Charles River Laboratories International Inc (CRL) 2014 Q4 法說會逐字稿

Ladies and gentlemen, thank you for standing by and welcome to the Charles River Laboratories fourth-quarter 2014 earnings and 2015 guidance conference call.

At this time all participants are in a listen-only mode.

Later we will conduct a question-and-answer session.

Instructions will be given at that time.

(Operator Instructions).

As a reminder this conference is being recorded.

I would now like to turn the conference over to our host, Susan Hardy, Corporate Vice President of Investor Relations.

Please go ahead.

Thank you.

Good morning and welcome to Charles River Laboratories fourth-quarter 2014 earnings and 2015 guidance conference call and webcast.

This morning Jim Foster, Chairman, President and Chief Executive Officer, and Tom Ackerman, Executive Vice President and Chief Financial Officer, will comment on our fourth-quarter results and provide guidance for 2015.

Following the presentation, we will respond to questions.

There is a slide presentation associated with today's remarks which is posted on the investor relations section of our website at IR.criver.com.

A replay of this call will be available beginning at noon today and can be accessed by calling 800-475-6701.

The international access number is 320-365-3844.

The access code in either case is 350451.

The replay will be available through February 25.

You may also access an archived version of the webcast on our investor relations website.

I would like to remind you of our Safe Harbor.

Any remarks that we may make about future expectations, plans, and prospects for the Company constitute forward-looking statements for purposes of the Safe Harbor provisions under the Private Securities Litigation Reform Act of 1995.

Actual results may differ materially from those indicated by any forward-looking statements as a result of various important factors including but not limited to those discussed in our annual report on Form 10-K which was filed on February 25, 2014, as well as other filings we make with the Securities and Exchange Commission.

During this call we will be primarily discussing results from continuing operations and non-GAAP financial measures.

We believe that these non-GAAP financial measures help investors to gain a meaningful understanding of our core operating results and future prospects consistent with the manner in which management measures and forecasts the Company's performance.

The non-GAAP financial measures are not meant to be considered superior to or a substitute for results of operations prepared in accordance with GAAP.

In accordance with Regulation G you can find the comparable GAAP measures and reconciliations to those GAAP measures on the investor relations section of our website through the financial information link.

Jim, you can go ahead.

Good morning.

I am very pleased to say that 2014 was an exceptional year.

Our financial results demonstrate that we have worked very hard to achieve the strongest portfolio that we have ever had with the ability to support clients from target discovery through preclinical development, deep client relationships where we are a respected and trusted partner, a streamlined organization, the flexibility to respond to a changing industry and client requirements, and employees who are committed to providing exceptional service to our clients.

The highlights of our fourth-quarter performance are as follows.

We reported revenue of $329.5 million in the fourth quarter of 2014, a 16.8% increase over the previous year in constant dollars.

Our Early Discovery acquisitions contributed 9.3% to fourth-quarter revenue growth and from an organic perspective, Safety Assessment, EMD, North American Research Models and Avian Businesses were the primary contributors.

Sales to mid-tier biotechnology clients again generated a double-digit revenue increase.

We

achieved market share gains in all of our client segments but the effect of our targeted sales efforts was greatest in the mid-tier.

The operating margin increased 20 basis points year-over-year to 16.6%.

Both the DSA and Manufacturing segments reported significantly increased operating margins, 260 and 290 basis points respectively.

But the improvement was largely offset by higher corporate costs.

As was the case in the third-quarter, the improved financial performance drove higher incentive and stock-based compensation due primarily to performance stock units issued to management to align its interest with those of shareholders.

In addition, we invested in new projects to strengthen our financial and scientific systems.

When completed, these projects will enable us to operate more efficiently and provide enhanced data both internally and to clients.

Earnings per share were $0.81 in the fourth quarter, an increase of 11% from $0.73 in the fourth quarter of 2013.

The improvement was due primarily to higher revenue and operating income.

In 2014, revenue was approximately $1.3 billion, a growth rate of 11.3% in constant currency with acquisitions contributing 6.3%.

The organic growth rate of 5% was at the top end of our original guidance range of 3% to 5%.

The operating margin improved 30 basis points to 17.6% primarily the result of leverage from higher revenues and operating efficiency.

Earnings per share were $3.46, an 18.1% increase over the prior year and 11.6% above the upper end of our original guidance range.

A combination of higher revenue, the benefits of efficiency and productivity initiatives and a lower share count drove the year-over-year increase.

I will point out that 2014 EPS included $0.12 of gains from limited partnership investment compared to $0.08 in 2013.

Given our strong performance in 2014 and the fact that we believe the Company is very well positioned to win new business in 2015, we are optimistic about the opportunities the new year presents.

The potential for expanding strategic relationships, market share gains in each of our client segments, and a robust pipeline of acquisition candidates is an encouraging environment in which to operate and we look forward with anticipation to executing our plan in 2015.

Revenue in 2015 in which we include only acquisitions already made is expected to be in a range of 6% to 7.5% in constant dollars.

Non-GAAP EPS are expected to be in a range of $3.55 to $3.65.

This would represent an earnings increase of approximately 4% over last year at the midpoint.

But you should note when adjusting both 2014 and 2015 for gains on limited partnership investments and foreign exchange the EPS growth rate would be 10.5%.

Before I discuss the segment results, I would like to comment on our Early Discovery acquisition.

I can't overemphasize how important the acquisitions of Argenta, BioFocus and ChanTest are proving to be when our clients look for an early stage outsourcing partner.

We now have the ability to work with our clients from target discovery through clinical development, a product and service portfolio which is unique in the CRO industry and which solves many of the challenges out clients encounter when dealing with multiple providers.

In addition, we provide scientific expertise which enables our clients to rationalize their own internal capacity with the confidence that we can provide the expertise that they no longer can afford to maintain in-house.

Our scientists are solving some of the most complex challenges of identifying disease targets and the keys which will unlock therapies to treat and hopefully cure diseases.

In fact, in the last 15 years, our scientists at Argenta and BioFocus have identified and delivered 60 drug candidates to clients.

This is a record which few biopharmaceutical companies can claim and of which we are very proud.

