Elanco Animal Health Incorporated

Ladies and gentlemen, thank you for standing by. Welcome to Elenco's Animal Health second quarter 2024 earnings conference call. At this time, 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 followed by the number one on your telephone keypad. And if you would like to withdraw that question, again, press star once. Thank you. I would now like to hand the call over to Katie Grissom, head of investor relations. Katie, you may begin.

Good morning. Thank you for joining us for Elenco Animal Health second quarter 2024 earnings call. I'm Katie Grissom, head of investor relations in ESG. 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 elenco.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 in 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 our 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 will now turn the call over to Jeff.

Thanks, Katie. Good morning, everyone. Elenco continued to deliver in the second quarter, exceeding the top end of our guidance range on our key metrics, revenue, adjusted EBITDA, and adjusted EPS. With four consecutive quarters of underlying revenue growth behind us, we continue to make significant progress on our three strategic outcomes, growing revenue, improving cash flow, and notably delivering innovation. Beginning on slide four, since our last earnings call, we delivered consistent operational results and achieved key milestones in advancing our innovation, portfolio, and productivity strategy. Elenco delivered our fourth consecutive quarter of underlying revenue growth, driven by strength in U.S. farm animal, international pet health, and added contributions from new products. On innovation, commercial activities are underway for Beauvaire after the FDA completed its review in May. Zanrelia and Cridelio Quattro continue to track in line with our late June update, and we continue to expect to launch a potential blockbuster in each of the next three quarters. For Zanrelia, the final 60-day administrative window is underway, with approval expected in late September. Cridelio Quattro remains on track for final approval in the fourth quarter. With improved operating cash flow and the proceeds from the sale of our aqua business, we have repaid $1.3 billion of debt in 2024, and expect net leverage to be in the mid-four times level by the end of the year. Looking forward, we remain confident in our full-year outlook. We now expect organic constant currency revenue growth to be three to 4% for the full year. This reflects the removal of the aqua business, maintained expectations for the base business in the second half, and the expected increase in innovation contributions shared in June. Excluding aqua, we are maintaining expectations for adjusted EBITDA with improved sales, offsetting increased investments in strategic launches in the second half. We are also maintaining our adjusted EPS guidance with lower interest and tax expense offsetting the removal of aqua. Finally, we issued our 2023 ESG report demonstrating progress on Elanco's healthy purpose, sustainability efforts, and our internal operations, customer collaborations, and beyond. Moving to slide five, we provide -over-year revenue growth for the first half of the year. This view excludes the quarterly phasing created by last year's ERP integration. In the first half of 2024, we delivered constant currency revenue growth of 4%, building on the mid-single digit growth in the back half of 2023. Looking deeper at our four business areas, starting with US Pet Health. Our consistent strategic enablers drove improved execution over the last 18 months. Despite a competitive environment, this allows us to maintain a high level of optimism for the future of US Pet Health as we bring Zanrelli and Cradello Quattro to the market over the next two quarters. In the first half of the year, US Pet Health revenue declined 3%. On the retail side, the underlying business is strong as dispensing growth, a key indicator of product demand, accelerated significantly in May and June this year and continued into July. This growth was driven by increased share of voice from targeted investments in our flagship brands, expanded physical availability with more than 10,000 new points of distribution as well as capitalizing on the elasticity of Soresto. However, retailer purchasing patterns created variability and are reported results, impacting net sales growth in the quarter. Todd will provide more details later, but we anticipate this dynamic to normalize in the back half of the year when retailers are expected to begin to order more in line with dispensing trends. On the vet clinic side, improved vaccine supply and innovation drove stabilization across the business through the first six months of the year. The launch of our canine parvovirus monoclonal antibody or CPMA is progressing nicely. We have placed the product in a third of our target clinics and continue to strategically invest to drive penetration. However, competition in the US vet clinic, particularly in parasiticides and pain, continues to pressure our business. Strategic investments to expand the sales force and increase opportunities with corporate clinics are laying the groundwork for improved performance as we look towards enhancing our portfolio with the addition of Zenrelia in the fourth quarter of this year and Cridelio Quattro in the first quarter of next. Next, revenue for our international pet health business grew 11% and constant currency in the first half. Our retail parasiticide leadership and share of voice continues to strengthen as we invest to drive the growth of key brands like Ceresco and AdTap. We are encouraged by the performance of the Cridelio family globally, led by Cridelio Plus now three years into the market. Our international pet health business growth exemplifies the benefits of a strong diverse portfolio, contributions from innovation, and a concentrated focus on major markets, all part of a well-executed strategy by Dr. Romero-Cabral and his team. Moving to farm animal, revenue for our international business was flat on a constant currency basis compared to the first half of last year. Excluding the aqua business decline, constant currency revenue growth was 2% in the first half of the year, driven by the strength in poultry, particularly offset by continued pressure in Asia swine. Poultry and cattle represent nearly three quarters of our international farm animal business, and our momentum is strong in both areas. We have confidence in our relative market position and ability to continue to grow the business in these key areas of strength. Finally, strong delivery from the US farm animal business continued with 17% revenue growth in the first half of the year, driven by cattle and poultry. Strength in cattle was driven by continued exterior adoption, reminiscence growth in both beef and dairy and improved vaccine supply. This outsides growth is the outcome of both our strategy playing out and positive market factors. Our portfolio benefited from strong demand, driving higher values for both poultry and cattle, as cattle on feed remain low. On the other hand, swine, the smallest business for us, is faring less favorably with pork supply outpacing demand pressuring producer profitability. Overall, our US farm animal portfolio is well positioned in the market with scale and value that differentiates us from competitors. Dr. Jose Simas and his team are leveraging our innovation to strengthen our portfolio