Good day, ladies and gentlemen, and welcome to the Prestige Brands Holding Q2 Fiscal 2016 Earnings Conference Call. [Operator Instructions] As a reminder, today’s conference is being recorded..

I would now like to introduce your host for today’s conference call, Mr. Dean Siegal, Director of Investor Relations. You may begin. .

Good morning, and welcome. As a reminder, there's a slide presentation, which accompanies this call. It can be accessed by visiting prestigebrands.com, clicking on the Investor link and then on today's webcast and presentation..

I am required to remind you that during this call, management may make forward-looking statements regarding their beliefs and expectations as to the company's future business prospects and results.

All forward-looking statements involve risks and uncertainties, which, in many cases, are beyond the control of the company and may cause actual results to differ materially from management's expectations. You are cautioned not to place undue reliance on these forward-looking statements, which speak only as of the date of this conference call.

A complete safe harbor disclosure appears on Page 2 of the presentation accompanying this call. Additional information concerning the factors that might cause actual results to differ from management's expectations is contained in the company's annual and quarterly reports, which it files with the U.S. Securities and Exchange Commission..

As a reminder, some of the information contained in this presentation includes adjusted results, which exclude acquisition-related and other items. A reconciliation between adjusted results and reported results is included in today's earnings release, along with a full set of disclosures about our non-GAAP financials..

Now I'd like to introduce Ron Lombardi, our CEO. .

Thanks, Dean, and good morning, everyone. Today's agenda and presentation will cover our second quarter performance, give an update on a few brand-building initiatives and cover the financial highlights as well as our outlook for the remainder of the year..

At this point, I would also like to take the opportunity to introduce Dave Marberger who started as our CFO last week. Dave's background is an excellent match for Prestige with his knowledge of consumer goods and retail channels. We are delighted to have Dave onboard, and he'll begin presenting materials on the Q3 earnings call in February. .

Thank you, Ron. It's great to be onboard. .

Great. So with that, let's turn to Page 5 and get started. We are very pleased with our solid results for the quarter and first 6 months, which were in line with our expectations even when factoring in the higher-than-expected FX impact.

The second quarter had strong performance across a number of fronts, including strong consumption in our Core OTC brands and our International business, along with record revenues in EPS..

Sales were in line with expectations for the quarter and came in at $206 million and increased approximately 14% above last year. Also, the second quarter were a record level of sales for us by almost $9 million..

Organic sales growth came in at negative 0.5% for the quarter, excluding the impact of FX as we saw a shift in shipments between Q1 and Q2 compared to the prior year, especially in our household business, which impacted organic growth by approximately 1 point during the quarter..

Our OTC business continued its strong consumption and sales trends during the quarter, and I'll cover more of this on Slide 7 through 9..

Our first half sales growth came in at plus 21.8% and was in line with the plus 20% to plus 23% outlook we had for the period even with the higher-than-expected impact from FX. FX impacted organic growth by approximately 3 points in Q2 and 2.5 points for the first half of the year..

Our Core OTC brands continue to benefit from our long-term brand-building focus with consumption growth of 3.6% in Q2 and 5.5% for the first half of the year..

Our gross margin came in at 58.2% for the quarter, which was up over 100 basis points from last year and in line with the first quarter..

EPS came in at a solid $0.60 for the quarter, which was 20% above last year..

We also saw a strong cash flow performance in the quarter with approximately $46 million of free cash flow for the quarter, which was open in a leverage ratio of approximately 5.0x, which is down from 5.7x when we made the Insight acquisition last year. So you can certainly see that we're continuing to build M&A and rapidly delevering..

In summary, we are very pleased with our solid performance during the quarter, and turning to Slide 6, we have an update on the outlook for the remainder of the year..

In terms of our outlook, we continue to be on track to deliver our full year outlook and strong financial results for the year.

We have updated our outlook for revenue to reflect current FX rates and now expect second half revenues to grow between plus 0.5% to plus 1.5% in the second half and again, the full year to be between plus 10% and plus 11% growth..

Regarding our full year EPS outlook, we now expect to be at the high end of our range of $2.05 to $2.10..

