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

Good morning, ladies and gentlemen. Welcome to Hypera Pharma's Q1 2023 Earnings Conference. Joining us today are the company's CEO, Mr. Breno Oliveira; and its IRO, Mr. Adalmario Couto. We'd like to inform you that this event is being recorded and will be available for playback at the company's Investor Relations website, ri.hypera.com.br. [Operator Instructions] Before we move on, we'd like to underscore that the information shared during this conference may include projections or forward-looking statements. Such information is subject to known and unknown risks and uncertainties that may cause such statements to not materialize or ultimately prove to be materially different than expected. I will now hand over to Mr. Breno Oliveira, who will start the presentation. Mr. Oliveira, please proceed.

Good morning, everyone. Welcome to our Q1 2023 earnings conference. We'd like to start the presentation by talking about our growth, which is highlighted on Slide 3. We achieved 5.9% organic sell-out growth in Q1 '23, driven by strong performance in January and February, following the exceptional growth rates recorded in the same period last year. It's worth noting that we grew organically by almost 30% in the first two months of 2022, outperforming the market by almost 7 percentage points, thanks to significant growth in sales of anti-flu and respiratory medicines, given the increase in influenza cases early last year. Because of the base effect from last year, we saw virtually no growth in the first two months of the quarter. However, in March, the normalized comparison base versus 2022, we grew 19.1% organically, a level of growth that's similar to last year's, and preliminary data for April point to an increase in the mid-teens. Our organic sell-out CAGR for the last two years came to 14.1% in the quarter, outpacing the market in that period, thanks to the accelerated pace of new product launches in recent years, the increased production capacity and the investment in our leading brands. Speaking of our brands, our power brands, Buscopan, Torsilax, Dramin, Epocler and Engov, the line extensions for brands, Vitaminas Neo Quimica, Vitasay and Mantecorp Skincare, and the recently launched prescription products, Ammy, Ondif, Curc and Picbam were this quarter's main highlights. Moving on to Slide 5. Let me comment on our new launches during this quarter. In prescription drugs, the highlights were Ecoxe and Lisador Colica. In addition, we also launched our third cannabidiol-based medicine full spectrum. In consumer health, the standouts were Benetosse syrup and Tamarine Fibras Max, a line extension of the Tamarine brand. In skincare, we launched important line extensions for the Episol, Epidrat and Glycare brands. The recent launches and those expected for 2023 are essential for our sell-out growth this year. Our current innovation pipeline adds up to about 450 products that will further strengthen our presence in Brazil's pharmaceutical retail sector in the coming years. Another important highlight of this quarter was our performance in the institutional market. Our net revenue grew 35%, and our EBITDA margin widened considerably in this segment, as a result of the initiatives adopted by the new structure fully dedicated to the institutional market we created in 2021. Today, the company already has over 90 products in its innovation pipeline for the hospital market, including projects from the oncology, specialties and biological departments to boost our performance in this segment. During this quarter, we also approved the distribution of interest on shareholders' equity of BRL 0.31 a share, keeping our commitment to continue to share capital with our equity -- our shareholders. I will now turn the conference over to Adalmario, so he can dive into our results starting on Slide 6.

