Prestige Consumer Healthcare Inc. (PBH) Earnings Call Transcript & Summary

Absolutely delighted to have Prestige Consumer Healthcare here again. And we've got CEO, Ron Lombardi; and CFO, Christine Sacco. So thanks for being here.

Look, just to get started, for those in the audience who are less familiar with your story, can you tell us a little bit about the main subcategories and the brands that you operate in within consumer health? And any sort of differences between those subcategories that we should be especially cognizant of?

Sure. Thanks, Ian, and thanks to everyone for joining us this afternoon. So I guess let me start a little bit talking about the brand portfolio, right? It's often easy to kind of level things up and talk about categories. And we're in women's health, we're in cough/cold. We're in GI, we're in ear and eye care, but it's really not how we think about our business and not how we think about managing it. We really think about our individual brands, and they're all very much uniquely positioned. So when we talk about women's health, we have Monistat and Summer's Eve, which are 2 very different propositions. We talk about ear and eye care. We've got Clear Eyes, which is a leader in redness. We've got TheraTears, which is unique for dry eye treatment, and we've got Debrox, which is earwax treatment. So even though they're under that umbrella category of ear and eye care, it can be very different. So broad portfolio that has broad and deep connections with consumers over long periods of time. They're trusted brands that consumers reach to time and time again to take care of their health needs. In terms of anything unique going on, we really think about the uniqueness of each category and what's going on these days. So in our women's health category, we've talked about the recovery of Summer's Eve. We spent a number of years trying to reposition the brand to be more broadly thought of as part of a beauty and daily hygiene regimen versus its roots in feminine hygiene and odor, and that didn't really work out so well for us. Say, as marketers, you try things and not everything works like you think it would. If it was, it'd be on autopilot, I guess. But -- so we feel good about the progress we've made there. The Monistat business has been really stable and back positioned to growth for a while. The eye care category for Clear Eyes and TheraTears are doing great in terms of takeaway at shelf. We've talked a little bit about some supply chain challenges we're getting through with Clear Eyes and the impact that, that will have on this year. But the brand continues to be well positioned. And then if you go deeper across the portfolio, our GI portfolio with Dramamine and Gaviscon are doing well these days. Again, consumers are looking to take care of all aspects of their health, whether it's preventing motion sickness or treating heartburn up in Canada, where we have the Gaviscon brand, along with some new products that we continue to roll out in those categories, we're doing well. So...

Thanks -- can you give us a little idea of, I guess, the scale of your business, historically, how the collection of brands came together? And what sort of growth profile you've enjoyed in recent years?

Sure. So if you go way back to 2010 or so when I joined the company, our OTC, the consumer health care part of the business was maybe 40-ish -- 45% of the business. We had a big household cleaning business. We had a personal care part of the business. So we've been on a long journey to jettison the household cleaning and the personal care and even some smaller consumer health care brands that weren't well positioned. So back in 2017, when we completed the Fleet acquisition that brought Summer's Eve of Fleet into the portfolio, then the jettison of the household business and some other consumer brands, we really got the portfolio positioned to be aligned with a 2% to 3% organic growth outlook. We also built out a meaningful international business based around our Care Pharma business that's been growing very nicely as well. So if you look back over the last 5 years or so, as we got into COVID and that have come out, our business has actually grown above the 2% to 3% CAGR during that time frame as a number of our brands really benefited from the changes in what was going on with consumer habits during that time as well as continued new products and innovation introductions into brands like Dramamine, as an example, BC and Goody's has expanded and grown nicely during that same time frame. So we've been able to reposition the portfolio and deliver organic growth of 2% to 3%. I think the other thing that's noteworthy around that level of organic growth is that even during the periods where we saw the most dramatic inflationary impact, our 2% to 3% or so is being driven 2/3 price, 1/3 volume during the highest periods of inflation and price increases. So we weren't seeing volume erosions at any time as a result of price increases that were happening across our portfolio. So we stand out in a lot of different ways from other CPGs or even some other personal care brands and businesses that might be compared to us.

And just talking about kind of other brands and businesses that you might be compared to. I suppose one of the big themes over the last couple of years has been that we've really seen this investable consumer health universe emerge, and that could be yourselves becoming more of a focused consumer health portfolio. And then obviously, some of your peers have come out of pharma companies in recent years and kind of stand aside. And one of the big debates is that structural growth profile of the category. Now clearly, you're very anchored on that 2% to 3% as something that you think is kind of achievable and sustainable. Some of your peers are targeting slightly faster growth rates. Is that largely a function of their geographic footprint, just that they have a bit more emerging market exposure and that kind of stuff or is it a subcategory mix, or how should we think about that?