And for the outlook for free cash flow, it continues at $175 million or more with year-end debt-to-EBITDA expected to be approximately 4.7x..

If you turn to Slide 7, we'll start with our consumption trends. Slide 7 shows our last 6 quarters of Core OTC consumption and sales trends, with consumption trends on the top of the page and sales on the bottom.

Over the last 5 quarters, we have had strong and steady consumption gains and have outpaced the industry growth rate for most of the categories that we compete in. Consumption for the first quarter was approximately 6% and approximately 4% in the second quarter with the first half of the year averaging 5.5%..

If you look at the bottom of the slide, you can see our strong consumption levels are driving sales, and that we saw a shift in shipments between Q1 and Q2 with first half sales up approximately 4.5% over last year for that period.

These consumption and sales trends, as well as the strong performance in our International business, have us well positioned for the remainder of the year..

Turning to Page 8, we have more information on our Core OTC performance. Slide 8 shows that our Core OTC performance continues to be broad-based and is driving overall company performance.

During the quarter, we saw consumption growth across 78% of the Core OTC portfolio with our largest brands continuing to outperform the overall categories they compete in. On the right side, you can see that over the last 1.5 years, that our largest brands have performed extremely well.

Starting on the top, BC/Goody's grew approximately 9% over the last 2 quarters, and that Clear Eyes continues its trend of strong and consistent double-digit growth. At the bottom, Monistat continues its consumption gain trends with consumption growth of approximately 4% during the quarter.

I will discuss the first year initiatives for Monistat in more detail on Slide 10 in brand building..

Turning to Slide 9, we have an update on our first half sales performance for our Invest for Growth portfolio and our Manage for Cash portion of the business.

This slide is important for us as it shows the execution of our growth strategy and how we are focusing on our Core OTC brands and the International business in order to achieve our overall growth objectives. Strategy is about making choices, and this is where we're focusing our investments.

Our Core OTC and International business is where we are investing for growth, and this makes up about 78% of our sales and what drives our overall sales growth for the company..

On the left side of the page, we see that our Invest for Growth portfolio grew a solid 5% during the first half, and that the Manage for Cash portion declined about 6%.

Over time, we would expect the growth of these 2 areas to vary, but over the long term, we would expect our Invest for both -- Growth portfolio to grow 5% or so and that the Manage for Cash portion may decline 5% or more in any given quarter..

For the first half of the year, the combination of these 2 resulted in total organic growth of about 1.5%. Prestige's industry-leading free cash flow and financial profile allows this level of growth to result in meaningful bottom line growth and value creation over time..

The next few slides give an update on our brand-building initiatives and starts with Monistat on Page 10, if you'll turn to that now. We closed on the Insight and Monistat acquisitions just about a year ago and hit the ground running to reverse a long period of consumption declines for the brand that occurred under its previous owners.

Our acquisition due diligence process is concentrated on developing brand-building initiatives, so we are ready to start executing on the day we closed. Our initial focus for Monistat was emphasized and focused on reversing the trends for Monistat and concentrated on 4 areas.

First was to reengage with healthcare professionals, the second was to reconnect with consumers, the third was to improve Monistat's presence and performance at retail and the fourth area was to begin work on developing a new product pipeline.

The consumption trends on Page 8 show the steady improvement we have had, and we continue to look towards long-term brand-building opportunities for Monistat..

Turning to Slide 11, we have an update on Little Remedies. Little Remedies is where our pediatric efforts will be focused. Over the last few years, we've expanded beyond the cough/cold category to the fast-growing digestive category and now offer products for gas relief, gripe water and colic relief.

We have even expanded our television advertising to these products. Our marketing initiatives will include efforts to engage with caregivers and healthcare professionals to build awareness on Little Remedies' digestive health products.

Little Remedies' positioning as everything you need and nothing you don't is a point of difference in both the cough/cold and GI categories and positions the brand to compete successfully at retail..

Turning to Slide 12, we have an update on Luden's. Luden's is a classic brand that has been around since 1890s. Over the last 5 years, we have aimed our marketing and new product initiatives at revitalizing and modernizing its heritage to connect with the new generation.

