Steris Stock

Good day, and welcome to the STERIS Plc Second Quarter 2027 Financial Results Conference Call. [Operator Instructions] Please note this event is being recorded. I would now like to turn the conference over to Julie Winter, Investor Relations. Please go ahead.

Thank you, Nick, and good morning, everyone. Speaking on today's call will be Karen Burton, our Senior Vice President and CFO; and Dan Carestio, our President and CEO.

I do have a few words of caution before we open for comments from management. This webcast contains time-sensitive information that is accurate only as of today. Any redistribution, retransmission or rebroadcast of this call without the express written consent of STERIS is strictly prohibited. Some of the statements made during this review are or may be considered forward-looking statements. Many important factors could cause actual results to differ materially from those in the forward-looking statements, including, without limitation, those risk factors described in STERIS' securities filings. The company does not undertake to update or revise any forward-looking statements as a result of new information or future events or developments. STERIS' SEC filings are available through the company and on our website.

In addition, on today's call, non-GAAP financial measures, including adjusted earnings per diluted share, adjusted operating income, constant currency organic revenue growth and free cash flow will be used. Additional information regarding these measures, including definitions, is available in our release as well as reconciliations between GAAP and non-GAAP financial measures. Non-GAAP financial measures are presented during this call with the intent of providing greater transparency to supplemental financial information used by management and the Board of Directors in their financial analysis and operational decision-making.

With those cautions, I will hand the call over to Karen.

Thank you, Julie, and good morning, everyone. It is my pleasure to be with you this morning to review the highlights of our second quarter performance. For the second quarter, total as reported revenue grew 9% to $1.6 billion. Constant currency organic revenue grew 8% in the quarter, driven by volume as well as 230 basis points of price. Adjusted gross margin for the quarter was 45.3%, and up 100 basis points versus the prior year. Margin expansion was driven primarily by tariff refunds of approximately $20 million during the quarter, which added 130 basis points year-over-year. Underlying margins were down slightly as favorable price was more than offset by inflation. Gross tariff costs were approximately $15 million in the second quarter, flat with the prior year.

For clarity, tariff refunds are not being allocated to our business segments, but instead are book to corporate to enable business segment analysis. Adjusted EBIT margin was 24.6% for the quarter, up 150 basis points from the second quarter last year. Tariff refunds contributed 130 basis points to the increase. Underlying margin improvement benefited from favorable price and volume, partially offset by inflation and investments in the business, including the acceleration of R&D spending. We do not expect any material additional tariff refunds during the remainder of fiscal 2027.

The adjusted effective tax rate in the quarter was 25.3%, and an increase from 24.5% in the second quarter of last year. The increase was primarily driven by unfavorable discrete items. Adjusted net income in the quarter was $286.8 million compared with $244.5 million in the prior year. Adjusted earnings per share were $2.94 and a 19% increase over $2.47 in the second quarter of last year. Excluding tariff refunds, adjusted earnings per diluted share grew 13%. Capital expenditures for the second quarter were $76.1 million, and depreciation and amortization totaled $125.6 million.

We ended the quarter with a strong balance sheet, reflecting $1.9 billion in total debt, gross debt to EBITDA at quarter end was approximately 1.1x. Free cash flow for the first 6 months was $492.5 million compared with $527.7 million in the prior year period. Cash flow from operations was $656.1 million compared with $707.8 million last year. The decline in cash flow was driven primarily by significantly lower contribution from working capital as we utilized cash to build inventory in support of second half shipments partially offset by higher net income. Share buybacks in the second quarter totaled $100 million or $200 million for the year-to-date. We have $800 million remaining under our current authorization.

During the quarter, we approved an additional restructuring plan covering targeted facilities realignment and product rationalization and select organizational realignment. We anticipate total charges of $45 million, including $10 million in cash expenditures and $35 million in noncash charges. Approximately $25 million was recorded in the second quarter. The plan is expected to generate annualized savings of approximately $9 million, with a portion realized in fiscal 2028 and and the full benefit in subsequent fiscal years.

With that, I will now turn the call over to Dan for his remarks.

Thanks, Karen, and good morning, everyone. Thank you for joining us to hear more about our second quarter 2027 performance and our outlook for the remainder of the year. Karen covered the quarter at a high level, so I will add some commentary on our segments.

Starting with Healthcare. Constant currency organic revenue grew 7% in the quarter. Our performance reflected solid underlying demand with continued strength in our GI business. The strength of our portfolio in commercial teams enables us to help our customers navigate a complex operating environment. Service continued its streak of outperformance, growing 10% in the second quarter. Consumables grew 10%, benefiting from increased customer consumption and driven by share gains, procedural growth in endoscopy and to a lesser extent, a recent acquisition of GI products.

Healthcare capital equipment revenue increased 4% in the quarter, also benefiting from a recent acquisition. Orders remained stable with 1% growth in the second quarter, and our ending backlog increased to $456 million. EBIT margins for health care in the quarter decreased 110 basis points to 24% and Improvements in volume and price were more than offset by inflation, lower productivity and longer-term investments we have accelerated on the back of tariff refunds.

Turning to AST constant currency organic revenue grew 5% for the quarter with 5% growth in services as reported or 6% constant currency. We ended the quarter on solid ground and early indications suggest that October is holding those games. EBIT margins for AST were 44.7%, a decrease of approximately 60 basis points from the second quarter of last year. The decline reflected increased depreciation and inflation, somewhat offset by improved pricing. Constant currency organic revenue increased 18% for Life Sciences for the quarter. Supporting that growth, capital equipment grew 53% and consumables increased 9%. Service revenue grew 5%, reflecting strong shipments backlog was $93 million at quarter end down a bit from prior year. Margins were a record 44.4%, an increase of approximately 310 basis points, reflecting improvement in volume, price, productivity and favorable mix. Reshoring and localization of manufacturing are benefiting our Life Sciences segment.

Turning -- before we turn to the outlook, I do want to discuss our recently announced agreement to acquire Xodus Medical. A surgical specialties products business focused on patient and OR staff safety. Xodus Medical is a natural complement to our health care portfolio, expanding our consumables offering and the way we support customers in the operating room. The business is well known for its flagship Pink Pad, a single-use surgical patient positioning product but this portfolio is much broader. Their products span patient position, patient handling and transfer, patient warming and operating room essentials. This highly clinical, single-use portfolio will strengthen our recurring revenue and expand our direct commercial presence in the OR.

Xodus has consistently demonstrated impressive growth driven by a steady stream of innovation and highly effective commercial model. Our go-forward model reflects maintaining revenue growth in the mid-teens and EBIT margins in the low to mid-50s. The competitive clinical position is well defined and supported by clinical studies, ARN guidelines and a solid innovation pipeline as well as intellectual property protection for core products. We are very excited about the opportunities as our company is aligned to better serve customers.

Shifting gears to outlook. Based on our second quarter results and our expectations for the remainder of the year, we are updating our outlook for fiscal 2027. Our total company revenue growth expectations remain unchanged including as-reported revenue growth of 7% to 8% and constant currency organic growth of 6% to 7%. Our fiscal 2027 earnings per diluted share outlook has been increased to $11.35 to $11.55 compared with our prior range of $11.10 to $11.30. This includes approximately $0.18 per share benefit from tariff refunds year-to-date in fiscal 2027. The additional increase in outlook was driven by second quarter outperformance and lower interest.

From a segment perspective, we continue to expect Healthcare constant currency organic revenue growth of 6% to 7%. We now expect AST growth of 6% to 7% previously compared to the 7% to 8%. This revision reflects us maintaining our exit rate for the second quarter for the balance of the year. Based on the strong first half, we are increasing Life Sciences constant currency organic growth outlook to 9% to 10% and compared with 6 to 7 previously. This reflects a return to more normalized growth in the second half of the year and the outperformance in the first half led by capital equipment. All other elements of our most recently provided outlook remains unchanged, but as a reminder, this outlook does not include Xodus Medical, and we will update our expectations after close. This is a very exciting time at STERIS. The business continues to perform very well, and we are able to prioritize investments in the business that will support our growth for years to come.

I want to thank all of our associates for continuing to do what they do best, focus on our customers and strive to do it a little better each day. That concludes our prepared remarks the call. Nick, would you please give the instructions, and we can begin the Q&A.

[Operator Instructions] The first question will come from Brett Fishbin with KeyBanc.

Maybe just starting with the acquisition of Xodus Medical definitely seems like a nice fit for STERIS. And I was just curious if you could discuss a little bit more than what you provided on why this was particularly attractive for the company? And then just more broadly, how you think about this new call point as a longer-term opportunity for the health care business?

Thanks, Brett. Appreciate the question. Yes, we're very excited about the planned acquisition of Xodus. And you mentioned it, but it gives us a new call point and a real clinical sales force in the OR which we really don't have today. I mean, when we sell our surgical infrastructure, our capital products, lights and tables, [indiscernible], that's more on a build type architectural type cell. This really gives us an everyday call point and a reason to be in the operating room which is the beginning of reprocessing or the end of a processing depending on how you look at it in the total perioperative loop.

So they have great products. They're high margin, high growth and consumable and he had a great trajectory of performance for 7, 8 years now, I would say. The product has a lot of customer acceptance and appreciation. It's supported by ARN and we just think it's going to be a great add for STERIS.

All right. Awesome. Awesome. And then maybe just 1 more question on the guidance. I think the AST topic is -- or sorry, the Applied Sterilization Technologies topic has just been a little bit of a conversation. And you had a competitor talking about some incremental headwinds in Europe around just overall activity levels. So I was curious if the change to guidance -- the slight change to guidance is more to do with continued inventory dynamics or if you're also seeing some type of slowdown or weakening in any particular geographies?

Sure thing, Brett. So what I would say is this, -- we had a slow start to the year based on really difficult comps. As we started into Q2, which we just ended, obviously, we saw that improve, especially in September, and those improvements continue through in October. So we feel pretty confident in the back half that we're going to be somewhere in the 6% to 8% growth for that side of the business. And that's supported by the numbers we've seen thus far. I would not say there's a reason at -- we obviously do listen to the other supports, and we actually had better growth or as good or better growth in Europe last quarter than we did in North America. So I think it's just pockets of different customers and things that happened that caused some things.

I wouldn't read too much into that in terms of general volume in the U.S. we said this before, we expect it to be procedural growth at the lower end of the range, which is somewhere around 3% instead of the high end of that range, which can be 5%, which drives consumption of all of our businesses for the most part.

The next question will come from Patrick Wood with UBS.

Maybe for the first one, just to jump on AST again as volumes start coming back. Where are we at very roughly or qualitatively in terms of utilization. I'm sure is pretty tight, but obviously, things like gamma, the fixed costs of the half-life outside of things, you can get a lot of talk as volumes begin coming back moving through the P&L on margins. So like are we going to see as volumes begin to come back a little bit of leverage coming through on those facilities. I'm not sure where utilization sits today versus history?

Thanks, Pat, this is Dan. Well, total utilization across the network is pretty high. but we have room effectively everywhere because the volumes are slightly less aggressive than what we thought they were going to be at the beginning of the year. So as volumes do come back on the existing infrastructure that we have in place and capacity that we have installed, because we never slowed our isotope loading or anything like that because if you miss it, you missed it forever. So we've kept up with our loadings. We have adequate capacity to take on the increased demand as it flows through.

And yes, you're right. The difference of a couple of percentage points makes an awfully big difference in terms of drop through at the margin line. And some of that's offset that we've got some new facilities that are in ramp-up mode. So those obviously aren't contributing margin at the same level as a very mature facility. So that has somewhat of a dilutive effect, but those are for the most part already in the P&L. And so any improvement in volume should show through.

Super clear. And then just quickly, the -- on the health care business, obviously, all the capital equipment line a chunk of it is essentially not optional, obviously, because it's going to have to be sterilizing -- but you have some that's a little bit more surgically connected on that side. And I guess maybe it's a bit off the beaten path, but the 340B reform rules were kind of finalized and looked like last night. -- we're all debating what effect that could have on the hospitals or those hospitals P&Ls that we're relying on it a little bit. I don't know, have you heard anything from customers in terms of their CapEx outlook, whether that would affect them? Or is it just more of the same?

It's more of the same. In fact, we actually had a really great order quarter on our surgical products this past quarter. So -- and there's a bit of a shift going on in health care today where the plan is, as our population ages here domestically anyways. Hospital is going to have to push healthy basins out to their ASC networks for procedures and they're going to have to take higher acuity patients into the large acute care facilities, which are going to require more capacity in those locations. So we haven't seen any slowdown on the capital whatsoever. Our backlog in health care it's pretty much near record if you exclude the supply chain crisis a few years ago. But -- so we feel pretty good about that.

The next question will come from Mac Etoch with Stephens.

Maybe just starting on the Life Sciences segment. You previously disclosed that onshore could be more of a longer-term benefit. But given some of your prepared remarks, can you just expand on what you're seeing today and how you're thinking around some of these broader macro factors are developing versus maybe at the start of the year?

Yes. I think the difference today is that some of the plans that were previously announced by our customers for expansion in the U.S. and also some of the [indiscernible] position of manufacturing in Europe. We're just that, but now they're starting to materialize, and we're starting to see orders from a capital equipment perspective, but also we're starting to see requests for work on our chemistry side of the business as well. Now having said that, this past quarter was the outperformance there -- we had a great order shipments quarter, but there was 1 particular order that really made a big difference that was in excess of $10 million for a single customer. So that 1 moved the needle, that 1 won't be replaced on a quarterly basis. But nonetheless, we expect great performance by life science throughout the end of the year.

Got it. I appreciate that. And then maybe just quickly touching on tariffs as well. I think -- you all cited $24 million as being the total pool of available tariff refunds for the year. Has that shifted at all? Is that available pool widened? I know you're not factoring anything in anything additional in the guide, obviously, but I just want to get a sense there.

Thanks, Mac. Yes, this is Karen. The tariffs that we have received of $24 million is what we expect to receive the total EPA tariffs paid last year were 27%. So we've got about $3 million where there's just no refund program right now to recoup those. So we are not projecting receipt of those.

[Operator Instructions] The next question will come from Michael Polark with Wolfe Research.

Dan, curious if you could bridge health care consumables growth. I know there's a small M&A flowing through, but 7% last year, call it, high single digits solidly year-to-date with ASD volumes being muted. What's the disconnect there? Why is health care consumables growth just wanted to at a high level kind of growing at a much higher rate in ASD volumes still kind of seem tempered.

