Baxter International Inc. (BAX) Q4 2017 Earnings Report, Transcript and Summary

Good morning, ladies and gentlemen, and welcome to Baxter International's Fourth Quarter 2017 Earnings Conference Call. Your lines will remain in a listen-only mode, until the question-and-answer segment of today's call. [Operator Instructions] As a reminder, this call is being recorded by Baxter and is copyrighted material. It cannot be recorded or rebroadcast without Baxter's permission. If you have any objections, please disconnect at this time. I would now like to turn the call over to Ms. Clare Trachtman, Vice President, Investor Relations at Baxter International. Ms. Trachtman, you may begin.

Thanks, Canda. Good morning, and welcome to our fourth quarter 2017 earnings conference call. Joining me today are Joe Almeida, Baxter's Chairman and Chief Executive Officer, and Jay Saccaro, Baxter's Chief Financial Officer. On the call this morning, we will be discussing Baxter's fourth quarter 2017 financial results, along with our financial outlook for 2018. As a reminder, we have posted a supplemental presentation to compliment this morning's discussion. This presentation, along with the related non-GAAP reconciliations can be accessed on Baxter's external website in the Investors section under Events and Presentations. As previously mentioned, we've reorganized our commercial structure to boost performance, optimize cost, increased speed in the decision making process and drive improved accountability across Baxter. To that end, we will be modifying how we report our quarterly financial sales in segment analysis. This new structure will reflect the current makeup of our commercial operations, and while we recognize these changes will impact their model, we believe this presentation will provide you with more granularity regarding our topline performance by global business units end reason [ph]. To aid you in this transition, this morning we posted reclassified sales schedules for the global businesses for the last three years inclusive of 2017. These schedules can be found in the Investor Section of baxter.com. The regional segment structure will be included in our 10-K filings with the SEC. With that, let me start our prepared remarks by reminding everyone that this presentation, including comments regarding our financial outlook, new product development, business development, and regulatory matters contain forward-looking statements that involve risks and uncertainties and, of course, our actual results could differ materially from our current expectations. Please refer to today's press release and our SEC filings for more detail concerning factors that could cause actual results to differ materially. In addition, on today's call, non-GAAP financial measures will be used to help investors understand Baxter's ongoing business performance. A reconciliation of the non-GAAP financial measures being discussed today to the comparable GAAP financial measures is included in our earnings release issued this morning and available on our website. Now, I'd like to turn the call over to Joe. Joe? José Almeida: Good morning, and thanks for joining us today. I will start with a brief look at our fourth quarter performance, then I will share some thoughts on 2017 as a whole and how we are well positioned to sustain this momentum into 2018 and beyond. Jay will then take us closer look at our 2017 financials and outlook for 2018. We'll close with Q&A. Baxter finished the year with another solid quarter delivering fourth quarter sales growth of 5% on a reported basis, 3% on a constant currency basis and 2% operationally. Operational sales adjust with an impact of foreign exchange, generic competition for U.S. cyclophosphamide, the Claris acquisition and the previously communicated select strategic product exits the company has undertaken. On the bottom line, adjusted earnings per share was $0.64 upto 1% year-over-year driven by strong operational performance, the ongoing impact of our business transformation efforts in a lower tax rate. This performance more than offset the impact in the quarter from Hurricane Maria which reduced our results by approximately $70 million on top line and approximately $0.06 on the bottom line. For full year 2017, Baxter achieved top line growth of 4% on a reported constant currency basis and 5% operationally. Adjusted income from continuing operations up $2.48 per diluted share, an increase of 27% and free cash flow of more than $1.2 billion. Before we discuss some key highlights for 2017, I wanted to take a moment to update you on our operations in Puerto Rico. We've been intently focused on addressing the supply situation in U.S. and the aftermath of the hurricane and the challenging impact it has had on our customers. Our primary goal as always is to ensure we can address the needs of patients and healthcare providers and we have mobilized quarterly [ph]. All of our Puerto Rico facilities are now connected to the electrical grid and we've been ramping up production to pre-hurricane levels. Our expectation is that we will be able to return to more normal supply levels over the coming weeks and as such we expect the residual sales impact of approximately $25 million in the first quarter of 2018. In a related matter as you are likely aware, an aggressive flu season in U.S. coupled with industry-wide supply changes has heightened demand for Baxter's large volume IV solutions which we produce outside of Puerto Rico. As I mentioned in our last earnings call, we have received further FDA approval to import large volume IV solutions from our plant in Cuernavaca, Mexico to help address increased demands from our customers and potentially served new customers in the future. Now turning to some 2017 highlights. Claris acquisition represents an important example of our commitment to enhancing our portfolio and pipeline in our core growth businesses like generic injectable pharmaceuticals. We are rapidly integrating the Claris team, bringing these operations fully online with Baxter's quality systems and looking forward to continued momentum and commercial growth over the long-term. And earlier this year we announced an agreement to acquire two hemostat and sealant products from Mallinckrodt, RECOTHROM and PREVELEAK; both compelling for post additions to our advanced surgical portfolio. From an R&D perspective, we enter into some promising partnerships designed to augment our portfolio and potentially lead to transformative patient care technologies, our organic R&D pipeline is also advancing the several high potential developments. In the U.S. market we received FDA guidance clarifying the regulatory pathway for new home-based peritoneal dialysis or PD, solution generation system that may allow even more patients to experience the benefits of home therapy. And we have initiated the U.S. clinical trials of HDx therapy enabled by TheraNova; a Baxter technology now available in many global markets that is designed to closely mimic the natural clearance of certain molecules during dialysis. Outside the U.S. we begin to limited launch of PrisMAX, our latest technology advanced for acute care therapies in Europe. We anticipate full European launch later this year, also in acute therapies we launched a labeled expansion for oXIRIS, blood purification set in selected markets outside the U.S. This marks the first three-in-one set for use in continuous renal replacement therapies or CRRT and sepsis management protocols. We continue to advance customer focus enhancements with high value technologies across our core portfolio, including our AK 98 hemodialysis system, our FLOSEAL and TISSEEL Hemostatic agents and the SIGMA SPECTRUM infusion system. In 2017 also marked a one million PD treatment used in our proprietary share source telemedicine technology, shared source is foundational rather to the success of our newest automated PD cyclers, AMIA in the U.S. and HomeChoice CLARIA in international markets. Last week we announced FDA approval of Bivalirudin used Baxter's proprietary frozen GALAXY container technology, making it the first and only presentation of this generic cardiovascular inject with a convenient source and premixed solution. These internal and external investments designed to accelerate future growth are balanced along with our commitment to return significant value to our shareholders. Through this end in 2017 we increased our annual dividend rate by 23% but also repurchasing more than $560 million worth of shares. Overall, we are energized by what we accomplished for our stakeholders in 2017 and it has all been made possible by our 47,000 employees globally who are absolutely committed to our mission and the success of our transformation. As we look to our expectations for 2018, increased operational efficiency remains essential and we will continue to identify opportunity to improve operating leverage, at the same time we intensely focus on accelerating top line performance. We know by enhancing our product mix we can drive sustainable gross margin improvement for the company. As schedule [ph] continue to ramp up, our emphasis on new product innovation and business development support this objective. We look forward to updating you on this strategic initiatives, particularly many of our existing and exciting pipeline programs at our upcoming investor conference on May 21 in New York City. In summary, while we have a lot of hard work ahead, as we continue to position for the future, I'm confident that we are up for the task. Now I'll pass it to Jay for deeper dive on the fourth quarter performance and outlook for 2018.

