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Smith & Nephew plc (NYSE:SNN)
Q4 2020 Earnings Call
Feb 18, 2021, 3:30 a.m. ET

Contents:

  • Prepared Remarks
  • Questions and Answers
  • Call Participants

Prepared Remarks:

Operator

Certain statements in this presentation are forward-looking statements. These statements are based on management's current expectation and are subject to uncertainty and changes in circumstances. Actual results may differ materially from those included in these statements due to a variety of factors. More information about these factors is contained in the company's filings with the Securities and Exchange Commission.

Now I would like to hand the conference over to your speakers today, Roland Diggelmann, Chief Executive Officer; and Anne-Francoise Nesmes, Chief Financial Officer.

Roland Diggelmann -- Chief Executive Officer

Thank you very much, operator, and a very good morning to all of you. Hope this finds you well and safe. Welcome to Smith & Nephew's Full Year 2020 Results. We're looking forward to when we actually can hold these meetings in person again. But for now and for today, I'm calling in from Switzerland, and I'm joined from London by our Chief Financial Officer, Anne-Francoise Nesmes.

Before we get into the details of the results, I'd like to make a few opening comments. Now 2020 was a year of challenges for the industry, of course, in contrast to the very high expectations we had for Smith & Nephew back at the start of the year. Even so, I've been delighted, been proud with our response. Throughout the year, I've seen our team stay really focused on our purpose, continue to support customers and patients in what proved to be a rapidly changing environment.

So when we get into the detail, it's clear that the work to improve the sustainable growth of our business has also continued. Recent launches and recently acquired products are performing very well across the entire portfolio. And there's also increasing evidence that the work undertaken to improve execution is delivering results.

And the resilience of our business has meant that we've been able to maintain our investment in R&D and M&A in 2020, and we will continue to invest in '21. This will accelerate our business in the midterm.

The headwind of COVID isn't finished, of course, yet. But as we saw in Q3 of 2020, our business can really rebound strongly. So I'm excited about our prospects as the world hopefully returns to normal.

After we cover the 2020 financials, I'll take you through what more we're doing over the coming years to deliver enhanced growth and efficiency. Importantly, this includes an intense period of new product launches through '21 and beyond.

So first, I'll cover the highlights of our full year numbers. Full year revenue was $4.6 billion, which is a 12.1% underlying decline, 11.2% reported. That, of course, reflects the impact of COVID on our business through the year with a significant recovery in the second half. The resulting negative operating leverage led to trading profit of $683 million and a trading margin of 15%. Adjusted earnings per share were $0.646.

While the COVID pandemic was truly a headwind through the year, the resilience of our business and the strength of our balance sheet meant that we're able to maintain our progressive dividend policy. We're therefore proposing an unchanged payment of $0.375 per share.

Now looking at the sales in the fourth quarter. Revenue was $1.3 billion and was 7.1% underlying negative and 5.8% reported, with two more trading days than in the prior year.

We had a strong start in the quarter with a continuation of the recovery that we had seen in the third quarter already. Then from mid-October onwards, there was again a slowing of elective procedures as COVID infections rose again, particularly in the U.S. and in some large European markets.

Encouragingly, our expectation that the effect of the second wave of COVID would not resemble the first has played out. Health care systems have generally proved to be much better prepared to maintain non-COVID care. And our teams, of course, have continued to support them.

Now Slide 7 shows the details of the regions. In the U.S., which you can see on the left-hand side, we can see the effect of the second wave in Q4. Formal restrictions on elective surgery had been lifted as we entered October, but then some localized and temporary restrictions started to come back. By the end of the year, around 20 states had recommended or partial procedure restrictions in place again.

We also saw more frequent postponements of surgery due to patients testing positive for COVID or COVID-related staff shortages at hospitals. Other Established Markets declined by 6.2% in the quarter, which is unchanged from Q3, but with big variations by country. For instance, our U.K. and Japan business has improved, while France and Italy saw significant slowdowns. We do expect to see continued impact in the first half of this year.

Emerging Markets also declined at a similar rate as in Q3. We saw strong end-user demand again grow in China, although this was offset in the quarter by some shifts in stocking patterns. Overall channel inventory ended the year at around normal levels. Of the Other Emerging Markets, India and much of Latin America, continued to be under significant restrictions.

Now looking by franchise on the next slide. The business most driven by elective surgery were again expectedly most sensitive to a second wave. Orthopaedic Reconstruction, Sports Medicine & ENT were most affected, and Trauma and Advanced Wound Management continued to be relatively resilient.

When we look past the COVID effect, the details show some very encouraging signs of progress for our growth strategy. There are strong performances from new launches and from acquired products across the franchises. In addition, the benefits of improved commercial execution became more apparent in Wound, in particular.

Now going into the details of the franchises and Orthopaedics first. The pattern we saw earlier in the year of hip outperforming knees has continued with surgeons prioritizing hip procedures. In U.S. Knees, we're seeing a drag in our business relative to the market. And this will probably continue until the planned launch of our new cementless offering, of course, subject to regulatory clearances.

