Invacare Corp (IVC) Q1 2021 Earnings Call Transcript

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Invacare Corp (IVC)
Q1 2021 Earnings Call
May 7, 2021, 8:30 p.m. ET

Contents:

• Prepared Remarks
• Questions and Answers
• Call Participants

Prepared Remarks:

Operator

Good morning, ladies and gentlemen, and thank you for standing by. Welcome to the Invacare First Quarter 2021 Conference Call and Webcast. [Operator Instructions] This conference is being recorded. Thursday, May 6, 2021. I will now turn the conference over to Lois Lee, Invacare's Director of Treasury, Investor Relations and Corporate Communications. Please go ahead, ma'am.

Lois Lee -- Director, Treasury, Investor Relations & Corporate Communications

Thank you, Emma. Joining me on today's call from Invacare are Matt Monaghan, Chairman, President and Chief Executive Officer; and Kathy Leneghan, Senior Vice President and Chief Financial Officer. Today, we will be reviewing our first quarter 2021 financial results and providing investors with an update on our full year outlook. To help investors follow along, we have created slides to accompany this webcast. For those dialing in, you can find a link to our webcast slide at invacare.com/investorrelations. Further information can be found in our SEC filings. Before Matt begins, I'd like to note that during today's call, we may make forward-looking statements about the company that, by their nature, address matters that are uncertain.

Actual future results may differ materially from those expressed in our statements today due to various uncertainties, and I refer you to the cautionary statements included on the second page of our webcast slide and our first quarter earnings release. For an example of items discussed on today's call that are considered to be non-GAAP financial information, such as constant currency net sales, constant currency SG&A, free cash flow and adjusted EBITDA, please see the notes in the appendix of our webcast slides and in the related reconciliations in the slides in the earnings release posted on our website. I will now turn the call over to Matt Monaghan.

Matt Monaghan -- Chairman, President & Chief Executive Officer

Thank you, Lois, and good morning. Starting on Slide three. We entered 2021 with strong demand for lifestyle and respiratory products and strengthening demand for mobility and seating products. We see these trends continuing into the second quarter. As guided, our first quarter results were impacted by the pandemic, which has continued to affect healthcare access, while the same period last year was not affected by the pandemic. In addition, global supply chain issues were more extensive than originally expected, causing rolling back orders and elevated lead times. As a result, reported net sales decreased 10.2% as we accumulated a $15 million backlog of orders, which did not ship and become revenue in the quarter.

We expect to sell-through this elevated backlog within the next two quarters as lead times normalize. Supply chain disruptions in the quarter also caused temporary manufacturing inefficiencies and affected SG&A leverage, resulting in lower adjusted EBITDA. In summary, while we faced some near-term challenges in the quarter, the results were largely in line with our expectations given the prevailing market conditions. Importantly, for the full year, things are shaping up well for us as we're seeing strong sequential trends and improving order volumes for all product categories in all regions. We typically provide products for chronic healthcare conditions, and we expect people whose needs were not met in 2020 to be seeking solutions this year. And we're seeing this pent-up demand turn to orders.

Coupled with new demand in 2021 and a fleet of new products, we expect continued strong interest from customers. We have increasing capacity in all regions to provide greater output, and we've taken many actions to reduce the impact of continued global supply chain issues such as increasing inventory on hand. The team has done a great job in navigating the challenges of early 2021. As a result of the trends in the second quarter and the positive momentum we've seen to date, we're reaffirming our full year financial guidance for revenues, profitability and free cash flow. Digging a bit deeper on slide four, we have a lot of confidence in the outlook for full year 2021 as we continue to see strong demand for our product, launch innovative new products, convert our elevated backlog into sales and mitigate supply chain disruptions, which will expand gross margins and leverage SG&A. As a result, we expect to drive revenue growth and improve profitability throughout the year.

We remain focused on supporting our customers' growth and engagement in their communities where they serve end users. To drive long-term revenue growth, we continue to launch new products with compelling value in every category. Recent mobility and seating additions include a new rear-wheel drive power wheelchair for North America and Asia Pacific, which adds to the global portfolio of recent updates, all of which have our most modern seating systems. Our new Alber power add-on devices are more powerful and lighter weight with an intuitive user interface. The lifestyle category is expanding with new products and beds, lifts and support surfaces. And in respiratory, a new stationary oxygen concentrator will launch in the second quarter. Beyond new products, we have a great global commercial team and many new tools to engage with customers for product reviews, demonstrations and ways to explore our portfolio.

