Welcome to the Third Quarter of Fiscal Year 2023 Earnings Conference Call for Merit Medical Systems, Inc. At this time, all participants have been placed in listen-only mode. After the speakers’ presentation, there will be a question-and-answer session. [Operator Instructions] Please note that this conference call is being recorded and that the recording will be available on the company’s website for replay shortly. I would now like to turn the call over to Mr. Fred Lampropoulos, Merit Medical Systems Founder, Chairman, and Chief Executive Officer. Please go ahead, sir.

Thank you, and welcome, everyone, to Merit Medical Systems third quarter of fiscal year 2023 earnings conference call. I am joined on the call today by Raul Parra, our Chief Financial Officer and Treasurer; and Brian Lloyd, our Chief Legal Officer and Corporate Secretary. Brian, would you mind taking us through the Safe Harbor statements, please?

Thank you, Fred. I would like to remind everyone that this presentation contains forward-looking statements that receive Safe Harbor protection under federal securities laws. Although we believe these forward-looking statements are based upon reasonable assumptions, they are subject to unknown risks and uncertainties. The realization of any of these risks or uncertainties as well as extraordinary events or transactions impacting our company could cause actual results to differ materially from those currently anticipated. In addition, any forward-looking statements represent our views only as of today, October 26, 2023, and should not be relied upon as representing our views as of any other date. We specifically disclaim any obligation to update such statements, except as required by applicable law. Please refer to the sections entitled Cautionary Statement regarding forward-looking statements in today’s press release and presentation for important information regarding such statements. Please also refer to our most recent filings with the SEC for a discussion of factors that could cause actual results to differ from these forward-looking statements. Our financial statements are prepared in accordance with accounting principles, which are generally accepted in the United States. However, we believe certain non-GAAP financial measures provide investors with useful information regarding the underlying business trends and performance of our ongoing operations and can be useful for period-over-period comparisons of such operations. This presentation also contains certain non-GAAP financial measures. A reconciliation of non-GAAP financial measures to the most directly comparable U.S. GAAP measures is included in today’s press release and presentation furnished to the SEC under Form 8-K. Please refer to the sections of our press release and presentation entitled non-GAAP Financial Measures for important information regarding non-GAAP financial measures discussed on this call. Readers should consider non-GAAP financial measures in addition to, not as a substitute for, financial reporting measures prepared in accordance with GAAP. Please note that these calculations may not be comparable with similarly titled measures of other companies. Both today’s press release and our presentation are available on the Investors page of our website. I will now turn the call back to Fred.

Thank you, Brian, and thank you for joining us on a very busy reporting day. Let me start with a brief agenda of what we will cover during our prepared remarks. I will start with an overview of our revenue results for the third quarter followed by an update on a few noteworthy operating highlights in recent months. After my opening remarks, Raul will provide you with a more in-depth review of our quarterly financial results and the formal financial guidance for 2023 that we updated in today’s press release, as well as a summary of our balance sheet and financial condition as of September 30, 2023. We will then open the call for your questions. Now beginning with a review of our third quarter revenue performance, we’ve reported total GAAP revenue of $315.2 million in the third quarter, up 10% year-over-year. Our total GAAP revenue growth was driven by 14% growth in U.S. sales and 4% growth in international sales. Our total revenue increased 10% year-over-year in the third quarter on a constant currency basis, excluding the 10 basis point headwind to our GAAP revenue growth related to changes in exchange rates compared to the prior year period. The constant currency revenue growth we delivered in the third quarter was significantly stronger than the high end of the range of growth expectations that we outlined on our quarter two earnings call. Specifically, we expected constant currency revenue growth in the third quarter in the range of 5% to 7% year-over-year. Importantly, the better-than-expected total constant currency revenue results in the third quarter was driven almost entirely by strong organic growth, reflecting a broad-based strength across each of our primary product categories, particularly in the U.S. Third quarter total revenue results also included $7.3 million of sales from the portfolio…

