Alcon - Q1 2023

Transcript

Operator (participant)

Greetings. Welcome to the Alcon Q1 2023 earnings call. At this time, all participants are in a listen-only mode. A brief question and answer session will follow the formal presentation. If anyone should require operator assistance during the conference, please press star zero on your telephone keypad. As a reminder, this conference is being recorded. It is now my pleasure to introduce our host, Dan Cravens, VP, Investor Relations. Thank you, sir. You may begin.

Dan Cravens (VP of Investor Relations)

Welcome to Alcon's Q1 2023 earnings conference call. Yesterday, we issued a press release and interim financial report and posted a supplemental slide presentation on our website to enhance today's call. You can find all these documents in the Investor Relations sections of our website at investor.alcon.com. Joining me on today's call are David Endicott, our Chief Executive Officer, and Tim Stonesifer, our Chief Financial Officer. Our press release presentation and discussion will include forward-looking statements. We expressly disclaim any obligation to update forward-looking statements as a result of new information or future developments, except as required by law. Our actual results may vary materially from those expressed or implied in our forward-looking statements. Accordingly, you should not place undue reliance on any forward-looking statements.

Important factors that could cause our actual results to differ from those in our forward-looking statements are included in Alcon's Form 20-F and our earnings press release and interim financial report on file with the Securities and Exchange Commission and available on the SEC's website at sec.gov. Non-IFRS financial measures used by the company may be calculated differently from, and therefore may not be comparable to similarly titled measures used in other companies. These non-IFRS financial measures should be considered along with, but not as alternatives to the operating performance measures as prescribed for IFRS. Please see a reconciliation between our non-IFRS measures with directly comparable measures presented in accordance with IFRS in our public filings. For discussion purposes, our comments on growth are expressed in constant currency. In a moment, David will begin by recapping highlights from the Q1.

After his remarks, Tim will discuss our performance and outlook for the remainder of the year. David will wrap up, and we will open the call for Q&A. With that, I will now turn the call over to our CEO, David Endicott.

David Endicott (CEO)

Thanks, Dan, and welcome to Alcon's Q1 2023 earnings call. 2023 is off to a great start. We benefited from solid demand, strong commercial execution, and pricing improvements across both our franchises, which resulted in double-digit sales growth for the company in the quarter. In addition, we delivered a core operating margin of 20.6% and a core diluted earnings of $0.70 per share. In surgical, we had another strong quarter despite challenging comparisons in South Korea. In Implantables, recall that last year there was a change in PC IOL reimbursement in Korea, which increased demand during the Q1. This change has made PC IOL out-of-pocket expense higher for many Korean patients, and as a result, local demand has since reduced.

If we exclude the impact from Korea, which we estimate to be approximately $47 million, total implantable sales were up roughly 5% on a reported basis and approximately 9% on a constant currency basis. More broadly, we've continued our AT IOL market leadership for another quarter, with approximately half of the global market and two-thirds of the U.S. market despite increasing competitive activity. In equipment, we continue to upgrade and expand our installed base with the CENTURION and LEGION devices. In the Q1, our team delivered a record number of new phaco machine installations since spin. Importantly, there remains a sizable installed base of legacy INFINITI, LAUREATE, and other machines in international markets. Accordingly, we see continued opportunity for growth in 2023. Additionally, we continue to grow in diagnostics, and we are pleased with our win rate with the ARGOS biometer.

ARGOS helps deliver clinic to OR connectivity and results from real-world study highlight that ARGOS delivers significant time efficiencies for patients during cataract evaluation. We started rolling out ARGOS across international markets and customer reception has been positive. Additionally, customers continue to be pleased with the performance of CENTURION with ACTIVE SENTRY, which enhances safety and confidence during surgery. Importantly, as we upgrade and expand our equipment installed base, we see a natural uplift in consumables, where we've also taken some select price increases. At the recent ASCRS conference, Alcon innovations were featured in approximately 180 abstracts across cataract, refractive, and glaucoma surgery, as well as visualization and ocular health. As a leader in the ophthalmic surgical space, we're committed to improving patient outcomes and surgeon efficiency by accelerating the pace of innovation. There are three important studies from the conference I thought I'd like to highlight.

First is on Clareon. Data presented at the conference evaluated a head-to-head comparison of distance and intermediate vision of Clareon and a competitive monofocal plus IOL. This study concluded that Clareon provides excellent distance and no statistically significant difference in intermediate vision, potentially offering superior value to the competitive lens. At the conference, we also expanded our connected equipment ecosystem with the introduction of enhanced visualization and data integration. Diagnostic images from the ARGOS biometer with image guidance are now connected to the newly available NGENUITY 1.5 to precisely overlay incisions, capsulorhexis, IOL centration, and toric alignment. Data presented at the conference shows that this integration is increasing efficiency and reducing manual errors. This helps surgeons work faster while improving their confidence in delivering better patient outcomes. Given the post-pandemic surgical backlogs, these improvements are critically important.