Yes, there's a couple of differences in whether you compare us to one of the 2 spinouts. One of them has more of a beauty and skin care element of it and personal care element of it that can grow faster than our kind of health care-oriented, "I'm sick and I need to treat a disease" state. And then both of them clearly have much broader geographic expansion, which may provide access to faster-growing regions as they evolve, right? We go way back to the brick high growth. And then it's not brick anymore. I don't know what it is, but South America...

Beyond [indiscernible].

Yes, yes. So those are like, I'd say, the big 2 differences, certainly the geographic differences. And then the differences in some of the categories that they're focused on.

And just turning back to your own portfolio. Are there any particular brands or categories that you'd identify as being real growth drivers within your 2% to 3% at a group, sure, but is there something that really you kind of think can do for us?

Yes. So the international business is part of our long-term growth algorithm. We would expect to grow 5% to 6% over the long term. If you look back over the last 5 years, it's grown much, much higher than that due to a number of factors. So we're stepping off of explosive growth and still expecting 5% or more organic growth. And then if you get into the North American spaces, eye care is a fast-growing space for us. So our Clear Eyes and TheraTears brands are, I think, well positioned for growth above the 2% to 3%. So I think we start with those couple of call-outs.

And what's the root of that kind of opportunity in eye care? Is it just it's an underpenetrated category? Or is there kind of something else going on?

There's a couple of things. First is, I think the changes that have stuck after COVID, more video calls, more screen time is causing eye irritations. And then I think there's a building awareness of just treating dry, tired, irritated eyes. We met with somebody this morning who said, "Up until recently, I was reluctant to put a drop in my eye. I didn't care for it." And he said, "But my eyes got so dry, couldn't stand at anymore. And then I realized why had I waited all these years to treat my eyes with simple OTC, TheraTears." It was the call out in particular there. So I think people are -- their habits are changing and awareness to treat is out there.

Thanks very much. Well, changing track slightly, perhaps. I think there's a perception that one of the challenges that consumer health companies have faced historically has been e-commerce. Given that a lot of time, especially when it's an acute care offering, customers kind of want immediate relief, you've clearly done quite a bit with omnichannel in recent years. How is that playing out for you? What are the learnings from that?

Sure, Chris, why don't you...

Sure. Great. So the omnichannel for us has actually been an incredible strength and somewhat to our surprise after COVID. So when I joined the company back in fiscal '17, the omnichannel was 1% of our sales. And we always attributed it to exactly what you said, the acute immediacy of the need. But we knew that people went online for content, which is huge for OTC, right? We can get you on that screen and tell you everything you need to know right there. So we invested a lot behind it. Back in fiscal '17, we brought teams in-house. And little by little, we just kind of made inroads. And as we sit here today, now the -- online is now about 15% of our sales. It's grown very well. We actually over-index online from a share perspective. A lot of that is attributable to the content. If you're my age or older, maybe you think of Googling things, but you learn very quickly that most people Amazon it now. So your child gets head lice, you go online, you don't know what to do. And that's where the content is really important, and we can steer you towards purchasing. And what we found, even brands like Monistat, actually do really well online, which we were quite surprised with the stickiness of that after COVID. Either folks are willing to wait a day or you know, I have recurring infections, and I'm going to make sure that I have subscribe and save where I'm going to make sure that I have it available to me. So for us, it's been a real competitive advantage, we think, the unlimited shelf space also gives you access to some brands you may not have heard of, if you haven't needed it, but a brand like Stye, which is a leader in taking care of styes in your eyes, you can find it online, and it's readily available. So that's been a win for us as well. So it's really been a tailwind as opposed to a headwind for us.

That's really helpful. And perhaps a slightly sort of nearer-term question, I guess, but you flagged earlier, you've had some supply chain issues in your eye business. Can you dig a little bit into what's going on there what's being done to resolve it and the kind of, I guess, both time frame and cost. I mean we can all see what's happening to your CapEx, but just give us a bit of a walk through how we should think about that issue?

