Lonza Group AG

Ladies and gentlemen, welcome to the Lonza Half Year Results 2023 Investor and Analyst Conference Call and Live Webcast. I am Sandra, the course call operator. I would like to remind you that all participants have been listened only mode and the conference has been recorded. The presentation will be followed by a Q&A session. You can register for questions over the conference call by pressing star and one on your telephone and follow up the presentation over the webcast. please limit yourself to one question and then re-enter the queue in case you have a follow-up. For participants over the webcast, kindly note that you have the possibility to increase and decrease the size of the media player by placing the mouse between the slideshow and video. For operator assistance, please press star and zero. The conference must not be recorded for publication or broadcast. At this time, it's my pleasure to hand over to Mr. Pierre-Alain Ruffieux, CEO. Please go ahead, sir.

Good morning and good afternoon to all of you, and thank you for joining us for our half-year results presentation. I'm here today with Philippe Diguet, our CFO. He will be joining me in presenting the update and answering your questions. Looking at our agenda, I will start with an overview of our performance in H1 2023, before handing over to Philippe to talk through our financials. Then I will take you for a tour of our division and say a few words about our priorities for the second half. As usual, we will make sure that there is plenty of time at the end for us to answer your questions. Let's start by taking a look at our group results. In H1, we delivered sales of 3.1 billion Swiss francs. This represents a 5.6 sales growth as constant exchange rate against an elevated H1-22 base, mainly set by high COVID sales. Looking at our underlying performance, we grew about 10% at constant exchange rate, which reflects the continuing momentum in commercial CDMO business. Turning to a core ABTDA, 922 million Swiss francs resulted in a margin of 30%. Looking at our performance and the current market dynamics, we have updated our outlook to mid to high single-digit concentration-generated sales growth and 28 to 29 core ABTDA margins. This reflects lower growth than expected in early-stage services coming from a lower level of biotech fundings. It also reflects continued weakness in the neutral pharmaceutical capsule business. Both of these factors led to lower utilization of assets. Regarding our mid-term guidance, we confirm our three-year sales growth trajectory, but our margin range has been updated at 31% to 33%. More on this in a moment. Looking at some of our key events in the first half, we are pleased to report solid underlying growth in biologics. This has been driven by your bioconjugate, mammalian, and microbial businesses. Also in biologics, we saw a healthy increase in value of contract signing in H123 compared to the first half of the prior year. In small molecule, strong performance was driven by high asset utilization, a favorable mix from production phasing, and an ongoing focus on more complex and high-value offerings. As we noted in our Q1 qualitative update, our cell engine division continued to experience low demand. In our biologic division, we saw the same trend increasing in Q2 due to low funding of biotech. In our capsule business, we have seen softer demand for nutraceuticals, mainly as the U.S. customers are destocking the inventory they built in the pandemic. And there is a lower demand from the end consumer in the current economic environment. Looking at new investment, in June we were happy to announce our agreement with Vertex to build a dedicated manufacturing facility for type 1 diabetes cell therapies. Construction at our US site in Portsmouth is scheduled to begin later this year. Turning to our gross investment, we are making good progress across our larger assets, with the series of milestones reached in H1. At our biopark in Vist, two new bioconjugates manufacturing suites can come online, as well as a new line for commercial drug products. Our U.S. presence in biologics has also been extended with an early development service lab in Cambridge, Massachusetts. We have already mentioned our collaboration with Vertex. This is a great opportunity for us to leverage all strong crack records in manufacturing cell and gene therapies and our experience in bringing new facilities and technologies online. In June, we announced the acquisition of Synaphix, a biotech with the leading platform to develop ADCs. The acquisition has brought an impressive team of scientists to Lonza, as well as new and innovative technologies. Synafix already has multiple contract with small and large biotech, bringing a potential future source of royalties revenue. The transaction is revenue and margin accretive from the date of the acquisition. By combining all existing capability with the Synafix technology and IP, we can deliver a best-in-class offering to streamline our customer paths from ADC discovery to commercialization. the acquisition leaves us uniquely placed in the industry with the complete ADC offering. We see ADCs as an exciting modality which brings effective treatment for patients and is driving growth for Lonza. Moving to ESG, Lonza has made significant progress in its emission reduction program. we submitted a letter of commitment to the Science-Based Target Initiative, a leading carbon footprint reduction initiative. The letter confirms our commitment to reduce scope 1 and 2 of green gas emissions by more than 40% by the end of 2030. We also signed a 10-year virtual power purchase agreement for solar electricity with IGNESIS, the Spanish renewable energy group. Under this agreement, IGNESIS will produce more than 300 GWh of solar electricity, which is equal to our electricity needs across Switzerland and the European Union. Together, these programs support our carbon reduction program and underline our long-term commitment to doing business in a responsible way that protects the environment. As we come to the end of this section, I wanted to share our priorities for the second half. Ramping up our new commercial assets will support growth in biologics in the second half and beyond. We will also focus on converting more early-stage opportunities, which help us to optimize our increased capacity in this area. Finally, our continuous improvement initiative will drive performance and cost efficiency across the network. With that, I will conclude our group update and hand over to Philippe for a more detailed look at our financials for the first half.