The establishment of our Early Discovery franchise has completely changed the dialogue with our clients.

Because we work so closely with them, we have ongoing discussions with most of our large biopharmaceutical clients.

However, these discussions have taken on added dimensions as we talk about new working models to support their drug research efforts.

In 2015 we believe we will add new strategic relationships and expand existing ones as clients take advantage of our seamless, early stage research portfolio.

Integration of our Early Discovery acquisitions has proceeded on plan and all of the acquisitions are performing very well, either in line with or ahead of plan.

We are actively evaluating additional acquisitions to build our Early Discovery franchise as well as to add other capabilities which will enable us to enhance the support we can provide to our clients.

I would like to provide you with details on the fourth-quarter segment performance.

Beginning with the RMS segment.

Revenue was $117.7 million, approximately flat in constant currency as higher revenue from product sales was offset by lower services revenue.

We were very pleased to see sales of Research Models in North America increase significantly.

This resulted in part from sales of NCI models which are now recorded in product sales instead of services due to the termination of the NCI contract last fall.

We have successfully executed our plan to convert researchers purchasing their models directly from us.

In addition to the NCI sales, we also saw increased demand for inbred research models.

We believe that greater demand for inbred which persisted for most of 2014 is being driven primarily by a shift to these models for use in oncology research.

Demand continued to improve in North America throughout the year which we believe indicates that the effects of consolidation of the biopharmaceutical industry are moderating in North America.

We also had strong revenue growth in China although revenue in Europe and Japan continued to be soft consistent with our experience in 2014.

We expect similar trends in 2015 in all geographic areas and also expect to realize price increases of 2% to 3%.

As expected, revenue for Research Model Services declined in the fourth quarter.

This resulted from the loss of the NCI contract and the significant reduction by one client of a number of GEMS colonies that we maintain.

When we noted the GEMS reduction in the third quarter, we commented that this was the result of the normal assessment of the value of specific models by this client and was not indicative of any shift away from genetically engineered models or from our GEMS business.

We continue to believe that the Research Model Services businesses will benefit as global biopharmaceutical companies increase their use of outsourcing at the earliest stages of discovery and mid-tier biotechnology companies utilize that are funding to invest in their pipelines.

In the fourth quarter, the RMS operating margin increased by 30 basis points to 23.2%.

The improvement was due primarily to the benefits of our efficiency initiative partially offset by lower margins for the services businesses.

Our efficiency initiatives, particularly the facility rationalizations in California and Michigan, generated a significant benefit in the fourth quarter.

We expect an additional benefit in 2015 from our two facility consolidations in Japan.

We are continuing to identify opportunities to streamline our RMS operation and we maintain our belief that an annual RMS operating margin high 20% range is achievable.

The Manufacturing Support segment finished a strong year with revenue of $62.3 million which represented a growth rate of 14.3% in constant currency.

EMD business was the primary driver of the increase again reporting growth close to 20% in constant currency.

The PTS franchise is continuing to drive the EMD business as a result of our continuous product innovation.

Each new PTS model is enabling us to target additional market opportunities whether as a result of faster processing like the Nexus or improved connectivity like the Nexgen.

Because of these capabilities, we are converting clients who use our traditional LAL testing methods to the PTS and taking market share as new clients make the change from other providers.

We introduced our latest innovative product, the PTS-Micro, in late October.

The PTS-Micro is a rapid test for bacterial contamination or bioburden.

Like the PTS, it is an important advance over current testing technologies because it delivers significantly faster results than traditional microbial testing methods.

Our introduction of the PTS-Micro positions us as the only provider of real-time quality control monitoring products and services for pharmaceutical manufacturing who can offer a combination of FDA licensed rapid endotoxin testing, rapid bioburden testing and microbial identification utilizing Accugenix' extensive bacterial library.

We believe this is a clear distinction between Charles River and other competitors.

We have received numerous indications of client interest in PTS-Micro but as was the case with the PTS when we introduced it, we expect sales of the PTS-Micro to ramp slowly over the next few years as we work with our key clients to solve their unmet needs for more rapid detection of bacterial contamination.

We believe that our ability to provide a total microbial test solution to our clients will be a key driver of our goal for the EMD business to continue to deliver at least low double-digit organic revenue growth for the foreseeable future.

Although our Biologics business was not a major driver of fourth-quarter revenue, it did deliver double-digit revenue growth for the full year.

We believe that our investments in enhancing our service offering, improving our facilities and restructuring our sales efforts have enabled us to achieve our goal to become the premier provider of these services.

We are exceptionally pleased to have accomplished this goal at a time when biologics represent increasing percentage of drugs in development and biotechnology companies are enjoying robust funding.

We will continue to invest in the business in order to capitalize on the growth opportunities available in the current market.

The Manufacturing segment's fourth-quarter operating margin was 35%, a gain of 290 basis point year-over-year.

The improvement was due to all three segment businesses EMD, Biologics and Avian.

The margin benefited from leverage from higher revenue as well as improved efficiency.

Although we were very pleased with this result, we expect that our stated target of a margin in the low 30% range is a more sustainable level.

DSA revenue was $149.6 million, a 36.9% increase in constant currency.

The Early Discovery business contributed 24.3% of fourth-quarter growth, significantly ahead of our expectations.

As I mentioned, the integration is progressing extremely well and we have continued to make progress on our outreach to heads of R&D and other decision-makers at the leading biopharmaceutical companies, as well as many of the larger mid-tier companies.

In the fourth quarter, the DSA operating margin improved by 260 basis points to 19.4%.

The increase was due to both Discovery and Safety Assessment businesses as a result of leverage from higher revenue and a benefit from foreign exchange.

In the Safety Assessment business, the improvement was also due to mix of services which included a greater proportion of specialty toxicology.

As expected, Early Discovery margin improved in the fourth quarter and in Safety Assessment we were very pleased that we achieved our goal of a 20% operating margin.

I remind you that the margins for both businesses and the DSA segment as a whole vary from quarter to quarter based on a number of factors so margin improvement may not be linear.

