Lonza Group AG (LONN) Earnings Call Transcript & Summary

Good morning, and good afternoon to everyone. Welcome to the 39th JPMorgan Healthcare Conference. I'm Richard Vosser, European pharma analyst at JPMorgan. And it gives me great pleasure to introduce Rodolfo Savitzky, CFO of Lonza, to this presentation. Before I hand over to Rodolfo, I remind you that if you would like to ask a question during the Q&A portion of this session, then you can use the Q&A function at any time to submit your question and then I will ask your question at the appropriate time. With that, I'd like to say a big warm welcome to Rodolfo. Rodolfo, over to you.

Thank you, Richard. Good morning, good afternoon. The fact that we are having our JPMorgan Conference virtual is a reminder of the dramatic impact the COVID pandemic has had on the world and on all of us, but this pandemic has also challenged us to work in ways we didn't think possible before. So in May 2020, we signed a strategic collaboration with Moderna on their M&A portfolio and more importantly, on the COVID vaccine. Two months later, we were producing small-scale drug substance for the vaccine. And during this quarter, in 2021, we will be producing large-scale drug substance equivalent to 400 million doses. Now this has been done in less than 1/3 of the normal time it would take to build up the facilities, ramp them up and these for a technology that was completely new to launch at that time. Now let me switch to the Slide #1 in the presentation, meaning the first one with more information. And for those of you who are not familiar with Lonza or for those who are, just a reminder, these are 2019 numbers. We are -- we have not yet published numbers for 2020. And you see there gray boxes with the group statistics close to $6 billion sales, 27.4% CORE EBITDA margin. Then on the right-hand side, you see the portfolio composition of our company. 70% in the Pharma Biotech & Nutrition segment, 30% in Specialty Ingredients. Now as many of you know, in the last half of last year, we announced the divestment of the Specialty Ingredients segment. We're in the middle of the sales process. And so what is more important for us today is to concentrate on the Pharma & Biotech segment. We become a pure-play pharma services company. And here, the statistics relevant to this, which is Lonza, but now excluding LSI, you see them in that group. So sales over $4 billion, CORE EBITDA margin of 31% -- slightly above 31%. And for me, what is really more important is not so much this static figures for 2019, but the momentum, the progression of the business. If you look at the top-left corner, this business has been growing at a rate of 12% per year during the period 2016 to 2019, and in our recent guidance, we have communicated a double-digit average sales growth until 2023, and this is a pretty much maintaining accelerating the momentum that we have had. Now in the rest of the presentation, as you can imagine, I will focus on Lonza, excluding LSI. Let's turn to the next page. So we are the leading contract development and manufacturing organization in the world. But what makes Lonza different? On the one hand, we have presence across all key modalities and sub modalities. We provide end-to-end services. We have a global footprint. But what is really important is our expertise in engineering, manufacturing, regulatory and quality. This is what truly differentiates the company. In addition, our flexible manufacturing and commercial programs that adapt to the different customer needs. Now if you would ask one of our customers, what does Lonza stand for? And by the way, whenever a pharma company or a biotech, they need services from a CDMO, 3 out of 4 would get a quote from Lonza. They would say, it's the quality, the reliability to solve truly complex manufacturing problems. So with this, I move to Slide #4. And for those who joined us in October for an analyst update, you've seen this slide, it provides a split of our revenue by the different modalities. And it also provides the picture of our new divisional structure. So at the top, you see the different -- what's the percentage of the pharma sales from each division. And then the squares below the different division provide an indicative reference of the size of each of these soft modalities within the division, but definitely, it is not done at scale. And here, you can see -- I mean, I just referenced one, Biologics is close to 50% of the company. And here, we have a particularly strong and leading position in Mammalian manufacturing and bioconjugates. And what's really important -- of course, we all look at the bigger boxes in the slide, but it's also very important to look at some of the either smaller boxes, some don't even have a box, like mRNA, where we have a leading position through the collaboration with Moderna in terms of manufacturing mRNA, the vaccine in the future of the project. And then we have, on the bottom right, personalized medicine in cell and gene therapy, where we see opportunities for significant growth in the future. Now I would like to cover all the modalities, but of course, we have a limitation in terms of time. So I select just a couple of the major divisions, the major business units and just provide some highlights on what do we see our key strategic priorities for these divisions and business units. Let me start, and now I move to Slide 5, with Capsules and Health Ingredients. And here, the market has -- is expected to grow around 2% to 3%. And this is a combination of, let's say, growth in the underlying Pharma segment and then a bit more accelerated growth. So this is on the lower end of the range and a bit more accelerated growth in the Capsules for Health Ingredients. And here, the growth, and I'm sure you have heard it in our presentations, it's accelerated by aging population, particularly an aging population which is very keen on healthy living, boosting the immune system