Lastly, data presented on our Hydrus Microstent reinforced that Hydrus offers long-term glaucoma medication reduction, as well as reduction of intraocular pressure. It's important that surgeons consider which stent to recommend to their patients. Additionally, governments and healthcare payers consider this type of data as they determine which products and procedures to reimburse. Now I'll move to vision care, where we had a strong quarter in both contact lenses and ocular health. In contact lenses, we're seeing the benefit of our expanded product portfolio, which now includes sphere, toric, and multifocal options for value, mainstream, and premium customers in both daily and reusable categories. We continue to see meaningful share gains driven by our new toric product launches, including PRECISION1, TOTAL30, and DAILIES TOTAL1. We introduced TOTAL30 for Astigmatism in the Q1.

This is the first reusable lens to use Water Gradient Technology created specifically for astigmatic wearers, and initial customer response has been exceptional. TOTAL30 Toric is currently available in the U.S. and parts of Europe, and we anticipate expanding availability to additional markets throughout 2023. Turning to ocular health, we continue to integrate Aerie into the Alcon family. Our U.S. eye drop sales force has already added Rocklatan and Rhopressa to their promotional program, which contributed nicely to our vision care growth this quarter. We saw growth in our over-the-counter portfolio, mainly driven by favorable pricing and SYSTANE family of products. In contact lens care, while we continue to navigate supply challenges, we feel increasingly confident about our progress toward resolution in the back half of the year. I'll provide an update on our end markets.

In surgical, global cataract procedures were up mid-single digits in the Q1 versus prior year. Global AT-IOL penetration in the quarter was down 30 basis points versus prior year. Excluding the impact from Korea, global penetration was up 90 basis points versus prior year and up 40 basis points sequentially. We're following penetration trends closely and continue to expand programs that digitally and conveniently educate patients about their lens options early in the cataract journey. Based on recent survey data, we estimate that U.S. AT-IOL penetration could go as high as 35%. With current penetration in the high teens, we believe there's plenty of runway for value creation. Moving to contact lenses, retail market growth was up high single digits. In the quarter, we saw a steady wear trade up and meaningful contribution from price increases.

Before I pass it to Tim, I want to briefly comment on our market outlook for the remainder of the year. On our February earnings call, we indicated that we were planning for a modest slowdown in full-year market growth. During the Q1, global AT-IOL penetration was resilient and contact lens trade ups and price capture were both strong. Historically, our markets have grown around 5%. Given current macroeconomic news, we believe it's prudent to assume market growth at or slightly below historical rates in the back half of the year. However, we continue to expect positive contributions from market share and price. As a result, we expect to grow faster than the market. With that, I'll turn it over to Tim, who will take you through our financial results and provide more color on our outlook.

Tim Stonesifer (CFO)

Thanks, David. We're pleased to report Q1 sales of $2.3 billion, up 11% versus prior year. This growth is primarily driven by strong demand for our products, including products from acquisitions, as well as solid commercial execution. Our Q1 sales results reflect positive pricing across our business, particularly in consumables, contact lenses, and ocular health. We estimate that these price increases drove approximately one-third of our top line growth. Our Q1 U.S. dollar sales growth included approximately 400 basis points of pressure from foreign currency. Starting with our surgical franchise, revenue was up 8% year-over-year to $1.3 billion. Implantable sales was $427 million in the quarter, down 3% year-over-year, primarily due to declines in PC IOL sales in South Korea, which David mentioned in his remarks.

Excluding the impact from Korea, implantable sales continue to outpace the market and were up approximately 9% on a constant currency basis. We expect a minor residual impact from Korea of approximately $10 million in the Q2 due to the demand rebasing that David mentioned. In consumables, our Q1 sales were up 13% to $656 million. This strong growth primarily reflects favorable market conditions as well as pricing. In equipment, sales of $221 million were up 14% year-over-year due to continued strong demand for cataract and Vivity devices, particularly in international markets as we upgrade and expand our installed base. While our Q1 results were strong, we expect our equipment year-over-year growth rate to moderate in the remainder of 2023.

Turning to vision care, Q1 sales of $1 billion were up 16%. This growth includes approximately five points of contribution from the ophthalmic pharmaceutical products we acquired in 2022. Contact lens sales were up 14% to $615 million in the quarter. This growth reflects the continued strength of our innovative portfolio of uncertain. Importantly, we saw double-digit growth in both the daily and reusable contact lens categories. As I mentioned earlier, Q1 contact lens growth also reflects price increases. In ocular health, Q1 sales of $414 million were up 19% year-over-year. This growth was primarily driven by our portfolio of eye drops, including Rocklatan and Rhopressa, as well as price increases across our over-the-counter products, including SYSTANE and Pataday. Now moving down the income statement.

