Perrigo Company PLC (PRGO) 2002 Q4 法說會逐字稿

Good morning. My name is Kimberly. And I will be your conference facilitator today. At this time I would like to welcome everyone to the Perrigo Company fourth quarter and year-end results conference call. All lines have been placed on mute to prevent any background noise. After the speaker's remarks, there will be a question and answer period. If you would like to ask a question during this time, simply press star then the #1 on your telephone keypad. If you would like to withdraw your question, press the pound key. Thank you. I will now turn the call over to Mr. Gibbons, CEO of Perrigo Company. Mr. Gibbons, you may begin your conference.

Thank you and good morning, everybody. I'm pleased to report good operating results for our fourth quarter, as well as for the fiscal year ending on June 29th. I'll start today with a look at how we did in fiscal 2002 against our long-term strategic financial goals. I do feel we made good progress towards achieving those long-term goals during 2002. If we look at them one by one, we have a long term goal of sales growth double digits, 10 percent, and we achieved 10 percent sales growth. We have a long term goal to grow operating income faster than the sales growth rate which would have been 10 percent last year. So we grew operating income at a rate of 26 percent. So we exceeded that goal. We have a goal for working capital as a percent of sales to be less than 18 percent. We came in at 15.7 percent. And we have a goal of return on assets of 8 to 10 percent. And our [inaudible] increased from 7.9 percent to which 8.5 percent in 2002. Looking at our operational results for 2002 in more detail, we see sales growth of 10 percent, half that coming from Rafton [phonetic] and the other half split between OTC and nutrition businesses. Our gross margins you are up 110 basis points as volume, pricing, product mix and productivity improvements all contributed to that increase. Operating expenses were well controlled at 16.5 percent to sales, versus 16.9 percent in the previous year. And this was accomplished despite our R and D spending nursing by more than two million dollars. Cash flow from operations was very strong at 103 million dollars which includes the 28 million dollars received from vitamin litigation settlement. 2002 was also a good year for new products with if a moat dean and Ibuprofen colds and sin news contributing significantly to the good new product results. In quality and compliance, a top area of focus for Perrigo, we continued to make excellent progress keeping pace with the aggressive goals we set forth in our global improvement plan. In customer service, we exceed our targets for the year providing excellent service throughout the peak season. Our new UK business, Rafton [phonetic], performed just right about on plan. With the one exception being we felt the need to drive the store brand part of that business faster. To that end in May we sent Jeff Needam [phonetic] who was our VP in marketing in the US and one of the key architects of our US store brand business strategies over to the UK as managing director. Jeff's expertise and leadership abilities will be a terrific asset for the Rafton [phonetic] business. In Mexico, our [inaudible] operation will be more focused more clearly on building the store brand business. Kifa [phonetic] sells to four markets; government, small retailers, wholesalers, and major retailers, such as Wal-Mart, Costco, Comercial Mexicana [phonetic] and Farmacia Guadalajara [phonetic]. The smallest part of our business in Mexico has been the store brand business to these large retailers. This business has been growing but from all very small base. During the past 6 months, we saw all deterioration in some of the noncore parts of Kifa [phonetic] business. Rather than investing resources and energy to address issues in these areas we have committed to accelerating our growth in the more strategic parts of that business. This will result in the writeoff of 16 million dollars after taxes or 22 cents a share as we reduce head count by 240, write off assets no longer needed and write off the remaining goodwill. Finally, a high point for 2002 was the successful conclusion of the major vitamin antitrust lawsuits which contributed 18 million after tax dollars or 24 cents a share to our 2002 results. Now, I would like to turn this over to Doug Schrank to give you some more details on our financial results.

