Church & Dwight Co., Inc. (CHD) Earnings Call Transcript & Summary

Here's another consumer insight. Men seek condoms that fit and feel the best. Introducing TROJAN All The Feels. It is a selection of our best condoms, with personalized fit and feel, and better feel equals more usage. One more consumer insight is that consumers are becoming more confident in doing beauty routines at home, and they are aware of the cost savings. Introducing Finishing Touch Flawless facial Cleanse and Salon Nails. And one last consumer insight, 33% of consumers plan to purchase more immune support supplements. Introducing VITAFUSION Super Immune Support. It is the only gummy to deliver over 100% daily value of the top 3 immune ingredients: vitamin C, zinc and elderberry. It also includes a new ingredient, Manuka honey. This is the first VITAFUSION item in the cough and cold aisle. VITAFUSION has been increasing the amount of new items it has been launching. 2021 will be no different. We have an exciting list of new items coming. Thank you. And now over to Barry.

Thanks, Steve. We've built international into an over $820 million business that's growing faster than ever. And as a reminder to this audience, we think about our international business in 2 buckets: our subsidiaries, where we have fully staffed Church & Dwight teams on the ground in Canada, Mexico, U.K., France, Germany and Australia; and our Global Markets Group, which covers 130 other markets via distributors who represent our brands. I'm going to get into both shortly. However, this chart shows the relative size of each in net sales. As you've seen, GMG has been on a tear and now represents 34% of all international sales, followed by Canada and our European subsidiaries, and then our Australia and Mexican subsidiaries. From a growth standpoint, our subsidiaries grew plus 4.8% in 2020 and GMG continued its stellar run with explosive growth of plus 19%. For some additional context, our subsidiaries have been delivering outsized growth, more than double historical CPG category averages. And some of our key subs are now, for the first time, approaching scale, which we'll talk about as a margin improvement enabler a bit later. As mentioned earlier, GMG is now our largest entity, with outstanding growth of plus 19%. Emerging markets in Asia, the Middle East and Latin America have been and will continue to be growth drivers going forward. Last but not least, you know how acquisitive we are, and I'm happy to share that we've delivered double-digit growth on WATERPIK and FLAWLESS in 2020, and they remain far underrepresented in international household penetration than in the U.S. lead market. If we look a level deeper at key drivers in our subsidiaries, we continue to make great headway in turning our U.S. domestic power brands into international power brands. ARM & HAMMER, OXICLEAN and TROJAN are all examples of U.S. power brands which still have long international runway in our subsidiaries. Likewise, WATERPIK and FLAWLESS household penetration in our subs trails the U.S. significantly, and we're lifting and applying best practices from the U.S. to drive subsidiary success on these brands. Finally, we're approaching pricing with greater rigor and discipline, and hiring dedicated resources in international to help us understand where pricing opportunities exist. So in closing, we remain very excited about international and remain committed to our 6% organic growth target, which is also consistent with our outlook for 2021. And as a reminder, this is on top of almost 9% organic growth we experienced in 2020. We've got a long runway on U.S. power brands going global; a number of acquisitions with very low household penetration versus their lead markets; an enormous opportunity in emerging markets, where we've just started opening new offices to help us reach these consumers; and a number of strategic investments in resources and capabilities, like e-commerce and pricing, to help make sure our great international team is working as efficiently and effectively as possible to drive profitable growth long into the future. Thank you for your time and interest in our international story. Now back to you, Matt.

Thanks, Barry. I'm going to run you through the animal productivity story right now. You heard me speak earlier about what our evergreen model is. It's 3% annual organic growth: 2% from the U.S., 6% from international and 5% from Specialty Products. Our Specialty Products business is a $300 million business. 2/3 is animal productivity and 1/3 is specialty chemicals. If you look at the animal productivity piece, you'll see it's split between animal dairy and animal nondairy. Historically, dairy has been the biggest part of the business. The 3 types of products we produce are prebiotics, probiotics and nutritional supplements. Now why is that important? It's because the consumer is moving away from wanting to consume food that is produced with antibiotics. The dairy business has been cyclical. As I said before, it's been the biggest part of the business. If you look at this chart, in 2011, 2014 and 2017, those were up years. So typically, it's a 3-year cycle. The expectation was that 2020 was going to be a big up year. It didn't happen. Why? Because of the pandemic. So we expect a strong year from the dairy business in '21. Now if you look at dairy versus nondairy, we were monolithic back in 2015. Less than 1% of our sales were from nondairy. In '21, we expect it to cross 30%. So just wrapping up here, we have a trusted brand. All of those products I described are ARM & HAMMER products. We're aligned with the consumer trend to move away from antibiotics to prebiotics and probiotics. We've moved from dairy to other species: cattle, swine and poultry. And we have a lot of runway internationally. Now I'm going to talk about how we run the company. It's pretty simple. We have 5 operating principles: one, leverage brands; two, friend of the environment; three, leverage people; four, leverage assets; and finally, leverage acquisitions. Number one, brands consumers love. As we said -- we opened the program today, pointing