Perrigo Company PLC (PRGO) 2003 Q1 法說會逐字稿

Good morning. My name is Latish and I will be your conference facilitator today. At this time I would like to welcome everyone to the Perrigo first quarter earnings release conference call. All lines have been placed on mute to prevent any back ground 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 number 1 on your telephone keypad. If you could like to withdraw your question press the pound key. I will now turn the call over to Mr. Gibbons, president and Chief Executive Officer of Perrigo company. You may begin sir.

Thanks and good morning to all. I'm very pleased to report a good quarter for Perrigo. Sales were down 2 percent from 217 million to 213 million, but as you will remember, last year we did have in the first quarter the promoted the sell in that we're comparing to this year. Our net income was $20 million or 28 cents per share versus $13.1 million or 17 cents per share last year, and 3 cents of the per share earnings come from the vitamin litigation settlement money. Sales in our core business was mixed. Cough, Cold and Vitamins were up and Analgesics and Gastrointestinal products were down. Quimica Y Farmacia, our Mexican subsidiary, had sales that were down reflecting the restructuring where we are eliminating certain products. Wrafton results were up reflecting a full quarters' results compared with the partial quarter last year. And gross margins were up significantly from a year ago with operating income also up, and I'll turn it over to Doug now to provide more details on the financials. Doug?

Thanks, Dave. Before I review the detailed financial results, I would remind all of you these conferences include our views of where the business is going. We will make forward looking statements we believe to be reasonable, but can give no assurance that those statements will prove to be correct. We have prepared a detailed discussion of the many factors we believe may have a material affect on our business on an ongoing basis and have included that discussion on pages 23 to 27 of our Form 10(k) for the year-ended June 29th, 2002.

Now on to the first quarter. As Dave noted, sales for the quarter of $213 million were down 4 million or 2 percent from a year ago's 217 million. Looking at sales growth within our store brand health care segment, our OTC business was down 5 percent which includes a small bit of contract, and our nutrition business was up 3 percent for a total net sales decrease of 4 percent for the quarter.

We reported gains in this quarter in our cough cold and vitamin categories and experienced declines in analgesics, contract and gastrointestinal categories. And in the gastro-category we report recorded strong sell of comodadine (ph) last year so we're up again last year. Sales decline in Mexico was more than offset by an increase by an increase for Wrafton last year included two months results as we integrated that business into our reporting structure. The IRI point of sale data this quarter for sales dollars indicates the following: Cough cold market was up 1 percent, store brand was down 1 percent, and Perrigo was up 9 percent. Perrigo experienced inventory seasonal restocking and also benefited from new products such as the national brand equivalents to Advil cold and sinus, NyQuill cough and cold, Alkaseltzer cold. Analgesics was flat. Store Brand was down 1 percent and Perrigo was down 5 percent. Perrigo comparison reflects competitive pressures for Ibuprofen .

The gastrointestinal market was flat. Store Brand was up 5 percent and Perrigo was down 19 percent. The numbers for Perrigo reflect the Promodedine (ph) sell in and strong Renidedine (ph) sales last year. In the current quarter we saw lower volume and lower pricing as we head more competitors than we did a year ago as expected. the vitamin market was up 2 percent, store brand was up 5 percent and Perrigo was up 6 percent.

Led by the bone health and women's health products we continue to hold our own in a weak market although in the past 12 weeks the market was up and first that's the first uptick in the last two years. Gross profit of $61.7 million was an increase of $9.3 million compared to last year, and was 28.9 percent of net sales compared with 24.1 percent on the same basis in the first quarter last year. the increase in gross margin was due to lower inventory obsolescence expenses that resulted from a combination of lower overall inventory levels and improved aging of those inventories. We also saw benefit from production efficiencies, a favorable product sales mix, and a slightly improved pricing over a year ago.

Looking at operating expenses for the quarter, overall expenses declined $1.3 million due to the favorable impact of $3.1 million in litigation income. As a percent of sales, operating expenses were 14.4 percent versus 14.7 percent for the same period last year. Distribution expenses and R&D expenses were relatively flat year over year and selling and administrative expenses increased 1.7 million due mainly to rising liability insurance costs. The effective tax rate for the first quarter was 36 percent and net income was $20 million in the quarter versus $13.1 million a year ago. A diluted earnings per share as Dave mentioned was 28 cents compared with 17 cents last year and I would note that the weighted average shares outstanding for the diluted EPS calculation is lower this quarter due to the effect of our share repurchase program.

