Hypera S.A. (HYPE3) Earnings Call Transcript & Summary

Welcome to Hypera Pharma teleconference. This is the first quarter 2020 results. We have Mr. Breno Oliveira, CEO; and Mr. Adalmario Couto, CFO, are here with us today. We would like to inform you that this event is being recorded [Operator Instructions]. We will then have a Q&A session for investors and analysts only, when further structures will be given. [Operator Instructions] We would like to inform you that questions can only be asked by phone. If you're connected through the webcast, you should e-mail your questions directly to the IR team at ri@hypera.com.br. Today, slide webcast may be accessed through the company's Investor Relations website at www.hypera.com.br/ir. We would also like to inform that statements made during this conference call may constitute forward-looking statements. Such statements are subject to known and unknown risks and uncertainties that could cause the company's actual results to differ materially from those set forward in the forward-looking statements. We would like to turn the floor over to Mr. Breno Oliveira. You can begin your presentation now, sir.

Good morning, everyone. Welcome to our Q1 results call. In the previous call, we talked about the conclusion of our committee. There may be -- there will be a delay. We will be informing the market as soon as this work is concluded. Let me talk about our operational performance. In Q1, our sell-out grew by 11%. It's the fourth quarter in a row that we had 2-digit growth, especially because of strong demand on consumer health in the second and third weeks of March, because consumers went to drugstores to stock their medicine cabinets because of COVID-19: flu, pain killers and vitamins. In branded prescription, Rinosoro, Colflex, [ Ofolato] especially, because of recent news about the importance of vitamin D. On the other hand, other important categories, some -- such as dermatology and podiatry suffered in sales because it -- the prices promoted brand prescription sales. That hurt short-term sales. In the last week of March, we had some fall, but there seems to be a gradual boost in demand in recent weeks. In the first quarter, we had net income of BRL 815 million. We recovered our gross margin of 67%, that reached 31% for the quarter, in alignment with what we expect for the rest of the year. The pandemic brought additional challenges to our day-to-day operations. That was no different to us. I would like to talk about the measures we took on Slide 4. Our main focus has been to take care of our employees. We've adopted home office to 100% of our admin workers and we could -- or we gave -- all our employees are on vacation. When they come back, we'll be adopting special safety measures. We have brought reinforcement to our corporate health team and extended the benefits to all our employees. We donated 20 ventilators to the City of Anápolis. We gave donations, drugs, food and hand sanitizers. And also, we did the same in Sao Paulo and Rio. It's important to protect our plants and our innovation centers. We've adopted several prevention measurements. We are taking the temperature of our employees, especially in the entrance and the mess hall. On top of that, we placed orders from China ahead of time, and we do not expect any shortages of inputs in our production facilities. We must make sure that everyone has access to drugs and medical services. And we are taking care of the communities where we operate. We're also trying to boost our short-term liquidity, given the uncertainties of current trends. We have a credit line of about BRL 900 million for this year and next year. We are over BRL 2.5 billion in debentures. We'll be paying out the [indiscernible] for the quarter -- the fourth quarter of 2020. We have more than enough cash to conclude this operation. Back in March, we sold our portfolio, but we maintained our sole focus in the pharmaceutical industry in Brazil. With recent derivatives operations conducted back in March and April, our exposure is about -- below USD 400 million, more than 50% of the original exposure. Before I turn over to Adalmario, let me talk about innovation. Total investments in R&D reached 7.2% of net income, reinforcing our commitment to innovation and sustainable growth, especially during the pandemic. In the quarter, we acquired the growth link dermatology product line. With the other important brands that we already have in our portfolio reinforced our position within the dermatology segment. We've acquired leading brands by vitamin D out there, and the [ Detrol ]. I'll turn over to Adalmario now. He'll be talking about this quarter results.