Thank you, Pierre-Alain. Good morning and good afternoon to you all. Before we start our financial review, let me remind you that growth is reported at actual exchange rates, except sales growth, which is reported at constant exchange rates. Let's start by taking a look at our financial highlights. Overall, our H1 results are solid, despite market headwinds impacting our early-stage and nutraceutical capsules offerings. The group delivered sales of 3.1 billion Swiss francs, growing 5.6%. 922 million Swiss francs core EBITDA resulted in a margin of 30%. We are pleased with the performance of biologics and small molecules supported by sustained customer demand across our businesses, especially for commercial assets. Our cell and gene and capsules divisions were impacted by more adverse market conditions. We will look at the divisions more closely in a moment. On an underlying basis, Lonza sales grew around 10% in H1. Our underlying growth excludes the effects of the COVID sales loss and the aliquots cancellation fee, as well as other disclosed one-time effects in H1-22 and H1-23. Margins reach a solid 30% in line with expectations, but it's three percentage points lower than the high base in 2022, which included the items just mentioned. Let's move to the next page to look at our margin in more detail. Looking at our margin evolution, we have reported the decrease of 3.1 percentage points in H123 versus H122. Breaking it down, the decline can be explained by three key factors with roughly the same contribution. First, the loss of COVID sales, which delivered good margins. Second, the overall negative impact of current and prior year one-off items. And third, the impact of lower utilization in early stage and CHI assets. Of course, we continue to deliver productivity gains and operating leverage. These are offset by our usual gross project dilution, divisional and business unit mix, and a small residual effect of inflation like we saw last year. Moving to our divisions, Biologics reported sales growth of 2%. This represents double-digit growth when adjusting for MRNA sales loss and the prior year aliquots cancellation fee. We are especially pleased with the growth of our different modalities, particularly bioconjugates, mammalian and microbial. The newly acquired Synafix business is now also part of our biologics division. However, it had a minimal effect in the first half as the acquisition completed in June, meaning only one month of revenue and margin was consolidated. The decline in the biologics margin was mainly driven by the effects on sales just mentioned and the dilutive impact of the assets in ramp up. Turning to small molecules, the division reported a strong first half performance. Assets are highly utilized and delivered sales growth at 37.5%. Adjusting for last year's H1, H2 customer shipment phasing, growth would be high single digit. Margins were strong at 35% due to good product mix and phasing. The benefits will reverse in the second half, so we can expect full-year performance to be in line with the mid-term divisional guidance. The cell and gene division had a softer H123, with sales growth at 11%. Looking across the business units inside the division, we see two different dynamics. Bioscience performed well through a combination of volume growth and pricing. However, cell engine technologies was impacted by weak demand due to the current biotech funding environment and some clinical stage customer failures. The decline in the regular business was more than offset by the accounting treatment of the Kodiak Bioscience bankruptcy resolution in Q2. The termination with Kodiak, Lonza's former Exosome partner, released Lonza from a multi-year manufacturing liability of around 50 million Swiss francs, which positively impacted both sales and margin. We have provided more detail at the back of the presentation. It is important to note that Lonza remains fully committed to the Exosome space, and we continue to operate our site in Lexington, purchased from Kodiak in 2021. Finally, our capsules division reported flat sales in H1. This was driven by a weak nutraceutical market as we see customers destocking post-COVID alongside a slowdown in end consumer demand. Other areas of the business showed a more positive performance with sales growth in pharmaceutical hard capsules and good dynamics in the APAC region. Margins were below the first half of the prior year, mainly from underutilized production lines and increased global prices for gelatin, the most important raw material for the capsules business. As Pierre-Alain already mentioned, in H1-23, Lonsa spent 765 million Swiss francs, or 25% of sales, on CAPEX. Around 80% of this spend was focused on growth projects, mainly in our biologics division. The remainder was invested in maintenance as well as infrastructure and systems projects to support the growth of our different divisions. We remain on track to spend the guided amount of around 30% of sales in CAPEX projects in 2023. I will finish my part of the presentation with a look at our free cash flow. Our free cash flow was negative 62 million Swiss francs, mainly driven by our capital allocation strategy of continued organic growth investments. Our pre-growth investment cash generation remains solid at around 20% of sales. Inventory has not declined as expected, with our day's inventory outstanding still at around 7 months, which is in line with year-end 2022. The absence of a reduction is mainly due to higher-than-expected finished goods and work-in-progress inventories. It's also important to note that we make to order, and so there is little risk around the inventory. We remain committed to reducing inventory by about one month over the next year. With that, I thank you for your time and I will hand back to Pierre-Alain.