right, this is something that has been sparked by the developments of last year. And within this context, Lonza will grow ahead of market, and this is quite an impressive number in the context that we have a leading market share. We have over 40% market share. And in order to maintain this type of growth over the coming years, there is a couple of things: First, we need to continue to expand capacity, adding Capsules lines as needed. I mean this is normal. And since this is a more competitive segment, it's very important, it's absolutely critical that we maintain our competitiveness, our operational efficiency. But the truly important strategic priorities is to maintain quality leadership and our leadership in innovation. We are continuously introducing new products in the Capsules segment, also in Ingredients. Just for example, we introduced last year, double-blinded capsules. We introduced an organic colored capsule. And on the quality side, I think that I -- that it always amazes me, we produced 230 billion capsules per year. And in most of our facilities, we can visually and digitally check each capsule, each of the 230 billion captures to make sure they comply with all the quality requirements. Now let me shift to the next slide, Slide #6. And here, we talk about Small Molecules. Here, we need to remember, and most of you know, this still is one of the most important segments in pharma, representing 70% of sales, and it has over 6,000 clinical programs going on. Now this is a segment which is a bit more commoditized. We see growth rates of 4% to 5%. And here, Lonza is competing on the more specialized segments within Small Molecules. So the highly potent APIs. Therefore, we expect to grow almost at twice the rate of market. By the way, when we have these projections of growing twice the rate of market, these sales are underpinned by partially already contracted demand. So a significant portion of these sales has already been contracted. Now here is an area where we also see that in the clinical pipeline and some recent product launches, formulation is an issue. Solubility is an issue. 70% of these molecules have a solubility problem, so enhancing bioavailability becomes very important. And so in this segment, we offer drug substance, particle engineering and formulation, and we do that for preclinical, clinical and commercial programs. And with all that in context, what are our strategic priorities? Well, first, we want to retain our leadership in particle engineering where we hold a 15% market share, and we want to continue to invest in happy manufacturing where we see accelerated rates of growth. And by the way, almost 30% of new molecular entities are happy. Now importantly, our focus is shifting to smaller companies as well as bigger companies, but we're prioritizing smaller companies. And in many of these cases, 65% of new molecular entities, they're on an accelerated pathway. And here, why it's important for the smaller companies in such a pathway is to make sure you have access to particle engineering, drug substance manufacturing and formulation. And Lonza is one of the few companies that can provide this portfolio of services and particularly for complex Small Molecules. Let me now shift to Mammalian, our biggest division, and here, we are present pretty much across own scales, and that makes us different, right? We're in large scale, 20,000 liters; mid-scale, 6,000 liters; and small scale 2,000 and 1,000 liters. And while we see accelerated growth a little bit ahead of the statistics that we see for the market, 7% to 8% in the small and medium-scale, we still see significant sustained demand for large scale manufacturing. We also see an increasing pipeline of complex proteins, like by specific antibody-drug conjugate, fusion proteins and so forth. And so here, we are expecting to grow almost 50% ahead of the market, and as mentioned in the case of small molecules, a significant proportion of these sales are already contracted. So the projections are underpinned by already contracted demand. So with all of these, what are the strategic priorities in this area? We see a lot of opportunities for growth. So it's continued to invest in capacity, and we will do that in different formats, more traditional capacity as well as our modular facilities that we call Ibex. Of course, we need to continue to lead in process excellence, accelerate efficiency and productivity to improve titers, reduce cost per gram, this is very important. And we continue to pioneer in the new technologies like continuous manufacturing perfusion, N-1 perfusion, and so forth. Now here, another important priority. We would like to expand our offering. Currently, we offer fill and finish for clinical manufacturing, we would like to expand that in the future to commercial manufacturing as well. Let me now switch to Cell & Gene Therapy. We are in Slide #8, and this is one of our fast growth categories. The market is expected to grow by 20% per year. And here, of course, the majority of the pipeline is with small companies, and the majority of the pipeline is preclinical or Phase I and II, like 90% of the pipeline is in these stages. The segment, of course, is experiencing exponential growth. So the expectation is to go from a handful of approvals in 2019 to almost 20 approvals this year, and by 2025, we will have between 70 and 90 approvals. Now the dynamics in this specific modality are different, right? A lot of the treatments are for small patient populations. The clinical efficacy of the programs is established early, and then many of these programs are on a fast track designation, right? And so with all of this, manufacturing is in the critical path. So getting the right manufacturing partner becomes absolutely accretive. Here, we are convinced we are the right partner, and of course, our critical priority here is, first of all, we will continue to grow ahead of market. And the only challenge in