Q1 core gross margin was 63.4%, up 160 basis points on a constant currency basis. This growth was driven by higher sales and manufacturing efficiencies from higher volumes, partially offset by unfavorable product mix from lower PC IOL sales in Korea. We expect gross margin to be pressured in the remainder of 2023 as we sell inventory that was manufactured with a higher cost base due to inflation and as we lap last year's price increases. Core operating margin was 20.6%, flat versus last year on a U.S. dollar basis, but up 130 basis points on a constant currency basis. The constant currency growth was mainly driven by higher gross margin and improved underlying operating leverage from higher sales, partially offset by higher investment in R&D following the acquisition of Aerie.

As we commented on in the past, we expect to see seasonally higher marketing and sales spend in the 2nd and 3rd quarters for the peak summer and back-to-school season. Q1 interest expense was $47 million compared to $29 million last year, driven by higher debt following the funding of the Aerie acquisition and less favorable interest rates. The Q1 core effective tax rate was 18.4%, compared to 15.9% last year, primarily due to the mix of pre-tax income across tax jurisdictions and a decrease in the tax benefit associated with discrete items. Core diluted earnings per share were $0.70 in the quarter, up 14% from last year on a constant currency basis. Before I touch on our outlook for the remainder of the year, I'll discuss a few cash flow and other related items.

Free cash flow for the quarter was an outflow of $19 million, compared to an outflow of $52 million last year. The improvement is mainly driven by better cash flows from operations and lower capital expenditures. Similar to past years, we expect free cash flow to be stronger in the remainder of the year as the Q1 includes the annual associate incentive payment. We paid the legal settlement we mentioned on our last earnings call in April. On a full year basis, we continue to expect to generate more free cash flow this year as compared to 2022. Transformation costs were $26 million in the quarter and $314 million like to date. We continue to expect to wrap up the entire transformation program by the end of the year.

Before moving to our outlook, I'm pleased to report that at our annual general meeting last week, shareholders approved the dividend of 21 Swiss centimes per share, in line with our payout policy of approximately 10% of the previous year's core net income. I wanna thank our shareholders for their continued support of Alcon. Now moving to the 2023 guidance. Our current outlook assumes that markets grow at or slightly below historical averages in the back half of the year. Exchange rates as of mid-April hold through year-end, and inflation and supply chain challenges continue through 2023. Based on the strong momentum in the business, we are increasing our year-over-year constant currency sales growth guidance to 7%-9%.

This growth is partially offset by incremental FX headwinds based on currency movements against the U.S. dollar, which we expect to pressure sales by approximately 70 basis points versus prior year. We are maintaining our U.S. dollar net sales guidance for 2023 at $9.2 billion-$9.4 billion. Moving to core operating margin, we are maintaining the range of our full year outlook of 19.5%-20.5%. We now expect interest and other financial expense to be between $245 million and $255 million. Relative to the Q1, we expect an increase in other financial expense, primarily due to higher hedging costs and lower financial income. We are maintaining our core effective tax rate guidance of 17%-19%.

Finally, we're raising our core diluted EPS constant currency growth outlook to 20%-24% due to the strong performance in the Q1. This growth is offset by approximately $0.12 of FX headwind versus prior year. As a result, we are maintaining our core diluted EPS guidance of $2.55-$2.65 per share. Based on our strong Q1 results and current assumptions, we are now trending toward the high end of our guided EPS range. To summarize, I'm very pleased with the momentum we've built at the start of the year, and it's clear that our business is performing well. As we look forward, we will continue to focus our efforts on driving innovation and delivering above-market sales growth.

Lastly, I'd like to take this opportunity to thank all of our team members for another quarter of outstanding results. With that, I'll turn it back to David.

David Endicott (CEO)

Thanks, Tim. To wrap up, we're very pleased with our start to the year. We continue to build momentum with our new product launches, and our team continues to execute well. As a result, we're winning with customers and driving above-market growth. We also continue to deliver operating leverage in line with our financial thesis. Looking forward, our focus remains on accelerating innovation, driving top-line growth, and creating shareholder value. With that, operator, let's open the call up for Q&A.

Operator (participant)

Thank you. We'll now be conducting a question and answer session. If you would like to ask a question, please press star one on your telephone keypad. A confirmation tone will indicate your line is in the question queue. You may press star two if you would like to remove your question from the queue. For participants using speaker equipment, it may be necessary to pick up your handset before pressing the star keys. We kindly ask that each analyst limit yourself to one question and one follow-up. Our first question comes from Anthony Petrone with Mizuho Securities. Please go ahead.