Thank you, Philippe. Let me now take a moment to provide a business update on each of our four divisions. Let's start with biologics. Philippe already commented on sales and margin. Looking at the business unit, we saw strong sales growth in bioconjugate, mammalian and microbial. The performance in bioconjugate was driven by the two new manufacturing suites coming online in the first half in our biopark in Wiesb. We saw a healthy increase in the value of our contracting versus the first half of prior year. However, the slowdown in biotech funding meant growth in demand was slower than expected for early-stage assets, leading to some underutilization. In small molecules, we saw strong sale growth compared to a lower base in H122. Margin was driven by high asset utilization and a favorable mix, but also reflect or focus on more high value and complex offering, including components for ADCs. With the favorable mix weighted towards the first half of the year, we anticipate that the full year performance will sit in line with divisional mid-term guidance. Turning to our cell and gene division, we saw good momentum in bioscience, driven by a combination of robust demand, operational efficiency, and strong pricing. As Philippe already explained, divisional performance was also supported by the termination of our engagement with Kodak Bioscience following the company bankruptcy filing. In cell engine technology, we experienced weak performance, which was driven by lower early-stage demand and some customer clinical failure. Despite these short-term headwinds, we remain committed to this technology and see its long-term commercial potential. Over the years, we have built a significant presence around the globe and our capabilities are recognized in the industry. This is reflected in our new collaboration agreement with Vertex. Finally, let's turn to our capsule and health ingredient division. Here, our global pharma capsule business remains robust with healthy business development, including price increase, particularly in APAC and EMA. However, this has been offset by decreased sales in our nutraceutical capsule and health ingredient businesses. Here, we have seen lower customer demand and customer destocking, particularly in the U.S. Turning to our margin, price adjustment and cost management has only partially offset adverse impact on our margin driven by lower asset utilization and higher raw material and energy costs. Since last year, we have seen an increase over 30% in the price of gelatin, a major ingredient of many of our capsules. As we conclude our tour on the division, let's take a moment to review our outlook and mid-term guidance. As we look toward H2, we anticipate that sales will accelerate from new biologic assets coming online, but be partially dampened by our capsule and cell and gene division. However, margin will be adversely impacted by some overcapacity in our early-stage and neutral statistical assets. Finally, as mentioned before, we anticipate the favorable mix in small molecules to reverse in the second half of the year. Given these dynamics, we see it is prudent to update our sales growth to meet to high single-digit from our initial outlook of high single-digit. We have also updated our core ABTDA margin to 28% to 29% from our initial outlook of 30% to 31%. Looking at our midterm guidance, we are reconfirming the three-year sales growth trajectory of low teens. We are updating the margin guidance to a range of 31% to 33% compared to the initial guidance of 33% to 35% set back in 2021. The lower growth in early-stage assets in cell engine technology and in biologics would lead to some under-assumption, resulting in lower margins than initially expected. Also, in our capsule business, weakness in the market is continuing to deliver lower asset utilization. Getting back to the bigger picture, let's take a wider view on our business and industry. We are confident that Lonza is set up for success and we are continuing to execute on our strategy. Our business benefits from long-term commercial contracts. As you can see from the chart in the middle of this slide, commercial contracts make around 70% of our CDMO capacity. Our business model, which is based on long-term relationship and commercial business, is more resilient than ever and is a real strength for Lonza. Building on our extensive Western footprint, the expertise of our team across modalities, and our quality track record, we will continue to capture value for our shareholders as well as delivering on our customers' needs and expectations. As we come to the end of our update, I wanted to summarize some of our main points. We are continuing to see robust demand for commercial services across modality, with lower demand for early-stage offering and nutraceutical capsules. The updates of our outlook reflect current market events. As we look toward H2, we will focus on ramping up our new commercial assets and optimizing our capacity with the focus on our early-stage business. We will also continue to focus on driving continuous improvement across our global network. Looking more widely at our business, we are well-placed for success with our leading commercial offering and our continuing commitment to growth. With that, I thank you for your time. I know Philippe and I will be pleased to take your questions after two minutes to set up the room for doing that. Thank you. . . Thank you.

You can register for questions over the conference call and follow up the live video over the webcast. Anyone who asks a question may press star and 1 at this time. Please limit yourself to one question and then re-enter the queue in case you have a follow-up question. For participants over the webcast, kindly note that you have the possibility to increase and decrease the size of the media player by placing the mouse between the slideshow and video. First question comes from Richard from JP Morgan. Please go ahead.

