West Pharmaceutical Services, Inc. Q2 2010 Earnings Call Transcript

| About: West Pharmaceutical (WST)

West Pharmaceutical Services, Inc. (NYSE:WST)

Q2 2010 Earnings Call

August 3, 2010 09:00 am ET


John Woolford - Westwicke Partners

Don Morel, Chairman and CEO

Bill Federici - CFO

Mike Anderson - Vice President and Treasurer


Dave Windley - Jefferies & Company

Derek DeBruin - UBS

Arnie Ursaner - CJS Securities


Welcome to the West Pharmaceutical Services Second 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 objection, you may disconnect at this time.

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

John Woolford

Good morning, everyone and welcome to West's second quarter 2010 results conference call. We issued our financial results this morning and the release has been posted in the investor 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 will refer 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 US Federal Securities Law and that are based on management's beliefs and assumptions, current expectations, estimates and forecasts. 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 and 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 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 US GAAP and therefore, they may not be comparable to and should not be viewed as a substitute for US GAAP operating income and diluted EPS. Reconciliations of the non-GAAP financial measures to the most comparable financial results prepared in conformity to GAAP are provided in 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 in this call implies your consent to our taping.

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

Don Morel

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

Please note that we are using a PowerPoint slide deck that could aid in our discussion this morning. We hope this slide to help you follow our commentary and we will call out the slide number we are referring to during the course of our remarks. For those who are unable to view the slides during the call, the information they contain is covered in both the release and our remarks.

In keeping with our usual agenda, I will begin with an overview of our second quarter results, give an update on several ongoing development programs and summarize our outlook for the remainder of the year. Bill will then discuss our financials in greater detail.

There are three points to capture, where we are at six months end of the year. First, on a positive note, we had a very good first half. Sales growth was a little ahead of our expectations and demand continues to be strong in both operating segments.

Second, the steep rise in the dollar versus the euro during the second quarter and non-recurring H1N1 sales in the second half of the year, when they comparison to 2009 difficult, and finally we are beginning to see tangible results from our investments in our key new product development programs notably the CZ 1 mL syringe and Confidose Auto-injector System. I will provide a little more detail on this program in just a moment.

Turning to our second quarter results on Slide number three, West reported revenues of $281.8 million for the quarter representing growth of 8% versus the second quarter of 2009, excluding the effects of currency and contributions from acquisitions; revenue growth was approximately 8.3% on a consolidated basis.

Fully adjusted diluted earnings increased by 10% over the second quarter of 2009 to $0.64 per share, or consolidated gross margin was 29.5% representing a decline of 0.7 percentage points in the prior year and resulted largely from the impact of the acquired businesses within the segment. Our operating margin was 11% for the quarter on our adjusted earnings and down slightly from the 11.1% reported in the second quarter of 2009.

In the Pharmaceutical Packaging Systems segment, sales increased 5.7%, or 8% excluding exchange effect driven by gains in each geographic operating regions and favorable product mix. Established value-added products such as Westar process components and FluroTec coated closures continue to show healthy growth, even as the next-generation of products like Envision and NovaGuard begin to secure products portfolio.

Our customers clearly see the value proposition in these components as the broader market continues to play some emphasis on biotherapeutics is evidenced by recent M&A among our larger customers and the continued in-licensing of early stage content.

Overall I am very pleased with the performance of the packaging segment, which on top of the reported sales gains also showed an improved gross margin, we would have achieved an expanded operating margin of currency translation and increased R&D spending of roughly $0.5 million. These investments in products like Westar RU and NovaPure will ensure that we solidify our market leading position with injectable packaging systems that meet the requirements of an evermore demanding global regulatory environment.

Sales in the delivery system segment increased 8.6% excluding the effects of currency and sales gains from acquisition. The increase was driven by higher demand for contract manufacturing services serving the healthcare consumables and consumer market, in addition to higher sales of proprietary safety and reconstitution systems as well as Daikyo CZ products.

Overall the contract manufacturing sector continues to be challenging in two fronts, pricing pressure on existing business and the competitive landscape for new programs. Our sales in proprietary products grew nicely in the quarter and now comprised 20% of the delivery system segment revenues.

As we have stated in the past, our goals generate 50% of revenues in this segment from proprietary West systems by the end of 2014.

