West Pharmaceutical Services Q4 2007 Earnings Call Transcript

Feb.21.08 | About: West Pharmaceutical (WST)

West Pharmaceutical Services Inc. (NYSE:WST)

Q4 2007 Earnings Call

February 21, 2008 9.00 am ET

Executives

Theresa Kelleher - IR

Don Morel - Chairman and CEO

Bill Federici - CFO

Mike Anderson - Treasurer and Primary IR Contact

Analysts

Larry Solow- CJS Securities

Robert Gilliam - UBS

Steven Postal - Lehman Brothers

Jonathan Reichek - Friedberg Investment Management

Operator

Welcome to the West Pharmaceutical Services fourth quarter Earnings 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 will turn the meeting over to Ms. Theresa Kelleher from FD. Ma'am, you may begin.

Theresa Kelleher

Thank you. Good morning everyone and welcome to the West Pharmaceutical Services' fourth quarter 2007 results conference call. As you know, we issued our results this morning. The release has been posted on the company's website located at www.westpharma.com. If you have not received a copy of this announcement, please call FD at 212-850-5600 and a copy will be sent to you immediately.

Before we begin, I would like to remind you that certain statements that may be made by management of the company may contain forward-looking statements as defined in the Private Securities Litigation Reform Act of 1995. These forward-looking statements set forth anticipated results based on management's plans and assumptions. Such statements give our current expectations or forecasts of future events. They do not relate strictly to historical or current facts.

In particular, these include statements concerning future actions, future performance or results of current and anticipated products, sales efforts, expenses, the outcome of contingencies such as legal proceedings and financial results. We have tried, wherever possible, to identify such statements by using words such as "estimate", "expect", "intend", "believe", "plan", "anticipate", and other words and terms of similar meaning in connection with any discussion of future operating or financial performance or conditions.

We cannot guarantee that any forward-looking statement will be realized. If unknown or known risks or uncertainties materialize, or if underlying assumptions are inaccurate, actual results could differ materially from past results and those expressed or implied in any forward-looking statements. For a nonexclusive list of those factors, which could cause actual results to differ from expectations, please refer to the factors listed in today's press release.

Investors are advised, however, 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.

This call is being recorded on behalf of West Pharmaceutical Services' and is copyrighted material. It cannot be re-recorded or rebroadcast without the company's expressed permission. Your participation on this call implies your consent to our taping. Once management has concluded their remarks, we will open the floor for questions.

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

Don Morel

Thank you, Theresa, and good morning, everyone. Thank you for taking time to join our call today. As Theresa mentioned, I am joined by our Chief Financial Officer, Bill Federici and also by Mike Anderson, our Treasurer and primary Investor Relations contact.

As you will note from the level of detail in this morning's release, 2007 was simultaneously a challenging and a record setting year for the company. Before I comment on the year and our outlook for 2008, I would like to extend a note of thanks to West employees around the globe for achieving a major company milestone, surpassing the $1 billion sales mark for the first time in the company's 85 year history.

Starting with that $1 billion top line 2007 was a very good year, especially on the heels of the tremendous 2006 where earnings increased over 35% compared with 2005. In 2007, we started the year with a record first quarter; where we earned $0.77 per share and landed with a very good fourth quarter earning $0.51 per share, excluding one time charges. Surpassing a very strong 2006 fourth quarter. Overall fourth quarter 2008 earnings grew just under 20% compared with the fourth quarter of 2007.

We delivered record net income of $70.7 million and excluding the Tech's restructuring and some unusual tax items, posted earnings of $2.37 per fully diluted share, a number just over the high end of our original guidance for the year. As I indicated previously these accomplishments would not have been possible without the collective efforts of a lot of people in our various operations around the world.

This morning's release provides a detailed discussion of our financial results, which Bill will review in just a few minutes. However in a nutshell, the last twelve months reaffirm several characteristics of our business that we often highlight during our calls.

