AVNS - NYSE

Good morning, ladies and gentlemen, and welcome to the Avanos Third Quarter 2025 Earnings Conference Call. [Operator Instructions] This call is being recorded on Wednesday, November 5, 2025. I would now like to turn the conference over to Mr. Jason Pickett, Vice President, Corporate Finance and Treasurer. Please go ahead.

Good morning, everyone, and thanks for joining us. It's my pleasure to welcome you to Avanos' 2025 Third Quarter Earnings Conference Call. Presenting today will be David Pacitti, CEO; and Scott Galovan, Senior Vice President and CFO. Dave will review our third quarter results and the current business environment. Scott will share additional details regarding these topics and update our 2025 planning assumptions. We will finish the call with Q&A. A presentation for today's call is available on the Investors section of our website, avanos.com. As a reminder, our comments today contain forward-looking statements related to the company, our expected performance and current economic conditions, including risks related to ongoing tariff negotiations and our industry. No assurance can be given as to future financial results. Actual results could differ materially from those in the forward-looking statements. For more information about forward-looking statements and the risk factors that could influence future results, please see today's press release and risk factors described in our filings with the SEC. Additionally, we will be referring to adjusted results and outlook. The press release has information on these adjustments and reconciliations to comparable GAAP financial measures. Now I'll turn the call to Dave.

Thanks, Jason, and good morning, everyone. I'm pleased to report we had a successful third quarter as we made great progress on our key strategic and operational goals in Q3. I would like to share with you our strategic imperatives, which guide us in how we operate the business. Our strategic imperatives are to accelerate growth in our strategic business segments, manage and mitigate the impact of tariffs, realize more operating efficiencies, improve or divest underperforming assets and acquire businesses that are synergistic with our Specialty Nutrition Systems and Pain Management and Recovery strategic segments. Let's take a few minutes to address each of those imperatives in a bit more detail, starting with our financial performance. Driven by the great execution of our commercial team, we achieved strong growth in our life-sustaining Specialty Nutrition Systems or SNS segment, with each of our SNS businesses delivering double-digit and above-market growth in the quarter. We also showed continued progress in our opioid-sparing Pain Management and Recovery segment, which posted positive year-over-year growth in the quarter, led by double-digit above-market growth in our radio frequency ablation business. For the quarter, we achieved net sales of approximately $178 million, adjusted for the effects of foreign exchange and the impact of our strategic decision to withdraw from revenue streams that did not meet our return criteria, organic sales for our strategic segments were up 10% compared to a year ago. Additionally, -- we generated $0.22 of adjusted diluted earnings per share and $20 million of adjusted EBITDA with adjusted gross margin of 52.8% and adjusted SG&A as a percentage of revenue of 40.6%. Given the strong sales momentum and effective cost discipline measures delivered during the first 3 quarters of the year, we are raising and narrowing our full year revenue estimates to $690 million to $700 million. Furthermore, we are raising and narrowing our full year adjusted EPS estimate to $0.85 to $0.95 per share. Moving on to portfolio management. We made solid progress on that front. As you may recall, we divested our hyaluronic acid business in July 31 as returns and growth outlook for that business fell well below acceptable thresholds. This divestiture represents an important step towards our goal of enhancing the future sales growth and profitability profile of our company. Following the sale of HA, I am pleased to report that we acquired Nexus Medical, a privately held medical device company based in Lenexa, Kansas. This acquisition expands our presence in the neonatal and pediatric settings and provides entry into a growing $70 million market. As indicated in our press release, we expected the acquisition to be immediately accretive to both revenue growth and earnings per share. I want to thank all those in the company who are involved in the Nexus transaction. It is already proving to be a great addition to our company. Moving on to our cost improvement efforts. I also have good news to share on that front. As I noted during our last earnings call, I tasked the team with identifying opportunities to optimize costs without impacting our commercial effectiveness. With this backdrop, we have recently taken steps to accelerate our decision-making, improve our new product development process and realize long-term cost-saving opportunities. We expect those efforts will deliver $15 million to $20 million of run rate annualized incremental cost savings by the end of 2026. We anticipate onetime cash charges related to those expanded program of approximately $10 million, with the majority to be incurred in the fourth quarter of 2025. Now on to the tariff front. We are executing on solutions to mitigate the impact of tariffs on our business and gross margin profile. We expect the current tariff environment will continue to impact the company in 2026. Our team is hard at work on implementing a range of strategies focused on tariff mitigation actions, including internal cost containment measures, pricing actions, leveraging previously issued temporary tariff exemptions for portions of our portfolio and lobbying efforts with AdvaMed and other third parties that have interactions with the administration. Lastly, we have prioritized supply chain investments to accelerate our exit from China, which will result in slightly higher-than-anticipated capital expenditures in 2025. With this additional strategic investment, we expect to be out of China for our neonatal syringe production by midyear 2026. And with that, I'll turn now the call over to Scott for a more detailed review of our financial results.

