Good day and welcome to the Integra LifeSciences' Fourth Quarter and Full Year 2019 Financial Results Conference Call. Today's conference is being recorded.At this time, I would like to turn the conference over to Mike Beaulieu, Director of Investor Relations. Sir, please go ahead..

Thank you, Katie.

Good morning and thank you for joining the Integra LifeSciences' fourth quarter and full year 2019 earnings conference call.Joining me on the call are Peter Arduini, President and Chief Executive Officer; Glenn Coleman, Chief Operating Officer; Carrie Anderson, Chief Financial Officer; and Sravan Emany, Senior Vice President, Strategy, Strategy Treasury and Investor Relations.Earlier this morning, we issued a press release announcing our fourth quarter and full year 2019 financial results.

The release and corresponding earnings presentation, which we will reference during the call, are available at integrlife.com under Investors, Events & Presentations in the file named fourth quarter 2019 earnings call presentation.Before we begin, I'd like to remind you that many of the statements made during this call may be considered forward-looking statements.

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, the discussions will include certain non-GAAP financial measures.

Reconciliations of any 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 today with the SEC.I'll now turn the call over to Pete..

Thank you, Mike and good morning everyone. If you turn to slide 4 in the earnings presentation, I'd like to start by reviewing some of our 2019 highlights. As we have discussed at our recent earning calls, 2019 was a year of significant integration work and operational investment that will position the company for accelerated organic growth.

We achieve mid-single digit top-line organic growth and a six consecutive year of double-digit EPS growth.Our organic revenues for the year increased 4.8% in line with our pre-announcement on January 14. And adjusted earnings per share increased over 13%.

Adjusted gross margin increased 90 basis points over 2018 and our adjusted EBITDA margin increased 110 basis points.

As we started to benefit from the scale and leverage of the Codman acquisition.This margin expansion is a result of faster growth and higher margin products as well as our strategy of portfolio and manufacturing optimization which we outlined in 2017.We take a disciplined and rational approach to make strategic decisions about where to compete, which enables us to take advantage of scale and create efficiencies across the portfolio.

The company remains on a path towards achieving EBITDA margins of 28% to 30% and gross margins of greater than 70% by 2022.Turning to our Codman Specialty Surgical performance; in 2019 we substantially completed all the integration activities related to the acquisition.

After two years of significant investments and integration work we achieved organic growth of 5.6% in 2019.

This growth was well above the low single-digit trajectory Codman had been on, is attributable to our expanded scale, new product introductions and expansion into faster growing markets such as China and Japan.In 2019 we acquired two early-stage technology platforms.

The first was an anti-thrombus coding technology to reduce catheter obstructions and the second a platform technology for minimally invasive neuro surgery.

These technologies are a natural addition to our portfolio and create clinical opportunities to expand into new larger and faster growing markets such as intracerebral hemorrhage and minimally invasive neurosurgery.

While we continue to make investments in these technologies our development and clinical progress are on track with our commercialization plans.Looking at our orthopedics and tissue technology segment 2019 represented a year of investment for the company as we focused on expanding capacity at several of our facilities that manufacture [regenerate] products used in wound care, amniotic and plastic in reconstructive procedures.

We expect supply to increase and revenue growth to accelerate beginning in the first quarter of 2020.Importantly, our manufacturing investments have positioned the company to meet the increased demand and heightened regulatory requirements we expect for these products in the years ahead.

In 2019 we stabilized our orthopedic franchise and saw a positive momentum in both our ankle and shoulder portfolios which grew double-digits. We expect global performance to improve as we benefit from the combination of new products such as the ankle revision and small post baseplate and expand our established commercial team.

In 2019 for the total company we introduced 10 new products making it one of the most productive years for our product development teams.I'd like to highlight our strong lineup of programmable valves for hydrocephalus management which demonstrates our ability to develop products with advanced technologies to solve unmet clinical needs.

And the strong performance of DuraGen in Japan shows how our new product launches are having a positive impact outside of the U.S.

where our international business achieved its fastest growth in four years.With innovative marketing programs launched for many of these products and peak sales not occurring for another three to four years these new products will be a key driver of our organic growth.Wrapping up our 2019 performance, I think there's a lot to be pleased with.

We successfully integrated the Codman business, moved to one common ERP platform, streamlined our operations and expanded our commercial organization; all of which should benefit us in 2020 and keep us on track to achieve our long-term financial goals.Now I'd like to turn the call over to Carrie to discuss our fourth-quarter performance and 2020 guidance.

Carrie?.

Thanks Pete and good morning. Let me start with our Q4 financial highlights for the total company. Fourth quarter total revenues were $395 million representing growth of 3.1% on a reported basis and 4.6% on an organic basis. These results were in line with our January 14th pre-announcement.

Adjusted earnings per share were $0.68 and near the high end of our guidance range.If you turn to Slide 5, I'll start with the review of our CSS segment. Reported revenues for CSS were $259 million in the fourth quarter, an increase of 6.3% on an organic basis.

The strong performance was broad-based across our franchises and was driven by commercial execution, new product launches and expansion into faster growing international markets.Sales in our global neurosurgery business grew over 7% on an organic basis and contributing to this performance was mid-single digit growth in dural access and repair led by the successful second half launch of DuraGen in Japan.

Additional sales and flow and pressure monitoring increased high single digits driven by momentum in our portfolio of programmable valves used for hydrocephalus management.

Fourth quarter sales and advanced energy increased mid-single digits both CUSA capital sales and consumables performed well.Moving to precision tools and instruments, organic revenues grew mid-single digits slightly above our forecast.