general in this industry or in this segment, sorry, is to industrialize the process. The processes are still very artisanal, and this is in general for Cell & Gene Therapy, given the newness of this modality in a way. So for us, critical priority is to improve on operational excellence, improve on cost control because a key priority for us is to make sure this modality becomes profitable by the end of this year. And then, of course, given these growth rates, we need to continue to invest behind growth. That means assets, but very importantly, for this specific modality, bringing talent in and making sure we train and retain the talent. With that, I shift to mRNA, and here, I briefly mentioned it at the beginning. So I just touch on this slide. We have a strategic 10-year collaboration with Moderna. The highlight, of course, is the vaccine. Most of you have heard about that, but it's on their overall mRNA portfolio, which have over 20 programs in the clinic. Now let me switch to the next slide, and this provide a little bit more detail of my introductory remarks, right? So we signed this collaboration agreement in May, and then this was for 4 manufacturing units. These units produce the drug substance, all the elements from the mRNA, the lipid nanocapsules and the encapsulation. One of the units is in our Portsmouth, USA facility, and then 3 of the units are in Switzerland. And then are of each of these units the expectations to produce around 100 million doses at 100 micrograms per dose. Now here, you have the time lines 2 months after signing the strategic collaboration. As I mentioned, we were producing the first small batch out of Portsmouth. In November, we started shipping large-scale production of drug substance right out of Portsmouth, and we had the first shipment of drug substance, small scale out of our first manufacturing unit in this. And the idea is that during quarter one this year, we will face the ramp-up of the 3 units in this. How could we manage these in time lines, which are roughly 1/3 of what it would normally take? It's the expertise from being present in different modalities that we could reapply in the mRNA technology. And very importantly, the fact that we have modular facilities like Ibex, which could accommodate in short notice these 3 manufacturing modules in Switzerland. I mean if we wouldn't have had Ibex, the time lines that we have achieved wouldn't have been possible. So let me switch now to a question around our financial model, and here, it's a combination, right? We have heard in the sample of divisions and modalities, we have huge opportunities for accelerated growth, and that means we need to invest like we did for the Moderna mRNA. We need to invest behind assets to support this growth. And here, our growth projects are highly attractive, right? They typically have rates of return of over 25%. They translate into a growing of 30% once the stakes are ramp up. And importantly, these growth projects, as I mentioned in different presentation, in many cases, the sales are already derisked because they are partially contracted. Now our financial model has 2 elements, right? It's investment acceleration of ROIC and then margin progression. So for that, we need to make sure we leverage our base business and continue to grow the base business through improvements in throughput. We have a lot of operating leverage there because a significant proportion of our costs are fixed. And then we continue with our operational improvements in efficiency programs, of course, in the growth projects, but specifically in the base. So the combination of driving operating leverage throughput and efficiency in the base allows us to invest in growth projects, realize this attractive ROIC and at the same time, improve ROIC and margin. Here, you have a picture, by the way, of our Ibex modular facility. This is one of the big investments we have in Switzerland, where we build the frame, the structure. We have the shared services and then we can accommodate modules for different customers, depending on their specific needs. I go quickly through Slide 12. You'll see the world map, and you'll see a lot of colors there, different dots, which shows the modalities on which we are investing and I just mentioned a few, fill and finish for clinical in Switzerland, Mammalian clinical manufacturing in China, mid-scale in Portsmouth with AstraZeneca were investing in Switzerland in a highly potent API manufacturing. So you get a sense of the palette of projects that we have. We're also investing in bioconjugation in Switzerland and so forth. This leads me to my last slide, and I see that we are more or less compliant with the time. And this is about the recently communicated guidance for 2023. We communicated that at our analyst update in October. So basically, the guidance is that we will drive double-digit average sales growth over -- obviously, we don't comment on 2020. We're in the blackout period, but in '21, '22, and '23, right, achieving a CORE EBITDA margin between 33% and 35% by 2023 and double-digit growth for that year as well. What's important for me is, this is an ambitious guidance, of course, but it's not a new trajectory, right? It's a continuation of the trajectory we have delivered from 2016 to 2019, and you have the statistics there. We saw them in one of the initial slides, we have grown 12% on average per year during these 3 years, and we have improved margins between 2016 and 2019 by close to 3 percentage points, 2.5, and this is very consistent with what we are targeting to do in the coming years. Very importantly, ROIC, which is one of our important metrics here, we know that if we do all this right and if we continue to accelerate ROIC, this translates into also improved shareholder -- total shareholder return. So many thanks. Many thanks for attending this presentation and your interest. And now I think we move into Q&A. We don't need to change rooms, right?