First, we sell our components in the markets for critical therapeutic products that continue to grow very nicely. During 2007 West's consolidated sales grew 11.7%. In the Pharmaceutical System segment, sales grew in excess of 15% or over 9% excluding the effects of foreign currency. That overall Pharmaceutical Systems growth is right in line with our long term expectations.

Second, our success in the marketplace is in many ways linked to the success of our customer's products. While we have outlined the potential sales shortfall from Exubera and the ESA drugs in 2008, we cannot predict the market success of our customer's products, which can be impacted by a range of factors including regulatory issues, patient acceptance, clinical effectiveness and insurance reimbursement.

We do know that these two products were taken individually among the largest exposures we have to any single therapeutic product and single product risk. However it is important to know that despite the significant impact of these product shortfalls on our 2008 revenues, West, will continue to grow in 2008, which clearly demonstrates the diversity, strength and relative stability of our pharmaceutical packaging business.

It is also important to know that while we will not realize some repeat revenue in 2008 associated with these products, we will not lose that business to competition. We believe that we will continue to capture and expand share in our most important market segments.

As 2008 begins we remain confident that we will grow sales again in 2008 in the range of 3% to 5%. When 2007 sales are normalized for the projected sales declines previously discussed our overall business would be growing in the 7% to 9% range breaking line with our longer term expectations.

Simply put, the underlined strength of our primary markets remains healthy and we expect the major grow drivers discussed on previous calls to continue driving sales. These are growth in chronic diseases such as diabetes, arthritis and cancer that come with an aging population.

The increasing number of biologic drugs and vaccines coming to market or in development. The growth is developing markets such as India and China, increasing cleanliness requirements for our components from global regulatory agencies and downstream growth in combination products.

For management, there are four primary objectives for 2008 that will drive our performance. First, we must run our existing operations efficiently while we continue to invest in and build new capacity to meet forecasted growth. These investments along with increased R&D investment and IT platform projects will comprise the bulk of our $140 million capital spending plan this year.

Second, we must complete the Tech restructuring programs to line our cost and infrastructure, not only with our existing business but also positioning that business downstream to support our four growth platforms. In addition, we fully expect our new Grand Rapids facility to be profitable by midyear, reserving the loss that occurred in 2007.

Third, we expect to progress several new products from R&D to marketing and customer sampling, including the 1 ml CZ silicon free syringe a passive needle safety system and several product line extensions in our pharmaceuticals systems business in the ready-to-use format.

I would like you to know that we will be providing a detailed overview of our new product initiatives in our second Investor Day which will be held in New York on March 13th.

Finally, we expect gross margins to expand by 1 to 1.5 percentage points as new capacity comes on line and we operate more efficiently aided by more favorable product mix especially during the second half of the year.

Turning to the expansions of our existing facilities you may recall that we are expanding multiple facilities in Europe, North America and Asia simultaneously. The Bodmin UK tool shop was completed in 2007 and is now operational, effectively reducing our lead time on critical rubber tools from approximately one year to 20 to 24 weeks.

The production expansions in Europe are in schedule in Germany and Serbia where construction will be completed by midyear, and engineering and testing, and validation will be started as soon as possible thereafter.

Consumer sampling will be unifying completion of the equipment validation runs. In France, we have modified our original plan in order to get an additional B2 coding line in place and have decided to delay expansion of the molding facility for a brief period.

The Singapore expansion is underway and scheduled for completion in 2009. We are also increasing pharmaceutical product molding capability at our St. Austell, UK facility where we have ceased production of the disposable medical device component previously discussed.

As in all of our pharmaceutical production plans, each new facility or line is subject to internal quality testing and validation, followed by customer sampling and line trials.

In North America we are adding rubber compounding and pharmaceutical packaging production capacity in our Kinston, North Carolina facility.

We began construction for the compounding facility in October and expect to complete construction later this year. Production of the pharmaceutical packaging components is planned to begin in 2009 with Westar capacity coming on line in 2010.

We are also expanding our Clearwater Florida metals facility to ramp-up capacity in 13 and 20 millimeter overseals. That facility has been operating at 21 shifts per week for a good part of 2007. This capacity when operational later this year will provide for some much needed relief, both on the machinery infrastructure front and for our personnel.

