Sotera Health Company - Earnings Call - Q1 2022

Transcript

Speaker 0

Good morning. This is Joe, and welcome to Soterra Health's First Quarter twenty twenty two Results Call. You may find today's press release and accompanying supplemental slides in the Investors section of the company's website at soterrahealth.com. This webcast is being recorded and a replay will be available in the Investors section of the Soterahealth website. On the call today are Michael Petrus, Chairman and Chief Executive Officer and Scott Loeffler, Chief Financial Officer.

During the call, some of the statements the company makes may be considered forward looking statements. The matters addressed in these statements are subject to risks and uncertainties that could cause actual results to differ materially from those projected or implied. Please refer to Soterra Health's SEC filings in the forward looking statements slide at the beginning of the presentation for a description of these risks and uncertainties. The company assumes no obligation to update any such forward looking statements. Please note that during the discussion today, the company will present both GAAP and non GAAP financial measures, including adjusted EBITDA, adjusted EPS and net leverage ratio.

A reconciliation of non GAAP to GAAP measures for all relevant periods may be found in the schedules attached to the company's press release and in its supplemental slides. There will be an option to ask questions after today's presentation. During the Q and A portion of today's call, please limit yourself to one question and one follow-up so that we can try and give everyone an opportunity to ask questions. This conference is being recorded. I would now like to turn the call over to Soterra Health's Chairman and CEO, Michael Petrus.

Please go ahead.

Speaker 1

Good morning, everyone, and thank you for joining us on Sotero Health's first quarter twenty twenty two earnings call. I'm very pleased this morning to be reporting another quarter of double digit top and bottom line growth as compared to the same quarter in the prior year. While both the pandemic and the geopolitical landscape have impacted the labor markets and supply chains, the macro environment continues to experience more disruption than many of us have seen in our lifetimes. Despite this backdrop, Ceterra Health has continued to deliver growth consistently in each quarter we've reported as a public company and throughout our history. Scott will provide more detail in a moment, but here are some of the highlights of our first quarter performance.

We reported total revenue growth of 12% and adjusted EBITDA growth of 10% compared to the first quarter of twenty twenty one. Diluted EPS was $0.11 up $07 per share and adjusted EPS was $0.22 which is a 22% increase over last year. Sterigenics had a good year to start and the business continues to see robust demand across all major modalities of sterilization. Sterigenics has also made meaningful progress in its active capacity expansion programs in EO facility enhancements. Nordion also had a strong quarter driven by the timing of Cobalt sixty shipments in addition to the benefit of a favorable comparable in last year's quarter.

Our Nordeon team deserves tremendous recognition for navigating the current geopolitical environment in order to maintain the Cobalt sixty supply from Russia despite several complexities in the process. I mentioned on our March call that a disruption in the supply of Cobalt sixty could potentially result in impact of 0% to 3% of Ceterra Health's 2022 revenue. To date, there has been no impact on our supply or on Soterra Health's revenue. Based on deliveries that we have received since our last earnings call, we now estimate the potential impact from a disruption in Russian supply to be reduced to a range of 0% to 2% of Solterra Health total revenue in 2022. Again, many thanks to the Nordion team for navigating this environment so well during the quarter.

While Sterigenics and Nordion are performing well, Nelson Labs as we expected and communicated in our last call has been faced with a more challenging environment. Nelson Labs had weaker performance in the first quarter, which was the last quarter in which Nelson Labs experienced largest impact from the unwinding of elevated levels of pandemic related testing. As we had mentioned on our last call, Nelson Labs hold disproportionate impact in the first quarter from labor related challenges including reduced volumes due to Omicron related absenteeism. We are encouraged to see these various headwinds within Nelson Labs moving in a positive direction and we expect improvement towards more normalized levels in the second quarter. The impact of Omicron on absenteeism has materially reduced and the Nelson Labs management team is doing a very good job in managing staffing levels despite the competitive labor market.

We continue to manage our balance sheet achieving net leverage of 3.4 times. This is consistent with both our near and longer term leverage goals. Based on the solid start to 2022 and given that it's still early in the year, we are reaffirming the outlook that we communicated in our last call with revenue and adjusted EBITDA growth in the range of 7% to 11% and adjusted EPS growth of 6% to 13%. Scott will recap all the details of the outlook in a few minutes. I also want to highlight some recent examples of how we deliver on our mission of safeguarding global health.

