Good morning. My name is Emily, and I will be your conference operator today. At this time, I would like to welcome everyone to Avantor's First Quarter 2023 Earnings Results Conference Call. [Operator Instructions] I will now turn the call over to Christina Jones, Vice President of Investor Relations. Ms. Jones, you may begin the conference..

Good morning. Thank you for joining us. Our speakers today are Michael Stubblefield, President and Chief Executive Officer; and Tom Szlosek, Executive Vice President and Chief Financial Officer. The press release and a presentation accompanying this call are available on our Investor Relations website at ir.avantorsciences.com.

A replay of this webcast will also be made available on our website after the call. Following our prepared remarks, we will open the line for questions.

During this call, we will be making some forward-looking statements within the meaning of the federal securities laws, including statements regarding events or developments that we believe or anticipate may occur in the future.

These forward-looking statements are subject to a number of risks and uncertainties, including those set forth in our SEC filings. Actual results might differ materially from any forward-looking statements that we make today. These forward-looking statements speak only as of the date that they are made.

We do not assume any obligation to update these forward-looking statements as a result of new information, future events or other developments. This call will include a discussion of non-GAAP measures. A reconciliation of these non-GAAP measures can be found in the supplemental disclosures package on our IR website.

With that, I will now turn the call over to Michael..

expanding our hydration capabilities in Gliwice, Poland and Aurora, Ohio to provide ready-to-use buffer solutions for our bioproduction customers; successfully launching multiple new J.T.

Baker product lines produced at our Ritter facility in Germany; rolling out our enhanced inventory manager digital solution, which supports our customers' needs for real-time information about their critical lab products in a user-friendly interface; and winning the Asia Pacific Bioprocessing Excellence Award, a testament to the power of our customer-centric model.

We also continue to push forward on our Science for Goodness sustainability platform and look forward to publishing our annual sustainability report later this quarter. Looking ahead, there are indications from customers that inventory health is improving.

However, current run rates suggest that there is a heightened risk that destocking will extend into the second half of the year. Therefore, we think it is appropriate to reflect the risk of a more gradual return to normalized growth and are updating our full year outlook accordingly.

Tom will walk you through the details of our updated guidance in a moment. We do view the factors impacting the current operating environment as transitory and remain focused on executing our plan and taking actions to drive growth and profitability.

Our long-term algorithm remains unchanged, and we are confident in the resilience of our end markets and our proven business model. With that, let me turn it over to Tom to walk you through our financial results and updated guidance in more detail..

Thank you, Michael, and good morning, everyone. Starting from the top of Slide 4. Reported revenue was $1.78 billion for the quarter at the higher end of our Q1 revenue range.

Revenue declined 1.8% on a core organic basis, reflecting inventory destocking in lab consumables and single-use solutions for bioprocessing as well as softer demand for formulated solutions from our semiconductor customers as expected.

Core organic revenue in our Bioproduction platform grew low single digits with sales of process ingredients and excipients up high single digits. We also continue to see strong momentum in our medical-grade silicone platform with first quarter revenue up more than 20%. Adjusted gross profit for the quarter was 35.1%.

Favorable contribution from commercial excellence was offset by headwinds associated with inventory destocking and the roll-off of margin-rich COVID-19 revenues.

Adjusted EBITDA was in line with our expectations at approximately $346 million, driven by our gross margin results, offset by a sequential increase in SG&A related to wage inflation and investments in our workforce to support our growth strategy.

Adjusted earnings per share came in at $0.29 for the quarter, reflecting revenue and EBITDA results as well as an increase in interest expense to about $74 million in the quarter as compared to $65 million in Q1 2022. COVID-19 revenue declines, foreign exchange and interest expense in aggregate represented a $0.06 headwind to adjusted EPS.

We generated free cash flow of $191.5 million, representing approximately 50% growth from Q1 last year and approximately 100% conversion of adjusted net income. Our working capital performance improved from Q1 of 2022 and we're actively working a pipeline of initiatives to improve receivables and inventory balances.

Our adjusted net leverage ended the quarter at 3.8 times adjusted EBITDA within our stated target leverage of 2 times to 4 times adjusted EBITDA.

We paid down over $200 million of debt this quarter and continue to prioritize free cash flow for further deleveraging, while remaining active in driving the commercial synergies of our 2021 acquisitions and building our M&A pipeline. Slide 5 outlines the components of our first quarter revenue growth.

As previously indicated, core organic revenue declined 1.8% in the quarter. Customer destocking in liquid handling consumables and single-use solutions played out as expected, representing an approximate 500 basis point headwind in the quarter.

