GE HealthCare Technologies - Q4 2023

Transcript

Operator (participant)

Good day, and welcome to GE HealthCare's fourth quarter 2023 earnings call. At this time, all participants are in a listen-only mode. After the speaker presentation, there will be a question-and-answer session. To ask a question during the session, you will need to press star one, one on your telephone. You will then hear an automated message advising your hand is raised. To withdraw your question, press star one, one again. Please be advised that today's conference is being recorded. I would now like to hand the conference over to your speaker, Carolyn Borders, Chief Investor Relations Officer. Please go ahead.

Carolynne Borders (Chief Investor Relations Officer)

Thank you. Good morning, and welcome to GE HealthCare's fourth quarter 2023 earnings call. I'm joined by our President and CEO, Peter Arduini, and our Vice President and CFO, Jay Saccaro. Our conference call remarks will include both GAAP and Non-GAAP financial results. Reconciliations between GAAP and Non-GAAP measures can be found in today's press release and in the presentation slides available on our website. During this call, we'll make forward-looking statements about our performance. These statements are based on how we see things today. As described in our SEC filings, actual results may differ materially due to risks and uncertainties. With that, I'll hand the call over to Peter.

Peter Arduini (President and CEO)

Thanks, Carolyn. Let me start by providing a few highlights from a successful first year as a public company. I'm proud of how our teams executed to deliver robust financial results, with performance that all met or exceeded guidance. In fact, our execution throughout the year allowed us to raise guidance twice. We've continued to increase our R&D investment, launching over 40 new innovations tied to our care pathway and digital strategy. As a result of our investments, we estimate that we've gained global market share and equipment in 2023. Once again, we topped the FDA's list of AI-enabled device authorizations with 58, more than any other medtech company. Backlog remains robust, led by an improved capital equipment landscape, and we significantly strengthened our balance sheet as we paid down $1 billion in debt since the beginning of the fourth quarter.

Our financial flexibility enables us to drive both organic and inorganic investment, such as the Caption Health and IMACTIS acquisitions completed in 2023. More recently, we announced our plans to acquire MIM Software, which I'll discuss in greater detail later in the call. We continue to build our position as a trusted partner, and here are a few highlights from throughout the year. On the commercial side, we secured multiyear enterprise deals globally, with contract values totaling approximately $2.5 billion in 2023, fueling our growth. We also expanded our 40-year relationship with the University of Wisconsin-Madison by entering a 10-year strategic collaboration that goes beyond medical imaging to new frontiers in digital technologies and disease-focused solutions.

Separately, the Bill & Melinda Gates Foundation and BARDA, a division within the US Department of Health and Human Services, are funding programs totaling over $80 million that will allow us to develop new AI applications for ultrasound to benefit patients in low and middle-income countries and patients with lung pathologies and traumatic injuries. We also announced a collaboration with Novo Nordisk to advance the clinical and product development of peripheral-focused ultrasound. We've assembled a strong, world-class leadership team. Jay Saccaro joined us last year and has had an immediate impact. He's had the opportunity to assess our organizational needs, forecasting models, financial systems, and processes, and is adding significant strategic and operational value. Similarly, Taha joined us as Chief Technology Officer more than a year ago, and he's been charting our digital future and strategy while building a high-performing team of top healthcare technology experts.

In 2023, we published our inaugural sustainability report, highlighting our progress and commitment to corporate responsibility and risk management. Lastly, we introduced 2024 guidance today, which Jay will discuss in greater detail. Our outlook reflects an improved capital equipment landscape. It also reflects continued strength on top of two consecutive years of high single-digit organic sales growth. Similar to last quarter, we conducted a survey of a broad set of U.S. customers, which supports our forecast for 2024. Our latest survey showed improved financial optimism and capital budget outlook versus the last survey in October. Global procedures remain strong, which we believe all of this points to a constructive setup for the year.

Now I'll pass the call on to Jay to take us through the financials and our business performance, and I'll conclude the call with a discussion around our R&D commitment and the innovation we're delivering for customers. Jay?

Jay Saccaro (VP and CFO)

Thanks, Pete. Let's start with our financial performance on slide four. For the fourth quarter of 2023, revenues of $5.2 billion increased 5% year-over-year and grew 5% organically. This was driven by sales in pharmaceutical diagnostics, imaging, and patient care solutions. Recall that this 5% organic growth was on top of the 13% we delivered in the fourth quarter of 2022, which benefited from easing supply chain.

... Organic orders increased 3% year-over-year. Order dollars continued to outpace sales, leading to a total company book-to-bill of 1.05 times, up sequentially from 1.03 times due to healthy product orders, including equipment. We exited the year with a record backlog of $19.1 billion, up $700 million sequentially. This performance gives us continued confidence in our expectations for 2024. Fourth quarter adjusted EBIT margin was 16.1%. Sequentially, margin improved 70 basis points, supported by seasonally higher volume while we expanded our investment in future innovation. Year-over-year, standalone adjusted EBIT margin was flat, as benefits from productivity and price were offset primarily by investments. The lean methodology is at the foundation of our productivity, yielding strong performance in the fourth quarter, with improvements in logistics, sourcing, and services.

Our teams came together to increase on-time delivery to our customers by 11% year-over-year, with lean actions improving demand, forecast accuracy, supplier planning, and lead times. We also saw a past due backlog efficiency with a greater than 50% improvement year-over-year in imaging alone. For the fourth quarter, we delivered adjusted EPS of $1.18, up 11% on a standalone basis. Free cash flow of $956 million was down slightly year-over-year. This was impacted by approximately $330 million of spin-related items, such as interest and post-retirement benefit payments. Turning to our full year results on slide five, for 2023, revenues of $19.6 billion grew 8% organically versus last year. All of our regions and segments saw a positive revenue growth.

