Q3 2023 Elanco Animal Health Inc Earnings Call
Good morning, My name is Krista and I'll be your conference operator today at this time I would like to welcome everyone to the Alanco, Kurt third quarter 'twenty to 'twenty three earnings call. All lines have been placed on mute to prevent any background noise. After the speakers' remarks, there will be a question and answer session. If you would like.
To ask a question during that time simply press star followed by the number one on your telephone keypad and if you would like to withdraw your question again press Star one.
I would now like to turn the conference over to Katy Grissom head of Investor Relations you May begin your conference.
Good morning, Thank you for joining us on our Lingo animal Health's third quarter 2023 earnings call I'm, Katy Grissom head of Investor Relations. Joining me on today's call are Jeff Simmons, our President and Chief Executive Officer, Todd Young, our Chief Financial Officer, and Scott Parker from Investor Relations the slides referenced.
During today's call are available on the Investor Relations section of <unk> Dot Com todays discussion will include forward looking statements. These statements are based on our current assumptions and expectations and are subject to risks and uncertainties that could cause actual results to differ materially from our forecast.
For more information see the risk factors in today's earnings press release as well as in our latest Form 10-K, and 10-Q filed with the SEC.
We do not undertake any duty to update any forward looking statements.
Our remarks today will focus on our non-GAAP financial measures reconciliations of these non-GAAP measures are included in the appendix of todays slides and in the earnings press release after our prepared remarks, we'll be happy to take your questions.
Now I'll turn the call over to Jeff.
Thanks, Katie good morning, everyone, you ankle reported a strong third quarter delivering top line adjusted EBITDA and adjusted EPS growth, we exceeded our expectations on all key non-GAAP metrics, while weathering the unfavorable strengthening of the U S. Dollar that occurred late in the quarter.
Constant currency revenue growth of 5% was driven by accelerating contribution from innovation stabilizing core volumes and price growth along with the improving market conditions constant currency revenue growth of 6% per pet health and 4% for farm animal was enabled by our.
<unk> global Omnichannel approach strategic leverage of our diverse portfolio and our enhanced capabilities and leadership. We believe this provides the framework for continued topline growth free land go in the fourth quarter and in 2024.
Starting on slide four in the third quarter price growth of 4% and sequential improvement in year over year volume growth was driven by both pet health and farm animal leading to adjusted EBITDA growth of 5% and adjusted EPS growth of 6%.
We made significant progress on innovation in the third quarter, completing FDA submissions for our three late stage potential blockbuster products, all with a path towards approval in the first half of 2024.
Improving cash generation and reducing leverage remain priorities for <unk> in the quarter operating cash flow was $198 million and we repaid $156 million of debt as we continue to advance efforts to improve networking capital and operating cash flow.
As we look to the fourth quarter, we are tightening our full year guidance ranges to reflect third quarter outperformance and incremental headwinds from the strengthening U S. Dollar since our August call. We are raising the midpoint of our constant currency revenue growth guidance now expecting flat to 1% growth for the.
Year, and raising the midpoint for both adjusted EBITDA and adjusted EPS guidance, despite increasing FX headwinds.
Moving to slide five our 5% constant currency revenue growth for the quarter was driven primarily by our international business in line with our expectations. The global business benefited from price stabilizing core volumes innovation and improved supply.
In the third quarter U S. Pet health revenue was flat as execution across share of voice physical availability innovation price and improved supply for vaccines was offset by competitive pressure and a softer vet clinic and market later in the quarter as the industry continues to track the impact of lower vet visits.
We highlight that only about 18% of our total global business is sold through the U S that clinic isolating our sensitivity to visit trends to a subset of our portfolio outside of the vet clinic, our leadership in the OTC business provides the diversity of channels and price points desire.
By many pet owners, a recent innovation and broad OTC portfolio allow us to take advantage of the resiliency, we have seen in the OTC market, particularly with value and treatment offerings, leading to year to date growth of 10% for OTC products and retail channels.
We continue to see the growth in e-commerce for both OTC and prescription products outpaced other channels, where greater enrollment in subscription programs is resulting in higher compliance rates overall, we believe our differentiated omnichannel approach across both prescription and OTC.
C products as well as vet clinic, and retail channels positions us well and pet health in the U S and globally move.
Moving to international Pet health, the 16% constant currency revenue growth was driven by better economic environment in Europe as compared to the third quarter of last year and expanded commercial capabilities contributing to double digit growth for both <unk> and the advantage family outside of the U S. Additionally, new products.
Led by Codelco, plus an add tab contributed to growth.
Next international farm animals, the largest revenue contributor of our four quadrants delivered 5% constant currency revenue growth, primarily driven by price cattle and poultry where growth was enabled by strong underlying markets share growth in key markets like the U K and increased supply capacity.
Finally, our U S farm animal business returned to growth at 2%. After several quarters of decline growth was driven by innovation, primarily xperia, partially offset by timing of poultry rotations and regulatory changes impacting certain cattle products. We are encouraged by experienced progress and remain confident in the expected annualized run.
On rate of approximately $60 million to $70 million of revenue for the product as we exit 2023.
Moving to slide six I'd like to highlight several key drivers of our innovation portfolio and productivity strategy since our last call.
Starting with productivity, we're very focused on improving cash conversion to enable debt paydown. While margin expansion remains important we are broadly prioritizing cash generation acknowledging the leverage we currently carry.
The company wide focus is supported in part by our shift to a langkow cash earnings our Eva like bonus metric importantly, we have nearly completed the cash outlay necessary for project cost to support our systems integration earlier this year with this project behind us and our continued efforts on improving networking cap.
Little we expect improved operating cash flow next year.
Moving to portfolio price growth was 4% in the quarter with 4% in pet health and 3% in farm animals.