COVID-related revenues represented a 4.8% headwind for the quarter, reflecting the roll-off of approximately $90 million of COVID-related sales from Q1 '22, resulting in a 6.6% organic revenue decline. Foreign exchange translation represented a 2.1% headwind, driven primarily by the strength of the U.S.

dollar versus the euro resulting in a first quarter reported revenue decline of 8.7%. On to Slide 6.

From a regional perspective, the Americas declined 3.7% on a core organic basis, reflecting strong contributions from commercial excellence, process ingredients, biomaterials and services, offset by the impact of customer destocking and soft demand in semiconductors and biotech. Europe achieved 1% core organic revenue growth in the quarter.

Bioproduction was up double digits on a core organic basis in the region, and our Applied Technologies and Advanced Materials end market continues to perform well. Like the Americas, inventory destocking in Europe played out in line with our expectations.

EMEA also grew 1% on a core organic basis in the first quarter, with strong growth in our bioproduction process ingredients and excipients, partially offset by a high single-digit decline in sales of proprietary materials to advanced technologies and applied materials customers, primarily in semiconductors.

Slide 7 shows our core organic revenue growth for the quarter by end market and product group. Biopharma representing almost 55% of our annual revenue, declined low single digits in the quarter, impacted by destocking of lab consumables and single-use solutions as anticipated.

Biopharma production was up low single digits on a core organic basis, including high single-digit growth in process chemicals and ingredients, reflecting the strength of underlying end market demand. Health care, which represents approximately 10% of our annual revenue, declined mid-single digits on a core organic basis in the first quarter.

Biomaterials performance was strong with double-digit growth across all three regions, while diagnostic sales were negatively impacted by destocking of lab consumables. Education and Government representing approximately 10% of our annual revenue, grew mid-single digits on a core organic basis in the first quarter, with growth across all 3 regions.

We are encouraged by the return to growth of this platform and the supportive research environment, including healthy Q1 NIH outlays and expect customers in this end market to remain active.

Advanced Technologies and Applied Materials, representing approximately 25% of our annual revenue, declined low single digits on a core organic basis in the first quarter, with solid performance in Europe, offset by declines in the Americas and EMEA, largely attributable to softer demand from semiconductor customers and a broader macroeconomic pressure on industrial customers.

By product group, proprietary materials and consumables offerings were flat in the quarter, with strong biomaterials and bioproduction process ingredient sales, offset by destocking in single-use solutions and reduced demand for formulated solutions for semiconductor customers.

Sales of third-party materials and consumables declined mid-single digits, impacted by a moderation in lab consumables demand related to destocking. Services and Specialty Procurement grew mid-single digits, while Equipment and Instrumentation declined low single digits. Turning to Slide 8.

I'd like to take a moment to talk through our updated 2023 guidance. We now expect organic revenue declines of 3% to 1% and core organic revenue of minus 0.5% to positive 1.5%.

This reflects a more gradual wind down of customer destocking of lab consumables and single-use solutions, more pronounced semiconductor headwinds and a modestly weaker macro environment. We continue to expect FX to be neutral for the full year, leading to reported revenue declines of 3% to 1%.

Based on our updated top line view as well as our commercial and productivity initiatives, we expected adjusted EBITDA margin to contract between 75 and 25 basis points. We continue to expect interest expense of $270 million to $295 million and a tax rate of 21.5%, leading to adjusted earnings per share of $1.28 to $1.36.

We are updating our free cash flow range to $675 million to $750 million. For the second quarter, we estimate organic revenue declines of 6% to 4% as compared with the first quarter decline of 6.6%. This includes a COVID headwind of 2.6% resulting in core organic decline of 3.4% to 1.4% as compared with the first quarter core organic decline of 1.8%.

This core organic decline reflects an aggregate headwind of approximately 700 basis points, reflecting customer inventory destocking at similar levels to Q1 and a modest further deceleration in sales to our semiconductor customers. We expect a roughly 0.5% negative impact from FX, leading to reported revenue of $1.785 billion to $1.825 billion.

We also expect adjusted EBITDA margin of 19% to 19.5% in the quarter, reflecting the ongoing volume and mix dynamics as well as our continued focus on commercial excellence.

We expect interest expense to be approximately $2 million lower than Q1, driven by ongoing paydown of our floating rate debt and expect free cash flow generation to be more modest in Q2 given the timing of cash tax payments. With that, I will now hand the call back to Michael..

Thanks, Tom. As we conclude, I want to emphasize our conviction in both the attractiveness and resilience of our end markets and the relevance of our offering to serve our customers. Earlier this month, we hosted our Americas sales conference, which brought together hundreds of our suppliers and our entire North America sales organization.

