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Operator
Good day, ladies and gentlemen, and welcome to the first quarter 2009 Prestige Brands Holdings earnings call.
I will be your coordinator for today.
At this time all participants are in a lode load.
We will be facilitating a question and answer session towards the end of this conference.
(OPERATOR INSTRUCTIONS)
I would now like to turn the presentation over to the host for today's call, Mr.
Dean Siegel, Director of Investor Relations.
- Director, IR
Good morning.
Welcome to Prestige Brands fiscal 2009 first quarter conference call.
During this call statements may be made by management of their beliefs and expectations as to the Company's future operating results.
Statements of management's expectations of what might occur with respect to future operating results are what is known as forward-looking statements.
All forward-looking statements involve risks and uncertainties which in many cases are beyond the control of the Company and may cause actual results to differ materially from management's expectations.
Additional information concerning the factors that might cause actual results to differ from management's expectations is contained in the Company's annual and quarterly reports that it files with the U.S.
Securities & Exchange Commission.
Now I would like to introduce Mark Pettie, Chairman and CEO.
- Chairman, CEO
Thank you, Dean, and welcome to all of you joining us us on the call this morning.
In addition to Dean, with me is Pete Anderson, President and Chief Financial Officer; and also joining us is Chuck Jolly our General Counsel.
I will begin today's call with an overview of our first quarter results including specifics on our wart care business.
Pete will then review the full financials for the quarter in more detail.
I will follow that with segments of our segment performance, our progress against the four strategic growth thrusts guiding our efforts and our outlook for the balance of this fiscal year, we'll then open the call for questions.
Let's get started with our reported total revenues for the first quarter which were $73.5 million, a 6.5% decrease from last year.
As indicated in our press release, this decline is attributable in large part to unsettled pricing dynamics in the cryogenics segment in the work care category which led to a 44% decline in our wart care revenues.
As I discuss odd last quarter's call, in March and April we significantly reduced list pricing on Wartner and Compound W Freeze Off respectively in response to actions taken by our major branded competitor.
At the same time we reduced the number of applications in our Freeze Off product also in response to a similar move by the same competitor.
While the new pricing for Wartner was reflected in a timely fashion, Freeze Off did not fully achieve reduced retails across our major customers until late July.
Consequently price gaps versus our largest competitor were wider than expected throughout Q1, negatively affecting unit sales of our cryogenic products and to a lesser extent our Compound W salicylic acid product.
Effective with the end of July our new prices are in place with all our major customers and we're beginning to see improved Freeze Off unit sale trends.
The second factor affecting wart care in Q1 was the change in the balance of competitive marketing spending compared to recent history.
In addition to reducing their cryogenic prices during the quarter our largest competitor increased their wart care spending against both advertising and in-store promotions versus last year.
Conversely since we were still in transition to our new retail price structure during Q1, we elected to reduce our spending versus prior year until that transition was complete.
While I won't predict what competition will be doing with their spending in Q2, I can tell you we will be restoring support behind our proven advertising Company and strong brand equities now that our retail pricing is in line.
This will be very important as we move through the second half of the traditional six month April to September wart care season as wart care consumption during this period historically skews to the latter three months.
While we expect wart care revenues will continue to be down versus year ago due to the significant cryogenic segment price decline, we do project improved performance relative to Q1 as we move ahead.
Returning to our overall corporate performance, reported net income for the quarter of $7.8 million was $500,000 or 6.6% below last year's reported net income of $8.3 million.
Similar to the revenue story for this quarter, the decrease in net income compared to prior year was strongly influenced by the pricing dynamics in the cryogenic wart care segment.
Finally, we generated $15.3 million of free cash in the quarter.
Our continued strong cash generation helped us pay down an additional $15 million on our term loan reducing total debt to $396.2 million at June 30.
That's the summary for the quarter.
Now I would like to turn the call over to Pete who will provide additional commentary and financial detail.
- President, CFO
Thank you Mark good morning everyone.
As Mark mentioned, net revenues for the quarter of $73.5 million were 6.5% less than prior year net revenues.
Our operating income of $21.2 million was $1.9 million or 8.2% below last year's operating income of $23.1 million net income of $7.8 million was $500,000 or 6.6% below last year's net income of $8.3 million.
Cost of sales for the quarter of $34.3 million was $3 million or 8% below cost of sales in the prior year.
As a percent of revenue, cost of goods sold declined from 47.5% last fiscal year to 46.7% in the current year.
During the quarter we benefited from a positive sales mix combined with the continuing positive effects of our systematic cost reduction program and the benefits of last year's fourth quarter pricing increases taking on certain of our brands.
Our advertising and promotion expense of $7.3 million was $500,000 less than spending of $7.8 million last year.
Increased advertising and promotion spending against last year's break through innovation products, Murine Earigate and Comet Mildew spray gel was offset by decreased spending against the Doctor's NightGuard and Compund W brands.
Spending behind Compund W was moved from Q1 to Q2 this year to coincide with the full reflection of the Freeze Off pricing transition Mark spoke about earlier.
