ResMed - Q2 2024

Transcript

Operator (participant)

Hello, and welcome to the ResMed Second Quarter Fiscal Year 2024 Earnings Conference Call and Webcast. If anyone should require operator assistance, please press star zero on your telephone keypad. A question-and-answer session will follow the formal presentation. You may be placed into question queue at any time by pressing star one on your telephone keypad. As a reminder, this conference is being recorded. It's now my pleasure to turn the call over to Chief Investor Relations Officer, Amy Wakeham. Please go ahead, Amy.

Amy Wakeham (Chief Investor Relations Officer)

Great. Thank you, Kevin. Hi, everyone, and welcome to ResMed's second Quarter Earnings Call for Fiscal Year 2024. We are live webcasting this call, and the replay will be available on the Investor Relations section of our corporate website later today, along with a copy of the earnings press release and presentation. Both of these are now available. During today's call, we will discuss several non-GAAP measures that we believe provide useful information for investors. This information is not intended to be considered in isolation or as a substitute for the GAAP financial information. We encourage you to review the supporting schedules in today's earnings press release for a reconciliation of these non-GAAP measures to the GAAP reported numbers. In addition to our discussion today, it will include forward-looking statements, including but not limited to, expectations about our future financial and operating performance.

We make these statements based on reasonable assumptions, however, our actual results could differ. Please review our SEC filings for a complete discussion of the risk factors that could cause our actual results to differ materially from any forward-looking statements made today. I'll now turn our call over to ResMed's CEO, Mick Farrell.

Mick Farrell (CEO)

Thanks, Amy, and thank you to all of our shareholders for joining us today. Our second quarter fiscal year 2024 results reflect strong execution across our entire business, driving double-digit top and bottom-line growth. These results are a testament to the incredible efforts of the global ResMed team. Our results were driven by double-digit global growth in both devices and our software as a service business, together with high single-digit global growth in our masks and accessories business, holding our leading market share amongst high comps from the same quarter a year ago. In terms of bottom-line leverage, our reorganization efforts and efficiency efforts in the quarter have set us on a clear trajectory of profitable growth. Taking a step back, all 10,000 ResMedians are energized about the opportunities in front of us.

There are over 2 billion people worldwide suffering from sleep apnea, chronic obstructive pulmonary disease, respiratory insufficiency due to neuromuscular disease, or insomnia. These chronic conditions form a healthcare epidemic in which ResMed is uniquely positioned to help. We believe that healthcare should be delivered in the lowest cost, lowest security, and highest comfort location possible. Very often, that is a patient's own home. Our end markets remain underpenetrated, with many opportunities to add value, reduce friction, lower costs, and improve patient outcomes. We support hundreds of millions of people as they take control of their healthcare journey and navigate the complex healthcare world outside the hospital system. ResMed is the global leader in digital health solutions, with over 17 billion nights of medical data in the cloud and over 23.5 million 100% cloud connectable medical devices sold into over 140 countries worldwide.

We are the clear market leader in sleep apnea, a huge and growing market with over 1 billion people impacted globally. Our category-leading flow generator platforms grew 11% year-over-year. We have achieved and are maintaining supply of our two 100% connectable AirSense platforms, with unconstrained supply of the AirSense 10 platform globally. Every quarter, we continue to gain regulatory approvals to launch and to increase delivery volumes of the best-in-class AirSense 11 platform on our pathway to support more and more patients worldwide. Our commercial teams are successfully demonstrating the clinical and economic benefits of the ResMed mask portfolio. During the quarter, our masks and accessories business grew 9% year-over-year in a highly competitive market, maintaining good market share with all players in the field in this category globally.

We are excited to have achieved regulatory and reimbursement approval for our latest and greatest mask innovation, and we look forward to bringing this technology to market soon. I have personally worn this new mask, and our test data show, not just N=1 from the CEO, that it is highly favored by physicians, respiratory therapists, and especially the most important customer, our patients. In terms of maintaining our momentum of mask and accessory growth, our clinical and commercial teams continue to partner with physicians and providers to drive resupply programs directly with their patients. Peer-reviewed and published clinical evidence shows that using resupply programs leads to better patient adherence and to better patient outcomes. This is proving out in the real world, customer by customer.

We continue to see strong growth in the U.S. mask and accessories business, where resupply programs are powered by our digital health ecosystem, including AirView for physicians, Brightree for home care medical equipment providers, and myAir for patients. Outside the U.S., we are focused on developing, launching, and scaling our direct outreach and subscription programs to help consumers take control of their own health and engage directly in refreshing their own mask, their own tubing, their own humidifier, and other accessories. The importance of respiratory health and respiratory hygiene in the eyes of consumers has seen a permanent uptick since four years ago when the COVID-19 epidemic started. We're supporting our customers with digital solutions and services to meet their needs and to ensure they have clean and fresh equipment to best treat their sleep suffocation and improve their health.

Before I review updates on our key strategic priorities, I'd like to discuss recent actions we have taken to accelerate profitable growth across ResMed and to power our long-term success. Last quarter, I discussed the steps we've taken to ensure that we can refocus and drive even more profitable growth. We stopped some projects that were not working out, and we increased investment in areas that will be pivotal to our long-term success, including our digital health technology investments, as well as focused device platform and mask technology development. We have introduced a new operating model centered on making ResMed even more product-led, even more customer-centric, and even more brand enhanced. We will measure the success of this new 2030 operating model by an increase in the velocity of new product innovation, as well as enhanced value in the ResMed brand, while accelerating profitable growth.

As the founder of ResMed states, "Innovation is not just invention of a great new technology, it is when a customer loves it, adopts it, and chooses to pay for it." We have an incredible legacy and an exciting product pipeline to bring to market. Let's now turn to a discussion of our three key strategic priorities. Number one, is to grow and differentiate our core sleep health and breathing health business. Number two, is to design and develop and deliver market-leading med tech and digital health solutions that can be scaled in 140 countries plus worldwide. Number three, is to create and leverage the world's best software solutions for care delivered outside the hospital and preferably in the home.