This important form strengthened collaboration across Avantor functions and with our suppliers to drive growth. This was our first in-person form since early 2020 and the energy and feedback we received reinforced the opportunities ahead of us. We are looking forward to similar forums in Europe and EMEA next month.

We remain confident in our growth strategy and are investing in new capacity, launching new products and expanding our geographic footprint and digital infrastructure to support our long-term financial algorithm. Continuous improvement is in our DNA, and we are taking actions to strengthen our operational rigor, efficiency and commercial execution.

Thank you for your interest in Avantor and for your continued support. And thank you to the 14,500 associates around the world who are working to deliver for our customers and support our mission of setting science in motion. I will now turn it over to the operator to begin the question-and-answer portion of our call..

Thank you [Operator Instructions] Our first question today comes from Vijay Kumar with Evercore ISI. Please go ahead, Vijay..

Hey, guys. Thanks for taking my question. I just want to make sure I had some of these numbers correct. Michael, this updated guidance here, so destocking, I think, for second quarter, I heard as minus 700 basis points.

Is there a continued destocking impact, like I think the prior destocking impact for the year was something like 200, 250 basis points, was that change for the year? What was the change? And I think biopharma, there's been a lot of questions, what is your exposure to emerging biopharma, early-stage biotech and has the bioproduction growth of double digit changed at all?.

Yes. Thanks, Vijay, for the question. Let me unpack both of those areas for you. First, starting with destocking. As we indicated in our prepared remarks, first quarter played out essentially in line with our expectations with roughly 500 basis points of destocking headwinds.

What we've modeled for the second quarter is a continuation at approximately that same level. And then similar to what we had in the first quarter, it's important taking into account, we also had roughly 100 basis points of semiconductor headwinds, and we see that accelerating modestly in the second quarter.

So those are probably the two key factors as we think about moving from the first quarter to the second quarter. But we see the quarters playing out pretty similarly particularly around destocking. You were asking a little bit about how we see the bioprocessing market overall.

And I think we continue to be quite encouraged by the underlying growth drivers for that space. There's been some pretty exciting approvals here around Alzheimer's and obesity and multiple myeloma. Recently, the pipelines are quite robust. And the underlying demand continues to be quite strong.

And the read-through in our business validates that would be in the strength of our process ingredients and excipients platforms that don't suffer from some of the same destocking headwinds that our single-use platform does. And we grew those high single digits in the quarter.

But based on the trends we are seeing on destocking and the expectation that we have that those would -- we would have seen an inflection point on that by now and the fact that we haven't, we've reflected that risk of destocking continuing into the second half of the year. So we've moderated.

In our full year guide, it would reflect more of a mid-single-digit growth in aggregate for our bioproduction platform. But we continue to be quite bullish about the long-term prospects of not only the end market, but certainly our positioning within it. Then the last point there to address your question around biotech.

As we've said consistently, biotech is an important part of our customer base, particularly given the science that they're developing. We have moderate exposure here. It's probably in the order of 2% to 3% of our overall revenues. It's concentrated in our research platform, and certainly, we see the headwinds in that space playing out.

That space is probably off double digits in the first quarter. It seems to have stabilized in and around those levels. But overall, it's a modest exposure in our portfolio..

That's helpful, Michael. And just a follow-up to that. If I just take a step back, simplistically, at a very high level, we had a big guidance change over the last, call it, 3 to 4 months, another guidance reset here.

When we look at these assumptions, can you talk about your visibility, I mean how investors can take comfort in numbers having the reset perhaps the second half guide now being derisked, what visibility does Avantor have?.

Yes. Happy to weigh in on that, Vijay. When we look at the assumptions that we had coming into the year here, the first quarter played out very much in line with our expectations, as you see by our first quarter coming in at the high end of our range.

But we had obviously contemplated that the destocking headwinds would subside by the middle of the year. And while we were encouraged by the ramp that we saw as we moved through the first quarter, we were also needing to see an additional step-up in growth in those categories as we moved into the early days of the second quarter here.

And frankly, we don't see that happening. So what we've tried to do today is to reflect the risk that this destocking persists through the balance of the year.

So if I step back then and look at how -- what's embedded in our guidance, if I look at the underlying core business, we're assuming that, that continues to run for the balance of the year at levels that we saw in the first quarter.

We assume that we'll continue to face the headwinds in the semiconductor market for the balance of the year with a bit of a step-up in headwinds in the second quarter, and you can kind of see the read-through on that in some of the earnings announcements from our customers in that space that definitely validates the depths of the downturn there.