Also important to note, recurring revenue, which drives revenue predictability and higher margin, was greater than 45% of total revenues for the year. Organic orders grew 3% year-over-year, and book-to-bill was 1.03 times. On a standalone basis, 2023 adjusted EBIT margin was up 60 basis points. Adjusted EPS of $3.93 exceeded our guidance and represented standalone growth of 16%. Free cash flow was more than $1.7 billion and translated into a strong conversion rate of 95%, which was ahead of our guidance for the year. This was driven by the solid progress we made in working capital associated with multiple initiatives focused on inventory and collections processes. On Slide 6, let's take a closer look at segment revenue performance for the year.

For full year 2023, we delivered strong year-over-year organic growth of 8% for revenues. This was led by PDX, with 18% growth, PCS at 8%, and imaging at 7%, driven by both volume and price. Ultrasound organic revenue increased 2%. Recall that in 2022, we had multiple quarters of strong ultrasound results as supply chain constraints eased. I'd also note that all segments delivered positive price in the year, reflecting our continued pricing discipline. Looking ahead, we believe all of our segments are well positioned as we move into 2024 from both an innovation and operational perspective. I'll walk through more details on this for each segment shortly. Turning to the progress we made in 2023 on margin initiatives on slide seven.

As we moved through the year, we drove sequential improvements in adjusted EBIT margin, driven by volume, commercial execution, and productivity. For the year, we increased adjusted gross margin by 100 basis points versus 2022, and delivered more than 3% in positive sales price for the year, ahead of our expectations. In 2024, we expect 1-2-percentage points of positive price as we deliver increasing value to our customers. We're also starting to see margin expansion from improving volumes and higher margin NPIs, given our continued R&D investment. For the year, we invested more than $1 billion in R&D, equating to over 6% of sales, all while expanding margins. In 2024, we expect to be in the same range as a percent of sales or slightly higher, supporting our innovation pipeline.

Our productivity initiatives have also gained traction as logistics costs continue to improve, spot buys decreased, and as we implemented cost-efficient design changes. We have also experienced improved labor productivity, driven by a greater proportion of remote fix in the application of digital tools. Relative to G&A, we're optimizing our spend by rightsizing our real estate footprint and IT infrastructure to generate additional efficiencies. We made solid progress in exiting TSAs in 2023, with nearly 280 completed through the end of Q4. We're on track to exit the vast majority of the remaining TSAs in 2024, which gives us confidence in our G&A optimization plans, an important part of reaching medium-term margin goals. Given our progress across the organization, we have solid visibility to deliver on our high teens-20% adjusted EBIT margin target over the medium term.

Now, I'll turn to our segments. As a reminder, in 2023, we incurred approximately $200 million of recurring standalone costs that impact our segment EBIT margin rates. We did not have these expenses in 2022. These costs were allocated based on revenue and equated to approximately 100 basis points of margin headwind for each segment. Going forward, these costs will be in our run rate, but serve as an opportunity to operate more efficiently in the future. Let's start with our imaging segment on slide eight, where we generated organic revenue growth of 4% year-over-year. This was driven by improved backlog conversion and price. Growth was up against fourth quarter sales that experienced a strong double-digit increase in 2022. Segment EBIT margin was up 10 basis points year-over-year as we made progress on enhancing gross margin.

Imaging equipment growth outpaced service growth in the quarter and for the year, which impacted margin mix as we build our installed base with future service growth opportunity. We saw strong progress in our product platforming initiatives across several modalities, including CT and MR. Customer demand for our imaging product remains healthy, and our growing backlog is driven by new product introductions. Turning to ultrasound on slide nine, organic revenue was down 2% year-over-year due to the impact of lower volume, tied to a challenging comparison for the same period last year. We continue to have a positive outlook for this segment as we enter 2024. Segment EBIT margin declined year-over-year due to investments such as the Caption Health artificial intelligence integration. This year-over-year margin decline was partially mitigated by cost productivity as we drove standardization and commonality across our platforms.

As we exited the year, we saw opportunities for ultrasound equipment based on a combination of our commercial efforts and improving market conditions. With recent customer commitments and interest in new products enhanced by AI technology, we're well positioned as we enter 2024. Moving to patient care solutions on Slide 10, organic revenue was up 4%, driven by progress on price and operational process improvements. Revenue increased as we fulfilled more backlog, in addition to contribution from NPIs. Similar to imaging, recall that sales growth in the fourth quarter last year increased double digits due to an easing supply chain environment. PCS margin decreased 320 basis points compared to last year, driven by investments and one-time favorability that we experienced in the prior year. During the quarter, the team delivered on improved supplier lead times and lower inventory.

As we look ahead, we're excited about recent product launches that should contribute to future growth. Finally, moving to pharmaceutical diagnostics on Slide 11, we have another solid quarter, generating 23% year-over-year organic growth associated with an easier year-over-year comparison and pricing. Segment EBIT margin of 24.4% improved 140 basis points year-over-year, driven by price, volume and productivity actions. We're encouraged by the continuing strength of global imaging procedures, which drives the need for imaging agents. We are executing our innovation strategy through investments in our pipeline across care areas, including the in-licensing of FAPI assets, which we believe will play a key role in targeting this protein to detect certain types of cancer. This is an area of significant potential for the nuclear medicine and oncology communities. Turning to Slide 12, I'll walk through our cash flow performance.

We exited the year with an improved financial profile, including a stronger balance sheet and enhanced financial flexibility to support our future growth. We generated free cash flow of $956 million during the fourth quarter, down $31 million year-over-year, with standalone cash outflows. Inventory turns improved in the quarter, the highest they have been since the beginning of 2021. This is the result of our lean supply chain actions. We saw operational improvements, including lead time reductions and greater inventory turns in all segments. Our aged inventory balance decreased, and we have stronger input controls in place, including safety stock reduction and optimized stock planning. In addition, our collections improved as a result of our focused daily management system. For the year, we delivered strong free cash flow of over $1.7 billion.

