Alicia Rodriguez - Agilent Technologies, Inc. Michael R. McMullen - Agilent Technologies, Inc. Didier Hirsch - Agilent Technologies, Inc. Jacob Thaysen - Agilent Technologies, Inc..

Paul Richard Knight - Janney Montgomery Scott LLC Scott Levitt - Evercore Group LLC Derik de Bruin - Bank of America Merrill Lynch Brandon Couillard - Jefferies LLC Isaac Ro - Goldman Sachs & Co. Jack Meehan - Barclays Capital, Inc. Dan Leonard - Deutsche Bank Securities, Inc. Ryan Blicker - Cowen & Co. LLC Tycho W.

Peterson - JPMorgan Securities LLC Catherine Ramsey - Robert W. Baird & Co., Inc. (Broker) Puneet Souda - Leerink Partners LLC Tim C. Evans - Wells Fargo Securities LLC Bryan A. Kipp - Citigroup Global Markets, Inc. (Broker) Jonathan Groberg - UBS Securities LLC.

Good day, ladies and gentlemen, and welcome to the Agilent Technologies, Inc. first quarter 2017 earnings conference call. At this time, all participants are in a listen-only mode. Later, we will conduct a question-and-answer session and instructions will be given at that time. As a reminder, today's program is being recorded.

I would now like to introduce your host for today's program, Alicia Rodriguez, Vice President of Investor Relations. Please go ahead..

Thank you, Jonathan, and welcome, everyone, to Agilent's first quarter conference call for fiscal year 2017. With me are Mike McMullen, Agilent's President and CEO; and Didier Hirsch, Agilent's Senior Vice President and CFO.

Joining in the Q&A after Didier's comments will be Jacob Thaysen, President of Agilent's Diagnostics and Genomics Group; and Mark Doak, President of the Agilent CrossLab Group.

Patrick Kaltenbach, President of Agilent's Life Science and Applied Markets Group and a regular participant in our calls, is on a well-deserved vacation and will not be joining us today. You can find the press release and information to supplement today's discussion on our website at www.investor.agilent.com.

While there, please click on the link for financial results under the Financial Information tab. You will find an investor presentation along with revenue breakouts and currency impacts, business segment results and historical financials for Agilent's operations. We will also post a copy of the prepared remarks following this call.

Today's comments by Mike and Didier will refer to non-GAAP financial measures. You will find the most directly comparable GAAP financial metrics and reconciliations on our website. We will refer to core revenue growth, which excludes the impact of currency, the NMR business and acquisitions and divestitures within the past 12 months.

Unless otherwise noted, all references to increases or decreases in financial metrics are year-over-year. Guidance is based on exchange rates as of the last day of the reported quarter. We will also make forward-looking statements about the financial performance of the company.

These statements are subject to risks and uncertainties and are only valid as of today. The company assumes no obligation to update them. Please look at the company's recent SEC filings for a more complete picture of our risks and other factors. And now let me turn the call over to Mike..

Thanks, Alicia, and hello, everyone. I'm pleased to announce that the Agilent team started 2017 with another strong quarter. First, we continued to deliver above-market growth. Revenues of $1.07 billion exceeded the high-end of November's guidance by $7 million and were up 4.8% on a core basis.

We will dig deeper into details behind the strong performance later in the call. Second, our adjusted EPS of $0.53 for the quarter is $0.03 above the high-end of our guidance. Adjusted EPS is up 15% over the first quarter of last year. Finally, this is our eighth quarter in a row of improving profitability.

Adjusted operating margin of 21.2% is up 100 basis points from Q1 of fiscal 2016. Let me now highlight the drivers behind our stronger-than-expected revenue growth. First, we are seeing some segments of the chemical & energy business growing again. Second, growth in China is a bit higher than expected.

Let's take a closer look at our results by end market and business group. I'll start first with the end markets. Growth of Pharma is up 7% as expected against the top compare. Growth is being led by continued strong demand across the entire portfolio. The Pharma business is particularly strong in China and India.

After seven quarters of year-over-year declines, we see chemical companies beginning to increase their purchases. However, our energy exploration refining business remains challenged. This results in overall 3% growth for our chemical & energy business. Clinical and diagnostics markets are strong with revenue up 8% year-over-year.

Growth drivers include our companion diagnostics and CrossLab businesses. As expected, academia and governance is down 1% for the quarter with sustained type funding across most regions. Our food testing business is up 11% driven by China.

Environmental and forensic revenue was down 1% for the quarter with strong China environmental growth being offset by weak U.S. forensic spending. Let's talk about China, a major part of the story as you heard today. Geographically, Asia, driven by China, continue to lead regional growth.

Coming into 2017 we expected China to grow in the low double-digit range for the year. We expected Q1 growth rates to be lower than the full year because of the lunar new year falling in our fiscal Q1. However, we ended up delivering low double-digit growth in Q1 above our expectations.