And then on the destocking. What we've assumed there is that, as I said earlier, the second quarter destocking for both lab and bioprocessing are similar to what we saw in Q1. We've extended those through the balance of the year. It has the effect in the second half of the year of showing a modest improvement as you see in our growth rate.

But of course, that's somewhat mathematical and that you're running incremental headwinds on top of the destocking that was embedded in our numbers last year. So the impact on growth is a little bit more muted in the second half given the dynamics last year.

But we have pretty similar levels of destocking factored in here for the second half of the year. So from our perspective, we think it's a prudent change that reflects the current dynamics and doesn't really require much improvement in the business as we move through the balance of the year..

Understood. Thanks, guys..

Our next question comes from Patrick Donnelly with Citi. Please go ahead, Patrick..

Hey, guys. Thanks for taking the questions. Michael, maybe a follow-up on that one. I think you've talked about, when you're talking about stocking, you're at least seeing some early signs of things maybe bottoming out or turning a little bit.

I guess what are you seeing in the channel there? To Vijay's question, just on the visibility, what are you hearing from customers? Obviously, the headwind in 2Q being similar is prudent, but it does sound like you're maybe at least seeing some signs, I would love you to just give us a little more color there on what you're seeing and any levels of confidence that we are at a trough of sorts?.

I think probably helpful to maybe provide a little bit of context on just the operating model that we have here and the level of visibility we have into the different parts of the business. We're facing destocking headwinds, as we've indicated previously in both our lab consumables category and in our liquid handling consumables and vial processing.

Within those categories, those are products that our customers would generally expect us to have on the shelf, and order times and lead times would tend to be rather muted, certainly measured in days and weeks as opposed to months or quarters. So that's one of the dynamics that make predicting these things somewhat difficult.

But we obviously have great access to our customers and are spending a lot of time in posting them to understand the dynamics and the trends. And we continue to receive positive feedback from our customers that, in fact, the health of inventories in these categories are indeed improving.

We do see the inventory coming out, perhaps just not at the rate that we had originally anticipated. So we saw improvements in their daily rate of sales in these categories as we move through the first quarter. The exit run rate in March was essentially in line with what we had anticipated going into the year.

But we had also expected to see an additional step-up into the second quarter. And while rates are moderately improving, they're just not improving at the rate that we had originally contemplated.

So we felt it was appropriate to reflect the risk that this thing extends for more time than what we had originally modeled, and that's what we have baked into our outlook today..

Okay. That's appreciated. And then on the margin side, maybe one for Tom. I mean when you think about -- you guys reset the margin guidance here, down 50 bps at the midpoint now year-over-year.

Are you taking any cost actions? Or is the view this is transitory, we'll keep the P&L where it is, and then there's a level of confidence that next year, we get back to the algorithm that you guys have provided in terms of margin expansion? Can you just talk about how you're approaching this and how we should think about that construct going forward?.

Yes. First of all, Patrick, the view is that it is transitory. And we do expect to be through these headwinds by the end of the year. But notwithstanding that, our plan and even our updated guidance reflects the ongoing productivity initiatives that we continue to take.

So recall that the 3 margin drivers for us that we continue to talk about are pricing and commercial excellence as well as that proprietary mix growth that gives us a better margin/mix. And then the third has always been productivity. And we built this year's plan with significant productivity in it.

We're using the ABS, Avantor Business Systems, to drive a number of discrete projects across the entire enterprise. We've got actions in the Americas, in Europe and in EMEA to drive continued fixed cost reduction. The one thing that is not being impacted is the investments on the front end of the business.

So in terms of commercial sales force, marketing teams and so forth, we continue to invest there across the entire landscape to drive the better top line. But even as we head into the back half of the year, that continues to be true while we do continue to look at additional opportunities on the cost side.

So it's front and center for us, was at the beginning of the year and continues to be throughout this year..

Okay. Appreciate, guys..

Our next question comes from Michael Ryskin with Bank of America. Please go ahead, Michael..

Great. Thanks. Let me throw in one big one to start and then I'll have a follow-up. So first, I'm just trying to deconvolute [ph] the change to the guide a little bit.

You provided a lot of commentary, but given all the moving pieces, anything you can say in terms of has demand, has the macro deteriorated at all? You're talking about inventory levels as feels like being the biggest change to the guide, but then given your comments on semiconductor and some accounts you had in the prepared remarks.

I'm just trying to parse out the moving pieces here.

The $200 million roughly cuts to the top line, how much of that is for the inventory destock, how much is semiconductor versus just broader macro expectations going forward? What's built in?.