R&D spending in the device segment also increased by $0.5 million as we prepared to ramp up manufacturing of samples for customer evaluation with primary emphasis being on the 1 mL CZ syringe and the Confidose Auto-injector.

We planned further increase R&D spending on these key projects in the second half of the year to accelerate commercial entry into the market. Overall, there was a solid quarter for both segments despite the volatile environment with revenues up 8% and 10% increase in per share earnings on a consolidated basis.

In terms of our key development program, the second quarter was one of considerable progress is highlighted on Slide number four. Starting with Daikyo CZ programs, we completed engineering validation runs on the new four-cavity production cell and are now manufacturing and delivering product from these cell to our customers for stability and clinical filling trials.

More importantly, we booked our first large scale order for the 1 mL syringe and expect to ship several hundred thousand units by the end of the year. We have also booked orders from a range of customers for traditional 5 mL and 100 mL vials manufactured by Daikyo and have started a number of customer funded projects to evaluate custom designed container that can be integrated into different delivery devices.

One of the engineering advantages of CZ versus glass is that it can be molded into highly complex shapes with tighter tolerances. Also for the year, we expect CZ sales to exceed $5 million, however the best sign of the market's interest is in the breadth and scope of the customer funded programs currently underway.

As a result of rapidly growing customer requirements, we have begun the expansion of our Scottsdale production facility ahead of the original plan with the goal of being in a position to produce commercial quantities of the 1 mL syringe by mid 2012.

The proprietary West Auto-Injector platform, Confidose, is finding a unique niche among applications requiring delivery of highly viscous drug. We anticipate finalizing several large scale development agreements in the several months, which involve customized designs and manufacturing of units for human use trials and clinical evaluation. The potential also exists to provide CZ based containers for use in the Confidose system to further mitigate the risk of breakage inside the device during use.

The delivery systems group also completed one small technology acquisition in July, which will form the basis for a novel platform that can deliver a moderate volume of drug over a long period of time. This system can be easily customized depending on the volume of the drug to be delivered and the timeframe over which delivery must take place, which can be up to several hours.

We have already signed our first customer funded development agreement for the device and based on market interest anticipate having at least one more completed before year end. The level of market interest in all of these platforms grew strongly during the quarter, and we achieved several key milestones. We remain fully on track to achieve our growth objectives for these products, beginning most importantly with commercialization of the 1 mL Daikyo CZ syringe.

Looking ahead, as I mentioned earlier, comparisons for the second half of 2010 with comparable period of 2009, will be more challenging due to several factors, continued currency fluctuation, year end inventory adjustments by our customers, planned increases in R&D spending within the delivery system segment, and the absence of revenues to fully replaced non-recurring H1N1 sales, which contributed roughly $22 million in the second half of 2009.

Consequently, we have adjusted our full year earnings expectations to $2.08 to $2.20 per fully diluted share. The full year of effective currency assuming a dollar-euro conversion rate of 130, is expected to impact earnings on the order of $0.11 per share versus earlier guidance and a planned increase in R&D spending, primarily on CZ and Confidose will absorb another $0.04 per share in the near-term, which should generate significant sales opportunities.

In the Pharmaceutical Package Segment, we are holding a revenue guidance despite the impact of the stronger dollar, where as we have slightly lowered our revenue expectations in the delivery systems segment, primarily due to visibility within the contract operation, and the difficulty in forecasting when large development programs will be formerly under contract.

I realized there are many moving thesis at the mid-point of the year, but key takeaways are as follows, the Pharmaceutical Packaging Systems business is performing right in line with our expectation. The third quarter order book is filling up, and on-going demand remains robust.

However, due to the on-going trend of reduced lead times, and smaller order quantities, we do not have our historic visibility in to the fourth quarter, although, our expectation at this point in time is that it will fill in over the next two months.

Outside of currency effects, we anticipate the segment being on planned for the year. For the longer term, we see nothing that would impair our ability to achieve our stated objective for this business of generating approximately $1 billion in revenue by the end of 2014.

Within the delivery system segment, we expect revenues to be marginally down versus our original expectation. However, we have achieved the key milestones of securing the first large scale of CZ production order and to accelerating our capacity build at our Scottsdale facility to meet forecasted demand.

Finally, although predicting the timing of revenues generated from customer’s funded development program is difficult and greatly encouraged by the level of customer interest and commitment to the development of our major platform.

I would now like to turn the call over to Bill for more in-depth look at our Q2 numbers. Bill?