International sales in CSS increased over 10% on an organic basis in the fourth quarter driven by our core neurosurgery portfolio including new product introductions, strengths across Europe as well as double-digit growth in China and Japan.And turning to our segment guidance, for the full year 2020 we expect reported sales and CSS to be flat to up to 2% and organic revenues increased 3% to 5%.

The difference between the reported and the organic growth rates is related to our portfolio optimization strategy. Our organic growth guidance reflects balanced growth across our franchises with continued momentum in new product launches.Moving to our orthopedics and tissue technology or OTT segment on Slide 6.

Fourth quarter revenues were $136 million, an increase of 1.6% on an organic basis. Sales in wound reconstruction increased low-mid single digits in the fourth quarter, led by our inpatient and plastics and reconstructive portfolios partially offset by weaker sales in the outpatient settings.

Wound reconstruction sales were negatively impacted by supply constraints in the fourth quarter but sales did improve sequentially from the third quarter.As Pete mentioned earlier we are making investments in capacity expansion and quality improvements at two of our regenerative facilities.

During the fourth quarter we decided to extend these investments in order to increase long-term capacity of these sites which limited production.

These supply constraints were the primary [reason] performance in our OTT segment came at below guidance.And moving to private label, fourth quarter sales were down slightly but in line with our expectations.In our orthopedics business, our U.S.

sales increased low single digits driven by double-digit growth in our combined ankle and shoulder portfolios. On a global basis organic sales and orthopedics were slightly down in the fourth quarter driven by weakness in lower fixation sales in Europe.

Turning to OTT segment guidance, the investments made in our manufacturing facilities will improve supply and as a result we expect 2020 sales growth to be in the range of 6% to 8% on both a reported and organic basis.Turning to Slide 7, I'll provide an overview of our consolidated revenue guidance.

As previously communicated we expect full year 2020 revenues to be in the range of $1.55 billion to $1.57 billion representing reported growth of approximately 3% and organic growth of approximately 5%.The difference between our reported and organic growth is primarily the year-over-year change in sales of divested and discontinued products of approximately $30 million.Consistent with previous practice we will include the reconciliation between reported and organic growth calculations in our quarterly report.In terms of phasing of our growth for full year 2020 we expect organic growth in the first half to be slightly below 5% and in the second half to be slightly above 5%.

And for the first quarter of 2020 we are guiding for revenues of between $367 million and $372 million representing organic growth of approximately 4%.Turning to Slide 8, I'll now review the rest of the key P&L components. Fourth quarter GAAP gross margins improved by 40 basis points and adjusted gross margins improved by 160 basis points.

The improvement here was primarily a result of increased sales from higher margin products.

For the full year 2020 we expect an adjusted gross margin of approximately 69% representing 150 basis points increase driven by continued growth of higher margin products as well as the benefits of portfolio optimization.Our adjusted EBITDA margin was 23.2% in the fourth quarter unchanged from the prior year.

For the full year 2019 our adjusted EBITDA margin was 24.3%, a 110 basis points increase over 2018 driven by higher sales and improved gross margin and for the full year 2020 our adjusted EBITDA margin should increase by approximately 100 basis points at the midpoint of our guidance.Fourth quarter GAAP earnings per share were $0.18 compared to $0.29 in the fourth quarter of 2018.

Adjusted earnings per share were $0.68 compared to $0.65 in the same quarter last year and for the full year 2019 adjusted earnings per share increased double-digits or 13.2% to $2.74. For the full year 2020 we expect GAAP earnings per share to more than double and be in the range of a $1.40 to $1.45.

Adjusted earnings per share will be in the range of $3.0 to $3.05, which represents approximately 10% growth and assumes a weighted average diluted share count of about 85.5 million.

For the first quarter we expect adjusted earnings per share to increase approximately 5% over the prior year.Turning to Slide 9, I will walk through our cash flow performance. For the full year operating cash flow was $231 million, an increase of 16% exceeding the top end of our guidance range. Free cash flow was $162 million.

For 2020 we are projecting operating cash flow in the range of $240 million to $250 million and free cash flow conversion of over 70%.

Capital expenditures are forecast to decline by approximately $10 million compared to 2019 as a result of lower capital investments associated with the Codman integration.If you turn to Slide 10, I'll provide you a brief update on our capital structure following our recent financing activities.

As of December 31, 2019 we had cash and cash equivalents of approximately $200 million, net debt of about $1.2 billion and bank leverage ratio of 2.6 times.As part of our ongoing strategy to optimize our capital structure, we acted on favorable market conditions to improve the flexibility of our balance sheet earlier this month.

We renegotiated the terms of our $2.2 billion bank facility and extended the maturity of our credit agreements by two years to 2025.We also issued $575 million convertible note and we will use approximately $100 million for the accelerated share repurchase program we’ve launched earlier this month.

Inclusive of these financing transactions we estimate a pro forma year end 2019 cash balance of $321 million, net debt of $1.3 billion and a bank leverage ratio of about 3.0 times.

Based on improving cash flows and consistent with our prior messaging we remain comfortably operating with a bank leverage ratio in the range of 2.5 to 3.5 times.And with that I'll turn the call back over to Pete..

Thanks Carrie. If you will turn to Slide 11, this slide really gives you a view of the heavy lifting that we've completed in 2018 and 2019 to position us for success in 2020 and beyond. Over the last two years we completed the largest and most complex integration in the company's history.

This was accomplished with an immense amount of focus across our organization and minimal disruption. We've emerged from the integration as a clear global leader in neurosurgery.

At the same time we expanded and realigned our orthopedics and tissue technology segments to position the company to become a market leader in regenerative technologies.In 2019 we completed a multi-year ERP conversion and now have the entire company on a single global system which increases our agility and improves productivity by leveraging technology.

