Steris (STE) Q1 2027 earnings call transcript

Thank you, Nick, and good morning, everyone. Speaking on today's call will be Karen Burton, our Senior Vice President and CFO, and Dan Caressio, our President and CEO. And I do have a few words of caution before we open the conference. This webcast contains time-sensitive information that is accurate only as of today. Any redistribution, retransmission, or rebroadcast of this call without the express written consent of service is strictly prohibited. Some of the statements made during this review are or may be considered forward-looking statements. Many important factors could cause actual results to differ materially from those in the forward-looking statements, including without limitation those risk factors described in Steris's securities filings. The company does not undertake to update or revise any forward-looking statements as a result of new information or future events or developments.

Steris's SEC filings are available through the company and on our website. In addition, on today's call, non-GAAP financial measures, including adjusted earnings for a diluted share, adjusted operating income, constant currency organic revenue growth, and free cash flow, will be used. Additional information regarding these measures, including definitions, is available in our release, as well as reconciliations between GAAP and non-GAAP financial measures. Non-GAAP financial measures are presented during this call with the intent of providing greater transparency to supplemental financial information used by management and the board of directors in their financial analysis and operational decision making.

With those questions, I will hand the call over to Karen.

Thank you, Julie, and good morning, everyone. It's my pleasure to be with you this morning to review the highlights of our first quarter performance. For the first quarter, total as-reported revenue grew 7%. Constant currency organic revenue grew 6% in the quarter, driven by volume as well as 190 basis points of price. Gross margin for the quarter was 46%, up 70 basis points versus the prior year.

Margin expansion was driven by price and favorable productivity, which were somewhat offset by inflation. Gross tariff costs, excluding refunds, were $14 million in the first quarter. As a reminder, tariffs were $12 million in the first quarter of last year.

Tariff refunds of $4 million were received in the quarter. So on a year-over-year basis, net tariffs were favorable $2 million.

For clarity, tariff refunds are not being allocated to our business segments, but instead are booked in corporate to enable business segment analysis.

EBIT margin for the quarter was 23.8% of revenue, an increase of 100 basis points versus the first quarter of last year. The gross margin improvement, coupled with favorable currency and operating cost discipline, drove the EBIT margin expansion in the quarter. The adjusted effective tax rate in the quarter was 25.9%, an increase of 23.5% in the first quarter of last year.

The year-over-year increase was driven primarily by unfavorable discrete items. Adjusted net income in the quarter was $253.4 million. Earnings per diluted share were $2.59, an 11% increase over the prior year. Higher margins more than offset the increase in tax expense.

Capital expenditures for the quarter were $87.5 million, and depreciation and amortization totaled $123.8 million. We ended the quarter with a strong balance sheet, reflecting $1.9 billion in total debt, Gross debt to EBITDA at quarter end was approximately 1.1 times, well below our targets of two to two and a half times.

Free cash flow for the quarter was $279.6 million, down from $326.5 million in the first quarter last year. The decline in free cash was driven primarily by a lower contribution from working capital, despite improvement in net income. Share buybacks in the first quarter totaled $100 million, leaving us with $900 million under our current authorization. We also announced our 21st consecutive year of dividend increases last week, with a $0.06 increase to $0.69 per quarter as we continue to prioritize dividend growth.

With that, I will turn the call over to Dan for his remarks.

Thanks, Karen, and good morning, everyone. Thank you for joining us to hear more about our first quarter of 2027 performance and our outlook for the remainder of the year. Karen covered the quarter at a high level, so I will add some commentary on our segments. Starting with healthcare, constant currency organic revenue grew 6% for the first quarter. Our performance reflected stable underlying demand, while our commercial teams continue to drive meaningful growth across the healthcare segment.

The strength of our portfolio continues to enable us to help our customers navigate a complex operating environment. Our service team continued its streak of outperformance, growing 10% in the first quarter. Consumables grew 9%, benefiting from increased customer consumption driven by share gains and procedural growth in endoscopy. Healthcare capital equipment revenue increased 1% for the quarter, with growth impacted by the timing of shipments.

Orders remained solid, with 4% growth in the first quarter, and our ending backlog increased to $444 million. EBIT margins for healthcare in the quarter increased 60 basis points to 24.8%, with volume, pricing, positive productivity, and favorable mix, somewhat offset by inflation investments in the business and tariffs Turning to AST constant currency organic revenue grew 5 for the quarter with 6 growth in services As anticipated against difficult comparisons, services volume remained light in the quarter. Global demand remains a bit soft as customers continue to manage down existing inventory. EBIT margins for AST were 48%, a decrease of 60 basis points from the first quarter of last year, as additional pricing was more than offset by increased depreciation and slightly lower productivity.