We continue to expect at least 3% for the full year importantly in the third quarter, we saw volume growth in both pet health and farm animals.
Contributing to this our manufacturing and quality organization delivered improved supply for vaccines in cattle and pet health and expanded capacity in poultry contributing to growth overall, we see our core portfolio volume stabilizing with increased competitiveness of the overall portfolio driven by first stronger commercial.
Capabilities and then our global Omni channel approach and then with the complement of adding innovation into our total portfolio.
Now in innovation are already launched products continue to gain momentum led by experienced neutral quest on the farm animal side and critically O plus an OTC retail innovations on the pet health side with lifecycle management contributing across both we continue to expect $210 million to $250 million of revenue contribution from these.
New innovations this year.
Our canine parvovirus monoclonal antibody remains on track for supply constrained sales of $5 million to $7 million in 2023, and we expect increased supply availability from our expanded capacity in early 2020 for allowing the product to be a key contributor to innovation growth next year.
On the late stage pipeline, we have completed FDA submissions for Codelco Cuatro Bill there and our JAK inhibitor for canine dermatology, which upon approval will be known as <unk>.
These three potential blockbusters continue to have a path towards U S approval in the first half of 2024 <unk>.
Additionally, we initiated globalization of Zen <unk> with submissions in Canada, and Japan, We've updated our innovation chart on slide seven of today's presentation.
This is an exciting time at a land goes we returned to revenue growth as a company. We are entering a new era of opportunity in pet health and in the emerging space of livestock sustainability. We believe these areas will be the drivers of sustainable growth going forward. So let me share a few specifics on our progress in each area.
For pet health, we are focused on increasing our commercial competitiveness and have previously highlighted the strategic enablers of enhancing our share of voice expanding physical availability optimizing pricing and leveraging innovation.
To enhance our share of voice, we're expanding our U S pet health sales team to deepen relationships with veterinary clinics, we are targeting a 25% expansion approximately 75 professionals across our veterinarian sales team.
There is strong interest from experienced animal health professionals, bringing with them relationships and expertise for our veterinary clinic facing team the expansion will create smaller territories, allowing for more time with clinics and this is expected to drive increased penetration and reorder rates next in the share of voice area.
Over the last several years, we have transformed our commercial model using data analytics and digital tools to more efficiently and effectively reach veterinary clinics through multichannel approach through connected touch points, we can reach over 80% of our priority clinics via two or more chan.
Creating an integrated online and offline experience when implementing this optimized experience with <unk> are post operative pain product for cats, we saw two X increase in sales.
Next we have developed an AI based recommendation engine enhancing our ability of our sales force to deliver the right message at the right time to our customers leading to increased sales and a pilot earlier this year.
We rolled out this virtual assistant platform broadly, enabling reps to better prioritize and personalized engagements deepen relationships and improve conversion.
With these enhancements our salesforce is simply more efficient products launched using this multichannel approach and analytics inform engagement strategy reduced the average time to purchase after launch by 28% on.
On the OTC side in the area of physical availability, our U S pet health retail team leveraging their CPG experience has re imagine the opportunity for our OTC parasiticide portfolio for context today, OTC flea and tick pet products are sold in about 75% of brick and mortar universe in the U S. How.
Every langkow products are only sold in about 25% of those distribution points, creating meaningful opportunities to expand physical availability of our products. We are targeting expanded points of distribution in channels like grocery dollar stores warehouse clubs and pharmacy with many already secured for next.
Year.
Paired with the opportunity to expand with existing customers. This is expected to be a volume growth driver next year and beyond.
Now transitioning to progress, we are helping to shape and our livestock sustainability market.
Last week Appian in which he langkow provided seed funding announced they have established a first of its kind voluntary livestock carbon insert marketplace, creating the opportunity for a new value stream for farmers by using validated science based protocols for product interventions like our Rubinsohn producers can now monitor.
<unk> third party verified greenhouse gas emissions reductions Athene has verified its first farms, creating certifying and selling carbon credits within the dairy supply chain since last week's announcement, a leading dairy processor has committed to purchase the first credits and we're excited about the robust demand we see.
<unk> from leading food companies on slide eight we provide an overview of the emerging ecosystem and note the importance of food manufacturers restaurants and retailers within the dairy supply chain, who have committed to approximately 100 million metric tons of greenhouse gas emissions reductions we see this <unk>.
<unk> insert marketplace coming to life and expect to create significant food chain and farmer value that would enable livestock sustainability to become the next $1 billion to $2 billion global market and animal health fueling <unk> next era of farm animal growth.
With that I'll turn it over to Todd.
Thank you, Jeff and good morning, everyone. Today I'll focus my comments on our third quarter adjusted measures. So please refer to today's earnings press release for a detailed description of the year over year changes in our reported results.
We reported a strong quarter with growth in revenue adjusted EBITDA and adjusted EPS.
Starting on slide 10, we delivered $1.068 billion in revenue, representing 4% reported growth or 5% in constant currency.
Foreign exchange rates represented a headwind of $5 million compared to the third quarter of 2022 and.
In our August guidance, we expected a $10 million year over year benefit in our reported results that did not materialize given the dollar strength.
Price contributed 4% and volume growth was 1% in the quarter Slide 11 provides revenue by the four quadrants of our business in the quarter.
Total pet health revenue grew 6% in the third quarter with price growth of 4%. Our U S business was flat with growth from price innovation sales and the returns supply for vaccines offset by competitive pressures in the veterinary clinic.
Based on our current view, we assume our retail partners will broadly work down inventories in the fourth quarter in line with last year, while continuing to benefit from retail volumes performing much better for us in 2023, even during our current flea and tick off season.
