IART - NASDAQ

Good day, and thank you for standing by. Welcome to the Integra LifeSciences Fourth Quarter 2023 Financial Results. [Operator Instructions] Please be advised, today's conference is being recorded. I would now like to hand the conference over to your speaker today, Chris Ward, Senior Director of Investor Relations. Please go ahead.

Good morning, and thank you for joining the Integra LifeSciences Fourth Quarter 2023 Earnings Conference Call. Joining me on the call this morning are Jan De Witte, President and Chief Executive Officer; Lea Knight, Chief Financial Officer; Mathieu Aussermeier, Senior Vice President of Corporate Finance, Investor Relations and Treasurer. This morning, we issued a press release announcing our fourth quarter 2023 financial results. The release and corresponding earnings presentation, which we will reference during the call, are available at integralife.com under Investors, Events and Presentations, in a file named Fourth Quarter 2023 Earnings Call Presentation. Before we begin, I want to remind you that many of the statements made during this call may be considered forward-looking. Factors that could cause actual results to differ materially are discussed in the company's Exchange Act reports filed with the SEC and in the release. Also in our prepared remarks, we will reference reporting an organic revenue growth and organic revenue growth, excluding Boston. For 2023 results, organic revenue growth excludes the effects of foreign currency, acquisitions, divestitures and discontinued products. For 2024 guidance and reporting, organic revenue growth will no longer exclude discontinued products. Organic revenue growth, excluding Boston excludes the revenues from products manufactured in our Boston facility in both periods. Management believes that excluding revenue from all products manufactured at the Boston plant provides useful information when evaluating the company's organic growth because of the unusual nature of the manufacturing stoppage and voluntary global recall. Unless otherwise stated, all disaggregated and franchise-level growth rates are based on organic performance. Lastly, our comments today will include certain non-GAAP financial measures. Reconciliations of the non-GAAP financial measures can be found in today's press release, which is an exhibit to Integra's current report on Form 8-K filed with the SEC. And with that, I will now turn the call over to Jan.

Thank you, Chris, and good morning, everyone. Before we dive into our financial results, I first want to acknowledge the commitment of our teams working to strengthen our operational capabilities, while capitalizing on the growth of our markets and building out our strategic potential. Total sales for the fourth quarter were $397 million, representing a year-over-year organic decline of 1.2%, or growth of 3.6% if we exclude the Boston products. Our fourth quarter adjusted earnings per share were $0.89. Both results were within our guidance at the low end of the range. For the full year, sales were $1.54 billion, flat on an organic basis and up 5.5%, excluding Boston, with full year adjusted EPS of $3.10 per share, and Lea will take us deeper into these financials in a few minutes. So let's turn to slide number four to cover an update on Boston and our strategic highlights for the year. Although the Boston recall weighed on our financial results for the year, we're pleased with the significant and steady progress we have made towards bringing the Boston portfolio back on the market by mid to late second quarter. We restarted the factory in November. And in January, we successfully completed an initial external review following the factory restart, the dress rehearsal we referred to in earlier calls. We're now preparing for the external audit, which will take place in March. Successful audit will allow us to start building finished goods inventory to resume distribution mid to late second quarter. When we look at the broader performance of our business, excluding Boston, we are encouraged by our results and resilience of our markets and the strength of our broad portfolio. Full year growth in Codman Specialty Surgical and Tissue Technologies was approximately 5% and 7%, respectively, in line with our growth expectations. We have made, and we continue to make considerable progress in our strategic initiatives. Our commitment to long-term growth has guided our actions, including the successful global relaunch of CereLink, with the 510(k) clearance in the U.S. earlier this month. We have completed the successful integration of SIA into our Tissue Technology division and advanced our implant-based breast reconstruction PMA strategy for both SurgiMend, our collagen-based mesh; and DuraSorb, our resorbable synthetic mesh. Outside the U.S., we expanded our international portfolio and footprint and strengthened our commercial execution focus, fueling double-digit growth in our international business in 2023. In parallel, our in-China-for-China strategy is taking shape with the ongoing build-out of our late-stage assembly capabilities in China. We also signed a definitive agreement to acquire the Acclarent ENT business, which we expect to close by the second quarter. With this acquisition, we are adding an adjacent, highly complementary and growth accretive platform to our neurosurgery segment. In addition to the advances in our portfolio and markets, we returned value to shareholders with $270 million of share repurchases. We remain focused on our drive for operational excellence and resiliency and exited 2023 better positioned for the future. We have fortified our quality management system across our manufacturing network and continue to invest in our operations, infrastructure and process capabilities in order to create a more robust supply chain. This work will also remain in 2024 focus. So with this intro, let me now turn the call over to Lea to provide additional detail on our financial results and guidance for 2024.

