碩騰 (ZTS) 2013 Q1 法說會逐字稿

Welcome to the Zoetis First Quarter 2013 Financial Results Conference Call and Webcast. Hosting the call today from Zoetis is Vice President of Investor Relations Dina Fede. The presentation materials and additional financial tables are currently posted on the Investor Relations sections of Zoetis.com. In addition, a replay of this call will be available approximately two hours after the conclusion of the call via dial-in or the Investor Relations section of Zoetis.com. At this time all participants have been placed in a listen-only mode, and the floor will be open to your questions following the presentation.

(Operator Instructions)

In the interest of time, we ask that you limit yourself to one question and then queue up again for any follow-up.

(Operator Instructions)

It is now my pleasure to turn the floor over to Dina Fede. Dina, you may begin.

Thank you. Good morning everyone, and welcome to the Zoetis First Quarter 2013 Earnings Call. I'm joined today by Juan Ramon Alaix, our Chief Executive Officer; and Rick Passov, our Chief Financial Officer. Juan Ramon and Rick will provide an overview of our business, our financial results for the quarter, and our 2013 guidance. We will then open the call for your questions. We're also providing a simultaneous webcast of this morning's call. For your reference, a PDF version of the slides we're presenting and a transcript of the call will be available on the website later today.

Our remarks today will include forward-looking statements, and actual results could differ materially from those projections. For a list and description of certain factors that could cause the results to differ, I refer you to the forward-looking statement in today's press release and our SEC filings, including but not limited to our 2012 10-K. Our remarks today will also include references to certain financial measures which were not prepared in accordance with Generally Accepted Accounting Principles, or US GAAP. A reconciliation of these non-GAAP financial measures to the most directly comparable US GAAP measures is included in the financial tables that accompany our earnings press release, and it accompanies 8-K filing dated today, April 30, 2013. With that, I will turn the call over to Juan Ramon.

Thank you Dina, and hello everyone. Thank you for joining today's earning call. I'm very pleased to have the opportunity to speak with you about our results for the first quarter of 2013. Since our IPO in February, the entire Zoetis team has been focused on establishing our new Company. The 9000-plus Zoetis colleagues around the world have demonstrated their passion for building on our six-decade history, and a singular focus on animal health, to continue to bring our customers quality products, services, and a commitment to their business.

It has been a crucial time as we continue to establish our new Company. I'm very pleased to share that the work we are doing is already paying off. In the first quarter 2013, we reported revenue growth of 4%, 5% operational, and adjusted net income growth of 18%. The performance demonstrates our commitment to continue to grow earnings through the right allocation of resources in the pursuit of our growth strategies. We believe that our diversity across many dimensions is a competitive strength. These dimensions include the region, the species, product, and therapeutic areas.

One example that reflects this strength is the performance of our US business. Here, the drought continues to impact sales of our cattle products. This was balanced by a growth in companion animal sales and a strong performance of our poultry and [tryinga] products. As Dina mentioned, Rick Passov, our Chief Financial Officer, will provide more details of the information associated with each of the regions later on the call. He will also provide our full-year 2013 net guidance.

Let me first highlight the three inter-connected capabilities of Zoetis, which I believe continue to contribute to the overall performance of our Company. The first of these is our direct sales and marketing model. Our worldwide geographic footprint enables Zoetis to have a field force present in about 70 countries, in both developed and emerging markets. We are active in 120-plus countries, and we're a leader in nearly all of the many regions in which we operate. We work constantly with our customers to provide them innovative products, services, and support that will make a difference for their businesses. We also strive to make doing business with us easy, efficient, and meaningful.

The second capability is leadership in product research and development, which is best evidenced through our extensive and diverse product portfolio. In addition to our R&D programs for new products, we also apply a focus on brand life cycle management. This involves efforts to improve the performance and delivery of our current product lines. The expansions of product indications across a species, and the pursuit of approval across new geographies. For example, in Japan we recently achieved authorization of Fostera PCV, a vaccine for swine respiratory diseases. Also in Japan, we recently launched Draxxin, an injectable antibiotic for cattle and swine. That is one of our top-selling products globally. In China, saw the launch of Convenia, an antibiotic for cats and dogs first launched in the European Union in 2006, which is now one of our premier companion animal products.