We completed initiatives to optimize our manufacturing facilities including three plant closures and invested in capacity and quality improvements and several others and 2020 will be our peak year for portfolio optimization.We also expanded our senior leadership team by bringing Carrie on board as CFO and having Glenn assuming newly created role of Chief Operating Officer.

Our ability to increase focus on growth initiatives as opposed to integration activities will enable both top line and bottom line growth acceleration in 2020.If you turn to slide 12, I'll summarize our 2020 outlook and close out our prepared remarks. Our long-term financial goals are listed on the slide and remain intact.

Our confidence in 2020 revenue acceleration is based on multiple growth drivers.

In CSS we will realize the full benefit from recently launched products, continued growth in higher margin products and expansion into faster growing international markets such as China and Japan.In OTT sales in our regenerative technologies franchises including private label will accelerate early in the year boosted by the capacity investments we made in 2019.

We also expect the pace of growth in our orthopedics franchise to increase over the course of 2020.Turning to profitability the 2020 guidance that Carrie provided includes about a 150 basis points of gross margin expansion and 100 basis points of EBITDA margin expansion driven by improving scale and efficiencies.

Combined these growth drivers give us confidence in achieving our top line and bottom line guidance for this year.That concludes our prepared remarks. Thanks for listening.

And operator would you please open up our lines for questions?.

Thank you sir. [Operator Instructions] Our first question will come from Dave Turkaly with JMP Securities..

Thanks. Good morning. Just on the portfolio optimization, I think you said 30 million in 2020.

I think it was 29 last year maybe, maybe 39 year before that and Pete I think you made the comment that you may be at a point now where whether slower or maybe even stopped, I just wondering if you could give us a comment on that? Would we still expect some of those divestitures and discontinued ops in ‘21 and beyond?.

Yes Dave, I'll comment. And Carrie makes some point.

I think the point of the prepared comments were for obviously this component of the products that we talked about this is really the peak year sales and again remind everyone products that we had to divest or products that we do divest or products that we actually determine that we will take them out of portfolio to achieve our long-term strategy is what we're talking about and to the point we believe that 2020 is really the peak year.

The spread between ‘19 and ‘20 is that $30 million that's the difference that we'll have and we think that will go down in future years for sure.The point being though is that there's always some level of pruning but post the Codman acquisition and taking a look at certain product lines that might have overlapped or we weren't going to invest in any further this happens to be a bigger component of the focus in portfolio optimization that will be going forward.

Carrie if you want to add any more details?.

Yes, just to clarify the year-over-year change is $30 million between a bridge between 2019 and 2020. That comparison in ‘18 to ‘19 was about $11 million. So it's going from a year-over-year change of 11 million to about $30 million to Pete's point is the peak of that activity and it is a crucial piece of -- it's a value enhancing initiative.

It's a driver of our gross margin story for sure. So it is part of our investment thesis and drive some of that gross margin that we expect to see in 2020..

Great. And just quick follow-up, you talked about some of your longer-term targets and I know one of them was to get to 45% regenerative mix by 2022.

I was wondering if you could comment on where that stands today and then you mentioned the supply constraint obviously some investments on the capacity side but I guess any additional color on what you think that cost you in the quarter and then sort of I guess are those expenditures of the two facilities largely done now?.

Yes Dave, I will maybe just comment on the regenerative mix and maybe Glenn you could talk about some of the supply questions. Look at this point in time we're probably around 40% in that window of our total sales come from products which regenerate within the body.

We were probably a little bit higher a few years ago but the shift and addition of the Codman products moved that down and just to remind everyone again when we think about nerve repair, we think about chronic wounds, we think about acute wounds, we think about hernia repair, we think about plastic and reconstructive; all of those are derivatives of our core technology platforms which are regenerative based and so we think those markets are going to continue accelerate.Obviously a 2019 was a slower growth year as we played out heavily associated with the supply constraints that we had but as we look forward both in acquisitions as well as organics, I mean we remain very optimistic that the regenerative platform will continue to be a big growth driver going forward, not only in OTT but also within the CSS side with our DuraGen platform, our DuraSeal platform and some other opportunities that we have in front of us.Glenn you may want to talk a little bit more about the supply piece..

Hey Dave, as you mentioned I would say that the two areas where we've been supply constrained have been in our Memphis facility in Boston, so Memphis makes the amniotic products for us.

The two big efforts we have ongoing throughout 2019 were around increasing placental recovery efforts and expanding our hospital network and third-party networks and that was a big deal in terms of getting more material into the actual facility.And then we've also upgraded and expanded the clean rooms in that site to significantly add capacity.

And so those investments are essentially behind us. We have some more plans late in 2020 to add a few more clean rooms but we are in a very good position on our supply as a released amniotic and in fact we're building safety stock as we enter the first quarter of 2020.

So you'll see an improvement in our results in OTT as released amniotic starting here early in 2020.Boston, we've been supply constrained for a different reason. You probably remember we went to an FDA over there we've been doing quality remediation efforts throughout 2019. There are no patient safety issues here.

We are continuing to ship out of that facility but there were changes we had to make to the actual physical facility and those changes required us to actually shut down the plant which was planned in the third quarter and into the fourth quarter.As we're going to plant shut down we extended that shut down for several weeks as an additional production line which is going to give us 50% more capacity as we enter 2020.

It's [Technical Difficulty] up and running with more capacity or building supply but those are the two plants that have really constrained ourselves in the OTT business throughout 2019 but starting here in 2020 [indiscernible] improvement in both of those facilities and you'll see that reflected in the OTT better performance starting here in Q1..

Thank you..

Thanks..

Thank you. Our next she will come from Ryan Zimmerman with BTIG..

Great. Thank you..

Hey Ryan..

