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West Pharmaceutical Services, Inc. (NYSE:WST)

Q1 2010 Earnings Call

April 29, 2009 9:00 am ET

Executives

John Woolford - Westwicke Partners, IR

Don Morel - Chairman and CEO

Bill Federici - CFO

Analysts

Arnie Ursaner- CJS Securities

Raphael - UBS

Ross Taylor - CL King

Andrew Hilgenbrink - Jefferies & Company

Jim Sidoti - Sidoti & Company

Operator

Welcome to the West Pharmaceutical Services first quarter earnings conference call. At this time, all participants are in a listen-only mode. (Operator instructions) Today's conference is being recorded. If you have any objections, you may disconnect at this time.

Now, I would like to turn today’s meeting over to Mr. John Woolford from Westwicke Partners. Sir, you may begin.

John Woolford

Good morning everyone, and welcome to West’s first quarter 2010 results conference call. We issued our financial results this morning and the release has been posted in the Investors section on the company’s website located at www.westpharma.com. If you have not received a copy of this announcement, please call Westwicke Partners at 443-213-0500 and a copy will be sent to you immediately.

There is also posted on the company’s website a slide presentation that management refers to in their remarks today. The presentation is in PDF format and you may need to download appropriate software in order to view the presentation. A link to a free download of that software is provided at the website.

Before we begin, I remind you that statements being made by management may contain forward-looking statements within the meaning of the U.S. Federal Securities Law and that are based on management's beliefs and assumptions, current expectations, estimates and forecast. Statements that are not historical facts, including statements that are preceded by, followed by, or that include words such as estimate, expect, intend, believe, plan, anticipate and other words in terms of similar meaning are forward-looking statements. West's estimated or anticipated future results, product performance or other non-historical facts are forward-looking and reflect our current perspective on existing trends and information.

Many of the factors that will determine the company's future results are beyond the ability of the company to control or predict. These statements are subject to known or unknown risks or uncertainties, and therefore, actual results could differ materially from past results and those expressed or implied in any forward-looking statement. You should bear this in mind as you consider forward-looking statements. For a non-exclusive list of those factors, which could cause actual results to differ from expectations, please refer to today's press release.

Investors are also advised to consult any further disclosures the company makes on related subjects in the company's 10-K, 10-Q and 8-K reports. The company undertakes no obligation to publicly update forward-looking statements whether as a result of new information, future events or otherwise.

In addition, during today’s call management may make reference to non-GAAP financial measures including adjusted operating profits and adjusted diluted EPS. These measures have no standardized meaning prescribed by U.S. GAAP and therefore, may not be comparable to and should not be viewed as a substitute for U.S. GAAP operating income or diluted EPS.

Reconciliations of the non-GAAP financial measures to the most comparable financial results prepared in conformity to GAAP are provided in the materials accompanying this morning's earnings release. Again this call is being recorded on behalf of West and is copyrighted material. It cannot be rerecorded or rebroadcast without the company's expressed permission. Your participation on this call implies your consent to our taping.

At this time, I would like to turn the call over to Don Morel, Chairman and CEO. Don?

Don Morel

Thanks you, John, and good morning everyone. Welcome to West's 2010 first quarter conference call. Joining me for the call today is Bill Federici, West's Chief Financial Officer and Mike Anderson, our Treasurer and primary Investor Relations contact.

As we work our way through the call this morning, Bill and I will again utilize the PowerPoint slide that's posted on our website and we'll call out the slide number we are referring to in our commentary.

I would also like to remind everyone that we will be reporting our results using the Pharmaceutical Packaging Systems and Pharmaceutical Delivery Systems' segments outlined in our February year-end call.

The Pharmaceutical Packaging Systems segment is comprised of our global component's business which is currently forecasted in the range of $770 million to $790 million in revenues for 2010. This segment has responsibility for brand such as Westar, FluroTec, Envision and NovaPure, in addition to our historic disposable medical device, veterinary, diagnostic and dental products businesses.

