Phibro Animal Health Corporation (PAHC) Earnings Call Transcript & Summary

Thanks for joining us today. My name is Balaji Prasad. I'm the senior analyst for the specialty pharmaceuticals coverage. Firstly, I should say that I'm absolutely delighted to have this session in person for the first time. The wheel has come at full circle for us today with Barclays being the first one to go virtual 2 years ago, and we are happy to be back in-person today. So thank you all for making it to the session and especially to our corporates. So to introduce our first session of the day, we have Damian Finio, the CFO of Phibro, a very interesting livestock company, which is on an inflection towards companion animal. The format is going to be around a short presentation, followed by a quick fireside chat. Damian, over to you.

Good morning, and thank you. I am not only excited to not be on a Zoom call, but I am excited to be one of your lead batters here at the Barclays 2022 Global Healthcare Conference. As he mentioned, I'm Damian Finio, I'm the Chief Financial Officer for Phibro Animal Health. If there's 3 things I want you to take away from today's presentation, it's one that we may be new to you, but we've been around for an awfully long time. [Audio Gap] The company has been incredibly stable even in the last 2 tumultuous years; and third, we see growth opportunities down the road in the short term with 2 of our product lines for Animal Health being nutritional specialties and vaccines, and over the medium term, we're excited about moving into the companion animal space. So with that, let me tell you a little bit more about us. As I mentioned, the company has been around for a while. We've been in business since 1946. We manufacture 70% of our products across 12 sites. We have over 1,600 product presentations, over 1,700 employees, and we sell in more than 80 countries. Although we've been around since 1946, we've only been public since 2014. Our majority shareholder is the Bendheim family. Jack Bendheim has been with the company since 1969. He's our Chairman, President, CEO, and again, owns 50% of the company. The company has evolved over time, and I'll just point out a couple of highlights. 1946 we started as a chemical company, 1974 is when we [indiscernible] Animal Health with [ massive ] acquisition of animal nutrition assets. Year 2000, we bought a medicated feed additive's business from Pfizer. 2009, we bought a vaccine business from Teva. 2019, we entered the companion animal space with our first product called Rejensa. When we went public in our S-1, we laid out 7 strategies of growth. As you can see with all the green on the right, we've delivered on every single one. We're now selling in more than 80 countries versus 65 at the time of IPO in 2014. Our vaccine net sales increased from $29 million to $73 million, representing a [indiscernible] increase. Nutritional specialties, which is still one of our drivers today $52 million to $143 million. We improved our direct sales model, 17 more countries which helped increase sales in those countries from $30 million to $67 million. Gross profit increased nearly $100 million from $179 million to $271 million and [indiscernible] our gross margins by [ 520 ] basis points. Our product presentations went from 1,100 to now being more than 1,600, and we increased our customer base to [ 3,725 ], again, around the world in more than [ 80 ] countries. Over that time, the balance sheet got stronger as well. So when we went IPO, we had a net leverage ratio of 4.5x and it's now down to [indiscernible]. Our liquidity was $78 million, it's now $245 million. Our dividend per share was 40% (sic) [ $0.40 ], now increased $0.8 to $0.48. And you can see the fruits of our labor is also in the P&L. We grew net sales from what was $653 million to our current guidance for fiscal year '22 [indiscernible] guidance of $890 million to $920 million of sales; adjusted EBITDA of $110 million to $114 million versus $76 million we delivered in [indiscernible]. We look at our business in I would say really 3 segments, although you see 4 on the slide. So in Animal Health, our biggest segment, we have 3 product lines: MFAs and other, nutritional specialties and vaccines. We also have a Mineral Nutrition business that works very closely with Animal Health. Then we have our legacy business [indiscernible] product and our fourth bucket is corporate and those are our corporate expenses that we [indiscernible]. If I break down sales a little bit further, you can see by segment across those 3 major segments I just mentioned, we mentioned 2/3 of our business is Animal Health, 26% is Mineral Nutrition [indiscernible]. Very spread by region as well. We're leading in the U.S. with about 59%, you see the percentages across the other countries. And although Asia Pacific is just 7%, it's also our fastest growing [ market ]. By species, we like to be [ species ] agnostic. We're not there yet but we're getting there, but you can see how we're spread pretty evenly: poultry, dairy cattle, beef cattle, swine and other is where we [indiscernible] companion animals [indiscernible]. So we're concentrated in the U.S. in poultry, but as you can see, we're much more diverse than that. And the diversity has improved [indiscernible] public which was part of [indiscernible] talk a little bit more about Animal Health. Again, our biggest segment which is roughly 2/3. You can see that we grew net sales from $385 million to [ $546 million ] over that time. MFAs and other medicated feed additives was $304 million, it's now $330 million. We've lowered our concentration in medicated feed additives since we went public. It was about 80% of the Animal Health division when we went public, about [indiscernible]. And adjusted EBITDA rose from $83 million to $124 million. [ I ] mentioned at the start that we're excited about our companion animal portfolio. We did launch Rejensa. Rejensa doubled its sales in the second half of the fiscal year, last year versus the first half, planned sales was double again in fiscal year '22 over fiscal year '21. We're about halfway through our fiscal year. We have no plans [indiscernible] product is doing very well, and will do even better as veterinary clinics begin to open back office to get back [indiscernible]. In development, we're excited about a product we have in derma care. We have 2 products, one is oral care for cats, one is oral care for dogs and have a