Thanks, Jan. We'll move on to our full year financial results, starting with slide five. Two primary themes characterize our financial results for 2023. First, we have seen a full recovery in our markets and growth in line with our mid-single-digit growth expectation. There is strong demand for our broad and diverse portfolio of products, with several parts of our business growing by double digits, and we continue to make investments that will deliver value to shareholders. The second theme was the impact of the Boston recall, which drove significant operational challenges in 2023. Our full year revenues were $1.542 billion, down approximately 1% on a reported basis, with organic growth flat for the year and within our guidance range communicated in October. The Boston recall represented an approximate $67 million headwind to our reported revenues. Excluding Boston, organic growth across the remainder of our business was approximately 5.5%, demonstrating the continued robustness of our diverse portfolio and the markets that we serve. We delivered double-digit growth across many product lines in our portfolio. In CSS, we saw double-digit growth in CUSA Clarity disposables, Certas Programmable Valves, DuraGen, Mayfield Capital, BactiSeal, CerebroFlo EVD catheters and ICP microsensors. Our specialty surgical instruments saw double-digit growth in our Jarit and MicroFrance ENT products. In Tissue Technologies, we delivered double-digit growth in DuraSorb, Gentrix and MediHoney. Our adjusted EPS for the year was $3.10, down 7.7% versus 2022 and within the guidance range communicated in October. The Boston recall negatively impacted full year adjusted EPS by approximately $0.42, including the impact of spending reductions we implemented during the year. Looking at the middle of the P&L, our gross margins were 66.1% for the year, down 110 basis points versus 2022. The Boston recall impacted gross margins by approximately 150 basis points due to roughly $20 million in product returns, unfavorable mix from the lost revenue and remediation costs. To realize our gross margin improvement potential, we are stepping up resources to assess opportunities within our significant manufacturing sites and in our supply chain. We expect to initiate additional projects in 2024 that will have a favorable impact on our margins beginning in 2025. Turning to adjusted EBITDA margins. Our full year adjusted EBITDA margins were 24%, down 240 basis points compared to 2022. Our adjusted EBITDA margin performance reflects the impact of the Boston recall, along with the investments in key strategic priorities preserved throughout the year and the year one dilution from the SIA acquisition. We continue to make investments in key operational and product development priorities throughout the year to ensure that we are positioned for longer-term success. Operating cash flow for the full year was $140 million with a free cash flow conversion of 29.5%. Our operating cash flow and free cash flow conversion rate declined versus 2022, as we invested in manufacturing infrastructure and inventory to improve supply reliability. If you turn to slide six, I will cover the fourth quarter financial results. Our fourth quarter revenues were $397 million, approximately flat on a reported basis, with organic growth down 1.2%. Excluding Boston, organic growth was roughly 3.6%. Our adjusted EPS for the quarter was $0.89, down 5.3% compared to 2022. Looking at the middle of the P&L, gross margins were 64.7% for the fourth quarter, down 160 basis points versus 2022. Gross margins were impacted by approximately 50 basis points from the Boston recall and 60 basis points from a supply constraint on Integra Skin. During the second half of 2023, we saw strong demand for Integra Skin, which tightened our inventory. And at the same time, we experienced a capacity constraint on one of the several production lines we have for Integra Skin. While we have continued to produce and ship, we were not able to fully keep up with the strong demand that we saw at the end of Q4. Currently, we are resolving the supply constraint and rebuilding our inventory. Turning to adjusted EBITDA margins for the fourth quarter. Our adjusted EBITDA margins were 25.3%, down 230 basis points compared to 2022. Our decline in adjusted EBITDA margin primarily reflects the decrease in gross margins that I mentioned earlier. Operating cash flow for the fourth quarter was $59 million with a free cash flow conversion of 49.5%. If you turn to slide seven, we'll take a deeper dive into our CSS revenue highlights for the fourth quarter. Reported fourth quarter revenues in CSS were $271.6 million, an increase of 2.7% on a reported basis and 2.3% on an organic basis from the prior year. Global sales in Neurosurgery grew 2% on an organic basis as a result of mid-single-digit growth in CSF management driven by Certas Plus valves; mid-single-digit growth in Dural Access and Repair driven by DuraGen; and low single-digit growth in neuro monitoring driven by BactiSeal catheters and ICP microsensors. Lower CUSA capital sales in the quarter drove a low single-digit decline in advanced energy. For the full year, our capital sales, excluding CereLink monitors, are up low single digits. With regard to our CUSA Clarity performance in Q4, we are moving into the later stages of the capital refresh cycle, which impacted our year-on-year performance. That said, we have grown our CUSA installed base since the launch of CUSA Clarity, and the funnels for CUSA Clarity capital remains strong. In 2024, we expect to see fewer installs of CUSA Clarity compared to 2023, but still see an increase in our total installed base and growth in our CUSA disposables. Turning to Instruments. We saw approximately 3% growth, in line with our growth expectations for this business. Shifting to international. We saw another strong quarter from our international business and CSF with low double-digit growth. Strength in the quarter was driven by double-digit growth in China, Canada and Australia and high single-digit growth in Japan. Moving to our Tissue Technologies segment on slide eight. Tissue Technologies was down 6% on a reported basis and 8% on an organic basis compared to the prior year. Excluding Boston, organic growth was up 6.9%. Fourth quarter sales in the Wound Reconstruction franchise decreased by 11%. Excluding the recall products, we experienced organic growth of 5% driven by double-digit growth in Gentrix and amniotics and mid-single-digit growth in Integra Skin and MediHoney. We remain encouraged by the broad resilience of our portfolio, which continues to provide us with confidence in the long-term growth potential of our custom Wound Reconstruction business. In private label sales grew 2.2% versus last year. Excluding the impact of the Boston recall, private label sales were up 12.5%, reflecting strong demand from our partners in the quarter. Finally, international sales in Tissue Technologies were down low double digits due to the Boston recall. If you turn to slide nine, I will briefly update our balance sheet, capital structure and cash flow. During the quarter, operating cash flow was $58.7 million, and free cash flow was $34.2 million, reflecting increased working capital primarily from investments in inventory and CapEx. Free cash flow conversion was 29.5% on a trailing 12-month basis. Our balance sheet remains strong with ample liquidity to support our short and long-term plans. As of December 31, net debt was $1.2 billion, and our consolidated total leverage ratio was 3 times. The company had total liquidity of $1.5 billion, including $309 million in cash and short-term investments, and the remainder available under our revolving credit facility. Our balance sheet flexibility enabled us to return value to shareholders in the form of $275 million in accelerated share repurchases in 2023. If you turn to Slide 10, I will provide our consolidated revenue and adjusted earnings per share guidance for the first quarter and full year 2024. First quarter revenues are forecasted to be between $360 million to $365 million, representing reported growth in the range of approximately minus 5.5% to minus 4.1%, and organic growth in the range of approximately minus 5.1% to minus 3.7%. Our forecast performance reflects continued strong global demand for our products, more than offset by an unfavorable $15 million comp in the Q1 2023 Boston revenue and the supply constraint on Integra Skin. Excluding Boston, we are forecasting organic growth of approximately minus 0.4%. For the full year 2024, revenues are forecasted to be in the range of $1.603 billion to $1.618 billion and includes the return of the Boston portfolio in the second half. At this time, we included only revenues from the SurgiMend and PriMatrix relaunch in the second half of 2024, and we look forward to updating our guidance based on our progress in relaunching the Boston product. Our guidance also reflects the return of CereLink globally, with U.S. revenues included for 10 months as well as current FX rates. As we move past the first quarter headwinds, we expect to see our organic growth improve during the year as we relaunch Boston and resolve the supply constraint on Integra Skin. We expect our reported and organic growth for the full year to be 4% to 5%. This guidance excludes the expected acquisition of Acclarent. Turning to adjusted earnings guidance. For the first quarter, we expect adjusted EPS to be $0.53 to $0.57, down from the prior year, driven by the supply constraints referenced previously. For the full year, we expect our adjusted EPS to be in the range of $3.15 to $3.25 per share, reflecting the positive organic growth of the business, first quarter impact from the supply constraints, modest gross margin improvement and OpEx normalization. Slide 11 shows our key guidance considerations. During my first six months as Integra CFO, I have heard our investors and analysts request additional detail into our financial results and projections. The following summarizes our guidance assumptions and modeling inputs. On the left side of the page, you'll see key metrics, including FX rates, share count and adjusted tax rates for your models. On the right side of the page, we highlight the main drivers of Q1 revenues, organic growth progression throughout the year, key gross margin and OpEx assumptions. With that, I will turn the call back over to Jan.