and increase our value proposition for customers. This, along with our differentiated data services, is helping to stabilize and in some cases like Reminson, grow our base business. We expect continued growth from innovation with the incremental opportunity in Heifers for Exterior and the launch of Bovair, which I'll touch on more in a moment. Moving now to slide six, let's look at the strategic drivers for our innovation portfolio and productivity strategy. Starting with portfolio, our base business continues to stabilize the amplifier message through our increased Salesforce and digital engagement with veterinarians and farmers globally, as well as increased pricing capabilities. We've seen the portfolio strengthen even more in places where we've introduced new innovation. We see this with Credelio Plus and AdTab in international pet, Exterior in US cattle, and in poultry globally. We remain confident that the launch of Zanrelia and Credelio Quattro will provide a similar catalyst for our US pet health business. Regarding productivity, we are delivering improved operating cashflow and debt pay down. We've taken a cross-functional approach to successfully diagnose, evaluate, and deliver solutions to improve processes and reduce balance sheet inventory. In addition, we have transitioned from using cash from operations to fund necessary standup and integration costs to utilizing that cash for debt pay down. As I said earlier, with the combined proceeds from the close of our Aqua sale and improved -to-date operating cashflow of $286 million, we have repaid 1.3 billion of debt in 2024 and expect net leverage to be in the mid four times level by the end of 2024. Now let's get to innovation on slide seven. Innovation sales contributed $109 million in the quarter with $209 million in the first half of 2024. In June, we increased innovation sales expectations to $400 to $450 million for the full year. The just over $30 million improvement at the midpoint is driven by the strong ongoing performance of Experian AdTab and the inclusion of Bovair and Zanrelia in the 2024 expectations. We remain on track to deliver $600 to $700 million in sales from our innovation portfolio by the end of 2025. On slide eight, we reflect progress on our late stage innovation timeline as we continue to advance our ambition of delivering consistent high impact innovation. On slide nine, let's review further details on our three late stage potential blockbusters with one expected to launch in each of the next three quarters. First on Bovair, we continue to make good progress in the steps necessary to successfully commercialize. To date, we have approximately 500,000 dairy cows activated in our Uplift database, which tracks methane reduction based on approved protocols and it enables farmers to monetize carbon. The majority of state registrations are complete. However, we're still awaiting California, a key dairy state. Athien is negotiating contracts with several consumer goods companies to purchase carbon based on the feeding of Bovair and rements into dairy cows. While the overall process is complex, we believe this creates a sustained competitive advantage for Elanco and will enable our next era of farm animal growth from innovation. Overall, we're encouraged by the progress and high interest across the value chain while we expect producers to begin feeding Bovair to dairy cows in the coming months. Next on Zanrelia, before the end of June, we received confirmation from the FDA that all major technical sections, effectiveness, safety, and CMC were complete. We're pleased to share that the final 60-day administrative review period is underway in the US. We expect the final FDA approval in late September with a nearly immediate launch in the US in early October. We're also excited to begin globalizing the product with a launch in Brazil expected in the fourth quarter as well. We're very encouraged about the opportunity for Elanco to enter the more than $1.5 billion global canine dermatology market and for the blockbuster potential of Zanrelia. We continue to expect that Zanrelia will be positively differentiated from the current Jack inhibitor on the market with regards to effectiveness and convenience. Our view is informed by our expected US label and the -to-head data submitted as part of the EU data package. As shared in June, the expected US label will include a box warning related to our vaccine response study. We expect this label language will slow the initial product adoption curve in the US as we believe it will require focused veterinary education on the product. Our expectations for treatment days being limited by approximately 25 percent is based on expected language in the box warning related to vaccine usage. We have done extensive and broad market research that concludes efficacy and value matter most to veterinarians. And even with the expected label, there is strong interest in Zanrelia as a treatment option for canine dermatology. Bobby Modi and the US Pet Health Commercial Organization have an extensive launch plan and are eager to bring this product to customers. The sale force is being trained on the product. Marketing materials are in final development and we are lining up key opinion leaders. Upon approval, the team will activate a vet-focused engagement plan that leverages robust technical data that we are confident will allow the merits of the product to drive clinic adoption. Within days of approval, we intend to host a conference call for the investment community to provide clarity on the label, our differentiation and our sales and marketing approach to help underwrite the opportunity we see for Zanrelia to contribute meaningful, accretive sales in EBIDA Freelanco. We look forward to providing more details in the coming months. Finally, on Cridelio Quattro, as previously shared, two of the three major technical sections, effectiveness and safety, are complete. We expect the final administrative review to begin later this quarter with the final approval expected in the fourth quarter of this year. In addition to the regulatory process, we are finalizing the manufacturing scale-up to optimize launch, which is targeted for the first quarter of 2025. We are very excited to bring this differentiated potential blockbuster to the largest and one of the fastest growing market segments in our business. We estimate the U.S. parasiticide market at approximately $3.8 billion, with the broad spectrum products now making up nearly 25% of the market, demonstrating the massive gains since their introduction just three years ago. We expect the addition of Cridelio Quattro to our portfolio of U.S. prescription parasiticides, which represents about $300 million of sales in 2023, to significantly enhance the growth of our U.S. pet health business in 2025 and beyond. We expect these pet health innovations to position Elanco very competitively in the U.S. vet clinic, as just the second company to bring a comprehensive product offering to veterinarians with broad spectrum parasiticides, dermatology, vaccines, and therapeutics. We are encouraged by the progress by our R&D and regulatory colleagues, the diligence by our manufacturing teams to prepare product supply, the creativity of the marketing team to prepare for competitive launches, and the engagement and sheer excitement of our commercial colleagues as we enter this important era for Elanco. Now I'll pass it to Todd to provide more on our second quarter results and financial guidance.