Anthony Petrone (Managing Director Equity Research)

Thanks, and congrats to a strong start to the year here. I'll have two questions here. The first will be just, David, maybe just a little bit on the premium IOL comments. Your competitor reported earlier a couple of weeks ago, you know, some pressure that they commented in the premium IOL space here when we exclude South Korea plus nine is ahead of our expectation. Maybe specifically, can you comment on the shared dynamics within premium IOLs and then maybe a little bit of a compare and contrast as to what Alcon saw in the marketplace versus competitor, and I'll have one quick follow-up.

David Endicott (CEO)

Yeah. Anthony, thanks. On the premium market, you know, we follow penetration pretty closely, as I think I said in the notes there, you know, that we were up 90 basis points if you exclude Korea, so, you know, 11.5 to 12.3 globally. Sequentially, we saw good moves sequentially, again, 40 basis points of penetration up, you know, when you exclude Korea again. That said, you know, the, you know, there's lots going on in the market. There's a number of share players moving around. We've obviously finished very strong with kind of majority of the AT IOL business, and kind of a two-thirds, if you will, of the PC IOL business. You know, notwithstanding that, we felt like we were having a pretty good quarter.

I think the Korea thing is a bit confounding, and you do need to back it out. I think that will clean itself up in the Q3, so you get some pretty clean looks going forward, third, Q4.

Anthony Petrone (Managing Director Equity Research)

That's helpful. Maybe one for Tim, just on margins, and I'll get back in queue. The 20.6% ahead of expectations, just to clarify there, was there any selling day impact there? When we look at the bridge heading into year-end, 20.6% in the quarter versus the range, maybe just a little bit on the cadence for the next three quarters on how margins should play out? Again, congratulations.

Tim Stonesifer (CFO)

Yeah. Thanks a lot. Yeah. I don't think there's a billing day comp issue there. As far as the phasing goes, you know, I would think about the year this way, is, you know, starting with revenue, Q1 revenue is a little bit noisy, I'd call it, because you've got the K-Korea comp issue, you've got the Omicron in North America. We had a little bit of effect there. What I'd probably do there is I take whatever you think between that $9.2 billion-$9.4 billion range. I take out the Q1 revenue, and then I would trend it very similar to what, how we trended last year, and that's how I'd layer in your revenue number. If I work my way down gross margin, we were pleased with the gross margin this quarter.

There's no doubt about it. We saw some nice expansion there. We do have the benefits of some lower cost inventory in there. We also have the benefit of some price lapping in there. If you'll recall last quarter when we gave the guide, we said that there would be a little bit of improvement in gross margin for the total year. I would kind of bring that down to whatever you feel comfortable as far as that improvement is. On the R&D, I'd say, you know, we finished Q1, we were at 8.5%. As we said last quarter, we think we'll be at the higher end of that 7%-9% range. I take that into consideration.

As we said in the script on the TFCs, you know, Q2 and Q3 are typically higher for us as we invest behind back-to-school initiatives and things like that. I would probably layer that in. Lastly, you know, on the interest expense, we did bring down the overall interest expense. Q1 was a little bit favorable. I would pick, you know, whatever you think the range is between that $245 and $255. Again, I'd back out Q1, and then I would just level load that, and that's how I'd sort of phase the year.

Anthony Petrone (Managing Director Equity Research)

Thank you much.

Operator (participant)

Our next question comes from Matthew Mishan with KeyBanc Capital Markets. Please go ahead.

Matthew Mishan (Director, Equity Research Analyst)

Hey, good morning. Thank you for taking the question. Just on the contact lens side, it's just really hard to understand the difference between the kind of Q4 performance and the Q1 performance. Kind of how consumers are kind of acting. Do you have any data on what drove purchasing activity, you know, three months ago? What drove it, you know, this quarter? Is it a regional inflection, you know, maybe outside the U.S.?

David Endicott (CEO)

Matthew, let me give you what we do know, and I think, you know, what I can tell you is that we're very pleased with our Q4 performance. I know that there was some concern around the unit volumes in the U.S. I don't think that was really well deserved. I think we've got to remember that most of the value in the contact lens market is the trade up to dailies, and I think we saw a pretty solid market in the Q4. We saw, you know, for our own performance, we were happy with it. We obviously were hitting on all cylinders in the Q1. Continued to see steady trade up from consumers, continued to see, in particular, volume growth for us.

Read that as, you know, we think we grew faster in volume share than our competitors. I think, you know, we picked up a little price in there as well as we try and offset some of our input costs. Most of the market was putting some price in play in the Q1. Again, I think you're going to see everybody's number kind of exceed what you'll see in the audited data. Again, I'd be careful with the audited data because it's retail, not factory. The, you know, the read-through on that takes a little bit of time. There's going to be some gaps in there. There always is. I think we had a good Q4. We had a very good Q1.

