Heska Corp. (HSKA) The Wall Street Analyst Forum November 28, 2007 9:50 AM ET
Executives
Bob Grieve - Co-founder, Chairmanand CEO
Jason Napolitano - CFO
Gerry Scott- President Wall StreetAnalyst Forum
Presentation
Gerry Scott
Hey, good morning ladies andgentlemen. In our ongoing attempt to adhere to the published schedule, I wouldlike to go ahead and introduce the next company in this morning's program.
We are pleased to have HeskaCorporation back with us. They have presented with us a couple of times overthe years. To give you some unsolicited feedback that I got from our portfolio managerat the conference, who I won’t identify, said, I wanted to go to this meeting ofHeska Corporation and did some homework before I came to the conference. I wentand saw the veterinary in my block and my building, and said, what do you knowabout this company, Heska Corporation. The veterinarian’s response was I onlyuse their stuff. I guess he sounded like the Vice President of Marketing becausehe used their stuff exclusively. I won't use anything but I won't point himout. He is looking at me right now. Then he immediately proceeded to go out andbuy a number of shares and stock, kind of the Peter Lynch way of, Peter Lynch cominghome and asking his daughter, you know what kids are buying or using at schoolor what are their toys and then doing the research and then taking a position inthe company. So, I just got a case study about Heska Corporation very similarto that.
Heska focuses on the Animal Care market.They sell their products to various veterinarians. The company trades under thesymbol HSKA and has been publicly traded since 1997. As noticed, their stockchart has done well, or it would be, like this? Since they started presentingover the last couple of years and that sort of reflects on us, but more whatthey are doing as a company.
So, without any furtherintroduction, I’ll introduce Bob Grieve, Co-Founder, Chairman and CEO who willintroduce any other folks he has with the company today.
Bob Grieve
Thanks very much Gerry and thanksfor joining us here today. Thanks for those of you on the webcast also, fortaking the time to listen. I am joined today here, at the table by JasonNapolitano, our Chief Financial Officer and Jason will join me as appropriatein the question-and-answer session.
As Gerry, indicated we arefocused on companion animal health care. We make products, we partner for thedevelopment of products and we sell those products to veterinarians.
I’d like to show thisforward-looking statement slide and encourage you if you are considering an investmentto take a good look at our public filings as noted here in theseforward-looking statements.
There are four major things I’dlike to emphasize in the presentation today. The first is that we operate in avery positive market environment. Secondly, we have competitive advantages inour products, customer support and third point would be, we believe our stocktrades at a very compelling valuation today. Then finally, one slide towardsthe end, to explain the tax benefit position that we have, that we believe is non-depreciatedasset of our business.
Next, I will turn to the slideshowing this young family here, with their dog and cat and child. This reallyunderscores the premise of our market and the promise of our market, and thatis pets are viewed by many people, by most people, as parts of the family, asmembers of family. Something in excess of 60% of people actually celebratetheir pets birthday on the day that pet was born, more than 90% of people inthis recent surveys said they'd risk their life for their pet. And I could goon and on with these statistics and some really presume to break rituality andgender or laughter, but it’s just amazing over and over these statistics convinceus how important and valuable this market is.
The demographics are great inthis market. Baby boomers day is 45 to 64, it's the fastest growing populationin our society, population with peak income and it’s also good for us, thegroup that has a peak pet ownership right now.
The pet population itself is alsogrowing. There are more households than ever that own a dog or a cat and thosepet owning households own more dogs and cats than ever before. So, human andpet demographics are great. Within the pet population, another interesting nuanceis that the pet population is aging just as the baby boomer population as well.So with better nutrition, better healthcare, pets are living longer and thereare also more opportunities for products and certain diagnostics.
Within the overall companionanimal industry, some other interesting numbers are here on this slide. Thereare about 110 million households in the US alone, about 73 million dogs,about 90 million cats in the American households. And I would point out herethat all these statistics I am talking about are in United States and this is abouthalf of the global market. So, as you extrapolate or contemplate the overallglobal market, keep that in mind.
The total companion animalindustry, which would include toys, food, bedding and veterinary care is about$55 billion in annual sales. Our target market is about $3.5 billion, so that’sx-manufacturer to the veterinarians about, $3.5 billion U.S.