Thank you, Lea. Please turn to Slide 12 to conclude our prepared remarks. Looking back at 2023, we saw our unique technologies and commercial strength deliver resilient growth across several parts of our portfolio. However, this achievement was obscured by the Boston recall. Organic growth, excluding the impact from Boston, which landed at 5.5% for the year, continues to give us confidence in the growth potential of our markets and our portfolio. Although the recall has required a significant amount of our team's focus and attention, we are confident we will bring this part of our portfolio back to our customers and their patients in mid to late second quarter. We remain committed to delivering reliable long-term business performance, consistently executing our commercial and operational plans and building our capabilities to achieve profitable growth. We have strengthened our quality management system with critical investments in talent and process capabilities across our manufacturing network. We're also making investments across our manufacturing plants and supply chain to ensure reliable supply for our commercial teams, our customers and their patients. In parallel, we launched projects to realize our operational efficiency opportunities and achieve sustainable margin expansion. We also continued building out our new product development capabilities and remain focused on leveraging organic and inorganic projects to drive improved business performance. We're executing our implant-based breast reconstruction strategy, progressing the Aurora minimally invasive neurosurgery platform and preparing to launch the BactiSeal-Endexo combo catheter. We continue to expand our international portfolio and commercial capabilities. And the work to close the Acclarent acquisition by second quarter remains on track, and we look forward to welcoming the Acclarent team to Integra. As we strengthen our operational resilience, advance our organic portfolio and successfully execute on our M&A imports we're well positioned to deliver strong top and bottom line growth and realize our full potential as a profitable innovator of life-saving technologies worldwide. Let me again take a moment to acknowledge the broader Integra organization for their dedication to our customers and patients and for delivering on the accomplishments that position Integra for a strong future. Now before opening the call for questions, I'd like to take a moment to briefly touch on the leadership transition announcement we made earlier this morning. As you've seen by now, I have informed the Board of my intention to retire as President and CEO of Integra by the end of the year and move back to Europe. While we believe this is an important decision that we wanted to communicate as early as we could, it does not change any of the focus that I and our executive leadership team will have over 2024. I'm firmly committed to ensuring a seamless transition and will stay on with the company until a successor is named. In the meantime, we look forward to delivering on our objectives for 2024 with an immediate focus on further enhancing operational execution, particularly in our manufacturing and supply chain. We will continue to execute on our integrated growth strategy, while building capabilities and investing in our programs to achieve commercial acceleration through improved product development and digital innovation, strategic acquisitions and international market growth. The Board has engaged executive search firm Heidrick & Struggles for support in identifying a highly qualified leader and expect a new CEO to be named by the end of this calendar year. As part of this announcement, in order to drive improved shareholder value and ensure an effective transition, Board Chairman, Stuart Essig, has been appointed Executive Chairman effective immediately. Stuart, with whom most of you are very familiar, is uniquely suited to take on this additional responsibility, having served as our Non-Executive Chairman for the past 12 years and as COO prior to that. We look forward to updating you on the CEO search later this year. So I'll close by saying that it's an honor and privilege to lead this fine organization, and I look forward to a seamless transition. I remain firmly committed to this company, our dedicated employees and the patients we serve. Thank you for joining us this morning. This concludes our prepared remarks, and operator can open the lines for questions.

