Hikma Pharmaceuticals PLC (HIK) Earnings Call Transcript & Summary

Hello, everyone and welcome to the Hikma Interim Results 2022. My name is Emily and I will be moderating the call today. [Operator Instructions] I will now hand over the call to our host, Susan Ringdal from Hikma. Please go ahead, Susan.

Good morning, everyone. Thank you for joining our call today. Hopefully, you will have seen the pre-recorded presentation that's posted up on our website. So the format for today will just be Q&A. In the room with US today we have our Executive Chairman and CEO, Said Darwazah; CFO, Khalid Nabilsi; our Vice Chairman, Mazen Darwazah; The President of Generics, Brian Hoffmann and the President of Injectables, Riad Mishlawi. Said is going to kick off just saying a few words and then we're going to open the floor for questions.

Thank you. Thank you, Susan and good morning everybody. Let's get the bad news out first, so we can concentrate on the good news, okay? This was a rather tough environment to work with, supply chain disruptions, inflation, price erosion and so on, it was tough that -- and in spite of that, we still managed to deliver sales equal to last year. Of course, the Generics did not do as well as we expected. We explained this before that some products that we were expecting to get approval for this year were delayed to next year and then with the price erosion -- with the significant price erosions in the market, the business underperformed. But again, with that in mind, we still delivered sales equal to last year, profits down a little bit, that's due to the high investment mode this company is in. Everybody will explain and the group what kind of investments that we've been doing, we bought companies, we started compounding business, we are increasing R&D expenditure, we are increasing sales and marketing expenditure. So a lot of it -- in the MENA, we're building new plants for the Injectable, so we're in a big investment mode situation right now. The good news is that the divisions that are responsible for 80% of the profit, the Injectables and the Branded are doing very, very well and will continue to do very well moving forward. We have invested so much in these 2 divisions, in products, in manufacturing, in new businesses that we are very comfortable that these businesses in the medium term will continue to -- will do better than what they have been doing the last few years and we think that over the next 3 years they will have good growth, CAGR of maybe around 9% annually over the next 3 years, which is better than what we have been doing before. I also like to highlight that this is a very strong company. We have EBIT margins of 24%. We have net margins of 17%, which is extremely high in this industry. We have strong cash flow, we have a very good balance sheet. So the company is in a very, very good situation and we are very, very optimistic about the future. We are ready to face the challenges that are out there. We know that the Generics will be doing much better next year and as I said before, the Injectables and the MENA -- and the Branded business are doing extremely well. So that's what I wanted to highlight. The Generics did not achieve what we planned to achieve as to the reasons that I explained, however 80% of the business is performing on a very high yield and doing extremely well with a lot of investments that everybody will be talking about, explaining what they've been doing and we are very, very optimistic about the future of the company, about the possibility for growth next year and second half of this year. So with that, we are open to the Q&A session.

James Gordon from JPMorgan. I guess a question about Generics, so why I think haven't gone so well recently and what gets back to next year? I think the increments we think maybe in the release, we already knew that there was some pricing pressure and there's some new launches both not going as well as initially hoped, but the new thing is maybe more volume erosion, but some more competition has come in to sort of the business. So why has that happened recently and looking into next year, is the outlook effectively the same as this year plus you add on Xyrem and Ryaltris with other things you think will get better as well?

So maybe I'll take that, James. Brian Hoffman, President of the Generics division. So let me first start off with the environment in the U.S. for Generics. So it's a very competitive environment now. Many of our competitors are struggling. So when we look at our business, we found ourself having to defend some of our business and we've also had some difficulty growing some of our growth products. So when you talk about defending, many of our top products, we're the leading market share player. So some of our top products we've seen increased competition and we've had to make decisions about whether we defend at a lower price or whether we let some of that business go. And that's why we've seen some of the volume erosion as we made the conscious decision to let that business go because it's below our targets and profitability and that strategy has been working that how we've been able to maintain strong high-teens margins despite the volume loss. Now if I go to the other side of the coin in terms of growing our business, we had expectations for growing several products throughout the course of this year and continuing into the second half, but given the level of hypercompetitive intensity, we found a lot of the incumbents really defending their market share more so than they probably would in a different environment. So, we've had challenges on our existing business and also challenging -- challenges on some of those growth products which have resulted in the higher price erosion that we're seeing this year.

Just one follow up at the basic, roughly, I think, Generics, the guidance implies down about 20% this year. So could we put 20% again for next year on Xyrem and Ryaltris, is this simplistic or do you actually think some of this -- some of these recent pressures might abate next year?