As I mentioned a moment ago, second quarter trends are positive in all regions and for all product categories, with continued strengthening demand. In addition, our larger-than-normal back order from sales we didn't get out before the end of the first quarter will help drive growth throughout 2021. As consolidated sales increase and steps to mitigate supply chain shortages become effective, operating efficiencies will improve. In Europe, we'll realize benefits from the 2020 German plant consolidation that will favorably impact 2021. Globally, we'll leverage SG&A with sales growth, enhanced by new IT tools, which will enable this. And in North America, we continue to expand the deployment of our IT solution, which will continue to bring new functionality to customers across our product lines.

Turning to the balance sheet. We are pleased to have opportunistically completed the debt transaction during the quarter which strengthens our balance sheet, providing a clear path to execute our growth strategy for the next few years. We're able to extend our debt maturities to 2026 while simultaneously eliminating virtually all our near-term debt, which Kathy will discuss further in detail. Beyond growth and profit, we continue to expand our focus on ESG initiatives. Our 2020 ESG report is on our website and highlights the efforts to conserve power, choose sustainable energy sources and optimize product materials. We've taken steps to promote and embrace diversity, and we've expanded our Board with growth and culture in mind. It's rewarding to see ESG initiatives aligned with and reinforcing our overall goals to grow the company and serve more customers sustainably. Taken together, these initiatives give us that Invacare is well positioned for growth in 2021 and beyond. I'll now turn the call over to Kathy, who will provide a detailed financial summary.

Kathy Leneghan -- Senior Vice President & Chief Financial Officer

Thanks, Matt. Turning to slide six. Reported net sales declined 10.2% with growth in respiratory products of nearly 15%, more than offset by lower sales of mobility and seating and lifestyle products. Notably, our first quarter 2020 results were not impacted from the pandemic and also included Dynamic Controls, which was divested in March of 2020. Supply chain disruptions led to lower revenues and a higher-than-typical backlog, resulting in unfavorable manufacturing variances and inefficiencies associated with disrupted production, which reduced gross margin. As a result, operating income and adjusted EBITDA decreased given the sales decline and lower gross profit, partially offset by reduced SG&A expense. However, the largest contributor to the decline in operating income over 60% was related to the gain recognized in the first quarter of 2020 from the Dynamic Controls divestiture.

Free cash flow usage in the first quarter, which historically represents our low point, was in line compared to the prior year when excluding the funding of onetime payments. As previously disclosed, these payments are related to severance costs for the German plant consolidation and value-added tax payments deferred from 2020 as well as increased inventory levels at the end of the quarter. Turning to slide seven. As has been the case throughout the duration of the pandemic, sales of each product line were affected differently. Once again, respiratory delivered higher sales, and we continue to see strong demand with an elevated backlog heading into the second quarter. At the same time, sales of mobility and seating and lifestyle products declined due to healthcare restrictions, which limited access to customers and end users.

Lifestyle products were additionally impacted by our long lead time and previously discussed rolling supply chain disruptions. We expect the resumption of growth across all product categories throughout the remainder of the year as the supply chain disruption is resolved and access resumes in key markets. Turning to Slide 8. Reported net sales in Europe decreased 6.8% compared to the prior year. The region continues to be uniquely impacted as key markets have taken stricter reopening measures. And while our customers generally remain open, end user demand has yet to fully return to prior year levels. We continue to see slower demand for mobility and seating products in each of the major markets we sell into, primarily the U.K., France and Germany.

While lifestyle products were flat in total, growth in bed and bed-related products was offset with declines in patient aid and standard wheelchair product categories. Gross profit and operating income were negatively impacted by supply chain disruptions, which led to lower sales volumes and unfavorable operational variances due to the temporarily delayed revenues from the elevated backlog. Turning to Slide 9. Many of the same issues that impacted Europe also impacted North America, which reported a net sales decline of 12.6%. Respiratory sales remained strong, growing nearly 15%, offset by softer mobility and seating and lifestyle sales, with lifestyle being particularly impacted by supply chain disruptions. Importantly, we were still able to maintain flat gross profit as a percentage of net sales. This reflects the work our team has put in place over the past few years to optimize material and logistics costs and bodes well for when sales rebound. Based on the early second quarter results and trends, we continue to see strong demand and elevated sales of respiratory products.

