Neogen Corp (NEOG) 2016 Q3 法說會逐字稿

Good morning and welcome to the Neogen third-quarter FY16 earnings results conference. My name is Brandon and I'll be your operator for today.

(Operator Instructions)

Please note this conference is being recorded. I'll now turn it over to Jim Herbert. You may begin, sir.

Thank you, Brandon. And good morning and welcome to each of you to our regular quarterly conference call for investors and analysts. Today we will be reporting to you on our third quarter that ended on February 29.

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

In addition to those of you who are joining us today by live telephone conference, I also welcome those who may be joined by way of simulcast on the World Wide Web. Following comments this morning, as usual, we will entertain questions from participants who are joined by the live conference. And I'm joined today by Rick Calk, Neogen's Chief Operating Officer, and Steve Quinlan, Neogen's Chief Financial Officer.

Earlier today, Neogen issued a press release announcing results of our third quarter which ended on February 29. Net income for that third quarter increased 12% to $8.3 million or $0.22 per fully diluted share. That's an increase from last year's $7.5 million that equated to $0.20 per share. On a year-to-date basis our net income now is at $26.7 million or $0.71 a share compared to $0.65 a share a year ago.

Revenues for the third quarter also increased by 12% to $76.7 million from the previous year's third quarter of approximately $68.4 million. Neogen achieved this new record in revenue despite a shortfall of approximately $1.8 million in revenues due to currency conversions. Year to date our 2016 revenues increased by 13% and now stand at $231.2 million.

Once again, Neogen's 1,200 employees around the world kept the growth string going. In the past 101 quarters Neogen has now reported quarterly revenue increases 96 times, and that's every quarter for the last 11 years.

This third quarter was a good quarter for strategic accomplishments. We did a number of things to build for our future. However, it wasn't such a great quarter for comparative purposes.

Operating income in the quarter was 14.7% compared to 17.8% a year ago. A part of this drag is clearly related to currency conversions. It seems to me that sooner or later international currency values have got to quit dropping compared to the strong US dollar, but I don't know how to predict that.

As I said earlier, it cost us about $1.8 million in currency conversions at the top line as compared to last year. But in addition to currency conversions I suspect that strong dollar also cost us some sales when customers might have cut back on their purchases, or maybe in some cases competition may have wrestled away a bit of our business if they were producing their products in the local currencies. Product mix also had some impact. And maybe Steve will talk about that.

Where currency was not an issue here in the US, our food safety group has now picked up 750 new customers since the beginning of this fiscal year. And I'd estimate that we probably picked up at least that number of new customers in our international food safety areas.

As I said we made some strong strategic moves but that had some negative impact on the earnings line for the quarter. But they will be paying big dividends as we look at the quarters ahead. I'll come back and talk about that a little more and some of those strategic moves and some of the trends that we see that are important.

But let me stop at this point and ask Rick Calk to talk about the growth in some of the exciting areas that Rick's focusing on in our food safety division. This is an area where Rick continues to provide some strong leadership in these high-growth potential markets. Rick?

Thank you, Jim. And welcome to everyone who's listening. Jim has already reported on the overall sales and profit performance for our third quarter. And our press release provided additional details related to our overall quarterly results. I'll try to provide a bit more detail on the performance of our food safety segment for the quarter.

As stated in the press release, the negative effects of the currency conversions obscured what was a solid operational performance for Neogen. Going into the quarter we knew that our food safety segment was facing a very difficult comparison with our third quarter of last year as we recorded a 27% increase in the sales of our test kits to detect DON, as we responded significant outbreaks of this mycotoxin in both North America and Europe.

To give you a bit of perspective on last year's DON sales spike, this year, we recorded a double-digit decrease in sales of DON test kits as overall testing has understandably declined compared to last year. But it's important to note that our DON sales for this quarter are still 11% above what we recorded two years ago.

In essence, we've established a new, higher normal in mycotoxin test kit sales. It's also important to note that even with that difficult year-over-year comparison, we would have recorded a double-digit increase in organic sales for our food safety segment if not for the global currency issues, which Steve will describe in greater detail.

Our food allergen product line continues to lead the way in revenue increases for our food safety diagnostics. This quarter, we recorded a 19% increase in the product line, led by increases in sales of our gluten and our soy tests.

The line has also benefited from sales of our relatively new test to detect up to six tree nuts with a single test. We're finding that our testing customers, who include multiple nuts in their food production operations -- almonds and Walnuts at the same time, for example -- prefer to test for those multiple nuts at one time with the single test.

Sales of test kits for Listeria also continued their upward momentum from recent quarters. This quarter showed sales up 18% when compared to last year's third quarter.

Those of you familiar with food safety issues know that Listeria presents somewhat of a different challenge than other common food-borne pathogens such as E-coli and Salmonella. Listeria can come from animals, as the others do, but it's also found in soil and water, and, as such, can represent a risk to most food manufactures no matter what they are producing. The more that risk is understood, the more testing for Listeria will take place.

I think another highlight for the quarter is a product line that we don't often feature, our line of Acumedia dehydrated culture media. Neogen acquired Acumedia back in 2000 as it just made sense to own the manufacturing capability for the culture media that our rapid microbial tests rely upon.

