Udit Batra, PhD, Waters President and CEO

At Waters’ Investor Day on Thursday, President and CEO Udit Batra, PhD, led executives in outlining five reasons for the company’s optimism this year and beyond. In addition to building an “energized team with an indomitable spirit,” Waters prioritized its strong core business serving increasingly attractive markets, a “simple and repeatable” business model, innovation and commercial execution, and plans to expand into high-growth adjacencies.

Through 2023, Waters’ priorities include share buybacks, margin expansion, and “market-plus” growth. For 2024 and beyond, the company expects to add “high-growth” adjacencies through accretive mergers-and-acquisitions (M&A).

Waters offered a glimpse of that M&A focus in February, when it acquired Megadalton for an undisclosed price, in a deal that expanded the buyer’s mass spectrometry footprint into cell and gene therapy. The company isn’t saying where it plans to focus future acquisitions.

“We’re very open, we think there are clear strategic areas where we’ve prioritized capital allocation for M&A,” Batra said in an exclusive interview with GEN Edge. “We’ll talk about it after it’s done.”

Waters’ upbeat forecasts generated positive reviews from two analysts.

“We thought Waters’ new management team presented a credible case for change, sustained above-market growth, and a shift in capital deployment priority toward M&A,” Brandon Couillard, a Senior VP and Senior Analyst with Jefferies, wrote last week in a research note. “We came away more positive on both near- and long-term prospects.”

But not positive enough to lift Jefferies’ rating on the company beyond “Hold,” or lift the firm’s share price target for Waters beyond the current $355—roughly 10% above last week’s close of $319.

Also positive on Waters was Baird’s Catherine Ramsey Schulte, a Senior Research Analyst: “We came away encouraged by management’s early execution and commentary on underlying demand, with most financial targets in line with prior messaging.” (Baird rates Waters “Neutral” with a $340 price target).

However, Puneet Souda, a Senior Research Analyst covering Life Science Tools and Diagnostics at SVB Securities, sounded more cautious: “We believe that investors are likely to be encouraged by Waters’ plans but unlikely to give the credit [until management] starts to deliver on this vision or until an acquisition that fits its criteria of growth and accretion materializes.” SVB Securities continues to rate Waters “Market Perform” and maintains a $350 share price target.

Earlier this month, Waters reported first quarter results showing an 8% year-over-year rise in net income, to $159.8 million, on sales of $690.57 million, up 13% from Q1 2021. Driving sales growth was Waters’ instruments, up 24% to $325.2 million. Waters’ serviced business grew 6% to $239.7 million, while chemistry also rose 6% to $125.6 million.

Pharmaceutical customers remained Waters’ strongest market, rising 15% from the year-ago quarter to $415.77 million, accounting for 60% of total company sales. Industrial grew 14% to $209.39 million, while Academic & Government sales were flat at $65.4 million.

Batra recently discussed the Q1 results, the company’s growth prospects for 2022, and its ongoing challenges with GEN Edge. (This interview has been lightly edited for length and clarity).

GEN Edge: How much did Waters’ Q1 sales growth exceed your own expectations?

Batra: I expect our teams to be able to do what they do. What exceeded my expectations is our ability to deal with the challenges that came through. That required a ton of work on deeply understanding the supply chain for chips and other components, establishing relationships with suppliers across the semiconductor chip industry, and then a lot of creative problem solving during the quarter to get where we did. I’m incredibly proud of the team in what’s taken place, and I’m really happy with the results.

GEN Edge: How much is the supply chain a continuing concern or challenge for Waters?

Batra: I’d be lying if I said it’s over. Far from it. It’s here to stay with us for a little while. That said, what we did is three things.

One, we formed our own view on the supply chain for semiconductors, and read a lot of materials, talked to a lot of people and formed our own view on what is the demand and supply situation for individual types of chips, or different molds, and who are the big users of these chips. For most of the suppliers, the tools industry is 3–5% at most for those particular components. So, we’re not really important for many of these suppliers,

Once we understood who the suppliers are and what the full supply chain is, we developed relationships. I personally know the top seven semiconductor manufacturers who supply to us, and we had discussions with them. Same thing internally, lots of collaboration between commercial, supply chain, manufacturing, distribution, and finally, with our customers. I think the collaboration across the different boundaries was absolutely essential to overcome these challenges, and it remains essential.

