Elanco Animal Health Incorporated

Good morning and welcome to Elanco Animal Health's first quarter 2023 earnings call. All participants are in a listen-only mode. After the speaker's presentation, we will conduct a question and answer session. To ask a question, you'll need to press star, follow the number one on your telephone keypad. As a reminder, this conference is being recorded. I would now like to turn the call over to Katie Grissom, Head of Investor Relations. Thank you. Please go ahead.

Good morning. Thank you for joining us for Elanco Animal Health's first quarter 2023 earnings call. I'm Katie Grissom, 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, and Scott Perucker from investor relations. The slides referenced during this call are available on the investor relations section of elanco.com. Today's discussion will include forward-looking statements. These statements are based on our current assumptions and expectations and are subject to risks and uncertainties that could cause actual results to differ materially from our forecast. For more information, see the risk factors discussed in today's earnings press release, as well as our latest Form 10-K and 10-Q filed with the SEC. We do not undertake any duty to update any forward-looking statement. Our remarks today will focus on non-GAAP financial measures. Reconciliations of these non-GAAP measures are included in the appendix of today's slides and in the earnings press release. After our prepared remarks, we'll be happy to take your questions. I'll now turn the call over to Jeff.

Thanks, Katie. Good morning, everyone. As we open 2023, we're encouraged by our improving business results this quarter. We saw sequential improvement in many leading indicators of underlying demand and easing environmental factors that pressured our business in 2022. While we expect macro factors to persist, Elanco is making the necessary disciplined decisions to stabilize the business and progress our innovation pipeline, while focusing on improving our cash flow generation and returning to constant currency sales growth in the second half of this year. Beginning on slide four, this year is off to an encouraging start. Improvement in our underlying business, notably in pet health, increases our confidence in the outlook for the first half and full year of 2023, allowing us to raise the bottom end of the guidance range for our key metrics. We progressed important operational and pipeline milestones and reduced uncertainty in key areas, including the completion of the Bayer ERP system integration and the positive collaboration and progress with the EPA on Soresto. The pipeline continued to advance with conditional approval of our parvovirus product and initial submission of our IL-31 monoclonal antibody for dermatology. Overall, our pipeline is in an even better position than it was just two months ago. Additionally, we remain confident in our liquidity and the business's ability to generate cash throughout the year. While our operating cash flow was seasonally lower in the first quarter, we continue to expect improvement throughout the year, leading to approximately $100 million of cash available for debt pay down this year. We remain confident in our position relative to our financial debt covenants and our ability to reduce debt and leverage over time. Finally, while our executive leadership and global team remain committed to near-term delivery, we're also actively planning for the expected launches of our potential blockbuster innovation. At the end of the call, I will share some considerations for our encouraging yet balanced outlook as we expect to see an inflection point in 2024 as we receive approvals and begin launching our potential blockbusters. Moving to slide five. In the first quarter, Elanco delivered revenue of $1.257 billion, a reported growth of 3%, and constant currency growth of 6%. In April, we completed our global systems integration, bringing the legacy global Bayer animal health business into the Elanco ERP environment. As a part of our system cutover preparation, we proactively communicated to our customers our expectations of a two to four week shipping blackout periods for Legacy Bear Animal Health products that would occur in April. Our February guidance assumed that customers would likely shift purchases of Legacy Bear products from the second quarter into the first quarter to ensure continuity of supply in the market. Our best estimate, based on our results, analysis of individual markets, and customer conversations, results in a benefit from the ERP blackout in the range of $90 to $110 million, or a 7 to 9 percentage point benefit to growth. Excluding the ERP blackout, revenue performance in the first quarter was largely in line with our expectations and represents a sequential improvement for both pet health and farm animal compared to our fourth quarter, 2022. In pet health, the U.S. market remains strong overall. despite the continued low single-digit declines in U.S. vet clinic visits. Excluding the benefit from the ERP blackout, our pet health business was approximately flat, representing an improvement from the high single-digit and low double-digit declines we reported over the last several quarters. Bobby Mody, our Executive Vice President of U.S. Pet Health, and his team have refined the strategy and improved execution in our largest and highest margin business area, leading to improved performance in four key areas, share of voice, physical availability, pricing, and innovation. We have increased our share of voice in three ways. We are driving more efficient and targeted conversations with clinics through digital tools, leveraging innovation to gain more mind share from vets, and adding inside sales reps to provide broader and more frequent engagement with Elanco. As an example of our expanding digital efforts total touch points with that care professionals was up 15% year over year in the first quarter, resulting in greater and faster clinic lead generation. Next we're expanding physical availability of our products more total distribution points across retailers and clinic shelves more meaningful locations in stores and new channels contributing to improve dispensing across our portfolio. In the first quarter, we expanded total distribution points for our retail portfolio by 17%, which contributed to the U.S. Seresto and Advantage family growth in the quarter. Regarding price, we significantly upgraded our capabilities in this space. We're taking a disciplined approach to maximizing revenue via list price increases and trade promotion optimization. U.S. pet health grew price more in the first quarter than any quarter in the last year, which contributed to the global pet health price growth of 5%. Finally, we're capturing additional sales from innovation and product refreshes with six products approved or launched in U.S. pet health the last six months as we are building a launch excellent muscle through improved capabilities. Our retail category management efforts on the