Thank you, Breno, and good morning, everyone. I'm pleased to report that our net revenue grew 13.7% in Q1 '23, reaching close to BRL 1.7 billion. This is also in line with the seasonal trend for previous years. Our overall increase in sales was by nearly 14%. And when we exclude the revenue coming from Sanofi's market to compare on the same basis, growth came to close to 10%. As Breno said before, I think it's important to highlight the recent growth to continue with the trend of growth in the products. And the products we launched in the last few months already had a contribution of 4 percentage points for our organic growth in the same period. When we look at a longer period, the products launched in the last five years account for 24% of our overall revenue, including the acquisitions we made in this period. During this quarter, we also saw an increase in profitability with a gross margin of 64%, which is 1.1 percentage points higher than in the same period. This came mostly from the update and prices that we had last year, which more than offset the worse mix because of our sales in the institutional market and our sales of generics. We also had positive contributions from also other factors, such as reduced idleness in our plants in the first quarter and also the devaluation of the U.S. dollar versus the Brazilian real, which has a positive impact in our raw material costs. The average exchange rate that we dealt with was BRL 5.21 versus BRL 5.31 last year. Our hedging policy remains in place and making the most of this time of depreciation to increase our exposure, seeing that we have 50% of hedged exchange rate exposure at a rate of BRL 5.15. Our sales and marketing expenses as a percentage of revenue were also in line with what we had last year. And both of them combined account for 28% of our net revenue. Our R&D expenses increased 21% when we excluded the goodwill act that we had this year and which understands we also had an increase of 28% that accounted for 9% of our revenue. The strategy was very much in line with what we have adopted in the last few quarters, to ensure the company's sustainable growth via the development of our innovation pipeline. Our G&A went up 40 basis points, but was more than offset by the increased gross margin. With that, we ended the quarter with 16% growth and a margin of over 34%. Our net income in turn was slightly lower than the previous year with an increase in leverage after we paid for the acquisition of Sanofi products and also the increase in the CDI rate for the period. Now talking about cash flow and indebtedness on Slide 6. I think it's important to highlight the higher operating cash generation in this quarter, which was closer to Q4 2022, but with significant growth when compared to Q1 2022. In this case, especially, we saw an increase in unsold inventories and also in the days to receivables. We had a few items that led to this increase in working capital. The first of them refers to our policy of working with a high level of raw material inventory, which is something the company has done since the beginning of the pandemic and which was increased at the early last year after the crisis in China and the conflict between Ukraine and Russia. As we have said before, this is nothing new, but we've been working since late last year on lowering our inventories. This is not something that's easy to implement, though. We can't do it overnight and it takes some time, given the contracts that we have with our suppliers. In addition to that, we also had a shift in the company's temporary shutdown, which usually takes place at the end of the year with collective vacations. But last year, we decided to postpone that temporary shut down to early this year, which actually took place in the first two months -- two weeks of this month. During this period, we increased our inventory of finished products by about BRL 200 million to really create that buffer and prevent gaps in the meaning of orders and lack of supply in the market. And lastly, with the lower sell-out that we had in the end of the quarter, we ended with a little fewer products and our clients, which reduced the deadline for receiving, but that should come back to normal in the second quarter. We expect to reduce the inventory of finished products moving back to the same level we had in Q4. That puts in a very comfortable position and confident that the situation should go back to normal in the next few months and create a positive impact in cash generation for the company over the next few quarters. Even considering these working capital effects, our operating cash flow was over 300,000 - BRL 300 million and was enough to cover our investments and our P&D -- R&D and also investments. We also amortized and settled debt to the tune of BRL 2 billion and the payment of interest on our equity as declared in 2022, which was made early in January. I think it's also important to say that even though the credit market has deteriorated since the beginning of the year, we continue to have great access to our line of credit and to execute the company's liability management very healthily. Our debt came to BRL 300 million in the beginning of the year. And we also approved the issue of a new BRL 800 million debenture for a maturity of five years. With that, we should recover the company's revenue and our net debt should come to BRL 7.7 billion or 2.5x the EBITDA set in our guidance for 2023. Let me now turn the conference back to Breno for his final remarks.

Thank you, Adalmario. The results of the first quarter, combined with the strength and resilience of our portfolio of leading brands and the contribution from our recent product launches and acquisitions bolster my confidence that we'll be able to meet the targets in our guidance we set for 2023. With the inventory reduction initiatives that Adalmario mentioned, which we started late last year, we expect our operating cash generation to be significantly better over the next 12 months, starting in the following quarter, delivering solid sell-out and [ EBITDA ] growth margin is part of our strategy. While we also don't lose sight of our commitment to generating cash flow, which is the main source of financing for our expansion projects. We continue to expand our production capacity and to intensify our investments in innovation to boost our medium and long-term sustainable growth. We are the only pharmaceutical company with a prominent position in all market segments and the company that's best positioned to seize the many opportunities Brazil's pharmaceutical market has to offer. I'd like to thank you all for joining. And let's now move on to the question-and-answer session.

[Operator Instructions] Our first question comes from Mr. Vinicius Figueiredo with Itau BBA.

