Good day, and welcome to the Perrigo Second Quarter 2019 Financial Results Conference Call. [Operator Instructions] Please note that this was event is being recorded. I would now like to turn the conference over to Bradley Joseph, Vice President of Investor Relations. Please go ahead..

Good morning, everyone, and welcome to Perrigo’s second quarter 2019 earnings conference call. I hope you all had a chance to review the press release we issued earlier this morning. A copy of the release along with the slide deck overview of the quarter and our guidance metrics are available on our website at perrigo.com.

Joining today’s call are Murray Kessler, Perrigo’s President and CEO; and Ray Silcock, Perrigo’s CFO. I’d like to remind everyone that during this call participants will make forward-looking statements.

Please refer to the important information for shareholders and investors and safe harbor language regarding these statements in our press release issued earlier this morning. In addition, in the appendix for today’s call, we’ve provided reconciliations for all non-GAAP financial measures. Now I’ll turn the call over to Murray..

Good morning, everyone. For the most part, I’m pleased with the second quarter results, and importantly, I like the direction Perrigo is heading. Since we shared our strategic direction at May 9 Investor Day, and even before then, we’ve been moving quickly to execute on the 40 major initiatives we discussed.

Initiatives that must happen if we are to successfully transform Perrigo from a healthcare company to a consumer self-care company. While we are still in the early stages, significant progress was made during the second quarter. A few examples.

Strong customer service levels have been restored in our Americas and RX businesses and are once north of 90%. Our new products program is beginning to yield higher results, especially in Europe behind the launch of XLS Forte 5 and strong performance by the ACO brand. New products yielded $65 million in consolidated net sales during the quarter.

Third, we closed on the divestiture of the Animal Health business for $185 million. Fourth, we also closed on the acquisition of Ranir, the world’s leading store brand oral self-care company, and raised guidance to reflect the incremental business. Ranir will have a very positive effect on our consolidated results in the second half of the year.

We also completed the roadmap of our $100 million Project Momentum cost savings initiative. We’ll share specific plans and the follow on, on this plan, which is crucial to offset the stranded cost resulting from the eventual separation of our RX business.

And finally, we’ve incrementally improved our forecast accuracy, as evidenced, by making this quarter’s adjusted EPS results, marking our third consecutive quarter of meeting or exceeding analyst expectations. The most important is that I feel the excitement building among our employees throughout Perrigo.

Like me, they believe that the company is getting back on track. I’m delighted to see throughout the company a commitment to our new self-care vision and the priorities necessary to make that vision a reality. Transformations don’t happen without commitment to a shared vision, and we have it.

This excitement and energy is beginning to show itself in business results, which I will briefly discuss. Our CFO, Ray Silcock will provide the specific GAAP and adjusted results, which you can also see reconciled in the earnings release. But I will be speaking to the adjusted results.

Adjusted net sales grew 1% for Perrigo on a consolidated basis, excluding Animal Health, infant foods and currency. Consumer Self-Care Americas adjusted net sales also increased almost 1% for the quarter, excluding Animal Health and infant foods, driven by a very strong quarter for our core OTC business.

Perrigo OTC sales, which represents approximately 80% of the Americas business, increased a robust 4% for the quarter and volume increased nearly 6%, tracing to an increase in category demand associated with an extended cough cold season, a good start to the allergy season and strength in our smoking cessation and GI categories.

For a perspective, OTC category growth, consumption that is, rate tripled during the quarter versus a year ago from 1.1% to 3.5%. Store brand outpaced that growth, increasing 3.8%, meaning store brand’s once again gained share from national brands.

I wasn’t happy with the performance of our infant formula business for the quarter, which declined almost 15% versus a year ago. The mass – the vast majority of that decline was driven by our contract sales business, which suffered due to inventory issues among several of our branded customers that made the strategic decision to exit infant formula.

The performance was also affected by a product recall at a leading customer. But importantly, consumer demand on our store brand business has returned to near pre-recall levels. So the good news here is that as contract packed inventory is correct, we would expect this business in our total nutrition business to quickly stabilize in the second half.

Turning to Consumer Self-Care International. Net sales, excluding currency, declined nearly 2% versus year ago, but the results there are better than they look.