The Americas were up in mid-single digits with strength in the United States. Europe and Japan were flat. Let's turn to our business groups. The Life Sciences applied markets group delivered core revenue growth of 4% with end market strength in pharma, food and chemical & energy.

Innovative new offerings such as the Infinity II LC Series and Agilent 8900 ICP-MS are driving growth. Industry trade publication, The Analytical Scientist, also recognized our innovation strength. They named the Agilent Intuvo 9000 GC system as 2016's number one innovation of the year.

The Agilent CrossLab Group continued its consistently strong performance with 7% growth in the quarter. Growth has held across both services and consumables. We are focused on future growth. In November we announced the opening of a new technology center in Folsom, California.

This new $14 million facility reflects our investment in new microfluidic technology. This state-of-the-art microfabrication and technology facility is for the development and manufacture of a whole new generation of unique core instrument components and consumables for our customers.

The new Intuvo 9000 GC components and associate supplies are the first example of this new capability now housed within Agilent. We are relentlessly focused on our customers. We are now the first in the industry to allow customers to renew their service contracts online.

Our e-renewals program was just introduced in the United States with other regions to follow. Finally, the diagnostics and genomics group continue to deliver solid growth. DGG had core revenue growth of 4% in Q1, while continuing to drive improvements in their operating margin.

The group delivered operating margins of 14.3% for the quarter, up 470 basis points from the year ago. Q1 marked several key milestones for our DGG business. This quarter marked the successful integration of the former Dako business onto Agilent's system and infrastructure platform.

We closed the acquisition of Multiplicom, a leading European diagnostics company with state-of-the-art genetic testing technology and products. Multiplicom's solutions enable clinical labs to identify DNA variance, associated genetic disease and help direct cancer therapy.

With this acquisition, along with the Cartagenia acquisition in 2015, we continue to expend our genomics platform. We launched Cartagenia Bench Lab 5.0. This is a major software revision providing more capabilities to the platform of choice for higher throughput diagnostics labs to help them validate and automate the results.

You may recall we developed in concert with Merck the PD-1 companion diagnostic from Merck's KEYTRUDA drug. The use of this companion diagnostic continues to grow as KEYTRUDA has become a first line treatment for non-small cell lung cancer in a growing number of geographies, now including Europe.

Our tests help identify potential candidates for Merck's KEYTRUDA drug which targets patients with non-small cell lung cancer. Turning to our updated FY 2017 market and company outlook, we were quite pleased with how the company started 2017.

While still early in the year, the Q1 results in China and some segments of the chemical & energy markets are encouraging. We do see continued challenged conditions in the academia and government market in most geographies, as well as the global energy segment of the chemical and energy market.

We also anticipate continued weak economic conditions in Europe and Japan. These cautions aside, we are encouraged by the company's growth prospects and raise our full-year core revenue growth expectations. Didier will share the details.

Before I turn the call over to Didier, let me close by making a few comments on where we have come from and where we are going. Our leadership team that was put in place almost 24 months ago is delivering on our promise to increase shareholder value. We are outgrowing the market in sometimes challenging economic circumstances.

For eight quarters in a row, we have delivered improved profitability. We are deploying our capital in a balanced manner, with Q1 stock repurchases of $111 million, cash dividends of $42 million, and $70 million set aside for the Multiplicom acquisition. Having built momentum, we are facing the future with confidence.

We have a deep commitment to customers, a strong team, and a belief that we can deliver a superior customer experience and exceptional innovative new offerings. I look forward to answering your questions later in the call, and I will now hand off to Didier. Didier will provide additional insights on our Q1 results and updated guidance.

Didier?.

Thank you, Mike, and hello, everyone. To summarize Q1 results, they were above the high end of our revenue and EPS guidance, even as currency negatively impacted revenue by $12 million and operating profit by $4 million. The EPS beat was mostly the result of the revenue beat, and EPS was 15% higher than in Q1 of fiscal year 2016.

We continue to improve our adjusted operating margin at 21.2% in Q1 and up 100 basis points versus Q1 of fiscal year 2016. And finally, our operating cash flow of $116 million was $5 million higher than in Q1 of last year. I'll now turn to the guidance for fiscal year 2017.

We are raising the core revenue growth guidance of 4% to 4.5% that we provided in November by 25 basis points or $11 million. The new core revenue growth guidance is therefore 4.25% to 4.75%. However, the strengthening of the U.S.

dollar since our November guidance is expected to have a negative impact of about $36 million on full-year reported revenues. Finally, we expect to generate $11 million in revenue from the Multiplicom acquisition, which closed on January 20.

The net impact of the increase in core revenue guidance, negative currency headwinds, acquisition of Multiplicom, and rounding is a reduction in revenue guidance of $20 million. As a result, we now expect fiscal year 2017 revenues of $4.33 billion to $4.35 billion.