Thank you, Fred. Given Fred’s detailed discussion of our revenue results, I will begin with a review of our financial performance across the rest of the P&L. For the avoidance of doubt, unless otherwise noted, my commentary will focus on the company’s non-GAAP results during the third quarter of fiscal year 2023. We have included reconciliations from our GAAP reported results to the related non-GAAP items in our press release and presentation available on our website. Gross profit increased approximately 13% year-over-year in the third quarter. Our gross margin for the third quarter was 49.8%, up 140 basis points year-over-year. The increase in gross margin year-over-year was lower than expected due primarily to revenue mix by product and by geography. Operating expenses increased 7% year-over-year in the third quarter. The year-over-year increase in operating expenses was driven by a 6% increase in SG&A expense and a 12% increase in R&D expense compared to the prior year period. Our operating expense performance in Q3 was better than expected and reflects strong operational leverage, principally due to our continued focus on expense management and prioritization of investments to support our future growth initiatives. Total operating income in the third quarter increased $11.5 million, or 25% year-over-year to $57.7 million. Our operating margin for Q3 was 18.3% compared to 16.1% in the prior year period. The 220 basis point increase in operating margin was driven by 140 basis point increase in our non-GAAP gross margin and by an 80 basis point decrease in our non-GAAP OpEx margin compared to the prior year period. Third quarter other expense net was $4.5 million compared to $0.8 million last year. The change in other expense net was primarily related to an increase in interest expense associated with increased borrowings and rising interest rates, as well as…

Thank you, sir. [Operator Instructions] One moment for our first question. Our first question comes from Jason Bednar with Piper Sandler. Your line is open. Jason, please check your line is open.

Okay, let’s come back then. We’ll go to our next caller, if you wouldn’t mind, please.

One moment for our next question. Our first question comes from the line of Michael Petusky with Barrington Research. Your line is open.

Hey, good afternoon, guys. Really impressive quarter and lot of – across a lot of different aspects. Congratulations. I guess just real quick on China, was that performance this VBP has been talked about to death. But I’m just curious, was that performance about what you guys had anticipated for Q3? Is that sort of shaping up in the second half the way you anticipated? A little better, a little worse? Can you just comment on that?

Yes, I think it was about what we expected. It was baked into our numbers. It’s baked into our year end numbers. Again, as we’ve talked about many times, Mike, you’ve talked with Raul about this and that is – that’s today’s I don’t – it changes, but right now it’s in our numbers based on our best estimates of, we think, what China will do.

Okay. I feel like this is almost the obligatory question in Q3, but Fred, do you have any thoughts on sort of the weight loss drugs, the GLP-1s, and possible longer term impact on Merit Medical and the space you guys serve?

Yes, I appreciate the question. Listen, we take all of these issues very seriously, and we don’t just think they’re passing. If you go back and we talked about things like China, we talked about MDR, we like to stay out in front of these things. In fact, Raul and I yesterday were talking to several advisor physicians who are in our market areas. In fact, one of them was actually taking the drug. So there was a number of issues that came up in terms of the effect that they thought it would have long term. I think they all somewhat indicated that it will be 10 years before you see that, that pricing is going to be one of the things. But in terms of elderly or hypertensive patients for at least and these are people who are doing interventional nephrology types of procedures and in fact one of the comments they made was that 20% of the people that work in the lab were on the drug. There were a bunch of different things that they talked about in terms of if you take the drug and some of the effects, but the bottom line was that they didn’t see an immediate effect. It’s there, they’re using it. There are some complication issues, but I think all in all it was something we didn’t feel that was immediate, but something that we will continue to do panels, we will go out and meet with our customers and we think that’s the best source of information. So that’s a long response to the question. Raul, do you want to add anything to?

No, I mean, I guess two things that I would, right, obviously Type 1 diabetes is not going to be impacted these are individuals that are born with the disease and so you won’t get to the kind of the renal – you won’t have a renal stage impact, I guess I’ll say that which would impact our business. So you’re really talking about the Type 2 diabetes patients that would be impacted and that’s really out in kind of the 10 years is kind of the what several doctors kind of threw out as kind of an example of when they would think they would see an impact if they did see an impact. But to Fred’s point, we always try and stay ahead of these things. We’re very aware of risk and we’re very good at pivoting and adjusting as needed. So we’ll keep an eye on it. But for now our business is not being impacted by it. These drugs – some of these drugs have been in the market since 2017, so they’re not new. I think they are getting a lot more news now, but we’ll keep an eye on it and we’ll adjust as necessary.

And I think if I could just might just say, having that ability to talk to physicians who are doing the procedures, who are seeing various patients, looking at pricing and reimbursement and all those things I think gives us a relatively unique look at all the factors that go into that affect our business. These are our customers and our advisors. So we’ll stay on top of it.