We had a short-term hiccup in France associated with the sales force restructuring that was large enough to offset growth on the rest of the International business, that is excluding France and currency, CSCI was up 1%.

And remember what I shared with you on Investor Day about our purposeful exit of certain nonstrategic brands representing about 4% of the business last year. Well, that’s down to 3% this year already. So when you look at our core branded consumer products portfolio, it grew 3% for the quarter driven by nearly $30 million in new product launches.

We believe the CSCI transformation is well underway and are working to resolve the short-term issues in France during the second half of the year. And importantly, in markets with attractive growth, we continue to maintain our market share across Europe, led by our core products.

Our noncore RX segment continued to also perform well and outperform most generic RX companies posting another quarter of topline net sales growth of more than 3%. We continue to see a moderation of downward pricing pressure and the business benefited, like consumer Americas, from improved customer service levels.

The RX separation continues to be a strategic priority, and we continue to work on affecting a separation. But uncertainty in the market and generic pharmaceuticals industry, generally, right now requires us to reevaluate timing, so as to optimize value for our shareholders.

Be clear, our RX business remains strong, and we believe as relatively modest exposure to the factors affecting the industry right now. We have written this business to growth, and we expect it will deliver attractive cash flow as we work towards separation. We will keep you posted.

But again, to be clear, we remain committed to the separation and to transforming Perrigo into a pure play consumer company. Looking forward, we have a lot to do. And as I have said before, the transformation will take several years.

We are making good progress, and I expect that progress to be more visible through accelerated net sales growth in the second half of the year as we integrate Ranir and we see more of our initiatives come to market. I remain excited about what we as a team are doing at Perrigo, and I am confident we will recapture the Perrigo advantage.

I know we will make lives better by bringing quality affordable self-care products that consumers trust everywhere they are sold. And with that I’ll turn the call over to Ray..

one, 13.5% increase in R&D investments compared to prior year; two, performance-based compensation plan accruals being returned to 100%; and three, the absence of a onetime insurance recovery that benefited the second quarter last year. Moving on to adjusted operating margin.

Worldwide Consumer adjusted operating income in Q2 amounted to $118 million, down from $161 million last year and adjusted operating margin of 13.3% versus 16..8% in the prior year.

CSCA’s adjusted operating of – operating margin of 20.3% was down 130 basis points from Q2 last year with lower SG&A expenses being partially offset by increased R&D spending when the $50 million upfront license fee for NASONEX, which was charged to R&D in Q2 last year is excluded.

Sequentially, the Americas adjusted operating margin was up 200 basis points from prior quarter due to gross profit flow through and lower SG&A expenses. In the International segment, adjusted operating margin was stable at 15.3% versus 15.6% last year and 15.4% in this year’s first quarter. Turning now to the RX segment.

Net sales for the quarter were $239 million, 3.4% higher as compared to prior year. New product sales of $27 million and improved customer service were partially offset by continued, although moderating, downward pricing pressure and by the impact of discontinued products.

Adjusted gross profit of $100 million in the quarter was $16 million lower than in Q2 last year, primarily due to the continued downward pricing pressure and a less favorable product mix, including higher volumes this year of relatively lower margin authorized generic products.

RX adjusted operating income of $66 million was down $13 million compared to last year as the gross margin shortfall was partially offset by lower administrative expenses as compared to the prior year. R&D expenses were at a similar to that of last year.

In summary, Perrigo consolidated adjusted earnings per share in Q2 were $0.86, better than we had expected primarily due to improved business performance by both our Americas OTC business and the RX segment.

And also as a result of timing differences versus our expectation in R&D and A&P expenditures that we now anticipate incurring in the second half of the year. A quick comment on the balance sheet.

Our working capital levels were up in the second quarter as we built inventories in order to address some customer service issues and in anticipation of plant maintenance and other needs.

As a result, cash flow from operations was significantly lower than normal in Q2 with cash flow as a percent – cash flow conversion, that is, as a percent of adjusted net income at 60% for the quarter. For the balance of the year, we anticipate the cash flow conversion, including from Ranir, will return to between 90% and 97% of adjusted net income.