Thanks, Joe, and good morning, everyone. As Joe mentioned, we're pleased with our fourth quarter results, which represented a strong finish to a great year. I'll start by discussing our fourth quarter and full year 2017 results before providing our financial outlook for 2018. Beginning with the fourth quarter, sales increased 5% on a reported basis, 3% of constant-currency and 2% on an operational basis. Key growth drivers for the quarter included a continued momentum across our U.S. fluid systems and renal businesses, as well as strength internationally in nutrition and increased demand for our cytotoxic contract manufacturing services. As previously mentioned, disruptions to our Puerto Rico manufacturing facilities negatively impacted fourth quarter sales by approximately $70 million. On the bottom line, adjusted earnings increased 12% to $0.64 per diluted share. This exceeded our previous guidance of $0.56 to $0.59 per share, driven by operational performance, disciplined management of expenses and a modest benefit from foreign exchange gains on balance sheet positions. Now, I'll walk you through performance by business. I'll speak to growth figures on an operational basis to provide a clearer understanding of underlying performance. As a reminder, operational growth excludes the impact of foreign exchange, U.S. cyclophosphamide, Claris, and select strategic product exits. Global sales for Hospital Products were $1.7 billion, advancing 1% operationally. Breaking this out by business, sales in Fluid Systems were $632 million, up 2% operationally. Performance was driven by strength for large volume IV solutions and IV access set in the U.S. Growth from the quarter was offset by lower sales internationally and impact from Hurricane Maria. Integrated Pharmacy Solutions, or IPS, sales were $602 million, flat to prior year on an operational basis. Sales growth in the quarter was negatively impacted by $56 million from Hurricane Maria which offset increased sales of our premixed injectable drugs in the U.S. and from nutritional therapies internationally, as well as strengthen our hospital pharmacy compounding business. Sales of U.S. Cyclo was $43 million in the quarter and Claris contributed $30 million globally. Moving to Surgical Care, which includes anesthesia and advanced surgery; total sales were $363 million, increasing 3% operationally. Growth in the quarter benefited from increased sales in inhaled anesthetics internationally, and U.S. sales of BREVIBLOC. Also contributing to performance was growth in advanced surgery of 3%. Sequentially, advanced surgery grew 5% as we are beginning to recognize many of the actions we have implemented to improve performance in this business. Fourth quarter surgical care was impacted by lower sales of Transderm Scope as a result of increased competition. Finally, in Hospital Products, sales in our other category were $108 million, increasing 1% driven by favorable demand for the company's cytotoxic manufacturing services. Turning to our Renal business; sales were approximately $1.1 billion, up 4% operationally. Sales in the quarter benefited from solid performance across all lines of the business. Chronic renal therapies, inclusive of PD, in-center HD and renal therapy services rose 3% globally and our Acute Renal therapy's business delivered high-single digit growth globally, driven by balanced growth in the U.S. and internationally. Walking through the rest of the P&L, our adjusted gross margin of 44.3% declined 20 basis points over the prior year; operational expansion due to positive mix, select pricing and business transformation initiatives was more than offset by the impact on lost sales due to Hurricane Maria and a negative impact from foreign exchange. Adjusted SG&A totaled $628 million, increasing 2% on reported basis but declining 1% on a constant currency basis. The positive contribution from our relentless focus on effectively managing our expense base was offset by lower transition service agreement income from Shire and more than two percentage point contribution from foreign exchange. Adjusted R&D spending in the quarter of $182 million increased 20% versus prior year, reflecting our stated intention to accelerate investments in our core growth businesses. Growth in the quarter also reflect the timing of some milestone payments to partners. Foreign exchange contributed 5 percentage points to growth in the quarter. Adjusted operating margin in the quarter was 15.1%, a decline of 30 basis points versus the prior year. Strong operational performance in the quarter was more than offset by the loss of transition service income, foreign exchange and the impact of Hurricane Maria. Net interest expense was $14 million in the quarter. Adjusted other income totaled $24 million in the quarter, primarily reflecting a benefit from foreign exchange gains on balance sheet positions. The adjusted tax rate was 17.7% for the quarter, which reflects approximately $8 million of benefit from the new stock compensation guidance. And as previously mentioned, adjusted earnings of $0.64 per diluted share exceeded our guidance of $0.56 to $0.59 per share, driven by operational strength, expense savings and the gain on foreign exchange balance sheet positions. During the fourth quarter, we repurchased approximately $290 million, or approximately 4.5 million shares. These repurchases were somewhat offset by option-related dilution. Now turning to full year 2017. Sales increased 4% on reported basis; 4% at constant currency and 5% on an operational basis. On the bottom line, adjusted earnings increased 27% to $2.48 per diluted share driven by operational strength, the ongoing benefit from our business transformation