Our hip growth rate also reflects the rollout of the OR3O Dual Mobility System in the U.S., which is proving to be a great other example of our improved execution. Following the launch late in 2019, our U.S. Hip performance has now been leading our major peers for three consecutive quarters. The combination of an attractive segment and our innovation can continue to drive our Hips business for some time.

Other Reconstruction includes the first full quarter of sales for our new robotics system, CORI, since the U.S. launch. The reception here has been very positive, and we've seen an encouraging uptake from both new and existing customers. The reported revenue you can see here reflects the early prioritization of upgrading NAVIO customers then also a shift in contract structures and finally, some effect from timing of shipping more kits.

In Trauma, EVOS continues to be a key driver three years after the launch of the small fragment plates and again delivered strong double-digit growth. After the quarter, we closed the acquisition of our new Extremity Orthopaedics business on January 4. We will include those sales in the combined Trauma & Extremities line from '21 onwards.

Moving to Sports Medicine. Joint Repair declined 0.3% with trends similar to Q3. Shoulder repair grew in the quarter. This was driven by REGENETEN and a strong start from HEALICOIL KNOTLESS, which is our new suture anchor launched in September. As you can see in the chart on the right, REGENETEN has recovered strongly from the slowdown earlier in the year and has actually returned to its pre-COVID trajectory already.

Offsetting the growth in shoulder was the new repair market where lower-than-normal levels of competitive sports continue to affect volumes of some procedures.

AET saw a slower quarter in both capital and consumables, reflecting overall levels of elective surgery. And ENT continues to see parent caution around procedures and lower-than-usual inflection rates.

As I mentioned earlier, the detail of Advanced Wound Management has some very encouraging signs for the franchise. Advanced Wound Care performed across -- improved across our regions and particularly in Europe as you can see in the chart at the bottom right. This was offset for now in global numbers by a slow Asia Pacific market. Overall, the evidence is increasing, though, that the focus on better commercial execution is truly translating into improved performance.

Bioactives reported a 9.9% underlying decline. But again, the detail behind that showed improvement. The acquired skin substitute products, Grafix and Stravix, both grew in the quarter. SANTYL sales in the quarter were affected by the historic year-end shipments coming in January instead. Without that timing effect, Bioactives sales would have been roughly flat.

Finally, Advanced Wound Devices grew 0.2%. Our traditional negative pressure product, RENASYS, continues to win new businesses in the U.S. in both acute and post-acute settings. Also, our single-use product, PICO 7, reached a milestone with the 1 million units sold.

So I'll now pass over to Anne-Francoise to take you through the details of the full financial. Over to you, Anne-Francoise.

Anne-Francoise Nesmes -- Chief Financial Officer

Thank you, Roland, and good morning, everyone. I will start by outlining the key elements of the P&L first before getting into further details. As you will see on the Slide 13, our full year revenue was $4.6 billion, down 12.1% compared to 2019 on an underlying basis. On a reported basis, revenue declined 11.2%, including a foreign exchange headwind of 20 basis point and 110 basis point benefit from prior acquisitions. Trading profit declined by 42% to $683 million, resulting in a 15% trading margin. Now clearly, this reflects the impact of COVID on our business.

Our IFRS operating profit of $295 million after restructuring costs, acquisition, amortization, legal and other charges incurred in the year was 200 -- sorry, the IFRS profit was $259 million after all of the costs as I've just mentioned. As a result, our operating profit margin was 6.5%.

Adjusted earnings per share at $0.646 declined by 37%, and basic earnings per share declined by 25%, and I'll come back to these numbers shortly. Importantly, we propose to keep our full year dividend unchanged from 2019, in line with our progressive dividend policy and reflecting the resilience of our business and the strength of our balance sheet.

Now Roland has covered in detail the Q4 revenue performance, so what you see on this slide is the full year revenue performance by franchise. Orthopaedics, our largest franchise, declined by 14% to $1.9 billion for the full year. And Sports Medicine & ENT with revenue of $1.3 billion declined by 13%. As we have talked about, this reflects the impact of COVID on levels of elective surgery. Our Advanced Wound businesses remained more resilient and declined by 8.1%.

Now moving to Slide 15. And as we've indicated during the year, trading margin was down year-on-year. And here, this slide illustrates the various elements driving the margin decline from 22.8% in '19 to 15% in '20. Clearly, the impact of COVID-19 was significant, and we experienced lower gross margins from factory underutilization and increase in provisions and negative leverage from SG&A costs before the actions we took. This accounts for almost 9 percentage points for the dilution.

The additional charges of approximately $80 million for provision for inventory excess and obsolescence and bad debts are included in COGS and SG&A, respectively. To mitigate the impacts of COVID, we delivered approximately $280 million of cost savings compared to our original budget for the year. The majority of the savings came in from the variable costs such as variable pay, third-party commissions or travel and provided 2 percentage point offset to the margin pressure.

More importantly, throughout the year, we've been determined to maintain and protect R&D expense as we believe innovation should drive future growth. As a result, the R&D ratio stepped up to 6.1% of sales in the period from 52 -- 5.2%, sorry, in the prior year and also growth in absolute dollar terms. We expect M&A and R&D dilution to continue into 2021 as we continue to invest behind innovation.