Finally on our capabilities, our high-quality products which are delivered by our world-class manufacturing operations. We continue to place an important emphasis on our internal manufacturing and supply capability. It provides us with a key advantage in the animal health care market. We are continually looking to enhance our operational effectiveness and bringing innovation to our processes. These increase our manufacturing efficiencies and expand production margins. Most importantly, this has been achieved while delivering high levels of high quality and consistent levels of supply.

In spite of economic crisis, weather-related challenges around the world, and even disease outbreaks in some countries, we believe the fundamentals of our animal health industry are very strong. What we have seen today and longer term provides continuous opportunity for our Company. The population of our world continues to grow. By 2050 there could be more than 9 billion people. In addition, emerging markets are seeing growth in the middle-class sectors of their societies. These factors are creating increased levels of consumption of animal protein at a time of limited natural resources, including our land and water. This, a significant opportunity for animal health companies that can bring innovation to face the challenge to produce more with less.

Furthermore, improved standards of living are leading the higher levels of pet ownership, and more spending on the medical care of these animals, this creating a positive growth trend in consumer expenditure within the pet care sector, both in established and emerging markets.

Here at Zoetis, we are continuing to partner with the veterinarians and livestock producers across the globe to better understand the ways in which we can support them. For example, last month in Argentina we signed an agreement with a large dairy farmer to perform genomic tests on their herds using Clarified, a genetic marker. Through the use of these products, Zoetis is helping these farmers to make informed decisions and manage their livestock more efficiently.

As well as the work undertaken to maintain our market-leading position and support our customers, we are also delivering on our plans to stand up the Company. I am pleased with the progress we have made on this important work since the IPO, and the plans we have in place to progress this. With that, let me thank you for your attention and your interest in Zoetis. I will now hand over to Rick Passov, our Chief Financial Officer, and ask him to walk us through the financials. Rick?

Thank you Juan Ramon, and let me add my welcome to everyone joining us today. When we conducted our pre- IPO road show a few months ago, we enjoyed the opportunity to introduce the financial community to Zoetis. With today's conference call, we look forward to beginning a regular cycle of communication with you. Let me begin by explaining the basis of how we'll present our financials this year. While our results are reported in accordance with US GAAP, our commentary will largely speak to financial results on an adjusted basis. These adjusted figures, including adjusted net income and adjusted earnings per share, are non-GAAP measures. They exclude the impact of purchase-accounting adjustments, acquisition related costs, and certain significant items, such as the non-recurring costs of becoming a stand-alone public Company.

We also cite operational results which exclude the impact of foreign exchange and demonstrate the underlying performance of our business. We believe that providing these views of our performance, which are used by Management to evaluate the business, will enhance your understanding of our financial results.

Our financial results reflect how we manage our business on a regional basis. In addition to the Company's overall income statement, we provide revenues and earnings for our four regional operating segments -- the United States; Europe, Africa, and Middle East, or EUAFME; Canada and Latin America, or CLAR; and Asia-Pacific, or APAC. While we manage the business by regional segments, we are also providing supplemental information about each segment's total revenue broken down by livestock and comparing in animal categories. These and other additional details are included in the tables accompanying our press release, which are also located on our website.

Given we were not a stand-alone Company in 2012, let me briefly discuss the basis for our year-over-year comparisons. As indicated in our recent 10-K filing, our financial statements for 2012 and prior years have been derived from the consolidated financial statements and accounting records of Pfizer. These include allocations for direct costs and indirect costs which were attributed to the animal health business of Pfizer. Some of these allocations, for example, were for certain support functions that were provided on the centralized basis within Pfizer, such as expenses for certain aspects of business technology, facilities, and other corporate functions. Pfizer will continue to provide some of these service to Zoetis under traditional service agreements, or what you may hear us call TSAs.

