Good morning, and welcome to the Waters Corporation Second Quarter 2019 Financial Results Conference Call. All participants will be in a listen-only mode until the question-and-answer session of the conference call today. This conference is being recorded. If anyone has any objections, please disconnect at this time. It is now my pleasure to turn the call over to Mr. Bryan Brokmeier, Head of Investor Relations. Please go ahead, sir.

Thank you, operator. Good morning, everyone, and welcome to the Waters Corporation second quarter earnings conference call. Before we begin, I will cover the cautionary language. During the course of this conference call, we will make various forward-looking statements regarding future events or future financial performance of the company. In particular, we will provide guidance regarding possible future income statement results for the company for the third quarter and full year 2019. We caution you that all such statements are only predictions and that actual events or results may differ materially. For a detailed discussion of some of the risks and contingencies that could cause our actual performance to differ significantly from our present expectations, see our annual report on Form 10-K for the fiscal year ended December 31, 2018, in Part 1 under the caption, Risk Factors, and the cautionary language included in this morning's press release and 8-K. We further caution you that the company does not obligate or commit itself by providing this guidance to update predictions. We do not plan to update predictions regarding possible future income statement results, except during our regularly scheduled quarterly earnings release conference calls and webcasts. The next earnings release call and webcast is currently planned for October 29, 2019. During today's call, we will be referring to certain non-GAAP financial measures. Reconciliations of the non-GAAP financial measures to the most directly comparable GAAP measures are attached to our earnings release issued this morning. In our discussions of the results of operations, we may refer to pro forma results, which exclude the impact of items such as those outlined in our schedule titled Reconciliation of GAAP to Adjusted Non-GAAP Financials included in this morning's press release. Unless stated otherwise, references to quarterly results increasing or decreasing are in comparison to the…

Thank you, Chris, and good morning, everyone. In the second quarter, we recorded net sales of $599 million, an increase of approximately 2% in constant currency. Currency translation decreased sales growth by approximately 2% resulting in flat sales as reported. In the quarter, sales into our pharmaceutical market grew 6%. Sales into our industrial market declined 3%, while academic and governmental markets were flat. Looking at product line growth, our recurring revenue, which represents the combination of precision chemistries products and service revenue, grew 4% in the quarter, while instrument sales were flat. As we noted last quarter, there is no year-over-year difference in the number of calendar days during the second or third quarters, but there is one additional calendar day in the fourth quarter of 2019 compared to 2018. Breaking second quarter product sales down further, sales related to Waters branded products and services grew 3%, while sales of TA-branded products and services were flat. Combined LC and LC-MS instrument platform sales were up 1% and TA's instrumentation system sales decreased by 2%. Looking at our growth rates in the second quarter geographically and on a constant currency basis, sales in Asia were up 3% with China growing at 3%. Sales in the Americas were up 5% driven by 8% growth in U.S. and European sales were down 2%. Now, I’d like to comment on our second quarter non-GAAP financial performance versus the prior year. Gross margin for the quarter was 58.4% compared to 59.2% in the second quarter of 2018. The lower gross margin relative to the prior-year quarter was primarily the result of FX. Moving down the second quarter P&L, operating expenses increased by approximately 1% on a constant currency basis and foreign currency translation decreased operating expense growth by approximately 3% on a reported basis.…

Thank you. Our first question comes from Derik De Bruin of Bank of America. Your line is open.

Hi. Good morning. Christopher O’Connell: Good morning, Derik.

Hi. Can you just clarify on the margins for a little bit? How did FX help? I know the pound obviously has been tanking. So how does that flow through? I know that benefits you. Can you just talk about the impact on the margin?

Yes. Hi, Derik. This is Sherry. In the quarter, our FX on the top line kind of came in as expected and on gross margin it was unfavorable, about 60 basis points – impacted about 60 basis points. And then we – as it flowed through to EPS, it was a little bit more unfavorable than what we had expected. And basically it’s due to the weaker euro and the pound and yen movement wasn’t able to be offset.

