International Flavors & Fragrances Inc. (IFF) Earnings Call Transcript & Summary

Great. Well, thank you for joining, everyone. I'm Mark Astrachan, Stifel's Household and Personal Care, Beverages and Broadline Retail Analyst. We're pleased to welcome International Flavors & Fragrances to Stifel's Cross Sector Insight Conference. With us today, we have Chairman and CEO, Andreas Fibig; Senior VP of Communications and Investor Relations, Michael DeVeau; and Director of Investor Relations, Michael Bender. So today's presentation, conversation comes at an interesting time, especially given the coronavirus pandemic and its impact on consumer demand. IFF's role as supplier of increasingly value-added ingredients to consumer goods gives it a unique vantage into real-time trends during the pandemic. And if that weren't enough, the company is working to close the acquisition of DuPont's Nutrition & Biosciences business, which was a $26 billion deal when it was announced. That would make the combined business the largest integrated solutions company in the world with $11 billion in revenue. So we're excited to welcome IFF to the conference. Thank you all for joining us.

With that, I want to delve on 3 different topics today. I'd want to be cognizant of the business update that you provided this morning, get a bit of perspective on the pending DuPont acquisition, and if we have time, focus on some longer-term perspective for IFF's positioning within the industry. I also want to remind everybody on the call that should you want to ask a question, there are ways to do that. You can e-mail me directly. You can go through Wall Street Webcasting, however, you'd like to do it. So with that, Andreas, thank you for being here. Maybe if we could just start on today's business update, kind of talk us through progression of trends through the quarter, what was going on in April and May, and the commentary that you gave in the press release about expectations for June. So maybe we can start with that?

Sure, absolutely. So Mark, first of all, thank you very much for inviting us. And I'm pleased to give you an update on that. I believe what is important to know in these very volatile times is that IFF has a portfolio of technologies and products which is 85% very resilient to that crisis, 15% is exposed to some of the more downward trends in the market. So let me give you an idea how we see the business going forward, also for some of our customers from the regional, but also from the category perspective. Let's start with the categories. Where we see pressures, obviously, is in the Fine Fragrance business, which is round about 7.5% of our business, a profitable business, so mainly driven through a channel with travel retail, 20% to 25%. There's not a lot of travel ongoing. And many shops were closed in the April-May time frame. So that's what we have seen. We're now looking forward as soon as shops are opening and travel comes back, how the development for Fine Fragrances will go. The good thing, though, is that in the Fine Fragrance business, the second quarter is usually one of the weaker quarters. The most important ones are the end of the third and early fourth quarter, preparing for the Christmas business. Another area of more of weakness is the Food Service business, again, round about 7% to 8% of our total business. Here, we have seen some weakness. On the contrary, if I look at our portfolio, very strong in Consumer Fragrances, everything which is related to hygiene products, to dishwashing, we see strong trends, growing double digit for us in the first quarter and in the second quarter so far as well. We actually believe, in particular, the trend towards hygiene that it is here to stay at least for a while during the COVID crisis, but maybe even after COVID crisis. We have multiple consumer insight studies going to see what it means for us and for our portfolio in terms of technologies. Another trend which is very stable is on packaged foods. We see good developments here, good growth, so very good and stable, stable business. Let me touch on the different regions. The whole COVID-19 started in China. We had the first impact in the first quarter there. Meanwhile, China is actually back almost to normal, at least for the IFF business. We see it in terms of our sales. We see it in terms of our manufacturing plant, the labs and even the nonessential workers, everybody is back to work. We see that our customers are returning with new projects to us, and we take this as a good proxy for some of the other businesses. If I stay for a moment in Asia, certainly, business as usually in Australia and New Zealand and some of the other smaller markets, but heavy impact on India. India came later to that -- to the COVID crisis. We had a big impact in different parts of it. One is the internal consumption of the country, which was down, but also in terms of supply chain, because for the F&F industry, India is usually a very, very important exporting market. So far, I can say we are back with manufacturing. We are back in our labs. We are exporting goods again, but demand is still a bit soft and disrupted by different parts -- in different parts of the country. I talked to many of our customers, and they see it the same way. So we will see how India develops over the next couple of weeks and when it comes back to normal. Moving to Europe. Europe is opening up. You probably have seen it that, in particular, Continental Europe will open the borders, or has it already done now, will open it mid of the month. So we are seeing a return to normal as well. More new projects are coming in. Sales are hopefully then recovering, and we hope that we can see the same development as we have seen in China. In the U.S., most of you are probably U.S.-based, so you know what the situation is here. I think the opening up of the economy will help, particularly on the Food Service side, but also Fine Fragrances when shops are opening again. The center of the pandemic, despite India, is now Latin America, and we have seen weak trends in Latin America in the April-May time frame. We will see how long it lasts, and then Latin America will come back. What we have seen in general is that the companies and our customers trend to bigger brands. They try to resource them because they were in the center of the attention of the consumer so far, and we have seen also very, very solid and robust trends. I hope, Mark, that gives a good, let's say, 30,000 feet overview of where we are at the moment in terms of the industry.