With the growth of bioprocessing, Sterigenics is sterilizing single use kits in bioreactor collection bags used for producing cell therapies to fight cancer. At RCA, our recently acquired Expert Advisory business, we're working with customers to design effective configurations for secure shipment of gene therapy drugs being used in clinical trials. And in our Nelson Labs Europe location, we performed critical testing to ensure the safety of vials and application devices for more than 20 vaccines from COVID-nineteen to tetanus to hepatitis B and influenza. These examples are just a few of the ways we help ensure healthcare is consistently and reliably safe every day. Overall, I am very proud of the entire Solterra Health team for delivering another good quarter and positioning company for continued success in 2022.

As always, the Sotera Health team maintain their focus on our mission, safeguarding global health while meeting the needs of customers, healthcare workers and patients and being supportive of one another in the process. Before handing over to Scott, I'd like to comment briefly on the broader markets where we operate. As I had mentioned several times previously, the direct and indirect effects of both the pandemic and the geopolitical landscape continue to be felt throughout the marketplace. Supply chain disruptions, labor market challenges and inflation are especially impactful now. Thus far, we've been able to mitigate most of the direct impacts and are encouraged by our ability to largely offset inflationary pressures with pricing actions.

Even with the macro challenges, the markets we serve have remained resilient giving us reason to be optimistic regarding the remainder of 2022. Now, I'll turn the call over to Scott to cover the first quarter and a reaffirmed 2022 outlook in more detail. Thanks, Michael. I'll first cover the first quarter twenty twenty two highlights on a consolidated basis and then provide some insight on each of the business segments along with updates on capital deployment and leverage. I'll end with a reminder of the details of our reaffirmed 2022 outlook.

Speaker 2

On a consolidated total company basis for the first quarter of twenty twenty two, revenue grew by 12% as compared to the first quarter of last year to $237,000,000 On a constant currency basis, revenue grew by approximately 13%. Adjusted EBITDA grew by 10% from 2021 to $115,000,000 Adjusted EBITDA margins declined 90 basis points compared to Q1 of last year to 48.7%. The decline was driven entirely by margin compression within the Nelson Labs segment, while both Sterigenics and Nordion had margin expansion in the quarter. I will discuss segment margins further in a moment. Our strong operating performance drove adjusted EPS of $0.22 per share, an increase of about 22% from Q1 of twenty twenty one.

Our reported interest expense of $10,000,000 benefits from a mark to market gain on certain outstanding interest rate hedges. We have removed the effect of that gain in our adjusted EPS. Excluding that gain, Q1 interest expense would have been approximately $17,000,000 Now let's take a closer look at our segment performances. In Q1, Sterigenics delivered 14% revenue growth to $149,000,000 and 16% segment income growth to $79,000,000 as compared to Q1 of last year. Revenue growth drivers for Q1 included volume and mix growth of almost 10% as well as pricing contribution of more than 5%.

There was no inorganic contribution for the quarter and FX was a 1% headwind. Compared to the first quarter of twenty twenty one, segment income margins expanded by more than 90 basis points to 53.1% driven by operating leverage and pricing. We are pleased with the progress Sterigenics has made in driving forward both their active expansion projects and the enhancements at our North American EO facilities. For Nordion, Q1 revenue grew by more than 31% to $34,000,000 compared to Q1 of twenty twenty one. Nordion segment income grew by about 37% to $19,000,000 compared to the same period last year.

Nordion's revenue growth was driven by over 24% contribution from volume and mix and almost 7% from pricing. FX was relatively flat for the quarter. As Michael mentioned, Nordion's year over year comparison by what was a relatively low revenue quarter in Q1 of twenty twenty one. Nordion's margins expanded by approximately two forty basis points to 55.6% driven by operating leverage on higher sales and pricing. For Nelson Labs, Q1 revenue declined by approximately 3% to $53,000,000 compared to the 2021 and segment income declined by approximately 26% to $17,000,000 Revenue declines of 11 from pandemic related testing and more than 2% from Omicron related absenteeism were mostly offset by an 8% benefit from acquisitions and 4% from price.

Other core testing volumes and FX also each contributed a decline of about 1%. Q1 twenty twenty two margins for Nelson Labs contracted by nine ninety basis points compared to Q1 of last year to 32%. I want to highlight that this decline was in line with the expectations that we referenced on our last earnings call. Compared to last year, decline was driven primarily by almost 200 basis points of impact from lower mix of PPE testing, over two fifty basis points from acquisitions and about 300 basis points from Omicron's impact on employee absenteeism and testing volumes. We expect to recover the Omicron related component in Q2 and see improvement in the acquisition related dilution as synergies ramp up in the second half of the year.