Our marketing and new product efforts have worked together to introduce new flavors, packaging and marketing tactics to connect with this new generation. New flavors like watermelon, blue raspberry and strawberry-banana have been huge hits.

This, combined with expanding marketing initiative, has helped grow consumption at a CAGR of over 5% in the last 5 years in what is a very competitive category..

Now turning to Page 14, we'll start the finance section of today's call. On Page 14, we have a summary of the financial results for the quarter, and we are very pleased with the results, as I mentioned at the start of today's call.

Our results for the quarter includes solid revenue, EBITDA, EPS and cash flow, with strong growth over the prior year for all of these items as shown at the bottom of the page..

Turning to Page 15, we have additional financial detail. Starting at the top of the page, we see that revenue grew approximately 14% in the quarter on a reported basis and 17%, excluding the impact of FX. We had very strong gross margins for the quarter and first half at just over 58%, which was largely in line with our full year outlook.

Consistent with past years, we expect slightly lower gross margins in the second half and expect the full year to be approximately 58%..

Continued gains in gross margin allows us to increase our investment A&P, which was approximately 13.5% of sales for the quarter and first half, and up over 23% on a dollar basis from last year for the first half..

Finally, our EPS of $0.60 is worth mentioning again and benefited from not only the higher gross margins but also the strong sales level during the quarter..

Turning to Page 16, we'll wrap up this section with cash flows. Our free cash flow came in at approximately $46 million for the quarter and almost $90 million on a year-to-date basis.

We continue to use all of our free cash flow to reduce debt and saw our leverage ratio drop to about 5x at the end of the quarter, and we have also built our M&A capacity above $500 million through the end of September..

Turning to Page 18, we can wrap up our prepared comments before we open the lines for questions. We continue to feel very good about the business, consumption trends and our Core OTC brands and the International business as we head into the second half of the year.

However, we do remain cautious related to the retail environment and what we see across the mass drug and dollar channels. We've also updated our sales outlook for the remainder of the year as mentioned earlier..

Brand building and new product development will continue to be our long-term focus and is delivering results as witnessed by the consumption trends of our largest brands, as highlighted on Page 8. Finally, we continue to feel confident in our full year outlook and more importantly, our strategy that is creating shareholder value..

Our free cash look -- cash flow outlook remains at $175 million or more. Our adjusted EPS outlook is now at the upper end of $2.05 to $2.10 range. And our sales outlook updated for current FX rates is now plus 0.5% to plus 1.5% for the second half of the year and plus 10% to plus 11% for the year..

With that, let me turn the call back over to the operator, and we'll open the lines for questions. .

[Operator Instructions] Our first question comes from Frank Camma with Sidoti. .

So can you talk a little bit about -- I was surprised on the A&P line. Actually, it went down as a percent of spending kind of in light of the fact that you have rolled out some programs there under Monistat, the detailing program.

Can you talk a little bit in detail about that and how that -- since it's your biggest brand, like how that might impact the A&P going forward?.

Sure. I think the first place to start at, though, Frank, is the dollar spend is up on a year-to-date.

[Audio Gap].

23% on a 22% increase. So we continue to increase the dollars invested ahead of the sales increase.

In terms of the percent of revenue for the individual quarter, in the past, we have talked about variability from quarter-to-quarter, but the record levels of sales over $206 million and over $9 million more than our second-highest level certainly impacts that as well.

So going forward, we may see some variability quarter-to-quarter, but our intention is to continue to increase our investment in A&P over time, both in total and specifically for the Monistat business. .

Okay.

I guess where I was also going with that, though, is do you see any shifts between the actual like A&P line and where you spread the promotional above with revenue -- coming out of revenue, I mean?.

No. We haven't seen any shifts in A&P up to the growth in that line. .

Okay, good. And can you talk a little bit about retailers' inventory levels? Obviously, Walmart is not expecting to be aggressive here, so I was wondering if you could just kind of talk about the mass channel and how that impacts what you're viewing for the rest of the year. .

Sure. We continue to feel good about the level of our inventory at retail. It's something we keep an eye on. And if you go back and compare our consumption to our shipment levels over the last 6 to 8 quarters, this is that [ph] good relationship to the 2.