I think what I'm really encouraged about is the uptake in TOTAL30 toric, in the U.S. contact lens business in particular, had a very, very good quarter.

Matthew Mishan (Director, Equity Research Analyst)

excellent. just a more technical question? When you're talking about inventory and getting through the cost of low-cost inventory, moving to high-cost inventory. On the vision care side versus the surgical side, just how many months of inventory do you typically hold so we can kind of get a sense of when that lag, when that drag, I'm sorry, may go away?

Tim Stonesifer (CFO)

Yeah, I would say in general, from a total company perspective, it probably takes five or six months for the inventory to go off the balance sheet into the P&L.

Matthew Mishan (Director, Equity Research Analyst)

All right. Thanks, Tim.

Operator (participant)

Our next question comes from Jeff Johnson with Baird. Please go ahead.

Jeff Johnson (Senior Research Analyst)

Thank you. Good morning, guys. Maybe two questions on contact lenses and on pricing. Tim, you've said now a couple of times, lapping some price increases from last year, but I think on this call you've been as overt as I've heard you in a long time on price probably added almost three points to the company-wide that you were getting pricing across contact lenses, ocular health, and on the consumable side in surgical. It sounds like some new price increases have gone in just in this quarter. We've clearly heard that in contact lenses especially, but I'm just trying to reconcile that with you talking about lapping these price increases. Help us understand kind of the gating of price increases over the next 12 months versus what maybe you saw over the past 12 months.

David Endicott (CEO)

Yeah, let me take that, Jeff. The price increase lapping that we're talking about, we had a price increase this time last year, I think it was December or January. For about six weeks of the quarter, January and part of February, we had two price increases in play. That's really what we're talking about when we say lapping. We had kind of a double up there. That won't occur, I think going forward, you know, unless we take an additional price increase, which we don't currently have a comment on. I think directionally where we believe this is going is, you know, we're trying to be as sensitive as we can to the consumer and at the same time offset some of our raw material inputs.

Our input costs, as we all know, is have gone up quite substantially. I think we feel good about the ability of our you know, our ability to take price during this period, and the market took price. We were very much right on top of the market, I don't think we were out of line either one direction or the other. We were pleased with how accepting the customer groups were. I think we've typically talked a little bit about price leakage, we got a little bit better performance from what we would have expected historically. I think people are kind of willing to take and understand why, you know, we're taking some price increases. That's helped us a little bit in the quarter.

Jeff Johnson (Senior Research Analyst)

Understood. Does that 3% price or so, I think that's what you were trying to signal in the prepared remarks, flip back to +2 over the rest of the year as some of these price increases continue? When you were talking about volume growth in contact lenses above market, is that all coming on eye share that is increasing or are you finally starting to see maybe a more rapid kind of trade up within your own user base that's helping those volumes? Just help us understand kind of the trade up dynamic versus on eye share during the quarter. Thanks.

David Endicott (CEO)

We had a very good on the second one, you know, it was principally share. We obviously get some trade up from our own business. We probably have a little bit of cannibalization, but we were very pleased with the amount of share gain that we had in the quarter. I think directionally, I would read that as volume is principally share gain. The second piece is, was on the price for the rest of the year. I would expect that the price settles down a little bit for the Q1 because we did have a little bit of a lapping and that we see some price for the rest of the year, but it kind of moderates towards the end of the year.

Jeff Johnson (Senior Research Analyst)

Thank you.

Operator (participant)

Our next question comes from Ryan Zimmerman with BTIG. Please go ahead.

Ryan Zimmerman (Managing Director and Medical Technology Analyst)

Hey, guys. Congrats on the quarter. Just two for me. Just, Dave, you had previously, I think, on the Q4 call, assumed that cataracts would be weaker in the Q1, yet the market does appear to be stable, you know, net of Korea. Is there anything to suggest that demand pulled forward here and just how to think about cataract demand, or market, you know, volumes for the remainder of the year, given this dynamic relative to your assumptions?

David Endicott (CEO)

Well, you know, Ryan, I think what we believe, and I hope I communicated at the Q1, was that, you know, cataract volumes are generally pretty stable. Even in a recession kind of environment, we still see the cataract volumes. What we've said is that implantables, you know, the trade up from a monofocal to an ATL, we've never seen that in a kind of a heavy recession environment. We were unclear as to what was gonna happen. Again, we made some assumptions. None of that really occurred in the Q1. You know, volumes was very stable and trade ups looked pretty much consistent with what we've seen in the past. Directionally, you know, I would expect cataract volumes to stay pretty stable.