However, we do expect annual improvement and will continue our efforts to achieve a 20% margin for the segments as a whole.

The Safety Assessment business reported a low double-digit revenue increase over the fourth quarter of 2013 and a 3.5% sequential increase from the third quarter.

We were exceptionally pleased with this performance which resulted from a combination of improved client demand especially from the mid-tier as well as our intense focus on scientific expertise, exceptional execution and outstanding client service.

We believe these last three factors are critical to our clients' decision to choose Charles River as their outsourcing partner.

This is true for our global clients when they make a decision to reduce in-house infrastructure and for our mid-tier clients, who require a partner to provide the capabilities which they do not have internally.

As we work with our clients on the same side of the table, they gain confidence in our ability to provide a superior level of scientific expertise.

They also recognize that we are committed to supporting their requirements as efficiently and cost-effectively as possible.

As a result of all of these factors, backlog has continued to build steadily and we are nearing optimal capacity utilization.

We are evaluating our global network of facilities to determine the best method for capacity expansion in 2015.

As you know, we have opened small numbers of study rooms to accommodate the increased demand for our Safety Assessment services with a goal to fill these rooms quickly and with minimal impact on the operating margin.

We will continue with this approach and we are seriously evaluating the option to reopen our Shrewsbury, Massachusetts facility located only one hour drive from Cambridge and Boston, arguably the hub of the global biopharmaceutical industry.

We believe the facility is ideally situated to support the improving demand for our services from large pharma and emerging biotech companies as well as academic research institutions which are benefiting from funding by global biopharmaceutical companies.

We have received considerable client indications of interest and believe this is the right environment in which to reopen the facility.

However, we are proceeding prudently.

We will reopen -- when we reopen which will take at least a year, we expect to open a portion of the facility and offer only non-GLP services.

Validation and staffing for GLP services will follow at a later date depending on demand.

We are very enthusiastic that having Shrewsbury back online will give us the capacity we require in order to accommodate demand and continue to grow.

The primary reason we believe the timing is right for Shrewsbury is the success of our targeted sales strategies for three client segments, global key accounts, mid-tier biotechs and academic institutions.

We have continued to take market share in each of these segments, as the breadth of our portfolio, our scientific expertise, and our best-in-class client support resonated with clients.

Sales to global key accounts continued to be stable despite the consolidation in Europe and Japan and the ongoing changes at other global biopharmaceutical companies as they realign their early-stage drug research processes.

In 2014, we continued to initiate new and expand existing strategic relationships with our clients.

Although sales to a few of the existing partners declined year-over-year, revenue from strategic relationships as a percent of total revenue increased to the high 20% range in 2014.

Sales to academic clients were also stable as we offset softer sales due to funding uncertainty with expanded relationships and market share gains.

Our mid-tier clients were the primary drivers of revenue growth in the fourth quarter and for the year in total.

Excluding the Argenta and BioFocus acquisitions, sales to mid-tier increased 11% for the quarter and 13% for the full year.

Total sales to these clients first exceeded sales to our global key accounts in 2013 and that was also true in 2014.

The mid-tier clients are benefiting from robust funding both from the capital markets and from global biopharma and are investing heavily in their drug pipelines.

As you know, the biotech model has always required outsourcing, since the majority of funding has been directed at drug discovery rather than building infrastructure.

We have built long-term relationships with many of these biotechs and are executing our plan to extend our existing relationships and add new ones with a broader group of these companies.

Our investment in limited venture capital partnerships is one of the strategies we are employing to reach emerging biotech companies and has worked very well to date.

Through these partnerships we have access to a significant number of virtual biotechs, as well as to the scientific acumen which is resident in the venture capital community.

The strategies I have discussed with you over time, portfolio expansion, sales targeting, scientific expertise, investment in personnel and efficiency initiatives, are key to our ability to provide a compelling value proposition for our clients' early-stage drug research efforts.

We are pursuing all of these strategies in order to maintain and enhance our position as the leading early-stage research CRO.

This is especially important now at a time when structural changes are occurring in the CRO industry.

We believe these changes afford us a unique opportunity to continue to gain market share and we intend to capitalize on the opportunity by leveraging the investments we have made and new ones we intend to make.

While we do not view any single strategy as more important than the others, we believe that continuing to broaden our early-stage portfolio will definitely increase our relevance to our clients.

The addition of our Early Discovery capabilities is an excellent example, which has served to reinforce this point for us.

We intend to continue to identify and acquire businesses which will enhance the role we can play in supporting our clients early-stage drug research processes by providing critical capabilities which they do not have in-house or which enable them to eliminate the internal investment.

We believe that our global biopharma, mid-tier biotech and academic clients are searching for the right partner to support them by taking on a broader role within their organizations and Charles River intends to be that partner.

In conclusion, I would like to thank our employees for their exceptional work and commitment and our shareholders for their support.

Now I would like Tom Ackerman to give you additional details on our fourth-quarter results.

Thank you, Jim, and good morning.

First, let me remind you that I will speak primarily to non-GAAP results which exclude acquisition-related amortization, charges related primarily to our global efficiency initiatives, and certain other items.

This morning I will also focus my discussion on our 2015 financial guidance.

In 2015, we expect currency revenue growth of 6% to 7.5%.

As you know, foreign exchange rates have become increasingly unfavorable over the last six months.

Based on current rates, we expect that foreign exchange will reduce reported sales by approximately 5% in 2015 which is more than double the impact that we provided in October.

This translates into reported revenue growth of 1% to 2.5% in 2015.

I would like to note that the analyst consensus revenue estimate does not fully reflect the FX impact at current rates.

We have updated our revenue exposure by currency for 2014 and provided this information in the appendix to our slide presentation.

On a constant currency basis, we expect 2015 revenue growth to be driven by the DSA and Manufacturing segments with growth rates of low double-digit and high single-digit respectively.

RMS revenue is expected to be relatively flat.

By segment, we expect FX to have a greater impact on the revenue growth rates for the RMS and Manufacturing segments and a slightly smaller impact on the DSA segment.

Our 2015 EPS guidance of $3.55 to $3.65 reflects higher revenues and operating income to which are efficiency initiatives are also contributing.