It does. I wanted to follow up on a couple of things. So one, in the press release, you talked a bit about some weakness amongst smaller local regional customers. So I wanted to have you comment a bit on what that means for the acquired Frutarom business, which, if memory serves, was better than expected, I think, in the first quarter. So is it fair to say that, that business is performing negatively in the second quarter? How should we be thinking about that on a go-forward basis in terms of your visibility on that business?

Look, I would say, if you look at smaller customers, we have seen some weaknesses. And we have seen it in Tastepoint, in general, that's our platform for the smaller customers. And we will see how fast the smaller customers are coming back. In Frutarom, we have seen these trends going with the smaller customers, but we have elements of the business which are actually very strong. It's the Ingredients business. It is all the Health Ingredients business, which is very strong because people are really trying to eat some of the more fortified food here. So it is a very diverse trend for the legacy Frutarom, depending on what kind of category you are talking. And Savory Solutions was very strong in the first quarter. There's a lot of seasoning, in particular, in Europe, which was sold to the meat industry and to butchers as well. And we see an okay trend in the second quarter as well. So it depends which category you are talking. But in general, I would say, smaller customers around the globe are a little weaker than the bigger ones, challenged by their supply chains, maybe challenged because the consumers are looking at the center of the store and the brands they know when they go into the store and they don't stay too long there. So I think it's important that a company like IFF is very well balanced in terms of the customer portfolio, in terms of big and smaller customers.

Got it. Okay. And you also talked about currency-neutral sales for the roughly 85% of the business that is packaged food, beverage, hygiene, disinfection categories, representing 85-or-so percent of the business, was up about 3% quarter-to-date, which was, if memory serves, a little bit weaker than 1Q. Maybe can you talk a bit about what you're seeing in trends as far as what drove the bit of deceleration? How much of that is inventory levels, destocking and restocking amongst largest customers? And how you think about that progressing?

Yes. That's -- I think it's a great question. Unfortunately, it's not super easy to answer, but let me give it a try. What we see is Consumer Fragrances are strong double digit. And here, in particular, as you said, hygiene products, whether that's hand sanitizers or everything which is related to dishwashing, very, very strong. We see, in our business, good trends still in terms of detergents and the like. But what I heard from customers is that this is leveling off a little bit so that people are certainly not washing more than they've done on a regular basis, and there's certainly no more pantry loading. And I think this is flattening out as a trend. What is still strong, as I said, is our disinfectors, but also bar soaps, for example, they have a very, very good trend. And that is seen actually across the globe. On the Taste side, I would say everything flavors-related for packaged food, still very good. We see good trends in terms of, let's say, yogurts, for example. Yogurt flavors are selling very well. Everything related to potato chips is going very well. It's kind of an interesting trend. I don't think that, that will stay, but it's there. We see some of the weaknesses on quick-service restaurants, but I touched on this with the Food Service. It hopefully will come back now with the opening of the economy. I can't give you any idea how it is in China these days, but we will actually, week by week, observe it very, very well because that's a good business for many of our customers as well. So that's how we would see what is still strong is also food protection, which is we have a Natural Food Protection business, which is basically increasing the shelf life of products. That's going very well. We see robust trends for us volume-wise on colors. And also our ingredients business on the Flavors side is pretty strong. I hope that gives even a little bit more of a detailed view here.

