Perrigo Company F4Q09 (Qtr End 06/27/09) Earnings Call Transcript

| About: Perrigo Company (PRGO)
This article is now exclusive for PRO subscribers.

Perrigo Company (NASDAQ:PRGO) F4Q09 Earnings Call August 18, 2009 10:00 AM ET


Arthur Shannon – VP IR and Communication

Joe Papa – President, CEO and Chairman

Judy Brown – EVP and CFO


David Buck – Buckingham Research

Greg Gilbert – Bank of America

Randall Stanicky – Goldman Sachs

Linda Weiser – Caris & Company

Scott Hirsch – Credit Suisse

Derek Leckow – Barrington Research


Welcome everyone to the Perrigo fiscal year 2009 earnings results conference call. All lines have been placed on mute to prevent any background noise. After the speakers' remarks, there will be a question-and-answer session. (Operator instructions) Thank you. I would now like to turn the conference over to Mr. Art Shannon, Vice President of Investor Relations. Please go ahead, Sir.

Arthur Shannon

Thank you very much. Welcome to Perrigo's fourth quarter 2009 earnings conference call. I hope you all had a chance to review our press release which we issued earlier this morning. A copy of the press release is available on our website, at Also we are webcasting this call with a slide presentation. You can either follow along with the web cast or access the presentation on in the Investor Presentation section.

Before we proceed with the call, I'd like to remind everyone that the Safe Harbor language contained in today's press release also pertains to this conference call. Certain statements in this call are forward-looking statements within the meaning of Section 21E of the Securities Exchange Act of 1934 as amended and are subject to the Safe Harbor created thereby. Please see the cautionary note regarding forward-looking statements on page one of the Company's Form 10-K for the year ended June 27, 2009.

I would now like to turn the call over to Perrigo's Chairman and CEO, Joe Papa.

Joe Papa

Thank you, Art and welcome everyone to Perrigo's year end fiscal 2009 earnings conference call. Joining me today is Judy Brown, Executive Vice President and Chief Financial Officer for Perrigo. For our agenda today, I will provide a brief perspective on the quarter and the year. Then I will provide an update on strategic developments in our API business. Next, Judy Brown will walk through the detailed financials and our fiscal 2010 EPS guidance. Then I will give you an update on our successful new product launch plans plus an update on other business units. This will be followed by an opportunity for Q&A.

First, I want to take the time to thank the team of Perrigo and all our employees for the tremendous effort in helping deliver the excellent results we have achieved this year. This is my third year at Perrigo and I have been honored to lead this dedicated team as we have achieved record results over the last three years. Again, I want to start with a thank you to everyone on the team.

Now let’s discuss those results. My overall comment on the quarter is we continued to execute on our plan with a strong focus on quality, customer service, new product innovation and our cost structure. We had record fourth quarter sales of more than a half billion dollars plus record adjusted operating income from continuing operations up more than 26% from last year on a 7% sales growth.

In addition, consolidated adjusted operating margin from continuing operations was over 13.8% on both gross margin expansion and SG&A management which generated $157 million in cash from operations in the fourth quarter. Our Rx business unit had a very strong quarter in what has been a highly competitive environment. We grew sales 27% while adjusted gross margins grew to 570 basis points without any major product launches. This was a very strong turnaround for our generic Rx business segment.

Our Consumer Healthcare Unit had an all time record fourth quarter sales for the second consecutive year. Remember, this is compared to last year’s highly successful launches from Omeprazole and Cetirizine. The team continued to deliver on our new products, beating even our own expectations.

Beyond the financial numbers we had a great year of achievements also and we expanded geographically. In June 2008 we acquired Brunel Healthcare to expand our product offerings in the United Kingdom. In October 2008 we acquired Laboratorios Diba for $25 million cash to expand the company’s product offerings and geographic reach in Mexico.

Consistent with our strategy we also expanded in adjacent categories. In September of 2008 we acquired JB Laboratories for $44 million including debt assumed to gain additional FDA compliant production capacity as well as expand the company’s contracts and manufacturing revenue base. This acquisition is expected to add approximately $70 million of annual sales.

In November 2008 we acquired Unico Holdings for $52 million in cash to add to the Consumer Healthcare store brands’ pediatric electrolyte business. This acquisition is expected to add approximately $50 million of incremental sales.

We also added partnerships. We amended the May 2008 Cobra collaborative agreement with Cobra Pharmaceuticals to include two additional products to develop and bring to the market.

In October 2008 we entered into a licensing and manufacturing supplies agreement with Medimetrics to develop and sell certain Rx dermatology products.

In November 2008 we acknowledged the settlement of patent litigation relating to generic Nasacort AQ, triamcinolone nasal spray products brought by Sinofi-Aventis against Teva, formerly Barr Laboratories. This is a partner for us that will bring this product to the market. Teva subsequently received FDA approval for this product on July 31, 2009.

Also in April 2009 we entered into a joint development agreement with Medicis Pharmaceutical Corporation to develop a novel, proprietary product for future sale. So I think as you can see we are growing organically and inorganically to capitalize on our market position to build our business. Look for us to continue this focused business development effort in the future.

If I can turn your attention to slide three. This data reinforces the move to private label and the better value equation of store brand, over-the-counter products. The overall OTC consumer market was up 4% in the quarter versus last year as national brands were essentially flat and you can see that store brands gained 13% on the strength of new product launches and increased market share. Most of the other individual categories were up as well. The Analgesic and Gastrointestinal categories were up more than 4% during the quarter. National brands were relatively flat in those categories but store brands grew 9% and 20% respectively in those categories.

Now let’s talk about the full year results. We had record sales, earnings and cash flow. Approximately $2 billion in sales. We had earnings of $258 million in cash flow from operations while improving our operating margins, service levels and product quality metrics. Full year adjusted operating margins were 13.3%, an expansion of 80 basis points versus last year. We continue to realize quality improvements that helped to drive those margins. Our quality investments are up 18% and our quality appraisal investments are up nearly 11% versus a year ago but our total cost of quality is down as a percentage of sales. Our focus on investment in quality over the past several years is clearly paying dividends now.