The only thing I would, you know, think about is if there is a real pullback in the consumer, does it have an effect on AT IOLs? We really don't know that, and we really haven't forecasted much of one. I think we feel pretty good about, you know, the positive forward momentum that we have in penetration. You know, I think as we kind of get beyond Korea, you know, this next quarter, maybe two quarters away, you'll really get a cleaner view on the back half of what's happening with both of those things.

I think reasonable assumption, I think at this point, is the cataract market will remain in that kind of, you know, 4%-5% range, you know. That's typically what we've seen historically, and we've always said it'd be a little hotter after COVID because we get a little bit more folks back into the market. It feels pretty much like that now.

Ryan Zimmerman (Managing Director and Medical Technology Analyst)

Okay. Real quick for me, the 7%-9% underlying growth assumption, you know, Aerie did, if my math, 470 basis points, roughly 500 basis points. If I take that forward, I'm kinda coming out to about 180 basis points-200 basis points for the year. You know, Tim, does that jive with kinda your thinking, or do you expect some bigger contributions from Aerie in the back half of the year? Thanks, guys.

Tim Stonesifer (CFO)

No, I think it'll be pretty consistent with how we guided in the, you know, in the last call. It's about two points of growth.

Ryan Zimmerman (Managing Director and Medical Technology Analyst)

Yeah. Okay. Understood. Thank you, guys, for taking the questions.

Operator (participant)

Our next question comes from Veronika Dubajova with Citi. Please go ahead.

Veronika Dubajova (Managing Director)

Hi, guys. Good afternoon. Thank you for taking my questions. Let me start with just bigger picture for the full year. Obviously lots of moving parts in the business, David, if I extrapolate the growth rate that you've delivered over the year, the comps is, you're guiding for a deceleration in spite of that. Other than the market commentary that you've made about the back half of the year, anything else that's worrying you as you think about the remainder of the year, or is this just being a bit conservative? I have a follow-up after that.

David Endicott (CEO)

Veronika. I mean, the comps are a little easier, as you know, in the Q1, you should expect that to be a little bit higher. You know, don't forget that there was, you know, really China last year was in a tough spot. Japan was in a tough spot. You know, our Asia business broadly. We still had some coronavirus, you know, stuff going on and even some of the Western markets. You know, the Q1 is gonna be a little bit better than I think the rest of the quarters. That said, you know, I don't think we're trying to forecast anything other than a belief that, you know, there's enough news out there to be careful and be prudent about how we think about the back half of the year.

That's really all we're trying to do. We could be wrong on that assumption, and if we are, we'll be to the higher end of our guidance. On the other hand, you know, we think it's the right way to budget and we'll kind of move our way through the year and update this each quarter. That's kind of how we've thought about the year. I'm not sure if that helped or was direct to your question, but that's what we've been doing.

Veronika Dubajova (Managing Director)

Yeah. No, no, that's really helpful. My second question was just on the consumables and pricing specifically. It's a very impressive double-digit growth rate against the market that's growing at single digits. How broad-based have the pricing increases been that you've been able to put through, and do you expect for those to last through the remainder of the year? That's it for me. Thanks, guys.

David Endicott (CEO)

Yeah. Veronika, we are very pleased with the consumables business. I think it's fair to assume that our equipment revenue, for the last several years that has been fairly robust, is driving now a pull-through of consumables. I think we have gained footprint all over the world. I think that's obviously helping us drive the consumables business. The price element of that is relatively modest. There is a price element to it, and we've historically not been able to do much there. About a third of our consumables are bought standalone without a contract, and in those cases, we've been able to raise some price.

As we come back around on contracts that maybe are three years old, or maybe they didn't have price escalation clauses in them, we probably started this last year when inflation got hot. As those contracts have matured and as we've been able to put and renegotiate them, we've been putting some price in. Consumables have picked up a little bit. Again, we always see a little bit of downward pressure as well, as governments are always squeezing the other way. In this case, we've been able to kind of eke out, I think a reasonable price assumption that should stick kind of for the rest of the year. We'll go forward with as much of that as we can.

The main thing here, I think, really is consumable demand is quite good, and I think it's built on what has been a terrific international performance by equipment and a real steady growth. I think U.S. had our best year ever last year and continues to do pretty well. We're really doing well in equipment, and that obviously drives our consumables.

Veronika Dubajova (Managing Director)

There-

Operator (participant)

Our next question comes from Larry Biegelsen with Wells Fargo. Please go ahead.

Larry Biegelsen (Senior Medical Technology Analyst)

Good morning. Thanks for taking the question, and congrats on a really nice quarter here. Hey, Tim, can I just clarify the price of one-third of your growth? Is that the 11% constant currency or one-third of the 7% reported?

Tim Stonesifer (CFO)

That would be the reported number.