novel lyme vaccine [indiscernible] product as well. We're also actively talking with other companies about opportunities in companion animal space. I mentioned we have [indiscernible] do a deal and given this is one of our medium-term growth drivers, we're excited about that. As you can see these are big markets. But just to manage expectations, we don't expect this to help us grow [indiscernible] we'll take more money, more investment to get these products to market. As you start to see our R&D expenses climb over the next few years that's actually [indiscernible] commercial opportunity that we're excited about, and we can enter into these markets where the majority of the profits in Animal Health, as I'm sure you know, reside. Real quick, I mentioned about Mineral Nutrition, I mentioned that it works very closely with Animal Health. They share a lot of the same customers. If I was to use an analogy, I'd say these are helping the minerals and the vitamins that help an animal have a fortified diet. It's much like going to like the GMC or the vitamin shop for a human. So those are the types of products that we sell in Mineral Nutrition. This segment has also grown from $203 million to $221 million, and EBITDA has grown $12 million to $17 million since IPO. I would mention though that the dollar amounts in this business really go up and down with commodity prices. So the costs will get higher, the sales will get higher, where mostly its passed through a distributor. So the numbers you have to look a little bit deeper to understand what's going on, but things will go up and down quarter-to-quarter as commodity prices go up and down. That same phenomenon is true with Performance Products which is our legacy business. Again, this is when we were a chemical company back in 1946. This division is small, but it operates very autonomously from the rest of the business. We sell products, as you could see, they're mostly copper-based products for personal care for use in coatings, metal finishings, industrial applications, et cetera. So again, really different from the rest of the business, but it operates separately. And the numbers here have grown as well. Again, modest growth over time, but you can see the growth in adjusted EBITDA. And as I mentioned, the profitability will go up depending on commodity pricing. If I go to financial performance for fiscal year '22, we just had an earnings call in February, where we announced our second quarter and first half of the year results. And we talked about 3 key themes or 4 key themes at that time. One was our best sales ever in a quarter. So I mentioned we've been around 75 years. It's 300 quarters. Our last quarter was the biggest sales we delivered at $233 million, which was a 13% improvement over the same quarter prior year. Adjusted EBITDA margin also improved 12.5% in the second quarter versus 10.5% in the first quarter. Some of that was our ability to pass through freight costs, some of it was our ability to take price increases where we could. So we saw some of that drop through the bottom line and hope that that will drop more to the bottom line in the second half of the fiscal year. We raised our guidance up to $890 million to $920 million of sales, and we rated our earnings per share guidance as well, up to $1.30 to $1.39. We kept our adjusted EBITDA guidance where it was at $110 million to $114 million, just reflective of the cost increases that I'm sure you've heard about, whether it be labor, material costs. We're doing our best to manage this like everybody else in our industry. So I would say we're doing well, but we wanted to temper our expectations and keep adjusted EBITDA where it was at the start of the year. And lastly, although the Omicron variant is definitely behind us. You feel that here in Florida this week, which is great to see and be part of. But it's still a risk, right? We don't know what we don't know. So I have to keep putting it up there on the slide and remind people. And where it shows up in our industry the most is just getting people to come in to work and have a shift. We haven't had any production issues since the start of COVID, knock wood, and hope to not have any in the future, but we are seeing supply chain disruptions, and we've taken some actions to control our supply chain where we can. In terms of financial performance, I won't run through all these numbers, but I'll tell you a little bit about what you can glean from them. Top left, consolidated net sales were up 11% for the first half of the year. But what's really encouraging about that, at the bottom left you see it broken down by region, we're seeing sales increases across all regions. So it's not concentrated in just one. And then if you look to the right at Animal Health and the product lines within it, Mineral Nutrition performance products, every single one of those numbers is positive. So we're seeing sales no matter how you slice it, increasing across the board by region, by country, by segment, by product line, which gives us, again, a good feeling about the future. Looking at net sales, again, we're up to $890 million to $920 million is our guidance, $142 million to $146 million is before our strategic investment. So I wanted to make mention of that as well. So our strategic investments in 2020 were $24 million, they're now $32 million. So we're choosing to put about $8 million of incremental dollars back into the business to help grow the companion animal portfolio and in the area of vaccines and nutritional specialties, which I mentioned were our growth drivers. So had we chosen not to do that, you would see a bigger increase in our 2022 guidance for adjusted EBITDA, but that's been a conscious choice to invest in our future. And then lastly, if I could leave you a [ bit ] of what we're most excited about is at some point, I would hope to be back here on stage at Barclays in Miami or wherever you may have your next conference and talk about our newest product line, companion animals. Right now, Rejensa rolls up into nutritional specialties. It's only one product, so we don't typically report by product. When that product gets big enough and there's a couple of other products we have on the market in companion animals, our plan is to move that out and form the fourth and newest leg to the stool, if you will, of Animal Health with companion animals. So with that, I will close the presentation and then we can move into Q&A.