Yes, Michael, let me take a shot at that. If you look at the adjustment in the guide, it's roughly 300 basis points at the midpoint. And probably the way I'd have you think about that was it's roughly two thirds associated with incremental destocking headwinds that we've anticipated in the business.

And the balance of that would be probably split somewhat equally between a little bit weaker semiconductor end market, particularly in the second quarter and moderately weaker macro environment overall. So it's probably those three factors, but clearly more weighted towards destocking..

Okay. Thanks. And then on the stocking point, just anything you can say in terms of how much inventory is actually left with these customers? I mean they can't keep destocking forever, there's a finite amount. So any clarity on where inventory levels, this is both for a lab and bioprocess, by the way.

Where were inventory levels pre-COVID? Where were they sort of at the peak? Where are they now? And any sense of could you be seeing incremental share losses that would account for some of those changes?.

Yes. So the -- certainly, the posting and the feedback that we get from our customers, as I indicated before, would certainly support a view that inventory health across the network is improving.

I think we've taken a prudent approach here in trying to derisk the second half of the year, if you will, just given that you don't have a precise data here to call it exactly and so extending kind of similar levels of drawdown through the balance of the year here, I think certainly would cover probably our expectations for what theoretically could be being held at our customers.

And hopefully, it proves to be just that to be a bit on the conservative side. But -- and in fact, we don't have visibility that takes us all the way through the end of the year in order books and such.

But certainly, this would indicate that there was perhaps a year's worth of inventory in some of these categories, which -- that's probably on the outer end of any data that we've seen or any input that we've received from our customers. So I think it's a prudent approach given the data that we do have..

And Mike, I would just like to follow up some of the conversations you've had with us along the way here. I mean it was pretty clear that we -- our original guide had anticipated an earlier inflection point on destocking. And as we're here deep into April, I just haven't seen it yet.

We are -- the feedback, as Michael said, from customers, is very clear that inventory levels are moderating. But it isn't at a point yet where we're seeing that in order rates. And so we felt that it was prudent to incorporate more of that through the balance of the year as we have..

And Michael, the other thing I would add, you mentioned what's this topic of potential share loss? What I would say to that is, which probably won't surprise you, is that we would fundamentally disagree with any assertion that we are losing share, and we continue to be encouraged by the traction that we're getting with our customers.

And if you look beyond just these categories that are destocking, I think there are some pretty healthy trends there that support our views. If I look at sales of lab chemicals, for example, and the growth that we saw in the first quarter, which was rather healthy and certainly well above our group average here.

Certainly, a, it gives us some confidence in the health of the end markets, but certainly also revalidates the position we have with our customers. We've had some number of really high-profile customer wins here of late. We talked a little bit about Catalent last quarter, which is one of the larger wins we've had.

But we also have some -- a number of other accounts that have flowed our way here in recent weeks and months. And so when we look at our growth with our core customers relative to things like the change in their R&D spend, we continue to run well ahead of the trends of their own spend levels.

So I think we continue to be quite encouraged by the traction and momentum that we have with our customers. And if I broaden it beyond just like the lab category and the research environment, our bioproduction business continues to be a real source of strength for us. We continue to outgrow the broader market by several hundred basis points.

And similar to lab, if you move beyond the destocking categories, we see things like process ingredients and excipients, which we don't think are facing some of these headwinds, again, really strong momentum that gives us encouragement about just the underlying health and activity level at our customers and our positioning..

Okay, thanks..

The next question comes from Rachel Vatnsdal with JPMorgan. Please go ahead..

Thanks for the taking the questions. So I appreciate the comments of emerging biotech being 2% to 3% of total revenues, can you walk us through your exposure to emerging biotech within bioprocessing? And then separately, there's been some concern about the cell and gene therapy market just with some of the comments from peers this week.

So walk us through, what's your exposure to cell and gene? And then have you seen any shift in demand or ordering patterns from customers within that market?.

Yes, let me unpack those questions for you, Rachel, maybe take them in reverse. So on the cell and gene therapy space, one of the things I really like about our platform is we're going to be relevant across all modalities, both at commercial scale as well as in the pipeline.

So while we're encouraged by the momentum overall in cell and gene therapy and the health of the pipeline, clearly, the commercial platforms are heavily slanted towards monoclonal antibodies driving the bulk of our revenue. They are kind of in line with just the split of revenue at an end market level there.

So yes, we certainly have exposure to cell and gene therapy within our bioproduction platform, but it will be in the proportion of overall cell and gene therapy end market revenue as a proportion of total biologics end market revenues. So certainly, nothing outsized to think about there.