Thanks, Dave. I'll spend the next few minutes discussing our strong third quarter results at the segment level. Our Specialty Nutrition Systems portfolio delivered outstanding above-market results, growing 14.5% organically versus prior year, reaffirming our market-leading positions in long-term, short-term and neonatal enteral feeding. Demand for our enteral feeding products remain strong, and our underlying growth continues to exceed market levels. Please note that we benefited from higher-than-expected distributor orders during the third quarter resulting from our go-direct transition in the United Kingdom. While trends are expected to remain solid going forward, we anticipate the fourth quarter will reflect normalization of inventory levels. Our short-term enteral feeding portfolio posted another robust quarter of double-digit growth globally during the quarter. These results were fueled by the continued expansion of our U.S. CORTRAK standard of care offering. Furthermore, adoption of our recently launched CORGRIP tube retention system designed to reduce the risk of tube migration and dislodgement has delivered higher-than-anticipated sales results. Finally, our neonatal solutions business delivered another excellent quarter, growing by double digits compared to the prior year. As we have previously signaled, we anticipate lower but still above market growth for our NeoMed product line over the next few quarters. Nonetheless, we expect lower year-over-year growth in the fourth quarter as in 2024, we benefited from an unusually large international order from an existing OEM partner and also capitalized on sales opportunities that arose from a competitor's backorder challenges during the quarter. From a profitability standpoint, operating profit for our Specialty Nutrition Systems segment for the third quarter was 20%, a 130 basis point improvement compared to a year ago, reflecting a higher volume of sales, partially offset by unfavorable tariff impacts. Now turning to our Pain Management and Recovery portfolio. Normalized organic sales for this quarter were up 2.4%, excluding the impact of foreign exchange and our previously announced strategic decision to withdraw from certain low-growth, low-margin products. Our radiofrequency ablation, or RFA, business continues to deliver outstanding results, posting double-digit growth this quarter compared to the previous year. We experienced sustained growth in our RFA generator capital sales in the third quarter, enabling us to capture higher procedural volumes, particularly within our ESENTEC and TRIDENT product lines. Additionally, we are encouraged by the progress of our COOLIEF offering internationally, leveraging reimbursement tailwinds in several geographies, including the United Kingdom and Japan. Our surgical pain business was flat in the third quarter compared to the prior year. While the implementation of the reimbursement decision afforded by the NOPAIN Act is taking longer than anticipated, the NOPAIN Act provides hospitals, ASCs and caregivers with improved options to administer non-opioid postsurgical pain relief. I would point out that we offer some of the few devices approved under this legislation. We are excited to support better patient care through our ON-Q and ambIT product line offerings. Finally, our Game Ready portfolio, while down year-over-year, posted similar revenue levels as the first 2 quarters of the year. As Dave noted on our Q2 call, we are in the process of enhancing our go-to-market model for this business. As part of the strategic assessment, we made the decision to transition the U.S. rental portion of this business to WRS Group. This transaction structure encompasses a strategic partnership in which WRS will manage the rental business through a distribution arrangement with Avanos. We believe this structure enables our team to focus on our core sports and rehab channels. Importantly, we expect this structure will enhance our profitability. Operating profit for our Pain Management and Recovery segment was 3%, a 200 basis point improvement compared to a year ago, which demonstrates our recent top line and cost management execution. Finally, our hyaluronic acid injections and intravenous infusion product lines reported in Corporate and Other declined over 20% during the third quarter, primarily due to the divestiture of the HA business at the end of July. As previously shared, we will continue to manage the IV infusion product line for cash and anticipate fully exiting this product category in early 2026. Moving on to our financial position and liquidity. Our balance sheet remains strong and continues to provide us with strategic flexibility with $70 million of cash on hand and $103 million of debt outstanding as of September 30. We have maintained leverage levels meaningfully below 1 turn for several quarters and will continue to be good stewards of our balance sheet. As illustrated with our recent Nexus Medical acquisition, we can continue to maintain healthy liquidity levels and balance sheet strength while also deploying capital towards strategic acquisitions that can bring accretive revenue growth and operating margin accretion. Free cash flow for the quarter was $7 million. Cash generated by operations was partially offset by higher capital expenditures supporting our strategic supply chain initiatives, as highlighted earlier by Dave. We anticipate generating approximately $25 million to $30 million of free cash flow for the year, including the onetime charges related to our transformation efforts and the impact of tariffs, which I'll address in a few minutes. Now turning to our 2025 outlook. Given our robust sales performance during the first 3 quarters of the year, along with favorable currency positions, we are raising and narrowing our full year revenue estimate to $690 million to $700 million. This projection is inclusive of the impact of our hyaluronic acid divestiture and Nexus Medical acquisition, which will contribute approximately $5 million to 2025 revenue. We remain confident in our ability to deliver on our originally communicated full year mid-single-digit growth target across our strategic segments despite anticipated headwinds in the fourth quarter, primarily in our Specialty Nutrition Systems segment due to one-off tailwinds in the prior year. Now regarding tariffs. The environment remains dynamic. We currently estimate the P&L impact of incremental tariff-related manufacturing costs, primarily related to products with country of origin from Mexico and China to be approximately $18 million due in part to the impact of higher sales. As we noted in our first quarter earnings call, we entered 2025 with challenges in our product portfolio as well as uncertainties related to tariffs. We made progress reshaping our portfolio with the divestiture of the HA product line and the Game Ready rental transition. We have put in place mitigation strategies that will address tariffs on a longer-term basis and are pleased with our overall commercial progress thus far this year. As a result, the company is raising and narrowing its 2025 full year adjusted EPS estimate to $0.85 to $0.95 per share, inclusive of the impact of our hyaluronic acid divestiture and Nexus Medical acquisition. I'll now turn the call back to Dave for his closing comments.