Thanks, Dave. Before I review the detailed financial results, I would to remind you that included in our views of where our business is going, we will make forward-looking statements we believe to be reasonable, but give no assurance those statements will prove to be correct. We have included this discussion on pages 24 to 29 of our form 10-K for the year ended June 30th, 2001, and will have comparable pages in the new 10-K that comes out this year. Now to the operating results. My comments this morning will focus on the quarter and the 12 months much results and for the sake comparability I will use last year's results before the charge for the BPA product and I will excluded the vitamin litigation and the Kifa [phonetic] asset impairment and restructuring from fiscal 2002. This will give us a good comparable operating results year-over-year. Let's start with the fourth quarter. Sales for the quarter were 182 million dollars up slightly from 179 million dollars a year ago. The inclusion of Rafton [phonetic] revenue and strong sales in vitamin were offset by a decline in the antacid category as up the strong fomatidine [phonetic] sales in the fourth quarter last year. Looking at OTC versus nutrition, sales growth in the fourth quarter for our OTC business which included Kifa [phonetic] and Rafton [phonetic] was down 2 percent and our nutritional business up [inaudible] for one percent in the quarter. As we move to gross margin, you'll see gross profit of 44.6 million an increase of 3.4 million compared to last year and was 24.5 percent of net sales compared to 22.8 percent a year ago. This increase in percent was due to lower expenses for the inventory obsolescence, excellent cost control for labor and our ability to manage pricing to offset the impact of higher quality costs. As Dave said, we had two one time or nonoperating items in the fourth quarter. The vitamin antitrust litigation settlement and the Mexico restructuring. In the vitamin litigation settlement, we recorded a pretax gain of 20.1 million dollars or 17 cents per share and this litigation is essentially over. We have a couple of minor defendants where the suit or where we're still negotiating a settlement. As Dave mentioned we made the decision top restructure our Mexican business to reposition the business to focus on store brands. That impact was twofold. #1 which had a goodwill impairment charge of 11 and a half million dollars, eliminating all of the goodwill from the Kifa [phonetic] acquisition and question had a restructuring charge of 5.1 million dollars which includes the cost of the head count reduction of the 240 people plus asset writeoffs of assets no longer needed. That totals 16.6 million, both before and after taxes or results in a 22 per share charge in the quarter. Looking at operator expenses for the quarter, exclusive, one-time nonoperating expenses, total operator expenses up 5 percent or 70 basis points on a percent of sales rise from 19.7 percent. R and D up 1.8 million and selling and administration was up 2 million during the quarter. Looking at net income excluding the litigation settlement and restructuring, it was 5 million dollars in the quarters compared to an operation operating net income last year of 4.3 million dollars before the BPA reversal. Earnings per share on an operating basis was 7 cents versus 6 vents cents a year ago. Earnings on a reported basis was 2 cents versus 8 cents in fiscal 2001. Now let me turn to the annual results. Sales growth in our OTC business which include Kifa and Rafton [phonetic] were up 10 percent and our nutrition was up 10 percent and that adds up to 10 percent for the corporation. If we look at the key category trends from the IRI [inaudible] and using a 52 week basis, looking first at the cough-cold markets the total market was down three percent. Store brand was down one percent and Perrigo was up 5 percent. We were up versus the market and up versus store brands. We were truly pleased with the management of a difficult seasonal pattern and pleased that our inventory strategy worked. We benefited from the selling of reformulated cough-cold products and the new MBA or Advil cold and sinus. Looking at the analgesic market it was down one percent, store brand was down three percent, and Perrigo was up one percent. We were helped by new products Excedrin migraine and new flavored Ibuprofen suspension products as we participated in this part of the market. Gastrointestinal which includes antacids and laxatives markets were up 8 percent, store brands was 8 percent and Perrigo was up 5 percent, up versus the total market, down versus store brands. This reflected the sale in the fomatidine [phonetic] in fiscal '01. It didn't sell into fiscal '02. That difference is noted. Vitamin market was down three percent, store brand was flat and Perrigo was up 14 percent. Up against the market, up against store brand dramatically. And we continue to do very well with strong sales of existing products and wider distribution and I would note that the market is weak being down for the third consecutive year. Looking at the year-end sales for the 12 month period, we're 826 million, an increase of 10 percent from 753 million reported last year. The addition of Rafton [phonetic] plus sales growth in cough colds antacids, vitamins, and analgesics contributed to this gain. Gross profit increased 24 million or 13 percent actually exceeding what we thought we could do as a percent of sales. This was up to 25.6 percent, versus 24.5 percent last year, a gain of 110 basis points. This increase was due to lower expenses for inventory obsolescence and our ability to manage pricing to offset the impact of higher quality costs. Looking at operating expenses, research and development was 19.9 million compared to 17.6 million a year ago as we condo invest in R and D. Selling in administrative expenses increased 5 million or about that 5 percent year-over-year and the majority of that increase relates to the K Mart bad debt expense of 2 and a half million dollars. As a percent of sales, selling and administration was 11.8 percent, versus 12.1 percent a year ago. The effect of tax rate was 43.2 percent and this high rate reflected the nondeductable expenses related to the fourth quarter goodwill impairment and restructuring charges in Kifa [phonetic]. Net income for the 12 months excluding the litigation settlement and restructuring was 48.9 million, compared to 40.5 million last year. Earnings per share was 65 cents. And EPS on a reported basis was 67 cents this year, compared to 37 cents last year. Now looking at the balance sheet. We finished the year with 76.8 million of cash on the balance sheet. De .a stock buy back of almost 32 million dollars. Working capital excluding cash at year end was 110 million dollars versus 130 million dollars last year. A decrease of 20 million dollars. Controllable working capital, accounts receivable, inventory and accounts-payable as a percent of sales was 15.6 percent. Accounts receivable were 83 million versus 97 million dollars a year ago. And DSO was 40 days this year versus 50 days a year ago. Inventory was 156 million dollars, down approximately 5 million compared to last year end. But, the mix of the inventory 86 proved dramatically. Finished goods was down 11 million while work in process and raw materials were increased 5 million and 1 million respectively. We are pleased with where we are today on inventory. And all plans are in place to maintained high customer service with lower inventory than we've experienced during the past year throughout this coming cough-cold flu season. Operating cash flow was 50 million dollars in the quarter including approximately 20 million from the vitamin litigation settlement. That brought year-end cash flow from operations to 130 million dollars. The strong calf in the quarter reflects the seasonal nature of our business and the success of our inventory strategy. We intentionally built inventory preceding the cough-cold flu season to insure we had customer service. We accomplished this with the best ever customer service. Abilities to bring inventories back down while increasing. Customer service helped generate the strong calf. Capital expenditures for the year was 27.5 million dollars. And we anticipate spending approximately 25 million in the next fiscal year. In the fourth quarter we were not active in our stock repurchase program. In July our board authorized a 20 million dollars extension of our program and we purchased 503,000 shares or 5.7 million dollars since year-end. To date we have repurchased 3.2 million shares for 38.7 million dollars. In summary we're very pleased with the results for 2002. We are stronger from an operations standpoint and we remain on a strong financial footing. I feel good about where we are today. We have a lot of financial flexibility. Now let me turn it back to Dave.