Thank you, Jeff, and good morning, everyone. Today, I'll focus my comments on our second quarter adjusted measures, so please refer to today's earnings press release for a detailed description of the -over-year changes in our reported results. Starting on slide 11, in the second quarter, we delivered $1.184 billion of revenue, an increase of 12% or 13%, excluding the unfavorable impact of foreign exchange rates. Price contributed 4% in the quarter. The ERP system blackout that occurred in 2023 impacts our -over-year comparison to the second quarter. Last year, we estimated sales of $90 million to $110 million shifted from the second quarter into the first quarter, reflecting a 9 to 10 percentage point benefit to growth in the second quarter of this year. We estimate the underlying business grew 3% to 4%, slightly ahead of our expectations. The estimated impacts are noticed on slide 13 for each business area. For pet health, second quarter constant currency revenue growth was 13%, with an estimated benefit to -over-year growth of 13 to 14 percentage points from the ERP blackout. In the US, pet health revenue grew 1% in the second quarter, including a benefit to -over-year growth of approximately 10 percentage points from the ERP blackout. In the vet clinic, the underlying decline was driven by competitive innovation pressure on legacy products. This pressure was partially offset by our recently launched products, specifically CPMA. On the retail side of the business, lower second quarter revenue in 2024 was primarily attributable to changes in purchasing patterns and more conservative inventory management at several large retailers. Over the course of the first half of the year, our top retail customers built significantly less inventory compared to the same time period last year, as a result of our ERP cutover and purchasing timing ahead of discount days. However, as we focus on dispensing, we are encouraged by the positive momentum we see in the end-market demand. In May and June, dispensing for our OTC products in our top six retailers grew approximately 13% compared to a -single-digit decline in the first four months of the year. In July, dispensing growth for Olenco continued in those key retailers. As Jeff mentioned, the execution of our strategy is expected to drive continued dispensing growth throughout the back half of the year, and we will benefit from retailer purchases expected to be more in line with dispensing compared to the second half of last year. International pet health grew 34% in constant currency, including a benefit to -over-year growth of approximately 21 percentage points from the ERP blackout. Excluding the blackout impact, the underlying business growth was driven primarily by new products, led by AdTab and Crudello Plus, and the rebound in the Spain retail business, offset by continued weakness in the China pet market. Moving to farm animal, our global business grew 14% in constant currency, with an estimated benefit to -over-year growth of five percentage points from the ERP blackout. The underlying business growth was driven by strength in U.S. cattle, with continued expirer adoption and cattle vaccine resupply. Additionally, in the U.S., timing of poultry rotations provided a tailwind compared to the second quarter of last year. We expect these trends to continue in the third quarter, but will face a difficult compare in the fourth quarter, lapping last year's initial resupply of cattle vaccines and positive poultry rotations. Outside of the U.S., growth was driven by continued strength in poultry and increased demand for cattle products in Latin America, partially offset by reduced sales of kextone. Continuing down the income statement on slide 14, the decline in gross margin was in line with our expectations of slowing the manufacturing plants, creating an approximate 190 basis point headwind in the quarter. We continue to expect this impact to be neutral in the third quarter and to flip to a positive in the fourth quarter as we lap the impact of our plant slowdowns starting in the back half of last year. Product mix was a headwind of margin in the quarter, partially offset by positive price. Operating expenses increased 2%, driven by employee-related expenses and investment in our European pet business. Timing of R&D spend, partially offset by productivity benefits of being on one operating system. On slide 15, we have provided walks to illustrate our -over-year performance in Adjusted EVA-DAL and Adjusted EPS. Adjusted EVA-DAL was $275 million in the quarter. The -over-year comparison includes a benefit of approximately $70 million to $90 million from the ERP blackout in the second quarter of last year. For the underlying business, the decline of $16 to $36 million was driven by lower gross margin from slowing manufacturing output to reduce balance sheet inventory as well as negative product mix. Adjusted EPS was $0.30 in the quarter. The -over-year comparison includes a benefit of approximately $0.11 to $0.14 from the ERP blackout in the second quarter of last year. Both interest expense and our tax rate were lower in 2024 than in 2023. Next, let me offer a few words on our cash, working capital, and debt on slide 16. Cash provided by operations was $200 million in the quarter or an increase of $139 million compared to the second quarter of last year. This increase reflects lower project expenses and our strategic efforts to reduce balance sheet inventory. Our strategy and focused execution are paying off to deliver improved cash generation. We ended the quarter with net debt of $5.3 billion, a reduction of $163 million in the quarter. Subsequently, in July, we paid down $1.2 billion of debt with proceeds from the sale of our aqua business. Importantly, a significant portion of our taxes related to the transaction will be paid out in 2025. This allowed us to pay down more debt than initially expected in 2024, resulting in interest expense savings but requires a cash tax increase next year of approximately $150 million related to the transaction. We have updated slides 28 and 29 in the appendix to reflect our key debt information and factors impacting cash flow and leverage after this additional pay down. At the end of June, our net leverage ratio was 5.6 times, down from 6.1 times at the end of the first quarter. We expect year-end net leverage in the mid-four times range, and in 2025, expect this ratio to move lower to the low four times to high three times range. Now, let's move to our financial guidance starting on slide 17. Today, we are introducing organic growth, a measure we intend to use over the next 12 months that excludes the impact of the aqua divestiture across the full P&L. As Jeff said, we are maintaining guidance for the base business while increasing our organic growth expectations to include increased contribution from innovation, including Zinrelia and Bover. For the full year, we now expect revenue to be between $4.41 billion and $4.46 billion, representing organic constant currency growth of approximately 3 to 4%. This is a slight increase over our May guidance driven by innovation sales expectations, increasing to $400 to $450 million. Slides 19 and 20 provide walks from our May to August guidance, including removing the expected contribution of aqua. We are maintaining our organic adjusted EBITDA guidance, which is now $900 to $940 million for the full year, after removing approximately $60 million of adjusted EBITDA attributable to aqua. Second quarter overperformance in U.S. farm animal and international pet health is expected to be offset by incremental headwinds on gross margin and increased investments in launches in the second half of the year. For adjusted EPS, we are maintaining our range of $0.88 to $0.96 for the full year. We are able to fully offset the reduced adjusted EBITDA flow through from the aqua business with approximately $40 million of interest savings associated with the debt reduction and lower tax expense. On a gap basis, we now expect EPS between $0.63 and $0.71 for the full year. This step up compared to our previous guidance includes a pre-tax gain of $1.31 on the sale of our aqua business. On slide 21, we are introducing financial guidance for the third quarter. We expect revenue of $1.02 billion to $1.05 billion, representing organic constant currency growth of 1 to 4%. We expect adjusted EBITDA between $140 million and $170 million in adjusted EPS of $0.10 to $0.14. Finally, moving to slide 23, our implied fourth quarter guidance represents a return to organic adjusted EBITDA and EPS growth. We are confident in this sequential trajectory change with gross margin headwinds expected to subside as we lapse slowing down our manufacturing output and the detriment from last year's devaluation of the Argentinian peso. Now I'll hand it back to Jeff for closing comments.

