Galenica AG (GALE) Earnings Call Transcript & Summary

Dear, ladies and gentlemen. This is your conference call operator. Welcome to the Galenica's 2020 Full Year Financial Results Conference Call. [Operator Instructions] Your presenters today are Marc Werner, CEO of Galenica; and Felix Burkhard, CFO of Galenica. I now hand over to Felix Burkhard.

Ladies and gentlemen, good afternoon. I cordially welcome you to the telephone conference on Galenica's Result 2020. In the first part, we will present you the highlights and the key figures. After that, we will be happy to answer your questions. With that, I hand over to our CEO, Marc Werner.

Thank you, Felix. I have now been the CEO of Galenica for almost one year. I took over from the former CEO 1st of April 2020. That means I've only known the company during pandemic times. For example, I've not been able until today to sit together physically with all members of the senior management in one room. I know them only from media conferences. The same goes for today. Once again, of course, it was -- it's a media conference call. We are especially looking forward to lively Q&A session, as Felix mentioned, after our 2 presentations. 2020 will probably go down in the history of all companies as a year like no other. A completely new and so far unique situation that has challenged us in so many ways. Galenica has navigated this difficult year with success. On one hand, on operating level, with all the challenges that the coronavirus brought with it, but also in relation to our further development with strong expansion. And we have set the course of the -- for the future on a strategic and structural level. COVID-19 has had a powerful impact on our business in many areas. In the spring, in particular, we had to deal with volumes we had never managed before. Demand for certain products exploded. The lockdown measures rapidly changed customers' purchasing behavior, not in a direction that they wouldn't have gone in any way where it not for the pandemic, but just much quicker. That had also had a major impact on sales via our online shops. On the other hand, solid sales drivers such as anti prom suffered because almost nobody was traveling anymore. Through the protection measures to combat the coronavirus, other illnesses saw lower rates of transmissions, which lagged the declines in cold remedies. The various orders to reduce the mobility of people in Switzerland almost bring it to stand still, resulted in much lower customer frequency and pharmacies in high-traffic locations, such as train stations, or, for example, airports, in particular, down by an average of 30% over the year. At the same time, we invested in measures to deal with the pandemic. More employees in order to manage the volumes, various measures to protect employees and customers in our pharmacies, a great deal of additional operating efforts and especially also higher workload for employees with direct customer contact. Yet we still continued our successful development. We posted strong growth. In 2020, we acquired or opened 17 new pharmacies, well far above of our target of 5 to 15 new locations per year. All pharmacies, Amavita, Sun Store and Coop Vitality are now also mail order pharmacies, meaning that they can send prescription medications to their patients at home. Our product portfolio has become even more attractive with new partner products and the acquisition of the Hedoga Group. And at the end of 2020, we are also able to relaunch the Popular [indiscernible] on the market. It is a strategic objective to build up new partnerships in the health care market. I'll return to that later on. With [indiscernible], we have expanded our offerings for customers. Last but not least, we were able to achieve further milestones in the introduction of the new ERP system and in the modernization of the logistics center in Lausanne, even though the projects were also partially affected by the coronavirus. Felix Burkhard will go into this in greater detail later on. And alongside all the operation success, we set the strategic growth for the future. With our strategic programs, we want to implement the strategy in a focused, targeted and swift manner. The three programs: omnichannel, care and professionals contain targets that are aligned to B2B and B2C customers. The programs, efficiency and transformations include targets that we want to achieve within the organization. To offer customers the best experience on all channels, anytime and anywhere, that is the objective of omnichannel. This also involves managing an optimal pharmacy network and the networking, the physical locations with the digital purchasing options and maintaining an attractive product range that is aligned to customer needs across all channels. The objective of the care program is to strengthen the pharmacies as the first point of contact for health care advice in pharmacies themselves, but also digitally and at home. We aim to implement with this first-class meats based health care and therapeutic services, also in collaboration with partners such as health and turns. We want to accompany customers in all phases of their lives from prevention right through the therapy. The focus of these 2 programs is on B2C customers. While in the case of professionals, our offering is centered on service providers in the health care market. For example, pharmacy, drug strores, hospitals and care homes, partners and suppliers. For all of these, we want to be a strong partner that is the first choice when it comes to providing logistics services. With services and the product portfolio that