Q3 2022 Perrigo Company PLC Earnings Call
Good morning, and welcome to the Paragon <unk> third quarter 2022 financial results Conference call. All participants will be in listen only mode should you need assistance. Please signal conference specialist by Christmas Starkey, followed by zero.
After today's presentation there'll be an opportunity to ask questions.
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Please note this event is being recorded.
I would now like to turn the conference Brad Joseph VP of Investor Relations. Please go ahead.
Thank you Anthony good morning, everyone and welcome to <unk> third quarter 2022 earnings Conference call I Hope you all had a chance to review the earnings press release, we issued this morning, a copy of the earnings release and presentation for today's discussion are available within the Investor section of the <unk>.
<unk> Dot com website joining.
Joining today's call are president and CEO , Murray Kessler and CFO Eduardo Bezerra.
I'd like to remind everyone that during this call participants will make certain forward looking statements. Please refer to the important information for shareholders and investors and Safe Harbor language regarding these statements in our press release issued earlier this morning.
Quick items before we start first in Las Vegas, All financial results discussed and presented on a continuing operations basis. They do not include any contributions from the divested Rx business, which was accounted for as a discontinued operations prior to itself.
In addition to other non-GAAP adjustments as described in the appendix.
Adjusted profit measures, including adjusted EPS and adjusted operating income excluded from the prior year period certain costs incurred to support the operations of the Rx business, which are reported in continuing operations Eddie.
The appendix for additional detail and for a reconciliation of all non-GAAP financial metrics presented.
Second organic growth actually acquisitions divestitures and currency in both comparable periods.
Third management's discussion will focus solely on non-GAAP results, except as otherwise expressly noted all comments related to constant currency you removed the impact of currency translation versus the prior year by applying the exchange rates using the comparable measurements in the prior year's financial statements and with that I'd like to turn the call over to Murray.
Thank you Brad and thank you everyone for joining us this morning.
On today's call.
I will first highlight peridot double digit third quarter constant currency top and bottom line growth versus year ago.
And the strong fundamentals on our business that drove that growth.
I will dive into the macroeconomic factors that required us to update our adjusted EPS guidance.
And finally provide some exciting updates on our strategic initiatives that will keep us basically on track with our 2023 financial goals. Despite the continued volatility in the macroeconomic environment.
Following my comments Eduardo will walk you through details of our Q3 financials.
Third quarter and year to date results for Purgo were strong across the board.
Constant currency net sales increased 12% in the quarter and 14% year to date.
Organic net sales growth continued to grow well above our 3% long term target growing plus 8% in the quarter and plus 11% year to date and that excludes the organic growth of HRA, which grew double digits. During the same periods of time.
Third quarter top line growth was driven by the net benefit of the HRA acquisition less the divestitures of Mexico and Star way.
Market share gains across all of our U S business units and major categories as store brands continue to gain share from national brands.
Market share gains in our European business led by the newly acquired <unk> brand.
Strong growth and share gains in e-commerce.
And the positive impact of strategic pricing actions across the global portfolio.
It's worth pointing out that once again consolidated organic growth was driven by a combination of both positive volume and price, 2% and 6% respectively.
Gross margin increased 210 basis points versus a year ago.
<unk> profit flow through led the constant currency adjusted operating income growth of 32%. Despite a $36 million increase in input costs, driven by inflation and other macroeconomic factors constant currency diluted EPS for the quarter was 65.
We're up 44% versus year ago, which included higher year over year interest expense and a slightly higher share count.
Let's spend a few minutes on the fundamentals of the business first.
<unk> top line growth, we are seeing adjusted for currency.
Whether in total or organically, it's not a one off it's been a consistent trend for perspective net sales ex currency grew 7%, while organic sales grew more than 4% both on a three year compound annual growth basis and that growth came despite the volatility on our business from the Covid.
And damage.
Taking a closer look at revenue for the quarter growth was driven by both CSC, a and C. Sci in addition to contributions from HRA.
Growth was also strong across our major product categories. A few notable highlights are.
One.
Women's health grew 100% due mainly to the disposition of HRA brands, which benefited from the increased emergency contraception demand spurred by public concerns surrounding the ROE V Wade decision too.
A 28% increase in skincare related to the addition of <unk> and mid Derma and continued growth of our <unk> brand in Europe .
Three upper respiratory growth of 19%.
It was driven by higher instances of cough cold in Europe and market share gains against National brands and other store brand competitors in the U S.
Cough cold sales could have even been stronger but for U S. Labor shortages that made it difficult for us to keep pace with elevated demand.