Then in terms of customers, as Isaid, we sell to veterinarians. We don't sell in the retail channel but onlythe [ethical] channel, to veterinarians about 40,000 of them practicing in about20,000 clinics.
On the next slide, we have pointedout that vet practice has been changing substantially in the recent past. Webelieve that income from annual vaccinations should decrease and in some caseswe did see evidence that it is decreasing. People don't believe the pets needto be immunized annually any more than we are in some cases. So, they are pullingback from that practice. And in some cases, there have been some adverse eventsassociated with vaccination. I'll comeback to that when we talk about one ofour products.
The second bullet here onpractice change is that there are fewer opportunities in the pharmaceuticalmarket. Typically, historically, a veterinarian wouldn't charge and I amgeneralizing here, they wouldn't charge for her or his service, but they would marketproduct. So, if the manufacturer sold the product for $20, they might onaverage, market up to $40, roughly double the price of the product and that'show they made their income. But that's changing. Many of the brand leading genericsthat a consumer identifies or mainly, the brand leading products or pharmaceuticalsthat consumers identify, are going generic. There is price pressure, there isover the counter channel threats, particularly in flea control. Some of theflea control products are finding their way into the retail channel and are believedwill do some more in the future.
The third point here isinternet-based channels where a pet owner can have a relationship with a neighborhoodveterinarian but still order their products over the Internet and have themdrop, shipped or delivered to their door and that, in many cases can circumventthe local veterinary relationships.
So, fewer opportunities there intheir business so they are turning more to wellness and health information. Andthen they will be actually charging for services and being paid, rewarded financiallyto practicing medicine, rather than doing product markup and also doing vaccineclinics. So, all this is greatness for us in our strategy again, because we arefocused on advanced diagnostics, in particular, specialty products to extentbut to get wellness and health information, you need the diagnosticinformation.
The next slide shows the positionedwithin the general industry in the U.S. and animal health. You can seein this slide, we have got our emphasis here in the top right. We are very focusedon advanced diagnostic products for companion animal health. And by contrast,you see this group over here in the lower left, many of these would behousehold names in the pharmaceutical industry; very large companies that wouldhave divisions that are focused on animal health themselves.
Those divisions are typicallycharacterizes global. As I said, bigger businesses often higher units, focusedin some cases on pharmaceutical that have to have certain revenue and marginthresholds, not involved in diagnostics but more in pharmaceutical andvaccines. And also, not just focused on companion animal health but that wouldbe a part of the business along with poultry, livestock, of course medicine andso forth, even fish in some cases. You see Pfizer, as an example, stands out her.It's about, it's over $2 billion in total revenue globally and it's about halfcompanion animal health.
The next group of companies that webring up here, we see just below us would be IDEXX Laboratories. That's themarket leader in our advanced diagnostic category by far. We positioned themslightly below us on the companion animal health axis because they also do foodsafety testing, water testing and they are also involved in livestockdiagnostics. Further down still, will be ABAXIS. It is another interestingcomp. We will refer it to you towards the end of the presentation. ABAXIS isprincipally, a chemistry analyzer, also some hematology as well. But they aretrying to move more and more into human health. So, again, we placed them alittle further down on this Y-axis.
In terms of our own company; weconsider ourselves fully integrated, beginning with product development. We doour own R&D. We have certainly done so for sometime but we also do a lot ofproduct developments through partnerships, as channel partners with devicemanufactures and I’ll give you some examples of that in just a few minutes. Wealso have captive manufacturing in our subsidiary in Des Moines, Iowa.An important point on this bullet is that, this facility also does third partyor contract manufacturing, not under the HESKA label. You will see thisreported in our financial statements as OVP product revenue, other vaccines andpharmaceuticals. I will show what that revenue looks like in our financial slidein just a few minutes, but when you see OVP product revenue that’s associatedwith that facility.
We also have full marketingcapability. Our direct sales force as shown here is 31 people in the fieldright now as employees selling HESKA products. We have 24 people in insidesales at corporate headquarters in Colorado.They do outbound selling and in-bound order taking and support field sales.They also work with 13 regional full line distributors that have about 277sales reps that carry the full line HESKA products and call them veterinariansas well.