There's an easy explanation, Mike. So the reality is, over the last few years, we've placed an awful lot of dedicated chemistry equipment out there. And those are things like Pros and our washers and obviously, ARs. And as a result, that share gains that we've been delivering on the capital side is now converting into consumables growth. In addition to that, a lot of our chemistries franchise and consumables and health care is weighted towards endoscopy. It's the chemistry that goes through our automatic endoscope of processors. And we've had a really great year thus far on placements of new machines.

And in addition to that, the general growth rate of endoscopy has remained strong. When I talk about the general growth rate, I mean procedures has remained mid- to high single digits consistently. So there's a bit of a bias in our health care consumables business towards endoscopy.

I'll follow up on that. That was just 1 of my other topics. So I heard yes, just now and then in your prepared remarks, the GI enthusiasm reaffirmed. There is a competitor that has some challenges in the U.S. So [ Olympus ], I'll say the name, so you don't have to. Obviously, you don't sell scopes, but they solve processors and maybe some accessories. And has that been a benefit we're spiking out in your GI business? Or no, this is not a share gain for execution in market.

Look, it's been a benefit, but it's minor. I mean it's been a quarter or 2 of improved AER sales. But I mean there's an awful lot of those machines out there still. So over time, we'll continue to do well, I'm sure. But like I said, it's been a help, but it's been insignificant in the grand scheme of things.

The next question will come from Mike Matson with Needham & Co.

So just want to ask another 1 on Xodus Medical. By our rough math, it seems like this could be a fairly accretive acquisition to EPS. I mean we're coming up with kind of 3% to 5% EPS accretion on a manual basis. I mean, this business has extremely high operating margins. I don't know if you're willing to comment on that? Or I assume maybe you'll give us more information when you actually close the deal?

Yes, Mike, this is Karen. We will give updated guidance once we close the deal. And certainly, we expect it to be accretive top to bottom revenue margins and EPS I would encourage you to make sure you're including all of the interest costs as we are funding this deal with debt.

Okay. Yes. I mean we were assuming around like a 6% interest rate. Does that sound in the ballpark?

It certainly does.

Okay. All right. And then there was some commentary earlier in September at an investor conference about destocking in the AST business by our customers. So I think you've kind of addressed that in a way by saying you saw it get better in October, but just wanted to see if you could elaborate on that commentary a little bit.

Yes, sure, Mike. Thanks. Yes, I think at this point, we're confident to say that destocking has ended. We think it washed itself out in the last quarter that we just completed -- and then we've seen more normalized growth at the back end of that quarter, and then we have pretty good revenue growth in October, which we normally don't hit on, but given it's relevant as to what we've been saying for the last 6 months that first half is going to be tough and then we got easier comps in a second, we're confident in delivering that message.

The next question will come from Jason Bednar with Piper Sandler.

I'm going to try 1 here on AST. That's a little bit of a follow-up to some other questions. But for clarity, do you see a change in growth guidance here, it's a function of some softer procedure volumes, I think. But -- can you put a finer point on what you're expecting in guidance with respect to volume growth across your U.S. and European customers? Are you assuming the better volume growth, better performance in the business. I think you referenced, Dan, in September and October that persists for the rest of your fiscal year? What's the sensitivity on improving or softening from here knowing that the macro still has a layer of uncertainty to it.

Yes. It's -- honestly, Jason, thanks for the question. It's kind of a simple math. And what I mean by that is last year first half of the year that we were comparing to, we grew over 10% right? And then that slowed significantly. If you go back and look at the constant currency organic numbers to mid- to low single digits. So just the comps and growth become a lot easier to get to as we started seeing destocking in the third quarter of last year. So as a result of that and based on what we think is a very stable health care operating environment right now, we're confident that against those easier comps, we should be able to deliver much higher than we did in the first half.

All right. Maybe 1 follow-up to that and then I got a separate question. But I think a lot of investors are really trying to understand like a little bit of the sell-in, sellout dynamic on what you're seeing and understanding your layer of move from the sellout, if you will, the actual procedure volumes. I mean, are you seeing anything different that's shifting just because there is a lot of information that's flowing out there suggesting some softer volumes.

So I guess just trying to understand if there's anything there -- and then the separate question here, maybe Karen, this is for you, can you talk about what's stimulating another restructuring program? Just strategically, it seems like these are maybe becoming a little bit more common the last few years? Is something changing with respect to how you're approaching operations in your portfolio?

Jason. I'll start on your question on the volumes. You talked -- you used the word softer volumes. And I think this is way overplayed. I mean the fact of the matter is that there are some highly elective procedures that have been and will get deferred. And some some of our peers in different segments of highly elected products have talked about that. Some have contradicted each other as well. So in terms of what they're seeing. So I think that is what it is right now. there's still great growth going on in health care in terms of general procedures. We -- I've said -- and I've been clear that it's at the low end of the range, meaning if we always sort of assume somewhere between 2.5%, 3% and 5% procedure growth rate, especially in North America, we're probably down towards 3 right now.

But it's still growth rate, right? It's not negative or flat. And we have a mountain of data from all the SPD still processing departments that we run across North America and the U.K. and other places in Europe that says that the number of trades and consumption is up. So based on everything that we're looking at, although there's economic stress clearly for our customers, in particular, in North America, there's still high level demand.

All right, Jason, I will talk to you a bit about restructuring. So the new plan is targeted in terms of some smaller actions that would include some key components like elimination of a single-use urology scope from our product portfolio -- so the costs include disposal of inventory, termination of supply contracts, impairment of intangible assets. Another key component is some small site consolidation, including transition of production of our sterility assurance products to the new meter manufacturing site that was announced early in fiscal '26.

The plan that was announced in August, in conjunction with the announcement of the formulated chemistry center of excellence was 100% focused on that action and the impact of that center of. So we kept this these other actions separate so that it was clear what we were doing and the timing of those actions. And as you said, this is a little bit unusual for us. We've got 2 announced this year. We had the Bordeaux restructuring a couple of years ago now. And I would say when you link those together, what you're seeing is a focus on really challenging our portfolio and our manufacturing and distribution network, and that's the key driver behind -- all 3 of these plans.

The next question is a follow-up from Michael Polark of Wolfe Research.

One more on Life Sciences. Look, I heard the comment, Dan, 1 large order $10 million loud and clear, but there's 18% segment growth, 50% in capital, something was good. You said onshoring localization of supply chains heard. We know that's a megatrend. I would say the feedback from bioprocessing as an example, somewhat mixed and still slow going. So I want to ask if you think there could be something else here and the other topic in tools land is the so-called self-driving labs as Claude starts doing experimentation, and my joke is call will make the beakers [ 32 ] and someone will have to clean them. Do you see evidence that, that kind of theme is an opportunity for life sciences beyond reshoring?

Thanks, Mike. Yes, we do see that as an opportunity clearly. What I would say is it's not something that's registering yet in our order book or anything like that. But as that trend does continue, I think the way we produce aseptic pharmaceuticals will change over time. And I think that STERIS will be in a great position to adapt to that. So I think what we're seeing on the life science order intake and shipments as it relates to capital is just some pent-up demand, too, from a couple of years of underbuying in the pharmaceutical sector, and now there's just a little bit of catch-up. So we're getting to benefit from that.

This concludes our question-and-answer session. I would like to turn the conference back over to Julie Winter for any closing remarks.

Thank you all for taking the time to join us this morning and learn more about the quarter and our outlook for the year. We do have quite a few conferences coming up this fall. I look forward to seeing many of you on the road.

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

All right. We're going to get started here. First of all, welcome to Dan from STERIS. Thanks again for joining us. We're excited to unpack parts of the story. Before we get into it, there is a disclaimer on the Morgan Stanley website, so I suggest everybody go check that out.

Dan -- I just learned it was Dan's 29th anniversary year at STERIS, but importantly, also 5 years as CEO. So congratulations on that. Maybe to start us off, you can reflect a bit about what you learned in the last 5 years about STERIS and that as a CEO that you didn't appreciate when you first took the role on and maybe what you think investors still underappreciate about the story?

Yes. Thank you, and thank you for having me. I think the one thing that I would really point to is how resilient and how durable the demand is for our products and services, in particular, in the health care space. In a time where our customers are definitely under some financial crunch, STERIS has emerged as really a provider that will work with them to help enable them to have better outcomes. And what do I mean by that? I mean, as hospitals need to generate more revenue, they need to turn surgeries. They can't ever have an OR shutdown because of lack of sterile product. And running a sterile processing department in the basement of the hospital is not very sexy, but it is absolutely essential, and it enables the hospital to turn those procedures. It enables them to have compliant, safe outcomes and ensure that everything operates as intended.

So we've had different conversations over the last year with the C-suite level of major health care systems. And as -- while it's tightened, I guess, on capital spending from time to time, we just haven't seen an impact because of the value we're delivering.

Great. And I do think that your role and relationship within the hospital is actually a very unique one compared to some of the other medical devices out there. As we saw in the last earnings quarter, there was a lot of questions around hospital utilization rates and procedure volumes and quite a variance in views. Given your role and STERIS' role, can you share perspectives on what you're seeing from your customers and what you can kind of glean on the volumes?

What I can do is provide a lot of data that we have and -- or some anecdotal data and then let people draw their own conclusions of what's going on in the market. And as a point of reference, we touch the space in many different ways. First, on the industrial side, we're a major supplier of industrial sterilization across the globe, largest industrial sterilization company in the world. And so we see roughly 1/3 of the world's single-use medical devices come through one of our plants. What we have seen over the last, I don't know, a year or so has been destocking in terms of volume, which is counter to what we're seeing in terms of procedure volume. So we'll just put that data aside for a second.

And then if we talk about the data that we have on the hospital side of things, we run in-house and outsourced sterile processing departments for many large health care systems as well as we have embedded data in the equipment in the sterile processing departments that track consumption of instruments and trays. And so we see that across a broad network in particular here in the U.S. and generally speaking, we've seen -- we continue to see some modest level of procedure volume growth across both acute cares and also the ASC market.

Generally speaking, I've always said that in a good year, a really good year, we tend to see procedure growth at the high end of the range at, like, 4%. And in a not so good year, it tends to be at the lower end of the range. I'd say we're definitely at the lower end of the range but growth nonetheless. There are some bright pockets though. And not that that's not good because it is growth, but there are some bright pockets, in particular, we see in endoscopy, where we have a lot of exposure because we have a sterilization system that's specifically geared to reprocessing of endoscopes and also larger repair operation and a device business.

But endoscopy, just as a market in terms of procedures, is up somewhere between 7% and 8.5% and due to some factors with screening age coming down and also the unfortunate, what seems like an increased occurrence of colon cancer in much younger people than previously seen. So anyway, but the procedure rates, we have all this data suggest that we are seeing growth in the North American market and broadly around the world as well.

Okay. That's very helpful as a framework. Just focusing on the P&L for you all. Consistently, you've talked about mid- to high single-digit organic top line growth, leveraging that to have double-digit bottom line growth. What gives you confidence in the sustainability of this algorithm over near term, midterm, long term?

Yes. So let me start by saying 10, 12 years ago, STERIS was -- approximately 80% of our revenue was from capital equipment, 20% was from recurring revenue streams. Today, it's inverted. So 80% of our business is recurring revenue, which comes out of our chemistries franchise that goes through all of our washers and some of the low-temp sterilization machines that's in Healthcare as well as our Life Sciences products that go into aseptic cleaning and aseptic environments that are disposable or chemistries. And then a huge portion of that is now services.

So when you have 80% of your revenue that's largely procedure-driven in a necessary environment, it's pretty easy to have that outlook because you have data of past months and years of trend analysis. So as long as we're headed in the right direction, we tend to stay that way. The only thing that can fluctuate a little bit from time to time is some of the capital purchases, in particular, on the Life Science side. Generally speaking, Healthcare has been very consistent for us over the long term.

Okay. Great. I do want to go a level deeper on that top line growth. And maybe, if you could just share a little bit of how do we break that down, the sources of that top line growth between procedure growth, market share gain, pricing, new products, any sense of relative contribution and which one of the 4 you think has the most runway in the near term?

Well, it's pretty simple math for us. I mean, it starts with price. It's not exciting, but it is important. We get a couple of hundred basis points of price. So that's 2, right? And then you layer in procedure volume, which is material in terms of all of our recurring revenue businesses in health care as well as AST, our industrial sterilization business and then somewhat related to our customers in pharma that are manufacturing the aseptic drugs.

If you go back to what I was saying earlier, somewhere between 2% and 4%. So you stack that up, right? So you're at somewhere between 4% and 6%. And then you look at a little share gain. And then maybe we do a little small bolt-on M&A here and there, something like that, that gets us up to a number that looks like mid- to higher single digits. And then through that revenue scale through our own internal initiatives on continuous improvement and cost savings and things like that, we generally able to get meaningful margin out of that 7%.

Okay. And if we spend a little bit of time on the Healthcare segment specifically because it's now at $4 billion of annual revenue. So by law of large numbers and math, as the business gets larger, that growth rate, delivering that mid- to high single-digit growth rate becomes harder and harder. How do you think about delivering that top line growth versus converging to the procedure growth that we just talked about?

There's still a lot of market share out there to be had, both in North America and especially in Europe, where we have a much smaller presence in Healthcare. So I'm confident long term that our commercial teams have shown their ability to consistently win share. I think the model that we've developed in the U.S. market and the Canadian market, in particular, as we deploy that to Europe, we're going to be very successful there. It gives us a lot of room for growth.

And there's also still a number of things that we can bring into the portfolio over the long term through our own R&D initiatives and things like that. We have a very good channel. We have very good technologies, and it's a matter of just expanding that for our customers.

Okay. I mean if we pivot towards Healthcare services, I mean that has been a phenomenal growth driver and one of your strongest growth categories. What's structurally been driving that outperformance? And again, what does that outlook look like in the mid- to long term?

Yes. So that's -- you can really break that down into a couple of businesses. One is about half of our revenue is our traditional maintenance business, repair business on our equipment, so the wrench turning business. And that continues to do very well because we deliver a lot of value in terms of uptime for our customers in sterile processing in particular. And also, we get -- we are able to get some -- a little bit of price there. But it's really the trust that they put in us to keep those machines running because they're critical. We've also placed a lot of capital equipment over the last couple of years, and that's helping drive the growth there as well as those service warranties turn into contracts.