Analogy U S share gains and the launch of Nathan X 24 hour contributed to growth in the top line, even though the total allergy affected population was down 11% compared to the prior year. According to <unk> data.
Or.
An 18% increase in our nutrition business was driven by heightened infant formula demand, resulting from a national brand infant formula shortage, we had been running our facilities at 117% of normal output to do our part helping to make up for the shortfall. Unfortunately run.
This older equipment that hard for that long resulted in an abnormal amount of formula placed on quality hold during Q3 as it does not meet our rigorous standards.
To remedy this situation, we paused the Vermont facility for three weeks to do proper maintenance.
<unk> is back up and running by Q3 shipments could have been higher without this constraint.
By the way. This is one of the main reasons, we acquired the gate wafer facility from Nestle and I'll talk about that in just a couple of minutes.
And lastly, oral care sales were up 8% in the quarter you may recall that earlier. This year. This impact this business was impacted by supply chain disruptions due to ocean freight delays from China, along with a substantial rise in the cost of inbound freight and higher demurrage fees.
Yes.
I'm happy to say that over the last few months, we have received a significant amount of back ordered inventory from China, allowing <unk> to begin shipping on constrained.
As a result, the business gained significant share in the quarter.
Also good news here is that ocean freight rates have returned to pre COVID-19 levels. So while oral care took a hit in profitability. This year. It appears to be on track and expected to recover substantially in 2023.
Speaking of market share gains.
Pair ago grew share globally.
Every category or segment, we compete in.
We gained share of total U S. OTC, we gained share of U S store brand OTC, we gained share of U S. E Commerce, and we gained share of European E. Commerce, we gained share of U S. Oral care and we gained share of U S nutrition, and we gained share of total European OTC.
Another positive trend in the quarter included consumers switching from national brands to store brand in the U S. OTC and this is a similar to our experience in previous previous periods of a looming recession or high inflation.
While we are gaining market share it is worth noting that the total growth rate of our largest category. We compete in total U S. OTC has slowed back to more normal pre COVID-19 levels for perspective.
In the first half of this year total U S. OTC grew 13, 4% and total pair ago U S. OTC grew nine 1%.
Looking at the latest 13 weeks, which coincides with pair ago third quarter.
Total U S. OTC omnichannel dollar growth slowed from that $13 four to two 3% despite significant retail price increases.
We estimate national brand price increases of approximately 8% to 9% this year, suggesting a 6% volume decline in total OTC.
<unk> retail growth also slowed but outpace the category and was up five 8%.
Fair enough pricing up 6% in the quarter and repairs that are buying at retail was relatively flat year over year. We had previously forecasted growth in uso's HTC to remain at the first half levels, which did not happen in the third quarter encourage leak and we did see a bump back up again at the end of the quarter.
With a total OTC category up 7% in the final four week period of the quarter and that supports our fourth quarter OTC estimate.
Turning to slide 11.
Like all multinational businesses the impact of unfavorable currency translation has been a major headwind this year prepare ago.
We expect the strengthening U S dollar to adversely impact full year 2022, net sales results by approximately $230 million.
And adjusted operating income by more than $43 million by year end and.
In addition, we expect gross inflation to impact our cost of goods sold labor cost and distribution cost by more than $210 million also for the full year oral care and nutrition business units in the U S were the hardest hit in the quarter.
We've worked hard to offset the majority of these inflationary costs with strategic pricing actions and other cost savings. However, we will be taking additional pricing to cover significant.
Cost pressures as we need it.
Turning to guidance, we have reaffirmed our net sales and organic net sales guidance. Our updated 2022, adjusted EPS outlook range of $2 to $2 10.
It reflects a negative <unk> 10 impact from further unfavorable currency movement and a negative <unk> 15 impact from the rest of our business, including the infant formula purchase versus our prior estimate.
That is in there now let me talk about HRA synergies in two other strategic initiatives that we believe will help us deliver very strong growth in 2023.
The integration of HRA remains a cornerstone of our growth strategy and since the acquisition closed in May the business has performed beautifully and is growing double digits.
We are now raising our total synergy estimate to 50 million euros by the end of 2024 up from $40 million euros previously and up from our original $30 million Europe estimate at the time of the deal.
Eduardo will go through the details, but we expect an impact to 2023 adjusted EPS of approximately <unk> 18 or $30 million in operating income for a one time cost and let me stress of onetime costs, which would not be included in your current forecast. This cost is related to the <unk>.