Thanks, Doug. Looking forward at our 2003 outlook, we remain clear and confident about achieving our long-term financial goals which we reviewed earlier. For fiscal 2003, we will continue to make progress on our top priorities of #1, imposing our quality and compliance position. We're right on track in achieving our goals here. This year we're accelerating our work on computer and systems validations. Overall, 2003 should see us hit our peak levels in quality and compliance related spending. Which is up 12 million dollars since 2000. #2, imposing customer service. We've been consistently running above 90 percent levels for the past seven months now and we have programs under way to continue these excellent results and to do it with less inventory. #3, imposing our low cost supplier position. We plan to build on our 2002 success with a number of initiatives aimed at simplifying our operations through new business rules on minimum run sizes, minimum annual volume per SKU, etcetera. Through increased use of bright stock which is enabled by new equipment that allows a faster throughput. With simplification of or packaging and increased automation on our packaging lines. And finally with some aggressive global sourcing programs that are aimed at qualifying new lower cost alternatives on raw materials. This much takes time for Perrigo because of our absolutely uncompromising stand on quality and compliance as well as the need for any facility we buy from anywhere in the world to be FDA approved. The challenges to which fiscal '03 include some the usual suspects such as pricing competitiveness in our marketplace and in particular declining margins on one of our larger volume products, Ibuprofen, and a peak expenditure year in cost of quality as we accelerate our work on equipment and systems validations. In addition, we do have some large and unusual increases in our insurance costs. For example, our product liability insurance is going up more than 5 million dollars from approximately 3 million dollars to a little more than 8 million dollars. Our health care costs are going up about three million dollars from 15 million to 18 million dollars. When you add the increases in director and officer's liability insurance in, we're getting pretty close to a 10 million dollars jump in one year on our insurance costs. While we don't expect these costs necessarily to come down in the future, we certainly do not expect to face one time increases of this magnitude or anywhere near it in future years. In addition, we're looking at a year with no significant acquisitions on the horizon and a smaller than usual contribution from new products. No fomatidine [phonetic], no Ibuprofen cold and sinus and no dollars in our fiscal 2003 plan for store brand versions of Claritin or other blockbuster switches. As a result of these items that I've just outlined, we're being realistic in saying with relatively minimal sales growth New York City acquisitions that are on the horizon U a highly competitive environment and significant one time insurance cost increases, we just can't project that we'll be able to reap the benefits of our productivity improvements at a pace that can do much more than offset the impact of our challenges. But please don't misunderstand, we have very confident about our future. We have a management team that I think has shown that they can manage through obstacles. We will continue to maintain our strong market leadership position. We'll continue to improve owner low cost producer status. We'll continue to increase R and D spending to bring new [inaudible] to OTC switch products to the store brand market as quickly as possible and finally we'll continue to generate a good, strong cash flow. As Doug Schrank reminds all of us, cash is good. 00:30:40 We'll now takes your questions.