And international Pet health constant currency growth of 16% or $27 million significantly contributed to the company's over performance in the third quarter compared to our August guidance improved market conditions year over year, specifically in Europe, our differentiated omnichannel approach and innovation drove growth.
In the fourth quarter, we expect year over year market improvement in the ramp of <unk>, plus and <unk> to contribute to growth.
Moving to farm animals total global revenue grew 4% in constant currency year over year International for metal revenue grew 5% in constant currency, primarily driven by poultry and strength in cattle parasiticide, partially offset by slight declines in swine at Aqua.
<unk> revenue grew 2%, primarily driven by the continued ramp of expire cattle vaccines grew slightly in the quarter and we expect continued improvement in the fourth quarter pulls.
Poultry declined as customer rotations ador products were strong in the third quarter of last year, we expect improvement in poultry in the fourth quarter as a result of confirm rotations onto a laker products, including Tysons reintroduction of animal only antibiotics, where all fours into their pull through supply chain.
Finally, we expect Barnett all distributors to reduce their purchases in the fourth quarter as they manage their working capital.
Continuing down the income statement on slide 12, gross margin increased 50 basis points to 54, 5% of revenue.
Price growth and productivity were partially offset by higher inflation losses of approximately 120 basis point headwind from reduced throughput at our manufacturing plants.
This headwind is expected to accelerate in the fourth quarter and throughout 2024, but it is a key lever as we work to reduce balance sheet inventory and improved net working capital.
Operating expense increased by 6% in the third quarter, driven by increased investment supporting our pet health business higher project spend in R&D and increased people related expenses.
Our increased investment in the business presents a near term EBITDA headwind, but we expect it will contribute to sustainable topline growth by accelerating innovation contributions and helping to stabilize core volumes.
Interest expense was $72 million, an increase of $14 million year over year as a result of higher interest rates. Our debt is approximately 76% fixed and interest expense was $8 million below our expectations for the quarter as a result of lower gross debt and capital market transactions that we executed in the quarter, which I will elaborate.
On shortly.
Adjusted EBITDA was $214 million in the quarter, an increase of 5% compared to the third quarter of 2020 to adjust.
Adjusted EPS was <unk> 18 cents, an increase of 6% in the quarter.
On Slide 13, we included a bridge of third quarter results compared to our August guidance now let me offer a few words on our cash working capital and debt on slide 14 cash.
Cash provided by operations was $198 million in the quarter, while inventory was a use of cash in the quarter performance was better than the third quarter of last year. This was partially offset by a larger benefit from interest rate swap settlements with $75 million last year compared to $57 million. This year, we continue to prioritize.
Efforts to manage our balance sheet inventory, including slowing production that certain manufacturing sites assessing safety stock levels by product and identify supply chain opportunities to manage API and raw material inputs.
These efforts are expected to deliver benefits to the balance sheet gradually over time as we implement changes while also prioritizing new product launch supply needs.
We've updated slides 25, and 26 in the appendix to reflect updates to our key that information.
In September we restructured $3 billion of our interest rate swaps provided a cash benefit in the quarter that will unwind over the next 12 quarters and we extended the tenors of the swaps by a year, which will reduce our exposure to interest rate changes until August of 2026 at the same time, we entered into a net investment hedge which is expected to reduce both our.
Income statement and cash interest expense over the next three years based on our third quarter debt pay down in these transactions. We now expect the income statement interest expense of approximately $280 million and cash interest between 300 and $385 million in 2023 if.
If we assume flat interest rates throughout 2024, no more fed rate adjustments. We expect 2020 for income statement interest expense of $280 million to $295 million and cash interest between 340 and $355 million.
As Jeff mentioned year to date, we've completed about 90% of the cash outlay supporting our system integration in 2023 and continue to expect a meaningful reduction in project cash costs beginning of 2024 in the third quarter, we paid down $156 million of debt and net leverage declined to five seven times from five nine.
In times at the end of the second quarter, we remain confident in our full year debt paydown expectations of $50 million and expect year end leverage to be between five five and five eight times.
In the quarter, we recorded a noncash pretax goodwill impairment charge impacting reported EPS by $2 10, which was excluded from our non-GAAP results. The accounting charge was primarily driven by the sharp increase in long term treasury rates used in our goodwill impairment analysis, while the expectations for.
Our long range plans remain consistent.
Finally, let's move to guidance on slide 16, the outlook for our underlying business is above our expectations in the second half of 'twenty 'twenty. Three however, the U S. Dollar has strengthened since August today, we're tightening our guidance ranges, while reflecting an increase to the midpoint of our expectations for constant currency revenue growth adjusted EBITDA.
And adjusted EPS for the top line, we now expect a headwind of approximately $70 million for the full year or a $40 million increase from our August guidance using foreign exchange rates as of early November.
We expect full year revenue between $4 36 billion and $4 $4 billion, representing flat to 1% constant currency growth compared to our previous guidance of 1% decline to 1% growth.
We expect adjusted EBITDA of $965 million to $1 billion and adjusted EPS between <unk> 88, and 94 cents for the full year as detailed on slide 17 compared to our August guidance adjusted EPS is increasing more than adjusted EBITDA as we reduce interest expense expectations based on it.
Entering the net investment hedge and restructuring our interest rate swaps.
We are also reducing our effective tax rate expectations to adjust for lower expected foreign income tax inclusions in 2023 aligned with the actual results and our 2022 U S. Federal income tax returns that we filed last month, our fourth quarter guidance as detailed on slide 18.
We remain confident in the return to growth for the second half of the year with 2% constant currency growth at the midpoint for the fourth quarter as detailed on slide 19, we expect the innovation sales ramp price improved supply and improved EU pet retail market and growth in poultry to be the key drivers of growth partially offset by anticipated.