Our G&A expense of $8 million was $400,000 greater than prior year's expense of $7.6 million.
The increase was primarily due to higher stock-based compensation expense versus the previous year's first quarter.
Our legal expenses were flat with last year's first quarter spending.
As we mentioned on our last call, the litigation to defend our Doctor's NightGuard patents and trademarks is ongoing.
As a result we anticipate legal expenses to continue to exceed what we would consider to be a normal run rate until this case is concluded.
Interest expense of $8.6 million during the quarter was $1.1 million lower than the prior year as a result in the reduction of debt achieved during the past twelve months.
Now let's review the first quarter results by segment.
Net revenues for the OTC segment of $39.2 million were $3.2 million or 7.5% less than the previous year due to sales declines on the Compund W, Wartner, Doctor's, and Little Remedies brands.
Those declines were partially offset by increases on Clear Eyes, Murine, Chloraseptic and New-Skin.
Our gross profit for the segment was $26 million, 3.7% below last year's gross profit of $27 million.
Gross profit as a percent of revenues was 66.1%, a substantial improvement over the prior year gross profit of 63.7%.
The improvement over last year was due to favorable product mix, the continuing benefits from the COGS reduction program initiated last year, and the positive benefits of the pricing actions taken on some of our OTC items in March.
Contribution margin of 421 million for the segment was $200,000 or 1% less than the year ago quarter.
Advertising and promotion spending for the segment of $5 million in the current year was $900,000 less than last year's spending.
Increased media spending on Murine Earigate was offset by decreased advertising for The Doctor's NightGuard and a shift of Compund W advertising to Q2 when lower price Freeze Off product is fully available at retail shelves.
Household products net revenues of $29 million were $900,000 or 2.9% less than last year.
Sales increases for Comet led by Comet Mildew spray gel were offset by declines on the Chore Boy and Spic and Span brands.
Gross margin of $11.1 million was $400,000 or 3.5% below the prior year primarily due to the sales decline.
The household segment contribution margin for the quarter of $9 million was $900,000 less than last year due to the gross margin decline combined with an increase in advertising and promotion spending in support of Comet Mildew spray gel.
Net revenues of $5.3 million for the personal care segment were $1 million less than last year.
Gross profit of $2.1 million was $700,000 less than last year primarily due to the sales decline.
Contribution margin of $1.9 million was $600,000 less than last year, again due to the gross profit decrease.
Our free cash flow for the quarter which we define as operating cash flow less capital expenditures was $15.3 million.
That represents a $7 million improvement over free cash flow of $8.3 million generated in the quarter ended June 30, 2007.
The major driver of this improvement in free cash flow was a positive change in working capital driven by a reduction in accounts receivable.
Our day sales outstanding at June 30, was 41 days, down significantly from the DSO of 48 days at the end of the March quarter and equal to last June's day sales outstanding of 41 days.
As Mark mentioned, our continued strong cash flow in Q1 helped us to pay down $15 million on our term loan during the quarter.
On a trailing twelve-month basis we have paid down $51.2 million of our term loan B debt.
And now I will turn the call back to Mark who will provide additional Q1 perspective and discuss progress against our four strategic thrusts and the outlook for the balance of fiscal 2009.
- Chairman, CEO
Thanks, Pete.
Let's get right into the OTC business where the wart care dynamics I detailed earlier were the significant drivers of our 7.5% revenue decline.
To a much lesser extent the absence of Medicaid cold SKUs in our Little Remedies line and declines in The Doctor's NightGuard business also negatively influenced Q1 OTC results.
Spending a moment on Little Remedies, you will certainly recall us discussing our participation last fall in an industry wide voluntary withdrawal of pediatric cough/cold items which we officially stopped shipping last October.
Due to the inherently seasonal nature of these products the vast majority of their sales historically occurred in late Q2 through Q4 with Q1 being the lightest period.
Nonetheless, the absence of these products in Q1 of this fiscal year contributed a little over 1 percentage point of the overall 7.5% OTC revenue decline.
It is worthy to note that absent the impacts of wart care and Little Remedies cough/cold items the balance of the OTC portfolio grew over 5%.
This performance was headlined by the continued strong momentum of our Clear Eyes eye care business where sales grew 13% and consumption was up 17%.
The relaunch of our allergy SKU as Clear Eyes for itchy eyes coupled with the introduction of 1-ounce sizes on key SKUs and the impact of Q4 pricing action were all contributing factors to this growth.
Marketing support in the form of our inaugural radio campaign was also a significant growth driver.
Our Murine ear business was again a bright spot within OTC with sales up 55% and consumption up over 195% behind the continued success of last year's Earigate launch.
In particular the strong consumption reflects our committed to fully supporting Earigate as it heads into its second year in market.
While we began to lap last year's Earigate pipeline sell-in late in the quarter, the majority of that lapping will occur in Q2 where year-over-year sales comps in this business will become more challenging.
Chloraseptic enjoyed its second consecutive quarter of sales growth versus prior year, due in part to the late breaking cold/flu season which carried over into April.