At this time, I would like to remind everyone in order to ask a question, please press star then the #1 on your telephone keypad. We'll pause for just a moment to compile the Q and A roster. Your first question comes from Bill Steele with Bank of America.

Good morning. A couple of questions, first of all, Doug, you mentioned something about pricing in the quarter helping the gross margin performance. Can you quantify the gross margin gain in the quarter, break it down between the components?

Bill, it's pretty similar I think to the year. Pricing is the smaller part of the gain. Most - the bigger parted of the gain is from improved productivity and really, improved obsolescence which is parts of productivity.

Okay. Would we say productivity was over half of the year-over-year gain.

Yes. Definitely.

Secondly, obviously, tremendous performance with that cash flow statement. And the good news is you have 77 million dollars. The question is, what are you going to do with it?

(LAUGHTER) Well -

Nice problem to have.

Nice problem. Right.

Obviously, we did purchase 33 million dollars this past fiscal year in stock buy back. The board did approve another 20. So that program continues. As we've talked about in the past we're still looking at acquisitions as Dave said. There's none on the near term horizon but we are still definitely looking at that. So I mean, all of the possibilities that we've talked about in the past are still on the table in the future.

Okay.

Also have internal investment opportunities with our R and D programs which we are continuing to increase spending on, Bill.

The last question, Dave, what you've laid out with us with regard to '03, earnings will be relatively flat, let's say, why not take the opportunity to invest behind the whole private label brand, so to speak, at retail. Drive volume, cart blank to have spend more money with your retailers, via whatever means you think, to accelerate the market share gain.

Yeah. That's a good question, Bill. I don't think we do hold back on doing whatever we think will help drive the store brand business. I think we all see an opportunity to drive store brand share to a higher level. We have a number of programs that we're looking at for next year. We've got some areas we're exploring in terms of nursing our store brand penetration with that 50-plus age consumers. We're looking at programs to eliminate some distribution voids we have. To increase our multivitamin sales. We think we have more opportunity there. As well as programs in the cough-cold and flu category. If we see the opportunity to drive our business through spending, we would be willing to allocate that money to promotions or other types of programs that would enhance our ability to reach the consumer with our message. I do think the opportunity is there, we're not going to throw money at it but looking at becoming more aggressive at driving store brand growth in general which as you know would help Perrigo as the 65 percent share leader in OTC.

Okay. Great. Thank you very much.

