Phibro Animal Health Corporation

Good morning. My name is Chantal and I'll be your conference operator today. At this time, I would like to welcome everyone to the Fibro Animal Health Corporation third quarter 2022 conference call. As a reminder, today's conference call is being recorded. All lines have been placed on mute to prevent any background noise. After your speech remarks, there'll be a question and answer session. If you'd like to ask a question during this time, simply press star followed by the number one on your telephone keypad. If you would like to withdraw your question, please press star one again. Financial Officer, you may begin your conference.

Thank you, Chantal. Good morning and welcome to the Fibro Animal Health Corporation earnings call for our fiscal third quarter ended March 31st, 2022. My name is Damian Finio and I am the Chief Financial Officer of Fibro Animal Health Corporation. I'm joined on today's call by Jack Benheim, Fibro's Chairman, President and Chief Executive Officer, and Daniel Benheim, Director and Executive Vice President of Corporate Strategy. Today, we will cover financial performance for our third quarter, as well as revised financial guidance for our fiscal year ending June 30th, 2022. At the conclusion of our opening remarks, we will open the lines for questions. I'd like to remind you that we are providing a simultaneous webcast of this call on our website, pahc.com. Also on the investor section of our website, you will find copies of the earnings press release and third quarter Form 10Q filed with the SEC yesterday, as well as the transcripts and slides discussed and presented on this call. Our remarks today will include forward-looking statements, and actual results could differ materially from those projections. For a list and description of certain factors that could cause results to differ, I refer you to the forward-looking statements section in our earnings press release. Our remarks include references to certain financial measures which were not prepared in accordance with generally accepted accounting principles or U.S. GAAP. I refer you to the non-GAAP financial information section in our earnings press release for a discussion of these measures. Reconciliations of these non-GAAP financial measures to the most directly comparable U.S. GAAP measures are included in the financial tables that accompany the earnings press release. We present our results on a GAAP basis and on an adjusted basis. Our adjusted results exclude acquisition-related items, unusual non-operational or non-recurring items, including stock-based compensation and restructuring costs. Other income and expense are separately reported in the consolidated statements of operations, including foreign currency gains and losses net. And lastly, income tax effects related to pre-tax adjustments and unusual or non-recurring income tax items. Now, let me introduce our chairman, president, and chief executive officer, Jack Benheim, to share his opening remarks, which will include his perspective on Fibro's third quarter financial performance and revised financial guidance for our fiscal year 2022.

Jack? Thank you, Damian, and good morning, everyone. Our fiscal year-to-date sales reflect year-over-year growth of 12%, driven by double-digit sales growth across all segments. Consolidated sales growth was given by a 10% improvement in our core animal health segment. We also posted sales growth of 16% and 12% in our mineral nutrition and performance product segments, respectively. Sales in these two segments correlated with the underlying cost of materials such as copper, and we've seen the benefits of higher prices in our top line. Third quarter sales grew 13% over the same quarter one year ago, driven by growth across all segments as well. During the quarter, we also acquired a business that provides product and services chiefly to the sugar-based ethanol industry in Brazil. We see this acquisition a chance to replicate the success we have had in the U.S. industry in providing products and services for both the production of ethanol and its co-products, many of which are consumed by livestock. Perform information giving effect to the acquisition is not provided because the results are not material to the consolidated financial statements, but the acquisition report is part of our animal health MFA and other product category. While our business is strong, macroeconomic headwinds persist. The Russian conflict with Ukraine and lingering impact with COVID-19 in some markets where we compete, specifically Asia Pacific, are driving higher than anticipated inflation. It could result in broader economic impacts and security concerns, which could adversely affect our business. Since the conference began, our company employees have provided support to Ukraine in the form of monetary donations, free product, and humanitarian services. We sell products indirectly to a European distributor in Russia. These sales represent less than 1% of our annual consolidated sales. Like most of our industry, our limited intent for the Russian market is to continue providing medicines and vaccines and on-the-ground related regulatory and technical support to help existing customers combat disease challenges in the production of food animals on their farms. We have no production or direct distribution operations and no planned investments in Russia. On a year-to-year basis, net sales in our Europe, Middle East, and African regions represent 13% of consolidated net sales. Obviously, COVID is still a wild card in certain regions, such as Asia Pacific. On a year-to-year basis, net sales in our Asia Pacific region represent 7% of consolidated net sales. Our top-line growth includes the fact that we have taken price increases to combat historic levels of inflation. These price increases and freight surcharges partially dampened the impact of cost increases. But our third-quarter bottom line also fell short of our projections due to COVID-related challenges with the key supplier that led to delayed sales and cost for your shipments. as well as the lost portion of our indirect sales to Russia due to the conflict. The combined impact of these factors explains why we did not see the benefits of better pricing dropping to the bottom line. The supplier issue is getting behind us while the Russian challenge continues. So to drive profitable growth, we will continue to take aggressive actions to raise prices where normal competitive conditions allow. For these reasons, we are expecting improvement in our fiscal fourth quarter. We raised sales guidance and retained previous communicated just-evened guidance for the full year. Given year-to-date performance, revised full-year sales guidance is $930 million to $950 million, which is a projected year-over-year increase of 12% to 14%. However, given the aforementioned challenges, uncertainty persists, and therefore we are maintaining our fully adjusted EBITDA guidance, $110 to $114 million. Overall, our industry is dealing with a challenging economic environment, and I'm very proud of what our teams here at FIFO have accomplished to help us maintain our competitiveness. With that, let me hand it over to Damien to review our financial performance in more detail before opening the lines for your questions. Damien.

