Lonza Group AG

Ladies and gentlemen, welcome to Lonza's Q1 2024 cumulative update 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 is being recorded. The presentation will be followed by a Q&A session. On this call, questions are restricted to investors and analysts only. You can register for questions at any time by pressing star and 1 on your telephone. In the webcast, you will be able to see a chat box for use in case there is a weak phone line. Please note that questions must be asked via the phone first. 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 Albert M. Beni, CEO at Interim. Please go ahead, sir.

Thank you for the introduction. Good morning, good afternoon. and welcome to our Q1 qualitative update. These calls are intended to provide a general business overview, so we will not be sharing numbers relating to our financial performance today. We will share a full financial update during our half-year call on July 25th. Today, I will start by sharing a view on the group and our growth projects, then provide a short update on each division Our CFO, Philippe Decke, will then provide a brief update on our alternative measures reporting changes, after which there will be time to answer your questions. We reported a softer Q1 group performance. Also, performance across the H1 is expected to normalize and align with the full year trajectory. We expect solid H2 sales, reflecting the timing of commercial batch releases. In this context, We are confirming our outlook for 2024 with flat CER sales growth compared to previous year and a core EBITDA margin in the high 20s or between 27% to 29%. Turning to our growth project, we continue to see progress in line with plan. At our site in Stein, Switzerland, we are on track with the construction of our large-scale commercial drug product facility. In WISP Switzerland, we are on track to commence operations with our large-scale mammalian drug substance plant. And in Q4 of this year, we expect the production of our first batches in our highly potent API small molecules facility. Now let's take a look at each of our divisions. There is good momentum across the biologics division, despite a slow start in Q1, which was impacted by high delivery in Q4 of the previous year, and some campaign shifts between Q1 and Q2. We see strong commercial demand, and while small-scale demand remains soft, we are beginning to see improvements in biotech funding. However, we should note that these early signs of recovery may take six to nine months to impact our revenues. Our mammalian business will also benefit from significant future growth through our agreement with Rush to acquire the Genentech Vacaville site. Our bioconjugate business unit saw strong growth, supported by a strong demand and the ramp-up of new assets. In mRNA, we have concluded our activity with Moderna, and we are fully focused on building the pipeline for our new clinical asset in Relaine, which will come online later this year. Our drug product services business is aligned to the clinical market, meaning it is continuing to grow, but at a slower pace compared to previous years. Here, we are working on extending our offering and assets into late-stage clinical and commercial products. The first commercial fill-and-finish program in VISP reached a key milestone in Q1 as it successfully completed its process performance In Microbium, the business continues to develop strongly, supported by the ramp-up of new assets, changes to our portfolio mix, and also a solid demand. Finally, the integration of Senafix into our licensing business is proceeding smoothly, and we continue to receive positive market feedbacks on our expanded offering. Turning to our small molecules division, we continue to see strong commercial demand with good visibility supported by high levels of committed business. Biotech funding challenges have impacted the number of early stage customer signings, but we are seeing first signs of recovery. The business is further supported by a continuing portfolio shift to high value and complex small molecules and the strong growth of our highly potent API offering. Campaign timing will lead to a soft H1 in the division, followed by a stronger H2. Looking at our CellEngine division, we are delivering improvements in our commercial and operational performance in our CellEngine technology business. This has been joined by strong sales and continuing customer interest in our commercial offering. In bioscience, market headwinds have impacted sales, mainly in our media business, but we are managing profitability through strong cost discipline. Turning to the capsules and health ingredient division, sales and margin performance was softer than expected. In the US, demand for nutraceuticals has begun to recover after a long period of post-pandemic destocking. However, Overcapacity in the market continues to place pressure on margins. Demand for pharma hard capsules has been softer than expected in Q1 in Western markets due to continued post-COVID stocking. To mitigate the impact of these developments and protect margins, the division has undertaken a cost management program along with its continuing commitments to innovation and customer value. We have also successfully piloted our new generation capsule manufacturing technology. In corporate news, we are continuing to make progress with our share buyback program of up to 2 billion, which was announced in 2023. As of March 31st, we have repurchased 1.3 billion of shares with an intention to complete the program in H1 2025. Finally, we have confirmed the appointment of Wolfgang Wienand as the new CEO of Lonza Group. He will commence his new role in the summer. To close, I will summarize by saying we are in line with the expected trajectory towards our outlook 2024. Looking at our industry fundamentals, we remain well positioned to capture value by maintaining our focus on growing our commercial offering while managing our costs and continuing to drive operational excellence. With that, I would like to thank you for your attention and will now pass over to Philippe.