Additionally, the volume and value of mobility and seating quotes are showing clear signs of improvement, both sequentially and year-over-year, a key indicator for future period growth. Turning to Slide 10. Reported net sales in Asia Pacific decreased 29% due to lower sales in lifestyle products, partially offset by growth in mobility and seating products. The first quarter of 2020 includes partial results for Dynamic Controls. And when excluded, reported net sales declined 3.2% from the prior year. Operating loss increased by $2.1 million due primarily to reduced profitability in the Asia Pacific business, driven by revenue decline, unfavorable foreign exchange and the Dynamic Controls divestiture. In addition, corporate all other expenses increased primarily due to higher stock compensation expense. Moving to Slide 11.

As of March 31, 2021, the company had total debt of $298 million, excluding financing and operating lease obligations. In March, we were pleased to have strengthened our balance sheet by opportunistically completing a $125 million convertible note transaction, which extended our debt maturities to 2026. Concurrent with the new issue, we used a portion of the net proceeds to buy capped calls, which mitigate potential shareholder dilution from future conversions of the 2026 notes until the stock price exceeds $16.58. In addition, we retired nearly all of our existing convertible notes due in 2022, leaving less than $3 million outstanding. The company had $86 million of cash on its balance sheet at the end of the quarter, which was sequentially lower but in line with historic first quarter trends, primarily as a result of cash used to fund operations and higher inventory levels.

While we continue to manage working capital tightly to offset near-term logistical challenges, we are investing in additional safety stock to ensure we keep pace with the expected increase in demand and in the event of other potential disruptions. We expect this will normalize over the next few quarters and result in lower inventory levels by the end of the year. Turning to slide 12. Based on the strengthening order demand we are experiencing and with our visibility into the second quarter, we are reaffirming our full year guidance for 2021, consisting of: constant currency net sales growth in the range of 4% to 7%; adjusted EBITDA of $45 million; and free cash flow generation of $5 million. For the full year, we anticipate a significant improvement in profitability, driven by net sales growth from strong demand, gross margin expansion, including manufacturing efficiencies from increased volumes and improved SG&A leverage.

As Matt mentioned, early into the second quarter, we have seen positive trends in all regions and in all product categories as demand continues to strengthen and new order intake remained strong. At the same time, we continue to be challenged by rolling supply chain disruptions. For example, the blockage of the Suez Canal, which delayed the timely receipt of inventory. Based on revenues to date through April of 2021 and projecting those trends for the full quarter, we anticipate constant currency net sales growth in the mid single-digit range for the second quarter of 2021 as compared to last year, with sequential and year-over-year improvement throughout the remainder of the year. Free cash flow may fluctuate by quarter and differ from historic patterns due to the timing of net sales, the collection of accounts receivable and temporarily higher inventory levels, but is still expected to generate $5 million for the full year. I will now turn the call back over to Matt.

Matt Monaghan -- Chairman, President & Chief Executive Officer

Thanks, Kathy. Turning to slide 13. I'd like to start by thanking our associates who continue to meet every challenge that we've encountered the last year and longer. The team is very engaged supporting customers and driving results. We're proving that regardless of the issue, we're resilient in the face of unforeseen challenges, and our organization is aligned to drive sustainable growth.

As we approach the second half of the year, which is seasonally our stronger half, we anticipate more robust growth as pandemic-related restrictions are relaxed and the global supply chain is expected to improve. This is supported by the positive trends we're seeing across our organization and the line of sight we have to revenue growth during the remainder of the year. I'm incredibly excited about the road ahead as we launch compelling products, improve operations and execute our long-term growth strategy. Thanks for your continued support and for taking time for this morning's call. Emma, we'll now take questions.

Questions and Answers:

Operator

[Operator Instructions] We will now take our first question from Bob Labick from CJS Securities.

Matt Monaghan -- Chairman, President & Chief Executive Officer

Good morning,

Bob Labick -- CJS Securities -- Analyst

I wanted to start kind of high-level question. You've done a fantastic job on the balance sheet, on the expenses, taking out expenses and on the new product development. But obviously, for many reasons, the pandemic being one of the biggest, there's been no traction so far on the top line. And I guess, it's pretty easy to see, certainly, that coming back in the near term. Could you take a step back and just talk more about the competitive dynamics? And what gives you conviction that you'll be gaining share with all the new products going forward? So you probably have to break it down by categories a little bit. But just beyond the kind of recovery in the near term from the pandemic, talk about the opportunity for share gains and the competitive dynamic out there, please?