Thanks, Todd. Momentum continued in Q2, marking the fourth consecutive quarter of -single-digit constant currency revenue growth in the underlying business. With a stabilizing-based business and increased contributions from innovation, our raised 3% to 4% expected organic constant currency revenue growth in 2024 demonstrates marked improvement over the past several years. We continue to execute on improving our leverage profile with the completion of the aqua transaction and quick debt paydown. Importantly, our major innovation window is now upon us with three potential blockbuster product launches imminent in each of the next three quarters. We have differentiated assets and we intend to invest strategically with no regrets to maximize the potential launch curve and peak sales trajectory. We have been preparing for these launches for some time including recruiting top industry talent and conducting extensive market research to support our launch efforts. We look forward to hosting a conference call upon Zanrelli approval to provide more specifics on our expected differentiation as well as more details on the label and our -to-market strategies. With that, I'll turn it over to Katie to moderate the Q&A.

Thanks, Jeff. We'd like to take questions from as many callers as possible. So we ask that you limit yourself to one question and one follow-up. Operator, please provide the instructions for the Q&A session and then we'll take the first caller.

Thank you. We will now begin the question and answer session. If you would like to ask a question, please press star 1 on your telephone keypad to raise your hand and join the queue. And if you'd like to withdraw that question, again, press star 1. Your first question comes from John Block from CIFL. Please go ahead.

Thanks, guys. Good morning. I'll start on Zanrelli. And Jeff, can you just provide the timing of the -to-head study? Will that be available for the launch, call it launch slash ramp here in the fourth quarter of 2024? And then one more on Zanrelli. And I know you'll have the earnings call, but any high-level comments you can provide on the VAX response study that seems to trigger the warning label, how do we think about that? In other words, was it more a function of euthanasias, non-responders to the VAX? Maybe if you can help us out a little bit there, and then I'll add the follow-up.

Yeah, thank you, John. And I appreciate all the work you've done on this, and appreciate the questions. We do intend to just answer one of your questions directly. Then I want to add a little bit of broader context, because this is the first time we've spoken since the June release. But we do intend to have the -to-head study that was done against the market incumbent that was part of the European submission package. It is our intention to have that as part of the initial day one launch materials. So let me just share. I'd like to share just a couple messages just relative to Zenrelia in the greatest context that I think can help everybody as there's continued interest in this product. First, we're excited about Zenrelia. We're excited about entering the Durham market. As you know, a fast growing market continues to grow double digit in the US, and globally millions of dogs that are still untreated. We're bringing Zenrelia. We're going to follow that with IL-31 and a pipeline that Ellen has in Durham. And it's weeks away, and we're excited about it. A couple points just in context. We're going to respect the FDA process. We will limit specific comments on the label and data packages until full approval of the product, John. Currently in the 60-day administrator review, that has started. We're in that. And that puts us on track for that late September approval. As I made a comment there at the end of the earnings, we will, days after the approval, we anticipate holding a comprehensive investor call where John will share this study, other studies, and label details. And I'm a little limited to do that now, as well as our go-to market. And we look to have even outside experts, vets, and Durham. But here's some points that I think are important to take a look at how we're looking at this. First, we do not expect anything in the package or the label of a Zenrelia will prevent the product from being widely adopted across all types of vet clinics. We do, as we've said, expect Zenrela to be positively differentiated in efficacy with that -to-head study with the market incumbent, as well as positive differentiation on convenience and value. Then the market research that we have done and others indicate vets are most interested in two things, better efficacy and value. These are the top two Durham needs we see for vets. It's very clear, it's very compelling. Additionally, 70% of vets surveyed here recently want more Durham options. And we think that will likely lead to them carrying another product on their shelves. And that'll be a key objective we have. Another point that I think is important since the release that we think is very important is Zenrela applicability can be for all itchy dogs over 12 months, chronic or acute or seasonal. There are no dogs that should be excluded from the initial target population for Zenrela, very important. And our expectations back on the days initially being limited to 25% is solely related to the timing of the vaccine administration, which maybe I can bridge then, John, to this question and just highlight this vaccine response study is all around Jax as a class. There are immune modulators, they modify the immune system, the potential to suppress the immune system is common in this class. And as part of any data package, even the 10 year incumbent 10 years ago, we completed what is called a vaccine response study. And as it sounds, it studies and assesses the dog's response to the vaccine while receiving 3X, the label dose of Zenrela. And again, we believe very clearly that we've got confidence that data supports our value proposition and look forward to educating vets directly.