I realize there is a high level of interest in our capital plans in terms of our ability to keep up with demand and the financial impact of these assets coming online in terms of sales, operating profit and cash flow, not to mention returns on invested capital. The reality is that while we can complete building construction and equipment installation on our own schedule, eventual commercial production is a direct function of customer testing and approval. Since most of the new capacity replicates existing production lines, and although there are always technical challenges to be worked out, we do not expect significant delays in getting the facilities running to our satisfaction on schedule. The time lag between completion of internal quality tests and customer line-trials, can be as short as several weeks or in some cases as long as one year.

Turning to our China project, although we have been delayed from our original timeline due to government policies on land use rights, we have broken ground in January on the plastics facility. We have been able to progress some of the softer aspects of this project and hope to get the plant built by year-end and producing by mid-2009. As the facility is intended to support a single customer, and demand from that customer for products is very high, we do not believe there is much risk of delayed approval to manufacture.

Within the Tech Group, the critical success for 2008 are to complete all steps in our restructuring plan which is fully on schedule and ramp up volume in our new Grand Rapids facility. Grand Rapids alone represents the potential for an operating profit improvement over the prior year, of $6 million, where we operated two facilities in parallel as production shifted to the new plant. Due to customer proprietary, delivery devices will also begin production in the first half of 2008. All told, we anticipate improvement in Techs gross margins of approximately one percentage point over the year.

Before I turn the call over to Bill, I would like to point out that quarter-to-quarter comparisons between 2007 and 2008 will be somewhat difficult, due to the effects of our Nektar, ESA packaging component sales, and the diagnostic component sales, as well as our increased R&D and IT platform spending. At this point, we believe solid organic growth in our core pharmaceutical components business coupled with a favorable shift in our product mix over the year, will more than offset revenue shortfall due to the practice previously discussed.

We also believe that the combination of improved plan efficiency, tight spending controls, and pricing will enable us to improve our consolidated gross margin from 1 to 1.5 percentage points leading to full year earnings between $2.40 and $2.50 per share. I would like to reemphasize however, that while our backlog and orders patterns are very healthy, it is important to maintain a 12 month outlook on the business, due to the timing of expenditures and the shift of some anticipated demands in the second half of the year.

Now, I'd like to turn the call over to Bill Federici. Bill?

Bill Federici

Thank you, Don, and good morning, everyone. As indicated in this mornings press release West, reported fourth quarter 2007 income from continuing operations of $6.1 million or $0.19 per diluted share. Reported results in the quarter include the affect of $17.8 million of restructuring, asset impairments, and tax charges that were partially offset by several discreet tax benefits.

Most of the charges relate to the Nektar asset impairment of $12.9 million and the implementation of the restructuring plan for the Tech Group of $3.4 million that we announced in December. Cumulatively the net charge served to reduce reported earnings in the quarter by $0.32 per diluted share. Excluding the net negative effect of these special charges, fourth quarter 2007 earnings per share from continuing operations were $0.51 per diluted share $0.08 better than 2006 fourth quarter earnings of $0.43 per diluted share.

There were no charges or benefits outside our normal operating results, including in our fourth quarter 2006 results. The company's consolidated sales in the quarter were $256.1 million a 10.5% increase over fourth quarter 2006 sales with 5.9 percentage points due to foreign exchange. Fourth quarter sales in the Pharm System segment of $187.3 million were 14.2% above 2006 fourth quarter sales with 7.4 percentage points of the increase due to currency effects.

Much of pharm systems growth in the quarter was in Europe, and was largely due to increased demand for our coated and Westar treated pharmaceutical packaging products and increased demand for our patented IV plastic cap TrimTec. Pharm systems domestic sales grew modestly with growth also driven by continuing increased demand for packaging components using our advance quoted treatments and our Westar process, and demand for pre-filled injection system components. Sales of component using customer's anemia drugs were $1.3 million less in Q4 2007 than Q4 2006.

