Stada Arzneimittel AG (OTCPK:STDAF) Q3 2016 Earnings Conference Call November 10, 2016 7:00 AM ET
Leslie Iltgen - Vice President Investor Relations
Matthias Wiedenfels - Chief Executive Officer
Helmut Kraft - Chief Financial Officer
Aniel Wendorff - Commerzbank
James Vane-Tempest - Jefferies
Gunnar Romer - Deutsche Bank
Oliver Reinberg - Kepler Cheuvreux
Good afternoon all and welcome to our Q3 2016 Conference Call. With us today are our CEO, Dr. Matthias Wiedenfels and CFO, Helmut Kraft. Dr. Wiedenfels will give a general update and Mr. Kraft will cover the financials in depth followed by a Q&A session. This call will be recorded. After the call a replay and the transcript will be available on our website. Before I hand over to Dr. Wiedenfels, please attention to our usual disclaimer that you’ll find in the presentation.
And it’s now my pleasure to hand over to Dr. Wiedenfels for his opening remarks.
Thank you, Leslie and warm welcome from side. Overall Q3 showed solid performance despite a very challenging environment we’re facing in several regions, in particular Russia and UK and keeping in mind that Q3 2016 numbers compare with the strong prior year quarter 2015. Helmut will go into more detail in just a moment; nevertheless, I would like to highlight some of the key developments in this quarter.
The Generics segment posted solid sales growth in Q3 both in adjusted and non-adjusted. In Russia, our Generics business showed continued strong double digit growth. Belgium pretty nicely recovered after weakfish first half showing double digit sales growth in the third quarter on a standalone basis and expecting sales to recover further in Q4.
Looking at our branded product segment, we faced a challenging quarter with quarterly sales down mainly due to the weaker performance in Russia and UK, which is mainly due to the economic situation in Russia and the unfavorable currency development of the British pound.
However, I would like to point out to you that the excellent performance of our branded business in Germany posted significant double digit growth in the single quarter supported by some of our most attractive brands.
With regard for our product pipeline, we continued to benefit from numerous product launches quarter-over-quarter. In Q3 standalone, the company introduced 144 products which matched approximately ratio, two thirds being Generics and approximately one third being branded products.
When it comes to the groups’ operating cash flow, we saw sequential improvement to Q2 2016 and looking at our free cash flow, we saw a significant upstream in Q3. The company’s financial results clearly improved further and also contributed to continue to adjust its net income growth in Q3, which we expect to continue.
With this let me conclude that all-in-all STADA remains on a growth path. We were able to increase almost all essential key figures in the first nine months of 2016. This reflects our confidence and our full year 2016 outlook, particular when it comes to our adjusted net income and we’re also remain optimistic when it comes to the company’s mid-term growth prospects reflected in our 2019 mid-term guidance.
With this let me hand over to Helmut, who will now give you some more color on the financials.
Yes. Thank you, Matthias. Coming to Slide number 3, I would like to start off by highlighting that Q3 2016 was a very strong quarter especially in Russia, where we had the very high basis for comparison. As you know, we had a number of measures in the recent quarter as part of building a new structure and culture of the company.
The reported numbers in Q3 were therefore burdened by one-off expenses for reorganization including divestments, personal decisions and the assessment of portfolio activities. However, an improved financial result and a persistently good group tax rate led to an increase in assets and net income both in Q3 and for the nine months. This is a major achievement because we continue to operate in a challenging environment, Russia’s economy and consumer processing power is still muted and the British pound has devaluated significantly.
On Slide number 4, I would like to highlight that our Generic segment continued to grow nicely in Q3, no matter if you look at adjusted or non-adjusted figures. The EBITDA margin improved by 400 basis points compared to the previous year. A major driver of that development amongst others were lower rebates and lower distribution cost in Germany.
On our next Slide number 5, I would like to point you to the weaker sales environment in Germany. The decline in Germany is basically the result of our decision to stop bidding for tenders in these two sales labels, meaning STADA form. A number of tenders expired notably over Q3, but that not affect profitability. On the contrary we bid only for promising tenders and don’t focus so much on market share anymore. Thanks to successful portfolio optimization, we provide less discounts and that helps segment EBITDA and thus margin.