Adjusted earnings per share was $0.646 and declined by less than trading profit. This was due to the fact that we benefited from a one-off tax provision release on closure of tax audits and other settlements.

Reported tax for the year was a credit of $202 million. This is a result of refunds and tax credit due to the successful U.K. tax litigation outcome, releases of provision following conclusion of tax audits and other settlements. The tax rate on trading results for the year to 31st of December 2020 was 11.3%. I should also mention here, although it's not shown on the slide, our basic earnings per share was $0.513 compared to $0.686 in 2019.

Moving to Slide 17. You can see we generated positive trading cash flow of $690 million in the period with trading cash conversion at 101% as a result of working capital movement. While we continue to invest in capital expenditure as we progress changes to our manufacturing base, we saw working capital inflow of $82 million. This was primarily driven by a decrease in receivables from the revenue decline we saw in 2020, but also pleasingly improved cash collections in a number of markets. Overall, our free cash flow was $437 million after all of the cash flow movements shown on this slide.

Within the restructuring charges, we incurred $117 million of restructuring costs. And it is worth mentioning here, APEX initiated at the end of 2017 incurred restructuring cost of $49 million in 2020. This program is now substantially complete and will deliver annualized benefits of around $190 million, $30 million more than we originally guided for a one-off cost of around $290 million, which is $50 million more than we originally planned.

I will talk about our current program focused mostly on driving efficiencies in operation and supply chain later.

Now Roland has already mentioned that we have a strong balance sheet with access to significant liquidity. Our net debt increased by just over $150 million to $1.9 billion, including approximately $100 million spent on the acquisition of Tusker Medical. For clarity, closing net debt as disclosed on this slide includes $204 million of lease liabilities. We finished the year with a leverage ratio of 1.8 times adjusted EBITDA. I should also add, we completed the $240 million acquisition of Integra's Extremity Orthopaedics business shortly after the year-end.

It's pleasing to say that our liquidity position remains strong. And in October, we also closed our U.S. bond with proceeds of $1 billion. This provides attractive long-term funding, which will be used to invest behind the group's strategic objectives.

Finally, I would like to talk about the outlook for 2021. We expect the impact of COVID-19 on our customers and markets to continue into the first half of 2021, and the timing and extent of the recovery remains uncertain. Our intent is to revisit our financial guidance as the year progresses and provide updates as and when the situation becomes clearer.

In terms of revenue, we would expect to deliver substantial underlying growth in 2021 compared to 2020. We would expect Established Markets to recover faster than Emerging Markets as vaccines are rolled out, supporting the recovery of elective surgeries. We also expect our hip implants to continue to outperform knees. And our Sports Medicine & ENT franchise should rebound strongly as markets recover. Advanced Wounds Management growth strategy should continue to improve as our recent commercial changes deliver benefit.

For the trading margin, there are a number of moving parts to consider. At the gross margin level, there will still be some headwinds from the impact of COVID relative to 2019. As a result, we expect the negative leverage to exceed the incremental benefits of cost savings in 2021. We are also, importantly, continuing to invest behind the growth strategy. Compared to 2019, you should expect around 100 basis point dilution from higher investment in R&D and around 150 basis points of dilution from recent acquisitions, including the Extremities business. Transactional FX will be another headwind of another 100 basis point. And finally, the tax rate on trading results for 2021 is expected to be in the range of 18% to 19%.

So quite a lot to take in here. But with that, I'll pass you back to Roland.

Roland Diggelmann -- Chief Executive Officer

Thank you very much, Anne-Francoise. I'd like to finish by spending some time on our priorities for '21, which you can see here in the next slide, three very clear priorities. Our first one is to return to top line growth and recapture our momentum. Organic growth is a key driver of shareholder returns, of course, and is what enables positive operating leverage through our P&L. And in a moment, I'll go into some detail of what you should expect to see from us in the next two years. Second, we'll be driving further improvements in our operations. This will free resources in the midterm for investing, including into R&D and offset margin dilutions from M&A. And thirdly, of course, we'll continue to respond to COVID. The global rollout of vaccination programs offers a route back toward normality, but it's clear that COVID will have still a high impact on the business, at least in the first half of the year.

Now starting with revenue growth. We've talked at length about the first stage of accelerating the business with a new commercial model and new leadership. The early results were clearly positive with a broad-based growth acceleration through 2019. At the same time, we've also increased our investment in future growth with a step-up in tuck-in M&A and an increased R&D ratio.

The next stage, of course, is to deliver on those changes and investments. Firstly, we will work to maximize the potential of our current portfolio. Our recent launches and initiatives are still at early stages such as OR3O Dual Mobility Cup, CORI, robotics and our focus on ASCs. There is a great opportunity to keep growing these and to bring them to more of the world. This will build on our improving execution across the franchises and regions.

Secondly, you'll see us deliver the value from our acquisitions. We've brought in synergistic assets across the portfolio, like the extremities assets from Integra, like Tula for ENT, and Grafix and Stravix in Bioactives. As we emerge from COVID, you should see that these segments have moved to structurally higher growth rates as a result of the deals.

And thirdly, we have an intense period of new product launches primed over the next two years, and we'll continue to invest more in R&D in 2021.