We expect to generate 75 to 100 basis points of operating margin improvement in 2015 from an operating margin of 17.6% in 2014.

We expect margin improvement in each segment particularly the DSA and RMS segments.

The RMS improvement is due to the benefit of our global productivity and efficiency initiatives and the DSA improvement is due to both leverage from higher sales and efficiencies.

The DSA operating margin is also expected to benefit from foreign exchange by approximately 100 basis points in 2015 which is similar to the benefit in 2014.

You may recall that this is principally the result of our FX exposure in Canada.

We invoice more than half of our revenue in US dollars but incur most of our costs in Canadian dollars.

We expect only a small improvement in the Manufacturing segment margin in 2015.

While we expect to gain leverage from higher sales and operating efficiencies, we also intend to continue to invest in new products to support growth.

Therefore we believe a low 30% margin is an appropriate target for this segment.

We continue to make progress on our productivity and efficiency initiatives and plan to implement new projects.

The actions that we have taken to consolidate our Research Model production capabilities in North America and Europe previously and in Japan in 2015, are significant drivers of the anticipated RMS operating margin improvement in 2015.

We are also implementing initiatives to enhance our organizational effectiveness and client interface with projects ranging from the further consolidation of our global procurement activities to the rollout of automation in real-time client marketing software in our labs.

The cumulative impact of these initiatives generated an incremental savings of more than $35 million in 2014 and is expected to generate a similar amount of savings in 2015.

The savings for both 2014 and 2015 are above our prior outlook because we were able to generate a greater number of new projects than anticipated and drive larger savings on planned initiatives.

When looking at our 2015 non-GAAP EPS growth, there are two significant factors that should be taken into consideration.

First, at current rates, FX is reducing EPS guidance by approximately $0.12.

Excluding this FX impact, we would expect our 2015 non-GAAP EPS range to be $3.67 to $3.77.

The other factor that affects the 2015 EPS growth rate is limited partnership investment gains which is reported in other income.

In 2014, we generated investment gains of $0.12 per share.

This creates a net $0.09 headwind in 2015 because we have estimated approximately $0.03 of investment gains in our guidance.

Historically we have not forecast these investment gains since they are largely based on market returns.

In 2015, we believe it is prudent to forecast some level of return on the capital invested in these life science venture capital funds but it should be noted that there can also be volatility in these types of investments.

Normalizing for FX and the investment gains in 2014 and 2015, we would be positioned to generate EPS growth of 9% to 12% in 2015 compared to the 2.5% to 5.5% growth using our 2015 guidance range of $3.55 to $3.65.

Unallocated corporate costs and nonoperating items such as interest, taxes and the share count are not expected to have a significant impact to the year-over-year EPS comparison.

I will now discuss these items in further detail.

For 2015, we expect unallocated corporate costs to be approximately 6.5% of revenue which is essentially in line with the 2014 level of 6.6% of revenue.

Unallocated corporate costs in 2014 totaled $85.7 million which was slightly higher than expected due primarily to higher compensation costs.

The Company performed very well in 2014 which led to higher performance-based bonus accruals as well as higher stock compensation expense related to performance stock units, or PSUs, that we began to issue in 2013.

Costs associated with the PSUs increased in 2014 due both to our financial performance and an increase in the number of managers that have been included in the program.

Net interest expense is expected to be moderately higher in 2015 in a range of $12 million to $14 million compared to $10.8 million in 2014.

This outlook is based on our assumption that LIBOR rates will begin to edge higher later in 2015.

It also reflects the full year of borrowings of the Argenta, BioFocus and ChanTest acquisitions offset by debt repayment during the year.

The 2015 non-GAAP tax rate is expected to be in a range of 27% to 28% which is similar to the 2014 rate of 27.4%.

We anniversaried the UK tax law change in 2014 so it will not meaningfully impact the year-over-year comparisons going forward.

I will now discuss the progress that we have made with regard to our cash flow generation as well as our capital priorities for 2015.

For 2014, we generated free cash flow of $195.2 million, a significant increase over $169.9 million in 2013.

We also exceeded our prior outlook of $180 million to $185 million due primarily to a significant improvement in DSOs as well as a strong fourth-quarter financial performance.

DSOs declined to 52 days at year end, well below the 59 days at the end of the third quarter and 56 days at the end of 2013.

The improvement was driven primarily by the outstanding efforts of our collections team which led to a reduction in DSOs for larger strategic accounts.

The benefit from lower DSOs was partially offset by the expected $18 million increase in capital expenditures of $56.9 million in 2014.

In 2015, we expect free cash flow to be in a range of $195 million to $205 million as continued improvement in operating cash flow is partially offset by higher CapEx.

We expect CapEx of up to $70 million in 2015 with the increase primarily a result of additional projects to drive revenue growth.

As Jim noted, faster utilization in our Safety Assessment business is nearing more optimal levels so we have earmarked a larger capital budget in 2015 for capital expansion.

We continue to evaluate the appropriate manner and timing to add capacity contemplating both client needs and minimizing the margin impact.

In addition to investing in our infrastructure to support growth, we also intend to continue to invest in strategic acquisitions, stock repurchases and debt repayment in 2015.

Our top capital priority remains M&A.

As Jim noted, we continue to vigorously evaluate acquisition candidates and intend to pursue additional M&A opportunities in 2015.

The timing of acquisitions is always difficult to predict but it is our strategy to continue to supplement our organic growth, disciplined strategic acquisitions that are accretive to earnings.

I will remind you that we regularly evaluate our capital priorities over the course of the year and often may invest more or less in certain areas depending on a number of factors including the availability and timing of potential acquisitions.

Our current goal for stock repurchases in 2015 is to offset dilution from option exercises and equity grants though we expect our average share count to remain relatively flat.

In 2014, we repurchased 2.1 million shares for $110.6 million.

In December, our Board increased the stock repurchase authorization by $150 million to an aggregate amount of $1.15 billion and we had $178.5 million available under current authorization at year end.

We also expect to pay debt in 2015 in line with or slightly ahead of scheduled installments.