In terms of the rest of our Healthcare services business, that's largely third-party repair of -- a lot of it is endoscopes or rigid scopes or some power tools used in orthopedic surgery. And we create value for the customer by extending the life of those devices through basically replacing glasses or sensors or things like that. I mean a high-end scope can be $60,000 to $80,000. And if we can repair that and keep it running for another 5 years, it's really super value as our customers are looking to sweat some of the assets as long as they can keep them delivered.

Yes. Okay. Makes sense. I mean I think one of the crown jewels of the portfolio is the AST business, right? It's quite a differentiated asset. I'm sure you get a ton of questions from investors around it. What do you think are the biggest structural drivers of growth for that AST business over the mid- to long term?

That one gets clearly to procedure volume. And then also some to the mix of the product that we have. And that is as some devices get generally more sophisticated, more expensive, they require a more specialized approach to sterilization, which often allows us to price things at a much higher price based on the unique abilities of our plants to develop and design and deliver a very tight dose or a very specific cycle. So I think that long term, our global footprint with well over 60 plants, I think it's touching 70 now in Asia, Europe and North America, Costa Rica, Dominican Republic, it just puts us in a place where customers who need resilient supply chains, who need to have flexibility, we're just in a great position to service that.

Sounds great. And I do think post-COVID, there's been an increasing focus around supply chain surety and how do you make sure that inventory is being kind of managed appropriately. If you could talk a little about within AST, how much visibility do you have on the underlying end market demand versus some of those short-term bursts that are more inventory movements within med tech customers? And do you have -- what indicators tell you about destocking or inventory management being normalized now?

We start with the conversation with our customers, right? And generally speaking, that gives us a guide. Now there's some bias in it sometimes because they want to say they're going to utilize as much capacity so there's never an issue of us having not enough capacity for them. So we try to temper that, right? Beyond that, because we see a lot of the competitive landscape for a certain product offering, we're able to sort of put it all together in our minds and look at growth and make some assumptions.

Another thing that we see is we do a lot of the precursor materials for orthopedics that have to be cross-linked during the radiation process. So a lot of times, we'll see that as maybe a precursor to what is going to be either an increase or slowdown in orthopedics demand because it typically takes a couple of months for that to work its way through the manufacturing process.

There's a number of different variables. But it's hard to say there's any one thing in particular. What I can say, though, is that we saw a lot of med tech get fat on inventory post pandemic. We had the supply chain crisis, the golden screw, all that kind of stuff. And I mean, STERIS itself, I think 1.5 years ago, we've taken out $100 million of inventory of our own because everybody was keeping inventory for just-in-case, not just-in-time. So it's been about a year now. We've seen this pull down amongst our large customer segment, which has slowed -- caused a slowdown -- a little bit of slowdown in the growth rate of AST. We fully expect that corrects itself in Q3, and our Q3 starts October, just to confuse everybody. And -- but that's when we get past an anniversary of 10% growth for 2 quarters in the prior period. And we think we'll finally worked it out, and we'll see normalized inventory levels resume.

Okay. That's very helpful. I mean Life Sciences, pivot to the last business, Life Sciences has returned to stronger growth as customer capital spend has recovered. Can you give a little flavor for how we should think about the normalized growth rate for that business?

Yes. The most important part of that business and the biggest part is our consumables business around aseptic manufacturing. These are chemistries that are used in critical environments for maintaining surface cleanliness and sterilization. And it could be something as -- I mean, literally a 2-ounce sachet of a disinfectant that's double bagged and sterilized. Yes, we sterilize disinfectants for this pharma, that's what they have to have, so they can do a pass-through into a clean room. And that's the most important part of that franchise. It's very high profit. And that has always consistently grown mid- to high single digits at times, even gone over double digits.

It's just when we get into the capital business, there's some lumpiness there because they're large long-term orders. And we saw a real slowdown 2 years ago when pharma kind of got sideways. And then they paused and then we had a bunch of equipment orders, and we've been shipping a lot of product now, and we're in really good shape. So -- but the crown jewel of that business is the chemistry and the sterile barrier products that we sell into the aseptic environments.

Great. I mean I do want to talk about a major investment that you guys announced at your last earnings call, you are spending $600 million to build a new center of excellence in North Carolina. Talk a little about the decision to make such a substantial organic investment and how you expect that to help accelerate both the Healthcare business and the Life Sciences business?

Yes. So let me start by saying, yes, it is a huge investment. It's our biggest manufacturing investment STERIS has ever made. But I would also say it's the most low-risk investment you can make. I mean, it's, sort of, on yourself versus M&A or something like that. So when we acquired Cantel in '21, '22, I can't remember, it seems like 10 years ago. But they had a large chemistry manufacturing operation up in Plymouth, Minnesota. And STERIS has a large chem operation in St. Louis, Missouri. Both of the operations were aging and nearing capacity at this time. There's no way to take one down to upgrade it. And even if we did, it wouldn't buy us the capacity we need. So we made a decision we were going to need to greenfield a site.

And when we started looking at it, the place that made the most sense from a distribution logistics and also access to STEM and engineering talent and manufacturing talent was south of Raleigh, North Carolina. So that's how we landed there. Now why it's a good bet? It supports our chemistries business in Life Sciences and Healthcare. These are both high single-digit growers, and they're both some of the highest margin profile in the company. Today, they represent over $700 million in revenue, approaching $800 million probably this year. And we have a decade of trend line that looks like this that says there's no way this is going to change. And also based on the amount of equipment that we place that has these proprietary chemistries built into it, it's a trend that we see continuing to increase.

Other big opportunities to upgrade our manufacturing through automation. We're going to go from over 500 positions down to 350, give or take, because of the automation we're going to deliver in the plant. So it's a really exciting time, and we should get some pretty good leverage out of it.

Okay. Great. I mean, yes, exactly we're going to go talk about margins next. Where do you see the greatest opportunity for margin expansion over the next several years? Obviously, this investment is one of them, but volume leverage, productivity, mix, pricing, supply chain normalization? Give us a little flavor for the drivers.

It's a lot of things. I mean, it's -- yes, I think we've developed some permanent muscle as it relates to being able to pass through reasonable price increases with our customers. This year, we expect to get a couple of hundred basis points. And I think that if things got sideways from a cost standpoint, we would be able to flex that up if we needed to. Volume coming back, particularly in the AST business is a very high drop-through event. I mean it's -- because it's such a high fixed cost business. So as that returns, that will clearly help.

And then it's the continued migration towards recurring revenues, not at the cost of our capital equipment, but just that's, by definition, going to grow faster because of where it is. I think that will help our margin profile. And then last but not least is just cost, especially on the manufacturing side. We have so much opportunity. We're pretty good, too, but we have so much opportunity to do much better and leverage the scale of the volume that we have through the existing operations. And I think that, that's going to help maintain us, at least keep us to where we're not seeing raising cost on our products over the long term.

Yes. And I will say the free cash flow generation profile of the business has improved quite a bit over the last few years. And in fact, last year, you all generated over $1 billion or nearly $1 billion of free cash flow with leverage and also a very good low spot. How do you feel about the capital allocation policies, where does M&A stack up versus organic investment and share repo?

Yes, it's fluid, and it's kind of a decision tree, if you think about it. I mean, first and foremost, we pay a nice dividend, and that increases every year, and we would continue to do that. Secondly, any investments that we want to make on ourselves is the lowest risk investment, whether that's AST is winding down a bit in terms of a high investment period of 4 or 5 years, and we're shifting to some operational enhancements, and we talked about Raleigh, but we also announced in our Q4 that we were building out a new Sterility Assurance Center of Excellence in Ohio. So making those bets in terms of capital makes a lot of sense.

Thirdly is M&A. And I would say that easy, sort of, smaller tuck-in stuff is what we really like. From time to time, there's bigger deals that come up that fit in our space. But we're very disciplined in terms of what we're going to look at and what we're going to execute on. It has to be in a technology we know. So it has to be sterilization, disinfection, or adjacent spaces related to that or something in GI. And then it has to be either hospitals, caregivers, pharma manufacturing or med tech. That's our world. It's a very small fairway, but we kind of own it in many respects.

So -- and then lastly, but not least, is share buybacks. And in the event that we're not doing M&A, and we're still generating $1 billion of cash and still able to invest significantly in ourselves in terms of our own capital for manufacturing or other things, then we'll buy back shares at a rate that's responsible. We currently have $1 billion authorization, and we plan to do $200 million to $300 million a year of share buybacks. Now in a year or 2, if we haven't done anything on the M&A side, we may have to rethink the size of that buyback. But for now, that's the plan.

Okay. On the M&A front, are there pieces of the puzzle that you're missing, you touched on this a little bit, but that you're missing from a strategic direction of where you want to take the business and that could be capabilities, but it could also be geographies that you'd like to further expand into?

I think a real focus for us is geographies, either through channel acquisition or in-country opportunities in the space that we're in, in terms of sterilization disinfection. Some of those are still out there. And we continue to look at them and things like that. It's hard to say when and if anything will happen. And so really, the focus is us taking over geographic expansion organically. If something presents itself, great. But we're working our portfolio to make sure we have the right products for the right markets, and I feel like we're there now.

Great. I mean, look, I think people like to see what is the -- over the 12- to 18-month outlook, what are the couple of things that you want people to focus on to give a flavor for where STERIS is heading? So if there are some KPIs or key pipeline or things to point folks to that might be helpful.

I think if you're looking at the barometer of STERIS in our Healthcare business, look at our consumables business. That's really it because that tells you a lot about procedure demand that's out there in the Healthcare segment. I think we're all going to watch closely the inventory issues at AST, how that turns in our Q3. So that's something I would watch. Outside of that, the only thing I'll, sort of, reiterate is that we are -- we feel that we're differentiated in the healthcare space as not just a med tech device provider, but actually a company that can work with customers to improve outcomes and improve their financial situation and make sure we drive patient safety. So I think that acceptance of that in the marketplace, which has been really well received thus far, is going to be critically important for us.

Okay. Well, at the start of it, we talked about you hitting your 5-year anniversary as CEO. And, I guess, to wrap as you think about the 5-year outlook, what would -- how would you measure success for STERIS? And what do you think investors should take away as the key metrics and the key drivers of that, that give them confidence in the continued ability to deliver?

Our stated goals are 7% and 11%, 7% on top, 11% on the bottom. And maybe there's some tuck-in M&A involved in that, but that's pretty much organic. And we believe that we're in a position with the business that we can deliver that provided that procedure volumes stay somewhere in that 2% to 4% range. We think that bodes well for us in our ability to execute. So you can compound that over 5 years. I think that we'll be a company that's providing the same level of customer benefit in Europe by year 5 as we are in the U.S. And we've got work to do there, but I'm confident that, that will be the case. And I think we'll be in a much better position as a result of that.

Okay. Fantastic. Well, thank you so much for taking the time.

Yes, thank you.

This is fantastic to unpack the story a little bit more, and I appreciate you being here.

Thanks. Appreciate it.

Good day, and welcome to the STERIS plc First Quarter 2027 Financial Results Conference Call. [Operator Instructions] After today's presentation, there will be an opportunity to ask questions. [Operator Instructions] Please note, this event is being recorded. I would now like to turn the conference over to Julie Winter, Investor Relations. Please go ahead.

Thank you, Nick, and good morning, everyone. Speaking on today's call will be Karen Burton, our Senior Vice President and CFO; and Dan Carestio, our President and CEO. And I do have a few words of caution before we open for comments. This webcast contains time-sensitive information that is accurate only as of today. Any redistribution, retransmission or rebroadcast of this call without the expressed written consent of STERIS is strictly prohibited. Some of the statements made during this review are or may be considered forward-looking statements.

Many important factors could cause actual results to differ materially from those in the forward-looking statements, including, without limitation, those risk factors described in STERIS' securities filings. The company does not undertake to update or revise any forward-looking statements as a result of new information or future events or developments. STERIS' SEC filings are available through the company and on our website.

In addition, on today's call, non-GAAP financial measures, including adjusted earnings per diluted share, adjusted operating income, constant currency organic revenue growth and free cash flow will be used. Additional information regarding these measures, including definitions, is available in our release as well as reconciliations between GAAP and non-GAAP financial measures.

Non-GAAP financial measures are presented during this call with the intent of providing greater transparency to supplemental financial information used by management and the Board of Directors in their financial analysis and operational decision-making.

With those cautions, I will hand the call over to Karen.

Thank you, Julie, and good morning, everyone. It's my pleasure to be with you this morning to review the highlights of our First Quarter performance. For the first quarter, total as-reported revenue grew 7%. Constant currency organic revenue grew 6% in the quarter, driven by volume as well as 190 basis points of price. Gross margin for the quarter was 46%, up 70 basis points versus the prior year. Margin expansion was driven by price and favorable productivity, which were somewhat offset by inflation.

Gross tariff costs, excluding refunds, were $14 million in the first quarter. As a reminder, tariffs were $12 million in the first quarter of last year. Tariff refunds of $4 million were received in the quarter. So on a year-over-year basis, net tariffs were favorable $2 million.

For clarity, tariff refunds are not being allocated to our business segments, but instead are booked in corporate to enable business segment analysis. EBIT margin for the quarter was 23.8% of revenue, an increase of 100 basis points versus the first quarter of last year. The gross margin improvement coupled with favorable currency and operating cost discipline drove the EBIT margin expansion in the quarter.

The adjusted effective tax rate in the quarter was 25.9%, an increase of 23.5% in the first quarter of last year. The year-over-year increase was driven primarily by unfavorable discrete items. Adjusted net income in the quarter was $253.4 million. Earnings per diluted share were $2.59, an 11% increase over the prior year. Higher margins more than offset the increase in tax expense.

Capital expenditures for the quarter were $87.5 million, and depreciation and amortization totaled $123.8 million. We ended the quarter with a strong balance sheet, reflecting $1.9 billion in total debt. Gross debt to EBITDA at quarter end was approximately 1.1x well below our target of 2x to 2.5x.

Free cash flow for the quarter was $279.6 million, down from $326.5 million in the first quarter last year. The decline in free cash was driven primarily by a lower contribution from working capital, despite improvement in net income. Share buybacks in the first quarter totaled $100 million, leaving us with $900 million under our current authorization.

We also announced our 21st consecutive year of dividend increases last week with a $0.06 increase to $0.69 per quarter as we continue to prioritize dividend growth.

With that, I will turn the call over to Dan for his remarks.