This equates to 95% free cash flow conversion. We also strengthened our balance sheet by paying down $1 billion of debt since the start of the fourth quarter. With a strong balance sheet and a balanced capital allocation strategy, we'll continue to focus on organic and inorganic investment, deleveraging, and paying a dividend. Now, let's turn to our outlook on Slide 13. For 2024, we expect organic revenue growth to be approximately 4%. This compares to strong growth of 8% in 2023, that was driven by easing supply chains and price gains. I would note that we expect a foreign exchange headwind to revenue of less than 1% in 2024.

We expect full-year adjusted EBIT margin to be in the range of 15.6%-15.9%, representing expansion of 50 basis points-80 basis points, given the progress we're making with volume, commercial execution, and optimization. We assume an adjusted effective tax rate in the range of 23%-25%. The Pillar Two global minimum tax is not anticipated to have a significant impact on our tax expense in 2024. On adjusted EPS, we expect to deliver between $4.20 and $4.35 for the full year, representing growth in the range of 7%-11% versus 2023. Lastly, we expect to deliver free cash flow of approximately $1.8 billion for the full year.

While we don't give quarterly guidance, it's important to note that given the seasonal nature of our business, the fourth quarter is typically the strongest period for orders, sales dollars, and adjusted EBIT margin. We expect year-over-year organic revenue growth and adjusted EBIT margin in the first quarter to be the lowest of the year. Also, remember that organic sales growth in the first half of 2023 was very strong at 11%. As a result, organic revenue growth is expected to be stronger in the second half of the year versus the first half in 2024. To wrap up, we're entering 2024 from a position of strength as we executed well in 2023. Our solid backlog, order intake, and adjusted EBIT margin progress gives us confidence in our ability to deliver on our guidance for 2024.

Now, I'll hand the call back over to Pete.

Peter Arduini (President and CEO)

Thanks, Jay. Through an emphasis on R&D, we continue to innovate across our four segments. Our new product Vitality Index, which measures new products contributing to orders in the year, was healthy at 26%. We launched more than 40 new innovations in 2023, as I noted before, many of which are AI and digitally enabled, bringing more opportunity to increase gross margin with these enhanced capabilities. Earlier, I mentioned our plans to acquire MIM Software, a leader in AI-enabled image analysis and workflow tools across multiple care areas. Once integrated post-close, MIM is expected to drive accretive top-line growth, and we expect the transaction to be neutral to adjusted EBIT in year one and accretive thereafter. One of the dilemmas our customers face is integrating the variety of multi-vendor AI applications into their workflows.

Our new App Orchestrator is a solution that simplifies the AI selection, integration, and workflow process for healthcare professionals. By providing easy access to pre-validated apps, we're helping reduce the pressure that often comes with the overhead of evaluating, acquiring, and implementing solutions from many companies. We're in the process of developing this subscription-based application for the cloud. Our high-growth, high-margin AI solutions are designed to increase productivity, efficiency, and diagnostic confidence. Customers have the option to purchase new AI-equipped devices or as an upgrade to existing equipment. We're actively pursuing AI across our product portfolio with a focused effort to expedite product development in 2024. Moving to molecular imaging on slide 15 and the role of MIM Software to enhance our precision care strategy.

For starters, our unique portfolio of PET/MR, PET/CT, and multi-head SPECT/CT, radiotracers, and digital, offers providers a comprehensive solution to deliver on this growing field of diagnostics and therapeutics. As novel therapies become more widely available, our tracers play an increasingly important role, putting us at the center of this transformation of care that will help enable better patient outcomes across many care pathways as functional imaging expands. This chart illustrates the diversity of our pharmaceutical portfolio, both existing and in the pipeline, and the diseases that each one uniquely targets. We see growth opportunities with our existing products, like Vizamyl, for patients with suspected Alzheimer's disease as new therapies ramp up, and Cerianna for metastatic breast cancer, which are used both in conjunction with PET systems for diagnosis. Flurpiridaz, a pipeline product for diagnosing and assessing coronary artery disease, is expected to significantly advance PET/CT imaging.

Cardiologists say it shows promise for a variety of reasons. First, it has the potential to offer more sensitivity and specificity than SPECT and technetium, which is the standard of care. Its longer half-life may allow doses to be ordered and transported longer distances, unlike other products on the market, which require on-site production, which can be a limiting factor for smaller hospitals and cardiac imaging centers. One of the most exciting advancements in molecular and functional imaging is theranostics. There's a motto for this rapidly growing field, that it allows you to see what you treat and treat what you see. Theranostics combines diagnostic imaging equipment, radiopharmaceuticals, both diagnostics and therapeutic, with the goal of eliminating cancer cells without affecting healthy tissues, and this has fewer side effects for patients.

This approach can bring significant improvements for many cancer types, and one of the reasons why molecular imaging has a very promising future. To give you some perspective, currently, the overall theranostics market... which includes equipment, tracers, and therapies, is approximately $9 billion, and is expected to grow to $40 billion by 2032. Today, theranostics is primarily used in thyroid, neuroendocrine, and prostate cancer. However, a growing pipeline of drugs across the industry for future applications include breast, ovarian, pancreatic, and lung cancers, show even more promise to potentially extend the length and quality of life for more patients. We expect to play an important role in the delivery of these new therapies.