As we noted in prior filings, the combined financial statements for 2012 do not necessarily reflect what the results of operations would have been had we operated as a stand-alone public Company. As a result, this can make comparisons to the prior year difficult in certain instances. First-quarter 2013 financials will include allocations from Pfizer through our IPO. Far all periods going forward, our results will be based on a direct cost associated with our stand-alone operations, not allocations. Those results will include costs related to the services we received from Pfizer under the TSAs that I mentioned.

Turning now to our financial results for the first quarter of 2013, our first-quarter 2013 revenues were approximately $1.09 billion, an increase of approximately 4% year over year, including a negative impact of 1% from foreign exchange. We reported operational growth across each of our regional segments, led by the increased revenues in the US segment; reported net income of $140 million in diluted earnings per share of $0.28, increased approximately 26% and 27% respectively.

On an adjusted basis, net income of $179 million and diluted earnings per share of $0.36 showed an increase of approximately 18% and 20%, respectively. The adjusted net income excludes the impact of $8 million of purchase accounting adjustments, $4 million of acquisition-related costs, and $27 million of certain significant items. We believe these first- quarter results represent a solid year for the year, showing the diversity of our business across products, species, and geographies; and demonstrate an ability to grow earnings faster than sales.

Turning to our adjusted net income statement, revenues were up about 5% operationally, excluding the impact of foreign exchange. Adjusted cost of sales was approximately 36.5% of revenues, versus approximately 37.1% in the year-ago quarter. Adjusted SG&A and adjusted R&D expense decreased approximately 3%. Since we continue to build our infrastructure, our SG&A expenses this quarter do not yet reflect our expected full run rate of expenses for 2013.

Adjusted interest expense increased to $22 million in the first quarter of 2013, from $8 million in the first quarter of 2012. This increase reflects our debt issuance in January of this year. Adjusted other income and deductions in the quarter declined to a deduction of $2 million in the first quarter of 2013, from income of $6 million in the first quarter of 2012. This decline was primarily driven by the non-recurring impact of the Venezuela currency devaluation. Our effective adjusted tax rate for the first quarter was approximately 29%, including the non-recurring benefit of a US R&D credit, which was retroactively extended in January of 2013. Finally, our adjusted net income increased approximately 18% to $179 million for the first quarter.

Now on to our operating segment results, which I will discuss on an operational basis. These segment earnings are pre-tax numbers and are reported on an adjusted basis, as I described earlier. Beginning with the US, first-quarter revenues were $454 million, an increase of 7%, and earnings grew approximately 8%. Companion animal revenues increased by approximately 13%. This growth reflects, among other things, continuing demand for our products and the positive impact of a competitive supply issue, which has now been resolved. Livestock revenues in the US grew 2% versus the year-ago quarter. Strong sales of both poultry and swine products were largely offset by a decline in product sales for cattle due to the negative impact of ongoing drought conditions in the US.

In EUAFME, first-quarter sales were $290 million, an increase of approximately 4%, while earnings increased about 16%. These results were driven primarily by higher companion animal product sales, which increased approximately 6%, and by 3% growth in sales of livestock products, especially in swine and poultry. Results were also favorably impacted by the timing of price increases in certain European markets. In EUAFME, we continue to see challenging economic conditions, particularly in southern Europe, and we expect an unseasonably cold weather across much of Europe will likely delay the start of the parasiticide season, which normally begins early in the second quarter.

In CLAR, first-quarter sales were $171 million, increase of approximately 4%, while earnings increased about 9%. Results in this region are largely driven by performance in its two largest markets, Brazil and Canada. Livestock product sales increased 6%, primarily due to these two markets. Sales growth of cattle products in Canada was driven by a strong fall calf season, while in Brazil we saw growth in both swine and poultry product sales. Sales of companion animal products decreased 5%, primarily due to the favorable impact in the year-ago quarter of a competitor's supply issue in Canada. In Latin American markets this quarter, particularly in Brazil, we continue to see growth in companion animal product sales.

Finally in APAC, first-quarter sales were $175 million, an increase of 2%, while earnings in the region increased 6%. Livestock product sales increased approximately 3%, driven largely by higher sales of swine products, particularly in Australia, while drought conditions in southern Australia continue to impact the dairy industry; and Japan continues to be impacted by the ongoing economic challenges in that market. Finally, companion animal product sales in APAC increased by approximately 2% operationally.