Now let me provide some highlights relating to capital deployment and net leverage. Our CapEx for Q1 was $36,000,000 which is consistent with increased levels of spend we have planned for 2022. As of 03/31/2022, we had $121,000,000 in cash and maintained a strong liquidity position. Our net leverage declined to 3.4x. Now I'd like to recap our reaffirmed 2022 outlook.

For full year 2022, we expect total revenues in the range of $1,000,000,000 to $1,030,000,000 representing growth of approximately 7% to 11% Adjusted EBITDA in the range of $515,000,000 to $535,000,000 also representing growth of approximately 7% to 11%. Adjusted EPS in the range of $0.93 to $0.99 representing growth of 6% to 13% and CapEx in the range of $140,000,000 to $170,000,000 for the year. Our program of expansions remains consistent with our comments from the last earnings call, which includes seven capacity expansions at existing facilities and two greenfields for Ceragenics. The other elements of our previously issued outlook remain the same as well. As we look at the cadence of quarterly reporting, I want to remind you that even for a business segment that often has period to period variability and performance, 2021 was an outlier for Nordion.

Nordion had a particularly high concentration of Cobalt 60 shipments in 2021 that we expect will not occur again in any single quarter this year. We expect solid Sterigenics results and improving Nelson Labs performance in the second quarter.

Speaker 1

Michael, back to you. Thank you, Scott. Before we open it up for question and answer, our next earnings call will take place after the first EEO trials begin. So I want to provide a few comments. The first trial is scheduled to begin in Illinois on July 18 and concludes sometime in August.

Our team is actively preparing for trial and although we cannot predict trial outcomes, we are confident in our defenses to these claims and the safety of our operations. We anticipate a number of legal motions and court decisions over the next several months that could impact the trials and draw media attention. At this time, we do not intend to provide statements about pretrial developments nor trial updates. I want to reinforce what we have stated many times and that is the company intends to vigorously defend itself against these claims. Our company plays a critical role in healthcare and our employees and facilities operate in a safe and compliant manner.

It's our employees' commitments to our company and our mission which results in Saterra Health consistent and outstanding performance over so many years and gives me so much optimism over our outlook for 2022 and beyond. Finally, I want to take a moment to introduce a new member of the Saterra Health team. Joe Vitale has joined us as the company's Head of Investor Relations and is with us on the call today. Joe is ramping up quickly, and we are looking forward to him connecting with the investment community and the Sotera Health story. At this point, I'd like to turn it over to our operator, Joe, and open it up for questions and answers.

Speaker 0

Our first question comes from Sean Dodge with RBC Capital. Please go ahead.

Speaker 3

Yes, thanks. Good morning. In Nelson Labs, you pointed to more of a back half weighting there for revenue and EBITDA as the pandemic effects were off and non COVID related activities begin to accelerate. On the latter, can you just give us an update on it sounds like that's still the view there, but what kind of visibility do you have on activity across Nelson beginning to normalize or accelerate as we get to the back half of the year?

Speaker 1

Good morning, Sean. It's Michael. Thanks for the question. The Nelson team, the visibility isn't to a level you have in AsteroGenics and Norian, but we still have good visibility there with the team. Obviously, we're dependent on some of the testing volumes to continue to rebound, but the team delivered according to the expectations that we had here for the first quarter.

We continue to get visibility there. We continue to stabilize the labor force. It's not all perfect yet at this point, but we feel confident on how we're looking at the second half in the second quarter and beyond more broadly.

Speaker 3

Okay. Thanks. And then Michael you mentioned securing the Nordion supply from Russia, but certainly some complexities you're having to navigate over the course of that.

Speaker 0

Can you give us just a

Speaker 3

little bit more detail complexities are? And you mentioned the potential impact for disruption or from disruption in 2022. But how should we think about that as we look ahead to 2023 and beyond?

Speaker 1

Yes. Sean. So I would tell you the first thing I want to make it really clear, we're compliant with all the rules and regs out there on this topic in particular. Cobalt has not been sanctioned by the U. S.

