Neogen Corp (NEOG) 2006 Q3 法說會逐字稿

Good day, ladies and gentlemen, and welcome to your Neogen fiscal year '06 third-quarter results conference call.

At this time, all participants are in a listen-only mode. Later, we will conduct a question-and-answer session and instructions will follow at that time. (OPERATOR INSTRUCTIONS).

I would now like to introduce your host for today's conference call, Mr. James Herbert. You may proceed, sir.

Good morning and welcome to our regular quarterly conference call for investors and analysts. Today, we'd be reporting on Neogen's third quarter, which ended on February 28.

I remind you, it's normal that some of the statements that are made here today could be termed as forward-looking statements. These forward-looking statements of course are subject to risks and uncertainties. Actual results may differ from those that we discuss here today. The risks that are associated with our business are covered in part in the Company's Form 10-K as filed with the Securities and Exchange Commission.

In addition to those of you joining us today by live telephone conference, I also welcome those who may be joined by simulcast on the World Wide Web. These comments, along with some exhibits, will be available on the Web for approximately 90 days.

Following my comments this morning, we will entertain questions from participants who are joined by this live telephone conference. I'm joined today by Lon Bohannon, our Chief Operating Officer, and Rick Current, our Chief Financial Officer.

Earlier today, Neogen issued a press release detailing the results of the third quarter of the Company's 2006 fiscal year. Once again, we set a new quarterly record for the Company in terms of both revenues and income. The press release announced that the net income for the third quarter increased 34% from the previous year's third quarter. This is the fourth -- by the way, the fourth consecutive quarter that the Company has reported increase in net income in excess of 30%.

On a per-share basis, net income for the quarter rose to $0.19 a share as compared to last year's $0.14.

Net income for the first nine months increased 34% to almost $6 million. This equates to $0.70 a share in the current year, as compared with $0.53 a share last year. Third-quarter revenues increased 22% to approximately 17.6 million. This compares to last year's third quarter of 14.4 million. On a year-to-date basis, revenues increased by 13%, which now puts us at about 52.6 million for the first nine months.

The third quarter marked the 52nd consecutive profitable quarter from operations for the Company and the 56th quarter in the past 61 quarters to show increased revenues as compared to the previous year. I can assure you that all of the Company's employees take great pride in this record, which now spans over 15 years. We also take great pride in the improvement compared to this same quarter a year ago. Some of you will remember that last year at this time, we reported total revenues for the third quarter were approximately $300,000 less than the prior year. So, we tried to assure shareholders that this was a temporary situation. We knew what bought it about and that we had taken corrective action. I think there were still those who questioned if our string of growth had stopped. In the ensuing weeks, we saw the share price drop down to $12.50. I don't know exactly where we are right now but yesterday, we saw the stock price close at about $23.

Food Safety division had been the trouble spot a year ago, as revenues dropped and competitors likely took a part of our market share. I'm pleased to report today that the Food Safety division sales for the third quarter, on a same-store sales basis, are up 13% over the prior year. The Food Safety division revenue were further enhanced as a result of the acquisition of the UCB dairy antibiotic testing business that I will talk about a little bit later.

Although revenue growth is obviously important, we haven't taken our eye off the continued improvement of bottom-line performance. On a year-to-date basis, gross margins increased to 51%; this compared to approximately 48% last year. That bottom-line performance continues to be driven by greater efficiencies. As an example and I think this is almost amazing, in the first nine months of this year, we've generated almost $6 million more revenue than a year ago, yet our direct labor cost is up only $1000.

Our operating profits for the first nine months are up approximately 35% compared to last year, as we've continued to maintain good controls in sales and marketing and G&A expenses.

Let me take a moment now to review the performance of the two operating divisions, Food Safety and Animal Safety.

Our Animal Safety division showed revenue increases of 7% to about $8.7 million for the quarter. This division's revenues are up 9% for the first nine months of the year. The division again enjoyed a number of bright spots. Sales of our biologic products were up 35% for the quarter to almost 700,000. The Company's revenue for vitamin injectables were up 17%, again to almost 700,000 in revenue. Our veterinary instrument revenues continued their good, double-digit growth that we've been enjoying for the past number of quarters, this time for this quarter up 12%.