Now let us turn to guidance for 2013. This guidance assumes a blend of actual exchange rates in effect during the first quarter of 2013, and mid-April exchange rates for the remainder of the year. We expect reported revenues of approximately $4.425 billion to $4.525 billion for the full year. We expected adjusted cost of sales as a percentage of revenue to be between 35% and 36%. Adjusted SG&A expenses are expected to be between $1.385 billion and $1.435 billion. Adjusted R&D expenses are expected to be between $385 million and $415 million, and we expect the tax rate on adjusted income of approximately 29.5% for the full year. We also expect to incur non-recurring costs, largely related to standing up the Company of between approximately $200 million to $240 million in 2013. These costs will be excluded from our adjusted numbers.

While our quarterly results are subject to some variability related to weather patterns and herd-management decisions, our annual guidance reflects our confidence in the diversity of our portfolio, the strength of our business model, and our view of the evolving market conditions for animal health products this year. That concludes my prepared remarks. Now we will open the line for your questions.

Thank you, Rick. Thank you Juan Ramon. Operator, we are ready for our first question.

The floor is now open for questions.

(Operator Instructions)

Chris Schott, JPMorgan.

Great, thanks very much and congrats on the first quarter out here. I just had two quick questions. The first one is, since this is your initial guidance call, can you maybe just walk through some of the factors that could put you at the high or low end of your revenue range this year, and I guess as you are discussing that specifically, what's reflected in these numbers in terms of a recovery from the drought in the US?

My second question was SG&A, the guidance looking like a second year in a row here of expenses that are kind of flattish. When we think about the longer-term model, and I know you are not providing guidance beyond 2013, but is it fair to think about SG&A that's flat or that we can see inflation-like grown in SG&A as we think about the model evolving over the next few years? Thanks very much.

Thank you, Chris. Let me provide some comments on the two questions and probably Rick will expand on some of my remarks. First, I think there are some uncertainties related to the drought. Depending on the impact of the drought, we will be able, really, to go higher or lower in the range that we have provided. Also we expect some recovery in European markets, that also can drive some of the revenues that we expect for the year; and again, this will impact the total revenues that will be really reporting at the end of the year. In terms of SG&A, I think definitely our model is to grow revenues faster than expenses. This is something that definitely we achieved that in the past, and we will continue really grow revenues much faster than expenses. Rick, do you want to add some other comments?

No, I think -- all I would add in particular with respect to Q1 is that SG&A does reflect the pace of building up infrastructure here; and I think as you will see when you do the math, the number is a little bit less than what we expected to be on a run rate of revenue for the full year.

Robert Willoughby with Bank of America.

Hi, this is Erin Wilson in for Bob today. I understand the lingering effects of the drought or wane on the US livestock business near-term, but could you comment on the effects of a later or possibly reduced corn planting expected this year? Would that be -- potentially have a meaningful impact, and how should we think about that going forward?

At this point, there are still uncertainties about the corn production in the US for 2013. We know that we move from a drought last year from now afloat in some parts of the corn belt that is really delaying seeding corn in the US. At the same time, we know that some other markets, they saw the opportunity of the high prices of corn the last year really to increase the production of corn. At this point, it's a little bit complicated to know the level of price of corn in 2013. What we see today is that the price is lower than the record praise in 2013. It was close to $9 a bushel, and now we are around $6, $6.50. I think that it is something that will create probably better opportunities for our livestock producers in terms of the input cost.

Okay great, and what was --

David Risinger with Morgan Stanley.

Thanks very much, and congrats on the results. I wanted to ask two questions, please The first is a high-level question about Europe. Lilly Management had said a week ago that meat supply is exceeding demand ex-US, and that it's slowing livestock industry growth. Could you please offer your comments on that? Second, a financial question for Rick. Could you talk about tax-rate reduction opportunities to take the tax rate below 29% in the out years? Thanks very much.

One of the strengths -- thank you Dave. One of the strengths of Zoetis is diversity of our portfolio -- in terms of geographies, in terms of species, in terms of (inaudible). What we have seen in the first quarter has been a reduction on sales of cattle products, but we increased significantly revenues generated by swine and poultry in many different geographies. We also had a very strong performance in companion animal.

