Zoetis Inc.

Welcome to the first quarter 2019 Financial Results Conference call and webcast for Zoetis. Hosting the call today is Steve Frank, Vice President of Investor Relations for Zoetis. The presentation materials and additional financial tables are currently posted on the Investor Relations section of Zoetis.com. The presentation slides can be managed by you, the viewer, and will not be forwarded automatically. In addition, a replay of this call will be available approximately two hours after the conclusion of this call via dial-in or on the investor relations section of Zoletos.com. At this time, all participants have been placed in a listen-only mode, and the floor will be open for your questions following the presentation. If you would like to ask a question at that time, please press star and 1 on your touch-tone phone. If at any point your question has been answered, you may remove yourself from the queue by pressing the pound key. In the interest of time, we ask that you limit yourself to one question and then queue up again with any follow-ups. Your line will be muted when you complete your question. When posing your question, please pick up your handset to allow optimal sound quality. Lastly, if you should require operator assistance, please press star zero. It is now my pleasure to turn the floor over to Steve Frank. Steve, you may begin.

Thank you. Good morning, everyone, and welcome to Zolotis' first quarter 2019 earnings call. I am joined today by Juan Ramon Alife, our Chief Executive Officer, and Glenn Davis, our Chief Financial Officer. Before we begin, I'll remind you that the slides presented on this call are available on the Investor Relations section of our website and that our remarks today will include forward-looking statements and that actual results could differ materially from those projections. For a list and description of certain factors that could cause results to differ, I refer you to the forward-looking statements in today's press release and our SEC filings, including but not limited to our annual report on Form 10-K and our reports on Form 10-Q. Our remarks today will also include references to certain financial measures which were not prepared in accordance with generally accepted accounting principles or U.S. GAAP. A reconciliation of these non-GAAP financial measures to the most directly comparable U.S. GAAP measures is included in the financial tables that accompany our earnings press release and in the company's 8-K filing dated today, May 2nd, 2019. We also cite operational results, which exclude the impact of foreign exchange. With that, I will turn the call over to Juan Ramon.

