West Pharmaceutical Services, Inc. (WST) Earnings Call Transcript & Summary

Great. Good morning, everybody, and welcome back to the CJS Securities 25th Annual New Ideas for the New Year Conference. I'm Larry Solow, a research analyst and partner here at CJS. I'm happy to welcome our next company, West Pharmaceuticals, who CJS has covered, I think, just about 20 years. Joining us this morning are Cindy Reiss-Clark, Chief Commercial Officer; Chad Winters, Chief Accounting Officer; and John Sweeney, VP of Investor Relations. Please go ahead, take it away, guys.

Thank you so much, Larry. It's really a pleasure for us to be here today, and we're really excited to share our story with you all. So as mentioned today, I'm joined by Cindy Reiss-Clark, she's our SVP, Chief Commercial Officer; and Chad Winters, who's our VP of Finance. He's our Chief Accounting Officer also. And we're all going to share the presentation and answer your questions. Before I get started, I'd like to highlight our safe harbor statement, which you can see on Slide 2. You can also find this available on our Investor Relations website at westpharma.com. I'd like to start with our purpose. On Slide 3, West is more than 100 years old, but our purpose remains the same as it has been since day 1, put simply, we serve to improve our patient lives. And we do this by driving excellence in the areas of containment and delivery of injectable medicines. And our aspiration and our leadership, our vision is to be the leader in the injectable space. And I think we're doing a really good job delivering on that vision and how we work together globally is really around 3 core values for West. It's our passion for the customer, leadership in quality, that's something that's pushed down throughout the organization of our 10,000 team members and what we call One West team, which is leveraging the global enterprise to support our customers around the world. At West, we think about how to execute, innovate and grow, and that's how we deliver for our shareholders and other stakeholders. We're very thankful for the support we get from the investor community, but also from our customers, our team members and the communities where we operate and serve. Slide 4 is a few company highlights. So as we mentioned, West celebrated its 100th year not too long ago, and we're focused on containment delivery of injectable medicines. We've got 25 manufacturing sites around the world, and we've been on a journey to build out this network to better serve our global customers. What we're really proud of is the 10,000 team members, what they've achieved, how they've engaged and how they've given back to their local communities. Not only are we successful with our customers in helping them launch and impact patients each and every day. We're producing over 40 billion components a year and you can imagine the outage we have impacting patients globally. I'd also note that we have a very strong philanthropy spirit within the organization, giving back to local communities is a clear priority. West Pharmaceuticals is highly diversified by geography, by product category and by market group. Geographically, we're evenly spread between the Americas, Europe, and we're increasing our presence in Asia. We have a manufacturing footprint in all major geographies, and we're able to support our customers, both on a local, regional and global level. Our portfolio is split into 3 areas: high-value products, standard products, and contract manufacturing. And we've split out the high-value product components, which include elastomers and seals. And we manufacture HVP delivery devices, which are on-body wearable self-injection devices. HVP products have higher ASP, higher margins and better economics, and they're the fastest-growing area of our business. It's almost 60% of the portfolio. Contract manufacturing is about 20% of our business and by end market, biologics is the largest at 38%. Pharma, which we classify as small molecule is about 25% of our revenues and generic about 27%. But the key message on this slide is that we're very well balanced, we've got a diverse portfolio from a geographic, product and market perspective. On our third quarter earnings call, we increased our adjusted EPS guidance for the full year and we discussed our confidence in West's execution capabilities as we continue to deliver our proven market-led strategy. On the call, we discussed that we're starting to see early traction with our long-term growth initiatives, particularly with GLP-1s and how we serve our long-standing customers. And we discussed the significant progress we're making in ramping up production of HVP deliveries. The strong increase in on-body self-injected devices during the quarter was driven by a combination of capital investment, improved utilization and the implementation of our new product line. And also we discussed destocking mentioning, we're starting to see signs of stabilization within our business. In recent customer discussions, we've observed a positive shift with some customers showing interest in increasing their near-term order levels. This gives us confidence that we're getting close to a turning point in the destocking trend. All right. And with that, I'll turn it over to Chad, who will continue the presentation. Chad?

