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Aceto (NASDAQ:ACET)

Q3 2013 Earnings Call

May 10, 2013 9:00 am ET

Executives

Salvatore J. Guccione - Chief Executive Officer, President and Director

Douglas Roth - Chief Financial Officer, Principal Accounting Officer, Treasurer, Chief Administrative Officer, Senior Vice President and Assistant Secretary

Ronald Gold - President of Rising Pharmaceuticals Inc and Chief Operating Officer of Rising Pharmaceuticals Inc

Analysts

Daniel D. Rizzo - Sidoti & Company, LLC

Frank Charles DiLorenzo - Singular Research

Kevin McKenna

Gregory M. Macosko - Lord, Abbett & Co. LLC

Gregory B. Gilbert - BofA Merrill Lynch, Research Division

Operator

Welcome to the ACETO Corporation Fiscal 2013 Quarter Earnings Call. My name is Larissa, and I'll be your operator for today's call. [Operator Instructions] Please note, this conference is being recorded. I'll now turn the call over to Stephanie Carrington, Senior Vice President of Investor Relations of the Ruth Group. Ms. Stephanie, you may begin.

Operator

Thank you, operator. Good morning, everyone, and welcome to ACETO Corporation's Fiscal 2013 Third Quarter Conference Call and Audio Webcast. With me today are Sal Guccione, President and CEO of ACETO; Douglas Roth, CFO of ACETO; and Ron Gold, President and COO of Rising Pharmaceuticals. During this call, Sal will provide a strategic overview of the company and discuss the performance of each business segment. Doug will review the company's financial results for the fiscal 2013 third quarter ended March 31, 2013. Following that, we will open the call for questions. With that, I will now turn the line over to Sal. Go ahead, Sal.

Salvatore J. Guccione

Thanks, Stephanie. And good morning, everyone. I'd like to first thank you, all, for joining us on this call for our third quarter conference call. And begin by saying that I'm obviously very pleased with the results of this quarter. I think this was a great quarter for ACETO. We set new records, both for net sales and gross profits with sales being approximately $151 million this quarter, which was up 24% versus the same time last year. Gross profits for the quarter were $31.5 million, up about 42% compared to the same time last year. And net income rose 41% to $7.6 million with diluted earnings per share up 40% to $0.28 a share. Before moving on to the segments, I'd like to note that, that $0.28 a share I just noted is on a GAAP basis, and it includes a $2.8 million charge for additional accrued contingent consideration related to the December 2010 acquisition of Rising Pharmaceuticals. Rising has, as most of you know I think by now, has been a great acquisition for us and has continued to outperform our expectations, and there's a certain contingent part of the purchase price, which gets recognized over time. And as Rising has outperformed our performance, we've needed to increase the estimated amount that we will be paying the former owners. So hence, we took a $2.8 million charge this quarter. It's for us good news that the business is doing well. But if we were to adjust that out on a non-GAAP basis, the performance this quarter would have been $0.34 a share, which we think is obviously very good. The record sales and gross profit performance really was driven by 2 of our segments, the Pharmaceutical Ingredients segment as well as the Human Health segment.

Now looking at each of the segments, Pharma Ingredients led the quarter's growth with a 52% year-on-year top line increase. That performance was primarily driven by demand for a product launch as well as very good growth in certain pharmaceutical intermediates. The Human Health segment also grew nicely, up 29% versus last year's third quarter. And that was driven by recent product launches as well as organic growth with in our Rising Pharmaceuticals business. Performance Chemicals sales were flat compared to last year as we saw increases in our agricultural products business, but those were offset by various decreases -- by decreases in various Specialty Chemicals.

Looking at gross profits and gross margins at the company. The company achieved an overall gross margin of about 21% in the quarter. That compares to 18.3% last year. And again, as with the sales, the margin increase is due to very strong shelves in our Pharma Ingredients, as well as Human Health segments.

Within Pharma Ingredients, gross profit was $13.4 million, which was more than double the $6.2 million achieved last year. And gross margins expanded to 21.7%, up from 15.2% last year. The margin expansion is primarily due to the orders for new product launch I mentioned earlier.