Thank you, Steve. And good morning everyone. I will start today by describing some of the dynamics in the animal health industry that are on investors' minds. First is the positive trend for spending and innovation in companion animal medicines and treatment. Pet-owned spending in the U.S. continues to rise in terms of revenue per visit and number of patient visits. and we also see positive trends for pet care in the rest of the world. Pet owners are willing to spend their income on medicines, vaccines and other treatments to ensure a longer and better quality of life for their pets. We believe Zoetis is well positioned to continue its success in the companion animal space as our portfolio of dermatology products, parasiticides, and vaccines continue to drive our growth. Second, we see economic pressures and other challenges continue to impact dairy and cattle producers in the U.S. We still, however, expect to see the U.S. cattle and dairy market growing for the full year. driven by a stronger domestic demand for beef, an increasingly optimistic outlook for beef and dairy exports, and a modest improvement in milk prices. Finally, African swine fever has made headlines about significant concerns for the pork market. saying that as many as 150 to 200 million pigs or up to 30% of their annual pork supply could be lost due to the outbreak. For context, that is more than the U.S. annual pork production. This situation has far-reaching implications for the global pork supply chain. The reduction in supply in China is making ethics more valuable, creating opportunities for greater export from other countries, and increasing consumption of other proteins. The situation will evolve through the year, and we are monitoring any effects on the overall market and our business, which saw an impact in the first quarter. unfortunately, are part of doing business in animal health. This year, we are facing issues with African swine fever. A few years ago, we dealt with PEDV, with avian flu, and before, with blue-tone disease. These challenges are why Sledis has built a diverse portfolio of best-in-class air products across all relevant species and geographies. To both address opportunities and to manage through economic cycles, disease outbreaks and unfavorable weather conditions. We communicated in February that we expected the overall industry to grow approximately 5% per year. excluding the impact of a forest currency. Now, because of African swine fever, we expect the animal health industry to have a lower growth rate in 2019, and we'll continue to assess the broader impact of African swine fever as the year progresses. Despite some of these temporary challenges, we are maintaining our guidance for operational revenue growth, including AVAXIS, 4.5 to 6.5 percent for the full year, which we expect to be faster than the growth of the animal health market. Turning now to our first quarter results, we are off to a solid start for the year, with 11 percent operational revenue growth being driven by our companion animal business. Revenue from the AVAXIS acquisition accounted for five percentage points of the overall 11% growth. Our sales in companion animal products are once again leading the way with a 27% operational growth based on the addition of sales from AVAXIS. as well as our parasiticides and key dermatology portfolio. Our livestock product sales declined 3% operationally due to challenge in certain cattle and swine markets. For the first quarter, we grew our adjusted net income by 18% operationally and adjusted diluted EPS by 19%. as we benefited from a strong revenue growth and a significant increase in growth margin due to pricing, a favorable product mix, and cost improvements. Glenn will provide more details on our first quarter performance in his remarks. Our results, once again, confirm the importance and value of a broad and innovative portfolio in the animal health industry, and we remain confident in our performance and outlook for the full year. Looking ahead, we continue to invest in advancing our pipeline, ensuring successful market launches of new products, and furthering the integration of ABAXIS this year. Since our last quarterly earnings announcement, we have seen key companion animal products including Cytopoint and Symphatica for dogs and Revolution Plus for cats continue to gain approvals in markets outside the U.S. Our core EQ innovator, the first and only combination vaccine to offer protection against five core equine diseases was also approved in Canada. And that week Zoetis received approval for Apocol in China, one of Zoetis' largest companion animal markets. And we expect to launch the product there within the next two months. On the livestock side, we launched This is the first genomic test for this breed that provides a direct indication about the genetic risk factors for seven of the most common and costly adult cow diseases. In terms of our R&D pipeline, we still anticipate launching this year. A new injectable parasiticide formulation to protect dogs against a heartworm for up to 12 months pending FDA approval. Our new three-way combination of parasiticides composed of simparica and two other active ingredients still in regulatory review in the U.S. and with the European Medicines Agency. Reviews are also underway in Canada and Brazil, with further submission expected in Japan, China, and Australia this year. If approved, we anticipate this product coming to market in 2020. We also continue working on new monoclonal antibodies to manage pain in dogs and cats, and dermatology for cats. Those programs are progressing and will keep investors informed of future findings in this area. We feel very positive about the benefits these treatments can provide to greater compliance, convenience and efficacy for different species. In the case of other research for livestock, I would point to our programs in vector vaccine technology for poultry. research into promising new classes of antibiotics, and our ongoing investment in diagnostics, genetics, devices, digital and data analytics technologies that can be used in applications like precision livestock farming. Additionally, we have vaccine programs to address current and future emerging diseases, which has been a growth driver for our industry in the past. We also maintain a comprehensive portfolio of approximately 300 product line properties, and we invest significantly each year on lifecycle innovation that keeps those products competitive and growing. Finally, we are making good progress on the integration of ABAXIS, We remain positive on the point-of-care diagnostic market, given its strong global growth prospects, as well as the critical role these diagnostics play in the vet clinic. We are excited about the strength of the AVAXIS portfolio and the way our field force is already presenting it to customers around the world. Our U.S. field force has been working to drive greater growth through new lead generation for diagnostics. In international markets, we have nearly completed staffing and training of our expanding diagnostic team, implemented a new customer service model across this market, and view this as a greenfield opportunity for future growth. We are pleased with our progress today, and we continue to view 2019 as an important year for the integration and platform setting, enhancing certain product and customer experiences and developing more comprehensive customer solutions that leverage our new diagnostic assets. In closing, our first quarter results once again demonstrate the stability and diverse strength of our portfolio in a dynamic animal health industry. We are executing on our strategies for growth across the continuum of care with new products and solutions that help our customers predict, prevent, detect and treat diseases in animals while navigating the evolving trends in animal health. And we are investing and making important progress in key areas such as dermatology, parasitic sites, diagnostic, digital, and data analytics, where we see both near and long-term growth opportunities. Thank you for joining us today, and I will now hand the call over to Glenn.