Our leverage ratio remains low at just under 2.5 times and the interest rate environment continues to be favorable.

In the first quarter of 2015, we expect revenue to be slightly below the fourth quarter level due primarily to a more pronounced impact from foreign exchange.

At current rates, FX is expected to reduce year-over-year revenue growth by approximately 6% in the first quarter.

However, first-quarter revenue is not expected to decline nearly this much because of sequential increases in RMS and Manufacturing Support revenue.

In the DSA segment.

we have forecast seasonal softness.

You may recall that there are typically fewer study and project starts during the holidays and into January which leads to a slower start to the year for the DSA segment.

The combination of these factors is expected to result in first-quarter non-GAAP EPS that is similar to the fourth quarter level.

The slight sequential revenue decline is expected to be offset by modest margin improvement particularly in the RMS segment following the normal seasonality in the fourth quarter.

To conclude, I would like to point out a few highlights of our 2014 performance.

We achieved revenue growth of 11%, non-GAAP EPS of $3.46 or 18% EPS growth over 2013, and free cash flow of $195.2 million or $4.10 per share.

The progress that we made in 2014 was the result of the success of our targeted sales strategies, our continued focus on driving productivity and efficiency throughout our global organization, and the critical upstream expansion of our portfolio that truly differentiates Charles River as the only full-service early-stage CRO.

We believe this momentum positions us well to achieve our 2015 financial targets and to continue to deliver increasing returns to our shareholders.

Thank you.

That concludes our comments.

The operator will take your questions now.

(Operator Instructions).

David Windley, Jefferies.

Congratulations on the quarter first of all.

The question is in DSA, you had talked in the second half of 2014 -- talked about an expectation of say mid single-digit growth and the third quarter was lower than that and then the fourth quarter was higher.

Could you talk about maybe visibility, how far out are you booking studies, how much visibility do you have?

But for the seasonal softness that Tom just talked about, how steady do you expect that business to be going forward?

So I would remind you that this is not a linear business and we have variability from quarter to quarter and I think that will always persist.

We tend to look at it on an annual basis.

It depends on when the studies start, depends on the mix between specialty and general tox.

So we were very pleased with the -- very, very pleased with margin.

Obviously very pleased with the significant increase in the fourth quarter, both sequentially and year-over-year.

Visibility continues to get better.

We indicated that the backlog is better.

We get a weekly report on capacity utilization which takes us out four, five months.

So we have a pretty good view and we actually see changes week to week as I said but we have a pretty good view of customers' demand sort of on a facility by facility basis and a total infrastructure real-time all of the time and kind of rolling a little more than a quarter at a time.

We are filling up rapidly and nicely and there is no question that there is greater demand for these services both relative to the competitive scenario, relative to when drugs more drugs coming in the pipeline, more money in the biotech and more outsourcing by big pharma.

So I think our guidance the next year pretty much bears that out but I would try to be less impacted by quarterly variability which we will probably still have and take a look at it more from a year-over-year vantage point.

Thanks, Jim.

If I could sneak a follow-up real quick.

On Shrewsbury, I just want to be clear, you said you are considering opening and so that suggests to me that it is still a consideration and some of your other comments kind of suggest that it is an already made decision.

Could you be a little bit more clear about at what point are you going to start deploying CapEx into the building to get it ready?

Okay.

So let's be very clear.

We have significant interest from local Cambridge and Boston biotech clients about when are you guys going to open Shrewsbury?

We've got this huge bolus of business and we are the closest CRO to them so we are taking that very seriously.

Obviously that is happening at a time when our space is filling rapidly and as we have said previously and again today, if we do nothing which we won't, but if we do nothing, our space will be full by the end of the year.

So we are going to add small tranches of space throughout the year at multiple sites to accommodate demand with no impact on operating margin.

In fact, we hope that continues to increase.

We expect it to increase.

We have a multi-faceted and capability team looking at Shrewsbury and as we said, it will take a while to get it open, at least a year.

We are quite -- I shouldn't say quite certain -- our initial indications are that when we open it, we will open a small portion of it for non-GLP services only.

So that does two things.

It requires trivial capital investment -- it gets the facility open without this huge infrastructure need and once it is open, obviously it is more real to our clients so it is sort of ethereal conversation we are having with them about yes, we may open that someday becomes real because it is open.

Then we will assess the demand for GLP tox services, which we believe will be there and be intense but we won't make that move, that will be a second step move and we won't make that move until the demand is [greater].

Our goal would be to open it for non-GLP services assuming that nothing dramatically changes in a year or slightly more and it probably will take a couple of years after that to hire staff, put back some of the equipment that we borrowed from that site to do other things, validate the equipment, get the staff trained.

So we are a while away from GLP tox, which I think is fine.

That is likely to help enhance demand.

Great, thank you.

Eric Coldwell, Robert W. Baird.

Thank you very much.

I actually had the same question as Dave on Shrewsbury.

It wasn't really clear but I think that helps.

My other topic was North American Research Models, growth excluding the NCI impact and perhaps also excluding pricing, could you give us a sense on what your NARM growth rate was in the fourth quarter?

I guess what I'm really trying to get to is a sense on actual volumes of activity as opposed to the revenue impact so kind of in organic volumes.

Not a number that we have broken out and so I think we want to stay away from that.

It is hard to tease out but if you teased out the NCI stuff and we have some price in there, we have some share gains in there from academic.

As we indicated in the call, we definitely have some inbred -- increase in multiple inbred models and immunocompromised models.

We would expect that that track to continue in 2015 so we continue to be pretty optimistic about that business.

We have reduced infrastructure.

We are driving efficiency because of that and generally to make it less a manual business, we are going to 2% or 3% of price again so you should consider that business as modestly increasing with improvement in operating margin.

Okay.

Helpful.

And then just a very technical question on FX.

Granted the rates have been moving so quickly and so broadly that it is fair to say that consensus wasn't fully updated but understandable.

In October you talked about a 2% revenue headwind, $0.05 of earnings.

In January, you said 4% revenue headwind; you did not give us an update on the earnings impact but then today 5% with $0.12.

So the ratio of revenue impact to earnings impact has remained constant.