Constant currency organic revenue increased 8% for the life sciences group in the quarter. Supporting that growth, capital equipment grew 17%, and consumables increased 8%. Services grew 2%. Backlog at quarter end was about flat with prior year at $110 million. Margins were 42.1%, a decrease of 140 basis points, as pricing and volume were more than offset by unfavorable productivity and inflation. Before we shift gears to Outlook, I want to comment on the announcement we made yesterday that we will be investing $600 million to build a new formulated chemistry center of excellence in North Carolina.

As noted in release, this is our largest investment in our history in a single manufacturing site. We will be building two facilities totaling 600,000 square feet under roof that will include manufacturing, R&D, and distribution. The facility will produce high-performance infection prevention and contamination control chemistries used by our healthcare and pharmaceutical customers across the globe. This investment strengthens our healthcare and life sciences formulated chemistries business, which together generate more than $700 million in revenue.

These products are high growth, high margin, and highly regulated. They play an essential role in helping our customers deliver safe, compliant outcomes for patients.

This investment positions us to scale with our customers, supports increasing demand, and sustains growth in these strategically important portfolios over the long term. The facility is expected to become operational in two to three years in a phased approach, beginning with distribution. Upon completion, we expect to transition the work from our St. Louis, Missouri, and Plymouth, Minnesota, chemistry manufacturing and distribution sites and close those facilities.

When finalized, the formulated Chemistry Center of Excellence will allow us to accelerate innovation, expand capacity, and optimize our U. S. chemistry's manufacturing and distribution network. As a result, we announced today a restructuring program with anticipated pre-tax restructuring charges of approximately $55 to $70 million, consisting of approximately $40 million to $50 million of cash expenditures and approximately $15 to $20 million of non-cash charges.

We anticipate that less than $10 million will be booked in fiscal 2027. This investment will generate an ROIC of over 10% within three to five years of opening, and it is essential to our long-term growth and profitability.

Shifting gears to outlook, based on our first quarter results, our expectations for the remainder of the year, we are maintaining our original outlook for fiscal 2027. This includes as-reported revenue growth of 7% to 8% and constant currency organic revenue growth of 6% to 7% for the total company. Our fiscal 2027 earnings per share outlook is also unchanged at $11.10 to $11.30, growth of 9% to 11% over fiscal 2026. While the total cost of the North Carolina facility is anticipated to be $600 million, the impact on fiscal 2027 is expected to be approximately $75 million in additional capital spending. As a result, CapEx is now anticipated to be approximately $450 million in fiscal 2027. Free cash flow is now expected to be $800 million, as the strong performance in the first quarter is helping to offset the additional CapEx spend for the year.

For your modeling purposes, the investment in North Carolina will spread over the next three years. As of now, we expect the project to add approximately $350 million in capital spending into fiscal 2028 and the remaining $175 million in fiscal 2029. The project is in early phases of development, and we will provide additional updates on timing as they become clear. Thank you to all of our associates for continuing to do what we do best, focusing on our customers and striving to do a little better each day. Thank you, and that concludes our prepared remarks for the call. Operator, would you please give the instructions so we can begin the Q&A?

Yeah, thanks, Brett. This is Dan. You know, like you said, tough comps in the first half last year. We expect that to linger a bit. But, you know, we get into easier comparisons as we started seeing destocking in Q3. we would assume we'd see acceleration at that point and the growth rates of AST. Nothing has changed in the fundamentals, but coming out of the gate last year, 13% in the first six months has somewhat tamped down the growth right now.

Yeah, let me rephrase that or clarify. We've seen higher growth in endoscopy in terms of procedural growth. And, you know, we have about a third of our healthcare franchise is correlated to endoscopy. So it's helping us. And we are gaining share in that space, I can assure you, both in the equipment side with the automatic endoscope processors, which are driving solid growth of our chemistries or dedicated chemistries, as well as the services surrounding the repair of endoscopes and different instruments.

Thanks so much.

Thanks, Patrick. I'll take the first one. I would love to not talk about tariffs as well. The gross margin is up absent tariffs. We got favorability from price, productivity. The tariff refunds did help us offset some of that cost. It's included in the gross margin.

But our true tariff costs were $14 million in the quarter. And I guess I wouldn't take those out. They're not going anywhere.

And then, Patrick, this is Dan. Thanks for the question. relative to the chemistry expansion. You know, if you look back when we acquired Cantel, with Cantel they had a large chemistry manufacturing facility in Minnesota, and we have our large facility in St. Louis, Missouri. The problem is that neither are really expandable, and both are going to be bumping up against the upper limits of capacity in the future.