Competition in the U S vet clinic as expected working capital optimization for distributors, providing a headwind in the quarter now I'll hand, it back to Jeff for closing comments.
Thanks, Todd our continued sequential improvement in performance thus far in 2023 demonstrates our strategy is working as we are laying the groundwork for a return to sustainable revenue growth as we look to 2024 I want to provide some early considerations on slide 24.
First on the headwinds well known competitive pressure in the U S. Vet clinic remains in 2024, while our commercial efforts are helping to stabilize our base volumes on the farm animal side, we're watching generic competition and continued low U S cattle numbers Bill.
On the top line, we expect to continue to manage our internal inventory and make investments in sales and marketing for the launches. While these will create tension on margins. They are expected to deliver long term value. Finally, using early November foreign exchange rates, we anticipate that the headwind from the U S. Dollar strength will continue into next.
At year as.
As we think about the <unk> in 2024, we're confident and constant currency revenue growth for our business next year contributions from innovation will accelerate with the ramp of existing products experience. Our parvovirus monoclonal antibody <unk> plus an add tab with 'twenty 'twenty four launches expected to contribute to grow.
<unk>, primarily in the second half of 2024 strategic price growth and stabilizing core volumes will be enabled by our differentiated global omnichannel approach and strategic leverage of our diverse portfolio all underpinned by our enhanced capabilities and leadership.
A landfill has momentum going into the fourth quarter with exciting expectations for innovation contribution and growth in 2024, we believe the external environment is manageable and we are building the portfolio and capabilities to sustain a positive trajectory going forward.
With that I'll turn it over to Katie to moderate the Q&A.
Thanks, Jeff.
Like to take questions from as many callers as possible. So we ask that you limit yourself to one question and one follow up.
Operator, please provide the instructions for the Q&A session and then we'll take the first caller.
If you'd like to ask a question. Please press star one on your telephone keypad.
First question comes from the line of Michael <unk> from Bank of America. Please go ahead.
Great. Thanks for taking the question and congrats on the quarter guys.
First I want to touch on U S. Pet health I think you cited some competitive pressure there in the quarter and obviously theres a lot of new launches happening here any additional details you can provide in terms of what product areas I mean, I imagine it's a lot of parasiticide.
And thoughts on how these headwinds will play out for the next few quarters.
And then I have a follow up.
Yes, Thank you Michael I'll jump in and maybe I'll just start real quick before we get started and just say at a high level and then I'll get to your question.
This is a big proof point and milestone quarter for Atlantica, we've been chasing this quarter for some time as you know.
We've seen multiple quarters of sequential improvement.
<unk> is growing and we intend to grow the rest of this year and next year.
On a constant currency revenue basis, and that opens up a lot of opportunity.
Again as noted 5% overall constant currency growth path growing six farm animal growing four that's both volume and price growth farm animal and pet health overall and again, we intend to guide as we've guided here, we intend to grow in Q4 as well as we go into 2024 hours.
Especially note.
Without the blockbusters, we see us being able to hold constant currency revenue growth. So.
I want to just highlight that because this is something that we have been focused on for quite some time, a real credit to the Orlando team. That's been determined disciplined in its execution, we have deep belief in our strategy that we believe is working on the commercial side, the innovation side and the operational side. So.
I wanted to highlight that as we get started now specifically as you think about the U S payer a market I think.
We know this market well we've been in this market a long time the acquisition of Bayer strengthened us and we're a leader when you look at omni channel in total portfolio, it's 20% of our global pet business. When you look at the script.
We see.
From our side as well.
We're we're tracking and meeting our expectations.
So far after three quarters and expect that for the rest of the year, it's driven by a few things one Michael the competitive portfolio that we have.
And we believe that as competitive today as even before the recent innovation has come into the marketplace, we're adding to that over time and even when we add pain. When we add parvo that opens up increased access to more clinics and that's given us strength.
And then the capabilities on the commercial side from share of voice to physical availability. Some of the value based pricing that we've done has also contributed to our overall U S. Parasiticide competitiveness and I think we've got the best team I'll note I just came out of the room yesterday with 60 of the 75 reps that we've hired and most of them.
Come from the industry come from relationships and will be geographically located where they have those relationships. So the territories get smaller so and then I think last as we come at a lot of anticipation Cardello Quadro is differentiated it has a spectrum of protect.
Protection that we believe will be quite differentiated and we're making progress in that innovation. So that's that's.
I think.
I would emphasize and close with.
Year to date, we're tracking to our U S payer expectations and expect to stay competitive rest of this year and going into next year.
Mike did you have a follow up.
Thanks, and then.
Tied to that a bit I want to talk about SG&A and investment in the business I think you call out investments spend and pet health a few times when you talked about the 25% increase in U S. Pet Salesforce I just wanted to kind of try to quantify that in terms of how it relates to SG&A spend and how it will play out next year and.
And if I look at the slide deck Slide 26, you got adjusted EBITDA with an arrow up into the right and our 2024 and beyond so just wanted to specify are you pointing to adjust EBITDA growth in 2004, or just constant currency revenue growth for now yes.
Yes, Mike it's Todd Thanks for the follow up.
Right now, we're saying 24 and beyond as the long term, we expect to continue to grow EBITDA, we're not making a commitment on the EBITDA growth in 2004, we are making the commitment on constant currency revenue growth is just Jeff just said, that's with or without the three big blockbusters that have the path to first half approval with respect to your question on the SG&A.
Investments, we are getting sales reps all those are going to be here and to drive growth.
In anticipation of these new products coming to market in Rolla and crude oil quadro.
We'll increase our investments will also have increases from paying our people and then the headwinds on the gross margin that comes from slowing down our manufacturing plants.