In addition, the decision by major retailers last fall to forego the historical large preseason inventory build helped ensure they also exited the season with lower inventory levels allowing their Q1 reorder patterns to more closely follow consumption.
We expect this retailer behavior to repeat this year as they once again wait to see how the cold flu season unfolds before taking significant inventory positions.
Rounding out the OTC segment our New-Skin and Dermoplast businesses averaged 6% growth while our Doctor's business showed the effects of a continued intense competitive environment in the antiBruxism category and one time costs associated with our retail conversion to our new NightGuard Classic and NightGuard Advanced Comfort, one-size-fits-all SKUs.
The retail conversion is now complete on these items, and I am pleased to tell you that although it was only introduced in February, the new Advanced Comfort item was the number one selling antiBruxism SKU in the category in Q1.
Now let's move to our household business where our largest brand, Comet, grew over 6% led by Comet Mildew spray gel.
Introduced last year this innovative new approach to mildew stain removal continues to build share in the $70 million plus mildew category while demonstrating the extendibility of the Comet brand.
As with Murine Earigate, Comet Mildew spray gel was backed with a healthy level of spending in Q1, and our intent is to continue that support throughout fiscal '09.
Offsetting Comet's growth were declines in our Chore Boy and Spic and Span franchises.
The Chore Boy decline was largely due to a Q4 buy in by wholesale distributors against our March price advance.
The Spic and Span decline is principally related to lock in pipeline volume we enjoyed last year associated with new distribution of our anti bacterial spray at a major mass merchandising customer.
To a lesser extent declines for both brands also reflect heavy levels of competitive new product activity.
Finally, personal care results reflect our continuing de-emphasis of this segment.
It is worthy to note that our return to the iconic Cutex tear drop bottle which is now fully available in market does appear to be having a favorable effect on our recent consumption trends and we'll be keeping a close eye on this as the key summer season progresses.
Switching to our international business, total revenues were off 7% versus year ago.
Continued strong growth of our Canadian business which was up over 10% was more than offset by a decline in our other international businesses.
As we've previously discussed, the performance of our non-Canadian international business reflects diversion activity in our year ago Q1 base.
We took steps to shut down that activity beginning in Q2 of last year which will allow for for more normalized comps for this piece of our international business going forward.
That completes our overview of Q1.
While it was a difficult quarter from a performance standpoint, our major challenges were within our wart care business and the underlying conditions there should improve as we move through the balance of the year.
Importantly, we made good progress against the four strategic thrusts that underpin our sustainable organic growth plan.
It is this progress that despite our Q1 results gives us the comfort to reaffirm our organic revenue growth projection of 2 to 4% for the full fiscal 2009.
Let me now give you a bit more insight into this progress.
As you may recall, the first of these strategic thrusts is a revised more granular approach to running our portfolio calling for dedication of a greater share of our resources to our focus brands.
Those brands in our portfolio with the highest longer term growth potential.
Q1 represented the first quarter of implementation of this new strategy and our focus brands collectively grew over 6% during this period.
This growth which we expect to accelerate in the coming quarters reflects the execution of a combination of factors applied to these brands.
An example is more diverse and innovative marketing to garner improved efficiencies and effectiveness from our A&P spending.
This was evidenced in Q1 by the addition of radio to our marketing mix and the implementation of new media buying efficiency strategies on two of our focus brands.
We're pleased with the results of both of these initiatives and plan to expand them across the portfolio in the coming quarters.
In addition to factors such as these, we also expect accelerated focus brand growth in the coming quarters to be driven by our second strategic thrust which is our increased emphasis on breakthrough innovation.
For fiscal 2009 growth from breakthrough innovation will come from two areas, the first is the continued success of our fiscal 2008 introductions Murine Earigate and Comet Mildew spray gel.
As I mentioned earlier, both businesses experienced solid growth in Q1 as they began to lap their year ago introductory periods.
As I also mentioned we envision backing these products up with strong year two marketing support to ensure they realize the full marketplace potential.
The introduction of our innovative new allergy products which is occurring as we speak, represents the second breakthrough growth driver for fiscal 2009.
As I profiled on our last call, our Chloraseptic allergen block for adults and Little Allergies allergen block for kids are bringing consumers in the $700 million plus OTC allergy category, a brand new way to combat their allergy symptoms.
You may recall there are two clear advantages to this patented innovative technology as compared with current allergy relief products.
First, it works outside the body to help prevent allergy symptoms rather than relieve them once they've occurred, and second, they're drug free making it appealing not only to current category users but nonusers as well.
Retailer authorizations have been strong and both items have begun arriving in stores as we head toward the fall allergy season.
Ahead of retail store resets certain of our customers including national chain drug accounts have already made these items available to consumers via their websites.
Strong introductory support will begin with a national PR campaign later this month and advertising is scheduled to start in September as retail distribution gains critical mass.
As mentioned in this morning's press release it should be noted Q2 will see a heavy investment in launch activities such as these.
The revenue benefits of which will be largely realized in Q3 and beyond.