Delivery Systems brings together the Tech Group contract manufacturing operations, Medimop, Plastef and programs approaching commercializing such as the Daikyo Crystal Zenith silicone-free syringe system, NovaGuard, a proprietary auto-injector ConfiDose as well as our ongoing innovation programs.

The Delivery Systems segment is expecting sales in the range of $320 million to $330 million for 2010.

Before discussing our Q1 results, I would like to remind those listening that West will host an Investor Day in New York on May 6th beginning at 8 a.m. Details for this meeting and information on attending can be found on slide number three.

The presentations will highlight market trends in our major pharmaceutical and device markets, key growth initiatives in both operating segments to achieve our five-year financial targets and the new product case study that illustrates the timeline for capital investment, production system validation and regulatory and customary approval leading to eventual sales representing a typical West product. There will also be a series of displays highlighting our CZ platform and other new products

Turning to the first quarter, we have completed the business unit realignment presented in November 2009 and both operating segments were off to a strong start for the year. Our sales and order flow were quite strong for the first three months continuing the trend we observed during the fourth quarter of 2009.

We are particularly pleased that solid sales gains were achieved in all of our major markets and across virtually all of our major product lines.

Slide number four summarizes our operating performance for the first quarter. On a consolidated basis, the first quarter results showed strong improvement over 2009 with sales increasing 9.3% to just over $274.7 million, excluding the effects of currency translation.

Sales within the Packaging Systems segment grew 7.8% to $198.9 million and Delivery Systems sales for the quarter totaled $76.9 million, an increase of just over 12% again excluding currency effect.

Our consolidated gross margin improved by 1.3 percentage points to 29.9% for the quarter. Excluding discrete items from both the current and prior year periods, adjusted earnings grew approximately 38% from $0.42 per share to $0.58 per share.

I'd now like to turn the call over the Bill, who will provide a more in-depth summary of our first quarter performance. Bill?

Bill Federici

Thank you, Don, and good morning, everyone. We issued our first quarter results this morning. Reporting for the first time under the company's new segment structure, net income from continuing operations is $19.8 million, or $0.57 per diluted share versus the $0.46 per diluted share we reported in Q1 2009. As explained in the release, both periods included restructuring charges and Q1 2009 included discrete tax benefits.

Excluding the effect of those special items in both periods, Q1 2010 earnings were $0.58 per diluted share versus $0.42 per diluted share for Q1 2009, a 38% year-over-year increase. $0.03 of the increase in 2010 was due to currency translation.

Slide five, in the accompanying PowerPoint presentation shows the components of our consolidated sales increase. Sales grew by $32 million to $274.7 million, a 9.3% increase over Q1 2009, excluding exchange.

Price increase contributed $1.6 million or seven-tenths of a percentage point of the increase. Volume and mix contributed $14.2 million or 5.8 percentage points of the increase. Our July 2009 Plastef acquisition contributed $3.9 million or 1.6 percentage points and H1N1 component sales contributed $2.8 million or 1.2 percentage points of the increase.

Slide six shows our consolidated gross profit, adjusted operating profit, currency impacts and FX neutral growth rates. Our gross profit excluding currency increased 14.4%, up by a modest price increases in the product mix and improved planned efficiencies offset by increased raw material, labor, overhead, and depreciation expense.

Adjusted operating profit, which eliminates the restructuring charges and discrete tax benefits from each quarter increased by 27% reflecting the increased gross profit and effected SG&A cost controls.

Slide seven analyzes 130-basis point increase in consolidated gross profit margin in the quarter versus last year. Critical factors were volume increases and overall production cost efficiencies that were helped by volume and by our lean manufacturing programs. Higher depreciation costs reflect the increased investments we've made recently in capacity for higher margin products.