The Tech Group Segment generated sales of $71.1 million in the quarter approximately equal to our prior year fourth quarter sales. Nektar Exubera device sales were $5.4 million in Q4 2007 versus $8.9 million in Q4 2006. Consolidated gross profit margins for the fourth quarter were 27.5% compared to the 28.7% margins we achieved in the fourth quarter of 2006. Gross margins in the Pharm Systems segment were 33.2%, eight-tenth’s of a percentage point lower than in last year's fourth quarter.

The margin decline stems primarily from the impact of a favorable mix price and volume more than offset by increased labor and production inefficiencies and higher manufacturing expenses in Europe due to high production demands. As we explained in our last call margins will continue to be under some pressure in the near term due to our need to run certain plants at or above capacity pending the completion of our capacity expansion projects.

In Tech Group, margins decreased over the prior year quarter by 3.6% margin points to 11.7%. The decline resulted largely from less Exubera device sales, which carry a 33% margin and the incremental plant overhead costs incurred with the transition to our new Michigan facility.

Tech's margins are expected to improve in 2008 as utilization at the Michigan facility increases. Michigan facility inefficiencies reduced gross profit by approximately $1.7 million or 2.3 margin points in Q4 and $6 million for the full year versus the prior year.

Consolidated SG&A expenses decreased by $2.1 million or 5% in the quarter versus the prior year quarter. The decrease was primarily due to lower director and officer stock based compensation expense due to the decline in the fourth quarter of the company's stock price versus the strong increase in Q4, 2006.

Lower incentive compensation expenses and lower cost associated with the company's US pension plan. SG&A cost decreases were partially offset by the impact of foreign exchange, increased comp cost, mostly in the foreign systems segment relating to the headcount additions in support of our growth programs and annual merit salary increases. And increased outside service cost which was mostly related to our information systems development activities.

As a percentage of sales, fourth quarter 2007, SG&A expenses at 15.5% were 2.5 percentage points lower than the fourth quarter 2006 levels. Excluding the favorable SG&A impacted stock price decline on compensation expense in Q4, SG&A expenses as a percentage of sales were one percentage point lower than Q4 2006.

Our reported Q4 results also include the effects of our Tech segment restructuring plan. The plan was developed to align our manufacturing capacity and workforce with the businesses' current outlook, considering our customers current changing marketing plans.

The total cost of the restructuring plan is estimated to be approximately $12 million and includes charges for severance obligations for approximately 250 employees, the write-down of redundant assets and leasing contract termination cost. $20.4 million of these restructuring charges were reported in the fourth quarter and the remaining estimated $8.6 million charge will be taken throughout 2008, as we complete customer transition and equipment transfer requirements.

We should remember that, that $8.6 million is excluded from our 2008 guidance. Those restructuring plans are proceeding relatively close to our original timeframe and estimates about the expenses and we continue to expect $3 million of savings from the restructuring efforts in 2008, $7 million per year thereafter.

We also reported a $12.9 million impairment charge to our Nektar contracted tangible asset related to Pfizer’s decision to discontinue marketing Exubera. This month we signed a settlement agreement with Nektar, covering reimbursement of certain expenses and assets associated with our dedicated Exubera production facility.

As part of that agreement they have made a payment to us covering our severance and inventory costs and the first of monthly payments, to maintain the production facility. In addition, they will make future payments covering our outstanding accounts receivable any future lease termination cost, additional severance, fixed asset charges and monthly charges for maintaining the production facility for a period of up through December 31st, 2008.

Reported results for the quarter also included a pretax charge of $1.5 million representing our final assessment of our tax liability for certain disputed taxes in Brazil. No further reserves are expected regarding these Brazilian tax matters. Tax expense for the quarter includes a $1.7 million discreet prior year tax benefit, related to the expanded use of allowable tax credits, the lowering of some state taxes reserves and the effect of a statutory rate change.

Our balance sheet is strong and our business continues to provide necessary liquidity. The company’s cash balance at December 31st, was $108.4 million and we had approximately $22 million in short-term investments. Our cash is more than double the cash we held at prior year-end, due mostly to the proceeds from the debt offering we concluded in early 2007.