Yes, great. And let me just confirm, to me it sounds like the commentary around the acquired businesses, particularly Angio, it sounds like you’ve integrated well and it sounds like you’re running maybe a little bit ahead of plan in terms of revenue generation. Is that a fair sort of summary of what you guys tried to communicate there?

I think so, and I think a reminder that remember a portion of that is biopsy. And I think sometimes everybody thinks of as just being those dialysis catheters, and I think we’re doing a very good job of integration. We’ve actually moved the BioSentry moved this week or late last week, is actually moving to our Mexico facility. And by the end of this year, maybe early first quarter, we’ll have moved the other product and it’ll be fully integrated. So I think it’s doing just fine for now. I think there’s still upside potential in that business, quite a bit, actually, and I think we’re performing better on the financial side of it than we expected. Raul, do you want to add anything to that?

Yes, no, I mean, I think if you look at our guidance, we brought up the bottom by about a $1 million. So I think we’re well within the range that we had given the street and again, we narrowed it the range and we brought it up. So I think things are on track and like Fred, integration is going great. Our Mexico team and the Salt Lake City team are doing a great job of integrating that stuff.

Well, and just finally on that, Joe Wright, who’s our Chief Commercial Officer, who is sitting in the room with us, I think that’s been another really important part, is the contact with customers. These are existing customers that buy many of the products in our renal therapy group. So I think it wasn’t a reach for us in terms of who the customers were. I think it was 98% of the customers already existed for Merit. So that was another really important factor that we looked at and considered in terms of the commercial outrage.

All right, guys, thank you so much. Great job. Thanks.

Thank you, Mike.

One moment for our next question. Our next question comes from Steve Lichtman with Oppenheimer & Co. Your line is open.

Thank you. Congrats on the quarter, guys. Fred, I wanted to ask about WRAPSODY, obviously we still have a little bit of time here, but with the completion of the trial getting closer and closer into view, can you sort of update us on your thoughts on the market opportunity there, particularly as we’re getting closer to filing here?

Yes, listen, we started this project, as you know, a number of years ago, it’s a product that’s vertically integrated. I think that we are going to – we’ve closed the enrollment as you know, the last patient will roll out on the – in February of sometime, and we expect that we will then monitor, do the data cleaning and analysis phase early in the second quarter of 2024. And we plan to complete the clinical study report and be in position to file with the FDA, PMA by the end of the second quarter in 2024. Once we get to that point, then it’s up to the FDA to go through their process. I think we can’t say that we’ve always been very excited about the product. But I think, again, without trying to avoid the question, I’d rather wait until we have our update in February to lay it out as we get closer to the data, to be able to lay out what we’re going to do and what our thoughts are as we present our plan for next year.

Yes, we’re really focused on just making sure that the filing goes according to plan. I think from a revenue and market opportunity standpoint, we’ll talk about that, I think post-PMA approval, but super excited about that and super excited about the quarter, just in general.

Yes, yes.

Great. And then just secondly, you talked your bullishness on continued free cash flow and your net leverage ratios remain low here. Just thinking about M&A looking forward, obviously you were quite acquisitive already year-to-date, but given valuations or should we expect a little more additional activity, looking ahead at a Merit?

Well, listen, I think we all understand that the world has changed. The cost of capital is higher. We see that I mean, I don’t know what the fed’s going to do, but we saw what the economic activity was which was positive today. Values have come down. I think a lot of the other institutions that would be helpful to startups and companies like that I have quite a bit different view than they maybe did a year ago or even two years ago. Values are starting to come into place, as you’ll recall, I think we’re very disciplined and in some ways I don’t want to say criticized, but we were very cautious. We didn’t want to overpay now. All that being said, we’re probably seeing as much activity and opportunities. We’ve just returned from TCT. There are a lot of opportunities out there. But the really important thing is, we have a plan. We have requirements that we want to hit. We have a commercial team and things have to fit for us. We don’t need to do anything. We can just do our organic. We have WRAPSODY coming. If they’re the right products, in the right channels of our product and meet the criteria and there are some that we think they can do that. So there’s a lot of stuff out there and we expect not that necessarily that we’re going to be very active and do anything, but that if it meets that and it meets the discipline that we require, we’ll look at those opportunities and they will be there. I have no doubt about that.

Appreciate it. Thanks, guys.

You bet.

One moment for our next question. Our next question comes from Jayson Bedford with Raymond James. Your line is open.