[Operator Instructions] Our first question comes from Vik Chopra with Wells Fargo. Your line is open.

Hey good morning and thanks for taking the question. Jan, I just want to congratulate you on your retirement, and I'm sure we will all miss working with you. So it sounds like it's a personal decision. I just wanted to see if you could shed some additional color into that. And then I had a follow-up question, please.

Yes. Thank you, Vik, for your question. Yes, it's a personal decision driven by family requirements. It's a decision that I discussed with the Board over the past several weeks and given -- I wanted to make a decision early to allow all of us to manage a very smooth transition over the year, okay, my main concern is to make sure that we execute our 2024 plan, keep on track with our short and our longer-term strategic objectives.

Great. And just as a follow-up. So I think the Q1 guidance was obviously well below expectations. Can you maybe highlight some of the puts and takes and what gets you to the top versus the bottom end of the guidance range and how confident you are in resolving the supply backlog issue starting in Q2? Thank you.

Thank you, Vik. Appreciate the question. So a couple of dynamics, right? As we look at kind of Q1 and the organic growth outside of Boston, that's where we're seeing the impact as a result of the Integra Skin supply constraint that I talked about in our Q4 results as well. And so just kind of a bit of background on that, we did have an issue that impacted the throughput on one of our production lines for Integra Skin. That's resulting in the supply constraint that I mentioned. It first appeared kind of in that or -- yes, appeared in the December time frame and continued into early Q1. We've since resolved that supply constraint and are starting to rebuild inventory. But as you can imagine, it's going to take us a while to catch up to kind of the demand. And so that's impacting the growth that we would have anticipated in our portfolio outside of Boston. The other dynamic that I would call out is related to our CUSA Clarity. As I mentioned, what we saw in Q4 is we're in the later stages of our refresh cycle on CUSA Clarity. And so the rate of growth is slowing on that -- for that part of the business. So that's an element. But also in Q1 of 2023, we had a fairly big comp. We had some pretty large buy-ins for CUSA Clarity in Q1 a year ago that we're now comping, that is also impacting kind of the overall growth rate for the quarter. And then I think -- so those are the elements that are impacting kind of base growth outside of Boston. Obviously, we also are lapping $15 million of a comp of having Boston revenue in a year ago, not in the first quarter of 2024. And so those are kind of the key elements. I think just to follow on, and I think you asked kind of as we progress throughout the year in terms of supply, getting back into full supply, because we now are in a position of resolving the supply constraints, rebuilding our inventories, we would anticipate, as we move into Q2, that we are, from a growth perspective, getting back into the mid-single-digit growth expectations for the business. And then certainly, as we bring Boston portfolio back online and get to the back half of the year, that's when we would -- might see kind of even stronger mid-single-digit growth for the balance of the year. So we do believe that you'll start to see that turnaround in Q2.

Thank you. One moment for our next question. Our next question comes from Kristen Stewart with CL King. Your line is open.

Hi, thanks for taking my questions. I was wondering if we could just discuss a little bit more in detail the gross margin and just thinking about the cadence of when you guys think you can get back to a more normalized gross margin and what you kind of see that as.