Turning to EPS, we are reaffirming our November guidance of $2.10 to $2.16, even as currency and acquisition have a negative impact of $0.03, most of it currency related. There is no change to our previous guidance of $825 million operating cash flow, $200 million CapEx, and buyback of $430 million for the year.

Finally, moving to the guidance for our second quarter, we're expecting Q2 revenues of $1.040 billion to $1.060 billion, reflecting typical second quarter seasonality versus Q1. The midpoint corresponds to core revenue growth of 3.5%.

The sequential reduction in revenues will translate into a sequential reduction in EPS, and we expect Q2 EPS to range from between $0.47 to $0.49 or a 9% year-over-year increase at midpoint. With that, I'll turn it over to Alicia for the Q&A..

Thank you, Didier.

Jonathan, will you please give the instructions for the Q&A?.

Certainly. Our first question comes from the line of Paul Knight from Janney Montgomery.

Your question, please?.

Good morning, Mike, or good evening, I should say.

Could you talk a little bit about FX in China specifically? Are you selling in dollars? What are the puts and takes on the currency volatility or the strength of the dollar versus the yuan there?.

Hey, Paul. I'm going to start off with a good afternoon from California, and I'm going to pass it over to Didier..

Yes, you're correct, Paul. We are selling more than 60% of our business in U.S. dollars, and less than 40% mostly around our service and consumable business and also locally produced products in renminbi. So overall, the renminbi weakened by about 7%, if I recall, on a year-over-year basis.

The impact for us in terms of the top line was about a 3-point reduction. So in local currency, our growth in China would have been mid-double digit versus low double digit as it is on a reported basis.

Besides that, we are perfectly hedged in terms of the bottom line in China with local manufacturing as well as a strong presence of setting our local currency revenue..

And then lastly, Mike, on the analytical instrumentation side of the business, applied market pickup more pronounced as the quarter wrapped up?.

No. Actually I'd say the flow – and again, I just want to clarify. I hope it came through clear in my remarks. It really was the chemical side, the chemical energy, and we saw the order flow consistent throughout the quarter..

Great, thank you..

You're quite welcome, Paul..

Thanks, Paul..

Thank you. Our next question comes from the line of Ross Muken from Evercore.

Your question, please?.

Hey, guys. This is Scott Levitt in for Ross..

Hi, Scott..

So can you guys walk me through the key drivers of demand upside in China and then tease out the core momentum in industrial versus pharma and academic?.

I'd say in China, what we saw from an end market perspective, it was strong across all end markets with the one exception being the chemical energy. So we saw good growth across all the end markets in China. I also would want to make a comment here about the impact of lunar New Year.

You may recall in our guide discussion in last call, we talked about the fact that lunar New Year fell for us here in our fiscal Q1. Well it turned out it did have an impact on reported revenue but not as much as we had predicted. It did have impact on our recurring revenue business such as DGG and service & consumables.

But on the instruments side, it was fairly limited as our order fulfillment team did a great job of converting those orders into revenue much earlier in the quarter. But I'd say we really were pleased overall by the performance in China. It looks like we're off to a good start there and good solid growth across almost all the end markets.

And if you wouldn't mind, could you repeat the second question for me?.

It was just to tease out the core momentum in industrial, pharma and academic..

Yeah. So I'd say there's really no momentum in academia & government right now. We're still seeing fairly subdued levels and constrained levels of funding. There's almost sort of a wait-and-see kind of attitude we're seeing in some of the agencies here, for example, in the United States. Pharma continues to perform quite strongly.

As you know, we talked about as we came into 2017, we expect continued strong demand in pharma, although the growth rates would come down as we ran into some tough compares. So pharma is really a development just as we thought coming into 2017. No surprises there.

And then I will say the one surprise that we had in Q1 was the fact that we finally saw some signs of growth in the chemicals side of the chem & energy market in the first quarter..

And then just as a follow up, can you walk me through how the order book has looked in developed and industrial inclusive of the chemical & energy? And then what's your level of visibility or confidence in the sustainability of momentum given the macro and commodity data that's come out?.

So I'm going to pass on the first question since we stopped our reporting on orders a while back. But what I can tell you is we have good visibility going forward from, I'd say the three- to six-month timeframe, so that's typically how we can see our sales funnels.

And then probably two-thirds of our revenue in the coming quarter perhaps can come from the existing backlog. So we have pretty good visibility I'd say in the three- to six-month timeframe in terms of the order funnel.

But as you'll hear me talk a little bit later, I'm sure it'll come up in the Q&A, is although we are pleased to see the return of growth in the chemical side of the chem & energy market, I don't think one quarter is a trend yet, so we're still going to be keeping a close eye on that one..

Great. Thanks, guys..

Yes..

Thank you. Our next question comes from the line of Derik De Bruin from Bank of America-Merrill Lynch.

Your question, please?.

Hi, good afternoon..

Hey, Derik..

Hey. I'm just a little bit curious about the adjustment to the operating margin target for this year. You took it down by 10 basis points. Could you just – it seems like maybe you've got some others to offset, so if you can talk about sort of like how you're looking at margins and a little bit more detail, what sort of drove that.

