-term question, the Q4 guidance I think was a source of consternation for some people I mean you really [killed it] in Q3, you guided conservatively in Q4, 4% growth in Q3 I think you guided 2% to 4%. I know neuro had a big outperformance that you said wouldn’t come back but can you kind of walk us through was there anything more to the guidance than turns out?
Mike Mahoney
No I think the neuro piece is really the biggest factor to look at in Q3 because it was 4% but neuro which grew 32% in the quarter which is fantastic and we love that business that’s not sustainable long-term. And so that was about 200 basis points in the quarter, so that’s really 2%. We grew 2% in Q2 organically, 2% in Q3 and then we guided 2% to 4% in Q4. So we kind of felt as though and still feel as though that’s a reasonable guidance and the 4% was a bit high just based on the fantastic performance of neuromod.
Brooks West - Piper Jaffray
Okay. Let me ask one question coming back to this notion of a heart team and kind of tying into some thoughts. A lot of focus on the transcatheter heart valve market with new competitors, you amongst them, prominently amongst them coming into the market, you don’t have a big surgical valve business, you don’t have a big structural heart business. Do you need that, I mean as you look at building up the portfolio, I mean you have got a strong IC call point, but is that a hindrance to you as you look at coming into the structural heart business?
Mike Mahoney
Excuse me. You are correct that we don’t have that. I think there is a couple of thing as we look to, how we invest in that business, one in mechanical valve markets although more matured but clearly don’t have the growth profile of a TAVR market and despite the TAVR market not being as best foothold as we thought it would. But overall we still like the growth profile of the TAVR market versus the other mechanical valve.
Brooks West - Piper Jaffray
Right.
Mike Mahoney
We also see a increasing momentum towards transfemoral approach versus transapical. So the transfemoral approach clearly benefits more to interventional cardiology. So we think it’s in Germany maybe higher mix of transapical call it 70-30, 30% transapical. But globally we see that trend is moving more towards transfemoral. So we think the heart team is clearly involved with that, but we see the benefit of transfemoral that’s where our product is and we had excellent relationships with interventional cardiology, but we also have the right dedicated clinical sales specialists that will cross over and obviously call on that heart team.
So we are aware of that, we think our sales channel can be successful, we just launched our TAVI valve in Europe, since we are selling it now actively and receiving very good results. And we think the clinical value of our SAVR platform with the low regurgitation rates is very differentiated. And so we think ultimately the heart team will choose a product that they feel very confident in terms of its [liver ability] and the ability to reduce aortic regurgitation and we think that sort of product had some unique platform capabilities to differentiate that way.
Brooks West - Piper Jaffray
Okay. Maybe let me come out at it different way, I mean heart failure huge opportunity again more of a structural heart basis. I mean you have a natural heart failure platform in your CRM business, but there is all the pumps, the inflatable pumps, the percutaneous pumps have been some recent acquisitions in that space that would get you another on tray into the surgical suite, you have an appetite for any of those things or do you feel like there are better places to plant?
Mike Mahoney
We always look at the right adjacencies and that's why we've enhanced the capabilities of our debenture fund. So we always look at the right adjacencies that drive synergies across all the different divisions. So we’ll continue to evaluate that in our planning.
Brooks West - Piper Jaffray
Okay.
Mike Mahoney
In terms of heart failure, it’s an important part of our strategy. We did make public the investment we have made with sensible medical which is a diagnostic capability for heart value sensing, we also have a number of products in the pipeline, our multi-sense catheter, we think will be unique in terms of ability to predict heart failure proactively, which is in clinical trials, and we also have been AMT portfolio for vagal nerve stimulation to manage heart failure.
So really heart failure clearly is a big platform opportunity for Boston Scientific. And we have some investments that we smartly made of years to advance that with multi-sense with AMT and we will continue to make the right standing of venture bets to try to drive out that continuing.
Brooks West - Piper Jaffray
Okay. Let me, we have got a minute left, so let me finish with a balance sheet question. You guys have been aggressively repurchasing shares one of the benefits of the earlier conversation we had in terms of being ahead on performance both the revenue and the gross margin, you are now throwing out more cash. So as you look at utilizing that cash, is that the same thought process, do you do anything differently, do you go after the shares more aggressively, do you go after acquisitions more aggressively, how do you think about using the balance sheet?
Mike Mahoney
It’s obviously something that we continuously evaluate. For 2013, we've been pretty true to that 50-50, 50% for share buyback and 50% for targeted acquisitions and M&A activity. So that's where we sit today, obviously as we go into 2014 we'll continuously evaluate that based on NVD opportunities and such, but that's been a pretty successful formula for us so far.
Brooks West - Piper Jaffray
Okay. I think we're out of time at this point. Thank you both again for coming and congratulations almost on half of a year.
Mike Mahoney
Thanks Brooks. Thanks for your time.
Brooks West - Piper Jaffray
Thank you.
Mike Mahoney
Appreciate it, thanks.
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