Yes, certainly. So -- and I'll talk about it through the lens of kind of -- I'll start first on kind of full year 2023. So on a full year basis, gross margins were down 110 basis points. And as I mentioned, a big driver of that is due to the Boston recall. As we move forward into 2024, we are anticipating a modest improvement in gross margins. So we'll start to see some of the benefit come back as we bring the Boston portfolio back online. We won't see the full benefit, and we won't see the full benefit for a couple of reasons. One, the Boston portfolio will only be back in for 2024 for a portion of the year. So that higher gross margin portfolio, again, we won't see the full benefit. Two, from a remediation cost perspective, which is part of the reason why we were down in 2023, we're still incurring remediation costs until we're fully up and running. And so while that should be less in 2024, it's still going to be a factor. And I think the other dimension is from some of the supply constraints on Integra Skin, it is also creating a headwind for our gross margins. So net-net, we are starting to see some of the benefit come back from Boston. We won't realize the full benefit, and that's why we're calling a modest improvement. That said though, Kristen, that I think to your point, we are not waiting for the Boston portfolio to come back to drive overall gross margin improvement. We are actively adding additional resources to launch projects in 2024 aimed at extracting the value that we've talked about that exists in terms of improving our margins through better operational efficiency as well as yield and productivity improvements. And so that work is also very much underway. And so we'd expect to see the benefits from that work, along with the benefit from the full Boston portfolio coming back online as we move into 2025.

Thank you. And just a quick refresh on the Acclarent acquisition. I know that's not in your guidance now, but do you still feel comfortable that, that's going to be neutral to 2024?

Yes, yes. That was kind of what we shared at the time that we announced the acquisition. We are working diligently to close that. Still anticipate planning to close it by Q2. And at this point still project that it will be EPS neutral in 2024.

Okay, perfect. Thank you for taking my questions.

One moment for our next question. Our next question comes from Ryan

Good morning, thanks for taking my question. Maybe just to start, you do expect to close Acclarent in -- at the end of 2Q. Is that right? And I just want to ask that because -- sorry, go ahead.

By Q2. Yes, by Q2, Ryan.

Okay. So I mean, I recognize that we're not including Acclarent guidance for current estimates. But just to be clear and just to ground everyone, we should expect something in the range of maybe $50 million to $60 million in sales in the back half of the year in organic sales that is on Acclarent, just based on kind of their current run rate and profile. Or are you expecting anything different just because of that integration?

Yes. So we're not providing guidance right now on what Acclarent will do to our overall call at this point. I think what we have shared is revenue based on that business in J&J's hands as of 2022 was in the order of magnitude of $110 million in revenue. So obviously, depending on when we actually complete the acquisition, we'll have a partial year. And so...

All right. Well, we'll put something in there for it. I assume you'll get it closed. Maybe just turning to Tissue for a moment. I mean, I recognize that you guys have faced tremendous challenges, and I think everyone in the Street recognizes that. When Tissue comes back, though, implied in your guidance, net of Acclarent and so forth, is a sizable ramp in the back half of 2024 on Tissue products. And so I appreciate some color on why that happens and why it's not more gradual and why -- it's a pretty competitive environment. I mean, people are probably seizing on the opportunity. And so just help us understand kind of your thinking around the back half of 2024 in terms of the recovery in Tissue.

So let me take that one. I mean, first, a big part of that ramp is linked with Boston getting back on -- our sales force is looking forward to that and are ready to take the projects when they are up and running. They feel good about winning our customers back. Two factors playing there. One, the relationship has been maintained over the past 9 months, plus given the breadth of our portfolio, our sales force is still with our customers, serving them with other products. In terms of getting the product back, I mean, this is an area where customers now and then do trial other products, and so they have no issue switching back. We know that our products out of the Boston factory are differentiated, differentiated from a strength, the size, conformability, price perspective. Our sales force feels strongly they can win their customers back based on the strength of that portfolio.

Okay. Let me just sneak one more in, and I'll hop back in queue real quick. Just because -- China has been a growth area. We know that China VBP, particularly in neurosurgery, has been an area of focus. Can you just talk about what's happening in China, the impact of pricing on your neuro business within China and when your China-for-China strategy can take hold?

So on China, the big driver behind our China success is that, one, this is a big growing market where we are geographically and from a penetration in hospitals, we're still have plenty of opportunity to further penetrate. And so that's what we're doing from perspective of strengthening our sales capability. That's also the backdrop to our in-China-for-China strategy to be seen as a more local player doing high level or late-stage assembly there. That factory by the end of this year should start to produce products for product qualifications. So somewhere near the end of 2025, we should be feeding part of the products for that market out of our local factory. And so this is a dynamic, the China opportunity that, as we look at new hospital builds, new geographies, it's a continuation over the next years of going after that opportunity. From a VBP perspective, we've seen limited impact. Our products are differentiated, a limit number of local players, plus it's not a massive market where we play. Therefore, not as much on the radar screen for the VBP pressure.

Thank you.

One moment for our next question. Our next question comes from Jayson Bedford with Raymond James. Your line is open.