Gross profit in Human Health segment was $11.1 million for the quarter versus $7.8 million last year. The growth was driven by new product launches at Rising really throughout fiscal 2013 as well as strong repeat business at Rising. So far this year, Rising has launched a total of 7 new products.

Regarding new product development, we've continued to increase R&D investment at Rising during the quarter. And now on a year-to-date basis, we've spent approximately $1.4 million more in R&D at Rising compared to last year to date. Our new product pipeline at Rising remains robust, and with good visibility and we expect to launch another 2 new generic products during this fiscal fourth quarter, making the total expected product launches of 9 for the year.

With respect to the margins in the Performance Chemicals segment, while as I mentioned sales were flat with last year's quarter, margins contracted to 13.4% in the quarter versus 15.5% last year. This resulted in $7.1 million in gross profit for Performance Chemicals versus $8.2 million last year. The decrease is due primarily to product mix within the segment. Our balance sheet remains strong, positioning us well to invest in our internal growth initiatives and to continue to pursue strategic acquisitions. And overall, we remain optimistic about the company's long-term prospects. I look forward to reporting on a successful 2013 later this summer.

Finally, before turning this over to Doug, as you probably know by now, we've recently announced the management transition at our Rising Pharmaceuticals subsidiary. Ron Gold and David Rosen, who are the former owners of Rising, who sold us the business in December of 2010, informed us that they intend to pursue other opportunities outside of ACETO upon the expiration of their 3-year employment agreements, which expire at the end of this coming December. We're in the midst of a recruiting process, and we expect to announce the successor of Ron Gold in the near future. In the meantime, Ron and Dave will quickly to manage Rising as they've done since December of 2010 and will also assist with the management transition. I personally want to wish Ron and Dave all the best, and I look forward to working with them for the balance of this year.

With that, I'll turn the call over to Doug.

Douglas Roth

Thank you, Sal, and good morning all. Net sales for the fiscal 2013 third quarter were just short of $151 million, which represents an increase of 24% from the $121.4 million we reported in the fiscal 2012 third quarter. Total company third quarter fiscal 2013 gross profit was $31.5 million, which was 42% higher than last year and a company record driven mainly by our generic drug and Pharmaceutical Ingredients businesses as explained by Sal previously. Our SG&A expenses for the quarter increased by almost 36% to $19.8 million for the 3 months ended March 31, 2013. However, I would note that over half the increase is due to the $2.8 million charge related to the contingent consideration related to the Rising acquisition and increased accrual for performance award related to the overall performance of the company, and increased R&D expense at Rising also contributed to the increase in our SG&A for the quarter. Our reported net income for the quarter was $7.6 million or $0.28 per diluted share compared to $5.4 million or $0.20 per diluted share last year. As noted, after adjusting for the Rising accrued contingent consideration charge, ACETO's net income for 2013 third quarter was $9.3 million or $0.34 per share.

During the first nine months of fiscal 2013, sales were strong, up 13% close to $377 million compared to $333 million in the year ago. Gross profit for the 9 months ended March 31, 2013, was $73.7 million, an increase of over 20% compared to gross profit of $61.3 million in the prior year period. SG&A for the year was up 14.6% versus last year. Again, this was primarily due to the previously mentioned $2.8 million expense for additional Rising contingent considerations, as well as increased R&D expense at Rising, which was approximately $1.4 million this year through 3 months versus last year-to-date -- last year's to date.

Net income for the 9 months ended March 31, 2013, was $16.9 million or $0.62 per diluted share compared to $13 million or $0.49 per diluted share in the prior year period. This reflects an increase in net income of 30% for the 9-month period. Adjusted for the Rising consideration charge, ACETO's net income for fiscal 2013 was $18.7 million or $0.68 per share. So that's on a non-GAAP basis. Our financial position as of March 31, 2013, continues to be strong as we had cash, cash equivalents and short-term investments of $37 million, working capital of $137 million and shareholder equity of $185 million.

Now with that said, I would like to turn the call over for questions. Operator?

Question-and-Answer Session

Operator

[Operator Instructions] Daniel Rizzo from Sidoti & Company is online with a question.

Daniel D. Rizzo - Sidoti & Company, LLC

I think you indicated that on the last call the Pharmaceutical Ingredients was due to a couple new orders that led to a surge in sales, but I think you also said that, that was -- I mean, it's not going to carry over to next year. I'm just wondering if you're seeing more sales for the same product into the fourth quarter until the beginning of next year.