Thanks, Scott. As you have heard today, we are in the midst of a successful transformation of the company. I'm proud to be part of this dedicated and skilled team who has a clear understanding of our goals and objectives, and Avanos has the financial strength to execute on them. Our underlying business trends are steadily improving. Nonetheless, some of the progress is being obscured by the impact of tariffs. We are confident in the steps we are taking to address tariffs, and we believe we can enhance the value of Avanos by delivering a more attractive growth profile. I would like to thank all of those at the company who contributed to this successful quarter. The work you do makes a positive difference and helps patients get back to things that matter. With that, we are now ready to take your questions. Operator, please open the line.

[Operator Instructions] Your first question comes from Danny Stauder with Citizens.

Congrats on the quarter. So I guess, first, I just want to ask on that cost improvement plan that specifically the $15 million to $20 million annualized cost savings. You mentioned a few different things there, a few different levers. So I was just hoping you could go into that a little bit more in detail and give us a little bit more color on what's driving that, what's different, what you're changing and what that looks like as we move through '26?

Danny, thanks for the question. So as we stated in the -- on the call, we expect these efforts around $15 million to $20 million to be realized by the end of 2026. We've been really focused on streamlining the overall organization, the management structure that we have, really trying to make it a much more effective and improve decision-making and also accelerate things within the organization. So there has been a reduction in our senior management organization. We also are looking at our R&D organization much differently than we had in the past. A lot of that is to improve getting new products out the door faster. So we've streamlined and revamped that organization as well. And that was probably the biggest part of the reduction. And we've taken the majority of those actions that we expect to realize next year already.

Okay. Great. I guess to follow up on that, you mentioned R&D. Just as far as the product development pipeline, is there anything you can call out that we should be looking for as we move into the end of '25 or into '26? Or is it a little further out than that? Anything that I think is worthy of calling out there that could drive sales?

Yes. So as we looked at the model that we had, the one thing we wanted to do, Danny, was go to a hybrid model, which is when I say hybrid, I mean, some of the projects that we'll do are going to be internal projects, especially those that are much closer to completion. But as we look at some of the further down the road projects, we'll definitely go to a hybrid model where we'll do outside contracting with other companies to do the work for us. We believe that this will allow us, number one, to help somebody extremely accountable. We think that there are institutions that can probably do some of this better than we can do it. We can focus on the products that we can make that we know we have the skill set. But as we continue to grow the portfolio, there are probably other entities that could do it better than us. So with this hybrid model, we'll still have an internal R&D organization, and we're committed to that organization, but they'll be focused on certain projects. But other projects where before we took everything on. And now we will contract out some of these other projects. Our belief is it will improve our speed to market with products. So we're not just relying on acquisitions, but we're also bringing out new products as well.

Okay. Great. And then I just want to move to M&A. It's nice to see you close on the Nexus acquisition. And I know you called out previously 2 other bolt-ons earlier in the year. So I was hoping you could give us a little more insight into how you're thinking about this and your appetite for more deals? Do you feel like this is enough for the near term or for now? And would you consider something larger? Just any more color on that front would be great.

Yes, absolutely, Danny. And thanks for the question. So again, a big focus for us is continue to find synergistic M&A opportunities. And we said that we would do that both in SNS and in pain management recovery. I think there'll be -- you'll see more focus on -- in the short term on the SNS business. And yes, we have an appetite to do more. And as we stated previously, we expect to do more. I can't say it will happen this year, but we expect to do more M&A, and we're actively seeking those opportunities.

Okay. Great. And then just one final one, more housekeeping. I just want to make sure. So for the free cash flow assumption, $25 million to $35 million, I just want to be clear, that includes the $18 million in tariffs and the $10 million onetime cash item from the cost improvement plan. Is that the right way to think about it?

Yes. So it's $25 million to $30 million is the plan for '25. It does include the charges related to this recent transformation efforts that we've executed on. It also includes a little bit more CapEx than we had originally planned, and that's in order to accelerate our China exit plan. So we think that's good investment dollars to accelerate and reduce the impact of tariffs in '26.

There are no further questions on the phone line. I will turn the call back over to Mr. Pacitti for some closing remarks.

Well, thanks for the questions, and congratulations to the organization for a really strong quarter. We appreciate it. We look forward to continuing the dialogue, and thank you very much. We appreciate the continued interest in Avanos Medical. Thank you.