Matt Monaghan -- Chairman, President & Chief Executive Officer

Yes, sure. I think we had a lot of lessons coming into the end of 2019, which probably for everybody seems like forever ago. But with the new products at that time, we learned a lot about what we needed to do with the commercial team and marketing programs, engagement with customers. And we saw that growth in the most recent pre-pandemic quarter, which was first quarter 2020, especially in North America with power mobility where we, at the time, had a very new set of products that had just launched. Then the pandemic hit, and of course, first quarter this year is still heavily impacted by the pandemic, remembering that part of our business has a 90-day quote-to-order cycle.

So even though vaccines are happening, and in some parts of the world, quarantines are being lifted, that's got 90 days trailing timing in North America, and there's still many jurisdictions where we're not fully resolved from the pandemic, particularly in Germany, France, U.K., which are big markets for us in Europe. But in general, Bob, when we look at our opportunities to grow, we look at respiratory, which has been strengthened in response to the pandemic. We have new product refreshments going out in that portfolio for years to come. And we think the improved features and lower total cost of operating those devices for our customers will be a compelling reason to continue buying from Invacare in the long term and grow that part of our business. On the power mobility business, we went through the pandemic absolutely unabated in terms of our R&D efforts, which was really one of the benefits of the breadth of the company's product portfolio. The parts that were going well allowed us to fund R&D and parts that were retracting a little bit during the pandemic.

And so we launched a lot of products last year, and we're launching products this year. Essentially, we'll relaunch the products last year -- that were launched last year this year for anybody who didn't get the full encounter because of quarantine measures through the pandemic. So we think that will add to an especially strong portfolio for our commercial team globally to be in front of customers, engaging with interest and helping their end users find great ways to be independent and have mobility. Those products that are coming out now have really compelling features, great user interface, very intuitive, more powerful, faster, lighter, just all the kind of attributes that end users and customers want. And then on the lifestyles business, long-term care is still largely unopen around the world.

And while we've been doing a nice job fulfilling demand for people who are providing care in home settings, we still have to see the turn back and sales opportunities to address needs of our long-term care operating customers. And there are a lot of benefits of our new products that long-term care customers will have in terms of reducing their worker injuries, back strains and other kind of injuries that happen, taking better care of patients. Newer products are more cleanable, which is obviously very important these days. So we think, as those customers open our mix shifts back to support them, that will support growth. So Europe and North America, which is 95% of our sales, I think, have dynamics that are improving in the marketplaces.

I think respiratory looks like it should grow. Lifestyle should grow in mix and total revenue as we address the customer segment that's been somewhat normal for a year. And mobility and seating, we still see a lot of pent-up demand coming into the market this year and a lot of new products that should help us get more interest with our customers than we've had in the recent past.

Bob Labick -- CJS Securities -- Analyst

Okay. Got it. That's great. And then just kind of following up on that. The other portion that's important for the thesis is the improvement in gross margins. And I think, obviously, in North America in this quarter, quite a nice job of maintaining margins despite the down revenues. So maybe talk about how much room there is to grow gross margins? And what will it take? Is it just operating leverage on higher sales? Is it the new products coming in at higher margin and shifting the mix to the new? Or how are you thinking about getting the gross margin expansion?

Matt Monaghan -- Chairman, President & Chief Executive Officer

Yes. Those are all the ingredients, Bob. I think all of our new products are designed with more value for our customers, which should afford a better value exchange for us, and they're all designed to go more smoothly through our supply chain at higher efficiencies and lower cost. We've got some temporary inefficiencies, especially in the first quarter, as there were a lot of stutter stepping in the factories to deal with the supply challenges that happen on short notice. So you can imagine factory managers maybe not quite having all the parts to complete a day's production in one area and shuffling over to do something else to keep everyone productive and then catching up the following day.

We just had a series of those kind of rolling inefficiencies, which took us a little backwards on variances this quarter. But that will get resolved as the supply chain normalizes globally and we're taking steps to get more inventory, so we're a little less susceptible to day-to-day variances and when things arrive. And then just in generally, although we don't have big plant consolidations planned in the future, we've got a lot of interesting work to do inside the four walls of our factories to get more efficient. And the IT tools that we continue to deploy will help our team make the right decisions, a little more precision to help get cost out. We have a great workforce that's been very diligent in supporting our customers and getting us ready for, I think, what's going to be a really strong year of growth.

Operator

We will now take our next question from Matt Mishan from KeyBanc Capital Market.