specifically strengthens its customers and generates added value for them. This also includes promoting digitalization in the health care market with services and innovation in the area of e-health. The Swiss health care market is complex, multiple players, different interests, regulatory conditions, quality requirements, cost vitals, complex systems and so on and so on. This makes it all more important that we, as a company, provide simple and understandable services for our customers and partners and also for our employees. This is the goal of efficiency. We want to make Galenica simpler for present systems, when creating and using synergies more simply and therefore, more cost effectively. We do not perceive our journey as a Sprint. We want to further strengthen Galenica's strong foundation for the long-term and at the same time, make ourselves fit and agile in a fast-changing market This is the goal of transformation, making our employees fit for the future and support their development so they can leverage their skills and perform to their full potential. Making efficient at the place for the knowledges, this is one of the most crucial principles in agile organizations so they can respond rapidly in the market. In summary, we work, we try out new things. We learn from them and we adapt where necessary. To enable us to implement its leadership philosophy to support the strategy. And in -- at the beginning of the year, we have realigned the management structure of Galenica Group. The customer is at the center. At Galenica, this starts with the organizational chart. All business units that have died customer contact are at the top of the organizational chart. The 10 service units relieved the burden on the operating business improvement already exists and develop new ideas and offerings. There are no longer any business sectors within the organization. We work together across all functions. Our shared goal is to offer customers the best experience. The new management team includes member with long-standing experience at Galenica, such as our CFO, Felix Burkhard; and members with a few years of service like [indiscernible] or myself. The team stands for a high level of competence, specialist knowledge and diversity. It stands both for continuity in things we drive and tested as well as for innovation and novelty. We have a new organization, there are no longer any targets for individual business sectors. Our targets are group-wide and defined along strategic programs. Since an optimal customer experience requires all units to play their part. We want to continue to grow. For that purpose, we are optimizing the pharmacy network, our offerings and our range. In particular, we want to integrate the online and offline worlds more closely. This also involves driving forward electronic prescriptions at our pharmacies, an important requirement for the mail order pharmacy. Galexis was able to gain market share from among doctors in 2020. In this segment, as well as in others, such as care homes, we want to grow as well as in specialist retail trade. We want to grow and win market share with new offerings. The coronavirus has made it clear that the Swiss health care system still has a lot of potential for efficiency, speed and security in the area of digitalization. We can and want to play our part here. As regards internal efficiency, the achievement of further milestones in our 2 large projects, the ERP rollout and the modernization of the distribution center in Lausanne will also make a vital contribution here. It is not just about introducing a new management structure but rather about leaving it in practice and implementing it as it is intended. You can't just flip the switch and suddenly everything works. The implementation of the new organization, new ways of working and the leadership philosophy must be further elaborated, learned and implemented by all of us. And why are we doing all of this? Because customers are the heart of what we do and where we want to offer them the best experience. We have consistently implemented this in the management structure. We also demonstrate this through our customer promise. We support people at every stage of life on their journey towards health and well-being. With personal and expert advice and the unique range of products and services anytime and anywhere in Switzerland, and we want to keep this promise. Then is a summary of our strategy or as calling the Galenica story. In terms of implementation the [indiscernible] strategic programs. Everything we do and implement there assists in fulfilling the customer promise and improving it further. Our values, which Galenica has disposed and lived for many years already, guide us in all of our activities and form the basis of our shared understanding of cooperation and how we treat one another and our customers and patients. And the key to our story is the vision. Health and well-being are at the heart of what we do. They are the reason we give our best every day. That's why we get up in the morning. It motivates us and drives us to give our very best every day. Galenica was founded in 1927. It is a successful and drug solid company that plays a crucial role in the Swiss health care market. The year 2020 showed us and the whole world, how quickly things can change. The Galenica storing is the basis on which our company will continue to be successful in the future. It shows a clear direction and illustrates why and how we do what we do. The basis for a successful Galenica, both now and in the future. Thank you. And I will now hand over to Felix Burkhard, our CFO.