Just curious why you didn't give us the earnings impact in January number one?

Number two, if you can tell us specifically and I may have missed this, specifically what date you are basing rates on so we will know how to think about this given the vast volatility in the rates that we are seeing today?

The 5% as indicated today, last night and today essentially, Eric, really are the current rates.

So where we have done our plan, we have actually -- it is almost crazy but we are monitored almost daily to make sure that when we put out our guidance that we can still say 5% and it wasn't 4.2% or 5.8% and we had to move that.

So we have monitored that pretty closely.

Each of the rates are slightly different but when we calculate the delta versus last year while the rates have moved slightly, we are still pretty much at the 5% so it is really the current rates.

Going back to the January comment, I think our view on the EPS number was we kind of sort of put that out there.

We felt it was a little easier to give you guys an update on the revenue and given we were in a quiet period, didn't really want to talk about EPS too much.

We did debate that a little bit and I think we just were a little bit more cautious on that and since it really had not moved in any kind of meaningful way, really just didn't want to get into that at that point in time.

That is a very fair answer.

I guess I was kind of thinking perhaps the move in the Canadian dollar given your currency mismatch there might have had frankly a more favorable impact and could have offset some of the ratio on revenue to earnings.

But obviously in the total scheme of things, that wasn't the case.

But helpful answers and I will let others jump in.

Thank you so much.

John Kreger, William Blair.

Thanks very much.

Jim, if you just think about your new awards particularly in DSA in the last three months or so, can you just talk about what sort of pricing dynamics you saw and perhaps comparing it to awards a year ago?

Are you starting to see any uplift in spot market pricing?

We continue to test price consistently daily.

We are getting some price.

Hard to tell whether if spot price base is any more significant than last year.

I would say it is at least the same.

We obviously have lots of large clients, lots of large strategic deals, many of which lock in the price, provide enterprise agreements and benefit for volume.

So we obviously don't see price increases there except we do see and can see the benefit of mix with specialty works.

So I would say that the pricing environment feels slightly better, guardedly optimistic.

It is still a factor but there is no question that you can feel everybody filling, you can feel all of our competitors filling.

And I think there is a sense of clients that they want to slot their studies in as quickly as possible and they are willing to make some accommodation on price to do that.

We continue not to be the lowest price point most of the time.

Occasionally but not most of the time so clients clearly willing to pay for service and science and financial solidity and reputation.

So again, it has been such a long process.

I don't want to predict too much about pricing given that we are still in early February and also the first quarter is kind of an awkward quarter to figure out what the demand quotient is going to be given that clients are still sorting out what studies to do with us and to do internally or what molecules to fill.

I think we will have a much better sense at the end of the quarter and for sure a very strong sense of the second quarter as we continue to fill our space and the competition does as well.

Great, thanks.

A quick follow-up.

You mentioned earlier on the call about strategic relationship opportunities.

Can you just be a little bit more specific, do you see those particularly in one or two key areas or are they more sort of broader bundled relationships that encompass multiple segments?

So we are having a lot of those conversations.

As we indicated in our remarks, we reached out to the heads of R&D of all the drug companies, big pharma and biotech, when we did our Argenta and BioFocus and we have been meeting with all of them.

In fact I just met with one two nights ago and I would say that we are having a lot of strategic conversations going on now to expand current deals and sign new ones.

I would say the conversation typically starts either with an interest on their part to outsource Safety Assessment or tox or sometimes an interest in just hearing more about Discovery and wanting to outsource more of that.

Typically we end up talking about both of those things and then if their client already does a fair amount with us or is considering it, in most cases particularly with big pharma we end up with an enterprise deal that cuts across virtually all that we do.

The client that I just met with does something across all of our product lines with us.

I think that is going to be more usual.

They, like many of our clients, want a smaller number of partners.

They want a better value proposition, they want to be important to us, they want great turnaround times.

We think these will continue.

We are continuing to meet with as I said, new potential partners and since we don't have any competitor whose portfolio even resembles ours, we are in a very strong competitive position.

And you can sense when clients are going to be open to a conversation about more aggressive outsourcing and invariably they kind of come to that conclusion and determination and they are more interested in discussing it with us.

So our conversations are going really well.

Great.

Thank you.

Sandy Draper, SunTrust.

Thanks very much and congratulations on a nice 2014 and good outlook for 2015.

My question I think is for Tom, just trying to understand the accounting around Shrewsbury.

Can you remind me, back when you shuttered it, was there an asset write-down?

And if so, if you bring that back on, how does that impact D&A?

Obviously there will be some CapEx coming on but I'm just trying to understand do you have to bring that back and then fully start amortizing that D&A or is that basically a wash and that once you bring it back on there is a lower level of D&A going forward?

Thanks.

The answer is what we have written off previously is written off and wouldn't be sort of recapitalized so of speak.

So the D&A going forward, one of the positive aspects of that is that the D&A going forward would be based on today's capitalize value which would be lower than it has been historically, certainly much lower than it was when we originally capitalized it.

Great.

Thanks.

I will stick with that one question.

Again, congrats.

Tycho Peterson, JPMorgan.

Thanks.

Just a question on manufacturing.

Can you just talk about maybe, Tom, where you expect operating margin or why you expect them to go down from kind of the current mid-30s levels and where you think they kind of bottom out?

A little bit of what we talked about such as continued reinvestment in the business.

So in EMD for instance, we obviously have new products coming out, it takes an R&D budget.

We are increasing our focus on R&D and whatnot.

And what we said is we think it will stay in the low 30s so not really a lot different from where it is for the full year.

Our Avian margin and business continues to be strong albeit lower than the EMD and the same for Biologics.

So I think it is obviously very good margins.

We will continue to have good margins, above 30%.

But we do want to continue to invest in the business and grow it out expanding our global footprint in EMD as an example with locations internationally to drive the top line and really those are the primary reasons.

Okay.

And then follow up as we think about M&A, Jim, can you talk to maybe some of the early revenue synergies you have seen with ChanTest around the BioFocus business?

And then more broadly speaking obviously there is a lot of targets out there.