In terms of addressing strategic priority number one, as the world's clear leader in the field of sleep apnea and breathing health, we're laser focused in 2024 on ramping up our demand generation initiatives. We're raising awareness and creating pathways for patients to find access to care for sleep apnea across specific global markets. We are leveraging traditional healthcare channels and investing in cost-effective, social media-driven demand generation campaigns to help consumers who are concerned about their own sleep and breathing, to find their way into screening, diagnostic, treatment, and management pathways. Our goal is to provide a digital healthcare concierge service to help guide people on that journey.

We are tracking new patient starts in our physician and provider-based ecosystem, which now contains more than 26 million patient records, as well as the new user starts in myAir, which is a patient app, where patients choose to participate in their own personalized healthcare journey to better sleep and better breathing. Our goal is to cost effectively drive more and more of the over 1 billion people worldwide who need our help into the channel. There are two megatrends that can have an influence on increasing that patient flow. One from big consumer tech and one from big pharma. Let me talk briefly about each of these megatrends. Many of the big consumer tech companies are increasing their focus on the area of sleep wellness. Apple has sleep wellness tracking built into its latest generation Apple Watch, and has plans to enhance that capability with further sleep quality assessment.

Google's Fitbit division has sleep wellness tracking built into its platform. WHOOP is doing the same. Samsung have not only built sleep wellness tracking into its latest operating platform, but is helping to define sleep personas to help consumers better understand the 30% of their lives they spend in the state of sleep. We love this attention on the field of sleep wellness, and many of these technologies will help each person find out if they have issues with sleep architecture, issues with breathing during sleep, or issues maintaining high-quality sleep. This could be one of the biggest waves of people taking control of their own pathway to discovering they have sleep apnea, or they have insomnia, or maybe they have both, a state that is called COMISA, for comorbid insomnia and sleep apnea. Ultimately, this will lead to increasing patient growth for ResMed overall.

Our goal is to best educate the person as they move from sleep wellness tracking to sleep health tracking, and from consumer awareness into a true healthcare pathway for screening, diagnosis, treatment, and ongoing management of their chronic condition. ResMed plans to be there with the person through that entire journey. In terms of the impact of megatrends from Big Pharma, the current focus is squarely on GLP-1 medications. Let me take some time to address what we are seeing in the market with patients on latest generation GLP-1 therapies and positive airway pressure therapy. We're tracking a cohort of over 500,000 patients with prescriptions for both GLP-1 medications and positive airway pressure therapy. These data are included in our investor deck, so you can review them there on our website, but I'll briefly summarize what we have observed.

Around six months ago, there was a thought among some in the market that patients on GLP-1 medications would be less likely to start positive airway pressure therapy. We stated at the time, and still do, that this was not likely the case, as important risk factors such as craniofacial geometry, gender, age, and the basic physics and anatomy of the upper airway would remain unchanged despite this new pharmaceutical therapy option. Still, the theory remained. So now we have real-world data and real-world evidence at scale. Our analysis of over 529,000 patients with GLP-1 prescriptions shows that not only is there not a reduction in the propensity to start positive airway pressure therapy, it is the exact opposite. For patients who have been prescribed a GLP-1, there is an increase of 10% of the absolute percentage of patients that commence positive airway pressure therapy.

So, as an example, if you take a baseline of 75% of patients that commence PAP therapy after their prescription on average in a certain group, that would become 85% of those same patients who are on a GLP-1 that would commence positive airway pressure therapy. And by the way, the vast, vast majority of these GLP-1s are the latest generation medications. Another hypothesis about six months ago was that patients on GLP-1 therapy and PAP therapy would quit their PAP therapy, their CPAP or their APAP, at a higher rate than the general population over time. The real-world data, again, with a cohort of over 500,000 patients, shows the exact opposite.

At T = 12 months after therapy commencement on PAP, the delta from general PAP population to a PAP plus GLP-1 prescribed population shows an increase in the resupply rate of 300 basis points. So again, as an example, if the general population resupply rate at 12 months was, say, 70%, it would then become 73% for the population that was prescribed both PAP and GLP-1 therapy. This delta actually increases over time, going further with the delta from the general PAP population receiving resupply at 12 months, being 500 basis points higher for a population prescribed both PAP and GLP-1s. Here at ResMed, we believe in treating the whole person, including a combination of what Professor Bill Dement, one of the founders of the field of sleep medicine, may he rest in peace, called the triumvirate of health. That triumvirate is, one, regular cardiovascular exercise.

Two, balanced diet and nutrition. And three, good sleep and breathing. We believe that addressing all three aspects results in the best patient outcomes. In terms of best-in-class treatment for sleep apnea, achieving that goal of good sleep and good breathing, we have peer-reviewed and published research demonstrating that we can achieve over 87% of patients adherent to our PAP technology by combining our market-leading device platforms with digital health solutions, including AirView for physicians and myAir for patients. Even with this best-in-class global technology, we still have more than 10% of patients that need alternatives. We just can't get them adherent, those 10%.

We're investing in these alternative therapies, and we are working to help patients who do not adhere to positive airway pressure to find their path to second-tier therapies, such as dental devices, where ResMed has invested and scaled the market-leading 3D-printed dental device for sleep apnea in Europe called Narval. In addition, we have investments in other third-tier therapies, including pharmaceutical agents with our Apnimed investment, as well as hypoglossal nerve stimulation technology with our Nyxoah investment. ResMed stands for respiratory medicine, not CPAP company, and we want to take care of the patient. We obviously start with the lowest cost, highest efficacy therapies, including CPAP, APAP, and BiLevel therapies. We then work through the alternatives to help the person sleep better and breathe better.

The bottom line is this: a huge number of people need our sleep apnea treatment solutions today and for the next decade, two decades, three decades, and beyond. We want every patient to find a path to good breathing and good sleep. Let's pivot for a moment to talk about our digital health technology investments, leveraging the 17 billion nights of de-identified medical data and the 23.5 million, 100% cloud-connectable devices in our ecosystem. We are investing in several artificial intelligence-driven data products and capabilities in that ecosystem that we call Air Solutions. We're continuing to roll out, one publicly we're talking about, which is called Compliance Coach, to customers in the U.S. market in a controlled market launch.