I have been delighted this quarter with the team’s overall performance and their ability to manage expenses while continuing to meet the increased demand for store brand. Now it is time to spend a few minutes on our future. Please turn to slide four. As I have mentioned previously, we perform strategic reviews of our consolidated business portfolio and return on invested capital performance for the individual components of the business units on a regular basis.

Last quarter we announced we are in the process of selling our Israeli Consumer Products business. This business unit is now being reported as discontinued operation in the financial statement.

This quarter I am very pleased to share with you the strategic plan for our API business segment. The management team has spent considerable time analyzing the competitive dynamics for active pharmaceutical ingredients and in light of our strategic focus on specialty molecules and vertical integration opportunities we determined that we can improve the cost competitiveness of our current manufacturing footprint for our future product portfolio.

So, in the fourth quarter of 2009 we began the process of exiting our German facility. On August 6th we also acquired an 85% stake in an API facility in India for $12 million. This state of the art, low cost facility 30 miles outside of Mumbai manufactures certain API products currently being produced in Germany and Israel. Plus, it will manufacture future higher volume APIs and in addition allow us to vertically integrate more of our Rx products and future Rx to OTC switch candidates. We will then leverage the additional capacity created by [inaudible] for our specialty API products.

As a result of our exit from Germany we took a charge in the fourth quarter which Judy will detail for you in a minute. This next generation of the API business will enable Perrigo to grow our low cost position, expand our own vertical integration focus in this strategic category. I am sure you will have plenty of questions about our fiscal 2010 guidance and our market share gains and I will get to those details shortly but let me turn the call over now to Judy for additional financial details.

Judy Brown

Thank you Joe. Good morning everyone. As you just heard, our strong fourth quarter performance helped us end our fiscal 2009 year on a very positive note. Even with challenging year-over-year comparables created by the strength of last year’s record Omeprazole and Cetirizine introductions we continue to grow the top line while delivering additional leverage on the bottom line as well.

The team is now looking forward with similar optimism to fiscal 2010. During the next few minutes I would like to provide you a brief review of the fiscal fourth quarter results, recap our accomplishments for the full fiscal year and then I will spend a bit more time walking you through the details behind our fiscal 2010 earnings guidance.

So first on to fourth quarter results. I would like to remind you that like last quarter these numbers are based on continuing operations only and do not include the results of our Israel Consumer Products business which were moved into a single line item, discontinued operations, on the face of the consolidated statement of income for all years presented pending the planned sale of that business unit.

Year-over-year we had a strong quarter. As you can see on slide five, consolidated net sales from continuing operations increased 7% to $508 million while consolidated GAAP gross profit grew 21%. Please note we were able to translate those solid sales and gross profit improvements to a much higher growth rate on consolidated operating profit, up 38% from last year on better leverage of SG&A spending.

After reviewing the figures we released this morning you will see there was one item in the fourth fiscal quarter of 2009 and there were four in 2008 which we have excluded from our analyses of the adjusted operating basis financials.

As you can see on slide number six, we incurred a pre-tax impairment charge of $15 million related to the future closing of our German API operations. This charge is comprised of costs related to the write down of plant assets, contractually obligated demolition costs associated with the future exit of the facility as well as costs related to employee termination benefits.

The fiscal 2008 charges we have excluded from our analysis in adjusted earnings totaled approximately $15 million also on a pre-tax basis. Please note this same reconciliation from the recorded GAAP numbers to our adjusted non-GAAP numbers is provided in Table 2 of the Appendix of our Press Release.

Now I will take you through the financial analysis of our fiscal fourth quarter based on adjusted results from continuing operations, that is, the GAAP reported figures excluding the previously mentioned charges.

Looking to slide seven, consolidated net sales growth from continuing operations of $34 million or 7% was driven by a combination of the Consumer Healthcare segment’s incremental new product sales, strong volume and product mix in Rx and API and the inclusion of product sales from the acquisitions of JB Labs, Unico, Diba and Brunel. This growth was partially offset by $25 million of unfavorable foreign currency impact, $15 million from divestitures and exited products and by attaining revenue recognition in the other segments which I will explain later.

Adjusted consolidated gross profit from continuing operations was up 10% from a year ago, driven by improved volume and product mix in API, revenue contribution from acquisitions, improved efficiency in most of our manufacturing locations as well as improvements in raw materials procurement. As we had forecasted, adjusted gross margin increased 90 basis points from this time last year.

Product management enabled us translate this 7% top line expansion into a 26% improvement in adjusted consolidated operating profit from last year. As you can see on the bottom left, adjusted operating margin of 13.8% was a 210 basis point increase from last year. Adjusted consolidated income from continuing operations was $47 million, up 11% despite the fact that this year’s 27.6% effective tax rate was a 1,220 basis point increase from the fourth quarter last year.

Adjusted earnings per share from continuing operations were $0.50, up from $0.44 last year.

Now onto the business segments. As you can see from slide eight, Consumer Healthcare fourth quarter net sales increased 9% to $407 million. As a reminder, since fiscal 2008 we had very successful launches of Omeprazole and Cetirizine. That means this is a 9% incremental growth on top of those launches last year. Approximately 7 percentage points came from both new and existing product sales growth and another 9% came inorganically from the acquisition of JB Labs, Unico, Diba and Brunel. These increases were partially offset by approximately 4% from unfavorable changes in foreign currency exchange rates and another 4% from divestitures and exited products.

Adjusted gross profit was up $6 million from last year. As you can see though adjusted gross margin decreased 100 basis points from last year due to lower gross margins associated with the nutritional product category, the negative currency impact of international businesses and raw material inflation. These pressures were partially offset by favorable product sales mix as well as margin contribution from U.S. acquisitions.