Naturally we continue to be enthused by this next generation of break through which will be a major contributor to the acceleration of our revenue growth as we move through the second half of this fiscal year.
Equally importantly in Q1 we made progress on filling this break through innovation pipeline for the future.
We also internally staffed a senior position dedicated to developing and executing our break through innovation agenda which will help ensure this strategic thrust remains a meaningful growth driver for us going forward.
It is not just the larger breakthrough innovation initiatives that will help accelerate our growth this year.
On our last call I also lie lighted the imminent introduction of our new Chloraseptic maximum strength lozenge and spray item along with the new aerosol like form of our popular Little Remedies saline product.
All of these items have been well received by retailers and will be shipping in conjunction with their cough/cold section resets which occur during this quarter.
Our third key thrust is international growth with a specific emphasis on our Canadian business.
During Q1 we took additional strides in this regard as the Canadian business grew 10%, and we established a dedicated senior marketing resource to focus on fully capturing the Canadian growth opportunity.
This individual is now responsible for all of our Canadian marketing and for working with our Canadian based broker partner with whom we unified the business last year.
This single minded attention to our Canadian franchise will allow for effective execution of the ten new product launches and dedicated Canadian advertising we have planned beginning in Q2.
With respect to the balance of our international business, we are expecting solid growth particularly in our second half as we lap the effects of diverting in certain markets and new marketing initiatives take hold.
The U.K.
market is expected to lead this growth behind our inaugural Murine television advertising campaign and broadly expanded distribution of that eye care product line in that geography.
The fourth key thrust is building our internal and external organizational effectiveness.
Here we also made progress in Q1.
I have already touched on the key internal activities through which we are aligning our organization with our new portfolio management strategy by among other things placing dedicated senior resources against break through innovation and the Canadian growth opportunity.
From an external standpoint our focus continues to be on the movement of a significant piece of our revenue stream from an indirect salesforce to our own direct selling organization.
In Q1 we made our first hire against this initiative, and we continue to be pleased with the quality of the candidates we are seeing to fill the balance of our identified positions.
As I mentioned before, the overriding imperative in this transition is getting the right people on board, and we will take the necessary time to ensure that happens in a quality fashion.
That's an update on our Q1 progress against our four strategic thrusts.
We continue to be satisfied with the progress we are making and believe they position us to deliver on our 2 to 4% top line growth projection for this fiscal year.
With respect to Q2 in particular, as I mentioned earlier, we anticipate this to be a period of heavy advertising and promotional investment behind the launch of our new allergen general block products with the majority of the revenue impact from this and the other new items I discussed occurring in our second half.
Now let me briefly shift gears to touch on our cost situation and outlook.
As has been the case with most manufacturers, we have been affected by the current inflationary environment.
Between the residents that comprise many of our packages and the basic cost of our distribution network oil prices in particular have had an adverse effect on our underlying cost structure.
However, the combination of selective pricing action, favorable mix, and our internal systematic cost reduction program as protected our enterprise gross margins to date.
Based on our current outlook, we believe we are positioned to effectively manage a similar level of inflationary pressure for the balance of this fiscal year.
We have a minor number of additional pricing actions affecting less than 10% of our revenue base scheduled for the end of Q2, and we will continue to actively monitor the cost situation while aggressively building a roster of additional productivity programs.
Finally, with respect to full year and net income and EPS, the combination of 2 to 4% top line growth, active gross margin management, and utilization of our strong cash flow for delevering, allows us to also reaffirm our expectation of growth for these bottom line items at a rate higher than that of our sales growth.
To succinctly wrap up we remain comfortable with original growth expectations for full year fiscal 2009 despite our first quarter performance.
Our continued progress in implementing our strategic thrusts is is at the heard of this comfort, and I look forward to sharing the fruits of our implementation labors with you over the coming quarters.
Thank you.
The call is now open for questions.
Operator
(OPERATOR INSTRUCTIONS) Your first question comes from the line of Bill Chappell of SunTrust Robinson Humphrey.
Please proceed.
- Analyst
Good morning.
- Chairman, CEO
Hi, Bill, how are you?
- Analyst
Good.
Maybe just kind of help us understand a little more color around the cryogenic side for this quarter.
I know you knew the price cut going into the quarter and so that shouldn't have been a huge surprise.
Did you just see no pickup in volume with the lower price point?
Is it not really spurring any growth in that category or how should we look at that?
- Chairman, CEO
Well, Bill, I think the important take away is on the cryogenic products in our portfolio and in particular on the Freeze Off product.
The reflection of those price reductions that I spoke of didn't occur across our major customers until late July, essentially it took longer to get those reflected in the marketplace than we originally anticipated so as I mentioned earlier, for the quarter it was primarily a price gap issue versus our major competitor that caused the performance we experienced.
As I also mentioned, as of the end of July the pricing is now fully reflected in our major customers, and we're starting to see the benefits of that in improved cryogenic unit off take going forward.
- Analyst
I guess I understand that.
