Balchem Corporation (BCPC) Earnings Call Transcript & Summary

Good afternoon, and thank you all for standing by. [Operator Instructions] It is my pleasure to introduce Mr. Ted Harris. Thank you, sir. You may begin.

Great. Thank you, everybody, for joining us on this virtual call. Appreciate all the work that JPMorgan did, changed things from an in-person meeting to this virtual call, and we have a fair number of people on the call, which is great. I think just to let everybody know, we have posted a presentation to our website, balchem.com. And if you go into the Investors section, you should be able to see a new presentation posted there that's called JPMorgan Industrials Conference 2020, and I'll be going through that presentation, and hopefully, that will take maybe 25, 30 minutes of the 40 minutes, and then we can have Jeff ask a few questions. So let's just go ahead and get into it. First of all, my name is Ted Harris. I'm the CEO and Chairman of the Board of Balchem, and with me here today is Martin Bengtsson, who is our CFO. And we're really looking forward to spending a few minutes telling you a little bit about our company. As we show on Slide 2, our safe harbor statement. I'd like to just remind you that we may make forward-looking statements during today's presentations and that actual results may vary. So on Slide 3, we'll just really get started there. Balchem was founded in 1967. We celebrated our 50th anniversary a couple of years ago in 2017. But really, we've transformed the company over the last 6 years, almost doubling our size and certainly outperforming Russell 2000 by 20% or so over that period. We think of ourselves as a specialty ingredient manufacturer for health and nutrition markets, particularly human and animal health and nutrition. We have a market cap of about $3 billion, trade on the NASDAQ, and we've finished 2019 with just under $650 million in sales and about a 25% adjusted EBITDA margin. We have 21 manufacturing sites around the world and 5 R&D centers in Europe, North America and Asia. I've been -- on Slide 4, I've been with the company for a little over 5 years after many years in the specialty ingredients and specialty chemicals markets, working with companies such as Ashland, ICI and FMC. And Martin just passed his first anniversary with the company after a storied career at Honeywell, where he spent 15 years in a number of their specialty materials and chemicals businesses. So on the next slide, to Slide 5. I just -- this really is a good slide that just shows our company and the segments that we report out results for. We have 4 reporting segments: Human Nutrition & Health, Animal Nutrition & Health, Specialty Products and Industrial Products, and you can see that 82% is made up of the 2 segments, Human and Animal Nutrition & Health. And that's really why we think of ourselves as a nutrition and health company. The 18% that's left are important to us, but obviously less material to the company and that's Specialty Products and Industrial Products. On the next slide, Slide 6, we'd just go into a little bit more detail into each of the 4 segments, showing here a little bit around the markets that we serve as well as the solutions and technologies that we offer. And I guess, I would just highlight, on the right -- far right-hand side under solutions that there are 3 technologies that we really think are the foundation of our company. One is micro-encapsulation, and that may mean a little bit different things to different people. But I think a real simple thought around micro-encapsulation is that you think of an individual grain of sugar, we put a coating around that individual grain of sugar. We call that micro-encapsulation. And while we do encapsulate sugar, we also encapsulate vitamins and nutrients as well as various food ingredients for different applications, typically bringing some sort of functional benefit to whatever we're encapsulating. And we believe we're the world leader in micro-encapsulation, specifically using lipids or fats. Choline is the next technology that's common to several segments. We're also the world leader in manufacturing choline. Choline is an essential nutrient. It used to be called Vitamin B4 until there was a change in the technical definition of what a vitamin is and it doesn't quite fit that. So now it's in the essential nutrient category and is obviously an essential nutrient for humans as well as animals, commonly found in infant formula, for example, for humans as well as prenatal vitamins and other nutritional beverages. And in animal nutrition & health, it's a common