Inventory sales returns from distributors as we switch HRA from distributors to our direct sales force. This cost has no impact on the strong fundamentals of the HRA business.
Underlying trends.
Other than to facilitate the ongoing cost benefit.
Moving to our gross margin expansion plan in line with our expectations pair ago gross margin has increased throughout the year.
While flat relatively flat Q3 versus Q2, we continue to expect to exit the fourth quarter above 37%.
Okay.
Our third strategic initiative is the supply chain reinvention program, which we expect to deliver $50 million to $70 million in incremental operating income next year.
Gateway and good start brand infant Formula acquisition is the primary driver, but our portfolio design and SKU optimization actions will also contribute.
So let me repeat myself, we expect the incremental operating income from these strategic initiatives in 2023 to replace the lost operating income from the second half of 2022.
This excludes the onetime cost to achieve the HRA synergies and also excludes any further impact of currency.
Now on to infant Formula My nutrition team had been working to solve our infant formula capacity constraints for several years and you may remember that in 2018, the Paragon Board of directors authorized and we announced that we would invest up to 300 million to expand our formula capacity with the <unk>.
Rayfield project, which did not occur.
The acquisition of the Gateway facility finally, solves the capacity problem and at nearly half the cost.
To recap the details of this transaction, we're making a 170 million strategic investment in our infant Formula network.
We paid $110 million combined for the gateway manufacturing facility and the U S and Canadian good start branded businesses.
These investments are not only important for pair ago as we harden our existing facilities, but also bolster the infant formula manufacturing industry in the U S by expanding industry capacity by 7 million pounds or more than 100 million eight ounce bottle of equivalents within the next 18 months.
This purchase is highly accretive with an expected operating profit contribution in 2023 of more than $50 million part from the good start brand and an equal part from additional volume. We can now run through this network to support our current.
Customers.
Pulling all this together I remain excited about our future.
Our fundamentals are solid and getting stronger as we continue to win market share expand gross margin and make the strategic investments necessary to drive profitable growth in 2023 and beyond.
Clear.
For the one time costs to bring HRA distribution in house and foreign currency translation impact our 2023, adjusted Epo EPS goal remains unchanged.
With that I will turn the call over to our CFO to discuss the financials in more detail Eduardo.
Thank you Marty and good morning, everyone.
I would like to first go through the details of our third quarter financial performance on a continuing operation basis, then give more details regarding our updated HRA synergies and one time costs.
Now looking at our financials, starting with our GAAP to non-GAAP summary, the company reported a GAAP loss of <unk> $52 million for the third quarter or a loss of 39 cents per diluted share.
On an adjusted basis net income was $76 million and adjusted diluted earnings per share was <unk> 56 cents per share versus 45 per share in the prior year quarter.
Few adjustments to the quarter pretax non-GAAP P&L so poorly.
We're number one.
Amortization of $69 million to restructuring charges of $20 million, primarily related to our supply chain reinvention program and three acquisition and integration related expenses of $12 million, mainly related to the HRA acquisition full.
Full details can be found in the non-GAAP reconciliation table attached to this morning's press release.
non-GAAP tax adjustments for the quarter were $28 million.
Primarily driven by the tax effect of non-GAAP adjustments and the effect of Easter impacts accounting requirements.
This led to an adjusted effective tax rate for the third quarter of 21, 8%.
Likely up from the third quarter of 2020.
From this point forward all dollar numbers basis points of margin percentages will be on an adjusted basis Lazar stated otherwise.
Moving directly into gross profit Q3 grew $43 million or.
R 22, 3% on a constant currency basis, driven by inflation justified pricing higher sales volumes and the absence of two product recalls that recorded in the prior year.
Growth was also driven by the addition of HRA.
These increases more than offset higher costs, driven by inflation, resulting in gross margin expansion of 310 basis points on a constant currency basis.
Operating income increased <unk> $1 million.
Third our 32, 2% on a constant currency basis, driven by favorable gross profit flow through which was partially offset by higher operating expenses due to the inclusion I'll reiterate and higher distribution costs. These factors led to adjusted operating.
Margin expansion of 190 basis points on a constant currency basis.
First the SBA segment, net sales increased 4% or seven 3% organically driven by first the inflation justified pricing actions second strong performance in the infant formula third the allowance of Nasonex.
And fourth increased manufacturing capacity and demand for the store brand version of my relax.
<unk> benefited the digestive health category.
Importantly, as highlighted by Murray, we achieved share gains across all three businesses.
Gross profit EBIT quarter increased $10 million.
Or five 4%.