II guess I was more just trying to focus on is it having its intending effect, is it boosting the overall category back now that we have a lower price point or is it too early to tell?
- Chairman, CEO
It is a little too early to tell because the dynamics, as I mentioned, up until the end of July remain unsettled relative to what we expect the new norm equilibrium to be.
For the first quarter the total category was basically flat to modestly down.
We're going to have to wait and see how this plays out now that the new paradigm is effectively in place, and we'll have a better read on that certainly when we talk to you at the end of the second quarter.
- Analyst
Then with regards to the new products that you're -- the new allergen black products can you give us any color on ACV at this point, what the retail reception would be and then are the price points and margins margins at or above your current Company average?
- Chairman, CEO
Well, the price points and margins are definitely above average for our Company, and our OTC portfolio so that's one of the attractive features of the product.
With respect to authorizations and distribution so far all the accounts that we expected to pick the products up have picked it up, and we're very pleased with where the distribution progress is relative to our original expectations.
I truly feel like we're tracking original expectations in that regard.
- Analyst
Just because I have to ask the same question always, is I assume top line, if you're looking at operating income growth this year, it can be faster than sales growth?
- Chairman, CEO
I wouldn't necessarily draw that from an operating income standpoint, Bill, because we will be investing behind certainly the allergen block launch as well as continue to invest behind year two and the other breakthrough innovations, Earigate and spray gel, but certainly as you go down to net income and EPS you can have that expectation.
- Analyst
And that largely be driven by lower interest expense, I guess?
- Chairman, CEO
Delevering is clearly a big boost there.
Operator
Your next question is from the line of Joe Altobello of Oppenheimer.
Please proceed.
- Analyst
Good morning.
- Chairman, CEO
Joe, how are you?
- Analyst
Good, good, just wanted to follow-up on the top line here.
If you kind of take the first quarter actual and basically project it out, you have to do basically mid single-digit growth for the rest of this year to get to your guidance.
How do we get comfortable with that given the fact that the cryogenic price adjustment will not be lapped until early next year and so you're obviously going to have that weighing on results for the rest of this year.
You have got other things like you're comping the growth in Murine, you've got caution inventory management on the part of retailers, and you're also lapping the introduction of Comet Mildew spray gel, so you have got all of this working against you in the back half of the year and yet you're still looking for an acceleration of top line growth.
- Chairman, CEO
Your statement is totally accurate, Joe.
I think the first -- and let me take it a point at a time if you could.
I think your point on the cryogenic, you need to keep in mind that Q1 was a clear aberration for us relative to how we expect performance to be and the work here segment ongoing.
Clearly we expect cryogenic revenues in total to be down on the price decline but not nearly to the extent we experienced in the first quarter as we get our pricing right versus competition in the marketplace so that the drag on our first quarter performance from cryogenic certainly won't repeat itself as we move out in the proceeding quarters.
With respect to the new product launches last year while certainly we'll be coming up on lapping the introductions, and the comps will get tougher, we do expect growth and meaningful growth from both of those items a year-over-year basis as well, and I'm talking about Earigate and spray gel and it is why we're backing them with the strong year two spending we will.
And then as we look to in particular the back half of the year, we clearly have strong expectations from the allergen block launch as well as the new items I mentioned going into the cough/cold reset from Chloraseptic and Little Remedies all of which will have the revenue benefit accruing to us principally in the back half of this year.
The other thing not to lose sight of is we have very strong trends on some of our base focus brands.
I talked to you about Clear Eyes which is a big piece of our OTC portfolio and where we continue to enjoy double-digit growth on a year-over-year basis on that item.
And that one is performing quite well for us.
I have talked about Canada and the double-digit growth we're enjoying there, and there are other parts of our portfolio which are experiencing strong single-digit growth as well, so there is a lot of fundamental kind of baseline momentum in addition to the growth we're projecting out of our new products that will compensate for some of the drags that you mentioned.
- President, CFO
The other thing to mention, Joe, is the first quarter that we just went through was the last quarter that we're going to be lapping on the non-Canada international business that absent the diversion.
So beginning in Q2 we're going to be apples-to-apples on the international side where that had been for the last year a pretty big drag on growth.
- Analyst
Okay.
So 2Q revenues should be up pretty strongly then it sounds like?
- Chairman, CEO
I wouldn't necessarily draw that conclusion, Joe.
Again, remember the majority of the new product benefits is going to accrue in the back half of this year.
- Analyst
It will be up, though, right?
- Chairman, CEO
Well, we don't give specific quarterly guidance as you know.
As I point out in the monologue, the back half of the year is where we really expect to see the significant portion of our revenue growth.
- Analyst
Okay.
And then in terms of a statement you made, Mark, regarding your focus brands, you said they grew 6% in the quarter?
- Chairman, CEO
That is correct.
- Analyst
Was that sell-in or sell-through?
- Chairman, CEO
That is factory sales.
Consumption on the majority of those brands followed very closely with the factory sell-in.
- Analyst
How is that possible given that OTC was down 7?
- Chairman, CEO
Well, remember, OTC includes wart care.