Hi, thanks for taking my questions. Or one question to start with. Maybe you could give us a little bit more colour on the bridge between the margins in the first half of last year and the second half this year in terms of the contributions. I know you gave some high-level comments, but some more detail there would be helpful. And then just that bridge from 2020 sorry, 23 to 24 in terms of those margins as well. What are the moving parts of those margins around, I think, I suppose, the growth projects? Thanks very much.

Thank you, Richard. Philippe, you take that one? Yes, absolutely. Thank you, Richard, for the question. So as mentioned during the call, there are mainly three reasons that drive our margin decline of three percentage points between last year first half and this year first half. Number one is the drop in COVID-related mRNA sales, and we gave you an idea as to how much of the growth this is. So we also mentioned during the course of last year and this year that these were profitable sales for us. Second, we have a couple of one-off effects and one-time effects that we did communicate last year. This includes the alakazes, of course includes as well things like the Kodiak termination that we experienced this year. And all of these effects have, of course, a negative effect for this year. And then third are really the market headwinds that were described by both Pierre and I and myself, both in the cell and gene technology area, where we see some underutilization of our assets, as well as in CHI, where in nutraceuticals, not all the lines are utilized. And so each of these three have roughly the same contribution to the decline of three points. Now, on top of that, of course, we continue to have a nice productivity gains as well as operating leverage from growing our cost base less than sales. But this was in this first half offset by our usual divisional mix that is negative, some growth project dilution and as well a tiny bit of inflation to the same extent as we've seen in the prior year. If you want me to go now from 23 to 24, I think we communicate already that the biggest part of the increase would be coming from our growth projects, the growth projects both in the biologics division as well as in small molecules. These growth projects are ramping up. They are contributing to the sales acceleration we will see in this second half. And this will then continue in 2024. And as these ramp up, the margin will be less dilutive and therefore driving margin. This is really the biggest driver. The rest is, of course, continued productivity and continued pricing to offset whatever remains of inflation in 2024.

Thanks so much.

The next question comes from James Quigley from Morgan Stanley. Please go ahead.

Great. Thank you for taking my questions. So mine's on the bite of funding infrastructure and what's happened here. So previously, you highlighted that there was a flight to quality in terms of the number of inbounds or inquiries have gone down, but your project wins hadn't changed. What was the trigger for that change in what you're seeing? Is this further bankruptcies or more aggressive cost-cutting programs by your biotech customers? And you mentioned in the second half of priorities to secure early-stage opportunities to optimize that capacity utilization. And how are you going to go about this, given that the biotech funding environment doesn't seem to be picking up significantly?

Thank you, James. What we clearly have seen in Q2, that the number of requests and inquiry for early stage services has decreased. And they were lower than expected. And this is really what is driving the underutilization we are expecting now for the second part of the year. We always try to optimize our offering. And again, we have two different services for early development, cell culture capability as well, and finish-to-finish. We are trying to make sure we have attractive offers for our customers.

Thank you.

The next question comes from Vinit Agravar from Citi. Please go ahead.

Hi, thanks for taking my question. I'm just trying to understand what sort of recovery have you baked in for the early stage services and the new pharmaceutical markets to achieve those targets? Do you expect now the growth in these segments to recover only in 2024? And similarly, if you could comment, what sort of recovery have you baked in your 2024 targets? Thank you.

Thank you, Vinit. We have a strong and long-term visibility of the commercial demand because we have long-term contract. Obviously, for early services, the visibility is shorter. We have a visibility around three to six months. And currently, we have seen, as I mentioned in Q2, a significant decrease compared to our expectation. So we don't speculate when it's going to recover. But if we look in the past, we have seen generally a slowdown lasting 18 months to 24, 30 months. And it's the kind of thing we are anticipating today.

If I may just add to this, Vinit, just to underline the point, our early stage business is still growing nicely in biologics, but we've been adding capacity in the early stage space, and so we had very high expectations for this growth, and so we just need to now see high growth, but not very high growth.

Thank you.

The next question comes from Joe Walton from Credit Suisse. Please go ahead.

Thank you. Mine is about your comment about the healthy increase in biologic contract signings in the first half of 22 versus the first half, sorry, 23 versus the first half of 22. Can you help us on how quickly you can turn that, those contract signings into revenue? Can any of them be run from existing capacity or are these all longer term contracts where you need to build capacity before they come online? And if you could give us any sense of what the basis of securing these contracts is, is it still very largely driven by confidence in your execution or is price coming more into play in getting this new business? Thank you.