So you should expect to see these launches across the franchises, which you can see here on this slide, bringing differentiated technologies, including in high-growth categories. This slide highlights a number of key projects of '21. Of course, all product launches are subject to regulatory approval.

In joint replacement, we're planning for the first launch of our new cementless knee in the second half of the year. This is probably the one portfolio gap that we've needed to address. The aim is to access this high-growth segment, and an important part of our plan is to accelerate in knees. In Sports Medicine, we're looking to enhance an already leading position in meniscal repair with a new generation of FAST-FIX and we'll continue to upgrade the Tower.

In Advanced Wound Management, we'll aim to build on our recent acquisitions with new versions of Grafix and Stravix and Leaf as well as launch a next generation of PICO. And there's more activity beyond what we saw on the chart, of course. We're targeting further regional launches of existing products and now working on products specifically for the needs of our second-largest market, China.

On some of these innovations, we'll bring you the detail of the technology closer to launch, but the overall picture of new growth opportunities across the whole portfolio should be apparent.

Importantly, I believe we have already demonstrated the commercial excellence to realize the value of our innovation. Now this slide shows four examples where delivery of new technology has driven an inflection in the growth of the respective segment.

After the launch of OR3O in late 2019, our hip business moved from growth in line with our peers to now leading our peers in three consecutive quarters. We've added REGENETEN to our Sports Medicine business at the end of 2017. Then in just over a year, Joint Repair accelerated from mid-single-digit to double-digit growth with REGENETEN a big part of that.

In Arthroscopic Enabling Technology, the team's successful launches in the Tower in the mid-'19 brought a segment that had been a multiyear decline back to mid-single-digit growth. And of course, PICO has been a success story in Wound Management since launch with a series of new versions, maintaining the gross momentum for almost a decade.

These examples show where we have innovation in the category, we're able to move our growth rates. With a step-up in investment in R&D and M&A, we're in a position to repeat this across more of the portfolio than before.

Now Anne-Francoise will speak to our second priority, which is to drive further operational improvements.

Anne-Francoise Nesmes -- Chief Financial Officer

As I mentioned before, the APEX efficiency program is now substantially complete. We overdelivered on the benefits we guided for at initiation with savings now around $190 million per annum. But we've also started the next step in improving our long-term efficiency. And our approach is twofold with a well-defined program driving a transformation in our operations and the second element aiming at driving continuous improvements in our processes.

On the operations, we'll be simplifying and increasing the flexibility of our manufacturing and distribution networks. We will also optimize our operations processes, including rolling out lean manufacturing globally and increasing automation.

On the process side, we'll be simplifying end-to-end processes throughout the company, aiming at the various functions of Smith & Nephew to work together more smoothly. For example, better alignment of R&D, commercial and operations should result in further improvements to commercial execution and better control of inventory.

No doubt that this is a complex transformation, and the changes in our operations will take time. Overall, we expect the program to run for five years with the work already having started in late 2019. And the measures are targeting around $200 million of annualized cost savings by the end of 2023 with total restructuring cost of around $350 million.

And I'll hand back to Roland to cover our third priority.

Roland Diggelmann -- Chief Executive Officer

Thank you. The third priority is, of course, to continue to respond effectively to COVID. Our COVID response this year will build on what we've already done in 2020, which has been to support customers, to protect our employees and, of course, to control costs.

With our customers, we expect that the approach of both in-person and remote service will continue, and we'll continue to enhance our digital capabilities to support that.

For example, in '21, we'll launch Education Unlimited, a new medical education platform spanning all our franchises. For our employees, we'll continue to ensure flexible and COVID-secure work environments, for example, with novel wearable technology to support social distancing. And while COVID still impacts our end markets, we'll control discretionary costs like travel and events and other. This is included in the guidance Anne-Francoise has given.

So in summary, I'm proud of the way Smith & Nephew has responded to the challenges in 2020. We've demonstrated our financial and cultural resilience, and we stayed focused on supporting customers and advancing our strategy for growth.

As the recovery from COVID comes into sight, our recent investments into innovation and the portfolio are ready to translate into further growth momentum. I'm truly excited about the pipeline of new technologies that's approaching launch and by the potential of our recent acquisitions.

There's still work to do to manage through the pressures of at least the first half of the year, but we have clear priorities, and we look forward to updating you as we progress through the year.

And now we'd be happy to take your questions. Thank you.

Questions and Answers:

Operator

[Operator Instructions] We're now taking our first question from the line of Lisa Clive from Bernstein.

Lisa Clive -- Bernstein -- Analyst

Hi, there. Three questions for me. Just first on the R&D spend. I understand the focus on increasing investment in order to drive new product launches, etc. But how do we -- is there sort of a new normal? There's clearly been a growing need for clinical data across Medtech. So is R&D just going to be higher from here and sort of more normalized sales? What is the right level to think about for R&D spend?

Second question just on robotics. How should we think about adoption? Is it a question of penetrating your own base seeing surgeons do tend to be quite loyal and most of the players have their own platform here? And if that is the case, within your surgeon base in the U.S., what is adoption today? Is it 5%, 15%? Where do you think it could get to?