Consumer Healthcare adjusted operating margin was down 140 basis points from last year. The decrease was primarily related to the pressures on gross margins and the timing of R&D spend due to the acceleration of clinical trial activity during the fourth quarter of fiscal 2009. The Consumer Healthcare team did a very good job controlling variable spending in the second half of the fiscal year in order to focus SG&A spend on critical initiatives. Despite the inclusion of four acquisitions this year, SG&A as a percent of sales decreased from last year helping to compensate for the increased investment in R&D at the end of the year.

Looking next at Rx Pharmaceuticals on slide nine, this was a very strong operational quarter for our Rx business both year-over-year and sequentially particularly given the fact there were no major new product launches in the quarter. Fourth quarter net sales in Rx were $49 million, up 27% compared with last year. This increase in sales was driven by increased volume across a number of products, strong base business performance, positive results from the strategic pricing initiatives and very strong growth in our new ORX business which includes over-the-counter products sold from behind the counter.

This increase was slightly offset by the fact that fiscal 2008 had non-product revenue related to an R&D collaboration agreement that ended in that year’s fourth quarter.

As an aside, please note we did not record any revenues related to the triamcinolone milestones in the fiscal fourth quarter.

Adjusted gross profit was up $7 million or 47% from last year. Adjusted gross margin increased 570 basis points from last year and 430 basis points from the reported gross margin last quarter. This tremendous improvement was the result of strong execution on critical pricing initiatives, cost management and improved sales in numerous key products.

Rx adjusted operating profit increased 164% due to sound gross margins, tight SG&A discipline and decreased R&D spending. The decreased R&D spend is related to lower legal spend versus last year as well as the timing of a few projects. We expect it to return to a more normalized annual run rate of approximately 10-11% of Rx net sales for fiscal 2010.

We are very pleased with the performance of our Rx business. The Rx team has done an outstanding job of improving sales mix, executing on their pricing strategy and taking a serious approach to their cost management. We look forward to fiscal 2010 as the team continues these operational improvements and readies its new product pipeline for launch.

Next, looking at the API segment on slide ten. As you can see the API team was able to translate a 2% net sales increase into a 146% increase in adjusted operating profit through dramatically improved gross margins and cost management. Net sales increased $4 million on favorable product mix. However, this increase was almost entirely offset by unfavorable foreign currency exchange rates. A limited amount of [dossiers] were sold in the fourth quarter with the timing of several being moved now into fiscal 2010.

Gross profit margin increased 890 basis points driven by sales mix improvement and plant efficiency. Adjusted operating expenses were down 19% versus last year due primarily to lower employee related costs, favorable changes in foreign currency exchange rates and a decline in research and development costs.

We are also pleased with the fourth quarter performance of our API business. We knew that execution on our plans in the second half of this fiscal year and the fourth quarter in particular were going to be critical to setting this business on the right course for fiscal 2010. Although the API team did not have any major new products to launch this year they were able to control their spending and get their plants operating more efficiently in order to deliver bottom line results. Not only did adjusted operating margins improve 1,390 basis points versus last year, they improved 970 basis points sequentially from last quarter’s recorded margins.

The team is now very focused on the execution of a massive transformation project ahead of them as they begin to move into India and the closure of their plant in Germany and one area of the facility in Israel. I will comment more on this in the context of our fiscal 2010 guidance in a moment.

Turning now to slide eleven in the other category, which this quarter represents only the continuing operations of our Israel based pharmaceutical and diagnostics business, fourth quarter net sales were down 41% from last year. This decrease was driven primarily by a $6 million impact from a change in the relationship with a specific customer. That is, going forward sales to this particular customer will now reflect a distributor versus supplier relationship with them.

Therefore, net sales to this large customer will reflect the value of the distribution service being provided rather than the physical sale of products. This has positively impacted the growth in operating margin as you can see but has a year-over-year negative impact to the top line. In addition, sales were unfavorably impacted by foreign currency exchange rates, offset by the sales of existing products in the remaining portfolio.

Now some quick comments on our full fiscal year. We met or surpassed all of our original fiscal 2009 goals presented in August 2008 and adjusted for continuing operations. Looking to slide 12, you can see we achieved our consolidated revenue growth goal of 13-18% coming in at 16%. This was driven in large part by the impressive full-year Consumer Healthcare revenue growth of 22.6%. We were confidently in our guidance range of adjusted consolidated operating margin of between 12-14% and within this total realized a Consumer Healthcare adjusted operating margin of 14.6%, a 110 basis point increase from last year.

Adjusted EPS from continuing operations satisfied its growth target of 13-20% achieving 15%. Working capital management on top of these earnings results allowed us to surpass both our operating cash flow and ROIC goals as you can see. Overall, we are very pleased with our results and the team’s work to achieve these goals.

Now some quick highlights on our balance sheet. Excluding cash and current investments, working capital from continuing operations was $304 million at the end of the quarter versus $319 million at this time last year. This represents 15% to net sales, down 300 basis points from 18% last year. Cash provided by operations was $157 million in the fourth quarter compared with $112 million last year.

This was a record fiscal fourth quarter. For fiscal 2009 cash provided by operations was $258 million compared to $244 million a year ago, due mainly to strong cash earnings and strong working capital management.

At the end of the fourth quarter cash and current investment securities was $316 million, consistent with the balance at the same time last year despite having made $120 million in acquisitions during the course of the fiscal year. Our total current and long-term debt on the face of the balance sheet was $892 million but included a $400 million back to back loan which was completely offset by the $400 million restricted cash deposit in non-current assets. Net of the back to back loan our external debt was $492 million. As of June 27 we had an additional $200 million of untapped capacity on our existing bank revolver.

At the end of fiscal 2009 our debt to total capital was 34.8% and our net debt to total capital was 12.4%.

Now I would like to discuss our outlook for fiscal 2010. There were a number of continuous improvement initiatives which benefited fiscal 2009 that will continue into fiscal 2010. During the second half of fiscal 2009 these initiatives drove material improvement in both gross and operating margins. We remain focused on improving our operating expense cost structure while also squeezing out efficiencies in supply chain and manufacturing processes.