out that we have 13 brands that we call our power brands. These are brands that consumers love. Number two, we're a friend of the environment. And that friend of the environment started back in the 19th century. If you run your eyes across this page, you can see back in 1888, the company introduced pro-environmental wall charts and trading cards that we put in our packages as a promotion for the environment. In the '70s, we're the first corporate sponsor of Earth Day. If you went 20 years later to 1990, we were still the only corporate sponsor of Earth Day. More recently, in 2016, 50% of our global electricity demand was supplied by renewable energy sources. In 2018, we crossed 100%. Over the last 5 years, we've been planting trees in the Mississippi River Valley. Now why is that important? It's because trees take CO2 out of the atmosphere, and this is consistent with our goal of being carbon neutral by 2025. Here are our 3 environmental goals. First, water. Reduce water and our wastewater by 25% by 2022. For solid waste, to increase our solid waste recycling rate to 75% by the end of 2021. And finally, air. We want to achieve 100% carbon-neutral status for all of our global operations by 2025. And of all those 3, that's the one I'm most excited about. Now we've been getting a lot of recognition externally, as you can see on this slide, from FTSE4Good, the EPA, et cetera, not because we've been applying for these things and running our business so we can take a bow, no. We've been recognized because we've been doing the right thing. Number three, we leverage people. We have the highest sales per employee of any company in the CPG space. This is an underappreciated statistic. If you look at these numbers, we're almost $1 million of sales per employee. You'd normally expect that of a start-up. We have a very simple compensation structure. We focus on 4 things: revenue, gross margin, cash from operations and EPS. And gross margin is actually an unusual element of our incentive compensation package. The reason why we have gross margin in there is because it creates financial literacy. Gross margin expansion is very important to our operating model. And when people think, "Hey, gross margin is part of my incentive comp," they ask the question, "What's gross margin? And how can I get it?" Number four, we consider ourselves asset-light. CapEx as a percentage of sales has been about 2% for as long as I've been with the company. The other thing that may not be appreciated is that about 25% of our global sales are manufactured by third parties. So I just ran through the first 4 operating principles, let's go into number five, leveraging acquisitions. If you do the first 4 principles well, you're going to have good shareholder returns. If you can add to that leveraging acquisitions, you get great shareholder returns, which we do. We have a long history of growth through acquisitions, as I mentioned earlier. And the reason why we do so well with acquisitions is because we're disciplined. So here's the 5 criteria. Number one, we only buy brands that are #1 or #2 in their categories. Number two, we only buy brands that can grow 3% or better and have gross margins that are equal to or better than our corporate gross margins. Number three, need to be asset-light. Number four, we're always looking for cost synergies, so we're trying to leverage a Church & Dwight supply chain footprint. And finally, these brands need to have a sustainable, competitive advantage for many years to come. Our most recent acquisition is ZICAM. That's the #1 zinc supplement in the United States in the adult cold-shortening category. As many of you have been watching, the cough and cold categories have been -- or are expected to be down in '21. Why? Because people are wearing masks and using hand sanitizers, et cetera. We expect that as well, but we think this is going to be a wonderful acquisition for us for years to come. Just to wrap up the M&A section, we have 13 brands today. We're shooting for 20 tomorrow. Why is this important? Well, acquisitions have been a great driver of total shareholder return historically and will be again in the future. And next up is Rick to take us through the financials.

Okay. Thanks, Matt. I'm going to go through 4 items today. First off is the evergreen model like we always do. Number two is 2020 results. The third thing will be the 2021 outlook. And then the fourth will be the capital allocation discussion. So first off is the evergreen model, and our shareholders know that we've been talking about this for a very long time, 3% top line, 8% bottom line. And we have a detailed model to go through as well. So 3% for net sales growth. 25 basis points for gross margin expansion. Flat marketing as a percentage of sales, which is typically higher dollars as we grow the top line. And then we leverage SG&A by 25 basis points. That gets us to 50 basis points of operating margin expansion and about 8% EPS growth. Moving to the full year 2020, organic was 9.5%: domestic was 10.7%; international, 8.6%; and SPD was 0.4%. So just really a strong year to have a 10% organic full year number. Gross margin was 45.2% or down 30 basis points, really driven because of COVID and incremental tariffs, but we'll get into the detail in a minute. Marketing was 12.1% or higher by 30 basis points. That's very significant. It was a huge investment behind our brands. You'll hear in the outlook that we're going to return to pre-pandemic levels for marketing support. Adjusted SG&A is 14.1% or down 10 basis points. So we did leverage SG&A. And so EPS was up 15% or $2.83. And then cash was up to $990 million, a full $100 million above our $890 million estimate a year ago. And then finally, that translates into 125% free cash flow conversion. We do a great job converting net income into cash flow. Okay. Moving to the 2021 outlook. First, the 4.5% reported and then we'll get into the 3% organic sales growth. And very consistent with what you just heard from Matt and Barry and Britta: 2% for domestic, 6% for international and 5% for SPD. Now the 3% organic growth, it does have a