Bill Federici

We issued our second quarter results this morning reporting net income of $21.7 million or $0.62 per diluted share versus the $0.57 per diluted share we reported in Q2, 2009. As explained in the release, results in both periods included restructuring charges and the results of this year’s quarter also included some discrete tax charges.

Excluding the effect of those items in both period second quarter 2010 earnings were $0.64 per diluted share versus $0.58 per diluted share in Q2 2009, a 10% year-over-year increase. The growth rate was achieved despite the current quarter’s results being negatively effective by $0.03 of currency translation.

Slide five of our accompanying PowerPoint presentation shows the components of our consolidated sales increase. Consolidated sales grew by almost $21 million to $281.8 million, a 10.2% increase over Q2 2009 sales excluding exchange.

Volume and mix contributed $20.2 million, or 7.8 percentage points to the increase, acquisitions we have made since Q2 2009 contributed $4.9 million, or 1.9 percentage points, and price increases contributed $1.3 million, or 50 basis points of the increase.

Slide six details the second quarter’s $10.8 million, or 5.7% increase in packaging system sales. On an ex-currency basis, sales increased 8% driven by volume increases, a favorable product mix and modest price increases. Sales increases were strong in all our geographic regions with the European region supplying the majority of the increase, when excluding exchange impact.

High value product sales increased almost 25% to $76 million versus Q2 2009 with the most significant increases this quarter in Westar-treated and FluroTec coated components. Standard product sales were about 2% lower than the prior year at $101 million and sales of disposal medical device components increased by about 8% to $28 million.

Slide seven shows the factors driving the $9.9 million, or 13.7% increase in delivery systems sales. Our Proprietary product sales increased to almost $16 million in the quarter, including $4.7 million of sales associated with our July 2009 Plastef acquisition.

Excluding acquisition effects proprietary product sales increased approximately 20%. Contract manufacturing sales increased by 5% to $66 million due to increased sales of devices used in healthcare applications such as auto injection pen and increased volumes for selected products in the consumer unit. Excluding acquisitions and currency effect, delivery systems sales increased by 8.6%.

Slide eight shows our consolidated gross profit, adjusted operating profit, currency impact and FX neutral growth rates. Our gross profit excluding exchange increased 7.9% driven mostly by modest price increases, favorable volume and product mix and improved plant efficiencies that were offset by increased raw material cost, labor overhead and depreciation expense. Adjusted operating profit which eliminates the restructuring charges from each quarter increased by 11% reflecting the increased gross profit and the effectiveness of our SG&A cost controls.

Slide nine, shows the details of our consolidated second quarter, 70 basis point gross profit margin decline. Packaging systems Q2 2010 gross margin was higher than the corresponding 2009 margin, partially offsetting the decline in delivery systems gross margin. Packaging systems gross profit margin increased by 50 basis points to 33.6% driven by modest price increases and favorable volume and mix as a large portion of the sales increase was for our high value coated and Westar processed components.

We also saw improved efficiencies due to higher plant loads during the quarter, especially in Europe. These increases more than offset increased raw material labor and depreciation expense. Delivery systems gross profit margin declined to 19.1% as a result of increased raw material and other costs, the sales of our acquired businesses being essentially breakeven at the margin line and lower sales prices under a mature manufacturing agreement. These are partially offset by increased volumes and product mix.

We continue to expect that both segments' full-year 2010 gross margins will increase versus 2009 due to continued favorable volume and mix, with an increased pricing, lean savings and savings from our restructuring program.

Slide 10 shows the changes in consolidated SG&A expenses. As I previously mentioned, the cost controls we implemented earlier in the year continue to limit increases in our SG&A expense. The overall increase was $750,000 over the prior year quarter aided by the decline in stock-based compensation expense due to our reduced share price in the quarter.

Additionally, increases in depreciation related to our IT upgrades, outside service expenses and compensation costs were partially offset by reduced pension expense. As a percentage of sales, SG&A expenses declined from 17.3% in the second quarter of '09 to 16.3% in the second quarter 2010.

R&D expenses increased by $1 million versus the prior year quarter due to increased spending on our various development projects including our Crystal Zenith prefilled syringe system and Confidose, our auto-injector.

Slide 11 shows our summary balance sheet information. Our balance sheet remained strong and our business continues to provide necessary liquidity. We made year-to-date net debt repayments of $5.2 million and currency translation provided the remainder of the $22 million debt decline.