The Animal Safety growth was -- part of this good news was partially offset by decreased revenues in our rodenticide group by about $200,000. We've got a good handle on what happened and believe that the setback here is short-term, brought about largely by a milder winter in many parts of the U.S., which reduced rodenticide usage. However, on a year-to-date basis, rodenticides sales for the first nine months have exceeded the year ago by over 10%.

Neogen's Food Safety division third-quarter revenue increased 43% to approximately 8.9 million when compared to the same quarter last year. The division's year-to-date sales are up 17%. That December 20 acquisition of UCB's dairy antibiotic business did play a significant role in this upsurge. However, as I mentioned earlier, we are pleased that the same-store sales were up 13%.

We segment our Food Safety business into seven different market groups, and six of those seven groups showed nice increases for the quarter. On a product grouping basis, our diagnostic test for the detection of natural toxins was up 31% for the quarter. Our testing systems for the detection of general sanitation was up 32%, and our group of tests for the detection of food allergens has showed a 54% increase.

Part of the reason that we've been able to show continued increase quarter-to-quarter in sales of the food allergens test kits is due to continued internal development of those products by our R&D group. We added a new format to appeal to certain of the market segments for the detection of peanuts and saw sales of those test kits increased by 66% for the quarter. Our tests for milk, eggs, almond and wheat gluten all showed double-digit increases this quarter.

As I said earlier, the addition of our dairy antibiotic test kit business began making a contribution this quarter as we recorded our first sales in January. Now, the sales of these products in the two months accounted for approximately $1.8 million. These sales may not typify average monthly sales, and frankly, they are considerably ahead of what our projections were for the first two months. This of course is a new business for us and may take a few months before we get it leveled out. At any rate, I expect that sales of these milk antibiotic test kits to exceed $8 million annually as we move forward.

We've begun movement of that business from Barcelona, Spain to Lansing, Michigan. We stopped producing product in the Spanish plant at the end of February, and all of that equipment is now in containers onboard a ship somewhere in the Atlantic. We expect the plant to be up and running again in June. In the meantime, we've produced approximately six months of inventory that we moved to our [Air] Scotland warehouses, and we will be able to continue servicing our customers from that location until the new plant is operable.

I spent time this week earlier this week with the managers of our Neogen Europe Limited operations from Scotland, as we began putting together our budgets and strategic plans for the new fiscal year that will begin in June. Some of you know we operate a direct sales force from that location to serve the UK and Germany and France, which are the three countries with the largest Food Safety potential in Europe. We showed nice revenue increases in these markets during the first nine months of this year and continue to be optimistic about growth for the new year. We've added additional facilities in Scotland and are adding more employees to take advantage of these market opportunities.

For the third quarter, company-wide, our sales outside the U.S. accounted for 33% of our total revenues. This continues the international sales growth that we've experienced in each of the last three years.

You'll note, if you've had the opportunity to look at the financials that went out with today's press release, that both Accounts Receivable and inventories increased at the end of the quarter. A lot of this was due to the inventories and receivables that we acquired as a part of the two acquisitions that were completed in December and February.

We've talked to you about the acquisition of the dairy antibiotics business in the past but haven't had a chance yet to talk about the acquisition of Centrus International that took place at the end of February. Neogen acquired all of the outstanding stock of this company from Eastman Chemical Company as they decided to exit the Food Safety business. The Company had a product line that filled a void in Neogen's product offering and opened a large market potential for us that we had not been able to address before. Centrus had sales of approximately $2.8 million in the year that ended on December 31. We purchased the stock of the company for cash for 3.3 million. This acquisition, by the way, will be accretive at both the top and the bottom line.

We will continue to operate Centrus as a wholly-owned subsidiary of Neogen from its current facilities in Ann Arbor, Michigan, which is about an hour's drive away from where we are here in Lansing. The product, sold under the brand name Soleris, is a rapid optical system that utilizes an incubator and detection equipment, along with disposable assay vials that are repurchased for each test. The system measures the microbial growth in those samples by monitoring what's really a biochemical reaction that generate a color change as the microorganisms grow. The sensitivity of this automated system enables the detection in a fraction of the time that was needed by -- or is needed now by the traditional methods with less labor and sample handling time.