Pricing and higher sales volumes offset cost of goods sold and inflation and lower profitability our contract sales to the divested Rx business.
Adjusted gross margin expanded 50 basis points versus prior year on a constant currency basis, and 30 basis points sequentially.
Operating income for the quarter was flat to last year as gross profit flow through was offset by higher operating expenses, including the addition of HRA.
30% increase in distribution expenses, driven by higher logistics and the mortgage costs in our oral care business and the impact of divested businesses versus prior year.
The impact of these two items was $8 million on operating.
Moving into CACI.
<unk> net sales increased eight 4% on a constant currency basis, and we saw a 71.
We saw a significant increase of 28, 6%, including $71 million from HRA.
Organic growth was eight 3% driven by continued demand for cough cold and skincare products.
Constant currency gross profit grew 41, 5% driven by the addition of HRA strategic pricing and increased sales volumes. These factors drove a 480 basis points increase in adjusted gross margin versus the prior year.
Operating income increased 66, 8% on a constant currency basis as favorable gross profit flow through more than offset higher operating expenses, primarily driven by the inclusion of HRA, a higher administrative and R&D expenses.
Now moving on to cash flow cash.
Cash on the balance sheet was $469 million at the end of the third quarter down from $485 million at the end of the second quarter.
Year to date operating cash flow was $121 million, a conversion of 68%, which is lower than we expected.
Let me explain.
Year to date operating cash flow included impacts of $79 million due to increased inventories primarily in the U S oral care business and the Sci segment and $19 million from restructuring expenses.
Given this impact we're now projecting 75% operating cash flow conversion to adjusted net income for the full year.
In addition to these operating cash flow movements, we also invested $70 million in capital expenditures.
$107 million to our shareholders through dividends during the first nine months of the year.
Although the acquisition of the Gateway infant Formula plant took place after the quarter close I wanted to provide a bit more detail regarding how we funded that are uninsured.
$9 million transaction.
When we refinanced our debt.
Closing the HRA acquisition earlier this year, we borrowed the U S dollars and use cross currency swaps for years.
Given the strengthening of the U S. Dollar this year relative to our slot positions, we were able to re coupon these swaps and generated approximately $100 million in cash which was used for the gateway purchases.
As I stated, we have increased our cost synergy targets for HRA to a benefit of approximately 15 million euros to operating income by the end of 2024.
We expect to achieve roughly half of these target by transitioning from HRA sterno distributors throughout Europe to our internal <unk> salesforce.
As a reminder, we have 1200 sales and marketing colleagues in our <unk> business with approximately 100000 pharmacy drugstore partnerships across Europe .
The remainder of the cost synergies are expected to be captured from a reduction of fixed costs.
To achieve the 50 million euros, we estimate one time cost of approximately 60 million euros or one two times the ongoing synergy benefit.
These one time costs approximately half are related to expected inventory sales returns as part of the distributor transition from major any external distributors to internal CSPI salesforce.
The one time impact of the sales returns will be included in our adjusted non-GAAP results.
The remaining costs are expect expected to be excluded from our adjusted results.
Consistent with our historical treatment of integration and restructuring costs, we will provide updates on a quarterly basis of the progress of these two areas both synergies and a onetime costs.
In closing I'm excited about our business and we would like to thank our colleagues around the world for their continued efforts while navigating through a very dynamic macroeconomic environment, we continue to make progress towards delivering on our strategic initiatives strengthening our business and delivering meaningful.
Growth in 2023 with that operator can you. Please open the line for questions.
We will now begin the question and answer session.
To ask a question you May Press Star then one you touched on something.
Using a speakerphone please pick up your handset before pressing the keys.
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At this time, we will pause momentarily to assemble our roster.
Our first question will come from Elliot Wilbur with Raymond James You May now go ahead.
Good morning.
Morning, several questions for you.
First with respect to the Gateway acquisition I may have missed this in your commentary or maybe it's in the deck and I just don't see it but could you provide some.
Color into what the.
Revenue run rate of that business is and then as we think about integrating that with your existing operations trying to think about like what that actually does for you.
On a capacity basis, either in terms of units or dollars, how much of an incremental lift I guess to the existing business does the gateway acquisition, enabling us to capture and then you mentioned the the plant shut down three weeks so some <unk>.
These specs that maybe not hit.
Can you just talk about whether or not that sort of triggered any major changes in terms of processes or level of investment associated with the Vermont facility.
Couple of others too.
Okay.
This is an important you're right on the right area because.
If I look at our gross margin progression.
There's two areas you go to everything else is beautifully on track and we have been facing challenges with very old equipment in Vermont for years like in my first months joining <unk>.