Working capital increased by $19 million from year-end due to most of the increases in accounts receivable and inventory. Accounts receivable increased by $7 million and inventory increased by $14 million. Our receivable collections metrics improved slightly from the prior year-end levels to 47.4 days. Inventories increased due to higher levels of strategic stocks of certain raw materials, including advance purchases to manage expected changes in material pricing.

We completed the refinancing of our revolving credit facility in the quarter. Our new $225 million facility has a $50 million recording feature and a four-year maturity. With interest at LIBOR plus a margin ranging from 175 to 275 basis points depending on our leverage ratio.

Slide 12 shows our key cash flow metrics. We generated year-to-date operating cash flows of $43.1 million, $3 million lower than the prior year. The decrease versus the prior year is due to increases in working capital partially offset by $2 million less in pension contributions in 2010.

Capital spending was about $16 million less year-to-date in 2010 due to the relatively high 2009 spending on our China facility and our European expansion, both of those projects were completed in the third quarter of 2009.

Of the $32.6 millions of year-to-date capital, about half was focused on maintenance capital with the remainder focused on IT systems upgrades and new product 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 $1.30 per euro for the remainder of 2010 reflecting current rates and representing a relative strengthening of the dollar versus the $1.36 per euro using our previous guidance.

This revised currency outlook has an unfavorable effect on our EPS of $0.11 per share versus the previous guidance. That change is larger than expected, relative to the change in the euro-US dollar rate primarily because of lower US dollar value of some cross currency sales of proprietary products and the higher rate volatility in the first half of the year.

We expect that the US dollar-euro rate will continue to impact certain cross currency sales and profitability. In addition to the adverse currency effects, we now expect to spend approximately $0.04 more of EPS on our critical product development initiatives based on strong customer interests in those programs. Our gross margin guidance has been reduced to reflect the general lack of Q4 visibility and a more cautious outlook of product mix in the second half of 2010.

Comparisons of our second half 2010 versus the same 2009 period will be less favorable due to adverse currency comps and substantial non-recurring H1N1 sales which contributed about $0.16 of EPS for the second half of 2009.

The aggregate average currency translation impact on EPS for the second half of 2010 is expected to be between $0.10 and $0.12 per share versus the second half of 2009 at current exchange rates. The effect of these items are expected to have greater impact in Q4 than Q3.

Our backlog remains strong at $227 million which is $10 million higher than our year-end backlog and $7.5 million higher than June 2009 levels excluding currency. The third quarter order book is relatively full but visibility into the fourth quarter remains less predictable as a result of shorter lead times and still more frequent but smaller orders. We expect full-year CapEx to be in the range of $100 million to $110 million at the assumed exchange rates.

I'd now like to turn the call back over Don Morel, Don?

Don Morel

Thanks very much, Bill. This concludes our business review for this morning and we'd now be pleased to answer any questions that you might have. Operator?

Question-and-Answer Session


(Operator Instructions) The first comes from the line of Dave Windley from Jefferies & Company.

Dave Windley - Jefferies & Company

I wanted to start in the CZ product development efforts that you have. Don, is the pricing for your CZ products as you are now rolling out this first large scale order, is it matching your expectations from earlier on?

Don Morel


Dave Windley - Jefferies & Company

Okay. Well, that's good certainly.

Don Morel

The only color I can add to that Dave is that, remember when you are in the early stages here on the clinical and the engineering evaluations, the price is going to be higher because the units are lower, but certainly the first tranche here out of the gate is right in line with where we thought it'd be.

Dave Windley - Jefferies & Company

Okay, and from a logistics standpoint, you commented that you are beginning to produce product in the four-cavity cell. Is that right? So, this large scale order, you would supply out of the four-cavity as opposed to the single cavity?

Don Morel

That is correct.

Dave Windley - Jefferies & Company

Okay. On the other end of the spectrum, on the contract manufacturing, you named off a couple of challenges, price pressure, competitive environment, are the volumes in contract manufacturing relatively stable? I am wondering how much visibility you have on that. How much is tied up under longer-term contract?

Don Morel

Yes, we don't have as much, obviously, as we do on the Pharm Systems side of the business. Typically it, depending on the customer, can be anywhere from two to four weeks.