That was great. Thanks, Jeff, for all that color. I think just as a quick follow-up, Todd, this one might be for you. Now for 2025, I think the prior, call it high level messaging was that these new blockbusters would be, obviously gross profit dollar accretive in 2025, but likely gross margin diluted due to some investments, associated with the new products. Now we believe Zenrela's price is gonna be lower, maybe you need to make more investments to explain the label. When we think about these new blockbusters, do we still think gross profit dollar accretive in 2025 or more neutral? Maybe you can just flush that out a bit. Thanks for your time.

Sure, John, appreciate the question and all the work you and your team have been doing over the last few months. Certainly we're excited to bring Crudelio Quattro, Zenrela and Bovert to the marketplace, two of those coming this year, and we're making investments behind those here in the second half where those will be not accretive to even down the second half, given the investments, including investments for Crudelio Quattro. We do expect that to flip in 2025, where they will be both gross margin accretive, but also that they're gonna be accretive to evadop. We're not gonna get into 25 guidance today. That'll be early next year, but as Jeff said, we're very excited for these products and excited to get Zenrela in the hands of that here in the fourth quarter.

Thank you.

Your next question comes from the line of Michael Reiskin. Please go ahead.

Great, thanks for taking the question. I wanna pick up right where you left off on Zenrela. Jeff, you keep highlighting value, efficacy and value as a differentiator, and we talked about pricing in the past. Obviously, there's the value component of it to the vet and then there's the price component to the vet, but just to be clear, how has your launch plan on Zenrela changed following the black box morning development? You talked about more vet education and the spend that goes in that, but in terms of how it's positioned to the vets, just how willing are you to use the price lever to gain share in that market?

Yeah, thanks Mike for the question. Let me start by the first thing that we know will happen is we're gonna increase share of voice. We're gonna have a lot more marketing and attention. This is gonna be one of the most expansive launches ever and being second to the market. The first thing we're gonna do is increase the size of the market. There's millions of dogs that are still untreated and any new innovation when you see even the existing growth that's even occurred so far in the first half of this year in Durham, we expect the market size to grow. And so that will be the value driver number one as we see this market growing and we see it not just in the US, but globally and I'll say in parallel, we'll be in Brazil and we'll follow with other launches behind it. From a price perspective, we will do what we always do and that is take a value-based approach. We will look at it holistically and we will look at all aspects of the value. We do believe that we overlay upon approval, we overlay our positive differentiation against what vets want most. And that is better efficacy as well as we believe value and that comes with convenience as well as other aspects. We have two objectives as we think about the launch plan is one is we will work closely with vets so they understand the label, the science, the data. We want a vet to vet understanding. So one way we've shifted is we're gonna take a very vet focused launch effort initially utilizing data and we will do that with a lot of intensity and preparedness and then that's gonna move us to wanna have experience. We're gonna want this product in more clinics hands quickly so it can get into pet owners hands so we can demonstrate the differentiation of this product and we will use appropriate programs to ensure and encourage the use of this product quickly upon adoption. But again, those are the things that we've done to adjust it. It will be one of the most expansive launches ever. We will use a multifaceted approach and we've already started as you know, with more share of voice, larger Salesforce, next generation capabilities. It'll be much more of a digital omni-channel approach initially and also, you know, like four dimensional offer we believe will help having para therapeutics and vaccines as well. So, and we'll share more details of this again right after the approval on the call that we'll have.

Okay, and again, Jeff, you actually just took it to the second part of my second question on the breadth of the portfolio. You talked about para, derm, therapeutics, vaccines. So breadth of portfolio comes up all the time when we talked about in terms of how they make their purchase decision, which vendor they prioritize. Now, you know, you jumped from early 23 to early 24, adding a lot of products to companion portfolio. You're gonna have arguably the first or tied for first broadest portfolio to the vet. How does that change the value proposition for the rest of the business in terms of the uplift of the other products, you know, beyond the blockbusters, beyond the new launches? Is that coming up in conversations already? Is that part of your plan in some of these distributor and large consolidator groups as you approach 2025?

Yeah, it's a great question. I think that the other thing that I would add that's pretty important is we are now in more clinics than we've ever been. I mean, I think between the increased sales force and the parvovirus monoclonal antibody, it's put us and given us more access, even the diabetes product last year, it's given us more access. So that was our goal was when we're about to launch two differentiated, you know, products, blockbuster products in the two largest pet markets in the largest pet market here in the US, Derm and Para. And so as we look at this, one is, you know, access to clinics is one, and then two, no question, you know, as we look at offerings and even purchasing, there is an interest in, you know, which products are carried by which companies. And we believe Derm allows us to help our Para portfolio as well as even our vaccine portfolio in some of the purchasing plans that are available today. And we've already started that engagement and there's a lot of interest relative to that. And we will use appropriate from corporates to distribution to across the board, we will leverage the portfolio. Zenrelia will help Quattro, Quattro will help Zenrelia.

Your next question comes from the line of Umar Rafat with Evercore ISI, please go ahead.

