Church & Dwight Company, Inc.

Good morning, ladies and gentlemen, and welcome to the Church and Dwight Third Quarter 2021 Earnings Conference Call. Before we begin, I have been asked to remind you that on this call, the company's management may make forward-looking statements regarding, among other things, the company's financial objectives and forecasts. These statements are subject to risks and uncertainties and other factors that are described in detail in the company's SEC filings. I would now like to introduce your host for today's call, Mr. Matt Farrell, Chief Executive Officer of Church & Dwight. Please go ahead, sir.

Okay, thanks. Good morning, everyone. Thanks for joining us today. I'll begin with a review of the Q3 results, and then I'll turn the call over to Rick Durker, our CFO. And when Rick is done, we'll open up the call for questions. But before we begin, we would like to recognize all Church & Dwight employees around the world for their continued dedication to keeping our company going, especially our supply chain, and R&D teams, as during this quarter the company faced the complexities of widespread raw material and labor shortages at our suppliers and at our third-party manufacturers. Now let's talk about the results. Q3 was a solid quarter. Reported sales growth was 5.7%. Organic sales growth grew 3.7% and exceeded our 1.5% Q3 outlook. The 3.7% organic growth rate in the quarter is impressive, considering the prior year Q3 2020 organic sales growth was 9.9%. So that's growth on top of growth. The adjusted EPS was $0.80, and that's $0.10 better than our outlook. We grew consumption in 12 of the 16 categories in which we compete, and in some cases on top of big consumption gains last year. Regarding brand performance, five of our brands saw a double-digit consumption growth, and I'll name them for you. Vitamins, Arm & Hammer Cat Litter, Scent Boosters, Batiste, and Zycam. And although many of our brands experienced double-digit consumption growth, it's not all reflected in our 3.7% organic sales growth as shipments were constrained by supply issues. In Q3, online sales as a percentage of total sales was 14.3%. Our online sales increased by 2% year over year. Now, keep in mind, this is on top of 100% growth in e-commerce that we experienced in Q3 2020 versus 2019. And we continue to expect online sales for the full year to be about 15% as a percentage of total sales. Now, as described in the release, Hurricane Ida's impact was substantial. which resulted in limited availability of raw materials and caused our fill levels to continue to be below normal. Labor shortages at suppliers and third-party manufacturers have constrained their ability to produce. Transportation challenges have further contributed to supply problems. Now, the good news is that over the past 18 months, we have made our supply chain more resilient by qualifying dozens of new suppliers and co-packers which provides, of course, both short-term and long-term benefits. And in a few minutes, Rick will tell you about our plans to expand capacity in 2022 with a significant increase in CapEx next year to support our growth plans. Now, due to a lower than normal case fill rate, we pulled back on Q3 marketing compared to the prior year, and we expect the supply issues to begin to abate in the first half of 2022. Our biggest issue is widespread demand. Inflation. We're dealing with significant inflation of raw and packaging materials, labor, transportation, and component costs, which is compressing our gross margin. These conditions are expected to continue well into 2022, and Rick will cover gross margin in his remarks in a few minutes. On past earnings calls, we described how we expected categories to perform in 2021. Overall, our full-year thinking is generally consistent. Just to name a few categories, demand for vitamins, laundry additives, and cat litter has remained elevated in 2021. The condoms, dry shampoo, and water flosser categories have recovered and are experiencing year-over-year growth as society opens up and consumers have greater mobility. Baking soda and oral analgesics have declined from COVID highs as expected. So now I'm going to talk about each business. First up is consumer domestic. So the consumer domestic business grew organic sales 2.8%, and this is on top of 10.7% organic growth in Q3 2020. Looking at market shares in Q3, six of our 13 power brands gained share, and our share results are clearly impacted by our supply issues. I'll comment on a few of the brands right now. VitaFusion gummy vitamins saw huge consumption growth in Q3, up 24%. Consumers have made health and wellness a priority. it appears that the new consumers that came into the category are staying. Because if we look at the last year, VitaFusion household penetration is up almost 10%. Batiste dry shampoo grew consumption 36% in the quarter and grew share to over 40%, first time that's happened. Dry shampoo is recovering as stores have reopened and consumers are becoming more mobile. Next up is Waterpik. Waterpik consumption declined in the quarter, due to the year-over-year timing of a major online retailer sales event. But the good news is that Waterpik continues to have strong consumption year-to-date and continues to benefit from the heightened consumer focus on health and wellness. In household products, Arm & Hammer Liquid Laundry held share despite leading with price. Arm & Hammer Scent Boosters continued to gain share. Going the other way was unit dose share, which declined due to supply issues. The good news in unit dose is that we are now self-reliant with reliable in-house production. And also in household products, Arm & Hammer cat litter grew consumption 11% while gaining 50 basis points of market share. Next up is international. Despite disruptions due to COVID, our international business came through with 2.3% organic growth, primarily driven by strong growth in the global markets group. Asia continues to be a strong growth engine for us, Sterimar, FemFresh, VitaFusion, and Little Critters led the growth for the international business. Now the next one is Specialty Products. Our Specialty Products business delivered a very strong quarter with 18.5% organic growth, but this was on an easy comp. The prior year quarterly organic growth for Specialty Products was actually down 3.4%, so 18.5% is a really nice rebound. And this was driven by both higher pricing and volume. Milk prices remain stable and demand is high for our nutritional supplements. Now let's talk about pricing. In response to the rising costs, we have already taken pricing actions in 50% of our portfolio, effective July 1 and October 1. The volume elasticities have been slightly better than expected since the July price increases. We will be announcing pricing actions effective Q1 2022 and on an additional 30% of the portfolio. That means that as of Q1 2022, we expect to have raised price on approximately 80% of our global portfolio of brands. Due to our expectation of incremental cost increases, we continue to analyze additional pricing actions that can be put in place next year in 2022. Now let's turn to the outlook. Significant inflation of material and component costs and co-packer costs impacted our gross margin in Q3. Looking forward, we expect input costs and transportation costs to remain elevated in Q4, and we expect significant incremental cost increases in 2022. Our EPS expectations are unchanged. We expect adjusted EPS growth of 6% this year. It's important to remember that we are comping 15% EPS growth in 2020. We expect full-year reported sales growth of 5.5% with 4% full-year organic sales growth. It's also important to call out that we are committed to maintaining the long-term health of our brands by ensuring a healthy level of marketing investment in Q4 and in 2022. As many of you know, we typically target 11% to 12% marketing spend. Q3 was 12.3%, and we expect Q4 to be approximately 13%. Just to wrap things up, October consumption continues to be strong. We're navigating through significant supply challenges and cost inflation. We expect our portfolio brands to do well both in good and bad times and in uncertain economic times such as now. We have a strong balance sheet, and we continue to hunt for TSR accretive businesses. And next up is Rick to give you more details on Q3.