The Russian generic business is rolling up very well. The benefits from a broad portfolio that all comprises, low price drugs is currently in higher demand than branded products. When it comes to Belgium, as mentioned earlier Belgium posted a strong quarter showing four to seven sales increase in Q3 standalone and we expect to make up for some of the lost sales until year end. However, despite the fact we further recovery in this region until year end, we don’t expect significant growth on an annual basis anymore, but rather flat sales.
Coming to our branded products on Slide number 6, branded products sales declined 6% in Q3, but improved slightly in the first nine months. I will discuss this in detail a little bit later. The contradiction EBITDA adjusted level was more pronounced. It mainly resulted from the already mentioned difficult situation in Russia and the weak British pound.
Coming to Slide number 7, on a very positive note Germany posted another strong quarter based on good results from important brands like Grippostad, Ladival and Hoggar. Furthermore we supply to sales terms ahead of the flu season. Russia suffered from the weak economy, the general purchasing power declined further and people had to save money. Obviously consumer drugs are more affected in life saving treatments. The pattern can be seen in the overall market and should come as a surprise as competitors are currently facing the same.
The UK business slowed down a little bit, however adjusted for currency, sales were up 6.6% for the quarter. Overall the business in the UK remains well on track. Two items are worth mentioning here, particularly to those who participated in our Capital Markets Day in October, [indiscernible] for instance was introduced in September and shipped to 1,500 stores. Furthermore, we started to expand a socialized waiting business which tends to open our first store in the Netherlands.
Coming to groups’ cash flow development on Page number 8, you can see that the groups’ operating cash flow was down in the third quarter, but still remains on a high level. Looking at the nine months numbers, you can see that we’re in a very good path. The growth in free cash flow was even more impressive and the improved working capital management and financial results and lower tax rate contributed to the nice development.
Our leverage on Page 9, was set below 3 after nine months. Excluding potential acquisitions, we expect the figure to be slightly below 3 for the full year.
To sum it up, looking at the consolidated nine months results from page 10, we are able to show continued growth in all three key financial figures. Adjusted sales was up 3%, adjusted EBITDA 2% and adjusted income with double digit growth of 10 definitive.
Thus, coming to the Slide number 11, we’re well on track to meet our full year 2016 sales and adjusted EBITDA target, both calling for slight growth. When it comes to our adjusted net income, we’re even more confident. On the back of the strong performance in the first nine months of this year, we now expect to reach at least EUR180 million for the full year, which would present more than just slight growth. Remember before we had expected to reach at least 170 million in adjusted net income for the full year.
With this I’d like to conclude my presentation on Q3 and nine months results and Matthias and I are now open to answer your questions.
Ladies and gentlemen, we’ll now begin the question-and-answer session. [Operator Instructions] The first question comes from Daniel Wendorff of Commerzbank. Your line is now open. Please go ahead.
Thanks for asking - thanks for taking my questions. I have two actually and I think both on Germany. Looking at the generics performance and what you said on this, should I expect a similar development in the fourth quarter? And the second question on Germany would be on the product, given that you highlighted the strong performance in Germany, which was also supported apparently by the earlier supply ahead of the flu season. Should we then expect Q4 rather to be weakish quarter here for branded products in Germany? Thank you.
Yeah, Hello, Mr. Wendorff. May Ianswer your questions? First of all, coming to generics in Germany, to answer it very clear, we also expect in the fourth quarter the same development. This is mainly impacted by low sales reduction and improved cost of goods, which really helped us to improve the German business. However, we have to keep in mind from the sales perspective, Stada Pharma is running out of tender contracts. So, state-wise the development will go down. But the probability assessing will improve, because as I said, low sales reductions and improved cost of goods also in the fourth quarter.
Coming to brands, I think we already showed it in your presentation. Already delivered in the third quarter [indiscernible] to pharmacies and I think for the fourth quarter obviously in Germany, let’s say, marketing spending [indiscernible] things like that. Therefore, in the fourth quarter for the brands in Germany, we expect weaker development.
Thank you. There are currently no further questions. [Operator Instructions] The next question comes from James Vane-Tempest of Jefferies. Your line is now open. Please go ahead.