Thanks, Karen, and good morning, everyone. Thank you for joining us to hear more about our First Quarter 2027 performance and our outlook for the remainder of the year. Karen covered the quarter at a high level, so I will add some commentary on our segments.

Starting with health care. Constant currency organic revenue grew 6% for the first quarter. Our performance reflected stable underlying demand, while our commercial teams continue to drive meaningful growth across the health care segment. The strength of our portfolio continues to enable us to help our customers navigate a complex operating environment.

Our service team continued its streak of outperformance, growing 10% in the first quarter. Consumables grew 9%, benefiting from increased customer consumption, driven by share gains and procedural growth in endoscopy. Healthcare capital equipment revenue increased 1% for the quarter, with growth impacted by the timing of shipments.

Orders remained solid, with 4% growth in the first quarter, and our ending backlog increased to $444 million. EBIT margins for healthcare in the quarter increased 60 basis points to 24.8% with volume, pricing, positive productivity and favorable mix, somewhat offset by inflation investments in the business and tariffs.

Turning to AST. Constant currency organic revenue grew 5% for the quarter with 6% growth in services. As anticipated against difficult comparisons, services volume remained light in the quarter. Global demand remains a bit soft as customers continue to manage down existing inventory. EBIT margins for AST were 48% a decrease of 60 basis points from the first quarter of last year as additional pricing was more than offset by increased depreciation and slightly lower productivity.

Constant currency organic revenue increased 8% for the Life Sciences group in the quarter. Supporting that growth, capital equipment grew 17% and consumables increased 8%. Services grew 2%. Backlog at quarter end was about flat with prior year at $110 million. Margins were 42.1%, a decrease of 140 basis points as pricing and volume were more than offset by unfavorable productivity and inflation.

Before we shift gears to outlook, I want to comment on the announcement we made yesterday that we will be investing $600 million to build a new formulated chemistry Center of Excellence in North Carolina. As noted in the release, this is our largest investment in our history in a single manufacturing site.

We will be building two facilities totaling 600,000 square feet under roof that will include manufacturing, R&D and distribution. The facility will produce high-performance infection prevention and contamination control chemistries used by our healthcare and pharmaceutical customers across the globe.

This investment strengthens our Healthcare and Life Sciences formulated chemistries business, which together generate more than $700 million in revenue. These products are high growth, high margin and highly regulated. They play an essential role in helping our customers deliver safe, compliant outcomes for patients.

This investment positions us to scale with our customers, supports increasing demand and sustains growth in these strategically important portfolios over the long term. The facility is expected to become operational in two to three years in a phased approach beginning with distributions. Upon completion, we expect to transition the work from our St. Louis, Missouri and Plymouth, Minnesota chemistry manufacturing and distribution sites and closed those facilities.

When finalized, the formulated chemistry Center of Excellence will allow us to accelerate innovation, expand capacity and optimize our U.S. chemistries manufacturing and distribution network. As a result, we announced today a restructuring program with anticipated pretax restructuring charges of approximately $55 million to $70 million, consisting of approximately $40 million to $50 million of cash expenditures and approximately $15 million to $20 million of noncash charges.

We anticipate that less than $10 million will be booked in fiscal 2027. This investment will generate an ROIC of over 10% within 3 to 5 years of opening, and it is essential to our long-term growth and profitability. Shifting gears to outlook. Based on our first quarter results, our expectations for the remainder of the year, we are maintaining our original outlook for fiscal 2027.

This includes as reported revenue growth of 7% to 8% and constant currency organic revenue growth of 6% to 7% for the total company. Our fiscal 2027 earnings per share outlook is also unchanged at $11.10 to $11.30 growth of 9% to 11% over fiscal 2026. While the total cost of the North Carolina facility is anticipated to be $600 million, the impact on fiscal 2027 is expected to be approximately $75 million in additional capital spending.

As a result, CapEx is now anticipated to be approximately $450 million in fiscal 2027. Free cash flow is now expected to be $800 million as the strong performance in the first quarter is helping to offset the additional CapEx spend for the year.

For your modeling purposes, the investment in North Carolina will spread over the next three years -- as of now, we expect the project to add approximately $350 million in capital spending into fiscal 2028 and the remaining $175 million in fiscal 2029.

The project is in early phases of development, and we will provide additional updates on timing as they become clear. Thank you to all of our associates for continuing to do what we do best, focusing on our customers and striving to do a little better each day. Thank you, and that concludes our prepared remarks for the call. Operator, would you please give the instructions so we can begin the Q&A.

We will now begin the question-and-answer session. [Operator Instructions] The first question will come from Brett Fishbin with KeyBanc Capital Markets.

Good update today. Just wanted to ask a little bit about the underlying trends in AST service. I know you've talked about a progression in growth through the year, given the tough 1H comps and inventory dynamics. But just curious like how you're still thinking about growth from here and if you still expect an uptick into 2H?

Yes. Thanks, Brett. This is Dan. Like you said, tough comps in the first half last year. We expect that to linger a bit. But here we get into easier comparisons as we started seeing destocking in Q3, we would assume we'd see acceleration at that point in the growth rates of AST. Nothing has changed in the fundamentals. But coming out of the [ gate ] last year at 13% in the first 6 months has somewhat tamped down the growth right now.

All right. Great. And then just to nitpick the other part of the business that was a little bit slower this quarter in Healthcare capital equipment. I know you mentioned timing and the backlog number looked pretty strong still. So maybe just a little bit more background on what was going on with order timing and placements and how you think that could ramp as well.

Yes. You can see our backlog swell. So it really is just a timing issue. Orders were up 4%. We are making real traction in the market right now. I'm highly confident that for the fiscal year, we're going to show solid growth for our capital equipment business. And we're reaping the benefits of the last 1.5 years of solid capital sales as you look to the pull-through that we're getting in our consumables chemistries -- consumable chemistries, [ really ] assurance and services.

All right. And last question for me. I think I caught you might have said something about share gains in endoscopy. Maybe if you could just expand a little bit where in the portfolio you're seeing the gains.

Yes. Let me rephrase that or clarify, we've seen higher growth in endoscopy in terms of procedural growth. And we have about 1/3 of our healthcare franchise is correlated to endoscopy. So that's helping us. And we are gaining share in that space. I can assure you, both in the equipment side with the automatic endoscope reprocessor, which are driving solid growth of our chemistries or dedicated chemistries as well as the services surrounding the repair of endoscopes and different instruments.

The next question will come from Patrick Wood with UBS.

I've got 2 questions, please. I guess the first one, I'm too brain damaged to really wrap my head around some of the tariff stuff. But if we were to ex-out both the actual refund that you guys got, but then also the expense, so to truly treat it like it never existed, were underlying margins ex all of that up? And if so, why? That's the first question. And then very quickly, second question, the $600 million deployment. That's obviously a big move for you guys. What was it that -- you mentioned efficiencies and distribution outside, but that's a big move. So what was it that really tilted the scales and wanting to shift all that production?

Thanks, Patrick. I'll take the first one. I would love to not talk about tariffs as well. The gross margin is up absent tariffs, we got favorability from price, productivity. The tariff refunds it did help us offset some of that cost. It's included in the gross margin. But our true tariff costs were $14 million in the quarter. And I guess I wouldn't take those out. They're not going anywhere.

And then Patrick, this is Dan. Thanks for the question. Relative to the chemistry expansion, if you look back when we acquired Cantel, with Cantel, they had a large chemistry manufacturing facility in Minnesota, and we have our large facility in St. Louis, Missouri. The problem is that neither are really expandable and both are going to be bumping up against the upper limits of capacity in the future. .

And in order to do anything, we were going to have to do something greenfield. So once we decided that and the consolidation was eminent then we started determining what the location would be. And based on distribution efficiencies and access to talent, especially in the STEM world, we centered in on North Carolina. So this factory will be the factory of the future for us. There's going to be significant automation. It's going to look and feel like a pharmaceutical clean room. It's going to be very impressive.

The next question will come from Mac Etoch with Stephens Inc.

Maybe just to start, there's been some concern around hospital utilization rates and procedure volumes. Obviously, you posted some pretty strong growth in your healthcare consumables franchise. I'd love to just double tap on the performance there and what you're seeing within that end market.

Yes. Thanks, Mac. This is Dan. I'll -- we haven't seen any slowdown whatsoever and we see strong growth, especially in the ASC market. And in particular, as I mentioned before, in the area of endoscopy, which carries a lot of weight with STERIS in terms of our procedure growth impact.

I understand and we are very involved in the conversation with our customers about the challenging environment that they are working in today and will work in the future as it relates to payment. But we do not see an immediate or long-term impact in terms of procedure -- and so as a result, we feel confident in the resiliency of our customers for the long term.

I appreciate that. And then maybe also, I'd love to just get a sense of what you're seeing within Life Sciences. Onshoring is it's been talked about, but it's still on the common. I just want to get a sense of what you're hearing from potential projects in the pipeline.

Yes. It's interesting. When you think about onshoring, it's not just a move to the U.S. There's localization going on globally as tariffs become more of a play in Europe and in the U.S. And so you'll see some duplication of manufacturing sites whereas maybe in the past, you might have one site globally that is focusing on one pharmaceutical product.

As a result, that's good for us, because it creates need for expansion or augmentation of the manufacturing footprint, which requires typically the tools, sterilizers, washers, things like that, that go into those aseptic manufacturing environments as well as it gives us more [ at bats ] and opportunities to install our chemistries into the cleaning processes. So it is happening. It's not a revolution. But any time there's disruption or change in manufacturing, generally, that's a good opportunity for us.

The next question will come from Jason Bednar with Piper Sandler. .

Dan, I wanted to ask on or come back to AST. You referenced inventory destocking. Is trajectory of volume growth just how you budgeted this year based on your conversation with customers, can you talk about kind of visibility you have in that segment accelerating from the current level and not having that destocking issue persist?

Yes. So we modeled it, so we would expect it through Q2 and then see a ramp in AST in the second half of the year. That's what's playing out for the most part, and we would expect that to continue and start to see improvement, I would hope by the end of the second quarter and definitely a material improvement in terms of performance by Q3.

All right. Perfect. And then, Karen, 2 for you as a follow-up here. First, for the avoidance of doubt, you've only received $4 million in total refund that's all going into corporate. It's a 30 basis point benefit to gross margins. Feel free to correct me if any of that's off. Have you requested any other refunds or what's the status on those other refunds requests? And then on the restructuring, I heard all the costs. I know this is a longer-dated project. But when do we -- when should we expect to see savings from this project?

Okay. Thanks, Jason. Yes. On tariffs, you are correct. We received $4 million in the quarter. The toll that we have potentially available is about $27 million. $24 million of that is eligible for claim under the Phase I and Phase II claim processes. We have submitted all of those claims. So far, what we're seeing is the initial Phase 1 refunds coming in. In terms of restructuring, the -- that's really the cost of shutting down and consolidating the old facilities. So all of those benefits are built into what we expect in the new facility, the benefits of consolidation and modernization. .

Okay. Sorry, I heard the comment earlier around capacity expansion and modernization, are there going to be cost savings or efficiency moves with this new facility? Or is this more cost neutral?

Initially, it will be cost neutral. But over time, as we drive scale through the operation, we'll get considerably more leverage out of it by having the combined volume all in one location. And we're also deploying significant amounts of automation to the process, which does increase the front-end cost, obviously, but our labor requirements are going down dramatically in order to operate the facility. .

The next question will come from Michael Polark with Wolfe Research.

AST services follow-up for the rest of the year, still fair to model 7% to 8% organic for that segment. And over the last few years, a lot of growth CapEx into AST to expand capacity -- are there go-lives penciled the rest of the fiscal year that kind of might help the growth be higher in 2H than we're going to see here in 1H?

Mike, this is Dan. I'll answer this and maybe Karen wants to add to it. In terms of the modeling, yes, we still fully expect AST to deliver in the 7% to 8% range. No change there. In terms of the builds that we have coming online, the biggest driver is going to be a recovery from inventory destocking going back to more normalized volume coming through the facility. Those builds facilitate that, but that's obviously baked into our number in terms of how we understand it.

And the incremental depreciation with bringing those online is built into our modeling, and it's a pretty equal pace over the course of the year. So you will see depreciation build in that segment.

And maybe for the follow-up, the mentions of increased procedure volumes in endoscopy specifically to which you have a high exposure, just stood out to my ear as well. What do you think is driving that. Yes. I'm curious for your two [ cents ] on that.

I mean there's been a change, this been promoted now over the last couple of years about the early age of detection that has shifted down below 50 years now. So more people are eligible or being pulled in for endoscopes. I think there's more awareness around colon cancer at this point, and it's driving maybe some intakes as a result. Yes. I don't -- I can't sit here and tell you that it's sustainable at the high level that it's at right now. But what we saw was a really strong quarter endoscopy -- and we also saw that amongst some of our other peers have play in the same space. And based on the information we have from our service organization, everything else, we're happy with the growth we're seeing there.

The next question will come from Mike Matson with Needham & Co. .

So I wanted to ask one on the [ Predis.ai ] collaboration that was announced in March. So what is your view of robotics and AI and sterile processing? And is this collaboration something that could generate meaningful revenue for STERIS.

It's -- thanks, Mike. I appreciate the question. It's early development right now. We're very excited about the technology. I do think there's a world in the future where there's some AI or robotic assist that's meaningful in the SPD, as we know there's a huge challenge of labor in that environment, and there are certain tasks that over time could be automated, like any other process. But we're working hard on what's fairly nascent right now. And when we have something more material to talk about, we will do that. But at this point, it's just early days. .

Yes, I understand. And then just in AST, capital declined again. I know it's a tiny part of that business, but one, can you explain what happened? And two, can you just remind us what the capital is that you're selling in that business?

Yes, Mike. So the capital is typically accelerator -- electron beam accelerators that we sell to MedTech customers typically or other applications for electronic. It's a lumpy business because these projects can be anywhere from $2 million to $10 million a unit, even more. So in a quarter where we don't ship a unit, you see a huge change versus prior period if we shipped the unit.

The total revenue of the equipment business is I mean, it fluctuates, but call it somewhere between $18 million and $30 million a year. And so it's just purely timing, and it's too small to really spend any time on.

This will conclude our question-and-answer session. I would like to turn the conference back over to Julie Winter for any closing remarks.

Thank you all for taking the time to join us this morning. Look forward to catching up with many of you offline and on the road later this fall.