But with that acquisition came access to food safety and traditional culture media markets. These are the companies that use culture media to produce animal vaccines and cell cultures. Our Acumedia sales to those traditional media markets increased 24% in the third quarter.

Our general sanitation line of products, which includes our new AccuPoint advanced sanitation monitoring system, also continued its forward momentum in the face of these currency headwinds, increasing 14% compared to the previous year's third quarter. The more that food companies of all sizes understand about the increasing food safety rules and regulations around the world, the more they understand that manufacturing food in a verifiably clean environment is the foundation of all food safety efforts. Our AccuPoint advanced sanitation monitoring system is the perfect tool to instantly verify environmental cleanliness.

In the third quarter we took steps for our food safety sales and marketing teams to increase their partnership roles with food companies of all sizes. The sales and marketing teams received certificate training in the development and implementation of the hazard analysis and critical control points, or HACCP programs, through a training program at Michigan State University. HACCP is a management system in which food safety is addressed through the analysis and control of potential hazards throughout the food production process.

We're very fortunate to have Michigan State University as our neighbor here in the Lansing area and able to work closely with food safety experts from the University. The HACCP training program represented a fantastic opportunity for our sales and marketing teams to learn more about the escalating challenges being faced every day by our food industry customers as its members work to comply with new and expanded food safety rules and regulations.

As concerns those new and expanded global food safety rules and regulations, such as the Food Safety Modernization Act, or FSMA, we continue to see a slow ramp up as food companies understand and react to their pending new testing requirements. As I've mentioned before, we believe that the new provisions of FSMA certainly will help Neogen but the question remains just how much and when.

Most large food companies already have established rigorous food safety programs in place and the new FSMA regulations are unlikely to spur a great deal of new testing for them. Mid-size and smaller food companies, however, are more likely to increase their testing programs over the next two years and that will likely drive growth. But again, it remains an open question as to how much and when the new regulations will fully impact Neogen.

Jim?

Thanks, Rick. While we're at a stopping place here, Steve Quinlan, how about talking about -- Rick's talked about the highlights of the food safety side, talk some about the highlights of our animal safety group, and take a little deeper look at the quarter's financials than I did in my opening comments.

Sure, Jim, thank you. The third quarter of our FY16 was somewhat disappointing from an operating perspective as the shift in product mix and continuing currency headwinds negatively impacted our results. The currency issues masked some solid underlying growth, particularly in our international operations, which I'll talk about in a little bit, as the currencies in which we operate continued to weaken versus the dollar compared to the same period last year.

The euro, for example, was down 8% on average compared to last year's third quarter. The real in Brazil was down 47% for the comparative quarter. The peso was 21% lower. And the pound sterling was down 6% on average. The negative impact of the stronger dollar on our comparative revenues for the third quarter was about $1.8 million, as Jim mentioned, and about a 2% impact on the bottom line.

In constant currency, our growth was actually 15% versus the 12% growth reported, and reported organic growth of 10% would have been 13%. And on the food safety segment where our international operations report into, the impact was even more pronounced. Their 8% growth would have been 14% and organic growth of 4% would have been 10%.

Now, the past couple of weeks has seen some weakening of the dollar against these currencies but we expect continued volatility in world currency markets in the near term. Rick has already discussed some of the key highlights of the growth in the food safety business so I am going to focus on our international operations and the animal safety segment.

Neogen Europe had their first quarterly increase of the year in their local currency, with revenues up 4% in the pounds, sterling primarily as a result of revenue growth in the allergen and AccuPoint sanitation product lines. However, revenues declined by 1% when the pound was converted to US dollars. Year-to-date revenues have declined by 8% in dollars, with currency and lower genomic revenues the primary explanations.

Neogen do Brazil continues to grow its business in a recessionary environment and recorded revenue increases of 48% in its local currency of the real for the third quarter, with broad-based strength across most of its food safety product lines. However, after accounting for the devaluation of the real for the comparative quarters, revenues denominated in dollars were essentially flat. And year to date revenues are up about 1% after accounting for the 50% decline in value of the real for the comparative nine-month period.

Revenues at Neogen Latino America, our Mexican subsidiary, rose 28% in local currency and were up 7% for the quarter in US dollars in spite of the peso weakness, with particular strength in the mycotoxin and spoilage organism product lines. Year to date, revenues are up 20% after converting to dollars.

The animal safety segment recorded overall revenue increases of 16%, almost entirely organic in the third quarter. Increases in our Lexington-based business came primarily from sales of disposable products to the commercial dairy market, the result of a new distribution agreement entered in July, and strong sales of our small animal supplement product line which was up 61% in the third quarter and 32% for the year to date. These increases offset a 12% decline in our instrument product line for the quarter due primarily to order timing from some of our large distributors. And for the year to date our instrument sales are essentially flat.

Our biosecurity product offering of cleaners, disinfectants, rodenticides and insecticides was very strong, with revenues up 28% over last year's third quarter. The rodenticide business alone rose by 60% as our contract manufacturing business expanded. We also had some nice market gains in our direct farm store markets with new and improved formulations. For the year to date, rodenticides were up 56% over last year.