As you have seen in H1, we have a strong underlying growth coming from new assets coming online. And basically, we continue to ramp up this asset, and we have new assets continue to come online. So we are signing contracts which are filling this asset and will continue to drive growth in the months to come. So it's really based on real customers.

projects assets which are coming online and we have a good visibility on that just to understand that people signing business which you're able to execute almost immediately rather than people signing contracts that are going to take you three or four years to execute

We have a mix of both. Basically, the manufacturing contract are long-term. We mentioned always five to seven years. Some will start relatively quickly, and some will start in the year to come with the assets which are coming online. So it's a mix of both.

Next question comes from Patrick from UBS. Please go ahead.

Thank you and good afternoon, everyone. Can we go back to the bridge to 2024 on the margin? And can you explain to us the variables driving this downgrade, right? Because operating leverage is still there. You're ramping the growth projects. Early stage clinical is 10 to 15% of the CDMO business. So versus your initial plan for 24, which segments are really driving this downgrade? Is it really just the capsules with the underutilization, or is it spread over also to biologics? Are your margins there also lower than what you were hoping for?

Philippe, you take it. Thank you, Patrick, for the question. I think I'll go back to the growth projects, and this is really what's going to be driving margin. Of course, in our initial 24 midterm guidance, back in 21, the world did look certainly different. But overall, I think the increase from 23 to 24 is mainly due to the growth projects that we're going to be ramping up in the second half and into next year, both in the biologics and small molecule division. This is the big driver. And I think if you look at the guidance we're giving you for this year, for 2023, and the guidance we are now providing for 2024, the increase is the same. And so I think we see the same increase and the same drivers going from 23 to 24, but we're starting from a lower base in 23. Now, why do we have a lower base in 23? This is really now going back to the lower utilization of the early-stage assets, both in cell and gene technology as well as in biologics, and the weakness that we see in the nutraceutical marketing capsule. So nothing has changed, if you want, between 23 and 24. But we start from a lower base in 2023, which therefore lowers the expectation for 2024.

But what changed is that originally the bridge was supposed to be smaller from H2 to 2024, right? And now the bridge or the gap has widened from H2 to 2024.

What really changed is what we have seen in Q2. It's a lower demand than expected in early-stage services in biologics. And this is what has changed.

Okay, thank you.

The next question comes from Daniel Buchta from ZKB. Please, go ahead.

Yes, thank you very much. Maybe we talk a little bit about strategically what you're going to do in the two problem charts, as I would call it. I mean, on the first side, capsules and health ingredients, which at least in my view, the consumer part does not really match your CDMO offering. And it's a lack on growth at the end since a couple of years. I mean, what are the strategic alternatives? Could we imagine a sale of that business at some point, given that you acquired it just a couple of years ago? And then also a similar question in cell and gene. I mean, I guess it's not the case, but are you going to adjust the cost base at least? Because, I mean, it was barely profitable before the weakness now, and I guess now it's loss-making given that bioscience is typically quite profitable. What are you going to do then with those two businesses? Thank you very much.

Thank you, Daniel. Regarding cell and gene therapy, our view has not changed on the long-term potential of this therapy. We see really that we are able to fix unmet medical needs, and we see that and we will continue to do that. As we mentioned, we have already three products on the market, being a leading CDMO, and we have other products which probably make it in the months and years to come. So we continue to do that. For sure, we make sure that we have the right cost base. And here we have it's relatively not so capital intensive compared to biologics. And we'll make sure we have the right number of assets and people to address that. No, regarding CSI, I'm not going to speculate, but I think as a company, we have always demonstrated in the past that we manage actively our portfolio, we acquire new business, we divest new business, and we'll continue to do what we have always done.

That's helpful. Thank you very much.

The next question comes from Charles Weston from RBC. Please go ahead.

Hello. Thanks for taking the question. Mine relates again to guidance, please. And just this one really focusing on visibility for both 23 and 24. For 23, it's the second time margin expectations have come down. So given where we are in the year, you've probably bought some raw materials. You've probably got orders in for certain batches. So what what's your visibility like for that second half to be a bit more, a bit stronger than H1? And in 2024, I know we've talked about revenues quite a bit, margins quite a bit, but in terms of revenues, the guidance implies something like 17% constant exchange rate growth. So can you again comment on the visibility you have into that and what would be the sort of risks around that number? Thanks.

Charles, happy to do so. As we mentioned, 70% of our business is commercial manufacturing, and we have extremely strong visibility to that. So again, what we do know next year and the year to come is high visibility. As we mentioned, for early stage, the visibility is more in the range of three months to six months. And it's where we have seen a decrease of requests in Q2 and therefore updated our guidance. But for 24, obviously we don't have for end of 24 the visibility for early stage. but we have full visibility on the current business and commercial as well as the business which continues to grow. And again, this has been demonstrated in H1 with the strong underlying growth coming from the commercial business.