Thank you, Marc. Ladies and gentlemen, do you remember this? Last year, I started and ended my speech with this image. Just like these mountaineers, Galenica has improved its result year-on-year, step by step. While our growth continued to be strong in 2020. Our results could not keep pace and remains stable at the same level as the previous year. COVID-19 has forced us to take a break in our steady upward climb. But what does this picture mean when it comes to our figures? It translates into strong sales growth of 5.4% and a stable operating result, up 1% on the previous year. How did you manage this good Result? Let's take a closer look, starting with our pharmacies. Sales grew 2.7% in the retail business sector on the back of a strong expansion. The expansion and optimization of our pharmacy network was the highlight in the past year, similar to 2019. 17 new pharmacies, 7 pharmacies restructured and 10 net pharmacies added. These impressive figures are the result of the considerable work undertaken in a challenging environment. This work paid off. With the expansion creating sales growth of 3.2% in the retail business sector, making it once again an important driver of growth. But we also achieved growth even without expansion. Adjusted for a one-off effect, we recorded pleasing organic growth of 1.2% despite COVID-19. And despite strong price reductions whose impact on sales amounted to minus 1.6%. The coronavirus pandemic was, and still is, a major challenge for our pharmacies. The restricted mobility resulted in an average loss of sales of 23% in our pharmacies at high-frequency locations, such as train stations and airports. For the Retail Business sector as a whole, this loss amounts to minus 1.9% year-on-year. In contrast, our online shops saw a threefold increase in sales, while MediService posted record sales of over CHF 300 million with excellent growth of 5.7%. In addition to the restricted mobility, social distancing and hygiene measures were also introduced to combat COVID-19. These protective measures were effective, but not only against the coronavirus. Seasonal flu and cold were practically absent. However, the strong sales losses in these categories could be compensated In our pharmacies last year with additional sales in the area of prevention and with hygiene products. The drop in sales for cold products was particularly noticeable at Verfora. Verfora product portfolio is strongly focused on the cold category. Travel-related products, such as anti-Brumm and [indiscernible], were also hit by the pandemic. In addition, sales of our leading product, Algifor, were affected by rumors that ibuprofen was not suitable for COVID-19. These rumors were later disapproved, but the damage had already been done. In [indiscernible] Switzerland, in particular, we noticed a market shift from ibuprofen to paracetamol. Correcting this trend in the market will take some time. All these coronavirus-related issues resulted in a negative organic growth of 7.9% in the products and brands business sector. Despite this, we still achieved pleasing growth of 9.4% overall. This was thanks to the expansion of the product portfolio following the acquisition of the Hedoga Group in the middle of the year with its well-known product, Carmol and Osanit. As well as new distribution contracts for ThermaCare [indiscernible] pharma, Omni-biotic from Allergosan and others. Not only Verfora, but the entire consumer health care market was affected by the coronavirus pandemic. Sales in traditional cold remedy categories were down by as much as 30% on the previous year, despite the normal flu season before to pandemic in January and February 2020. Nevertheless, the OTC market grew 4.4% on the whole, thanks to the very strong performance in prevention products, which also explains the 4% growth in the nutrition category. Patient care up 12.3% was boosted by sales of Hygiene products, while the personal care category, down minus 3.7%, was impacted primarily by restricted options for shopping. Let's shift the focus back to Galenica. Despite the negative impact of the coronavirus, the Health and Beauty segment generated a stable EBIT of CHF 123.9 million. We estimate that the effect of the pandemic on EBIT amounted to between CHF 8 million and CHF 10 million. The main factors behind this are the drop in sales in pharmacies at high-frequency locations and sales losses among Verfora brands, 2 areas with high margins. These coronavirus-related losses were offset by positive factors, such as successful expansion of the pharmacy network and the Verfora product portfolio with the pleasing result of a stable EBIT in the Health and Beauty segment. How did the services segment perform in this challenging environment, the segment was very dynamic. With sales growth of 7.8%. Even excluding the one-off effect of 2.3%, growth of 5.5% is very high, particularly given the ongoing drug price reductions, which had a negative impact of 1.8%. This fantastic result was attributable to market share gains in business with pharmacies and especially