Following the Ranir acquisition, we are planning to refinance our existing term loan with a new $600 million facility, the proceeds of which we will use to repay our existing term loan and reduce the balance on our revolving credit facility.

We expect that the refinancing will close by the end of this month, we’ll be leverage neutral, and we’ll lower interest expense by $2.5 million for the balance of 2019. Turning now to guidance for the balance of the current year.

Our consolidated adjusted EPS guidance is unchanged for the year in the range of $3.75 to $4.05 a share with net sales in the range of $4.75 billion to $4.85 billion. Adjusted Worldwide Consumer net sales on a constant currency basis for 2019, excluding exited businesses are expected to grow by about 5% versus last year.

We anticipate this sales growth being driven primarily by the acquisition of Ranir by better performance in our core U.S. OTC business and by – and from a strong pipeline of new product launches in International.

The RX business continues to perform well in spite of the challenging generic marketplace, we continue to anticipate net sales growth this year as a result of a strong new product pipeline and moderation of the downward pricing pressure on this business. Please bear in mind this guidance does not include any impact in 2019 from generic ProAir.

Potential upsides for the balance of 2019 are the launch of generic ProAir, which if achieved, could add as much as $0.10 per share per quarter and incremental cost savings from Project Momentum of up to $0.05 a share. With that, I’d like to turn the call back to Murray..

Thank you, Ray. One last thing before we move into the Q&A. Last night, we announced that Jeff Smith has resigned from the Perrigo Board. I want to thank him for his service and for his insight and passion to put Perrigo back on track. Perrigo is a better company because of his and store Board’s involvement.

And as you know, I would not be at Perrigo if not for Jeff. I believe, as he said himself, his leaving is to allow him to focus on other opportunities and reflects the confidence he has in the Board, leadership team and all our employees to execute on our strategic plan and build shareholder value. Operator, we’ll now take questions..

We will now begin the question-and-answer session. [Operator Instructions] The first question comes from Randall Stanicky with RBC Capital Markets. Please go ahead..

Great. Thanks guys for the question. Murray, the U.S. Consumer business is the value driver for Perrigo. And when you look at the opportunity to drive new launch revenue higher going forward, what are the plans to do that? Or should we think about the current level, which is run rating at just north of $30 million is the new level.

And then secondly, I don’t want to focus on your RX business, but just you said if you couldn’t sell it, you would spin it. Is spin still on the table? Thanks..

Okay. Well. First off, I mean, we’re just starting on the plans on the new product and the innovation plans on CSCA. So you’re going to see great growth out of CSCA largely in the second half of the year, in the beginning of next year from the bolt on of Ranir, which is exactly I told you. It would take some time ramp up the new product program.

So everything is on track. I like what I see in the pipeline and the development of bigger initiatives, and that will ramp over time, and we’ll continue to do bolt-ons to do that.

It plays to a total number that I’ve given you that I think I get 1% to 2% organic growth from the core business, and then bolt-ons get me up to the 3% and my 3.57 algorithm that I’m working towards to meet the results of consumer peers. As it relates to the spin, it’s still an option on the table, we’re just as committed as we always are.

But this is a business that’s a good business, it’s differentiated, that doesn’t have the same exposure as others and this is a challenging time to be separating. So I – we need to do it because it’s the right thing to do.

And I believe we have a little bit of time as the business has stabilized, and I need to get the consumer business performing to where it deserves rerate anyway. And I’m going to maximize shareholder value. So we’re still committed to it. I think we spent north of $5 million in the quarter in getting ready and continuing the activities.

So we’re not backed off. But I have to be aware of what’s going on in the marketplace..

Fair enough. Okay, thanks, Murray..

The next question comes from Louise Chen with Cantor Fitzgerald. Please go ahead..

Hi, congratulations on the quarter. And thanks for taking my questions. My first question here is on your CBD strategy.

Just curious where you are with this? And what type of expertise Perrigo’s management brings in this opportunity? Second one is, how important e-commerce is to Perrigo? And how is your Amazon business growing? And then last question here is just any color you could provide on the generic gross margin progression between first quarter and second quarter?.

Okay. Let me make sure I have all – you had the e-commerce question, CBD management expertise and Ray, you can – after I do that that, you do the gross margin progression.