We haven't seen either a building of inventory at retail or, quite frankly, a -- much of a recovery from the reductions that took place a couple of years ago. So we're not planning or anticipating that, that will happen, that we'll see a recovery in the next few quarters or the next year given what's going on at retail.

But we don't believe we have exposure to retail inventory levels as well. .

Okay. And final question, just if you could remind us on the comp you're coming up against on the cold and flu side. I mean, obviously, it's a smaller component of the business today.

But can you just kind of remind us of the challenge there and what the early read is on the season?.

Sure. So the first comment is last year's cough/cold incident levels was back to more of a normalized level after a dramatically reduced level. The year levels are slightly below last year. But there's 4, 5 categories.

And if you look at, I believe, it's cough and sore throat section, they're actually up, which is good for our business with the Chloraseptics, Luden's and Sucrets [ph] business that we have. So too early to tell, but we'll see. .

Our next question comes from Joe Altobello with Raymond James. .

I guess first question, I wanted to talk about the revenue outlook for the back half this year. I think, Ron, the last time you talked about guidance, the FX headwind was about $10 million, and I think based on what you said this morning, we're probably looking at something more like $17 million or $18 million of FX headwinds this year.

So if that's the case, it seems like it's -- you're implying a nice acceleration in the second half on the organic side. So help us sort of understand what we should expect to be driving that acceleration on the organic front versus the first half. .

Sure. So the update in terms of the impact of FX, we originally anticipated that the year would be impacted by about $12 million. We now think it's going to be somewhere between $15 million to $17 million. As a point of reference, FX impacted us about $8 million through the first 6 months and $5 million in Q2. So that's the first part of it.

The second part of your question is that we had originally anticipated growth in the second half of the year to be between 1.5% and 2.5%. So we're factoring anywhere between 1% to 1.5% of additional FX impact and expect the business to have organic growth between 1.5% and 2.5% before that impact. .

Right. So if you look at the first half, I think it was up 1.4%, I think, on an organic basis. So you're looking for a little bit of an acceleration, I guess, and obviously, that should help that but... .

Exactly. So in the first half of the year, we have 1 month of organic comp for the -- for Monistat in the Insight business, and we're going to enjoy a full 6 months in the second half of the year for us. .

Okay. Got it.

And then that's related to my second question is, you called out Monistat, but what is the rest of Insight doing in terms of revenue?.

So the trend, so far, is -- the other core brand within the Insight portfolio is Mixed, which is -- has done well for us over the last year. The rest of the portfolio is noncore, and it has fallen generally in line with the -- some of the brands are up, some are flat and some are slightly down that you'd see within the rest of the legacy portfolio.

And again, for us, our strategy is all about investing behind and driving growth in Core OTC and the International business, and that'll more than offset the trends in the noncore and household portion of the businesses. .

Our next question comes from Linda Bolton-Weiser with B. Riley. .

Sorry, I jumped on a little bit late, so sorry if I kind of missed this in all the numbers, but with your core consumption growth being pretty strong, your organic sales, though, were down 0.5% in the quarter.

So is that retail inventory reductions? Or is that the noncore brands that are declining? Why is the organic sales actually slightly negative?.

Yes. So the -- yes, the biggest impact on organic growth this quarter was household, which impacted growth by minus 1 point. So without the impact of household, organic growth for the quarter would have been about 1.5%. So household was the biggest factor. And then we did see a little bit of a shift between Q1, which was extremely strong for us in Q2.

And we will see some variability on timing from quarter-to-quarter, so it really wasn't out of line of what we might expect. But it was largely household that impacted the organic growth rate during the quarter. .

Okay. That's -- and then secondly, in just looking -- kind of looking at your 10-K and some of the numbers that were in there, it was interesting to look at your numbers about distribution. And a lot of your key brands have very high distribution, so there's not a lot of whitespace opportunity.

But I did notice that of 2 that were a little on the lower side. EPT and mix were a couple that were a little bit lower on the distribution.