Compliance Coach is a solution that helps home medical equipment providers to prioritize both digital and personal outreach to improve patient compliance and drive better patient outcomes at a lower cost. Compliance Coach models and predicts the likelihood that a particular patient will or will not adhere to therapy based on algorithms built on billions of data points.... The AI product then identifies for the HME provider the key patients who may struggle to meet compliance requirements, and takes a step further to drive digital and or human actions to maximize the probability of adherence across the group. Customers using the product in its initial launch are excited and are starting to see very positive results across their business and for their patients. One final update on AI technology for this quarter.

We recently launched an in-market trial of a ResMed-developed generative AI product that serves as a digital concierge to help a group of people that we call sleep-concerned consumers, to best navigate as they search for their sleep-related information, and they ask questions about their sleep wellness and potential treatment options. This generative AI tool helps the person identify, engage, and enroll on their personal journey to better sleep and better breathing. We're currently beta test marketing this product in Asia Pacific, and we will look to scale globally over time. Our goal is to develop and scale this digital sleep concierge so that all those seeking better sleep and better breathing can find their personal pathway for the best outcome, the best treatment, and the best long-term care.

Our respiratory health business continues to be supported by sustained activity across our non-invasive ventilator platforms, as well as our life support ventilator platforms. We continue to invest in clinical and economic trials for high-flow therapy, that we call HFT, to even more cost-effectively treat COPD in the home. As we develop these next-generation therapies, we will generate strong clinical evidence and economic outcomes that will support broader adoption of these innovations for treating respiratory conditions at home. The prevalence of respiratory insufficiency due to COPD, as well as neuromuscular disease, continues to increase, and we offer low-cost, high-quality treatments to help address this healthcare epidemic. Turning to our residential care software as a service business, we had another great quarter, with year-over-year growth of 24%.

Organic growth of our SaaS business was solid across our Brightree and our MatrixCare brands, with another full quarter contribution from our MediFox DAN brand in Germany. Ongoing customer-facing synergies between our Brightree offering in the U.S. and our home medical equipment resupply revenue remains very strong, driving good growth across both our SaaS business and our core sleep health business. We expect to have sustainable organic growth across our portfolio of SaaS solutions in home medical equipment, home health, home nursing, and beyond, to be in the high single digits as we continue through this fiscal year, and to achieve stable double-digit organic growth through fiscal year 2025 and beyond. We continue to drive operating expense leverage through management of our capabilities for cloud compute, our capabilities for cybersecurity, interoperability, and technology development.

We plan to accelerate net operating profit growth across our SaaS portfolio and across the entire ResMed business. Our residential care SaaS business remains an integral part of ResMed's growth strategy. This business complements the market-leading software and the market-leading device solutions that we have in our sleep health and breathing health business, and we are well positioned as the leading global strategic provider of SaaS solutions for residential care. We are transforming respiratory medicine and residential care at scale. We are leading the industry in developing, applying, and adopting digital health technology across our markets. We continue to scale and drive efficiencies in our operations. We're focused on driving top-line revenue growth, focused cost discipline, and increased efficiencies to accelerate profitability. We have created differentiated products and solutions for customers worldwide, driving long-term, sustainable value for our shareholders.

We lead the industry in digital health technology with the smallest, quietest, most comfortable, most connected, and most intelligent solutions, and we don't plan to stop innovating anytime soon. We invest around 7% of our revenues straight back into market-leading research and development. ResMed's mission remains crystal clear: to improve 250 million lives through better respiratory healthcare in 2025. This patient-centric mission motivates me and ResMedians every day. During the last 12 months, we have improved over 170 million lives by delivering a medical device directly to a patient, or a complete mask system to a patient, or a digital health software solution that provides personal care for a patient. We've helped each person to sleep better, to breathe better, or to live higher quality lives with best-in-class healthcare delivered right where they live.

I'm very excited about the opportunities in front of us and the pipeline we have ahead. In closing, I want to express my sincere gratitude to the more than 10,000 ResMedians for their perseverance, their hard work, and dedication today and every day. Thank you. With that, I'll hand the call over to Brett in Sydney for his remarks, and, then we'll open up to Q&A for, for Brett and me, and the team. Over to you, Brett.

Brett Sandercock (CFO)

Great. Thanks, Mick. In my remarks today, I will provide an overview of our results for the second quarter of fiscal year 2024. Unless noted, all comparisons out of the prior year quarter and in constant currency terms where applicable. We had strong financial performance in Q2. Group revenue for the December quarter was $1.16 billion, a 12% headline increase, and 11% in constant currency terms. Revenue growth reflects the ongoing combined availability of AirSense 10 and AirSense 11 sleep devices to support solid underlying global demand and continued growth across our mask product portfolio. Year-over-year movements in foreign currencies positively impacted revenue by approximately $11 million in the December quarter. Looking at our geographic revenue distribution and excluding revenue from our software as a service business, sales in U.S., Canada, and Latin America countries increased by 9%.

Sales in Europe, Asia, and other markets increased by 12%. Globally, device sales increased by 11%, while masks and other sales increased by 9%. Breaking it down by regional areas, device sales in the U.S., Canada, and Latin America increased by 7%. Masks and other sales increased by 10%, reflecting growth in resupply and new patient setups. In Europe, Asia, and other markets, device sales increased by 16%, again, reflecting strong demand and significantly improved availability of cloud-connected devices. Masks and other sales increased by 4%, reflecting the impact of a strong prior year comparable growth rate. Software as a Service revenue increased by 24% in the December quarter, reflecting the contribution from our MediFox DAN acquisition and continued strong performance from our HME vertical. Excluding our MediFox DAN acquisition, SaaS revenue grew by 10% in the December quarter.

MediFox DAN contributed revenue of $28 million in the December quarter, consistent with our expectations at the time of the acquisition. Note, as we have now passed the first year anniversary of our MediFox DAN acquisition, our future SaaS revenue year-over-year will reflect organic growth. During the rest of my commentary today, I will be referring to non-GAAP numbers. We have provided a full reconciliation of the non-GAAP to GAAP numbers in our second quarter earnings press release. Gross margin increased by 10 basis points to 56.9% in the December quarter. The increase primarily reflects a decrease in freight costs, an increase in average selling prices, and favorable foreign currency movements. The benefits are partially offset by unfavorable product mix.