I want to first start on CSS. So you're guiding to 4% of the midpoint. I think if I recall your initiate Codman at about 3.5% to 4% last year and then raised it through the year ending around 5.6% as you said and it was 5% guidance at the start of the third quarter, excuse me, at third quarter call.

So first why a wider range here? And then is this conservatism in your view for the CSS business? I hear what you're saying Pete in terms of the business came better or is there something structurally that's slowing it down in ‘20 that we need to consider?.

So I'll take that. This is Carrie. We finished 2019 at 5.6% organic growth as you mentioned. So definitely a strong year for us. The result was particularly strong for international teams that just had an incredible year.We've always talked about our CSS long-term growth range as between 3% to 5%. And we expect to be in this range for 2020.

I would say that certainly neuro, the neurosurgical area is a competitive area for us. We didn’t see some of the competition we thought we would have seen in 2019 with a couple of our key products.So our guidance of 3% to 5% does reflect a more of a competitive landscape for us there. And frankly, we're coming off of tough comps.

It was a particularly strong year for us, so the 3% to 5%, I think unbalanced is in our guidance range or long-term guidance range and that's where we'd expect.Our longer-term, we have the opportunity to move more consistently to the top-end of the guidance range with the contribution of our new acquisitions Rebound in Arkis.

But those are not revenue contributors in 2020. And so will take us a few years for really to see the impact of those two acquisitions but for 2020 we expect to be in that 3% to 5% range..

Yes, and Ryan and so to Carrie's point, there's no real any underlying change or structural change. But again, just think about our CUSA franchise, we're in year three adding towards a year four window which is kind of as our peak.

We have a competitor in the space, we actually have outperformed in the second half of 2019.And so we're expecting solid performance but Carrie's point, on a much higher base. But I think fundamentally, there's been no change or outlook on really any of our segments with CSS and we expect to have a very solid year this year..

Got it. Okay, that's helpful. And then, as a follow-up to that, you did raise a lot of money through a recent convertible offering. And so I just love to understand, I mean probably the ASR is going to be in place and that will account for about a $100 million you said.

But with the other portion of that available, can you talk about your M&A strategy, kind of what you see out there, what your appetite is for M&A.

You did make some comments I think in the presentation around, you're assuming essentially minimal acquisition revenue this year in 2020 in the guidance but certainly you have the bandwidth now to do some so, love to just get your thoughts there. Thank you, guys..

Yes thanks, Ryan. So obviously with the addition of Carrie and Glenn, it does give myself more time to focus on other parts of our strategy to make sure that we can reach a lot of the goals we laid out for 2022. And as you are well aware, I mean we have been a company that's between organic as well as inorganic activity.

We built out our base.I've been focused on our capital allocation strategy as well, first with some of the share buyback to leverage the most value. But as our longer-term component here is, is looking at the right tuck-in acquisitions.

As we stated before, I mean in the case of Codman which's kind of a special situation where the number two player buys the number three and becomes the number one player in the marketplace.We don’t necessarily see many of those coming upon us but we have lots of opportunities for tuck-in acquisitions that would be accretive and add to all of our long-term strategy particularly [OTT] potentially within orthopedics.

And if you think about CSS as a specialty surgical component that brings expertise and sealing tissues as well as cutting removal.We've got lots of opportunities out there. And so, now with integration behind this, I think expect to see us back in active again but staying very disciplined to the return metrics that would make sense.

As well as to our focus on what we want to be and what we don’t want to be. I don’t think you're going to see astray significantly off of our core strategy..

And I would just add there in terms of the convert timing. It was really market, our condition is just being very favorable.

We've been -- we're in a period of really prolonged global -- a global bull market and we're always looking for opportune times to strengthen our balance sheet.And if I could tell an opportunity to get really low-cost financing ahead of what could be a more volatile year and it was a great structure.

We don’t get dilutive until the stock moves above a 113 and against this some dry powder to continue to pursue it as Pete mentioned our long-term growth strategy..

Fair enough, thanks for the feedback, guys..

Thanks, Ryan..

Thank you. Our next question comes from Robbie Marcus with JPMorgan..

Thanks for taking the questions. Two from me. Maybe first, if I go back to the JPMorgan conference, you talked about share repurchase not being necessary to hit double-digit EPS growth. The guidance range you put out today has 9% to 11%, which does include the ASR and measure of share repurchase.

So, what's the delta between the two and do you still think that you can hit double digit EPS growth even if we didn’t include the benefit of share repurchase?.

Beaulieu, I'll take that question. Certainly that the share repurchase gives us confidence in our outlook. It's a way to return value to our shareholders.

But the way I also characterize is, it is to give this flexibility and optionality in our planning for key investments to balance the year.Our guidance does reflect the benefit of the 100 million share buyback but it also incorporates a 100 basis points of EBITDA margin expansion as well.

And we can't get the double-digits without the share repurchases but what it does again it gives us decrease of freedom on how we make decisions on key investments.And last year we made the two acquisitions, Arkis, and Rebound, it does expand our addressable market by over a $1 billion and we expect these product lines will help push us consistently to the high-end of that growth for CSS.

But in the short-term, they're not revenue contributors then they're still going to require R&D investments.So the buyback gives us the flexibility to make the right investment decisions here. And frankly, it's still early in the year.

Our hope is that we could actually improve on this outlook as the year unfold but given the early start to the year, we we're taking a more cautious guidance approach..

Okay, understood. And maybe second, more a philosophical question. When I look at all of your MedTech peers or almost the entirety of MedTech peers, no one else backs out discontinued products.

Especially if we look at Codman, that was closed in fourth quarter 2017 and you're still backing out discontinued products in 2020 from it.So as we think about just how you think about organic growth in the business except on my math you're closer to 3% to 3.5% organic when I do apples-to-apples to your peers.