In the next three years, we plan to significantly increase our current theranostics franchise through a combination of organic and inorganic expansions, and we're excited about the opportunity to be a trusted partner, helping our customers navigate this important and growing field of medical imaging. This mission to improve outcomes across care pathways will be enabled by our announced intention to acquire MIM. After close, we plan to integrate these new capabilities into GE HealthCare's devices to enhance imaging fusion, multimodal inputs for diagnostics, therapy planning, and monitoring. And by leveraging these new tools across various care areas, we can differentiate our solutions for the benefit of patients and healthcare systems worldwide, particularly around theranostics. In closing, we're excited about the growth potential of molecular imaging and theranostics, as well as our pipeline pharmaceuticals, and the collective opportunity for these innovations to enable precision care.

To summarize, on slide 16, I'm extremely proud of our team's execution in 2023 and our focus on patients and customers, as well as the progress we've made as a standalone company. We achieved or exceeded our financial and operational objectives we laid out at the beginning of the year, and we're making significant progress on the innovation front, including digital and artificial intelligence launches. We have a strong balance sheet that allows us to invest in new capabilities organically and inorganically, and we're excited about our momentum as we enter 2024. We remain on track to deliver on our medium-term targets. With that, I'd like to open up the call for questions.

Carolynne Borders (Chief Investor Relations Officer)

Thank you, Peter. I'd like to ask participants to please limit yourself to one question and one follow-up. Operator, can you please open the line?

Operator (participant)

Thank you. As a reminder, to ask a question, please press star one one on your telephone and wait for your name to be announced. One moment for our first question. That will come from the line of Craig Bijou with Bank of America. Your line is open.

Peter Arduini (President and CEO)

Morning, Craig.

Craig Bijou (Equity Research Analyst)

Morning, guys. Thanks for taking the questions. So Jay, appreciate the comments on Q1. And I did wanna dive a little bit deeper there. Can you guys still grow revenues in Q1, given that you do have a pretty strong year-over-year comp? And then on the margin side, should we still expect margin expansion in Q1, but maybe it's at a rate a little bit lower than what you're expecting for the full year?

Peter Arduini (President and CEO)

Craig, that's right. Overall, as I said in my prepared remarks, the first half will be lower than the second half, and the first quarter will be lower than the second quarter. Really, what this comes down to is the challenging comp that we saw in Q1 of last year. I believe we had 12% revenue growth, which was, you know, really a great performance in that quarter. Having said that, we still expect revenue growth in the first quarter, and some level of margin expansion, albeit both of those lower than the full-year rates.

Craig Bijou (Equity Research Analyst)

Got it. That's helpful. And as a follow-up, I did want to touch on China and the Anti-Corruption Act. And basically, want to get your sense for what what's going on there, and you know, did you grow sales and orders in China in Q4? And how should we think about that in the early parts of 2024?

Peter Arduini (President and CEO)

Hey, Craig, it's Pete. Well, look, as you know, there's a lot of moving parts within China. You know, we've talked a lot about this in the past. I think there's three things. I mean, there is clearly a focus by the government to expand capabilities in medical coverage, and a lot of that comes down to our equipment, ultrasound, CT, as a first part. The second thing is there was the stimulus funding from last year, which was in Q4 and affected in Q1, where we did actually very, very well from a share and a growth standpoint. And then we have anti-corruption. You know, what we've seen on the ground is it's not that consistent in many different ways, meaning that certain provinces, there may be less impact, other provinces, there may be more.

I think that's gonna play out in throughout the coming year. You know, we believe overall that the approach to drive better compliance in a very large country is a good thing, and that there isn't necessarily an end date as much as it's a new policy approach about how you do business. And for a company like us, it's kinda how we do business every country around the world. I think that lays it out that way. That being said, you know, last year, for us in China, in the first half, we had a very strong first half. We grew over 20% organic in the first half of 2023. So we're actually expecting our growth to be negative year-over-year. That's contemplated in our guidance in the first half, and then in the second half, resuming to growth.

And so that's kind of how we profiled it, and that's part of our 4% guidance that we've laid out. You know, longer term, we believe China, again, with 1.4 billion people, 400 million getting quality services today and 1 billion that need it, is gonna continue to be a growth market out into the future. But we've taken, I think, a prudent approach on how we take a look at no growth in the first half and then growth resuming in the second half.

Craig Bijou (Equity Research Analyst)

Thanks, guys.

Peter Arduini (President and CEO)

Thank you.

Operator (participant)

Thank you. One moment for our next question. That will come from the line of Vijay Kumar with Evercore ISI. Your line is open.

Peter Arduini (President and CEO)

Hey, Vijay.

Vijay Kumar (Senior Managing Director)

Hi, Pete. Congrats on a nice print here, and a very good morning to you. My first high level on the guidance here, Pete, 4% organic, seems reasonable given the tougher comps. Curious, what is the guide assuming for pricing? And, you know, the book-to-bill in Q4, 1.06, you know, it kind of implies a capital book-to-bill was perhaps 1.08, 1.09. What is the relationship between, you know, when I look at those overall numbers of 1.08, 1.09 on capital versus revenues, right? Is there a timing element, could perhaps 4%, you know, just looking at this book-to-bill, the 4% seems, you know, looks like it has some cushion.

Jay Saccaro (VP and CFO)

So maybe I'll talk first about the or the sales growth for the year, and then talk a little bit about pricing, 'cause I think both of those were embedded in the question. Listen, we were very pleased with the performance to close out 2023. On a full year basis, we delivered 8% at the high end of the range, in fact, a little bit in excess of our expectations for the fourth quarter. And a lot of that came down to execution in terms of translating backlog into sales, which was a testament to all the work in many of our teams. And so, you know, as we look at 2024, you know, we think roughly 4% is a solid number.

If we think about it, you know, we feel really good about 2023. We think the setup is solid. We think the business has proven it's pretty durable. Amidst a lot of macroeconomic volatility in 2023, you know, our business performed pretty well. And so as a result, you know, we did put on some incremental orders in the fourth quarter, in the last couple of months of 2023, which was ahead of our expectations. So as I said. And so, you know, it's early in the year. There's a lot of macro dynamics in play. Pete talked about one, but frankly, it's a volatile world that we're living in, and, you know, we set the 4% up.