Neogen's major focus on rapid microbiological testing is, up to this point, has been aimed at the dangers food borne pathogens such as E. coli, salmonella and listeria. The focus of the Soleris system is aimed bacteria that are associated with poor food quality and spoilage. Interestingly enough, most of the existing Soleris customers are existing Neogen customers, or they are strong prospects for other Neogen products. Of the 36 food market segments that are served by Neogen's Food Safety division, 29 of those are identified as potential users of this Soleris system. According to third-party surveys, the worldwide market for general microbiological testing that the Soleris product targets is estimated to be about $200 million a year.

Now, sales and marketing of the system will be shared worldwide by Neogen's Food Safety sales organization and a proven distributor, Denmark-based Fox Analytical. For approximately the last six years, Fox has marketed the Soleris technology to the meat and dairy industries. Going forward, Fox will retain its distribution rights and Neogen will target markets in regions of the world that are not currently covered by the Fox agreement.

During the last three months, we've completed two nice acquisitions that are a very good fit in the Company's overall mission. The cost of those acquisitions has been approximately $18 million. However, there will be some additional cost as we work out closing adjustments that were based on current assets that were part of our purchase agreement.

Another part of this good news related to these acquisitions is that we generated cash to cover part of the costs. In the first nine months of last year, the Company generated about $3.7 million in cash from operations. During the same time this year, we've generated approximately 6.7 million, or $3 million in extra available cash. By year-end, I would expect that total borings as a result of these acquisitions will be in the range of about $13 million and at interest rates that are well below the prime rate.

The upcoming quarters should be fun and -- both fun and rewarding. Our core businesses are strong and we've layered on top of those two new product groups that should have good growth potential, and they are in businesses that we know something about. The demand for our mix of products should continue to be good as the worldwide focus of both food safety and animal safety continues. We continue as a management group here to believe that Neogen is a good investment opportunity. Our financials are strong; we've continued to achieve that consistent growth, that consistent profitability; and we think that our model of adding new products that are synergistic to our existing ones is continuing to pay nice dividends.

This concludes my formal comments for the morning. I'd now open the conference to questions that might be directed to Lon Bohannon, our Chief Operating Officer, or Rick Current, our Chief Financial Officer, or myself.

(OPERATOR INSTRUCTIONS). Tony Brenner, Roth Capital Partners.

Thank you. A couple of things -- do you expect that there will be any expenses in the fourth quarter for the consolidation of UCB or Centrus in those facilities?

Tony, there will be some for sure. You know, I'm not sure. For instance, we've got all that product on the ocean now. We've got to get it here; we've got to get it set up. There will be some stuff, some costs that are related to the set up of the plant.

We've been doing some of that work along; I don't think it's going to be huge. The Centrus group -- we've got probably a couple of more people that we need to get hired there. We didn't bring all of the group with us that Eastman had employed, so there will be -- you know, I think sort of typical. You followed the Company for awhile. We've moved the Baltimore operations and we had a little extra expense in there for a quarter or two until we could get it leveled out -- maybe three quarters. It's kind of difficult to say exactly where we're going to be in the fourth quarter. I think we're going to still look good the fourth quarter but from a margin standpoint, some of that expense may sort of betray what the margins look like now until we get them leveled out.

Okay.

A politician answering the question, but I don't really know how to tell you any better than that.

Okay. Jim, you mentioned that [667] Food Safety groups were up in the third quarter. I presume the seventh was food pathogens. Could you give some color on what's happening there?

Well, the way we divide those, it would be by market group is what I was referring to, Tony, but you are dead on. It's the market group that serves the meat and poultry industry, and that's driven principally by our pathogen sales. We're still struggling a little there. We've got a good product; we've got two good products there now. I think we are lined up good with an automated system that is beginning to get traction, going to some of the bigger customers that are running 100 or more tests a day. We think we've got good opportunity to grow and our on-line, at-the-line product we've continued to -- it needs a little improvement made to it, and we've continued to make some of those improvements. But, we are not over the hump there yet. So, we are still working on it. I'm still very optimistic because of the two approaches that we have from a product line basis.