Glenn? Thank you, Juan Ramon, and good morning. As Juan Ramon noted, 2019 is off to a solid start. Operational revenue growth was 11%, and operational adjusted net income growth was 18%. Reported revenue growth for the first quarter was 7%, with a 4% unfavorable impact on foreign exchange, driven primarily by currency depreciation of the euro and Brazilian real. Excluding the impact of the AVAXIS acquisition, operational growth for the quarter was 6%. Included in the 6% growth is 4% price and 2% volume. Volume growth includes contributions from key dermatology of 2% and new products of 1%, which are partially offset by declines in other inline products of 1%. Companion Animal demonstrated continued strength this quarter with legacy of Axis products, parasiticides, and key dermatology products leading the growth with positive contributions from all key markets. Meanwhile, livestock declined in the quarter based upon declines in sales of medicated feed additives and challenges like the African swine fever outbreak in China. Overall results in the first quarter continued to demonstrate the value of our diversified portfolio with double-digit operational growth despite the declines in swine and cattle. Legacy of Access products contributed 5% to Total Zoetis operational revenue growth in the quarter, with sales of $61 million. As a reminder, the acquisition of Abaxis was completed in the third quarter of 2018, so sales from legacy Abaxis products are incremental in the first half of 2019. The revenue this quarter represents a decline over the pro forma revenue from the prior year. This decline is primarily driven by new product launches and initial distributor stocking in the first quarter last year. we continue to expect full-year growth in diagnostics products as we focus on improving customer experience, connectivity to practice management software, and international expansion. Our key dermatology portfolio, comprised of Apipol and Cytopoint, also continue to contribute to growth this quarter, with sales of $155 million, a 30% operational increase over the prior year. New products, including Revolution Plus and Stronghold Plus, as it's called internationally, PCV Combo Vaccines and Swine, and Core EQ Innovator and Equine, will also grow drivers in the quarter. Revolution Plus, a topical parasiticide for cats, builds upon the Saralina compound that is found in Samparica. The product launched in the U.S. this quarter and in 2017 internationally, and is off to a great start, supporting strong growth in the Revolution Stronghold line in the first quarter. The decline in other inline product volume was related to the timing of cattle product purchases in the U.S., African swine fever in China, the divestiture of certain agribusiness products in Japan, which occurred in the fourth quarter of 2018, and the implementation of stricter commercial and pricing policies in Brazil. The agribusiness is historically seasonal, with a disproportionate sales in the first quarter. These declines are partially offset by the continued strength of Simparica, now captured in the inline product category, which generated $48 million in global sales this quarter, representing operational growth of 61% over last year. Now let's discuss the revenue growth by segment for Q1. U.S. revenue grew 13% in the first quarter. Companion Animal grew 30% and was partially offset by a 7% decline in livestock. Excluding the impact of the Abaxis acquisition, U.S. revenue grew 8%. Companion Animal sales in the quarter were driven by sales of legacy Abaxis products, inline products, including our key dermatology portfolio and Simparica, and new products, including Revolution Plus. Excluding the impact of the abacus acquisition, companion animal growth was 20%. U.S. dermatology sales were $104 million for the quarter, growing 26%, driven by market share gains, price, and investments in direct-to-consumer advertising, which continued to expand the market. Symparica sales in the quarter were $25 million, growing 40% over the prior year. U.S. livestock declined 7%, driven by cattle and swine. Cattle was impacted by the timing of Medicaid feed additive purchases, and dairy continued to face headwinds while producer profitability remained low. Swine was impacted by the discontinuation of a promotional program for our premium products and the timing of Medicaid feed additive purchases. The declines in cattle and swine were partially offset by another strong quarter for poultry, driven by growth of alternatives to antibiotics and medicated feed additives. Despite the decline this quarter, we continue to anticipate U.S. livestock will grow for the full year. Turning now to our international segment, revenue grew 7% operationally in the first quarter. Companion animal operational growth was 23%, while livestock declined 1% operationally. Excluding the impact of the abacus acquisition, international revenue grew 5%. Companion animal product growth was driven by continued expansion and uptake of key dermatology products, the addition of legacy abacus products, strong simparica cells, and growth in China. Excluding the impact of the abacus acquisition, companion animal growth was 18%. Livestock declines were driven by the impact of African swine fever in China and the divestiture of certain agribusiness products in Japan, which were partially offset by growth in poultry, fish, and sheep. The complete quarterly results of our top 11 international markets are provided in the table included in our earnings release, but I would like to highlight a few items for the quarter. The U.K. had operational revenue growth of 16% in the quarter, with companion animal growing 21% and livestock growing 11%. Companion animal growth was primarily related to legacy of Baxas products and increased sales of key dermatology products and Simparica. Livestock benefited from increased market share in aquaculture vaccines in the quarter. In Australia, sales grew 10% operationally, driven by companion animal growth of 15%, and livestock growth of 6%. This market benefited from key dermatology, legacy Abaxis products, and Simparica in Companion Animal, while livestock growth is related to key brand performance in cattle. In Brazil, sales grew 1% operationally, driven by Companion Animal growth of 43%, partially offset by livestock declines of 13%. Companion Animal revenue growth in Brazil was driven by parasiticides, primarily Simparic, and continued strength of Apoquil. Livestock declines in cattle for Brazil related to strengthening of our commercial and pricing policies, which impacted short-term results. We anticipate these policy updates will strengthen our