Sequential gross margin increased by 90 basis points, primarily driven by a reduction in freight costs and an increase in average selling prices for our devices, partially offset by unfavorable product mix. We remain confident of a positive gross margin trajectory. Like many companies, we are monitoring potential headwinds that could arise from the Middle East conflict. Disruptions in the Red Sea will likely increase sea freight costs and shipping lead times. We're closely tracking the situation and taking actions to mitigate potential impacts where we can. Moving on to operating expenses. SG&A expenses for the second quarter increased by 4%. The increase was predominantly attributable to increases in employee-related costs.

SG&A expenses as a percentage of revenue improved to 19.1% compared to 20.5% in the prior year period, and reflects savings and cost discipline following specific actions taken early in the December quarter. Looking forward and subject to currency movements, we expect SG&A expenses as a percentage of revenue to be in the range of 18%-20% for the second half of fiscal year 2024. This guidance reflects the impact of our restructuring activities that resulted in a reduction in our workforce of approximately 5% during the quarter. R&D expenses for the quarter increased by 6%. R&D expenses as a percentage of revenue were 6.4% compared to the 6.8% in the prior year period.

Looking forward and subject to currency movements, we expect R&D expenses as a percentage of revenue to be in the range of 6%-7% for the second half of fiscal year 2024. Operating profit for the quarter increased by 20%, underpinned by strong revenue growth and modest growth in our operating expenses. Following the acquisition of MediFox DAN, our net interest expense for the quarter was $14 million, and as we continue to pay down debt, we expect interest expense to be in the range of $10 million-$12 million per quarter in the second half of fiscal year 2024. Our effective tax rate for the December quarter was 20.7%, compared to 18.3% in the prior year quarter.

The increase in our effective tax rate was primarily due to a significant reduction in the tax benefits associated with employee equity compensation this quarter compared to the prior year quarter. We continue to estimate our effective tax rate for fiscal year 2024 will be in the range of 19%-21%. Our net income for the December quarter increased by 13%, and non-GAAP diluted earnings per share also increased by 13%. During the quarter, we recorded $64.2 million of restructuring related charges following an evaluation of our existing operations and actions undertaken to improve operational efficiency and increase profitability. Restructuring charges included $28.6 million of employee severance and other one-time termination benefits, $33.2 million of intangible asset impairments associated with the wind down of certain business activities, and $2.4 million of other asset impairments.

The restructure charge has been treated as a non-GAAP item in our Q2 financial results. During the quarter, we also recorded a provision of $6.4 million for expected costs associated with the recently announced masks with magnets field safety notification. This expense has been treated as a non-GAAP item in our Q2 financial results. Cash flow from operations for the quarter was $273 million, reflecting solid underlying earnings and relatively stable working capital balances.

... Capital expenditure for the quarter was $23 million. Depreciation and amortization for the quarter totaled $45 million. We ended the second quarter with a cash balance of $210 million. On December 31, we had $1.2 billion in gross debt and $1 billion in net debt. During the quarter, we reduced our debt by $130 million. On December 31, we had approximately $955 million available for drawdown under our revolver facility, and we continue to maintain a solid liquidity position. Today, our board of directors declared a quarterly dividend of $0.48 per share. As we advised last quarter, as part of our capital management activities, we resumed our previously authorized share buyback program in the December quarter. We purchased 335,000 shares for consideration of $50 million.

We intend to continue to purchase approximately $50 million per quarter in the second half of fiscal year 2024. This will more than offset any dilution from the vesting of equity to employees during the year. Going forward, we plan to continue to reinvest in growth through R&D, pay down outstanding debt, and deploy further capital for tuck-in acquisitions. And with that, I'll hand the call back to Amy.

Operator (participant)

Great. Thank you, Brett, and thank you, Mick. Let's go ahead and turn to the Q&A portion of our call. Kevin, I'd like to turn it over to you to provide the instructions and then run this part of the call.

Certainly. We'll now be conducting a question-and-answer session. If you'd like to be placed in the question queue, 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'd like to remove your question from the queue. For participants using speaker equipment, it may be necessary to pick up your handset before pressing star one. One moment please, while we poll for questions. Our first question today is coming from Margaret Andrew, from William Blair. Your line is now live. We do ask you to limit yourselves to one question, please.

Margaret Andrew (Research Analyst)

Great. Thank you very much, and, good afternoon, good morning to everyone on the call. I wanted to maybe follow up on your comments on GLP-1, you know, even more so in the quarter. And, you know, I look at that 10% greater likelihood of folks starting CPAP when you're on a GLP. It seems like it could have a pretty meaningful impact for growth. And, again, I'm looking at it just saying, if you're going from 75 patient new starts in a given period to 85, that's a 13% bigger market every year. So I guess conceptually, is that something that you agree with? You know, would it have a greater or less benefit impact if that trend continues?

I guess any comments on a real impact, if over the next three years as GLP adoption grows? Thanks.

Mick Farrell (CEO)

Yep, Margaret, look, it's a great question, and you know, as a biomedical engineer, I look at this and I don't know causality, I just know the correlation. And so we've now got data, the 529,000 data points, that show that there's a 10% higher propensity to start PAP therapy, if you are prescribed a GLP-1 before and then you get the PAP therapy, you know, 10 absolute percentage points higher, of the cohort will start PAP therapy. You know, my thought is that this is a more motivated patient, a more engaged patient in the healthcare system, and they've been brought in by this new therapeutic tool. And so I do think that it will lead to greater growth.

This mega trend of GLP-1s will lead to greater growth of patients coming into our treatment pool over time. And certainly the data is showing that with that cohort of patients. Yeah, your quick math there of an increase, I think, is that if there's full penetration across the whole patient cohort and full adoption GLP-1s across every patient coming through, of course, that's the maximum state. But I think realistically, as we see these, you know, pretty fast rollout of this new pharmaceutical class, we will start to see more patients come into the healthcare system. Everyone is seeing that across med tech and across healthcare. They are more engaged, and they do seem to be getting prescriptions for many different chronic diseases.

Sleep apnea is no exception, and we've got probably one of the highest number of patients in that cohort of over half a million patients that we're tracking. Of course, we've got 26 million patients in our database, so this is a minority of patients that we're seeing on these, but it is interesting within that cohort to see a higher participation rate. Look, our goal will be to leverage that mega trend and to make sure that ResMed's there with the best tools for screening, diagnosis, treatment, and management. And we've done that over decades, and we plan to do it ahead. I think, you know, maybe the consumer big tech trend of sleep wellness tracking might be slightly higher in its impact over time.