Our insecticide business also had a strong third quarter with revenues up 30%, aided somewhat by a spring booking program. Offsetting these gains, sales of cleaners and disinfectants declined 10%, primarily due to lower demand from international customers resulting from weak economic conditions in a number of our international markets, and the strength of the US dollar, which makes our products less competitive in those markets. The agrigenomics testing business, headquartered in Lincoln, Nebraska, was up 24% for both the comparative quarter and year-to-date periods, due to sample volume increases resulting from incremental poultry business and market share gains primarily in testing services for the swine and canine markets.

Corporate-wide our gross margins were 45.9% compared to last year's 49.3% in the third quarter, and for the year-to-date they were 48.1% versus 49.9% last year. Negatively impacting the gross margins for the quarter were mix changes, both within and between segments, toward products and service which is have lower gross margins and incremental revenues from acquisitions, which were still getting established. Margins were also adversely impacted by currency which hurt both at the top line as revenues in the foreign currency were converted to US dollars, and in material costs as our products were sold to our international operations in US dollars, and standard cost adjustments at our Mexican operations. We do expect continued pressure on growth and operating margins through at least the end of the fiscal year for these reasons.

Operating expenses overall were up 11% in both the third quarter and for the year to date. Sales and marketing expenses rose by 10% for the quarter, comparing favorably with the 12% increase in revenues, and rose 11% year to date, with the largest components of these increases being personnel-related expenditures, reflecting primarily the additional staffing over the past year and selling expenses including shipping resulting from the revenue growth.

General and administrative expenses rose 16% in the quarter, with increased salaries, stock-based compensation and fringe costs, higher amortization of intangible assets, and increases in legal and professional fees primarily related to our acquisitions. For the year to date these expenses are up 13%. Our R&D expenses were 4% over the prior quarter and for the year to date are up 5%.

Operating income for the quarter, as Jim mentioned, was $11.3 million or 14.7% of sales compared to $12.2 million or 17.8% recorded in last year's third quarter, with the percentage decline mirroring that of our gross margin percentage. During the quarter the Company recorded a net currency gain of $182,000 recorded through other income including gains from the Company's hedging program. This compares to currency losses of $470,000 in last year's third quarter. For the year to date net currency charges running through other income and expense totaled $984,000 versus $689,000 in FY15.

Our effective income tax rate for the quarter was 28.8% compared to 36.3% in last year's third quarter, and the difference was primarily the result of utilization of available research and development tax credits. Year to date the effective rate is 33.6% compared to 36.1% last year.

The Company generated about $7 million in cash from operations during the quarter and $28 million for the first nine months of the year. We've invested $16.6 million in the Sterling test house, Lab M, and Virbac acquisitions this year and another $11.1 million in property and equipment.

Our inventory balances have increased 27% in large part due to a concerted effort by the Company to improve our service levels to our customers and reduce back orders. Additional increases in inventory are the result of the Lab M acquisition, stocking requirements for the new dairy distribution business, and increases at GeneSeek based on timing of receipt of bulk ship orders. Our accounts receivable balances have declined 5% in spite of the increase in revenues. And our day sales outstanding have improved by two days is since the beginning of the year.

So, in wrapping up, in spite of the challenges we continue to face from currency, shifting product mix and economic uncertainties in our international markets, we continue to be excited about the prospects for both the remainder of the year and our longer-term future.

I'll now turn it back to Jim for some additional comments.

Thanks, Steve. Real quick, about currency conversions, it's concerning but obviously we will play whatever hand gets dealt to us. Earlier I'd talked about strategic moves that we had made during the quarter and some of the impact that it might have had on the earnings line. Unfortunately, strategic opportunities don't always match up with the three months' intervals of reporting quarters.

We've made three acquisitions so far and considered several more during the year, all of which are integral to our growth strategy. However, organizational costs and legal expenses, inventory issues and all the necessary experts' reports and other things that are required to do a good job in due diligence are now required to be expensed at the time that they are spent. Back in the good old days we could amortize these as part of the purchase price instead of taking a one-time hit in the quarter in which they occurred.

Even good acquisitions don't always start off in a profitable position in the first month they come onboard. India is an example of this. It's one of the two countries that will have the largest middle class population growth in the next two decades and we needed to be there.

Taking into account our startup expense and organizational costs, our Indian operations have not been profitable to this point and are not likely to be profitable for the remainder of the year. However, we anticipated that and suggested earlier that, at best, the Indian operations might break even.

The acquisition of our Lab M culture media business in central England is another perfect example of a part of our strategy that fit well into our Neogen Europe management team that's based in Scotland. Again, this one has taken some management time and had some things that impacted our bottom line. We do expect this one to be profitable in its first nine months of Neogen ownership, and that would occur by the end of fiscal year in May.

We expanded our genomics testing to our laboratory in Ayr, Scotland during the quarter through a build out of laboratory space and new equipment purchases, and significant time and expenses in training our staff. This is and will allow us to grow our animal genomics business in Europe and at the same time relieve some of the high-volume requirements that we continue to place on our main genomics lab in Lincoln, Nebraska.

We acquired some strong rodenticide assets from Virbac, a French company, in January. This gives us additional technical products we use in our various rodent baits. Having these additional products is important to those customers who need to rotate product on a regular basis, sometimes every three months. We also picked up approximately 40 different registrations from the Virbac acquisition that opened markets to us not only in the US but also in Mexico and Canada.