Government, the Canadian government or the Russian government. So we continue to monitor that. We just have to work through logistics in loading up containers, getting them on vessels, making sure the vessels can leave ports, get arrived in ports, get unloaded in the banking. There's just a lot of intricacies as you know when you do business on a global basis. So that's what the team as I referenced in my remarks has done a really good job staying on top of that, communicating with the regulators, monitoring the sanctions that are out there and making sure we're complying with them.

And as far as we've given guidance here on 0% to 2% of an impact potentially if something were to impact our ability to get cobalt. But at this point in time, we've had no impact to our supply. We've been able to get it. We're taking care of our customers. If you talk to our customers, they really haven't noticed that because of the great job the team has done at Nordion.

We've received cobalt as early as this as recent as this week. So we'll continue to do that. As far as 2023, we're not in a position to talk about Ceterra Health or Nordion or any of the business units for 2023 at this point in time.

Speaker 3

Okay. Understood. That's helpful. Thanks again.

Speaker 1

Yes. Great.

Speaker 0

Our next question comes from Amit Hazan with Goldman Sachs. Please go ahead.

Speaker 4

Hi, thanks so much. This is Phil on for Amit. Thanks for taking the question. So I think trying to parse out guidance, it sounds like Nelson Labs was largely in line with expectations you set for Sterigenics looks to have accelerated basically any way we cut it on a compounded basis or year over year. Nordion obviously a pretty strong quarter in general.

Would you say that the business outperformed your expectations coming into 1Q overall?

Speaker 1

Phil, good morning. This is Michael. I would say in I total, mean the pieces as we've communicated in the past Nordeon can get lumpy at times because we're working at harvest schedules from our utilities. And as Scott referenced, the first quarter last year was a lower quarter. The second quarter will be a larger quarter last year, right?

So there's just some lumpiness. But I'd say overall, we came in slightly better than expectations and we're happy with the performance of the business through the first quarter.

Speaker 4

Yes. Okay. That's very helpful. Thank you. And I guess the second question in line with that reasoning is the conservatism for the remainder of the year to not raise guidance after the quarter.

Know you guys provide a reported top line range. Is there FX headwind that's countervailing there? Or what other factors are you taking into consideration that led to not lifting after such a strong first quarter? Thanks so much.

Speaker 1

Yes. I'll let Scott address the FX in a second here. But I would just tell you, it's one quarter down. We have three more quarters to go. We're optimistic about how 2022 is shaping up, but there's lots of moving parts.

Our customers are dealing with challenges of getting materials and supply flowing. We're seeing some variation in that. Obviously, there is a lot of moving parts in the business, but we feel good about our reconfirming, if you will, our 2022 guidance, which is really respectable with significant growth for the year. It's just early at this point. We've got one quarter behind us.

Speaker 2

Yeah. And then specifically with respect to FX, when we issued our guidance a couple of months ago, we did express in that time that there was an assumption embedded in the guidance that we would have about a 1% FX headwind for the year. We did in fact see a 1% headwind in our Q1 results as I referenced earlier and we're still assuming that scale of headwind relating to FX continues throughout the year.

Speaker 4

Okay. That's very helpful. Thanks so much guys.

Speaker 1

Great. Thanks Phil.

Speaker 0

Our next question comes from Luke Saragat with Barclays. Please go ahead.

Speaker 5

Hey guys. Thanks for the question here. Can you just a couple of cleanups here for Scott real quick. On the M and A contribution, in the quarter especially in Nelson, how much of it came from Bioscience? And then how much from RCA?

Just thinking about what's going to be flowing through the rest of the model for the year?

Speaker 2

So we haven't broken out the specific contribution by acquisition. But just to calibrate, we acquired RCA I mean Bioscience in March. And so you're getting here in Q1 still about two thirds of an incremental contribution from them. And then you probably recall that it was in November that we acquired RCA. So you're getting really you're going to be getting a full quarter's worth of incremental contribution from RCA at least through the first three quarters of this year and then a partial in the fourth quarter.

Speaker 5

All right. Okay. And then I guess when you're talking about the pricing at Nelson,

Speaker 1

do you guys have a

Speaker 5

lot of master service contracts? You've been able to take it I guess across all three of the businesses here. But can you talk about where you would have where it would be a little more lumpy versus being able to just pass on elevated costs?