I'd like to talk a little bit about your gross margin. You showed a significant improvement, I believe, it was even a positive surprise. So I'd like to understand how that splits into the gross margin for retail, and whether it was enhanced by better margins on the institutional channel. Also with regard to your initiatives to internalize costs, with the portfolio from M&A. I wonder if that's already translating into margin gains. And if I may -- you also mentioned that a huge share of your volume would come from your new product launches, what can you share with us in terms of KPIs? And is that already accounting for about 2 to 3/3, as you said that, that would be the case in terms of volume growth that would come from those new product launches. I wonder if that's already the case for early this year.

So your first question about our margins. Yes, there is also been an improvement in our gross margin on the institutional channel. As we put new products on the market, we are being able to improve those margins. And also with great focus, we can also expand our footprint in that market through other distributors that didn't work with us before, and as a result, see improvement in those margins. And we also see increased rationality from other players in this market. And this ultimately helped us expand that or widen that gross margin, even though our margins in the institutional market are narrower than the company's overall margins, but they did improve in Q1 on the institutional side. With regard to the positive effect that you mentioned, we do not see that yet, the effect from the internalization. We're still in that process of internalizing the products that we acquired from Takeda and Sanofi. We expect to internalize Sanofi's products a bit faster even because of the provisions in our contract with them. But we're also starting proceedings with Takeda as well. But we expect to see the effects late in 2024, early '25. At this point, we continue to purchase semi-finished products in most cases. But we also see opportunity for improvement in those margins and not only our margins, but also our working capital, because currently, our deadline to pay for these products is shorter than the average for the company at large. So that is likely to improve both our working capitals and our margins as we internalize those products. Now as for new product launches, I've already shared with you this KPI, which essentially 40% of our organic growth during this quarter already came from these new products. And I'm talking about very, very new product launches from the last two years. So as we move forward and increase the number of new products on the market, the idea is that, that will account for even more of that share. So updating our portfolio is very important to ensure growth. And especially, as we move into segments we weren't in before, especially in prescription drugs and a few therapeutic areas where our portfolio was smaller, but as time goes on, we'll be able to expand our portfolio in therapeutic classes that have a greater prominence in the market, so to speak. So I believe that for the market -- I mean for the year, of course, we do not have the figure yet, because it will depend on sell-out, but it should be between 40% and 50%, the share from our recent product launches. And also as we make headway throughout the year, and we've said that before, but we have about 130 new products that we expect to bring to market throughout the year. And unlike what we saw last year, many of these product launches should take place in the first half of the year. So last year, we saw most launches occur between Q3 and Q4. And that has taken an effect mostly at the beginning of the year. And we should see these new products coming up, the pipeline have an effect in Q3 and Q4 of this year. So we are confident that these new product launches will help us a lot in 2023 and also in '24 and '25.

Our next question comes from Mr. Joseph Giordano with JPMorgan.

Now I'd like to explore with you a little bit of this credit environment, especially looking at the channel where you work with smaller retailers, especially smaller distributors, I wanted to understand how you guys see these companies work their inventories through these channels. We have seen companies in other industries where clients have more limited inventory. So I wanted to hear how that's going from you? And also, we're seeing the sell-out growth, it's a little bit lower than usual. And I wanted to hear from you what you expect from this year versus last year. And lastly, looking a little bit to the investment side, we saw a slightly lower volume. And I wonder whether that changes your forecast for CapEx in the very near-term this year.

This is Breno speaking. Starting with your second question. As we said earlier, the main reason for our slightly weaker sell-out growth in Q1 was the effect from January and February, but we also believe there was some impact from that increase in prices. Current clients felt there was less of an incentive to stock up in March because of the rise in prices that was lower than the historical record. And the funding costs were a bit higher. But this, we believe, is a temporary effect that should be recovered in the second half of the year. But it was mostly coming from January and February. Now on top of that, and this also touches on your other question about retailers and the credit landscape. We have been more careful in our credit supply, but our most important clients are major retailer networks and large distributors. We also work with local distributors, and that's where we have been most cautious. But with smaller networks, essentially, we have no exposure, because we sell to them by our distributors. So there have been a few events in the credit segment with smaller distributors and networks, but we are very confident that our credit policy is more receptive. There has been some impact, but that's been virtually negligible. And that increase in delinquency has also provided for in our guidance for this year. You had another question also, whether that has any impact on our investments. And Adalmario just reminded me of that. But the answer is no, not at all. The only impact is the -- is from the current level of interest rates. That's something we take into account when considering the return on additional investments on our projects, investments on our plans or new product launches, the increased capital costs ultimately has an impact on our investments, but we think long-term. And it seems that starting in the beginning of next semester, we should see a decrease in interest rates. And if that's the case, that should have a significant impact on our net earnings, given our debt level and the debt cost that weighs by about -- over BRL 1 billion. So as interest rates go down, that should go down significantly as well.