- Analyst
Okay.
Got it.
Okay.
I am all set.
Thanks.
- Chairman, CEO
You bet.
Operator
(OPERATOR INSTRUCTIONS) Your next question comes from the line of Reza Vahabzadeh of Lehman Brothers.
Please proceed.
- Analyst
This is Christian Hoffman for Reza Vahabzadeh.
Good morning.
Can you talk about trends at retail any more color there, are you seeing things change at all sequentially?
Any color there would be appreciated.
- Chairman, CEO
You talk about consumption in general or for our products specifically, industry question or?
- Analyst
Actually both would be helpful.
- Chairman, CEO
I think in both cases for the categories in which we compete we aren't seeing any major change in consumer behavior.
Given that the businesses that we are in are principally staples and by and large not premium price staples, they are businesses that consumers tend to gravitate to at least as far as these economic times have gone so far on a consistent basis.
The only one where we're seeing some change is that the household businesses where we see and have seen and continue to see some channel migration from the food channels over to the deeper discounting channels, mass merch and dollar store.
When you talk about OTC portfolio and OTCs in general we see some consumption holding up pretty well and no major changes in consumer behavior.
- Analyst
Okay.
Thanks for that.
- Chairman, CEO
Yes.
- Analyst
Can we also get maybe an update on the M&A environment or anything you're seeing there?
- Chairman, CEO
Well, as you know, from a Company standpoint, we are focused on driving our organic growth which means working our existing portfolio to the 2 to the 4% top line growth we projected for the year.
That as far as we see has not in any way, shape or form discouraged people from floating deal ideas past us on a very very regular basis despite the fact we're on record as saying in the short run our focus is not on M&A.
And if that's a leading indicator, I would suggest that the M&A environment despite the current credit markets at least for people trying to get deals on the table is as strong as it has ever been for deals the size that we would ordinarily look at.
- Analyst
And then just lastly, your use for free cash flow would be primarily?
- President, CFO
Pay down debt.
- Chairman, CEO
Yes.
Pay down debt.
Our covenants don't allow us to do anything other than either use it for acquisitions or to pay down debt until our debt to EBITDA ratio goes under 3.5 and currently we're right around 4.
- Analyst
And your ability to buy back bonds at this point?
- President, CFO
We could if we wanted to, but given the current credit situation that it doesn't make any sense to do so.
That the 9.25 bonds that we have are certainly well priced for our credit rating at this point.
- Analyst
Appreciate the color.
Thanks a lot.
- President, CFO
You bet.
Operator
Your next question comes from the line of Olivia Tong of Merrill Lynch.
Please proceed.
- Analyst
Good morning.
- Chairman, CEO
Good morning, Olivia.
- Analyst
How are you?
- Chairman, CEO
Good, thanks.
- Analyst
Good.
Just want to talk first about recent activity to price increases.
Are there some categories that you -- were tougher and some that were easier than expected?
- Chairman, CEO
I would say universally, and I will make this comment in the context of the increases we took in the late fourth quarter of our last fiscal year.
Universally we found the environment to be more receptive than historically.
It has been to these price increases, and certainly the retailers wanted us to go through the justification for them and show them the underlying input cost pressures that were compelling us to take the increases we did take.
But their appreciation for what's really happening in the marketplace has been heightened considerably versus where it had been say 18 or 24 months ago, and so we didn't get the historical level of pushback on the pricing that -- in the fourth quarter that we had gotten previously.
I think it fundamentally gets to what's in the public domain.
Everybody understands that there are stronger underlying inflationary currents today than there were twelve, eighteen, twenty four months ago, and the retailers themselves are experiencing that as we witnessed increases in retail pricing on even private label products.
I think it all converges on evidence that the retailers are much more sensitive and aware of the situation today than historically have been and that that has led to a more I certainly won't say permissive but a more receptive pricing environment than the norm.
I would project that to be the case for certainly for the next six to perhaps nine months.
- Analyst
Got it.
Since you guys are third party manufacturers -- get your manufacturing done by a third party are you shielded in any way from the commodities impact?
Like orders that eventually flow through basically about 100%?
- President, CFO
Ultimately it does.
Some of the arrangements call for price resets on a quarterly basis or a semiannual basis but the reality is that ultimately there's a direct pass through.
There's some mark up on it but certainly broader than commodity prices are, we definitely pay.
- Chairman, CEO
We do have, as I mentioned in the monologue a systematic cost reduction program that we put in place last year which is a program in many ways where we partner with our suppliers on trying to identify cost reduction opportunities and where we do that in conjunction with a third party manufacturer we have a participation program in terms of how we share back a portion of those savings with them.
So there's incentives on our third party suppliers to work with us on cost reduction opportunities in addition to, as Pete mentioned trying to work on those demands, the commodity aspects of it.
- Analyst
Can you talk about some of the things that you're doing on cost reduction?
Whether it's slopping inputs or -- besides the obvious of like, getting more efficient?
- President, CFO
Yes.