It's a really challenging comp, but it's set up with a very solid backlog, a solid book-to-bill ratio. And so hopefully, you know, things cooperate, and we move through the year nicely. Pete, why don't you add to that, and then we can talk about price?

Peter Arduini (President and CEO)

Yeah, no, I would just say, I think you covered it, Jay, other than the fact to say that, look, we were super pleased with the order book performance. You know, as there's been obviously a reasonable amount of questions over this year about order and the translation to revenue, putting up strong orders growth in the fourth quarter, both service and equipment. And again, you know, when you think about our orders book now being over $19 billion, that obviously sets us up for more gas in the tank and, you know, later in Q4 in the second half of 2024. But it's also business that we have for multi-year deals that gives us visibility into 2025 as well. And I think that's an important aspect here.

You know, I mentioned $2.5 billion of multiyear enterprise deals, which we've been really ramping up our capability on. Not only does that help you in the current year, but it typically gives you 2-3 years visibility out of business that you're going to get, that you don't need to win each year. And I think, so for over the period of time here, we, you know, just feel very good. And again, I'm just very satisfied with the work that the team has done and the setup that we've had. And to Jay's point, you know, we try to take into consideration all the different challenges that may be happening in the world and making sure that we've had the, you know, the appropriate call to be able to deal with whatever parameters come our way.

Jay Saccaro (VP and CFO)

Vijay, as it relates to price, we... Like I said, we were pleased with price. In 2023, we delivered around 3%, of price, and a lot of that comes down to a cultural focus at our company in terms of selling value and appreciation of our customers of the value that we're bringing to the table. You know, we are trying to innovate. You saw the R&D growth number in the quarter. We really are trying to accelerate innovation, and that translates to new and unique products. And so from our standpoint, that's unlocked a lot of our pricing opportunity. What we expect, consistent with the midterm plans that we've laid out, is roughly 1%-2% pricing in 2024, and we'll continue that going forward.

I think, you know, this is, this is about culture, it's about new products, and that's what's really... and discipline in terms of how you construct your deals. That's really what's enabled this.

Peter Arduini (President and CEO)

And I just support that by, again, obviously, new products aren't in the price calculation, they're in mix. But with a focus on having those come out at higher gross margins, when you have a Vitality Index of 26%, you know, over 25% of your products are coming out that have a higher gross margin than the predicate ones. And ultimately, that will be the dynamic, even more so than like-for-like products, which will help drive margin.

Vijay Kumar (Senior Managing Director)

That's extremely helpful, Pete. One quick follow-up here. The margin expansion guide was really impressive, 50-80 basis points. How much of that is coming from gross margins versus operating leverage?

Jay Saccaro (VP and CFO)

Sure. And just a word on 2023 margin. You know, we expanded 60 basis points standalone, but we did that with a dramatic increase in R&D expansion. And so that's the template that we really, really like to see. And so as we look at 2024, the vast majority of the expansion will come from gross margin. I used some words in my prepared remarks regarding the lean focus at the company, and that's real. What we call variable cost productivity initiatives are reshaping how we operate the manufacturing and distribution operations of the company. So that's one key element. Pricing is another key element impacting gross margin. So in 2024, majority comes from gross margin expansion.

You'll actually see R&D grow as a percentage of sales, not to the extent that it did in prior years, but it will increase as a percentage of sales as we continue to grow R&D faster. And then there will be a little bit of savings from SG&A. That's really the construct behind the 50-80 basis points.

Vijay Kumar (Senior Managing Director)

Fantastic. Thanks, guys.

Peter Arduini (President and CEO)

Thank you.

Operator (participant)

Thank you. One moment for our next question. That will come from the line of Matt Taylor with Jefferies. Your line is open.

Jay Saccaro (VP and CFO)

Morning, Matt.

Matt Taylor (Managing Director and Senior Equity Research Analyst)

Good morning. Thank you for taking the question. So I had a follow-up. You talked a little bit about the phasing with China, and I guess I was wondering if you could comment also on other geographies and how that phased through the years, that growth expected to be more, more linear in the 4% assumption. And then the other part of that question is, you mentioned the customer survey that you did recently, you thought was a little bit more positive. I was wondering if you could unpack that a little bit and talk about how much that went into your forecast?

Peter Arduini (President and CEO)

Sure. Do you want to take the first part, and I'll take the second one?

Jay Saccaro (VP and CFO)

Yeah, I think that—I think China's... Listen, China's not a huge piece of our business, right? It's about 15% overall. And so the dynamic that Pete described is one that we're, you know, working through, and I think presents a nice opportunity for the second half of the year and beyond. As far as other geographies go, they do generally follow some of the same patterns that I described as a company overall. We're seeing—and really, it's not about health of market or buying decision time frames, but rather, it's about the comparators that we're dealing with. Q1, Q2, you know, you're talking about a blended 10-ish% revenue growth, Q3, Q4, a little bit more normal.

So really, it comes down to that in terms of why the growth is going to be the way it is for us in 2024. I wouldn't point to other geographic factors, other than that comp. Now, as it relates to the hospital capital surveys, you know, overall, we survey each quarter, and we go to our main customers, we talk to them, we have discussions in an organized manner using a specific tool that we have in place. And what we said in the third quarter is we were seeing some signs of optimism from that group. And then, you know, as we did our most recent survey, I would actually point to a couple different things. First, we did see increased buying and ordering patterns in the fourth quarter of the year.