Yes. So what happened with Clear Eyes, we like to say, Ron, has been here for 15 years, and I don't want to call it the perfect storm, but we are dual-sourced with 2 different suppliers for Clear Eyes. They each had separate issues that caused them to experience some supply chain, some lack of production for several weeks. One was an upgrade -- looking to upgrade capacity. Clear Eyes has had tremendous demand from the beginning of COVID even all the way through. So we were looking to make some capacity investments there. When they came up back online, it took them longer to get back up online. The ramp is taking longer than we had anticipated. They're not yet back to the pre maintenance item that they did in terms of production coming out. The other was also looking to get ahead of some FDA regulation work. And had a media fill failure, which sterile eye care, not easy to make. You have to test this facility and make sure it's still sterile before you begin producing. So they were down for several weeks. They were both down at the same time. And we also were not in safety stock levels that we would prefer just because of the demand prior, which is obviously why we were investing in some capacity. Both suppliers are up. They're running, they're manufacturing. We talked on our first quarter -- our fiscal year end is March 31. We talked on our first quarter call about some increased freight costs because we were air-freighting Clear Eyes in. We're continuing to air-freight some. We're also putting some on ships. So we'll work through that. It's temporary. But as of today, they're operating as expected, in line with the guidance that we've put out there, and what we've talked about on our Q1 call.

Thanks very much. And sort of stepping back a bit, I suppose. I want to -- we're actually having this conversation earlier, you normally get a theme out of a conference and what's kind of coming out of this one. And I think something that we've heard from a fair few companies is that the U.S. consumer is coming under a little bit of pressure, but it appears to be quite selective. It's not all income levels of the consumer. It's not all categories. It feels quite selective and complex in terms of what's playing out. So I'd be fascinated to learn, firstly, what you're seeing in terms of U.S. consumer behavior, but secondly, how you think about the defensiveness of your categories in a downturn?

So for -- to start with that, what we've seen over the last year ago is that the shoppers in our categories response to inflation, whether it's higher prices for the things we're selling or in our categories or just generally high prices across food and things that they're buying is that consumers are looking for better value. So they're changing maybe where they shop or how they shop. So we're seeing drug channel foot traffic and sales dip a bit, and they're heading to mass and online. We're seeing dollar in our categories continue to grow despite some recent announcements that maybe the dollar channel sales aren't doing so good, not so much in our categories. We continue to do well in that channel. So consumers continue to look for and reach for the trusted brands when they look to take care of their health or someone in their family's health, but they're looking for better value and looking to shop at different places. So that's what we're seeing so far.

And just thinking about previous consumer downturns, how would you think about how well insulated your categories are, I guess, if we have the consumer kind of continue to turn south, I suppose?

Yes. So if we go back to 2008 to 2011-ish or so, the last time there's been a bigger economic kind of pressure on the average consumer. Again, what we saw across the brands that we had back then and/or had data for was that people, again, continue to look for those trusted brands at maybe a different price point, a different size, a different count, buying it in a different channel. We didn't see any change in the competitive landscape. So people weren't reaching for different brands or different offerings like private label. Again, it's really the last place you look to save a few pennies or a dollar when you're in a category once a year, once every 3 years, twice a year. It's something serious that you're looking to treat.

Fair enough. And perhaps looking outside the U.S., you've been building out that international presence for a fair few years now. I think it's about 15% of your business or thereabouts, but growing pretty quickly. Firstly, I'd be fascinated to learn any particular opportunities there you'd highlight. But secondly, the consumer health route to market famously can vary quite a bit from geography to geography. So how does that play out in terms of how you arrange your business, how you think about accessing the consumer?

Yes. So our international businesses are run independent from North America. So we have a small business based outside of London with a dozen or so people working on a small portfolio of brands there. And it's, in a lot of ways, the same playbook as the U.S. So Ultra Chloraseptic and Murine eye care products and DenTek, which is the bigger brands over there. They're brand-building, they' advertising. They're bringing new products to market. They're showing up at Boots and working with them to talk about how to be more successful in those categories and grow them. Our big international business is anchored around the Care Pharma acquisition we did back in 2012. With Hydralyte, which is a brand we always talk about, it's growing meaningfully, it's the big brand there, but we've got another dozen or so brands that are managed out of that Care Pharma business that are all doing well in addition to Hydralyte. And again, same playbook, which is Fess, Hydralyte, Zaditen, anchor the categories that they're in, help define them, and they look to grow those categories. They bring new products. They market in a way to continue to connect with consumers. So it's consistent in terms of the approach, but the specific tactics are unique to the brands and the geographies, and ultimately, the consumer and where they shop. So that's the common theme across all of our businesses, which is talk to the consumer, learn as much as you can about what they're looking for, and where they look for it and deliver against their desires.