Yes, demand has been strong in the areas that we thought they'd be strong in. Disposable components are going to cardiovascular ops for our customers there. On the sampling side and consumables, where you have components that we made going into blood collection, blood analysis, those have been strong.

The filters have been in line with expectation and consumer has been pretty strong. You have some ins and outs here, and they are depending on inventories and timings, but demand is certainly more favorable at this point in the year than it was last year.

Dave Windley - Jefferies & Company

Okay, and I will ask one more and then drop out, and it is in the ARS contract, that pre exist your acquisition there is no margin. I guess I have wondered if that was contractually provided to that customer cost or is it a function of, say the size of the runs that you are doing, that make that, that cost inefficient or something like that? Should we expect that will be no margin, going forward?

Bill Federici

Yes, Dave, on, it's Bill on. On that particular one, it is contractual. We are producing it in the same space that they produced that we acquired the plant as well, and in the absence of other customers, that that business will continue to provide, very limited margin.

Dave Windley - Jefferies & Company


Don Morel

Moving on to that contract, the only thing I would add to that is we have begun to aggressively market the device in Europe. There is a lot of interest in it for a lot of applications. That pricing will be much different than the pricing for under the existing contract, obviously.


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

Derek DeBruin - UBS

You've mentioned, I was actually surprised to see your comments that Europe actually was so strong and I am just wondering, if you could talk a little bit about what you are seeing there, and particularly, I know some of the other companies that reported about full backup spending on European health care, and I am just wondering, could you just talk a little bit about that environment and why you are doing well in that geography?

Don Morel

A lot of it is in the high value part of the business, FluroTec coated stoppers and the Westar processing, we continue to see strong demand there. Overall there is probably some inventory restocking that's going on in the first half of the year after the downturn we saw last year. The third quarter so far for Europe looks fully inline with our expectations.

The only issue that Bill and I both highlighted is that because we are seeing shorter order quantities, smaller order quantities and shorter lead times with the new capacity online, we don't have visibility, we'd like to have into the fourth quarter but we've see nothing that would indicate that won't fill in.

Bill Federici

Also, there the currency has been the negative drag on Europe, particularly. So when we talk about strength we are excluding currency in that regard.

Derek DeBruin - UBS

Okay. obviously there has been some chatter recently about some more M&A particularly in the biologic area, as you watch all of the news items going forward with that how would you see that potentially impacting your business?

Don Morel

It depends on who's acquired and who the acquirer is, obviously, but what we usually see some and we've talked about this before is that you come to a halt in a lot of your development programs. The good news is that the programs that we have underway are with a range of customers both large and small.

So although, we may see some delays depending on who is involved? My expectation is that the momentum that has been built to this point is going to continue to carry forward on our major programs.

Derek DeBruin - UBS

Okay. Could you talk a little bit about some of what you are increasing R&D spend on? Just the type of project you are undertaking?

Don Morel

Yes, well, it's principally the three. The demand on CZ is making us push that ahead faster than our original plans. So there are both some expenses associated with that and some capital investments that will accelerate.

Confidose is getting an awful lot of attention, particularly in the niche I mentioned which is highly viscous drugs where the pressure to deliver the drug is somewhat higher than with an ordinary formulation and you need the properties of the CZ within the auto injector.

So that's all positive, and then, I mentioned briefly this new platform that we've acquired, which is basically a patch pump attach pop and for compounds that need to be delivered in the 3 ml to 5 ml range but can't be delivered in bolus. It's a perfect solution to an unmet need where it can deliver over a period of a couple of hours.

So, those three areas are principally the ones that will receive the R&D funding.

Derek DeBruin - UBS

Great, and I'm sorry, did you talk about the tax rate for the full-year?

Bill Federici

No, we didn't mention it specifically but our expectations are, it will be about inline with what we've been talking about which is just about 23.9% for rest of the year.


(Operator Instruction) The next question comes from the line of Arnie Ursaner from CJS Securities.

Arnie Ursaner - CJS Securities

I like to see how that new name looks in print. A couple of questions. Looking at the quarter, your gross margin, at least relative to my expectations, was pretty disappointing and your SG&A offset it, again most of the SG&A improvement were things out of your control, like your stock price and pension expense. The discretionary parts of SG&A, they all actually increased in the quarter, and yet your guidance, your comments regarding the product mix should have led you dramatically better gross margins. You had much more of your value added products with you here. Maybe you could help us on both of those items and how it would affect operating margin.