Yes, so -- so looking at next year, we are very confident about returning to growth next year. I think we have some very good launches that we're really excited about. So the first one being an authorized generic Xyrem, sodium oxybate product, we have a date certain launch of January 1st, 2023 and we have a 6-month period of exclusivity. And so we are planning for that launch, planning for success there and looking forward to it. At the same time, we are also growing our specialty branded business. We launched our Kloxxado naloxone nasal spray in August of last year. We look forward to continuing to ramp that product the second half of this year and going into next year. We're also looking forward to launching our next branded product in Ryaltris. We plan on launching that before the end of this year and then setting us up really well for the allergy season in the first quarter of next year. Now in terms of price erosion for next year, I think we can all make our predictions and it's very difficult to do, convoluting factor being the levels of inflation that we're seeing right now and will that continue or will it not? I think there's probably some other people at the table who can better predict that than I can. But if you do look at price erosion, let's say over the last 10 years, we do know that it's cyclical. So if you go back to 2014, 2015, those are some of the heights of the Generics industry and then you saw the declines in 2016 and 2017 and similar price erosion levels to what we're seeing today, but we also saw the improvements from '18 to '20. So, certainly my hope is that we are going to see price erosion improve, the level that it's at right now in my opinion is it really sustainable for the industry? So manufacturers will respond, companies will look to rationalize their portfolios, we could see consolidation...

It's what we have seen in the past, they try -- they keep on defending till the last breath they wanted, they start giving up and they -- as Brian saying, they rationalize their portfolio and many of them exit a part or a big part of the market, so that market stabilizes and frankly stabilizes in.

No, that's great. The other -- I think the other factor that could change the dynamics is also the FDA being much more active with inspections now post-COVID, both domestically and internationally. So it's important for us is that we're ready and able to capitalize on opportunities that we see. If there is disruption for any of those reasons, we feel very comfortable in our supply chain, our flexible manufacturing and we'll look for those opportunities.

Brian, the issue of the FDA is very, very important. The FDA has been very much behind its schedule launch, inspection especially on international inspection. The facility we have in London has not only passed through every inspection with flying colors, the FDA actually Uses this facility to train their inspectors and so it's very high quality. And we have seen activity now, the FDA is starting to put out 483s and warning letters to many of the companies in -- outside the U.S.. So, again, that's another reason why prices I think will improve in the next period because there will be something that we'll be getting one method and will not be able to ship further.

I just wanted to follow up on that point of cyclicality just because the prior CEO kind of brought that up at full year results and feels like just with the buying structure in the U.S. having changed in 2015 with it or around that time with the emergence of the consortia, there's not a lot of data for us to kind of like go back and check. So, is it a matter of competitors who are no longer profitable like wholly command market going bankrupt and kind of then we get to the other side of this? And then, I know you talked about a normalized margin in the Generics business in the past. Is that possible to think about earnings -- sorry in Injectables, is that possible to think about in Generics kind of like -- should we think of this as an absolute trough margin and kind of a normalized margin within more of that low-20s?

So, yes, you're absolutely right. Customer consolidation took effect in 2014, '15. We really saw the impact of that in '16 and '17, so you've got a relatively small sample size to look at the cyclicality post then. But you do have the improving market conditions in '18, '19 and '20 following that really difficult period in '16 and '17. So I think that, that gives you something to point to, to hope that things improve. We think we can build on the margins where we're currently at now and that's due to, really our growth strategy. We're looking to focus on more complex generics and also specialty brands and these are the areas that have higher barriers to entry and therefore more attractive margins and that's where we're making our investments for the future, so that we can continue to grow and to continue expand our, not only our top line, but our bottom line as well. Riad, I don't know is there anything you would like to talk about in terms of price erosion with Injectables?

I mean it's the same thing, it's the same industry, it's all the same model, except for the Injectables is maybe a little bit different. It's less players that are on the market, more barriers to entry. But also there is a lot of shortages there because of exactly what you're saying. Just to point where people start to -- because of the limited capacity in Injectables, I guess there's a point where people start exiting non-profitable product and that creates gaps. So some of the products that are really low margins at one point become all in a sudden higher margins because everybody exits the market. So it is -- this is a cycle that we go through and we see it in effect the shortages and all that. So it is not as much because of all the other elements of the generic, but we see it as well.