We're seeing a lot of positive drivers in our business, which I'm sure you realize is not unusual. Increase in organic foods is one of those. Last week, we attended the big organic food show in Anaheim where there were 2,700 exhibitors, including us, and an estimated attendance of over 80,000 people. It looked big until you stopped to realize maybe it's not so surprising when we look at the fact that overall grocery sales for 2015 grew at 2% here in the US, but organic food sales grew at over 12%.

This is not just the food for companies like Whole Foods but both Kroger and Walmart, the two largest US food retailers, are both establishing organic food sections in their stores. We positioned ourself in this market as the Company that wrote the book on food safety.

Another big driver is a push toward meat being raised without antibiotics. And you've probably seen and heard that in a number of places by now. Some retailers and even fast food companies are positioning themselves to buy only meat from animals that were raised without antibiotics. This provides big opportunities for our animal safety group, which has very strong products for biosecurity that's needed to be able to accomplish this.

Regulations that are aimed at improving food safety are proliferating around the world. We're there. We're offering products and programs as to both the food producers as well as food processors and all the way through to foodservice.

The EU, with the most stringent food safety programs today, is continuing to strengthen their regulations and their inspections to keep out natural toxins, pathogens and allergens, and now a stronger program even than ever before on drug residue. Neogen is there with the needed products and is continuing to focus on strengthening our distribution in those countries.

It wouldn't be a report unless I talked a bit about what's happening with the Food Safety Modernization Act over at US FDA that passed back in 2011. Rick talked about that a little bit earlier in his comments. You may remember there's seven pillars to this program, all aimed at the prevention of food safety problems rather than just detection and reporting. And of those seven, final regs are now published on five of them and the remaining two are likely to occur here in the next few months.

The first two of these that went into effect in early September of 2015 won't be enforced until September of this year, and that will only be for the large companies. Smaller companies will have until September of 2017, and the real small companies have until September of 2018. We think that we will continue to see this kind of scheduling for the other five of those pillars that we discussed.

However, as Rick indicated, food processors, the big guys especially, are already beginning to get their house in order. And we continue to see some increase in our food diagnostic sales as the months go by.

New products and new concerns are continuing to be good opportunities for us. One of our newest line of product has been our diagnostic test to detect food-borne allergens. I don't think there's been a single month since we began introducing these products that we haven't shown double-digit growth. This past quarter I think we were up 19% compared to a year earlier.

We know -- time doesn't allow for me to talk about them today -- that we will continue to be seeing other opportunities for new products, and that's exactly where we will have our 75-person R&D staff focused.

So we can get on to questions, I'll maybe summarize by saying that the drivers that have propelled us every quarter for the last 101 quarters are still in place and they're getting stronger. I talked a bit about new products. Secondly, we think that most of our markets are growing and it's our goal to keep up with that growth and take a little bit away from competition on top of that every quarter.

The third is acquisitions. We continue to be active on the acquisition front. We have nothing really to announce to you today on pending acquisitions but we can say that we have several interesting ones that are on the radar screen that are synergistic to our current businesses and we think that's important.

The fourth, of course, is the growth of our international revenue base. We've talked a good bit about that in this call so I think you can see that we're continuing to put emphasis in that area.

I think I'll conclude at this point our prepared comments for the morning and open the call up for questions.

(Operator Instructions)

From William Blair, we have Brian Weinstein online.

Hi, guys, thanks for taking the question. I thought we could spend some time on the margin structure. Steve, maybe, can you bridge us from last year to this year? You gave obviously what the margins were this year and what they were last year, but in terms of the factors that are driving the decrease there, can you help bridge us quantitatively on what each of those factors contributed?

Yes, Brian, without getting super specific, I would say the currency impact was probably close to $1 million. The product mix was another $1.2 million or so, somewhere in that range. Those were the two biggest pieces.

And, really, when we are talking product mix, it was just that some of our lower-margin product lines or pieces of business did really well this quarter. Rick alluded to the DON sales that were down, so our mycotoxin group, which is a higher gross margin product, was down compared to last year. So, the lower-margin products exploded, the higher-margin products just didn't grow as well.

I'd add to that, just to interrupt you just a second, Steve, something I probably should have covered, Brian, is when you're sitting in there with a distributor in a country that it costs him twice as much to buy our product as it did a year ago, and we're trying to figure out how to stay even, we have to do some things to adjust their price to keep them in the marketplace.

The same thing is true with our own sales in Brazil. We've got a sliding scale on some of that product down there. We supply product from here to Brazil, and Brazil sells it to the end user.

In those cases, we slide the price, the end-user price, on that, depending upon what the currency ratio is. So, that slid a little bit more this month. We sold product a little cheaper than we did this time last year -- the same product, a little cheaper. We've structured that.

We've been through this before. It's fortunate, unfortunate. It's not the first time we've seen the peso and real valuation, particularly the peso. Haven't seen it occur this long and this hard, but we've seen it before. And we'll recover those margins as the local currency adjusts to the dollar. That has something to do with the impact, too.