efforts and a favorable tax rate. Moving quickly through the rest of the P&L; our adjusted gross margin of 44.8% increased by 90 basis points over the prior year reflecting favorable product mix, improved pricing in select areas of the portfolio and manufacturing efficiencies. Adjusted SG&A totaled approximately $2.4 billion, decreasing by 4% and adjusted R&D spending totaled $617 million, an increase of 9% versus the prior year. Adjusted operating margin for the year was 16%, a 240 basis point increase versus the prior year and at the high end of our expectations. Net interest expense was $55 million, and adjusted other income totaled $47 million. The full year adjusted tax rate was 18% which included the benefit of approximately $56 million related to new stock compensation guidance. And finally, adjusted earnings of $2.48 per diluted share exceeded our guidance of $2.40 to $2.43. Before turning to our 2018 outlook, I will provide some commentary regarding our cash flow performance. On a full year basis, we have generated free cash flow of more than $1.2 billion, an improvement of more than $300 million versus the prior year. Growth was driven by underlying operational performance and lower CapEx along with the continued focus on improving the company's working capital performance. Let me conclude my comments this morning by providing our guidance for the first quarter and full year 2018. As previously mentioned, we have updated our external sales reporting structure and I will provide guidance consistent with this new format. Globally we expect 2018 full year sales to increase between 6% to 7% on a reported basis and approximately 4% on both a constant currency basis and an operational basis. I would like to point out some key assumptions reflected in our full year sales outlook which include approximately 250 basis points of favorable foreign exchange contribution. Approximately $25 million of negative sales impact from Hurricane Maria in the first quarter. Approximately $145 million from Claris sales is compared to $57 million in 2017. Full year U.S. cyclophosphamide sales of approximately $95 million versus $185 million in 2017. We have for the most part anniversary select strategic product exits we have undertaken and leveled while we will continue to optimize the portfolio, we will no longer be adjusting sales for these exits. And finally, this guidance does not include any contribution from the two hemostat and sealant products from Mallinckrodt. We continue to expect this transaction to close in the first half of the year. In terms of our new external reporting structure we will no longer be classifying sales by the two segments of hospital products and renal. Sales will now be broken down into six global businesses and the segment analysis we provide will be reported by our three regions; Americas, EMEA, Europe, Middle East and Africa and Asia Pacific. As Clare mentioned, we have posted schedules on our website reclassifying sales into the new global business unit structure. Sales guidance has been provided in the new structure on a constant currency basis starting with Renal Care which includes our peritoneal dialysis, in-center hemodialysis and renal therapy services; we expect growth of 3% to 4%. Our next global business, medication delivery which includes infusion systems, large and small volume IV solutions, and our reconstitution product such as Mini-Bag Plus, we expect to see this area to grow 6% to 7%. The pharmaceutical business which includes our broad generic injectibles portfolio, anesthesia and critical care products and our hospital pharmacy compounding services conducted outside the U.S.; performance in this business is expected to be flat to 2017 given some sales we recognized in 2017 that are not expected to repeat in 2018 along with increased competition for select products. Moving to our next global business, nutrition, which was previously part of integrated pharmacy solutions; we expect sales growth of 4% to 5%. For our advanced surgery business we expect sales to increase 3% to 4%, for the acute therapies business we anticipate growth of 8% to 9%, similar to 2017 levels. Finally, in the other business which primarily includes our contract manufacturing services, we expect low single-digit decline as 2017 sales benefited from a customer stockpile order and we're projecting also lower manufacturing revenues from Shire. Moving down to P&L; we anticipate adjusted operating margin expansion of 80 to 100 basis points. We expect net interest expense to total between $65 million to $70 million and adjusted other income between $50 million and $60 million for 2018. For the year we expect an average adjusted tax rate of approximately 19.5%, the tax rate reflects approximately one percentage point benefit from the new U.S. tax reform legislation and a lower benefit from stock compensation. For full year 2018, we anticipated diluted average share account of approximately 550 million shares; this reflects the benefit of certain ongoing share repurchases. Based on these factors, we expect 2018 adjusted earnings excluding special items of $2.72 to $2.80 per diluted share. Finally, for the year we expect to generate operating cash flow of approximately $2.1 billion. We expect CapEx of approximately $700 million and as a result we anticipate free cash flow of approximately $1.4 billion. Specific to the first quarter of 2018 we expect sales growth of 5% to 6% on a reported basis and 1% to 2% on a constant currency basis; operationally sales in the first quarter are expected to be flat to up 1%. And we expect adjusted earnings excluding special items of $0.60 to $0.62 per diluted share. With that, we can now open up the call to Q&A.