Advantage family are driving higher velocity and lower cannibalization than we expected for our value-oriented relaunch of canine Advantix. Overall, in the first quarter, we believe these actions help the U.S. pet health business to outpace the overall category in OTC dispensing and drive year-over-year growth in Elanco Rx product sales from distributors out to the veterinary clinic, despite continued pressure from competitive innovation. Additionally, we likely benefited from the macro factors, including improved consumer conditions and a potentially earlier parasiticide season. We are pleased with the positive outcomes from the actions we've taken to strengthen our position in U.S. pet health market, but acknowledge there's still a lot to play out this year with uncertainty around the economy, retailer pricing, and competitive actions. We look forward to continued progression to improve this business. Now a few comments about our pet health business internationally. In Europe, the economic environment has been better than expected, but our performance was pressured in the quarter compared to the very strong start in the first quarter of 2022. While the pet health market and Elanco's sellout data for available countries in Europe is improving sequentially, we still expect continued environmental pressure on the business in the second quarter. In farm animal, the underlying business benefited from the strength in Europe and Asia led by poultry, offset by decline in the U.S. related to vaccine supply and competition in select product categories. Despite this, we remain encouraged by the growth opportunity for Xperia this year. Six of the largest U.S. cattle feeding organizations have moved to commercial adoption of Xperia with broad acceptance by the beef processors. Xperia adoption continues to strengthen the value of our overall cattle portfolio offering, including ramensin. Finally, in China, while poultry is improving, swine prices were pressured to start the year. We're cautiously monitoring progress in this market and assume gradual improvement throughout the year. Across our pet and farm animal businesses, we continue to expect year-over-year environmental and competitive pressure. However, the successful completion of our ERP system integration, our innovation progress, and positive indicators in our business, notably in U.S. pet health and international poultry, support our decision to raise the bottom end of guidance on our key metrics for both the first half and the full year. Next, moving to slide six and the IPP milestones we achieved over the last few months. Starting with productivity, we are pleased with the completion of the ERP integration the last major milestone associated with the Bayer Animal Health transaction. I am proud of the team's preparation, their leadership, and the execution to advance us into this new phase. We look forward to the flexibility, the simplicity, and the optionality of operating this business now on one consolidated system. Moving to portfolio, we continue to collaborate with the EPA as they near completion of their review of Soresto, which included expert counsel, from the FDA in the process. We appreciate the EPA's approach and diligence during the science-based review process. Elanco continues to align with the EPA on their recommended stewardship actions, supporting the continued registration of the product. We expect the formal results to be communicated by the EPA as they are finalized in the coming weeks. As a leader in animal health, we are committed to the well-being of pets and welcome the opportunity to work with EPA on these stewardship actions that we believe will raise the bar and support the continued safety of Seresto to protect pets from fleas and ticks and the deadly diseases they can carry. Slide 7 details our progress towards unlocking Elanco's next era of growth and value through innovation. The pipeline continues to strengthen with advances and all key programs in line with our expectations. Since February, we launched four new products, received three approvals in major markets, and initiated the submission of our sixth new potential Blockbuster product. The R&D organization is executing with excellence while driving partnership across manufacturing and commercial. In mid-March, we began shipping Bexacat, our once daily oral SGLT2 inhibitor, diabetes product for cats in the U.S. Earlier this month, we received FDA conditional approval For varenzin, CA1, a daily oral treatment for the control of anemia associated with chronic kidney disease in cats. These portfolio-enhancing products are both first-in-class feline innovations, and we view them as market creation opportunities. Next, the USDA approved our Elwood, Kansas monoclonal antibody manufacturing site and granted conditional approval for our canine parvovirus treatment. As our first monoclonal antibody, this approval represents a significant milestone in our journey to advance this important platform. With a total addressable market in the U.S. of approximately 330,000 canine parvovirus cases per year, the conditional approval highlights the value and need for this unique treatment. We already have a strong interest from the veterinary community for this potential blockbuster product. We expect to begin shipping in the coming weeks as we finalize state approvals. Important to understand, the conditional approvals for our parvovirus treatment and varenzin are a reflection of agreed-upon approval pathways with the regulatory agencies to allow for accelerated market access, given both these products address significant unmet needs. For both, we plan to continue to progress towards full approval and do not expect the current status to be commercially limited. On the pet health OTC side, we've expanded our OTC R&D capability to enhance our efforts here. Since our last call, we launched Canine Advantix, a flea and tick preventative for dogs, and Advantage, a flea preventative for cats, at a small subset of U.S. retailers. These value offerings are a cornerstone of our good, better, and best approach to flea and tick retail category management. Additionally, we're pleased to announce the approval and launch of AdTab in several EU markets, our third OTC introduction this year. Leveraging the Advantage brand name, AdTab is an oral monthly flea and tick product for both dogs and cats. This addition establishes Elanco in the emerging OTC oral parasiticide market in Europe. Finally, in March, we completed the initial technical submission to the USDA for our IL-31 monoclonal antibody for canine dermatology. Each of our potential blockbusters is progressing as planned with a path towards approval by the first half of 2024. Xperia, Bovair, and our Parvo product are novel, first-in-class products, while our broad-spectrum parasiticide and JAK inhibitor dermatology asset are expected to be differentiated from the current products in these large and growing markets. Now I'll pass it to Todd to provide more on the first quarter results and financial guidance.