As we closed out, in particular in December, there was a buoyancy to the market, in particular, the U.S. market, that, you know, sort of supported some of the things that we saw in the survey. The second thing is our internal surveys continued, in terms of commentary on positive expectations for growth in 2024, which I think that was a great piece of data as well. And then third, as we looked at general external information, there were a few things that came our way. First of all, hospital profitability is robust. We saw good reports from a number of providers, number of indices, which report on general hospital health. All of those things were good. Second, sentiment surveys that other people conducted were also... You know, we use words like constructive setup into 2024.

You know, we're not sitting here saying it's going to be an unbelievable market, but we think it's gonna be a solid market as we approach 2024. Of course, we're watching Fed rate decisions because that will have another element, as people look at installing capital and making ultrasound purchases. But by and large, we feel good about how we're thinking about 2024. Pete, do you want to add anything in terms of customer discussion?

Peter Arduini (President and CEO)

Well, I think you, I think you covered it. I mean, the only point, look, their balance sheets are getting better, Matt, the less travelers in nursing and stuff, so their costs are going down. And so you've seen in some of the reports, profit going up, which is what we're hearing. So that's there. At the same time, demand's strong, meaning the procedures of patients coming in, either from orthopedic, cardiovascular, neuro, I mean, across the board. And so, you know, as you've heard us say, as well as others, the more that those procedures grow and new innovations come out, they typically are always supported by much of the equipment that we do.

You know, we talk about Alzheimer's, when, you know, new therapies are gonna come out, and as they do grow, they're gonna require our equipment to image and manage safety. As new implants come out in orthopedics and move to an outpatient center, you're gonna need an OEC C-arm to be able to do that procedure, backed up with ultrasound. So you know, that's the part that we watch, is that customers' health, particularly in the United States, is improving, and the procedures growth is on the rise.

Matt Taylor (Managing Director and Senior Equity Research Analyst)

Great. Thanks, Pete. Thanks, Jay.

Peter Arduini (President and CEO)

Thank you.

Operator (participant)

Thank you. One moment for our next question. That will come from the line of Larry Biegelsen with Wells Fargo. Your line is open.

Peter Arduini (President and CEO)

... Larry.

Larry Biegelsen (Managing Director and Senior Analyst)

Good morning. Hey, good morning, Pete. Good morning, Jay. Thanks for taking the question. I'm gonna ask two pipeline questions. First, Pete, the slides say you filed Flurpiridaz. You talked about it in your prepared remarks. Are you expecting approval in 2024? And there are about 9 million myocardial perfusion imaging tests in the U.S. each year. Do you think Flurpiridaz can capture a significant portion of the MPI market over time? And I had one follow-up.

Peter Arduini (President and CEO)

Yeah, Larry, look, we're, you know, I won't give my estimate of when the agency approvals would be, but, you know, the normative rates would say at some point here, in later second half of the year, based on what the normal dates would be for an NDA, that we should be in the process for an approval. Look, it's a very exciting drug, and I mean, you know, you've written on it as well. The standard of care forever, as I mentioned in my prepared remarks, is a SPECT camera and technetium.

Many of us here, I think, on the call listening in know if you go to any type of hospital, type of perfusion test to see how your heart is functioning, which then directly translates into how is the plumbing or your vessels doing, and how is the electrical system doing? And it's a very efficient test. The challenge is, the current products just actually don't have the level of specificity or sensitivity, meaning that they can't always point to a direct interventional action. And the early data, again, to be substantiated with, the right approval, is that a product like Flurpiridaz can greatly increase the specificity and sensitivity. To your point, it's not a product that's used on a SPECT camera, it's a product that's used on PET/CT. PET/CT is not widely used in cardiology.

If this product were to take off and capture a larger percentage of it, which we believe over time will be the case, it's gonna acquire more PET/CT systems in cardiology or in cooperation with radiology. And so we're quite, you know, excited about it. I think it's a great support for cardiovascular care. I know cardiologists who have looked at it, have been very impressed with it, but we'll see how that plays out. We're not counting on any significant ramp right now in our midterm views. We have, I'd say, reasonable numbers that in some future dates, post-approval, we'll talk about. But to your point, with the size of the opportunity, there could be some scenarios where this could end up being a larger piece of the business over time.

Larry Biegelsen (Managing Director and Senior Analyst)

That's very helpful. Pete, I'd love to get an update on your progress with the photon counting CT technology. What, what are the next steps and milestones, in the process to bring this to the market in, in the U.S. and, and outside the U.S.? Thank you.

Peter Arduini (President and CEO)

Yeah, Larry, thanks. Yeah, photon counting, obviously very exciting technology for CT. Really, probably the biggest transformation to come to CT in the last 30-some years beyond multi-slice. And it has that opportunity to bring better resolution, reduce dose, but also bring functional capabilities within the CT world, which typically is a great anatomical imager, but doesn't show what's happening more at a cellular or an organ level. And photon counting has that capability. There's obviously some other players in the marketplace currently. We have beta sites that are actually running, where we're actually doing a lot of work currently. We believe our technology approach, which is the use of deep silicon, is unique in a lot of different ways.

But I would just say for the whole broader sector, all of us that are playing in it, I think this is gonna be a strong revolution for the whole industry, mainly because CT's ability to be installed many different places, and it's just ubiquitous use for so many different diagnoses. So stand by, more to come. We'll be talking more about it throughout the year, but we're making good progress on the platform. So thanks for the question.

Larry Biegelsen (Managing Director and Senior Analyst)

Thank you. Thank you.

Operator (participant)

Thank you. One moment for our next question. That will come from the line of Joanne Wuensch with Citi. Your line is open.

Peter Arduini (President and CEO)

Morning, Joanne.

Joanne Wuensch (Managing Director)

Good morning. Good morning, and thank you for taking the question. As you move more and more into AI-enabled technologies, could you comment on your thoughts on how to translate that to dollars and cents? Is it a subscription model? Is it software as a service? How do we think about that?