How do you think about the long-term organic growth rate that MedTech industry puts up in around 5%? And do you think you can exceed it without backing out discontinued products? Thanks..

So the first part is the growth rate Robbie, without a shadow of a doubt we believe that we can be a 5% to 7% grow our without significant divestitures or discontinued products. But again, everybody backs out when you actually sell off a product.

Right, when you're actually divested.We're very serious about what we told our long-term holders back in '17 that we would drive to be 70% gross margins and 28% to 30% EBITDA holding on to products that would create a significant amount of lumpiness in the year and make it challenging to kind of understand how the operating miles working.

We didn’t think it was a right way to do, we take it out, we report them very clearly, you can see what the reported number is.You can see it the organic. If you wanted to add some of that back-end to factor it, obviously you can do that.

But we think it's a right thing to do as it just move out of those and obviously keep investors informed about what that curve looks like, which -- our point is for this year, this is kind of the peak of it and then we move beyond it. But I still stand by, I think it's the right thing to do.

And again, the reason being is that this is the way we actually represent what the true ability of the company is in our profitability..

I mean, really are strategic exits. They're not just the wind-on as products. We are making very strategic decisions on the portfolio of what we're in and what we're not in. if we could found a buyer for these assets we would have. And treat it like divested but we in some cases these are commodity products.

You can't find a natural buyer but doesn't change our decision that we need to exit these.When you do discontinue a product, it takes time. It doesn't get out of your revenue for a while because in a lot of cases you have long-term customer commitments that you have to honor there.

So it takes some time, the peak of that activity is in this year in 2020. It will be a tail of that into 2021 but beyond that I don’t think I wouldn’t see will be through that activity..

And then to your last part I'd add Robbie, you know this well I mean, our portfolio is one either on the OTT side or on the CSS side.

That has a component that fundamentally is all the product lines that we’re in, we remain to be a rather business that actually is effected significantly on how economic turn play out.And getting the portfolio on a position but when the markets aren’t doing as well, it's a really important part of I would say the cadence and focus that we put in place.

Neurosurgery as an example between traumatic brain injury or tumor section, doesn't change a whole lot in a bull market or bear market as well as chronic or acute wounds and such and so.Other parts of our portfolio that again some of these older dental assets as an example, some product lines that literally we don’t see a future because technology has moved on.

The strategic divestiture what we just found was the right thing to do. And being to this discussion here, we're very transparent about what we're doing and why we're doing..

I appreciate the thoughts, thank you..

Thank you..

Thank you. Our next question comes from Raj Denhoy with Jefferies..

Hi, this is Anthony for Raj. I have two on the revenue side and one on the margin side. Just obviously, this growth in China double-digit growth, maybe just any comments on Corona virus certainly from the calls through earning season so far, most recently Medtronic. They're commenting on slower procedure volume.

So just wondering how that plays out.The second revenue question would be on DuraGen in Japan; it's out there for now the third quarter.

I'm just wondering how penetrated DuraGen is in Japan and what the expectation is as we head into the back-end of the year.The last question on margins would just be, can you help us walk through the bridge at the EBITDA line just from 23% exiting 4Q to the 30% target. So there's significant room in front of the company.

I'm just wondering what the key drivers are there. Is it CSS upside, is it new products, is a mix, just some detail there would be great. Thanks..

So Anthony, this is Glenn. I'll take the first two and Carrie can answer the margin question. On China, we had another strong fourth quarter double-digit growth.

I'll frame the business out so you have a better understanding about the size of the business and what we do in China.First and foremost, our top priority at the moment is ensuring the safety of our 120 employees in China. To-date, none have contracted the virus nor have their immediate family members.

So that is obviously at top of mind and top priority for us. Our commercial business in China today is about $50 million or 3% of our consolidated sales.Keep in mind, almost everything in China is neurosurgery related. And that's important because most of the procedures are non-elective.

And so, we're hearing the same thing in terms of a slowdown in hospital procedures. We think it's probably less of an impact on us because our procedures are non-elective.

But clearly, that's something that we're seeing on the ground in terms of slowing procedures both here in the first quarter and second quarter but we don’t think it's going to have a big impact on our business [that’s] what I just mentioned.We also have a small manufacturing site in Nantong which is about a 100 miles from Shanghai.

It supports less than $25 million of our traditional wound care business. The good news around that is we shipped a bunch of product prior to the Chinese New Year to support our first quarter forecast. And to-date, we've been able to get that facility up and running and we're back-to-normal operations.

So we don’t expect much of a disruption from our small plant in Nantong.And then third, when you look at suppliers, we do source from China a small portion of our products. We've been in contact with our suppliers on the ground.

They were up and running for all of our key products at the moment and as long as it doesn't turn to a long period of time with this Corona virus we feel like we've got the situation under control. And we're not overly concerned around the supply chain..

I would add on that before you go on the DuraGen is that our Q1 revenue guidance does factor in some conservatives in around China but nothing of a significant nature as of right now. Something changes that with their in that more significant, we wouldn’t have that comprehended.And beyond Q1, it’s a bit more unknown.

So there's nothing specifically factored in for anything beyond Q1..

Yes. But also and I think we've got the situation well under control and again most of our procedures are non-elective. Yes, as it relates to DuraGen in Japan, could not be more pleased with the start of the launch of that product really into our third quarter now at the launch. Already seeing a very good momentum.

And yes, this is the product in my mind in 18 to 24 months now, should be north of $10 million the annual sales.So seeing a good ramp; exciting product.

We have other really nice initiatives going on in Japan as well in terms of moving some of the remaining indirect business to a direct channel and creating a general surgical team and that's also going to give us better growth in Japan in addition to the new product introduction that we just mentioned on DuraGen..