Got it. Obviously, there’s a lot of questions on China and one of your competitors in the tool space flagged some incremental headwinds in that market yesterday with some government tender commentary there. Can you just talk about a little bit more about the situation there and what you’re seeing in 4+7? And also just anything in terms of unusual activity from either a pricing perspective or potentially orders going to more local vendors there? Thanks. Christopher O’Connell: Sure, Derik. Let me jump into that and start with the 4+7 as you began. As I mentioned in the prepared remarks, we did see really a loosening of some of the spending that had been so constricted in the first quarter, particularly in the month of March. And as I mentioned, we saw some of the winners come forward with instrument purchasing from the first round. And just as a reminder, Phase 1 of the 4+7 involved a target of 31 drugs, 25 were actually completed through the tendering process. And now we do have some expectation as Phase 2 is upon us. I think there is still some lack of clarity in the market as it relates to how it all plays out, but I would characterize the tone of our customers as being a little bit more balanced than we saw them in Q1. Q1, the news was so new, the process was so new that it really had a freeze effect in the market and we did see some chilling of that freeze and some better underlying demand. As I mentioned many times, we see the overall objectives of the 4+7 program being positive for the consumer in China and ultimately for instrument purchases. And so we’re just managing our way through it. As it relates to the rest of the market in China, we didn’t see any unusual activity to your question on pricing or any local bias. As you know, a lot of our business in China is in highly regulated categories and therefore there is less of a local competition dynamic than perhaps other companies. But China obviously is a dynamic market right now. We’re just staying very, very focused on what we do well there which is to serve our customers and deliver technology to them. And our overall expectations for China over the rest of the year are what I’d say cautious and balanced where we’re seeing some great strength in areas like large molecule, biomedical research, clinical diagnostics with ongoing questions on 4+7, so we’re in a little bit of a wait and see mode there. Our exposure in government food labs has been under pressure while we also see some good development on the independent side. So, overall, kind of a balanced view but certainly not any expectations that China comes all the way back to historical levels. We see more of a continuation of the trends that we saw in Q2.

Thank you. Our next question comes from Tycho Peterson of JPMorgan. Your line is open.

Hi. Good morning. Chris, I’m wondering if you can talk on the pharma recovery. Last quarter, you talked about some delays on the budget release. How much of this quarter was just catch up versus what could be a sustainable recovery from pharma? Christopher O’Connell: Sure. Thanks. Good morning, Tycho. Yes, we did see – we definitely saw better pharma tone really across the portfolio in Q2 and that had been a welcome sign after Q1. I don’t know that I would characterize it as a catch up from Q1 per se, but just an overall health and strength of the pharmaceutical market. As I mentioned, we grew in all key geographies. We continue to see robust large molecule trends. And despite some of the hits on the small molecule side we’ve taken in recent years in India and China, we do believe in the ongoing health of that market driven by expanding patient access to therapies. I guess one other comment there is in particular what we call our top pharma, which is our top 15 pharma accounts, we are very encouraged by them. They had a better quarter in Q2 than we’ve seen in a while. And while we’re not assuming any unusual flush activities in the back half of the year, we expect what I’d characterize as normal second half improvement in a pattern that we’ve seen over the last several years. So it was nice to have pharma overall for us at the historical growth rates in that 6% growth range and as long as that continues on that pattern, which we do expect, we gain confidence in our numbers in the back half of the year.

Okay. And then for the follow up, can you just address the guidance reduction? It sounds like pharma is stabilizing a bit. China is maybe going to be consistent with what you saw in 2Q. So it is really just the industrial outlook that you’re factoring in the back half of the year for the guidance reduction? Christopher O’Connell: Yes, I’ll make a quick comment and let Sherry go a little deeper on the guide. Obviously, halfway through the year it’s just math on the first half. And so you take the actual for the first half and then you take our outlook for the second half which we’ve tried to be clear we do expect to be better than the first half and have some of these market trends continue plus the incremental benefit of our new products. And so what ends up in forming the overall range for the year is simply the first half actuals, because we came in a little bit in the lower end of our range in Q2 that had the effect of taking down the first half actual a little bit. But looking at the second half, I think you’ve characterized it correctly which is we expect a solid and healthy pharma, solid and healthy U.S. environment that was a real nice part of the quarter with a balanced view in China and I’d say probably more caution on the European environment overall.

And just adding to that a little bit, when you think about the markets, Chris had talked about pharma, also probably a little bit cautious on the industrial given what we’ve seen so far in the year. When you look at our EPS guide range, we lowered it from the midpoint. There’s really two factors that drove that. One would be our FX guidance update. That’s about half of the change, 1 point we’re seeing as FX, and then the volume changing kind of our midpoint growth volume for the full year.

Okay. Thank you. Christopher O’Connell: Thanks, Tycho.

Thank you. Our next question comes from Ross Muken of Evercore. Your line is open.