Our next question comes from Linda [inaudible] with [inaudible].

Thank you very much. You alluded to some issues in the Ibuprofen market. Could you just comment on what's going on there competitively or with regard to pricing?

Ibuprofen as a store brand item for us has been around for a lot of years. I'm guessing more than 10 years we've had that out there. And margins have been pretty stable. There's just been a little bit of movement over the past 6 months or so. There are some sources of Ibuprofen available from outside the US, not in large quantities but as some of those sources show up in the US, some of our smaller competitors are availing themselves of that product. And while they do not have the quantities to make a major disruption in the market, we are responding to some of that price pressure in the marketplace. We are at the same time, we are working with a number of overseas sources to qualify them as a source for Perrigo. Those sources will not be on board for fiscal 2003. But the goal is to have those new sources available for fiscal 2004 so that we can reduce our costs as well as remaining competitive on pricing in the marketplace.

Okay. And also, just on your cash flow performance, did the operating cash flow for the year include any major swings in deferred taxes?

No, they did not, Linda. There were no major swings in current taxes payable which were negative because we paid this year in fiscal '02, we paid taxes for fiscal '01. But there were no major swings in deferred taxes.

The operating cash flow included you said 20 million from the litigation.

Yes. After tax it's 20 million from the litigation. It flows through the income statement that way.

Okay. And just again, just thinking about the growth of earnings for FYO 3. Would you agree if you were to start shipping store brand versions of Claritin sometime in '03 that you could be conservative in your projection for flattish earnings.

Yes, Linda, this is David Gibbons. We did not mention, include the Claritin equivalent at all in our plan for '03. It is a complicated issue. We certainly feel there may be an opportunity there but it's more complicated than we felt comfortable putting into our plan projections for '02. So we are not counting on it but I can assure you, we are certainly very well connected with all the players out there that do have files that have been approved and we are looking at partnering where necessary if that would work out in order to be able to bring the product to market sometime in the latter half of '03 but it's really premature that all that's going on with the threat of legal action, etcetera, to be projecting that we would have that product going fiscal '03. We feel much more comfortable looking forwarded to having it in fiscal '04.

Right. But you're saying it's possible?

It's possible.

Finally just in terms of your feelings for earnings in the first quarter of fiscal '03, do you have a sense for whether the earnings can be up in the first quarter.

I think we're sticking with what we have said. We think earnings will be relatively flat. We certainly feel we have a management team that has to be a very very good job. I'm thrilled to be part of this team that has shown they can manage through some difficulty obstacles. We certainly have a hope of being able to him show year-over-year increases. But our projections in our plan for the year are that earnings will be relatively flat.

Okay. Thanks a lot, Dave.

You're welcome.

And Doug.

Our next question comes from David Rogers with McDonald investments.

Good morning, guys. On the competitive pressure, you talked about, obviously, seeing some more of that. Where is that coming from specifically throughout the year?

I think we are - we always see competitive pressure. We're a store brand company. And margins are always under a lot of competitive pressure. I think that is most impacting us on pressure right now is the Ibuprofen. And the fact that that product has been around for a long time. There are some lower cost sources that are becoming available. And that is putting pricing pressure on us.

Fairly limited in its scope.

So far, I would say that that's the single product that we've seen it on that I could isolate. Other than that, it's really typical competitive marketplace pressures that I've seen in the 2 and a half years or so that I've been here. Just there's always people coming in with cheaper prices. The good thing for Perrigo is that the package that we can offer of very competitive prices along with all the things we can do to drive the business, the outstanding customer service, the great quality we have, still command a real sense of loyalty on the part of our customers.

Okay. Great. On the sales outlook for the year, you kind of alluded to it but I'm wondering on the OTC, on the vitamin side, if you could give us any more guidance on that and then perhaps Rafton [phonetic] the follow-up of the sales. What does the Mexico business look like now as you exit some of these noncore markets?

We'll see a decline in that. Our Mexico business was worth approximately 30 million dollars in revenue to us in 2002. Those revenues will probably drop by 7 or 8 million dollars in 2003. As we do the restructuring and pull out of some of the markets. So that certainly something we have to make up overall. And the other businesses will probably show some slight increases.