CBD management, I feel like we have a good group of people that are working on it, led by somebody who brought into the company who I don’t know if you’ve – I haven’t – you haven’t met him yet, but as a person who worked with me at Lorillard, who basically did the same thing and breakthrough technology and something very different in the tobacco industry with vapor products, and was the inventor of Blu e-cigs, and that we eventually bought and went national with first then.

He’s a very innovative-type person, and he is leading the charge in identifying the way to get into CBD in a Perrigo-like way. I don’t want to be the same as everybody else. It’s progressing. We have – I don’t just want to prematurely talk about it. But I’m not going to get in it to be 1 of 200 people that are just launching a lotion and a cream.

So it has to be – make sense when you hear about it afterwards. And we’ll keep you posted as we go on it. But the management expertise is there for sure because I have set that up as sort of a skunkworks to new products innovation group that doesn’t even sit here at Allegan or Dublin. From an e-commerce standpoint, our business continues to grow.

We continue to book more resources against it, our businesses. We like our relationship with Amazon. We have good margins with them and a good relationship. And as – well, you saw at the May 9 Investor Day, we have strong double-digit growth in those areas. And we have the same thing internationally.

It remains an area of focus, if there is an area I’d like to do better on is to see it more than just e-commerce, but I’d like – digital is more than e-commerce. So we’re – I’m pushing from a consumer perspective that we grow that even further.

And then Ray, you want to handle the progression on gross margin on RX?.

Yes. Hi, Louise. So the margin in Q1 in RX was 48.6% and our margin in Q2 is 41.7%. And that the decline was principally driven by downward pricing pressure plus a mix issue where we had increased sales in the authorized generics business.

And these authorized generics products have lower margins, but they do represent incremental sales and incremental dollar margin to the business..

Great. Next question, please..

The next question comes from Gregg Gilbert with SunTrust. Please go ahead..

Thank you. It’s actually Greg Fraser on for Greg Gilbert. Good morning, folks. On the Americas business, are you considering options for non-core OTC products? Or does it make more sense to keep those in the portfolio? And then the second question is, has there any progress behind the scenes on the Ireland and U.S.

tax issues that you can comment on?.

Okay. I’m not sure what are you referring to as non-core within….

Did you mean International, Greg?.

No. The 20% of sales that are non-core….

Oh, you’re talking of – no, I consider nutrition as core to our business. I was that – this business has started as an OTC business and that’s the heart and soul of what we do. We had a bolt-on a number of years back in nutrition. I like nutrition, I’ve highlighted it as a strategic area globally for growth.

I don’t like having to come back 1.5 month later after highlighting it as a strategic area for growth and it had a tough quarter, but it was a recall and a – some contract patches. It’s not the core business or the core underlying consumption. So no, I’m not looking at any pruning.

I’ve said, I’ll continue to look at the total portfolio worldwide to keep refining it to get to self-care and we have some work to do in that area. The only new news I have on the tax front is that – we – there has been filings with the courts on the judicial review, and I believe a date has been set for late April of 2020.

So that is sort of the first time there’ll be any real potential progress on that if that date holds. They tend to sometimes gets pushed back even further, but that would be sort of the next milestone in the case, and then however long it would take them to decide it. So I guess that would be the new news in the quarter..

Thank you..

Next question, please..

The next question comes from David Maris with Wells Fargo. Please go ahead..

Good morning. How are you? I hope you are good. Two questions. So first on the generic business. Just assuming that the environment for a spin out doesn’t get any better just because things are so bad.

Are you just going to plan to keep it in-house and run it as it is? Or there are other options that you’re considering? The second is, one of the first things that you mentioned that you saw that concerned you were the customer service levels, can you tell us about how you’ve address that so far? Where you stand on it? And any metrics you can provide around the progress of that would be great.

Thank you..

Okay. The first one on RX, it’s not an either/or it’s – the answer to that is yes to both of those. I am evaluating options that are creative and remember what – for this spin I need to create as much value as I possibly can and put – send off a very healthy RX business, if it’s a spinner itself.

But if it were to be a spin, it has to be very healthy and so does the remain code, and that it has to be able to execute on those strategic plans. There is lots of options to do that. And one of those options is simply to slowdown a little bit and collect a very stable cash flow.