I think even if we get back to you analyst day you talked about four to five dozen targets you had been looking at.

Maybe just talk to whether the quality is up to par and whether you think you might be more active this year.

Obviously you are going to continue to look at a lot of stuff but how do you think about the opportunities now?

So ChanTest and BioFocus and Argenta really open up a whole new world for us in terms of dialogue with clients, being more important to them and as we indicated in our remarks, Argenta and BioFocus have discovered 60 compounds over the last 15 years, which is a pretty extraordinary result.

So we are solving complex problems.

And it is really resonating with our clients.

So ChanTest did really well with Argenta and BioFocus looking at the ion channels.

We already did some ion channel work with Argenta and BioFocus so this clearly makes us the world leader and it is a target class that lots of clients are looking at and has some very important safety aspects.

So we feel really good about the strategy, the growth rate, the importance to clients, increasingly improved operating margin and the doors that it is opening.

We have a very robust pipeline of M&A targets.

Not all but most of them I would say are upstream in the discovery space, across multiple therapeutic areas some in vivo, some in vitro, multiple geographies.

No giant companies but a couple of meaningful scale most of them modest to smaller.

And so we are engaged in multiple conversations right now.

Whether we get traction or not, whether we are successful in both due diligence and achieving the right price points, we don't know.

We don't know what the competitive scenario will be for all of these deals.

But it is a clear, it is the principle strategic focus and preferred use of capital to do strategic high-growth accretive deals.

Where as I said we are in the midst of conversations right now.

We would be I guess I will just say we would be disappointed if we are not able to do some meaningful R&D in 2015 although it is an impossible thing to predict.

So it is high -- we are very much focused on it and there is no question that in Discovery in particular having a lot of these client conversations that the scale and diversity and depth of the portfolio is really critical and teasing some of this some of this work out from the clients or getting the more comfortable with it so as we continue to expand this portfolio, we are quite confident that the work will follow.

And then lastly just on the competitive front, obviously one of your competitors being acquired in this case by a reference lab.

Have you been able to approach some of their customers and talk to maybe what you see is the opportunity to pick up some share through that process?

It is already providing opportunities.

In some instances we don't even have to approach the clients, they are approaching us.

I think movement of competitors to new ownership structures can be concerning to some clients.

I do think it is going to continue to provide opportunities and our perception and prediction is that we will see other competitors of ours probably come to market in the next 12 months.

It just seems to be the cycle that we are in right now.

I think given our stable and expanding portfolio, that bodes well for us to engage with additional clients and continue to take share.

Okay, thank you.

Jeff Bailin, Credit Suisse.

Good morning.

Thanks for taking the question.

Looking at the acquisitions in the early Discovery space, I think you mentioned those deals were on or ahead of plan and the revenue contribution in the fourth quarter was ahead of expectations.

Can you provide us any sense what the underlying organic growth rates are trending in those businesses and maybe where you are seeing the greatest demand from either a service type or customer segment perspective?

Sure.

We are seeing as a group, A, B and C as we call them, Argenta, BioFocus, and ChanTest -- are going to continue to deliver at least low double-digit organic growth for us going forward.

We hope it is better obviously but we are comfortable with that.

We sold -- we had high revenues for the second year in a row through the mid-tier, the biotechs.

So obviously it is a very strong sector for us, grew 13% for the year, flush with cash, going to continue to beat a path to our door for sure.

But also we have engaged very well with the big drug companies.

So we would expect both of those client segments to be strong drivers of growth in Discovery going forward and we think it will help accelerate our topline for the Company as a whole.

Great.

Thanks.

I leave it at that.

Ricky Goldwasser, Morgan Stanley.

Good morning and congratulations on a good year and a good outlook for 2015.

First of all, just one clarification question.

You said that you expected to see more of your competitors coming to market this year.

So can you just kind of like clarify the commentary, do you expect to see more consolidation in the preclinical space?

I just wasn't clear as to what you meant in that comment?

We do.

Just based upon the input that we have from conversations that others have had with those companies, given their ownership structure and given the fact that consolidation appears to be predictable in our business.

So we have had our largest competitor in the Research Model business trade last year, our largest competitor in the Preclinical business trading at the moment.

There are additional players in the Preclinical space that may be in play and in some of our other businesses.

So like many industries or many service providing businesses, there is strength in scale, there is an expectation from clients that you build scale and businesses that are PE or (inaudible) owned are by definition inevitably for sale.

I think we are commenting as much on the current ownership structure as anything else.

Okay.

And from your perspective, do you feel that -- it sounds like with the assets that you have, can you just gain share by just kind of like standing on the sidelines but letting that industry dynamic evolve and gain share or do you feel that you have to build on the assets that you currently have on the preclinical tox side?

If I understood that question, we as we said earlier, our space is filling.

We have Shrewsbury, which we are studying when we could open that.

We have space in Reno that we want to fill and we have space both in Shrewsbury and Reno that we never built out.

It is just shell space.

We have small pockets of space in our other -- in a few other facilities that need to be full.

So yes, absolutely our intention is eventually to fully build out and fully utilize all of our facilities.

We also built a modular type facility in Canada that can be added on to easily and at a reasonable price point.

So we like our infrastructure but we certainly want to keep utilizing it fully to meet client demand.

And then one last question.

Obviously mid-tier growth clients, I think you highlighted are growing at mid double-digit which is a pretty impressive growth rate.

Do you think that this is again a reflection of you gaining share in your specific sales initiative or are you seeing some structural shift in the marketplace either that we are now moving back to kind of more preclinical or early focus or on the outsourcing side?

It is a manifestation of the fact that except for very skewed, very large companies, most of mid-tier even the kind of second-tier companies -- so those would be public companies with $3 billion to $5 billion market cap drugs on the market and sales and earnings -- they do very little of the work internally.

They do really, really early discovery work internally for sure but most of the development is externalized.

I can't see any reason why that is going to change.

We are working with also a large number of virtual companies and first, second, third year companies and have an idea or one drug or a limited IP and it is all about getting proof of concept.