All being said, we're doing it to focus on driving the launches and making sure we optimize those while continuing to be disciplined where we can be on all of our cost side and driving incremental synergies like the completion of the ERP. So overall feel good about the quarter.
Set up as we continue into Q4.
Great. Thanks.
Your next question comes from the line of Jon Block from Stifel. Please go ahead.
Great. Thanks, guys good morning.
Maybe two questions are on the same theme you mentioned.
Looking to increase the share of voice and you called out the timing of some of the pet health hires.
It would seem like there is increased conviction on the timeline of the $1 24 approvals.
Just considering ramping up the sales force already having I think you just said 60 of the 75 in the organization.
<unk> is today, so maybe you could just update us more confident on the timing of these three and $1 24, less anything thats transpired with the agency since the last update and then sort of the segway into the revenue growth for 2020 for Todd that you did commit to it seems like EBITDA sort of no commitment there, but revenue growth yes.
Does that include any contribution from these three potential blockbusters and $1 24, and again I know there is supposed to be a two to four month lag, but does that include or exclude any of those products. Thanks guys.
Hey, Mike Let me take the second one first I will turn it back to Jonathan we're committing.
Clothing, the product contributions from those three blockbusters, we do expect them to contribute to revenue primarily in the second half.
But right now we're committed to growth independent of that yes.
Yes, John Let me, let me come back to you first of all on the launch side. These were decisions made there is really two sides looking at launch there's the fixed cost in the people side and you need to make those decisions and time and so we've given ourselves time to say, we want to establish the team at the level of interest far exceeded our.
<unk> and the level of talent and expertise. So we're beginning the training as we say even this week and we'll place them into the territories and what's really critical as these territories get smaller that it's absolutely critical that we build the relationships. So that when the launches do come the relationships are established there is aware of.
And that's the number one driver to clinic penetration.
That's important and look to Salesforce will be part of the organic growth of our existing portfolio and our existing innovation like parvovirus and others. So I start there and we made that conscious decision knowing that there is an investment there is added cost, but no matter the exact timing and we don't know the exact time.
Are these these clearances were going to be a more competitive U S. Pet sales force, calling on these vet clinics and we'll be prepared in our existing portfolio of win because of it now relative to the late stage pipeline look it's progressing well.
We've committed we completed the submissions early in the quarter in the third quarter Cardello QUADRA Umble. There. We've also with Zen rally here and put submissions and internationally with Canada, and Japan, and others will follow as we globalize. These products, but look just like human pharma. We're in the final regulatory stage we're proactive.
We're in productive discussions it's rolling it's iterative we're.
We're encouraged also I would think by the big markets, you see <unk> still growing double digit Paris growing and we're opening up this livestock sustainability market. So preparing the markets also I think is really key.
So that hopefully gives you some framework.
It does thank you.
Okay.
Your next question is from the line of Erin Wright from Morgan Stanley. Please go ahead.
Great. Thanks for taking my question so on the retail business.
Is a differentiator for you and in less connected to have that office does it trend, but can you speak to the trends that you saw in the quarter. You mentioned some seasonal destock that you expect in the fourth quarter I think in <unk> and was there any outsized stocking in the third quarter at all that we should know about.
How are you thinking about your ability to expand the physical availability into the retail channel that you mentioned in 2024, and how do you think about just consistency and visibility on growth across that retail segment. Thanks.
Yes, great Great question, Erinn and it's one that we're spending an awful lot of time on and if youre inside the walls of <unk> in the last 18 months. When you look at the talent that Bobby's brought in mixed with the Bayer talent Langkow talent. We are re imagining what we can do with the overall.
Our retail side OTC side, and really it's an and right I mean, we're going to bring new products into the vet clinic Theres more script teams scripting is growing in the E. Commerce area. So there is more and more synergy here as we build as we said from day, one on bear meet more pet owners, where they want to shop at the price point and the portfolio.
Leo that they want and that is coming to life and I give a lot of credit to the team. So I just hit each one of these I think first of all share of voice, we've increased campaigns largest Srs stone advantage campaign that we've had.
Probably since we've owned Bayer and that's benefited well so were tracking awareness in a big way I think this total distribution point comment it isn't all about bricks and mortar, but bricks and mortar gives us a lot of opportunity erinn. So I think it's kind of surprising to see that pay off for instance is in 75%.
<unk> brick and mortar and we're only in 25% and we're the leader.
So and we're up 10% year to date in our OTC business in the U S. So our focus right now and we've locked in quite a few commitments in the areas from pharmacy to dollar to club stores and grocery so and we're looking also at how we can create increased value in our offering.
These retailers have a lot more needs and different needs than we currently offer I think lastly is just innovation and it doesn't take a lot of and Ellen and Bobby and the team have created a new arm of innovation on OTC and this is different types of innovation and we've seen that as we brought in about three overall I think for advantage.
Products and lastly is this is not just U S based at credit the international team, we grew 16% and international Pet health.
Point to a product like add tab that is and that oral OTC product. It's got the active ingredients of <unk>, but it's got the brand of advantage and we have we've taken share there we've come into that market and really showing the power of how to launch in retail well so.
This is an area of heavy focus for US again I emphasize it's in and we will be one of the top innovators inside the U S that clinic and I hope to say, we'll continue our leadership and take share in U S pet retail as well.
Okay. That's helpful. And then and then just you mentioned farm animal generics entitled and the dynamics in the U S. As a headwind in 2020 for I guess can you elaborate on that what you're seeing across the livestock segment. Thanks.
Yeah, I think as you look at just overall the farm animal segment.
I think erinn, we're going to see a tougher market in 'twenty, four and livestock and farm animal and just a couple quick comments that drive that I think overall input costs have gotten better corn has gone from 660 down to $5 40, or so but it's still high when you look at the conversions and historical rates poultry profitability, especially in the U.