Salvatore J. Guccione

Dan, this is Sal. No, we're not seeing more products in the fourth quarter carrying over into next year. As we mentioned, I think, in the press release also, this was a really solid quarter for us driven by the things I've mentioned earlier. Yes, we would hope that -- so this is the -- the thing you're mentioning now is a product launch, we hope that it repeats next year and thereafter, but we don't know. It's going to depend on the success of our customers. Again, take a Rising product, there we have more control because when we launch a product at Rising, we are controlling the finished product and therefore, have a better visibility into the ultimate marketplace. Here, we're selling an active ingredient, which is then put into a customer's launch, and we're a little subject to their success in the marketplace. So we're not seeing it in the fourth quarter. We hope to see it in the future. But we don't know when -- or frankly, at this point, the magnitude of that.

Daniel D. Rizzo - Sidoti & Company, LLC

Okay. And with the Human Health segment and the end form drugs, you said you have good visibility there and expect, I think, to launch 2 this quarter. Is the pipeline still around like 45 products, just the total pipeline?

Salvatore J. Guccione

Yes, Ron, do you want -- the answer is yes. And Ron is here with us. He has a sense for this year and the number for next year.

Ronald Gold

Yes, it's basically around 40. And next year, we're hopeful to again be in the same type of range of 7 to 9 new products.

Daniel D. Rizzo - Sidoti & Company, LLC

Okay. And then, finally, you mentioned that you're actively looking at acquisitions. Are there targets out there for you? I mean, is there people you are, I guess, in talks with, or is there any, like, thing that started or is it just something you're consistently looking for?

Salvatore J. Guccione

There are targets out there for us. Again, we don't forecast them. They're always at various stages of discussions. And some, you may get pretty far along and they fall apart and you kind of start all over again. So I can't get into at which stage we are with various folks. But there are acquisitions out there and good deal flow. It's an active program that we have going on all the time. And we'll wait to -- for the right deal that will complement what we're doing here.

Operator

The next question comes from Frank DiLorenzo from Singular research.

Frank Charles DiLorenzo - Singular Research

I had a question about the search you may be conducting for a replacement over at the Rising division. I was wondering what your focus is on? Is it going to be on something in the generics space? Are you considering the pharmaceuticals, especially pharma areas? Also are you looking for somebody that primarily has a focus on the domestic market, or are you also going to consider someone that may have international connections?

Salvatore J. Guccione

So again, our flagship here at Rising is a generic pharmaceutical company. So our #1 criteria will be to find someone from within the generic pharma industry who understands the business that we have. And again, and that is U.S.-based for the most part in terms of our end-market sales. We source both from the U.S. and outside of the U.S. So the first criteria will be to find someone who knows and is related to that industry. Would it be nice if they have some experience or some knowledge, et cetera, to -- beyond that? Yes. But the criteria would be to find somebody who's a drop-in from the generic business.

Frank Charles DiLorenzo - Singular Research

And just a separate question on the contingent considerations. Do you expect any amount for your fourth quarter, or is it too early to say on that front?

Douglas Roth

Well, Frank, just the way it works is we take a look at -- the measurement period is 36 months after the acquisition. So that takes us to December 2013. So based on our actual life to date, plus what we expect to do, we think we've covered it adequately right now. However, if Rising outperforms our projection, then there might be a small charge during -- between now and the end of this calendar year. But it can only be because there's a maximum amount, and there's only like $400,000 more in contingent consideration that they could earn.

Operator

The next question comes from Kevin McKenna from Main Line Capital.

Kevin McKenna

Obviously, change can be good in just a few short years. You've changed the business. You've changed the business address. You've changed the business name with all those pleasantries aside. What have you done for me lately is always the question, but this is how I get paid. This is a stock that has performed extremely well. I'll note that your debt is now net 0. Your cash on the balance sheet and your outstanding debt cancel each other out. What are your plans for levering your balance sheet to make that next acquisition, and will that bring you maybe the change in management at Rising that you desire?

Salvatore J. Guccione

I'm not sure I understand the second part of your question.