Hi, good afternoon guys. Congrats on the quarter. Nice result. I apologize if I missed some of this. I got on a little late. Was Russia a headwind to growth in 3Q?

Listen, we were able to get our licenses approved in late August, and we started making some shipments in September. So we had a small benefit, very small. But really, those things are going to roll into this fourth quarter. But the point is, we have our licenses. I think somewhere around 90% or 95% of our Russian licenses have been approved by the United States government. And so we will see that those will come back online to some extent now with all the things that are going on, Jayson, in Russia, in the Middle East, we built all of these things into our numbers, but there will be some Russia as we go forward.

Yes, I think just generally speaking, EMEA was in line with expectations, Jayson. And I think even with Russia coming back, we did have some SKU rationalization products that sold through in the third quarter, which also helped. We won’t have those in the fourth quarter, so mix should be a little bit better. But, yes, I think generally we came in kind of in line with expectations.

Okay, helpful. Just on gross margin did the move from the acquired products moving from upstate New York down to Mexico, did that have an impact on gross margin?

No, those won’t have an impact until next year, Jayson. As you can imagine, we build bridge inventory just to make sure that things go accordingly. And as Fred mentioned, we are just in the process of moving things. We had the Biopsy device just left last week on a truck, and the rest of the products will continue to move over the next three months over to our Mexican facility. So really it’s a 2024 impact that you’ll see.

Okay. And I think you mentioned geography as a bit of a pressure on gross margin. Is that not much, but is that a dynamic of mix? Or is that more a comment on the inflationary dynamics in Mexico?

No, it’s really mix, product mix. Right. So we had some products, some SKU rationalization related to FFG, specifically our pack business. So you’ll see that our CPS products were up. Normally they’re flat. That really related to that business that we’re exiting just because the gross margins aren’t what we want them to be.

Okay. And we haven’t talked about the move from air to water in a while, just kind of, where are you in that? And is that a bit of a tailwind to margin as we look to 2024?

Yes. Listen, Jayson, our team has executed to plan. We still have more to go, but I think it’ll be a benefit to us moving forward. And our team has executed well on that.

Yes, I mean, I’d say they’re on pace for what we forecasted. It’s included in our numbers.

Okay, that’s great. Thank you.

All right. Thanks, Jayson.

One moment for our next question. Our next question comes from Jon Young with Canaccord Genuity. Your line is open.

Hi, it’s Zachary on for Jon today. Thank you for taking my question. Congrats on the quarter. I know you guys talked about the WRAPSODY commercial efforts, and you’re waiting on that a bit. But do you have any insight on what reimbursement could look like or the timing of that with the launch? Just the reimbursement stuff in particular. If there’s any color. Thank you.

Yes, I think the only color is first of all, we’ll talk about that whole program as we get closer and we file. It is a breakthrough product. I’ll just leave it at that. But we’ll discuss all of this as we get closer to and we actually file the product and then have an expectation of a window because all relying on the FDA. So we’ll do a full review of the product and all the things we’ve seen globally as we get into next year’s plan. Right now, the goal is, let’s finish this year. Let’s finish this foundations for growth. As you all know, we have been just laser focused on this, and I’m proud about the team, but we’re not at the finish line, and we still have a couple of months to go, and so that’s where we’re focused. We will, though, I think, discuss in depth WRAPSODY at the appropriate time.

Great. Thank you. That was all I had.

All right. Thank you, sir.

One moment for our next question. Our next question comes from Jim Sidoti with Sidoti & Co. Your line is open.

Hi, good afternoon. Thanks for taking the questions.

You bet, Jim.

Overall, really strong quarter. The two things that jumped out to me, one was the SG&A expense. It’s down year-over-year. It’s down quarter-over-quarter. I know you had an insurance payment there, a refund. Was that one of the offsets of SG&A? But even with that, it seemed like it was down pretty significantly. What’s driving that? And is it sustainable?

Yes, just to clarify on that reimbursement, because we had added that back as a non-GAAP item, we actually added it back. So we actually didn’t get credit for that reduction. Jim, just on a non-GAAP basis. On a GAAP basis. You’re absolutely correct. But just to clarify. Look, I think we’ve been pretty open about making sure that we leverage our operating expenses. We also said that we wouldn’t spend ahead of the gross margin not coming in. I think the third quarter for us is always a little tricky because we do see a seasonal decline in the business sequentially from Q2. And so we’re always a little bit more cautious in the spend and then just making sure that we understand kind of what the gross margin is going to do. Just giving because we are deleveraging from a revenue standpoint. So, I think we were a little cautious, and we just continue to exercise that expense management that we’ve built up over the last few years.