Now some comments on the balance sheet. Working capital excluding cash at the quarter end was $130 million versus 110 million at year-end and $176 million last year. That's a decline of $46 million year over year. Our cash decline -- cash balance declined $77 million at year-end to 49 million due to our strong buy back activity. At the end of last year's first quarter I would remind you that we had no cash and were borrowing $20 million.

Accounts receivable were $106 million compared with $121 million a year ago reflecting an improvement in DSO from 47 to 42 days. Inventories were $164 million, an increase of $8 million from year-end, and a decrease of $7 million from a year ago. Year-over-year finished goods inventory declined $9 million and the aging of the quarter ending inventory improved dramatically. This reduced our obsolescence expense reported in the quarter and added about 2 percentage points to our gross profit margin first quarter this year versus last year. With this lower inventory customer service was above last year and met our goal of better than 90 percent in the quarter. Even the increases in receivables -- even with the increases in receivables and inventory, cash flow from operation was $9 million. Operating cash flow for the full year is expected to meet our expectation of somewhere between 60 and $70 million.

Capital expenditures during the quarter were $5 million and we anticipate spending 23 to 28 million for the year. During the quarter we repurchased 3.1 million shares for $32 million under our common stock repurchase program. Since the end of the quarter, we've purchased an additional 61,000 shares for $642,000.

Just a note for those of you that follow us, we have restated some of our R&D costs as we have improved our costing system, we found about 7/10ths of a percentage point of R&D costs that used to be in cost of sales which we've now reclassified into R&D. The effect on an annual basis is our cost of sales has declined 7/10th of a percentage point. Gross margin has increased 7/10th and R&D costs have increased 7/10th. In the financial numbers that you've received, we've restated last year so they are comparable, but you'll notice just a slight change in those metrics.

In summary, we're very pleased with the strong start to fiscal 2003 and feel good about our strong financial position. We're relevant really in great shape to take advantage of opportunities as they arise going forward. Now let me turn it back to Dave.

Thanks, Doug. As we have previously mentioned, we won't be seeing a lot of significant new product activity this year. There won't be any blockbusters like commodedine (ph) was for us last year, nor even any products that are in the same as scope as the Advil Cold and Sinus product was for us last year in terms of new product contributions. Certainly, the most visible new product candidate today the big switch candidate is Claritin. That's likely to be the biggest Rx to OTC switch ever. The way we look at it today, we believe the FDA will approve the switch in December certainly, all forms, tablets, ready tabs and syrup will be included. We don't expect any marketing exclusivity for sharing and they will have other branded products that will come in and be competing.

There are a lot of generic prescription ANDA's out there from companies who were gearing up to get into the generic market. We, Perrigo, are not first to file in any of -- in any of the different product dosage forms, so we do not expect any contribution to Perrigo for fiscal 2003. Certainly, when you look ahead, it's obvious that Claritin will grow the $600 million allergy market -- that's $600 million of retail at OTC today and it will probably take it up to somewhere even with cannibalization from existing products, will probably take it up close to somewhere near a $1 billion market at OTC.

So for Perrigo, that could be an opportunity in the 35 to $40 million range in loratadine sales, but the overall impact will be somewhat less due to cannibalization impact. So if we pick up 30 to $40 million in loratadine in store brand factory dollars, it would probably have an impact of a little bit less than that because of cannibalization for us. But that would be in fiscal 2004 where we would have that going into our plans.

The other big new product that's out there in the news is Prilosec (Omeprazole). I think there's a good chance that the FDA will approve that switch to OTC. That could very well happen some-time early next year, but we believe the FDA will grant exclusivity on that one for a three and a half year period so really we're looking way out probably til the beginning of fiscal '07 before we have an opportunity there.

As Doug mentioned, we really are pleased with the performance in the areas of quality customer service and operational excellence. We are executing very well our four key strategies that we've outlined to you previously, and those were to improve our quality in compliance, to improve our customer service, to improve our low cost producer position, and to take innovation and move it from just product innovation and take it throughout the company into all areas such as all our business processes and our other processes throughout the company. When we look at where we are, we look at quality. We implemented the global improvement plan two years ago, and I really feel very comfortable, as do all the members of our team, that we are well on our way to a culture of sustainable compliance as we go forward.