In the fourth quarter, we used $11.2 million of our cash to repurchase 289,000 shares of our common stock at an average price of $38.56 per share. Working capital totaled $229.4 million at December 31st, greater than $100 million or more than at the prior year-end also mostly due to the debt offering. Debt at December 31 was $395.1 million and our net debt to total invested capital ratio at year-end was 36.9%, 5.8 percentage points higher than at the prior year-end with most of the increase due to our $39.4 million stock buyback.

Operating cash flow was $59.3 million for the quarter ended December 31s and we incurred capital expenditures of $60.4 million in the fourth quarter, with more than 50% of the capital focused on new product and expansion activities, mostly for our pharmaceutical systems, Europe and Asia capacity expansions.

We continued to invest our expansion capital to support demand growth in our high value, high margin products. CapEx for the year 2007 was $129.4 million including $35 million for Europe, $10 billion for China, $10 million for the Tech Michigan facility, and $12 million for IT systems. Approximately $50 million was for normal maintenance activities.

In summary, we experienced another solid operating quarter which capped off a very successful 2007. Looking ahead, the fundamental positive demographics and market growth trends for our business remain unchanged. Our order backlog at December 31st remained strong at $253 million, slightly higher than last year's $250 million. The current backlog does not include any anemia drug component orders expected to be filled in 2008.

Our capital expenditures are expected to approximate $148 million during 2008 reflecting continuing spending on normal maintenance activities, finalizing our Europe expansions, the majority of our China plastics spend and spending on US pharma packaging manufacturing capacity, as well as additional spending on IT system upgrades.

As you know, we do not provide guidance for any interim period. However, quarterly comparisons to prior year will be impacted by a number of unfavorable factors, including the $50 million to $60 million of 2007 sales of Exubera device, anemia drug components and disposable diagnostic components, increasing R&D expenses and IT systems upgrade continue to increase in costs associated with operating our plants above normal capacity as well as the impact of 2007 decline stock prices and comp expense.

These are expected to impact more heavily upon the first half of 2008. The $50 million to $60 million of Exubera, anemia drug and diagnostic device component sales impacted gross profits in 2007 as follows. Quarter one $6.5 million, quarter two $5.5 million, quarter three $4 million, quarter four $3 million.

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

Don Morel

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

Question-and-Answer Session

Operator

(Operators instructions) And our first question comes from Arnie Ursaner of CJS Securities.

Larry Solow- CJS Securities

Good morning. This is actually Larry Solow calling in for Arnie Ursaner.

Don Morel

Good morning, Larry.

Bill Federici

Good morning

Larry Solow

Good morning. Just a couple of quick questions, first in regards to the gross margin, can I assume that Grand Rapids was will still be impacting, I assume the first half of the year, you probably make up that $6 million year-over-year number from '07 to '06 sorry -- we made up in '08 I assume?

Bill Federici

The $6 million will be made up in '08.

Larry Solow - CJS Securities

Okay.

Bill Federici

You believe that, but it will impact heavier in this -- the negative impact will be heavier in the first half than the second half. Say in another way the positives will be more heavily in the second half of the year.

Larry Solow - CJS Securities

Okay. So, then looking at '09 you should have a net-net positive, I assume?

Bill Federici

Absolutely.

Larry Solow - CJS Securities

Great and then can you just talk a little bit about current renegotiations or contracts that are -- and is there are you getting -- are you seeing price increases that was sufficient to cover rising material costs especially with oil getting a second leg up?

Don Morel

We are getting pricing and the agreements that we've negotiated for the most part. We are getting pricing on orders that are not troubled by long-term contracts. There are contracts in the device sector, where in exchange for longer-term commitments, we have given some price concessions, but those have been moderate.

Pricing on its own probably will not be enough to offset raw material price increases, but through efficiencies in the plant through our lien program and through other costs saving initiatives. We believe that energy, raw materials and labor are going to be offset for the full year for the most part.