Thank you, Matt, and good morning, everybody. We'll start with EPS. Third quarter adjusted EPS, which excludes the positive earn-out adjustments, was $0.80, up 14.3% the prior year. We don't expect any further adjustments to the earn-out. The $0.80 was better than our $0.70 outlook, primarily due to continued strong consumer demand and higher than expected sales, as well as lower incentive comp and lower marketing spend as supply chain shortages were impacting customer fill rates. We also overcame a higher tax rate year over year. Reported revenue was up 5.7%, and organic sales were up 3.7%. Matt covered the details of the top line. I'll jump right into gross margin. Our third quarter gross margin was 44.2%. A 130 basis point decrease from a year ago. This was below our previous outlook of expansion as we faced incremental pressure from the effect of Hurricane Ida on material costs and distribution. Gross margin was impacted by 500 basis points of higher manufacturing costs, primarily related to commodities distribution and labor. Tariff costs negatively impacted gross margin by an additional 40 basis points. These costs were partially offset by a positive 250 basis point impact from price volume mix and a positive 120 basis point impact from productivity. Moving to marketing. Marketing was down $10 million year over year as we lowered spend to reduce demand until fill rates could recover. Marketing expense, that's percentage of net sales, was healthy at 12.3%. For SG&A, Q3 adjusted SG&A decreased 180 basis points year over year with lower legal costs and lower incentive comp. Other expense all in was $12.1 million, a slight decline due to lower interest expense from lower interest rates. And for income tax, our effective rate for the quarter was 20.4% compared to 17.3% in 2020, an increase of 310 basis points primarily driven by lower stock option exercises. We continue to expect the full year rate to be 23%. And now to cash. For the first nine months of 2021, cash from operating activities decreased 18% to $653 million due to higher cash earnings being offset by an increase in working capital. We continue to expect cash from operations to be approximately $950 million for the full year. As of September 30th, cash on hand was $180 million. Our full-year CapEx plan is now $120 million, down from the original $180 million in the outlook due to project timing. This CapEx moves out a year, and we now expect CapEx in 2022 to exceed $200 million. The future is bright as we continue to expand manufacturing and distribution capacity, primarily focused on laundry, litter, and vitamins. On October 28th, the Board of Directors authorized a new stock repurchase program up to $1 billion. As you read in the release, this is a sign of our confidence in the company's future performance and the expectations of our robust cash flow generation. Our number one priority for capital allocation remains acquisitions, and given our low leverage ratios, we have confidence to do both. Through October, we purchased approximately $130 million worth of shares, and in Q4, we will likely get ahead of our 2022 planned purchases as well. And now for the full year outlook. We now expect the full year 2021 reported sales growth to be approximately 5.5%, and organic sales growth to be approximately 4%. Our consumption is strong and outpacing shipments. We expect our customer fill levels to improve throughout Q4. Turning to gross margin, we now expect full-year gross margin to be down 170 basis points, previously down 75 basis points. This represents an incremental impact from our last guidance due to broad-based inflation on RAS and transportation costs that was exacerbated by Hurricane Ida. In our prior outlook, we had discussed $125 million of higher costs versus our plan, That number today is 170 million, and the majority of that increase in the last 90 days relates to transportation, labor, and other increases. As a reminder, we priced to protect gross profit dollars, not necessarily margin. The $45 million movement versus our previous outlook is primarily non-commodity related. Commodity spot pricing today is elevated compared to spot pricing just three months ago, and now for the full year. We expect adjusted EPS to be 6%. Our brands continue to go from strength to strength as strong consumption and organic sales growth lapped almost 10% organic growth a year ago. And while inflation is broad-based, we have taken price and actions to mitigate, which gives us confidence over the long term. For our Q4 outlook, we expect reported sales growth of approximately 3%. We expect organic sales growth of approximately 2% due to the supply chain constraints and our SBD business to return to a more normal growth rate. Adjusted EPS is expected to be 61 cents per share, up 15% from last year's adjusted EPS. And with that, Matt and I would be happy to take any questions.