And certainly in the pipeline, a lot of our R&D activities certainly would be supporting rather fulsome cell and gene therapy pipeline. So it's an end market that I think long-term favor growth in that space, and we're not going to be over-indexed to any particular product or customer. It's a rather diverse platform as you know.

And regarding order rates or things like that, have we seen a change in patterns? I'd say, given the diversity of the platform, certainly nothing that I would call out is driving momentum one way or another.

I think we continue to have strong specifications across all these platforms, and we are certainly seeing good growth across all of our modalities and are encouraged by the approvals that we see coming through. On the biotech side, most of our exposure there is going to be on the research side, as I said earlier.

And while we like that customer segment a lot, just given the number of molecules that they're developing, it is kind of low single-digit exposure for our platform. It was off double digits in the first quarter. It was also off in the fourth quarter following quite a lengthy period of growth. It seems to have moderated a bit.

When I look at the bioproduction side of our business, which we tend to think about only on commercialized platforms, your exposure there would typically be through the CDMO lens, where you have biotechs that are scaling up to produce commercial quantities probably don't have their own capabilities.

And so we would probably service those through the CDMOs around the world that we'd be working with there. So overall, I don't think we are calling out any particular risk here from a biotech standpoint that's moving the needle one way or another on our numbers..

Great. Thanks. And then one on semis here. I appreciate that your products have really used enough semis processing and bulk on the production side, you're more closely tied to current demand levels with some of your peers.

But can you just confirm for us that your exposure to the semiconductor market is still 2% to 3%? And then it sounds like roughly 75 basis points of the guidance change is tied to the worsening market for semis, so how much revenue is really left in that model for semiconductors this year? And is there any risk to that declining further? And then finally, on semiconductors, when do you think you're going to have visibility on this market and at what point could it really flip positive?.

Yes. So just to remind you all on our offering into the semiconductor market. We certainly have a host of lab consumables and PPE and clean room offerings that support our customers there.

But probably the biggest headwind we're facing at the moment would be on the formulated chemical solutions that are used in the actual manufacturing of a semiconductor wafer, primarily in logic chips that provide cleaning and etching functionality throughout the manufacturing process.

So it's truly a consumable that's going to mirror our customers' manufacturing output in their production levels. Similar to what we see in Life Sciences, there is a very, very significant inventory correction that's underway within the semiconductor space.

And if you look at the earnings release from our customers, that space, they're off 40-plus percent and their production schedules are probably off even more than that as they look to reset inventories. We typically get a little bit longer range forecast from our semiconductor customers that are updated kind of on a rolling monthly basis.

We do see a step down coming through in the second quarter. But we are encouraged by the feedback we're getting from our customers that they see kind of arresting the inventory headwinds somewhere around midyear here. And then the return to kind of recovery as we move through the back half of the year.

So we've factored in pretty much headwinds all year, probably the steepest in the second quarter. And I think the view here is that the health of that end market improves heading into 2024..

Our next question comes from Dan Brennan with TD Cowen. Please go ahead, Dan..

Thanks. Thanks for taking the questions, Mike and Tom. Maybe just one on back to the guide. So for the inventory destock, so it sounds like it's around 4% in the first half, right, roughly, I believe, maybe a little higher in Q2, I guess, but I'm not sure if the delta between the 1Q and 2Q is all semis.

But are you now contemplating or is included in the guidance now that 4% headwind persists in Q3, Q4? So when we look at your guidance, we should be thinking about that's baked in to the implied organic growth at that much of a headwind drag through the full year now?.

Yes. So maybe to clarify a couple of points there, Dan. On the first quarter headwinds from destocking, it was roughly 500 basis points, and we have a similar level factored in for the second quarter. So no real change there.

If you look at the back half of the year, you can do the math and see that our core organic growth rate overall improved somewhat relative to the first half of the year in order to come in at the midpoint of our full year guidance.

And really, what you see reflecting there is the fact that the second half of last year also had meaningful destocking headwinds in there.

So while we're indeed carrying forward incremental destocking in the second half beyond what we saw last year, it does have the effect of showing an improved growth rate in that it was off of a lower base or a time period that also reflect as the headwind.

So we're seeing kind of similar levels of destocking is what the guidance contemplates in the second half as we see in the first half. And then you made a comment about semiconductors. Semiconductors are, in fact, worsening by roughly a full point in the second quarter relative to the first point -- the first quarter.

If we think about having roughly 600 basis points of headwinds in Q1, that was roughly 500 associated with destocking, another 100 basis points or so for semis.