Hi guys, thanks for taking my question. It's good to hear all the constructive language on Zenrelia, so let me just pressure test that a little more. As I dig into it, I know the APICO study, the vaccine response study had two out of eight dogs that were euthanized and the dose was three X human. I'm assuming the three X human dose is probably more standard than not. So it sounds to me like considering you're getting a black box, your euthanizations were more than two out of eight. Could you give us some more color on that? And then also, was the timing of these euthanizations or whatever the safety finding is, more pronounced towards the back end of the study? I'm trying to understand why the cap on duration. And then finally in Cordelio, my sense is the CMC stuff is probably much more trivial and it's just information like sourcing, packaging. Could you confirm that was, it was just a straightforward, trivial request? Thank you.

Yeah, thanks Umar very much. And I appreciate the questions. We will not, and in just respecting the FDA process, I can't get into the details of studies and the label until approval, but I can assure you that we will be sharing that very openly with you as investors as well as the vet community upon approval and looking at it holistically. I will point though, and you know this well Umar, when thinking about safety, I think it's important that if you look at the FDA process, once a product is approved by the FDA, it is deemed safe and effective when used according to the label. And then when you look at the label, it's about providing guidance to the veterinarians to assure appropriate use and administrative the product or maybe more simply said a label indicates how to use the product safely. And that will be our primary focus out of the gate with this is to educate and inform the vet community very extensively on this product. And again, that leads us to our confidence relative to we'll meet these standards and the differentiation will add value significantly in the marketplace. Bridging over to Quattro, just to give you a sense, yes, we believe we answered those questions and we believe that that will move us through and getting this last technical section complete. And that will move us into administrative approval to keep us on track for a fourth quarter approval and a first quarter launch. I will say that following that and independently of the approval, we're still finalizing, as I said in my comments, the manufacturing scale up to optimize the launch on the manufacturing side and it's common with multiple active ingredients, the process validation side, there's complexity, but we've done this before and we've got a very experienced team and that's tracking again for the first quarter approval as well.

Jeff, if I may, I feel like, thank you. Jeff, if I may, I feel like we're putting less of an emphasis on black box than we should be. Am I hearing, because I know you're very confident in the launch profile and everything else, but ultimately the incumbents been on the market for a while and they don't have a black box. So I'm just trying to put that into perspective on what you're hearing and why you're so confident the black box is not as important.

Yeah, the box warnings are, as I said, labels are all about the use and indication of the product. We're planning to, again, take an altered approach to our launch strategy, which is educating vets and we will make sure that the science and the data and that label is fully understood and how to use the products accordingly. No question about that. So no, I wouldn't want you to read that at all. I do believe that veterinarians are very opportune and also able to understand labels and understand the science and use the products accordingly. And that's common. And there's products that have box warnings and are utilized very routinely in the industry. And our goal initially is to educate and inform. So I think that's very important. And then as market research shows, Umar, 70% of vets do want other derm options and they do want better efficacy and value. And that's what this product brings. And we won't stand away from the safety of the product. We will educate and inform accordingly. And again, we look forward to sharing more details, Umar, as days after the approval of this product with you and others.

Thank you very much.

Your next question comes from the line of Chris Schoch with the JP Morgan. Please go ahead.

Great, thanks so much. Just two for me. Maybe just another one on Zanrelia. Can you just talk about the duration of this education process? And I'm just trying to get my hands around to how long you think it's gonna take post-launch to get vets into a place where they'll understand the label and we can expect normalized uptake. Is this a matter of, is this quarters? Is it something longer than that? I'm just trying to get some sense there. My second question was just on the guidance update and the flow through of the sales upside to EBITDA. I think you mentioned higher manufacturing losses and then some of this increased investment in the product launches. I guess what's the mix between how much of it's investment versus manufacturing and what's happening on that manufacturing side? Thank you.

Yeah, Chris, to take the first one, we will, and as we've said, we already are in parallel training the sales force, our technical team, bringing together key opinion leaders. So it'll be a multifaceted approach. It'll be probably the most expansive launch we've ever done using these multifaceted approaches. We'll be backing away initially in phase one of DTC and we'll be increasing the resources. That increase in resources, sales force, the training and the KOLs, will bring an accelerated approach to education. And today we can reach this vet community quite quickly. This will be our top priority. We'll be able to do this before the Quattro launch. So the timing is no question, a Q4 priority will be to educate and to create an experience with the product to as many clinics as we can across the US. And that's what we wanna do. Educate first, get the experience fourth quarter. This will be our key priority.

Yeah, Chris, thanks for the question on the back half guidance. Very pleased with the Q2B that was primarily driven by underlying strength of sales in the business. There was some timing of OPEX between Q2 and Q3, but primarily as we go into the back half, there is some additional headwinds in manufacturing with some additional losses on some of our vaccine supply that's hitting us. The other element really becomes investing behind these launches. We're gonna continue to invest in Zanrelia. We're also gonna be investing in Crudel Quattro, but now given our update in June, we won't have any revenue from Crudel Quattro in 2024. The other thing to remind folks of is, we're really excited for Bover. We've got that set up. We've got 500,000 dairy cows on Uplook, which is the critical element to be able to measure the methane. But as we've noted before, gross margin for that product is well below the corporate average because of a high cost manufacturing process required. And because we brought this product to the US two years earlier than expected, the use of a different manufacturing process that significantly reduces COPs won't come into play. So those are the things that are driving it, but fundamentally the base business continuing to perform well as innovations driving portfolios across the world.

Your next question comes from the line of Erin Wright with Morgan Stanley. Please go ahead.