You guys have talked about a 20% target, obviously, for a long time on your operating margins, and when you're above that and below that, you make adjustments to your Business. Is 20% still the right way to think about the operating margin target here?

Yes, I think it is. Despite where we are now, I think 20% is still a good bogey. If 20% is a good bogey, we're a hell of a long ways off today, aren't we?

Yes. So, when do you think you get back there? And what are the things, outside of foreign currency, that get you to get back there?

The operating expense -- we've got in India -- and none of these are big losses, but India is losing money and it won't keep losing money. It's showing now -- we're budgeting, India is being budgeted. It will start making a reasonable return next year.

We're gearing up this strong move on what we're doing for genomics with the new lab. It's a kind of a little sister to Lincoln. And our operations in Ayr, Scotland, they are good there, and we will pick up some additional business. Instead of bringing samples from England or France and bringing them to the US and doing the work and sending them back again, we'll be able to do a lot of that internally there in-country now, which not only will help a little bit on cost-wise but it will help with all of the clearances of USDA that you've got to clear to bring in animal products.

It will make us in-country and give us an opportunity. We've got a little competition developing over there. It will give us an opportunity to be more competitive in those markets.

So, those things all working together -- and I tried to point out in my comments all of the things that we've done that I think are really positive for the growth of the Company. It's just that sometimes it's hard to match these up to a three-month interval.

Understood. Okay, thanks, guys.

From Stephens Inc., we have Drew Jones on the line.

Good morning. This is actually Garrett on for Drew. Thanks for taking the questions.

First, just talking about the dairy distribution agreement with a large manufacturer, is that something where you saw increased penetration in the markets where you're selling, or maybe expansion into new markets? And then could you talk about the opportunities with that partnership going forward?

Thank you. Good to hear from you.

We've identified always that, as we looked at animal proteins coming into the marketplace, that dairy was a good place to be. We'll never see the dairy business integrated to the extent that chickens and eggs and milk and pork have been, because it takes more land mass.

There's a lot of opportunities on the dairy side. We do some things all the way back down to we've got a major program going for a dairy heifer replacement program through our genomics operation where we're actually able to take samples from a week-old calf and tell the dairyman which calves he should save as replacements to go back in his herd.

And that goes all the way through to the milk parlor where we are one of the two largest suppliers of diagnostic tests on a worldwide basis for the detection of antibiotic residues that would be in milk at the first point of receipt from the farm. And we've got all of the area in between.

This was a case where, fortunately, our reputation had preceded us. This is an international-based company that has some distributors here, that they were selling some of their milk processing products through. And they said -- we've got these products and we're not doing as good in distribution as we would like to do. We would like for you to consider taking these over and handling distribution for us.

It's costing us a little bit, not much. It costs a little bit of royalty to do that. They've handed over that book of business to us. We'll grow that business; we'll build on it. It's another opportunity for us to get to the dairyman, and this gets us back -- really back to the dairy farm.

We have a focus on all those dairy operations that have more than 500 head of cattle. This fits. We're in the middle of it. So, we were pleased to be able to pick that up.

I hope that answers your question. It was almost a political answer as long as it took me to answer. I've been listening to the politicians lately trying to see if I can talk long and say nothing like they do.

And then just a second question on the partnership with Illumina, if you could give us a little bit more detail on where that's going, and if you've really seen that start to pull through any at all? Thanks.

Thank you. Another good question.

Frankly, the Illumina thing has not progressed as fast as I thought it would. The quick background for those of you that don't know, we have our own bioinformatics that we developed for a number of areas. We work with Illumina to put our bioinformatics on a chip, then we use their chip to be able to run samples to run the raw data in order to get our genomics out.

For the prior year or two, we had been buying those chips from Illumina and running them ourself or, in some cases, selling those chips to somebody else to run on an Illumina instrument where it was markets that we couldn't reach for one reason or another. And Illumina decided they would really like to sell those chips themselves, and we said -- that's great, but this is our proprietary genomics it's on. So, we formed what I think, still believe, is a good relationship.

It's our genomics and their chip. They are going to sell them to somebody else, and we kind of can dictate who that's not going to be. They sell them to somebody else and we get essentially some percent of the profits, depending upon several things in the factor.

Bottom line, if it worked right, it would have not made any difference when compared to the prior year in which we had to grow sales and net profits. It's not quite kept up with what it was a year ago.

So, if I compared bottom line this year to bottom line last year, it's probably behind a little bit. But part of that was just getting the Illumina sales force around the world squared away. We continue to believe it was a good relationship and will be a good relationship that we can go forward with.

Thank you.

From Janney Montgomery we have Paul Knight on the line.

Hi, Jim. Could you talk to, based on your experience, how long it takes to get this pricing cost structure put through the system? Is it a quarter, is it six months? Could you put -- what do you think the timing is on a adjustment of a more normalized margin?

Paul, I'd be quick to do that if you could tell me what's going to happen to the dollar versus the peso and the real for the next six months. I'm being facetious, and I apologize for that.

A big part of it is really -- we can't stand by and let -- we've got a competitor that's in Germany that would like to have part of our business that we've got in the EU. They make their product there. They make it under EU costs, and we make ours under US dollar and ship it over there. They can keep their gross margins and they've got an advantage. We can't stand by and let them have that.