Is -- are you working to gain additional distribution? Or is there some reason why that's kind of it for them? I mean, is there really additional places you can put those brands?.

So first of all, we do, generally, have vert strong distribution across of our -- across our brands. If you get a large, mass retailers or the drug retailers, you get plugged into their national distribution model. For us, the focus is on making sure we have all the SKUs we should have at each of the retailers.

So that's kind of the general response to distribution opportunities. We were constantly looking for additional distribution opportunities and making sure we have the right SKU offering. For EPT and mix, in particular, I think we feel pretty good about the national distribution.

There's maybe a little bit of regionality for head lice, which may impact mix distribution, but EPT, I think we have good -- generally good national distribution there, so. .

Okay. And then can I just say a few about this backdrop or situation we're in with the healthcare sector right now? I mean, granted you're not in the healthcare stock sector per se, but we've seen a collapse in many of the healthcare companies' valuations out there.

Do you have thoughts on -- I mean, for you, you've actually retained your stock price and your valuations.

I mean, does this put you in a better position, perhaps, to go out there and look for some companies to acquire, maybe perhaps a better values? Or can you just comment on what you're thinking about that?.

Sure. So my first comment is, one of the things that we've talked about for a long time about Prestige is the stability of the categories and consistency of the categories that we compete in, we're needs based. We've talked about the financial profile and the strong and industry-leading free cash flow that we have.

And if investors are looking for, I guess, what I'll call, safety or consistent return, Prestige has been kind of in that position all along. So I think this just reinforces our financial profile and what we offer to investors.

In terms of M&A and what's going on in the healthcare, many of the things -- many of the businesses that you're reading about being impacted by the healthcare don't generally have big portfolios of OTC. They don't concentrate in this space.

So I'm not sure it will create opportunities for us or if it impacts -- if it will impact the valuations that are out there. But if you look back over history, we've seen a steady stream of opportunities at reasonable and appropriate values for us, and we'd expect that, that might continue over the long run. .

Our next question comes from Karru Martinson with Deutsche Bank. .

I recognize it's still very early, but in terms of the potential impacts from a merger for Rite Aid and Walgreens, I mean, is there any vast difference between your share of shelf with the 2? Is there -- are there any other concerns that we should be mindful of there?.

Yes. It certainly is early to start guessing on how that's going to play out. But we don't see any meaningful difference between our distribution or a presence between those 2 retailers at this point. .

All right. And then when you look at kind of revitalizing brands like Luden's, I mean, what's been the competitive response? I mean, typically, you guys are the #1 or #2 brand.

I mean, is there a response? Or do you kind of just start to own these categories over time?.

Yes. We compete in a lot of different categories against a lot of different competitors. So there's no 1 answer to that. But generally, it's a fairly competitive environment that we compete in, and we're all vying for consumers' attention and mind space.

And the heart of Prestige is all about being a sales and marketing company, and that's what we focus on doing a great job on and what we do everyday. So that's how we focus, and that's what we look to do to create long-term value for our investors. .

And then when we look at the pipeline of M&A activity, given the capacity that you're rapidly building, I mean, is the mindset kind of doing larger acquisitions or more of the tuck-ins that you can kind of plug-and-play here?.

Yes. If you look at the 6 deals that we've done over the last 5 years or so, we've done both kinds. We've done individual brand acquisitions, we bought portfolios, large portfolios, we bought small portfolios, we've acquired businesses from private sellers, PE sellers and large global pharma.

So quite frankly, really, any of those approaches work for us. The important thing for us to do is to stay true to our M&A criteria and the approach that's been successful and has worked for us over these last 6 transactions.

So really, any of them work for us, and our focus is on making sure we do smart M&A that fits our criteria, and we -- that we continue to do M&A to build out our portfolio and to acquire brands for long-term growth. .

[Operator Instructions] Our next question comes from Carla Casella with JPMorgan. .

I wanted to clarify one thing.

When you talk about having $550 million or a little more of M&A capacity, is that what the restricted payment basket is on your debt?.

What that is, Carla, is an illustrative calculation based on taking our leverage up consistent with past acquisitions and that the purchase price and financial profile would also be consistent with them as well, our credit facilities would also be able to support that level as well. .

