Elanco Animal Health Incorporated

Good day, everyone, and thank you for standing by. I would like to welcome everyone to the Elanco Animal Help Q2 earnings call. All lines have been placed on mute to prevent any background noise. After the speaker's remarks, there will be a question and answer session. If you would like to ask a question during this time, simply press star, then the number one on your telephone keypad. If you would like to withdraw your question, press the pound key. Thank you. I will now let the turn the call over to your host, Jim Griffey. Please go ahead, sir.

Thanks, Adrienne. Good morning. Thank you for joining us for Alanko Animal Health's Q2 2020 earnings call. I'm Jim Griffey, head of investor relations. Joining me on today's call are Jeff Simmons, our president and chief executive officer, Todd Young, our chief financial officer, Katie Grissom from investor relations, and Tiffany Kanega, who will be the new head of investor relations as I return to Lilly at the end of August. As always, during this conference call, we anticipate making projections and forward-looking statements based on our current expectations. Our actual results could differ materially due to a number of factors, including those listed on slide two and those outlined in our latest forms, 10-K and 10-Q, filed with the Securities and Exchange Commission. The information we provide about our products and pipeline is for the benefit of the investment community. It's not intended to be promotional and is not sufficient for prescribing decisions. You can find our press release, the slides referenced on this call, and an investor workbook in the investor section of elanco.com. The slides and the press release also contain further information about the non-GAAP financial measures that we will discuss during today's call. After our prepared remarks, we'll be happy to take your questions. I'll now turn the call over to Jeff to provide the highlights.

