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Good morning. My name is Krista, and I'll be your conference operator today. At this time, I would like to welcome everyone to the Elanco Third Quarter 2023 Earnings Call. [Operator Instructions] Thank you. I would now like to turn the conference over to Katy Grissom, Head of Investor Relations, you may begin your conference.

Good morning. Thank you for joining us on Elanco Animal Health's third quarter 2023 earnings call. I'm Katy Grissom, Head of Investor Relations. Joining me on today's call are Jeff Simmons, our President and Chief Executive Officer; Todd Young, our Chief Financial Officer; and Scott Purucker, from Investor Relations. The slides referenced during today's call are available on the Investor Relations section of elanco.com. Today's discussion will include forward-looking statements. These statements are based on our current assumptions and expectations and are subject to risks and uncertainties that could cause actual results to differ materially from our forecast. For more information, see the risk factors in today's earnings press release as well as in our latest Form 10-K and 10-Q filed with the SEC. We do not undertake any duty to update any forward-looking statements. Our remarks today will focus on our non-GAAP financial measures. Reconciliations of these non-GAAP measures are included in the appendix of today's slides and in the earnings press release. After our prepared remarks, we'll be happy to take your questions. I'll now turn the call over to Jeff.

Thanks, Katy. Good morning, everyone. Elanco reported a strong third quarter, delivering topline adjusted EBITDA and adjusted EPS growth. We exceeded our expectations on all key non-GAAP metrics, while weathering the unfavorable strengthening of the U.S. dollar that occurred late in the quarter. Constant currency revenue growth of 5% was driven by accelerating contribution from innovation, stabilizing core volumes and price growth. Along with the improving market conditions, constant currency revenue growth of 6% for pet health and 4% for farm animal was enabled by our differentiated global omnichannel approach, strategic leverage of our diverse portfolio and our enhanced capabilities and leadership. We believe this provides the framework for continued topline growth for Elanco in the fourth quarter and in 2024. Starting on Slide 4. In the third quarter, price growth of 4% and sequential improvement in year-over-year volume growth was driven by both Pet Health and Farm Animal leading to adjusted EBITDA growth of 5% and adjusted EPS growth of 6%. We made significant progress on innovation in the third quarter completing FDA submissions for three late-stage potential blockbuster products, all with a path towards approval in the first half of 2024. Improving cash generation and reducing leverage remain priorities for Elanco. In the quarter, operating cash flow was $198 million and we repaid $156 million of debt as we continue to advance efforts to improve net working capital and operating cash flow. As we look to the fourth quarter, we are tightening our full year guidance ranges to reflect third quarter outperformance and incremental headwinds from the strengthening U.S. dollar since our August call. We are raising the midpoint of our constant currency revenue growth guidance, now expecting flat to 1% growth for the year and raising the midpoint for both adjusted EBITDA and adjusted EPS guidance despite increasing FX headwinds. Moving to Slide 5. Our 5% constant currency revenue growth for the quarter was driven primarily by our international business. In line with our expectations, the global business benefited from price, stabilizing core volumes, innovation and improved supply. In the third quarter, U.S. Pet Health revenue was flat as execution across share of voice, physical availability, innovation, price and improved supply for vaccines was offset by competitive pressure and a softer vet clinic end market later in the quarter. As the industry continues to track the impact of lower vet visits, we highlight that only about 18% of our total global business is sold to the U.S. vet clinic, isolating our sensitivity to visit trends to a subset of our portfolio. Outside of the vet clinic, our leadership in the OTC business provides the diversity of channels and price points desired by many pet owners. Our recent innovation and broad OTC portfolio allow us to take advantage of the resiliency we have seen in the OTC market, particularly with value and treatment offerings, leading to year-to-date growth of 10% for OTC products in retail channels. We continue to see the growth in e-commerce for both OTC and prescription products outpace other channels, where greater enrollment in subscription programs is resulting in higher compliance rates. Overall, we believe our differentiated omnichannel approach across both prescription and OTC products as well as vet clinic and retail channels positions us well in Pet Health in the U.S. and globally. Moving to international Pet Health. The 16% constant currency revenue growth was driven by better economic environment in Europe as compared to the third quarter of last year and expanded commercial capabilities, contributing to double digit growth for both Seresto and the Advantage family outside of the U.S. Additionally, new products led by Credelio Plus and AdTab contributed to growth. Next, international Farm Animal. The largest revenue contributor of our four quadrants delivered 5% constant currency revenue growth, primarily driven by price, cattle and poultry where growth was enabled by strong underlying markets, share growth and key markets like the U.K. and increased supply capacity. Finally, our U.S. Farm Animal business returned to growth at 2% after several quarters of decline. Growth was driven by innovation primarily Experior, partially offset by timing of poultry rotations and regulatory changes impacting certain cattle products. We are encouraged by experienced progress and remain confident in the expected annualized run rate of approximately $60 million to $70 million of revenue for the product as we exit 2023. Moving to Slide 6. I'd like to highlight several key drivers of our innovation portfolio and productivity strategy since our last call. Starting with productivity. We are very focused on improving cash conversion to enable debt pay down. While margin expansion remains important, we are broadly prioritizing cash generation acknowledging the leverage we currently carry. The company-wide focus is supported in part by our shift to Elanco Cash earnings, our EVA like bonus metric. Importantly, we have nearly completed the cash outlay necessary for project cost to support our systems integration earlier this year. With this project behind us and our continued efforts on improving net working capital, we expect improved operating cash flow next year. Moving to portfolio. Price growth was 4% in the quarter with 4% in Pet Health and 3% in Farm Animal. We continue to expect at least 3% for the full year. Importantly, in the third quarter, we saw volume growth in both Pet Health and Farm Animal. Contributing to this, our manufacturing and quality organization delivered improved supply for vaccines in Cattle and Pet Health and expanded capacity in poultry contributing to growth. Overall, we see our core portfolio volumes stabilizing with increased competitiveness of the overall portfolio, driven by first stronger commercial capabilities and then our global omnichannel approach. And then with the complement of adding innovation into our total portfolio. Now on innovation. Our already launched products continue to gain momentum, led by Experior NutriQuest on the Farm Animal side and Credelio Plus and OTC retail innovations on the Pet Health side with lifecycle management contributing across both. We continue to expect $210 million to $250 million of revenue contribution from these new innovations this year. Our canine parvovirus monoclonal antibody remains on track for supply constraints sales of $5 million to $7 million in 2023. And we expect increased supply availability from our expanded capacity in early 2024, allowing the product to be a key contributor to innovation growth next year. On the late-stage pipeline, we have completed FDA submissions for Credelio Quattro, Bovaer and our JAK inhibitor for canine dermatology which upon approval will be known as