Thanks, John. On Slide 7, let me go a little deeper on our business and the markets. Our customers include the leading biologic, pharmaceutical, generic and med device companies in the world. Our top priority is delivering quality products that meet the exact product specifications and standards that customers require and expect. This focus on quality includes a commitment to excellence in manufacturing as well as scientific and technical expertise, which enables us to partner with our customers to deliver safe, effective drug products to patients quickly and efficiently. We mentioned earlier biologics, which includes biosimilars because the characteristics of the molecule are pretty consistent and our value proposition in our solutions are consistent, too. As a result of the complexity of the molecule, biologics required the highest degree of quality and are generally HVP products. In the generics market, longer-term growth is driven by bringing our customers into the high-value products within the small molecule space. And pharma includes a traditional small molecule, and this area has the lowest percentage of HVP product. And then contract manufacturing is our injection molding and assembly for auto-injectors, pens and other devices on behalf of our customers. If you look at the chart on Slide 8, this lays out our growth thesis. You start on the bottom left-hand side, and these are our standard products. Remember earlier in the pie chart, we mentioned about 25% of our portfolio revenues are from standard products. And this is despite the fact that standard products represent 75% of the volume of components that we manufacture. Then as you move your way to the right, the portfolio is shifting to high-value products. These additional services include pharmaceutical washing, Envision inspection, sterilization, all the way up to the right to our integrated systems and self-injection. Again, while HVP are only 25% of total manufacturing -- manufactured components, they do represent 75% of our revenues. The key to our strategy is to continue to move customers up to high-value products where you have a higher average selling price and a higher margin. To give us an example, our standard product margins would generally be less than 30% if we call that 27%, 28% type gross margin. When you get all the way to the right to NovaPure, you're in the 70% to 80% margin. So this positive mix shift is really a key factor in driving our long-range plan of 7% to 9% revenue growth and our target of 100 basis points of margin expansion. So now let me just spend a minute now on the injectable medicine space. This is one of the fastest areas of growth in health care. When you think about subsegments within injectable medicine, biologics and biosimilars are key. We have a 50-year-old relationship with a company in Japan called Daikyo, where we have a 49% stake, and an exclusive relationship with them where we have technology and distribution rights. This is important because the combination of our technology and their technology allows us to be highly competitive and provide the best solutions to the biologics in the biosimilar space. This is a high-growth sector, and the way to win in biologics is to win with the pipeline. It is rare to convert existing molecules in the market for 1 player to the next. So you have to win the business at the beginning. With our future growth, it's really about [ seeding ] the market. As you think about the new approvals, innovations coming from the smaller biotechs and smaller firms, they get success either on their own commercialization or they partner with a larger firm. The packaging configuration and containment stays as it's in existence and has been filed. So this is the key area where we need to continue to win. And our participation rate with biologic and biosimilar remains extremely high. We believe that with our technology, our quality, our scale and our capabilities, we're able to continue on a growth trajectory as we move forward. So with that, I'll hand it over to Cindy.

Thank you, Chad. As John stated earlier, we recognize the responsibility that we have in ensuring patients get the injectable medicines each and every day. And this is why we say every component has a patient's name on it. It reminds us of this responsibility, and it drives the culture of excellence in our supply chain and operations to continue to develop the right relationships with our supply base, make the right investments in our global network and capability to continue to deliver quality products that our customers require and expect from West. Looking to the left on Slide 11. The bar for quality continues to be raised. A recent example, the European GMP Annex 1 was revised and implemented in August of 2023, and the regulation itself tripled in length and contains over 30 references to primary packaging alone. This new regulation is requiring those companies filling sterile medicines to have a documented contamination control strategy. It's assessing the risk in their facilities and defining action plans to prevent contamination of sterile products. Looking to the right of the slide, the major cause for injectable product recalls are due to particulates and lack of sterility and these are attributed to the container closure system. So these Annex 1 revisions are being driven by the need for higher quality standards. And failure to comply has real consequences on the manufacturers' operations and business. And Slide 12 demonstrates that over the course of our company history, we have an established track record of developing solutions for our customers' evolving needs. And this includes science and technology around new class of drugs being developed to offer support in the ever-changing quality and regulatory environment. And we estimate that the European Annex 1 revision could result in the potential upgrade of several billion units of bulk and lower-tier HVP components currently sold. To summarize on Slide 13, we are in a growing market. Injectable drugs are the fastest-growing drug segment driven by the continued growth in biologics where we have high participation. We have a manufacturing footprint in all major geographies and this scale supports our customers on a local and global level. And we will continue to invest in our global network to support our customers' business growth and need for higher quality products. And we are leveraging our high-value product components to expand into integrated systems. And by executing these focused growth strategies, we are well positioned to deliver margin expansion fueled by that continued HVP mix shift and our culture of excellence in manufacturing. And with that, I believe we're going to take some questions. So I'm going to hand the program back to Larry.

Operator, this is John.

Look, I'm back. Technical difficulty there. Sorry about that. Thank you for that presentation. That was very comprehensive. We appreciate it. I guess first question, just a couple of general questions before we dive into little more specifics of West. Just first question from a high level. What are sort of the catalysts and potential concerns or risks you guys face as you look out over the next 12 to 18 months?

Thanks for your question, Larry. I think when we think about West, there's certainly a number of attractive long-term secular trends that we benefit from. So the one that we talked about in the presentation is our strong participation rate in biologics where we support our customers as they launch new products, and we continue to have a high success rate of getting on the new molecules. So I think the strength of the biologics pipeline and continued strong wins in biologic is important for us. And then obviously, regulation and the changing regulatory environment and the European GMP Annex 1 regulations. There are several significant changes there that could help demand for our products. So I think we're in early stages there, and that's all about shifting standard components to Annex 1 higher-value product. So as I said, the long-term dynamics are favorable. When we think about some of the risks, destocking phenomena has proven difficult to track, maybe lingered a little longer than anticipated. That could be a risk. And then finally, any moderation of the long-term growth rate of the biologics market would be negative for West.