Lastly, after a year of sluggish comps, your Food Safety sales [continuing] products were up in double digits. Do you expect that to remain the case?

I do. I do. Last February was a pretty heavy wake-up call and I won't repeat what happened then. I remember it like it was yesterday, and so does Ed Bradley and several others of us -- that things have been good for so long that we just hadn't focused on what is happening, and we made corrective action; we put those into place starting in February. That corrective action, we didn't lose it overnight and we hadn't got it back overnight. But I think we've proven that we had identified what the problems were and what the issues were and the things that we needed to get corrected and each quarter, we've done a little bit better there. At this time, six of the seven major groups is showing increases and just before this call started this morning, they were going through their monthly meeting of the Food Safety group. You know, there are some exciting new things that are being reported that are right on the edge and nothing counts until they are in the cash register. But I think we are continuing to be optimistic that we will get that business back. You know, we ran that business for awhile in the 20%-plus growth range and I think we've got opportunities going forward.

Both of these acquisitions are going to be helpful, not just from the acquisition standpoint but because they are going to open up doors to other customers. Now, we've got some of the products that are going to -- from the Soleris product line that are currently Neogen customers but there are several there that we have been working on that we wanted to make Neogen customers with our other product lines. Now we've got business through Soleris and I think that will help us with the relationship building that we needed to do to finish off bringing some of those sales in.

The same thing is true with the dairy business, the UCB dairy antibiotics business. Of course we haven't even begun to penetrate the U.S. with that product yet. It's only probably $300,000 is all that's gone into the U.S. right now. But you know some of those same people who just picked up a nice account within the last few days with the Company's juice operations where we picked up about I think seven plants with our sanitation product line. So, those -- as we've continued to gain critical mass and the name of the Company continues to get in force and we've continued to strive towards being this one-stop shop, I think it's working and it's going to help bring -- help us recover some additional sales for some of those original core products. That was a longer answer than you meant to, but I like the speech.

No, it wasn't longer. Thank you very much.

Fred Russell, Frederic E. Russell Management.

Hello, good morning. He was close on the name; I will give him an A- for trying. It's kind of a long name. Thank you. As shareholders, we appreciate the great work you're doing.

Well, thank you, sir.

Yes, and as also shareholders, we like your frank discussion without the usual public relations jargon, and we like that, too.

There's been some concern about vitamins for humans and whether they really have any efficacy. Would you comment on that with respect to vitamins for animals?

Yes. I'd be happy to. I think you were looking at an entirely different story with animals. You know, we are able to -- I think I mentioned maybe in my prepared comments that our injectable products were up a little bit for injectable vitamins for animals. A lot of that is going into the food animal market, a considerable amount going into the feedlot cattle industry. Then, we know that if you don't give those animals a boost when you move them from out of the pastures where they've been and stock your cattle into the feedlot, you've got to do everything you can to keep them going forward. Those vitamins are clearly important.

You know, another thing there is that part of that vitamins that are used in cattle and feedlot also helps keep the good rich red color that you like to see in red meat. That's a little different than putting C02 into it in the package like you've probably been hearing about the controversy over packaging. But you know, this is keeping that animal healthy and keeping the product good. I think, if anything, we are probably going takes see a continued rise in vitamins for both food animals -- because there is a lot of pressure out there today to reduce the amount of antibiotics that have been used in good animals, that have been used on a low-level basis. So if we take away the antibiotics, we've got to look at other things that we can do to make sure that we keep the health as strong as we can. (indiscernible) continued more money being spent every day on small animals, dogs and cats, and so that looks like that that market is growing, too, with not the injectable side but the vitamins side for dogs and cats.

How many veterinarians would you say Neogen serves?

It would be a guess. Our people could -- (technical difficulty) -- we have a pretty good track on where they are and maybe get them down to zip code. I don't have any of those folks sitting around the table this morning, but I'm going to guess 2000-plus. I don't know. Lon, you've got a better answer than that?