Thanks. Just to clarify on the margin, for this year in terms of the visibility you have, i.e. what's essentially already booked in given the forward orders of raw materials and energy and whatnot. Is that margin now very low risk?

Philippe, do you want to comment on it? Yes, Charles. You know, the CDMO business is a very fixed cost type business. And so, you know, the real driver will be how much are we utilizing the assets that we have in place? Both the personnel, which is very highly skilled, you know, is not something that we would trade off right now. So we are really looking at driving demand and looking forward to seeing demand increase in our nutraceutical assets for capsules. This is really the key driver for the year. And based on the visibility that we have, which Pierre-Alain mentioned, in three to six months, we feel comfortable with the margin guidance we gave you for this year. That is both a mix of these faster-turning businesses as well as the more stable commercial business. energy prices don't really play a role in this for the rest of the year.

Okay, thank you.

The next question comes from Daniel Yellowscan from Stiefel. Please go ahead.

Good afternoon. My question was more related to pricing. I'm sure you have heard some comments by WUSHI that they confirmed that loan size lowering prices, I take such things with a grain of salt, of course, but can you comment on that and also relate to that what you think about the current capacity in the industry, which seems to be a big concern for investors?

Thank you, Daniel. I will start with the second part. Current capacity at large scale for Lonza, we see a very, very high utilization rate for the years to come. And this is really secured by a long-term contract, and this is our philosophy. So we see high utilization rate, and this will continue. If we believe, again, the market study as well as our data, which are going to a lot of detail, we see even higher utilization rates in large-scale assets. On that one, we don't see any changes. Obviously, as we mentioned, for small-scale assets, it's a little short-term, but we continue to see the business growing, and we believe it's just a cycle which will take off sooner or later. Regarding cost, we don't comment on doing competition, but clearly when we discuss with customers, the key point which matters for most of them is delivering on time, its expertise, its quality, and regulatory expertise. And costs are never the first point in the discussion. It's important, but it's not the first point.

OK, thanks. The next question comes from Peter Welford from Jefferies. Please go ahead.

Hi, thanks for taking my question. I want to come back to the early stage. I'm just a little bit confused because we seem to sort of jump between biologics and cell and gene on a number of occasions. And I mean, presumably, if we look at the business mix, given you say 70% commercial, 10 to 15 phase one, I mean, presumably those cell and gene is much more skewed than that. So I wonder if you can just talk about perhaps the biologics, what the split is of revenues, and equally perhaps give us, if we can, an underlying biologics growth off of that 10% figure you give us for the first half. And when you're talking about the early stage, therefore, you said you've added capacity in biologics, and that was sort of being underutilized. But equally, I think in the margin comment, there was comments about your lower utilization in cell and gene early stage. So can you talk about, is it both those early stage, or which one in particular is the more challenging one?

Thank you. Thank you, Peter. So one important point to remember is the proportion. In cell and gene therapy, we have close to 150 programs, and only three of them are commercial. So obviously all the other ones are clinical. The proportion is much larger, and I think it's what we have seen already end of last year, early this year. It's less demand in early stage, and you see obviously a larger impact. As biologics is a bigger part of our business, you can derive from the slide that I showed that probably the proportion of phase one, preclinical as well as phase one, is this range of 10 to 15%. And this way we have seen in Q2 less demand than initially expected. So you can just make the maths to understand what is more or less the impact.

Next question comes from Paul Knight from KBank. Please go ahead.

Thank you. Have you changed your capital expenditure plan for this year in your view on the long term for capital expenditure? And the second part of that question would be, what's your fastest, highest priority, I should say? Is it fill finish? Is it... ADCs, some color on that. Thank you.

Thank you, Paul. You know, most of our capital projects, and Philippe will provide a little more detail, are projects which last between three and four years. So again, we have initiated a large project a couple of years ago, and they continue. And there is no plan to change this project because, as we mentioned, they are secured by customers, and they come in line with the good business. So we are not changing that. Regarding our priorities, and you can see that with the breakdown of investment, most of the investments are going in biologics, and probably we are investing in three key areas in biologics. It's large-scale mammalian, it's fill-and-finish, as well as ADC. We believe it's a strength of our business to have multiple approaches and multiple businesses where we see strong demand from our customers.