As a starting point we expect to maintain the fiscal 2009 fourth quarter adjusted operating margin on a consolidated basis for full year fiscal 2010. As we stated in past calls, our over-arching goal is to achieve bottom line growth greater than our top line growth through continuous improvement and leverage without losing site of the growth horizon.

This year’s planning process was very focused on finding ways to streamline non-core spending to be able to fund critical strategic initiatives around innovation, quality, customer service and our people.

On slide 13, I would like to walk you through some assumptions and to dissect the components that will be impacting the margin expectations. First, we are projecting consolidated incremental new product sales to be greater than $120 million. Now let me briefly define incremental new product sales for purposes here. Historically we have reported new product sales as products launched in the last 18 months in Consumer Healthcare and the last 12 month launches in our other businesses.

Due to the accelerating speed of the OTC market we are now switching to a latest 12 month number for Consumer Healthcare as well. This will make for an easier comparison if you look across our entire business portfolio. With that in mind the greater than $120 million target is comparable to the $214 million of incremental new product sales for fiscal 2009.

We estimate consolidated revenue growth from continuing operations to be between 4-6% with new products being the primary driver. Next, let me discuss the components of that growth by business segment.

Starting with the Consumer Healthcare segment we are estimating revenue growth of between 6-8%. Our plan does factor in competition in the gastrointestinal and smoking cessation category during the year. We are also aware of the FDA reviews related to acetaminophen containing products and believe the impact to our Consumer Healthcare business will be limited during the transition to new product lines. We will continue our ongoing business of weeding out underperforming SKUs from our base business.

We expect the supply chain and cost initiatives discussed earlier and new products will offset pressures on key products enabling growth in operating margins to expand between 50-100 basis points from adjusted fiscal 2009’s 28.4% and 14.5% respectively.

Our generic Rx business in on track to continue making improvements during fiscal 2010. On July 31, our partner Teva Pharmaceutical Industries received FDA approval for triamcinolone nasal spray which will initiate a series of quarterly payments. Including these payments we are targeting Rx revenue growth of 5-7% and 75-150 basis points of gross and operating margin improvement driven by cost management, operational improvements and product mix.

Fiscal 2010 will mark the beginning of many positive changes in our API business. First, we will have several new products and dossier sales on deck for the year. While we expect the revenue line to remain relatively unchanged from fiscal 2009 we expect that improved product mix, continuing cost management and operating efficiencies will drive an additional 200-400 basis point improvement over 2009 adjusted operating margins. Note this includes the operating and set up costs to get our new Indian facilities up and running as well.

So, as I noted a moment ago on a consolidated basis we are expecting total revenue growth of 46% and consolidated gross margins approximating the 30% adjusted gross margins seen in fiscal 2009. We intend to invest approximately 4% of consolidated net sales in research and development. At the same time, while we are making additional dollar investments in product launches and infrastructure in fiscal 2010 we expect that operating expenses excluding R&D as a percent of sales should be consistent to adjusted fiscal 2009 levels.

We anticipate this level of revenue growth combined with operating leverage will drive a consolidated operating margin between 13-14% of net sales. With the combination of our improvement initiatives, new products and improved product mix, we expect earnings per share from continuing operations to be between $2.00 and $2.12 which is an increase of 7-13% from adjusted fiscal 2009 earnings per share from continuing operations of $1.87. This assumes an effective worldwide tax rate from continuing operations of approximately 28% which as you know may move up or down a few hundred basis points depending on the final mix of income before tax realized during the year.

Looking at capital expenditures, we expect to invest between $55-70 million including those expenditures related to our new API facility, the completion of our plant expansion activities in Michigan and the integration of our fiscal 2009 acquisitions.

Finally, looking at cash flow we expect the performance of our businesses during fiscal 2010 to translate into cash flow from operations of between $220-260 million. All in all the team is proud of our accomplishments during fiscal 2009 and we are looking forward to executing on this plan during fiscal 2010. Now, let me turn it back to Joe.

Joe Papa

Thanks Judy. Now that Judy has given you all the details from the quarter and the year I would like to talk a little bit about our guidance and the goals I have set for the team.

First, let me start with 2010 guidance. What we are saying is Perrigo will grow earnings per share from continuing operations 7-13% this year. We clearly will need to execute on our strategy. Looking at slide 14, I have directed the team to focus on four goals this year.

First, we need to execute on our operating plan. We continue to focus on what we call our five pillars of quality, customer service, innovation, low cost and people development. We plan to bring more than 20 new products to the market this fiscal year adding more than $120 million in new product sales. Just to be clear, this number reflects all new products launched in the last 12 months on a year-over-year basis. Just two years ago this was a record new product sales worth $77 million. Our new product pipeline for the year includes generic private label store brand form of MiraLax. Brand sales for this product are approximately $200 million and growing 20% per year. We expect to bring the store brand version to the market during our fiscal second quarter.

We also expect the store brand version of Mucinex will potentially come to market during this fiscal year as well. Brand sales for this product are approximately $150 million. The store brand version of the Monistat-1 is also expected to come to the market during the fiscal year. That product currently has $80 million in annual branded sales. These are just some of the new products coming to the market this year.

The Rx and API business segments also have strong new products coming to market this fiscal year as the branded sales of over $80 million. While I have stated many times, there aren’t any Omeprazole size products coming to the market this year but there are some really strong products to drive our growth. In order to continue that growth in the future we continue to invest in research and development. We have 31 ANDAs in our product pipeline and we will add to that number this year.

I also want to congratulate the team for receiving final approval from the FDA to market triamcinolone nasal spray. This product was developed at Perrigo and under the terms of the previously disclosed settlement, Teva will begin to market the ANDA product which is manufactured by Perrigo under license from Sinofi commencing on June 15, 2011.

Second, we need to execute the API low cost strategy and vertical integration of our Rx products and future Rx OTC switch candidates. We have already talked about our initial plans in this business segment and the process is well underway.