with doctors. The positive effect of COVID-19 on sales estimated to be 1.4% was offset by considerable additional costs. Overall, we believe COVID-19 had a neutral impact in EBIT. There are 2 main reasons why EBIT grew less strongly than sales. Firstly, a large portion of sales growth was achieved through business with specialist doctors who tend to use expensive medications with a lower margin. Secondly, the project cost for the renovation of the distribution center in Lausanne-Ecublens were incurred for the entire year. This compares to only a few months in the previous year, as this project was only started during the second semester of 2019. The Services segment clearly outperformed the market last year, gaining market share, especially within the physician channel. Overall, the Swiss Pharmaceutical market grew 2.9% in 2020, amid a 1.8% decline in volume. All channels showed similar growth rates of between 2.4% and 3.1% with the small drugstore channel alone posting an above-average gain of 13.1%. We believe this is due, in particular, to the strong position if of drug stores in prevention products and natural remedies. In addition to their expanded competencies following the reclassifications for dispensing OTC medications. Let's move away from these insights into the results of each segment and return to the Galenica Group as a whole. As I mentioned at the beginning, on the consolidated basis, EBIT growth was stable at 1%, while EBITDA rose 1.5% to CHF 213.6 million. Reported EBIT increased by 25.9% to CHF 213.3 million, which was attributable to an extraordinary IAS 19 book profit of CHF 43 million, arising primarily from an adjustment to the conversion rates in the Galenica pension fund. In addition to the good operating result, we also did well in terms of financial performance. With financial and tax expenses declining versus the previous year, the tax rate fell to 17.2%. This positive financial performance bolstered our net profit. On a comparable basis, net profit increased by a total of 2.8% to CHF 138 million. At CHF 172.7 million reported net profit improved by as much as 37.8% and though this was boosted by the IAS 19 book profit arising from the new conversion rates in the Galenica pension fund. We continued to invest into the future. Investments amounted to CHF 57 million or 1.6% of sales, similar to the previous year. This figure includes some CHF 15 million for strategic efficiency projects in Services segment, namely the new ERP system in wholesale at Galexis and pre-wholesale at Alloga as well as the renovation and modernization of the distribution center in Lausanne-Ecublens. With regards to the ERP project, the pilot phase in pre-wholesale was brought to a successful conclusion last summer. The system is now being rolled out step-by-step, partner by partner. Based on the experience gained in the pre-wholesale, the detailed planning stage for the ERP implementation in wholesale was carried out in the second half of the year. On this basis, the expected investment costs can now be more reliably estimated. By 2023, we calculate the total remaining investment volume of between CHF 44 million and CHF 48 million for both projects combined. This means an average project investment that is in line with 2020 levels over the next 3 years. And now let's turn to cash flow. Cash flow continued to be very solid and stable. Cash flow from operating activities before working capital changes, adjusted for payments of lease liabilities remained virtually unchanged versus the previous year at CHF 189.7 million. There was a substantial difference in the changes to the net working capital compared to the previous year. In 2019, due to the exceptionally low inventory in December, the net working capital at the end of the year was very low, resulting in a positive cash flow of CHF 13 million. At the end of 2020, net working capital was back at a normal level, which resulted in a cash outflow of CHF 14.4 million as a counter movement to the previous year. After investments and M&A activities, which continued to be high at CHF 58.4 million, we ended 2020 with a very robust free cash flow of CHF 59.6 million. Dividends distributed last year cost us CHF 89 million, around CHF 30 million more than the free cash flow. Net debt, therefore, rose by a similar amount. A CHF 354 million, excluding lease liabilities, this remains still at a low level. It amounts to 1.7x adjusted EBITDA, slightly below our medium-term target of 2x. Our balance sheet continues to be very solid, and we still have a high degree of financial flexibility. Based on the strong balance sheet and stable results, we are proposing an unchanged dividend of CHF 180 million to the Annual General Meeting. With 1/2 to be paid out tax-free from capital contribution reserves and the other half from retained earnings. This was my insight into the 2020 financial statements. Now that we have discussed the past year, I would like to share my outlook for the future. Let's start with the regulatory environment. First and foremost, price reductions. The 