Thank you, Jack. I will start with consolidated financial performance on slide four, then cover segment-level performance, key balance sheet metrics, and conclude with a review of our revised financial guidance for the full year 2022. Consolidated net sales for the quarter ended March 31st, 2022, were $239.6 million, reflecting a 27.9 million, or 13% increase, over the same quarter one year ago. This increase was driven by improvements across all reportable business segments, major product categories, and geographic regions. Gap-based net income and diluted earnings per share increased 45% and 47% respectively versus the same quarter one year ago. The net income increase and resulting diluted earnings per share increase were driven by stronger volumes and selling prices driving higher gross profits. a $10 million increase in foreign currency gains offset by a $3.5 million increase in income tax expense and higher SGA expenses. Although we reported a foreign currency gain again this quarter, volatility in foreign currency exchange rates continues. For Fibro, the impact is primarily driven by the effect of translating intercompany balances to the U.S. dollar for reporting purposes at the end of a reporting period. After making our standard adjustments to GAAP results, including acquisition-related items, foreign currency movements, and one-offs, third quarter adjusted EBITDA was comparable to the prior year's quarter. Included in the calculation of adjusted EBITDA is higher gross profit in our mineral nutrition business segment, offset by lower gross profits in our animal health segment, and a slight increase in corporate expenses. Adjusted net income and adjusted diluted earnings per share declined 4% and 3% respectively due to the increases in employee-related and technology-related costs, partially offset by higher gross profit driven by an increase in volumes and average selling prices. Moving to segment level financial performance on slide five, I'll start with third quarter financial performance for our largest segment, Animal Health, which includes three product lines, namely MFAs and other, nutritional specialties, and vaccines. The Animal Health segment posted $148.6 million of net sales for the quarter, which represents an increase of $14.2 million, or 11%, versus the same quarter prior year. Within the animal health segment, we reported a 5.8 million or 7% increase in MFAs and other versus the same quarter prior year, driven by increased sales of processing aids used to improve production efficiency in the ethanol fermentation industry. A $4.4 million or 12% growth in nutritional specialties driven by higher demand in dairy and microbial products, as well as increased revenues of our companion animal product, Vigensa. And lastly, a very strong 4 million or 21% improvement in vaccine net sales driven by increased domestic and international volumes. In terms of profitability for the segment, animal health adjusted EBITDA was $29.2 million, a 6% decline from the same quarter prior year in dollar terms, and a 330 basis point decline in adjusted EBITDA margin due to the challenges Jack highlighted in his opening remarks and an increase in SG&A expenses. Moving on to third quarter financial performance for our other business segments on slide six, starting with mineral nutrition, net sales for the third quarter were $69 million, an increase of $10.9 million, or 19%, versus the same quarter prior year, driven by higher average selling prices of trace minerals correlated with the movement of the underlying raw material costs. Mineral Nutrition adjusted EBITDA was $7.3 million, reflecting year-on-year growth of 2.1 million, or 40%, and reflects an improvement in adjusted EBITDA margin of 160 basis points, driven by increased gross profit derived from the higher average selling prices. Looking at our performance product segment, net sales of $22 million for the three months ended March 31, 2022, reflects a $2.8 million, or 15% improvement over the same quarter prior year, as a result of higher volumes of ingredients for personal care products and higher volumes in average selling prices of copper-based products. Adjusted EBITDA was $2.9 million, comparable to the prior period, with a modest decline of 2% and a 230 basis point decline in terms of adjusted EBITDA margins. Lastly, corporate adjusted EBITDA declined 3%, or said differently, corporate expenses increased 3%, driven primarily by increased technology-related costs and the planned and intentional incremental increase in strategic investments. Turning to key capitalization-related metrics on slide 7, free cash flow for the 12-month period ending March 31, 2022, was $1 million and was comprised of operating cash flow of $33 million, less $32 million of capital expenditures. Our gross leverage ratio, calculated by dividing total debt of $417 million by trailing 12-month adjusted EBITDA of $107 million, was 3.9 times at the end of the third quarter. This is a slight increase from last quarter end and driven by an increase in total debt used to fund the ethanol industry-related acquisition in Brazil that we executed in the third quarter. Note, pro forma information giving effect to the acquisition has not been provided because the results are not material to the consolidated financial statements. And in terms of liquidity, we had $216 million available at quarter end. This includes cash and short-term investments of $93 million and $123 million of unused and available revolving credit. The $17 million decline in available revolving credit from last quarter end is, again, related to the aforementioned acquisition. And it's important to note that the accessibility of availing revolving credit is subject to leverage ratio limitations outlined in our loan agreements. Lastly, consistent with the past several quarters, we paid a quarterly dividend of $0.12 per share, or $4.9 million in aggregate. Now that I've had a chance to share our perspective on third quarter actual financial performance, I'd like to shift gears and explain how we're thinking about our fourth quarter and outturn for our full fiscal year ending June 30, 2022. So please turn to slide, Pete. On our February 10th earnings call, we communicated our expectation that adjusted EBITDA margins would improve in the second half of our fiscal year. That was not the case in Q3. What we were unaware of on that call is that just two weeks later, Russia would invade Ukraine and the supply chain and economies that we expected to continue on the road to recovery from the impacts of the pandemic were pushed right back into an environment of uncertainty. Specific to Fibro's third quarter, net sales were stronger than anticipated, but COVID-related protocols limited available staff at one of our key suppliers. The issue is mostly resolved, but the disruption did lead to some delayed sales and costlier shipments for those sales orders that we were able to fulfill. We were also limiting indirect sales to Russia to existing customers of animal health products only, which translated into some lost sales in the third quarter and going forward. The impact of these factors and a bit of unfavorable noise relating to the timing of shipments and product mix explains why we did not see the benefits of better pricing dropping to the bottom line as projected. Given our year-to-date financial performance coupled with historic levels of inflation and persistent macroeconomic headwinds, we raised financial guidance for net sales with no change to adjusted EBITDA guidance. Revised financial guidance assumes price increases subject to normal competitive conditions have been and will continue to go into effect while freight surcharges, where applicable, have been and will continue to be applied. In summary, our revised fiscal year 2022 guidance is as follows. Net sales of $930 to $950 million, which is an increase from the $890 to $920 million last communicated, Adjusted EBITDA at $110 to $114 million, as stated previously, no change there. Adjusted net income of $52.8 to $56.4 million. Adjusted diluted EPS of $1.30 to $1.39 per share. And an adjusted effective tax rate of 26% to 27%, all of which are unchanged and therefore consistent with what we last communicated. These full-year projections on our existing base business imply a fourth quarter projected adjusted EBITDA margin of about 12% to 14%, which would be an improvement over third quarter and year-to-date actual adjusted EBITDA margins of 11.7% and 11.6% respectively. In summary, we're confident and encouraged by the demand for our products reflected in our third quarter and year-to-date top-line growth, And although our price increases have somewhat lagged the cost increases we're facing with materials and distribution, we are also confident in our ability to continue raising prices where competitive conditions allow. Before we open the line for questions, I wanted to highlight that we plan to publish our inaugural economic, social, and governance, or ESG, report shortly. On that day, we will issue a press release, which will provide a link to the publication on our website. This report is the output of a collaborative effort involving our team members around the world, and we are excited to officially be starting our ASG journey and to share our story with you. That concludes our opening remarks, Chantelle. Could you please open the lines for questions?