Then finally, creative problem solving. In one case, we had an ethernet port that is usually inside the instrument, inside the HPLC. The supplier basically decommitted and said, ‘I don’t have this particular component anymore.’ Overnight, we were out of supply, and we were really worried. We got together with them and said, ‘What do you really have?’ They said, ‘We have this one, but not this one. And this one goes outside the boxes, but it won’t be useful for you, because yours is inside.’ We said, ‘Wait, let’s see if we can redesign some of these instruments and put the ethernet port outside.’ And that’s what we did.

It’s not visible to the customer; it’s behind the box, and it has the same performance. That’s one example of a creative solution of moving from one component to the other. Not everything’s like that.

That just illustrates what algorithm we’ve developed: A deep understanding of the network, deeper relationships across the system, and creative collective problem solving of issues. That has helped us this quarter. Without it, I don’t think our results would be what they are. It’s something I hope we can continue to do, while this challenging environment is with us.

GEN Edge: What else drove the Q1 growth that you reported?

Batra: From a revenue perspective, 16% growth is rather dynamic. It’s quite positive, even versus the competitors who have shared their results so far, so we think there’s a share gain continuing.

It comes down to three reasons: One, the demand is positive in the marketplace for our type of products and remains so. Orders exceeded sales yet again this quarter. Second, our commercial initiatives are doing extremely well. In instrument replacement, especially our contract manufacturing customers, the demand there is very, very good. Third is the attraction of new products. Waters has a history of introducing differentiated products, but we’ve not just introduced a stream of products but also have implemented a launch process, which is helping us gain traction to basically do proper segmentation positioning. The launch is rather targeted rather than a smattering of ideas. And also reposition certain products, as a consequence.

I think that market, commercial initiatives, and new products meeting specific needs is the revenue algorithm. On the margin side, we expanded our gross margin by 40 basis points, and operating margin by 170 basis points. This comes down to three reasons: First, managing inflation through price increases. But we also had such nice volume gains, productivity in the manufacturing network. Lastly, cost management, even below gross margin, has allowed us to expand our operating margin by 170 basis points.

GEN Edge: Waters reported a 26% increase in constant currency for instruments. How much was that growth tied to any particular of the newer launches or upgrades?

Batra: The market is healthy. Some of our peers recently reported low double-digit growth for their overall business. Some revealed their instrument growth as well, but all shy of what we are seeing at 26% overall. If you take the 26% and break it down further, the LC [liquid chromatography] portfolio grew in excess of 30%. And the mass spec and the TA Instruments business were closer to 20%, or slightly higher than 20% in all cases also. So, you see a nice growth across the board for all sets of instruments.

There’s a contribution of course from the market, but also from the instrument replacement initiative. Remember that Waters has had for several years not replaced order instruments. We’ve been on a journey to find and replace all these instruments across our LC and mass spec portfolios. That’s been continuing very well.

Second is new products, where growth has been across the board. For LC, we introduced the Arc™ HPLC System for the QA/QC [quality assurance/quality control] environment for small molecule [drug development], and that product has done extremely well. We introduced the MaxPeak Premier Solutions technology for our columns, and the same technology for our Acuity Premier UPLC instruments. These have done extremely well. In fact, Arc HPLC and Acuity Premier had three times more placements than the same time last year, so quite substantive growth on that front.

On the mass spec side, we’ve already announced the launch of our waters_connect platform with the MS Quan™ application, which increases the speed of analysis by about 50% for complex analyses in the food space, in particular where you’re looking for trace amounts of materials. There are so many components to look for and increasing the speed by 50% is quite a substantial benefit.

In March, Waters introduced its Xevo™ TQ Absolute system, a compact, power-efficient tandem quadrupole mass spectrometer. [Waters]

We’ve introduced the Xevo TQ Absolute, which is a terrific tandem quad instrument with a 50% lower smaller footprint than the leading mass spec, 50% lesser environmental impact, both in terms of the amount of energy this consumes and the amount of heat it generates. You can regulate the temperature in your lab, and it is more sensitive for an ionic compound or 15 times more sensitive.

Across the board, new products have done very well; of course our BioAccord LC-MS System, which we repositioned into upstream bioprocessing, as well as starting to gain traction in the QA/QC environment. New products have had a substantive contribution, not just because they meet a clear unmet need, but also from a commercial perspective, we’ve got great alignment across commercial and R&D now.

GEN Edge: How much commercial expansion did you carry out, in terms of adding people or operations, to get the Q1 results?