In terms of the price of the meet, I think it -- we think that in some part of the geographies that there were extra supply of meat and then this drove the price down, but this is something that we expect some -- well, at least a temporary adjustment, and we don't see that will have a significant impact in the rest of the year. We are still committed to our numbers that have been provided to year, to date. What we will see is that among different quarters, some fluctuation in terms of the results. But definitely, our industry should be really assessed on a yearly basis, and this is where we think that we are focused on delivering our numbers at the end of the year. Rick, do you want really to expand on this question, and also to answer the tax rate?

I will just turn to the tax rate, actually, and David, just say that the tax rate we are providing in our guidance is a good estimate of what we think our tax rate will be over the long term. It may vary somewhat around the estimated rate, but it's clearly our intended target, and when you look at the rate compared to similar-situated multi-nationals, it's a rate that I think you would expect to see. Thank you.

Louise Chen with Guggenheim.

Good morning, thank you for the question. I was curious if you could provide more color behind the specifics that would drive down your cost of goods sold and SG&A over time. Thank you.

Okay, thank you, Louise. I will just provide a general comment and I will ask Rick to go into details. Definitely, we will see in terms of cost of goods that we will benefit from probably two or three important factors. One will be a price increase. I'd like really to confirm that in the first quarter we increased prices across species and across geographies. Second, we'll be also continuing focus on cost improvements in our manufacturing network. In terms of SG&A, I think definitely we will continue having the right discipline in terms of allocation of resources, and we expect SG&A growing lower than our revenues. This is something that has been done in the past and will continue in the future. Rick?

I will just repeat, Louise, and again thank you for the question -- volume, price increase, some products moving back into our network, and very good cost discipline across the country -- the Company.

Kevin Ellich with Piper Jaffray.

I just wanted to ask about the strong companion animal growth in the US. Curious as to what you think the sustainable growth is in that segment, and what opportunities you see in terms of using your balance sheet and cash flow? So also, what you thought about capital allocation, maybe expanding into diagnostics or something like that?

Thank you, Kevin. We're very pleased with the performance of companion animal in the US. We are enjoying a very good momentum in terms of sales, but in the first quarter we also had the positive impact of one competitor facing supply issues. This supply issue has been solved, and this company is already back into the market in the US. But still, we think that our companion animal is very strong in the US. We also apply price increases in the US in the first quarter. This was well accepted by our customers, which is showing the right partnership that we are having with them. We are optimistic about the future performance of companion animal in the US, because I think we have the right strategies, the right programs, and also the interaction with the customer, direct interaction with customers, that is allowing us really to maximize our product portfolio. Rick will answer on the capital allocation.

Kevin, again thank you for the question. Our priorities for capital allocation are going to be as follows. Over the next few years we're going to complete the stand-up of our own infrastructure, which will call for elevated levels of spend that we've disclosed, both on this call and in our 10-K. We will position ourselves for a certain amount of deleveraging as we come close to our first debt maturities. We'll pay the dividend that we've declared, and we'll pursue some M&A -- bolt-on acquisitions -- that leverage our core strengths. Then beyond that, an ongoing capital allocation discipline is going to be the hallmark of Zoetis.

Let me add one comment on companion animal in the US. We have seen that the visits to clinics are now increasing in the US, and also the spend pet owners per pet is also increasing. This is a good trend, and our presence in many different (inaudible) in companion animal is really providing to us quite the positive performance, and we expect that this performance will be sustainable over -- in 2013.

Mark Schoenebaum with ISI Group.

Thanks a lot for taking the question, and congratulations on a well-managed -- a very well-managed quarter. I had a -- first question is a housekeeping one. I didn't hear on the prepared remarks -- would it be possible for you to give us price versus volume growth in both the companion animal segment and the livestock segment on a world-wide basis? Also, if you could provide it regionally in the US that would be really helpful, price versus volume. The second question I had is more like a long-term speculative thing, question. The avian flu in China. I know your China business right now is very small, but has this had any material impact to that small business segment for you? Maybe you can give us a history lesson, the impact that prior avian flus have had on the business, if any. Thank you very much.