part of poultry, swine diets, increasingly so in the dairy industry, where we actually have to micro-encapsulate it so that it survives the first stomach of the cow and releases in the secondary stomach. But increasingly used in the dairy industry, certainly a part of most pet foods and also used in aquaculture. Interestingly, the choline molecule has some clay stabilization properties and was -- started to be used probably 10, 15 years ago in the fracking industry as an environmentally friendly replacement for potassium chloride. It continues to be used today in that market, albeit to a lesser extent, given what's going on in that market. Chelated minerals, you also see, are common to multiple segments, and basically, that's a fancy way of saying we've taken inorganic mineral like zinc or magnesium or iron. We've put it in an organic molecule that the body can absorb more effectively, and so it's more bioavailable. So it tends to be used in multivitamins and the like because it has higher bioavailability than just the pure mineral. Also important for animal nutrition and in the specialty products space, we sell chelated minerals into plant nutrition, essentially as fertilizers for high-end crops like grapes and strawberries and apples and crops like that. So additionally to the 3 really foundational technologies, we also have some other product solutions and technologies that we sell into the various segments. For example, in human nutrition & health, we sell various powder, flavor and cereal systems. We're really a formulation company. A good example of a product we sell there is we manufacture most of the noncoffee powder and flavor systems for Keurig Green Mountains, K-Cup, products that are noncoffee, so like hot chocolate and chai tea and apple cider and products like that, just a good example of those kinds of products. And since we're market-focused, while we do have these 3 foundational technologies, we augment those technologies with others. In Animal Nutrition & Health, we also sell amino acids and other nutrients to the dairy industry. In particular, we micro-encapsulate those, but kind of the fundamental product we're selling is an amino acid, for example. In Specialty Products, we are also the world's largest repackager of ethylene oxide and propylene oxide for the sterilization industry or the nut fumigation industry. We're really providing a service there. It's a service business where we're repackaging, and we have our own trucks and drivers and delivering these drones and cylinders to sterilization companies like STERIS, for example, but even also medical device manufacturers like Becton Dickinson, and Stryker, and companies like that. So that's a good chart, it just gives you a feel for the markets that we serve and the solutions we provide. And as I said, we're the world leader in micro-encapsulation as well as choline. We lead the human chelated minerals business, and we have a growing position in that area in animal nutrition. On Slide 7, you can see our vision. We, at Balchem, kind of unite around a higher purpose statement, which is to make the world a healthier place. And we're focused on building a global nutrition and health company by delivering trusted, innovative and science-based solutions to our customers. On Slide 8, you can see some of our strategic focus points, strengthening the positions that we already have in attractive growing markets, so building larger, stronger, better position within human and animal nutrition health segments, for example. Driving growth, both organically and inorganically within these businesses. For example, within Human Nutrition & Health, we feel like we are just in our infancy when it comes to choline and mineral nutrition awareness and, obviously, focusing on building awareness and driving penetration. We've successfully leverage our delivery system capabilities, those kind of powder flavor systems and as well as chelation to bring our nutrients and minerals to the market. And within Animal Nutrition & Health, we're similarly in the early stage of growth where we have significant market penetration opportunities ahead of us. For example, one of our flagship products is a product called ReaShure where we encapsulate choline. We believe we're in about 30% of the dairy cows in the U.S., headed towards and striving for 50% and 60%. But we're only in about 5% of the cows in Europe, and there are more dairy cows in Europe, and so we're building the capabilities for [Technical Difficulty] in Europe. And we're doing all of that -- healthy margin profile and continue to... [Technical Difficulty]