Got you. And a lot of talk, obviously, with the new administration about potential impact of tariffs or retaliatory tariffs. Clearly, you guys are a global company. But can you just maybe discuss potential impact of tariffs? Or maybe more importantly, what you could control and how you're preparing given this uncertainty.

Yes, definitely. So there is absolutely some risk on the tariff front, but we also see some opportunity on the -- actually some income tax proposals going the other way. If I start on the tax side, there's a discussion of a beneficial rate for domestic manufacturing, 15%. And that could provide benefit to West called in the low tens of millions of dollars based on our U.S. manufacturing that feeds the U.S. market domestically. And then if you flip it to the -- on the tariff side, ballpark similar scenario of low tens of millions. But that's really a static analysis that if something were to materialize, we'd be looking at what adjustments we'd have to make or what exemption opportunities might exist by the new administration. Maybe a little more specifically by geography. We have very little exposure to China-related tariffs -- really our largest -- the largest jurisdictions we'd call out, one would be Japan, which is that partnership with Daikyo. Another one being Israel, where we have our -- some of our device business. And we think those 2 geographies also would avail themselves to a robust exemption process similar to what the first Trump presidency had in place. So look, overall, there's positives and negatives. It's a bit of a moving target, it's hypothetical. But once the administration is in and these things start being put in place, we'll be able to better comment.

Got you. And Chad, while I got you, could you just remind us on the currency side, your exposure. Obviously, the dollar has been pretty strong in the last couple of months. Can you just speak to that?

Yes, sure. Yes, I think it's been over 5%, I think, depreciation since the U.S. election. You heard John mention on the slides, well over 40% of our revenue is in Europe. But if you -- there's a rule of thumb, if you want to -- if you think of the euro, generally a $0.01 FX movement directionally, it could be about a $0.01 of EPS, some rounding there and your mix, your geographic mix can move around, but that's probably the rule of general thumb to think about it.

Got you. Great. Okay. I've got some company specific more on the product side. Maybe we can just delve into the competitive environment for drug packaging components. West obviously has enjoyed a strong share on the elastomer and seals side, especially on the high-value product side. Maybe you can just elaborate a little bit more on that. And if there's been any changes in the competitive environment over the last 5 to 10 years.

So on the whole, the competitive environment for the elastomer components really hasn't changed a whole lot. There's 3 main companies in the space with some smaller players in Asia. And if I -- let's say, if I look over the past 5 years, the market share has been relatively stable for those 3 main elastomer companies. Even when I think of the COVID years, there certainly was the mix shift due to the vaccines and the therapy treatments. And companies had -- companies benefited differently across that time. But excluding COVID, West maintains a great market position, and we've certainly maintained or gained a little bit over the 5 years. And as we think about the focus post COVID was really on supply chain robustness, the higher need for -- the need for higher quality components, that's really core to our business. So our top priority continues to be the leader in quality and we continue to drive science and technology enabled by our global footprint and our scale and our culture of excellence in our manufacturing. And this is really our continued value proposition to the customers.

Got it. And Cindy or Chad, maybe you can just elaborate a little bit more. You target the 7% to 9% sort of capitalized CAGR in core proprietary sales sort of that high single-digit target. Could you just sort of elaborate a little bit more? Obviously, there's some moving parts there with the mix and to high-value products. So what -- maybe a little bit more on pricing as you get more of that mix. What is the actual volume versus price? Can you just kind of give us a little bit more of a dummy down breakdown of your targeted growth rates.

Yes, absolutely. So I break it down as that 7% to 9% is basically 1% to 2% from volume, 2% to 3% from price and then the balance would be mix shift. And so then if you break that down by market unit, we generally would say in that model, biologics would be high single to double-digit growth. The generics business would grow mid-single to high single and pharma would generally be in the low to mid-single range. And then the Contract Manufacturing segment also in that mid-single-digit range is kind of how it underpins that 7% to 9%. And then so then how do we kind of support that rate of growth in the long term. It's really a few things we look at. First, you've heard us mention biologics a couple of times now, right? That strong traction and win rate in biologics contributes to that. Next, we would look to GLP-1s. We obviously play in that space on the elastomer side and on the contract manufacturing side. And you've heard us talk about the capacity the last couple of years that we've put in place around that. And then lastly, on the regulatory landscape, Annex 1 would also contribute towards that mix shift in that long-range growth targets. So a lot of different elements contributing, but we think it's a pretty robust model. And that in and of itself, that's what leads to then the 100 basis points of operating margin expansion, particularly coming from that mix shift within and into HVP.

Got you. And John had mentioned a little bit store of a lingering concern just on the more of the macro level, the inventory destocking. Can you just maybe discuss that a little bit more, obviously, led to a considerable slowdown in revenue growth in 2024. So give us just sort of what kind of caused this excess inventory and where we think we stand today?