Is it all FX driven?.

How about I repeat the question, Didier? We had a little bit of trouble hearing it and then I'll have you answer it.

So I think the question from Derik is it looks like we've brought down the operating margin guide by about 0.10%, and he was wondering if that was really driven by FX or if there's any other considerations?.

No, I mean....

Thanks, Mike..

Yeah..

So in terms of the – we basically have maintained the operating margins at 21.2%. Last time it was 21.25% which rounded to 21.3%. This time, it's 21.25% that rounds to 21.2%. There's no change. The idea was to maintain it.

There was a little bit of currency impact which we could have offset, so consider the operating margin unchanged at 21.25% as it was in the first half. There was no intention to reduce it except the rounding ended up tight with that..

Great. Great. And could you talk a little bit about how the Intuvo has been doing in terms of like you're starting to see a pick-up in sort of kind of the chemical sales. Are you seeing a lot of interest in chemical customers in this new product? Just some early feedback from what you're sort of seeing would be great..

Derik, I really appreciate the opportunity to talk about that. As I highlighted in my conference call, we're also getting some nice external recognition. But what's most important is what customers are saying about the product. And we've got a lot of excitement in our customer base.

Now as you know, we had indicated earlier the sales cycle here is going to be a little bit longer because the customers are going to want to check out the product. So we placed a large number of demo units.

The orders are starting to come in, but I'd say it's really – we're still early in the – regarding the ramp in the volume so we're really delighted by how the customers are perceiving the new offering.

The surprise for us, I have to say, has been what we've been calling the halo effect which is we're also seeing a lot of interest in our other GC platforms, in particular, the 7890 where we're out talking with customers about our new Intuvo GC and they're showing some interest in our other applications to the 7890.

So it's, if you will, a halo effect. I think both speak positively about the future for our prospects in gas chromatography.

I would also say that in addition to the chemical customers, those customers, particularly contract testing labs in an environmental testing lab, really like the value proposition of the Intuvo tied to the mass spec for the productivity gains.

So as a reminder, I think about 6% of the applications base can be covered by this platform, and it goes beyond the chemical side of this. I was just down in Australia talking with one of our contract testing labs, and they really like the productivity benefits that they see with the product.

So still too early to call a material impact on our revenue, but the early interest by customers is really quite, quite good..

Great. Thank you very much..

Thank you. Our next question comes from the line of Brandon Couillard from Jefferies.

Your question, please?.

Thanks. Good afternoon..

Hey, Brandon..

Good morning, Brandon..

Mike, sticking on the chemical & energy business, I think the positive experience this quarter would suggest, tell me if I'm wrong, that instruments were actually up in the quarter.

And can you remind us when the last time that happened? And then secondly, when should we expect that the new GC actually begins contributing to revenue; that orders actually convert to revs?.

Yeah. Great question, Brandon. So I have to say it's been a while. From my calendar map, it looks like seven quarters. So it was great to finally see a return to growth in management side in the chemical & energy side.

And again, just one quarter so we try not to get too far ahead ourselves, but it was an encouraging side after almost two years of declines of instrument sales in this segment. I think we're really looking at the back half of this year for we're almost starting to be talking more about into though a ramping in terms of the revenue.

Again, we had indicated this last year so this is going to be a slower ramp but then typically a direct replacement product because of the need to try it out. It's so different but our view is it'll start – we'll be talking more about our revenue impact probably in the second half of this year..

Thanks. And then the question on lasers.

Any update you can share with us in terms of the progress there? And what milestone should we be looking for over the next 12 months that might inform your decision to exercise the exclusive option in there now?.

Great. Thanks for that question. I want to make a few opening comments and I'll pass it over to Jacob for some additional detail.

But as those on the call probably recall that this was an equity investment we made in a company in Houston, Texas and the idea here is to be able to complete our development of an integrated workflow for the clinical diagnostics market and part of revision is a call option which we have in front of us, and I think Jacob perhaps you can remind everybody the timing and how you think we're coming so far..

Yeah. Thanks, Mike. It's approximately a year ago we made the investment, I think it was in March, and the call option is next March in 13 months from now. So there's a little bit of time. In the meantime, we have a really good relationship with Lasergen and are working together as one team.

They have the primary focus on developing the box and the rest of the genomics team is highly focused on developing the rest of the workflow including automation upfront, and of course putting interpretation in place also through the Cartagenia.

And with the recent acquisition of Multiplicom, we also have panel that fits very well into the clinical market. So overall we continue to be highly excited. The program is running forward according to our planned expectations, but I think that the next you can say milestone will be when and if we decide to make the call of the Lasergen..

When will not be any earlier than March..

No..

Because we don't have to..

No. It will be in – right. Yeah. Exactly..

Everyone wants to spend money before we have to..

Super. Thank you..

You're welcome..