Larry Biegelsen (Senior Medical Technology Analyst)

The one-third of the reported. Okay. You know, we saw you got PRECISION7 approved, David. Just curious what the launch plan is there. You know, at the analyst meeting, you said you still had some work to do, but it looks like approval may have come earlier. How are you thinking about the launch of PRECISION7? I had one follow-up.

David Endicott (CEO)

Yeah. We're not yet ready to launch Precision 7. We've got an inventory build to go on to. We also wanna give, candidly, we wanna give our sales force the time to promote what appear to be quite sensitive products to promotion. You know, we're gonna time this one and position it, you know, very carefully. I think we'll have more news on that later in the year. I don't think, you know, what we're gonna do right now is get that product out immediately as we build inventory for it. That'll take us some time. Also I would just say that, you know, the Q1 was encouraging around TOTAL30 and TOTAL30 toric, and frankly, our torics in general.

We'd like to make sure that we get our, the full energy behind those products as they are relatively large markets, fairly profitable for us, and, you know, our existing markets that we know a lot about. I think as we fine-tune our plans around PRECISION7, we'll be back to you with some plans around that. Directionally right now, we're super happy with the momentum we have on existing products in the market.

Larry Biegelsen (Senior Medical Technology Analyst)

David, you guys give a lot of helpful numbers on this call. Sometimes it gets a little confusing, so I wanna make sure I've heard this correctly. The AT IOL share in the U.S., I think that's where you said it was about two-thirds or 66% in your prepared remarks. That's down from over 80% a couple of quarters ago, if I'm comparing apples to apples. What's going on there, and do you feel like the share has stabilized? Thanks.

David Endicott (CEO)

No, you kind of misread that one just a little bit. We, the 80+ is a PC IOL share, which is a subset of AT IOL. Remember, AT IOLs is the combination of toric lenses and PC IOLs, if you have the correcting lenses. That's what's going on there. That number is down slightly, but really it's a function of the... We were over-indexed in Korea and under-indexed in China. Frankly, those, you know, Korea was way down and China was up. You know, I wouldn't make much of any particular share movement at this point.

Larry Biegelsen (Senior Medical Technology Analyst)

I got it. Thank you.

Operator (participant)

Our next question comes from David Adlington with J.P. Morgan. Please go ahead.

David Adlington (Managing Director)

Hey, guys. Thanks for taking the question. Maybe just on the SG&A expectations for Q2, Q3. I mean, you always have a step up in those quarters. Should we expect something more than we've seen in previous years? Just to follow up, just in terms of foreign exchange, I just wondered, I'm still struggling to see how you can have a bigger headwind now given the US dollar seems to have weakened against most currencies since the fully results. Thanks.

David Endicott (CEO)

Yeah, the SG&A lift will be very similar to what we've seen in prior years. Again, I would kind of use those same trends and go off of that. You know, as far as the FX, you know, a lot of people look at the DXY, you know, the Bloomberg thing, and the baskets there are different than our baskets. We definitely see some strengthening of the US dollar, particularly against the Aussie dollar, the Japanese yen, and the Russian ruble. We are certainly. You know, when you look at our basket of currencies, we are seeing some FX pressure.

David Adlington (Managing Director)

Understood. Go ahead. Thank you.

Operator (participant)

Ladies and gentlemen, as a reminder, if you would like to ask a question, please press star one. Our next question comes from Graham Doyle with UBS. Please go ahead.

Graham Doyle (Executive Director, Equity Research)

Good afternoon, guys. Thanks for taking my questions. Just two from me. Firstly, just on contact lenses. It does look like you're taking, well, meaningfully more share than maybe you have done in the last few quarters. It seems to coincide with, I suppose, a broader international launch of a broader range of products. I suppose, is this something we should get used to, is the question on that? Then with regard to guidance, I mean, you've talked again about a sort of recessionary pressure or just the idea that you wanna be slightly cautious in the H2 just to make sure that you've got guidance in the right place.

I suppose the flip side of that is if there is no pressure, or no recession, is it fair to say there's upside to the current guidance then? Thank you.

David Endicott (CEO)

Yeah, Graham, obviously on the second one, that's exactly, you're reading it correctly. I mean, if we're wrong, and again, we could be, we've no particular corner on the market of truth on when a recession happens, I think if it happens at all, I think we will be certainly to the high end of our revenue side. You know, I think we've been smart, I think, to, and I think prudent to do this, and just slide it out as we see it. We'll keep moving it out as we, you know, can, we'll update you each quarter as we go through the year. Hopefully, you know, the world is much more stable than is often reported.

What I would say is on the other one, on contact lens share, we did have a very good quarter on share. I do think it's a function of getting more products out there and also just some of those products maturing into their curves. You know, again, it takes a little while after you launch to get people samples, get them fit sets, get those onto eye, get people confident with the products. It also happens to help a lot to see the toric products get out there. I think, as you get toric and sphere together, the toric tends to give a little bit of a halo to the sphere.