Thank you, Albert. Before we move to the Q&A, I will take a moment to talk you through the external reporting changes in our alternative performance measures which were announced today. Effective for the financial year 2024, we will apply revised definitions of our core EPS, free cash flow, and divisional performance measures. The decision to revise the definitions of these performance measures is based on feedback from our investors and a thorough internal review. Our H1 2024 reporting will be aligned with these new definitions. The changes will improve the year-on-year comparison of Lonza's results as well as comparisons with our peers. The first change is to core EPS. Going forward, amortization of intangible assets from acquisitions is excluded from the core profit and therefore core earnings per share. This exclusion is common across the industry and will increase comparability for investors. For free cash flow, the non-cash items, change in provisions and share plan costs included in EBITDA are added back for the free cash flow calculation. In addition, the utilization of provisions is considered as well. Finally, for divisional core EBITDA, group-wide investments such as group IT infrastructure have been reported within corporate and related depreciation and amortization were previously allocated to the divisions. With the updated approach, the divisions will add back the depreciation and amortization included in the general cost allocation. This will result in an improved divisional core EBITDA with no impact at group level. More details on these changes are available under the Investors Relations section of Lonza's website. In the same place, you can also find restated financial information on core EPS, free cash flow, and divisional core EBITDA for full year 2023 and full year 2022, as well as H1 2023. Thank you for your time, and I will now hand over to Sandra to host the Q&A.

We will now begin the question and answer session. Any investor or analyst who wishes to ask a question may press star and 1 on the touch-tone telephone. You will hear a tone to confirm that you have entered a queue. If you wish to remove yourself from the question queue you may press star and 2. Participants are requested to use only handsets while asking a question. In the interest of time please limit yourself to one question only. In the webcast you will be able to see a chat box for use in case there is a weak phone line. Please note the question must be asked via the phone line first. Anyone with a question may press star and one at this time. The first question comes from Gary Staton from BNP Bariba. Please go ahead.

Hi there, thanks very much for taking the question. Maybe firstly just on phasing and the phasing of growth. You call out the softer Q1, but you say that H1 is to align with the trajectory implied by your guidance, so an improvement in Q2. and then expectations for a solid H2, which suggests again sequential improvements to performance as you progress through the year. So could you talk a bit to the trends in performance you've seen since the end of Q1, and how much of both that is batch phasing versus actual underlying momentum? Thank you.

Thank you for the question. Let's start with the softness in Q1. What are the key reasons? First of all, phasing of commercial CDMO batches between Q4 2023, Q1 2024 and Q2 2024, both for large-scale mammalian and small molecules. In this context of phasing, to some extent Q1 2024 has been disadvantaged versus Q4 2023 and will be disadvantaged versus Q2 2024. At the same time, bioscience had a weaker start than predicted. mainly coming from a weaker demand from our media. This was driven by softer demand in early discovery activities. The softness in biotech funding has impacted also R&D activities and research institutes and laboratories, which impacted this media business. But there was no indication of a structural change. At the same time, during Q1, we had a very strong microbial business, extremely strong bioconjugate business, licensing did extremely well and with a solid cell engine technology business as well and dsps drug product services continue to grow but at a lower pace in q1 2024. those are the key reasons for the softness in q1 but also don't forget the strengths of many other business units in q1 the next question comes from charles pitman from barclays please go ahead

Hi, Charles from Barclays. Thanks very much for taking my question. I just have a question on the current market developments that is NOAA Nordisk announcing its acquisition of Catalan and taking a potentially pure place out of the market. I'd love your thoughts on where you see a potential opportunity for Lonzo going forward. Is film finished an area that you would seek to expand further? Is this something that could cause you to increase your long-term CapEx opportunity? Thanks very much.