Brett Adam Fishbin -- keybanc Capital Market -- Analyst

This is Brett Fishbin on today for Matt. I wanted to start on the broader trends. Just wanted to start on the broader trends in Europe. I think you mentioned some improvement already. So maybe a little bit more color on what you're seeing just given what we've heard about the ongoing pandemic impact in the region and understanding there are differences by country.

Matt Monaghan -- Chairman, President & Chief Executive Officer

Yes. I think probably the most relevant countries to talk about in terms of prolonged quarantines are Germany, France and the U.K., which are probably our top three markets in the European Union that we serve. While our customers are still open, and that's different than in the second quarter last year, so those would be often dealers in municipalities around those countries, customers aren't going to them for the kind of normal healthcare needs that we would expect in the nonpandemic period. So there's more demand than there were at the low points, but still prolonged restrictions that are somewhat affecting us.

We believe pretty strongly that as the weather continues to get nicer, people get vaccinated, that the market will grow quite strongly. People are going to want to get outside. It's been a long time since people have been emulating. There are a lot of foregone product uses last year that will come into the market in the form of pent-up demand and seeking to have solutions for independence and care of this year. And we think it's going to be very strong. We see early trends of that in all the markets. The Nordic markets have been relatively resilient throughout the quarantine. So I don't know that there's a lot of change there.

They administer our kind of products somewhat differently, dispensing those through places that are not normally used for acute care delivery. So people have access to durable medical equipment without having to encounter potential exposure to COVID. And other markets are kind of a mix. But we feel very strongly that the measures that the European governments in Germany, France and the U.K. will get those populations through this, so that as the weather gets nice, things get back to normal pretty quickly. And we saw that in the third quarter last year. A strong example is France, where they went through a period where restrictions were lifted and sales came raging back as people got back into the market to get the devices that they need. So we think that will be replicated pretty shortly here.

Bob Labick -- CJS Securities -- Analyst

All right. Great. And then just wanted to follow up on some of the supply chain commentary. Have some of the investments that you guys have made over the last few years around manufacturing optimization help alleviate some of the headwinds that you're currently seeing? And do you think that they could, going forward, provide some sort of competitive advantage in potentially an increasingly inflationary environment?

Kathy Leneghan -- Senior Vice President & Chief Financial Officer

Well, our team has certainly been well exercised since late 2018 when we were forced to mitigate some short-term tariffs that we fully offset in the meantime. And they did that by looking at alternative sources and figuring out ways to devise our supply chain to be affected despite those increased costs. Those same kind of challenges now with new talent also coming into the organization and new IT tools that help the organization plan better. So we've taken steps like increasing inventory for fast-moving goods so that we're not so susceptible to containers being a day late or two days late, we've got a better buffer. People in every industry have encountered prolonged transit time. So trans-Pacific, transoceanic shipping times have probably doubled in the last year. We plan for that or more than that now. So we're not surprised when it does take that long. Those are relatively routine.

We have great 3PL and logistics partners who were better aligned with in routes of trade. And then just some of the things that settled down that happened during the quarter. We already probably don't talk very much about Brexit. But in the first quarter this year, people remember the pictures of trucks waiting for days in line to cross the English Channel. And those things have all resolved now, and you can get carriage relatively predictably in routes like that. So I think the team and the tools are doing really well, and our global organization is much more attuned to deal with things like this. I think the economy is going to heat up as well predicted by economists and business leaders around the world, and we're facing into that with, I think, the right set of assumptions. So even if it continues, our business shouldn't be as impacted in the future.

Brett Adam Fishbin -- keybanc Capital Market -- Analyst

I agree. Thank you so much for taking the questions. Okay, thanks.

Operator

I will now turn the call back to your host, Matt Monaghan, for closing remarks.

Matt Monaghan -- Chairman, President & Chief Executive Officer

Okay. Thanks, Emma, and thanks to everyone for your time this morning. Kathy, Lois and I are available for any follow-up questions, which you can coordinate through Lois Lee. Have a great day. Thank you.

Operator

[Operator Closing Remarks]

Duration: 27 minutes

Call participants:

Lois Lee -- Director, Treasury, Investor Relations & Corporate Communications

Matt Monaghan -- Chairman, President & Chief Executive Officer

Kathy Leneghan -- Senior Vice President & Chief Financial Officer

Bob Labick -- CJS Securities -- Analyst

Brett Adam Fishbin -- keybanc Capital Market -- Analyst

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