Kevin McKenna

Well, would you be acquiring a company that also possibly could solve your management issue with Rising Pharmaceuticals?

Salvatore J. Guccione

We're not counting on that. If something like -- we're going out and we're doing a search to replace Ron Gold and run the Rising business, that's our #1 job right now in terms of Rising. In terms of debt and levering the balance sheet, our priorities as a company are few. One is it has been making sure that the balance sheet is clean from a debt point of view where the original Rising debt was paid down and as you know, I think we're in good shape now given the debt and cash. So now it will be really to fund an acquisition should it come along. It will be to fund some of our internal growth initiatives and opportunities and then obviously, to maintain the dividend and that's where monies are going to be going. But in terms of the large chunks, yes, it will be to do an acquisition at some point.

Kevin McKenna

So just a follow-up, the plan is to lever the balance sheet through a debt issuance and maybe including equity?

Salvatore J. Guccione

Well, I mean, that would depend on the size of a deal. The way we did Rising was simply we levered up with debt. So if we were to buy a company in that similar size range, then it would be debt. Obviously, if there's something much larger, then we have to think of other ways of structuring deals. But the default thinking is a deal like the way we did with Rising.

Operator

[Operator Instructions] The next question comes from Lester Petruzzi from -- private investor.

Unknown Shareholder

Can't find too many things to ask questions about when your near perfection with a result like you've just demonstrated. But a question is, I sort of hankered with over the years. I've been a long-term shareholder, at least, since the Rising days. Is there any thought of breaking out from SG&A? What you're calling the R&D, which really isn't the classic R&D of the Specialty Chemicals company. But we all understand that R&D really just covers the cost of gaining approval at the FDA for each discrete generic drug application and perhaps also for the agrochemical EPA registrations and labels. Would it be useful at all to break that out so we can see -- that number would actually be -- growing significantly would be a good sign, not a bad sign. And when it's buried in SG&A, it's mixed up with a lot of other things.

Douglas Roth

So Lester, this is Doug. That has been a topic of conversation here, and while we haven't made a final decision, I believe that it's likely that in fiscal 2014 that we will break it -- break out R&D on our -- on the face of our income statement.

Unknown Shareholder

Excellent, Doug. And while I've got you, can you just confirm the EBITDA for the quarter and the 9 months? I think the nominal quarter is probably $14 million. But shouldn't we be adding back the $2.8 million contingent charge?

Douglas Roth

Okay, Lester, hold on. I do have that information.

Unknown Shareholder

We should assume it's sort of a non-GAAP adjusted EBITDA just like the earnings per share, so that's a nonrecurring, right, hopefully?

Douglas Roth

Yes, it is nonrecurring. In terms of our EBITDA, your math is pretty good, Lester. We did $13.8 million for the quarter and on a trailing 12 months, we're just short of $41 million.

Unknown Shareholder

But just philosophically, how would you look at that to the $13.8 million. Wouldn't you add the $2.8 million to that to get a real sense of the cash flow, because I mean that's...

Douglas Roth

Well, that would be -- and let's -- if you want to call it free cash flow.

Unknown Shareholder

Yes, maybe that's what I'm searching for.

Douglas Roth

Yes, and that was, to your point, a little bit over $15 million for the quarter.

Operator

The next question comes from Gregory Macosko from Lord Abbett.

Gregory M. Macosko - Lord, Abbett & Co. LLC

Could you just talk a little bit about the Performance Chemicals, probably a smaller piece. But in terms of the mix, et cetera, and the top line on the sales growth there, can you give us some more color?

Salvatore J. Guccione

Sure, sure. So Performance Chemicals is made up of really a number of chemicals serving a number of markets, okay? We've got -- the way we kind of look at it, we've got our Specialty Chemicals business unit, which sells products for paints and plastics, and construction, electronics, a host of markets, agricultural intermediates. And then we've got our agricultural protection products, which are finished ag products, okay, and that's all within Performance Chemicals. What we've seen this year really year-on-year is still a little bit of growth in the entire -- on a year-to-date basis, we've done about, I think it's $142 million in revenue versus $134 million last year. So the segment is up, about 5% or so, which is our expectations for this segment are kind of slowish growth, GDP light growth. And then within the segment, we've seen better growth within the finished agricultural protection products. And less so, and I'm not -- I don't have year-to-date within -- with each business unit, but less so in the Specialty Chemicals. And that's a market we're expecting slow growth. It's competitive market, and I think kind of what you've seen on a year-to-date basis is what we're expecting for the business.