Thank you. Our next question comes from the line of Isaac Ro from Goldman Sachs. Your question, please..

Hi, Isaac..

Good afternoon, guys. Thank you. Hi. So a question for you on just your top line outlook. There's been a lot of focus around the macro environment, a lot of factors that are interesting but in a lot of ways not in your control. So I'm interested in the things you can control, specifically market share, your product cycles.

I mean it sounds like your guidance is a little bit higher because of the macro but not necessarily because of the former items, new products, market share.

I'm curious, is there any evidence in the quarter here where you guys see a little bit better about your ability to do better than your guidance if in fact product cycles play out of sync for any signposts here where you feel like you've got good momentum going through the rest of the year either with TC or in diagnostics, things like that?.

Isaac, I appreciate the opportunity to clarify remarks. So I think the reason we've been able to have this ability to continue to, from our perspective, outgrow the average of our peers is the strength of our new offerings.

So it's very clear by our growth rates and as we look at some of the – all the data, particularly on the Life Sciences and Applied Markets Group side, we can see where we're picking up a couple of market share. That's why I highlighted in my remarks the value contribution, if you will, on the new offerings. So we think we're picking up shares.

I think that when we look at our guide, we're above what our peers are talking about relative to core revenue growth. I would tell you, if you're thinking about upside for the company, I think it really hinges on chemical energy. And let me share with you our thinking as we've put together the guide, particularly for the second quarter.

Perhaps I already tipped my hand here, but we said okay, we were encouraged by the fact that the chemical side of the market of that segment is growing, which as a reminder, is about 50% of the total. We're encouraged by the signs but said listen, one quarter is not a trend.

So right now, what we're going to do, we're assuming flattish overall growth in our Q2 guide. What that means is if there's some growth there, that would represent some upside to our current guide. So I think that's one macro factor that could help us on the top line if in fact this return to growth is sustained.

But I would want to reemphasize the fact that we think these new offerings are really making a difference in the marketplace and allowing us to pick up some sustained momentum..

Okay, that's helpful, and then a second question on diagnostics. You mentioned the integration there has been completed.

Aside from the obvious cost savings that you'll realize, can you talk a little bit about the opportunity to execute either in terms of share or new products or channel reach, anything that you think can really help drive better growth in that business now that it's more integrated?.

Let me make a few comments here. And then, Jacob, if I miss anything, feel free to chime in here. But we had focused on the integration of the former Dako business on Agilent mainly as a cost integration savings and simplification of the platform.

And as you know, when I came into this role, I felt we really needed to integrate the business, and we've been on a pretty aggressive path since then. But the real benefit is exactly what you described, which is the ability for us to have an integrated reach to the customers where we can have one commercial interaction with the customer.

And now we're able to integrate our sales forces and have a combined sale portfolio.

So without going into a lot of the details inside the company, we really weren't able to leverage the full power of our sales force, which is where we combine our genomics and diagnostics sales force until now when we have them on the same systems for revenue recognition and commission paying.

So, Jacob, anything else you might want to add to that?.

No, Mike, I think you said it very clearly..

Okay. I got it right. All right, thanks..

Okay, thank you, guys, appreciate the detail..

You're quite welcome..

Thank you. Our next question comes from the line of Jack Meehan from Barclays. Your question, please..

Hi, thanks. Good afternoon..

Good afternoon, Jack..

Hi. So, Mike, I wanted to get your perspective on the strategy with the Multiplicom acquisition and just your desire to continue building out the diagnostics portfolio in different specialty areas..

I'm going to make a little bit of comment, and then, Jacob, I'll allow you to provide the more lengthy response this time. So the overall theme here is we're continuing to try to build out our genomics portfolio, particularly as it focuses into clinical research and ultimately into the routine diagnostics segment.

And why don't you just describe for the audience why we bought the company and what we're hoping to be doing..

Let me do that, Mike. And again, the overarching strategy for DGG and one reason also why the integration of Dako is so important is that we see a tremendous opportunity in the cancer diagnostics space.

Molecular profiling would be a key element in the cancer diagnostic going forward together with sustaining where pathology – the Dako pathology business is very strong today.

So what we saw as the opportunity of Multiplicon is that with our workflow that we're building together with Lasergen and with the Cartagenia integration, we could see that our current target investment business, SureSelect, is very strong on larger panel up to Exon business, which really fits the genetic disorder space.

If we go into cancer, you are looking for more targeted panels, and there we could see that the Multiplicon offering was stronger than what we have in-house. So we thought it was a very good opportunity both short term to leverage our current sales force to guard and fill a broader range of investment portfolio.

And then of course, in the future integrate it into the full workflow together with the Lasergen, the Cartagenia, and use that as an opportunity to go out with a fully validated system in the future..

That makes sense, and then one follow-up just on margins. It looked like you had a really nice progression here in LSAG in the quarter. I was curious if there was anything worth flagging there.