Slight increases for the year.

Yeah. We've lost some contract business as well in '03. Between the Kifa [phonetic] business in Mexico and some contract business that we lost, we've got a little bit to make up there. And so we have some increases certainly in our OTC business and in our nutrition business.

David, let me clarify the contract business, when we sold our personal care business two years ago, we had an agreement that we would continue to produce some effervescent product for them. When Dave says we're losing contract business, that contract ceases this year and will not be replaced. That's really the main loss that we have.

Okay. Fair enough. And then on the switches that are coming up, again you alluded to this, covered Claritin pretty well. On the Prilosec, have you built anything into that. what are your plans.

My guess would be that Prilosec is probably about a 2006 product for us. We think that there will probably be exclusivity granted on that. Can't be sure. But certainly a pretty fair prospect when that comes out it will have 3 to 3 and a half years of exclusivity for the brand. And so strange things can happen, especially with all the pressure on bringing health care costs down. But right now we're thinking that's a few years out.

Okay. Thank you very much.

Your next question comes from Patrick [inaudible] with Wunderlich research.

Good morning. On the Kifa [phonetic] writeoff. Do I have the proper understanding that all the goodwill with respect to Kifa [phonetic] was written off then.

Yes, Patrick. It's about 11 and a half million. All of it was written off.

Okay. And you've written off all the goodwill, looks like you might revenues from that from the Mexican operations might decrease about him 30 percent or so.

Yes.

Then the balance of goodwill left on the balance sheet is that primarily Rafton [phonetic].

Yes, it is. There's a little bit of OTC and little bit of nutrition from some very long ago acquisitions but almost all of it is Rafton [phonetic].

With respect to that you guys are happy with Rafton and it's meeting your expectations.

Yeah, it definitely is.

Okay. Corporate governs issues, everything that's out there right now. Do you guys anticipate any movement in your board? I mean, do you have any independent audit committee? Do you anticipate any restructuring?

We do have an independent audit committee and we are looking at all the corporate governs issues. I think we do a good job in this area but with all the highlight that that area has gotten, we have started to address that. We set up a corporate governs committee on the board. We are looking at issuing a corporate governance policy. There are a number of meetings going on, more on the schedule right now, to look the a corporate governance policy, trying to get all the guidance from the merchandise and SEC and the New York Stock Exchange to factor that into what we would look toe put out over sometime in the next few months as part of a corporate governance policy. So we are looking at that very very seriously. But I would also say, I don't think we have any I there.

Okay. Good. With respect to the increased R and D expenditures, is there any type of different focus that you're taking in that area that can have some significant near term impact on your product pipeline.

No. There really isn't. I think we are continuing to put a great emphasis on working to be first to file on switches. Because if you do that, you either get the first to file or the person who does get it knows that you're right in there and you'll be coming out with it 6 months after they have their exclusivity so you have an opportunity to partner with that person. So we are still focused the same way and R and D spending is very worthwhile for us. And probably will get even more worthwhile with the pressure to reduce health care costs which I think over the next 5 years or so are going to continue to offer more opportunities for the terrific value type of products that Perrigo offers in the store brand OTC market.

Okay. And last question, with respect to expansion. You said there's really nothing imminent on the horizon here. Taking a look at what you did with Rafton [phonetic], if you were to do something, I mean, do you think it would be leaning more towards ex-USA.

We're looking at a number of different opportunities. We're looking at opportunities outside the US, and also much opportunities within the US. It's just we don't have anything imminent and so there's nothing that we see right now that will impact fiscal '03

Okay. Thank you very much.

You're welcome.

At this time I would like to remind everyone in order to ask a question, please press star, then the #1 on your telephone keypad. At this time, there are no further questions. Mr. Gibbons, are there any closing remarks.

No. Thank you all. We're very pleased with our fiscal year '02 results and we look forward to continuing to turn in good results for your shareholders. Thanks very much.

At this time, this concludes today's conference. You may now disconnect.