But globally the global tensions have created trade tensions and theres less product trading and Thats, usually higher margin cattle numbers are down and there's the Reg changes on implants, and lastly, I think the swine market the two that matter U S and China.
We've got a too much supply prices aren't recovering and demand is flat so.
We see those markets now with that said we've been in this business a long time, it's a durable resilient market protein demand is still moderately growing there's a lot of countries and candidly the countries are much better at managing supply demand than they've ever been so I don't see this as a steep valley, but I do see this as a market.
It's going.
It can be challenged a land go as we look at it I think we're well positioned we continue to see the business able to grow take leadership in share over time, there will be volatility, but we've got a value driven portfolio that benefits in this environment and specifically here and I would say Caddo, We've got innovation Xperia and bowl there will help.
Drive bolt on beef and dairy.
Even with less cattle numbers, we're leaders in poultry there'll be pockets of challenge with this profitability issue, but the Tyson returned to <unk>. It would be helpful and swine will probably be a tougher market, but we've got a good portfolio and a good team in China and the U S and we'll hold as much share whether the market gets bigger.
There are smaller so that's what we see so far we'll monitor it closely and share more at Jpmorgan in January as we study the market.
Great. Thank you.
Your next question comes from the line of Chris Schott from Jpmorgan. Please go ahead.
Alright, great. Thanks, so much just two for me I guess first I was just interested in your views on the vet visit trends, we're seeing and what that's kind of implying about the economic health of the pet side of the customer base I think there's been some debate in the market about.
How much of what we're seeing right now is macro versus ongoing capacity issues and maybe Jeff just interested in kind of where you where you weigh in on what we're seeing there and then one follow up after that.
Yes, great Great question. Thanks for the question actually it's something that I've spent a lot of time on our team has and look we're going to monitor vet visits are down one 5%, but it is not our most critical metric we're less sensitive as a company maybe than we were three years ago. We think spend per visit is one of the metrics to watch.
And that's meaningful that's up there is a lot of resilience in this industry. There's still a lot of desire from the younger generation that want to spend more on their path to actually rewarding innovation and innovation is driving actually awareness, which whether it's pain or derm you see the market is still continuing to be very robust specifically Chris for us.
Back to this Omnichannel leadership.
And as I noted in my comments, 18% of our global business is U S. Vet clinic that will grow and we wanted to grow it's going to grow a lot next year with our with our portfolio changing but today I would say that that sensitivity is back to what I shared with air and it's about the and so we also see prescriptions growing.
Outside of the clinic as Covid and post Covid people have gotten used to a lot more drop shipping and online purchases. So we want to win.
Online and offline in the VAT in retail overall so.
And I would point to our proof points O U S. Pat grew 16%.
Yes, Suraj stone advantage grew double digit E. Commerce scripts are outpacing most every other channel year to date <unk> is meeting our expectations and year to date U S. OTC is up 10%. These are just proof points to say, we're a more resilient business less sensitive to vet visits and we are.
Building a model that can play in both and again be a lot more durable going forward and net net our market is robust and durable even in these tougher economic times shown by our results, but also by our competitors.
Great and then just the follow up was I know you've talked about the expansion of the sales force, but if I look at next year and assuming everything stays on these timelines you're going to have several very important kind of blockbuster products launching in a short period of time. So will you be in a position with these 70 additional reps youre, adding that you can bid.
We manage multiple launches in parallel with each other or do we need to think about the organization prioritizing for example, Durham over Paris. It aside if we can always get approved in second half of next year, you've got three big blockbusters ongoing going out at once.
Yeah. So I would note that we've got parvo in front of US right now and as supply ramps will focus there. That's one of the reasons that we wanted to move up and take some of the expense of the sales force is preparing them. It does take time, if you think about it might be 25% more sales force, but it will impact 60, 70% of all territories. So.
Getting that stability is key but youre right focus on which products to detail and profile is very important and we're going to we're going to focus on that and look at pacing launches. We hope we have these problems, but again.
We're going to be very capable we've been working on this in this launch muscle has been building way back to <unk> and other products back 18 months ago.
And it'll be both not just salesforce, but the digital and some of the other things that we've talked about.
And look.
We're in a rolling iterative process on these new products and we'll be we'll be prepared as you know as we've said upon approval. There is administrative review, there's labeling theres manufacturing, so there'll be there'll be a pacing to that as well. So when we will be ready and we're going to launch with the resources, we need with excellence and to be very very competitive.
So good question and we're up for the challenge.
I'd add Chris the <unk> launch will be on our farm animal side that team's independent of the pet side and as you've seen on the work on the sustainability. This is all coming together nicely with a number of incentives from the inflation reduction act being set up to provide to farmers as well as credits.
<unk> sold to customers. So we're really excited about how sustainability is progressing and as I said that'll be independent of the pet side of the business.
Great. Thanks, so much.
Okay.
Your next question comes from the line of Nomura revert from Evercore ISI. Please go ahead.
Hi, guys. Thanks for taking my question I'm.
I'm curious if you think the broad spectrum trio market is approaching some sort of a peak penetration and I ask because we're seeing some of the trends from Merck <unk> is the lead is hinting at some softness in <unk>, partially because of year over year comps, but it does look like.
I'm just curious how you're how you're seeing that.
The other thing also is the wettest believes that since a meaningful volume for them is driven by auto ship via retail there will be very little switch in that category. So I'm just curious how youre approaching the broad spectrum parasiticide launch into next year.
Well, it's a great question.