Thank you, Mark. Our pricing strategy is really depending on many different factors, including species or including also geographies, including also competition. It's difficult, really to provide a global comment on our price strategy. Definitely in emerging markets, volume is much higher than price, while in developed markets price is higher than volume. In the US, definitely in -- we have seen that in many of the species. Prices has been a growing -- at the higher weight than volume. That is something that is part of our model, and we don't see that as a negative in the country. It's a good opportunity for us really to apply price strategies that will maximize our margins across many different geographies and species.

In terms of the avian flu, you mentioned that it is still something that -- it is not a significant impact. China for us represents a little bit less than 2% of our total revenues. The majority of these revenues are generated in the swine business. So the poultry business, it's definitely a future growing opportunity, but it's really having a minimal impact in our total revenues. What we are concerned is really how we can really provide the support to our customers in China, and also how we can minimize the impact of the avian flu in many people in China. Definitely, we don't see that the avian flu -- that in my opinion would also be a temporary -- without the significant impact in our future revenues.

Jamie Rubin with Goldman Sachs.

Just a couple questions. First, as it relates to sales in Asia-Pacific, it did seem to be a little light, especially when you adjust for foreign exchange of only 2%. This is a business that's by growing sort of high single digits, low double digits. I'm wondering if you can talk about how we should think that business going forward, and the factors that have put some pressure on that. Also, just generally speaking, while I'm interested in your views on your Company's companion animal exposure to some of your peers or some of your competitors pushing store-brand OTC companion animal products, and just where you see exposure in your companion animal business? Thanks.

Thank you, Jamie. On the revenues for APAC, we grew by 2%. APAC is a combination of two different groups of countries. We have highly developed markets like Australia, Japan, Korea, and emerging markets, India, China, southeast Asia. In the developed markets, we saw in this quarter very strong growth in Australia. We faced some challenge in Japan and Korea. In emerging markets, India also faced some challenges because of some regulatory issues that we expect to solve in the next following quarters; also some one-time impact in China. We are convinced that APAC will be a significant growth-generator in our total revenues. We expect also in 2013 APAC growing faster than the average, all for the rest of the regions in Zoetis.

Jamie, I just want to add that the regulatory issues pertaining to product delays are not related to manufacturing or any other part of the network. It's just taking us a little longer to get some projects registered in that market in India.

Thank you, Rick. In terms of our exposure in companion animal and OTC, we see that this segment -- it's mostly affecting anti-parasitic. In our case, given our anti-parasitic portfolio, it's a prescription portfolio. Our Revolution in the US is a product that requires a prescription of a vet, so it's not something that is really affected by the OTC. That really -- the OTC will be a channel that we will continue growing, mainly in anti-parasitic; and anti-parasitics that will not require a prescription of a vet. The majority of our portfolio, I'd say 95% of our portfolio, requires the prescription of a vet; so in our opinion our portfolio is not really affected by this shift from vet clinics to the OTC talent.

Tony Butler with Barclays Capital.

Good morning, thanks very much. Two brief questions. One is, in the US companion animals quite strong, you made reference to product coming back on the market. I assume that's Sentinel relative to Revolution. Is it fair to assume that's correct? More importantly, would it also be fair to assume that competitor would have some sort of promotional campaign under way, and I'm interested more importantly about how you counter that, if you will counter that.

Second in the European market, certainly called out on the 10-K. There was very strong growth for parasiticides, primarily in France and the UK. Rick, you made some comments about the delay due to weather patterns in Europe, and I would just like to flesh that out a little bit more. Would that imply that parasiticides would actually be -- certainly have less growth on a year-over-year basis, but more importantly, how do we think about that for the remainder of the year? Thanks very much.

Thank you, Tony. Our companion animal business in the US -- I think on top of these issues from -- of some of our competitor, I think it's enjoying very strong momentum. Definitely we have seen that the competitor now is back in the second quarter. They are applying some promotional strategies, and we feel comfortable that our strategies and our also presence and our direct interaction with our customers are the right way, really, to defend our portfolio. That will have an impact in the second quarter compared to last year, because last year also, this competitor was not in the market. But that will be something that has been included in our yearly guidance. All these elements have been a part of our projections for 2013. Rick, do you want to add any comment on that?