I won't get specific with you, but really what we do is we look at every product on a regular basis and challenge ourselves and challenge our suppliers as well on the aspects that are principally under our control which is product formulation and packaging costs, as well as conversion costs.
Our bottom line is in absolutely no way will we compromise the quality or the efficacy of our products that we deliver to our consumer.
But to the extent we can control costs or reduce costs without any compromise in that key aspect we will do so across all three of those cost elements.
We also work with our third party logistics provider because we outsource distribution as well to try and find opportunities to reduce costs in the way we deliver our products to our customers.
We're really pushing four different cost buttons as we move through each and every one of our products and look for opportunities to drive costs down.
- Analyst
Got it.
Then I just wanted to go back to a question earlier.
You sticking with your 2 to 4 outlook despite the fact that Q1 is coming in a little bit lower than you had anticipated.
So are you expecting either Compound W to recover a fair portion of that in Q2 through Q4 or are some brands -- are your expectations for some brands going up?
- President, CFO
Well, as I mentioned, while we continue to expect the cryogenic revenues to be down on a year over year basis because of the price declines that were taken at the end of last fiscal year we did not expect the performance to be as dramatically negative as it was in the first quarter.
We expect those trends to correct.
You take that correction and you complement it with the revenues we're expecting to get in the second half of the year out of our new item launches and the continuing forward momentum on several of our focus brands and that's how you get to our comfort level with the 2 to 4% on a full year basis.
- Analyst
I understand that, but in order to offset what's happened in Q1, either -- just normalizing on Q3 before --- I understand that Compound W might still be down but nowhere near Q1 levels, you've got to expect that something is providing the offset to get you to that midsingle digit level for the remainder of the year?
- President, CFO
Right, and as I mentioned in particular our new products which will be pure incremental revenue relative to year ago will be a big player in that and again, the vast majority of the revenue from those new product introductions which are either our allergen block products or our new cough/cold items will occur in the second half of this year and we continue to expect on a year over year basis strong growth from the base items that we have in our focused brand portfolio.
We also, as I mentioned, although this will not contribute majorly, we are also planning price increases, mid year price increases on less than 10% of our revenue base which will help us in the back half as well.
- Analyst
Then just last question, I know Q2 ad spend will probably be up as a percentage of sales on a year over year basis but what about for the fiscal year?
- President, CFO
Spending standpoint?
Yes, that will be up.
- Analyst
Got it.
Thanks very much.
Operator
Your next question comes from the line of Mimi Noel of Sidoti and Company.
Please proceed.
- Analyst
Why was it that the new pricing, new packages for the cryogenic line weren't picked up until late in the first quarter where, as you anticipated it would happen earlier?
What was the surprise?
Why did that happen?
- Chairman, CEO
We were flowing in, Mimi, as you'll recall want only new pricing on Compund W Freeze Off but also new packaging because we reduced the number of applications.
- Analyst
Yes.
- Chairman, CEO
And in large part it was the timing of the flow in of those new items to retail, the plan for reset timing on some of our key customers, and the inventory levels of the old product that had to be worked through out there that slowed down the progress of the new items and the attendant new pricing to retail versus our original expectations.
As I mentioned also in the case of Wartner, because we weren't dog anything with the packaging, it was a cleaner cut over, and that's why for many major retailers the Wartner pricing we affected went in much closer to the original schedule.
Freeze Off was a more complex situation.
- Analyst
Because of the new packaging?
- Chairman, CEO
Right.
- Analyst
And I am going to ask a question I think is now being asked for the third time and maybe I will just strip it down a little bit.
First quarter was a disappointment.
You had a surprise with the packaging.
Didn't happen as quickly as you thought.
So you had that detriment but that was really a missed revenue opportunity.
You're not necessarily just shifting into the second quarter, so what is the offset now that enables you -- what's the positive surprise to maintain full year revenue guidance unless you want to say that instead of hitting the high-end of the 2 to 4 you will hit the low end?
- Chairman, CEO
I am not going to talk to where things are going in between the 2 to 4, but we are pleased with the uptake on our new products.
In fact, in a couple of instances they are outperforming our reasonable expectations.
- Analyst
Okay.
- Chairman, CEO
And the other piece although it is not going to be a major contributor as I mentioned, the other piece which is relative new news to our original expectations to the year is the mid-year pricing on that less than 10% of our revenue base.
- Analyst
Okay.
- Chairman, CEO
That will be a contributing factor as well, and we are seeing frankly, stronger than expected momentum on some of our focus brands, so it is a combination of those factors that give us comfort.
- Analyst
Okay.
Perfect.
Those products that are outperforming expectations, that first point that you mentioned, can you name them?
- Chairman, CEO
I won't go into a lot of detail there, but let me just say they are primarily housed in our -- in that group of brands that we consider to be our focus brand.
- Analyst
Your focus.
- Chairman, CEO
Right.
The ones we determine we're going to drive harder as part of our strategy, so we're seeing early pay off in certain of those brands from the redirection of resources to those parts of our portfolio.
- Analyst
Great.
Okay.