I mean, we service those -- we have a direct sales force that calls on the equine veterinarians for those important products. Most of the rest of those veterinarians are serviced by sales that we make to establish distributor infrastructure that then sells to the veterinarians. So, we know that we are canvassing all the veterinarians across the country, and we are getting -- we know we've got good coverage there.

I think Jim's number is probably good when you talk about the direct contact that we have with veterinarians that are in mixed practices that have a focus on a equine.

You mentioned your success in veterinary instruments the last quarter. Would you give us some details on which instruments were most -- pardon me for the pun -- instrumental in your success?

(LAUGHTER). Well, of course the core line of that business continues to be methods of administering animal health products, and you know I prudently always say you've either got to go down the throat or through the hide (LAUGHTER). The needle business and the syringe business has been the basis for many, many years for ideal instruments. You know, with work that Lon has done in expanding some of the things over the past several months or last year or two, we've brought in some additional products. We've really expanded our needle product line; we've expanded our syringe product line. The story of the D3 needle that's detectable for the meat processing plants, that's more -- not prone to bend and break -- has been a nice add-on for us.

Plus, we are picking up a lot of what we call OEMs business that's beginning to come in there. So I guess when you translate it back to the farm level or the ranch level, it's been syringes, it's been needless. I don't know, Lon. I think we're probably a little bit closer, but this is calving season across many parts of the U.S. Most of us try to calve from somewhere between, depending on where we are, between Christmas and Easter. So, we've got spring calving season. There's a season in the fall but this is a big one. So we've got two of the top obstetrical instruments in the marketplace that have had notoriety through the years. Both of those I know are moving out quite well. You know, part of it is just that we've just continued to enhance that distribution system. Tractor Supply is one of our major customers and I think Tractor Supply -- and correct me if I'm wrong -- I think they announced their 500th store, and when we started with them, they had 300 and something.

We started out by sourcing about 330 of those stores.

So you know, their distribution system has broadened and they've carried us with them. It's not just Tractor Supply but a few of those others. So it's a good, solid business. I think, as long as we can keep it growing, that this -- you know, we've been anywhere between 10 and 16, 18% growth all in on a quarter-to-quarter basis. This quarter, I think it is about 12%, but I think we are kind of proud of it.

Well, you should be proud of it. What percentage of Neogen's revenues do you think are distributed through Tractor Supply?

It's a small percentage still, and I think -- actually I would characterize that as one of the strengths of Neogen Corporation. Just getting back to that instrument sales growth, it was fairly broad-based; it's spread across a number of product lines. Part of it is -- has been continued improvement in bringing out new products, but it's also been some marketing and promotion efforts that our Animal Safety group has done a great job on. I think that just across Neogen Corporation, this breadth of product line that we have and the fact that we don't rely on a single product or a single customer continues to help us as we show these consistent growth numbers quarter after quarter.

There were a number of trends worldwide that you were kind of conversant with much better than I am, with respect to driving interest in food safety and food testing. Then there are some factors in the United States such as a trend towards larger farms. Would you comment on any other global or domestic trends that would favor Neogen's future?

Well, I think your point about integration, vertical integration and larger farms plays more toward a company like ours. As you get to be bigger, people tend to spend more money on animal health, particularly on the animal side. As you are processing more birds through a broiler processing plant, your chances of contamination get to be greater and your professional management gets to be greater. So I think the vertical integration that's occurring in the meat industries continues to be important to us and continues to strengthen the markets that we have to serve. For one thing, (indiscernible) not quite as many people to call on.

But I don't know exactly what -- it's kind of interesting to see what's happening with the whole Mad Cow thing. We've been able to keep U.S. beef prices pretty solid despite the fact that we've continued to be out of the market with Japan, our largest-single buyer. Brazil is a major export business for us; we have good revenues and increasing revenues in Brazil. Brazil has picked up a good piece of what the U.S. lost in the beef business, so I don't know how that competition will play out. You know, I think we've probably lost some business during the early Mad Cow Disease scares that we won't get back for a while, if ever. We let us will get into the marketplace from the U.S. standpoint. But that's one of the reasons that we look at our global expansion as being so important, because it is becoming more of a global economy. We've said that there are no good numbers out there that support this really but we've said that the market outside the U.S. has got to be at least twice as big as it is in the U.S. We've moved toward -- and will continue to move toward building our international markets. I think, at last year end, Rick if I remember right, we were at about 28% I think or 27% -- (multiple speakers) -- 27% of total revenues. We had a good quarter this quarter and I expect we will be up for the year again for the fourth year in a row.