Let me give you some sense of oursales critical mass. Also very important to us, we have invested a lot incustomer and technical support. We differentiate ourselves with qualityproducts. It was indicated in the introduction but also our customer support,we've really taken a lot of care and time and investment in it. There are 25dedicated people, veterinarians, technicians available to the customer, and weare 24/7 emergency technical support.
I've got four slides that I wantto show you to give you examples of some of the products we sell, the channelsthat we use and so forth. In the first instance, you'll see here a cluster ofthree instruments in the order of left. These are our three diagnosticanalyzers and notably, all three of these have been introduced in 2007. You cansee the i-STAT Handheld Analyzer here, introduced in January. Our HemaTrueVeterinary Hematology Analyzer launched in July and then just very recently,the DRI-CHEM Veterinary Chemistry Analyzer that we have launched and developedin collaboration with Fuji Film.
The in-clinic diagnosticinstruments are very good business opportunities. For the veterinarian, theyprovide fast, accurate reproducible results. They give them the quality thatyou would expect in a reference laboratory but you get it in real time whilethe client waits. So, it's a great convenience also for the client to get aresult immediately, so they don't have to be called back or there is nofollow-up. So, we install the analyzer, sell the analyzer and then we sellproprietary consumable [stream] through each of those analyzers for years inthat installed base.
The next slide in productportfolio would be our Heartworm testing and prevention business. We sell SoloStep Tests for heartworm testing or diagnostics. These are the only ones thattest for the detection of heartworm infection. We have a suite of products herethat are available for both dogs and cats. We have also in the recent past,developed a product called Tri-Heart Plus. It's a heartworm preventive to beused once you're sure the animal isn't infected; a monthly heartwormpreventive, you just give it as oral, palatable product.
We developed the product throughFDA registration and continue to manufacture it but it’s actually distributedand marketed by Schering-Plough Animal Health. They have a sales force for adifferent profile and a lot of distributor reach, and that has worked very wellfor us. They sell the product; we took up the registration and continue tomanufacture it.
Turning to the next slide, thethird slide in these product examples would be our Allergy business. We've beendoing allergy testing and treatment for sometime. We are able to identifyexactly what causes allergies in dogs, cats and horses using proprietarytechnology that we developed at our company. We consider ourselves as theworldwide leader in veterinary allergy. After the diagnosis is made we alsoformulate therapy prescriptions or allergy shots if you will, providedspecifically for that individual animal.
The final slide that would giveexamples of products is also one of our specialty products here in this case,Feline Vaccines. You will remember, I mentioned that there is a lot of concernover vaccination, particularly because there are some times side effectsassociated with vaccines and particularly, there has been a lot of concernabout injection site tumors, injection site sarcomas in cats. So we've workedto develop a vaccine to protect cats against the most prevalent causes of upperrespiratory disease. These are viral respiratory infections. These are safeeffective alternatives. We avoid the needle stick and the side effect concernby making these as nose drops. So rather than do a needle stick into the cat,to accomplish the vaccination you just drop the vaccine in the nose.
Next I would like to turn to the slide on shareholderreturn-driven leadership. I will just make the point on governance andalignment with shareholders. We have got a very independent Board, a worldclass Board, I would consider. I am sure you would have heard the names ofthree of the people that chair each our standing committees. I am the onlyperson who is not independent on that Board. I have introduced Jason andintroduced earlier myself as Chairman, Chief Executive Officer, as Co-Founder.Jason has been CFO there for some years. He was actually the banker that tookus to public, back in 1997. So,he has been associated with -- in historic for sometime and has been, as Isaid, CFO for few years since then.
We are both sort of aligned with a mission, but we are alsovery invested in the company. We have had quite a lot of equity between us. Andin that case, we are certainly aligned with shareholders.
Next, I turn to slide two to just show you financial trends,again, in a lot more detail on our public filings and also encourage you tolisten to archived results as well, whenever you can. This just shows you fivetrailing years and then the last 12 months and it shows you the revenue growthover that period of time. And you can see, that from 2002 to the last 12 monthstallied up to the end of September this year, you will see steady revenuegrowth and particularly driven by our Core Companion Animal business, shown onthis slide as CCA.