And then on your question on the EBITDA margin expansion that 100 [bits] there, it's really a factor of improving gross margin, so that's where that lift is really coming from and it's driven by that favorable product mix.

It's the combination of faster growth and higher margin products which certainly the new product introductions are a big component of that and it’s also this portfolio optimization piece. It's a critical piece of that gross margin story is getting out of discontinuing and divesting products that are lower growth, lower margin type of products.

So it's the combination of both of those that are really driving that EBITDA margin expansion coming through the gross margin line..

Yes. To Carrie's point when you think about that over the next few years it's more of the same. So the 500 basis points improvement over that time period is it's that whole play of taking lower margin products out of portfolio.

All of our new product introductions have come in that replaced products have come in at equal or higher gross margins around the world which is a benefit and then our structural size now we're at this point and with the common ERP system that we can actually grow our sales pretty significantly without the same ratio of employee additions that we've had to have in our past when we had many other platforms.

So we're at a kind of critical window here over the next two, three years that helps drive it..

Quite helpful and just as the quick follow-up just on DuraGen, is it just to be clear in Japan -- just in terms of sizing of the matrices cleared I mean do you have, is the entire portfolio available there now? You still have other sizes that you'll bring in?.

On DuraGen we have the full portfolio..

Yes. We have the full portfolio sizes for DuraGen in Japan..

Okay..

[We are not] ready to go. So it's up and running and we're the only xenograph that's actually out there on the marketplace and as you guys know as Glenn commented we've got a very deep set of clinical data from around the world which is helping the Japanese team bring it into an industrialized market converted.

So I think we've got multiple years in front of us of growth here in Japan..

Okay..

Thank you for the questions..

Thank you. Our next question comes from Steven Lichtman with Oppenheimer & Company..

Thank you. Hi guys. So as you look to the 2020 guidance, it looks like you're balancing – you’re dropping through some of the gross margins strength you're seeing and reinvesting.

As we think about reinvestment should we be thinking about that more on the R&D line or are you taking the opportunity to expand the sales force? Is it both? Any color there would be great..

Yes Steve, it's Glenn. I think a couple of things. R&D is obviously a big component with the Rebound and Arkis acquisitions. So you could kind of definitely see an uptick in the R&D spend. Relative to the commercial channels we are adding more resource and investment. I would highlight we're adding more nerve specialists.

We are adding more associate sales reps in our wound reconstruction business and then outside the U.S. we're going to be adding more people in Japan to support the indirect to direct channel move I mentioned earlier so creating a general surgical team and also more neurosurgical specialists in Japan as well given the strong momentum we have.

So it's a combination of both, so R&D as well as expanding our commercial channels..

And I would say Steven on a percent to sales basis you will see an increase of R&D year-over-year. I think we ended the year 2019 at about 5.1%.

You're going to have that move up to somewhere between 5.5% and 6% somewhere in that bit point there and it's the work that Glenn mentioned it's the Arkis and Rebound being additive to the portfolio some R&D spend there, clinical study work there that we'll be focusing as well that would be the primary driver and that was, it's a very conscious decision.

So again as we think about the choices that we want to make in 2020 R&D is one of those choices that we want to invest in..

And to both Carrie and Glenn's points I think the exciting part for us is we've got a really well laid out plan for R&D pipeline and new products.

This is a really pivotal year for us for certain clinical studies too and based on feedback that we’ve received from the agency domestically and globally and depending on how some of that news plays out for the most part it's structured in our plans to be that we would view it as positive news depending on how some of these feedbacks come back.

We have different opportunities throughout the OTT portfolio as well as with CSS and from a funding standpoint it's one of the main reasons that we've kind of basically said let's see how the year plays out.

We want to make sure that we have adequate ability to fund those if we receive more positive news.And I'm referring to studies that show proof on why our products perform better than others.

Indications that may allow us to open up markets that we have not significantly penetrated at this point and so there's been a lot of great work in that area and again I'd say in future calls we'll talk more about the portfolio and how that mix of R&D investment will play out or not.

But I think with how we've laid out our guidance for this year we feel very good based on what, however those play out that will have adequate capabilities to address those..

Great. Thanks guys.

And then just secondly on the longer term pipeline, can you talk a little bit about the milestones ahead on Rebound and on the shoulder products that you're working on and maybe just quick update on your thoughts on the opportunity for Rebound long term?.

Yes. I would just say at a higher level for the, our platform that allows us to go into intracerebral hemorrhage as well as minimally invasive neurosurgery there are two different fundamental timelines.

I think we will be able to start doing some fundamental research work with the final products here later this year and the next year but as far as indications for ICH or something like that we're talking out of few years until we'd actually have the clinical studies and the research work done but quite excited about where that may take us and obviously our entree into the stroke market from a neurosurgery standpoint we think is a quite an interesting opportunity for us.The other aspect of it though minimally invasive which takes this type of a product and enables us to adapt our instrumentation to work in a smaller channel that has high illumination as well as video capabilities, we think is quite interesting.

And actually might be able to address certain disease states in a closer window time say 24 months but those are all preceding well.The team is fitting in very well with our team. I think that the group at this point is obviously achieved their milestones.

We have some more challenging ones in front of us but as far as indications and having the product ready we're well aligned to do that. The other one is on the anti-thrombus technology.

Part of that is a science work relative to its integration into different types of catheter types with it be silicone or polypropylene and such and good advancements there.

We have a first generation products out in the market today and before the end of the year we'll have really well-thought-out insights onto other materials and that will obviously determine how big the market opportunity is for us but all is on track..

And Steve I would just add relative to shoulder since you brought it up. Today we think we've got a very strong shoulder portfolio about the total [or hemi] shoulder.