Maybe not as quick adoption, but these sleep wellness tools coming across all consumer tech applications is incredibly exciting. ResMed's goal is, yeah, to leverage this demand gen that's coming to us from big pharma and big, big consumer tech, but then more importantly, to get that personalized health journey, so that ResMed can be truly the, the concierge for that person as they find their, their path to better sleep and better health. So we do expect these trends to be positive. They won't be immediate, and our job is to drive it over time.

Operator (participant)

Thank you. Next question is coming from Anthony Petrone from Mizuho Securities. Your line is now live.

Anthony Petrone (Managing Director)

Thank you for taking my questions. Congrats on a good quarter here. Maybe, Mick, we'll stay on GLP-1s. We're getting a lot of attention turning toward the Eli Lilly SURMOUNT-OSA study and, you know, maybe the KPIs that you're looking for in that study, how relevant do you think the primary endpoint is? Are there other secondary endpoints that are more important? And do you think over time you can collaborate with Lilly to drive the effort of using CPAP with a GLP-1? Thanks.

Mick Farrell (CEO)

Yeah, thanks for the question, Anthony, and it's a really pertinent one. You know, certainly we're watching the SURMOUNT-OSA trial. It's a pretty small trial. It's less than 500 patients, 500-600 patients, I believe. So it's not sort of the order of the real-world evidence, real-world data. We have like 500,000 patients we're talking about there. But I think it'll be very interesting to see. The presumption is given it's the same biochemical compound as in other trials used for diabetes treatment and weight loss, that it will have somewhere in the order of 10%, 20%, maybe even 30% weight loss reduction in this cohort. So that's a metric that's sort of well known from prior studies.

You know, the best evidence from the primary investigator on this, Professor Atul Malhotra, from University of California, San Diego, his assessment is that that should lead to pretty significant AHI reductions in the treatment cohort versus placebo, maybe in the order of 50-60, maybe even 65% AHI reductions in the cohort of these quite high BMI and quite high AHI patients. You know, if you listen to a great podcast between Professor Malhotra and Dr. Carlos Nunez, our Chief Medical Officer, which are available on our websites, you know, they're... When you get a spare 45 minutes, but there are some cliff notes that I think are worth sharing here in this investor call, is that Professor Malhotra was asked, "You know, what's the best therapy to treat sleep apnea?

Is it, A, weight loss, or is it, B, CPAP?" And he said, "Well, that's, that's a false dichotomy, this question. It's a false competition. It's, it's, it's A plus B. It has been for decades and will be for decades in the future." And, you know, as a PI on that study, he says, "Look, we have a new pharmaceutical agent that's gonna help with, with treatment A, and of course, that will be used in combination with treatment B." So the PI in the study is saying that he thinks the combination treatment of, you know, a weight loss medication, you know, similar to prior work in bariatric surgery that had much higher weight loss numbers or diet and exercise that, you know, had, had all the variants that we've seen over decades of, of different methodologies there.

But this one, you know, does seem to be a good agent for treatment A, and then will we need to be combined with treatment B to fully treat, the sleep suffocation that the patients will have. So, you know, don't trust me, the CEO of the company that makes the therapeutic, trust the primary investigator that's saying combination treatment has worked for decades and will work for decades. I would expect that to be the outcome of the trial. And, yeah, in terms of working with, with Big Pharma on this, I think they're very focused on, on other areas like obesity and diabetes.

But as much as we can get their attention to talk about sleep and sleep health, and to do their DTP advertising, to talk about the importance of sleep and sleep health, I think combined with the Apples and the Samsungs and the Googles of the world talking about it, it'll be a huge positive for all of us in the sleep apnea treatment industry. Thanks for the question, Anthony.

Operator (participant)

Thank you. Next question is coming from Mike Matson, from Needham & Company. Your line is now live.

Mike Matson (Senior Equity Research Analyst and Managing Director)

Yeah, thanks for taking my question. I guess I'll just ask one on Philips. So I think they've talked about, you know, relaunching their, their flow generators in some of the OUS markets. Just curious, you know, what you're seeing there. Have you, have you seen that happening? And, you know, have they been able to recapture share anywhere? Thanks.

Mick Farrell (CEO)

Yeah. Yeah, thanks for the question, Mike. And, yes, certainly in tens of countries in Europe and Asia, we are in full competition with all the global players, including the company you mentioned and the large regionals from Europe and from Asia, and have been for many quarters. So they've come back in, masks and devices across tens of countries in Europe and Asia. And, you know, their goal there when they come back, if they've been out for a year or two, you know, depending on the time they're out of each market, is to fight their way from the bottom. You know, they've got 0% new patient start share when they first come back in, and they're trying to fight their way up.

In general, they've had to fight against the number two, the number three, the number four player, who don't have... You know, like ResMed has the leading technology, the best AirSense platform, right? The AirSense 11 globally is the best platform in all 140 countries. The second-best platform in, I'd say all, 140 countries is the AirSense 10 platform. So their goal is to then fight against regional player from Europe, with the number three, or regional player from Asia, with the number four in the countries that they're coming back. And so we're seeing that country by country. We're seeing them, you know, fight for that share at the low end. It's, you know, our focus as the market leader is on growing the market.

You know, I think they're a fair competitor. We've competed against them for, you know, decades, since they bought Respironics, and in general, we've won and taken share. We were winning and taking share from them in 2019. We're winning and taking share from them in 2023 and 2024 as they come back country by country. And if and when they come back to the U.S. market in devices, by the way, they're already here on masks, never left, and we've been competing and beating them there. I look forward to them coming back to the U.S. market so we can, you know, get any stock overhang away about what's it gonna look like?

What it's gonna look like is what it looked like in all the other tens of countries, where they fight for share from the bottom and work their way up. And I look forward to competition, healthy competition, and we seem to do very well in it because we've got the smallest, quietest, most comfortable, most connected, and most intelligent solutions. And it's really about that. It's about the value you provide, getting that patient to the right care, lowering the cost, and improving adherence. And we've done a great job, and I like all global competition in the space.

