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Smith & Nephew Fourth Quarter Trading and Full Year 2017 Results

8 February 2018

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Smith & Nephew plc (LSE:SN, NYSE:SNN) Fourth Quarter and Full Year to 31 December 2017 results:

  Reported   Trading2

31 Dec
2017
$m
31
Dec
2016
$m
Reported
growth

%
  31 Dec
2017
$m
31
Dec
2016
$m
Underlying
growth
%

Fourth Quarter Resultsi


 

     
   

Revenue

 1,278 1,222   1,278  1,222  2
               
Full Year Resultsi              
Revenue 4,765  4,669  2
 4,765 4,669  3
Operating profit  934 801



 
Trading profit          1,048  1,020  
Operating/trading profit margin (%)  19.6  17.2

 22.0 21.8  
EPSA/ EPS (cents)  87.8 88.1

 94.5  82.6  

 

2017 Full Year Highlights1

  • Underlying revenue up 3% and trading profit margin up 20bps to 22.0%, in line with guidance
         -   Reported revenue growth of 2% is after -1% reduction from the disposal of Gynaecology business in 2016 and no FX impact
         -   Operating profit margin of 19.6%, up 240bps from more favourable non-trading items
  • Performance driven by market-beating growth from Knee Implants and double-digit growth in Emerging Markets, offset by softness in AET and European Advanced Wound Care
  • Trading cash flow of $940 million, up from $765 million in 2016, with higher trading profit to cash conversion ratio of 90%
  • Tax rate on trading results reduced by 670bps to 17.1%, including benefit from one-off US tax settlement (12.7% reported tax rate)
  • EPSA up 14% to 94.5¢ reflecting improved trading and tax rate (EPS flat at 87.8¢)
  • ROIC4 improved 280bps to 14.3%
  • Full year dividend up 14% to 35.0¢ per share

Guidance1

  • Revenue expected to increase 3%-4% underlying (around 7%-8% reported3)
  • Trading profit margin expected to improve by a further 30-70bps
  • Tax rate on trading results expected to be 20%-21% following US tax reform
  • Accelerating Performance and Execution (APEX) programme initiated to drive an annualised benefit of $160 million by 2022 through better execution and efficiency for a one-off cost of $240 million

Olivier Bohuon, Chief Executive Officer of Smith & Nephew, said:

“We delivered on our promises to improve the top and bottom line in 2017. Our Knee Implants franchise delivered a standout performance and we returned to double-digit growth in the Emerging Markets. Our healthy balance sheet, good cash generation and increased dividend demonstrate the robust foundations underpinning our business.

“In 2018 I expect Smith & Nephew to build on 2017 by delivering another year of improved performance driven by our strong product portfolio and pipeline of innovative products.

“Looking further ahead, our greater focus on commercial execution gives us confidence we will outgrow our markets and the new APEX programme supports our expectation of improved trading profit margin.”

Analyst conference call

An analyst meeting and conference call to discuss Smith & Nephew’s results for the year ended 31 December 2017 will be held today, Thursday 8 February 2018 at 9:00am GMT / 4:00am EST. This will be webcast live and available for replay shortly after. The details can be found on the Smith & Nephew website at www.smith-nephew.com/results.

Enquiries

Investors

 

Ingeborg Øie +44 (0) 20 7960 2285
Smith & Nephew

 

 

Media

 

Charles Reynolds

+44 (0) 20 7401 7646

Smith & Nephew

 

Ben Atwell / Simon Conway

+44 (0) 20 3727 1000

FTI Consulting

 

Notes

  1. Unless otherwise specified as ‘reported’ all revenue growth throughout this document is ‘underlying’ after adjusting for the effects of currency translation and including the comparative impact of acquisitions and excluding disposals. All percentages compare to the equivalent 2016 period.
    Underlying revenue growth is used to compare the revenue in a given period to the  comparative period on a like-for-like basis. Underlying revenue growth reconciles to reported revenue growth, the most directly comparable financial measure calculated in accordance with IFRS, by making adjustments for the effect of acquisitions and disposals and the impact of movements in exchange rates (currency impact), as described below.
    The effect of acquisitions and disposals measures the impact on revenue from newly acquired business combinations and recent business disposals. This is calculated by comparing the current year, constant currency actual revenue (which include acquisitions and exclude disposals from the relevant date of completion) with prior year, constant currency actual revenue, adjusted to include the results of acquisitions and exclude disposals for the commensurate period in the prior year.
    Currency impact measures the increase/decrease in revenue resulting from currency movements on non-US Dollar sales and is measured as the difference between: 1) the increase/decrease in current year revenue translated into US Dollars at the current year average rate and the prior year revenue translated at the prior year average rate; and 2) the increase/decrease being measured by translating current and prior year revenue into US Dollars using a constant fixed rate.
  2. Certain items included in ‘trading results’, such as trading profit, trading profit margin, tax rate on trading results, trading cash flow, trading profit to cash conversion ratio, EPSA and underlying growth are non-IFRS financial measures. The non-IFRS financial measures reported in this announcement are explained in Note 9 and are reconciled to the most directly comparable financial measure prepared in accordance with IFRS. Reported results represent IFRS financial measures as shown in the Condensed Consolidated Financial Statements.
  3. Reported growth rate assumes exchange rates prevailing at 2 February 2018.
  4. Return On Invested Capital (ROIC) is defined on page 95 of Smith & Nephew’s 2016 Annual Report.