Peter Arduini (President and CEO)

Yeah, Joanne, it's a great question, and I would say our strategies are evolving, and it will be, in many ways, multifaceted. So just to give an example, in today's world, where we have a product like AIR Recon DL, which again, is this new way of actually how an MRI actually creates an imaging using artificial intelligence and the corresponding upgrades that we can take to our install base. Today, those fundamentally result in a higher price value proposition, higher gross margins for an acquisition in that space. And I think there's still gonna be plenty of those opportunities to say this product by itself and this product plus AI is actually four, five, 10 points higher in gross margin because of what it actually does, and that will still account for a reasonable part of our growth.

The second part then is actually bringing certain capabilities via a SaaS model as their pure standalone software capabilities. So take, in, you know, my prepared remarks, I talked about the App Orchestrator. There's a great example of a product that will be cloud-based, can fit on many different PACS systems and work with multi-vendor equipment, and customers may decide that at one hospital or their whole network, they want it, and so they could pay for one on-site capability via SaaS, they could pay for multiple. And then riding upon that will be applications from other third parties... and we will have an opportunity to say, you know, you'll get 70%, we'll take 30% as an enabler into our broader installed base and others.

And so there's a multifaceted way, I would say, in 2024, one of our big operating priorities or big priorities we have, is really building out this go-to-market and monetization model. But it's going to evolve everything from more value to a piece of hardware, which we can actually attain more value for, all the way through different, almost down to by the use capabilities. That, again, that's going to expand over multiple years, but that's how we're thinking about it and putting in place the right type of SaaS backbone for the whole company.

Joanne Wuensch (Managing Director)

Thank you very much.

Operator (participant)

Thank you. One moment for our next question. That will come from the line of Graham Doyle with UBS. Your line is open.

Peter Arduini (President and CEO)

Hey, Graham.

Graham Doyle (Executive Director and Equity Research)

Good morning, guys. Thanks a lot for taking my questions. Can we just touch on China again, just to clarify one of the statements earlier? You said you're expecting no growth, but also negative growth in the first half. And is it negative or no growth, i.e., flat? And just for the full year, are you expecting China to grow? And then just a quick clarification one after that on the order book. Thank you.

Jay Saccaro (VP and CFO)

Sure. On China, we expect a decline in the first half. But remember, in Q1 of 2023 and Q2 of 2023, we had around 20% growth. So we've always kind of modeled the decline in the first half, growth in the second half, and as a result, we're expecting growth for the year.

Graham Doyle (Executive Director and Equity Research)

Perfect. That's super clear. And then just on the orders, I think you mentioned quite a sizable multi-year contract win. Does that get all booked in the Q4 2023 as well, then?

Peter Arduini (President and CEO)

Yeah, Graham, what I actually, I think, referenced was over the year, multiple enterprise deals that we've won that amount to over $2.5 billion. Our current processes, as we bring in significant amounts of orders, we typically don't book out beyond a two-year window of our orders. So if we have something that's captured for, you know, 5, 6, 10 years, we aren't actually booking, you know, years seven, or excuse me, three and beyond in our current order book. That's not our approach that we implement. So the order we put in, the 3% growth, are very near-term orders that we want in the fourth quarter that we'll see play out in 2024 and in 2025.

Graham Doyle (Executive Director and Equity Research)

Perfect. A really cheeky quick one. On that photon counting, you brought it up earlier. Is it your expectation that on a, I don't know, like a call it a 5-year view, this becomes kind of the standard of care within CT more broadly as it becomes economic, and we should expect that this, in most CTs in, in Europe and certainly the US, become photon counting?

Peter Arduini (President and CEO)

I think 5 years is a little bit optimistic. I mean, I think, you know, I've heard what others have said as well. I think in a 10-year window, that's probably more realistic. Keep in mind, you know, 85% of all CTs in the world tend to be more mid-tier value-based products. Some of them sell for, you know, $200,000-$300,000 in different parts of the world. So that's a—it's a wide community of what's in a CT. If your point is on the premium end and stuff, I think in the 5-year window, yeah, you're going to see a significant higher percentage of photon counting.

Graham Doyle (Executive Director and Equity Research)

Perfect. Thank you very much, guys. I'll jump back in the queue.

Peter Arduini (President and CEO)

Thank you.

Operator (participant)

Thank you. One moment for our next question. That will come from the line of Anthony Petrone with Mizuho. Your line is open.

Peter Arduini (President and CEO)

Morning, Anthony.

Anthony Petrone (Managing Director, Senior Medical Devices, Diagnostics and Therapeutics Equity Research Analyst)

Good morning, Pete. How are you? Good morning, Jay. Congrats on a solid year here, post-spin. So maybe I'll start, Pete, with just a question on theranostics. You have it in the slide deck here. Obviously, GE HealthCare, well-positioned on the diagnostic side. You mentioned growth organically and inorganically. Just wondering how you're thinking about the other pieces of theranostics. You have therapeutics and supply chain. You can grow more in diagnostics. So just, you know, maybe your thoughts on how that space is consolidating and where GE can play specifically, and I'll have a follow-up for Jay on capital allocation.

Peter Arduini (President and CEO)

Yeah, no, Anthony, it's a good question. I mean, obviously at the baseline level, as these therapies take off, PET/CT is a critical product. I mean, for all practical purposes, it's a limited world of folks that manufacture a PET/CT and PET/MR. We're one of them. We think to do this effectively, you have to have a multi-head SPECT CT. We have a 12-head system called the StarGuide. You know, none of our major competitors really have that product. Why is that important? If you have a traditional 2-head, it's an hour to do the study, versus you can do it in 15 minutes or less. You can't run an effective theranostics department if you don't have a, a multi-head camera. So that's kind of the stakes.