If you step back the market continues to grow compliance rates are still low and I think compliance will be key and it will tie to the online I mean consumers today in every segment want more convenience they want things delivered to their door and we're going to be capable as capable as any company, they're given given our capabilities, but I think it comes back of them or.
Two probably the whole new versus legacy you see share being taken from legacy you'll see the pie getting bigger because of compliance you'll see a lot of us spending a lot more time on brand awareness. That's why it's Curt Elio Cuatro, it's differentiation, but our investment is leaning against a codell Leo just like the other competitors have done.
And so I think these dynamics, but if you look at the fundamentals there is always going to be quarter to quarter competitive shift between products and maybe that highlights to some of the things that you're noting but we are meeting our expectations. We've got an existing portfolio that is very competitive and we believe we've got one of the most differentiated assets.
<unk>.
As we launch <unk> cuatro.
Thank you and Jeff May I just clarify.
I know <unk> is talking a lot about their promotional spend as one of the things. They are deploying how much are you guys planning for 'twenty four I know you talked about sales force expansion.
Yes. Thank you for that question, we haven't noted how much and we will of course put more color to this as we head to our February earnings call and in our guidance, but I do think I didn't I didn't finish my thought last time is you've got the fixed sales force that's locked in and done and then the promotional spend will be material relative to.
And what we see what we see in differentiation and the potential as we're coming up on that day, one of launch and that could be a lot more time based to the launch and also relative to what we see in the marketplace. So.
We will spend what is necessary to take the share and to get ramp rates and why I spent time in my comments on the commentary to commercial capabilities to be able to increase faster 28% faster.
The speed to adoption of our product is the second metric share voice speed to adoption and then promotion in that promotion dollar will be material, but that will be more time base to the launch timing relative to our approvals.
Thank you.
Your next question comes from the line of Nathan Rich from Goldman Sachs. Please go ahead.
Okay.
Great. Thanks, so much for the question and good morning, I guess.
Maybe a high level one Jeff to start it seems like there's maybe been more emphasis on top line and cash flow generation than on margins. Today. I guess is there any change in how youre thinking about the larger longer term margin opportunity for the company and then Todd how should we think about the magnitude of.
The margin impact from that.
The inventory management efforts that you've talked about as well as the Opex investments as we think about kind of cadence into next year.
Yes, I'll turn it quickly here to Todd Nate, but no no change I think.
You start the number one driver to drive EBITDA and again were all incentives with our <unk> cash earnings every employee to drive EBITDA growth now versus some planned but versus last year and the number one way to do that is to drive the top line and to drive it with better mix, not just price, but volume and in these new Mark.
And so that's the emphasis we know we take care of that and do that first and that's what's happened this quarter and we see it going forward as I mentioned that will be the number one contributor to EBITDA growth, maybe Todd I'll turn it turn it to you. Thanks for the question.
No.
We called out a 120 basis points of headwinds on gross margin in this quarter from slowing down the plants at the same time, we expanded our gross margin year over year by 50 basis points. So while we expect it to accelerate from the inventory management.
<unk> got a $1 50 to 170 basis points headwinds.
Minder, we've got productivity, we've got sales growth, we've got price improvements all of those things.
At the same time help margin. So we're not calling out specifically anything on margin today for 2024, but do want to make sure everyone's capturing the pushes and pulls we have across our cost structure. Similarly.
Similarly.
On the investments, we're certainly going to make investments in our <unk>.
And our people.
<unk> creates.
We have about $20 million of synergy annualized <unk> coming from the ERP getting behind us that we've called out previously again, we've captured about 400 million of EBITDA synergies over the last three or four years since closing the Bayer transaction. Then we will have that kind of now done and into the 2024 run.
Right. So again, a lot of positives going on but there are headwinds we will be managing as we move forward.
Great and then if I could just ask a quick follow up on Zen rally.
Alright, I guess.
Are you going to kind of position and maybe frame, how it's differentiated and I guess the reason I ask is though others launching Apple call Chewable version in the U S. This quarter, they kind of feel like that.
Motive administration is sort of where the market is moving I guess.
Can you kind of talk about how you kind of see yourself positioned against that product.
Yeah, Nate we won't go much further other than to say that we continue to believe it is differentiated.
We continue to be excited about the double digit growth in the <unk> market in the U S and growth globally and again, even the submissions that we've made in the international markets followed by a very robust portfolio.
Ellen is managing both and the monoclonal side and others. So we've got to.
A nice portfolio I'm excited about in derm that continues to have first and best in class.
Assets at not only came from kindred, but additional assets and again as I always say. This this market term is going to be all accretive to us and we're excited to launch with this differentiated asset will continue to share more on the differentiation as we get closer to day one of launch.
Thank you.
Your next question comes from the line of Brandon Vazquez from William Blair. Please go ahead.
Hi, everyone. Thanks for taking the question.
First one on kind of profitability and EBITDA.
Nice beat in the quarter increased the guide for 'twenty three.
Why not.
We're also talking about in 2024.
Committing to kind of EBITDA growth Youll have some tailwind stabilizing commercial organization better ROI on some of these commercial investments new product launches maybe.
Maybe talk about why we may not see EBITDA growth, perhaps thats kind of being reinvested into the commercial organization things like that.
Sure Brandon as we called out with some of the headwinds we are excited about the delivery in Q3, and what we are going into Q4, we called out constant currency sales growth right. Now the dollar is still a pretty big headwind to 2023 that flows to EBITDA.
Just based on actual sales results.
The last question regarding slowing down the plants, although it has an impact on gross margin.
At the same time, we are excited about the continued growth.
Parvovirus expanding capacity will be a nice growth driver from innovation experience again, another good quarter on exterior that $60 million to $70 million annualized run rate we're accidently.
Certainly positive $2 24 at a higher gross margin than the after flex. It replaces so again a lot of really good things happening and we're just.