<unk> is the first board meeting we had gone in and ask for I think it was somewhere around $250 million and at the next board meeting we raised over 300 million to build a facility, but we werent able to build that because it didn't pass the environmental is et cetera, but the reason we did it it was equipment at the end of its useful life.
That kept having quality issues I think three or four years three years ago three years ago. We had a couple of recalls we've been constantly struggling. We spent then we took the profitability of that business down by adding I added.
100 people 30 and in.
In quality control and 70 and sanitation in order to make sure. We didn't have what you saw happen. This summer we slowed the lines down and we added about an incremental $10 million in cost on an ongoing basis per year. So all of that was just being.
Worked through at the same time, we were out we could not satisfy the volume of our key customers.
So.
With that in mind.
We had looked at other alternatives and we had gotten on.
Our discussions with naturally as you saw in their quotes they had been challenged on those businesses and we're looking at.
<unk>, we had done some contract packing with them they supply some of our infant formula, but at a big price and hit our margins as well the opportunity came to purchase that and is it sort of solves the entire problem. Now. This is not something that came up in the last month or so we've been working on.
For well over a year long before the infant formula shortage. So to give you if I can try to give you the details that you're looking for on that total infant formula business, we have the good soft brands.
Right.
We did not purchase the <unk> business, we will pack the weak business for them those that brands.
And we will see how our.
Less important it was <unk>.
Had a completely rely on that to justify their investment in the facility Theres always base part of the business for us, but it's a nice margin business.
It had a bigger bump this year because of the shortage, but that'll be a part of the volume.
It contributes about half of that $50 million.
Spoke about on an annual basis. The other half comes from the the poundage that they were already packing for US now at cost instead of their margin comes back to us and we can put millions of more pounds. We will also invest about $16 million into that facility, which will allow us to make.
More than the four products that we already make there. So I don't have to do any technical transfers I can start feeding their our four biggest skus. We can start putting more poundage, we can get that that allows us in vermont or some of our premium national brand custom.
Customers, we can now meet their demands because we're only satisfying about half of what they want or even less than half of.
What they want and we can do that we can also slow the Vermont lined down we're putting an additional $20 million and that dryer. We've been doing this for years ago, but it's banned days.
And then we will make additional decisions will be able to slow that and when I say, it's below the line you have to slow the line down you just have to have more time for brakes for maintenance in order to so that you don't have these quality issues and we can recover some.
The costs, but this is less than $170 million for 50 plus.
Usually relatively concerned 50 million plus.
Additional operating income is a big deal and then just.
So you don't add it on to the numbers next year.
Thats pretty similar to the challenges we had.
The back half of this year. So you know right now that offsets the.
The shortfall here in the back half and but for.
Some worked currency.
That onetime HRA charge, which I told you about last call. We're at the same numbers.
Okay. Thanks, and then I wanted to ask a question around the HRA business in the quarter as well you mentioned the double digit growth I'm wondering how that performed versus.
Versus plan and versus your internal expectations.
And if theres any color you can provide in terms of what the gross margin impact of that business was I guess thinking about the disclosure last quarter and then.
Relative to this period.
I thought it might have a little bit more of an incremental.
Lift to overall gross margins, but perhaps that's just a function of the other businesses and then yes, yes, yes.
You can see theres been so much movement.
And FX and.
Just.
Changes I guess in the underlying velocity the HRA business could you just remind us.
What sort of what your.
2020 targets HRA as the HRA is exactly on our deal model.
Yes.
Right now forecasting for the year of 100% of it is massive increases and the difference then.
<unk> gross margin.
You know Brad or ore Gerardo you can help me a little bit but was.
Robert.
Over 200 basis points, yes.
In the quarter from HRA, Yes. So your your point is correct, let me just cut to the chase.
We were.
Because of HRA. We were we were everywhere model have CACI in front of me CACI gross margin.
Yes.
That's going to be affected by eight.
So that's up $58 seven.
In the quarter and that's it.
Excluding HRA, so everything was up.
In the U S. Our biggest business OTC was up almost 400 over 400 basis points on a constant currency basis and the operating income was up.
Over 25%, so where was the issue the issue was oral care and nutrition, we just talked about nutrition I have.
Throw away product I shut that facility down for.
Three weeks that quality hold product doesn't necessarily mean, it's all bad it means that you have to go through it and test it all which is very slow.
And so that's the big driver.