Not this time. Thanks, Rodolfo, and Dirk, welcome back. We have some questions already. Maybe the first one is building on what you were saying in terms of the growth potential. In order to secure that growth potential, you need to do investments. So maybe you could give us a little bit of an idea of the trajectory of those capital expenditure and OpEx investments over the coming years to secure double-digit growth. How we should think of the shape of that improvement in the margin?

Good, very good. So very important first question. Thank you, Richard. So we showed in -- not today, but in the update in October that the -- if we look at 2019, the CapEx level for the pharma business was around 16%. For the overall group, it was 13%, and for pharma, around 16%. Then at that time, we have said, look, we will maintain the CapEx levels in '21, '22 at roughly the same levels as 2019. And here, we're talking 16% to 18%. So the idea is to keep that level of investment. Again, if anything, we're likely to go a little bit higher rather than lower because we saw many opportunities for, let's say, attractive growth from an investor perspective, from an internal rate of return perspective. Then what we see in general, and this is just an average, when we take the investment, the OpEx associated with the investment is between 10%, 15%. And some of these OpEx, of course, comes relatively early in the program. We need to staff the facility, start training the people, so this is the dilutive effect on margins ahead of sales coming online. And so some of that we will see, but as I mentioned in the presentation, we will try to offset with efficiency in our base business. And then when it comes to the margin trajectory, we have said, on the one hand, is not linear, but on the other hand, is not a hockey stick. So we will see as we close the year and as we communicate our guidance for 2021, again, the idea is and we said it at the time in Zurich, across the different divisions, the guidance is improving margins to different degrees. With the exception of CHI, where we say the idea is more maintained at the high margins, is that, in general, we will seek to have gradual improvement in margins until we reach the 2023 goal.

Very clear. One of the things you touched on, a lady has a question on the monoclonal antibody market growth, and you touched on sort of Mammalian growth and growing ahead of the market. This person is sort of asking, did you see an acceleration in the monoclonal antibody market growth, and -- as a result of COVID? And do you still think you can grow ahead of that by 50%, given it's accelerating?

So first, I don't have any statistic where I could confirm that the market has accelerated. I couldn't confirm that. So in terms of the second part of the question, I mean, we're very confident on these sales projections because in this specific case, particularly of Mammalian manufacturing, most of these sales are already contracted, right? And we have a very rich pipeline of programs that eventually will also be contracted. So in terms of our level of confidence on these growth numbers is extremely high, probably the way to turn the question around is, would the market, for whatever reason and it may not be COVID, but maybe we saw some positive news from Alzheimer's, very recently from Lilly where there would be new indications there, I think the way to think about it we are confident that we could outgrow, continue to outgrow significantly in the market. So there may be upside opportunities in the future, right? But of course, we need to also make clear that capturing these opportunities, you don't do it from one day to the other, right? So here, the planning is more long term. If you start building a new facility or whatever, the results of that will only happen -- will start to happen in 2 or 3 years' time.