Now, for the question, as you are, of course, aware, we are not sitting in the boardroom of Catalan and of Novo. So it's very difficult to us to predict what will be happening. And we don't want to speculate on this acquisition of Novo Holding, Novo Nordisk of Catalan. Clearly, it will put pressure on fill and finish. And we believe there could be a tight supply-demand balance in the fill-in-finition world in the future, but we are not prepared and willing to comment more because we don't want to speculate on that.

Thanks. The next question comes from Vinit Agarwal from Citi. Please go ahead.

Yeah, hi. Vineet from Citi. I hope you can hear me. Just one question on Baccowile. Just wanted to see where you are in the process of closing this transaction and does 2024 guidance include any contribution from this asset? Thank you.

Philip, why don't you take that question, please?

Yes, hi, Vinit. So, look, our expectations have not changed since the call we did, so we expect to close this transaction in the second half of 2024. And I think our guidance, as said, does not include any Vacaville components, but we did as well mention that we wouldn't expect any impact to be seen.

The next question comes from Thibault Bouterrain for Morgan Stanley. Please go ahead.

Yes, thank you. My question is on capsule health and ingredients. It seems that the headwinds from last year may be dragging a bit longer than expected. And so I just wanted to ask if on this division in particular you're expecting a recovery this year or if it's more a question of managing margin in the context of bigger demand compared to what you were expecting at the beginning of the year.

Let's start by summarizing what is happening now in this capsule and business. In pharma, we have seen in Q1 a weakness in demand in Europe and in North America. And we are cautious about the market recovery during 2024. And we made some price concessions to keep some businesses with key customers. So weakness in demand in pharma, cautious about the market recovery during the year. In nutraceuticals, the demand is stabilized, but we have seen pressure mainly in North America on the nutraceutical capsules business.

The next question comes from James Wayne Tempest from Jefferies International. Please go ahead.

Hi. Thanks for taking my question. Just regarding the adjustments to the core definitions, I understand these are reconciled at the group level, so no impact. but given he gives segment EBITDA margin guidance over time, how do you expect the impact to evolve and how should we consider this in the context of the relative benefit to the segments in 2028 versus your guidance given? Thank you. Philippe, please.

Yes, thanks, James. So, look, I think you have seen the difference that – this reporting change does to our divisional EBITDA. And I think this is going to grow maybe a tiny bit as the underlying group projects increase, but this should not be distorting the figures going forward. So you just have a new base with what we provided you now. Thank you.

The next question comes from Patrick from UBS. Please go ahead.

Thank you, and good afternoon, everybody. A question on small molecules. You talked about the campaign effects here on H1 and H2. Just to get an idea of the size of this impact, can you compare this to what we saw in 2022, where we had a pretty substantial impact here in small molecules of about 100 million or so per semester? Is that the same order of magnitude, smaller or bigger?

Thank you for the question, Patrick. The answer, I don't know. I will be honest. I can't remember what happened in 2023, 2022. The impact, I wouldn't say it is not too relevant. It is rather marginal, but it will have an impact in H2, a positive impact. And I have to mention that in H2 this year, in the fourth quarter, we will start to ramp up our new HPAPA plant in Vistre. This will add additional sales versus H1 2024. But I can't quantify the difference between 2022 and this year. I hope it helps.

Yeah, yeah, thanks. Welcome.

The next question comes from Charles Weston from NBC Europe. Please go ahead.

Hello, thanks for taking the question. Mine's on the CDT business and specifically the 7G development and manufacturing side. That business seems to have picked up. quite nicely. Is that a market demand driver or is it more specifically programs that you've had that are progressing into a later stage?

It's a combination of both. A good, very good, solid demand and also the number of programs we have in our portfolio. And as we said already in the past, we're expecting maybe three to four programs becoming commercial during this year and next year. So combination strong demand and also the quality of a portfolio in the phase three.

Thank you. And that demand is coming even from biotechs as well.

It's coming from biotech, mainly from biotech and also from pharma. But the cell and gene technology business is mainly biotech driven. Yeah. Thank you. Welcome.