The instrumentation is differentiated versus others that are on the market, very simplified instrumentation set and we are working towards getting a short stem and establish shoulder in place here, and over the next 18 to 24 months and then down the road longer term a PYROHEMI shoulder.

So we have a very nice R&D pipeline for shoulder and a pathway for success in what's a very big shoulder market today..

Great. Thanks guys..

Thank you. Our next question comes from Matt Miksic with Credit Suisse..

Hi. Thanks for taking the questions. So I had one if I could just to kind of go back a bit and one sort of looking forward.

So the first question just to maybe revisit some of the things Pete that you've talked a little bit about in terms of the supply issues and ortho that affected Q4 versus expectations.If you could maybe just talk a little bit about having -- seeing these kinds of things before increases in capacity, work in a plant's regulatory remediation and so on, sometimes those things can get handled a little bit more smoothly with safety stocks or some planning that has less of end market disruption to your numbers and sometimes they can't.

And so maybe if you could talk a little bit about why it was that impacted and maybe what you can do to reduce that in the future.And then just on also in this kind of -- I know there's been a lot of talk about it already but this discontinued products just maybe historically and maybe from a rational perspective where in the business lines to these things land most often? Is it the crossover between Codman and legacy Integra or is it which business lines are which geographies? I know that’s the kind of a long question about this past quarter but I did have one follow-up just looking forward if I could?.

Yes Matt, it's Glenn. Let me start off with the supply situation and what happened in the fourth quarter and why there was a delta versus our forecast? It was really our Boston facilities.

So as we were going through the plant shutdown and physically making the changes to the facility from a quality perspective, we made an intentional decision to extend the shutdown to add another production line so that once we got up and running it would actually result in 50% more capacity generated out of that facility and one of the reasons why we're seeing a bit of a backlog today, these are some of the fastest growing products we have in our portfolio.So our plastic and reconstructive and wound care products have very good growth profiles right now and we did everything we possibly could to build as much safety stock prior to the shutdown as possible to minimize the impact in the fourth quarter but nevertheless there was an impact.

The good news is we started off here in 2020 we now have more capacity. We want a better path forward in terms of supply out of Boston and we expect to have the remediation efforts complete in the short term and then get the warning letter lifted in 2020.So that's the situation and why we had a bit of a miss on the OTT side in the fourth quarter.

In general though, our supply is going to be much better across the board starting in the first quarter of 2020.

I think Carrie made some prepared remarks around that but we still have a few more months in Boston to get to safety stock levels but all in all I'm quite confident we're not going to be talking about supply as you move through 2020.Carrie maybe you want to comment on discontinued products?.

Yes. I would say certainly if you go back to the prepared remarks the bulk of the impact is in the CSS segment, very little right now on the OTT. So it's really concentrated in the CSS side and it's predominantly in the precision tool and instruments portfolio. So it's really, I mean we talked about dental instruments last year.

We got out of that and closed three facilities down. It's brain mapping and stereotactic, it's really concentrated on the PT&I type of our portfolio there..

That's helpful..

Yes Matt. Just call it, I mean things like dental mirrors or files that aren't strategic for us that -- we look to sell -- we didn't really find the right buyer for it. It was too much work to do it roughly 10 million so of revenue, low margin, no growth.

It doesn't make sense to waste the energy on it, consuming a higher percentage of base cost as well and so we were able to take the stranded costs out as well by addressing those and to Carrie's point other things that their time has passed this things such as stereotactic and brain mapping that have been bypassed by halo less types of procedures or other advanced planning situations and tools.And so completely eliminating those and not backfilling those we're not going into that area.

Those are the key decisions we’ve made and again as opposed to having them languish in the portfolio be decisive get them out and have a cleaner organization going forward that gives us great confidence we can hit our profitability goal. That's the driver of it..

Got it. And so those might have been things going way back. It might have been reported like in handheld instruments or things that folks might have been asking some time ago as to why you were in these sort of business lines and the first place --.

Yes. I mean it's part of our focusing strategy and margin growth..

Okay.

So then looking forward I guess part of this is a comment I guess on some of the feedback I get from investors and part of it is a question around sort of cadence and guidance and how to think about the year ahead is, I guess one common question that I get it seems like a that's not so much a concern but a challenge that investors have when they come to Integra is sort of looking at you have a lot of great products, a lot of innovation and product launch is happening obviously Codman was a big deal and has all kinds of downstream benefits but there's no one thing that we can focus on we can get excited about CUSA, or get excited about the shoulder, excited about Japan or the wound care business but none of those as important as they are, are really the key big variable that's going to drive the equation which kind of, which really leaves us to sort of this composite growth in your two major businesses which is great and impressive to kind of break into this mid single digits and drive double-digit earnings growth but confidence in that re-acceleration on the OTT side of the business, I guess especially given some of the bumpiness in private label is something that I wanted to just make sure that we understand how to think about sort of the beginning of the year and where in that model is there's some opportunity for variability and what has to happen to kind of re-accelerate to that to a guided range of 6 to 8 for that line of business..

So Matt I think there's two big questions in there. One about the diversification and why that versus being able to follow one or two big product families and the other one is our confidence on the Rebound and OTT.

So I think look, on the first part we think the diversification as long as it's focused into areas where you can be a top three player is a great thing.So everything from a reimbursement structure where we don't have one device it's the most expensive thing in the procedure in a neuro procedure there might be 15 Integra items that are used throughout that procedure that worked together connected together that give us a sticky connection unlike a lot of other [indiscernible].The same thing is true within the regenerative side we're building it out.

For those franchises where we were diversified but we're a top, we were number five, six or seven or the case of dental maybe we were a number 10, we're getting out of it. That's part of the strategy.