Okay, great. And Karru had asked about the merger in the drugstore space.

But on the supermarket side, were you under or over penetrated in one, the -- in the consolidating companies, be that Albertsons or Safeway?.

No. We had typical distribution at both of those grocery store chains, so we weren't overly concentrated in either of those retailers. One of the things that's nice about that Prestige profile is that we're not overly concentrated in any category, in any brand, in any channel or any retailer in any given channel.

So we're very well diversified across a number of fronts. So as we look at all of the changes that's going on across retail these days, and there's a lot going on, in the dollar channel. We've got 2 of the 3 big players merging. In the drug channel, we've got 2 of the 3 big players proposing a merger.

We've got the other acquiring pharmacy that -- at mass retailers, and we've got the largest mass retailer looking to make meaningful investments to help drive long-term growth.

There's a lot going on out there in our diversified approach across all of those things I just explained really had us well positioned to continue to be successful even with all of the changes that are being contemplated. .

Okay, great. And then you just -- you talked about with Monistat and actually, with Little Remedies, this -- part of the strategy is reengaging with the healthcare providers.

Can you just talk about how is that thing going as you expected? Or what has been the challenges there? And is it taking -- is it quicker or longer than you expected?.

Yes. So for Monistat in the getting into the healthcare practitioner's office, we kicked that off back in July. We've always expected that this is going to be a long-term investment and a long-term payout for us as we work over the long term to get doctors to recommend Monistat versus the prescription. So it's going to be a long road as expected.

We're off to a strong, solid start and feel good about that tactic. .

Our next question comes from Kevin Ziets with Citigroup. .

I just wanted to follow up on the M&A front. If you think that the environment that we're in is any sort of more or less active than it's been in the past in terms of -- and whether if you want to shade that about the different types of opportunities, that's fine, too.

And then secondly, just ask whether -- as you look at the capital markets, do you think about prefunding something based on the strength of various markets?.

Sure. So again, if you go back and look over history, there's variability in the level of activity in the kinds of opportunities and the number of opportunities that show up. But over the long term, there's been a consistent and steady stream of opportunities. We expect that to continue over the long term. So that's the first part of it.

The capital markets continue to be fairly robust. Debt pricing is attractive. We're well received by the credit markets, so there really isn't a need for us to prefund anything and go out and put cash on the balance sheet in anticipation of something.

So that's not likely something that we would do because we don't really need to and wouldn't want to incur additional interest expense and have cash that's idle on the balance sheet. .

Understood.

And then I guess just following up on the retailer caution that you expressed, is -- the commentary out of Walmart and their investments, I guess, how do you think about that in terms of whether it's more of a timing of inventory? Or is it potential pricing pressures or fee pressures on your business?.

At this point, we haven't seen any fees or pricing pressures from them at this point. We'll see where that goes over time. But we're in a good category. The OTC aisles, in general, for the retailers are high ring per item, high turnover.

Our inventory levels, in general, are fairly low and quick turning for not only Walmart but most of the other retailers as well. So we continue to feel we're well positioned, and we'll see where that plays out over time. .

Okay.

I guess just bouncing back to M&A for my last question, is there any more -- I guess, one, is the -- does the current FX environment make you feel any differently about international opportunities? And then -- and two, are there any more opportunities on that front than maybe what you're seeing domestically?.

Yes. So our first priority for M&A is North America, and certainly, the FX environment doesn't really impact at all. The second area of focus for us is Australia. And with the decline in the Australian dollar, it doesn't negatively impact any opportunities there. And it doesn't make us want to focus any more heavily than we already are for that region.

So FX trends for us really don't have any impact on how we think about M&A. We have a very well-defined criteria that's focused on acquiring brands for brand-building opportunities, and that's what we'll stick with. .

Ladies and gentlemen, this does conclude the question-and-answer portion of today's conference. I'd like to turn the call back over to Mr. Lombardi. .

So thanks for joining the call today, and we look forward to speaking again next quarter. Have a good day. .

Ladies and gentlemen, this does conclude today's presentation. You may now disconnect, and have a wonderful day..