From a segment perspective, Pharma Packaging Systems Q1 2010 gross profit margin was significantly higher in Q1 2009, which offset a decline in our Q1 2010 Delivery Systems gross profit margin.

Pharma Packaging Systems gross profit margin increased by 280 basis points to 34.8% driven by favorable volume and mix and improved efficiencies to the higher plant loads during the quarter. Mix improved as a larger portion of the sales increase was for a high-value coded in Westar process components.

We also saw modest price increases. These increases more than offset the effects of increased labor rates and depreciation expense. Material costs were not significantly different.

Delivery Systems gross profit margin declined by 210 basis points to 17% as a result of the Plastef acquisition sales being essentially breakeven at the gross margin line. Increased labor and overheads partially offset by increased pricing and some increased volumes.

We expect our 2010 full year Delivery Systems margins will increase versus 2009 due to continued favorable volume and mix, some increased pricing, lean savings and savings from our restructuring program.

Slide eight show the detail changes in consolidated SG&A expenses. As I previously mentioned, Q1 2010 cost controls helped to limit the overall growth of our SG&A expense. As a percentage of sales, SG&A expenses declined from 17.7% in Q1 2009 to 16.9% in Q1 2010. External market driven factors accounted for more than half of $3.7 million overall increase. Currency translation and share price sensitive stock-based compensation costs rising partially offset by lower U.S. pension costs.

Other net increases were for incentive and other compensation and depreciation related to our IT systems upgrades.

Turning to business segment sales, slide nine shows the details of the $22.5 million or 12.8% increase in Pharma Packaging Systems sales. Excluding currency effects, sales increased 7.8%, driven by volume increases and a favorable mix. Included in favorable volumes were $2.8 million of H1N1 component sales. Sales increased in all regions with North America supplying the majority of the increase.

High-value product sales increased 23% to $72 million versus Q1 2009. Excluding H1N1-related sales, high-value product group sales increased by 18%.

Standard product sales were essentially flat at $91 million versus Q1 2009 and disposable medical device component sales increased by roughly 5% to $27 million versus Q1 2009.

As a reminder, H1N1 components sales were roughly $22 million in 2009, but we expect only about $5 million of H1N1 component sales in 2010. The majority of which were sold in Q1.

Slide 10 provides the details of the $9.4 million or 13.9% increase in Pharmaceutical Delivery Systems sale. On an ex-currency basis, Q1 2010 Delivery Systems sales increased by 12.3%.

Our high-value safety and administration systems sales increased to $12 million in the quarter including $3.9 million of sales associated with our July 2009 Plastef acquisition.

Contract manufacturing device sales increased by 5% to $64 million due to increased sales in devices used in surgical and other healthcare application such as auto-injection pens. Excluding acquisitions and currency effects, Delivery Systems sales increased by nearly 7%.

Key balance sheet, summary balance sheet information is presented on slide 11. Our balance sheet remained strong and our business continues to provide necessary liquidity. We paid down debt by $2.5 million during the quarter and currency translation accounted for the remainder of the $10 million decline in debt from last year end.

Debt working capital declined by $5 million versus the prior year end due to a reclassification to current liabilities of the $20.6 million of outstanding amounts due under our revolver. We were in the process of refinancing the existing $200 million revolving credit facility, which is now current because it matures in February 2011.

We are working closely with our banking partners and expect to finalize the refinancing this quarter. The new facility is expected to have maturity of at least 3 years. It is expected to carry higher interest rates than our current facility by approximately 100 basis points.

Accounts receivable increased by $7.9 million and inventories increased by $15.6 million. Our receivable collection metrics remained unchanged from the prior year-end levels and so the increase is attributed to increased sales.

Inventories increased due to higher levels of strategic stock of certain raw materials and advanced purchases of certain materials to manage expected changes in material pricing.

Slide 12 shows our key cash flow metrics. Operating cash flows were $11.5 million in the quarter. The increase over the prior year quarter is due to increased income and the $10 million pension contribution made in Q1 2009 with no corresponding Q1 2010 pension contribution. We do expect to make a 2010 contribution to the pension during the second quarter.