Thank you, Damian. Thanks for that overview. I think in the interest of time, I would focus on probably 2 or 3 major issues affecting. I think, firstly, being a livestock company, you're probably more exposed to macro issues or inflation, supply chain than most of the companies. So in the light of that, how do you feel about guidance, which you raised about one month ago? And in one month, I think the world has changed dramatically. So I just want to get -- start with that.

No, I think that's a really fair point. And the way we look at the increases in cost, if I -- we don't feel it in sales really, as you can see our sales line is increasing, and we're confident in sales because we're able to take price. And we took more price this year than we had planned, which is why we increased our guidance, where we feel the pinches in cost of goods. So if I look at cost of goods and break it down a little bit further, there's labor and then there's the material cost. Labor, there's puts and takes. We have a higher vacancy rate than we had planned, so there's some savings there. And that helps to fund additional overtime for people who are filling in for those who -- a job that's taken or people who don't make it into work. So labor is not necessarily an issue with us at the moment, knock wood again. But what is the issue is more around material costs. We've grown our inventory levels about 40%, dollar terms, since the beginning of COVID. And although part of that's sales line, part of it's input cost, part of it's volume, too, and we've done that, so we can manage through supply chain disruptions. But we're at the moment, where as you mentioned, material costs are going up even more, so that decision gets even harder to try to decide because some of that's going to show up in the P&L today. Some of it's going to be sitting on your balance sheet and inventory, and it's going to be -- have to work its way through the system, right, as that inventory bleeds out over time. So we're doing what we can to manage inventory levels and manage input costs, and that's the way that we're going after it. Last thing I'd mention is freight cost. So I mentioned we're trying to take control over some of our freight. We operate in 12 manufacturing facilities, right? So a lot of our freight is intercompany freight. So in some routes that we have between say, our Quincy, Illinois facility and our Omaha, Nebraska, it's about a 5-hour drive. We've decided to lease trucks and get our own drivers and stop using LTL carriers as an example. There's other lanes that we're trying to get some economies of scale. In the past, a lot of our segments have operated autonomously. We have a global logistics project underway to try to kind of consolidate some of our shipments across segments, which we haven't done in the past. So there's some things we can do internally to take control and help monitor those costs. And what we can't do, we try to pass through in the form of a freight surcharge.