Not on that, no.

So then in Europe, in France and the UK. In UK, we had the price increase in the first quarter compared to a price increase in the second quarter last year. This can also have an impact in terms of the results of the first quarter. What we see also in Europe, not only in France and UK, but in all Europe, that the weather has been very cold, and has been a delay on the season for ticks and fleas. Definitely this can have an impact in the second quarter. This can also have an impact for the total year, but this has been already incorporated in our projection for the total year. Any delay in terms of a decision for parasiticides, since the animals are normally treated monthly, this is something that will have an impact in our quarter, the second quarter, but we expect that the total-year projections are the ones that have been provided to you. Rick?

The only thing I would say, Tony -- again, you're right that the parasiticide season is important in Europe. You and we can all see that there is a much colder season in Europe and it is delaying the start of the season, and we're taking our best guess now of what the impact will be in the guidance that we're providing to you.

One comment that is also important to remember, it is the international markets. We are closing in February, and so the quarter will start March, April, May, so this is the quarter for international -- while for the US is the natural quarter.

Liav Abraham with Citi.

Good morning, two questions please. First, I would appreciate it if you could expand a little on the weakness in the Canada, Latin America region, and how you anticipate that playing out for the rest of the year, and when you anticipate an acceleration in growth? Secondly, following on from Chris's question earlier on SG&A costs, I have a question on R&D costs. These are also looking relatively flat this year versus last year. How should we be thinking about this line item going forward? Thank you.

Thank you, Liav. The business in Canada and Latin America grew by 4%. This 4%, I think, is something that is in line with our expectations. So Canada, Latin America, it's two big countries, Canada and Brazil, represent almost two-thirds of the total revenues of the region. They are both countries which are highly developed in livestock, and Canada highly developed also in companion animal. Definitely Brazil, although it's defined as an emerging market, is not an emerging market for livestock, because it's highly sophisticated in terms of production of animal proteins. We expect this region growing in line with our expectations. Again, there will be some fluctuations among quarters. But at the end of the year, this region and some of the markets in the regions will be generating strong growth. Maybe Rick, you want to cover the question on SG&A and R&D?

Sure. I think the question was R&D, and all I will say is that is an important part of the value paradigm here; that we do think we can grow revenue faster than all of our expenses -- I would include R&D in that; and that generally the effectiveness of R&D is in part shown by the fact that revenue is growing and earnings are growing at a faster pace.

Alex Arfaei with BMO Capital Markets.

Good morning. Thank you for taking the questions, and I'll add my congratulations, as well. Two questions -- are you seeing increased scrutiny by regulators as a result of recent issues in China? Specifically, are you seeing increased -- or do you see the potential for increased restrictions on use of antibiotics in livestock feed? Then as a follow-up, could you comment on the sustainability of price increases? My understanding was that a significant portion of your portfolio is subject to cheaper competition. Is pricing leverage something we can expect going forward? Thank you.

Thank you, Alex. Definitely, we will see that the regulatory standards will increase in all markets where we operate. We don't see that as a negative to our business, because we have already these high standards that we apply to all the countries in we operate. Maybe this will facilitate competition in some of the markets in where local producers -- they are applying a lower standard in terms of manufacturing and regulatory approvals.

In terms of the anti-infective, these are discussions that has been on since many years. We have a portfolio in anti-infective which is excellent. It's the gold standard for treating sick animals in all the different species. Definitely we see that we will continue collaborating with many regulators around the world to ensure the right use of anti-infective. One example of this collaboration is the recent discussions -- an agreement with FDA to withdraw the indication for [growth hormotion] of some of our products in the us, products which are medically important for humans for the indication. We expect that this will have minimal impact in our revenues.

In terms of the sustainability of price increases, or portfolio -- 80% of our portfolio is really not pattern perfected -- and this has been the case for many years. Even with this situation, we have been able to increase our prices in a constant way in all different geographies and different species. So we are confident that the business model while we have, which is combining direct interaction with customers and high quality of our products and related supply, will allow us really to continue applying price increases in the future.