In terms of the contracts themselves, we finalized I believe its five contracts over the course of 2007, two in Europe, three in United States. We've recently concluded our major contracts with Becton Dickinson, which will cover supply for the next five years.

Larry Solow - CJS Securities

Okay, great. And then just last question you mentioned that about 25% increase in R&D costs and then $5 million higher IT costs. First of all those IT costs that you've mentioned the $5 million is that an operating expense?

Bill Federici

It is, yes. That is an operating expense.

Larry Solow - CJS Securities

Okay, great. And then I assume…

Bill Federici

Associated with the SAP adoption and shop floor systems upgrades in the US.

Larry Solow - CJS Securities

Okay. And then you kind of have an expected return on these investments?

Bill Federici

For IT you don't normally get the returns in terms of a traditional ROIC. What you do is you have, you have systems that are old legacy systems that require huge amount of maintenance and require huge amount of time and effort just to keep them up, up to speed. No less then at some point in time that the vendors stop supporting them.

So it is the absolute right thing for us to do to be upgrading these systems and we do expect that we'll have efficiencies going forward from the fact that we will be getting better data in a more timely manner.

Don Morel

That's (inaudible).

Larry Solow - CJS Securities

Okay. Thank you very much.

Don Morel

Thank you.

Bill Federici

You are welcome.

Operator

Okay our next question comes from Robert Gilliam of UBS. You may ask your question.

Robert Gilliam - UBS

Hi. Good morning.

Bill Federici

Good morning, Rob.

Don Morel

Good morning, Rob.

Robert Gilliam - UBS

So a couple of questions, I guess first just sort of you said in the press release I think your FX assumptions was 1.4?

Don Morel

Yes.

Robert Gilliam - UBS

For 2008, so that obviously is a little below where the current rates are. So I guess one how do you come up with that and is it safe to assume that especially your guidance is baking in a little bit of a currency drag?

Bill Federici

Well, in terms our guidance you're absolutely right. The 140 is what we baked in. I certainly don’t know where currencies are going to go long-term. We are trying to predict what this is going to have an impact over the entire year.

We do know you are absolutely right Rob that the dollar is a little weaker then that right now. We anticipate that and we are getting input from professionals that suggested it will strengthen, the dollar will strengthen as the year goes on. So we believe that $40 represents our best guess at this point in time.

Robert Gilliam - UBS

Okay. But just to make sure I am thinking about it correctly, if it does remain at current levels then that actually would imply that there is upside to your guidance?

Bill Federici

Yes it does Rob.

Robert Gilliam - UBS

Okay, great. And then, as far as the Tech Group and I know you talked about it a little bit, but the margin expansion there, are you looking for some year-over-year margin expansion. Can you just walk us through how you get from, 11.7% in 4Q '07, increasing throughout the year, and I understand that Michigan obviously as that comes through the year, going to see a positive impact, but that's going to be offset by some pretty high margins in Exubera, which aren't going to be there. So I was wondering if you could just give some more details on that?

Don Morel

Yeah, it's a combination of things, Rob. The major impact is going to come from the fact that Grand Rapids by the end of the year is going to be basically up and running with the major programs there. It is a big pick-up not having to run two facilities at once when we were transferring the existing molds in Grand Rapids into the new facilities. Simultaneously we were trying to ramp up the new production lines.

The second area is that we have taken a significant amount of cost out of the system as it relates to engineering and tooling support, which was there for anticipated programs which didn’t materialize. So, we have taken quite a bit out on the cost side, when you combine that with Grand Rapids, we think it's probably going to give us a percentage point over the full year.

Robert Gilliam - UBS

Okay, and then as far as the Grand Rapids, does that all hit the gross margin line or would some of that split between the SG&A line also?

Bill Federici

Most of it, it was in the gross profit line. But you are right there is a slight amount that would hit in SG&A, very little. And just one other point about this, the other thing you remember about Tech is we are projecting that the top line will go down slightly. So that will help the margin as well.