Operator (participant)

Thank you. Our next question is coming from Suraj Kalia from Oppenheimer. Your line is now live.

Suraj Kalia (Managing Director)

Hey, Mick, can you hear me all right?

Mick Farrell (CEO)

Got you loud and clear, Suraj.

Suraj Kalia (Managing Director)

Congrats on the nice quarter. So, Mick, in the 2030 operating model, right, if I got your commentary right, ResMed brand and profitability, velocity of product control, you know, some of these things that you highlighted, I guess, where does Compliance Coach fit within the 2030, strategic model? More specifically, I'm just trying to understand: How do you measure the ROI in the Compliance Coach, and I presume this is going to be a primarily a reactive AI model. Any additional clarity would be great? Thanks.

Mick Farrell (CEO)

Well, thanks, Suraj. I could spend the rest of the time answering that call around the 2030 operating model. I'll just briefly talk about it and then talk specifically about Compliance Coach. Our 2030 operating model, yeah, it's, it's the three tenets, right? The three tenets are product-led, customer-centric, brand-enhanced. ResMed's always been product-led, but now we have a global chief product officer whose sole role is to curate that product portfolio with an amazing team of hundreds of engineers and marketeers to bring that great innovation to market. So we'll measure the success on that, on product velocity. How quickly do we bring innovation to market, time to market, time to success? Customer centric.

We've always been customer centric, but, we haven't always done the best job of analyzing the net promoter scores of patients, net promoter scores of physicians, home care providers, physician payer providers, and so on. So really understanding the marketing metrics around that and having our first Chief Marketing Officer sit at the top table and really be laser focused on those NPS scores and driving them up, and really valuing the multibillion-dollar ResMed brand and, and enhancing that over time. And the third part around, you know, focusing on profitable growth, and driving that leverage with our first Chief Revenue Officer, it's really around that profitable growth. And I... You know, if the title was used, broadly, I would call it the Chief Profitable Growth Officer rather than Chief Revenue Officer.

But really, it's around keeping that discipline on the great growth we've had on the top line, but ensuring we get that leverage through OpEx, R&D, and particularly on SG&A, in the new world, to do things differently with tech. And that segues into the second part of your question: Compliance Coach. Yeah, look, this is a great AI tool. By the way, it's not generative AI, Compliance Coach. The other one, that we launched in Asia Pacific, the Digital Concierge, is generative AI and has that extra capability. Compliance Coach is, you know, garden variety. What would have been called machine learning is now artificial intelligence. It's a great algorithm, and it's out there.

You know, the measure of that one, success on that one, Suraj, is, does it lower the costs to serve at that HME? Or with the same labor force of respiratory therapists and pulmonary doctors, can they serve more patients? So lower cost, higher efficiency. And really, the key metric is: What's the adherence rate at day 90, day 365, year two, year three in that patient cohort that's gone through Compliance Coach? Is it statistically and significantly higher than what that customer was getting before? If they're a best-in-class ResMed customer getting 87% adherence at day 90, does it go up to 90? Does it go up to 92?

And by the way, those customers are very sophisticated in understanding what that means for their business, what it means for them, showing the payers that they reduce costs in hospital care, and that they improve outcomes for the patient in how they feel, and of course, how they improve their own revenue and, you know, and ours through replenishment supplies. Anyway, that's my, brief-- the briefest answer I could do to that, great question. Thanks, Suraj.

Operator (participant)

Thank you. Next question is coming from Steve Wheen from Jarden. Your line is now live.

Steve Wheen (Head of Healthcare and Managing Director of Equity Research)

Yeah, good morning. Just a question for Brett. Brett, I was just wondering if we could look into the gross margin a little bit further and try and understand, are we seeing across that quarter the full benefit of the price that you've taken, or is there some annualization effect as some customers perhaps roll off contracts? And whether or not from a freight perspective, could you just kind of reiterate what your expectations are there, what you're seeing with regards to the pricing following the conflict?

Mick Farrell (CEO)

Yeah, sure. Sure, Steve. So, yeah, I mean, on the gross margin and recent price increases we put through during the quarter, some of those, there will obviously be contractual arrangements there as well. So we've put some of it's gone through as a general increase, and then there'll be specific contractual arrangements. That means those pricing will be a little bit progressive, I guess, if you look over the back half of fiscal 2024 on that. So that's - let's call that be kind of progressively roll through, but we're definitely seeing some of that impact already on that. I think the second part of your question was around, is that around the sort of freight, Red Sea disruptions and so on?

Steve Wheen (Head of Healthcare and Managing Director of Equity Research)

Yes. Yeah, just what you were sort of intimating. If you could just repeat that commentary, what, you know, what you're seeing in the market and, and-

Mick Farrell (CEO)

Yeah

Steve Wheen (Head of Healthcare and Managing Director of Equity Research)

... you know, how you actually are trying to anticipate or protect yourselves against that?

Mick Farrell (CEO)

Yeah. Yeah, so we're definitely seeing the impact there, and a lot of that shipping is obviously not going through the Red Sea, but then going around Cape of Good Hope. So that's happening. Certainly increased lead times, I think. Probably you could be looking at two-three weeks on that. Particularly, this is particularly freighting to Europe in particular, but also to some extent to the U.S., where you've got to find alternate freight paths, if you like. So that's having an impact, and we're also seeing some increase in actual freight rates as well. I think this is industry-wide, not just ourselves. So we're looking at that closely. We're looking at alternative routes, we're looking at multimodal distribution there.

So there's a number of things we're looking at, to mitigate that where we can, but it realistically probably see some upticking freight costs. It would not manifest in our P&L in Q3, but there could be some headwinds in Q4 on that. But again, we just—I think we just got to see how that evolves over the next little while.

Operator (participant)

Thank you. Next question is coming from Saul Hadassin, from Barrenjoey Capital. Your line is now live.

Saul Hadassin (VP and Equity Analyst)

... Thanks. Good afternoon. Good morning. Just another question for Brett. Brett, just regarding the restructuring charges and also the charge for the mask recall, is that done now in terms of those PNL costs, or do you expect any further costs to be incurred in third quarter and the fourth quarter of this fiscal year? Thanks.