You will see that the OVP business that I mentioned earlier,contract and private label manufacturing out of our Des Moines facility is lumpy. It's flattish,not a lot of growth. It can be up some years and down in others, which is shownthere in the different colored bar. And then on top, would be our R&D andother revenue over that same period of time. And this will be revenue that youwould characterize as amortized revenue from license fees, royalties.
An example of that would be product that we develop fortreatment of -- nutritional product for treatment of feline type 2 diabetes. NestléPurina actually manufactures that product and sells it and then we make aroyalty. So that would be the type of revenue that we show up in that blackbar.
And then in terms of the bottomline, you can see we've madesteady progress. We’ve made progress, you can see here, back to the same periodof times I showed you in that paragraph. In 2002 we lost $8.5 million net loss.2005 was our first full year where we showed a profit. More profit last yearand you can see through the last 12 months approximately, $5.3 million in netincome.
So, there is a steady progress at the bottomline as well asrevenue growth. And yet, we perceive ourselves as a company in transition thatoften the investment communities isn't aware of just how much progress we'vemade here, and this transition to operating success hasn't been fullyappreciated in the market.
We believe we are trading at agreat valuation. As I indicated in the introduction, our ticker is HSKA. Theshare price on November 26 closed $2.09 and this is the last 12 months, therange $1.46 to $3. And, I mentioned that there were some comps on that slidethat I showed you earlier.
Abaxis would be one you mightwant to take a look at, if you would like to. IDEXX, as I indicated, is themarket leader. And then another company you can look at would be VCA Antechwith the ticker, WOOF.
I mentioned and promised that Iwould show one more slide towards the end on what we believe is an un-depreciatedasset in the business and that's our net operating losses, our historicallosses. As we built this fully integrated company, we had lot of front-endexpense and loss. These NOLs can be used to offset income taxes going forward.
At the end of last year, in our10-K, we reported NOLs of nearly $168 million in U.S.,nearly $2 million in Switzerland.And again, these are attributable to historical losses. Now, as we turn towarda profitable trend, we see this as being great in terms of cash flow benefit inthe future, offsetting taxes.
With that, I'd turn to the lastslide. I am not going to go through these bullets, but perhaps its service.I'll remind you some of the things I have said and we will invite you to askquestions. Yes, sir.
Question-and-Answer Session
Unidentified Analyst
[Question Inaudible]
Bob Grieve
Gentlemen, for the web audience benefit, gentlemen, calculated calculus and said wemake about $0.50 an animal for pets in the U.S.
Unidentified Analyst
[Question Inaudible]
Bob Grieve
Right, very sorry. In any case, yes, we would consider bothon acquisitions if they are appropriate. We certainly aren't going to do themoutside of the strategic context. We are going to really focus on thiscompanion animal space and stay focused for the foreseeable future in thatarea. But if there are opportunities to grow critical mass and drive morerevenue through and more penetration, we would love to do that.
Unidentified Analyst
[Question Inaudible]
Bob Grieve
I think in our universe, we'd be more reactive andproactive.
Unidentified Analyst
[Question Inaudible]
Bob Grieve
Yes. Justlet me take this gentleman, Yes, sir.
Unidentified Analyst
[Question Inaudible]
Bob Grieve
Good.
Unidentified Analyst
[Question Inaudible]
Bob Grieve
Thank you. Now, the commentary again, for the web audiencewas, gentlemen, inquired of a veterinarian that practiced or lived in his ownbuilding, and she strongly endorsed the Heska brand and Heska products. Andwhich in turn, I guess, charged you to consider to buy some stock. Is that thefirst summary? For the audience, I appreciate that a lot. Again, we've takenour position from a competitive standpoint and to focus on the highest possiblequality in the product and the highest possible customer technical support thatwe can give. This is how we compete and this takes a bit more of ramp, a bitmore of time. But we think it's an eminently more defensible positioncompetitively.