Speaker 1

I would tell you across all three businesses that we've stated in the past, these businesses are capable of passing on price. We have a very critical service that we bring that is a small portion of the overall cost of our customers' products and services. So I would just kind of give you that as an umbrella statement. If you look at the three businesses, Nelson is the one that was more reliant upon the shorter term on how to get that price because of the fact that it's more transaction oriented. The contractors are master contracts with releases against that in time versus the Nordion and Steregenics are more longer term in nature.

So hopefully that answers your question. I think it just confirms what you were suspecting though.

Speaker 6

Yes, it does. Thank you.

Speaker 1

Yes, great.

Speaker 0

Our next question comes from Matt Miksic with Credit Suisse. Please go ahead.

Speaker 7

Hi. Thanks for taking the questions. Congrats on another strong quarter. I just wanted to maybe see if you could expand a little bit on the trends in Sterigenics. We've seen in the med device side of our universe this kind of rebound in demand maybe faster than folks were expecting, fundamentals driving those businesses reaccelerating them a little bit faster.

I'm just wondering how we should expect that to translate into Steregenics trends over the next three or four quarters? Any color on that would be helpful. I have one follow-up.

Speaker 1

Good morning, Matt. I would tell you we're optimistic. Obviously, Sterigenics had a very strong first quarter and we're optimistic about the rest of the year outlook. What I will also tell you, there is a lot of variation from customer to customer and geography. Asia, obviously, if I'll start there and I'll just kind of walk around the world from a Sterigenics perspective, I could Matt.

If you look at Asia, obviously there's the COVID shutdowns going on within the facilities in the regions there that has caused some challenges. We're looking to make sure we take care of our customers. Europe has had pretty strong demand and continues to perform pretty well. And in The U. S, it's been a mixed bag.

We have some customers doing really well and you see that in some of their earnings. You have others that are feeling a little bit of the impact that you see in their announcement as well. So we're monitoring that. It's a matter of supply chain challenges they're having and getting components and getting things over some borders in some instances. And then there's still a little bit of labor impact.

Obviously, a lot of people had the impact in January with the absenteeism that we referenced in our remarks as well. So I'd say overall, we're optimistic about it, but we are cautious as we're seeing some variation from customer to customer. The other backdrop that I would give you from some other places that we have high visibility around is around hospitals. The hospitals have big backlogs in surgical volumes, but the challenges they're having right now is staffing. So many people have left the healthcare workforce within the provider network that it's been challenging particularly around nursing care that's also impacting end user demand.

But overall, we feel positive about what the outlook is for Sterigenics, but as well as the Sotera Health in total for twenty twenty two. And I think you had a second question I hope I addressed your first one.

Speaker 7

Yes, Thanks. That was super helpful. Second is maybe if you could just provide sort of a top down perspective on how some of the rising input costs that we're seeing across our universe, it's been a big topic obviously for the first quarter earnings cycle and outlook for 2022 is labor costs, rising energy costs, shipping things like that. And just wondering if you could give us some perspective on how your sort of three major businesses are affected on a relative basis based on those kinds of shifting costs? Thanks.

Speaker 1

Yes. As we've stated in the past call, I didn't get into a ton of details here today thus far other than referencing the inflation pressures that we're seeing. It's around labor and energy utility spend. Those are really the two buckets. On the transportation costs, when you look across our three businesses, we don't have transportation costs within Sterigenics and Nelson.

On the Neurium, where we do have transportation costs, it's a pass through to our customers. On the energy costs, we're seeing it across our businesses, predominantly on the Steregenics side because they have larger facility footprint around the world. And then the labor side, again, we see it across the businesses, but I would say it's mostly in the Sterigenics and Nelson side because they have higher labor as a percent of their total cost. That's kind of our overview of where we're seeing the inflation. We don't have the material side.

We don't have transportation across the businesses. It's really focused just in energy, utility and the labor piece.

Speaker 7

Thanks so much.

Speaker 8

Great.

Speaker 0

Our next question comes from Patrick Donnelly with Citi. Please go ahead.

Speaker 8

Hey guys, thanks for taking the questions. Scott, maybe following up on that one in terms of the kind of the different moving pieces on the cost side. Can you just talk about the margin levers as we work our way through the year, maybe touch on pacing as well? Obviously, a lot going on between the Nelson margin pressure, obviously some of things you just touched on pricing. Just want to try to get a handle on kind of the puts and takes there and how we should think about as we progress through the year?