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

Good day and welcome to the STERIS plc Fourth Quarter 2026 Financial Results Conference Call. [Operator Instructions] Please note, this event is being recorded. I would now like to turn the conference over to Julie Winter, Investor Relations. Please go ahead.

Thank you, Chad, and good morning, everyone. Speaking on today's call will be Karen Burton, our Senior Vice President and CFO; and Dan Carestio, our President and CEO. And I do have a few words of caution before we open for comments. This webcast contains time-sensitive information that is accurate only as of today. Any redistribution, retransmission or rebroadcast of this call without the express written consent of STERIS is strictly prohibited.

Some of the statements made during this review are or may be considered forward-looking statements. Many important factors could cause actual results to differ materially from those in the forward-looking statements, including, without limitation, those risk factors described in STERIS' securities filings. The company does not undertake to update or revise any forward-looking statements as a result of new information or future events or developments. STERIS' SEC filings are available through the company and on our website.

In addition, on today's call, non-GAAP financial measures, including adjusted earnings per diluted share, adjusted operating income, constant currency organic revenue growth and free cash flow, will be used. Additional information regarding these measures, including definitions, is available in our press release as well as reconciliations between GAAP and non-GAAP financial measures. Non-GAAP financial measures are presented during this call with the intent of providing greater transparency to supplemental financial information used by management and the Board of Directors in their financial analysis and operational decision-making. With those cautions, I will hand the call over to Karen.

Thank you, Julie, and good morning, everyone. It is my pleasure to be with you this morning to review the highlights of our fourth quarter performance from continuing operations. As anticipated, we ended this strong year with a lighter fourth quarter. For the fourth quarter, total as reported revenue grew 7%. Constant currency organic revenue grew 5% in the quarter, driven by volume as well as 230 basis points of price.

Gross margin for the quarter was 44%, down 30 basis points versus the prior year. We continue to realize positive pricing, which helped mitigate the impact of higher tariffs and inflation. EBIT margin for the quarter was 24.2% of revenue, a high for fiscal 2026. This was 60 basis points below the fourth quarter last year, mainly driven by inflation and tariffs. Incremental tariffs impacted our fourth quarter by approximately $10 million, which was below our expectations due to lower volumes in materials and products sourced from outside the U.S.

The adjusted effective tax rate in the quarter was 25.4%, an increase from 23.5% in the fourth quarter last year. The year-over-year increase was driven primarily by changes in geographic mix and unfavorable discrete items. Adjusted net income from continuing operations in the quarter was $278.3 million. Earnings per diluted share from continuing operations were $2.83, a 3% increase over the prior year, as the lower margin and higher tax rate limited earnings growth in the quarter.

Before I turn to cash flow for the year, I want to dig into the upward pressure on our tax rate for a moment. For the full year, fiscal 2026, our adjusted effective tax rate was 24.4%, an increase of 130 basis points from fiscal 2025. Our tax rate varies based on many factors, most notably geographic profit mix and discrete item adjustments, which include withholding taxes. Since we generate the majority of our profit in the United States, it is common that we need to move cash across borders to deploy capital. This movement may trigger U.S. withholding taxes.

Our fiscal 2027 guidance assumes that in accordance with our capital allocation priorities, we will increase the dividend, reinvest in our business, invest to grow through M&A and return excess cash to shareholders through our share buyback program. To fund some of these priorities, we expect to incur additional withholding tax putting further upward pressure on our effective tax rate. This is reflected in our estimate of 25% in fiscal 2027.

Capital expenditures for fiscal 2026 totaled $369 million, and depreciation and amortization totaled $486.5 million. We ended the year with a strong balance sheet, reflecting $1.9 billion in total debt. Gross debt to EBITDA at year-end was approximately 1.2x, well below our targets of 2 to 2.5x. Free cash flow for fiscal 2026 was exceptional at $982.9 million, with year-over-year improvement driven primarily by an increase in earnings, which more than offset the significantly lower contribution from working capital in fiscal 2026 compared with fiscal 2025.

To provide some context, recall that the working capital improvement that we generated in fiscal 2025 was primarily the result of targeted inventory reductions as we recovered from supply chain challenges. Going forward, we would expect our working capital will grow in line with volume. Once again, we are heading into a new fiscal year in a strong financial position with continued commitment to our capital allocation priorities. With that, I will now turn the call over to Dan for his remarks.

Thanks, Karen, and good morning, everyone. Thank you for joining us to hear more about our fiscal 2026 performance and our outlook for fiscal 2027. Karen covered the quarter at a high level, so I will add some commentary on the year and then comment on our outlook. Fiscal 2026 was another record year for STERIS with 9% revenue growth, 7% on a constant currency organic basis. We are pleased to have translated this into 10% adjusted earnings per share growth despite the 80 basis points of impact from tariffs on margins.

Our businesses all hit new milestones this year, contributing to total company revenue of approximately $6 billion and adjusted net income topping $1 billion. This is an exciting time to be at STERIS, and we expect to continue to grow the business mid- to high single digits organically over time and leverage that to deliver double-digit bottom line growth. Supporting our growth, U.S. procedure volume continues to grow mid-single digits, a level we expect to be consistent in fiscal 2027. Procedure volume outside of the U.S. do continue to lag a bit, which impacts our AST segment a little bit more than Healthcare.

From a segment perspective, Healthcare reported another strong year, growing 9% as reported and 8% from a constant currency organic perspective. This growth was driven by another remarkable year for service, growing 12% and as well as 7% growth in consumables as we continue to pick up share, thanks to the breadth of our portfolio and the performance of our commercial teams. Capital equipment also grew nicely, up 6% for the year, stabilizing after the last several years of lumpiness. Capital equipment backlog ended just under $400 million, with orders up 2% in the fourth quarter.

This year, we reached new milestones in Healthcare business, generating $4 billion in revenue and $1 billion in operating income. We continue to be excited about what is yet to come as we expand our offering through organic and inorganic growth to deliver products and services that address the most pressing operational needs of our customers.

AST grew 10% as reported and 7% constant currency organic. This was a bit lighter than what we had anticipated with softness in the second half of the year. In particular, a slower fourth quarter for services due to the severe snowstorms in the U.S. early in the calendar year. For the year, our services business grew 11% as reported or about 8% constant currency organic, which aligns with our expectations for the business going forward. With over $1 billion in revenue, AST crossed a new milestone of its own, exceeding $500 million in operating profit.

Life Sciences grew 9% as reported and 7% constant currency organic, driven by 15% growth in capital equipment as our customers returned to capital investment again following last year's downturn. Consumables continued their steady path of growth at 8% and services improved 5% despite some more quarterly volatility than we usually see. Capital equipment backlog ended solid at just under $100 million. Life Sciences posted its own record year, exceeding $250 million in operating profit for the first time, reflecting strong operating margins.

Total company EBIT margins expanded by 10 basis points to 23.3% for fiscal 2026, despite incremental tariff costs of approximately $46 million, which trimmed our margin by 80 basis points. Lower interest contributed to our double-digit growth in adjusted earnings at $10.17 per diluted share. We also stayed true to our capital deployment priorities this year. We increased the quarterly dividend $0.06 to $0.63, our 20th year of dividend growth. We invested in ourselves, in particular, in AST expansions projects for X-ray globally.

In addition, we completed 2 tuck-in acquisitions that add to our Healthcare portfolio globally. And last but not least, we used $225 million for share buybacks. As you saw in our press release, the Board has approved a new $1 billion buyback authorization. Going forward, we expect to utilize excess cash to consistently buy back shares in the range of $200 million to $300 million per year.

Turning to our outlook for fiscal 2027. As noted in the press release, we anticipate as reported revenue to grow 7% to 8% in fiscal 2027. Changes in foreign currency are expected to be slightly favorable to STERIS. Tuck-in acquisitions in Healthcare are contributing inorganic revenue to our as reported outlook for the segment and total company.

There are 2 acquisitions driving this contribution. In the fourth quarter, we vertically integrated our supplier for MEDglas walls, extending our reach from the U.S. to global. In addition, early in the first quarter, we acquired a family of GI products that expanded our offering and improved our channel. These 2 acquisitions are expected to contribute combined revenues of approximately $45 million to fiscal 2027.

As a result, constant currency organic revenue growth is expected to be 6% to 7% for the total company. This outlook assumes approximately 200 basis points of price. From a segment perspective, we anticipate Healthcare and Life Sciences to grow 6% to 7% constant currency organic and AST to grow 7% to 8%. We are taking a more conservative approach on our outlook to AST to start the year. Our med-tech customers continue to manage inventory levels carefully, and we are heading into the new year with some difficult comparisons in the first half, leaving us cautious.

For fiscal 2027, EBIT margins are anticipated to expand approximately 50 basis points at the high end of our outlook. This assumes tariff spending is flat year-over-year and the benefit of a tailwind from our incentive compensation program. We will be making select investments in FY '27, driving incremental operating expenses, including kicking off a multiyear project to support our service workflows with upgraded technologies utilizing AI to improve quality, increase productivity and enhance the customer experience within both the Healthcare and Life Sciences segments.

Our fiscal 2027 earnings per share outlook is $11.10 to $11.30, growth of 9% to 11% over fiscal 2026. In fiscal 2027, free cash flow is expected to be $850 million and CapEx of $375 million. Underlying our free cash flow expectations, we expect that net working capital will grow in line with volumes. We will also use about $50 million for additional incentive compensation payments due in June and the remainder of our EtO settlement payments over the year. From a capital perspective, our capital spending priorities are shifting a bit as we are nearly done with our multiyear X-ray expansion in AST.

In fiscal 2027, we will build a new sterility assurance manufacturing plant in Mentor, Ohio, which will ultimately allow us to consolidate existing U.S. production into one new state-of-the-art manufacturing center of excellence to serve our Healthcare and Life Sciences customers. We will invest about $60 million over 2 years and expect that plant to be operational by the end of calendar 2027. Fiscal 2026 was a banner year in many ways for STERIS.

Looking back at the last 5 years, our performance has really been remarkable. We delivered average constant currency organic revenue growth of 9%, and our compounded annual growth rate for adjusted earnings was 11% during what was one of the more tumultuous 5 years in our history here. Equally important, our Healthcare organization has transformed from a products and services focus to a valued partner to Healthcare customers to help enable them to solve some of their most pressing operational challenges that they are facing.

We are committed to partnering with our customers to enable them to meet their procedural growth needs, improve the delivery of quality outcomes and improve standardization and optimization as they manage critical inventory from the OR to the SPD and back. Thank you to all of our associates for continuing to do what you do best, focus on our customers and strive to do better every single day. That concludes our prepared remarks for the call. Operator, would you please give the instructions so we can begin the Q&A.

[Operator Instructions] And the first question will be from Brett Fishbin from KeyBanc.

I just wanted to start off with one on the FY '27 earnings guidance. I think you mentioned that you're thinking about operating margin expansion of approximately 50 bps at the high end of the range. I was just curious if you could walk through like some of the moving pieces. I think there are some questions around the impact of inflation and energy prices and then also what you're thinking around tariffs as compared to FY '26 as well as just the contribution from underlying performance.

All right. Thanks, Brett. We appreciate the question. I'll add a little bit of light to this and then Karen's going to pepper in a little bit more of a response on some of the details around tariffs, et cetera. I think there's a few things that we're going to work on really hard to maximize that 50 bps, and that's really going to be some operational improvements as well as a continued sell-through of our higher-margin consumables products that we'll see over the next fiscal year. The sort of upside in that is if we deliver a little better on the AST business, just given the margin profile there. And Karen, I'll hand it over to you to handle some of the tariff-related questions.

Great. Thank you. Yes. So the good news is in terms of tariffs, the recent changes are favorable to us and serve to offset the volume increase for next year. So in an odd twist, tariffs are an okay thing for us looking at '27. In terms of other -- opportunities, challenges, the bonus tailwind is about $20 million. And as we look at and have incorporated energy and particularly oil-driven costs, we have incorporated those. We have considered also how long this may last, looked at forward rates.

But the largest challenge and driver would be freight. We have opportunities to recover most of our freight out to customers through our freight recovery pricing. The day-to-day fuel associated with our fleet of service techs in the field is not significant. It's low single digits exposure. And when you look at our raw materials, we do have raw materials that are impacted by oil. That represents only about 20% of our COGS. And generally energy has certainly been meaningful, particularly to AST, but it is a small percentage of COGS in AST as well. So hopefully that helps you.

Yes. No, that's helpful. And then also just a question on guidance. I think you had some comments about the difficult comps in AST service to begin the year. So I just wanted to maybe ask more broadly how you're thinking about overall phasing for organic growth, whether you're calling for like a softer 1Q overall? Or if it was more specific to AST service given the comps?

Yes, really more specific to the AST comps. We started the year last year, first couple of quarters in double-digit growth in that business. And then saw a bit of slowdown in Q3 where we saw some inventory pullback from our customers. And then this past quarter got a little weird just with the snowstorms. We probably lost 150 to 200 basis points of growth there. So if you sort of stack all that up, I think one would expect a slower start in the first half and then significantly improving in Q3 and then pretty easy comps in Q4.

And the next question will come from Mike Matson from Needham & Company.

I guess just following up on the tariff question. What is your expectation for the USMCA renegotiation this year? And what have you assumed in your guidance with regard to that?

Yes, this is Karen. I will answer that. In terms of the USMCA review, a joint review is -- has a July 1 deadline. All 3 governments have emphasized the importance of continuity and avoiding disruption, but no real movement in those discussions yet. So we have not included any assumption for USMCA. We're assuming stagnant and that it will likely move into an annual continual review phase at least in the short term.

Okay. Understand. And then with the rollback or potential rollback of the ethylene oxide regulations under the new administration, what does that mean for STERIS? If anything, is there any sort of positive financial implications there?

Not really. I mean we're pretty much fully spent on upgrading our facilities, the NESHAP. Maybe there's some timing on compliance that's not as in the forefront in terms of something we have to do tomorrow versus something we can get done in the next 6 months. But there's no significant capital impact on us given where we are already with our facilities.

And the next question is from Dave Turkaly from Citizens.

You called out some tuck-in M&A in Healthcare, and then obviously $1 billion buyback. I was just wondering, should we be reading into that at all in terms of sizable transactions and/or maybe valuation in the sector?

Thanks, Dave. I would say no. I mean our M&A is erratic at times because it's when opportunities present themselves that have been worked on for a long period of time. We typically do small tuck-in M&A throughout the year. We're just calling these 2 out because they do have a material impact on the fiscal performance as we look next year of close to 100 basis points for Healthcare.