Brett Sandercock (CFO)

Yeah, we're largely through that. I mean, I can't, I don't think you can rule out restructures from time to time, but I think the material restructure that we did is behind us now. So, you know, anything going forward, I think would be pretty minor on that. So, I would say I'd characterize that as saying, yeah, we've done, you know, we've done the big restructure, and that should clear us now for the next-

Mick Farrell (CEO)

Just to jump in there, Brett, a little bit specifically to Saul's question about the mask with magnets, upgrade of our labeling, which was classed as a recall in the U.S.-

Brett Sandercock (CFO)

Yeah

Mick Farrell (CEO)

and some other jurisdictions. That cost was fully taken account of in this quarter. We're not expecting to add anything more on the mask with magnets action, relabel and recall in certain jurisdictions.

Brett Sandercock (CFO)

Yeah, absolutely.

Operator (participant)

Thank you. Next question is coming from David Low from Citi. Your line is now live.

Mathieu Chevrier (VP and Head of Australia/NZ Healthcare Research)

Good afternoon. Thanks for taking my question. Simple one. When do you expect to be fully transitioned to the AirSense 11 platform?

Mick Farrell (CEO)

Mathieu, a very simple question, but rather complex answer in that we sell in 140 countries worldwide, and each of them, most of them have their own regulatory pathway, and often very different and complex, and you know, and obviously labeling, language, customization of the product for all the regulatory requirements needed in all those 140 countries. So you know, we're clearly launched in our top countries. We're launched in the U.S., many countries in Europe. We just got Japan last quarter, the quarter before, and we're starting to ramp up there. And you saw that in the good growth numbers in devices in Europe, Asia and other in the quarter of 16%.

You know, there was some good sort of start to that ramp there in a place like Japan, which, as you know, is a fleet-driven market versus a replacement-driven market. And so great to see Japan, the citizens of Japan, to be able to get access to the best-in-the-world technology in the AirSense 11. But look, we've got, yeah, we've got hundreds of countries, you know, over 100 countries, we still have to go there. And so we've got to get regulatory country by country, and we care about people suffocating in all of those 140 countries in the same way.

And so our regulatory and quality team, with Dawn Haake, our Chief Quality and Regulatory Officer, are working intensely with all the regulatory authorities in those countries, and so we have to ramp that up. And then in addition, we're ramping up supply. The good news is that we have the second-best platform in the world in the AirSense 11, and that is completely unconstrained. So if you do suffocate and get a prescription in a country that AirSense 11 is not cleared yet, you can get access to incredibly, you know, small, quiet, and efficacious therapy, AirSense 11 platform and our best-in-the-world mask platform.

So, there's no simple answer to when it will be completely done and 100% in all countries, because I think as in different to maybe the S7 to S8, S8 to S9, and S9 to AirSense 11 generations, is that we have a pretty unique situation with our global citizenship here, that we are the global leader, and we've got a different responsibility to maintain our second-best platform, which is the second best in the world, for a little longer.

And so that will be out, and I'm not going to give a defined end date now, but I will tell you this: we're going country by country, we're driving regulatory, and we're scaling manufacturing as fast as we can on AirSense 11 because it is better technology, it's lower cost to make, and we are able to have a premium for it in pricing. So it makes sense for us, the customers, and for our shareholders.

Operator (participant)

Thank you. Next question today is coming from Matt Taylor from Jefferies. Your line is now live.

Matt Taylor (Managing Director)

Hi, thanks for taking the question. I wanted to ask a follow-up question on the SURMOUNT study. I think you outlined a lot of the high-level stuff, there really well. My question is a little more specific. I wanted to ask about, you know, what you thought you could see in terms of comparing the two arms of GLP-1 versus CPAP plus GLP-1. Do you think you'll see a difference there? And what would you make of the results if there is a difference one way or the other?

Mick Farrell (CEO)

Yeah, thanks for the question, Matt. And so, yeah, for those of you who haven't read through the nih.gov, feel free to go, but my reading, I'm a visual learner. There's a split chart that the top half of it on the trial is a GLP-1 side, and the bottom half is a placebo side. And so they have this 600 odd or less than 600 patients split between those two, in a certain proportion. And then within the GLP-1 arm, they split to those on CPAP and those not on CPAP, and the same within the placebo. So there ends up being four arms if you look at it, but if you go to the end of it, there's an arm that's placebo, no CPAP, so I just call that the placebo, placebo arm.

And then there's a placebo plus CPAP arm, and then there's GLP alone arm and GLP plus PAP arm. So you start to get down to these sub-analyses, it gets less powered. I actually... You know, I'm reading what you are on NIH.gov, and so I, you know, my presumption is, at the highest level, they want to show that a GLP-1 is better than placebo for lowering weight and improving AHI. I think they'll achieve that primary outcome. I mean, all the data show that there's 10%, 20%, 30% weight loss reduction, and that should correlate to significant AHI reduction. So I think they'll show that. As opposed to then the sub-studies of CPAP versus no CPAP within each of those, look, we've got 35 years of history knowing that CPAP doesn't half treat, right? I mean, the best-...

that I've seen from weight loss reductions in bariatric surgeries, and the best on the GLP-1 prelim data is that it can half treat, right? Maybe 50% reduction in AHI. I'd call that half treatment. I don't think any pulmonary physician in the world would be happy with half treating an AHI with positive airway pressure. Frankly, if you're not turning the AHI to less than five, you're not truly treating the patient. And if it's higher than five, it might be residual centrals, and you have to move them to a BiLevel, or, you know, it might be complex sleep apnea. You have to move them to adaptive servo ventilation. So there's so many options between CPAP, APAP, BiLevel, ASV, that the physician should walk through, but they wouldn't be happy unless the AHI is less than five.

I think the probability, and, you know, don't, don't trust me and my quote on this, Matt. Again, the primary investigator on this study, Professor Malhotra, said, "The idea that weight loss alone can treat sleep apnea is preposterous." That was the word he used. So you can use... And he's the PI on this study, you can use his thoughts to what he thinks between the PAP arm and the non-PAP arm. So he's sort of leaning towards what he said earlier, that, best treatment for sleep apnea is not, A, weight loss, or B, CPAP. It's A plus B, and, and so that's what I expect this, this study to show. And, and we'll see the data.