Smith & Nephew Fourth Quarter Trading and Full Year 2017 Results

Review of 2017

Group revenue for the Full Year 2017 was $4,765 million (2016: $4,669 million), an increase of 3% on an underlying basis, in line with guidance. The 2% reported growth rate includes a -1% reduction from the disposal of the Gynaecology business in 2016 and there was no impact from foreign exchange.

In 2011 we set five strategic priorities that have shaped a fundamental management and operational restructuring of the Group as a foundation to improving its growth and profit profile.  Through these priorities we seek to drive our commercial execution in the Established and Emerging Markets, invest in innovation that drives value, simplify and improve our operating model, and supplement organic growth through acquisitions.

Commercial Execution

At a global franchise level, the highlights were Knee Implants, with revenue up 5% beating the 2% market growth rate, and Trauma and Extremities, up 4%, a notable improvement on 2016. Advanced Wound Management revenue was up 2%, with 13% revenue growth from Advanced Wound Devices partially offset by soft European Advanced Wound Care performance. Arthroscopic Enabling Technologies (AET) revenue was down -3%, but we expect performance to gradually improve during 2018 as we complete the full market rollout of new COBLATION and camera systems. 

In our Established Markets revenue was up 1% in 2017. Within this, our business in the United States, representing 48% of global revenue, grew 2%. Other Established Markets growth was flat.

Our Emerging Markets business, which now represent 16% of global revenue, delivered 12% revenue growth in 2017, a significant improvement over the flat performance of 2016. In China, our largest Emerging Markets country, we delivered double-digit revenue growth through better execution and channel management. In the oil-dependent Gulf States we returned to growth by focusing on securing more private healthcare business to compensate for the reduction in government tenders. We are well positioned to continue to drive strong growth from the Emerging Markets over the medium term.

Innovate for Value

Our strong new product portfolio reflects our decision of a few years ago to increase investment in R&D and technology acquisitions.

In robotics, NAVIO is a unique and compelling proposition and we are successfully extending its indications and taking it to new geographies, such as India. We launched the total knee arthroplasty (TKA) application and completed the world’s first robotics-assisted bi-cruciate retaining total knee replacement procedures using the new JOURNEY II XR.

In the Emerging Markets we continued to build our mid-tier portfolio. We extended the ANTHEM Total Knee System and ORTHOMATCH Universal Instrumentation Platform into more markets, including Russia and Saudi Arabia, and introduced a new Cruciate Retaining (CR) variant. 

We are also focusing on building a greater evidence-base to demonstrate the clinical and health economic effectiveness of our products. In 2017 PICO benefited from new clinical evidence showing its effectiveness at reducing the incidence of surgical site infections. Our TRIGEN INTERTAN hip fracture system also performed strongly supported by new clinical evidence.

The new EU Medical Device Regulations came into force in 2017 and will apply from May 2020 after a transitional period of three years. We are working to implement the requirements, notably as regards clinical evidence and other data to support existing products and new product launches. We expect to incur costs associated with implementation during this period which will be recorded outside trading profit owing to their scale and one-off nature.

Finally, we continue to develop new business models to address changing or unmet customer needs. During 2017 we ran the first study of our innovative Episode of Care Assurance Program (eCAP) that combines our hip and knee implants with PICO and ACTICOAT Flex 7 Antimicrobial Barrier Dressings. The first results showed eCAP delivering a 97% decrease in hospital readmission rates following total joint replacement surgery (based on 1,380 joint arthroplasties with only two readmissions, a readmission rate of only 0.145% as compared to published rates of 5.3% or more).