CapEx was about $7 million less than Q1 2010 due to a relatively high 2009 spending on our China facility and our European and Asian facility expansions, which were completed in the third quarter of 2009.

Of the $17.7 million of CapEx in the quarter, about half was focused on maintenance activities and the other half on new products and expansion efforts.

We are updating our full year guidance, which is summarized on slide 13. We have based our revised guidance on an exchange rate of $1.36 per euro for the remainder of 2010 due to the relative strengthening of the dollar. Our previous FX guidance was $1.40 per euro. This revised currency outlook has a $0.04 unfavorable effect on our full year EPS.

Despite the unfavorable currency revision, we continue to expect consolidated sales of between $1.09 billion and $1.12 billion.

Our backlog remained strong at $252 million, which is $24 million higher than our year-end backlog and $19 million more than Q1 2009 levels, excluding currency.

More than the normal amount of the backlog is for product to be delivered in the next several months. Therefore, our visibility to the second half of 2010 is limited by our customers providing more frequent but smaller orders.

Our consolidated gross margin guidance remains unchanged at 30.5%, but the products mix expectation has changed slightly.

Our revised EPS guidance reflects our strong first quarter results offset by the unfavorable currency trend. We estimate our second quarter 2010 earnings will exceed our second quarter 2009 earnings by approximately 8% to 10%.

We expect full year CapEx to be in the range of $115 million to $130 million at the assumed exchange rates. We will continue to monitor our markets for any projected changes and demand and we will modify our spending plans accordingly.

It is important to note that our retiree benefit plans do not offer a retiree drug benefit and so we did have a charge in the quarter relating to the Federal Healthcare Reform. Additionally, it is not clear at this time, whether the healthcare reform tax on medical devices will apply to some of our products when it takes effect in 2013.

I would now like to turn the call back over to Don Morel. Don.

Don Morel

Thanks very much, Bill. As Bill highlighted in his commentary, orders for Q2 remained strong and our backlog has improved to just over $250 million. Although we believe that the cautious inventory management in ordering we experienced in 2009 has largely run its course, we do see the trend toward shorter lead times and smaller order quantities continuing through the second half of the year.

Despite the change in longer-term visibility and the challenges presents to our operations, we remain confident in our ability to deliver against our full year financial targets.

Revenue growth should fall in the range of 3% to 5% for the year, excluding currency, despite non-recurring H1N1 sales from 2009, which totaled just over $20 million.

In our February commentary, we listed one of our key objectives for the year as being the validation of our four cavity 1 ml CZ cell in the Delivery Systems group. This critical program remains on track and we expect to being delivering samples from this line to customers late in the second or early in the third quarter. The capacity from this line will help alleviate the backlog currently built up due to strong sample demand.

At this point, we also expect the first large scale order for validation and the stability to be placed by customers evaluating CZ sometime by the mid-year.

For the longer term, the business drivers that we have outlined in prior calls remain fundamentally intact. As Bill discussed, we're still assessing the downstream impact of the recently passed Patient Care and Affordability Act, but intuitively the influx of newly-covered individuals should be a positive driver of growth when the act goes into effect.

It is unclear whether the revised tax provisions will apply to part of our healthcare portfolio. However, we will not see a major charge for costs associated with retiree health plans as Bill mentioned.

One of the keys for our future success is continued growth in the biologics space, which should benefit from the follow-on biologics provision, which was outlined in the act.

This concludes our prepared remarks for this morning and we would now be pleased to take any questions that you might have. Operator?

Question-and-Answer Session

Operator

(Operations instructions). Your first question comes from the line of Arnie from CJS Securities.