3-year cycle closed at the end of 2019. And a new cycle started in December 2020 with price reductions on the first 1/3 of drugs. Due to the coronavirus, the Federal Office of Public Health experienced a delay and has only reviewed around 55% of these drugs for the time being. The remaining 45% should follow in the first few months of this year. The price reductions in December 2020 affecting 55% of the drugs for review, generated savings of some CHF 60 million. Extrapolated to 100%, the estimate savings to the tune of a little over CHF 100 million for the entire price reduction round in 2020. This would be about the same level as the previous round at the end of 2019. For this reason, we assume similar price reduction effects on our sales in 2021 as in 2020. The Federal Council proposal for the introduction of a reference price system for generics was rejected by the National Council as the first chamber in the parliament. This sent a clear positive signal. That's the political discussions about cheap prices for generics will continue. Nevertheless, we are confident that there will be no systematic change until at least the end of 2022. We will continue to pursue our strategy of consistently promoting generics regardless of political discussions. In 2020, we once again increased the generic substitution rate from 70% to a high 72%. In this way, our pharmacies helped to reduce health care costs by over CHF 63 million last year. In May 2020, Curafutura and PharmaSuisse submitted the new pharmacy tariff, lower 5, to the Federal Council, along with a proposal for the revised distribution margin. The aim is for this new margin system to be implemented on 1st January, 2022. We are planning and drafting measures with the aim that we could realize this possible change without any loss of income. Although we still firmly believe that the legal framework for the online sale on OTC medications will become more liberal in the future, we do not expect to see any major changes in the short-term and at least not in 2021. After the regulatory outlook, a few words about the impact of the new organization on our accounting. We will slightly adapt the segmentation based on the new organization. The current Health and Beauty segment will become the new product and care segment. Services will become logistics and IT. The adjustments are only minor in nature. For example, Medifilm will move from the Service segment currently to Product and Care. It goes without saying that we will publish additional information on sales within the segment as we have done in the past. Finally, we come to the actual outlook to our guidance. Of course, we are particularly interested in how the corona pandemic will continue. And in this respect, unfortunately, forecasts are very difficult. What is certain that we will continue to feel the negative effects of COVID-19 in the first months of this year. The new financial year has started very quietly with virtually no colds or seasonal flu and the partial lockdown, which has particularly affected our pharmacies in high-frequency locations and Verfora. We expect that the situation will improve and begin to normalize in the second quarter, and in particular, in the second half of the year. Based on this assumption, we forecast sales growth of between 1% and 3% for full year 2021. Although 2021 will be another challenging year. Especially in the first 6 months, we expect an increase in adjusted EBIT of between 2% and 5%. We are again planning to pay out at least the same dividend as last year. The coronavirus pandemic affected our business in 2020 and continues to be a headwind this year. However, we remain firmly convinced of the long-term success of our business model and the strategy we have adopted. Against this background, we have set ourselves the following medium term goals. In the coming years, we still expect market growth of between 1% and 2%, despite ongoing price reductions. We firmly believe that we will outperform the market by rigorously implementing our strategic programs and by further expanding our pharmacy network and product portfolio. Once the COVID-19 restrictions are fully behind us, and we bring our strategic efficiency projects in the logistics and IT segment to a successful conclusion at the end of 2023, we should be in a position to increase the EBIT margin to over 8% in the Products and Care segment and up to 2% in Logistics and IT over the medium term, that means in a period of 3 to 5 years. We will also continue to pursue our dividend policy in the next few years. Our top priority is to offer a stable dividend that grows in line with our results. We also continue to aim to keep net debt reasonable at around twice the level of EBITDA. Given the coronavirus pandemic, we can look back on a successful financial year 2020. Despite the ongoing coronavirus headwind, we are in an ideal position and more determined than ever to continue on our journey step-by-step upwards into an even more successful future. Thank you for your attention. Now we are happy to take your questions.