Delivering compelling acquisitions

During the year we strengthened our technology and product portfolio further with the acquisition of Rotation Medical, the developer of a novel tissue regeneration technology for shoulder rotator cuff repair. Its bioinductive implant is highly complementary to our Sports Medicine portfolio, serving an unmet clinical need and providing a compelling new treatment option for our customers.

In addition to this acquisition, in 2017 we also signed agreements to distribute two exciting technologies: a unique wireless patient monitoring system for pressure ulcer/injury prevention in the US from Leaf Healthcare; and MolecuLight i:XTM, a handheld point-of-care imaging device that uses fluorescence imaging to display potentially harmful concentrations of bacteria in wounds in real-time.

Accelerating Performance and Execution (APEX Programme)

Group structure to allow us to strengthen our competitive position by driving further opportunities to accelerate performance through better execution, while at the same time realising more savings through greater efficiency.

We have completed our assessment of these opportunities and started to implement a programme called APEX - Accelerating Performance and Execution.

APEX is expected to deliver an annualised benefit of $160 million by 2022, with around three-quarters of this expected by 2020, for a one-off cash cost of up to $240 million, of which a charge of around $100 million is expected in 2018.

APEX has three workstreams:

1.    Manufacturing, Warehousing and Distribution

We have already made significant improvements over the last two years, and see further opportunities to simplify in line with best practices to reduce overall cost, while improving quality and delivery through:

  • A best practice facility footprint with larger manufacturing hubs supported by speciality facilities where appropriate
  • A product portfolio that meets the needs of our customers and complies with regulations, while minimising cost, complexity and inventory
  • A supply chain that is streamlined and efficient so that we are positioned to achieve the highest levels of delivery at benchmark cost

2.    General and Administrative (G&A) Expenses

We have improved our G&A expense ratio over the last five years, but with our global function structure we are now able to identify additional areas of opportunity to reduce costs and improve service through:

  • Best-in-class Global Business Services that includes a full-spectrum of support services delivered quickly and efficiently, enabling full focus on our customers and business objectives
  • Service hubs in locations that align to our regional needs and deliver the best value for money
  • System infrastructure that drives maximum efficiency, including rationalisation of legacy IT systems and adopting a ‘cloud-first’ strategy

3.    Commercial Effectiveness

Whilst the commercial opportunities and competitive environment continue to evolve with changing customer expectations, new go-to-market approaches and price pressure, we expect to improve overall productivity and accelerate top line growth through:

  • Increased sales and marketing effectiveness
  • Selective refinement of structures and territories to meet customer and market demands
  • Being more responsive to customers’ use of tenders and changing service level demands
  • More accurate demand forecasting to improve inventory management

Fourth Quarter Consolidated Revenue Analysis

Consolidated revenue by franchise 

 31 December
2017
$m

31 December 2016
$m

 Reported
growth
%

Underlying
growth(i)

%

Acquisitions/
disposals

Currency
impact
%

Sports Medicine, Trauma & Other

 519

495

5

  2

1

2

Sports Medicine Joint Repair

173

159

 9

6 1

2

Arthroscopic Enabling Technologies

167

168

-1

-3

-

2

Trauma & Extremities

128

 120 7

5

-

2

Other Surgical Businesses

51

48

5

 4

-

1

 

 

 

 

 

 

 

Reconstruction

423

  400

6

4

-

2

Knee Implants

266

 247

8

6

 -

 2

Hip Implants

 157

153

3

 1

-

 2

 

 

 

 

 

 

 

Advanced Wound Management

336

327

3

 -

3

Advanced Wound Care

187

186

1

-3

-

 4

Advanced Wound Bioactives

97

97

1

 -

 -

 1

Advanced Wound Devices

52

 44

18

 14

-

4

 

 

 

 

 

 

 

Total

1,278

1,222

 5

2

- 3
             

Consolidated revenue by geography

US

624

614 2 1 1  -
Other Established Markets(iii) 445 428 4 -1 -  5
Emerging Markets 209 180  16  14  - 2
             
Total 1,278 1,222 5 2 - 3

(i) Underlying growth is defined in Note 1 on page 2
(ii) Reported growth reflects the divestment of the Gynaecology business in August 2016
(iii) Other Established Markets are Europe, Canada, Japan, Australia and New Zealand

Fourth Quarter 2017 Trading Update

Our Q4 revenue was $1,278 million (2016: $1,222 million), up 5% on a reported basis including a foreign exchange tailwind of 3%. Excluding this, underlying revenue growth was 2% in the quarter.

The fourth quarter 2017 comprised 60 trading days, in line with the same period of 2016.