Speaker 2

Sure. So if I go business unit by business unit, Sterigenics, first of all, while there's not a ton of seasonality that impacts Sterigenics Q1 is the one quarter that does typically have a little bit of seasonality related pressure. And so that seasonality impact on the top typically also translates just because of the operating leverage in the business to really the lowest margin profile of the year. And so what we would expect for Sterigenics is that as they continue to ramp up the top line throughout the year sequentially then we would expect the margin profile to improve as well just again based on the operating leverage in the business and incremental some amount of incremental pricing that continues to flow into the P and L. For Nelson Labs, obviously their story is significantly impacted by the normalization of these various factors that have impacted their recent results.

As we mentioned in our prepared comments in Q2, we expect to see a sequential improvement for Nelson Labs, primarily driven by the normalization of the Omicron related absenteeism, which we cited as being about a 300 basis point impact in Q1. And then it's in the second half of the year as Nelson sees the normalization of some of their other revenue streams and margin drivers that you see a more meaningful return to the normalized levels from the first half of last year. And then for Nordion as we've often referenced Nordion is such a lumpy business and they have such a high proportion of their cost structure that's fixed that really at the end of the day their margin profile from quarter to quarter is just going to be significantly driven by the harvest schedule, which translates to the top line performance. And again, the operating leverage can result in some movement back and forth in their margin profile. But relative last year's margin profile, we expect Nordeon to hold fairly steady.

Speaker 8

Okay. That's really helpful. And then Michael maybe just on the litigation side, helpful to get some framing around that in the prepared remarks. What's the right way to think about maybe the timeline going forward there? Obviously, you touched a little bit on the start dates, potential resolution, maybe just at a high level talk through kind

Speaker 3

of the catalyst set on that front that we can keep an eye out for?

Speaker 1

Yes. I would say for let's focus on 2022 and take it in kind of bite size if you will. 2022 right now the schedule is three trials. July 18 is the first one as I've mentioned then September 12 and November 7. Those are the three dates for 2022 trials in Illinois.

Now remember, we don't set those dates. Those are set by the court. So they're subject to change, but we feel pretty confident that it will adhere to this schedule. We would say that that would start in July 18 and there would probably be a ruling sometime in mid August to late August. That's our best estimate of how long we think a given trial will start and then the next one will come right behind that starting on September 12, similar type of time pattern four to six weeks for ruling debt to be coming out from the jury.

Speaker 8

Great. Thank you guys.

Speaker 1

Thank you.

Speaker 0

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

Speaker 9

Great. And thank you for taking the questions guys. I just wanted to start off with capacity expansions that you're making in Sterigenics. And one of the difficulties I guess in the current environment is getting construction moving forward and on time. And is your confidence that those expansions that you're working towards are going through and progressing as scheduled at this point?

Speaker 1

Yes, they are, but we are seeing challenges, Matt, with construction schedules and timing. So right now, as we referenced, we continue to feel confident about the expansions we're putting in place, but they are subject to some changing in timing. We don't think it's going be a year out or anything like that, but there could be month to month movements based on material and contractor availability and things of that nature. I also should reference, Matt asked the question earlier, think it was Matt that asked about inflation. This is an area too that we got to continue to monitor too on inflation and construction materials as well.

I referenced labor and energy and utility, but there is also some on the construction side too that I should reference.

Speaker 9

Okay. Yes, there are a lot of mats on the sell side.

Speaker 1

Yes, right. There are a lot of mats.

Speaker 9

And I imagine you guys have probably spent a lot of time talking through the timeline of diversifying the supply of cobalt throughout the last couple of months. Can you just talk about like the long term investments that you're making? And I realize that they're multiyear investments. And then kind of any update on how you're thinking about the timeline of additional supply?

Speaker 1

Yes. So we've got several projects that we've referenced. Obviously, we've got the work going on in Canada with the expansion of the work with OPG around additional capacity coming out for cobalt development. We also have the work going on with Westinghouse. I actually spent some time with them in the past quarter updating with the teams and the projects there with the leadership at Westinghouse.

We feel pretty good about those. Those are significant investments. They're very strategic for us. And it's to help diversify and expand capacity for cobalt overall. We buy cobalt from all regions of the world, Canada, Argentina, China, India, Russia.

And we look to continue to expand and hopefully we can get into The United States with the Westinghouse relationship. But overall, we feel very good about it. We're deploying capital about Riaz and the team are doing a nice job and working that with our partners. And we're optimistic about the results of that in the out years.

Speaker 9

Thank you very much.

Speaker 1

Thanks, Matt.