Thank you, Jeff. And good morning, everyone. Today, I'll focus my comments on our third quarter adjusted measures. So please refer to today's earnings press release for a detailed description of the year-over-year changes in our reported results. We reported a strong quarter with growth in revenue, adjusted EBITDA and adjusted EPS. Starting on Slide 10. We delivered $1.068 billion in revenue, representing 4% reported growth or 5% in constant currency. Foreign exchange rates represented a headwind of $5 million compared to the third quarter of 2022. In our August guidance, we expected a $10 million year-over-year benefit in reported results that did not materialize given the dollar strength. Price contributed 4% and volume growth was 1% in the quarter. Slide 11 provides revenue by the four quadrants of our business in the quarter. Total Pet Health revenue grew 6% in the third quarter with price growth of 4%. Our U.S. business was flat with growth from price, innovation sales and the return on supply for vaccines offset by competitive pressures in the veterinary clinic. Based on our current view, we assume our retail partners will broadly work down inventories in the fourth quarter in line with last year while continuing to benefit from retail volumes performing much better for us in 2023 even during our current flea and tick off-season. In international Pet Health, constant currency growth of 16% or $27 million significantly contributed to the company's overperformance in the third quarter compared to our August guidance. Improved market conditions year-over-year specifically in Europe, our differentiated omnichannel approach and innovation drove growth. In the fourth quarter, we expect year-over-year market improvement and the ramp of Credelio Plus and AdTab to contribute to growth. Moving to Farm Animal. Total global revenue grew 4% in constant currency year-over-year. International Farm Animal revenue grew 5% in constant currency, primarily driven by poultry and strength in cattle parasiticides partially offset by slight declines in swine and aqua. U.S. Farm Animal revenue grew 2%, primarily driven by the continued ramp of Experior. Cattle vaccines grew slightly in the quarter and we expect continued improvement in the fourth quarter. Poultry declined as customer rotations onto our products were strong in the third quarter of last year. We expect improvement in poultry in the fourth quarter as a result of confirmed rotations onto Elanco products including Tyson's reintroduction of animal-only antibiotics or ionophores into their poultry supply chain. Finally, we expect Farm Animal distributors to reduce their purchases in the fourth quarter as they manage their working capital. Continuing down the income statement on Slide 12, gross margin increased 50 basis points to 54.5% of revenue. Price growth and productivity were partially offset by higher inflation, losses, and an approximate 120 basis point headwind from reduced throughput at our manufacturing plants. This headwind is expected to accelerate in the fourth quarter and throughout 2024, but is a key lever as we work to reduce balance sheet inventory and improve net working capital. Operating expense increased by 6% in the third quarter, driven by increased investments supporting our Pet Health business, higher project spend in R&D and increased people-related expenses. Our increased investment in the business presents a near-term EBITDA headwind, but we expect it will contribute to sustainable top line growth by accelerating innovation contribution and helping to stabilize core volumes. Interest expense was $72 million, an increase of $14 million year-over-year as a result of higher interest rates. Our debt is approximately 76% fixed and interest expense was $8 million below our expectations for the quarter as a result of lower gross debt in capital market transactions that we executed in the quarter, which I will elaborate on shortly. Adjusted EBITDA was $214 million in the quarter, an increase of 5% compared to the third quarter of 2022. Adjusted EPS was $0.18, an increase of 6% in the quarter. On Slide 13, we include bridge of third quarter results compared to our August guidance. Now let me offer a few words on our cash, working capital and debt on Slide 14. Cash provided by operations was $198 million in the quarter. While inventory was a use of cash in the quarter, performance was better than the third quarter of last year. This was partially offset by a larger benefit from interest rate swaps settlements with $75 million last year compared to $57 million this year. We continue to prioritize efforts to manage our balance sheet inventory, including slowing production at certain manufacturing sites assessing safety stock levels by product and identifying supply chain opportunities to manage API and raw material inputs. These efforts are expected to deliver benefits to the balance sheet gradually overtime as we implement changes while also prioritizing new product launch supply needs. We've updated Slides 25 and 26 in the appendix to reflect updates to our key debt information. In September, we restructured $3 billion of our interest rate swaps, provide a cash benefit in the quarter that will unwind over the next 12 quarters. And we extended the tenders of the swaps by a year, which will reduce our exposure to interest rate changes until August of 2026. At the same time, we entered into a net investment hedge, which is expected to reduce both our income statement and cash interest expense over the next three years. Based on our third quarter debt pay down in these transactions, we now expect that income statement, interest expense of approximately $280 million in cash interest between $380 million and $385 million in 2023. If we assume flat interest rates throughout 2024, no more fed rate adjustments. We expect 2024 income statement interest expense of $280 million to $295 million and cash interest between $340 million and $355 million. As Jeff mentioned, year-to-date, we've completed about 90% of the cash outlay supporting our system integration in 2023 and continue to expect a meaningful reduction in project cash costs beginning in 2024. In the third quarter, we paid down $156 million of debt and net leverage declined to 5.7 times from 5.9 times at the end of the second quarter. We remain confident in our full-year debt pay down expectations of $50 million and expect year-end leverage to be between 5.5 and 5.8 times. In the quarter, we recorded a non-cash pretax goodwill impairment charge impacting reported EPS by $2.10, which was excluded from our non-GAAP results. The accounting charge was primarily driven by the sharp increase in long-term treasury rates used in our goodwill impairment analysis while the expectations for our long-range plans remain consistent. Finally, let's move to guidance on Slide 16. The outlook for our underlying business is above our expectations in the second half of 2023. However, the U.S. dollar has strengthened since August. Today, we are tightening our guidance ranges while reflecting an increase to the midpoint of our expectations for constant currency revenue growth, adjusted EBITDA and adjusted EPS. For the top line, we now expect a headwind of approximately $70 million for the full year or a $40 million increase from our August guidance using foreign exchange rates as of early November. We expect full-year revenue between $4.36 billion and $4.4 billion representing flat to 1% constant currency growth compared to our previous guidance of 1% decline to 1% growth. We expect adjusted EBITDA of $965 million to $1 billion and adjusted EPS between $0.88 and $0.94 for the full year. As detailed on Slide 17, compared to our August guidance adjusted EPS is increasing more than adjusted EBITDA as we reduce interest expense expectations based on entering the net investment hedge and restructuring our interest rate swaps. We are also reducing our effective tax rate expectations to adjust for lower expected foreign income tax inclusions in 2023 aligned with the actual results in our 2022 U.S. federal income tax return that we filed last month. Our fourth quarter guidance is detailed on Slide 18. We remain confident in the return to growth for the second half of the year with 2% constant currency growth at the midpoint for the fourth quarter. As detailed on Slide 19, we expect the innovation sales ramp, price, improved supply and improved EU pet retail market and growth in poultry to be the key drivers of growth, partially offset by anticipated competition in the U.S. vet clinic and expected working capital optimization for distributors, providing a headwind in the quarter. Now, I'll hand it back to Jeff for closing comments.