Fourth Quarter 2017 Franchise Highlights

Sports Medicine Joint Repair delivered 6% revenue growth in the quarter driven by a good performance from our shoulder repair portfolio. Revenue from Arthroscopic Enabling Technologies was down -3% as the softness in resection seen in previous quarters continued. We expect growth from the newer WEREWOLF COBLATION and LENS visualisation systems to offset the drag from legacy resection increasingly through 2018.

In Trauma & Extremities we grew revenue by 5%. This included strong growth from the Emerging Markets, despite not benefitting from Middle East tenders, as our recently launched ATLAS nail was well received. The INTERTAN nail continues to attract new customers in Established Markets, supported by its excellent clinical evidence.

Our Other Surgical Businesses franchise delivered revenue growth of 4% in the quarter. This included another good quarter from our Ear, Nose & Throat (ENT) business and continued growth in our robotics NAVIO Surgical System, including further sales in the US, Asia-Pacific and Europe.

We delivered 4% revenue growth across our Reconstruction business in the quarter, completing an excellent second half of 2017. This was led by Knee Implants, where revenue was up 6% as JOURNEY II continued to drive growth, as did recent additions to the LEGION Revision Knee System. Our Hip Implants franchise delivered consecutive quarters of growth, up 1%, as we benefited from the new REDAPT Revision and POLARSTEM Cementless Stem systems.

Advanced Wound Care revenue was down -3%. End-market demand remained broadly consistent with previous quarters, with the exception of the UK, where we have subsequently adapted our business.

Advanced Wound Bioactives revenue was flat in the quarter. As expected SANTYL delivered growth in the second half of the year and the reimbursement environment for OASIS® remained a headwind for the franchise.

Advanced Wound Devices finished the year strongly, as we delivered 14% revenue growth in the quarter driven by the continued success of our single-use disposable negative pressure wound therapy (sNPWT) device PICO. 

Fourth Quarter Regional Performance

In the US revenue was up 1% in fourth quarter, but down -1% across our Other Established Markets. Revenue growth was 14% across the Emerging Markets.

Full Year 2017 Results

Smith & Nephew results for the Full Year ended 31 December 2017:

  2017
$m
2016
$m
Reported
growth
%
Revenue 4,765 4,669 2
 

 

Operating profit

934 801 17

Aquisition and disposal related items

(10)

9

 

Restructuring and rationalisation costs 62  
Amortisation and impairment of acquisition intangibles 140  178  
Legal and other  (16) (30)  
Trading profit (non-GAAP) 1,048 1,020 3

 ¢
¢
 
Earnings per share "EPS" 87.8 88.1  -
Acquisition and disposal related items (0.9) (22.2)  
Restructuring and rationalisation costs - 5.4   
Amortisation and impairment of acquisition intangibles 11.4 13.4  
 Legal and other (0.1) (2.1)  
US tax reform (3.7) -  
Adjusted earnings per share "EPSA" 94.5 82.6 14

 

Full Year 2017 Analysis

Trading profit for the year was $1,048 million (2016: $1,020 million), and the trading profit margin was 22.0% (2016: 21.8%), up 20bps, in-line with guidance.

Reported operating profit for 2017 of $934 million, up from $801 million in 2016, was after integration and acquisition costs, as well as amortisation and impairment of acquisition intangibles and legal and other items (see Note 9 to the Condensed Consolidated Financial Statements). The year-on-year increase primarily reflected a gain of $54 million from the settlement of an intellectual property matter, no restructuring charges and lower amortisation and impairment of acquired intangibles in 2017.

The net interest charge within reported results was $51 million (2016: $46 million). Net debt was $1,281 million at year-end, a decrease of $269 million from $1,550 million at 31 December 2016, mainly reflecting our free cash flow from improved cash conversion (see Note 7 for a reconciliation of net debt).

The tax rate on trading results for the year to 31 December 2017 was 17.1% (2016: 23.8%). This was lower than the originally guided rate of around 26% mainly due to a one-off benefit following the conclusion of a US tax audit, further progress in improving our tax rate, tax provision releases following expiry of statute of limitations and a beneficial geographical mix of profits. The reduction in the reported tax rate to 12.7% (2016: 26.2%) included the $32 million net benefit in 2017 from US tax reform, the lower tax rate on trading results and the impact of the disposal of the Gynaecology business in 2016.

Adjusted earnings per share (‘EPSA’) was up 14% at 94.5¢ (189.0¢ per ADS) (2016: 82.6¢) as a result of the one-off tax benefits along with improvements in trading profit margin and the tax rate on trading. Basic earnings per share (‘EPS’) was 87.8¢ (175.6¢ per ADS), in line with the previous year (2016: 88.1¢).