And you didn't get the volume all the way shifts that we were planning on getting shipped are good. Good a shift I mean, we can basically ship everything we could make but in nutrition that was down 700 basis points versus year ago, while gross margin alright. So and then same thing with oral care was down over 1000 I was like.
And that's all because of that inbound freight so whats the good piece of it.
Isolated.
And well, let's keep in mind, we were up 207 basis points versus year ago in total despite those two issues.
Good news on those two ratios oral care the freight costs are all the way back down we're expecting a.
A significant recovery I think the gross margin on oral care was a little under 18%.
The quarter and it should be at least mid <unk>, yes in the fourth quarter.
This year animal and nutrition.
Nutrition is a little complicated because.
We'll have a little bit of.
<unk> clear up.
It gives me the gateway facility.
The good start brands in there as well, but we will have a significant increase we were down 700 basis points versus.
A year ago on nutrition.
So.
Bottom line is.
And I just told you of how we have that solved right, we're going to be running.
Product at a lower cost that operating profit.
That day, we're making comes back to us on margin plus additional volume from probably $35 million on sales of $10 million of operating income in the fourth quarter's supplement.
The nutrition business, so im giving you a lot of numbers for auto grow with it with it slowly but the big messages everything was going the right direction.
Had two hard hits in two business units and they are both already solved.
It's just a correction the number was 52, 4% honestly Sci gross margin I think I screamed at 58.
Yes.
Okay.
Maybe just one last question I'll jump back in the queue here.
And these would be for.
Ed Eduardo.
Total operating expenses in the quarter were quite a bit less than what we had expected and what.
External expectations had anticipated.
Is this a good baseline number to think about going forward or are there just is there maybe a lot of investment.
Didnt occur because of what youre seeing in terms of the topline and we shouldnt be thinking about Annualizing. This period total operating expenses sort of a new new run rate accounting for some of the other.
Issues you have in terms of the acquisition and full year of HRA.
And the like and then just real quickly on the debt can you just remind us what the effective rate is and whether or not you have any exposure to rising rates or are you essentially 100%.
Fixed cost on the debt.
So first of all talking about the operating expenses. So in the quarter. There were a couple of things. There. So one is tied to the way we look into our incentives right. So there was a timing between.
Q2, and Q3 and a little bit Q4.
Also given some of the softening that we saw in the third quarter.
We saw lower other.
And promotion happening in the quarter as well.
Given that usually Q4 is an area that because of the cough cold et cetera, we need to invest more we should expect an increase on operating expenses in the fourth quarter as compared to what we saw in the third quarter.
Got it.
Got it.
Yes.
Regarding to that so I'll say that we are we are the majority swaps.
Two from floating to fixed.
Interest rates. So we have our right now between four one and four 4%.
So we are pretty well coverage they are even with the sulfur increasing.
Nominally there so.
We do expect.
It is.
The increase for 2023, and our interest expense as compared to what we're seeing now I think that the third quarter is an important reference there when you exclude the other income that happened that's related to some of our other businesses, but what we see in the third quarter <unk>.
<unk> expense, a good proxy or run rate for 2023.
Okay.
Okay. Our next question will come from Chris Schott with Jpmorgan you May now go ahead.
Hi, guys just a few questions here.
Just first starting on gross margins I guess relative to the greater than 37% for Q target can you just talk through a little bit about how we should think about gross margin progression. In 2023 is it sounds like maybe some of these freight headwinds you were running into we're starting to ease you've obviously got some supply and change initiatives I'm sure.
See like what magnitude of increase or how.
Representative that 37% and <unk> was going to be as we try to think about next year.
Well.
Again.
Right now we the progression was exactly what we kind of forecast that you bought for.
The nutrition hit so we are back now up over on over the counter and say SCA, we're back now up 35% on.
On the biggest portion of the business on OTC and forecasting that to say I know you need to tie it because it's higher.
<unk>.
Yes.
As when the third quarter was back.
It had been in the second quarter as well.
52% range something.
Close to that 52, four and it's going to go up again, a little bit in the fourth quarter, but the big change in the progression right now, but the longer term plans of the entire supply chain reinvention because I just gave you the very first piece.
As I just told you we were adding <unk>.
$50 million into the nutrition business, which is massive.
And we will have a dramatic impact on on that oral care I think that.
Don't quote me exactly but I believe when freight went from around 6000 container up too.
<unk> five <unk> 5000, a container it cost us $23 million on a business that made roughly $50 million as of exiting the quarter that number came all the way back down to the 6000 again, so we're going to recover that $23 million in freight.
Cost.
Unfortunately, you will also have and we will recover this as well.