As you look at Q2, it steps up to roughly 700 basis points of headwinds, as Tom indicated in his prepared remarks, similar levels, 500 basis points of destocking, roughly 200 basis points of semi headwind in the second quarter, that we see moderating back to something closer to the 1% headwind for the balance of the year..

Got it. Great. And then maybe just one other. I know you highlighted beyond semis, there was some impact from broader industrial. Just kind of remind us, I think maybe half of your Advanced Tech and Applied Materials could be considered to more cyclical industry.

But just kind of ex-semi, what else that kind of are you seeing in there? Just kind of quantify and give us some color about kind of what's baked in and kind of how you arrived at that? Thank you..

Yes. So if you look at the performance of our Advanced Tech and Applied Materials end market, which would certainly have some end markets there within there that do exhibit more cyclical GDP-type dynamics. We were actually, overall, I was relatively pleased with -- given the macro environment we're operating in and how well that platform performed.

It was kind of down low single digits, if you will, which in large part is being driven by what we're seeing here in semiconductors. But we actually saw growth, for example, in Europe in Applied exposure there, which was somewhat encouraging, given what we've been keeping an eye on in Europe.

So whether it's petchem or oil and gas, some of the other food and beverage, these are -- the aerospace, defense, these are some of the other end markets that we would serve in there. And I'd say generally, overall, that part of our business held up reasonably well.

The most notable point to make here is probably just the heavy downturn in semiconductors. I mean I think on this -- what we supply into the manufacturing process itself is probably down 50% in Q1, and it's probably going to move to down 70% in Q2 before bouncing back a bit. So it is really driving the numbers there.

But with a lot of that exposure being in the Americas enables probably a better read-through in Europe, where we don't have as much semi exposure, you can see how the applied markets for us are playing out, where we actually grew mid-single digits in the quarter..

Great. Thanks, Michael..

Our next question comes from Jack Meehan with Nephron Research. Please go ahead, Jack..

Thank you. Good morning. I wanted to ask about the margin cadence in the second half of the year. So just playing around with the numbers, I think it implies about a 200 bps step-up in the second half EBITDA margins relative to the first half. Historically, I looked like pre-COVID, it's been a little bit more muted than that.

Can you just walk us through the framework on margins in the year-end?.

Yes. Thanks, Jack. The -- yes, so first quarter, as you know, as a reference point, came in at 19.4%, which was down significantly from the first quarter of '22. And the COVID impacts on the revenue side were the most pronounced impact there. So we had roughly $90 million of COVID headwinds coming out in the first quarter.

That's predominantly proprietary materials, which are very high-margin content. And -- so that contributed to the bulk of that reduction. The headwinds that we've talked about as well in the -- particularly in the biopharma production category also have pretty good margins. So the combination of those two is what kind of drove us to the lower margins.

As you progress through the year, we do see improvement in the second half. I do think that when you look at the second quarter and you model that out, it will be very similar to the first half in terms of pure P&L numbers, probably $20 million more of revenue or so at the midpoint, a couple of points of EPS.

But margin rate, I think, continues given you have that same complexion of headwinds continuing. We do see the second half an improvement. We do see a step-up in the margin rates as those revenues and the inflection points that we're anticipating come into play, particularly on the biopharma side.

So overall, full year, we do end up at the midpoint of what we've talked about would be a modest reduction from 2022 overall..

Got it. Okay. And then as a follow-up, I wanted to ask just the performance of Masterflex and Ritter in the quarter? I know don't break out the M&A sales anymore, but just what -- how is their progression to start the year kind of relative to the exit rate at the end of 2022? Thank you..

Yes, thanks for the opportunity to talk about those, Jack. We actually continue to spend a lot of time in driving the acceleration of synergies on really across all 3 of those 2021 acquisitions. And when I look at first quarter in isolation, happy to report that all 3 of those platforms were either at or above our plans for the quarter.

We're starting to see some momentum really across all 3 of those. I think in the press release, we referenced a couple of new product launches in our Ritter category that we've been signaling, and we've got some more that will come here in the second quarter that will continue to bolster our portfolio and better position us.

We do see inventory positions improving and the engagement with our customers in Ritter starting to pick up as well.

Masterflex, we continue to drive hard after some of the innovation and are quite encouraged by what that does for building out and really the only end-to-end aseptic management solution in the space and certainly a lot of excitement from our customers.

I would say one of the more notable things in Masterflex in the first quarter is just the improvement in the supply chain. We've been talking a lot about headwinds on access to chips and stuff and the backlogs on the pump.

And while we continue to work through some of those challenges, I think we've been able to cut the lead times on our peristaltic pump offering by half. We've got a little bit more room to go yet before that ultimately normalizes, but certainly some good momentum there.