So changing tack again slightly. You've done a decent job deleveraging recently. I think you're probably about 5 turns net debt to EBITDA a few years back and below 3 turns now. What do you think of as your target balance sheet medium term? And I suppose linked to that is that one of the themes from some of the other consumer health companies has been that they're looking at potentially disposing of some sort of smaller assets. And I guess what might be a smaller asset for some of your competitors, might be a bit bigger for you just given the relative sizes. How do you sort of assess the potential attractiveness of any assets that would become available? What's your sort of screening process?

Yes. So let me break that up into a couple of parts. Maybe I'll start with leverage and capital allocation optionality. And then maybe I'll let Phil talk a bit about the M&A side of things. So we're at the lowest level of leverage in the company's history. We were close to 6 as we were in our phase of building scale. We're highly acquisitive in the first 7 years that I was with the company through 2017, 2018. And then in response really to the market not being appreciative of highly levered companies back in '18, we said, we're at a phase, we've built up scale that we'll begin to delever and get ourselves to a level of leverage that the investment community is more comfortable with. So we headed down that route and back in -- for the quarter ended December last year, we printed our first sub 3, I believe it was, leverage. And what that does is it gives us lots of value-creation optionality going forward, right? And the way I like to frame it is over the next 4 years, we anticipate having $1 billion of free cash flow to do something with. We've got about $100 million of prepayable term loan left to go. So that's kind of a couple of quarters for us to deal with. We've announced, back in May, a $300 million long long-term stock buyback program authorization and that we're going to continue to think about being active in M&A to continue to look for the right kind of additions to our business. So that new low level of leverage really positions us quite differently than we have been over the last 4 years. So Phil, why don't you talk about our M&A criteria and how we think about the pipeline.

Yes, happy to. And Ian, you're exactly right. We've seen a consistent pipeline of M&A opportunities. It's some of the larger companies that you mentioned looking to prune or divest from their portfolio. It's also private equity continuing to buy and sell as they always do. And we've also seen a fair amount of family businesses looking to sell maybe a brand that they held for a number of years. So it's really come sort of across the spectrum. I mentioned we continue to see that consistent pipeline even in this year. So that criteria that Ron alluded to, we go through a pretty methodical M&A sort of screening. For us, it's really kind of a 3-part funnel that we work through. The first is really a strategic aspect around does a brand or a portfolio make sense for us, and we go through the list of is a brand have heritage, efficacy, connection, long-term connection with consumers? Is it differentiated either versus branded competitors or private label? Is there an opportunity around innovation or increased marketing to drive long-term growth? And any brand or portfolio we look at, we're really looking for it to be additive, equal to or additive to that 2% to 3% long-term organic growth profile that we have. So 90% of the things that we look at will end right there. That's a fairly detailed list that we go through to screen a lot of things out. It also has to fit synergistically with the categories that we participate in. So we look for brands and the characteristics of their categories, but does it fit with kind of the organization and how it overlaps today. So typically, brands will be OTC in nature, sort of that consumer health care lens, sometimes medical devices, but in that world. And it ties to the kind of the second pillar -- or the second funnel part of the funnel of the strategy is really operational overlap. So I just kind of alluded to that. It can also be a geographic overlap, channel overlap. Are they similar going into mass, drug, e-commerce, et cetera, for us. And then synergies, is there an opportunity there to capture G&A, other things as we go through that screening. So once we get through all that, the third piece is really financial returns. Just like every good company out there, we're looking at return on invested capital. We're thinking about things like EBITDA multiple and other financial return and valuation metrics, but we really go back to that ROIC, looking for it to be in excess of our WACC over time. That's how we think about M&A. So historically, we've paid between, call it, 8 and 12x EBITDA, which is a metric I think most people will look at, and we've seen sort of consistent opportunities out there that would trade in that sort of a range.

That's really interesting. And I guess, thinking about that sort of strategic change in consumer health theme. I suppose one of the questions that springs to mind is does the industry continue to consolidate medium term, I suppose. We've had a number of assets that have been squished together in recent years? And secondly, if so, what does that, combined with the fact that we appear to be seeing a number of pharmaceutical companies continue to assess whether they are the best long-term owners of their consumer health businesses, does that have any implications both for competitive intensity, but also M&A availability in terms of the deal flow that you might be seeing medium term?