[Operator Instructions] I would like to remind participants that this call is being recorded and a digital replay will be available on the Baxter International website for 60 days at www.baxter.com. And our first question comes from Mike Weinstein of JP Morgan. Your line is now open.

Let me start with this fourth quarter. If I back out the Puerto Rico impact from the quarter, you're at $0.70, you're at $2.80 run rate. How do I think about that as I go into your 2018 guidance because obviously your earnings power is a lot higher than just the headline numbers suggest here. José Almeida: Mike, your math is not totally incorrect but there is a caveat to it. The second phosphamide is a huge reduction, close to $100 million reduction year-over-year; we're expecting new entrants as we don't have a crystal ball but we have our best intelligence, so we are estimating that we're going to have one or two entrants in 2018 and that is one of the reasons by which we have a significant reduction in the EPS on the run rate basis; we're compensating that with other things, not just Claris. And also we had one-time reduction in the -- like you noted, Hurricane Maria provides a positive momentum in 2018 versus 2017 but the biggest difference is the $100 million with cyclophosphamide.

You bought back more stock this quarter than you had been buying back and I was wondering if you could just talk a little bit about that and then in the broader context of capital allocation going forward. Obviously, there has been a lot of discussion last several quarters about M&A and the opportunity for you guys to do some bolt-on transaction using Claris. Last year you had the Mallinckrodt deal that's pending but you have a balance sheet that enables us to do both, bolt-on M&A and buybacks. It looks like you've stepped up your activity this quarter, how should we think about it for '18? And are you assumingly incremental buybacks in your guidance? Thanks.

Overall, if you look at 2017, we've purchased the company for approximately $600 million, we also repurchased approximately $600 million worth of shares and so if you put that in the context of free cash flow of $1.2 billion, we essentially deployed all of it. Now our objective is not relative to a free cash flow number but I can tell you that we intend to be active, both on the business development front and on the buyback front. I talked to you in the past about how we think about buyback; we have an internal model which calculates the value of the shares, and as we look at the share price we look at opportunities to purchase shares relative to that looking for a discount. I mean, typically the share is traded at a discount so we are active buyers in the marketplace. We expect to continue to do this through 2018 and we also expect to continue to do a number of bolt-on transactions, of course and Joe will speak to this in a moment; for us we have to be very disciplined about business development and so it's not just about doing deals, it's about doing very positive deals for our company. Similar to this Mallinckrodt deal. As far as the guidance, we have embedded some incremental guidance, we've been repurchasing shares in the quarter, this current quarter we expect about $500 million worth of buyback currently planned although I expect this is not the final number, it will be different than that and it will be based on the mechanics that I described earlier. Joe, you want to talk about business development? José Almeida: Sure. So going back to the team of capital allocation, I think Jay described pretty accurately our ability to do all of those things together. Our intention is to look at our businesses on an adjacency basis and do those incremental deals at a higher volume and velocity, meaning, more of them and a little faster as we continue to refine our M&A group, our M&A group is now complete, we have very strategic group in place, we have a pretty well defined boundaries where we want to go and I never take no, never considered that larger acquisitions are completely off the table, they are just difficult to come by and they are much more difficult to-date to get decent returns on those. But we -- as we look opportunistic at many different things, our focus in M&A and strategy are the cases it's going to continue to do that. But we can do the three things that we have planned all along; we continue to buy shares, we're going to continue to pay the dividends and increase dividends every year like we have done in the past, and do the small deals or deals which are complimentary in high volume and velocity.

I don't want to go through all the different businesses and the guidance for 2018 is relative to our expectations; but I don't want too many surprises, I thought that you're probably being a bit conservative and advanced surgery given the product flow there in the R&D, then put it in the work side, I'd love to hear your thoughts on that. And as well maybe the same comment on the renal side where there is a lot going on and really all three or four different parts of that business. Thanks. José Almeida: Thank you, Mike. I have to think that we are good forecasters of our business and this is the beginning of the year. We always have the ability to -- for the most part to do what we saw we're going to do. So when we give a number to this suite there is something we have confidence that we can achieve. Clearly, the year always hold surprises, we had a huge one with Hurricanes visit. But the company has enough in the back to be able to provide [indiscernible] results till we're be dead. I would say that we good growth in most of our business and we are continue to do geographic expansion product launches. So the ability to can't exceeded directly related to execution on the new products in second half of the year when we come in with the new pump version for SIGMA SPECTRUM, launch of our new peritoneal dialysis automated device in Japan in geographic expansion. So if we can execute on those things, everything goes right, we'll let you guys know and we will change our outlook for the year but at the moment that's what we see with a significant amount of puts and takes including cyclophosphamide.