And then last question on RENASYS. Can you remind us of what market share, Smith & Nephew reached previously before it had to temporarily withdraw the platform? And are you back to those levels? Can you go further? Thanks.

Roland Diggelmann -- Chief Executive Officer

Thank you, Lisa. I'll address your question in the order, R&D and clinical data. Absolutely, there is more need for clinical data. I think this plays into the hands of the larger players who can demonstrate the efficacy of the product. But of course, there's also a regulatory play here at work. For instance, MDR, where, of course, there needs to be resubmissions, there's an enhanced need for clinical data. But more generally, on the R&D, I'm a strong believer that innovation drives adoption, drives success in this industry. We had a step-up in '19. We've maintained R&D, protected R&D during 2020. And we're increasing it in '21.

Again, I think we have a lot of opportunities for -- to drive innovation. And accordingly, we want to invest behind those opportunities. We're now at about 6% R&D as a percent of sales. I wouldn't go and give you an exact number, simply because we don't want to be led by an exact number. We want to be led by the opportunities. But I feel it is about in the right place now where I feel that it was too low in the past to really drive sustainable innovation.

On robotics, absolutely, as typically, the adoption rate is starting with your own customers. But of course, with CORI, we're excited, and we think we can certainly capture market share. Certainly, we come mainly to the market with CORI, but with a very differentiated solution and that should allow us to capture share. Again, it's a handheld solution. It's versatile. It's modular. It doesn't require a CT scan. And we think it will also play very well in ASCs.

And then on RENASYS, I believe it was about $100 million in '19. So I think that we have a lot of trajectory still in RENASYS because it's simply just a very, very good product. I hope this answers your question. I don't have a market share number for RENASYS.

Lisa Clive -- Bernstein -- Analyst

Okay. Thanks very much.

Roland Diggelmann -- Chief Executive Officer

Thank you, Lisa.

Operator

Our next question comes from the line of Michael Jungling from Morgan Stanley.

Michael Jungling -- Morgan Stanley -- Analyst

Thank you and good morning. I also have three questions. The first one is in relation to your 2021 guidance. In particular, why were you not able to deliver a guidance that was more numeric as you have done in the past, perhaps using a floor? In a way, you've become an outlier from what we've seen from European medical device companies, which have done so, I think, pretty much for all the companies, certainly that we follow and have reported so far. It seems like you have less visibility than other companies by doing so. I don't know whether that's by intention or whether that's perhaps an oversight.

The second question is about inventory obsolescence. I look at the, I think, close to the $80 million charge, maybe slightly less that you've booked for the full year. Also read that in conjunction with Page 21 of your report, and I remain uncertain why you think that is necessary. Could you provide more color as to why you think that's necessary? And whether you have actually used the $50 million or so provision in the first half and have pretty much, if you like, binned or scrapped the inventory at obsolescence [Speech Overlap].

And then question three, it's a sincere question. I hope it's not offensive. But if I look at the relative share price performance, let's say, of your stock since COVID-19 outbreak versus your peers, it's materially underperformed. And it's a sincere question. Why do you think this has happened this year? What do you think is lacking that perhaps investors aren't seeing with you that they are seeing perhaps with others? Thank you.

Roland Diggelmann -- Chief Executive Officer

Thank you, Michael. I'll take the first question and then, Anne-Francoise, if you could talk to the inventory obsolescence. And then we'll try to give you a view or a sense on the share price, which obviously, is always a difficult question to answer.

On the '21 guidance, I think we have seen some of our peers providing numeric guidance, others have not. So I think we're not necessarily an outlier here. Obviously, as you would imagine, this has been a long debate internally whether we should provide more numeric or more general guidance. We've opted for the latter, just simply because we think that the visibility at this stage is, of course, one that's impacted by COVID. This will determine largely the ability of the recovery. I'm very confident that if the markets and when the markets recover, that we will rebound quickly. I'll just take you back to the second quarter of last year. Our performance was minus 29% on sales. And after the first wave was over and restrictions were lifted, third quarter performance was minus 4%.

So I have a lot of confidence in our ability to perform within the rebounding environment. The critical question, of course, is how long will these restrictions continue to last. We don't know. How quickly will the vaccines be rolled out? We don't know. We know we're just at the beginning here, and that's what would led us to this approach.

I would also say that, of course, if you look at the vaccine rollout, it is a positive message in that the first priority groups are elderly people, which typically form part of our patient population. And the second group are healthcare workers, which are our customers, by and large.

So overall, I think we're managing in this school life if you so want, with a lot of scenarios internally as to when the recovery comes how we will then be able to deliver performance.

Anne-Francoise, maybe you want to talk about the inventory?

Anne-Francoise Nesmes -- Chief Financial Officer

Yes. So in terms of the inventory and the movement we've seen in provisions, so I guess if we step back, in total, we've signposted an increase in provision of $80 million, which is in the largest part, E&O, and a smaller proportion, an increase in our provision of bad debt.