And then maybe just conversely just in CrossLab, was any of that related just to a little bit of slower growth on the consumables side, or just anything worth highlighting would be great? Thank you..

Didier, do you want to take that one?.

Yes. I would say, regarding DGG, no, we consider this as being the new normal. I'm looking at Jacob, and he agrees. And regarding ACG, a slight reduction on the gross margin. What happened is there was a little bit higher than normal inventory adjustments, and that was one factor, and then a little bit also on the currency front.

And the last factor which impacted ACG but not Agilent overall is how at the beginning of the year we changed our locations among our three businesses, and Mark [Doak] in ACG was fortunate to grow faster than the other businesses, basically saw a little bit of a bigger increase in allocation of our shared services.

Again, no impact to Agilent overall, but it did explain a little bit of the ACG year-over-year performance..

And, Didier, maybe I can just maybe finish the story. I have a few comments on LSAG as well..

Yes..

So on the instruments side, we obviously will benefit from the growth. But also as we've mentioned in prior calls, we have a series of initiatives underway and our order fulfillment team really focusing on improving the gross margin. I think they're starting to see somewhat of an impact of those efforts on the instrumentation side of our business..

Thanks, guys..

Thank you. Our next question comes from the line of Dan Leonard from Deutsche Bank.

Your question, please?.

Thank you. First question....

Hey, Dan..

Hello. How are you thinking about the pacing of pharma demand throughout the year? And I ask because the Q1 comparison was very difficult and I was surprised that the number came in as healthy as it did in pharma, given that comp..

Yeah, we've been pretty consistent in our view. We think it's going to be mid- to high-single digits. So we would expect our ability to sustain growth rates coming in this area throughout the year. So the first quarter, you're right and I appreciate the recognition.

We had really stellar growth Q1 of last year so we were pleased that's how the numbers are coming in. And I'd say, Didier will probably expect some kind of similar patterns through the year..

Yeah..

Yeah..

Yeah. And it's similar to what basically the guidance we provided last November. We were talking about 6% kind of core revenue growth for pharma for the whole year and we are about at that level..

Yeah..

Okay. And then a follow-up for Jacob. Jacob, I feel like you've often tried to temper expectations for the PD-L1 from a sizing perspective.

But now that that assay has moved into first-line lung cancer, is that something where that by itself could cause a notable acceleration in DGG revenue growth in the back half of the year or sooner?.

So I will say first of all, we continue to be very pleased with the uptick off the PD-L1. Last year was really about second line and this year will be about first line so we expect a pickup again.

I do believe that we will see a contribution to our performance, but I don't think that it will bring us up in the double-digit growth area as one assay is not making the whole DGG. But we continue to see a very strong contribution and I'm very pleased with what we see in PD-L1..

Okay, thank you..

Thank you. Our next question comes from the line of Doug Schenkel from Cowen & Company.

Your question, please?.

Hi. This is Ryan Blicker on for Doug. Thank you for taking my questions..

Sure, Ryan..

Can you explain a little bit more on what you're seeing from customers in Europe overall and by end market and how you're thinking about growth in Europe for the rest of the year?.

Yes, we remain fairly conservative on our outlook on Europe in general. I think we're basically assuming flat; not a lot of growth at all in Europe. And I think the – it varies a bit by end market. I think the most subdued are those that are the recipients of government funding.

So the government funding side of the European market is really, really, quite soft as well as the chemical and energy market. And I haven't really talked about this yet in the call, but the U.S. and European refineries are really under a lot of margin pressure and they're getting new competition coming in from the U.S.

shale gas producers who now can produce alternatives with ethane to the naphtha products that come off of crude refineries. So I think the chem & energy guys are still quite cautious. I think the bright spots are probably the pharma and food testing side.

Those areas of investment ties directly to the human health investments that those parts of the world want to make..

Okay..

But overall, we're fairly subdued on Europe as of now..

Okay. Thank you for that.

And I know there's been a lot of questions here, so hopefully not to beat a dead horse but can you expand a little bit more on what you're seeing specifically from refining and E&P customers outside of the revenue performance in the quarter? And I guess given the stabilization of oil prices as well as the early interest you're seeing for the new GC and what seems to be some early indications of CapEx spending for at least U.S.

E&P companies next year, maybe why your guidance there isn't a little bit overly conservative? Thank you..

15% in exploration related; 35% in refining related, so about half in what I would say energy; and then about 50% on the chemical side. So that 50% on the chemical side grew in the first quarter, energy did not. And I think it's pretty well-publicized that the exploration side still remains fairly subdued.

Again, there's interest coming from customers in the exploration side but we haven't seen it yet turn into revenue. I think the real interesting thing is what's going on with the refinery side because it's sort of a mixed story here because the U.S.

and European refiners, their profits continue to be quite slim and I think in 2016 they're about the half of the level of 2015. And what's going on here really are a flat demand, and as I mentioned earlier, increased competition for natural gas alternatives. These guys continue to relentlessly manage CapEx and OpEx expending.