The next question comes from Larry Keusch of Raymond James. Your line is now open.

I just want to quickly start-off on IV solutions; I know that you made the comments that you expect to be back in -- I think more normalized supply in the U.S. over the coming weeks. What gets you there? Is it a combination of the ability to import and Puerto Rico continuing to ramp up? And then if you could sort of segment that between large volume IVs and Mini-Bags? José Almeida: Larry, we can split the conversation into two pieces. The piece that got affected by the hurricane is a small volume parenteral that we'll call the SCP, those are we call Mini-Bags, Mini-Bag Plus. And pre-filled bags in small amounts for nutrition, amino acids, dual chamber bags and other things like that. So we have two different distinctive situations; let's -- let me talk about the small parenteral bags. We are producing at a pretty good clip at our plants in Puerto Rico, we supplemented that production with volume that is coming from Ireland, our Casabar [ph] facility. And we'll continue to make progress and we think by the end of the first quarter, though the production -- the inventory levels will be at a place that we can put this behind us. As we speak today, the allocation that we put out it is 100%; so people can buy Mini-Bags and Mini-Bags Plus today, we just changed that at 100% of the average purchasing volume of six months ago. So -- and we will get this completely normalized by the end of the first quarter, probably earlier than that. So we also have contingency plans which will put towards the end of '18, mid '19 more capacity for Mini-Bag Plus for two reasons. One is, we have the ability to sell as much as we make, it's better for the market and more profitable for Baxter; so we're shifting that mix to benefit all the stakeholders including ourselves in terms of profitability. The second part of the conversation is that large volume parenteral that has nothing to do with the hurricane, that has to do with increased demand and the inability of some of the manufacturers in the marketplace to make the product. We obtain permanent importation licenses and product registration for Mexico, we walk away from some of the business that we had in Mexico which can be taken over by a local competitors and is moving their volume permanently to the U.S. The second thing is, yesterday we just got approval from importation permits for Brazil, so now the product is going to be coming into the U.S. and we -- so by the end of this next six months, we will have a network of global factories that cost effectively can bring products into the U.S. in any situation, even to guarantee future contracts with our current customers and potential new customers.

And then one other one, maybe a little bit longer in nature; I think Joe that you've been focused on Japan as an opportunity, it sounds like you guys are fairly under indexed there relative to other large multinational U.S. company. So just briefly, how do we think about the opportunity there in Japan and what are you doing? José Almeida: In Japan; the first opportunity for us is to capitalize in the tremendously under penetrated peritoneal dialysis business. Japan has a very, very, very rich reimbursement for PD and we make significant amount of profit from that modality but the volume compared to the rest of the world is quite small. So by launching the new Kaguia [ph] cycler in Japan we'll be able to satisfy some of the market needs for instances; more connectivity of the tubing [ph] in this machine is done automatically, hence free. So there are some peculiarities that Japan requires to adopt technologies different, we as a company have done not a great job in Japan once we separate from Baxalta because Baxalta was the bulk of the business in Japan. And our business now will focus on augmentation of the PD, launching new advanced surgery products in Japan, as well as augmenting the pharmaceutical capabilities in Japan. So this is more of a long-term roadmap but I tell you that is one that has our focus and in fact now is the -- present for Asia, Japan falls under him and we have significant plans for talent improvement to be able to get those things there.

And our next question comes from Vijay Kumar of Evercore ISI. Your line is now open.

Maybe on the Q1 guidance on -- the revenue guidance; so some of the questions I'm getting is, if sequentially you had capacity coming back from Puerto Rico, right, was this guide a little bit tad below or what was the sweetness modeling on some of the line items?

Just a couple of things to point out in relation to Q1 sales growth which to your point Vijay is below the run rate we expect for the balance of the year, solid operational performance but Puerto Rico does impact us by one point of growth. And then the other comment I would make is, our -- last year we had a bolus of sales related to a product called Transderm Scope, and year-over-year that's about 1% headwind. So those two items collectively drag down the growth little bit below what we expect moving forward. The other thing that happens as we approach the latter part of the year is, we start to benefit from some of the new products launches. Joe mentioned, Kagulia [ph]; we're also extremely excited about the version 9 spectrum pump which we anticipate launching towards the end of the first half of the year, and so that starts to benefit and accelerate some growth. So two very specific items and then certain benefit from new products is really the story on Q1 relative to rest of your sales guidance.

Just a couple of quick guidance follow-ups; one, into the segment details, this is extremely helpful, the historical numbers you gave out but on that medication delivery but it's capacity is coming back from Mexico repurposing capacity rates, if I'm looking at year-on-year, flattish to maybe up slightly. So one, I'll be fair to assume -- this guidance has six to seven Delaware does not assume incremental shares and I have one follow-up on that free cash. Thank you.