Hi, good afternoon. Thanks for taking my questions. I just have two if I can. And when I see other income is high and you talk about a master in payment receipt in the branded products segment, just wondering if you can give us some color as to what that looks for in the magnitude of that, please.
And second, I noticed that it has been I think another EUR20 million write-down in tangible assets in this quarter and again just wondering if you could comment on the circumstances surrounding that? Thank you very much.
Yes. Hello, James. And speaking of - first of all, I come to the added income, to other income, we showed some milestone payments in U.K., which we got from [indiscernible] [00:05:48] portfolio in U.K. As you saw in our adjustments, we already adjusted this 5 million, if you look to the other adjustment, because if it is a one-off, which we got in U.K. for [indiscernible] portfolio.
Secondly, if we come to the write-offs you saw in the third quarter of about 22 million, the few - maybe I give you a little bit of flavor behind it. It was two business decisions, first of all in STADA we have changed our business, we changed to distribute us and we closed our operation step and we changed our business in Egypt to distribute our servicing by distributors there and also in Brazil with a small business which you got which has led to some write-offs. Then we've had some re-organizations, which we did in Germany, which we also showed a special light in the third quarter and also we had some impairments to some intangibles. As you know, from the first of July, we segmented our portfolio in brands and in generics and obviously this led to some portfolio cleanings, which we booked in the third quarter.
Thank you. The next question comes from Gunnar Romer of Deutsche Bank. Your line is now open. Please go ahead.
Thanks for taking my questions. I have two regarding margin development. Firstly, on the branded products business, when you look at the margin, the adjusted EBITDA margin was down something like 600 basis points compared to the third quarter last year of 400 basis points roughly after nine months. Just wondering whether you can comment on the respective drivers, in particular to what extent this has been driven by weaker country mix i.e. a lower share of Russia and then maybe also what's been the relative impact from currencies here probably, the ruble or the British pound?
The second question would be with regard to the margin and in the generics business, nice uptick here. Similar question whether you can elaborate a little bit further on the drivers here. Clearly I understand that there is somewhat higher profitability these days, because of lower rebates in the German business, but I was wondering whether there was any other main driver behind that? Thank you.
Yes. I'm Kraft speaking. Maybe I start with your questions regarding the margin generics I think I more or less explained the main drivers. This is a very strong German generics business. And the main impact is coming from lower rebates. So, we are just fitting for a more profitable contract, tender contract, for all of the tender contracts, but mainly tender contracts. We are able to pay lower rebates and all we have to say in Germany the market is consolidating. So, they’re consolidating to the three or four players, which are able to bid in a more favorable bidding process in Germany. Also, lower cost of goods is really helping us.
We are producing in terms of generic business, but also for the UK generics business, mainly in Serbia and this really helps out to improve our cost of goods and this also gives us the opportunity to be more successful in the tender business. Also, if you look to the group margin, you saw that a very strong growth in the Russian generics business. We also run mainly 30% of Russian generics business. And also this helps improve the margin on a group level for generics that we show in our margin and operating level over 20% and I think if you look to our competitors on an international basis, this is a really very strong margin in the generics business.
If we come to margins in the branded business, this is mainly impacted by negative translation effects. If you look for an average rate for the whole year of Russian ruble, but evaluating by about 14%, British pound by about 10%, obviously this is impacting the gross margin especially also in U.K, but also in Russia and as I said at the beginning especially in Russia, as you know, the political situation is like the people have less money for consumption and this is really impacting our lots of business there and our lots of drugs there and also in the DLS part of our branded products in Russia, the DLS is already giving us a price increase by about 6%, if you think inflation, it’s about 8% to 9%, this really shows that at the moment especially in the third quarter, we are growing in Russia, we’re also in local currency more or less flat.
Okay, very helpful. Thank you very much. And maybe just a follow-up on demand patterns in Russia. What’s your visibility, let’s say, over the next couple of months and what’s your expectation going into next year? What do you expect these trends to continue i.e. a shift to what generic away from branded or do you see some sort of natural limit to that at some point? Thank you.