Thanks, Todd. Our continued sequential improvement in performance thus far in 2023 demonstrates our strategy is working, as we are laying the groundwork for a return to sustainable revenue growth. As we looked at 2024, I want to provide some early considerations on Slide 20. First, on the headwinds. Well-known competitive pressure in the U.S. vet clinic remains in 2024, while our commercial efforts are helping to stabilize our base volumes. On the Farm Animal side, we're watching generic competition and continued low U.S. cattle numbers. Beyond the top line, we expect to continue to manage our internal inventory and make investments in sales and marketing for the launches. While these will create tension on margins, they are expected to deliver long-term value. Finally, using early November foreign exchange rates, we anticipate that the headwind from the U.S. dollar strength will continue into next year. As we think about the tailwinds in 2024, we're confident in constant currency revenue growth for our business next year. Contributions from innovation will accelerate with the ramp of existing products. Experior, our parvovirus monoclonal antibody, Credelio Plus and AdTab, with 2024 launches expected to contribute to growth, primarily in the second half of 2024. Strategic price growth and stabilizing core volumes will be enabled by our differentiated global omnichannel approach and strategic leverage of our diverse portfolio. All underpinned by our enhanced capabilities and leadership. Elanco has momentum going into the fourth quarter, with exciting expectations for innovation contribution and growth in 2024. We believe the external environment is manageable, and we are building a portfolio and capabilities to sustain a positive trajectory going forward. With that, I'll turn it over to Katy to moderate the Q&A.