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

Thanks for taking our question. On the Vacaville acquisition call, you noted that you're already having conversations with customers as a result of the Biosecure Act. Just wondering if there's any sort of update you can give this morning around how that bill is potentially driving more opportunities for you here in the near term. And then my understanding is that Wuji Biologics has been more focused on scaling out with small bioreactors versus scaling up with large-scale bioreactors that you all are adding at Vacaville. So can you talk about how your mammalian offering overlaps with Wuji and how well positioned you would be to pick up some of that work that is potentially coming off Wuji's platform or work that would have gone to Wuji's platform if not for the bill?

Thank you. Let me make a few general comments on the BioSecure Act and then maybe Philippe if you want to say a few words on Vacaville. On the BioSecure Act, there is today a lot of noise in general. We see and we hear a lot of noise of political nature into the U.S. election. and the noise will certainly continue to surface. At the same time, there are a lot of reports with a lot of speculations. However, let's be fair, the implementation of the BioSecure Act in any form remains today unknown and uncertain. And in this context, we are not willing to speculate and not prepared to determine the magnitude and the timing of any potential impact on our business. It means that there is no Bayer Secure Act top line impact in our guidance today. You want to add something on that, Philippe? No, the Bayer Secure Act is clear. We don't want to speculate on something which is still highly uncertain and highly speculative.

No, I can say a few words on Vacaville, if you want. Sure, yeah. So, Max, as you rightly say, I think Vacaville is a large-scale facility. And as we were going through the due diligence process, of course, we were looking at the pipeline of opportunities that we have visibility on. And this made us confident that there's enough demand in the market for us to ultimately utilize the site. And so, you know, we're not necessarily looking at stealing business away from others, but we have now capacity that will be available as soon as we close the deal, we have capacity that we know is working and is able to produce high-quality drugs in the U.S. And so this is a big selling proposition that we have once we close the deal. Now, the Vacavio side is not per se designed to replace small-scale work that may have been done by Bushi, but that's not really a point that we need to discuss now.

The next question comes from Falco Friedrichs from Deutsche Bank. Please go ahead.

Thank you. Good afternoon. My question is on your visibility on the phasing between Q1 and Q2 in biologics. What gives you the confidence and certainty that this doesn't get pushed out further into the third quarter and then we might all of the sudden be sitting here and looking at a much weaker H1 versus H2 and a much more back-end loaded guidance? So anything you can give us on your visibility would be super helpful. Thank you.

Thank you. I can only qualify that we have a very good visibility because it is on contract deliveries in both biologics and small molecules. So we feel confident with our qualitative statement, which we don't want and can't quantify today, but we feel confident with what we are saying between Q1 and Q2 and H1 and H2 because of this excellent visibility in our contract deliveries.

The next question is a follow-up from Charles Pittman from Barclays. Please go ahead.

Hi, thanks so much for taking my second question. I just wanted to pick up on something you said earlier, talking about trying to expand your product offering to improve your offering to the clinical market. And just wonder if you could expand on that a little bit, whether or not that requires any further M&A. Would that be of interest to you? Thanks.

At the moment, we are not on an M&A trip. We always said that the acquisition will be bolt-on type acquisition and we want to buy rather technology, IP than big businesses. The exception maybe was Bacarville, which is still to some extent a bolt-on acquisition, but we have no plan for any new bolt-on type of acquisition in the very near future. Okay, thanks.

Also, the next one is a follow-up from Thibault Bouterin from Morgan Stanley. Please, go ahead.

Yeah, thank you. Just a general question on the clinical capacity in the industry. You closed two of your manufacturing sites, one in China, one in the US, focused on clinical manufacturing. Just wanted to know if you are seeing similar efforts in the industry in terms of capacity normalization, which could improve utilization in the long term, or if if you're not really seeing a decline in overall capacity for clinical assets in the industry?

We have not seen officially at least the same trend in the market. There is not a trend to eliminate capacities in the market. I'm not aware of that. We decided to do this because these two plants were not productive enough, were not efficient enough, were not enough, and we have enough capacities to substitute the closer of these two plants. But in the industry, we haven't seen a trend for eliminating capacities. Thank you.

The next question comes from Gary Stevenson from BNP Paribas. Please go ahead.