And I feel good about the way that business has stabilized and the new product pipeline that’s come to fruition that was a little dry a year ago. And I think you felt it, the company was banking on generic ProAir, that didn’t happen.

But it expected it to happen a year ago, and has now – I’m getting the benefit of the pipeline that was supposed to come behind it is now coming to the marketplace and there is more behind that.

So I don’t see a gap in the company’s ability to compete, and the pricing at least for now feels like it has – the downward pricing pressure is not nearly to the extent it was on our business, which admittedly is pretty differentiated versus others. On the customer service, I tried to get some metrics in there.

We are – I’m really pleased with the work that’s going, although it’s a bit manual.

So we have strategically built the inventories, which cost us some working capital during the quarter, as Ray referred to, and got ourselves back to good customer service levels in the 90s, which was – we were in the low – we were in the mid-70s when I joined the company.

So the important part there is the conversations in our customers’ offices are no longer just why – what’s going on the service, what’s going on with service.

We’re back to having conversations on building the business and new products and incremental opportunities and partnerships and all the things we’re supposed to be doing instead of covering for – and explaining why we’re not doing the most basic thing we’re supposed to do well. So I like that. I like to not have that increased inventory be permanent.

So there’s a lot of work underway to systematize and with systems and process that we’re making great progress on to be more nimble and the able to keep those service levels without the extra working capital..

Great. Thank you very much..

The next question comes from David Risinger with Morgan Stanley. Please go ahead..

Good morning. Congrats on the performance. I have questions regarding the organic revenue growth expectations. So could you just comment on, I guess, first, what we should expect for second half 2019 organic sales growth momentum ex Ranir? And then Second, Murray, I believe, the longer-term target is for 1% to 2% organic revenue growth.

I don’t specifically recall that mentioned at the Analyst Day, I may be wrong because it’s been a bit of a whirlwind of new slow in the last couple of weeks with respect to quarterly results, but is that 1% to 2% organic revenue growth the same as you indicated in the Analyst Day? Thank you..

Yes. It definitely is the same as we said. And so I would expect Ranir after the incremental – just putting pro forma into the business, it’s growing at a faster rate to be an example of help accelerating the ongoing rate 2% to 3%. So that’ll improve our organic performance.

But that’s exactly what I said – and the way – frankly the way, if you sort of take out all these distractions that Animal Health has there and other, the way the business has been performing. In the second half of the year, we’re looking for a little stronger organically even without Ranir.

But you’re – we’re looking at 5-plus percent growth in the second half of the year when you count Ranir in there and a stronger performance. And by the way, we had it in the first have, too. It’s just – it’s a complex business, I’m getting my hands around it.

But infant formula the play – like we would have had a gang buster quarter if infant formula was just flat. I mean the category tripling and then extended cost currently to 4% is – and 5% fine is big numbers for us in the store brand core business..

Thank you..

Your next question comes from Ami Fadia with SVB Leerink. Please go ahead..

Good morning, this is Ami.

Can you give us some color around the Ranir business, maybe some color around the composition of the $300 million plus Animal revenue run rate? And what’s really going to drive growth? Do you expect it to grow high single digits this year on a year-over-year basis? And what’s really going to drive that growth? And then secondly, you talked about several new areas of self-care at the Analyst Day.

What are some of the areas that you are exploring that could add growth over the next 12 to 18 months? Thanks..

Yes. It’s a big question. I covered a lot of those in the Investor Day, the second part of the question. I don’t really want to use this call, but I hear the question of giving more detail on the future on Ranir. But Ranir as in – as their historic algorithm, they’ve been growing in high single digits, low double digit growth for years.

And that’s been a combination of both organic and smaller bolt-on acquisitions for those, they’re kind of the same formula that we are. And I – the percent that comes from me each, I expect that business to continue to grow this year. We’ve given you that within our guidance.

And that’s from both a combination of continuing to grow at existing customers, broadening their new product profile – portfolio, we’re expanding internationally, about 30% of that business is international. They continue to have a robust program that, again, I talked about on Investor Day.

But I love the way they’re focused on not just national brand equivalent, but national brand better and national brand different. And in the future, as it goes forward, this opens up a whole leg of growth for us, both organically and inorganically with additional bolt-on there as well, which is all part of the idea.