So given the bolus of money that has always -- not always -- for the last four or five years has come into biotech and big pharma and given the enormous surge of capital that has gone in there to the capital markets, we would expect to see the mid-tier continue at a -- growth rate at a very healthy clip and that they would continue to be aggressive and savvy utilizers of outsourced services.

Okay, thank you.

Doug Schenkel, Cowen.

This is Adam on for Doug.

Thanks for taking my question.

My first question was on academic customers.

You have been very successful in providing an array of services especially DSA outreach for your pharma and biotech clients.

But how successful have you been in implementing more comprehensive solutions for the academic community?

And have you or do you plan to make any changes that you can call out and how you are interfacing with them to provide a more integrated solution?

So we have always been a supplier to the academic marketplace from our research models business.

I would say over the last half dozen years we have grown our share in the academic sector which is now mid-20s, used to be midteens.

We have done that by having more rational price points for them.

Increasingly academic research centers are becoming drug discovery engines so they have their own molecules, they outsource that work.

We have been engaging with them more closely to make sure they are aware of our discovery and safety assessment portfolio and to try to do larger deals with them.

We are working hard to map those big academic institutions the way we originally mapped big pharma to have multiple relationships, talking about personal relationships with the leadership both a business and research leadership in those institutions.

They have a lot of money, they do very good research and we are optimistic that over time we will engage with them more robustly.

They are more complex organizations to work with just because of their very nature, funding sources.

And historically they haven't been very aggressive users of these sorts of services.

But that should continue.

So we are spending a lot more time organizing ourselves in a way where we can take greater advantage of the academic marketplace.

Great.

My second question was on the manufacturing segment, more specifically your investment in the biologics business.

It seems that biologics are inherently more complex and variable than something like small molecule inhibitor.

So will the development improvements of this manufacturing capability be an ongoing process for you or do you see any challenges going forward?

Is there enough differentiation and quality among outsourcing companies that could really drive pricing?

So we have a very large international capability.

We have been in this business for 20 years.

We are certainly one of the leaders if not the leader.

At least half the drugs being discovered right now are large molecules so it is a really important business to be in.

We support all of these clients in other ways providing this sort of testing for them.

Before the drugs go into the clinic or get into the market, has always seemed like a very logical, critical service for us to provide.

We think that our science is as good as many of our competitors and better than some.

We think this is a service, this is a technical capability that many clients don't have and definitely do not want to spend the money to bring in house.

And given the great infusion of cash for biotech, this business ought to have the wind at its back going forward.

We are really pleased with the improvement in profitability and topline growth that we saw in 2014 and are optimistic we will continue to be able to grow it.

Great, thank you.

Tim Evans, Wells Fargo.

Thank you.

Jim, just to reflect on a big picture question here, the growth in the Research Models business seems to be a bit of a paradox.

If you are looking for 2% to 3% price increase next year -- and I assume that is net realized price -- then it suggests that volumes are going to be down.

And this is happening despite very strong growth in Safety Assessment business.

I guess it doesn't feel like the secular trends in that RMS business in terms of volume growth are very good given that dynamic.

Can you try to comment on why the two segments differ so much in the underlying trends?

So you have two factors going on right now.

You have a continued reduction in demand from Europe and Japan.

Very severe.

And 2014 will be less severe but still a drag in 2015.

Europe in particular is a pretty good sized business so the aggregate impact of those I would say is the biggest issue in driving down whereas we have got some uptick in North America and we have huge uptick in China but that is still a small business for us.

The apparent disconnect is not that much of a disconnect.

I think the drug companies, while more drugs were approved last year than many years before and while pipelines are better, this still pared down over what they were historically.

Clients are very aggressive in making these go and no go decisions which of course is the service that basically we are in in killing compounds earlier.

So while we kind of do business across all of our services products, helping them make that determination the ultimate portfolios are smaller.

Having said that, our bred rats which is the principal animal model is no longer declining, it is periodically up, it is certainly stable.

We are obviously using a lot of those animals ourselves.

We are also selling a lot to our competitors so we are getting a little bit of their business as well.

So we are actually pleased with the directional trajectory of the animal business.

And while we didn't say it because it is not germane in 2015, there is a point at which the reduction in the infrastructure in Europe and Japan like it has been in the States will slow down and level off and we will at least have stability in those markets or perhaps increase if nowhere else in pricing.

We have always said that directionally this is not 2015, this is beyond that but directionally, RMS and that includes the service businesses, will probably grow low to mid-single digits with operating margins being sustainable in the high 20s.

Okay, just a quick related follow-up.

So basically the headwinds in Europe and Japan are similar to those that you have seen in the US in past years just kind of on a delay?

Right, that is exactly right and Europe and Japan are always slower than the US.

Europe will come back a little bit faster and Japan probably right after that.

We have seen that in other aspects of our business where we have seen slowdowns domestically.

There is kind of a follow-on effect with our rest of world businesses.

We are pretty confident that things will slow down and level off here as well.

Thank you.

Ross Muken, Evercore.

This is Vijay in for Ross.

Thanks for taking my question.

One quick housekeeping, just want to confirm that the guidance doesn't have any M&A baked in.

And second, Jim, just on sort of Shrewsbury, I know a lot of people have asked the question but going back to the 2007 peak cycle I think that you guys had a backlog of over six months.

So I'm just trying to think of this go, no go decision on Shrewsbury particularly when it comes to the GLP side of things, would that be sort of a trigger point?

You have six months plus of backlog before you would consider or make the final go decision on Shrewsbury?

Thank you.

No M&A in the plans.

That was your first question.

No M&A in the plan.

Tough to tell what will help us trigger it.

It will be overall demand from the clients, the marketplace is totally different than it was in 2007.

Biotech is on fire right now.

Drugs are being approved, there are huge amounts of money coming in there and we are the closest CRO.

So we will be very cautious about it but we will have significant demand from multiple clients that we are confident will be there at rational price points to be able to allow us to open that site and make money.

Thank you for joining us this morning.

We look forward to seeing many of you at the upcoming half dozen conferences in February and March and this concludes the conference call.

Thank you.

Thank you.

Ladies and gentlemen, that does conclude your conference for today.

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