long-term opportunity in this market. Overall market dynamics remain positive, as does our four-year outlook. Moving on to China. We had a challenging quarter with revenue declining 2% operationally. Livestock declined 28%, driven by challenges in swine. African swine fever is having a greater than expected impact as the outbreak has worsened in China, reducing the size of the swine herd. We continue to expect other regions, primarily the EU, Brazil, and the U.S., to increase exports of pork to China to meet domestic consumer demands. We also anticipate growth in other proteins, although to a lesser degree. Companion animal remains strong, partially offsetting the livestock decline, with operational growth of 38%, driven by continued growth of vaccines, parasiticides, and an expansion of the field force in China, allowing us to capitalize on this fast-growing market. As Juan Ramon mentioned, we're also very excited about the launch of Apoquil into this important market. Other emerging and developed markets also continue to perform well this quarter, particularly in companion animals. Summarizing international performance, continued growth of key dermatology products, the addition of legacy abacus products, and diversity cross-out portfolio all contributed to a solid quarter despite challenges in livestock. Now moving on to the rest of the P&L. Adjusted gross margin of 70.2%, increased approximately 270 basis points in the quarter on a reported basis compared to the prior year. The improvement this quarter is primarily related to price, favorable product mix, foreign exchange, and unit cost improvements partially offset by the inclusion of the lower margin legacy of access portfolio. We do anticipate a more normalized growth margin in the second quarter as both price and mix impact will moderate. Total adjusted operating expenses, including the impact of the AVAXIS acquisition, grew 8% operationally. The increase is primarily related to the acquisition of AVAXIS and an increase in certain compensation-related expenses. We are anticipating higher expenses in the second quarter, primarily related to the timing of promotional investments for our key products, the timing of R&D project spend, and the AVAXIS integration. We are continuing with direct-to-consumer advertising and promotional campaigns in the U.S. that support our key dermatology and parasiticide products with our highest expenses occurring in Q2 and Q3. The adjusted effective tax rate for the quarter was 18.8%. The increase from the comparable 2018 period is predominantly related to the impact of the Global Intangible Low-Tax Income, or DILTI, tax, which is a provision of the U.S. tax reform that is effective for ZOETIS in 2019. Our expectation for the four-year adjusted effective tax rate is consistent with initial guidance, which is between 20% to 21%. The favorability in the first quarter is primarily driven by the tax benefits from stock-based compensation. Adjusted net income for the quarter grew 18% operationally through a combination of strong revenue growth favorability and gross margin, and moderated growth in operating expenses. Adjusted diluted EPS grew 19% operationally in the quarter versus the same period in 2018. Now moving on to guidance for the full year. Beginning with revenue, we were decreasing both the low end and high end of the range by $75 million to reflect the impact of foreign exchange. As I noted on the fourth quarter call, U.S. dollar strengthening was something we would be monitoring, and additional USD strengthening has occurred since we set guidance. We are now projecting revenue between $6.1 and $6.225 billion while maintaining operational revenue growth of 7.5% to 9.5% over 2018. Our organic operational revenue growth which excludes the impact of the ABAXAS acquisition, is projected to be between 4.5% and 6.5%, consistent with the guidance provided in FedRights. Adjusted cost of sales as a percent of revenue is still expected to be in a range of 31% to 32%. As I noted earlier, there were some favorable drivers in the first quarter that we expect to moderate through the remainder of the year. We are decreasing the low and high ends of the range for adjusted SG&A for the year to be between $1.45 billion and $1.5 billion due to the impact of foreign exchange. Moving on to R&D, we expect 2019 expenses to be between $445 million and $465 million, consistent with the guidance provided in February. Full-year adjusted interest and other income deductions is now expected to be approximately $200 million compared to the previous estimate of $220 million. The favorability is largely driven by a reduction in interest expense. Our adjusted effective tax rate for 2019 is expected to be within the range of 20% to 21% consistent with previous guidance. and we are still projecting adjusted net income in the range of $1.65 to $1.7 billion, maintaining 8% to 11% operational growth. With a more limited foreign exchange impact on the bottom line, as well as the benefits of the actions we have taken to reduce interest expense, we continue to expect adjusted diluted EPS to be in the range of $3.42 to $3.52, consistent with previous guidance. Our range for reported diluted EPS of $2.79, $2.93, however, is a reduction of both the low and high ends of the range based upon increased certain significant items, primarily due to a change in estimates related to inventory costing impacting the first quarter. Finally, I'd like to remind you that our quarterly results may fluctuate and that our focus continues to be on the full year. As I've already noted, we anticipate low gross margin and higher operating expense in the second quarter, which will impact adjusted EPS. The four-year impact of the BACS acquisition will also continue to have a disproportionate impact on the P&L until we pass the acquisition date in the middle of the third quarter. Finally, foreign exchange will continue to negatively impact the P&L in the second quarter with an impact of approximately 300 basis points to revenue growth. Now to summarize before we move to Q&A, our first quarter results continue to demonstrate the value of our geographic and product diversity with operational revenue growth of 11% and operational adjusted net income growth of 18%. We continue to see strength in our companion animal portfolio to drive the year's results and expect growth in livestock for the full year. And we remain committed to delivering on our full year operational growth rate for revenue and adjusted net income demonstrating the durability and consistency of our business. Now, I'll hand things over to the operator to open the line for your questions.