As we look at 2018 performance for medication delivery, we are going to benefit certainly from the reallocation of sales back to the U.S. from IVs, from some of the markets that Joe mentioned early on. So that's certainly is a tail-wind for us. What I will tell you is over the last several years, we benefited from a number of items including the relaunch of Version 8 pump which featured prominently in our numbers, for a number of quarters. We also benefited from negotiation of selected grim [ph] that we have in place with GPOs. So there is -- we've always anticipated and we've model long-term that there would be a deceleration into grow, and particular in the U.S. overtime but this guidance is largely consistent with our expectations and does reflect some benefit of the reallocational products.

The free cash guidance, so that's -- call it double-digit growth or '17; but if we're looking at their 2020 targets of $2 billion, so that is how free cash flow accelerates back the high-teens. Was there any timing impact for '18 when you look at the free cash number?

What I will tell us is, relative to the guidance that we shared in July our confidence in our long-term ability to generate cash flow has increased in the sense that we had a great 2017 performance ahead of our expectations, so solid performance on free cash flow. Not really timing items, specifically I think we were pleased to exceed $1.2 billion, $1.4 billion will reflect in continued performance with respect to working capital management which we are driving relentlessly along with continued operating income growth. So stay tuned, we'll watch this one closely, it's always very difficult at the start of the year to predict cash flow, it's a highly volatile number, it's the most -- frankly, the most challenging one for us to predict on a full year basis. So stay tuned, we'll watch this one carefully as we go on but I will tell you, the performance of our team on the supply chain side on accounts payable, receivable side; very good performance and we're tracking where we want to be on the free cash flow side.

And our next question comes from Matt Taylor of Barclays. Your line is now open.

The first question I wanted to ask was -- just around the injectibles outlook in Claris; I guess you gave us a number for Claris, I was hoping maybe you could supplement that with some color on what you're expecting from your internal program and maybe any update on the Claris 43 and how you're doing with the remediation there? José Almeida: We are continuing to pursue internal development. We are launching a coronary drug, just got approved. We have other drugs planned to be launched here, either frozen or not frozen dump made by Galaxy. We continue to launch products outside Claris, outside the U.S. for Claris and the 43 is quite simply, we have done to date everything that we said we were going to do, we're still not finished, we have couple of more things to do but we're still in the timeline in some of the things we're doing ahead of our timeline. We are optimistic that what we're doing is going to resolve the issues outlined in 43 but we are not the agencies, so we cannot speak on behalf of the agency, we do everything we can to satisfy what we said to the agents we're going to do and we feel comfortable that we're doing, now rest is with the FDA to make that determination but we work very hard and we have integrated significant amount of quality systems into the best of quality systems and if you went to the [indiscernible] today, you would see a significant amount of physical improvement in things that we've done to correct issues that we personally as a company have found and stuff that the FDA has found on top of our findings.

And I want to give you a chance to -- without bias can you maybe talk about some of the tailwinds from a product standpoint in 2018, and specifically we'd like to hear from you products that you think can make a difference that you believe are underappreciated by investors? José Almeida: I'll focus on three or four errors. First of all, I think our ability to provide the market with LVPs and SVPs add to volumes that the market not only needs but potentially have comparative -- going to competitive accounts is a potential upside, we don't know if that's going to materialize the competitive accounts but we know that we now have solid factories being completely focused in the U.S. market. BAX is largest manufacturer solutions in the world and having no use of that capability in the past was a mistake, now we're full engaged in using this capability and flexibility across the globe; so that is a positive. I think the new version of our pump, SIGMA SPECTRUM, coming out now in the second half of the year is a good thing; the pump has really new features and new things that we think are needed in the marketplace and the people waiting for it, so our ability to launch that well offers the possibility to be positive for us. The third one is the launch of the Kaguia [ph] in Japan, I think that is a positive. In geographic expansion, lastly is, we're trying to get products approved, we just got one approved in China the other date after earlier this week we just got a monitor 1898 [ph] approved in China for sale, way ahead of time. So our people are trying to work very diligently in new products to be able to get those things to augment our objective in the mid-term which is to get the company to a 5% topline growth.

And our next question comes from Danielle Antalffy of Leerink Partners. Your line is now open.

Just at a high level, if you think about beyond 2018 and what in the pipeline -- and Joe, maybe this is a question for you as well, what do you see is the key pipeline initiative that are going to drive accelerating growth beyond the 4% operationally or projecting in 2018, number one? And then Jay for you, number two, the incremental leverage you can pull on the P&L to drive positive leverage in the out years considering it feels like a lot of low hanging fruit might have already been picked here?