Thanks, Jeff. We'd like to take questions from as many callers as possible. So we ask that you limit yourself to one question and one follow up. Operator, please provide the instructions for the Q&A session. And then we'll take the first caller.

[Operator Instructions] Your first question comes from the line of Michael Ryskin from Bank of America. Please go ahead.

Great. Thanks for taking the question and congrats on the quarter, guys. First, I want to touch on U.S. Pet Health. I think you cited some competitive pressure there in the quarter. Obviously, there's a lot of new launches happening here. Any additional details you can provide in terms of what product areas? I mean, I imagine it's a lot of parasiticides, and thoughts on how these headwinds will play out for the next few quarters. And then I have a follow-up.

Yes. Thank you, Michael. I'll jump in. Maybe I'll just start real quick before we get started and just say at a high level and then I'll get to your question. This is a big proof point and milestone quarter for Elanco. We've been chasing this quarter for some time, as you know, we've seen multiple quarters of sequential improvement. But Elanco is growing and we intend to grow the rest of this year and next year on a constant currency revenue basis and that -- that opens up a lot of opportunity. Again, as noted 5% overall constant currency growth, Pet growing 6, Farm Animal growing 4, that's both volume and price growth Farm Animal and Pet Health overall. And again, we intend to guide as we've guided here. We intend to grow in Q4, as well as we go into 2024. I'll specially note with and without the blockbusters, we see us being able to hold constant currency revenue growth. So, again, I want to just highlight that because this is something that we have been focused on for quite some time, a real credit to the Elanco team that's been determined, disciplined in its execution. We have deep belief in our strategy that we believe is working on the commercial side, the innovation side and the operational side. So, I wanted to highlight that as we get started. Now specifically as you think about the U.S. para market, I think -- we know this market well. We've been in this market a long time, the acquisition of Bayer strengthened us and we're a leader when you look at omnichannel and total portfolio, it's 20% of our Global Pet business when you look at the script. What we see is from our side is we're tracking and meeting our expectations so far after three quarters and expect that for the rest of the year. It's driven by a few things, one, Michael, competitive portfolio that we have. And we believe that is competitive today is even before the recent innovation has come into the marketplace. We're adding to that over time and even when we add pain, when we add parvo that opens up increased access to more clinics and that's given us strength. And then the capabilities on the commercial side from share of voice to physical availability, some of the value-based pricing that we've done has also contributed to our overall U.S. parasiticide competitiveness. And I think we've got the best team. I'll note -- I just came out of the room yesterday with 60 of the 75 reps that we've hired and most of them come from the industry, come from relationships and will be geographically located where they have those relationships, so the territories gets smaller. And then I think last is, we come with a lot of anticipation, Credelio Quattro is differentiated. It has a spectrum of protection that we believe will be quite differentiated and we're making progress in that innovation. So that's -- I think I would emphasize and close with year-to-date where we're tracking to our U.S. payer expectations and expect to stay competitive rest of this year and going into next year.

Michael, do you have a follow-up?

Yes. Thanks. And then tied to that bit I want to talk about SG&A and investment in the business, I think you called out investment spend in Pet Health a few times and you talked about the 25% increase in U.S. pet sales force. I just wanted to kind of try to quantify that in terms of how it relates to SG&A spend and how it will play out next year. And if I look at the slide deck, slide 26 you've got adjusted EBITDA with an arrow up into the right and it's 2024 and beyond. So just want to specify are you pointing to adjusted EBITDA growth in '24 or just constant currency revenue growth for now? Thanks.

Yes, Mike, it's Todd. Thanks for the follow-up. Right now, we're saying '24 and beyond is the long-term, we expect to continue to grow EBITDA, we're not making a commitment on the EBITDA growth in '24. We are making the commitment on constant currency revenue growth as just -- Jeff just said that's with or without the three big blockbusters that have the path to first half approval. With respect to your question on the SG&A investments, we are getting these sales reps on, those are going to be here and to drive growth in anticipation of these new products coming to market in

Great. Thanks.

Your next question comes from the line of Jon Block from Stifel. Please go ahead.

Great. Thanks, guys. Good morning. Maybe two questions around the same theme. Jeff, you mentioned looking to increase the share of voice and you called out the timing of some of the Pet Health hires, it would seem like there is increased conviction on the timeline of the 1H '24 approvals. Just considering ramping up the sales force, already having I think as you just said 60 of the 75 in the organization as of today. So maybe you could just update us more confident on the timing of these three in 1H '24, less anything that's transpired with the agencies since the last update. And then sort of a segue into the revenue growth for 2024, Todd that you did commit to, it seems like EBITDA sort of no commitment there but revenue growth, yes. Does that include any contribution from these three potential blockbusters in 1H '24? And again I know there's supposed to be in 2 to 4 month lag but does that include or exclude any of those products? Thanks, guys.