As it relates to our core business, I gave you opportunities – despite the tough quarter, I believe nutrition is a big opportunity for this company.

And we’re to narrowing our focus, I think nicotine cessation has been too focused and too tiny, and that’s why I said that we had signed the technology agreement and develop – codevelopment agreement on how we could use sort of the responsibility of Perrigo to work with the FDA to solve some of the problems in tobacco, or bring solutions to smokers wanting to quit in a form that they like, that the FDA can get behind.

And that’ll take work, those aren’t easy things to do, but I believe that nicotine cessation is less than a couple of percent of the total tobacco industry numbers with the entire consumer base willing to quit. So it’s got to be an opportunity for us.

And international, the weight loss e-commerce, there is just – I think we’ve illustrated $0.5 billion of new products that we have put into the pipeline. So we’ll keep you posted as we go forward, and I think I left down naturals as another area. But there’s a lacking of opportunities. There has to the strong discipline.

And I continue, I’m a process guy and I push the organization hard.

And as an example, at this Board meeting we had done the Ranir, but we – I got approval to a comprehensive M&A strategy going forward that laid out the priorities and the funnels that we could go out and do these kinds of bolt-ons, but with real discipline that create shareholder value..

Next question, please..

The next question comes from Pat Trucchio with Berenberg Capital Markets. Please go ahead..

Good morning. Quick one on the generic ProAir.

Can you tell us when we could expect an update on a potential approval on generic ProAir? And what sales assumptions are in that $0.10 per quarter estimates? And then on project momentum savings of $100 million, can you tell us if any of the drivers of the savings have changed since the Investor Day? How much of the savings are expected to be achieved in 2019? And is it possible that incremental savings beyond what you’ve identified over the next three years could be achieved from additional levers or additional learnings, as in, for instance, with the consolidation of the supply chain in Europe and improved inventory systems in Europe?.

Well, let me do the second half and then, Ray, you talk to the ProAir. Although we’re not going to talk to the – speculate on the regulatory approval. The regulatory teams – you can talk to the numbers in a minute, Ray. We believe we have an approvable product right now and there is – hopefully it could be tomorrow. We believe we’re close.

As it relates to a project momentum, the first phase of project momentum when I stood up at May 9, I had confidence at our first cut at it, to believe from an overhead reduction that I could get to the $100 million number.

Now I have complete line of sight and probably to a little bit more recognizing you don’t get everything, but I’m comfortable with that number. I’m not really expecting much of any of it in 2019, we’ll come in the fall and layout the actual plan as we’re laying out the execution now. But I expect it to affect 2020 numbers and 2021 numbers.

And the difference in the short term versus the long term is some of them require systems to be put into place, as for an example, you’d start it already to talk about CSCI, but you have literally an omega, there were almost 35-something-plus operating systems across there. So there’s a whole lot of manual labor to consolidate all of that.

And it’ll take systems work and investment to accomplish that and that takes a bit longer. But I really like is the back half of your question, is that it? And the answer is no. This first phase was that we’re focused on the next 1.5 year was overhead related. So operating expenses, cost of products sold or manufacturing, et cetera.

So Phase II for us, which we’re just entering, and I have no idea the size of that number as I sit here today is to begin to do the work in that area. And I believe there should be meaningful opportunities. This is very complex organization with 14,000 SKUs and all that. So we’ll begin the work on SKU optimization.

And manufacturing configuration and distribution configuration, but that wasn’t part of the initial phase.

Ray you want to enter the sort of the economics of the ProAir?.

Yes. I mean we’re expecting $0.10 a quarter as we said. And we don’t normally getting to the details of what that revenue would be. But obviously, it’s a fairly modest amount..

Next question..

[Operator Instructions].

Last question, please..

This concludes our question-and-answer session. I would like to turn the conference back over to Murray Kessler for any closing remarks. Please go ahead..

Just – I’ll just leave it at thank you for your interest in Perrigo. Know the team is working hard and is excited about our future to convert their company and transform the company to a consumer self-care company. We’ll be back here next quarter. Bye..

The conference has now concluded. Thank you for attending today’s presentation. You may now disconnect..