Now you may recall that our E&O or inventory obsolescence provision is mostly an output and a mathematical calculation. Importantly, we have not changed our policy. From an accounting perspective, we remain in line with our accounting policies and made sure that they were not impacted by COVID. And historically, we've always provided for inventory obsolescence using an estimate of the demand and an estimate of the usage. So we've clearly continued to do that. And that's what we've seen the provisions increase because, of course, your estimate of the demand over the last two years has reduced. So it's simple math effectively, and it doesn't necessarily mean that we're going to see more inventory write-offs.

Having said that, clearly, we've also taken some provision, specific provision, as we mentioned in H1, around NAVIO, for instance, as we now the -- we know we're replacing and upgrading with CORI, which is good news. So it's a combination of mathematical output and some very specific provisions that we would use. But as I said, importantly, it's in line with historical accounting policies and ways and the practices we've applied.

Does that answer your question?

Roland Diggelmann -- Chief Executive Officer

Maybe just a quick one on the share price. Look, Michael, I mean, we're looking to you and the investors. You're the experts here. Maybe just one word, just in general, I think there's probably also been a bit of a Brexit overhang in the London Stock Exchange, which is where we're primarily -- our primary quote. But other than that, I believe we have a great opportunity to accelerate growth. I think we have the pipeline. We have the R&D investments behind it. And I'm certainly optimistic that we can deliver growth going forward.

Michael Jungling -- Morgan Stanley -- Analyst

Okay. Thank you. Maybe follow-up on the provision for doubtful debt. So of the $50 million I think that you may have booked in the first half, have you actually used some of that provision? Or have you used a material portion of that provision because you've now called it destroyed, binned, recycled these products?

Anne-Francoise Nesmes -- Chief Financial Officer

You were referring to the inventory here, not the doubtful debt, sorry. You're referring to the inventory --

Michael Jungling -- Morgan Stanley -- Analyst

Not doubtful debt. Correct.

Anne-Francoise Nesmes -- Chief Financial Officer

Yes. So we have indeed scrapped some inventory. But as I said, the majority of the provision is simply driven by inventory levels and usage.

Michael Jungling -- Morgan Stanley -- Analyst

Okay. Thank you.

Operator

Our next question comes from the line of Tom Jones from Berenberg.

Tom Jones -- Berenberg -- Analyst

Good morning. Thanks for taking my questions. I have two really. The first was just to dig a little deeper on the margin outlook. I think all the FX and M&A effects are very clear. But you mentioned in your prepared remarks that you expect further ongoing headwinds from COVID on the gross margin, but to be able to offset some of that through further temporary cost savings.

I'm not sort of asking for a specific number, but it would be helpful if you could give one. But ballpark, where do you see the net of those two things on margins in 2021? Are we talking minus 50, minus 100, minus 200? Some kind of color would be helpful.

And then the second question is just on cash and capital deployment really. You're sitting on quite a massive part of cash, which obviously isn't generating much of a return at the moment and is costing you something. I can understand why you would sell that much liquidity in the peak of the COVID outbreak. But we're coming toward the end of that, the pressure to deploy it must be building somewhat. So maybe you could just give us some color on kind of when you think you might be able to put that money to work? And also how much of it you think you might put through capex and how much will go on M&A?

And then a sort of sub-question to that is I was surprised to see capex actually increase in 2020 versus 2019. Most Medtech companies are kind of reined back on their capex expenditure in the pandemic. So maybe you could just explain where all that money went in 2020? I expect a positive benefit from it.

Anne-Francoise Nesmes -- Chief Financial Officer

Thank you, Tom. So quite a few areas to cover. I'll take the first around growth -- your first question around gross margin. Clearly, gross margin is driven by two things; one, the revenue growth; and the second, our production level, the cost, etc. And whether it's gross margin or trading margin, it's important to understand that they will recover as revenue recovers and as we drive revenue growth. So clearly, the investments we're making behind R&D, M&A innovation is to drive growth and will support trading margin over time.

Now in terms of the gross margin and where we expect it to be in 2020 -- 2021, sorry, there'll be -- we're signposting a continued impact from COVID due to reduced production levels. And if you refer back to what we were discussing, our view is COVID will continue to impact in 2021, the first half in particular. And therefore, as part of that, it means we've got less production. And certainly, that impacts the gross margin, which is what those production inefficiencies has in part what you see in 2020. And the impact in 2020 was material up to 400 basis points. So I'm not signposting something as material, definitely not, but just to give you a perspective that there's a negative operating leverage.

Similarly, versus 2019, you need to bear in mind that you've got two years of price mix, two years of price cost. And that's why we're saying, we will -- we're implementing our second efficiency program, but it will just enable us to offset the cost increase and the production inefficiencies that we see. So that's why there's a small headwind in gross margin. Quantifying it will depend on the bounce back and the speed of the recovery, but we're just signposting that.

So in terms of the cash and capital deployment, it's fair to say that we have -- we're in a strong liquidity position. And we wanted to do so at the beginning of the pandemic, we wanted to make sure, like most businesses, we were in a good position. We're highly cash-generative. Therefore, as we recover, cash come through.

Our capital allocation policy has not changed. We're, first and foremost, reinvesting in growth. We'll continue our progressive dividend policy. And then importantly, we've talked about the M&A tuck-in, and that's where we'll continue to see the use of the cash. So we believe we're well funded to execute our strategy.