Mike, let me take the second one first, I'll turn it back to Jeff. Yes, we're committing excluding the product contributions from those three blockbusters. We do expect them to contribute to revenue, primarily in the second half, but right now, we're committed to growth, independent of that.

Yes, John. Let me come back here. First of all on the launch side, these were decisions made, there is really two sides looking at launch. There's the fixed cost, and the people side and you need to make those decisions and time. And so we've given ourselves time to say, we want to establish the team, the level of interest far exceeded our expectations and the level of talent and expertise. So we're beginning the training, as we say, even this week, then we'll place them into the territories and what's really critical as these territories gets smaller that it's absolutely critical that we build the relationships, so that when the launches do come the relationships are established, there is awareness and that's the number one driver to clinic penetration. That's important. And look, the sales force will be part of the organic growth of our existing portfolio and our existing innovation like parvovirus and others. So I start there and we made that conscious decision knowing that there is an investment, there is added cost. But no matter the exact timing and we don't know the exact timing of these clearances, we're going to be a more competitive U.S. pet sales force calling on these vet clinics and we'll be prepared and our existing portfolio will win because of it. Now relative to the late-stage pipeline, look it's progressing well, we've committed, we completed this submissions early in the quarter -- in the third quarter, Credelio Quattro and Bovaer. We've also with

It does. Thank you.

Your next question is from the line of Erin Wright from Morgan Stanley. Please go ahead.

Great. Thanks for taking my question. So on the retail business, this is a differentiator for you and less connected to a vet office visit trend but can you speak to the trends that you saw in the quarter. You mentioned some seasonal destock that you expect in the fourth quarter, I think, and was there any outsized stocking in the third quarter at all that we should know about? And how are you thinking about your ability to kind of expand the physical availability into the pet retail channel that you mentioned in 2024? And how do you think about just consistency and visibility on growth across that retail segment? Thanks.

Yes. Great. It's a great question, Erin. And it's one that we spent an awful lot of time on. And if you're inside the walls of Elanco in the last 18 months, when you look at the talent that Bobby's brought in mixed with the Bayer talent and the Elanco talent, we are re-imagining what we can do with the overall retail side, OTC side, and really it's an end, right? I mean we're going to bring new products into the vet clinic, there's more scripting, scripting is growing in the e-com area. So there is more and more synergy here as we build as we said from day one on Bayer, meet more pet owners, where they want to shop at the price point and the portfolio that they want. And that is coming to life, and I give a lot of credit to the team. So I'll just hit each one of these. I think first of all share of voice. We've increased campaigns, largest Seresto Advantage campaign we've had, probably since we've owned Bayer and that's benefited well. So we're tracking awareness in a big way. I think this total distribution point comment, it isn't all about bricks and mortar but bricks and mortar gives us a lot of opportunity, Erin. So I think it's kind of surprising to see that para for instance is in 75% of brick and mortar and we're only in 25% and we're the leader. So we're up 10% year-to-date in our OTC business in the U.S. So our focus right now and we've locked in quite a few commitments in the areas from pharmacy to dollar, to club stores and grocery. So, and we're looking also at how we can create increased value in our offering, these retailers have a lot more needs in different needs and we currently offer. I think lastly is just innovation. It doesn't take a lot of and Ellen and Bobby and the team have created a new arm of innovation on OTC and this is different types of innovation and we've seen that as we brought in about the three overall, I think, four Advantage products. And lastly, is this is not just U.S. based. I credit the international team, we grew 16% in international Pet Health, I point to a product like AdTab, that is in that oral OTC product. It's got the active ingredients of Credelio but it's got the brand of Advantage and we've taken share there, we've come into that market and really shown the power of how to launch in retail well. So this is an area of heavy focus for us. Again, I emphasize, it's an end and we will be one of the top innovators inside the U.S. vet clinic and I hope to say we'll continue our leadership and take share in the U.S. pet retail as well.

Okay. That's helpful. And then just you mentioned Farm Animal generics and cattle dynamics in the U.S. as a headwind in 2024, I guess can you elaborate on that what you're seeing across the livestock segment? Thanks.

Yes. I think as you look at just overall the Farm Animal segment, I think, Erin, we're going to see a tougher market in '24 in Livestock and Farm Animal. And just a couple of quick comments that drive that, I think overall input cost have gotten better, corn has gone from 660 down to 540 or so, but it's still high when you look at the conversions in historical rates. Poultry profitability, especially in the U.S. but globally. The global tensions have created trade tensions. And there's less product trading and that's usually higher margin, cattle numbers are down and there is the reg changes on implants. And lastly, I think the swine market, the two that matter, U.S. and China. We've got a -- too much supply, prices aren't recovering and demand is flat. So we see those markets. Now with that said, we've been in this business a long time. It's a durable resilient market. Protein demand is still moderately growing. There's a lot of countries and candidly the countries are much better at managing supply demand than they've ever been. So I don't see this as a steep valley but I do see this as a market that's going to be challenged. Elanco as we look at it, I think we're well positioned. We continue to see the business able to grow, take leadership and share over time, there will be volatility, but we've got a value-driven portfolio that benefits in this environment, and specifically, Erin, I would say cattle we've got innovation. Experior and Bovaer will help drive both on beef and dairy, even with less cattle numbers. We're leaders in poultry, there'll be pockets of challenge with this profitability issue but the Tyson returned, the ionophores will be helpful and swine will probably be a tougher market, but we've got a good portfolio and a good team in China and the U.S. and will hold as much share whether the market gets bigger or smaller. So that's what we see so far, we'll monitor it closely and share more at JPMorgan in January as we study the market.