Pete Verdult, Citi. To which wind it back a bit, we got strange nitty-gritty, but we haven't addressed that sort of elephant in the room, there's been a relatively abrupt CEO change. I was wondering if you Said, what is the message to the troops, to the -- to C-suite? Is the strategy exactly the same as when Siggi left it or have you made any tweaks in terms of your message to the company and how you want to do business going forward? That's my first question.

When Siggi joined the company, from the beginning Siggi said I am committed to the period of about 4 years, so it wasn't like a big surprise for us actually. He came in and he wanted to do a lot of changes when he first came in. I said, Siggi, this is not the company in trouble, why don't you take your time, relax, get to know where the company, get to know the structure, why we have this structure and get to know the team. So 6 months in, he came and said, you're totally right. There is zero need for change and it's the same team leaders that were leading the divisions before Siggi joined us leading the same teams. We had some more people join, we strengthened the company, we strengthened the systems and so on. But it's the core of the people, the core is, remember they are still there. And there hasn't been really a change of strategy during Siggi's time or after he left. We are obviously trying to enter -- we have very clear 5-year plans for every business. I think it's clearer for the Injectable and the Branded, but the Generics also they have a plan, they want to strengthen their specialty product and so on. And Riad and Mazen will talk more about the business, so there isn't really a major change in the company. And I always remind everybody that I have been with this company for 40 years and I was still the Executive Chairman when Siggi was running the business. So I was available -- all the time available, I attended all the meeting, I attended all the team meeting, all the strategy meeting. So, we didn't -- at least internally, we didn't feel like there was a big change when Siggi leaving as well. And as you know, we have committed that we will be looking for a new CEO, we are in the process looking for new CEO, could be somebody internal, could be somebody external. So the process will go on we think this year.

Okay. Then my next few questions for Mazen and one for Riad, just on Branded, there's been -- we know the strategy, you've kept the investment and you're trying to improve the portfolio. It feels that with the H1 results we're starting to see the benefits of that, but historically Siggi and maybe Said as well as Susan [indiscernible] it's not coming anytime soon, but just when do you see the fruits of your efforts in terms of improving the top line of MENA and also the margin. So that's question number one.

[indiscernible] product portfolio, now we have 80% of our sales in the MENA are coming from new products or long-life style products rather than anti-infective. So this is the shift that we have been building gradually. Now, you remember that MENA is not one market, it's 18 different markets and we have 18 different structures and 18 different management and we have different currencies. So with all of this, with all of the currency fluctuations, with all of the restrictions that governments are imposing on these markets, we are able to grow. We're one of the best growing companies in the MENA, you can see clearly from the data. We are well positioned and we are increasing our margins as we go forward and this is why we say we will continue growth in the MENA and now it's not paying off the investments that we have done during the last couple of decades.

Sorry, did I hear Said say that the outlook for Injectables is now 9% high single digit? Is that assuming or including the impact of your compounding efforts [indiscernible] or would that be in addition? So just I'd be interested to know your components in that level of stable rate?

How we see the injectables, there are lot of organic and inorganic. We're looking at -- we have done a lot of expansion in our portfolio through R&D and through business development that we feel it's going to be coming to fruition very, very soon. We had expanded our manufacturing plant and still continue expanding this capacity that we think we're going to put it in use. We are looking at expanding geographically, as you can see, we have gone to Canada, we went to France, we are on our way to Spain. And so, adjacent businesses also, you mentioned the compounding, the other things that we're thinking about. So we put all that in perspective which we're continuing with the same growth that we've been projecting and we have been doing for the past few years. And we think we're going to continue strong, but we're putting all that together, we are trying to observe other costs that also Said mentioned and the difficulties that we had in inflation and a lot of things. With all of that continuing, we're still going to deliver the same result.

The past year, we said commitment or commitment to, on one hand recognizing that the margins are very strong right now, but not sustainable, but saying that low to mid-30s is a sensible target for this business on an ongoing basis, is there any change there in terms of profitability of Injectables?

I think we've always said that [indiscernible] mid-30s and all the plans that we have continuing growth in our business, continuing growth in expanding our marketed brands deliver such margin. Of course, if we have an opportunity, it's going to -- as we are seeing now, if there are certain opportunities, let's say, for a contract manufacture or certain products, then there is an upside to the normalized margin as we are seeing today.

Normalized margins 35% is a very not normal in the industry.

Are you comfortable that, we don't -- comfortable -- I mean that, we don't want to be in a situation that we're with U.S. Generics now where you're on a slippery slope, are you -- so what's your comfort level with those sort of...