Cash generated from operating activities was $1,273 million (2016: $1,035 million), reflecting the higher profit-before-tax in the period. Trading cash flow was $940 million (2016: $765 million) (see Note 9 for a reconciliation between cash generated from operating activities and trading cash flow). The trading profit to cash conversion ratio was 90% (2016: 75%), an improvement driven primarily by working capital management.

As the result of the improved operating profit and a stable asset base we saw an increase in Return On Invested Capital (ROIC) from 11.5% in 2016 to 14.3% in 2017.

Dividend

The Board is pleased to recommend a Final Dividend of 22.7¢ per share (45.4¢ per ADS). This, together with an Interim Dividend of 12.3¢ per share (24.6¢ per ADS), will give a total distribution of 35.0¢ per share (70.0¢ per ADS) in 2017. The 14% year-on-year growth in the declared full year dividend reflects the strong growth in adjusted earnings per share. The Final Dividend will be paid on 9 May 2018 to shareholders on the register at the close of business on 6 April 2018.

Outlook

We expect the overall dynamics in our markets to be similar in 2018 to those seen in 2017. Against this backdrop, the Group expects to continue to build on 2017 and again deliver an improved performance in 2018 driven by our strong product portfolio and pipeline of innovative products.

In terms of revenue, we expect our underlying growth to be in the range of 3% to 4%. On a reported basis this equates to a range of around 7% to 8% at exchange rates prevailing on 2 February 2018 and including the impact of the Rotation Medical acquisition.

In terms of trading profit margin, in 2018 we expect to drive a further 30-70bps improvement over the previous year.

As a result of the recently enacted US tax reform, we expect a tax rate on trading results in the range 20% to 21%, barring any changes to tax legislation or other one-off items.

Our healthy balance sheet, good cash generation and increased dividend demonstrate the robust foundations underpinning our business. Looking further ahead, our greater focus on commercial execution gives us confidence we will outgrow our markets and the new APEX programme supports our expectation of improved trading profit margin.

Forward calendar

The Q1 Trading Report will be released on 3 May 2018.

About Smith & Nephew

Smith & Nephew is a global medical technology business dedicated to supporting healthcare professionals in their daily efforts to improve the lives of their patients. With leadership positions in Orthopaedic Reconstruction, Advanced Wound Management, Sports Medicine and Trauma & Extremities, Smith & Nephew has more than 15,000 employees and a presence in more than 100 countries. Annual sales in 2016 were almost $4.7 billion. Smith & Nephew is a member of the FTSE100 (LSE:SN, NYSE:SNN).

For more information about Smith & Nephew, please visit our corporate website www.smith-nephew.com, follow @SmithNephewplc on Twitter or visit SmithNephewplc on Facebook.com.

Forward-looking Statements

This document may contain forward-looking statements that may or may not prove accurate. For example, statements regarding expected revenue growth and trading margins, market trends and our product pipeline are forward-looking statements. Phrases such as "aim", "plan", "intend", "anticipate", "well-placed", "believe", "estimate", "expect", "target", "consider" and similar expressions are generally intended to identify forward-looking statements. Forward-looking statements involve known and unknown risks, uncertainties and other important factors that could cause actual results to differ materially from what is expressed or implied by the statements. For Smith & Nephew, these factors include: economic and financial conditions in the markets we serve, especially those affecting health care providers, payers and customers; price levels for established and innovative medical devices; developments in medical technology; regulatory approvals, reimbursement decisions or other government actions; product defects or recalls or other problems with quality management systems or failure to comply with related regulations; litigation relating to patent or other claims; legal compliance risks and related investigative, remedial or enforcement actions; disruption to our supply chain or operations or those of our suppliers; competition for qualified personnel; strategic actions, including acquisitions and dispositions, our success in performing due diligence, valuing and integrating acquired businesses; disruption that may result from transactions or other changes we make in our business plans or organisation to adapt to market developments; and numerous other matters that affect us or our markets, including those of a political, economic, business, competitive or reputational nature. Please refer to the documents that Smith & Nephew has filed with the U.S. Securities and Exchange Commission under the U.S. Securities Exchange Act of 1934, as amended, including Smith & Nephew's most recent annual report on Form 20-F, for a discussion of certain of these factors. Any forward-looking statement is based on information available to Smith & Nephew as of the date of the statement. All written or oral forward-looking statements attributable to Smith & Nephew are qualified by this caution. Smith & Nephew does not undertake any obligation to update or revise any forward-looking statement to reflect any change in circumstances or in Smith & Nephew's expectations.

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