Great. Thank you.

Your next question comes from the line of Chris Schott from JPMorgan. Please go ahead.

Great. Thanks so much. Just two for me. I guess, first, I was just interested in your views on the vet visit trends we're seeing and what that's kind of implying about the economic health of the pet side of the customer base. I think there's been some debate in the market about how much of what we're seeing right now is macro versus ongoing capacity issues and maybe, Jeff, just be interested in, kind of where you -- where you weigh in on what we're seeing there and then one follow-up after that.

Yes. Great. Great question. Thanks for the question. Actually, it's something that I've spent a lot of time on, our team has. And look we're going to monitor vet visits are down 1%, 1.5%, but it is not our most critical metric, we're less sensitive as a company, maybe than we were three years ago. We think spend per visit is one of the metrics to watch and that's meaningful, that's up. There's a lot of resilience in this industry. There's still a lot of desire from the younger generation that want to spend more on their pet to actually rewarding innovation. And innovation is driving actually awareness, which whether it's pain or derm, you see the market still continues to be very robust, specifically looking crisp for us, it's back to this omnichannel leadership. And as I noted in my comments, in our 18% of our global business is U.S. vet clinic. That will grow and we wanted to grow. It's going to grow a lot next year with a -- with our portfolio changing. But today, I would say that that sensitivity is back to what I've shared with Erin, it's about the end. And so we also see prescriptions growing outside of the clinic as COVID and post-COVID people have gotten used to a lot more of drop shipping and you know, online purchases. So we want to win, you know, online and offline, in the vet, in retail overall. So, and I would point to our proof point, OUS Pet grew 16%, OUS Seresto Advantage grew double digit, e-commerce scripts are outpacing most every other channel, year-to-date para is meeting our expectations and -- and year-to-date, you know, U.S. OTC is up 10%. These are just proof points to say we're a more resilient business, less sensitive to vet visits and we're building a model that can play in both and again be a lot more durable going forward. And net-net our market is robust and durable even in these tougher economic times, shown by our results, but also by our competitors.

Okay, great. And then just the follow-up was, I know you've talked about the expansion of the sales force. But if I look at next year and assuming everything stays on these timelines, you're going to have several very important kind of blockbuster products launching in a short period of time. So, will you be in a position with these 70 additional reps you're adding that you can basically manage multiple launches in parallel with each other or do we need to think about the organization prioritizing for example like derm over parasiticide if it can always get approved in second half of next year. You've got three big blockbusters all going -- going out at once. Thank you.

Yes. So, I would note that we've got parvo in front of us right now, and as supply ramps will focus there. That's one of the reasons that we wanted to move up and -- and take some of the expense of the sales force is preparing them. It does take time, if you think about it might be 25% more sales force, but it'll impact 60%, 70% of all territories. So, getting that stability is key. But you're right, focus on which products to -- to detail and profile is very important and we're going to -- we're going to focus on that. And look, pacing launches, we hope we have these problems. But again, we're -- we're going to be very capable, we've been working on this and this launch muscle has been building way back

And the only thing I'd add, Chris. The Bovaer launch will be on our Farm Animal side that teams independent of the pet side. And as you've seen on the work on the sustainability, this is all coming together nicely with a number of incentives from the inflation reduction act being set up to provide two farmers as well as credits being sold to customers. So we're really excited about how sustainability is progressing. And as I said, that will be independent of the pet side of the business.

Right. Thanks so much.

Your next question comes from the line of Umer Raffat from Evercore ISI. Please go ahead.

Hi, guys. Thanks for taking my question. I'm curious if you think the broad spectrum trio market is approaching some sort of peak penetration and I ask because we're seeing some of the trends for Merck's per vector,

Umer, it's a great question. Look, if you step back, the market continues to grow, compliance rates are still low and I think compliance will be key, and it will tie to the online. I mean consumers today at every segment want more convenience. They want things delivered to their door and we're going to be capable as capable as any company there, given -- given our capabilities. But I think it comes back, Umer, to probably the whole new versus legacy, you see share being taken from legacy, you see the pie getting bigger because of compliance, you see a lot of us spending a lot more time on brand awareness. That's why it's Credelio Quattro, it's differentiation, but our investment is leaning against a Credelio just like the other competitors have done. And so I think it's these dynamics, but if you look at the fundamentals there's always going to be quarter-to-quarter competitive shift between products that maybe that highlights to some of the things you're noting but we -- we are meeting our expectations, we've got an existing portfolio that's very competitive and we believe we've got one of the most differentiated assets coming as we launch Credelio Quattro.