I'll start by talking about the operating margin leverage that we have and then Joe, perhaps you can talk about some of the exciting pipeline products that start to accelerate growth as we move past 2018. And by the way, it's a bit premature to talk about '19 and '20 as we sit here on February 1, so that's a risk of doing that. I think we are very pleased with the transformation efforts on the cost side. Danielle, your question is good one because to a large extent we have taken a lot of low hanging fruit and reflected that in our numbers over the last couple of years in terms of implementing zero based budgeting, certain other tactics that we've employed. As we look at 2019-2020 and beyond, there are certain more complicated or bit more challenging programs that we have on the back office with respect to G&A and perhaps it's better to say longer lead time items, as we look to transform our back office to streamline shared service centers, we've made tremendous progress, our functions have done really amazing work, but our expectational long is that those would not have an impact in 2016 or 2017 but would start to playout as we're seeing in 2018 and then 2019 and 2020. So that's one area I would say, and then the other thing that's going to be very interesting as we move to 2019 and 2020 is, our manufacturing team has done a great job in terms of controlling cost, now obviously that team has been very focused on responding to things like natural disasters and tight supply situation, so they've been very focused on that but at the same time they've been very focused on optimizing on manufacturing network and optimizing operations within our manufacturing network. And so moving to 2019 and 2020, we continue to expect very solid performance coming out of that team along with a restored supply situation. Now with respect to acceleration of growth on the top line and products that are going to drive that, Joe, maybe you could take that one. José Almeida: Our mid-term goal for the top line is 5%, we work very hard to get there and to get there is the ability to launch those new products, little better than we have planned and there is opportunity for that. So the first one as I said is optimization, the supply chain have in the right part and in the right place in U.S. if you're confident on that. The second is the launch of the product in Japan, the Kagua [ph] in cycle. The third is geographic expansion, get this thing right. Fourth, the pump, the SIGMA SPECTRUM, remember our medication delivery guidance for global growth is between 6% and 7% for 2018 which is pretty good growth. Then, let's look at little bit more on the mid-term, let's talk about '19 and beyond. TheraNova is a game changer in-center HD, so having that thing -- having the product completely approved in U.S., have the clinical trials in and have the ability to drive adoption in the U.S. is key for us to continue to grow. Launching PrisMAX which is our new acute renal care, CRRT monitor in the U.S. will drive continuously more growth in U.S., we're already market leaders in acute renal care with the CRRT modality, this is over $1 billion in market, we only have this modality which is CRRT was continuous renal replacement therapy has only 50% or less of the overall market, so the conversion is great. Also, getting in other modalities in the acute renal care is a desire of ours; and please don't forget that some of these acquisitions that we're making, we will have organic impact in the company once the anniversary meaning they have -- their own growth, we're not buying businesses, they have 0% growth, if we're buying business they have the ability -- like Claris, that's 12% to 14% growth happening in 2018. So there is opportunity going forward, we're ceding the way to be able to get to 5% and like they said, with the significant smaller cost base for the company to operate brings a very desirable form to the table.

And your next question comes from David Lewis of Morgan Stanley. Your line is now open.

Just thinking about the pacing of 2018 numbers, I think so description of first quarter topline; just in the bottom line Jay, I think our math has 50 bips of margin maybe for the first quarter? Can you just talk a little bit about the factors impacting the bottom line for the first quarter? And then, as you think about the third quarter, that's either tough comp this year, should we also expect growth to be a little low in the third, kind of similar to the first?

Yes, I think that in the first quarter to your point we're seeing the lowest level of sales growth of the year and then also as we look at the bottom line there, there are a number of factors in play that impact bottom line growth; the first one being Puerto Rico, that's a couple of cents of margin impact that we expect to see and that's probably the most prominent. On the operating margin line, the Puerto Rico impact is roughly 40 basis points. Some of the other should -- the TDS sales item, that does not really have a bottom line impact, so I would say that if you adjust for that along with a tough TSA comp which represents about 50 basis points impact in the first quarter, remember, we -- that ceases to be an issue for us in the second half of the year. Those two items really explain why the margin would be the lowest growth rate in the first quarter relative to the other quarters in the year and we start to see acceleration there. So really those are the two items explaining about roughly one point of the growth. As we look to the balance of the year, we do expect to see solid performance throughout and so 2018 -- the third quarter does represent the tough sales comp but importantly, we'll start to benefit from some of the new product launches, so the version 9 of the SPECTRUM pump just starts to feature in our Q3 results. So I think that on balance we feel quite good about the quarterly forecast; Q1, a little bit of a slower start but again, that is entirely explained by things like Puerto Rico and TDS and then, as we move through the rest of the year, the story becomes consistent with the full year picture. The one item I would say in Q3, we do have $20 million compounding settlement in our 2017 results, so we'll probably talk about that but beyond that I think it's fairly steady progress.

And Joe, just two strategic questions for you. I guess the first is, one that is breaking out of this global business structure, it occurs to me that some of the businesses you're breaking out actually have dramatically faster end market growth rates. I mean as you think about this new structure, are you starting to be of the view that the weighted average market growth rate for this business is frankly closer to 5%, relative to 4%? José Almeida: I think our weighted average market growth rate for the overall business is 3% but the ability to perform at 5% has to do with new product launches and the ability to focus, so hence the organizational restructuring. We were not focused and now deploying capital some time ago to the right business, despite the fact our intention was that but the organization structure was not prepared. What it has allowed us to do is two-fold; get people paid on global growth or certain franchise, second, allow us to really put people in those business with more specializing given exempt of pharmaceutical for instance. We have a big mountain to climb with $100 million in headwind on cyclophosphamide. Now having execution of Claris and our own organic molecules is key; to do that you got to have people who understand the generic pharmaceutical business, this is not a hospital product, this is not the same people who will do design infusion lines and infusion pumps, it's completely different. So we brought and are bringing people who have the ability to bring this business to the next level. So this reflects more of how we want to beat people, how we want people to focus and also to get to our 5% objective on the top line.

Our next question comes from Larry Biegelsen of Wells Fargo. Your line is now open.