Good morning, guys. So I appreciate some of the color on the cyclical end markets and some of the industrial noise. I guess as you’re thinking about second half, the CapEx line in general in terms of instruments has been sort of a source of weakness now for I don’t know, maybe 12, 18 months. I think probably the weakest periods were instruments since maybe '08, '09. Obviously, you’ve got a lot of new products coming in that you can control. But on the stuff you can’t, I guess how are you thinking about the degree of risk from just general macro slowdown, so PMIs continue to decelerate, some of the challenges in China, we know of Europe obviously the threat of hard Brexit there that’s tough to figure out but it seems like a risk? And then layering in what we know about 4+7, obviously we were there in China not long ago. It seems certainly like there was going to be an expansion. And so, again, that’s something not in your control and may end up positive but still causes some lack of visibility. So I guess how are you thinking about the cadence of the product rollouts, what you can control versus the risk of what you can’t control, because it seems like the key to getting Waters back to its more normalized growth rate is obviously going to be getting that CapEx line back to a more – the instrument line back to a more normal level. Like, how do you put that whole pie together as you think about getting back to, I don’t know, 3%, 4%, 5% instrument growth by next year which you need to kind of get back to your long-term growth rates? Christopher O’Connell: Yes, thank you, Ross, and good morning.…

Chris, maybe on a strategic level, one of the things that sort of differentiated growth this quarter and last quarter or sometimes when the group is kind of exposure to bio production, you guys have some presence there but certainly not the same scale you do in small molecule. I guess as you think about strategically how you’ve deployed your capital, with some of the bumps you’ve had, the stock has hung in there given all the buyback that’s happened. I guess has there been any thought maybe to getting a little bit more aggressive on the sort of strategic tuck-in M&A side to maybe get the bias particularly on pharma where you’ve got some a dominant presence a little bit more skewed towards the biotech side versus maybe where you are today? Christopher O’Connell: Yes. I think that’s an important topic and as you know from our capital allocation priorities which we have really refined since U.S. tax reform which was a real game changer for us, we do have as our first priority for capital deployment growing the business and that’s why we’ve allocated more capital to internal R&D. It’s why we’ve allocated more capital to CapEx. And we’ve over the past several years built a corporate development function within the company to be more active outside the company looking for opportunities to deploy capital to highly purposeful selective M&A. And so we are definitely more active on that front, but with a high degree of both strategic and financial discipline. In the overall bio production world there’s obviously a lot of analytical technologies in that space where we’ve been forward leaning for some time. We’ve had some market leading technology in areas like process analytical and other related areas in terms of more participation in some of those spaces. Some of that would be logical. We’re always going to stay within a framework of our specialty focus as a company, but we do see that to provide incremental growth opportunity. And obviously a lot of specifics we can put around that until you see us more active.

Okay. Thanks, Chris. Christopher O’Connell: Thanks.

Thank you. Our next question comes from Brandon Couillard of Jefferies. Your line is open, sir.

Thanks. Good morning. Chris, I want to come back to the China generics market in 2Q specifically. Are you seeing sequential growth in that part of the business? Was it ahead of plan? And kind of what are you embedding for the second half outlook? And sort of do you feel like kind of the worst is behind you there at this point? Christopher O’Connell: Yes, I think I’d probably stop short of saying the worst is behind us. I think it’s just generally a cautious environment. But we definitely saw better dynamic in Q2 than Q1. And as I mentioned in the prepared remarks, we saw growth in both small and large molecule applications within China. In the case of large mol, that’s been a consistent trend for some time reflecting the underlying innovation that’s going on in the biomolecule space. And in small molecule we’re weighted towards generics there and we did see some of our customers kind of perk up during the quarter. And those that are feeling confident in these bidding processes are looking to spend their capital budgets over the course of the year. So, yes, we did see sequential improvement on the generics side. But until we gain more clarity on how everything plays out, we’re making sure we had relatively moderate type expectations.

Thanks. I’d love to get your perspective on how you think the order book is kind of building for some of the newer products, like BioAccord, Cyclic and the new SYNAPT system, how the order funnels are building the areas of most interest and what you think the impact might be to instrument revenues from some of those new systems in the back half? Christopher O’Connell: Yes, we’re definitely focused a lot on that. And I’d also want to mention the two new tandem quad launches that we announced yesterday, which really delighted our field organization to improve our core kind of midrange tandem quad line with Xevo TQ-S cronos and the Xevo TQ-S micro refresh. So when we look at that, we do have an expectation for improving mass spec performance in the back half of the year. In terms of the order book activities, since ASMS we’ve been out with the high end, high resolution systems and as I mentioned we’ve received some orders already for both Cyclic as well as SYNAPT XS even though those are back half launches, if you will. And BioAccord because it’s really a new to market technology targeting an emerging space, it’s more of a market development activity and we’ve been really focused on a tremendous amount of demonstration type activity working with customers to evolve their own – support their own budgetary processes to free up money within the year and to develop that overall lead opportunity and quoting pipeline. And we monitor and manage those statistics rigorously and are pleased with that, and so we do expect to see a more visible impact on BioAccord in the back half of the year and really something that as I said in the prepared remarks is really a multiyear phenomenon. So, again, I don’t want to put specific numbers on any one of those categories or the portfolio overall other than to say in our efforts to really get the instrument line moving, these product launches are critical and we’re excited about them.