Thank you, Breno. Good morning, everyone. Let me start with the highlights on Slide 6. Net revenue was BRL 815 million, more than double year-on-year. It's not a good basis for comparison, given the drop in sales in Q1 of 2019, aiming at reducing inventory levels at that time. Gross margin was below the sellout sales. Just like Breno said, that was very prevalent in the first 2 weeks of March. We could not replenish our customers' inventory levels. We've had huge demand because of the pandemic associated with the lack of definition on sales prices, updates or increases. The sell-in growth will be very close to the sell-out growth since we are now adapting this new business model, reducing inventory levels at our customers. For Q2 of 2020, sell-ins should be bigger than sell-outs to replenish our customers' inventory after the above-average demand we had back in March. Gross profit amounted BRL 543 million. Gross margin was almost 67%, an almost 7% improvement when compared to Q4 2019. Some factors contributed to that effect, reducing idle times in our plants and the increase of average price, reducing the number of POSs, and that offsets the negative impact of exchange rate. Average return was about BRL 4, when compared to the exchange rate of BRL 3.68 we had in Q1 2019, an almost a 10% increase. Let me remind you our policy to hedge 100% of purchase orders from imported inputs. We had additional hedging earlier this year to protect us from purchases throughout the year. The impact of lower exchange rates will be minimized in gross margin for 2020. Factors that negatively impacted include high number of returns above our expectation, but things should get back on track throughout -- in the remaining of the year. The best -- the better gross margin helped our EBITDA margin to go above 30%. We had more discipline in managing expenses in Q1, given the pandemic. Let me give you some color on that. We reduced our promotion activities in our POSs given social distancing in several states. That got about a 25% reduction of those promotions in POSs in this last quarter. In terms of commercial expenses, they remained at the same level that we had last year. Our R&D expenses was offset with marketing and sales force adjustments and more expenses were allocated to R&D projects. Marketing expenses were BRL 23 million more, given the increase of the sales teams and free samples given in this past quarter. Part of their growth was offset given better negotiation of on- and offline media packages. Admin expenses were somewhat smaller, and we had rejection of BRL 35 million given tax credits granted. Financial results were positive because of the cash flow and given the P&L hedging to reduce or to offset exchange rate variations. We had a positive contribution from income tax given the capital -- return on capital that maximizes tax benefits. The total amount was BRL 185 million at BRL 0.29 per share, 15% above that in Q1 2019. We had capital gain for shareholders for the fourth quarter in a row. We maintained that return on capital, adjusting their own capital. That shows how confidant we are in cash generation of our business now and also in the future. Let me now talk about cash flow on Slide 7. Our operation cash flow was BRL 170 million in Q1 in May, that was more than necessary to support CapEx and intangible investments. Investments in the pipeline projects, they're all leveraged. Just like Breno said, our R&D investments grew by 11% in quarter, reaching BRL 58 million, all those that were deactivated and those that are activated. And we had a free cash flow of BRL 45 million. Just like Breno said, our goal is to improve our liquidity. We had over BRL 600 million of additional investments by late March. This greater investment with the additional BRL 300 million, with almost a BRL 2.5 billion, that show our capacity to have access to the capital market. And if necessary, we'll be able to reach the best deals. Maintaining our solidity and our balance is key given the current scenario so that we can ensure sustainable growth in the long run. Our free cash flow position into the quarter was BRL 240 million, after we paid interest on our own capital as to 2019. I'll turn over back to Breno for his final remarks.

Thank you, Adalmario. Just like in all previous crisis, this will be no different. There will be opportunities. We're working to come out even stronger. Recent investments include trade marketing structure focused on the e-commerce platform. Sales more than doubled in recent weeks. In early 2019, we created a virtual medical system. We offered that platform to over 1,000 medical events so they can online and offline operate their clinics. And we are getting closer and closer to startups in the medical industry, to address opportunities in important industries. Despite short-term adversities, our long-term growth projections in our industry remain intact, especially with the growing population. Concluding. The transformational acquisitions we've had will make Hypera Pharma the leading pharmaceutical company. Our robust platform, leading brands and our strong investment capacities put Hypera as the company that is better prepared to benefit from the opportunities in the pharmaceutical industry in Brazil. Thank you very much. We'll move on to the Q&A session.

[Operator Instructions] Mr. Robert Ford from Bank of America.

I hope you all are safe and sound. Let me ask you the first question. Could you elaborate on the current operational trends? Number two, what are the plans for your sales force? How are you trying to implement new technology when we -- things get back to normal? How can you talk about the gross margin? What are your expectations for this year's gross margin?

Bob, thank you for your questions. I hope you're all safe, your family as well. Let me address the first question. Adalmario will be fielding the third one. As to current trends. In mid-March, we've seen some uptake in demand. We've seen variations of demand, depending on the product. Flu medications, vitamins, especially vitamin D, they're doing very well. Acute medication, they depend on medical consultation. Pediatrics, children are not going to school, are not getting sick. So we've seen major changes in performance depending on the category. April started out slowly, but week after week, performance is improving. We should have a net 0 growth for April, but a gradual positive trend. In terms of competition, there are some smaller players. They're not as aggressive as they used to be. You know the effect of the exchange rate on our brands and also on the competition. And the credit crunch will be even more complicated to smaller players. As to your second question, when we go back to business as usual, our few teams are operating from home. Some weeks later, we gave them a collective vacation. And these teams are slowly going back to the field, merchandising, people that replenish shelves, they came back just last week, taking all the necessary precautions, wearing gloves, masks. They have a more flexible work hours and the medical visitation teams are going back to work today. They're beginning to use a new tool so they can visit clinics remotely. We do believe that these new technologies are here to stay. This, of course, will require major changes in the behavior. Doctors, patients are becoming more and more accustomed to telemedicine. This is only working as a catalyst to boost this trend. This adoption rate is picking up. They're changing the way representatives relate to doctors and doctors to patients. I think I answered your first 2 questions, and then I'll turn over to Adalmario to field the third question.