Heavy demurrage costs, when we couldn't get the product off the dock and into the distribution centers and you get a couple of days three after that they start shaped charge and they're pretty heavily and that was in the quarter as well, but again that will that will go away at the products already.
Where it needs to be now it's not we're not paying the amount anymore, but the product that we're selling in the third quarter and probably a little bit in the fourth quarter.
You still carry a higher cost right because that's the product that's shifted at least most of it is the higher cost and as it comes in through the year. It'll go go down I mean, there's a lot we're starting to see where we have a line of sight towards recovery, which is good. Okay is it fair to think about there being like a couple of hundred base.
This points on gross margin or is it not going to be that significant looking out to next year or just directional commentary.
We're needing EBIT plans right now.
I can talk to it that specifically I will tell you and I've had a lot of investors ask me. The question I thought Maria we're going to do our Investor day here.
Around.
Late summer or September October I, Couldnt I was negotiating on on this deal and whether it when it was going to happen or weather.
And you know, we signed and closed we own it so.
That all has to be we just did that a few weeks ago now we're building the plans building all of that in redoing all of that cost.
Come February if we don't do.
An investor day in all target one in the first quarter now that we have all this information.
I'll be able to give you that alright, so, but I don't have it right now and I'm going to give it to you ex that one time HRA charge I was.
Waiting on that one.
Alluded to it and I always knew.
The size of the number and 60 million euros to get $50 million in synergies is pretty spectacular, but I was.
I wasn't sure how much of that was going to be non-GAAP versus GAAP and now we know all the answers to that.
We will get to you I am not trying to avoid that Russian I'd sure sure Yeah, and then just and maybe just one more on this topic.
Whatever color you can give I think we're all trying to get our hands around 2023 at this point just given.
That's really interesting gateway deal HRA inflation, all this stuff I guess, so just sort of a 100% clear I think you said, you're basically the 'twenty three kind of EPS targets remain unchanged less FX unless that 18th HRA charge. Just so we're all kind of level set here like can you just give us like a rough number of what we should be thinking about after we make those adjustments.
<unk> I think we're just all trying to make sure. We're in the right ZIP code of of when you're making those comments.
But sort of those other well.
We haven't given an official target right I always refer to the goals going all the way back to May when I put that chart off of where I wanted to be by by 2023.
Almost.
Joe.
Brad or Investor Relations Guy.
Well.
That.
So listen I'm not going to tell you what the target is but it is adjusted by 10 four.
<unk>.
For currency and 18, four for HRA, which means it's 18.
<unk> 28 lower.
Then the target I didn't give you.
Which is.
But I would say that the street's around $3 and that's roughly about what I would with talking about so as a first.
It's not our official guidance.
It's going to be around the $3 less at that 28 with a range around it.
Okay. That's helpful. And then the final question I had was just it seems like we're heading into a.
Strong kind of flu season, and I think you noted in the presentation that cold cough inventories are low is the company at this point in a position to take advantage of potential volume gains there or I guess, just the labor situation.
On your inventory situation, just still too tight to be able to take advantage of if in fact, we do see a very kind of strong season over the next kind of few months and quarters.
Unfortunately, the answer is the latter now.
Cans were.
I think we'll be able to take advantage of it fine.
Europe , which theyre also projecting right, so and that's a big cough cold business as well I think in the U S. As it relates to tablets.
I think we will be able to keep pace with with that but I will tell you that it's almost two to three years in the making here the way. This cycle. This camera on liquids, we're running 24 hours a day seven days a week and have been full out.
Labor shortages hurt us there in the beginning but we adjusted that and.
That's a high priority high margin product for us, but we are running flat out so.
Sure.
Well I'm not.
I'm more than sure our consumer takeaway in the third quarter was plus 14% on cough cold products, we ship five plus five right. So we didn't keep pace with demand in the third quarter and that sort of pressured our inventories down even.
Down even further and you know why but for some people who may not have followed the story as long as you'd have growth. The reason that this all occurred was because the business went away for Covid.
Retailers didn't.
Order didn't forecast the kind of season that we had this year when we got and they didn't buy in the way. They normally did last year. When we had all the normal inventory then we got to January or February of this year.
It's a huge consumption increased by the way nobody wanted the inventory from the prior year does it was near the end of its.
Shelf life. So we were actually throwing away cough cold product from the prior season that didn't happen and then we had to eat and because the forecast came in threefold fourfold higher than the customers wanted.
Sure.
We had to play catch up right.
And it didn't slow down through the summer.