Customer service definitely back on track. Customer service levels are consistently running above past year levels. We were very good throughout the seasonal peak demand last year, and in the first quarter of this year. We not only were well above what we did in the first quarter of last year, but we're ahead of the numbers that we have in our plans for customer service this year. In operations, our focus is on productivity improvement. We want to build upon the strengthened operational base that we have. As we look out over the next 12 to 18 months, some of the main programs there will be to reduce complexity through packaging in SKU rationalization, to invest in automation, in vision systems, and in an expansion of our bright stocking programs. and to expand global sourcing - provided, of course, that we've got complete sign off from our quality people that the materials that we would bring in not only meet all the quality needs that we have for the products, but that the facilities that are producing those materials are absolutely 100 percent in compliance with CGMP standards.

The expected results from all of these efforts are going to be continued reductions in inventory obsolescence, increased production throughput, increased purchasing leverage, and continuous customer service level improvements. Overall, we remain very confident of our future. We're very pleased with the progress that we can outline here in the first quarter. In fact, we're in the midst right now of putting together our long term strategic plan, and the management team feels very good about the way we're operating today. And we also feel that we are making some good progress in putting together strategies that are going to drive long term growth. Now, in the short term we just need that cough cold and flu season to kick in. We'll feel a little better if others are feeling worse. At this point we'd be happy to take your questions.

At this time I would like to remind everyone in order to ask a question, please press star then the number 1 on your telephone keypad. We'll pause for just a moment to compile the Q&A roster. [Pause.] Still compiling the Q&A roster. Your first question comes from the line of Chuck Polanski.

Rodgers (ph): Good morning, guys. This is actually Dave Rogers. A couple questions first on the gross margin. Doug, did you say about 200 basis points of the improvement came from inventory obsolescence, is that what you were referring to?

Yeah, Dave. If you look at the margin, it moves up from 24 percent to just south of 29. So it's about a 5 point improvement. When you get inside that, about 2 points of that or 200 basis points is truly the obsolescence expense that year over year happens in the first quarter. You'll remember last year we built inventory pretty dramatically and were worried about the aging of it. That had a negative impact on obsolescence. This year inventory finished goods inventory specifically is down, and the aging of it is dramatically improved as our operations group is just done a fabulous job of getting their handle around that inventory and have tied that in with good customer service. If you look at the other improvement, another -- about half of what's left or a little more than half, probably about 60 percent of it is really productivity gains tied in with many of the things that Dave talked about that are going on and that have been going on in our operations group over the last year. And the remaining piece is really a combination of price mix which is just a little bit of pricing and some changes in mix, particularly as we've gotten out of some business that had a very low margins and we've been able to access or the contract from that business related to the sale of our personal care business of a couple of years ago has expired. So that sort of explains the whole margin increase.

Rodgers (ph): Okay. You answered my questions before I had to ask them all. With the Claritin coming, would that come mostly in the first quarter do you think impacting your business?

Yes, I think we might see a little bit of it starting in December certainly effect as retailers clear shelf space for the Claritin product. But I would primarily see the negative impact of the Claritin introduction coming in the third and fourth quarters. That's when most of that would hit. Then we'd see it turn to a positive in the first quarter of '04 hopefully.

Rodgers (ph): And the final question on the gross margin improvement, how much of that is sustainable, when did you start seeing some of the normalization last year? How much goes forward in the second and third quarter?

You know, Dave, the obsolescence that we felt in the first quarter, it's pretty much a onetime quarter event. So that one is not sustainable. Some of the productivity improvement -- we've been ramping up over the all four quarters of last year, so we're starting to track against that in the first quarter last year was probably our lowest quarter. So there's a more significant gain in the first quarter than last year. and then the final piece, the pricing mix and particularly is probably only a quarter of that. We're going to see erosion in pricing and the mix that caused some of that started to decline throughout last year. So that's going to actually reverse itself and be a little bit more negative so the first quarter is a very high margin relative to what we're going to see in the rest of the year. As we look at the year, and our target, you know, last year we improved gross margin about 7/10th of a percent or 70 basis points. I would think that as we go forward, our target for this year is to do about the same thing, and that's going to be a challenge with what's going on with Prilosec and how that might hit us in the second half of the year. But we would say for the year we're going to be in that half point or 50 to 70 basis points improvement year over year. Obviously more comes in the first quarter than we're used to.

Rodgers (ph): Great. Thank you very much. Nice quarter.

Thanks.

Thank you. Your next question comes from the line of Patrick Morgan of [inaudible] research.

Morgan (ph): Good morning. a follow-up on the margin question. As far as the sustainability in your targets for the fiscal year, does that mean if you're looking at 70 basis points, that means you're looking at 26, around 26 and a half percent for the year maybe as a target?