Operator? And at this time, if you'd like to ask a question, please press the star or more on your touch-tone phone. You can remove yourself from the queue by pressing the pound key. We do ask that you limit yourself to one question and re-queue with any follow-ups. Your line will be muted after asking your question. Thank you. We'll take our first question from Erin Wright with Credit Suisse. Please go ahead. Your line is open.

Great, thanks. Can you discuss a little bit how the ABAXIS integration is progressing here relative to your internal expectations? It was a little lighter than what we thought in our ABAXIS model, and is that just the distributor dynamics? And I noticed that the GAAP acquisition-related costs ticked a little bit higher. Is that all attributable to ABAXIS and where we stand with the SAP implementation? And then the second question is on international livestock. Just given some of the dynamics around African swine fever and what you called out in Brazil, can you speak to how we should think about that quarterly progression over the course of the year? Thank you.

Thank you, Irene. And we answered the question on Avaxis. And let me start saying that we are pleased with the progress that we are making with the integration of Avaxis. The team in the US It's already working together. Maybe not fully integrating the two portfolios because we mentioned that for this full integration we need also to work with the integration of SAP. And related to the implementation of APAP for Abacus, we have decided to move the implementation from August to September. to February because we want our IT team to focus on working on the connectivity of all the equipment of Dynartics. We think that this connectivity that we expect to finalize by the end of the year will help us really to have much more support to Dynartics and offer full integration of full connectivity of the diagnostic equipment to the practice management system. We are also pleased with the progress that we are making in international markets. We have now almost completed all the hiring process for reps and also for technical support. We have also set the customer service that will be helping really to provide the support to diagnostic customers. So in general, we are progressing very well. We continue very excited about the quality of the portfolio of AVAXIS. And we are very confident that ABAXIS will present a significant growth opportunity, especially from 2020. Now we see 2019 as a year in where we are integrating and we are fixing some of the things that we have identified from the previous ABAXIS model. And we are very confident that the projections that we have for this portfolio will be very positive. In terms of the international livestock, let me provide a comment on Brazil and then I will ask Glenn to go into more details on what we expect for the rest of the year in the total livestock performance. And in Brazil we see that the market continues growing very fast. It's a very strong growth and so the growth in companion animal is above market growth so we are growing very fast. In cattle we decided to change some of our commercial policies including prices and we saw as expected some negative reaction from distribution. This had an impact in the first quarter. or Brazil especially in cattle. But we are convinced that these changes will help us to generate better future growth and improve the profitability of our cattle operations in Brazil. So we remain very convinced that Brazil will be a driver for Zoetis and we are investing to support this growth. Glenn, do you mind to provide more details on the international livestock?

Absolutely. Aaron, just also to your question on the BAC system, the Q1 performance, you referenced distributor stocking. We talked about the pro forma performance, Q1 2019 to Q1 2018. In Q1 2018, there was stopping with the introduction of the new products in terms of the urine sediment analyzer and the Fletcor rapid test. That did pose a challenging comp as we look between Q1 2019 and Q1 2018. In terms of the international livestock performance, as Juan Ramon said, you know, for livestock internationally, we declined about 1% this quarter, driven by the factors that we discussed in terms of African swine fever, as well as the impact in Brazil. We would expect to return to growth in Q2, and that growth to accelerate in Q3 and Q4.

Thank you. And next question, please. We'll go next to Louise Shen with Cantor Fitzgerald. Please go ahead.

Hi. Thanks for taking my question here. So I wanted to ask you about your temporary weakness in livestock, and when do you expect that to subside this year and then return to growth, and how much of that is macro versus company-specific? And then maybe just if you could talk a little bit more about this MFA buyer pattern. Thank you.

Well, as we said, in the first quarter, we faced two impacts in terms of growth. the temporary weakness in livestock. One was the cattle business in the U.S. was affected by different factors. I'm talking about the market. The market declined. We saw that the movement of animals to feed lots was below expectations, in many cases driven by weather conditions. But we are optimistic about the cattle business in the U.S. moving forward. The demand for beef is positive, and also the exports are increasing. Additionally, we expect also in the second half of the year a small increase on the price of the milk, also that will help the total cattle business in the U.S. As many times we mentioned I think it's difficult to analyze our business in a quarterly basis. There are fluctuations based on buying patterns, promotional activities, weather conditions that maybe it's important to understand the business on a yearly basis. We remain confident that the livestock market will be growing at the end of the year. What we are expecting is that the poultry will be growing in line or slightly ahead of the market. In terms of swine, we expect going lower than the market and mainly because of the African swine fever. That we expect having a temporary impact. But maybe from third, fourth quarter and definitely in 2020, we expect a significant recovery because many markets outside of China will expand their production that will generate significant growth. And finally, the cattle, we also expect for the year overall growing. We expect growing in the U.S. We expect also growing in international markets. but growing below expected market growth.

Luis, in terms of the timing of the MFA purchases in the U.S., that's really related to the timing of our annual price increases. So in 2019, we aligned the timing of our MFA price increases to be in sync with the rest of our portfolio, which is in January. That led to some additional sales in Q4 of 2018 that then destocked in Q1 of 2019. So that is not an impact that we would expect to see as we move forward through the rest of the year.

Next question, please.

We'll go next to Kevin Ehrlich with Craig Hallam. Please go ahead.

Good morning. Hey, Juan Ramon. Just have a couple questions here. You know, companion animal continues to be really strong. You're seeing really good growth out of, you know, obviously the dermatology portfolio, but also Revolution Plus for cats and Samarica for dogs. Could you talk about, you know, what areas you're focused on the product development, maybe more on the feline side in areas that are under-medicized, also timing for the monoclonal antibody products? And then, Glenn, on the SG&A and operating expenses, you know, clearly there was some favorability this quarter. And you talked about, you know, increased spending, you know, DTC campaign and Q2. Could you give us a little bit more color on that? Thank you.