Okay. And then the other thing that stood out was the cash flow generation and the fact that you put a lot of that towards debt pay down. Can you – which debt did you pay down and what’s the blended rate now for the debt?

Yes, look, we continue to pay down our debt from any free cash flow that we generate. That’s been the goal. We did talk about having a pretty strong free cash flow for the, back half of the year. Just given what our goal is for foundations for growth at the minimum of $300 million, I can tell you that coming out of the second quarter, given the amount of free cash flow we had generated, my confidence was a little low. And now heading into the third quarter with this huge free cash flow number of 42.5 [ph], my confidence is a little bit higher. But we’ve still got some work to do here for the next little bit of time, and we’ll go ahead and continue to pay down our debt. Our blended rates somewhere around 5.5 [ph] on the debt.

All right. And then last thing for me, the Endoscopy business has been a bit of a headwind the past few quarters. It sounds like this quarter, it was a good quarter. Are you past the supply chain issues for that business, should we…

Yes, Jim, we’re on the final part. There’s still a small part of it. So we still have a back order. Remember, the issue was we had a vendor that just stopped doing the work that we needed on the coatings. We shifted, which I think was the right thing to do, clearly, to a U.S. Company, and they’re in the final qualification of the final product. So we’re coming down the back stretch on that one. And then I think there’s a lot of other products in that portfolio, like our balloons and other things that have helped that. So we expect to see that business continue to grow very nicely going forward.

Great. All right, that was it for me. Thank you, guys.

Okay. Thanks, Jim.

Thank you. [Operator Instructions] One moment for our next question. Our next question comes from Mike Matson with Needham and Company. Your line is open.

Yes, thanks for taking my questions. I did join the call a little late. Apologize if you’ve already addressed this, but I did want to ask one about China. Just given you saw slower growth in the third quarter, what are you assuming for the fourth quarter? And then I know you’re not giving guidance overall for 2024 yet, but just your general thoughts on the outlook there. Can you get back to decent growth next year in that market, or is there going to continue to be headwinds, do you think?

Yes, so I’ll start with the last part of the question, but 2024. You’re right, Mike. We’re not going to talk about that. We’ll give you our thoughts when we give our guidance sometime in February. And so I’ll kind of take that one off the table. But as far as China, that came in within the expectations of what we thought. Obviously, we’ll still have some sort of impact in the fourth quarter we talked about. So, I’d say generally, China came in at expectations.

Okay, got it. And then just with the updates or the extension, I guess, of the foundation for growth targets. I know you’re not going to say what that is right now, but just in terms of the framework, in terms of giving guidance around sort of revenue growth, margin targets and cash flow targets, I mean it’s that kind of it should look similar to what you gave before, just with sort of newer numbers, essentially.

Well, look. Hi, Mike. I appreciate the question. Here’s where we’re at. I’m just going to use a football analogy here. We are at a full sprint right now. We’ve got 15 yards to score a touchdown, and we are just not going to drop the ball. Right? We do not want to drop the ball. And so we’re going to punt on that response to the next quarter when we give you our updated guidance for 2024. But, look, we’ll talk about the framework and what we’re thinking there. Right now, we’re just really focused on finishing FFG. Look, we’re just super excited about how the business is done. I think you look at this quarter; we had almost 10% organic constant currency growth. We had strong gross margin expansion. We leveraged operating expenses. It was just, honestly, a really perfect P&L and with really strong free cash flow. So we’re just going to continue to stay focused on the fourth quarter and finish off FFG, and then we’re excited to talk about what comes next.

Okay. Understand. Thank you.

All right, Mike.

Thank you. That concludes the question-and-answer session. At this time, I would like to turn the call back to Mr. Fred Lampropoulos for closing remarks.

Well, listen, it’s a busy day. Everybody’s very busy. A lot of stuff going on with trade shows and a lot of people reporting. We appreciate you taking the time. Raul and I will be available for the next several hours to talk to you and clarify issues that you have interest in. We appreciate it. Thank you very much. And best wishes from snow in the mountains and colder temperatures in Salt Lake City, Utah. Good evening.

That does conclude our conference call for today. Thank you for your participation.