Bill Federici

Sure. Obviously, we did see an increase in the packaging systems space of 50 basis points over the prior year second quarter. The main components, Arnie, and I know you know all the moving pieces that I have given to you. Price was up about 0.5 percentage point, volume and mix was positive as well, providing about eight-tenths of a point increase.

We did have materials cost increase and that impacted the margin and it was all the things you would expect from labor overhead, depreciation and other expenses increasing offsetting those.

So from a gross margin perspective, we did get 50 basis points increase, which again is fairly much in for packaging systems, is in line with our longer term growth expectations for that business, about 50-bip increase each year, so we feel pretty good about it.

Yes, the increases were in the high value product space and we expect to continue to see those increases, but at the same time, we have increases in our cost pool that are somewhat muting all of that increase. But again, we feel very comfortable with the view that we will see some increases continue in that business over the near-term.

Arnie Ursaner – CJS Securities

My second question, obviously you do provide full-year guidance, but there is a lot of discussion points within your prepared remarks about the timing of various things between Q3 and Q4.

I think Don clearly indicated, your Q3 backlog and bookings look terrific, you're a little concerned, if you will, about Q4 trends not because of our glaring problem, but just because the lead times were shorter, there's a currency impact, there is an R&D impact.

So, I guess my question is, if I were to think about the breakdown that you would like us to think about for Q3 versus Q4, I know you don't normally provide quarterly guidance, but maybe perhaps give us some better sense of how we ought to breakdown back half of the year since you are obviously raising a lot questions about the various components.

Bill Federici

Yes. I think the currency impact, and I'll give you some numbers, Arnie to help you run through this.

In last year's third quarter, the dollar euro conversion was $1.43 to the €1. In the fourth quarter, it was $1.48 on average to the €1. So, obviously, you can see there that it's a much steeper climb on the fourth quarter than the third quarter given our $1.30 that we are at today, so that's number one.

Number two, that we called out is the increase in the R&D expenditures of $0.04. If you are thinking about that, again, I would think that not exactly 50%, but fairly ratably over the third and fourth quarters with slightly more hitting the fourth quarter than the third.

In terms of the visibility, Don mentioned and I mentioned that, we've been talking about this for a while. Due to the change in the order patterns by our customers and our decreasing lead times, which allows them not to have to put in so many orders way ahead of time, it's providing a much better view at the third quarter, but a much less predictable view of the fourth quarter.

So, we are somewhat cautious about the mix in that fourth quarter and there's no easy way to do this, but if you're trying to do apportionment, you would certainly have much more of the impact probably two-thirds of the impact in the fourth quarter and in the third quarter.

Arnie Ursaner – CJS Securities

And, Bill, most of the H1N1 revenues you had were Q3 of the.

Bill Federici

They were fairly balanced. And in fact, what we are seeing Arnie is, if you look at it Arnie, there's about probably $10 million of currency impact on sales and roughly about $12 million impact of H1N1 in the fourth quarter. And when we look at the sales in general and you take the currency effect out, we see that the fourth quarter sales are actually going to be lower than the fourth quarter 2009 at the current projections that we've got right now, like 3%.

Don Morel

One thing I would add to that Arnie, is last year we talked about the halves being reversed because of the unusual finish to 2008. So, this year in the first half, we've earned $1.22 versus $1 in 2009, you're going to see a flip-flop, where we'll go back to our traditional seasonality, and the second half of the year will be softer than the first half, which is what we talked about at the outset of the year.

Arnie Ursaner - CJS Securities

Two more questions if I can. Don, obviously highlighted new Patch product, what would the trailing 12-month revenues of this product and could you describe how you plan to distribute or sell this product?

Don Morel

Yes. This is still in a development phase Arnie, so there's no trailing revenues. What we are doing is adapting the fundamental platform to our customers needs and the acquisition was done to fill an unmeet need in the market and what we perceived to be gap in our portfolio offerings.

So, what you are seeing with formulation especially in the biotherapeutic area, there is a desire for a platform that can deliver modest lines not a 1 or 2 mL injection, but in that 3 to 5 mL corridor, but over a long period of time, where you want the drug to works its way and slowly to maximizes its therapeutic effects.

So, this acquisition is basically in a prototype phase and the first agreement that we have in place is for prototypes to go to the customer for evaluation. We don't expect substantial revenues off of this until we get to probably at that 2012 kind of timeframe as well. Everything comes together at the end of the 2012 beginning of 2013 in the portfolio.