Arnie Ursaner- CJS Securities

I guess my first question is, it seem your prices obviously not driving your revenue growth. It's less than 1% and what seems to be driving your growth in positive trends are volume and mix. You gave us some numbers regarding high value products, which were up 18%. Can you expand a little bit more on what you are including in your high value products? Give us a better feel for what they are. What’s driving that type of strong growth, and perhaps a little more color on what are the standard products and what’s causing them to be flat?

Don Morel

Lot of information I have to answer, but simply put the high value-add products include FluroTec and B2-Coated products, Westar process and we call Envision and NovaPure. So, those are the products that go through vision inspection for particular and those products usually carry with them a great deal of more laboratory analysis and chemical analysis before they're actually shift to the customer and the driver for that really is two-fold. One, we are seeing more stringent regulatory requirements in certain markets, where [cleanliness] is paramount. Many of our customers are beginning to make stronger entry in Japan, which has much more stringent quality standards and those markets are requiring the highest quality that we can possibly produce.

On the other hand, the standard products comprised closures that don’t incorporate to those attributes that are usually uncoated. They maybe Westar wash, but they got into the lower margin markets, which would include some of the standard business in developing economies. It would include veterinary products, dental products and things of that nature. So, we are pretty pleased with the growth in the value, of course, we had to call that out last year. During the call we expected a better mix and it's materialized during the first quarter.

Arnie Ursaner- CJS Securities

Of your $252 million of backlog, can you give us a little better feel for how much out of the high value-add products more of the standard, and you don’t breakout anymore of the separate backlog numbers for the Tech Group?

Don Morel

We don’t breakout the Tech numbers, and we usually don’t breakout the high-value add numbers. The thing about the backlog, I'd say it’s a key. It's kind of become compressed into a three to four month timeframe versus a six to nine month timeframe that we used to have.

Bill Federici

Just to add to what Don said, the Tech number Arnie for your information in the backlog is modest. It's only about somewhere less than $15 million, as included in that $250 million. The rest of it is for the packaging systems.

Arnie Ursaner- CJS Securities

I think this is new information, printer ink cartridges, how much of your Tech Group revenue was related to that new role and I assume that's not a long-term project?

Don Morel

That actually is an old product that we produce out of our Ireland facility Arnie and we just try to get bump in this quarter from it, but it’s not a big number.

Bill Federici

Not significant.

Arnie Ursaner- CJS Securities

Bill, my question for you on the CapEx, obviously if you are going to do $110 million to $130 million for the year, you only expense $17 million in Q1, half of which was maintenance. Can you give us a little better feel for the driver's of your CapEx numbers for the balance of the year? What would cause the $20 million or $30 million potential swing high versus low?

Bill Federici

I'll answer the last question first. In terms of the variability, as we have been doing in the past, we did it last year and we'll do it again this year. We try to keep a close eye on our markets and the ultimate demand for our products. As we did last year, when we saw demand slowing, we pullback on our CapEx. If you remember, we had projected that we'll be in $140 million range last year and we ended up at $105 million. So that variability Arnie is really reflective of that. As we continue to go through the year, we’ll continue to test the market for demand and adjust accordingly.

In terms of the how we get there in terms of the spend, we have projects that are ongoing. Some work has been done in one of our facilities in the US, converting it from a standard product plan to one that produces high-end pharmaceutical components. We have worked that we begun at the end of last year and we’ll continue to go forward in terms of spending on the innovation products, building more capacity for things like the CZ product.

We also are spending considerable amount of money this year on our global quality initiative, which is the lion share of the increase that we’ll see in the expansion product. So those things plus the maintenance increasing slightly year-over-year is where we see the big gap in that number.

Arnie Ursaner- CJS Securities

Two more for you Bill if I can before I jump off, in your guidance or in your comments regarding SG&A, you talked about external consulting service primarily relating to business development activities. Was there a write-off for an expense for an acquisition that didn’t move forward?

Bill Federici

No. We had a lot of activity in the information technology space and basically in other areas around the innovation.