Thank you. And Jeff, may I just clarify, I know

Yes. Thank you for that question. We haven't noted how much and will of course put more color to this as we head to our February earnings call in our guidance. But I do think I didn't -- I didn't finish my thought last time as you've got the fixed sales force that's locked in and done. And then the promotional spend will be material relative to what we see, what we see in differentiation and the potential as we're coming up on that day one of launch and that could be a lot more time based to the launch and also relative to what we see in the marketplace. So we will spend what is necessary to take the share and to get ramp rates and why I spent time in my comments on the commentary to commercial capabilities to be able to increase faster, 28% faster, the speed to adoption of our product is the second metric, share voice, speed to adoption and then promotion. And that promotion dollars will be material, but that will be more time base to the launch timing relative to our approvals.

Thank you.

Your next question comes from the line of Nathan Rich from Goldman Sachs. Please go ahead.

Great. Thanks so much for the questioning. And good morning. I guess maybe a high level one, Jeff, to start. It seems like there is maybe been more emphasis on top line and cash flow generation then on margins today. I guess is there any change in how you're thinking about the larger, longer-term margin opportunity for the company? And then, Todd, how should we think about the magnitude of the margin impact from the inventory management efforts that you talked about as well as the OpEx investments as we think about kind of cadence into next year?

Yes, I'll turn it quickly here to Todd, Nate. But no change, I think you start the number one driver to drive EBITDA and again we're all incented with our Elanco cash earnings every employee to drive EBITDA growth not versus some planned but versus last year. And the number one way to do that is to drive the topline and to drive it with better mix, not just price, but volume and in these new markets and so that's the emphasis we know we take care of that and do that first, and that's what's happened this quarter and we see it going forward as I mentioned. That will be the number one contributor to EBITDA growth. Maybe Todd, I'll turn it -- turn it to you.

Yes. Thanks for the question, Nate. We called out 120 basis points of headwinds on gross margin in this quarter from slowing down the plants. At the same time, we expanded our gross margin year-over-year by 50 basis points. So while we expect it to accelerate from inventory management into those kind of 150 basis points to 170 basis points headwinds. A reminder, we've got productivity, we've got sales growth, we've got price improvements, all of those things that at the same time help margins. So we're not calling out specifically anything on margin today for 2024, but do want to make sure everyone's capturing the pushes and pulls we have across our cost structure. Similarly on the investments, we're certainly going to make investments in our team and our people and that creates a headwind, we have about $20 million of synergy annualization coming from the ERP getting behind us that we've called out previously. Again, we've captured about $400 million of EBITDA synergies over the last three or four years since closing the Bayer transaction and we'll have that kind of now done and into the 2024 run rate. So again, a lot of positives going on, but there are headwinds, we will be managing as we move forward.

Great. And then if I could just ask a quick follow-up on

Yes. Yes, Nate, we won't go much further, other than to say that we continue to believe it is differentiated and we continue to be excited about double digit growth in the derm market in the U.S. and growth globally. And again, even the submissions that we've made in the international markets followed by a very robust portfolio that Ellen is managing both and the monoclonal side and others. So we've got a nice portfolio I'm excited about and derm that continues to have first and best-in-class assets not only came from kindred but additional assets. And again, as I always say this market derm is going to be all accretive to us and we're excited to launch with this differentiated asset will continue to share more on the differentiation as we get closer to the day one of launch.

Thank you.

Your next question comes from the line of Brandon Vazquez from William Blair. Please go ahead.

Hi, everyone. Thanks for taking the question. First on kind of profitability and EBITDA, you had a nice beat in the quarter, increased the guide for '23. Why not -- you're also talking about in 2024 where you're not committing to kind of EBITDA growth. You'll have some tailwinds stabilizing commercial organization, better ROI on some of these commercial investments, new product launches. Maybe talk about why we may not see EBITDA growth perhaps, it's kind of being reinvested into the commercial organization, things like that.

Sure, Brandon. As we called out with some of the headwinds, we are excited about the delivery in Q3 and what we have going into Q4. We called out constant currency sales growth. Right now, the dollar is still a pretty big headwind to 2023 that flows to EBITDA just based on actual sales results, you know, the last question regarding slowing down the plans that has an impact on gross margin. At the same time, we are excited about the continued growth, the parvovirus expanding capacity will be a nice growth driver from innovation, Experior, again another good quarter on Experior that $60 million to $70 million annualized run rate we're actually at, it's certainly positive 224 at a higher gross margin than the OptiFlex it replaces. So again, a lot of really good things happening. We're just continuing to watch business and we'll give a full update in February on our Q4 earnings call.

Okay. Maybe as a quick follow-up, slightly different but probably plays into the EBITDA line as well. This year, you're probably taking mid-single-ish digit price increases, how does that kind of trend into 2024, inflation kind of comes down a little bit, does that hinder your ability to take some price or does the new product launches really help offset that anyway. So just thoughts on '24 and what kind of pricing power you guys will have. Thank you.