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Okay. So I apologize, everybody. It sounds like we dropped off. And I think I was just on Slide 6, and well, you should have heard Slides 7 through 14. They went really well. So I think we only have about maybe 10 minutes left and maybe I'll just try to go through it really quickly. But I think the last thing you heard me say was that in Specialty Products, we also repackage ethylene oxide and propylene oxide for the sterilization and nut fumigation industry. That really is a service business, where we buy bulk ethylene oxide and propylene oxide, put it in cylinders and drones. We have our own trucks and drivers. We have completely redundant pack -- repackaging stations where we provide these products to companies like STERIS, Becton Dickinson, Stryker to sterilize their medical devices. And then probably, I moved on to the next slide after that. So Slide 7, just kind of highlights our vision and mission. At Balchem, we unite as a team behind this higher purpose statement to make the world a healthier place and really are focused on building this global nutrition and health company by delivering trusted, innovative and science-based solutions to our customers. On Slide 8, you can see some strategic focus areas. And really, what I want to say here is that we're focused on building larger, stronger, better-positioned human and animal nutrition health businesses, extreme focus on both organic and inorganic growth. For example, within Human Nutrition & Health, we really feel like we're in the infancy as choline and mineral nutrition awareness grows, based at least in part on the clear health benefits of these important nutrients. But also in Animal Nutrition & Health, we think we're in a similar early stage of growth, where we have significant market penetration opportunities ahead of us. The next slide, Slide 9, really goes through the growth platforms that we have in each of our segments, and as you can see, primarily in Human Nutrition & Health and Animal Nutrition & Health. And I won't go through each of these but maybe highlighting a couple. The second one is Human Nutrition & Health. We really are excited to have a recommended daily intake that the FDA issued on choline. That really creates a tailwind and helping us try to take what really is a fairly niche nutrients or vitamin and make it much more mainstream and have it be included in multivitamins, not just prenatal vitamins, nutritional beverages, not just infant and toddler formula and so forth. In the animal space, it's really about taking advantage of the really growing demand for nutritional products, from dairy cows and further penetrating the market with our encapsulated choline and getting it into a larger percentage of the cows in the market, both in the U.S. and Europe, but also introducing new nutrients to the dairy industry. So Slide 10 really just kind of brings our growth focus together. We are in attractive, growing markets. And then we have the growth platforms that we talked about on the previous slide and then augmenting that growth with strategic acquisitions. The next slide, Slide 11, really, this kind of shows our perspective on the markets that are really important to us. And I guess I'll just say really briefly that we feel as though 2020 is slightly more positive from an overall market perspective for us, particularly because the dairy industry has turned the corner. And after a 5-year-plus slump, dairy prices, milk protein prices are on the rise and we're excited about that for our business. The next slide, Slide 12, just highlighted a few of the obvious potential challenges that we face, including, of course, the coronavirus; African swine fever, which has impacted the swine industry in China; the increased regulatory scrutiny around the use of ethylene oxide in medical device sterilization; and then the oil and gas market volatility that has gone through an extreme over the last couple of days. Slide 13 just really highlights the -- our financials over the last 5 or 6 years. And you can see we've been able to deliver consistent performance and growth through that period of time on those 4 key metrics. And 2019 was our 10th consecutive year of adjusted EPS and sales growth. Slide 14 breaks down our sales and adjusted EBITDA by our 4 reporting segments. And you can see that, really, each of the segments has contributed nicely to our growth over the time frame, except for Industrial Products, which is primarily oil and gas, which has been a negative over the period. But particularly, Human Nutrition & Health and Specialty Products has contributed most significantly. Slide 15 really just speaks to Q4. And overall, we were pleased in Q4, given the headwind that we faced in the oil and gas market, in particular, 3 of the 4 segments grew. We expanded our gross margins by 130 basis points, and we certainly benefited, as you could see, by adjusted net earnings and adjusted EPS from a lower tax rate based on increased R&D credits, particularly in Europe, that we were able to garner. So overall quarter showed resilience and ability to overcome some of the challenges that we've faced. Slide 16 just speaks to our capital allocation strategy. It's fairly simple. Our primary focus is organic growth, followed by inorganic acquisitive growth. And you can see that we've kept a very a healthy balance sheet and sensible debt leverage ratio in the chart on the right. Slide 17 just shows the acquisitions that we've made over the last few years. And I'm very proud at how close to the core all of these have been and how they kind of represent what our focus is. It's -- these are either an example of adding an adjacent product offering to our portfolio or contributing to geographic expansion, or consolidating the industry and helping create scale for Balchem. But as I mentioned earlier, each of these contributed to building larger, stronger, better-positioned businesses within our company. Slide 18. This shows the free cash flow conversion metric, a very important metric that we focus significantly on. And over the last few years, you can see, we've averaged about 100% free cash flow as a percent of non-GAAP net income, which we think is a good metric for us to look at. And again, this is an important focus for us. Slide 19 just highlights that we're committed to having a dividend and growing it year-on-year. And then Slide 20 and 21 really just highlight our environmental, social and governance focus. We're very proud that last year, we put together our first consolidated sustainability report after many years of doing a lot of great work. We put it all together in a report and really kind of focused on 2 primary objectives, providing -- focusing on the sustainability around providing solutions for the health and nutritional needs of the world as well as acting as strong stewards for our shareholders and all of our stakeholders. And Slide 21 shows the metrics that we're focused on. And we reported results of these metrics, and we're in the midst of updating this sustainability report and we'll be issuing the update shortly. Slide 22, really, almost brings us to the end here. But what makes Balchem unique? And we really do believe we have a unique company. We have a track record dating back more than 50 years of continued innovation for the industry. We've carved out protected positions in our markets and stayed ahead of our competition over that period of time. We've been able to leverage a number of key technologies across our segments and drive synergies there. And we have a tremendous future upside potential to grow both organically through market penetration and geographic expansion as well as inorganically. And then the last slide, Slide 23, and I apologize for going through this so quickly due to the technical difficulties. But if you could take away 5 points, I think it's -- we have leading positions in attractive growing markets. We're creating new demand through innovation and driving growth across our segments. We deliver healthy margins, as you can see, and we're generating strong cash flow from the operations available through the investment and we really think we have a strong leadership team and a proven track record for growth. And again, apologize that we had to rush through this, but I really appreciate you hanging in there. I'm surprised when we called back in, we still had so many people on the call. And so thank you for doing that. And we're happy to take a question if we have time, Jeff. And we're happy to spend one-on-ones or additional calls with anybody who would like more information and more detail. So Jeff, we'll hand it back over to you.