Yes, we feel very comfortable, I mean what we had done and continue to do, I think we have confidence in what we're doing and continue to do.

I think what Riad is now saying that, really, almost every manufacturer, we bought Germany in the past to learn about oncology and then we built a huge oncology plant in Portugal and we said we're going to close it. The reality is you have to upgrade the German plant 3 or 4 times already, so both plants are full. The same with Italy, we wanted to learn about lateralization, then we built a huge lateralization plant Portugal. We've had to upgrade the Italy once. So whatever they can make is there is huge demand and they are in a very major growth mode, they're building new plants now, they're changing a lot of the equipment, constantly change in equipment to faster -- higher speed, faster speed. So with the Injectables, we're very comfortable that there is this -- the demand will continue. And the last thing that Riad said, that we see big potential for a CMO and we're talking about very, very profitable business. The compounding, I think Riad understands it the most maybe he can explain a little bit about that, but obviously right now, we're in a big investment mode and we will be starting to see the benefits of that in the second half of next year and then moving on from there, but it is a big investment, it is a big facility, I visited it last month, extremely impressive. It's a big facility, it's a major investment, it's a major expense right now. So even with absorbing all these expenses that we are now investing, we're still delivering, as I said, 17% and 24% margins and it's delivering 38% margins. Can I talk a little bit more about the compounding?

Compounding, we have to remember first, we did not buy a business, we created that business. So this is a start-up, which means that you have to not only recruit the right people and train them and get to know the business if you don't know, it's a new business to us as well. We need to get the regulatory approval and that takes time, especially with this environment. FDA is very, very busy, they have a big schedule. We really waited a lot for them to come and visit us, which they did finally a few weeks ago. We have to get every state approval, 50 state and each one has different requirement. We have to get hospitals signed up to our system because as you know, our core business, we don't sell straight to the hospitals, mainly, we do the wholesalers. So we have few, now we have to put thousands of those hospitals in the system. All that takes time and all that needs to be built. So we are in the mode of getting all that prepared and we feel that in few months after everything is over, foundation have been laid out, we should be getting very interesting. It's a business where there aren't too many people in the market, it is a growing business and if you show the right attributes everybody is looking at in compounding, I think we will be in a great advantage.

Moving on to questions from the phone lines, our first question today comes from Keyur Parekh with Goldman Sachs.

Hopefully you can hear me okay. Going back to the Generics business, could I please understand better the bridging the building gap or the bridge kind of between where you leave off in 2022 and your growth in -- confidence of growth in 2023. So, if we take the midpoint or the high end of your 2022 guidance, what do you expect to be the impact on your base business in '23? What do you expect to be the contribution from the 2 new launches? And is there anything else from a delta perspective between those numbers? That's kind of question number one. And then, I'll have follow-up questions as well please.

Thank you for the question. So we're not ready to give guidance yet for 2023, but I think I can speak to those components at a higher level. So if you take where our guidance for this year, we expect to build upon that next year, both top and bottom line. You should put into your model some price erosion for next year and then on top of that, we have some very attractive product launches which we're looking forward to. I mentioned the authorized generic version of Xyrem, we're launching our specialty branded product Ryaltris and we're going to continue to grow our Kloxxado and community health franchise. So that will help us to grow into 2023 and those are really the major components, but unfortunately I can't give you direct contribution numbers.

So as a follow-up to that, your visibility on this business seems to be incredibly low as envisaged by the guidance downgrade price over the last 3 months. So I'm just curious, why you feel the need to provide growth guidance for '23 sitting here in August and what drives your confidence that you have that visibility on the base business?

Yes, so when we first provided guidance for this year, we thought that there was a strong potential for us launching our generic version of Xyrem this year, but based on the trends of Xyrem in the market, our market decline trigger was not triggered. So now, we're focused on our date certain launch of January 1st, 2023. So a disappointment, obviously, that we don't have that launch this year, but we get the benefit from it next year. So it Ugives us more clarity on planning, which is very helpful, which gives us a lot of confidence. So, rather than looking at reports every month, now we have sort of the defined period of launch, which we think is really helpful from a planning perspective. The base business, as always, your existing business, those face competition. So it's natural to look at next year and that we will see some price erosion on the base business. My hope is that price erosion improves next year from where it is this year, but our new launches, together with stabilization of our base business and also some new contract manufacturing business that we brought on will all help us to grow into next year.

And then lastly, kind of both Said and you have spoken about the cyclical element of the pricing dynamic in this market. What is the risk that this is actually structural and not cyclical?