Third, we need to continue to execute the nutritional turnaround strategy. This strategy began earlier this calendar year as we began certification of additional suppliers. We are working to improve the entire supply chain and our operations. We were able to raise prices in some of our product lines and are working on a significant SKU rationalization. This is a good business for Perrigo. The overall category is growing. In a weak economy, FDA oversight is increasing which is forcing weaker competitors to improve their processes or exit the business.

Our nutritional customers are the same as our over-the-counter customers and therefore we believe the vitamin and nutritional category reminds us of the OTC healthcare business a few years ago with two major competitors in the business for the long haul working to improve the store brand category and making quality products with a lower cost for consumers. I look forward to a much better year from this business.

Fourth and finally, we plan to develop our international strategies further. We are looking to leverage our unique business model to expand globally. The team has been assembled. We are in the process of defining the areas where we need to be. Obviously our presence in the U.K. makes European expansion a leading candidate. They do not have exactly the same retailers with a presence in most of the country so we are developing a business plan that capitalizes on our strengths while working with a diversified marketplace.

South America is another area of focus. While there are different issues there, we believe we can leverage our Mexican operations to expand our model further south. I will give you more updates as we move further in the process.

Now let’s talk about some of the challenges we face this year. On slide 15 you can see the recent data for our store brand version of Prilosec OTC. When we launched Omeprazole 18 months ago we targeted a 40% market share. As you can see on slide 15 we have achieved 40% store brand share for Omeprazole. We will have competition in this product this year. Today our competitor’s product is not yet on the customer shelves but we expect it to be shortly. Omeprazole will continue to be a very strong product for Perrigo this fiscal year.

Market penetration should continue to improve. Additionally, there will be new products that are switching from Rx OTC this year with Prevacid OTC and Zyrtec OTC coming to the market in the next six months. Their impact on our sales and margins is reflected in our fiscal 2010 guidance. The switch products will impact sales of the national brands but should have a lesser impact on the store brand market.

Even with numerous competitors, Cetirizine, the store brand comparable to Zyrtec continues to perform well. Our data on slide 16 currently shows that store brands are selling more than the national brands with a 50+% market share. As I mentioned previously we maintained our more than 80% market share of the store brand markets.

The cough cold season was very weak this past year. In fact, it was very similar to the past few years. This was factored into our fiscal 2010 guidance. That could change this year. The H1N1 influenza outbreak is a cause for concern for all of us. The World Health Organization has declared the pandemic a Phase Six level. We take this outbreak very seriously and our retailers are preparing for the flu season right now. Obviously it is too early to talk about the impact to our sales but we will keep you apprised of any developments with this issue. The category represents approximately 12% of our revenues.

As you know, we are continuing to strive to be first to market in Rx and OTC. We expect to have exclusive offerings of more than $1 billion over the next year and possibly even longer. We are investing to keep the pipeline robust. We believe more than $10 billion in branded prescription sales will switch from Rx to OTC in the next five years and our goal is to be first to market with those products.

Our operations have been able to meet the demand caused by the current interest in store brand private labels. We are nearing completion of an addition to our tableting facility here in Michigan that should be online by the end of the calendar year. We made more tablets this year than at any time in our history. We are continuing to meet the record demand in our OTC business while adding additional new products.

Judy told you our capital expenditures during fiscal 2010 will be between $55-70 million, similar to last year. This expansion is the reason for the higher expenditures for this year and last year.

New products will continue to drive our growth in fiscal 2010 and beyond. We believe our balance sheet is strong and positions Perrigo to stay the course for any market conditions. Our OTC business is a clear leader in the category as major new products are on the verge of switching from Rx to OTC and from branded Rx to generic over the next few years.

This year we will continue to focus on execution and in this challenging economy we are working together with our customers to make consumers more aware of the store brand proposition. Unlike other private label products, OTC healthcare products and generic prescription drugs are FDA approved. The data is showing that consumers are making that value judgment as the store brand share continues to grow.

Also, rising healthcare costs coupled with an aging population makes Perrigo uniquely positioned to meet the world’s growing need for quality, affordable healthcare.

Now let’s take your questions. Operator, if you can open up the line for questions please.

Question-and-Answer Session


(Operator Instructions) The first question comes from the line of David Buck – Buckingham Research.

David Buck – Buckingham Research

First on Consumer Health can you talk about the level that you assumed in your guidance of price degradation if any and specifically on Omeprazole? Your competitor made a comment that pricing may not go down very much and expected a long-term free player market. I would just be interested in your comments there. Also in the guidance what are the assumptions for foreign currency and did the Rx numbers for the fourth quarter have any milestones included?

Joe Papa

Just a clarification before I answer the question were you asking specifically about the Omeprazole pricing or the overall CHC pricing?

David Buck


Joe Papa

I will start first and then Judy can talk about the foreign exchange portion of the question. First of all on the CHC pricing we expect CHC pricing flat to up slightly. As we look at the overall CHC pricing it was previously coming down. We now expect to flatten out that pricing so essentially the pricing will be a flat environment. Potentially up slightly but flat is our expectation for where we are going on pricing for CHC.

Specific to Omeprazole, it is clear we do expect to face pricing competition in incremental competition for Omeprazole from the competition. However, as we look at it we also want to be clear we think we will gain incremental market penetration of the private label, store brand Omeprazole product. So some pricing but also some incremental gains in market share penetration. As we netted those out we felt that as we looked at Omeprazole specifically our pricing environment we felt that it would be reasonably flat during the course of fiscal year 2010.

Now clearly your point is that we do expect pricing erosion on Omeprazole is absolutely correct. The second part of the question Judy was a foreign exchange part of the question.

Judy Brown

In terms of our assumption for the 2010 plan when we look at our planning process what we typically do is utilize an exchange rate assumption for the upcoming fiscal year in line with the current rate. As you know, rates have stabilized versus the volatility that was going on in the September through February period. Right now we are utilizing rates and expectations of translation rates and transaction rates in our plan as today’s rate.