In some cases, we're adjusting price, as I mentioned earlier, to take that into account. And we will have to continue to do that because, whether it's our own operations or our strong distributors that have been our partners for years, we can't let them get beat up in the marketplace.

I don't know how much longer we'll have to do that because I don't know what's going to happen to the currency. As Steve said, we think we can see it soften a little bit. We're hedging. We didn't talk about our hedging program, but it's beneficial.

We probably need to figure out the equation to do a little bit more of that to protect us. But that goes to the other, at the bottom line. So, you don't see what happens to hedging as it relates to the operating side or the gross margin certainly of the Business.

I don't know what the answer is. We'll play the hand that's dealt us. We are in a strong position. We are generating growth at the top, I think, pretty good. Growth at the bottom line matched it.

We would like to be doing better. I don't like particularly our operating margins, but I talked a little bit about how I think we can get that up. I don't know, but I think we're okay. It's not where I would like to be, but I think that this day and time, if you take in the currency conversions, if you grow the top and bottom line at 12% or better each quarter, that's probably okay.

Yes. And then the rodenticide area was cited, I know, in your press release and your comments. But what was this big number behind the big growth in rodenticides?

We brought in some new products, some new -- I'm trying to remember now, I think we got six different technicals that impact lethal dosage for rats and mice in different ways. In some cases they are anti-coagulants; in some cases they prevent the synapses of the nerve system.

You keep looking at those because those populations have a little bit of memory, I guess. One guy can remember -- one of those rats can remember Uncle Harry ate that and died, so I don't want to eat that anymore. So, you've got to give them something new to eat.

I think that's helped us. I think we've gained against competition. I don't think there's been any real increase in marketplace.

And we've got a couple of people out there that are in the rodenticide business that have opted not to be their own manufacturer. So, we've picked up some commercial business, OEM contract manufacturing business that's been helpful to us.

We can make product for somebody else and let them sell it, particularly if they're going to marketplaces where we don't reach, and we can still do okay. It's not quite the same margin. We talk about margins; it's not quite the same margin we'd have if we sold it direct to the end user, but we can still make very respectable margins since we don't have the sales and marketing expense attached to it. I don't know if that answers the question.

Yes, thank you. And then, lastly, on the tax rate, Steve, we should think back to a normalized 34%, 35% for the May quarter?

It might be just a little better than that, Paul. It might be in the 32%, 33%, and then normalizing next year in that 35%-ish.

Okay, thank you.

From Craig-Hallum, Charles Haff.

Hi, guys, thanks for taking my questions. I had a couple more questions on the D&A and GeneSeek business. The GeneSeek revenues were up 24% in Lincoln. What were the GeneSeek revenues in Europe?

Steve, you got that on the tip --? It's a very good question, Charles.

We fold them together for our own internal purposes, but I can't remember what that number was. It's just beginning to get started good over there.

It started earlier in the quarter. We'd begin to move some stuff earlier in the quarter. I don't know they've got them at their finger tips; they just haven't got the right finger tips.

No worries. How about on volume growth for GeneSeek? Do you have a number for that in the quarter?

I can give you a ballpark figure. Last year, in our last fiscal year, we did just slightly over 1 million samples. And we're now at a current run rate -- I don't know exactly what we've done on a year-to-date basis sample-wise, but for the last quarter we were on a run rate to do at least 1.5 million. So, that would say that if we can continue this run rate, that we would be talking about a 50% increase.

But some of those are not at the same margins. We get a different margin for genomic work that we do if it's looking at a high-price pedigree bull that they want everything on compared to trying to decide to help the poultry guys decide which chickens to save for the next generation of parent stock for poultry breeding. But they are all profitable.

Okay. And then I had a question for you on the mycotoxin and natural toxin Allergan line. Correct me if I'm wrong, but I think in the fourth quarter of FY15, you had a negative 6% growth or so. So, you have an easy year-over-year comparison there.

How should we be thinking about that line for the fourth quarter? Should it, blending the two quarters together, be closer to your long-term mycotoxin number? I know it's bounced around a lot in terms of the cleanliness of the crop and so forth, but any guess that you could give us on the fourth quarter?

That's a very astute question. The crop this year -- there's five mycotoxins that are of major importance -- really two that we talk most about. One is aflatoxin, which affects you in hot humid weather and dry weather; and the other one is the DON vomitoxin that affects small grains that happens when you get in cold wet weather, and they're at different times a year.

We have to look too at the Northern and Southern Hemisphere. We're pretty strong in Brazil, so that helps us from the Southern Hemisphere crop.

I would say that this crop, in general, the corn crop is cleaner this year. The harvest -- the one we just harvested in North America, Northern Hemisphere, is cleaner than the one last year. There's not going to be a lot of carry-on there as that grain begins to move out of the grain bins.

Vomitoxin -- wheat is a problem, so that could keep us at pace with last year fourth quarter. Our guys -- we're in budgets for the new year, and they've been doing a lot of forecasting as we've set through those and trying to figure out where this year is going to end up. And, of course, they've got to forecast fourth quarter to do that. So, I don't know.

Steve, do you have a handle on that number? Maybe slightly better than last year, but not a lot?

That's probably a good estimate.