So in terms of the buyback, Karen shed some light on the tax that we pay as a result of moving money for doing distributions on dividends, but also for doing buybacks. That's been something that's been holding us back for a number of years, I would say. But the reality is that we understand going forward that doing some level of consistent buybacks is important for the health of our company.

Got it. And you called out the service in AST and the weather. So I was wondering that -- I know it's not a big component, but the capital component. I was wondering if you could just give us any color as to what was going on there in the fourth quarter.

On the AST side?

Yes.

Yes. I think that it's just lumpiness of that business. We sell $20 million, $30 million a year and sometimes that can be in 4 orders. And if you ship 2 of them in one quarter, one in another -- it's the way it spreads out, you can have a quarter with very little equipment sales but just equipment service parts and things like that. And then you could have the next quarter you could ship 2 machines and we're a hero, right? So you kind of have to look at it in the year in aggregate, I guess.

And the next question is from Mac Etoch from Stephens.

Maybe just to follow up on some of the AST questions, you called out some med-tech customers continue to manage inventory levels carefully. So can you just speak to what you saw in AST as the quarter progressed and particularly on the volume side?

Yes. So I mean, the organic volume was less than what we would've anticipated in the last 2 quarters. And like I said, Q4 is easy to understand because we had storms where we were shut down, our customers were shut down for a number of days in the Midwest and even the Southeast and the East Coast, right, which is where a lot of our big plants are. So that is what it is. They'll recover over time. The volume will come back, et cetera. But what we have seen and maybe it's post-tariff confidence in supply chains, maybe it's whatever, but we've seen some inventory reduction across the broader customer segment, right, in terms of med-tech.

And what we know is this. What we know is procedural rates are still consistently growing. So from a patient and provider perspective, the demand is still there. What we know is that when we see the revenue reports of our large public customers, that supports that growth as well. So we're seeing good top line sales from a lot of the large med-tech companies that show good growth over the last couple of quarters. And so if you sort of align those things with what we're running in terms of volumes, it points to a bit of an inventory pullback, which is the situation that we've seen over the last couple quarters.

Appreciate it. And then secondly, Healthcare and Life Sciences both had a pretty decent quarter from a capital equipment perspective. Backlog did decline sequentially. So I just kind of wanted to get your sense of how we should think about the progression for capital equipment revenue and backlog as it progresses through 2027.

I think a little bit on '26, we tend to ship a lot in Q4 and we tend to build a lot of capital and then we tend to push as much as we can just -- and it just seems to be the normal cyclical nature of the business. It's a lot better than it used to be. We used to have an extreme hockey stick here at STERIS, but it's somewhat mitigated now. So that's not abnormal for us to have a little bit of a drain on our backlog with a high shipment Q4. It's sort of norm for us here at STERIS.

In terms of the go-forward, our orders have remained solid. We're in a different position with the pressure that's being exerted on the health care systems in that we help enable them to get procedure volumes up and to run better quality and things that are important to them as they're looking for opportunities to generate more revenue and also save cost. So it's not -- it's -- I think we're in a pretty good position as we go forward with our large customers.

The next question is from Dave Windley from Jefferies.

I wanted to ask about the sterility assurance facility. I think you're suggesting that you're consolidating the number of facilities. I wondered how many or what operating efficiency you might expect to pick up when that is operational and kind of essentially the motivations for taking the step and consolidating into one facility.

Yes. Thank you, Dave. This is Dan. What -- yes, first off, we've got 3 different facilities, 2 of them happen to be here locally, and it just makes sense to consolidate. But the real driving issue here is this has been a really high-growth and high-margin business for us at STERIS and one that we've been really successful in picking up share in our Healthcare organization, in particular, as most every system now is at least dual sourced to STERIS. So we're pleased with the performance of the business.

In terms of the need to build the new facility, a, it's capacity driven; and b, there's a significant opportunity to put in what is a nearly fully automated manufacturing facility, really a center of excellence. So with that, over time, there will be some cost benefit on the savings. But more important than that, it's really supporting the long-term growth of a high-growth, high-margin business.

Got it. And then switching gears, I think I wanted to go back to your description on AST and the cadence that you were expecting for '27. I think you quantified for fourth quarter maybe STERIS lost 150 to 200 basis points because of weather. Are you expecting that to come back and is that coming back early in the year or more spread during the year? I was kind of juxtaposing the benefit of getting that pushed out volume into first quarter, but you talked about the comps being tough and how we should think about the balance of those 2 things.

Yes, we've thought about this a lot. It's really tough to quantify, to be honest with you, because it's not just the volume through our plants, but there's also a considerable amount of surgical procedures that were canceled or deferred. And I think some of the large public health care systems commented on that in their earnings release.

So I think over time, provided that those procedures are still required, which they should be, our customers, meaning the health care facilities, will provide those procedures. And hopefully that drives the demand upstream into the med-tech sector, where they'll be producing the products for set procedures.

And our next question is from Michael Polark from Wolfe Research.

A follow-up on the margin guidance for fiscal '27. 2-parter. On tariffs, Karen or Dan, can you just remind us in fiscal '26 what was the total tariff headwind and what's considered in '27? And does '27 embed any contribution from refunds? That's first part. And the second part is the bonus tailwind that was spiked out. I guess, I don't understand why that's being modeled. Was there overachievement in fiscal '26 and you're modeling normalization in fiscal '27?

Thanks, Mike. This is Karen. I can help you with these. In terms of tariffs, our incremental tariffs in '26 was $46 million, which puts us at a total tariff spend between $60 million and $65 million, and that's what we're modeling for '27. We are not including any refunds in our '27 guidance. We have not recorded anything. When it comes, we will recognize it. And we've taken that position because it is difficult to know how quickly this will actually happen. On the bonus, you are correct. We did have overachievement in fiscal '26, and we are modeling 100% achievement in fiscal '27 as we usually do. So that's the differential of $20 million that I mentioned.

Helpful and very clear. A follow-up, different topic. Dan, your quote in the press release, "Deliver quality outcomes and drive compliance with standardization and optimization." It just feels like something that I haven't heard you say before, and I'm just trying to understand, particularly around the compliance and -- the compliance comment. What are you telling us there?

Yes. So we've been working for a long time to really put our system together in the sterile processing department where we're helping our customers drive compliance, making it easier for them to have access to IFUs at the sink, making it harder to move process -- products down the line in the SPD without confirmation that you're in compliance, doing things that hopefully eliminate unnecessary steps for our customers. And then in addition to that, overlaying on top of that SPM, which is basically our ERP for the Sterile Processing Department to allow our customers to track and trace compliance and inventory through the Sterile Processing Departments.

[Operator Instructions] The next question is from Jason Bednar from Piper Sandler.

I want to start here, everyone, just maybe first on the larger buyback authorization. Definitely seems like a commitment -- greater commitment than anything you've done historically. The authorization is twice the size, I think, of your last one. I think your comment here of $200 million to $300 million is more than what you normally commit to. Just how should we think about executing against that authorization, considering how pressured your stock has been here of late? Would you be open to moving above that upper bound of $300 million if the stock remains under pressure? Just maybe the flexibility versus like hard commitment to the ranges you provided here.

Thanks, Jason. This is Karen. Yes, we are looking at and planning for a use of excess cash, and that's where the $200 million to $300 million is. You are correct. Historically, we would typically offset dilution. So about $100 million, maybe do a little more depending on cash position and opportunity and stock price. Because of the withholding tax, we believe a measured approach is the right answer. There's -- we have this incremental hurdle when we do buybacks to overcome. So when we model the withholding tax, the lost interest, potentially having to borrow to go bigger, it starts to not make sense. So that is our plan. And what we see when we do that is that we take the hit for that withholding tax in the period and we start to see the accretion as we execute consistently and don't continue to grow that withholding tax cost incrementally year-over-year.

Okay. That makes sense. Maybe one other one here just on -- Dan, this is probably for you. Just given what we're seeing across the supply chain landscape and inflationary pressure on certain categories and just reminded of what STERIS went through a few years ago in sourcing what I think you termed the golden screw. There's a lot of discussion out there from other equipment players on things like chips. Can you talk about what you're seeing on that front? Do you have supply visibility on chips and other critical components? And if you could, maybe, Karen, layer on what's assumed in your guide here with respect to supply and COGS inflation?

Yes. Thanks, Jason. What I would say is we're a vastly different organization today than we were a few years ago when we went through the golden screw diaries or whatever we want to call it. It was a miserable time for all of us. For one thing, we've significantly invested in our supply chain resources here at STERIS. We've also done a lot of work to mitigate single-source supply. We've identified basically any critical parts where we strategically hold excess inventory, which Karen doesn't love, I can assure you, but we do that where we need to.

And so I think we're in a pretty good position, not to say something can't possibly trip us up. But I think we're much more resilient today than we were when we had the exposures a few years back, and we feel pretty good about our position.

And to follow up with your question on inflation, we don't expect anything that's outsized in terms of labor, pretty routine. And in raw materials, as I mentioned, we have got metals, plastics, electronics, chemicals are our largest inputs in terms of raw materials. But again, they represent less than 20% of COGS. So we have assumed some upward pressure with the ultimate -- the oil impact on those types of materials, and we have assumed some upward pressure because of oil for freight and fuel costs.

But I think we've done a measured job, not too aggressive, not too conservative and taken outside views in terms of how long this may last and ultimately what that is. So it's in there. If this war goes on for a long time and oil stays high for the whole year, we may be a little short.

Okay. And just specific to chips or other components, just is there any other inflationary assumptions that you had, just assuming what we have here today extends through the year? Or you've built in some upward cushion if prices continue to rise?

Yes. Keep in mind, like chips, in particular, as bad as that was for us a few years ago, our overall spend is irrelevant as it relates to chips. They're just incredibly important to be able to make a machine but it's not like our cost components like we're making an automobile or something like that. There's hundreds of dollars of chips in a steam sterilizer, let's say, not $6,000 of chips.

And the next question is a follow-up question from Michael Polark from Wolfe Research.

I'm interested in the vibe check on your Life Sciences customers. Obviously, you had a kind of recovery year in fiscal '26 from a growth perspective, guiding to something similar in fiscal '27. That constituency seems to be coming out of an extended COVID boom-bust cycle. There's enthusiasm around reshoring. Are you feeling that? Is there a world where Life Sciences has kind of, say, better-than-average growth over the next couple of years?

Yes. Thanks, Mike. It's Dan. I've been doing this a long time and Life Sciences kind of does the cycle in general or pharma does a cycle about every 7 years or so. So this one just happens to be post pandemic related, but it's not new. Yes, we're optimistic. The buying patterns are back on the capital side, clearly saw that in this year's number. Our service business lagged a little bit this year, but some of that is parts and some of that's a hangover of having a lousy capital year the year before and still having a lot of equipment on warranty. As that comes off, that should improve with this year's past deliveries but take some time.

But the real star in that business is our consumables, growing 8%, high-margin business, really continues to deliver for us. It's critically important for the performance of the sector -- of our segment rather. But generally speaking, with the reshoring and some of the builds we're seeing on the East Coast and the Carolinas, there's a lot of good stuff going on in Life Sciences right now. What's not great is it's all big pharma right now that's doing well. What's not great is the lack of investment in some of the smaller stuff. But that's really not our sweet spot anyways, and we feel like we're in a pretty good position to help those customers that are establishing new operations here as they're reshoring.

If I can do one more. I appreciate the comments on the small tuck-in deals in Healthcare. Obviously $45 million, heard it loud and clear, it's small. But on the MEDglas, is that a margin benefit in addition to a revenue opportunity worth calling out? And then on GI consumables, would you be willing to frame like what just for a better sense of what you're adding there?

Yes. Sure, Mike. On the MEDglas, no, it's not really -- it's going to be accretive to margins. It's a relatively low-margin product, but it's really important. And what it is, it's basically a very visually appealing glass that can be used in the walls of ORs as well as Sterile Processing Department that lends itself to easy cleaning and you can even put graphics in there in such a way that it makes dark spaces really bright. And it's been very popular as we sell OR rooms and as we build out SPDs. So that's what that is. And keep in mind, that was a vertical deal basically where we bought our supplier that we're distributing for.

In terms of the GI products, these are basic products. A lot of them have crossover with our STERIS Endoscopy. Some -- there's some small capital equipment in the portfolio that's beneficial. But really what we got is 20 or 25 sales reps that are established in the U.S., inventory that we can go out and chase more business from a GI products or device product standpoint.

Ladies and gentlemen, this now concludes our question-and-answer session. I would like to turn the conference back to Julie Winter for any closing remarks.

Thank you all for taking the time to join us this morning to learn more about our performance on the quarter and our outlook for the year. We look forward to seeing many of you on the road this summer.

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

Good day, and welcome to the STERIS plc Third Quarter 2026 Conference Call. [Operator Instructions] Please note this event is being recorded.

I would now like to turn the conference over to Ms. Julie Winter, Vice President of Investor Relations. Please go ahead, ma'am.

Thank you, Chuck, and good morning, everyone. Speaking on today's call will be Karen Burton, our Senior Vice President and CFO; and Dan Carestio, our President and CEO. And I do have a few words of caution before we open for comments.

This webcast contains time-sensitive information that is accurate only as of today. Any redistribution, retransmission or rebroadcast of this call without the expressed written consent of STERIS is strictly prohibited.

Some of the statements made during this review are or may be considered forward-looking statements. Many important factors could cause actual results to differ materially from those in the forward-looking statements. including, without limitation, those risk factors described in STERIS' securities filings. The company does not undertake to update or revise any forward-looking statements as a result of new information or future events or developments.

STERIS' SEC filings are available through the company and on our website. In addition, on today's call, non-GAAP financial measures, including adjusted earnings per diluted share, adjusted operating income, constant currency organic revenue growth and free cash flow will be used. Additional information regarding these measures, including definitions, is available in our press release as well as reconciliations between GAAP and non-GAAP financial measures.

Non-GAAP financial measures are presented during this call with the intent of providing greater transparency to supplemental financial information used by management and the Board of Directors in their financial analysis and operational decision-making.

With those cautions, I will hand the call over to Karen.