I wanted to start with the operating margin guidance and the goal for 2020, I think of 20% Jay. So this year I think you're guiding to 80 basis points to 100 basis points of operating margin improvement, I guess that implies that you need about 150 basis points per year in '19 and '20 to reach the 20%. So why only 80 basis points to 100 basis points this year and that acceleration? I think earlier in prior calls, I think there was an impression that you could do a little better than 20%, do you still feel that you can exceed that number and I have one follow-up.

I'll talk about 2018. As far as 2020, we remain very confident in our ability to drive the business going forward. So I would insert a brief commercial for our May Investor Day, we look forward to updating our long-term financial projections for both 2020 and beyond which the whole team is really excited about that. As it relates to 2018 guidance, there is actually three items that I think are worthwhile pointing out that provides some color because on the one hand you could say 80 basis points to 100 basis points and that's what we expect but there is three headwinds to point out. First, cyclophosphamide is approximately 70 basis points of impact in this year, so that's an assumption that we've made, we'll see, we'll monitor this very closely but that's a very big drag on 2018. And frankly, as we look at margin performance over the next three years, we're modeling the largest single impact occurring in 2018. The second item is we have approximately 40 basis points of impact from TSA income loss. So again, that's an item that is explicit to 2018 that does not impact future years. The final thing I would comment on is, we have adopted the new guidance for pension accounting and what that means is, a number of items have moved below the line and there are certain items maintained above the line. This will be spelled out in detail in our 10-K but at the highest level reflecting this guidance is about 40 basis points drag on our results in 2018. We'll footnote this and describe in a lot of detail as I say in our 10-K, there will be also be some additional information available related to 2017 impact but if simply put in our 80 basis points to 100 basis points, this 40 basis points of headwind is related to the new pension accounting. So as we think about what those drivers add upto, that's about 150 basis points of drags that we work through this year on our way to achieving the 80 basis points to 100 basis points of margin improvement. We don't expect similar magnitude and so it becomes -- we can sit here confidently and say we feel very solid about 2019 and 2020 performance.

Lastly for me, Joe, any update on emerging market performance? José Almeida: Yes, we had a pretty good performance in emerging markets. We had about 6.7%, close to 7% in emerging markets for the year. We also had China over 6% which is great for us. I just want to underscore that emerging markets like medical devices qualify does not apply to Baxter, we've been in those markets for a long time. So China for us is a good growth market, has a good GDP growth and that represents an opportunity for us to geographically expand new product lines there, as well as Brazil and Mexico, Columbia; I see those as probably the most prominent and then Southeast Asia. So, we do emerging markets commentary on calls for actually you folks, the analysts. Internally we have three different regions in the world; Americas, Europe and Asia, and we don't specifically monitor emerging markets anymore. We monitor specifically China which we think has continued to perform well and it's a very profitable and large market for us. And if you qualify emerging markets like -- you speak as about 22% of our overall sale; so it's very much larger than for many of our peers. So that's why we don't focus on that.

And our final question comes from the line of Joan [ph] of BMO Capital Markets. Your line is now open.

Joe, big picture medtech [ph]. You guys are probably closest to the ground at what's happening in the hospital as it relates to volume, price and flu. Can you just give us some of the brief overview of what you're really seeing out there? José Almeida: We're projecting low single-digits for hospital procedures and admissions in general, that's what we see in our -- when we connect the dots of our businesses. We also see a renewed interest in the capital investment from hospitals, at least, one of the large hospital enough for profit groups announced that they will revitalize plans for investment and that is good for the market. And we see also in general, consumption at a stable tools like a positive level. So it is altogether a unique situation for the country, for the U.S. is specifically where we see the healthcare markets reacting well to new tax legislation and so forth. The flu season is clearly picking up a significant money, [indiscernible] is already high for all accounts and there is some -- there is always slight positive impact because couple of our businesses and products that are used for situations where patient is in ICU with distress and multi-organ failure; so there is a pickup for our business when there is a good flu season, flu season is at all-time high.

A follow-up and more specific question; every year I feel like we start-off with a relatively high cyclo competition headwind and then window it down throughout the year. Why is $100 million the right number for 2018? Thank you. José Almeida: Because we do model quite extensively and very precisely the impact of one entrant, two entrants, three entrants, four entrants; we do this because as a matter of fact we are sometimes on the other end, we're coming in as the second or the third entrant, so we know what the number is. So we have modeled based on the number of applications out there for cyclophosphamide that that is the impact. Now if people can pull it, pull-through, they don't have the regulatory capability; clearly, there is an upside for Baxter and we'll let you know as we give updates to our quarterly forecasts and update guidance if we see that there is no entrant, we will update and increase that if that's the case. And as I always say, we're very transparent about cyclophosphamide and it's always a positive for the company because there is more cash in our blanket. And it's a drug that is proven through many that it's not that easy to make. You know, cytotoxic drugs are very difficult to make and Baxter has a state-of-the-art facility that is not only used by us but used by many different pharmaceutical companies because the difficulty of doing it. So the desire to do it is not that -- doesn't relate to the ability to do it and recently one potential manufacturer got two warning letters in their facility in India [ph], so that probably put a stop on their ability to produce. But there are others out there then we have models, so if they come to the market we estimate it very precisely, $100 million of impact.

Thank you. And that concludes our question-and-answer session for today. Ladies and gentlemen, this does conclude today's conference call with Baxter International. Thank you for participating and have a great day.