Depends on how much of that wheat, and where it goes.

Okay, fair enough. Thanks for taking my questions.

And, Charles, this is Steve. Genomics revenue in Europe was essentially flat with last year.

Okay. And you didn't have the Ayr, Scotland, facility up and running last year, right?

No, it was not. We were doing -- bringing samples through there, and actually doing some sample extraction. We would have been taking hair, bloodguards, whatever, and extracting the DNA out, sending that DNA to Lincoln, and then the results coming back. So, there would have been some revenues generated there, but nothing like what we're doing now.

Okay, great. Thanks, guys.

From ROTH Capital Partners we have Tony Brenner online.

Thank you, good morning. Steve, do you have what international sales as a percent of revenues were in the quarter versus a year ago?

They were 33.3%, and last year they were 36.4%.

And of that 33.3%, could you break out Brazil and Mexico as a portion of that?

We'd have to do a little math, Tony, but we can get there.

I know you're capable. (laughter)

Now, that's one reason -- of course, the international is growing. It's not growing as fast as domestic.

Tony, as you've heard us say before, we think at least two-thirds of our opportunity lies outside the US. That's the reason for talking about Lab M in central England; the reason we're talking about what we're doing with Ayr; that's the reason we're talking about pushing for India.

I'm excited about India, and I think we'll start to turn the screws pretty quick there. But India, that market is still pretty undeveloped. We're in the lab testing business now, and our desire there is to use that as a springboard to get the rest of it up.

While Steve is playing with his Abacus, Jim, will you be making additional acquisitions in India, short term? Is that how it's turning around?

Not short term, but we would like to do that; it's in our strategy. India is really lots of countries where they're not very well connected. You can fly back and forth to them; you can't drive back and forth.

Whereas, we're on the southwest coast, which we think is pretty important. We selected that because there's a lot of products going export out of there. That's a big export market for lots of spices. McCormick's got a huge operation there. And there's some other things there.

But if you're going to get out of the northeast, then it's hard to get there. So, we will use a springboard of some kind, whether it's being able to tie up with a strong distributor that gets strong -- there's nobody strong there now -- that's a pure distributor, or whether we will need to use a testing lab as a springboard like we're doing in the South.

But you don't need to do that in order to turn the corner? (Multiple speakers).

No. We will be profitable in what we've got. I think we will see some profitable months here in the next couple months, but it won't be profitable for the year.

Tony, that number is about 15% of the 33%.

Almost half.

No. 15% of the 33%.

Oh, of the 33%. I've got it.

A strong spot there is distributor sales, still, out of the UK. I should remember that number, I've been through it back and forth for the last week. I think $16 million, $18 million there for distributor sales in the EU.

We manage that through our Neogen Europe operation because we're sitting right in the middle of the same time zone. And we've got just a really fine group of sales and marketing people that handle those EU countries.

And I mentioned, I think, in my comments that we wanted to increase our distribution in the EU. We're in every country, but there's a few where we're not near as strong as we ought to be, and yet there's potential there.

Okay, thank you very much.

(Operator Instructions)

And from Hilliard Lyons, we have Kurt Kemper on the line.

Hey, guys, thanks for taking my questions. A quick one for Steve: Do you have how much Virbac added to the top line this quarter?

Virbac was pretty minimal, Kurt. We really bought formulations more than active sales.

We've got some inventory. We've got -- I don't know, I'm going to work from memory, but total revenues that came from that is probably under $2 million, as far as the sales. Correct me if I'm wrong, right quick, Steve.

Mostly that was important to us because of the registrations of the technical material they had, plus some awful good permits. So, we've got some opportunities to go to US, Canada and Mexico with some products that we didn't have before.

In particular, in Mexico and Central America, they needed an extra rodenticide technical or two because they didn't have enough products for rotation. So, that will have an impact for us. It was strategic.

Didn't do a lot for top line, bottom line. Probably did more to hurt the bottom line than it did anything else in this first quarter because we had to expense all of the [equipment]. But it was a good acquisition.

We continue to have a relationship with Virbac. In fact, we produce another product or two for them on an OEM basis. So, we're friends.

Okay. And then last question, regarding GeneSeek, are you starting to see some smaller producers come on board or at least become more interested as costs decrease to them?

Yes. That business is all over. We do business with, of the 11 major beef breeds in the United States, we've got exclusive for 10 of the 11. We share American Angus with another firm. That's pedigree type stuff, parentage.

Where we see the real growth opportunity on the bovine side is in helping producers select the right replacement animals to go into their herds. Dairy is pretty important. 50% of your calves are going to be female, and you're going to need to save about half of those for replacement, so which half do you save? This genomic test, which is out there somewhere in the range of $25, is pretty easy to run a test on those. You can't look at them phenotypically when she's a week old, or even look at her mother and tell whether she's got the right genetics or not.

So, that's going to grow. I think it's clearly going to grow. How fast will it grow? I think some of it has to do what [the milk] prices are.

The beef side -- it's growing big on the beef side for the same reasons. As we expand that market, we've got a new program that we're putting in place in Brazil that's going to be really exciting, some things that we're doing down there. That's a different breed of cattle down there than the [lorie] cattle.