Thank you. We see the current portfolio still showing opportunities for growth. We see opportunities for growing parasiticized now with the revolution in Plus, we still see that Symphatica continues gaining momentum in the U.S. and also international markets. Apoquil, Cytopoint are growing and we expect to continue growing. We expect to continue growing in the U.S. and also expect to continue growing in international markets. And now we have the addition of Apoquil in China that also will support this growth. We are also very confident. that this growth is steady and for the long term because, as we said, the current portfolio continues growing, but we expect also to introduce simparic of a combination of products, the three-way product in 2020. That also we expect to continue generating growth. In the future, we are not at this point providing any any details of when we expect monoclonal antibodies to reach the market, but definitely we see opportunities in feline with pain. We see opportunities also in feline with dermatology, again with monoclonal antibodies, and also with monoclonal antibodies in dogs for pain. And we are very confident that the R&D machine will continue bringing innovation to the market in companion animals, but also in livestock. We have products for both companion animals and livestock that will support the growth in 2020, 2021, and also 2022. So we are very confident that we have a pipeline that will maintain a growth that will be in line with the market. And Glenn, will you respond to the question on G&A?

Yeah, Kevin, in terms of the operating expenses, so just for the quarter, our operating expenses grew about 8%. If you back out of axis, operating expenses grew around 3% compared to our revenue growth of 6%. So pretty much in line with our overall expectations over an extended period of time. That being said, we did have some favorability in R&D expenses in terms of the timing as well. But as we move through into Q2 and Q3, A, we'd expect elevated expenses in Q2 and Q3, as that is the time frame in which our DTC promotions, particularly in the U.S., around our dermatology portfolio and Simparica kick in at a higher level. And we'd also expect some elevated expenses in terms of our R&D as well.

Next question, please. We'll go next to Michael Riskin with Bank of America.

Please go ahead. Hey, guys. Thanks for taking the question. I want to dig deeper on some of the moving pieces in the quarter, both on the livestock markets in the U.S. and internationally. If I go through some of the items you called out, African swine fever, the Spant divestment, looking at your uh... revenues by geography you know i think i can estimate that asf may have had a five to ten million uh... dollar hit in the quarter of the japan development of someone the same ballpark as well uh... first of all i get a sense of that's the right way to think about it uh... and then uh... you know if that's a similar run rate you would expect for asf uh... going forward and then the other one will be on the u.s. livestock business you know you talked a little bit about the uh... the distributor relationship from the stocking in 4Q, but just trying to get a sense of the magnitude of that impact in the first quarter versus the rest of the feedlot pressures as well, so we can plan the phasing through the course of the year. Thanks.

Thank you, Mike. And I will maybe make a general comment on the African swine fever, and then Ron will go to the details of your question. So first the African swine fever definitely is carrying a significant impact in China and we also have an impact in our results. We mentioned that probably up to 30 percent of pigs will be lost, 150 to 200 million. And as a reference in the U.S. the production is 120 million per year. It's also true that in China the market share of multinational companies is only 10%, 90% is products that are sold by local companies. We definitely see a significant issue in China, mainly for the producers in China, but also we see that the other countries, the U.S., Brazil, European markets, will increase significantly the production of pork to meet all the demands of the Chinese consumers that definitely for a significant period of time they will be seeing a shortfall of produce in China. And since outside of China we have a significant market share in the swine, in the medium and long term we see that as an opportunity to generate growth in swine and also maybe an impact in poultry and to a minor extent also to beef because in the end the consumption of animal produce in China will remain and export markets will supply a product to meet the demand in that market. And Glenn will go to the details of the impact on African swine fever in the quarter and also the Japan agro business and also the U.S.

So Mike, specific to your question, for ASF and Japan, you mentioned a range of $5 to $10 million. So what I'd say, ASF is probably at the high end of the range for the quarter, and Japan is probably at the low end of that range for the quarter. In terms of U.S. livestock, obviously we did have the impact in Q1. It's a little above that $5 to $10 million range that you referenced, with the bigger portion of that being cattle. Thank you, Glenn. Next question, please.

The next question is from John Block with Steeple. Please go ahead.

Pardon me. Thanks, guys. Good morning. I've got two long ones, so maybe I'll try to break it up if it's okay with you. The first one, the TRIPLE or SAPARICA TRIO, one, Ramon, any updates on how the filing or interaction with the agency is proceeding? And then I'm just curious on your ability to fulfill demand in the early days. You know, obviously with Apoquil, there were challenges post-launch, although I know some of that was sort of the reliance on a third-party manufacturer. So any color would be helpful. And then I'll ask a quicker follow-up. Thanks.

Thank you, John. And we are progressing well with the discussions with the FDA. We have completed all the sections of the filing and it's just now the normal process of question and answer. We are confident that the dossier is strong and it will be approved by the FDA but it's always something that is not depending on us but on the regulators. One of the challenges that we discussed in the past is that we needed to demonstrate 100% efficacy on hardware. We have provided this data and we are confident that the product will be approved and ready to be launched in 2020. And, well, definitely we try to learn from previous challenge or issues or mistakes. And definitely in the case of the three-way product, we secure enough active ingredients to be ready to launch the product as soon as the product is approved. So we are not expecting any challenge in terms of supplying the market all the demand.

Next question. We'll go next to David Risinger with Morgan Stanley. Please go ahead.