Now in terms of [Speech Overlap] Yes. Sorry, go ahead.

Tom Jones -- Berenberg -- Analyst

Sorry. I was going to remind you of the third question.

Anne-Francoise Nesmes -- Chief Financial Officer

I was going to get there, in terms of capex. So in terms of your third question, capex, which I was just moving on to, clearly, we've maintained capex in 2020. And we are committed in terms of the main driver of capex increase in 2020 and 2021 is our investment behind our Malaysia factory. So importantly, we're investing in our manufacturing network. We're investing in a lower cost base operation in Malaysia, and that's where you see ramping up in 2020 and 2021. And therefore, in 2021, you should expect the capex to continue at a slightly higher rate than historical, probably around 8% or 9% of revenue, from memory.

Tom Jones -- Berenberg -- Analyst

Perfect. And maybe just a follow-up question on the cost-saving program. Obviously, you're new to the business, but Smith & Nephew sort of had ongoing restructuring programs for pretty much as long as any of us have been covering this, which for me is pushing up toward 15 years now.

When you came into this business, how easy was it to find further savings? I think ballpark, this must be the sixth or seventh restructuring program Smith & Nephew has undertaken in the last 20 years. Were they fairly obvious to you? Or did you really have to dig deep into the business to try and find further cost savings? I guess the question I'm asking is really what's the disruption risk related to this next cost-saving program?

Anne-Francoise Nesmes -- Chief Financial Officer

So I guess, first, I'll step back and say if it's continuous, I think it is good practice for any business to constantly review its cost base, understand where are the opportunities in terms of continuous improvement and perform better. So it should be something every business look at because there's always a better way to do things and a more efficient way.

I think it's important for us at this point in time as well in terms of freeing up resources to reinvest behind what will drive growth. So clearly, efficiencies help us to reinvest and sustain growth.

In terms of the program here very much centered around operations, we have a really great team working behind it. It is complex. As I said, it will take time. Some of it is under way in terms of looking at our geographical footprint. We've already implemented some of the restructuring or consolidation of our distribution centers, and therefore, we can mitigate any risk to supply. So I don't see as a disruption risk. And I think the team is well under way and can implement it very safely. And as well, you mitigate risk by either building supply or running in parallel for a period of time.

Tom Jones -- Berenberg -- Analyst

Okay, perfect. That's very helpful. Thank you very much.

Operator

Our next question comes from the line of Kyle Rose from Canaccord.

Kyle Rose -- Canaccord -- Analyst

Great. Thank you very much for taking the questions. Three for me, and I'll ask them upfront. First, on the CORI product, you're talking about strong underlying demand. Just wanted to kind of level set expectations, how should we think about the timing of when CORI can actually impact underlying procedural throughput across your knee, eventually, your hip business? So when will that start to impact? I think you talked about shifting contracting structures. Just maybe help us understand, are you tying more to utilization? Just trying to understand when that will drive your ortho implant volumes.

Secondarily, on the U.S. Knee growth, I appreciate the commentary with respect to not having the cementless product. It sounds like that's going to come in the second half. Maybe just help us understand, do you believe that you're underperforming your peers more on a price in an ASP perspective? Or have you actually lost share in implant volumes?

And then from a guidance perspective, I mean, I appreciate the uncertainty, particularly given the pandemic is still very ongoing. But some of your peers have at least provided some more near-term guidance. So I was hoping you could perhaps provide a little bit more commentary with respect to how you think about the Q1? When I think about two of the largest ortho peers, they've talked about maybe Q4 trends continuing into the Q1, maybe low to mid-single-digit declines year-over-year in the first quarter, improving as we move forward. So maybe just help us think about the near-term impact from a guidance and a modeling perspective, maybe less so given the uncertainty for the full year.

Roland Diggelmann -- Chief Executive Officer

Yes. Thank you. Great questions. On CORI, I think we should start to see the impact fairly soon. It is obviously a bigger rollout for us. And we are -- of course, the challenge with the rollout is the learning curve that this differentiated solution brings. And this, of course, has been impacted by the ability to go see customers to have events, which are not online only, but more physical events. But I think we should start to see this impact soon as we continue to roll out CORI. And as you said, as we also continue to provide different contract options, I would say, just nothing very dissimilar from what is common in the marketplace, whether you can -- whether you buy your system, whether you lease a system, whether you place a system, I think that is what's customary across the industry, not for robotics, but for instruments at large.

Now there is, of course, a connection between CORI impact and the U.S. Knee, the porous or the cementless knee launch, because as you would expect, both will feed on one another. When I look at the knee performance in the U.S., I think it is both. I think it is some loss in volumes. But also, it is a loss in price because cementless typically commands a higher price in the market. That's always been the case and that, I believe, will continue to be the case, very specific to the U.S., of course, because it is a different situation in Europe and in Asia as well.

On the guidance on Q1, I'll try to give you some insights into what we're seeing right now. I think we did indeed see a continuation of the some trends in Q4, clearly impacted by COVID and by the ongoing or even renewed restrictions across the U.S. and some European markets. This is, I think, the biggest impact that we're seeing. Again, once the restrictions are lifted, we believe there will be a lot of pent-up demand and there will be a good opportunity for us to just be a big part of this rebound.