And in order to do anything, we were going to have to do something greenfield. So once we decided that and the consolidation was imminent, And then we started determining what the location would be. And based on distribution efficiencies and access to talent, especially in the STEM world, we centered it on North Carolina. So this factory will be the factory of the future for us. There's going to be significant automation.

It's going to look and feel like a pharmaceutical clean room. It's going to be very impressive.

You know, we haven't seen any slowdown whatsoever, and we see strong growth, especially in the ASC market, and in particular, as I mentioned before, in the area of endoscopy, which carries a lot of weight, you know, with Starris in terms of our procedure growth impact. I understand and we are very involved in the conversation with our customers about the challenging environment that they are working in today and will work in the future as it relates to payment.

But we do not see an immediate or long-term impact in terms of procedure. And so as a result, we feel confident in the resiliency of our customers for the long term.

Yeah, you know, it's interesting. When you talk about onshoring, it's not just a move to the U. S. There's localization going on globally as tariffs become more of a play, you know, in Europe and in the U. S. And so you'll see some duplication of manufacturing sites, whereas maybe in the past you might have one site globally that is focusing on one pharmaceutical product. As a result, that's good for us because it creates need for expansion or augmentation of the manufacturing footprint, which requires typically the tools, you know, sterilizers, washers, things like that, to go into those aseptic manufacturing environments, as well as it gives us more at-bats and opportunities to install our chemistries into the cleaning processes.

So it is happening. It's not a revolution, you know, but anytime there's disruption or change in manufacturing, generally that's a good opportunity for us.

Sure thing.

Yeah, so we modeled it so we would expect it through Q2 and then see a ramp in AST in the second half of the year. That's what's playing out, you know, for the most part, and we would expect that to continue and start to see improvement, I would hope, by the end of the second quarter, and definitely material improvement in terms of performance by Q3.

Yeah. Okay, thanks, Jason. Yeah, on tariffs, you are correct. We received $4 million in a quarter. The total that we have potentially available is about $27 million.

24 of that is eligible for claim under the Phase 1 and Phase 2 claim processes. we have submitted all of those claims. So far, what we're seeing is the initial phase one refunds coming in. In terms of restructuring, that's really the cost of shutting down and consolidating the old facilities. So, all of those benefits are built into what we expect in the new facility, the benefits of consolidation and modernization.

Initially, it'll be cost neutral, but over time as we drive scale through the operation, we'll get considerably more leverage out of it by having the combined volume all in one location. And we're also deploying significant amounts of automation to the process, which does increase the front end cost, obviously, but our labor requirements are going down dramatically in order to operate the facility.

Thanks, Mike. This is Dan. I'll answer this, and maybe Karen wants to add to it. In terms of the modeling, yes, we still fully expect AST to deliver in the 7% to 8% range. No change there. In terms of the builds that we have coming online, the biggest driver is going to be recovery from inventory destocking, going back to more normalized volume coming through the facility.

Those builds facilitate that, but that's obviously baked into our number in terms of how we understand it. And the incremental depreciation with bringing those online is built into our modeling, and it's at pretty equal pace over the course of the year. So you will see depreciation built in that segment.

I mean, there's been a change, you know, that's been promoted now over the last couple of years about the early age of detection that has shifted down below 50 years now. So more people are eligible or being pulled in for endoscopies. I think there's more awareness around colon cancer at this point, and it's driving maybe some intake as a result. So, yeah, I can't sit here and tell you that it's sustainable at the high level that it's at right now, but what we saw was a really strong quarter in endoscopy, and we also saw that amongst some of our other peers that play in the same space.

And based on the information we have from our service organization and everything else, we're happy with the growth we're seeing there.

Yes, sir.

Thanks, Mike. I appreciate the question. It's early development right now. We're very excited about the technology. I do think there's a world in the future where there's some AI or robotic assist that's meaningful in the SPD. As we know, there's a huge challenge of labor in that environment, and there are certain tasks that over time could be automated, like any other process.

But, you know, we're working hard on what's fairly nascent right now, and when we have something more material to talk about, we will do that. But at this point, it's just early days.

Yeah, so the capital is typically – they're electron beam accelerators that we sell to MedTech customers typically or other applications for electron beam.

It's a lumpy business because these projects can be anywhere from $2 to $10 million a unit, even more. So in a quarter where we don't ship a unit, you see a huge change versus prior period if we shipped a unit. You know, the total revenue of the equipment businesses, I mean, it fluctuates, but call it somewhere between $18 and $30 million a year.

And, you know, so it's just purely timing, and it's too small to really spend any time on.

Yeah.

Thank you all for taking the time to join us this morning. Look forward to catching up with many of you offline and on the road later this fall.

The conference has now concluded. Thank you for attending today's presentation. You may now disconnect.