Yeah. I mean, if you look at -- if you restate the year last year and drop or add 7/10th for the R&D factors that I talked about, Patrick, that will put next year's or last year's just north of 26 percent. About 26.3. If you add 5 to 7/10th on that, you get pretty close to 27 for the year on the restated basis. So that's exactly right.

Morgan (ph): Okay. With respect to the obsolescence improvement, it sounds like there might be a little more room there going forward. the bright stocking program that you had, is that having an impact on less obsolescence?

Yeah, Patrick, there's a lot of things going on. We're starting to feel the effect of bright stock, but as the operating guides really get some more things in place, that will continue and we're going to see just kind of steady slight improvement over time. It's sort of, you know, I hate to use the word continuous improvement, but they've got some just fabulous programs related to that. We're also working on a better forecasting system in our customer service operations area. That is going to have a slight impact on obsolescence as we're better able to match the inventory levels with what's happening. So there's a number of things in time that just as we keep putting new things in place and learning to use them will really continue to bring the obsolescence down.

This is Dave Gibbons. One of the of the key things we would hope to continue to be able to do is see that inventory mix switch to where we have less in finished goods and more in work in process as we implement better demands programming in the bright stocking programs.

Morgan (ph): Okay, great. You had mentioned in the press release that the cough cold season, flu season was off to a slow start. I know you guys use a forecasting service to kind of figure out what demand might be as you go into Q2 and Q3 here. What are the forecasting services saying with respect to a comparison of the anticipated season versus last year?

We look at FAN Data (ph) as does everybody else. That's the main forecasting group. They predicted -- as of this point in time, their prediction had been that there would be between 9 percent and 16 percent increase in the number of people who were sick with cough cold and flu this year versus last year. The results to date, and I just looked at them yesterday, show that there is actually a 17 percent decline. So that is about as big a difference between what they forecasted and what's really happening as you're usually ever going to say see. So right now there's no question the season has not really even started. It's very, off to a very slow start. That's a big gap between what FAN had predicted would happen and what's actually happening out there in term of the statistics.

Morgan (ph): Last year the season was late in hitting wasn't it?

That's exactly right and that's why they probably predicted there would be a growth in that 10 to 15 percent range at this point so far this year. So I think everybody is surprised that even compared to the slow year last year, we're still down 17 percent so far versus the slow start to last year.

Morgan (ph): Great. When do you all get a good feeling for how the season is coming? Forget about the forecasting service, but, you know, what you're seeing order wise from your customers?

As soon as people start getting sick. But, you know, basically the retailer POS has to pick up before we're going to start getting the significant reorders. What I want to see is our customer service people scrambling and coming in scratching their heads saying, Dave, what are we going to do? We've got all these orders flooding in because everybody is getting sick out there. We sure don't see that yet. Right now POS is soft reflecting the softness in the FAN Data.

Morgan (ph): Okay. I guess my question, Dave, is that typically come at the same time for you guys every year, or is that a moving target?

No, it absolutely varies every year. If you remember when we were in the second quarter last year, there were a lot of concerns raised about the inventory that we had built up and reported at the end of December. We responded that we were very confident with the inventory that we had and that we were comfortable that it would move out. And about the third week in January, the season just took off and it peaked very late, but it stayed up there for a longer time than usual, and nobody predicted that. But that's the way these seasons go. Sometimes you have an early peak, and then it drops off. Other times you have a mid season peak and other times you have a late season peak. And we are relatively early certainly at this point in time and all we can say is right now there is virtually no season starting.

Morgan (ph): Okay. Switch gears here just a little bit. As you go into the season, are there any particular large retailers that are big customers of yours that you have concerns about their financial condition like K-Mart last year?

Certainly K-Mart is one that's on everybody's radar screen. I feel that our folks are working well with K-Mart. We're working well internally to understand what is going on, and we're working well with K-Mart to make sure that we're staying in tune with how they're progressing. We're not going to comment, though, you know, in any detail on any specific customers. It's a tough retail environment out there. I think Doug and his team do a great job managing receivables and I think when I look at the reserves we have, I'm comfortable we are appropriately monitoring and reserving for anything that might happen.

Morgan (ph): Okay. Last question, and then I'll move on. with respect to EPS guidance, your current guidance is flat for the remainder of the year, or should we be looking at flat quarter by quarter here?