Yes. That's very helpful. And just lastly on the near-term demand, so Fine Fragrances, I think people generally understand what you were commenting on as far as driving weakness from a demand standpoint. But as we look out and start to see the world reopening at least gradually, have you seen any improvement in that trend through the quarter? Any idea from an inventory standpoint, how much your customers, meaning the big beauty houses, are holding? And how quickly do you anticipate that to improve? Obviously, I'd say it is in part for its sales, but also partly because of the outsized impact it has to profits given higher-than-average margins.

Yes, absolutely. Look, on the inventory, I can't talk too much, but what we see is that we're getting in more projects. We had a couple of more wins as well. Many of the customers on Fine Fragrances are holding back until the shops are reopening. And a big indicator for us will be now Europe because they have their shops opened in the last, depending on the country, in the last 1 to 2 weeks. So we really have to follow it. I haven't seen too much of a pickup right now, but that -- this is really observed week by week. I actually believe we have seen the weakest phase of Fine Fragrances so far, and we will see it here in the U.S. as well because BBW, for example, they're starting to reopen their shops. They have actually shifted a lot of their sales to online as well. And we see a bit of an uptick here as well. So I can't give you too many details, but the next weeks are really defining moments how quick this is picking up. Maybe one remark is on Fine Fragrances, the strongest season is certainly towards the end of the year. But still, I think we are holding our breath what's happening in the next couple of weeks in terms of the demand. So that's where we are. But I believe actually and I'm cautiously optimistic that we have the worst behind us.

Okay. That's great. Now let's shift on to the pending acquisition of DuPont's Nutrition & Biosciences business. So maybe just start with the near term. I mean, obviously, you didn't expect a global pandemic when you were negotiating the deal in the fall. Anything changed as far as the ability to discuss integration or to get behind whatever you had laid out as far as the revenue and cost synergies? And any just general updates on how things are progressing so far?

Yes. No, actually, amazingly enough, in almost all of our work streams, we are on target and on time. Even with some of the regulatory approvals, you have seen it, we cleared U.S. regulatory process already. We got it approved. We basically filed in the U.S. and China. We're expecting actually relatively soon answer in Europe, which is good. We are preparing for the shareholder vote, and certainly, for the debt financing as well. The markets are liquid, and I think we have good discussions with our bankers on that one, so that's progressing very, very well. You might have seen 3 weeks ago already we announced the leadership team. We are here much more advanced already than we were in our Frutarom acquisition 2 years ago. So I think that's going actually very, very nicely. We are preparing for the cost synergies and the revenue synergies already. The complexity of the deal is actually very manageable. It's a big deal, but I think we prepared well. And in particular, on the cost synergies, we do less on manufacturing consolidation than we have done in the previous one, which makes it easier. It's more driven by overhead cost reductions and reductions on procurement, where we were very successful in our last transaction. So all in all, I'm actually satisfied where we are. And if you account for the pandemic, actually, we are more advanced than I had hoped for. And you have seen that the business is a very stable and resilient business as well. Funny enough, it's exactly the same number, 85% of the business is basically resilient and is an essential business, which gives us a good base for these 2 businesses despite that we are in that crisis right now.

Okay. And actually, I just want to stay on that piece, I had another question. But we'll hop around a bit on the DuPont business. So what do you attribute some of the weaker performance in '19, and obviously, to your point, the improved trends in 1Q that DuPont announced for the business? And how do you then think about the ability for the business to grow at that low to mid-single-digit rate, which would be the expectation on a go-forward basis?