We do not have a formal guidance for growth of gross margin. But given the more challenging scenario, given the weaker real, we believe the gross margin should be close to what we had in this first quarter. We expect a more positive result from our product mix, new launches, and prescriptions as well. And also because of the positive effect from some categories in our portfolio, such as vitamin D, such as Addera. Greater margins than the average margin for our products, there has been substantial growth in demand for this vitamin D product, a product that was struggling in the past. But as of March, sales picked up, and Addera is a leading brand, so that why it had have a chance to expand its market share. We then believe that the gross margin will be similar to what we had this first quarter. In our budget, we calculate a BRL 5 exchange rate, how it would impact our margins. Let's see how things play out in the weeks and months to come, and then we'll find out whether any additional adjustments are necessary if the exchange rate goes even higher.

Joseph Giordano from JPMorgan is next.

I actually have 3 questions. The first question is about hedging. You are operating at a BRL 5 exchange rate. So my question about the operational hedging. Are you using the same exchange rates? My second question is about the pandemic. What was the sell-out up until mid March? You ended with -- at BRL 11. I would like to break that down, if possible, maybe trying to extrapolate numbers for Q2. What is the take of those products in the total setup? And my final question is about price increase of some 4-odd percent. Is there any chance of a gradual price increase, given the pressure from exchange rates that are high?

Let me answer your first question about hedging. Ever since we announced the acquisition of Takeda, we've been hedging, reducing our foreign exchange exposure. It was about 4.50%. Then on the first day, we did some hedging. The average cost today, the average rate, it's about 5.16% on average, about BRL 240 million that we hedged. We are, of course, closely monitoring it. When it's close to 5%, we can increase our hedging level. Our intention is to reduce our exposure even further. As to the purchasing hedge, we've always done it once we place orders, all the way to the payment -- when we place the order all the way to the payment date, we've been hedging. The only thing we did differently was to have that additional hedging operation to cover the entire year. For the first 2 weeks of January, we locked that exchange rate all the way to June between BRL 4 to BRL 4.10. That was the expectation earlier this year. When we have that purchase hedging, plus that additional hedging operations, we hope that this higher exchange rate will begin to impact our numbers in late September, more towards the end of the year. But we'll be monitoring it to increase the hedging even more. As to the other questions. What was your second question?

The purchase -- the sell-out pre-COVID, what would be the trend without the pandemic effects? And my second question was how much prescription -- what's the take -- what's the participation of prescription within your sell-out?

Things picked up. It was in the high single digits in the first 2 months of the year. What happened was the demand variation back in March. Cosmetics slowed dramatic, but the market didn't grow in Q1. It's more important to us than the market average prescription, overall, accounts for about 40% of our portfolio. So you have different effects within prescription. Acute medication suffered the most. People are not working out as often, they don't get hurt as often. They don't go to the doctor, and there are fewer prescription drugs being prescribed to patients. So there's a growing trend, we could not react as positive with sell-in, given the fact the delivery of goods were also hurt. This has been recorded yet in Q2, but we hope there will be some effects by the end of the quarter. As to price increases, I think the associations or the trade associations and the government have been negotiating the price increases, but we believe we are going to have the price increases that have been announced. This will affect 16% to 18% of our portfolio. As of March, price increases had been authorized for similar and generic products. We have a very high level of discounts. Even if prices do not go any higher than what had been announced, there won't be any changes. The impact would be in prescription drugs. They're similar to the list prices already. And that will impact about 17% of our portfolio, as I said.

Mr. Gustavo Oliveira of UBS.

Sales were below expectations in Q1. What are you thinking about the guidance you had announced? Do you believe you can maintain that guidance? You also said that in Q1, the market didn't grow as much. What are the market expectations? What are growth expectations for the market that you're considering?

Sales were smaller in sell-in than we expected, but was -- it was not that different from what we expected. If you take sales from Q1 when compared to the guidance for the year, it's about 19%, right? Sellout accounts for about 20%. And that's about 20% for the rest of the year. We have a very strong portfolio. For the winter, especially Q2, Q3, flu medication, antihistaminic, Rinosoro, PredSim, they usually sell more in the winter. ;

Sell-out for Q1 is a little more?

Yes, that's right, but it's less than a 1/4 for the year. In other words, we are comfortable with those numbers. There was more demand towards the end of the quarter, but we could not replenish stocks because deliveries were hurt. But that can be offset in early -- the first weeks of April.

I understand. And what your -- what is your expectation for the market growth? The market was flat, and you had 11% growth in sell-out. You gained market share. What is your take for the rest of the year?

It's too soon. We expected high single-digit growth, but we've been talking with customers. We've seen that happen to several of our customers. We will have weaker growth in April that will offset the strong growth we had back in March. We do not see any reason to change our guidance, but we do not expect major variations in demand. When we consider market averages, some categories will suffer more, will benefit more as I've said. I believe the trend should be maintained, high single-digit growth.

Let me ask you a final question, if I may. I missed the initial presentation. Would you please elaborate on why it happened.

What I've said, we were expecting to conclude dev work in April to present that proposal to regulatory agencies. But given the pandemic, we had to postpone some meetings. We believe the process should be concluded in late March. It's a 1-month delay.

I believe you've been talking to some regulatory agencies, haven't you? Do you keep on talking to them?

I do not have any detailed information. The impact is internal.