And then on RIM Bio, obviously, a more modest-sized platform for us, but we're super excited by the progress that we're making in translating that technology, particularly the 2D and 3D bag technology to our customers around the world.

And we had talked at the fourth quarter call about some meaningful revenues that we were looking to capture in the first quarter on that platform. And certainly, those came through as planned. So it's an area that we're going to continue to drive hard on.

We've got a lot of resources focusing on capturing these commercial synergies, and we continue to anticipate these platforms growing in 2023. And certainly, we're keeping pace with those plans in the first quarter..

Our next question comes from Dan Arias with Stifel. Please go ahead, Dan..

Good morning, guys. Thanks for the question. Michael or Tom, on biopharma overall, low single-digit decline in the quarter, what should growth be -- growth or decline be for the year there? And then what should bioprocess specifically be for the year? Apologies if I missed that in the moving parts of the guide.

And then as a follow-up, you guys have talked about service penetration and just what that means for you. Do you think that service can be accretive for the biopharma piece or should we more or less expect that to move alongside the product side? It feels like it could be a little bit more sticky for you guys..

Yes, happy to talk a little bit more about biopharma. So -- of course, there's some significant COVID headwinds that run into our biopharma numbers. You probably also have to think about it on both an organic as well as a core basis.

Within the first quarter, biopharma overall was off high single digits, but you have -- in that particular end market, we had a bit over 500 basis points of COVID headwinds. And so you get to a core growth rate of low single digits as you indicated.

I think for the year, as you see the COVID headwinds subsiding as we move through the year, that certainly leads to better growth rates sequentially each quarter and the -- given the comps in the second half of the year that do include destocking, although we've continued to model destocking persisting through the second half of the year, the impact that, that has on growth is a bit more muted.

So you move from kind of low single-digit decline in the first quarter to, on a full year basis, you're probably looking at a low- to mid-single-digit growth for biopharma overall and that would contemplate bioprocessing which is the production component of that coming in and around a mid-single-digit level, Dan..

Okay. Helpful. If I could just maybe ask another and just sort of stay with the details around the inventory topic.

When you look at the destocking activity that's taking place and you try to separate bioprocess from routine lab consumables, are you able to discern a difference when it just comes to the pace of the work down? I mean is everything looking like it's moving at the same velocity, so to speak? Or do you think that at the end of the day, we see one of these buckets resolve itself a little faster than the other?.

That's a really good question, Dan. As we look into the data and as we have extrapolated the potential risk into the second half of the year, we've got them moving at about the same pace. And the data coming back from our customers would certainly indicate that's not a bad way to think about that.

And if I look at changes in daily rate of sales, as we move through the first quarter and into the early days here of the second quarter, I think that's another validation of our view that they seem to be winding down or moving at roughly at the same pace.

So we've -- as we've extended the view into the second half, it does cover both of those categories..

Okay. Thanks very much, guys..

Our next question comes from John Sourbeer with UBS. Please go ahead, John..

Thanks for taking the question. I guess just continuing on the destocking here. Just any broader regional color and how you see this playing out in the second half by region? And then just a second question here, I'll ask it too at the same time.

On the industrial and applied market piece, I guess how much conservatism do you think you have in the guidance for this market? If we were to enter a deeper recession in the second half of the year, I guess, how much do you think that is baked in on the guidance there? Thanks..

Yes. On destocking, that's going to kind of flow in line with just the revenue splits that we have between the region, which is just another way of saying we have and probably more destocking headwinds in the Americas, but that's probably more a function of our Americas business being roughly 2x what our European business is.

We certainly see both in the lab as well as in bioprocessing headwinds in both regions. On the COVID side of things, as the COVID headwinds wind down particularly on things like the vaccine, we had more pronounced headwinds in the Americas.

But I would say the -- on a percentage basis, you see similar dynamics between both regions and a bit more muted exposure in Asia, of course. And then on your second question regarding just the applied markets and how we see those playing out.

Pretty encouraged, like I said, by what we saw in the first quarter, down low single digits with semiconductors being off 50%. We've contemplated that being off 70% in Q2. So I think we've got a pretty realistic view baked in here that I think we're more comfortable with at this point..

Thank you, everyone, for your questions. Unfortunately, those are all the questions we have time for today. So I'll now turn the call back to Michael for closing remarks..

Yes. Thank you, Emily, and thank you to all of you for participating in our call today. I certainly appreciate your support and interest in our business and look forward to updating you when we meet next. Until then, take care and be well, everyone. Thank you all..

Thank you, everyone, for joining us today. This concludes our call, and you may now disconnect your lines..