couple of strategic choices that we've made previously in there. Remember, last year, we communicated that we were deemphasizing OXICLEAN Laundry and we were getting out of the private label vitamin business. Both of those things, this is the second and complete year of those actions. And that would have added a full point of organic growth as an example. So we would have been at 4%. But just wanted to give you context there. Gross margin is up 50 basis points. We'll go through that detail in a minute. And marketing is down 30 basis as we get back to kind of the average for pre-pandemic levels, which is around 11.8%, and that's what we plan on doing in 2021. SG&A, we leverage by 20 basis points, and then we're up 100 basis points for operating margin. Now you might ask, "Well, if you're leveraging operating margin by 100 basis points, why aren't you higher on the EPS growth outlook? You're only at 6% to 8%, your evergreen model is 50 basis points and you're 8% EPS growth." Well, it's because of tax. Our tax rate in 2020 was 19%, and we're going back to a consistent average of around 21%, 22%. In 2019, we had 2 things that helped us on tax. One was a discrete international planned settlement, and then the second one was just a higher number of stock option exercises. And so those 2 things aren't going to recur to the same extent. And so as a result, we're up 100 basis points on operating margin, just really strong base business plan; up 6% to 8% on EPS; and then up to approximately $1 billion of cash flow generation, cash from operations. Okay. Here's a track record of our organic sales over the last 10 years, very consistent. We've typically averaged around 4%. This year, we're calling 3% for 2021. And as I said before, if you add in some of those strategic decisions we made, we are closer to 4% on an apples-to-apples basis. We focus on gross margin in a big way. Gross margin is a great surrogate for -- and driver for EBITDA margin, and then that flows all the way down to cash flow and cash generation. And we believe cash drives value, so plus 50 basis points in 2021. Moving to marketing. We have a long track record of spending between 11% and 12% on marketing. It just drives the brand's growth over time and drives our evergreen model. In years past, the average is around 11.8%. And we're saying, in 2021, we're going to get back to pre-pandemic average of around 11.8%. Moving to SG&A leverage. We have a long track record of leveraging SG&A. This is on a reported basis. In 2021, we're going to be down 20 basis points is our expectation. But if you look at this on a cash basis on the next slide, you can see how much we're actually leveraging cash SG&A. We're going to be down 60 basis points in 2021. And then finally, on EPS, we have a long track record of great EPS growth, low double digit, high single-digit EPS growth for a long period of time. And in 2021, it's no different, 6% to 8% EPS growth. That's $3 to $3.06 is the outlook, and that's on top of 15% growth in 2020. The same discussion we just had in gross margin. We have a timing dynamic for EPS growth as well for many of the same reasons. EPS growth is expected to be down 5% in the first half as we get back to normal promotional levels. We have higher WATERPIK tariffs, and we have higher COVID costs as well as higher commodity costs. In the second half, we expect to be up around 20%, and that's because of a return to historical marketing levels, improved promotional efficiency, lower COVID costs, tariff remediation and those actions that we're taking, and 2020 investments that aren't going to repeat in the back half of the year. Okay. Moving to free cash flow. This is my favorite slide. We have a long track record of free cash flow conversion. 122% over the time period. We had 125% in 2020. How do we do that? Well, we have great working capital management. We've moved from 52 days down to 16 days is the outlook for 2021. And if you strip out the Chinese supply chains that we have for WATERPIK and FLAWLESS, those numbers were actually closer to 5 days as we approach 0 working capital. We have a very strong balance sheet. We have a lot of financial capacity. We expect to end the year at 1.3x debt to EBITDA at the end of 2021. And so we have a lot of dry powder, what do we do? We have the ability to do up to $4.2 billion deal and still maintain our credit rating, so just a lot of excess cash and debt capacity. Now moving to capital allocation. We're very clear on the top 5 reasons for capital allocation. Number one, far and away, is TSR-accretive M&A. And we're very picky on what deals we do, do. Number two, we moved this up previously this summer, on CapEx for organic growth. And you're going to hear me talk about capacity additions for laundry, litter and vitamins in a few minutes. So number two is capacity investments for growth. Number three, NPD. Launching an accretive NPD has been just a stalwart of this company, and it helps drive our top line as well. Number four is debt reduction. And as you saw, we're going to end the year at 1.3x debt to EBITDA in 2021 is our expectation. And then return of cash to shareholders through dividends and buyback. We're not a capital-intensive company. If you look back at our history, we usually bump around 2% of sales or below. In the years past, we've had capacity additions, and that's what happened in 2009. We added our York laundry plant, and that's when we bumped up to about 5.5%. In 2011, we bumped up to 2.8% when we added our Victorville laundry plant. And so 2021 and 2022 are no different. We think we're going to spike up to around 3.5% as we add these capacity investments. And so those capacity investments are around laundry, litter, vitamins, baking soda, technology and our distribution network around the country. And then finally, we have a great history of paying dividends. For over 120 years, we've been paying dividends. And in 2021, our outlook is a 5.2% dividend increase on top of increases of 5.5%, 4.5% and 14.5% these past few years. In addition, we did a $300 million ASR that started in December and we expect to complete by the end of Q1.