Yes, Pierre, I'll just add something to your question, Paul. If you look at our capital investments, these are multi-year plans, of course, and you saw that for 2023, at least, our gross investments are 80% of that amount. And out of that 80%, the majority is for what we call commercial stage assets. And so that's one. So I think most of our investment is going into these more stable, large type of manufacturing contracts. And the second thing that I would add is that we don't see this weakness in the early stage business to be a long-term weakness. And so these are transient or temporary weaknesses that don't change our strategy. And so we've said we remain committed to the cell and gene technology business. And so the investments will continue both in biologics and in cell and gene.

Last question, a leading association for the industry in Celgene is saying that after a decline in trials last year, there's a slight increase again this year. Do you see that? Do you think Celgene is getting a little bit better?

What we have seen definitively is a stabilization. So this is clear and obvious. If somebody very positive can see start of increase, I would say we see normalization, and I would just wait one extra quarter to speak about really recovering. But definitively, we have seen a clear stabilization.

Thank you. The next question comes from Sebastian Ray from Burenburg. Please go ahead.

Hello, good afternoon, and thank you for taking my question. It's on the two- to three-year outlook for capacity in the industry. I think Lonza has gone on record, or at least informally indicated in the past, that it sees a broadly balanced outlook for supply demand in the biologic CDMO space on a seven-year view starting around 2020. Is that still the case? And if not, is the 33% to 35% EBITDA margin target off the table for the foreseeable future. And by foreseeable future, I mean the next three years. Thank you.

Thank you, Sebastian. Clearly, we are extremely confident about the utilization rate for large assets because, again, we don't build them without having a contract. And what we have seen is 100% valid and is not changing. Philippe, you want to comment on the margin?

Yeah, no, I'll just finish by saying that we are constantly looking at even the longer-term capacity utilization of these large-scale assets, and I think we remain confident that the utilization is either stable or increasing for the industry. Second, I think the industry hasn't seen yet the impact of large volume therapies around Alzheimer's, for example. And so I think this is still to be seen how much this will do to the industry. So I think for now we do not share the concern on the large scale business, certainly not for our assets. Now, in terms of margin, I think we have never provided guidance beyond 24, and so I will not comment on the two- to three-year margin. I think we have a CMD plan for later this year where we would be very happy to welcome all of you to share our plans on strategic direction for the company, and that's probably the more appropriate place to discuss that.

That's helpful. Just as a follow-up, we're speaking about pre-commercial plans. and commercial capacity as if these are entirely separate things. But a number of the pre-commercial producers have apparently said they want to try and reallocate capacity to the commercial market. Is this a risk in your eyes, or are the two largely separate?

No, we see that slightly differently because, again, the preclinical and clinical phase are assets which are mainly used for these purposes. Yes, you can use from time to time to produce a small volume commercial product, but we see the small scale assets mainly towards phase one and phase two supply.

So I think to be maybe more precise, I'll use my layman finance terms. But I think, Sebastian, if you look at probably 1K, 2K, 1,000 liter, 2,000 liter assets is what we would call early stage assets done for phase one and two. And then you get into the mid-scale and large scale. These are probably the more kind of assets we call commercial. And that's how we delineate between these different segments.

That's helpful. Thank you for taking my questions.

The next question comes from Liu Yifeng from HSBC. Please go ahead.

Hello, thanks for taking my question. I have a question about conjugate business. On the split of that, how much would you say a bit of color on that would be great? How much would you say it's commercial and how much would be early stage? Thank you.

It's a mix of both. Some of the recent growth you have seen in H1 is definitely driven by the new assets coming online, which are mainly commercial. But we see a strong demand in both directions. And it's also why we have invested in Synafix, which is further strengthening our position by bringing a quite unique technology, which helps our customers to have an even more efficient ADC.

Right, thanks. And then also to follow up on that, and how would you see that split will evolve over the next couple of years and that effect of the margin? Thank you.

We are very excited with the potential of bioconjugate for multiple reasons. It's driving demand in biologics with the antibody. It's driving demand in a small molecule with difficult-to-veil toxic product with interesting margin, as well as producing the linker. And last but not least, it's giving us the opportunity to put all of them together. We are also investing in fill and finish for that. So basically, for us, it's an opportunity of reoccurring business with a very interesting margin.

Thank you.

The next question comes from Max Schmock from William Bayer. Please go ahead.

Hi, thanks for taking our questions. I just wanted to follow up on a couple within the cell and gene therapy business. Looking at results in the quarter, I guess without the Kodiak cancellation fee, revenue looks like it was down about 10% here in the first half of the year. And I know when we spoke in mid-May, you did note that you had seen some pullback, but it seems like things are much worse than maybe you let on a couple months ago. So just wondering if you can provide any detail around whether you've seen things dramatically fall off here over the last couple months or whether this has been more of a sustained trend throughout the year.