Good morning. Thanks for taking the questions. Just a couple for me. I think there's a lot of moving parts here, but it does look like you pulled back on your assumptions for the contribution from the Boston facility in 2024 relative to last call. I think on the call today, you made a comment referring to only including SurgiMend and PriMatrix. Why the change, if I am correct here?

Yes. Thank you, Jayson. And yes, you are correct. So our guidance right now reflects SurgiMend and PriMatrix, which is pretty much the majority -- which is our commercial business out of Boston. What we've excluded from the guidance for now is the private label business. And so that describes why the tailwind that you may have been expecting is lower in our guidance. And so let me kind of step back and explain why. At this -- as you know, we've been partnering with our private label partners throughout to keep them apprised of our time lines, progress on the remediation and have given them access to kind of assess the progress we're making at our manufacturing site in Boston. But at this point, we are not producing salable finished goods yet, and we don't have orders from our private label partners. And so we have not included it in guidance, but anticipate that as we get closer to our commercial relaunch, we have an opportunity to update this kind of audience and our guide as appropriate based on what transpires between now and then. And I would expect that timing to be in and around our Q1 earnings call.

Okay. But to date, there hasn't been any private label relationships that have been severed. Is that fair?

I would say that's fair to say. We are continuing to discuss. We know that our private label customers are evaluating their different options that they have in terms of deciding on final option. I think that will happen the moment where we really get into commercial shipping, and both they and us have more certainty on what's coming out and when.

Okay. Just one quickie, I apologize if I missed it. What's the expectation for the first quarter gross margin?

We did not provide gross margin guidance for the quarter, just for the year and I think kind of a modest improvement, 2024 over 2023.

Okay, thank you.

One moment for our next question. Our next question comes from Robbie Marcus with JPMorgan. Your line is open.

Great. Thanks for taking the questions. And Jan, I'll add as well, sorry to see you go. Wish you all the best. Maybe a couple of questions again on the guide just to help clarify because there are a lot of moving pieces here. Maybe if you start with first quarter and the full year, and you look at sell-side numbers and you look at your current expectations, what do you think are the biggest deltas between it? Because the EPS came in fairly materially lower as did first quarter, particularly. So what are you assuming for the supply constraint headwind in first quarter? And where do you really see the biggest delta versus sell-side numbers right now?

So let me break that down into a couple of pieces. Again, from a first quarter perspective -- and actually, let me start from kind of how we ended 2023. So on a full year basis, the portfolio outside of Boston grew in that mid-single-digit range that we said is kind of the right place for this business, right? So as you move into 2024, I think that becomes the starting point of what this business has the potential to do. What we're seeing in Q1, as I mentioned earlier, was the impact of the supply constraints. There's also the impact of the kind of CUSA Clarity dynamic that I mentioned for Q1. That's lowering the growth rate that we're experiencing on the business outside of Boston. And so that kind of describes why we have a lower start to the year. As we move into Q2 and we resolve the supply constraint, we get back into mid-single -- sorry, yes, mid-single-digit growth on the business and continue through the balance of the year, that's when we'll really see the business operating back at the levels that we were operating in, in 2023. So I would say the largest kind of deviation between what you were anticipating and what you're seeing on a revenue top line basis has to do with that. Clearly, there is a profitability implication because the nature of the gross margin on skin are definitely kind of higher gross margin products in our portfolio, so that is a contributor to why there is likely a gap from an EPS perspective. And then the final thing I'd mention, as we are bringing Boston back up online, we are returning to more normal OpEx levels probably about a quarter sooner than we had originally anticipated. We see the Boston relaunch as an opportunity to take an aggressive kind of marketing, advertising approach to getting back into the market with our products. And so that is feeling kind of becoming -- operating at more normal levels prior to what we really anticipated.

Great. Maybe just as a follow-up on free cash flow. You guys did about a 40% conversion rate in 2023. There were a lot of exclusions that lowered the cash flow. How should we be thinking about cash flow in 2024 here and not just the full year, but also the progression through the year? And if I could just squeeze one more. On the last question, you talked about the difference between the prior commitment of what products and you're leaving out private label. I believe before, it was a 100% run rate of sales within 12 months. Now excluding the private label, do you know what that percentage of sales is? Thanks.

Let me deal with the cash flow question first. To your point, cash -- free cash flow for the quarter in 2023 was about $34 million. Our free cash flow conversion rate on a trailing 12-month basis was 29.5%. As we move into 2024, we do -- we'll have to overcome some of the headwinds that I've talked about in Q1, which will actually drive our trailing 12-month conversion down slightly. So think of it being kind of in the low 20s. And then as we progress through the year, we resolve the supply constraint on Integra, we relaunch Boston, we start to comp, some of the lower growth period that we saw in 2023, specifically in Q4, that's when we would expect our trailing 12-month to get back up to about 58% by the end of the year. So it's a progression up, with Q1 being kind of the low point and then improving every quarter thereafter. So that's the cash flow. I think your other question was with respect to how to think about the Boston business through the lens of how long it's going to take us to get the Boston business back, right, now that we've removed private label. There is actually no -- yes, there is no change to that thinking because, again, previously, when we've talked about our relaunch and talked about regaining kind of our run rate trajectory, it was through the lens of the commercial business, right? And so that's kind of the frame that we've talked about. And we still anticipate, while we think there's a slightly longer ramp initially for -- in terms of the 2024 impact, as we get into 2025 and we have all products relaunched out of Boston, that's when we think in kind of that Q3 time frame is when we'll be back at the run rate we left it at in 2022.