So we've been -- we've been dealing -- I would say that the structural environment that you're referring to is primarily customer consolidation where the top 3 customers control about 90% of the volume. We've been now operating in that environment for over 7 years, so we're pretty used to how that works and I think the entire industry has adapted to that. So I think it's more of cyclical trends that drive this forward because the structural changes have already occurred.

Yes, I'd like to add, again, I've been in the -- I've been doing this generic business since 1990, it's almost 31 years now. And we continue to see that and we -- the 2 things that we spoke about earlier, one is the regulatory environment. We know that the FDA is way behind on their inspection, especially on the foreign inspection, especially on the inspections to Indian companies and they have started moving up now and they will be under pressure to increase the number of inspections. And as they do that, we know we will see warning letters and we know we'll see 483. So that -- if you look at a big chunk of the cyclical business in the past, the shortages that happened in both the oral and the injectable were due to regulatory issues. So we don't discount them, they are still there. The other issue we talked about is when margins become so low, companies first try to defend that because they have raw material, because they are already committed, because they already manufactured. But once they get rid of the supply, the inventory and so on, they stop manufacturing products that they lose. So the number of people making the products will go down. Now, will it be the same pattern of cyclical movement? We don't know, but there will be cyclical movement, there will be changes in the market. As I said, we're seeing it happen for such a long time and I think it will continue to happen, maybe in a bit different ways than before, but it will continue to happen.

Our next question comes from Harry Sephton with Credit Suisse.

Great. I have a few on the Injectables business. So in the first half, you saw about 2 launches in the U.S., but 29 launches in Europe. I think that the -- historically, the message has been that you'd look to prioritize new capacity ready for the U.S., which is your most profitable market and that actually Europe was really the lowest priority market. So I just wanted to understand the dynamics of such strong launch activity in the European market and then potentially some weakness relative to your historical levels of launches or could we see a much higher weighting of new launches in the U.S. in the second half of this year? And then I had a question on your biosimilar strategy as well. So some of your competitors have mentioned the importance of cost advantage in the U.S. biosimilars market and you signed a couple of in-licensing agreements. I just wanted to get your thoughts on why you think this is the right strategy for Hikma? And do you expect that you can still be competitive on price, despite your limited control on the manufacturing costs on these in-licensing agreements?

Thanks very much, well, the first thing is that we are committed to still launch in the United States between 10 products to 15 products this year, although we only launched 2, but we're in the process in the next few months to launch 5 and then continue to get that number, 10 to 15 we're committed to, we'll deliver. The delay between the first half and the second half has to do a lot -- and it's not really the priority isn't -- the launches that we do in Europe are quite different than the ones that we do in the U.S.. U.S. launches are brand new molecules. In Europe, some of those launches are existing molecules that went from one country and we launch that same molecule in other countries. So you will see us, for example, launching the same product that we have in Germany, but we launched it in France now. So we consider that a new launch, but in the U.S., it's new molecule. To make a new molecule, it requires you to do validation batches, 3 validation batches, you're required to do the report, everything has to be done before you launch the product, you have to prepare for it. You have to make sure there is a lot of regulatory steps that you have to go through. And this is why typically, if you look back through maybe the last 3 years, 4 years, we're always heavier on the second half in launches than the first half. So I think this is a typical year, it's not atypical and we will be getting what we had committed to between 10 to 15 in the U.S.. The attention that still continues to the U.S., it is our most profitable country, market. We continue to give a lot of attention, especially when it comes to new product. Your question about the biosimilars, we are in the process of building a portfolio. So we know that going to the market with a biosimilar with one or 2 products is going to be cost challenging because the detailing and the sales force that you are going to build is going to be very expensive. So you really need to -- the more products they can carry with them to detail, of course, the better and the most efficient it would be. So we are looking at a lot of partners, we're talking to a lot of partners to build that portfolio beyond the 2 products that we had signed. The cost structure is definitely something that to consider, but I think the deals that we have made and we continue to make, we really look at that very closely, we'll look at the history, a lot of the people that had -- were the first in biosimilars face that, the advantage that we have now we learned from them and we learn that where it starts and where it ends up with all the erosion that happens -- quick erosions that's happened in the structure and we are trying to build that in our agreement with the partner.

If I can add to that, remember in the MENA, we've now -- how many years we've been in biosimilars?

Now -- we started 10 years ago and we started launching there [indiscernible] the registration process. So now we have been 5 years in the MENA.