Arnie Ursaner – CJS Securities

Don, to follow-up on that. You obviously are accelerating your R&D spend. Your customers are increasing their R&D funding for you, you told us you're going to accelerate your capital spending. Since you are accelerating all the components of CZ, shouldn't we see commercial revenues at an earlier time that you've been previously?

Don Morel

That is wholly out of our control. It all depends on the evaluation and the stability work done by our customers.

Arnie Ursaner – CJS Securities

At this point, and so mid 2012 or beyond before we see what should move the needle for West in terms of commercial opportunities?

Don Morel

That was CZ in particularly, yes.

Bill Federici

That's correct.


The next question comes from the line of Dave Windley of Jefferies & Company.

Dave Windley - Jefferies & Company

A couple of follow-ups. In the press release, a couple of smaller descriptions on some external consulting costs declining in packaging, but increasing in corporate. I wondered if that was something that that you were scrutinizing in terms of trying to keep those external costs under control just curious if there was anything going on there.

Don Morel

Yes. Of course, and it's a myriad of things. We did have some M&A activity, so labor cost us were a little higher than we expected. We did have some increase in some audit fees and some tax fees relative to some of the activity going on around the world on a tax basis. Those were the primary drivers. And, yes absolutely, we do scrutinize all of those costs especially the discretionary ones and make sure that we are doing the best that we can to keep those under control.

Dave Windley - Jefferies & Company

The press release also talks about restructuring, and the second half for the year was described as charges and I wanted to make sure I understood whether those were new charges to be taken to the P&L or just expenses against the reserve?

Bill Federici

It's new charges If you remember the way they changed the rules on restructuring that you can't take up all those charge upfront and then have it all come against the reserve. You have to wait till the actual activities are exited before you can take the charge.

It's a small number. Dave, we are talking about somewhere between 500,000 and 700,000 for the rest of the year, and it's mostly severance associated with exiting some activities.

Dave Windley - Jefferies & Company

Then coming back to CZ. Don, you described the Confidose. If I understood correctly, Confidose, CZ combination for the high pressure inside the Auto-Injector, is that the area, I think you described prior that that was a pleasant surprise to use it that was a market opportunity, I guess. Is that the most exciting area for CZ, or where is the area where you are seeing the most development activity, sampling validation-type activity for CZ?

Don Morel

Yes. It's collectively, David, within the biologic space. So, if you take that as kind of the umbrella, you've got a situation now where there have been some issues in the marketplace with breakage where CZ is a logical alternative that can help solve that issue, but it's also been driven by the older issues of the silicon agglomeration as well as the tungsten.

So, I think the emphasis on the breakage issue has brought a lot more attention to CZ as an alternative either in a cartridge or prefilled, but certainly, the original drivers in terms of cleanliness and non-contamination for the biologics is there as well. So, it's really both of those factors, but wholly within the therapeutic protein space.

Dave Windley - Jefferies & Company

Getting a little bit at Arnie's question maybe a little bit different way to come at it and at this point, is the number of customers that are enquiring or sampling CZ containing product or CZ containers of once order another, is that interest level at the expectations, that you set forth as you were working up to this point, or ahead or behind, could we look at it that way?

Don Morel

We have a lot of ins and outs. I think my simple answer would be it's in line with expectations, but what we are seeing is that, because of its both utility, there is a market opportunity for what we fundamentally have called life cycle management for the customers, so, if they are producing bulk active at the early clinical stages of product development. They can do that and store it in CZ and they may begin to get data.

We have seen demand for example, for larger CZ containers come out up to storing one litre of active. Behind that you would have them potentially go to the market when they are a single dose vial, somewhere in the 2-5 mL range. And after that you've got the opportunity to convert into the syringe, but what you have all the way through and in the eyes of the regulatory bodies is a single primarily container material, and we think that will provide some regulatory advantages.

The other thing to think about is that as we progressed, through that chain, we attribute of our rubber products in terms of Westar process in terms of RU also apply to the vials, so they can be done, as well as the syringes, they can be done on format, that is ready to sterilize or they can be done at a format that's ready to use, but as a single package of option, the material really gives them a lot of flexibility, that may provide some advantages from the regulatory perspective.