I can't comment too much on '19. It was a bit of an exception also when you look into the path of the business. What I can say and then we are looking very detailed into the first quarter, we have seen really fantastic trends on probiotics. And that's not a big surprise. We see it with our Health Ingredients as well because gut health and staying healthy and preparing your immune system is very much on top of mind for many of our consumers. We have seen good sales on food enzymes and cultures, obviously as well for the same reason as we see it with packaged food. Yogurts are selling very, very well because people stay at home and eat more of these categories, for example. On the home and personal care, exactly the mirror of what we have seen in terms of our trends. So a lot of demand on the detergent side or on the dishwashing and cleaning side here as well. So that's certainly a strong piece. You see a very stable Pharma Solutions business with probably a bit more demand than usual because people are buying more pharmaceuticals, in particular, painkillers, and that's where excipients and some of their solutions go in. So that's a pretty good part of the businesses as well. And then if you look at the food protection business, same trend as for IFF. And protein solutions are in high demand as well when you go more towards the plant-based solutions. So all in all, many very resilient and good categories where you see weaknesses, which is not a big surprise, is the businesses by refineries or some of the microbial control, which goes outside of the regular food and household care industries. So that's how I would describe the portfolio for now. And it's actually good to know that you have a resilient portfolio here as well. In terms of the regional trends, very comparable with what you have seen in IFF, and I commented that at the very beginning.

Okay. Great. And so shifting more to the merits of the deal. So one of the things that we hear or are asked most often is the cross-selling opportunities of what will be the new IFF in the future and whether it's reasonable for customers to pay the same amount which they're paying both to IFF and to DuPont for effectively a broader suite of product offerings, so you provide more. But the question is, can you get paid the same for more? So how should investors think about the ability for new IFF to recognize those? And inclusive of that, you've obviously talked about revenue synergies on the deal, which just happened to be larger than the cost synergies which you outlined, so if you maybe put that all together for us, I think, would be helpful.

Sure. Absolutely. Just to remind everybody, we had announced round about $300 million in terms of cost savings and $400 million in terms of revenue synergies, which is certainly, if you look at the bottom line impact, they're still lower than the cost synergies. I would love to have it at the same level. But unfortunately, it's not the same but it's a good revenue synergy number as well. And we looked at actually the portfolio of the company, and let's say, similar -- not similar, but deals and transactions, how much we can take out, out of the cost base. I think we are more on the lower side here. On the cost side, we go after manufacturing, but it's just 10% of it. We go after procurement, which is the biggest piece, and then the overhead costs. Here, we looked at the setup of the company, our previous experience, and we believe it's very, very doable. We certainly have internally a higher target. We have made with the Frut acquisition actually good experience on the procurement side, and we believe we are very, very well prepared to get the synergies in. Let me switch from the cost synergies to the overall revenue synergies. Here, I would like to step back for a moment and say, it's not just the cross-selling, it's also the technology. If you look at the 2 companies and the combined companies, we have the best technology portfolio in the industry where -- industries where we are playing. We have the highest investment between $500 million and $600 million in R&D investments. We have more than 9,000 patents. None of our competitors in each of the fields comes close to it. And why I'm saying this? Because we have reached out as we can as it is legally allowed to many of our customers and asked them what they expect from us and what's their view and take on the deal? Actually, we haven't talked with none of them about price, and none of them came back. But almost everybody came back and said, hey, by the way, you are now our #1 technology partner. Let's look what can we do together. And when you bring your technology portfolio together, what does it mean? How can you enhance even our performance? Some of them even have asked us, can you combine -- can we combine lab space and co-develop and invent some of these solutions we need because it's so important for us, whether it is in the culture space or in the enzyme space or any of the others. And we've already, let's say, 3-party agreements where we have the DuPont business, our business, and the customer who has explicitly asked us, can you, in terms of plant-based proteins and the flavorings, already work with us? We certainly have to do it at the arm's length. We need certain agreements. But it's a -- I take it is a good sign that the customers are actively asking us. So what does it mean? That means that if you go to the customer portfolio, we have now more than 50,000 customers, which is, again, the biggest customer universe any of our competitors have. And the overlap is probably mixed between 15% and 20%, which means that the opportunities to cross-sell some of the IFF solutions into legacy N&B customers and vice versa is very, very high. And that's how we set up the organization as well to make exactly that happen. That's number one. Number two is that we look at the differentiated or integrated solutions where we can do a complete plant-based burger or a complete cold water laundry detergent because we have all the ingredients, literally, to put it together, maybe with exception of the packaging. And what we have seen in the last couple of years, a trend which started in food with smaller companies asking us, hey, can you not do the whole thing for us? To now even coming bigger customers because they say, then we can shorten our development times, and even going from food to the household care area as well. And that actually is -- makes us very optimistic that we can create here a business which can't be too easily challenged by any of our competitors because none of them have all of the ingredients. And even if they would do a deal, they never could rebuild this in one move. And we believe that gives us a really nice first-mover advantage here compared to many, many other competitors. So that's how I would describe it. And coming back more to your point on pricing, it was not a topic so far. And we have talked to many customers, and we even have now, let's say, a customer study ongoing which is run by BCG for our 25 customers, what we have to do to make sure that we are their premier technology and product partner here.