Thanks, Jim. Good morning, everyone. COVID-19 has impacted all of us in ways we never could have imagined. In an environment that is rapidly changing, I'm encouraged by the resilience, the dedication and creativity of our employees and our customers in order to focus on the health and the well-being of animals. Despite these unprecedented times, Elanco has maintained a disciplined focus on our long-term strategy and execution to control what we can control. We made tough decisions across the business that are ultimately yielding results through better competitive positioning and greater financial flexibility. Specifically, over the last quarter, we completed the inventory reduction, reducing the $100 million in line with the $80 to $100 million expectation we shared on our first quarter call. We delivered 2% price growth across our portfolio with all categories positive. We reaccelerated the growth of our portfolio of newly launched or acquired products to 14%, and growing or maintaining market share for our key companion animal products in this group. We improved receivable terms and managed discretionary operating expenses. And finally, we completed all necessary activities to close the Bayer transactions. These are all important factors that will set up Elanco for success as we move into the next era for our company joining with Bayer Animal Health. I'd like to start by walking through the key factors impacting our revenue performance for the quarter. First, the channel inventory reduction was the most significant driver of the overall year-on-year revenue decline in the second quarter. We completed our efforts on this front. working in collaboration with our distributor partners to determine the minimum amount of inventory necessary to ensure adequate stock and flexibility in order to maintain strong service levels for end customers around the world. The impact in the quarter was roughly 100 million, with about 45 million coming from U.S. companion animal, about 45 million from U.S. food animal, and about 10 million from international business. While there will always be the possibility for channel adjustments for individual products, we do not anticipate further reductions in overall channel inventory levels. Our relationship with distributor partners remains very strong and mutually beneficial after the changes we've implemented, and we are pleased with the increased level of focus generated by the consolidations. We have maintained our weekly scorecard and monthly CEO meetings with our four U.S. companion animal distributors, and they continue to deliver on key logistics and service-related metrics. We are realizing a range of benefits from the streamlined structure, spanning receivables, cash conversion, pricing, margin, and market share. Importantly, Nearly all the expected volume from our four rationalized distributors has been converted to our four retained distributors. The limited volume loss, only about 1% of our total U.S. campaign animal business, was well within our business case expectations and was more than offset by margin recapture, which we repurposed to support internal demand generation efforts. In the second quarter, Elanco outgrew the U.S. flea tick heartworm market overall, increasing our market share in this competitive space based on kinetic dispensing data. Our internal demand generation efforts, paired with the valuable capabilities of our distributor partners, like home delivery, e-commerce platforms, pet owner engagement, and digital marketing tools, they are working. And our commercial competitiveness has been enhanced, since the decision to focus our distributor relationships. As anticipated, COVID-19 also had a meaningful impact on our global business in the second quarter, representing by our estimate an approximate 75 to 85 million headwind based on changes as compared to our underlying business trends. The majority of the pandemic headwind was felt in our global food animal business. as processing plant closures, reduced food service demand, and pressured producer economics impacted all three major species. U.S. cattle and swine processing capacity was reportedly down nearly 40% in May. This decline slowed the movement of cattle into feed yards and created significant uncertainty around the timing of processing, which in turn reduced the opportunity for producers to maximize the use of our products. impacting several key Elanco brands. For swine, producers implemented no-grow diets as pigs waited for slots in pressured processing plants and profitability waned. As we moved through June and into July, production capacity rebounded to about 95%. However, a sizable backlog of cows and pigs remains that likely won't be resolved until the end of 2020, extending this period of volatility into the next few quarters. In poultry, international markets experience pressure from reduced demand, most notably in food service, and that pressure price. We continue to expect medium-term benefit for poultry, as a result of economic pressures facing consumers and the likely trade-down from them to this lower-cost protein option. On the companion animal side, brands administered in the clinic, notably vaccines and international markets, were most affected by the pandemic in the second quarter. In the U.S., traffic in veterinary clinics significantly decreased in the second half of March and into April. Wellness visits, those that include vaccines, were most severely impacted, with revenue from those visits down nearly 40% at the lowest point. However, as we moved through April and into May, wellness visits improved with a V-shaped trajectory, and clinic revenue reached double-digit year-over-year growth by the end of June. As clinics process the pent-up demand for vaccines and restock their fridges, we posted our strongest single month of vaccine EDI sales in June. Outside of vaccines and other brands administered in the clinic, our assessment suggests that trends around the majority of our parasiticide portfolio and also galoprant were not meaningful impacted by the pandemic. Internationally, vet clinic traffic remained depressed throughout the quarter, reducing sales of products across the portfolio. Reopening and recovery are occurring at different rates across the world, but we saw promising early indications in some markets in June, notably in Europe. We believe the second quarter represents the most profound impact for both companion animals and livestock as related to COVID this year. While we do expect sequential improvement in the coming quarters, we caution that the headwinds from the pandemic, particularly in livestock, will likely persist through the balance of 2020. Now, bringing it back to our value creation strategy, our innovation, portfolio, and productivity approach that continues to drive our performance and deliver results. We are in execution mode, and we are delivering. On the innovation front, our 14 products launched or acquired since 2015 grew 14%. This is a strong rebound from the decline we saw in the first quarter and can be seen on slide 15. Earlier in July, we received a positive opinion in Europe for INCREXA, a generic product for the treatment of bovine and swine respiratory disease. We see this injectable antibiotic as a strong addition to our cattle and swine portfolios. we remain on track to deliver at least five launch equivalents by the end of 2021 from Legacy Elanco. As we look at portfolio, let me share some details on the underlying performance in each of the key areas of our business. Starting with our U.S. companion animal business, we are focused on underlying demand. and as the outbound sales of our products into vet clinics and alternative channels, what we call EDI sales. They have been growing mid-single digits over the last year. This trend continued into the second quarter, with June being our highest EDI month ever. While the month incorporated some pent-up demand from April and May for vaccines, June was strong across the portfolio. Vet Clinic dispensing data from Kinetic provides insight about the strength of our products with end users. Credelio continues to gain market share in the U.S. flea, tick, heartworm market, surpassing two brands since the beginning of the year in both dollars and volume. Additionally, we believe our messaging and promotion around the benefits of using Interceptor Plus and Credelio together for the broadest overall parasiticide coverage continues to gain traction. As a leading indicator, kinetic data shows that year-to-date through June, in instances where Interceptor Plus is sold with a flea and tick solution, it is sold with Credelio 43% of the time. This is a 73% improvement compared to the same time last year. Additionally, June was the highest EDI month ever for Credelio. Moving to pain, Galapran is outpacing the branded market for both new pet acquisition and dollar growth on a year-to-date basis compared to last year. Finally, and outside the vet channels in the U.S., our parasiticide and pain products collectively grew 28% in the second quarter, primarily driven by continued e-commerce expansion, outgrowing the market, and gaining interest. share again this quarter. Next, our US food animal business was significantly impacted by the channel inventory reduction and COVID related pressure on animal protein production. In addition to the competitive and environmental pressures in 2020 that we've shared previously. Coming into the second quarter, our US food animal business had experienced flat to slightly negative EDI over the last 12 months. The pandemic created a distinct impact in the quarter, causing a deviation from that trend line. Aside from COVID, our strategy to maximize Remenson sales remains intact. Leveraging our strong portfolio and value strategy, we are ahead of our initial expectations for value retention 12 months after generic approval. Remenson's meaningful therapeutic differences have minimized the number of customers willing to switch to the generic. While we anticipate a reduction in cattle head days in the second half of the year, we remain confident in our ability to maintain dosing levels and share within the expected range. Finally, in our international business, we continue to see underlying growth, excluding the reduction of channel inventory and COVID-related demand impacts. Crudelio and Gallopran expansion drove growth in companion animal overseas, While in food animal, aqua, poultry, and our swine portfolio in China continue to perform. Although pressure from African swine fever persists in China, we're encouraged by the repopulation efforts of large industrialized farms. As a lead indicator, Elanco China in the first half of 2020 outgrew the first half of 2018. This is driven by our portfolio that provides important tools for producers to maximize the opportunity they're seeing with higher value pigs, higher pig values. On productivity, we exercised discipline across operating expense and cash management in the quarter, and we improved working capital. This discipline is an important point of emphasis across all parts of our organization. In the second quarter, our manufacturing productivity efforts, along with price, provided about 300 basis points of benefit to gross margin. And finally, I'd like to provide an update on the Bayer acquisition as we prepare to close in the coming days. Since our last earnings call, we've received antitrust clearances and regulatory approvals for the transaction and divestitures in all necessary jurisdictions. We're pleased with the complementary nature of the retained combined portfolio with divestitures in line with previous communications and consistent with the business case established for the deal. Additionally, we've announced the second level of senior leadership, a key next step to being ready to operate on day one. Finally, internal value capture targets have been established and plans are already underway towards achievement. Let me summarize. Clearly, our sales in the quarter have been impacted by, one, the reduction in channel inventory, and, two, the effects of COVID on the business. However, I remain encouraged by the underlying demand for our products, the good traction that we're seeing, and our strategy to enhance commercial competitiveness in sales, marketing, and our distribution partnerships, as well as the overall organizational discipline that and its execution across the company, all of which are setting the stage for a successful integration of Bayer Animal Health. Now I'll turn the call over to Todd to provide more color on our results as well as the outlook.