And then the other question I had is along the lines of guidance.
I'm just wondering at this point why you can't make a more explicit commitment to EPS growth at this point in the year, especially now that you say that it is largely going to be driven by a delevered balance sheet and that's something on which your visibility should be pretty good and yet you're still staying pretty vague on EPS.
Why is that?
- Chairman, CEO
Well, it is just something that from the standpoint of corporate policy we prefer to do, and as you say the aspects of it, particularly delevering aspects of it are pretty straight forward, so we're going to stand pat with the approach we're taking for the moment.
- Analyst
Is it subject to change down the road perhaps?
- Chairman, CEO
I will say perhaps.
You never say never.
At this point I wouldn't put any kind of a high expectation on that.
- Analyst
Okay.
And then the last question I had, the increase in the stock-based compensation, is that due to increased staffing?
- President, CFO
No, no, it was strictly due to when our last year we initiated a current plan which is three-year plan, so what's happening is this year we're getting year two of three years worth of expense, so you can expect that as we go through this year we're going to continue to see a higher stock-based comp expense and then next year is going to be the third year of the plan, so that will be another step up, and after that we'll be steady state.
The people or the size of the staff that gets stock-based comp is relatively the same.
- Analyst
And this compensation is not necessarily performance based it sounds like?
- President, CFO
No, it is performance based.
The large preponderance of the expense is restricted stock that is absolutely based on hitting both revenue as well as profit objectives.
- Analyst
Okay.
Well, you did lower guidance in fiscal 2008, and you preannounced in the June quarter, so what performance would justify the increase in the compensation?
- President, CFO
It is a matrix based on deviation around the budgeted revenue as well as EPS.
We lowered our first quarter, but as Mark indicated, we certainly are reconfirming that for this year we're going to maintain.
- Analyst
Okay.
Thank you.
Operator
(OPERATOR INSTRUCTIONS) Your next question comes from the line of John Anderson of William Blair.
Please proceed.
- President, CFO
Good morning.
Thank you.
- Chairman, CEO
Hi, John.
Good morning, John.
- President, CFO
Good morning.
You mentioned this price increase, mid-year price increase on about 10% of the business based on volume.
Any other color on that in terms of the level of the price increase?
- Chairman, CEO
I think it is roughly similar to the level of the increases we took in Q4 which is around 5%.
- President, CFO
Okay.
And international diversion which to your point earlier, Mark, has been a drag during previous quarters, sounds like you lapped that had going forward.
Is there a way to quantify what the drag has been for the past several quarters?
- Chairman, CEO
I don't think John we want to get that specific other than to say it has been significant.
- President, CFO
Okay.
And beginning with Q2 where are that's largely behind you at this point?
- Chairman, CEO
Yes.
We'll phase out of it in Q2 and should be thoroughly behind us as we head into the back half.
- President, CFO
Okay.
I was wondering also if you could talk a little bit about the progress that you've made and expect to make with the shift to the direct selling model and when you think that that will begin to impact your I guess quality and amount of shelf space your products at retail?
- Chairman, CEO
Yes.
You'll probably recall that we're talking about shifting a reasonable portion of our revenue from indirect to direct selling roughly 30% of it, and involves not a major head count addition.
We're talking about three or four folks, one of which we already brought on board.
We're making steady progress toward that ultimate transition.
From a timing standpoint as I mentioned earlier, my intent is to do it right rather than do it necessarily fast although I would certainly hope to accomplish this in the not to distant future.
When that is fully completed, we'll start to receive the benefits of that and in terms of the opportunities I mentioned earlier better rely on trade spend, faster speed to shelf on new items, just general closer communication with our customers on new product ideas, et cetera.
So we're making steady progress on that, and as I mentioned we're also pleased with the quality of the folks we're looking at to round out the balance of these positions, but we're a ways away from completion at this point.
- President, CFO
Okay.
Lastly, could you comment briefly on just your inventory levels at retail versus year ago period?
Are you comfortable with levels currently where they sit?
- Chairman, CEO
By and large we're comfortable with levels, in a particular we're pleased with the way we seem to be coming into the new fiscal on Chloraseptic for the reasons I mentioned in the monologue, the retailer's approach to inventory management has certainly been a benefit to both them and we think to us and so ultimately the entire supply chain on that key business going forward.
The one that I mentioned earlier and that continue to say have a bit of an over hang for us is the Murine Earigate, but we're experiencing detailed in the call very strong consumption behind a resumption of our advertising on that, and so we're looking to get ourselves back to normalized levels of retail inventory on the Earigate products in the not too distant future.
- President, CFO
Great.
Thank you.
Very helpful.
- Chairman, CEO
Yes, Jeff.
Operator
There are no further questions at this time.
I would like to turn the call back over to Mr.
Mark Pettie for closing remarks.
- Chairman, CEO
Thank you, and thank you all for joining us today.
Appreciate your time and attention, and we'll look forward to talking with you at the end of our second quarter.
Operator
Thank you for your participation in today's conference.
This concludes the presentation.
You may now disconnect.
Good day.