You remember what [Brahma] cattle look like. They are more like Brahma cattle than what Black Angus cattle would look like. So, the genomics is different. Nobody's really got a handle on that.

But they're going to continue to be one of the important suppliers of beef to the world. So, we are excited. We've been down there for the last couple of weeks again, working with our people on the genomics side. So, we're excited about where that's headed. It's good, I just don't know how fast it will grow.

Okay. All right, thank you, guys.

From Great Lakes Review we have David Stratton on the line.

Hi, thanks for taking the call. I just had a quick question regarding the veterinary instruments and the decline. When is that expected to stop? It's been going down over the last quarter. What are the drivers and when will that turn around?

Actually, the vet instruments have been pretty strong. This quarter in particular there was a decline. So, they're flat year to date, but the first two quarters of the year they were actually up. That's a very strong product line for the Company, and we see growth going forward for that product line.

Yes, if you remember back, we made three key acquisitions there over the course of the last two or three years, which make us kind of the king bird of vet instrument manufacturing in the US, and the right products and the right distribution system. There are a few products that we make for suppliers, vaccines or medications.

We may make a product for them that they include and give it away free to their customers. I suspect -- and I should know this -- but I suspect the decline that we're looking at there might be as a result of not loss of market share but just difference in perhaps some big orders that might have come in for that companion product stuff a year ago compared to where we are now.

We're busy. We're adding some new products there. We've spent some time this week looking at new instrument products. You say -- how many more ways can you get an animal treated, pour it on the top, stick it down their throat, stick it through a needle.

There's still other ways to do that. It's a fun kind of business. And we'll continue to grow it.

All right. And then on the line of new products, in general, not just veterinary instruments, can you talk about new products that maybe are upcoming or products that have been really strong recently?

I can't talk a lot about what's upcoming because all of my competitors are listening to this phone call while we talk to you. But we'll continue to grow from several places. We've talked about what we're doing with rodenticides. There's some new products coming there.

We will do some new products on the cleaner and disinfectant side. We'll introduce -- and I'm thinking now back about the biosecurity area on animal safety. We are doing some new things that's going to be fun on the insecticide side, which is a part of that biosecurity.

Over on the food safety side for diagnostic products, we've got several new products that are coming down for diagnostics. They are going to be used for the same purpose, but they will either be easier to use or more accurate or cheaper to the end user.

We've got 74 people. I'm not sure that even includes all of our engineers that we've got, Steve, over on the Prima Tech side, but we've got at least that many. And we are right now in the final focus of what they are going to start up as new product for next year. I think, in fact, that's part of our budgeting session tomorrow.

So, I'm pretty excited -- continue to be pretty excited about there being opportunities for us. As an example, somebody's got to do something about GMOs, if you've been listening to that story. Do you label all products that have GMO content, or do you label those that don't have them. Somebody's got to have a better test than what we've got now.

We're in that market, but it's not a strong market for us. Some of those kind of issues that are coming along are going to invite new products.

There will be some new allergens. We've got, I don't know, what is it now, Rick -- 13?

14.

14 different ones, but we've got two or three more that we don't have. Somebody wants one separate for cashew -- it's in our tree nut product, but somebody wants to make cashew milk for some reason. So, we'll go back and make one there. If somebody wants it, we're going to try to help them.

All right, thank you. And then one last housekeeping question -- do you have your cash flow from operations number for us?

Yes, it was about $7.1 million for the quarter.

All right, thank you very much.

From Sio Capital we have Michael Castor on the line.

Thanks very much. Two financial questions -- the first is, I think you said you had $182,000 of hedging gains, and the operating income or the other operating income line was a positive $385,000. I'm used to seeing that run $0 or a little bit negative, excluding the FX. So, what was the plus $200,000 in there? And what will that be on a normal basis, if you exclude all hedging gains?

And the second financial question was: With the lower tax rate this quarter -- was that one time or -- a better way to ask it is, a normal tax rate, excluding this year from the benefit, what's the tax rate normally going forward?

All right, let's do the tax one first. This quarter, we were able to use some R&D credits, and we'll be able to use some more in the fourth quarter that will take our effective rate to in the, let's call it, 33% effective rate. Going forward, we'll still be getting benefit from R&D, but we won't be getting any past year benefits. So, we'll probably be up in the 35.5%, somewhere in there, 35.5%, more our normal rate.

Your question about what's in other income, we have royalty income that flows through other income. What you saw in the press release, there's also interest income in that line item.

Not very much.

No, not very much. But those are the two pieces of other income that are inside of that number that you can't see.

So, for other, if there were no hedging gains or losses going forward, what would the normal level of that be?

For this quarter, the interest income was $120,000. Royalty income was somewhere in the, let's call it, $50,000. Excluding anything currency-wise, you're somewhere in the $150,000 to $200,000. And those fluctuate obviously, but those are the numbers.

Great, thank you very much.

We have no further questions at this time. I'll now turn it back to Mr. Jim Herbert for final remarks.

Thanks very much. Thanks for those of you who were on the call, and your continued interest in what we're doing. We'll keep you posted as new developments occur. Have a good week, and spring is here. Thanks.

Ladies and gentlemen, this concludes today's conference. Thank you for joining; you may now disconnect.