[Operator Instructions] We have already the first question of Mr. or Mrs. Gretler from Crédit Suisse.

Yes. I have one question with respect to your midterm guidance. If I look at your past achievement 2019 and also, if I adjust for this CHF 8 million to CHF 10 million in negative COVID impact in 2020 on Products and Care, as it's named now. You were already pretty close to this 8% EBIT margin target you are calling out to surpass in the medium term. Could you maybe add a bit more color on why this is not substantially -- why it's not possible to substantially surpass among this 8%. Since kind of [indiscernible] there by adding new product, brands, you should be able to generate pretty good growth with high-margin products? So that would be my first question.

Thank you, Mr. Gretler, for this question. First of all, I would like to precise that the guidance is not 8%, the guidance is an EBIT margin over 8%. And I would also to repeat that this midterm guidance is more or less a confirmation of the midterm guidance in the past. We haven't released officially midterm guidance but since the IPO and over the last years, we always said that our ambition, our long-term ambition in Health and Beauty or now the new -- with the new name, products and care, that our ambition is to come into a range -- into an EBIT range of 8% to 10%. And now with this COVID crisis where we lost CHF 8 million to CHF 10 million, and we will again have difficulties to -- this year to recover this loss. We just wanted to confirm the medium-term guidance, which is now a medium-term and not a long-term ambitious anymore, but we still, let's say, confirm the existing medium-term guidance. And it's clear, our ambition is to pass the 8% to go above 8%. As you mentioned, with more new products by acquisition or with new in-licensing contracts, but also with the ongoing implementation of the strategic programs in omnichannel and it's clear with further expansion and optimization of the pharmacy network.

Okay. Good. That clarifies that. And then the second question is just on these high-frequency location. Could you maybe kind of comment on what kind of trends you've seen as of late? It's basically kind of the [indiscernible] behind and trends are improving now as we go into spring or haven't you seen any such at this stage?

Well, the year -- as I mentioned, the year started very difficult. You know the lockdown is still partially lockdown, let's say, is still ongoing. And this affects really these high-frequency locations. And for the moment, it's not only these mobility restrictions. It's -- as I mentioned, it's also the lack of cold and the lack of the flu season, which makes pressure on sales. If you look at market figures, for example, for January, the overall pharma market was down by 4.3% compared to prior year. And just another example, OTC. The OTC market was minus 21% in January compared to last year. And there, it's clearly compared with January 2020, which was a normal, let's say, pre-corona months with a normal flu season. That is clear. We are convinced, and we hope that with the second quarter, the situation will normalize.

There are no more questions. So I hand over now to Felix Burkhard.

Okay. With this only and last question, we close our call. If we were not able to answer your questions during this call or if you have further questions, please contact us via e-mail at [email protected]. We thank you for your participation and your interest in Galenica. Goodbye, and have a good afternoon.