The next thing is you need to integrate those images and look at them together to diagnose, look at radiation dose. Patient might have had external beam radiation. They get radiation from the drug itself. You need to look at both of those. MIM Software is really the best in the world. You know, they're going to be part of us post-close. That's going to bring a missing link. It's also a capability that really nobody else in the industry has when you couple that with those products. And then on the tracer side, you know, we're the only company that has the equipment and manufactures the tracers. Others distribute, but there's a big difference between just shipping it around and making it. And so we have the logistics capability.

We also have the manufacturing capability, and we also make the cyclotrons, which again, are particle accelerators that actually help create many of these. So there's multiple opportunities here, you know, either working with some of the pharmaceutical companies directly, playing a leadership role with customers on how you deliver these doses. And I just remind everybody, unlike other drugs where you can just deliver it in any center, these products have a half-life, which means the moment you make them, they're degrading. And so how you actually take an order and get it to a patient that day for the right potency, is one of the things we have expertise in. So again, as these grow, and what we're excited about is the impact they're going to have on patients, effectiveness, and low side effects.

We've got most of the, you know, the capabilities to play different roles throughout the growth of this, and that's what we'll plan to do.

Anthony Petrone (Managing Director, Senior Medical Devices, Diagnostics and Therapeutics Equity Research Analyst)

Helpful. And Jay, real quick on capital allocation, uses of cash for this year. Is M&A more the priority? You did $1 billion debt pay down, and then just free cash flow conversion. That would be helpful. Thanks.

Jay Saccaro (VP and CFO)

Sure. Thanks for the question. I think 2023 was really a great case study in terms of how we think about capital allocation. It starts, to your point, with free cash flow. We were able to deliver 95% conversion, which we were very proud of. We did a lot of work on the balance sheet, on working capital balances, on collections, on inventory turns, which I commented on in my prepared remarks. And the result was, we exceeded our cash flow expectations by a good margin. And we set up 2024 with another solid 90% conversion rate and free cash flow growth. And so then the question is: how do you deploy that? Well, in 2023, the first thing we like to do is reinvest in the business to accelerate growth.

So what we were able to do is drive EBIT expansion of 60 basis points, despite 20-ish% growth in R&D, and we also significantly expanded CapEx investments. So point 1, reinvest in the business. The second thing we like to do is strategic M&A. Over the course of 2023, we announced 3 deals, Imactis, Caption, and MIM. All of them have the profile of deals that we like, strategically relevant, accretive to our business, really solid ROIs over time. So all of them hit the profile and made us a bit more competitive in the marketplace, with more offerings for our customers. Also, in 2023, we made a number of minority investments that allow us to learn about new areas, in a sort of experimental manner.

So we don't talk too much about all of those investments, but we made quite a few in 2023, and over time, we expect these to yield dividends. We also like to focus on the balance sheet, so we paid down $1 billion in 2023, significantly enhancing the financial flexibility going forward. And finally, we paid a dividend. So I guess the way I think about it, you know, everything was on display in 2023 in terms of how we think about a disciplined capital allocation strategy. And as we move forward, I would expect to see more of the same. All of that, though, as I said at the beginning of this, was - is, is unlocked by cash flow generation, which is a real area of focus for us.

Anthony Petrone (Managing Director, Senior Medical Devices, Diagnostics and Therapeutics Equity Research Analyst)

Thank you very much.

Jay Saccaro (VP and CFO)

Thanks, Anthony.

Operator (participant)

Thank you. We do have time for one final question, and that will come from the line of Patrick Wood with Morgan Stanley. Your line is open.

Peter Arduini (President and CEO)

Hi, Patrick.

Patrick Wood (Managing Director, Medical Supplies & Devices Analyst)

Amazing. Thank you. Hey, I'll keep it to one, just given the timing. I'll make it a short one. Thank you for the detail on the pricing side. Just kind of curious, like, how that's flowing through on the service backlog. You know, obviously, you get the one-year warranty, but, you know, where you're re-signing service agreements, are you seeing a similar kind of price uplift to what you're getting on the hardware side, so that that traditional ratio between the two is remaining relatively constant? Just curious what you're seeing there. Thanks.

Peter Arduini (President and CEO)

Yeah, Patrick, we've we've benefited from, you know, multiyear contracts. Been able to actually have escalators on, not only just on upfront, but then actually have escalators through the years. And then also we have, you know, parts, significant large parts business, as well as time and material. And then the other aspect of it is different services that we offer. It might be asset tracking tools, things of that nature, but I would say we've had the good fortune across the board to be able to get some price across all those different vehicles and service.

I would say the other thing, and it's kind of a given point, but it's important to note, that when services, you know, are really one of our highest margin offerings that we have, when you are gaining share, as I mentioned earlier on the call, ultimately, to your point, when you get to Month 13, that becomes a service contract. And that higher mix of service over time also is an important driver of our, our future business. Thanks for that question.

Patrick Wood (Managing Director, Medical Supplies & Devices Analyst)

Thank you.

Operator (participant)

Thank you. Mr. Arduini, I'll turn the call back over to you for any closing remarks.

Peter Arduini (President and CEO)

Thank you. Thank you. Look, I, I'd just like to close by saying thank you so much to our colleagues here at GE HealthCare. It's been a great year. There's been a lot of great work and tireless efforts to go into the first year as a public company. But importantly, with all of that, the focus on our patients and customers to deliver safe, high-quality products that make a difference, it's at the core of our lean mindset, it's customers first. You know, we delivered on all of our commitments that we set to deliver in 2023, and as Jay and as we spoke about, really sets us up well for 2024. The investments we made in R&D are coming out. We have a full pipeline of new products and new clinical indications.

With that, I'd just like to say thank you for joining the call today, and we look forward to connecting with you at one of our upcoming conferences. Thank you so much.

Operator (participant)

This concludes today's program. Thank you all for participating. You may now disconnect.