Arnie Ursaner- CJS Securities

Final one on the pension expense, as it relates to your guidance I believe you had build in as much as $10 million pension expense. Previously, it looks like that. Just freshen up, what you had in your previous numbers for pension expense or what you are assuming now?

Bill Federici

We had last year pension expense in the US was about $80 million and what we ended up with this year based on the fact that we were able to increase the value, the assets that we hold in the pension plan. We are able to reduce the amount of expense versus last year by approximately $2 million. You are seeing $0.5 million of that in the first quarter and you will see a $0.5 million each quarter as we go forward.

If you remember Arnie an important point about pension is you only get one crack at the expense during the year. It set by the actuaries at the beginning of the year based on our assets, the expected return on those assets, what we expect for the interest rates and what we expect for expense. We basically are looking at again a reduction of $2 million versus the prior year as we go through the year and that won't change again until we get to the end of 2010.

Operator

Your next question comes from the line of Derek DeBruin from UBS.

Raphael - UBS

Hi, good morning this is [Raphael] for Derek. Just a couple of questions, basically your savings on the ordering patterns. I mean it looks like with the shorter lead times and smaller order sizes; these are becoming the new norm for your customers. I guess I was just wondering was this doing better align itself with this new ordering patterns and as a follow-up just curious to know if during the quarter, West may have benefited from any potential stocking from customers, as it relates to new products launches slated for this year?

Don Morel

I will try the second one first, certainly we benefited from some restocking due to the short order queries in 2009 and whether or not those are related to new product launches it’s difficult to tell, but certainly with strong fourth quarter we had and this strong first quarter, there has been a bit of restocking after the workout that we saw end of ‘08 through ‘09. In terms of what we are doing, the best thing we can do is keep our account reps and our global account managers as close to the customers as possible. I think we focused on what the inventory strategies are going to be going forward. If we can level out our plans the timing of the orders really isn’t that big an issue as long as we know a couple of months ahead at time what we can expect to produce. It’s the level loading is the key because that allows us to stop raw materials and then plan our labor accordingly. So, we can only go on what they give us, sometimes they were right, sometimes they were not so right.

Raphael - UBS

Got it. I appreciate that color. Now separately, I was just curious to know a little bit more about, I think last year there was eliminate amount of spend on R&D for 2009. I was just curious to know if there were any [projects] that would be in revamp this year and if you could give us a little more information of the types of projects that are about to pursue?

Bill Federici

The one that didn’t have any reduction, where the CZ, the safety products and the auto-injector and in fact what we did was pulled back on a couple of the longer term projects that we just put in to the holding pan. So, the decrease through 2009 was simply due to some of the longer term projects in the conceptual pace being deemphasized in favor of the CZ in particular.

Raphael - UBS

Understood, thank you for the information, and I’ll jump back in the queue.

Operator

Your next question comes from the line of Ross Taylor from CL King.

Ross Taylor - CL King

Hi, I just have a two or three. First your revenue guidance, I think you mentioned that in terms of absolute dollars your revenue guidance is staying the same despite the change in foreign currency and I just wondered what might be driving, it appear some strength or improvement in the organic growth.

Don Morel

The organic growth is going to be combination of India and China and what we think is going to be continued positive mix versus ‘09 in the major European and North American markets. So, it's kind of across the board.

Bill Federici

Yes, there is some volume, a little bit of price, but a lot of mix.

Ross Taylor - CL King

Okay and also you mentioned that you might start to see or some of the orders for CZ that might come in the middle of the year. How significant a contribution might they be to revenues this year?

Don Morel

It's not going to be major, when compared to the total revenue base, but the key is that first and second customers that they are going to began quantity orders that will allow them to do line studies and formal stability studies with validated products. So, our expectation is that once the four cavity cell comes online as opposed to shipping 500 and 1000 we are going to be jumping up into the 10,000 to 20,000 lot sizes and if things hold their course, we should see some major orders probably by the mid-point in the year or in the third quarter in the couple of 100,000 unit range. So, the news is very encouraging. The key thing for us is to stay on track with the validation of the cell, which is targeted for completion at the end of the second quarter.