Super. Thanks. Christopher O’Connell: Thanks.

Thank you. Our next question comes from Doug Schenkel of Cowen. Your line is open.

All right. Good morning. Thank you for taking my questions. I want to start by talking about chemistry and then I want to come back and talk about the revised growth outlook for the year. So starting on chemistry, just to unpack results in the second quarter and the outlook from here, you’ve generated better than corporate average growth this quarter. But the last couple of quarters have been a bit below historical trend. You’ve called out timing headwinds in the first quarter that were supposed to benefit Q2. Did these tailwinds materialize in the quarter? And can you comment generally on recurring revenue growth? Is the slight deceleration in the first half just due to weaker installed base growth over the past few quarters? And if so, is the expectation that over time as instrument placements improve that chemistry and broader recurring will improve? Christopher O’Connell: Yes, thanks, Doug, and good morning. On the chemistry line and unpacking that a little bit, there was in our portfolio strength on the chemistry side in the biopharm area and pharmaceuticals evolved really at historic-type level with some softness on the industrial side given the overall end market dynamics there. Chemistry sales in part move with installed base and in part move with overall volume of testing activity. And so the extent a segment like industrial is a little bit soft, you’re going to see some effect to that on chemistries. And so really what I’d say is a little bit of a tale of two cities on positive chemistry results on the pharma side and slightly below normal on the industrial side. In terms of the overall recurring revenues as well as service, we continue to sell a wide range of service programs into the market and to some degree it does reflect underlying instrument activity. But sometimes we also see dynamics in certain product lines where there’s been slower instrument growth take on a little bit more of a service burden and so we get some benefit from that. So overall, we expect to see continued solid recurring revenue growth over the course of the rest of the year. And certainly as instrument growth picks up with our new product cycle, we think there’s opportunity in both those lines.

Okay. Thank you for that, Chris. And on the growth outlook, just to go back to this at least one more time. It seems like the key driver to the full year of growth guidance reduction and I think your words were first half results coming up a little bit light and then a change in the industrial outlook. If I’m doing the math right, it seems like it has to be largely the latter because mathematically if we adjust for how Q2 came together, it still seems like you’re essentially cutting the second half growth expectations by almost 100 basis points. So with that in mind, I would have thought your expectations on industrial were already pretty muted at this point. So could you first quantify exactly what the changes in industrial expectations, confirm that there isn’t another dynamic here because mathematically it suggest something else is possibly going on here? And I guess lastly, TA was flat year-over-year against a really tough comp overall in instruments. I’m just wondering if you still expect TA to grow at least low single digits in the second half of the year or even coming off of a tough comp and a strong quarter, relatively speaking is this a bit optimistic given your comments on industrial in Europe? Thank you. Christopher O’Connell: Thanks, Doug. I guess the way I would describe maybe the difference between what we expected and what we saw in Q2, which plays through to the rest of the year, certainly we were very pleased with the U.S., we’re very pleased with pharma, we were pleased to see China come back a bit. Really Europe was probably the main swing factor there that probably put us in the lower part of the range versus the middle or upper part…

Okay. Thank you. Christopher O’Connell: Thanks.

Thank you. Our next question comes from Dan Brennan of UBS. Your line is open.

Great. Thanks for the questions. Chris, not to belabor, but I was hoping to go back to China one more time, if you don’t mind. Could you just flush out and just remind us specifically how large is your China generics and China food business, specifically what did they grow in the quarter, if you could share that? And then, well, I can appreciate the visibility is limited given the government hasn’t really enacted the next step on the generics presumably. You’re in a better position than we are to kind of assess kind of what’s a reasonable kind of rate of outlook for growth for your businesses and I think it’s important for us to get some sense on what the potential parameters around that business growing going forward as these programs rollout. So if you can help us with that that would be terrific? Christopher O’Connell: Sure. Let me see if I can add some incremental thoughts there, Dan. Thank you. As it relates to kind of mix where you started on generics and food, just some broad parameters. Small mol versus last mol in China last year was in the sort of 80-20 range; 80 small, 20 large. And if you look at our overall mix of generics, it’s higher in China than it is around the world. Globally, generics is maybe 30% of pharma and you can call it a little bit more than that in China, so China is more weighted there. On the food side, food testing not including environment, it’s about 15% of our China business which again is a little bit over indexed compared to the overall global mix. And we still see in the backdrop of China a robust pharma environment. Clearly 4+7 was a shock to the system in the…