David Risinger Thank you very much. So I have three questions, please. First, with respect to U.S. companion growth this quarter, could you just give us the figure, the percentage X of axis? Second, how should we model livestock sequentially in the second quarter? I just don't have a good feel for how we should be thinking about the livestock business sequentially in 2Q in the U.S. and ex-U.S. And then one little tidbit with respect to the revenue guidance reduction of 1%. Was that solely related to FX, or was there also some modest impact elsewhere? Thank you.

Thank you, Dave. And Glenn, we'll cover these three questions.

Sure. So just in those questions. So in terms of our revenue growth, excluding ABAXIS, focused on companion animals. So globally, our companion animal business grew 27%. Without ABAXIS, we still grew extremely strong at 19% globally. In the U.S., the number was with ABAXIS, we grew 30%. Excluding ABAXIS, we grew 20%. And internationally, companion animal grew 23%. Without abacus, we grew 18%. So really strong organic growth within our U.S. companion business. As we mentioned earlier in terms of the livestock growth sequentially, when you look at it globally, we did decline 3% this quarter in terms of the livestock business on an operational basis. We do expect to return to growth in Q2, and we expect that growth to accelerate throughout the year. In terms of the guidance, we reduced the guidance at both the low and high ends of the range by $75 million. That was purely due to FX. There were significant movements at the time from when we set guidance. When we set guidance back in February, we were using rates as of late January. And when we set guidance now, we're using rates as of the end of the, towards the end of April. And that had a significant movement, so the movement was purely due to FX.

Thank you.

Next question, please.

And we'll take the next question from John Krieger with William Blair. Please go ahead.

Hi. This is Courtney Owens on for John Krieger. So just a quick question surrounding the dermatology portfolio. When you just think about the penetration rate specifically in the US right now, where do you guys think that is? And then when you think about the international growth in the dermatology portfolio, so the rest of 2019 and beyond, where do you guys foresee that growing And then just when you think about them individually, so AquaSol and Cytopoint, have they trended well compared to your expectations? And are you seeing vets having a strong preference for one or the other product? Thanks.

In terms of penetration or dermatology portfolio, I think it's about, in terms of patients, about 59%. And it's something that probably, or 63%, sorry, it's the total patient share, which is very strong. And we still see opportunities, first, to continue expanding the market. And we will be starting now in the second quarter campaign, direct-to-consumer campaign, with two objectives. One is to expand the market and also second is to continue building brand equity for APOC World. We see also that these investments are also having a positive impact on CyclePoint. We expect the dermatology portfolio to continue growing. We expect also to grow faster in international markets than in the U.S. but in the U.S. we still see a positive momentum. And how much is the preference of CytoPoint or ApoQOL? In that respect, I think we leave veterinarians to decide what is the best for their patient effects. And we are not trying to promote ApoQOL in favor of CytoPoint or CytoPoint in favor of ApoQOL. They are covering all the spectrum of needs in terms of treating dermatology issues, each in dogs, and we see that there is some cannibalization, but also Cytopon has been growing the market and helping us to increase this franchise. Next question, please.

We'll go next to Kathy Minor with Cowan & Company. Please go ahead.

Thank you. Good morning. I have two questions. First, could you just provide a little more clarification on your comments about the impacts of the African swine fever on Zoetis? And I appreciate that over time there's either going to be greater demand for the proteins or you'll see other regions pick up some of the supply. Can you just help us understand why that's medium to long term and why shouldn't we see some of those dynamics sooner, particularly as supply needs to pick up in some other countries? And my second question is on Apoquil. First, could you give us the breakdown between Cytopoint and Apoquil sales of the $155 million you gave us before? And also, in Apoquil in China, could you give us a sense of the market size? Is it similar to the EU5 or U.S.? And is Cytopoint also under review in China? Thank you.

Thank you for all the questions, Cathy. Let's go back to the African swine fever and the potential impact. I think we mentioned that we expect that up to 30 percent of pigs can be lost because of the African swine fever in China. So if we translate this 30 percent to our revenues in so we can also estimate that it will be about 30% of our revenues, although we expect a little bit lower impact because of maybe sophisticated farms are less affected by the African farm fever than the bad yard production or small farms. We expect that it will be an immediate impact in terms of the value of the As a reference in the last quarter or in the fourth quarter of 2018 producers in the U.S. they were losing $20 per pig. Now they are making $30 profit per pig. So the value of the pigs has increased significantly and then the willingness to spend to keep these healthy and productive also will increase. So we expect that this will be a positive impact, an immediate positive impact. Then we expect also that the farmers or the producers in the U.S., Brazil, European Union will increase production. The cycle of the production is six months. Probably we don't need to wait six months to see some impact because it will increase the production and even if it takes six months from birth to slaughter, I think we can start using products at early stage of the animal. So we expect in the third and the fourth quarter of this year having a positive impact in the swine business in Brazil, U.S., and U.S. market. And moving into the details of APOC World Breakout, Glenn, do you mind answering that and also covering also the projections in China and providing some context? Sure.