So hopefully, that will translate into an interest in our new offerings which gives them a cost advantage so that's why we talk a lot about the Intuvo GC and what it might do in this segment.

The Asia refining site is a little bit different which is they're actually adding capacity so there's a number of projects that are still set to come online in 2017 and 2018 which could lead to some new demand. I wouldn't use the word conservative.

I would use the word perhaps prudent so what we're saying is one quarter is not yet a trend but I would be very forthright to say this would represent upside to our guide if this growth rate continues in this segment. Hopefully that's helpful insight..

Very helpful, and it makes sense given the point you made. Thank you very much..

Thank you. Our next question comes from the line of Tycho Peterson from JPMorgan. Your question, please..

Hey. Thanks. Apologies, I'm going to ask another one on Intuvo..

No problem..

But when we think about the upgrade cycle here, you've got 150,000 or so GC systems out there, it's been a while since we've had a product refresh, how do you think about the duration of the upgrade cycle? Is it kind of a four-year cycle or could be a little bit longer? Obviously some caution in the near-term is warranted but I'm just trying to think about the out years..

Yes, that's a great question and you have the numbers right. So when we look at the install base instrumentation, it's well in excess of 150,000 so a huge addressable market for us so that's why we've had a lot of excited about the offering.

I think this is a multiyear upgrade cycle, and I think I'd put three to five years, four to five years is probably a good number given our experience in the LC side, so..

Okay. And then just one follow-up around the question earlier on Europe. It was up mid-single digit last quarter. You're flat this quarter.

Did something change in the market share from quarter to quarter?.

No. Not really, Tycho. The numbers can bounce around a bit depending on quarter to quarter, but we really didn't see anything significantly different in terms of our competitive position. I think it's just been a bit a matter of timing of business closing.

So Didier, I don't know if we really saw anything unusual?.

Nothing unusual, yeah..

Okay. Thanks..

You're quite welcome..

Thank you. Our next question comes from the line a Catherine Ramsey from Robert W. Baird. Your question, please..

Hey, guys. Thanks for the questions..

You're welcome..

First, just given that you guys have an extra month that you're reporting out today versus most of your peers, and I know you touched on chemical energy being pretty consistent throughout the quarter but anything you saw in January in other end markets that was different from the first two months of the quarter?.

No. No, not really. The seasonality of our business in Q1 was very consistent with historical patterns so nothing really unusual. Now typically we see a lot of activity from shipment and order bookings in December for the calendar year end money and patterns are what we've seen in prior years..

Okay, and then one clarification on margin. I thought I heard you say that DGG is at the new normal. I think you talked in the past about driving that to be more of a 20% margin business..

Yes, I would say it's the new normal for Q1..

An improvement..

An improvement. I was comparing to obviously last time. So what we are – I should say we are migrating towards the new normal. And thanks for asking for a clarification, because we – Jacob is still very, very, very – I mean, he's going after the 20%..

Yeah. He's not off the hook..

Okay, perfect. Thank you..

You're welcome..

Thank you. Our next question comes from the line of Puneet Souda from Leerink Partners.

Your question, please?.

Hi, Mike, Didier. Thanks for taking my questions.

Just briefly on China, could you parse out for me in terms of the spending there? The instrument spending, was it more driven by the CFDA changes, or was it more on the food and environmental? And what's specifically benefiting there in terms of applications-wise?.

Thanks for the opportunity to provide some more insight here. So I think there's a macro statement above all three of those market segments, which are specific government policies that are driving sustained growth in China.

So the CFDA is focusing on really changing the fundamentals of the Chinese pharma industry, and the Chinese pharma companies are investing aggressively to adhere to the new rules. Lots going on in terms of the environmental cleanup efforts consistent with the China five-year plan.

There's been a lot more publicized work around lead in water, for example. So I'd say the focus in China environmentally, both in terms of water, soil, and air analysis is really going well. I think I may have mentioned this in the prior call, but the real step up has been in the area of soil analysis for remediation of construction areas.

And then finally, the growth in food safety continues. So I really think the government policies across those three segments are really driving very strong growth for us in China..

Got it, thanks. And just a quick follow-up, in terms of U.S., you pointed out forensic funding somewhat being weak.

Could you parse that out a little bit in terms of what's driving in terms of regulation there, or how should we think about the rest of the year?.

I think you should just think about this as the nature of the beast. This space, and particularly in the United States, tends to be very lumpy with lots of big deals. So it just so happened we had some big deals last year, we didn't have them this year.

So we're not seeing anything fundamentally different in terms of the funding levels in the United States beyond there does seem to be some level of wait-and-see to figure out – people are trying to figure out where all the new government policies might land here in 2017. But I wouldn't read too much into the first quarter number.

Our view was just a by-product of the timing of deal activity..

Great, thanks for taking my questions..

You're quite welcome..

Thank you. Our next question comes from the line of Tim Evans from Wells Fargo.