Understood. Thank you. So from what I get, top line is fairly intact, you're comfortable, costs is where you'll probably have some challenges. And could it have some consequent impact on the strategic investment you plan or is that also intact?

It could at some point. Right now our plan is to continue to invest for the future rather than sacrifice the future for the present. But again, I think that's a conscious choice. As you mentioned, things have changed a lot in the last month. With an increase of interest rates on the horizon here, we'll have to see what that does to the economy, right? So it may change again in another month or so. It's a fluid conversation that we're having internally. So very aware of the challenges.

Understood. One final question on the macro side before we switch over to companion animal or livestock, something which I guess I expect to be asking every other company. What is your net exposure to the Russia and CIS regions?

Yes. So we don't report sales by country. We do have some exposure. We sell very little in the Ukraine. We do sell to Russia, although not directly. We use a distributor that's actually based in the U.K. So technically, we're selling to a distributor who then ships to Russia. As you know, right now, not much is going into Russia. So although I can't disclose sales to Russia, I will say it's in our region, which includes the Middle East and Africa, that's about 14% of our sales, which I showed on an earlier slide. So Ukraine and Russia are part of that region, which as a whole of the company is about 14%.

Understood. And I want to shift over to the companion animal side of the business. And as you've seen over the last 1.5, 2 years or historically, it's always been the faster growth segment. Phibro has, for the most part, missed out this growth. But you are recognizing this and having a strategy shift and focus towards companion animals. You have Rejensa in the market, and you also spoke about the pipeline. So maybe let's start with Rejensa. How is the product doing? And what is the cadence that we should be expecting from this product and in terms of contribution over the next couple of years?

Yes. So there's a couple of things there. So you can fact check me on this. I don't know if this is true, but someone told me 80% of the profits in Animal Health are in companion animals. So that's a pretty compelling story, right? And we're all watching the Zoetis numbers, and I wish I'd be here on Thursday to see the presentation by Wetteny. But -- so we know that companion animals is the place to be, which is why we launched Rejensa and why we're excited about it. Rejensa is doing well. It was a new product. So what was tough during COVID is trying to get in to introduce a new product. A lot of the growth we're seeing are these reorders and slowly growing the customer base. We'll continue to do that. A lot of people ask us, are you building a sales force. And the short answer is right now, no. We're using an exclusive agreement we have with one of the bigger distributors. Of course, we have to pay them a little bit of a premium to give our product attention. But right now, it's a win-win for both of us. So we're happy with that. If we have more products, we'll decide what we want to do from there and maybe you have a hybrid model, you bring it entirely in-house. Again, that's a decision that will have to be made later. But the product is doing very well and mostly because we're opening up new clinics, and we're seeing a lot of repeat orders, which is really good. So market share continues to increase. Again, we don't give numbers per product. Not big enough to pull out yet into its own category, hopefully, again, at some point, it will be. But it continues to grow. So percentage growth, doubling what we did last year, and that's embedded in our guidance that we updated last earnings call.

Understood. And with regards to the pipeline, you called out your atopic dermatitis product. Could you give us an idea of what stage it is in currently and at what time you'd want to enter the commercial?

Yes. Like as I mentioned, just to manage expectations, these aren't short-term contributions. These are more medium term. So when I say medium term, I'd say more like 3 to 5 years. There are other discussions, as I mentioned, underway. As you can imagine, the valuations are quite high and the multiples are quite high to do a deal in the companion animal space right now. So for a product our size or a company our size and liquidity we have, we're kind of leaning towards earlier stage products. They're a little bit cheaper. The valuations aren't as crazy. The multiples aren't as crazy. It's a bit more affordable. Of course, there's a little bit more risk there, but there's a risk-reward that we're trying to balance. So we tend to lean more towards early-stage product opportunities, and they would be more than likely product license opportunities. So we're hoping to close a few more of those and just continue to add to the portfolio. But again, it would be more of a medium-term driver, not short term.