Great, thanks. On Zanrelia, and apologies for another Zanrelia question here, but just in terms of the safety warning, presumably you do have to time it around the, or time the administration around vaccines. I guess, how much of the chronic market can you capture with that in mind? And just to make sure that we're not going to have how do you ensure stickiness, loyalty, kind of for the product, if you couldn't use it year round, for instance, and is it geared more towards seasonal chronic? How do you think about the omni-channel approach? You can definitely leverage your experience there, but there's also auto-ship with online pharmacies and that kind of stuff that there may be some caveats there. And then can you clarify for us that the label and other geographies, will it have a similar safety caveat involved? Thanks.

Thanks Erin. On the first one, we will take each country as it is. Brazil, what we will say has not a warning label on the label. And we expect that that will be the case as we go forward in other international markets. And as we've said, we will work post the approval of this product with the FDA to continue to improve the label and do what's necessary to do that. Relative to your question and why I wanted to really emphasize, we believe strongly that all itching dogs are part of the qualified market, chronic or acute. We believe once vets understand this product and the label, we won't get into the specifics of it now until the product has been approved and we'll go through those details. But we believe we can create stickiness with this. And this is really driven by the market research we see that there is a strong interest in having another option. There are non-responders in the market and there's an interest for better efficacy and value. And we believe we can provide those, not just with the convenience, but overall our approach to the marketplace. So we believe we can address top needs of veterinarians in the DURRN market. And we can create, yes, with our Omni-channel and our approach to the marketplace, the ability to be able to use this product with the label, that we are going to have initially. And that's been represented by the market research that we've already done with that label out there with the market research.

Okay, and then my follow-up on the retail channel, just how tightly are you keeping an eye on inventory levels there? It sounds like you feel comfortable that things normalize here in the second half and just given your exposure to -the-counter products, what are you seeing in terms of the consumer, in terms of trade-down or any sort of consumer softness at retail? Thanks.

Sure, Aaron, thanks for the question on retail. Yeah, as we noted, last inventory was built in the second quarter of this year than last year. That was the primary driver of US Pet Health sales being down in the quarter. We feel like the retailers have inventory levels that'll require them to continue to buy in line with dispensing. And our focus is on dispensing. As noted, it continues to grow in July. It grew -to-date in the first half of the year. And we're also transitioning out of the key element of the season. So the consumer is something we do pay a lot of attention to. We have seen some trade-down. It has been on pack sizes. We've seen more two-packs purchase versus four-packs. And so that's something that we do continue to focus on. But over the last couple of years, we've expanded points of distribution with bringing back some lower-priced options that have been doing very well, primarily in dollar stores, as we've added all the 10,000 points of distribution we talked about. So overall, we feel like we're in a good spot as we move forward. Thanks.

Your next question comes from the line of Brandon Vasquez with William Blair. Please go ahead.

Hey, everyone. Thanks for taking the question. Maybe I'll switch. We haven't talked about farm animal yet, and US farm animal is actually really strong. Can you just give us a little bit more detail what was going on there? Were there any one-times in there? I think there was a comment in the press release about resupplying of vaccines. So basically just trying to get at what's the strength and how durable is that level of US farm animal as we go through the rest of the year and into 2025?

Yeah, thank you, Brandon. Yeah, the farm animal strategy globally is actually working very well, and especially in the US. We've got a diverse wide portfolio from medicated feed additives, vaccines, therapeutics. We're adding innovation, and that's making every portfolio, cattle, both beef, dairy, and poultry, stronger, and swine. And we're making, with our value beyond product and our portfolio, we're making, ultimately, our customers more money, and in low-margin, cyclical businesses, this is ultimately where the stickiness comes from with Elanco and why we're leading, we're growing, we're taking share. And where Ellen's team's even building continued pipeline, both on life cycle management and new products. So great execution. We look forward to exterior growing more with our heifer clearance, with Bovair coming. So two nice innovations coming in the second half of the year. And we see this as really this next era of livestock sustainability to Todd's point. The interest in Bovair on the farmer side is extremely high. We've got 500,000 cows on our Uplift database, headed to a million by the end of the year. And so the farmer demand and that extra revenue stream has actually created a lot of interest in the dairy industry on the farmer level. And it's other species, poultry and beef, are also leaning in as well. So that's a little bit of the fundamentals. I don't know, Todd, would you like to make a comment relative to the sales question?

Yeah, Brian, I think we're really pleased with how the portfolio innovation adds to the portfolio, be it exterior, be it our preface vaccine for purses and swine continue to really drive this business. And we returned to growth in US farm in Q3 of last year at 2%, then we put up 28% growth in Q4, 11% growth in Q1 of this year, and now 24% growth in Q2. So that team is really leveraging that innovation and growth. We expect that has continued momentum with Bovair coming in to add to the dairy growth. And we've seen Xperia really pulling Remenson forward. I'm not gonna commit to double digit growth in US farm for all the quarters to come, but certainly given that team and the portfolio it has, we're excited it'll continue to be a nice profitable growth driver for Olenco going forward.

Great, and then maybe I'll take a shot and see if there's any other pipeline updates that you guys are willing to give beyond Zanrelli and Quattro at this point. On the IL-31, any updates on your discussions with the FDA thinking as we're getting closer to 25 here, is there like a first half, a second half kind of approval that you're timing for? And then if there's any other segments within the R&D pipeline that you guys would be willing to discuss that would be helpful. Thank you.