In addition, of course, what we are seeing now in the U.S., and that's just very recent is, of course, again, some impact from the weather patterns that we've just seen especially in the southern part of the U.S. where, with the weather, a lot of elective surgeries have had to be canceled. So this is very temporary. I don't think it will be a big impact, but it will impact, of course, the February numbers.

So that's kind of the kind of color I can give to Q1. We expect a recovery in Q2. And then as we mentioned, we expect a bigger recovery once we have broader rollout of vaccines, once we have lifting of restrictions, once we have warmer weather in the Northern Hemisphere and once we have a bit of control over the mutant viruses in the second half of the year.

Kyle Rose -- Canaccord -- Analyst

Thank you.

Operator

Our next question comes from the line of Kit Lee from Jefferies.

Kit Lee -- Jefferies -- Analyst

My first one is just on your Sports Medicine and Extremities portfolio. Just given that you've done an acquisition of the Integra's Extremities business, where do you see the biggest gaps today in that portfolio and maybe the in general sports medicine portfolio as well? Is there anything lined up in the pipeline to fill the gap?

And then my second question is just around the trading profit margin. I think you've previously given the guidance on the midterm margin outlook. So I think based on the 2021 guidance, can you just help us think about the midterm margin level now and how would that compare to the 2019 level? Thank you.

Roland Diggelmann -- Chief Executive Officer

Thank you, Kit. On the ENT, I don't think we have any gaps. But ENT, as you know, is a fragmented heterogeneous market. What we have seen, of course, is a slow start of our Tula Solutions simply because of COVID and the restrictions. It meant less mobility, meant less infections among children and certainly, a lot of reluctance from parents to go into ENT wards. Now this is temporary. I'm very, very convinced that we will have great success with Tula and ENT.

In Sports Medicine, I really don't think we have any gap. I think we have probably the most complete portfolio in the industry. We have a great combination now of AETs, the Tower, our INTELLIO Integrated Tower, along with Joint Repair Solutions, a great product with REGENETEN, in rotator cuff and shoulder and a historically strong portfolio around knee and meniscus. So I think it will be about leveraging what we have, continuing to invest in new solutions, in complementary solutions, internal developments and making sure that we continue to progress with the integrated tower and all the benefits it delivers across all the functionalities.

So I really don't think we have gaps there. But of course, we continue to look also for outside opportunities that would then complement the portfolio.

Anne-Francoise Nesmes -- Chief Financial Officer

And if I may here, just to clarify that the Integra acquisition doesn't all roll in -- roll up in the Sports franchise. It rolls up as an extremity under Trauma and Orthopaedics, just to make it clear.

Kit Lee -- Jefferies -- Analyst

Yes. Maybe just a follow-up on Extremities then. Do you still see some gaps in that business and maybe in the Trauma business as well? Or is that pretty much done now with the Integra acquisition?

Roland Diggelmann -- Chief Executive Officer

Integra, certainly or the Extremities, for one, I think, fill the gap, if you so want, but also its highly complementary, of course, to the Hip and Knee business. So we were looking for an extremity solution for some time and very, very pleased with the Integra asset. I think the real leverage will start to come in '22 when we have the new shoulder implant that is under development that will be launched.

So for now, we're focusing on the integration. I don't see any particular gap there, nor do I see any on the Trauma line. I think we've traditionally always had a very strong nailing system. We -- now with EVOS, we have the plates and screw system for small bones, small fragments. And we're launching this for the large bones.

So I think we're very complete. And then we're also working on the spatial frame, so the external fixator. So I think overall, a good portfolio in Extremities to come and a very good portfolio in Trauma already existing.

Anne-Francoise Nesmes -- Chief Financial Officer

And if I may pick then your initial second question around trading margin. Clearly, our priority is to drive growth, and that's what we focus on. And revenue growth will, in time, deliver margin growth.

Now clearly, the -- we are focusing on efficiency programs, which also will enable us to sustain margin expansion and longer-term improvement. But in terms of guidance, we haven't given a specific target. The margin will recover as we recover from COVID. And we would expect you to get back into the low 20s as we come out of COVID and revenue comes back. But as I said in the longer term, the focus to drive margin has got to be driving the top line, and that's what we're doing in investing behind R&D and M&A.

Kit Lee -- Jefferies -- Analyst

Okay. That's helpful. Thank you.

Operator

There are no further questions on the line. Please continue.

Roland Diggelmann -- Chief Executive Officer

If there are no further questions, I would like to thank you all for your interest. I hope to speak to you soon. Hope to see you soon at some point, not-so-distant future. And again, thank you for dialing in. Have a good day.

Duration: 61 minutes

Call participants:

Roland Diggelmann -- Chief Executive Officer

Anne-Francoise Nesmes -- Chief Financial Officer

Lisa Clive -- Bernstein -- Analyst

Michael Jungling -- Morgan Stanley -- Analyst

Tom Jones -- Berenberg -- Analyst

Kyle Rose -- Canaccord -- Analyst

Kit Lee -- Jefferies -- Analyst

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