Understood. Shifting gears towards livestock, I think Q4, we saw swine prices in China weaken. And it is also a core rebuilding story happening over there in China with swine, up to nearly 400 million swines were culled. So where are you in that part of the -- getting back into the growth trajectory in China? And you had a whole host of registrations happening, so currently what phase is in? And so both from China swine industry perspective and where you are in participating in that rebuilding?

Yes. Okay. So let me start with 2019. So we had about $40 million of business in 2019, which we have lost, right, when the registration -- we lost the registration, there were some other regulatory changes. Since then, we've been trying to get back into China. Good news, our registration in China for swine was recently accepted. Now, whether -- when we hear back from them, not sure, honestly, and I don't even want to speculate. So we're not sure. But as I mentioned, Asia Pacific as a region is a growing region outside of China as well. So we hope we'll be back in swine. We don't think we'll get back to the $40 million that we had in the past when the markets change to -- our product has reduced label that it had prior to -- since 2019. So we don't expect to get to $40 million at least for that product in China. But as you said, the herd is building. We do have a company that we're codeveloping a vaccine for African swine fever with. Again, the progress of that project has been slowed because we can't visit China. So although work continues, it progresses at a rate slower than we would hope, but we hope that things will change, and we can get back into China at some point. Again, now the geopolitical environment, not sure when that would happen. So even if COVID is no longer a concern, there's now other concerns. So again, a lot up in the air, but we continue to plug away an African swine fever vaccine.

Understood. So China, so could it potentially impact your 2023 -- fiscal 2023 numbers?

Yes, I think it's in that medium term. Maybe even a little later than what you just said.

Understood. And African swine fever vaccine, so there were a couple of instills which were advancing this, one in Philippines, a couple of Canadian instills and then you had couple of Western -- Midwestern instills advancing the vaccine. So is it fair to say that every one of them have slowed down just because I think many have complained that they have not been able to get the access to the trials in China?

The majority of our development is occurring in China because you can't take the virus out of China. It needs to happen in China, right? So again, that's why it's delayed for us because of the access to China.

Got it. Fair enough. And shifting gear again from swine to poultry, again, international poultry has had a volatile past over the last 6, 8 quarters. And then you had your own vaccines. In terms of contribution to growth for 2022 and beyond, how is poultry stacking up?

So poultry is doing pretty well. We like to say if our customers are doing well, then normally we're doing well. So keep in mind, our costs to a farmer are a small portion of their feed costs for their animals. We like to think that we're almost like insurance. So the more that their feed costs go up, the more investment they have in their flock and then their herds and the more needs there are for our products. So generally speaking, our customers are doing -- they're profitable, although I know some things have changed in the last month. So that tends to bode well for Phibro, and we tend to sort of ride by that way with them. Poultry overall is doing pretty well. We did hear, I should mention, of an avian flu case at a farm in Delaware. I'm sure you read about that a few weeks back. From what we hear, the biosecurity at farms -- commercial farms in the U.S. are much stronger than they are in some of these less developed countries. So from our -- what we've heard from our farmers, I guess, and our customers is they're concerned, of course, but not overly concerned and that was a one-off case. They're taking measures they can so that there's not a spread. So we think poultry will continue to be a driver and a big part of our business.

Got it. Understood. So avian flu is manageable in your view?

That's what -- that's what we're hearing.

Great. Last question from me. I think Mecadox, you had a hearing on March 10. Any updates that you can provide us there?

There's no update. I did listen in to the hearing. You heard people that were pro Mecadox, people that were against Mecadox, we'll see where it lands, and we'll see what we hear back. We did mention that if there -- they wouldn't just take the product off of the market, we would have a chance to appeal. It was really just a hearing to hear what stakeholders have to say not a trial per se. So we thought it went well from our side. We'll have to see.

Got it. Do we expect an update sometime this year at all?

I'm not sure on the timing. But certainly, we will update the market when we know.

Understood. So with that, Damian, thank you so much for your time. And it was a pleasure having you here.

All right. Thank you.

And I wish you a good rest of the conference.

All right. Pleasure to be here. Have a good rest of your conference as well.

Thank you.

All right. Thanks.