There are a couple of questions on capacity of the industry here from people. The first one, and I'll run them together. The first one is asking, how do you view the competitive landscape changing with the rise of Chinese and Korean players? And then the second one is sort of more looking at overcapacity for the industry and thinking about the 2025 period and saying, do -- should we worry about overcapacity when new capacity comes online from those Chinese and Korea players in that sort of time frame? And should we -- how should we think about maybe pricing in that environment?

So let me start with the overcapacity. So look, in general, again, this is very empirical. We have a lot of kind of research in terms of supply and demand. Of course, we know that it's not only about external supply, there is a lot of in-house supply in pharma companies. So you need to take the overall supply, right, that you have available. And I would say, the best way to assess that is more on an empirical basis. And what we see empirically meaning in terms of the number of customer requests that we see, the number of programs that we have access to, we see today a very, very healthy demand. And when we talk about that, again, we're talking a time horizon of, call it, 3 to 5 years because this is the, let's say, just to set up these programs we're talking about these time line. So yes, it's true. We are seeing a lot of -- I mean, people are seeing the attractiveness and the demand in the segment. There is people -- some of our competitors are also building capacity, but I would say, in the -- what I call in the medium term, and this is related to some of the time lines we have talked before around the midterm guidance, let's say, in the next 3 to 5 years, I do not foresee an overcapacity situation. Now again, each player has its own distinct positioning. I mentioned that in our presentation, what makes us different is we play across not only a broad range of modalities, but within certain modalities across a broad range of scale. For example, this is true for Microbial, but this is too importantly for Mammalian. So when you talk about specifically Chinese and Korean competitors, we take them very seriously. They -- but they are competing in some parts of the space while Lonza is taking a more holistic approach. Finally, on the question of pricing, it's going -- it goes hand-in-hand with the topic of firstly, the overcapacity topic, but very importantly, also what drives demand in the CDMO space. And in general, for the modalities that we have discussed, which are Biologics, complex proteins, complex Small Molecules, is not a commoditized market. People are more interested in achieving accelerated time lines to market progressing efficiently and effectively their clinical programs. And so what we see, it's a very high interest on quality and reliability into a much, much lesser extent than interest on pricing. So the combination of lack of capacity, right, at least pragmatically over the next few years, and this is true for many of the modalities we talked about. The emphasis on quality expertise, accelerated time lines, I think the combination of all of this definitely does not lead to a situation of high pressure on price.

I mean the feedback I hear from the market, and I suppose this is more short term, but you can't book capacity at the moment. It's really difficult to find mAb capacity, and that's probably the same a lot -- across a lot of the industry. So is it actually the other way around that capacity is quite tight? I know it's a different time frame, but is that...

Yes, Richard, this makes the question, I mean -- and it's a very important question that you asked. I mean could you play the other way around. I think that's what your question is leading to. I mean is this the time to price up? Look, I think here, we value the long-term relationship with our customers, right? It's a space where, in many areas, we are the player. We have the expertise and the capabilities, and of course, that gives you a lot of pricing flexibility, but this will be very short-term oriented. So we try to make sure we capture the right value that whenever we disclose our financials with the customers, they see it's a fair capturing of value between the different parties. And so in that sense, we don't take short-term tactical pricing moves.

Very clear. A couple of questions on Alzheimer's. It wouldn't be a Lonza session if there wasn't. They're basically sort of looking at the outlook, for you, for the industry, if Alzheimer's was to have a breakthrough from -- we had Lilly announcing something at the beginning of the week. So that's top of mind, I suppose. Maybe I can run into that and just run into that with the COVID therapeutic antibodies. I think you have a partnership with Astra as well. Just -- is that -- I know we've got vaccines, which is great. So maybe there is less demand for the antibodies, but how should we think about that as well?