So much depends on the cough cold season at this point in time. You know, I don't want to say when the sales are going to come in. I think we're still sticking with relatively flat for the year, pretty flat versus '02, but you can add some on, 3 cents on for the vitamin litigation and you can add 2 or 3 cents on an EPS basis for the fact that we have less shares outstanding. And if the cough, cold and flu season comes in, maybe we'll be better. If it surprises everybody and goes against historical levels and doesn't hit at all, then, you know, we'd probably be struggling to hit what we have in there now, but that wouldn't be what we would expect to happen. When we look ahead at quarters, the only quarter I point out that, last year we did have a superb third quarter and that one is certainly not one that we have in our plans to be able to match this year.

Morgan (ph): Okay. Fair enough. Thank you. by the way I think you guys are doing a great job managing balance sheet and your costs.

Thanks.

Thank you.

Thank you. Your next question comes from the line of Linda Bolton-Weiser of Fahnstock.

Thanks. Congratulations on a good quarter.

Thank you.

Hi, Linda.

Just a couple things. Wrafton, if you were to adjust for the fact it was in for only a partial quarter last year, was it still up adjusting for that?

It was even if you adjusted for that, it was up slightly, but it would probably be better to use that good old term relatively flat because it was just slightly up versus last year even on an adjusted basis.

Okay. And you had mentioned when you acquired it that you thought there was some opportunity over the long material to shift the mix of their business more towards store brand away from contract manufacturing. Is that starting to happen yet or is that still something to come in the future?

That is still something to come in the future, Linda. We continue to see the opportunity. We are working on product licenses. To be honest, it's a little bit slower than I would have liked, but I'm pleased with the effort going on. As you know, we sent Jeff Needham (ph) over there. Jeff was one of the long term architects of our store brand business here in the U.S., and Jeff went over there in May and I think Jeff will be successful in showing both Wrafton and the marketplace over there what could be accomplished with a good store brand program. But it's taken a little bit longer than we would have thought to get it going, but we do have good activity going on to some of those product licenses we need and get those products developed.

Okay. and just shifting a little bit to when you talked about the analgesics category, you had mentioned that one of the reasons for the decline was the lower ibuprofen pricing. Can you quantify for yourselves what the pricing for ibuprofen was in the quarter?

No, we're not going to comment specifically on the pricing, but it certainly is, as ibuprofen moves to monograph status, we expect that pricing will continue to come under pressure. We will be able eventually to offset it with some lower cost sourcing initiatives that we have, but that is going to continue to impact our net pricing, and probably accelerate a little bit in the third and fourth quarters its impact on our pricing realization in a negative way.

Uh-huh, okay. and just in general, I mean I've noticed that over the many quarters here it seems that the analgesics category is one area where store brand has had a harder time gaining share within the category. Why is that?

I think basically you know, you have products like Baer that are out there that have a very established name. They've been around for just about 100 years. They're not going to give up their franchise very easily, and there is less of a price gap between branded aspirin products and store brand than there is between many other branded products and store brand products. I still think we'll have continued opportunities there, but certainly it is not the gross market we see in other areas. The big opportunities come for us through trying to develop new line extensions that can allow us to improve our profitability over time.

Okay. That's helpful. Thanks. and finally, the operating cash flow performance is very good. Does that number I'm seeing include the positive from the settlement you received?

Yes, it does, Linda. It comes through, if you look at the press release, it comes through net income.

Okay. So it's right in the --

In the net income.

Okay. Just finally, how do you get a sense for what the inventory level is like at retail right now?

I'll answer that, Linda. I think that the inventories are not out of line. You don't see necessarily high inventories even with POS data perhaps not being what we'd like to see with the season off to say slow start. . What you have, though, is retailers are managing their inventory very, very closely in this environment.

Okay. Just one last thing I thought of. In terms of trying to gauge the potential negative impact of the Claritin in the second half of the year, can you give us some sense of how big your allergy medication business is?

No, we don't break that out separately. It's included as part of what we look at the cough cold allergy and sinus category, and we don't break that out. It's, you know, between that category and analgesics, they're easily the two largest categories that we compete in OTC, but we do not break the allergy part out separately. It certainly is an important part of that overall business, but in fact, Linda, it gets tough to break it apart because there are many people that use same product for coughs and colds as they use for allergies. So it's very tough to break the allergy part out with a real strong degree of accuracy from the, you know, overall cough cold category.

Would it be correct your allergy properties are at least as good as the overall corporate operating margins?

Yes.

Okay. Okay. Thanks a lot.

Thank you. At this time there are no further questions.

Thank you all very much. Appreciate your participation.

This concludes today's conference call. You may now disconnect. [Normal Termination]