So if you go out and look at the U.K., Mexican and Shekel rate the only rate where we have seen any movement in the last two months during that planning process was the Israeli Shekel and it is moving against both the European and Dollar currencies. The Israeli government is in the process of trying to stabilize those rates. If that stabilization process does go through we would be right in line with the planning we have in our numbers today.

Normally we do have a good natural hedge throughout all of our financial statements on exchange rates. If the rates stay fairly stable I would not expect to see a material change to our numbers through the course of the year because of foreign exchange.

Joe Papa

The last part of the question I think was the question about the Rx business and what was in there from a milestone point of view. $2 million of milestones that were recognized in that Rx business. Approximately $2 million.


The next question comes from the line of Greg Gilbert – Bank of America.

Greg Gilbert – Bank of America

Sticking with the Rx theme for a minute can you get a little bit more into what boosted the sales in the quarter and why should we not see this as a new run rate such that if we multiply that by four even without Nasacort milestones you should be growing that business at a much higher rate in fiscal 2010 than you are suggesting, even without launches?

Joe Papa

I will start and Judy may want to add to it. As we looked at the business the fourth quarter was very strong, there is no question about that and as I said the run rate it really is reflecting some of the best we have had as some of our competitors have had some difficulties in the market. I cannot predict that those competitors will continue to have those problems throughout the entire course of the year. If indeed they do have problems then clearly I would agree with your assumption but at this point we really tried to reflect what we felt were some of the challenges that our competitors are having in the market place which allowed us to continue to have good momentum and a good tailwind behind us. I can’t really predict the longevity of that time period based on issues that the competition may or may not have during the entire fiscal year. That really is the basis for it.

Judy Brown

That summarizes nicely where I was going to add color but you did that for me.

Greg Gilbert – Bank of America

What about the quarterly payments going forward? Can you quantify those? How many there are and the timing of them and how much do you layer on top of whatever your assumption is for the base business there?

Judy Brown

We are not really at liberty to get into the very specific dollar amounts. Suffice it to say they are quarterly and therefore are recorded once a quarter. You can approximate low single digits. Again, we are not giving specifics. You saw what the quarterly payment or milestone payment had been near the end of fiscal 2009. If you wanted to use that as an approximation that would be reasonable.

Greg Gilbert – Bank of America

A higher level question on consumer overall, I am assuming that Omeprazole and the nicotine products are higher than average margin products. Assuming those lines are going to be down or flattish, depending on your thoughts on that in the next fiscal year, how can you grow operating margin for that segment?

Joe Papa

I think first of all I agree with your comment that nicotine and Omeprazole are higher margin products. First of all I will agree with that. I think the comment as to where we are going with those products specifically; I think there are a couple of things happening. Number one, as we looked at our forecast both on the revenue side as well as on the operating margin side, we clearly recognized up side and down side.

The first point I want to make is we felt we had very strong momentum exiting fiscal year 2009 going into fiscal year 2010 based upon what is happening in terms of store brand penetration. We are already at 40% for example with Omeprazole and we have seen that continue to go up. Certainly with some of the larger chains that number is even higher than 40%. We are expecting to see that continue to go up.

The second comment I want to make is Judy mentioned the $120 million of new product launches, those will be very important margin generators for us. Having that $120 million of incremental new products will be very helpful to us on improving the operating margins of the business. The addition of the triamcinolone opportunity you just referenced before also is going to be a good driver for us on our overall margins, albeit that is not on the healthcare side of the business.

Those are certainly some of the things that I would say. The last one I do want to include because it is important from the previous year is our plans for the nutritional turnaround. That was a major issue for us this past fiscal year. As we stated previously, as we turn around that business it will be a contributor, albeit off of a low base admittedly but it will help on the margins for our overall business.

Judy Brown

I was just going to highlight the nutrition piece again as well as some of the capital improvements we were making at the end of fiscal 2009 that are going to continue to the beginning of fiscal 2010. Also just continue to help efficiency and as I made the comment about squeezing operational efficiencies, one of the critical drivers for the Consumer Healthcare team and the global supply chain teams together is not only continuing to produce high quality products but also working very closely within the confines of the mix of products they have in front of them and making sure they can create those products ever more efficiently.

Greg Gilbert – Bank of America

Are you considering on the M&A front mostly the bolt-on types of deals you have been doing or are you considering doing anything more transformational at this point?

Joe Papa

Tough question. I think right now we are considering different types of arrangements. For us clearly our past history has been in the bolt-on, accretive, ROIC positive acquisitions. That is still our milestone. We do not feel we need to do any acquisitions this year to grow. We think our organic growth rate is okay. However, we will continue to evaluate that especially given the strong cash position that we have as a result of our current operating execution.

So, we are open for both the bolt-on as well as other opportunities that would be ROIC positive. I probably should mention one other thing. We are being very specific about the type of opportunities we are going after. We are going to go after adjacent product categories in the CHC business. We are going after geographic expansion in the CHC business. In the Rx business those products that fall into the category of what I would call extended topical or niche type generic products that would allow us to play in markets where there is less competition.

Those are the three areas that strategically we are pursuing in our business model for acquisitions.


The next question comes from the line of Randall Stanicky – Goldman Sachs.

Randall Stanicky – Goldman Sachs

Is there anything built in terms of acquisitions into your revenue growth for the year?

Joe Papa


Randall Stanicky – Goldman Sachs

Looking at your slide 12, one of the other components of guidance you gave us was Omeprazole revenue I think you said $150-200 million. Can you just give us a sense of how you ultimately did against that goal? Perhaps any color you can give us on how you are thinking about that dollar figure in fiscal 2010 on that product?

Joe Papa

Let me back up a little bit on the fact and remind everyone of the facts. When we originally planned to launch Omeprazole approximately 18 months ago we stated we felt it would do $150-200 million. We felt that we would achieve in the first 18 months somewhere close to a 40% market share. Indeed, as we presented the data we did achieve over a 40% market share the first 18 months. We checked off that box. In the $150-200 million forecast we actually exceeded that forecast. However, given the issues we face in our fiscal 2010 we are not going to give out a specific number but we do feel that we will see two things happen.