Through the summer. So if you look at what our forecast from our customers and what the plan was for the year, we have shipped and sold and manufactured 15, 20% more than that but thats compared to.
So what actually happened in the marketplace are way way higher probably.
150% of that or 160% of that so we'll eventually will eventually catch up but no we will not be able to.
Fully take advantage of that.
Listen I, SMA and honor that probably cost us.
$11 million of sales.
Third quarter on Costco.
Okay helpful. Helpful commentary I appreciate all the color.
Thanks, Chris.
Our last question will come from Jacob Hughes with Wells Fargo Securities.
You May now go ahead.
Hey, Hey, good morning, guys.
Good morning, Good morning question.
Sure.
Just your overall confidence level in the fourth quarter margin of greater than 30% I mean, there's obviously a lot of moving pieces you called out.
Oral care improving in the fourth quarter, the Vermont issue Labor shortages, but then you also talk about Murray the labor issue is improved.
So.
Is 37% of the floor, we should be thinking about you know is there some conservatism there maybe just if you could provide some color on that.
And when he did that forecast we both we believe in it.
We have done our adjustments.
I don't know I wouldn't say, it's conservative or not conservative Thats, what I believe it will be.
Added Thats included we know without the gateway products is going to be.
Hey.
We've got a month in here.
Pricing has come up that's part of it like we.
We can't take price increases as fast as our competitors, but at this point the pricing has been implemented that we took through the year. It was probably a three or four month lag that helped the HRA business as is <unk>.
And the numbers out that's part of it so I mean, theres a theres a lot of pieces and it was it hasnt been that difficult to predict despite all of the moving pieces. It hasnt been that difficult to predict but for the nutrition hit on having to stop the plants on the quality holds then.
And the demurrage costs that were pretty severe.
Oral care.
Anything you want to add Eduardo or no I think thats.
Systems.
So.
Theres major variants are ethane.
Where we are.
Okay, and then what was.
What was the pricing in the quarter.
So the total victoza.
Yes, 6% up.
Okay, and then last one for me is just on.
Yes on the capital allocation Maria if you could kind of.
That will always they're going to come down how do you kind of think about your priorities. There I mean is there additional strategic investments do you think youre going to have to make similar to the infant formula deal you announced or how are you thinking about that beyond 'twenty three.
Well, our our number one priority and we've said that right now is to reduce leverage right. So we are committed.
I think yes, yes, 800 900 million by our that certainly that bond that comes due at the end of 'twenty four so our objective is really to get.
Around three three times net leverage by the end of 2024. So that is our main priority that we have now.
And then that leaves enough room to continue to invest in supply chain initiatives rich.
I wish I could've had that Investor day.
Show you the bigger picture picture, but.
$50 million plus from this first $170 million investment of which a 100.
Auto was able to get the cash by really quite couponing right. So that didn't come out of our cash.
Jeremy it's above normal maintenance levels, but it is all have significant operating income returns.
And it's over three days.
And then last one from me so you guys just.
To confirm you guys are thinking about guiding for 2003.
Is that a potential investor day, or what's the cadence of that going to be.
Well, we always I mean.
Whether the Investor day happens before our February earnings call or not we always guide in our official guidance in February .
Okay. Okay. Thanks, a lot guys.
Okay.
Chip.
This concludes our question and answer session I would like to turn the conference back over to Murray Kessler for any closing remarks.
Sure.
As I said here on.
The business I am a little disappointed that we had.
Take the base portion of the business down about <unk> 15 for the quarter, but.
<unk>.
I'm still as optimistic as I've ever been I look at gross margin setting the right way, where we were short it's isolated it's already fixed.
I think that.
The supply chain moves that we just announced our significant then.
Keeps us on track for the long term, but I'm not.
Of the 35 year consumer died so when I see your volume growing consistently growing over three years and gaining market share in every single category, we compete in and a clear path to a recovery of margins, that's well under way we hit the bottom in the beginning of the year.
I'm I'm very optimistic and when we're going to push it as hard as we can.
To keep it back on track the additional to the initial prom.
Promises, we made literally almost three years ago, despite COVID-19 despite inflation despite.
Everything else not despite current.
Correct.
I can't cover but.
But hopefully that in time overtime.
Just for itself, but heck I had I had said something like three <unk>.
$43 50, almost four years ago, now and when you adjust for for currency and with the way we're talking about it this morning and had been all year.
You're pretty close to that so.
I am excited about the business and I appreciate your support.
Thanks for your interest in <unk>.
The conference has now concluded. Thank you for attending today's presentation you may now disconnect.