Now, what we have seen is similar to what you can see on the market. So, obviously, due to the funding, much less phase one than before. And as it's an early phase business, so mainly clinical phase, we have seen the normal attrition happening with customers. So you compile the attrition of ongoing project with less incoming, which is having what we have already highlighted in Q1. At the same time, I want to emphasize that we have a couple of projects going ahead, and we are still very excited of the potential of these therapies and technology, and we are very well positioned, as shown by a company like Vertex, really trusting us to go as partners and together to address these challenges of these new therapies.

Thank you, Olivier. Thanks.

The next question comes from Churan Naresh from Indro Health. Please go ahead.

Hi there. It's Naresh Churan from Indro Health. Thanks for taking my question. Just one on utilization. So in the past, you said that it takes about 36 months to reach peak utilization on new plants. And given the slowdown we're seeing in biotech, should we be pushing out those assumptions for the new EDS lab in Cambridge? Thank you.

The 36 months we have mentioned are clearly for large assets. And the reason behind, without going into too much detail, is you start some validation batches, you put them on stability, and you wait until you get the approval of health authority. For smaller scale assets, an EDS is really a lab where we do very small type of activity for early phase customers. We don't have that.

Thank you.

We have a follow-up question from Richard Water from JP Morgan. Please go ahead.

Hi, thanks for taking my follow-up. Just to ask on CapEx, I think it's been asked before, but just on definitive CapEx, are we still expecting CapEx in the midterm to decline to high teens percentage of sales over the next few years? How should we think about that? Or is CapEx... You know, you're going to be a little bit more cautious on CapEx spending going forward, particularly in the early stage biotech area. I realize that's not a huge amount of your CapEx, as you said earlier. But just how should we think about that overall budget and the development of that? Thanks very much.

Philippe? Yeah, thank you, Richard, for the question. As I said before, I think a lot of the next few years in terms of CapEx are, of course, already decided and ongoing and mainly in construction. So I think I don't see the current market sentiment to change that trajectory. Again, we do very much see the current weakness in early stage as something being temporary. Again, the business we do in early stage, and I think it's worthwhile to reiterate, the business we do in early stage is still growing, and so the assets will continue to be more utilized as we go. They just have not been utilized as quickly as we want them to be. So it's not that we are sitting forever on too much capacity. There's just a slight delay as to by when we will have them fully filled. And again, this is repeat business, so you have to constantly replenish your early stage pipeline. So again, Richard, I wouldn't see the trajectory of CapEx to change. I think what we do is within CapEx, maybe to highlight, we are not inactive. If you think about CHI, we are moving capital more into automation and to efficiency type projects rather than capacity projects. So we are, of course, constantly relooking at the projects, if they make sense or not. but that would not have a big change on the overall envelope of CapEx for the next few years.

Perfect. Thank you.

Okay. Sandra, we will take the last question.

The last question comes from Andrea Pomerantz from Mirabeau Securities. Please, go ahead.

Good afternoon, gentlemen. I also have a follow-up question regarding the early-stage pipeline development. You mentioned several times that there was further slowdown which impacted your performance in the first half. Now, at the same time, you did state and also highlighted on page nine of the presentation that you want to secure early stage opportunities. Now, my question is, what will you do different and what measures will you take in order to get the turnaround, especially in the second half, which is specifically mentioned, as I believe that the add-ons which you have done to get further early stage opportunities in-house might be more in the mid-term. So what will trigger the short-term sort of upscale that you highlighted on slide nine.

Thank you. So thank you, Ania. So what we are going to do is to double down on our effort and commercial and marketing effort in this space. Now, we have a couple of unique advantages that some customers understand, but some others are not yet fully aware, and we will continue to double down on that. We see that the strength of location is definitely something which is appealing to our customers, and the capability for early-stage companies to really offer both drug substance as well as drug product. So we will continue to work on that to reinforce our presence in early stage.

If I can add, Pierre-Alain, just to make sure you understood our comment properly, there's no turnaround assumed in the financials. I think if we are looking for additional early stage opportunities, we're going to be capturing them in the second half. There will be revenue driving and margin driving in the next year. So this is not like we find somebody in the month of August and they start generating revenue in September. So There's no turnaround for the guidance that we provided in 23. However, we want to secure 24, and therefore we're going to double down on marketing efforts.

So basically, these measures are being taken on the second half, which then will sort of have an impact more in 24 and the years after.

That's correct.

Okay, thank you.

With that, I would like to thank you very much for attending today and for your attention. I would like to come back to the clear message that we see us in a strong position. The commercial demand is strong, is secure for long term. I think we have seen the underlying growth since the first part of the year. And the headwind we see in early stage leading to underutilization of early assets, both in cell and gene therapy as well as in biologics, to be more on temporary time. So thank you for your attention, and I wish you an excellent day.