Robert Gilliam - UBS

Got you, okay. And you mentioned for the anemia drugs that your backlog does not include any orders but does your revenue forecast, what is it assumed for; one, anemia drugs and then two if anything for Exubera?

Bill Federici

We have zero in there for Exubera and for anemia drugs we are assuming approximately half of what we had last year which is about $7 million in sales.

Robert Gilliam - UBS

Okay. And could you just repeat the numbers I think Bill, right at the end of your prepared remarks?

Bill Federici

The affect on the quarter is from the three, the Exubera, anemia drugs, and the device components?

Robert Gilliam - UBS

Yes.

Bill Federici

Yeah. For the first quarter it was and these are '07 gross profit numbers.

Robert Gilliam - UBS

Okay.

Bill Federici

Q1 they were $6.5 million, Q2 $5.5 million, Q3 $4 million, and Q4 $3 million.

Robert Gilliam - UBS

Okay. And then as far as the IT costs, is that going to be pretty spread throughout the year or is that also going to be kind of front end weighted?

Bill Federici

They are pretty well ratable over the year Rob.

Robert Gilliam - UBS

Okay. All right, I'll hop out, and let somebody else take a chance. Thanks, guys.

Bill Federici

Thanks, Rob.

Don Morel

Thanks, Rob.

Operator

(Operator Instructions) And our next question comes from Steven Postal of Lehman Brothers. You may ask your question.

Steven Postal - Lehman Brothers

Thanks, and good morning, Don, Bill, and Mike.

Don Morel

Hey, good morning, Steven.

Bill Federici

Good morning, Steven.

Steven Postal - Lehman Brothers

To just start out Don, I think you made a comment about France delaying some of the capacity expansion there. Did you say that, that was one of your rubber facilities, and could you just go into maybe the decision why you delayed the expansion?

Don Morel

Yeah, there actually are a couple of things there, Steven. It is a rubber facility; it's one of our major rubber facilities that focus on pharmaceutical products with regards to Westar capability and as high end products. There we re two reasons for the delay, actually a couple of reasons.

One, we decided that we needed a little bit more D2 capacity so we decided to modify the design a little bit and make room for an additional line, which kind of resulted in an extension of getting the permits that we needed from the local authorities, so that delayed us a little bit. We've got a little bit of a delay just associated with the ordering of the machine itself, which is fairly complicated and actually originates in Japan.

The other factor is kind of an odd one, Le Nouvion is somewhat of an agricultural region of France towards the Belgium border and one of our major customers has decided to build an enormous production facility about half an hour way from where we are located, which has taken in a great deal of the regional resources as it relates to construction.

So between what we're going to do with the UK facility, pushing as hard as we can to get the expansion done in Germany and Eschweiler, which is a sister plant to the France plant, we think we are going to be fine and it prudent just to make sure we got the resources to do France in the right timeframe so that's fundamentally the picture.

Steven Postal - Lehman Brothers

Okay. And then I believe you said CapEx guidance for '08 was $140 million is that correct?

Don Morel

That's correct.

Steven Postal - Lehman Brothers

And you've previously commented on kind of the capital expansion plan the next couple of years. I am sure I don't own a copy mentioned in your prepared remarks, but would it be fair to straight line that for another year or two?

Don Morel

It's going to be up and down a little bit part of the issue is simply timing. The number that we gave for 2007 was roughly about $130 million which included getting the China plastic facility of the ground in January of last year that obviously didn’t happen, so the capital in effect was just being carried over in to 2008. So you are going to see a situation were timing is going to affect us on a couple of things, but on a constant exchange rate basis a number in the 130 range is probably going to be pretty good for the next couple of years.

Steven Postal - Lehman Brothers

Through 2010 is right.

Don Morel

That's what we've previously discussed, yeah.

Steven Postal - Lehman Brothers

Okay. And Bill did you mention the growth rate

Steven Postal - Lehman Brothers

Okay. And Bill did you mention the growth rate in pharm systems domestic versus international?

Bill Federici

I did not mention them. They were slightly higher in Europe than they were domestically. So, not appreciably different, but slightly higher in Europe.