So in terms of the total DERM revenue, we had $155 million in total sales for the quarter with growth of 30%. To the earlier question in terms of penetration, U.S. had $104 million in sales, and international had around $52 million. So as there are similar amounts of medicalized dogs in the U.S. as international, we would expect more rapid growth from international and greater penetration over time internationally. The breakout of $155 between Apoquil and Cytopoint, we had $119 million in sales of Apoquil with 22% operational growth, and we had $36 million in sales in Cytopoint with 65% operational growth. In terms of Apoquil in China, very excited about the launch of Apoquil in China. China is one of our largest and fastest growing companion animal markets. Just to put in context, though, the overall potential and market size, so In 2018, Apple Quo globally in all of our international markets, excluding the US, had less than $160 million in sales, with our top market internationally generating sales of just below $30 million. So that just gives some overall context in terms of the potential of Apple Quo in any given international large companion animal market.

Thank you. Next question, please.

And we'll go next to Chris Shaw with JP Morgan. Please go ahead. Great. Thanks very much. Just two questions. Maybe first on Semperica Trio, just a little bit more color about how you're thinking about the launch of these new triples, how quickly they'll be adopted. Should we be thinking about these as products that could have significant year one uptake or is this a more gradual kind of three to five year process as these roll out? The second question, I know it's been touched on a little bit, but your companion business, and particularly the U.S. companion business, were particularly strong in the quarter, kind of above recent trend. Can you just elaborate a little bit more on what you're seeing here, and if there's anything that's either one-time related or either kind of year-over-year timing related in terms of the strength we saw this quarter? Just trying to get a sense of how much of this is just really healthy, organic, kind of underlying growth versus timing issues. Thanks so much.

First, starting with the combination of products for parasitic sites. Well, the adoption, I think we expect that the adoption would be fast. And also, it will depend if we are number three, number two, or number one in the market. But definitely, we see a need for the market to combine internal and parasitic sites, mainly in docks. And we are confident that there will be a significant opportunity to generate growth in 2020, 2021 and also 2022 because we think that this product will have a long run and definitely the opportunity is ready to generate our growth in companion animals. Glen, will you talk about the U.S. companion animal growth in the quarter and trends for the future?

Yeah, so what I would say, Chris, is A, the overall global companion animal growth was very strong. When you take out the impact of the Baxus, you know, we grew 19%. 20% in the U.S., 18% internationally. So both segments growing very rapidly in companion animal. And those are driven just by strong underlying dynamics and trends, particularly around the Durham portfolio, around Simparica, and also really strong performance of Revolution Plus. Q1 of 19 was the launch of Revolution Plus. in the U.S. It's off to a very successful start. There is some stocking in Q1 of 2019, particularly in the U.S., but still the start that we're seeing in Revolution Plus is very, very encouraging. Thank you, Glenn.

Next question, please. And we'll go next to Greg Frazier with SunTrust. Please go ahead.

Great. Thanks for taking the questions. This is Greg Frazier on for Greg Gilbert. On this call, Merck noted that its livestock business was impacted by destocking related to consolidation in the distributor space. Is that something that you've observed? I wasn't sure if your comment on distributor purchasing patterns was related to what they described. And then just a quick follow-up on the livestock commentary. Are you anticipating growth for international for the full year? Thank you.

Well, probably we saw some... challenge with distribution in Brazil, but not in the U.S. In Brazil, I mentioned that we have these changes in commercial policies that reduce sales to distribution during the quarter. But as I mentioned, we expect that this will support more quality growth in the future. no changes in the distribution in the U.S.

Len, do you want to add comments here? No, just to your question on livestock growth for the full year, we still are expecting livestock to grow globally in the U.S. and internationally. Thank you. Next question, please.

And we'll take today's final question from Navin Jacob with UBS. Please go ahead.

Hi, this is Prakhar Agrawal on behalf of Navin Jacob. Two questions, please. First, on poultry, your growth in poultry products was quite strong. So could you give more color on what is driving that in terms of the near-term trends and anything specific from your product portfolio? And secondly, one of your competitors recently made an acquisition that included some oncology products. So is Zoetis making an R&D investment in oncology? And do you think this market is commercially attractive? Thank you.

So I'm going to ask Glenn to answer the question on poultry, and then I will cover the oncology comment of that question.

So from a poultry perspective, we continue to perform very well in poultry. Overall, very solid growth, higher than the rest of our portfolio in livestock. And really, that's driven by our portfolio

of alternative antibiotics in poultry that we continue to perform very well in within the mfa sector so that's something that's been consistent for us over the last number of quarters and trend that we expect to continue and uh on oncology we have already a product in oncology which is working well which is palladium we launched this product some years ago we continue assessing the oncology market and definitely we have some programs, internal programs related to monoclonal antibody and some other programs but still oncology is a very limited time market although maybe in the future it will be a potential attractive market but today it's a quite limited opportunity. And I think with that conclude the questions and thank you very much. for joining us today and as we said, we remain very confident about the outlook for 2019 and we are maintaining our operational growth and we are also maintaining our target in terms of adjusted net income. Thank you very much for your attendance.

And this will conclude today's program. Thanks for your participation. You may now disconnect.