So we think that diversification can mean a lot if it's concentrated on areas where you are a top player not there yet but that's where we're moving towards.On the supplies, on the growth back in [OTT] when you look at the underlying markets and chronic acute wound, burn, nerve, breast, hernia, all those markets have the potential to be everywhere from mid-single digits to high double-digit growth.

We completely stunted our growth in ‘19 with supply and I feel very confident now with supply back we'll be able to get back to our growth rates that that we had expected and that now with Glenn as COO his sole focus has been really in the second half of year end supply and I think with him and the operations team they've done a really nice job getting us back in a position to be successful, not just compete but successful and to be able to grow here in 2020 starting in Q1..

Well, thanks for the color. That's helpful..

Thanks..

Thank you. Our next question comes from Matt O'Brien with Piper Sandler..

Hi, everyone good morning. This is [indiscernible] on for Matt. Thank you for taking the question. I just kind of wanted to go back to extremity [indiscernible] improved a little bit this quarter we called [indiscernible] ankle as pockets of strength in the quarter.

I guess just given some consolidation we've seen in the space, just wanted to get your updated thoughts on whether you've been benefiting from any disruption there?.

Overall I would say we were very pleased with the performance of orthopedics business in 2019. We stabilized the business. We actually got some growth for the first time in four years and in the U.S. we actually saw kind of mid-single digit growth throughout the year driven largely by our orthroplasty product lines and ankle and shoulder.

As we look forward I would say we haven't seen any disruption benefit yet but obviously that could be something that happens later this year depending upon how things play out but I don't think we've seen any benefit yet relative to disruption on some of the consolidation taking place in the space.

But as we look forward we are expecting to see an improvement in orthopedics business from what you saw in 2019. We are quite excited about both our ankle and shoulder portfolio..

I think it’s fair to say Glenn [indiscernible] in our commercial team have just done a great job for us particularly in the United States and if you recall we had a lot of channel changes almost changed every territory back in ‘18 into ‘19.

Now you've started to see the benefit of a strong leadership team and a stable crew in ‘19 and we expect that to improve in 2020 and if there is a little bit of disruption by some other folks we'll be hanging around the hoop to take advantage of whatever may come our way but we feel pretty good about the position we're at..

Okay. Very helpful. Thank you and then just a real quick modeling question.

Can you quantify any selling date benefit you include in your Q1 organic guidance if there is any?.

No, I mean I would say that our guidance is inclusive of the days in the quarter. So about 4% is our organic growth for Q1..

Okay. Thank you..

Thanks for questions..

Thank you. Our next question comes from Travis Steed with Bank of America..

Hi, good morning. Thanks for the questions. It sounds like you are [diluting] in about a 100 million of the $225 million buyback and the earnings got into this year.

Is the way to think about it that under other $125 million is really you're stating for draw powder in case you do other acquisitions are diluted over the year and if you do, do a couple other diluted acquisitions and you can still get to the double-digit EPS growth?.

Yes, I would say we committed to the 100 million. You are correct that there's additional capacity left on the board approval. We have $125 million additional capacity there. Our commitment is the 100 and obviously we’ve launched an ASR to execute that.

I would say that well it's early in the year we will continue to assess our capital allocation and capital strategy here and we will make the right decisions as the year unfolds but we [indiscernible] convert attractive financing got the ASR going. So feel good about how we started the year..

Okay. That's helpful and then on the 5% revenue growth for this year, it’s last year I think you said new products added about one point of growth.

Is that how it ended up turning out and just curious how much new products are going to add in 2020 in terms of the 5%?.

I think it's about there..

Target about [0.5], Travis are you talking about [0.5] from new products introduction each and every year..

Yes, [0.5]..

Given some of the comments earlier DuraGen in Japan that's going to be a nice contributor to organic growth from a new product introduction in 2020 and then some of these other products we're going to get a full year benefit in neuro portfolio will get us the rest of the way there as well.

So just think of it as a [0.5] in 2020 and pretty much each and every year that's our goal..

Okay.

And then last quick one, given the changes in the balance sheet just curious if you could help what you're planning on interest and other and tax rate for 2020?.

Yes. So just on those modeling questions, I would say that interest expense will benefit from obviously lower debt levels and a better financing cost. So I would say it's not about a $5 million lower net interest expense. Other income it's not a big mover for us. I'd say about 5 million income there for your models and tax guidance.

We finished 2019 at about 18.3% tax rate for the year. It'll move up for 2020. I would model somewhere around 19% and that's really driven by lower expected tax benefits from lower stock comp expense..

Okay. Great. Thanks for taking the questions..

Thank you..

Thank you. Our next question comes from Matt Taylor with UBS..

Hi, thank you for taking the question. I just had one clarification question first.

So on the organic growth guidance for Q1, do you have an extra selling day so the 4% is actually less, I wasn't clear on the prior answer?.

It's all in there. It's 4% for the quarter. Seasonally our first quarter is the lowest quarter of the year. It is better than last year. Last year we were about 3% organic growth. This year we're expecting about 4% organic growth and as I mentioned before we are factoring in some cost and some conservatism around China in that number as well..

Okay.

And then just on the gross margin guidance, could you parse out for us how much of the benefit is due to the divested products versus the new ones and other things?.

We haven't provided that but again it's going to be a good mix between the two. It's really driven in combination of both of those factors on the mix side..

Okay. And the last follow-up on the 3% to 5% for CSS you mentioned there's some conservatism in there for competition.

Could you talk about how much conservatism there is in the guide?.

Again I characterize our long term guidance range for CSS to be 3% to 5% and basically we're saying we expect 2020 to be in that guidance range of 3% to 5%. So we would expect a normal amount of competition and 3% to 5% is consistent with our long term guidance range..

Okay. Thank you very much..

Thank you..

Thank you. This concludes today's conference call. Thank you for joining us and have a great day..