Gregory M. Macosko - Lord, Abbett & Co. LLC

What about that animal vaccines and the like, where do those -- those are in the pharmaceutical group, and how are those doing?

Salvatore J. Guccione

That's a really, really small part of our business these days. I think at one time, it might have been a hope or a thought that those would be larger -- a larger piece of ACETO's future, but they're really just a niche product and I would say immaterial to the company at this point.

Douglas Roth

And to your point, it is reported within the Pharmaceutical Ingredients segment.

Gregory B. Gilbert - BofA Merrill Lynch, Research Division

Okay. And anything to comment about India and China or some of the overseas operations and the like?

Salvatore J. Guccione

No, I'd say just to -- as a reminder for other folks on the call, India and China are the locations where we do most of our product sourcing, most of our pharmaceutical, APIs and -- APIs come from India and most of the performance chemicals come from China. We -- things appear to be stable there. We've got about 2 dozen folks on the ground in China, another dozen in India. And they give us really excellent product and -- at a very competitive cost to us.

Gregory B. Gilbert - BofA Merrill Lynch, Research Division

Anything -- any investigations regarding Vietnam, Indonesia or any other locations that you're looking into?

Salvatore J. Guccione

We look at various countries in the region there. More so as -- are there potential new locations for us to sell into? So our kind of -- our sales headquarters from the region is actually in Singapore. And off of there, we branch out to the other countries, and we look at all those countries.

Operator

The next question comes from Frank DiLorenzo from Singular Research.

Frank Charles DiLorenzo - Singular Research

I just had a quick question on the Q4, if you could provide maybe a little detail on -- I was wondering if you could give us a little more color on your last quarter, and for this fiscal year if -- you said on historical basis, things would be relatively flat. Can you give us a little more detail on what will you say -- how you see this quarter playing out, if that's possible?

Salvatore J. Guccione

Sure. So again, we don't give guidance other than the long-term guidance we've given in the past. But as we noted in the press release, we're not expecting the fourth quarter of this year to look like the third quarter but rather on a macro basis right now. And again, our business jumps around month to month and even quarter-to-quarter sometimes. We expect them to be more in line with maybe what we did in the first and second quarter of the year.

Frank Charles DiLorenzo - Singular Research

Okay. One other quick question. Longer term, you had provided in the past the graphic of the projects you potentially have going on on a yearly basis over Rising Pharmaceuticals and the aggregate market size. And it looks like the Q is pretty solid for 2013, 2014, strengthens quite a bit in 2015. And then maybe there's a bit of a lull in 2016. So considering that longer term, what will you be doing to try to bolster the 2016 and out period? Will it be just an acquisition you're looking for, or will be there additional internal projects that you're maybe starting up over the next few years?

Salvatore J. Guccione

It will be internal. I'll let Ron speak to that.

Ronald Gold

My opinion would be that the 40 projects in our pipeline or about 40 projects is -- should be -- give us about the same amount of launches per year going on '13, '14, '15, '16. I wouldn't go further than '16 to -- for the vision because that's a little too far out. But we have a -- let's call it a robust pipeline and somewhere between half a dozen to 10 products per year for the next 4 years '13, 14, '15, and '16 or '14, '15, '16 and then '17 and '18 projects are on consideration and we'll continue that steady growth.

Salvatore J. Guccione

We're working on those all the time. There's another group of projects not on -- what you see on the roadshow or the website that are working their way through the system, and they'll find a way on the '16 and then '17. So -- and then, so we think it will be filled internally. Obviously, if we do an acquisition, that's separate, that will be a separate issue.

Operator

And I'll turn the call over to Sal Guccione for his final remarks.

Salvatore J. Guccione

Okay. Listen, thank you all for dialing in here. As we said, we're pleased with this quarter and with the third quarter, and now it's onto the fourth. And enjoy your summer, we'll speak to you soon. Thank you.

Operator

Thank you, ladies and gentlemen. This concludes today's conference. Thank you for participating. You may now disconnect.

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