You get a little bit of benefit from having a broader line, you know, in there where you can, where, you know, where the optometrists can just simply use a brand and fit most of their patients. That, I think, is having a positive effect. The Q1 was terrific that way. You know, we obviously plan to do everything we can to continue that, and we'll have to see as we go forward how that takes shape.

Graham Doyle (Executive Director, Equity Research)

Maybe just a quick follow-up on the impacts of that for margin. I mean, is it functionally just easier now to see some of this operating leverage drop through, or sort of when you've got that faster growth in contact lenses? Are you at the point where utilization is really working for you and contact lenses are sort of gross margin neutral to accretive to the group?

David Endicott (CEO)

Well, I mean, Tim, you should comment on this as well, but I think directionally what I would say is, you know, as volumes increase, we tend to add additional lines, and those lines mature kind of at a staggered basis, right? As soon as we put one on, like some of the ones we put on years ago are kind of now running full speed. They make a lens at the terminal value, and that's a good price. Along the way, we've added more. You get a blended rate of cost of goods, which doesn't quite really mature until you've kind of stabilized all that and gotten themselves out there. It grows kind of gently towards the outer years. We've obviously got some nice positive growth in a hurry here.

We're super confident about our ability now to generate long-term operating efficiency on the lines, 'cause I think we've already seen it on some of the ones that we put in several years ago. We know our terminal values are right. I do think you'll just see steady growth in the kind of TPC margin, that's probably the best way to think about it. Tim, you wanna add anything?

Tim Stonesifer (CFO)

Yeah, no, that's right. If you go back to the Capital Markets Day, that margin expansion chart that we showed by franchise, what we saw historically was gross margin pressure, but you were getting leverage on the SG&A, you sort of had less pressure on the gross margins. What we're seeing now and would expect to continue to see is you get continued gross margin expansion as these lines become more mature and end up running at their optimal capacity.

Graham Doyle (Executive Director, Equity Research)

Awesome. Super clear. Thanks, guys.

Operator (participant)

Ladies and gentlemen, as a reminder, if you would like to ask a question, please press star one.

David Endicott (CEO)

While we're waiting, Larry, I'd just like to clarify, I misspoke. That price growth is on a constant currency basis. Apologies for that.

Operator, we can take Steve Lichtman from Oppenheimer.

Operator (participant)

Yeah. Our next question is from Steve Lichtman with Oppenheimer. Please go ahead.

Steve Lichtman (Managing Director and Senior Equity Research Analyst)

Thank you. Good morning, guys. Just two questions as follow-ups. One, you mentioned the comps in the Q1. Obviously, it's been tricky to evaluate comps over the last few years. How much do you think, you know, comps played a part in the Q1? Was there one or two segments that perhaps had a different impact than the rest of the business? Secondly, you know, it seems like, you know, China, you know, is seeing a pickup. You know, wondering if you could talk about, you know, how that country is doing for you across your key segments.

David Endicott (CEO)

Yeah, Steve, that's exactly where we saw that, which was, you know, Asia in particular was affected last year, was slow to come through the year. It has picked up in the Q1, so that did help, I think, everybody in the industry all over. Certainly China helps us. It's 5% or 6% of our revenue. I think we feel like that was a nice positive and certainly a little bit better than we expected. Japan also had a pretty good quarter, I would just say that it was a little bit better than expected for us. I think the markets in both cases, we've kind of seen a little bit better response than perhaps we'd forecasted.

That said, I think, you know, you still had some other, we had forecasted most of the other impacts, you know, correctly. I think directionally, you know, we see those as more modest in terms of change year-on-year. What was the second part?

Steve Lichtman (Managing Director and Senior Equity Research Analyst)

Just on the comps. Yeah, sorry. Just on the comps, you know, dynamic in the Q1, and if there was any segments that, you know, were different than others in terms of the impact there.

David Endicott (CEO)

Not really. I mean, you know, I don't think there was any, you know, business to business, there really wasn't. Some geographies. It was really a geography thing. I would say that's the main thing.

Steve Lichtman (Managing Director and Senior Equity Research Analyst)

Got it. Thank you.

Operator (participant)

There are no further questions at this time. I would like to turn the floor back over to Dan Cravens for closing comments.

David Endicott (CEO)

Great. Well, thanks, everybody, for joining us this morning. If you have any follow-up questions, please don't hesitate to reach out to either Alen Trang or myself in the IR. Have a great rest of your day. Appreciate the time.

Tim Stonesifer (CFO)

Thanks, everyone.

Operator (participant)

This concludes today's teleconference. You may disconnect your lines at this time. Thank you for your participation.