Continuing to watch all of those.
<unk> will give a full update in February on our Q4 earnings call.
Okay, maybe as a quick follow up slightly different but probably probably plays into the EBITDA line as well. This year you are probably thinking mid single digit price increases.
Does that kind of trend into 2024 in.
Inflation kind of comes down a little bit because that hinder your ability to take some price or does the new product launches really help offset that anyway. So just thoughts on 'twenty four and what kind of pricing power you guys will have thank you.
Oh, Yeah very good question on things, that's certainly been a good driver for us this year.
4% in the quarter, we expect at least 3% year to date. We continue to expect we will have positive price next year from just the overall value of our portfolios to customers.
So again that will be positive and that will be helpful. On both the gross margin and the overall profitability line in 2024.
Yeah.
Your next question comes from the line of <unk> Prasad from Barclays. Please go ahead.
Alright, good morning around business biology.
Couple of questions from me, probably going back to fundamentals.
Yeah on retail one would have thought that the online shift tough retail was universal. So your decision to focus on break and brick and mortar stores, what's the advantage for a pet owner devote a brick and mortar store versus online.
And maybe just expanding on that what does it mean for you in terms of incremental investments and.
And what should we expect from this secondly on the macro side I think thats one of the questions. We get the malls can we get solve your initial thoughts around how much pricing price increase going to bet on our absorb as you look to 2024 Bill fall meal plans.
Okay.
Yes. Thank you <unk> real quick on the on the retail side. This is just like any marketplace. There's a lot of segments and there's a lot of different needs and there is also a loyalty to brands and loyalty to how they shop and where they shop. So what I would say is as you look at the marketplace depending on the country.
You do see very commonly 40%, 50% can be.
Non clinic purchases, so I start there and some of that is just access affordability or just history, it's what I've always done that.
Very dominant.
Kind of market trend that you see in the pet side. So we're always looking at.
How we can continue to build that it isn't just brick and mortar E. Com also is also very important so Nielsen highlights a lot of the brick and mortar trends doesn't pick up the E com trends in E. Com is probably outgrowing every other channel. So look it's affordable approach from a salesforce perspective, but it does take more promotional dollars.
More work on the retail side net net we don't see a real big difference in our full P&L between a vet business at a retail business, we see both of them as growth drivers to our future. We see both of them with pipelines to bring new products and we continue to globalize that as well and.
There'll be quarter to quarter variations and share shifts, but as a whole we see robustness and then your second question. The market has been resilient as you step back everyone's put a lot of energy on the vet visits that matters, maybe more for diagnostics and others, but for us with our differentiated omnichannel approach, we really haven't seen us.
Slowdown here, we've seen we're expecting up to 3% price as Todd said and what's critical as you keep adding value you keep driving brand awareness and you have good share of voice and physical availability and youre going to be able to keep growing this and we see much elasticity in much resilience in price going forward.
Your next question comes from the line of Steve Scala from TD Cowen. Please go ahead.
Hi, This is Chris obviously, we had one big picture question.
So looking ahead to 2024, which is management deal is the most important uncertainty or risk factor is.
Regulatory related to pipeline approvals.
Interest rates macro uncertainty.
The spending or something else.
And then following up on that given this uncertainty is there a timeline for providing updated medium term GTS and EBITDA guidance.
Thank you.
Yes, there is many many risk factors I'd come back to just some of the challenges that I mentioned in 2024, it's probably an aggregate of all of those but you've got competition. There's a lot of a lot of.
Big companies, all making moves in an unlimited number of segments. That's always a factor absolutely regulatory just like human pharma animal health when Youre in this final regulatory stage, we know that Thats always always dynamic and then you've got some of that just macroeconomic headwinds and maybe Todd wants to elaborate from the strong U S. Dollar.
Two.
Some of the challenges, but at the same time.
Continue to say and why we lean into this constant currency revenue growth our existing innovation will ramp we've got increased physical availability thats already locked in on a retail side, we've got a stronger EU pet retail market and growth in poultry Aqua price will continue.
Most importantly, our cash project costs are coming down so.
Got any any additional things on interest rate the interest rates as we've mentioned, we're about 76% fixed now.
With that we've given guidance on interest rate expectations for net interest expense and cash interest for next year. So we feel very good about that relative to where rates are.
But overall I think the stronger dollar is probably the bigger concern if interest rates continue to stay up just given the flow through to EBITDA.
Run a global business over 50% of our revenue is outside the U S. We don't do cash flow hedging as it is just part of the business we're in.
So that would be one risk, but at the same time as Jeff said, so many good things going on with the Big innovation coming we're excited about what the business will do as we move into 2024 and longer.
Great. Thanks, Jeff I'll send it to you to close yes. So just to close we have momentum we've returned to growth for.
For the rest of this year and going into 2020 for this charge of constant currency revenue growth and next year at the same time as our 70 <unk> year as a company and over these seven decades, there's been a couple Constance one is growth to is innovation and three is a focus on customers and that will be.
Probably historical for us as we as we head into the 17th year.
New innovation is progressing.
We're growing as a company our capabilities and our leadership are the best they've been maybe ever and yes. The markets are volatile, but manageable and as Todd has highlighted we have leverage but as standup costs come down EBITDA goes up net working capital goes up we continue to see.
We're in a durable position with over 70% of our debt locked into late 2026 that with a durable industry and the way that we've set ourselves up we also believe that we can.
Pursued through that as well and and excited about the opportunity for our company growing going forward look forward to seeing you all at JP Morgan and and in February as we highlight 2023 and set up 2024. Thank you again for your interest and investment anyway.
This concludes today's conference call. Thank you for your participation and you may now disconnect.
Okay.
Yeah.