Great. Thanks, Chris, for that. And then just back to the small mol with U.S. and Europe, so can you just give us some flavor specifically like how your businesses did for pharma in U.S. and Europe? I think you might have said that already, but maybe just clarify that? And then secondly is whatever concerns that were there on the first quarter for this small mol-related spending slowdown, are those removed and it was just normal budget timing or are there any lingering issues to point to related to small molecule? Thank you. Christopher O’Connell: Yes. Thanks, Dan. As I mentioned, we did see better tone in the market in small mol in Q2 than Q1. In Q1 we’ve seen this pattern in previous years which is kind of a wait and see caution kind of attitude in the earlier parts of the year, particularly among our larger customers. But like I said, we saw our larger customers really come back and actually have about as good of a quarter as they’ve had in a while. In terms of the European and the U.S. kind of overall pharma growth in the quarter, it was in that solid mid-single digit range. And so we were encouraged by that. And like I said earlier encouraged at our overall pharma business was operating in the quarter at historical kind of rolling trend rates. And so we think that stability is something we expect for the second half of the year.

Great. Thank you, Chris.

We have time for about one more question, operator.

And that question comes from Sung Ji Nam of BTIG. Your line is open.

Hi. Thanks for taking my questions. Just a couple of quick ones, one on China again. For the academic, government segment there, some of your peers are seeing some strong growth. And so curious as to – I’m just trying to reconcile what maybe your product mix there? Is it largely food testing environmental versus biomedical research, if you could provide some color on that? Christopher O’Connell: Sure, no problem. Thanks, Sung Ji. In China, there’s a pretty wide range of activity in government and academic categories and so mix really matters there. When you look at our academic and government sector, we have a really strong concentration in the food safety testing which as we’ve commented for a few quarters now has been very, very soft. We made up for that a little bit through the independent testing labs, but the government and academic part of that has been overall weak. And there is a lot of reorganization going on in the government right now that has worked its way through the national level and now working into the provisional and city level. And so we are cautious about the overall government market and the academic market which is sometimes related to that. So, it can be pretty lumpy as well though. So I think we’re not drawing any real conclusions based on what we’ve seen this year so far, particularly with our mix and other parts of government and academic beside food. But at this point it’s something that held us back in the quarter.

Great. And then just – it sounds like you’re seeing some decent momentum for the newly launched products this year. Wondering if I might be able to extract some more color based on kind of the quoting activity, the early market development activities as well as customer feedback in terms of how the order growth is kind of trending? Is it pretty much in line with your expectations ahead of launch or I’m just trying to figure out – I don’t know if it’s too early to tell, but maybe is there some better than expected outlook for some of the newly launched products? Christopher O’Connell: It’s a good question. You never know the exact timing of how the order book builds per se, but all the leading indicators for that are something we’re putting quite a bit of effort into understanding in more detail. We’ve build a sales operations function that is more closely linking the commercialization activities to all the different activities in the field and giving us the data points we need to gain comfort that we’re moving in the right direction. But it starts all the way back with customer introduction with the demoing process for which we’re doing some new things this year, and then translating into an overall lead and opportunity which is a highly qualified lead book and then into quoting activity and all those trends seem to be moving in the right direction. We’re thrilled that we have some orders already for the SYNAPT and the Cyclic systems, the BioAccord pipeline is strong and to throw on top of that yesterday we launched the new tandem quad which is exciting for our field organization. Anyway I don’t want to put too much specificity on forecasting orders or sales other than to say the overall portfolio effect is something that we really believe is going to help us in the back half of the year. So it’s really an outcome of all the good work we’ve been doing in R&D. So, anyway I know we’re out of time and sorry we couldn’t get to more questions, but really enjoyed the questions and look forward to further discussions with all of you. In conclusion, we are focused on delivering a stronger second half of 2019 headlined by continued pharmaceutical strength, improving stability in key geographic markets and the increasing impact of our exciting new product cycle. Furthermore, we remain confident in the long-term health of our end markets, our very strong competitive position within our priority categories, our focused growth strategies and our talented people around the world. So on behalf of our entire management team, I’d like to thank you for your continued support and interest in Waters. We look forward to updating you on our progress during our Q3 2019 call, which we currently anticipate holding on October 29, 2019. Thanks and have a great day.

Thank you for your participation in today’s conference. You may now disconnect at this time. Have a wonderful day.