So look, here, again, this -- all of this would come on top, right? So we need to still see if the program -- the Astra program for COVID, the level of effectiveness for that particular treatment. Alzheimer's, again, we need to see what are -- I mean, this was from what I read in the press, right, a small clinical trial. So these are preliminary results. I think what's important is, again, we -- with our program of Ibex, and these -- the example clearly is Moderna. So we build these big infrastructure, big shells, which can house really all different types of biologic modalities and biologic scales. So this gives us a head-start in terms of if we really need to ramp up something, we have that flexibility, which is unique in the loss amount. So in the case of Moderna, we wouldn't have achieved the time lines had we not had Ibex in Switzerland. Of course, in the U.S., we could accommodate because we had a unit which was readily available, but that was more suddenly. It was not planned for that, right? And so when we think of programs like Alzheimer's or even expanding production for AstraZeneca COVID antibody, the fact that we have the expertise in the -- and the flexibility in the infrastructure makes us a good partner.

Very clear. A person here, a lady is asking about your revenue split between large and mid-stage biopharma companies?

Between large...

And mid and small biopharma companies, sorry I misspelled.

Well, look, we don't provide breakdown by customer. I would say, when it comes to commercial manufacturing, by definition, you will be -- let's say, you would have a relatively high share of big pharma companies or large midsized companies, right, in the revenue stream when it comes to clinical programs is primarily or in the vast majority are small biotics, which fits the pharma landscape, right? We see that 80% of the pipeline, no matter where you look, is coming from small biotechs.

Very clear. Just going maybe back to Moderna, and you talked about the first shipments last year and the ramp-up of the new 3 lines in this. Maybe -- if you can maybe give us an idea of timing of shipments or timing of production, anything you can help us out with around Moderna. And I suppose Moderna have also thought about expanding that -- well, there's -- they've gone up to 600 million doses that they've said, and maybe they want to go higher. How should we think about that from a Lonza perspective?

Yes. This, of course, I can understand the high interest for many reasons on the topic. And absolutely, it's the topic where we have to be careful with what we communicate because we have a partnership with Moderna, and our partnership is for the manufacturing of drug substance out of these 4 units, and this, we need to make it very clear. Moderna, they have their full manufacturing scope, and that we don't discuss indeed. So they have their internal manufacturing capacity, right, and we don't discuss that here. And so what I can say and confirm here is, by the end of quarter one, we will be manufacturing, let's say, at commercial large-scale across the 4 units. This is a clear expectation and everything points that we're absolutely on track to relieve that. That's drug substance, right? Then it goes to Moderna, our partner, we still need -- they still need to formulate, fill and finish and so forth. And again, the yields ultimately will vary, right, because it's a new process, we need to see what is the upside from a yield point of view. And I don't want to comment on that, but of course, what's relevant here is that when we talk about 400 million doses, it's a reference point, right? It depends on the efficiency and the yield, you could end up with slightly different production goals.

Makes perfect sense. You touched on there the fill and finish. And earlier on in the presentation, you -- in the past have outlined a hope to move into -- from Mammalian, more fill finish. I mean how should we think about your approach to do that? Of course, we've had Capsugel, which is sort of maybe more Small Molecules, but just thoughts there as LSI leads the group?

Yes. So we have -- I mean, definitely, it's a space where it would be easier if we could have access to commercial fill and finish facility. You get, let's say, trained personnel, you get the facility, but these assets are rare, at least from our perspective. So we continue to consider if we find the right inorganic opportunity, we'll definitely consider it. Now here, it's very important the quality of the asset. We need to make sure it complies with the standards or is consistent with the standards we have in Lonza, otherwise, it's counterproductive. In other words, we do see a path forward. I mean we have clinical fill and finish now out of several facilities. So we have the in-house expertise, and it's just a matter of scaling it up to commercial manufacturing. So if the right opportunity doesn't come up in the right time frame, we will most likely pursue it organically.

Very clear. We're at the top of the 40 minutes. So I'd like to say thank you very much to Rodolfo for a great conversation. Thanks to Dirk. Thanks, everyone for joining us. I hope everyone has a good day.

Thank you very much, Richard. And thanks, everyone, for your interest.