David Krempa with Morningstar.

I was just wondering if you could elaborate why you are able to drive such strong operating leverage in Europe with just a little revenue growth, but big operational income growth?

Thank you David, and I will ask Rick to answer this question.

Well, first of all thank you for the question. Basically from two basic factors, the fact is gross margins in Europe are healthy, so we get a little bit of leverage in the P&L from growing the top line; and as well, there is good expense control in that market. Then I would only add that quarter to quarter there may be some variability in the rate of earnings growth versus revenue growth. So nothing really special or outstanding there.

Robert Willoughby with Bank of America.

Hi, this is Erin again. What was cash flow and cash balance for the quarter, and do you have targets there for the year also on CapEx? And how is inventory management? Can you give us an outstanding balance? What -- would you consider, I guess, this a big area of improvement for you going forward?

Thank you Erin, and I will ask Rick to answer these two questions.

Erin, as you know in our release today we didn't release balance sheet or cash flow. You'll see that when we publish our 10-Q. Otherwise we have said that in 2013, our priorities are going to be completing the separation -- the elevated spend associated with that, paying our dividend, and that I don't expect significant working capital improvements this year -- in part because our primary focus is again all of those activities to complete the separation. Those activities include a significant amount of product transfers, and that affects our ability in this particular year to make a sole concentration on reducing inventory levels. But in general, I think you would see not a deterioration of working capital, and that become a focus for us in the out years.

David Risinger from Morgan Stanley.

Yes, thank you, my additional question has been asked and answered.

Chris Schott with JPMorgan.

Great, thanks for fitting me in here. I know you're not giving quarterly guidance, but anything you can talk through on quarterly progression from here, just so we have no surprises? Even at a high level, how are you thinking about stronger or weaker quarters the rest of this year based on what you can see today? Thanks.

Chris, thank you for the question and what we want, really, is to insist that our business should be assessed on a yearly basis. That there will be some fluctuations among quarters. We had a stronger quarter in Q1. There were some one-time items in this quarter and we will see that some of these items will also have impact in following quarters. But rather than providing a specific guidance by quarters, we prefer that you consider or assess our business on a yearly basis, because of so many factors that can really have an influence in our quarters, but can be compensated at the end of the year. Chris, you want to add -- sorry, Rick want to add any other question?

No, I think Chris we have done the best job we think we can do in the comments we have made on the call, as well as in what's in our press release.

Operator, time for one more question, perhaps?

Kevin Ellich with Piper Jaffray.

Hi guys, just one quick follow-up. Not to beat a dead horse here, but with the drought impact in the US, I was wondering if you could give us any specifics as to what is embedded in your guidance. Last year we were hearing that herd sizes were down about 5%, now maybe 7% to 9%. Is that what you have embedded in your guidance?

I think definitely the drought has been the highest impact in the cattle business, that the herd has been reduced compared to previous year. But there has been also now -- it's at the lowest inventory of animals in the cattle ever. This is definitely having an impact in our projections that has been incorporated in our guidance today. The cattle will take longer to recover, because it takes two to three years to really build the herd. But at the same time, poultry and swine will have a much faster recovery, because in five and six months, the cycle -- in the case of poultry, 45 days.

We expect that in the second part of the year these two species, swine and poultry, will be back to normal situation. For cattle will take longer, but at the same time we expect that because of the low inventory, also the value of the animals will be higher. The amount a producer will spend per animal will also be higher to protect the health of these animals. Everything has been included in our guidance. We expect that at the end of the year, we will have -- we will be back to normal situation.

With that, I would like to thank everyone for joining us today. On behalf of the entire Zoetis team, I appreciate your joining us for this today call. I hope that we have been able to share with you some of the highlights from our first quarter, and reinforce why we are positioned to continue to lead in our industry. Thank you very much.

This does conclude today's teleconference. A replay of today's call will be available in two hours by dialing (800) 283-4783 for US listeners, and (402) 220-0859 for international. Please disconnect your lines at this time, and have a wonderful day.