Hi. Thanks for taking the follow-up. Just on biotech funding and the recovery that you're seeing, can you just talk here perhaps to your expectations in terms of the pace of recovery in 2024. I think, you know, your full year guidance for full year 23, you mentioned you expected the rebound more in 2025 and that there was no rebound assumed in the 2024 guidance. Earlier on, I think you mentioned a six to nine month time lag for any improvement to flow through to sales. So, you know, that could slip into the end of this year. So just how you're thinking about the potential for any contribution from a recovery and early stage funding to slip into that 2024 guidance.

Thank you for the question. Funding environment has improved or started to improve in Q4 2023 and continued to improve in Q1 2024 with a very high level of funding at around 23 billion US dollars in Q1 2024. Nevertheless, we see that biotech customers are more cautious about spending their cash at hand and we should not forget that there is a delay of six to nine months between funding and any impact on our business and on our revenues. And please let me remind you that we generate around 70% of our total CDMO sales from commercial deals. Said differently, we'll not see any positive impact on our revenues before Q4 2024. But the funding environment is improving significantly.

The next question comes from Charlie Haywood from Bank of America. Please go ahead.

Thank you, Charlie Haywood, Bank of America. At your CMD, you guided for a biologics EBITDA midterm margin of over 35%, which wasn't updated on your Vacaville acquisition announcement. Given that that site is expected to be dilutive to your core EBITDA margin over the midterm period, are you still confident in achieving that 35%? Philippe?

Yeah, thank you, Charlie, for the question. So again, as we said during the call, we have not yet guided more specifically on Vacaville. We gave you the overall view that we were keeping the group margin guidance for 2028, which basically translates to Vacaville being plus minus neutral at this point in time. So that's as much as I can say for now. And once we close the deal and once we own the assets, we will be able to guide the market much more properly.

We have a follow-up question from Vinit Agarwal from Citi. Please go ahead.

Yeah, thanks for taking my follow-up. Just had a quick question on the new business or contracts. Last year, I think you signed new long-term contracts which would slice the annual average of preceding three years. Can you comment on how the new business links are tracking to date and what sort of backlog you have at the moment?

I must confess I didn't get it correctly, this answer.

Yeah, so we need, as we stated, we basically signed 10 billion worth of business last year in biologics and a billion in small molecules. This was significantly ahead of what we've done on average over the last three years. Now, contracting continues, but these size of deals don't happen on a regular basis. So, yes, we're happy with the contracting. It's going on, but we are not sharing this number on a quarterly basis. we're happy to give you an update once we complete 2024 and then second i think backlog is not something that we we use as a communication metric thank you the next question is a follow-up from max schmock from william blur please go ahead i just wanted to follow up on an earlier question around the weakness in q1 wondering if there's

any breakdown or just a rough high-level overview of how much of the shortfall is due to phasing and biologics and small molecules versus, and these issues obviously have high visibility into normalized and moving forward, versus how much of that was due to software demand unrelated to timing issues. And then in terms of your midterm guide, you took it up in April after the software Q1. So can you help us understand the thought process behind results being below expectations yet having enough conviction to take up your outlook through 2028? Thank you.

On the softness, we are in a qualitative goal, and we will not quantify these weaknesses versus the previous quarters. I repeat it, that there were phasing of commercial batches between Q4, Q1, and Q2, and they are affecting mainly Q1 2024 to the benefits of Q4 23 and Q2 24. Bioscience, as we said, it was weaker than expected, mainly the media business, because of softness in biotech funding, but we are not prepared and willing to quantify that. Thank you for the question, and now we take the last question.

The last question for today's call comes from Stefan Bull from Odoo. Please go ahead.

Yeah, thanks a lot. It's one on the leverage. So with the acquisition of the capacity from Roche and the related issuance of your 1 billion euro bond, your leverage increased quite somewhat. So what does this mean for further allocation to shareholders beyond the current share buyback program?

Philipp, you want to try the answer?

Sure. Thanks, Stefan. So we mentioned that even with the acquisition, of Vacavir, we would stay committed to our triple B plus rating. And so, you know, that range is basically between two and three times, up to three times leverage. So, you know, I think we believe we have the plans to stay well within that guidance.

Thank you for your participation. Thank you for your questions. Looking forward to talking to you soon again on July the 25th for H1 results.

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