Your question, please?.

Thanks. I think I'll take the obligatory tax reform question this quarter..

Okay, Tim. We've been waiting for that one..

Yeah, right? I know that the repatriation issue would be a positive for you, but if you could, just speak beyond that to particularly the border tax adjustment issues to help us understand some of the nuance there..

Sure, Tim. I'm going to pass it over to Didier. He's done some high-level analysis on how we think about it..

Firstly, in terms of the cash repatriation, you're absolutely right, it would be a positive, not just when it's effective but also on an ongoing basis as we continue to generate the lion's share of our cash offshore. And so on an ongoing basis, we'd have access to that cash, which is great.

Then regarding the border tax adjustment, yes, we looked at our imports and exports like everybody else, and we are fairly balanced. We are very balanced. So the level of imports and level of exports are about similar. And we export about 70% of the production in the U.S. and we import in the U.S. about 70% of what is manufactured outside.

So net-net, it will be very neutral..

Yeah..

So the effects of the tax reform that we are eager to understand to know more about and read all the details. But at this point in time, it's speculation..

All right, thanks for that..

Sure..

Thank you. Our next question comes from the line of Dan Arias from Citi.

Your question, please?.

Hi, guys. This is actually Bryan Kipp on behalf of Dan..

Hi, Bryan..

Hi.

How are you doing?.

All right..

It's been about three years since we saw the consolidation of the Chinese food safety. I think it was the FDA but they were restructuring food safety standards around there. You saw strong year-over-year uptick in food, with China being cited as a driver there.

How much of that was food safety, one? And two, what inning would you say we are in the whole investment cycle around food safety in China?.

You have a great recollection of the progression of the agencies in China because, as you know, a couple years ago we were pointing to a slowdown in this area because of the reorganization. So I'd say we're probably still in the early innings of this.

If you follow the typical five-year plan, this is an area of focus, so I think we're probably still in the early innings of the growth in the food area. I think it's primarily food safety, but I will tell you what is growing very quickly is the food authenticity.

We're looking for various forms of counterfeiting of products that may be trying to find their way into the market. So it's still being driven by food safety, but the authenticity side of things is really growing quite strongly. Both from a government customs perspective, but also our private sector clients also want to ensure some testing is done..

Helpful. And just to pivot. Didier, you cited some inventory write downs as a headwind for gross margins in the quarter, but there's been a lot of reference to new product launches over the last call it year or year and a half that really accelerated organic growth.

How should we think about the progression of gross margin throughout the year and how much pricing should we think will flow through in 2017?.

Yeah. We are overall – I mean certainly ACG was not impacted per se on the new product and things like that. But you are absolutely correct that whenever we introduce new products it's an opportunity to increase our gross margin for two reasons.

Number one is we know the design our products using the latest and greatest of value engineering kind of techniques. And then second, because we introduce products that are truly differentiated, we're able to price them into – it's a great example. So we do – you will see the gross margins going up over time and throughout the year.

I cannot quantify precisely the impact of pricing, new product introduction and a few other things. And again, Q1 was a little bit special, especially for ATG because of the fact that I noted..

Thank you..

Okay..

Thanks..

Thank you. Our next question comes from the line of Jonathan Groberg from UBS. Your question please..

Hey, guys.

Mike, can you just remind us how big your target enrichment business is today?.

Excuse me Jonathan, I had a little bit difficulty hearing the question..

Can you just remind us how big your target enrichment business is today?.

It's an important part of Jacob's Genomics business but we don't provide a level of detail outside the company, sorry. But it's a nice business for us. I'll just leave it at that..

Okay. And then I just had one other one on genomics, I think you guys had an investment in Gen9 which just got bought by a company called Gingko.

Does that have kind of – I guess, how are you thinking about genomics and the like at the moment?.

Yes. I think you're referring to Gen9 investment. And Gen 9has been purchased by Ginkgo and Agilent was a shareholder in Gen9. Overall, we think there's aspects of the synthetic biology markets that are going to be quite strong in terms of growth. A lot of tools just out there with some of our customers in the Bay Area, for example, as well as Ginkgo.

So they're using our tools. Not clear to me though whether companies will be able to build a sustainable business around R&D services in SimBio, and that's why we went in a different direction in terms of our view of Gen9.

And Jacob, anything else you'll add to that?.

I'll just add that we continue to be a vendor to the new Ginkgo....

That's right, thanks for that..

Okay. Thanks..

All right. Thanks a lot, Jon..

Thank you. And this does conclude the question-and-answer session of today's program. I'd like to hand the program back to Alicia Rodriguez for any further remarks..

Thank you, Jonathan. So on behalf of the management team, I wanted to thank everybody for joining us on the call. And if you have any questions, please give us a call in IR, and we'd like to wish you a good rest of the day. Thank you. Bye-bye..

Thank you, ladies and gentlemen, for your participation in today's conference. This does conclude the program. You may now disconnect. Good day..