Yes, very good question on things, that's certainly been a good driver for us this year, 4% in the quarter and we expect at least 3% year-to-date. We continue to expect we will have positive price next year from just the overall value of our portfolios to customers. So again, that will be positive and that will be helpful on both the gross margin and the overall profitability line in 2024.

Your next question comes from the line of Balaji Prasad from Barclays. Please go ahead.

Hi. Good morning, everyone. This is Balaji. Couple of questions from me, probably going back to fundamentals, firstly on retail, one would have thought that the online shift of retail was irreversible, so your decision to focus on brick-and-mortar stores. What's the advantage for a pet owner to go to a brick-and-mortar store versus online and maybe just expanding on that, what does it mean for you in terms of incremental investments and what should we expect from this. Secondly, on the macro side, I think that's one of the questions we get the most, can we get some of your initial thoughts around how much pricing - price increase can a pet owner absorbed as we look to 2024 to form your plans. Thank you.

Yes, thank you, Balaji. Real quick on the retail side. This is - there's just like any marketplace, there's a lot of segments and there's a lot of different needs and there's also loyalty to brands and loyalty to how they shop and where they shop. So what I would say is as you look at the marketplace, depending on the country, you do see very commonly 40%, 50% can be non-clinic purchases. So I start there and some of that's just access, affordability or just history. It's what I've always done and that's very dominant kind of market trend that you see in the pet side. So we're always looking at how we can continue to build that it isn't just brick-and-mortar, e-com also is also very important, so Nielsen highlights a lot of the brick-and-mortar trends, doesn't pick up the e-com trends and e-com is probably outgrowing every other channel. So look, it's affordable approach from a sales force perspective but it does take more promotional dollars, more work on the retail side. Net-net, we don't see a real big difference in the full P&L between the vet business and a retail business, we see both of them as growth drivers to our future. We see both of them with pipelines to bring new products and we continue to globalize that as well. And there'll be quarter-to-quarter variations and share shifts, but as a whole we see robustness. And then your second question, the market has been resilient as you step back. Everyone has put a lot of energy on the vet visits that matters, maybe more for diagnostics and others, but for us with our differentiated omnichannel approach, we really haven't seen a slowdown here, we've seen, we're expecting up to 3% price as Todd said and what's critical as you keep adding value, you keep driving brand awareness and you have good share of voice in physical availability and you're going to be able to keep growing this. And we see much elasticity and much resilience and price going forward.

Your next question comes from the line of Steve Scala from TD Cowen. Please go ahead.

Hi. This is Chris, on for Steve. We had one big picture question. So looking ahead to 2024 which is management view as the most important uncertainty or risk factor. Is it regulatory related to pipeline approvals interest rates, macro uncertainty or consumer spending or something else? And then following up on that given this uncertainty, is there a timeline to provide a updated medium term GP and EBITDA guidance? Thank you.

Yes, there's many, many risk factors. I'll come back to just some of the challenges that I mentioned in 2024. It's probably an aggregate of all of those but you've got competition. There's a lot of - a lot of big companies all making moves in - in a limited number of segments. That's always a factor absolutely regulatory just like human pharma, animal health, when you're in this final regulatory stage, we know that that's always dynamic. And then you've got to some of the just macroeconomic headwinds and maybe Todd wants to elaborate from the strong U.S. dollar to some of the challenges. But at the same time, we continue to say, and why we lean into this constant currency revenue growth, our existing innovation will ramp, we've got increased physical availability that's already locked in on our retail side. We've got a stronger EU pet retail market and growth in poultry aqua price will continue and most importantly our cash project costs are coming down. so. Got any things on the interest rates?

On the interest rates as we've mentioned, we're about 76% fixed. Now with that we've given guidance on interest rate expectations for net interest expense and cash interest for next year. So we feel very good about that relative to where rates are. But overall, I think the stronger dollar is probably the bigger concern if interest rates continue to stay up just given the flow through to EBITDA. We run a global business over 50% of our revenue is outside the U.S., we don't do cash flow hedging. It's just part of the business we're in. So that would be one risk but at the same time, as Jeff said so many good things going on with the big innovation coming. We're excited about what the business will do as we move into 2024 and longer.

Great. Thanks, Jeff. I'll send it to you to close.

Yes. So just to close, we have momentum, we've returned to growth for the rest of this year and going into 2024, this charge of constant currency revenue growth and next year at the same time as our 70th year as a company and over these seven decades, there has been a couple constant, one is growth, two is innovation and three is a focus on customers. And that will be probably historical for us as we head into the 70th year. New innovation is progressing. We're growing as a company, our capabilities and our leadership are the best they've been maybe ever. And yes, the markets are volatile, but manageable. And as Todd has highlighted, we have leverage but as stand up costs come down EBITDA goes up, net working capital goes up, we continue to see in a durable position with over 70% of our debt locked into late 2026 that with a durable industry and the way we've set ourselves up we also believe that we can pursue through that as well and excited about the opportunity for our company growing going forward. Look forward to seeing you all at JPMorgan and in February as we highlight 2023 and set up 2024. Thank you again for your interest and investment in Elanco.