At this time, I would like to remind everyone, in order to ask a question, press star 1. We'll pause for just a moment to compile the Q&A roster. Again, if you would like to ask a question, press star one. Our first question comes from Michael Riskin with Bank of America. Your line is open.

Hi, this is Wolf Chanoff on for Mike. Thanks for taking the questions. I saw that you noted that sales in Progenza continue to grow in the quarter. Can you give us a bit more color on how things have trended and maybe a high-level outlook for the balance of the year?

So sales for our companion animal product, Regenta, have been very strong. As we had said, I think, on earlier calls, we expected sales in fiscal year 22 to double over fiscal year 21. Our guidance reflects that that will be the case. And we'll get into guidance for fiscal year 23 on our call later in the summer, but we would expect that trend to continue next year as well.

Great, thank you. And then kind of turning to a bit more of a macro topic, can you talk to the effects that you're seeing of drought in the U.S. on your beef and dairy franchises? How should we think about the implications of more cattle and feedlots for the sales of MFAs in the coming year? And is there any sense from customers that this may have a longer-term impact on U.S. herd sizes, or should we be thinking about this as kind of a temporary headwind?

Thanks for the question. As we've stated in the past, Our sales to the U.S. beef industry is sort of limited to the dairy industry. So the effect of the drought in the U.S. is not directly affecting us. There might be some indirect effect for our sales to the beef industry in Brazil and Mexico and Argentina and other markets where we participate in. But what you're reading is happening. I mean, the drought is affecting, it's moving more cattle to feedlots, and the level of slaughter is much higher than it has been in the past.

Thank you very much.

There are no further questions at this time. I'll turn the call back over to Daniel Henio for closing remarks.

Okay. Thank you, Chantal, and thank you, everyone, for listening in on today's call. We appreciate your time, attention, questions, and interest in FibroAnimal Health Corporation. Have a great rest of your day, and let's all hope for a peaceful resolution of the conflict in Ukraine very soon. Thank you.