Ross Taylor - CL King

Last question relates to inventories and raw materials, I think you commented that maybe you would bought some raw materials ahead of time. Is there much risk from raw material pricing to your earnings forecast for this year do you think?

Bill Federici

It would be muted for this year. I mean look what we, and it’s a little bit of long-winded conversation, I apologize, but if you remember its two pieces. One, it’s the supply contracts that we have that mute any increase by anywhere between 4 and 6 months. Then secondly, we’ve also gone out into the marketplace and bought forward some hedge against the increasing prices in those, basically crude oil, which is the underlying material that used in manufacturing the synthetic rubbers that we use. So, between the two of those should the price of oil continue where it is, in that kind of ADD five range, we feel pretty comfortable, where our guidance is without any issues, should go to the kind of 140-150 levels that it went to a couple of years ago in the summer. That would have an impact, but that impact would not start to hit us until the very backend of 2010 into 2011.

Operator

(Operator Instructions). Your next question comes from the line of Andrew Hilgenbrink from Jefferies & Company.

Andrew Hilgenbrink - Jefferies & Company

Can you give sense of the sales mix in the delivery segment, how much of that is from contract manufacturing versus proprietary product and then how quickly do you expect the shift over to more the proprietary and following on that, what roughly speaking is the margin difference between the two types of products?

Bill Federici

Answer the last question first; again the gross margins on the contract manufacture product are significantly less. They are in the high singles to perhaps as much as 20% to 25% gross margins. On the proprietary base, the margins are much higher. They are equivalent to our Packaging Systems margins starting in the 30s and running up through about 50%. In terms of numbers, in the first quarter of the rough number $75 million worth of sales in that group, $12 million of it was the high value Safety and Administration system and Plastef sales. So, that’s the high value product in that space of the proprietary. Basically [many more] products and its got $12 million and the rest it was contract manufacturing.

Don Morel

In terms of the timing, clearly with CZ and some of the other products coming in 2012, 2013, our goal is to be over the 40% to 50% of revenue range coming from proprietary sometime in that 2013, 2014 timeframe.

Bill Federici

The expectations are built into 2010 for what we think is going to happen, Andrew in the rest of 2010. We will continue to see mix as I mentioned, we do expect that margin for that group will be better than the 2009 margins and a big piece of that is the mix.

Andrew Hilgenbrink - Jefferies & Company

On the lines of the CZ orders and interest that you are seeing, can you comment on the majority of those coming from, some of it has currently marketed products or whether their products underdevelopment or is it a mix of both?

Don Morel

It's a mix of both.

Andrew Hilgenbrink - Jefferies & Company

Also on the shorter lead times and smaller order sizes, do you see a difference in margin on that ordering pattern versus what you experienced the year ago or two years ago when companies are ordering large quantities?

Bill Federici

I’m not sure I’ve got the question right, but if the question is, have we seen a change, yes; the change has been fairly dramatic. We used to have customers that a few years ago were putting blanket orders for the entire year and they've put demand in the late in the fourth quarter, the proceeding year or early in the first quarter of the year and they recovered not only the near-term, but they covered almost a whole year worth of their needs. That has evaporated.

Andrew Hilgenbrink - Jefferies & Company

It has the gross margin that you guys realized changed now because are you charging more for smaller orders quantity and discount that don’t exits.

Bill Federici

There are some volume rebates, but it's on the amount that that the customer will buy. It's not based generally on their orders; it's based on how much they actually buy.

Don Morel

It based on four year sales.

Andrew Hilgenbrink - Jefferies & Company

It seems like H1N1 has runs its course pretty well, do you expect to receive any revenue from reemergence of a new flu vaccine or whether they will be separate this year?