I think in a lot of ways, it's the same themes that I've seen for 15 years, whether the consumer health care businesses are embedded in a big pharma company or independent on their own, they're still trying to do the same thing, which is find opportunities that they can invest behind that will move their needle. And I think no matter whether they're consolidating amongst themselves, as we saw in the Haleon roll-up, right, before it was spun out of GSK or just the J&J franchise coming out, they're still looking to do that same thing. And I think it's going to result in them evaluating their portfolio and their opportunities so that they can focus on bigger things or bigger geographies or faster-growing categories. And it will continue to create opportunities for things to come out to the market, whether they're looking to invest in bigger things or divest to have fewer tail brands, it ends up in the same thing, which is creating opportunities in the M&A environment.

And perhaps one -- just again, sort of jumping around a little bit. But thinking about how the consumer is evolving. And I think you talked about channel shift a bit recently and omnichannel kind of becoming more of a thing than it had been. Does that increased shelf that you get in an omnichannel environment, does that have any implications for innovation, both in terms of making it easier for you to launch things, but also perhaps kind of reducing the barriers to entry across the industry more generally? I'm just interested to think about what that could mean for how SKU proliferation looks like going forward.

Yes. The growth of the dot-com business, whether it's Amazon or the dot-com of any of our brick-and-mortar partners, really can be helpful for new products and innovation launches for a couple of reasons. First is you can launch things on com that aren't tied to a shelf reset. So you don't have to time things such that you hit that one window every 12 months. And if you miss it by 2 months, then you got to wait a whole another cycle. So it allows you to get things going and get them out in the market and learn from them. And I'll give you a case in point. We launched a freeze technology for Compound W for wart treatments, and it was very unique at the time, and we launched it on Amazon first because of just the timing of the product. And we were starting to get feedback from consumers that the instructions and the directions on how to use it were a little confusing. They weren't sure. We saw it in the reviews. We saw it in the calls into our call center, the 800 number on the back of the box. And it gave us a chance to get in, evaluate it, put a video online on the compoundw.com and also update the instructions both on the pack and in the box, so that when it got to brick-and-mortar, and we got new product replenished into the dot-coms, it was improved. So there's another example where you can get much quicker feedback and make changes on the fly and keep things going. And then, of course, with the dot-com, it's a broader, more available shelf, right? Some people call it unlimited, but there's limits, but you get an opportunity to put more out there, not only in your biggest brands, but in what we call our loyalty brands. We've got about 50 brands that you wouldn't necessarily find broadly distributed nationally. They're not at all of the big players, but we can get them on dot-com. So people who have used a particular brand, Dermarest is an example, which probably nobody in the room has heard of before. Tough to justify getting it a great placement in Walmart or one of the drug partners, but you can get it on Amazon, and it turns enough to work there. So there's lots -- and then you can launch some innovation behind a small SKU or a small brand that you otherwise wouldn't necessarily get a chance to. So if the dot-com is an important element of your business, you can find lots of opportunities, including these.

Look, just one final question for me, sort of at 4 minutes left, which is looking out over the next kind of, I guess, 12, 18 months, where might we get surprised? What's the kind of -- which I know is a very, very hard question to answer. But what's the area where there are perhaps risks be it to the upside or the downside that are not as well appreciated or understood by the investment community as perhaps we could?

Sure. So I think on the upside, we continue to have good momentum broadly across our portfolio. One of the themes we've gotten for questions from the folks we've met with over the last couple of days is, hey, your consumption seems to be really strong across the board. Are you going to take your outlook up for the year? Why didn't you take your outlook up after the first quarter, says the investor. But -- so I think that we continue to feel good about our long-term brand building in the momentum that we're seeing across the portfolio. The flip side of that is, as we learned back in March, when we had a bit of surprise around our supply chain hiccup that disrupted a bit of March and then we're dealing with this year is that things can happen when you have a broad business like ours. We have lots of brands and lots of suppliers and lots of retailers. And all it takes is one surprise across any of those elements that can that can kind of get in between you and your expectations. So those kind of things happen every day. And I think one of the hallmarks of our business is we're very nimble. We're quick to react. And someone said, what's the problem? I said, "Well, if I knew what it was, we'd be doing something about it." So I'm worried about the things we don't know about, so...

Makes a lot of sense. Well, look, we've got a couple of minutes left. Just probably go to the audience I'm not sure we've got a roving mic. We do. That's brilliant. Any questions in the audience? Okay. Well, seeing none, I think we'll leave it there. Thank you so much for joining us. Really appreciate it.

Thanks everyone. Thank you, Ian.

Thanks.