Speaker 0

Our next question comes from Dave Windley with Jefferies. Please go ahead.

Speaker 10

Hi, good morning. Thanks for taking my questions. I appreciate the detail around, Scott, that you gave around the Nelson margin. I was my question kind of targets, I guess, pricing strategy there. You had given that Omicron I guess was three fifty basis points, some labor, some absenteeism I guess.

So the spirit of the question here is pricing strategy and how much are you attempting to cover with price versus how much of the margin recovery is simply labor coming back in and more operational excellence initiatives that drive that margin as you get into the improvement in the acquisitions in the latter part of the year?

Speaker 2

Well, so we mentioned that the Omicron impact on margin profile in Q1 was about 300 basis points and that was meant to cover basically Omicron related absenteeism, which not that there isn't continued absenteeism relating to the pandemic, but that real surge that we saw in Q1 we would see as being largely mitigated in Q2. So the sequential improvement in margin profile from Q1 to Q2 we expect to be driven by that normalization in terms of absenteeism at the frontline lab technician and microbiologist level, which then of course translates to increased capacity and throughput for the business, which of course translates to improved revenue profile. And then the incremental improvements that we talk about in subsequent quarters are really driven by yes, amount of continued pricing initiatives in response to the inflationary pressures that we're seeing primarily on the labor force. And then as I think you referenced a second ago, we are we believe seeing good line of sight to realization of some of the synergies associated with recent acquisitions and other operational excellence initiatives that we see manifesting throughout the year.

Speaker 10

That's very helpful. So I think you as you guided us to expect pricing in Nelson is in the mid-three range and that's what you got last year. Are you able to kind of get more I think that's the more price sensitive of your businesses. Are you able to get more than that in a more inflationary environment? Or is it still hard to extract that even with those reasons?

Speaker 2

No. We are able to get more. I think Michael made a couple of comments to that effect a couple of minutes ago in response to a different question. Also as we mentioned in our prepared comments, saw a little bit over a four percent contribution from price for Nelson in Q1. And that increase versus the recent trends in pricing for Nelson is reflective of their ability to capture price in this inflationary environment.

And so obviously, Nelson is not the only lab testing business that's impacted in some way by the pandemic. And so overall, the marketplace for lab testing services is seeing some amount of these inflationary pressures and other disruptions and we see overall pricing opportunities continuing there.

Speaker 1

David, it's Michael. I would just add our focus right now is stabilizing the staffing and continue to improve turnaround times and taking care of customers' demand as it starts to come in. And that's what the team has done a really nice job looking at our NPS scores and also our turnaround times. That's really where the team is focused right now, taking care of our customers and as that demand starts to ramp.

Speaker 10

Got it. I appreciate that. Sorry, I missed the detail in the prepared. Last question, just a clarification. I think we were looking through past releases.

I think this unrealized hedging gain was new. You called that out in your remarks, talked about it being excluded from your adjusted EPS. I wondered, am I right that that's new and maybe you could explain the nature of that? And then also clarify, is it also excluded from adjusted EBITDA? Thank you.

Speaker 2

Sure. So the hedging program itself is not new. What is new is the fact that the program the risk management program that we have around our variable rate debt has just had a lot more volatility P and L volatility associated with it just given what's going on out there in the macro environment as far as interest rates rising. And so specifically with respect to your question about adjusted EBITDA, definition it is excluded interest rate and any type of interest rate related derivative is going to be excluded from adjusted EBITDA. And then again as you I think mentioned a second ago, we did exclude it from our adjusted net income number as well for purposes of calculating adjusted EPS.

So the objective here is just to give people a cleaner view of the of both our operating results at the adjusted EBITDA and adjusted EPS level, without some of the near term noise associated with the mark to market on our hedges.

Speaker 10

Got it. Appreciate that. Thank you.

Speaker 0

Our next question comes from Michael Polarc with Wolfe Research. Please go ahead.

Speaker 11

Good morning. Two for me. I recall last year a lot of influences at Nelson, all helpful in framing up the puts and takes there. One of the mentions was that FDA was a constraint for certain customers on there was a backlog building because the FDA was folks were waiting for the FDA to provide some guidance on certain product testing requirements. I believe that was related to scopes.