That's great. And somewhat related to it, so you obviously can't comment on what your competitors may or may not do in response, but the deal itself was the largest deal in however you want to define your universe, flavor and fragrance ingredients, integrated solutions, that there ever was. And so there clearly was some speculation on what that would potentially mean. So how, from your standpoint, do you manage the business should there, let's just say, not be another wave of consolidation amongst the competitors in the space, and therefore, you have smaller companies on kind of both sides of the legacy as well as the new business that can be -- can make it more interesting as a statement, more nimble, quick, responsive than then perhaps IFF could be as a bigger entity. And have you thought about what that means as far as your ability to compete? Have you already seen some impact around the businesses from competitors who are looking to take advantage of the disruption that it will or is ongoing?

So Mark, we haven't seen any response of the competitors so far, and it's probably a little too early. We will see. In terms of the nimbleness, I think it's a very good point. We have to be careful here how we organize ourselves to make sure that we stay nimble as a company. And that's the reason why we have formed actually 4 divisions. One is Pharma Solutions. One is Scent. One is Health & Bioscience. And one is Taste, Food and Beverage. And they have actually, in terms of their customers and how they put their products together, a quite good independence to move forward to make sure that we are not becoming, let's say, too unresponsive to many of our customer requests. And in the contrary, that we have these 4 relatively nimble and good units to deal with their customers. And we are keeping actually also 3 of these units are relatively intact as they were before to make sure that we have some stability in the business because we want to drive our base business as well. So it has different elements, and we believe we are in a good shape here. We have also formed 2 groups which are reporting in to me, which are new for us. One is integrated solutions, which is basically working or should function as an incubator for these solutions. And we have put Greg Yep in charge to -- who has good experience from the CPG field to make sure that they can come up with these solutions and work with the customers before they hand it over then to the divisions. So I think that will create good responsiveness on our side as well. And the second group is the commercial excellence one, where we really want to make sure that we have the best trained commercial people scientifically and sales-wise and that we have the best systems in place and make sure that we are really moving forward in the right pace here and in the right quality as well.

Okay. Great. And just want to get you out of here on this one last question. So current environment, we've heard a lot that retailers are pushing the suppliers, the consumer product companies to focus more on the highest volume items. Is that something you're seeing? Does this potentially harm the innovation pipeline or schedule a bit that IFF and its peers bring to the table? And how quickly do you think that, that can normalize and you can get back to producing innovation in conjunction with you or your customers?

Yes. Excellent point in this environment. We have seen it actually, probably the most end of first quarter, early second quarter, where everybody was scrambling to get the, let's say, supply pipeline together and make sure that these big demands we received as well from our customers we can satisfy. There was less work on new projects. But [Audio Gap] back to normal. In many instances, it's certainly depending customer by customer, but many of them are already preparing for the next move, preparing for the next move of product offerings. Some of our customers are also looking, okay, a recession is coming. Maybe we need more value products, again, in our portfolio, which is okay for us, by the way, because we receive in the bid process, our price and engineer our products toward that price with a built-in margin. So that's what we see and that's what's the trend. And I would say the project pipeline is coming back actually nicely, and in some instances, even with big demand, again, and I think we talked earlier about hand sanitizers, which is pretty amazing.

Well, that's great. I think we are out of time. So Andreas, Michael, Michael, thank you guys very much.

Thank you, Mark. Pleasure.

Thanks, Mark.