Thank you, Julie, and good morning, everyone. It is my pleasure to be with you this morning to review the highlights of our third quarter performance from continuing operations. For the third quarter, total as-reported revenue grew 9%. Constant currency organic revenue grew 8% in the quarter, driven by volume as well as 200 basis points of price. Gross margin for the quarter declined 70 basis points compared with the prior year to 43.9%. Positive price and productivity, primarily driven by volume were more than offset by increased tariffs and inflation. EBIT margin decreased 40 basis points to 22.9% of revenue compared with last year, mainly driven by the decline in gross margin, which was somewhat mitigated by operating expense discipline.

The adjusted effective tax rate in the quarter was 24.2%, a small decline from 24.5% in the third quarter of last year. The year-over-year decrease was driven primarily by changes in geographic mix. Adjusted net income from continuing operations in the quarter was $249.4 million. Earnings per diluted share from continuing operations were $2.53, a 9% increase over the prior year.

Capital expenditures for the first 9 months of fiscal 2026 totaled $278.8 million, and depreciation and amortization totaled $363.1 million. We ended the quarter with $1.9 billion in total debt. Gross debt to EBITDA at quarter end was approximately 1.2x.

Free cash flow for the first 9 months of fiscal 2026 was $737.6 million, with year-over-year improvement, driven primarily by an increase in earnings and lower capital spending.

With that, I will now turn the call over to Dan for his remarks.

Thanks, Karen, and good morning, everyone. Thank you for joining us to hear more about our third quarter performance. Karen covered the quarter at a high level, so I will add some commentary on our segments.

Starting with Healthcare. Constant currency organic revenue grew 8% for the third quarter with growth across all categories. Service continued its streak of outperformance, growing 11% in the third quarter. Consumables also performed well with growth of 8%. Healthcare capital equipment revenue increased 7% for the quarter with backlog remaining over $400 million.

Orders were down 1% year-to-date against difficult comparisons to last year. EBIT margins for Healthcare in the quarter decreased 100 basis points to 24.3% as volume, pricing and restructuring program benefits were more than offset by increased tariffs and inflation.

Turning to AST. Constant currency organic revenue grew 8% for the quarter with 9% growth in services and 103% growth in capital equipment revenue. Services benefited from stable medical device volumes, bioprocessing demand and currency. EBIT margins for AST were 45.1%, up 30 basis points from the third quarter of last year as the additional pricing and volume were more than able to offset increases in labor and energy and the unfavorable mix impact from strong capital growth. Constant currency organic revenue increased 5% for Life Sciences in the quarter driven by 11% growth in consumables. Capital equipment also performed well with 7% growth in backlog holding over $100 million.

Margins declined 20 basis points as volume and price were more than offset by tariffs and inflation. From an earnings perspective, we grew the bottom line 9% in the quarter to $2.53 per diluted share. Included in that number is approximately $16 million of pretax tariff impact, which primarily impacted our Healthcare segment.

Turning to our outlook for fiscal 2026. As noted in the press release, we are maintaining our outlook for the year. This includes approximately 8% to 9% as-reported revenue growth and constant currency organic revenue growth of 7% to 8%. Our earnings outlook of $10.15 to $10.30 is also being maintained, although with $10 million more in anticipated tariffs, the higher end of that range is less likely.

Free cash flow is expected to be $850 million, and CapEx remains unchanged at $375 million. We are pleased with our performance year-to-date, delivering constant currency organic revenue growth of high single digits and double digits earnings per share despite the tariff headwinds. That concludes our prepared remarks for the call.

Chuck, would you please give the instructions and we can begin the Q&A.

[Operator Instructions] And our first question for today will come from Brett Fishbin with KeyBanc.

Just was hoping maybe at a high level, company-wide, you could just touch on how you're thinking about fourth quarter constant currency growth, just thinking about, you're kind of tracking a little bit above the high end of the 7% to 8% FY '26 range and maintain 7% to 8% for the year. So just kind of wondering if there's any incremental concerns or temporary items impacting 4Q, or maybe if it sets up as we should be thinking about the higher end or potential upside?

As we look at the fourth quarter, and as we said last quarter, we do have a bit of a slowdown in the second half. So -- and that would be my caution on getting too excited about the fourth quarter. So that is why we're holding that 7% to 8% constant currency. Last year's fourth quarter was a solid quarter. So it's a tough comparison as well, particularly in AST, where we had a really strong capital equipment fourth quarter, which is not expected this year.

Brett, this is Julie. Just to add on Healthcare, too. We've been saying all year, we don't expect Healthcare services to stay in the teens. We slowed a little bit to 11%. In the third quarter, we would expect continued slowing in that business in the fourth quarter.

All right. Perfect. And then maybe just one more for me. I was just interested to hear maybe a little bit more about what you're seeing around capital equipment backlog activity in both segments. I think the Healthcare backlog is showing stability kind of in that -- in the same range it's been in the last couple of quarters, but seeing some pretty strong growth out of the Life Sciences backlog. So just any thoughts on kind of what's going on there would be appreciated.

Yes, Brett, this is Dan. The Life Science one is easy because that's just a recovery comparison to where we were a little over a year ago when pharma wasn't spending as much. And we started booking strong orders Q3 last year, and that's continued, and it continues today and as those continue to flush out, we're just in a much better spot from a macro perspective than we were a little over a year ago. So that's positive.

On the Healthcare side, we've had strong orders all year. I mean, we're down 1% versus prior year, which was a blowout year in terms of order intake. So we have not felt any meaningful slowdown as it relates to capital spending. And I go back to what I've said many times is a lot of times, our products are treated almost the utility. They're needed for capacity. They're essential in the hospital. And if the procedures continue to grow at some nominal rate or location changes that capacity has to be put in place as it relates to sterilization disinfection, et cetera. So we've been fairly resilient, whereas I know maybe some others have seen some capital slowdown.

The next question will come from Mac Etoch with Stephens.

Maybe just a follow-up on Brett's capital equipment question, Life Sciences. I'd just like to know how you would characterize the current conditions in that end market and how conversations with customers are evolving around U.S. onshoring and capacity expansions?

I'd say, in general, Mac, any time there's a juxtaposition of manufacturing locations, as we tend to benefit on the capital side of things because they're putting in new capacity. Clearly, there's been some pretty big announcements in the last few months in North Carolina and Pennsylvania and other states, that have got commitments to build large new processing capacity. And fortunately for us, a lot of that capacity is aseptic manufacturing type products, which tends to be our sweet spot.

So it's definitely a positive macro for us right now. I think the more important thing is that despite some of the pricing pressures in pharma and some of the regulatory changes that may be coming there, nonetheless, they seem to be in a much better spot than they were 1.5 years ago, when there was some confusion. So all in all, it's been a positive for us.

Appreciate that. And then obviously, the $10 million increase in tariff-related costs that popped up on the press release, I'd just like to potentially get an update on your mitigation efforts and get your sense of how you will be able to maybe offset a majority of these costs in FY '27, if that's possible.

Sure. Yes, there's a wide variety of mitigation efforts going on, and we are optimistic about our ability to continue to absorb those as we go forward and fully as we move forward. They range from shifting product movement, supplier negotiations, alternative suppliers, honestly, the hardest work and the biggest part is looking for other cost reductions and ability to offset those costs with productivity improvements efficiencies in our facilities and across the offices back office as well.

Mac, this is Julie. Just to add on the third quarter and the $10 million for the year is mainly driven by metals, and we see an uptick in metals with the more capital equipment sales. So the mix shift to capital has a direct impact on the tariff exposure for this year.

The next question will come from Michael Polark with Wolfe Research.

I'll stay on tariffs and then I want to shift to AST. So just on tariffs, can you remind the $55 million that's now in the guidance? Is that 6 months just December and March? Or was there an impact in the September quarter as well? And I asked just because I'm trying to understand like what -- how much we'll need to annualize it?

We were $16 million in the third quarter, Mike, and we would expect that to step up a little bit in the fourth. The $55 million is an annual run rate for fiscal '26, and we have been incurring tariffs every quarter.

It seems that Mr. Polark has disconnected. Our next question will come from Patrick Wood with Morgan Stanley.

Two kind of both on the like macro and regulatory side. CMS had 2 different proposals. There was obviously the PPE sort of onshoring and some of the API stuff on the drug side. Curious if you think that would have any effect as supply chain shifts and if that could affect you guys in a positive way. And then the other 1 was like another CMS proposal, they're obviously getting rid of for a lot of surgeries, the inpatient-only list. They did that obviously for musculoskeletal, but they're doing it for some of the soft tissue surgeries and things. Is there a chance that, that pulls more procedures into the ASC? And do you view that ASC shift as a good thing or a bad thing for you guys?

Yes. Sure, Patrick. This is Dan. Nice to hear from you. I would say that the ASC shift has generally been a positive for us. There's new capacity demands. There's also a higher degree of clinical support that those facilities need than maybe large acute care facilities in terms of sterilization disinfection, and that's something that STERIS is uniquely positioned to provide, and we've been able to do that quite well. In terms of the PPE shift, I have not yet seen any material commitments of major manufacturing moving to U.S. at this point that would have an impact on -- I mean, that would largely be an ASC play, right, in terms of PPE that needs that sterile drape and gown type stuff. But I've read about it, but I haven't seen any impact from it at this point. And in terms of your question on the API relocation, I have not seen an impact on that yet either.

Right. That's helpful. And then just very quickly as a follow-up. We had chatted before about potentially, I don't know, it's hard for what you can and can't say, but a bit more of the commercial push in EMEA across some of your product lines on the sterilization side. Is that still something a more integrated model and competing a little bit more aggressively in EMEA, is that still something that's on the cards?

Absolutely. Yes. That's something we're committed to. We've made a lot of structural changes in EMEA in terms of how we're going to approach go-to-market. It's going to take a while to get that fully formulated and executed. It's a long process, but we're confident in the direction that we're heading.

Your next question will come from Mike Matson with Needham & Company.

So I wanted to follow up on Mike Polark's question on the tariff exposure in '26. I think maybe what he was trying to get at was like, what's the incremental exposure in '27. I know you probably can't give us a dollar amount, you're not giving guidance, but if you've been paying tariffs for basically all 4 quarters of '26, does that imply that kind of any incremental tariff impact in '27 will be small, less than a quarter worth effectively or...

I think that's a logical approach. Obviously, the tariffs did fluctuate during the year, especially in the first half of our year as rates settled in. And we're seeing it come through and reflected in the different mix. But I don't -- I think it's reasonable to say that it wouldn't be more than another quarter's worth kind of level. Based on current risk...

Yes, I understand.

What's in place right now.

Yes. Okay. And then just your leverage ratio is at just over 1x. It's been -- I think it's been a few years since you've done any acquisition. So -- it used to be a pretty big part of the STERIS story. So maybe why haven't you been doing more deals? And what's the outlook? Do you have a pipeline of things that you're looking at? And can we expect to see more in the next few years?

Well, we've been active on smaller sort of bolt-on product acquisitions and some channel acquisitions over the last couple of years. Doing major transformative M&A is not easy. It's something that we feel we're good at, and we have the muscle for, and we're good at integration, but we also have a very disciplined approach at what meets our financial criteria and where we add value from a customer perspective. So we're looking. But at this point, we've kissed a lot of frogs and not a lot of them have turned out to be princess.

Your next question will come from Jason Bednar with Piper Sandler.

I got to follow the frog just some comment here. I'm going to start with cash flow guidance here. You left that unchanged, but look, based on where you're at for the first 9 months, that target, it just looks like layup. So I guess, why not bump that higher? I get not changing revenue, I get not changing the EPS guide. But are there any cash flow fluctuations you're anticipating at year-end that would keep you from clearing that guidance bar?

Jason, yes, I think it's you're right. We are very confident with that guidance. A lot of times in the fourth quarter, timing really matters. So we've got a heavy capital quarter. Some of those, that activity will shift into next year in terms of cash collections. So it's a little bit harder to predict in the fourth quarter, especially since it is winter and weather can play a part. So a little bit of conservatism there.

Okay. All right. Fair enough. And then for a follow-up, I did want to peek a little bit ahead to fiscal '27. So look, you're sitting on a healthy backlog that's no secret. The ASP momentum is obvious for you and the broader market. The Street is only modeling 6% growth for next year. Is there a reason you wouldn't be able to maintain your typical 7-Eleven growth algorithm beyond fiscal '26? I know a lot have asked about -- here today about tariffs being kind of the impact on tariffs in fiscal '27. But any other considerations we should have in mind, whether it's top line or margin related?

I mean, obviously, we're in the throes of our planning period right now. But I would say in a general sense, the macros don't look negative to us right now. It would -- and obviously, next quarter, we're going to give you guys some solid guidance of where we think we're going to land in fiscal '27. But at this point, I don't see a lot of downside or anything materially changes in the market today.

And the next question is a follow-up from Michael Polark with Wolfe.

Can you hear me?

Yes.

Yes, no.

I'm so sorry, what happened earlier. I don't know, it just dropped, and it took me a bit to get back to. So my follow-up -- my follow-up was going to be on AST services, if somebody asked us and you answered it, I missed it. But just in the quarter, on constant FX, AST services line up 6%. The prior 2 quarters was up 10% constant FX if that makes some assumptions on the math. So can we just get a little extra color on kind of how you've seen the fiscal year play out in AST, why the December quarter might have been a little bit below the prior 2? And what's a good way to think about constant FX AST services growth in this current March quarter?

Sure. Yes. What I would say is, Mike, we kind of had a strange start to the quarter. We don't get in to talk about months sequentially, but October was really weak, and then it got better in November, and then we had a really strong December. So -- and there's nothing I can point to. There wasn't anything uniquely geographic. There wasn't any customer subsegment that we look at that was off. It was just a general softness in the volumes that we're seeing across the global network. That seemed to have had red itself by December.

If I can just follow up there and then I'll cede. Any for several quarters now, we've been asking about just the tariff impact, customers changing order flows as part of their tariff mitigation. Any fresh view as to whether that could explain some of this kind of quarter-to-quarter-to-quarter movement?

There was speculation, and this is somewhat anecdotal, but we have heard from some customers, they built ahead of tariffs a bit and got product into different locations. I can't say definitively that it was a material impact on the volumes and maybe that's why there was some slight inventory adjustment that we saw in the fall. But we haven't seen any movements that have impacted us negatively because we're well positioned all around the globe to work with our customers for sterilization.

This concludes our question-and-answer session. I would like to turn the conference back over to Ms. Julie Winter for any closing remarks. Please go ahead.