They'll be out there in three weeks, whatever they want to release in headline, and we'll continue to go, we'll continue to grow, we'll continue to drive patients into the funnel, and I think this therapeutic class will help us over the coming decade to bring more patients into the funnel.

Operator (participant)

Thank you. Next question today is coming from Lyanne Harrison, from Bank of America. Your line is now live.

Lyanne Harrison (Equities Analyst of Healthcare)

Yeah, good morning, Mike. So Mick, Brett, and Amy, I might ask a question about you know, your device and mask sales there. So obviously, strong device sales. Your resupply programs, obviously, you're giving that some focus. But masks this quarter came out weaker than where we expected. Can you talk us through where the disconnect there might be?

Mick Farrell (CEO)

Thanks for the question, Lyanne, and yeah, really, really happy to take the question and talk about our devices business and our masks business. So look, devices growth globally incredibly strong in the quarter at 11%. Mask growth globally incredibly strong at 9%. We talk about the market being mid-single-digit growth for devices, so we're clearly well ahead of that, with the launch of S11 in Japan and Europe, Asia, rest of the world, and doing well in the U.S., up a couple of hundred basis points above. Then in, you know, masks and accessories, you talk about global growth being in, you know, high, high single digits, and so beating that in U.S., Canada, Latin America.

But yet, what you're probably focusing on is the Europe, Asia, and rest of world growth there in Q2 FY 2024 being 4%, right? And just to be clear, the Q2 FY 2023 growth in that same category was 14%. And we weren't, you know, taking 500 basis points a share 12 months ago and then losing it this quarter. I really think if you look at the weighted average over that, which is, what? 18 divided by 2, 9% is sort of more in line with the market growth in that mid- to high-single-digit growth of masks there. And look, there are some— there's some things around some contracts with particular countries that were moved from a December to January and others.

I'm not gonna go into all the details other than to say, we look really closely at share. We look really closely at what we're doing. And this 90-day snapshot, you know, four quarters ago, which showed 14%, we weren't taking 500 basis points a share. We were holding share and growing in a little, you know, a category here or there. And now, this quarter at 4%, we're not losing 500 bips a share. We're actually holding share across that, and it's due to, you know, some of those shipping areas, launch areas, and frankly, a couple of tenders that were moved from one month to another. So really, not much to see in that.

But what I will say is that as we move forward, maintaining that high single digit growth in devices globally, and the high, sorry, mid-single digit, growth in devices globally and high single digit growth in masks globally is not a given. We've got to drive that demand. We've got to leverage this big pharma trend. We've got to leverage the big tech trend, and we've got to get better at doing demand generation in the areas where we know we can push it up. And so that's what we're gonna be focused on going forward. I hope that answers your question, Gretel.

Operator (participant)

Thank you. Our final question today is coming from Michael Polark from Wolfe Research. Your line is now live.

Michael Polark (Senior Equity Research Analyst)

Good afternoon. I will ask a mask question as well, following up there in a slightly different way. So the U.S. number was up 2% sequentially. Normally, you see a high single-digit increase Q over Q, kind of year-end seasonality in the U.S., deductible flush, that kind of thing. Kind of what are the puts and takes in that number? And the specific question is, did the magnet field safety notice kind of limit your ability to fully capture mask demand in the quarter, or were there other influences? Thank you so much.

Mick Farrell (CEO)

... Yeah, a great question, Michael. So, yeah, U.S., Canada, Latin America, 10% growth in the masks in the quarter is actually very strong. Market growth rate, high single digits, holding share there. We do, we do, do see that, you know, December, particularly for U.S. markets, where high deductibles and deductibles reset December 31, you know, some, some good revenue there. And so, you know, we had a good comp from the year before, and, both solid numbers there from the comp the year before, and this 10%, U.S., Canada, Latin America growth. So I think we did really well there, as we closed out the quarter.

In terms of any impact from the mask with magnets, update on our labeling classified by the U.S. FDA as a recall. I got to tell you, you know, there was no product removed from the market. This was about having our plastic clips as an option, which we scaled up manufacturing and have them as an option. So when a patient is set up, if they're the very, very small minority of people who have an implanted pacemaker or other metal device in their upper chest, or craniofacial area, then those patients are offered an upgrade to the plastic clips.

For everyone else, the other, you know, 95%-99% of patients, they keep the convenience of the magnet so that if they go to the bathroom in the night, they can come back in the dark and just clip it on and not have to seek for plastic clips to clip together. The, the magnet completely goes on there. And so as we've done that labeling upgrade, and by the way, we had a competitor do this, similar one, about 12 months ago. The market has been very trained in knowing to ask questions about implants, to ask questions about a partner's implant, and if they have that, to offer, offer, the plastics, clips, which are fully available on, on ResMed masks as an alternative to our masks with magnets.

The masks with magnets are so convenient, they're doing so well, and for 99% of the people, they're great. For that 1%, you know, the HMEs are very comfortable now to ask those questions. You know, the other 140 countries, we are working through the appropriate ways to ask them the questions and get people the best mask and have the best fit and drive the best adherence over time. But they had no impact on the quarterly sales whatsoever, and we don't expect an impact going forward because this was an upgrade to the labeling that was actually in line with clinical practice over the last 12 months. And it just makes sense to do that. Thanks a lot for the question, Michael.

Operator (participant)

Thank you. We've reached the end of our question-and-answer session. I'd like to turn the floor back over to Mick for any further closing comments.

Mick Farrell (CEO)

Thanks, Kevin, and thank you again to all of our stakeholders for joining us on this call. The opportunity in front of us is huge and largely untapped. It's an incredible runway. We see more and more people coming into the healthcare system, and this will benefit us as we seek to help them sleep better, breathe better, and live better lives in 140 countries. Thank you to all 10,000 ResMedians, many of you are also shareholders, for what you do today and every day. With that, I'll hand the call back to Amy to close us out.

Amy Wakeham (Chief Investor Relations Officer)

Great. Thank you, Mick. Thanks, everyone, for listening. We do appreciate your time and your interest. If you have any additional questions, please don't hesitate to reach out directly. This does conclude our second quarter, 2024 conference call. Kevin, you can go ahead and close us out.

Operator (participant)

Thank you. That does conclude today's teleconference and webcast. You may disconnect your line at this time and have a wonderful day. We thank you for your participation today.