Don Morel

You never know what you are going to get, but our understanding this year is that an H1N1 component will be part of the seasonal vaccine. So, you won’t see the incremental volume that we got in '09 from a separate H1N1 vaccine.

Operator

Your next question comes from the line of Jim Sidoti from Sidoti & Company.

Jim Sidoti - Sidoti & Company

Just I’m trying to workout my model for the back of the year. Now you have a little bit of currency tailwind, you have got the acquisition and you still have a little H1N1. As those things start to fade away towards back of the year, do you think you will see revenues fall a little bit below last year, especially in the fourth quarter when you had such a big H1N1 quarter.

Don Morel

I think logically we go that direction. For us right now the issue we're dealing with is simply the longer term visibility. A couple of years ago, if you look at the backlog, it had a much more gradual slope towards the three or six months at the end of the year, but it will refill itself. What we are looking at now is that backlog is compressed into a shorter timeframe and we simply don’t have the visibility in really the third quarter and fourth quarter that we would have. New orders are coming with greater velocity at the end of the quarter for the ensuing quarter. They are just not coming large at the beginning of the year and then being worked off through the year.

Jim Sidoti - Sidoti & Company

It's feasible you might see a little bit of slowdown for the end of the year, but then you would expect to pick-up?

Don Morel

Yeah, I wouldn’t expect the fourth quarter like we had last year. That was really extraordinary. We don’t expect to drop off the cliff, either it should be a return to what I would call a more normal quarter if customers are working off their end of the year target and new orders will come in accordingly.

Jim Sidoti - Sidoti & Company

Then you made a comment about some of the capital expansion projects, I think you completed a couple in the quarter or at the end of last year, is that correct?

Don Morel

Yeah. At the end of the last year, the major one that was out from the program announced in '06 was the Singapore expansion and that was challenging because we were increasing our capacity within the footprint of the plant not adding additional space adjacent to it, but that was completed in July last year and everything is running well. The only other one we’ve got going on now Bill referenced is the conversion of our Kingston plant to more of a pharmaceutical component plant than a device plant, like it is now.

Jim Sidoti - Sidoti & Company

Are there some start-up costs associated with that or they’re pretty minimal?

Don Morel

No, there is a little bit because once you have equipment and you go through the expense and doing the validation when you are getting your sales off for the equipment, so there is always some start-up expense there.

Jim Sidoti - Sidoti & Company

Does that hit you in this quarter or is that like a second quarter?

Bill Federici

Some of it Jim, but its certainly not significant and we don’t expected to be material for the year.

Jim Sidoti - Sidoti & Company

Okay. So those are pretty the immaterial competitor?

Bill Federici

Yeah. They are manageable.

Operator

You have a follow-up question from Derek DeBruin from UBS.

Raphael - UBS

[Raphael] again, just one quick one on the guidance, the top-line guidance, I wanted to know what the assumptions were there for volume price mix and effects if you remind us again how that’s change from the last update?

Bill Federici

Sure. I’ll take the last question first again on the currency effect. Our previous guidance was at $1.40 per euro and the current guidance is at $1.36 per euro. That had an effect on the full year guidance, reduction effect of $0.04 EPS. In terms of the sales growth and the portions of it, we expected very minimal price increases kind in that same 0.5% to 1%. The largest impact on sales was going to be the mix, which we expect to be most of the difference. There is some volume in there. Again it's very modest amount of volume increase. We are really counting on the continued conversion of product to the higher end product that gives us both revenue and then also drives the margin as well.

Operator

You have no more questions at this time sir.

Don Morel

In that case, thank you very much for your time this morning and we look forward to seeing everyone in New York City on the 6th of May. Thank you very much.

Operator

Thank you for your participation in today’s conference. This concludes the presentation and you may now disconnect. Good day.

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Source: West Pharmaceutical Services, Inc. Q1 2010 Earnings Call Transcript
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