We see new things emerge every time we talked to a customer, but the flexibility in terms of design and the flexibility in terms of primary container format are going to drive it, and in addition to those earlier things I mentioned about cleanliness and breakage.

Dave Windley - Jefferies & Company

One last follow-up. I think you talked about or you have talked about other competitive types of materials that would be trying to get out this high durability, maybe low friction value add, are you seeing any competitors developed products a long side in a kind of similar stage of development as you and how is that landscape settling out?

Don Morel

There is no doubt that there will be competitors entering in. There is always new resins coming to the market, but remember the thing that, that really help us in our IP is the timing both around getting these things to market, so even is new option emerge now there are a number of months and years before they're actually going to get to the point where CZ is.

We keep reminding people about is CZ has been in development with our Japanese partners since middle 1990s. Now you've got a really robust data set. You've had the emergence of biologics over that time, and we have been working on a compatibility studies and everything over that 10 to 15-year period.

So, although, new entrants are going to come in, it's going to be sometime before we get to the stage where CZ is.


The next question comes from the line of Arnie Ursaner from CJS Securities.

Arnie Ursaner – CJS Securities

Couple of follow-ups, one you didn't really say anything about international and growth opportunities there, capital spending internationally, in the impression China, India were there opportunities for us?

Mike Anderson

Yes, China and India are fundamentally right on track. Year-to-year progress and for China, up roughly in that mid-20s percentage range. I think we've seen 25% year-on-year growth, a little bit better.

India has been a little bit stronger. We have seen year-on-year growth there north of about 30%. Interestingly and up within the generic segment. We've seen one CZ opportunity come to fruition out of India, which we think is a positive, but right now, so far right on track.

Within China the Plastef's facility, we've got four (inaudible) up and running. We are beginning to produce a variant of the TrimTec cap with that plant was dedicated to extensively for export business to South America and other countries. So doing that it's been very strong there. Asian has been right on target. Overall Europe as we talked about earlier solid through the first half, so internationally, pretty much on target.

Arnie Ursaner – CJS Securities

Plans for additional capital spending, new facilities in either China or India?

Mike Anderson

We are in the process of finalizing plans for a smaller rubber facility which would be really developmental in its scope emission in China. We expect to put shovel in the granular. We hope by the end of the year nothing is really change there, and we continue to evaluate the prospects for India.

India brings a special set of circumstances because of A, the breadth of the generic industry currently which we serve out of Singapore. But looking downstream in 5 to 10 years, there is no doubt that India will be a hub of innovative development.

So, our question is do we invest in a baseline facility initially and then grow into a fully fledged mass Westar facility or do we look at in advance Westar facility from a get-go. Stone evaluation, we'll see how things unfold over the next six months.

Arnie Ursaner – CJS Securities

It's very preliminary but if you were to think about CapEx and obviously a lot of people talk about free cash flow over the next, any insights you got to share?

Mike Anderson

As Bill said, our capital spending from this year is going to be down substantially from our original plan. That's pretty much in response to what we have seen developed in the marketplace. Our expectation going forward is that it will be in that 120 to 140 range as we talked about over the five year plan period. What could change that? I think there has to be some dramatic development in the market place that would make us really accelerate our plans for India in particular.

Arnie Ursaner – CJS Securities

Don, you obviously, when we asked about the pricing of CZ you gave a pretty rough answer, how much of a premium is it getting versus in the last right now in the preliminary stage and given the price premium that it is likely to have, is it likely to just be new biotech applications or is there any retrofit opportunity given the cleanliness and the cost premium that it is going to trade at?

Don Morel

The answer to the second part of your question Arnie is that we are seeing broad opportunities both for existing products on the market as well as new products. So, our belief at the current time is that it will not be exclusively reserved for the round of new products coming to margin.

With regard to your earlier question, it's difficult to give an answer to that only because sampling prices tend to be dramatically higher than commercial volume prices. So, initially out of the gate here with the order that we have on the books, the price is substantially higher than it would be at commercial levels. Our expectation overall is that it will go to market depending on the drug in the volume at somewhere in that 5X to 8X a glass price.

Arnie Ursaner – CJS Securities

You are saying, the safety at other issues were in that kind of premium?

Don Morel



We have no further questions at this time.

Don Morel

Thank you very much, operator and thank you for your time today. This concludes our call.


Ladies and gentlemen, you may disconnect at this time. This is the conclusion of the call.

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