Number one, we will gain increased market penetration of store brand private label Omeprazole but we will move from that 40% to some number higher. At the same time, though we will lose some market share to our competition and we will clearly face some pricing competition. As we factored that together we came up with a number that reflected some of the ups and some of the downs and the opportunities for Omeprazole but we are not going to give a specific number this year just based on the competitive threats we face.

Randall Stanicky – Goldman Sachs

Can I just ask you to clarify the $120 million you talked about in terms of new products; are those new products for this fiscal year or does that include recently launched new products as well?

Joe Papa

The $120 million reflects new products for this current fiscal year.

Judy Brown

It is a mixture. That $120 million is across all of our business units but just given the size and scope of Consumer Healthcare as you can well imagine the bulk right now is coming from the Consumer Healthcare Group. It is a mixture. As Joe has frequently noted, a lot of singles and doubles so there are dozens of smaller products that are part of that make up. Then obviously some larger products of which you are well aware.

Randall Stanicky – Goldman Sachs

So if we take that number that implies roughly 6% growth. Effectively are you just saying the rest of the business is flat to down or are you being conservative at this point in the year in terms of how you are thinking about the rest of the base business?

Joe Papa

That is a good question and we anticipated that question. I think the issue we have with it, is what happens in our business is those new products will replace and/or take away share of some of the older products in our business. So there is some substitution that goes on. These are clearly new products but imagine that we are coming out, for example, with a fast dissolve acetaminophen as an example. That will take away some volume from the regular acetaminophen as an example and therefore there is cannibalization that goes on.

You can’t really do an apples-to-apples comparison like you are suggesting because there is really some switching off and some cannibalization that goes on in the portfolio.

Randall Stanicky – Goldman Sachs

Judy you and I have talked about this before on the margins and specifically on the raw material front the 29.4% margin in the consumer business, can you maybe give us a sense of where we are at with the improvement in some of those costs relative to overall cost removal and how to think about that margin? I think there is a previous question that was trying to get a sense of where we go from here in terms of what you put up this quarter.

Judy Brown

Good question and also referencing Greg’s question as well. Obviously the point being is we are looking at the dynamic pressures in pricing or share with Omeprazole for example. How does that translate into margin potential for improvement in the real operational side? We have total cost improvement initiatives and targets that are set annually finding 5% net cost productivity as a target that is put out in front of the team each year. You are all well aware of the dynamic that we as well as many other companies were facing last summer with violent raw material inflation that was going on.

While that has dissipated to some extent it is still a pretty dynamic commodities market. We are in a better position as we start out the beginning of this year but that is part of this cost productivity goal that is in front of the team. If it is not coming through raw material improvement then the team is out looking for labor or overhead or other efficiencies that they can find to try to get to that 5% cost number. Again, it is about a supply chain productivity factor that we built into these numbers.

Randall Stanicky – Goldman Sachs

But the low hanging fruit and the recovery on that raw material pricing was largely reflected in this quarter’s numbers. Is that fair to say?

Judy Brown

You have seen for the places where there was a lot of volatility you would see that starting to come through. We have talked in some detail also in the nutrition business we were sitting on some larger buying positions that had come through at the beginning of fiscal 2009. We will still be working down the remainder of that inventory in the first half of fiscal 2010.


The next question comes from the line of Linda Weiser – Caris & Company.

Linda Weiser – Caris & Company

Can you just address the Consumer Healthcare operating profit margin and why it declined so much sequentially? I think it went from 14.9% to 13.8% or something like that and it was a little lower than I had expected. Specifically, did the nutritional operating margin actually improve versus the third quarter?

Judy Brown

As I commented, operating margin wise quarter-over-quarter for Consumer Healthcare we did have a higher dollar spend in R&D in Consumer Healthcare which caused a bit of the operating margin. As well as, in looking in terms of quarter-over-quarter a few dollars more in SG&A with some specific initiatives that are happening there. The biggest component, you have a little bit more R&D and a little bit more SG&A quarter-over-quarter with a flat gross [audio break] and the blended rate for the full year at 28.4.

Linda Weiser – Caris & Company

Can you talk a little bit more about the new products? Unless I missed it I hadn’t heard about the FDA approval that you received for the MiraLax and the Monistat. Do you have some expectation about the timing? Can you talk about the revenue growth for the Consumer Healthcare business like by quarter? Are we going to see a lower growth rate in the first part of the year and then bigger in the second part?

Joe Papa

Let me start with the beginning part of the question. You are correct we do not have an approval for the store brand, private label MiraLax nor for the Monistat. However, we are working very closely with the FDA to gain approval and as I mentioned on MiraLax our expectation is that will be a second quarter fiscal year 2010 event and we believe we will be in a position at that point to launch that product as I said in the second quarter of fiscal 2010 based on our interactions with the FDA. That is our expectation.

On the Monistat we are not improved but I remind you the other part of the hurdle for that was getting through the legal pathway on Monistat. We have indeed gotten through the legal pathway and are now free to come to the market as soon as we get the FDA approval. So we will proceed that way.

I don’t know that I want to make too many comments specifically on the Consumer Healthcare quarterly sales guidance because I think what we really try to do in this economy based on what is happening and we don’t know when cough/cold/flu season is going to hit this year. We find it to be somewhat turbulent. A good economy relative to the utilization of store brands but certainly with the economy it has some ups and downs. Therefore we don’t really want to make any comments relative to quarterly projections.

Judy Brown

Last year I provided specific guidance about how to think about modeling the year. If you look forward to 2010 it is a relatively balanced portfolio for the full year. Not talking top line only. Thinking in terms of bottom line expectation it is a relatively balanced year.

Linda Weiser – Caris & Company

Can I ask about Rx? I think you had alluded to some behind the counter product initiatives in the Rx segment that helped sales growth. What are you specifically referring to there?