Unidentified Analyst
[Question Inaudible]
Bob Grieve
The FDA, as I indicated the one slide on the pharmaceuticalarea. The FDA has jurisdiction on the disposable, single-use diagnostics and onvaccines. It's the United States Department of Agriculture. So there are twodifferent bodies in the US.Yes, sir.
Unidentified Analyst
In your R&D program, what is the direction for your newproduct development?
Bob Grieve
Right, the question is on our R&D program, what's thedirection for product development? Our primary focus is advanced diagnosticsand specialty products solutions. And these specialty products were often, willseek specialty products that would compliment a diagnostic, for example. Sothat's generally the area and it gives me an opportunity also to emphasis oneother thing.
We do a lot of internal R&D but as I showed, we do alsoproduct developments through partnerships. So, we're able to, in case of thoseIn-Clinic analyzers that I showed in the first slide, we're able to go topeople that manufacture devices or analyzers for human health. We're able to doa lot of modification and work with them to make them acceptable for veterinaryuse. And then, we serve as a channel partner.
So in many cases the chassis, if you will, of that analyzerhas been developed for the human healthcare market. It can be modified withrelatively less R&D expense and then, we work as a channel partner throughour Heska brand.
Unidentified Analyst
Thank you.
Bob Grieve
Yes, sir, you had a question sir.
Unidentified Analyst
[Question Inaudible]
Bob Grieve
Right.
Unidentified Analyst
[Question Inaudible]
Bob Grieve
Right. The question would be, in addition to selling theindividual veterinary practices, do we also sell to Shelters in multi-doctorhospitals? The answer is yes, we do. Although, it's certainly not apredominance of practice, there are many multi-doctor hospitals or referralcenters, for example, the Animal Medical Centeron the [East River] is huge. Angell Memorialin Boston isanother large one.
And there are also corporate practices, as I mentioned, VCAAntech has several hundred hospitals that they have rolled up. We would dobusiness with those corporate practices, but we also work with Shelters. We'lloften, frankly, discount product to Shelters help them out a bit. Our FelineVaccines, for example, have been very popular and Shelters for Kittens.
Unidentified Analyst
[Question Inaudible]
Bob Grieve
In the Shelter business?
Unidentified Analyst
[Question Inaudible]
Bob Grieve
I think the trends would be that, there are few trends. Ialways say there are no trends. They are obvious to me other than status quo inthe Shelter area. Within corporate hospitals you are seeing aggregation, buyinggroups, seeking purchasing power. But you still got, if you take all of themajor corporate hospitals today, put them all together, it's still between 5%and 10% to the total hospitals.
It is growing but is still a fairly diminimus part of thebusiness for the customer base. And then, I think other than that, you areseeing more of multi-doctor practices in high urban density areas withspecialization with all those practices. You might see, for example a dozenveterinarian just to pull a number out of the years, some of them boarded insurgery, some boarded in medicine, specializing in Oncology, Dermatology. So,you're seeing multi-doctor practices and specialization, for there is an urbandense market that will allow it.
Unidentified Analyst
[Question Inaudible]
Bob Grieve
Alright. The question was to justre-stabilize earlier it was clearly focused on the ethical channel, but thereare other opportunities in food, for example. The answer is no. Are wespecifically elected not to get into it, say, the nutritional space, becausethis is a space that's dominated by very, very substantial retail players, witha lot of muscles about shelves space distribution.
It's about a lot more in terms ofcritical math, outside of our core expertise. And I think we would do alliance,as I mentioned earlier, we would do alliances if we happen to discoversomething that would be of value. We'd seek an alliance with a partner as we dowith the Nestle Purina for Feline Type II Diabetes. Now, they are the marketerand we benefit from the royalty.
Unidentified Analyst
[Question Inaudible]
Bob Grieve
Right. Actually, the largestplayer in the ethical channel in food is the company called Hill's PetNutrition. This is a division of Colgate. Again, a very, very substantialenterprise, a very entrenched but quite noted.
Unidentified Analyst
[Question Inaudible]
Bob Grieve
Let me try and get JasonNapolitano to the mike here as CFO and he is going to -- he is superb with thenumbers. Would you repeat the question?