Yeah, Ellen is, and the team continues, there's a lot of momentum and excitement and innovation. First, you've got a blockbuster per quarter, the next three quarters, that's our intention, that's what we're tracking too. And two of those markets are gonna be new accretive markets. Durham on Pat is gonna be accretive sales and livestock sustainability. And then we're going into Para that's been growing in the broad spectrum parasiticide market as I mentioned. Now 25% of US Para growing 40%. So one is there's a lot of excitement, there's still work to be done. Yes, the IL-31 will follow Zendrelia in the US and we'll be globalizing that as well. That's coming in 25, we've not talked specifically about the timing. That's with the USDA, not the FDA. And so that's tracking and we've said that's positively differentiated. And then behind that, yes, we continue to look at the big market spaces and others. So Para, Durham, Payne, monoclonal antibodies were the second actually in monoclonal antibodies were investing behind that. And then some of the new spaces. And then I would say, the other one is this livestock sustainability. We are building a significant pipeline that we believe will create sustained competitive advantage and the creation of a new market that we see to be one to $2 billion globally. And we already can tell by the interest from the farmer side that that has a lot of potential. So the next wave of innovation is being developed. And as Ellen says, we want a constant flow of high impact innovation in major markets. And that's exactly what the charge of that team is doing. Never felt better about our R&D team and what they're doing.

Your next question comes from Balaji Prasad from Barclays. Please go ahead.

Hi, good morning everyone. And a couple of questions from me. Firstly, on the competitive dynamic side, I think you called out competition in parasitized on pain. Could you quantify the market share laws, if any, for each of these segments and how are the brands being impacted? For example, is Galliprand just losing market share alone or are you seeing a decline in absolute number? That's one. Two, maybe stepping up a bit more on the farm animal side, considering the strength that we have seen in it. I'm curious to see how macro environment is impacting inflation and rates. How are they influencing this rate of behavior and how is this different from the retailer's behavior that you're seeing? Thank you.

Yeah, great, great questions. Again, pain, the pain market with innovation, with more share voice, with more diagnostics, the pain market continues to grow. Galliprand's meeting our expectations, but it's been challenged with some of the competition. But when we look at our pipeline and we look at our current portfolio, we like the prospects of the pain market. And again, Galliprand, we continue to see a very strong part of our portfolio going forward. And then on just protein economics, what I would just say at the highest level, if I look at our two biggest segments, which is cattle and poultry, they are the strongest. So when you look at cattle, there's fewer cattle numbers on the confined side, which has kept protein economics stronger. So even when feed costs have come down, our portfolio continues to add significant economic value because the protein and meat value is up. So that's been beneficial to Riemens and Expiria in the whole portfolio overall. And we've got these tools that can help even measure that. On the poultry side, globally, probably no more sustainable and more demanded protein in more significant way. And we've got a leading portfolio. We continue to see consistent growth, as Todd mentioned, quarter to quarter globally on poultry. And we're bringing innovation there from food safety to non-antibiotic replacements to our Ionophore package. And then swine, what I'd say is, we look at swine as we've got good leadership in North America and China. China, we saw a little bit of a green shoot with prices getting up over break even. In China, import prices for the first time, first quarter in quite some time, still need to see that play out as we look at multinational portfolios being benefited. But as a whole, as I step back, with our portfolio, whether it's feed conversion advantage, protein economics, or even food safety and disease, we are well positioned, especially in poultry, dairy, and beef going forward to continue to have sustained growth and sustained competitive

advantage.

Your next question comes from the line of David Westenberg with Piper Sandler. Please go ahead.

Hi, thanks for taking the question. We're up at the hour, so I'll just ask one here. Can you talk about the IL-31 product in light of the different label than expected with the JAK? Just at least in my research, we do suggest that new patient starts tend to be on Cytopoint rather than ApoQuil, at least in the US. So does the different label change your strategy versus before when it comes to the IL-31 product, marketing, et cetera? And then in terms of differentiation, I know Kindred used to really focus on Half-Life Extension technology. Any other thoughts on what that could be? I realize you probably don't wanna get too far ahead on that, but I'm gonna at least try.

Yeah, thanks, David. As you look at the DERM market, really both product forms and categories are growing nicely and they bring different benefits and we continue to see that. So, and again, we see Zenrelia with its existing label, we'll have Blockbuster potential, it'll be launched globally and we will follow with IL-31. I won't comment on the differentiation, but again, we see really it'll be a nice compliment and then we'll follow that with other assets as it's known. We've got a long acting that came from Kindred and we've got other forms of new technology in DERM. So real excited about that, see both categories growing and no real change of strategy at this point in time. Maybe I'll close just very briefly and really with just two key comments. First of all, thank you for your time. We say inside Elanco that hey, growth, innovation and cash have been the priorities for investors for the future of this company and I believe the second quarter represents significantly progress in all these areas. As Todd highlighted, we're growing four quarters in a row of mid single digits. We're seeing a stabilizing base, which is critical as we start to move towards launching innovation on top of that. We have strength and leadership and we're seeing share growth in farm animal globally at retail and on the vet side, we're launching two major blockbusters with positive differentiation in the biggest. A lot of work by the company around cashflow. We reduced over 20% of our debt since the beginning of the year and we're excited with three blockbusters over the next three quarters and that really links to these priorities. So we're laser focused on our strategy and as I close, I just personally wanna thank Global Elanco team. This is one of the strongest quarters, a string of four consistent quarters of growth. The Elanco team's excited, I know inside the engagement, the belief and the resolve is high because of the next wave of innovation, what it's actually gonna do and the difference it's gonna make. There's a belief and a passion and a resolve around making animals lives better, makes life better and I'm thankful to everybody and the one Elanco approach that's been taken. Thank you, we look forward to visiting with you shortly after the Zenrelia launch and again, thank you for your time and interest in Elanco.

This concludes today's conference call. Thank you for your participation and you may now disconnect.