Joe Papa

You are talking about the fourth quarter? Is that what you are asking about?

Linda Weiser – Caris & Company

Yes. You talked about sales growth was robust partly because of some behind the counter initiatives.

Joe Papa

What we have done, and I think this reflects the overall strategy of Perrigo being in both the over-the-counter business as well as in the generic Rx business. We have found there is still considerable demand for many of the products that have switched from prescription to over-the-counter and now we are selling products clearly as a store brand private label offering but also we are selling them to the pharmacist because the pharmacists still need product to dispense even though the product has switched from Rx to over-the-counter.

So the pharmacist is still actually dispensing many products that are now over-the-counter. As long as there is an NDC number, pharmacists will continue to dispense those products. That meant there was a need for a good supply of quality, affordable Rx products and that is how we are utilizing our generic Rx team to also capture the value of the asset we have which is the product approval and ability to make the product. Therefore, selling that not just simply as a store brand private label but also selling it to the pharmacist because he or she needs the ability to have some of these products for dispensing.

That really is what we have worked hard on with our team. That includes products that are both behind the counter in the case of loratadine-D as an example because of the ephedrine as well as products like our Omeprazole, as an example.


The next question comes from the line of Scott Hirsch – Credit Suisse.

Scott Hirsch – Credit Suisse

Can you let us know how much of the current portfolio sources API from yourselves versus how much is outsourced? Then, what could that ratio get to in time with the India acquisition?

Joe Papa

As a number of products it is a single digit percentage. The largest portion being the Cetirizine product which we are sourcing directly from Perrigo Israel. As an overall comment it is a single percentage of our API acquisition. How far can it get to? We believe many of the products, the proton pump inhibitor and other products of that sort can be products that we can source from our facility both starting in Israel but also getting to Perrigo India over time. So that will be one that we will look at for the vertical integration of our Rx OTC switch products that we expect in the next five years.

Scott Hirsch – Credit Suisse

Can you give us, I don’t know if you know, but can you give us what the market share break down is now in the nicotine cessation between you and Wassen? Has it become sort of a shared market or do you still have the vast majority of it?

Joe Papa

We have a majority of the market share of the nicotine products. My knowledge of the coated gum market is that Wassen has shipped at this time to I believe it is one player at this time. I do know they have an additional player lined up but at this time I believe they are shipped to just one player.

Scott Hirsch – Credit Suisse

In that light with obviously Wassen and Nicorette and seeing they filed with Mucinex with plan B with [ready] Omeprazole, is it your scale that will continue to provide the barrier to some of these other competitors?

Joe Papa

I think certainly scale is important in that we do 35 billion tablets. The other important ingredient we have is what we refer to as mass customization. The ability to make the product, make sure we have the right product in the right bottle with the right label going into the right carton to the right customer. That ability to do that over 10,000 times every day and ensure we have that correct is an enormous systems requirement for us. I think we have developed that in over the 100 plus years we have been in this business. I don’t say other people cannot develop it but clearly knowing what I know about other pharmaceutical companies I know that no one is close to us in those capacity. Especially in the packaging capacity. I clearly think critical mass is part of it. I also think that our focus on mass customization and the fact that we have good quality, affordable healthcare products and we can get to the market first is really what is going to drive our success going into the future.

Scott Hirsch – Credit Suisse

On gross margin you mentioned in the press release there was $140 million from the acquired companies, the JB Labs, Unico and Diba. Obviously you have four full quarters of them next year. Curious what the aggregate gross margin is for the acquired businesses?

Joe Papa

We don’t really give out gross margin on acquired businesses. What we do is talk about their accretion and also as we look at those acquisitions that they are ROIC positive. That really is the way we reflect on them. For example, it is hard to use them as a standalone because once we acquired JB Labs, for example, we did not leave it as it currently is configured. We shifted some of our products that were made here in our Michigan operation to that facility to allow us greater flexibility to make more of ibuprofen and other products that we needed the capabilities here in the Michigan site.

So it is really hard to hold them as a standalone business once they are acquired. We really integrate them really quickly and that we think is part of the success factor we have as a company is the ability to quickly integrate them into our business model.

Judy Brown

It would absolutely be the same story for the international acquisitions. It happened in Mexico and the U.K. as well.


The next question comes from the line of Derek Leckow – Barrington Research

Derek Leckow – Barrington Research

On the international expansion announcement you said you had teams assembled. What state are we in terms of that expansion process. Are those teams on the ground in various countries already signing deals? Are they still in the planning stages here?

Joe Papa

I should have said team. I didn’t mean to say teams. If I said teams I apologize. We have a team that is evaluating the opportunities and really trying to give us some direction as to which specific country. Obviously as I mentioned Europe and South America are the leading candidates for us but there are other countries we are also looking at to really take our concept of store brand private label and move it around the globe.

Really it reflects what we have said in the past where we feel we have great innovation technology. Other companies are taking products and making them global such as the Mucinex products and we want to make sure we follow the success of those products around the world and find a way to successfully commercialize our store brand equivalent like a Mucinex around the world.

That requires us to have additional infrastructure around the world. We are evaluating that to look at the opportunities. We are early in that stage. I do want to make it clear we don’t have teams on the ground in all the countries at this time.

Judy Brown

Just to add to the question of whether we are on the ground signing deals yet. You can be certain that at such time there is something to announce we will do so.

Joe Papa

Thank you everyone for your interest in Perrigo. I would like to thank you for taking the time and appreciate your questions. If you have any other questions please call Art or Dan and they will be happy to assist you with your questions. I want to also let everyone know we will be hosting an Analyst Conference on the morning of September 29th in New York City at the NASDAQ market site. We will be sending out invitations shortly and we look forward to seeing you then. I hope everyone enjoys the rest of your summer. Thank you very much for your interest in Perrigo. Have a great day.


Thank you. This concludes today’s conference call. You may now disconnect.

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 All other use is prohibited.


If you have any additional questions about our online transcripts, please contact us at: Thank you!