Jason Napolitano
Thank you, Bob. The question wasjust a general overview of our capital structure corporate position. We havecurrently approximately $10 million in debt, approximately $2 million of thatis related to term debt, primarily borrowed against the equipment and to somedegree, our facility in Des Moines, Iowa.
We have an $8 million revolver.It's actually $12 million revolver under which we currently have approximately$8 million borrowed and then it's a classic receivables and inventory basedrevolver. We have about $5 million in cash to offsetting that. We are not currentlyburning cash. We had a question about the cash burn as part of this.
In terms of ownership, we havethree very large owners; largest is State of Wisconsin Investment Board; they are about19%. Number two is Zesiger. Number three is Charter Ventures which is theoriginal venture capital firm that founded Heska. Charter Ventures is about12%. And then we have, number four, is Ashford Capital, out of Delaware whichis just north of five now. And then we have got probably, another 20 or soinstitutions that have got a hold of roughly 5% of the shares. Insiderscurrently hold about 3% of the shares, and I think that answers the --
Unidentified Analyst
Only 3%?
Jason Napolitano
Yeah, but that excludes optionsthat's just current shareholding, that excludes our option position.
Unidentified Analyst
[Question Inaudible].
Jason Napolitano
We have about 51 million sharesoutstanding. And if you want to get to the option detail, we have got reallygood disclosure, actually broken into charges in every Q. Okay?
Moderator
Are there further questions alongthis line? Yes sir?
Unidentified Analyst
[Question Inaudible]
Jason Napolitano
The question was about the 2008outlook. We have been very disciplined about not speaking to anything beyondthe current year. Our current year’s guidance was $5.6 million on our lastearnings call which would be a clear record year for us. So, we're very excitedabout it.
Unidentified Analyst
5.6, un-taxed?
Jason Napolitano
There is some small European taxthat flows through there. There is an AMT tax that's included in thatcalculation. What's not included, you have obviously done a lot of homework, isif we were to put a large tax benefit on our balance sheet, Bob mentioned theNOL, in the United Statesthat's not currently on our balance sheet. If we put it on our balance sheet,we'll have a huge, likely deferred tax benefit this year and then next year wewould report as if we were paying tax.
Unidentified Analyst
[Question Inaudible]
Jason Napolitano
The question is, how long doesthe tax loss benefit go for? The current legislation is 20 years from when youhave a loss. That last year I believe we had a loss was 2004. So, the last ofour NOLs would expire in the year 2024, approximately. Okay, thank you.
Bob Grieve
Thank you very much. Again, allof you hearing and those on the web, we appreciate your attention.
Copyright policy: All transcripts on this site are the copyright of Seeking Alpha. However, we view them as an important resource for bloggers and journalists, and are excited to contribute to the democratization of financial information on the Internet. (Until now investors have had to pay thousands of dollars in subscription fees for transcripts.) So our reproduction policy is as follows: You may quote up to 400 words of any transcript on the condition that you attribute the transcript to Seeking Alpha and either link to the original transcript or to www.SeekingAlpha.com. All other use is prohibited.
THE INFORMATION CONTAINED HERE IS A TEXTUAL REPRESENTATION OF THE APPLICABLE COMPANY'S CONFERENCE CALL, CONFERENCE PRESENTATION OR OTHER AUDIO PRESENTATION, AND WHILE EFFORTS ARE MADE TO PROVIDE AN ACCURATE TRANSCRIPTION, THERE MAY BE MATERIAL ERRORS, OMISSIONS, OR INACCURACIES IN THE REPORTING OF THE SUBSTANCE OF THE AUDIO PRESENTATIONS. IN NO WAY DOES SEEKING ALPHA ASSUME ANY RESPONSIBILITY FOR ANY INVESTMENT OR OTHER DECISIONS MADE BASED UPON THE INFORMATION PROVIDED ON THIS WEB SITE OR IN ANY TRANSCRIPT. USERS ARE ADVISED TO REVIEW THE APPLICABLE COMPANY'S AUDIO PRESENTATION ITSELF AND THE APPLICABLE COMPANY'S SEC FILINGS BEFORE MAKING ANY INVESTMENT OR OTHER DECISIONS.
If you have any additional questions about our online transcripts, please contact us at: transcripts@seekingalpha.com. Thank you!