Batra: I won’t give specifics. But in broad strokes, our attrition was 10% for the year 2021, and it’s remained about the same in Q1—slightly higher than historical averages, but we recruited people faster. The net is a 5% increase in headcount, with a special focus on direct sales, especially in the U.S. and in China, where the demand is extremely good, and then a special focus on direct labor. We’re producing more and we’re selling more. Those are the two areas where we’re very focused on bringing in more people.

GEN Edge: What drove the Pharmaceutical market’s strong growth?

Batra: I’d highlight our focus on contract manufacturing organizations. When we started our commercial transformation journey, we had about 15% of our overall business going to contract manufacturers, whereas the industry average is close to 35%. There’s a long way to go, but in the last few years we have tripled our presence in contract manufacturers. From an overall growth perspective, I would say [CDMOs represent] the mid-20% to 25% as a percentage of pharma sales now.

Historically, we have very strong relationships with large pharma companies. When the CDMO industry started picking up, we simply didn’t follow. This was a commercial mistake. Now we’re saying, ‘Hey, this is a great segment. Contract manufacturing is key for pharma but also for food.’ We’ve basically set up commercial segments to go after that opportunity, and now you see the results.

GEN Edge: How much were Waters’ flat sales in the Academic and Government market impacted by lockdowns in Europe, China and the rest of Asia?

Batra: Overall, academic and government is about 10% of our overall business. We saw nice growth in both China and the United States for academic and government. The mid-single digit growth is in line with what many of what our competitors have for academic and government, but I don’t want to sit here and say we’re doing as well as we are in pharma and industrials. We’re not.

We are working to create more commercial excellence in the academic and government segment, basically rebuilding our relationships with KOLs (key opinion leaders) and improving our e-commerce platform for use in academic and government. Overall, it’s a good start, but there’s a lot of work to do on getting to a point where we’re doing everything we can to serve our customers in academia and government labs.

GEN Edge: In China, sales increased 18%. What impact has that country’s COVID lockdowns had on Waters?

Batra: Towards the end of Q1, for about a week or so, our warehouse in Pudong was shut down, and that impacted our recurring revenues—not the instrument business, but the recurring revenues—by a few million, and this is basically chemistry and service, in particular. Since then, things have been stop-and-start. We see things opening up a bit, and then they close down in different parts of the country. Shanghai was closed and it opened up for a few days, and then they closed again.

It’s basically managing and being opportunistic when you have access, and our teams on the ground are managing that. We expect there to be a 100–200 basis points headwind in China in Q2, where we still think there’ll be rolling lockdowns. But by the end of the year, we think there’ll be a catch-up, and we should be at least low double digits in China, by the end of the year, overall.

GEN Edge: With inflation re-emerging in recent months, how much has Waters been able to pass along costs to customers?

Batra: The way I would think about inflation and its impact on our overall business is along the facts and along three dimensions. Gross margin increased by 40 basis points and our operating margin, despite inflation, increased by 170 basis points, and this is largely due to three reasons. One, of course, is pricing. Second is better cost control, especially outside of manufacturing. And third is increased volume. The more volume that goes for fixed costs gives you better leverage, and that has impacted the gross margin.

On all those fronts, there have been unique initiatives that have helped us gain traction. On pricing, this quarter we increased prices by 200 basis points versus the same time last year. Wherever we were increasing prices, we really deeply discussed it with customers. We talked about what component in the product that we are supplying them had increased in price. Very often spot purchases are 30 to 40 times the price of what you’re trying to look for in particular. So, having clear and open conversations with our customers is super helpful, and for the most part, they’re understanding of what we’re trying to do.

The last piece is cost management—especially in SG&A (sales, general and administrative) and in other out-of-pocket expenses—which has help us increase our margin.

GEN Edge: What does the rest of 2022 look like in terms of managing inflation?

Batra: It would be naive to think that that we’re out of the woods. In specific areas, neighbor integration with us and increased freight costs are with us. We’ve got an algorithm and collaboration amongst colleagues that helps us manage it better than we would have managed to a year ago, or so.

That said, it’s still a challenge. Our overall guidance for the year has increased from 5–7% to 7.5–9%. Clearly, we’re not taking it to the same level as we saw in Q1 in terms of sales growth, largely because there are still challenges in China in Q2. There is still a lot of macroeconomic and geopolitical uncertainty out there that we need to deal with. I think we were rather balanced in our guidance as a consequence.

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