Appreciate it. Thank you very much.

One moment for our next question. Our next question comes from Ron Feiner with Oppenheimer. Your line is open.

This is Steve Lichtman. Jan, I was wondering if you could provide some more color coming out of the external review in Boston, what some of the learnings there, why that gives you confidence on the resumption of sales starting in the second quarter.

So on Boston, just as a reminder, we restarted that factory in November and then in January had an external review, which we call the dress rehearsal. I call it a successful dress rehearsal because what we got were the confirmations, but also the learnings that we hoped to get based on the work done and its guidance, the learnings have been guiding us since the end of January over February into the preparation for that external audit, which will take place in March. The audits pretty much cover every aspect of our quality management system, I mean, from beginning to end. We got, I would say, limited observations on things that we could have improved. The main learnings, in fact, were on how people were conducting the interactions with the different auditors. And that's why we called it a dress rehearsal. Part of successful audit is not just having your quality management system processes documentation where it needs to be. It's also making sure that in the question and answering with the auditors, you make sure that all that work is readily visible. So overall, like I said, since end of January, we're now, let's say, finishing on the lessons learned and preparing pretty much in a straight line to that external audit, which will start the first week of March.

Got it. Great. And then what are you assuming with regard to incremental CereLink sales in 2024 with the 510(k) and CE mark in hand now? And can you remind us of that opportunity through over the medium to long term now that it's back on the market?

Yes. Thank you for the question. So CereLink, as you saw, we did achieve a clearance in the U.S. in early February. And so we are relaunching that in the U.S. market. Because of timing of when we got the clearance, we're assuming about 10 months of U.S. sales in our guide. And so just as a reminder, on an annual basis, what we've said is the monitors are about $12 million globally. And so a portion and the U.S. market being the largest market. So hopefully, it's enough to dimensionalize kind of what the 2024 implication is. In terms of that business going forward, I think, annually, we would expect monitor sales to be in and around that same level, with the real opportunity being on the disposables that we'd be able to sell through as a result of increasing our installed base for the monitors. And in past experience, we've seen that business grow at about kind of high single, low double digit, and we would expect similar performance here.

Maybe just one addition to that, looking over the next couple of years, because you've seen when we talk about strategies, CereLink is one of those multiyear global growth catalyst. I think we've learned during the recall that this is a great product. Customers that we had stayed with us because they like the microsensors and were willing to wait for CereLink to come back. Prospects that we had before the recall also waited because CereLink is pretty much the most innovative product in the market. And so we see our sales force now picking up those leads and those prospects that they had before. We're at this point focused on U.S. and Europe. CereLink will be launched in probably 2-plus years in Asia, with China being another important market for CereLink at that point.

Got it. Thank you.

One moment for our next question. The next question comes from Richard Newitter with Truist Securities. Your line is open.

Hi, thanks for taking the questions. Maybe just going back to Kristen's gross margin question. I think you had suggested that by first half 2025, gross margin should be more normalized. First, did I hear that correctly? And then, I guess, just looking beyond second half 2024, is there any reason that you wouldn't be back to historical levels, say, 2022 margin levels? And then I have a follow-up.

Yes, certainly. So -- and just to be clear, we are not providing guidance with respect to 2025. So our data guidance is that we would expect a modest improvement in gross margin in 2024 over 2023. For 2025, again, as we bring the full product portfolio back online for Boston, we'd expect some of the headwinds that we saw in 2023 to reverse, right, especially from a mix perspective. So that's the improvement that I was referencing. On top of that, there are these additional projects that I mentioned that we're launching in 2024 to extract additional value out of our supply chain and operational efficiency that should also contribute to gross margin improvement in 2025 over 2024. But at this point, we would not dimensionalize exactly how much that value would be. We have more work to do before we're in a position to determine that. And we got a follow-on...

I'm sorry. Go ahead.

I thought there was a second part to your question.

Yes, yes. Sorry. Yes. So just one on CUSA. Is that all just comps year-over-year? Or are there competitive pressures potentially to be considering as well? And does that mean that growth snaps back in the back half on easier comps? And then also just if you -- I'm not sure if I have heard. Did you indicate whether or not you -- or timing of FDA PMA inspection for SurgiMend? Thank you.