You know the situation in Russia. It’s mainly political. All we have to say that often the whole bases in Russia we see a certain concentration at the moment, also the pharmacists change that concentrating. This also leads to higher rebates in our business, which you have to pay to the distribution channels and I would say it’s really depending on the political situation. I think the political situation comes down, sanction goes away, Russia a little bit goes down to ‘16, and obviously our business will grow there. But at the moment, I would say generics, also for the products defined by branded products like it is now at the moment, for ‘16 - ‘17 I would be a little bit more optimistic by the fourth quarter, I would say the same development as we see it now in Russia.
Perfect. Thank you very much.
Thank you. The next question comes from Oliver Reinberg of Kepler Cheuvreux. Your line is now open. Please go ahead.
Hi, good afternoon, Oliver Reinberg from Kepler Cheuvreux. Three questions, German branded products obviously were up 45% organically in the first nine months. And you mentioned Q4 will be more different. But can you just give us an idea to what extent will you see full-year organic growth? So, the question is, will you only see a kind of down step in Q4 or is it basically over to a kind of overhang move into next year?
Secondly, when you look at Russia, I mean, obliviously you talked about separate EBITDA in generics and branded products. But the mix towards generics, how does it impact your profitability on the go-forward basis that will be of interest? And because you just alluded to the fact that you are more optimistic about 2017, can you just share with us what is actually driving that? And then third question and finally, U.K. organic growth was 3% I think in the first nine months. Do you expect this to improve going forward? Thanks.
Yes, hello, Reinberg. Maybe I’ll answer to first question regarding brands in Germany. As I already said, we were able to deliver in the third quarter and we started a pharmacy. That for the third quarter was quite strong. Obviously in the fourth quarter marketing spend will kick in, marketing expense of TV spots, Radio spots and things like that. So, this really will impact the profitability in the fourth quarter.
For the full year we’ll expect growth in German branded business by about 10%, which is quite fine, if you look with the development which we see here. If you come to Russia profitability that is more or less balanced between generics and brands. I cannot say at the moment half of the - more or less half of the progress for brands in Russia has come from brands and the half has come from generics at the moment. This can change. If the Russia recovers up, this can change, if Russian rule recovers up but at the moment it’s quite half-half.
Third quarter - or the third question, UK in the fourth quarter, we’re growing as you said 3% organically. As you know, in the UK we are very strong in cold business, Covonia, and all these drugs and we have a - from our point of view, a good winter, a strong winter, obviously cough and cold will drive the business. We have also strong derma business, which also drives the business in UK. So, for the fourth quarter, I said already in the call before, I would be slightly optimistic, also Fultume [ph] and this e-vaping cigarettes will kick in. Let’s say if we have a good winter, yeah, I would be quite optimistic, slightly optimistic for the fourth quarter that we see a stronger growth organically than 3%.
Okay. Can I just follow up? If you talk about 10% growth in German brands in the full year, we are now standing at 45% after a month. I think I do have to imply zero sales in German brands in Q4. Is that correct? And on Russia on the mix, I was actually thinking about, is the profitability in Russia between brands and generics meaningfully different? So basically if you have now a more shift towards generis, is that negatively impacting the profitability of the entire Russian franchise? Thanks.
No, I think I personally can answer directly its no. As I said it’s half-half. In the fourth quarter in Germany brands will have some sales but the sales channels let’s say fully stuffed at the moment and at the momentum the only question is setting out, we have to do what to sell in and sell out. At the moment we look to sell out because to sell in the feature is finished and now it has to be following the market. So sell out and sell in is a different figure.
Okay, thank you.
Thank you. [Operator Instructions] We receive one follow up question by Gunnar Romer, Deutsche Bank. Your line is now open. Please go ahead.
Thanks for taking the follow up. Let me follow up on all these questions regarding margins in Russia. I’m not sure whether I got that right. Is it the case that your branded and generics business is of similar margin as well? You’re talking about the share of profits these days, I was just wondering if there are meaningful margin difference between the two.
Gunnar, at the momentum it’s in the same level. As I know from the past, brands are much more profitable than generics, but at the moment the situation in Russia is negative.
Okay, perfect. Thank you.
Thank you. There are no further questions. I hand back to the speakers for closing remarks.
Thank you for attending. Should you have any follow up questions, don’t hesitate to contact us here at IR. Have a great afternoon and hope to hear from all of you soon. Bye, bye.
Ladies and Gentlemen, thank you for your attendance. This call is being concluded.