Steven Postal - Lehman Brothers

Okay. I guess in the context of raw material cost, I know this is been now a discussion for few years now, I thought that you all had these automatic adjusters in both components of the business, that have exposure to plastic and rubber. Is it that as you are renewing the contract, there is a little bit more sensitivity there, so you are not able to pass it through as you are renewing the contracts or is something else going on there?

Don Morel

You are absolutely right. On the plastic side of the business, it's easier to handle because most of those contracts are price at spot or have a quarterly lag. So, on the plastic side when commodity resins pickup, it is fairly quick. To my recollection all of the contracts that have recently been renewed do include a PPI or CPI adjusters because it is typically done on a 12 month lag-in basis. So, we do have the ability to recoup but timing has a great deal to do with what we can recover.

Bill Federici

And Steven, when we look at again there are multiple factors, we look at that the strong favorable mix shift that's going on, we look at lean as Don said, we look at the efficiencies in the plant in general, some volume in that price to offset the raw material and other inputs into our production systems.

Steven Postal - Lehman Brothers

Okay. So, it's sound to me like there is really no change there in terms of your ability to pass through these costs?

Bill Federici

There are -- the customers are very sensitive to price increases as they always have been and still about 50% of the business is under contract but they are still very, very sensitive to price increases.

Steven Postal - Lehman Brothers

Okay. All right, thanks a lot.

Don Morel

Thank you.

Bill Federici

You are welcome, Steve.

Operator

Okay, and our next question comes from Jonathan Reichek of Friedberg Investment Management.

Jonathan Reichek - Friedberg Investment Management

Hi, can you guys elaborate on the two new proprietary products in the Tech group?

Don Morel

We'd loved to but we are typically bound by confidentiality because we are a basically an OEM manufacturer for those customers and unfortunately our manufacturer agreements traditionally don’t allow us to disclose who, what, and volumes.

Jonathan Reichek - Friedberg Investment Management

Okay, what about -- I guess beyond those, I think in the past you guys have talked about how you wanted to bring in more of the proprietary products. So can you kind of elaborate on that?

Don Morel

Yeah, that's absolutely right. One of the major goals for the business is to shift their mix to a greater percentage of proprietary products that include West IP. It's underway. We have a range of products that are based on a novel resin CZ. It was developed by our Japanese partners Daikyo, called Daikyo Crystal Zenith. A large part of our new product pipeline is based on primary containers and delivery platforms that utilize that resin and our plants currently call for the bulk of that production to go within our Tech facilities and those will be rolled out from the middle part of 2008 going forward.

Jonathan Reichek - Friedberg Investment Management

Okay, and then I have got a question on the pharma segment. It sounds like the higher margin products are growing faster and it sounds like you guys have said a lot of the expansion CapEx has gone for the higher margin products. So, I guess at some point -- I know how big it is like -- at some point should we really see gross margins start to expand in that segment?

Don Morel

Yes.

Jonathan Reichek - Friedberg Investment Management

Then actually they have been, is that likely -- I am talking of 2009?

Bill Federici

We will see it 2008.

Don Morel

We will see it in 2008 more towards the second half of the year. And as the bulk of the capacity comes on line, which will through the early part, mid-part of 2009, you should see an uptick in margins.

Jonathan Reichek - Friedberg Investment Management

Okay. Thanks a lot.

Don Morel

Thank you. You're welcome.

Operator

At this time we have no further questions, then I would now like to turn the call back over to Dr. Don Morel.

Don Morel

Thank you very much operator. While 2008 will clearly present a number of challenges, I firmly believe that we are in a strong position to deliver another record year of sales and earnings. Furthermore, timely execution of our expansion programs, coupled with the strength of our new product pipeline, will position West for accelerated growth in 2009 and beyond.

I would like to close by again inviting you to attend our second Investor Day, which will be held in New York City on Thursday, March 13th. Details can be obtained by contacting Mike Anderson here in West or surely on our website at www.westpharama.com. Thank you very much for time today.

Operator

Thank you and have a good day.

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