So I'll take the CUSA comp question, and then I'll let Jan respond on the SurgiMend. From a CUSA perspective, so in Q1, yes, what we are seeing are much more difficult comps based on what happened in Q1 2023, and that is the primary driver. There is -- because we are in the later stages of our refresh cycle, the growth rates do naturally slow as a result of that. And so that's a contributing factor as well. Again, it doesn't impact the size of our installed base. That is still growing. It's just growing at a lower rate than what we've seen previously.

Okay. On the SurgiMend inspection, so the pre-approval inspection, we still expect that to happen in the second half of this year in light of getting PMA in 2025 for SurgiMend.

Thank you.

One moment for our next question. Our next question comes from Craig Bijou with BofA Securities. Your line is open.

Good morning. Thanks for taking the question. So I wanted to go back to the Boston impact and just kind of what you guys are assuming for the second half SurgiMend and PriMatrix. I mean, if I look at the numbers, including the Q1 impact and then the full year impact, it looks like it may be $25 million or so in the second half -- of about $25 million of revenue in the second half. So I wanted to see if that was right. And then if I remember correctly, the Boston products were run rating a little bit over $80 million, I think, as of -- in 2022. So wanted to know what piece or what percentage of that was private label. I think you've talked about that in the past.

Yes, yes. So -- and so let me back up and just frame out. So you're right. The business in Boston, we size it about kind of 5% of our total business, which is roughly the $80 million. Within that, the private label piece is about 20%, and commercial business is about 80%, right? When we first talked about the potential impact in 2024 as a result of Boston, we frame that out as a $50 million impact. So off of an $80 million starting point, you get to an expectation that for 2024, we'll be about $30 million. But that -- and the guidance we're providing now takes out of that the private label piece, which is why our guidance in terms of the tailwind that Boston is providing in 2024 is 60 basis points versus what should have been closer to or could have been closer to 150 to 200 basis points.

Got it. Thanks. That's helpful. And then on Codman, so understand and appreciate the color that you're giving with CUSA and the comps and where you are in that replacement -- or the placement cycle. How should we think about Codman growth in 2024? Is it going to be at the lower end given some of the dynamics, the lower end of your LRP, that 3% to 5%, I believe?

Yes. So Codman actually had really strong growth. And again, if I could just step back and look at 2023. On a full year basis, our growth across that division was 4.8%, which is actually at the higher end of the range that we anticipate for that business. And as we continue into 2024, we'll continue to see that business operate in that strong mid-single-digit sort of area. And so, yes, definitely don't anticipate any kind of slowing down, if you will, for that part of our business.

Great. Thanks for taking the questions.

One moment for our next question. Our next question comes from Dave Turkaly with Citizens JMP. Your line is open.

Hi, good morning. I think, last quarter, we talked about expecting sort of a 10% to 15% replacement rate maybe for the products that were off. And I was just curious, based on the comments and maybe even on Skin, are you running a little bit below that? Or any update you can give us there?

Yes. That replacement rate is still around that range definitely in the wounds. And yes, it's one of the factors that drove a strong Skin demand and why our inventories over that -- the past several quarters have further depleted, a bit more vulnerable to some yield effects on the line. Yes. Overall, that replacement was in that range.

And then maybe for Lea, appreciate the headwinds in 1Q. But if you look at the Skin supply and then CUSA -- and I was wondering if you might rank them or quantify them maybe in terms of that revenue and/or the EPS impact do you think they're going to have in that first quarter, again, recognizing that EPS number was certainly the most impacted.

Yes. So I think if I had dimensionalize for you the impact, the Skin impact is probably the larger determinant for why, on a Q1 basis, our growth outside of Boston is not what we would anticipate in terms of single-digit growth, with CUSA Clarity being kind of the next element. And again, part -- a big part of that being the comp.

Great. Thanks.

One moment for our next question. Our last question comes from Joanne Wuensch with Citi. Your line is open.

Thank you very much for taking the question. And Jan, congratulations on retirement. I'm just sort of curious, as you go about the search what you're thinking the next CEO should bring to the table and what he or she may do differently. And then I'll toss my second question in now. There was commentary during the call about it sounds like you're refocused or an increased focus on international opportunities. Can you sort of frame that and how you think about funding it and the time frame to accelerating it? Thank you.

So on the CEO succession, like we communicated, I mean, the Board has put a search committee in place. We're working with Heidrick & Struggles to do a thorough and deliberate search to find a CEO successor that. On the one hand, it comes with proven track record of driving profitable growth businesses and, at the same time, further building out a high-performing organization. From a strategy perspective, I mean, the strategy that we've been driving over the past couple of years, the strategy that we built with the executive leadership team and our Board going after commercial acceleration with new product development, digital, building out our position in the care pathways, both organic and inorganic and driving international, that strategy remains intact. And my focus this year with the leadership team is making sure not just to deliver the 2024 plan, but also further drive that momentum behind that strategy. And expectation is that we'll continue in that direction. In terms of international, we had a great international year. It is one of the strategic levers, and it will remain one of the strategic levers where we can further drive our penetration and commercial execution, not just in China, but in the breadth of international countries outside the U.S.

Thank you.