Thank you, everyone, for taking the time to join us this morning to hear more about our performance in the quarter, and we look forward to seeing many of you on the road in March.

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

Hello, and thank you for standing by. My name is Bella, and I will be your conference operator today. At this time, I would like to welcome everyone to STERIS plc 2Q Fiscal 2026 Earnings Conference Call. [Operator Instructions]

I would now like to turn the conference over to Julie Winter, Vice President of Investor Relations. You may begin.

Thank you, Bella, and good morning, everyone. Speaking on today's call this morning will be Karen Burton, Senior Vice President and CFO; and Dan Carestio, our President and CEO, and we do have a few words of caution before we open for comments.

This webcast contains time-sensitive information that is accurate only as of today. Any redistribution, retransmission or rebroadcast of this call without the express written consent of STERIS is strictly prohibited. Some of the statements made during this review are or may be considered forward-looking statements. Many important factors could cause actual results to differ materially from those in the forward-looking statements, including, without limitation, those risk factors described in STERIS' securities filings. The company does not undertake to update or revise any forward-looking statements as a result of new information or future events or developments. STERIS' SEC filings are available to the company and on our website.

In addition, on today's call, non-GAAP financial measures, including adjusted earnings per diluted share, adjusted operating income, constant currency organic revenue growth and free cash flow will be used. Additional information regarding these measures, including definitions, is available in our press release as well as reconciliations between GAAP and non-GAAP financial measures. Non-GAAP financial measures are presented during this call with the intent of providing greater transparency to supplemental financial information used by management and the Board of Directors in their financial analysis and operational decision-making.

With those cautions, I will hand the call over to Karen.

Thank you, Julie, and good morning, everyone. It is my pleasure to be with you this morning to review the highlights of our second quarter performance from continuing operations. For the second quarter, total as reported revenue grew 10%. Constant currency organic revenue grew 9% in the quarter, driven by volume as well as 210 basis points of price. Gross margin for the quarter increased 60 basis points compared with the prior year to 44.3%. Positive price and productivity, primarily driven by volume more than offset increased inflation and tariff costs.

EBIT margin increased 90 basis points to 23.1% of revenue compared with the second quarter last year, mainly driven by operating expense leverage. The adjusted effective tax rate in the quarter was 24.5%. The year-over-year increase was driven primarily by changes in discrete item adjustments and geographic mix.

Net income from continuing operations in the quarter was $244.5 million. Adjusted earnings per diluted share from continuing operations were $2.47, a 15% increase over the prior year. Capital expenditures for the first half of fiscal 2026 totaled $180.1 million and depreciation and amortization totaled $241.1 million. We ended the quarter with $1.9 billion in total debt. Gross to EBITDA at quarter end was approximately 1.2x. Free cash flow for the first half of fiscal 2026 was $527.7 million, a very strong start to the year, driven by the increase in earnings and improvements in working capital.

With that, I will now turn the call over to Dan for his remarks.

Thanks, Karen, and good morning, everyone. Thank you for joining us to hear more about our second quarter and our increased outlook.

Karen [ reported ] the quarter at a high level, so I will add some commentary on the segments. Starting with health care. Constant currency organic revenue grew 9% in the second quarter, with growth across all categories. Service continued its streak of outperformance, growing 13% in the second quarter. Consumables also performed well with growth of 10%.

Healthcare capital equipment revenue increased 4% in the quarter with backlog of over $400 million. Orders were up 3% year-to-date and down slightly in the second quarter. EBIT margins for health care in the quarter increased 100 basis points to 25.1%, with volume, pricing, positive productivity and restructuring program benefits offsetting tariffs and inflation.

Turning to AST. Constant currency organic revenue grew 7% for the quarter with 13% growth in services, offset by anticipated declines in capital equipment revenue. Services benefited from stable medical device volumes, bioprocessing demand and currency. EBIT margins for AST were 45.3%, up 250 basis points from second quarter last year as additional volume, pricing and less capital equipment in the mix were able to more than offset increases in labor and energy.

Constant currency organic revenue increased 12% for Life Sciences in the quarter driven by a return of capital equipment shipments with growth of 39%. Service revenues grew 9% and consumables increased 7%. Capital equipment backlog was up over 50% to $114 million. Margins declined 70 basis points as volume and price were more than offset by tariffs and inflation.

From an earnings perspective, we grew the bottom line 15% in the quarter to $2.47 per diluted share. Included in that number is approximately $12 million of pretax tariff impact, which primarily impacted our Healthcare segment.

Turning to our outlook for fiscal 2026. As noted in the press release, based on our first half outperformance and expectations for the balance of the year, we are increasing most elements of our outlook. We now anticipate approximately 8% to 9% as reported revenue growth, which reflects about 100 basis points of favorable currency, a significantly lower impact than we anticipated last quarter. Making up for the shift in currency impact, constant currency organic revenue growth is now expected to be 7% to 8%, an increase of 100 basis points from our prior outlook. This improvement was driven by our first half outperformance. We now expect all 3 segments to grow 7% to 8% on a constant currency organic basis for the year.

For AST, we now expect services to grow 9% to 10%, which will be offset by anticipated declines in capital equipment, particularly versus the tough comparisons in the fourth quarter.

We are also increasing our earnings outlook with a new range of $10.15 to $10.30. For your modeling purposes, we now expect EBIT margins to improve 10 to 20 basis points in fiscal 2026. This will be partially offset by a 50 basis point increase in our anticipated effective tax rate of approximately 24%.

We are also increasing our outlook for free cash flow by $30 million to $850 million for fiscal 2026. CapEx remains unchanged at about $375 million. We are pleased with our strong start to the year, and we are confident in our ability to meet these revised expectations.

That concludes our prepared remarks for the call. Julie, would you please give the instructions so that we can begin the Q&A.

Thank you, Karen and Dan, for your comment. Bella, can you please give the instructions for Q&A and we can get started.

[Operator Instructions] Your first question comes from the line of Brett Fishbin with KeyBanc Capital Markets.

Just wanted to start on AST. I was curious if you guys could comment a little bit on what drove the second consecutive quarter of double-digit growth in services. And then just how you're thinking about sustainability of trends in that area going forward.

Yes. Thanks, Brett. This is Dan. I think it's more of the same. We continue to see pretty stable volume from our medtech customers. We continue to see recovery in bioprocessing, which was a negative drain on us for some quarters a year or so ago. And in addition to that, we've had a number of expansions going to place over the last 4 years. And that investment is facilitating our growth. So we're very confident in the 9% to 10% outlook that we have going forward.

There's still a little noise out there. We have seen some juxtaposition of customer volume in terms of manufacturing location, but not in a real meaningful way. So we feel pretty good about our global footprint and how that facilitates those needs.

All right. Perfect. And then just one more for me. I think in the press release, you mentioned that operating margins took a step up despite several headwinds. I think you mentioned tariffs and inflation on the call today. Maybe if you could just touch on any other items that you might have been referring to? And then how much of an offset you're kind of viewing those collective headwinds against the underlying margin expansion?

So as you noted, we are referring to tariffs and inflation, both labor and material.

Okay. Sorry. Is there like any way to maybe approximate like how much those headwinds represented as an offset in the quarter to margins?

The -- yes, tariffs in the quarter were 90 basis points and material inflation was -- material and labor inflation was about 130 basis points across the company.

Your next question comes from the line of Patrick Wood with Morgan Stanley.

Beautiful. Two quick ones. I guess, the first one, health care on the service side. also was very strong. What are you seeing there? Could you unpack that a little bit for us?

Yes. I mean a couple of things. Our service business in health care is obviously our traditional rents turning service on our equipment and install work that we do that goes along with our capital. But there's a much larger component of that goes into our IMS repair business and then processing of instruments where we operate as a service. So volumes are strong. We've been doing very well for the last, I don't know, 5, 6 quarters, I would say, with double-digit growth.

Some of that, we have said all along is that's an area of the business that we're able to get price, and we have been able to get price because of the justification of significant labor increases that were going on for a number of years. And -- but as that has normalized, those things, you're going to see -- I believe what we're going to see is a bit of a slowdown from 12%, 13% to something less than that, but we are also going to see a coinciding slowdown in labor cost. So it's -- it should not affect the overall margin, but will slow down the top line a bit.

I got you. That makes sense. I guess one more, which is basically like on the modality side like X-ray, could you give us a sense of how that's contributed to growth is obviously an exciting modality?

Yes, we're very excited about it. We don't break out the technologies just -- it will become just a math exercise that we'd have to keep up with, that's not worth pursuing. We look at radiation as one technology and doses dose. And we use gamma and we use [indiscernible] we use x-ray. And although we're incredibly excited about X-ray, and that's a lot of the expansion capacity that we've built out. It's just one tool in our bag.

Your next question comes from the line of Jason Bednar with Piper Sandler.

Congrats another strong quarter here. I heard you on the updated outlook for the segment and I appreciate the breakout of the service growth in AST. Wondering if you're willing to give maybe a similar perspective on the outlook for some of those health care subsegments. Dan, I just heard you on service there, maybe detailing a little bit as maybe price comes off. But what about like consumables versus equipment? Any way to give a little bit of color there, rack and stack, help service top, consumables next equipment, bottom kind of the growth. Anything there would be great.

Yes. I mean we would -- I mean you can do the basic analysis, and we consider our consumable business to grow on sort of the share we've gained in the history and procedure rate, right? And so I would expect that trend of good performance to continue. On capital, we're sitting on a huge backlog number right now, over $400 million in health care and capital. And our order rate remains strong. That comes down to really timing of shipments.

We feel pretty good about the next 2 quarters, although we've got some tough comps in health care capital. So it's hard to say specifically what we're confident is that we're in a good position. But if you have to put a gun to my head, I would say service is probably going to be near the top, consumable second. And capital is going to grow, it's going to do fine, and it's kind of a bit of a wildcard in terms of timing.

Okay. That's very helpful. And then, Karen, you're already at $530 million in free cash flow this year. Really impressive so far, but you typically generate far more free cash in the second half of your fiscal years. So is this just an abnormal year when I look at the -- your updated guidance, I like the raise, but is this just an abnormal year where you get more cash generation in the front end of the year and you've maybe had some things shift out of second half or pulled forward from second half into first half? Or is the guidance just really conservative here for the full year?

So I would say that we have seen stronger first half cash flow than is typical. The pulling the earnings a little bit forward into the first half is a contributor. We've also had some meaningful improvements in working capital, faster collections on those late fiscal '25 shipments. So I think the answer is all of the above. As you mentioned, it stronger earnings earlier in the year, improvements in working capital earlier in the year and a little bit of cautiousness.

Your next question comes from the line of Mike Matson with Needham.

So just in terms of the health care business, I mean, I know you kind of broke it out into the capital service and consumables. But -- just wondering if you could give us any more detail around geographies, types of customers, hospitals versus product lines, et cetera, that are driving the growth there? Is it pretty strong across the board? Are there any areas of those things where you would call out you're seeing particular strength?

Not really. I mean, we're seeing pretty good strength across the globe in terms of geographic and there still seems to be a lot of procedures going on and particularly strong in the U.S. more so than other places, but we're starting to see recovery in other places as well. So no, there's nothing I would call out specifically.

Okay. And then for AST, can you just give us an update on your capacity there? And are you currently capacity constrained? And if so, how fast can you address this? I think you've said earlier in this call that you are expanding capacity there.

Yes. It's a long process to expand capacity. In AST, from the time we decided to build a plant at the time its operational, it can be 2 to 3 years. So we have a number of expansions that have been completed. We have a number that are in process, and we have a number that are planned out into the future. And we've been pretty steadily bringing new capacity into the market now for the last 8 years. So we're in a good position in most geographies, if not all geographies in the world right now in terms of where we've added capacity to facilitate plants that are nearing their limit of capacity.

Your last question comes from the line of Michael Polark with Wolfe Research.

I will say I forget what the record is for prepared remarks, but 9 minutes was pretty good again. So kudos. I got two big picture ones. Life Sciences, some growth mojo back, 12% in the quarter. Obviously, the comps are easy and capital equipment is a big off of a low base. But nevertheless, my question is thematic this notion of reshoring hearing about a little bit, Pharma's biotechs bringing their manufacturing partners, bringing manufacturing back towards the U.S.? What do you think on this? Do you see any evidence that it's helpful so far here anecdote that it could be helpful for you? What is the state of this theme for your exposure in this space?

Thanks, Michael. Yes, any -- in general, any time we see our large pharma customers moving or expanding capacity in manufacturing locations, whether that's new greenfields or whether that's existing sites, that generally bodes well for our capital equipment business. And there's probably more noise in there is substance to the amount of redistribution or construction firm at this point. But there is some. It is real. And I do believe we are getting maybe some benefit from that on the GMP side or the pharma side of our capital equipment.

It's also, like you said, it's -- we're comparing against some pretty significant troughs when there was nothing going on in pharma for almost 18 months in terms of that type of work.

The other one is in health care, and I've been asked this once or twice a year for good number of years running, but it's the topic of single-use scopes and obviously, this is a function of your Cantel exposure. Like what is the state of that trend today? Has it really not lived up to what was once believed to be high expectations or those products are getting some traction? It's just small and therefore, not all that significant. I know once upon a time, not long ago, you talked about launching your own single-use scope, maybe that's been a helpful offset. But what are you seeing there over the last year or 2? And what's on the horizon over the next year or 2?

Yes. I think what I would say and what we've been consistent in our messaging is that there is a place for single-use scopes, especially as it relates to small diameter scopes. So think of histoscopes, ureteroscopes, different nasogastric scopes, things like that, brachyscopes. But the bulk of the business we have at STERIS in terms of everything that we do has to do with the large diameter scopes that you would use for colonoscopies.

And the reason why it makes sense for the small diameter scopes is the cost -- the break frequency and the relative cost to fix them is pretty high versus when you look at large diameter scopes, they tend to be much more robust. They last a long time, they also cost a lot more upfront. So we've said all along, there's a place for certain aspects of disposable. And I think if you look a lot of the disposable scope manufacturers are highly focused on the small diameter scopes. And some of you even announced that they're not focusing at all on large diameter scopes for colonoscopy.

That concludes our Q&A session. I will now turn the call back over to Julie Winter for closing remarks.

Thank you, everyone, for taking the time to join us this morning to learn more about our performance in the quarter and our outlook for the year. We look forward to seeing many of you on the road later this.

Ladies and gentlemen, thank you all for joining, and you may now disconnect. Everyone, have a great day.