And so in April, I saw a steady stream of communications from FDA and large scope manufacturers that suggested to me that perhaps this bottleneck is in the process of resolving, which reads for me as potentially something good on the margin for Nelson into the back half of the year. Am I misremembering one? And two, if not, are you seeing this constraint

Speaker 1

ease as well? Mike, it's Michael. I would tell you that we referenced in our past comments around some of the regulations around FDA that they're still waiting for clarification. I don't know that we ever got into particulars of it being scopes or whatnot, but I would tell you that it still hasn't completely been resolved. But we are seeing customers in some of those sections start to look at building out their pipeline with us for testing.

But we haven't realized all the benefits of that because there is an absolute there is not absolute clarity yet on the regulatory requirements. So your recollection is right. I'm just not getting specific into what test sections, but I would tell you we still have that uncertainty, but we're confident it's going to be resolved and it's going to be helpful for Nelson Labs business.

Speaker 11

Okay, helpful. Thank you. And then just capital deployment, look, you have a lot of moving pieces in the macro this year for most companies. You have historically done a steady stream of tuck in M and A. I'm curious where that initiative force ranks in calendar 2022 and just how the pipeline might look at this point in time?

Speaker 1

Yes. We're always going to deploy capital for growth and our priority is really internal organic expansion. And we've got a healthy diet of that as you know with the investments we're making in Cobalt as well as our facilities in Nelson and Sterigenics. So that's always going to be a priority. We see good returns on that.

We see strong customer demand and we're making sure we can fill those. That's really our number one priority. We're continuing to look at M and A and we have a pipeline that we continue to follow and track. And we have nothing to tell you of any significance at this point in time. But our strategy hasn't changed in how we look at M and A.

Speaker 11

Thank you so much.

Speaker 1

Great. Thank you.

Speaker 0

Our next question comes from Casey Woodring with JPMorgan. Please go ahead.

Speaker 6

Hi, guys. Thanks for taking my questions. So in Theragenics this quarter price contributed 5% and volume 10%. I know you have capacity expansion projects coming online in the back half of the year and then you've also talked about price increases flowing through as the year progresses. So I just want to get your thoughts on what pricing volume growth contribution will look like for the full year in this business relative to what we saw in 1Q?

Speaker 1

Casey, I'll take that. We don't get into specifics on forecast by business unit, but what we have said in the past is these businesses have 3% to 5% price. Sterigenx is kind of in the middle of that. You see a little bit of an outperformance there in the quarter. And we've been saying that this business is mid to high single digits in total when you factor in volume and mix.

I would tell you to still be thinking along those lines. We're optimistic about what the rest of the year looks like. But I would just reiterate what we've told you in the past as far as general guidance around Ceterra Health growing high single digits is where our focus has been a combination price volume and mix.

Speaker 6

Okay. And then just on the pricing piece, you talked about how you're going to realize more pricing benefits in the back half of the year. Just wondering why you couldn't pass price on sooner? And then is there something structural about the contracts where they're more heavily weighted towards the back half? Thank you.

Speaker 2

No. So in general, we've always talked about the fact that our businesses do have a very generous flexibility in terms of passing through price to the marketplace, but we've never pretended that we have a perfectly dynamic pricing model where you get an increase in your utility rates on day one and you increase prices on day two. So there is some amount of structural lag in the system and that's where you do see the inflation impact in a given period takes a quarter or two for us to really roll out in a structured and disciplined manner across our thousands and thousands of customers the offsetting price increases. So it's really just that price lag that results in the effect that you're talking about.

Speaker 1

And Casey, the only other thing I'd add to Scott's comment, we have great businesses that bring significant value to the industry overall, okay. But it's a value proposition. We got to make sure we continue to get right with our customers and they recognize the importance of what we do and us being a key supplier and high quality supplier to them. So there's a balance there we want to make sure we're also respectful of as well. It's a critical service that we bring.

That's often government mandated. And we just got to do a really good job of that. That's where we're to keep earning our stripes every day with our customers.

Speaker 6

Okay. Got it. Thank you.

Speaker 0

This concludes our question and answer session. I would like to turn the conference back over to the CEO, Michael Petrus for any closing remarks.

Speaker 1

Great. Thank you, Joe, and thank you everybody for taking the time this morning. We're proud of what the team has performed how the team has performed here in the first quarter, and we're optimistic about the rest of 2022. So thank you for your ongoing support, and we'll be talking to you here in the near future. Thank you, have a great day.

Bye bye.

Speaker 0

The conference has now concluded. Thank you for attending today's presentation. You may now disconnect.