Our next question comes from Mr. Bob Ford with Bank of America.

Could you talk a little bit about how much you expect in terms of working capital for the next few months? And how do you currently see the opportunities on the institutional side considering the comparison basis? And lastly, how should we think about the fiscal incentives? And how do you see the risk of changes in the goods and services tax ICMS.

Bob, with regard to working capital, we believe there is significant room for us to reduce our working capital. And this is not for the very near-term. We should start seeing that in the next quarter, but this is a process that's expected to last for at least 12 months. And according to our estimates, we should be able to release about BRL 500 million in working capital with that process that has -- that's already started, as Adalmario mentioned in his part of the presentation. This has already started late last year. But it takes time. We already had orders placed by our suppliers, and we had a very sharp shift in demand last year times when demand was much higher than expected in other times when it was much lower than expected. So it takes a while for us to adjust our in-house inventories. But we've taken the necessary steps, and we've received a significant share of our raw material. And Adalmario said, we changed the maintenance shutdown from the end of the year to the first couple of weeks in Q1. So we have a slightly higher finished product inventories, which is likely to go back to normal now as of Q2. So we are very confident that we will continue to conduct that adjustment. And this was a conscious policy of raising inventories, which we're now rolling back. And just as it took some time for us to boost our inventories, it will also take some time for us to move back to the levels we used to work with before the pandemic. Now with regard to your second question about the institutional market, if I understood it correctly, you wonder about our performance moving forward, considering that we will not have [ Immunoglobulin ] in the next few quarters. Am I correct, Bob?

Yes, that's it.

Very well. So this is also in our plans, and we've talked about this already. It's not part of our guidance. No sale -- additional sale of Immunoglobulin, but we believe we'll be able to maintain the same level of sales that we had last year's without Immunoglobulin. So essentially, without growth in the institutional market at large, the sales should come to about BRL 400 million in this segment, which is a huge accomplishment considering that our portfolio does not include products in this additional side that will take greater prominence starting next year. So -- but only considering our baseline portfolio, we can -- already reached that level of sales about BRL 400 million, which amounts to close to 50% growth, considering the same base of comparison versus 2022. Now about your last question, with regard to our corporate tax and the ICMS benefit, we are very comfortable with that. We have made a few investments and the -- our debt is related to that. We took -- made a commitment with the state of Goias to invest in expanding our product lines, and we are still investing in our factory. That's something that's ongoing. So we have enough backing for that to not be taxed on our corporate tax returns.

What risks do you see in terms of change unification.

Okay, the unification. You mean the tax -- potential tax reform involving ICMS and not just the VAT. Well, Bob, this is a discussion that we have been keeping track of for a long time. They have existed since, I think 2013, and with the new administration, the topic has come back to the spotlight. And we believe this is a very complex issue as we've seen in the last few months. So it's a very deep discussion involving all agencies, state governments, federal governments, local governments and each of them with interest at stake. Now what we believe is, if we come to a point where the tax reform bill is approved this year, we believe that the transition period will be relatively long, from the time it is sanctioned to when it is actually enforced, it will take at least a year. And then there is the transition from the previous structure to the new structure, which should be very gradual. And if there is any impact, we expect that to be diluted over time. And obviously, we will adjust to the new tax reality from that point on. I think that the important thing to highlight here as well as every major Brazilian company in this segment or many of the most significant companies in this industry also deal with some sort of tax incentive. So our case in the states of miniaturized and states in the Northeast and other areas where we are offered tax benefits that's the case. So this is not exclusive to Hypera. As it is true for companies and other industries, both in the medications chain and other industries. So it may take a little bit longer than the government initially alluded to. And as the last few months where this matter has been discussed, I've pointed to you.