Great. Maybe I can ask one question.

Yes?

Balchem is not a household name, but many investors know DuPont's Nutrition & Health business, or they know International Flavors & Fragrances or Givaudan or Symrise. And these are all companies that make food ingredients, and their gross margins are in the low 40s, but they tend to be much larger companies than yours. If your human health & nutrition business, your animal health business were double the size, would your gross margins be in the 40s, or would they be comparable to what they are now or somewhere in between?

I think that they probably would be somewhere in between, Jeff. I think that we have operations that are at scale. I don't think we've got manufacturing that is subscale for what we manufacture. So I can't see us having significantly -- significant efficiencies from having dramatically larger manufacturing plants. If we were a bigger company, overall, we may be able to have a little bit stronger purchasing power and maybe could have a little bit improved margin from lower raw material costs. I just think scale drives that. We see that in every acquisition we make that are higher scale than the acquired company allows us to have the raw material synergies. So that's why my answer is probably in between. I think the special thing about Balchem is that we've really built a successful company and having strong leading positions and very interesting market niches. And so while we're relatively small compared to those big companies you talk about, we have 80%, 60% share in so many of our product lines that, that's how we've been able to be successful over time. And what we really need to do is, in some of these, like choline and in the mineral space and so forth, both for human and animals, is drive increased awareness, drive increased penetration that will in turn drive growth. And I think we will get the margin lift from that through scale, but I think my overall answer to you would be somewhere in between, that's our early jump up to where they are.

Okay, great. Thank you very much for a very interesting company, and we hope you'll come back to our conference next year.

Great. Thank you for the invite, and thanks again for everybody for hanging in there. Take care.

Okay. Take care.

And this concludes today's conference. Thank you for participating. You may disconnect at this time.