So, I think thinking globally is -- I guess having said all that, thinking globally and working globally I think is the important thing for us.

You're certainly doing a good job there. Take South America. Is there a company that has the breadth of product line in South America that Neogen has?

No, we've got a number of competitors. We've got good distribution across all of those major countries and have had for a while. One or two -- you know, we've got concerns of collecting money at times in Argentina. We're watching the growth of Brazil -- the Latin American countries. You know, I think we understand that market. We're doing pretty well. We haven't begun to penetrate the market opportunities.

There are some tariff issues that are a concern. The CAFTA, the Central American Free Trade Agreement, we think will help but like all political agreements, it's yet to have much showing as we try to loosen ourself up from some of tariffs. For instance, Brazil has I think effectively, by the time they get through taxing us on product that's going in down there, it's in excess of 30% of the value of the product going into the country. So that's a little bit of a handicap.

That's -- I guess that's the issues that we deal with, but we have been dealing with them for a while.

Well, keep up the good work and I hope to visit Lansing in the summer.

Well, you are always welcome.

[Ken Reese], [AIG].

Another good quarter, guys. Way to go! Nice to hear your voice, Jimmy. Just two things actually. You know, I hear the gentlemen talking the verticals, vertical integration in farming, but just looking at your numbers and going out even to the end of this year, you're looking at about a 70, 75 million revenue run rate. I think you might agree with that, somewhere in that vicinity?

Yes.

When does your critical mass get big enough that someone is going to be looking at you?

You know, Ken, I don't ever worry about that. I think, for a company our size, the thing is we run the business every day like we're going to own it for the rest of our lives, and if somebody comes along, we work for a few thousand shareholders and we've got those shareholders to protect and so those at this table are some of those shareholders. So you know if somebody comes along with a proposition that is good for the benefit of the shareholders that we become a part of another company, we will certainly listen. The Company is not on the block; we don't expect it will be on the block. We'd be content to run it here for -- I've got a lot of years left in me, and we're going to run this business for a while. If somebody comes along and likes it, we'd be happy to be courted, I guess.

I'd like to say something to everybody who is on the call, whether they are the buy side or on the sell side. If you go back and look at a chart of this company over the last three years, actually the last two and change, just going back to January, 2004, this (indiscernible) what's called a triple top. It's at $23 per share in January of '04, 23 in '05 and it hit it again in January of 23 '06, but you've kind of maintained it at 23 between here and 23 and 21.

Now, the interesting thing is, back in January of 2004, you had $0.61 in earnings and you are trading at 37 times earnings. This stock, folks, now is trading at 24 times earnings, and if you go with the estimate for 2007 at $1.12, it's at 20 times earnings, which means the stock is 50% cheaper than it was just at two years ago. You know, more diversified, half as expensive, so I think that is another reason that I will step up to the plate and buy some more here. I don't think you're going to see those $15 sell-offs anymore.

The only problem that I have is the conflict of interest that you currently have now by having properties and operations in Ann Arbor. (LAUGHTER). You know? That's a recipe for possible sabotage, as far as I'm concerned. (LAUGHTER)

But other than that, I'm not worried about buying the stock here at 23, 21. I think it's going 30, 35, maybe just round the numbers on the historical numbers.

Well, thank you very much, Ken, for that analysis.

All right, thanks again.

There are no further questions at this time.

Well, in conclusion then, thank you for those of you who joined us this morning. You know, we are always open, as I think most of you know. If you've got questions, don't ever hesitate to call any of us.

We appreciate the support and we appreciate the confidence that you've placed in the Company and its management and employee group. We will look forward to giving you the report of year-end here in another few months. We are out.

Ladies and gentlemen, this does conclude today's presentation. You may now disconnect.