Morgan Stanley Global Consumer & Retail Conference

Dec 4, 2019

Slides

right. Good morning, everyone. I'm Darren Mousinian, Morgan Stanley's household products, beverage and food analyst. We're very pleased to welcome Perrigo here today, including Murray Kessler, President and CEO and Ray Silcock, Executive VP and CFO. It's certainly an interesting time to have them here today as they're in the process of shifting their focus to consumer self care on the OTC side. I'm sure many of you have a long history with Murray and Ray given their success across the CPG sector over the last couple of decades, so they'll be familiar to many of you. So with that, I'll turn things over to Murray, and then we'll get into Q and A. Thanks coming, guys. It's okay. I'm going to go ahead and present it Just to ground everybody, and then we'll have our normal dialogue with questions. I just wanted to give a little bit of background of the Perrigo story because we've been primarily covered by health care for forever, and we're making a pretty big change to the consumer side. I'll share a little bit of forward looking data, and you can read that statement. But if you don't know Perrigo, Perrigo is basically it is a consumer company. It has primarily been a consumer company, twothree of the company, but it has, over the past number of years, had been pushing and driving on the pharmaceutical side. But we have three divisions, a little under $5,000,000,000 in sales, and it's three distinct businesses. The Americas business is the market leader in private label, over the counter products, and we have big infant formula businesses and almost every single product that you see made by we're the market leader market share leader across every single one of those categories, and we have a remarkable formula that works as a partnership with customers that is very difficult for everyone else to be able to match, which is we don't get into a private label category unless we can make a roughly 30% margin, we can deliver a 30% discount to consumers versus the national brand on an identical product. And then the last piece, which is critical, is we want the retailer to make more money selling our products than they do selling the national brand. And all three of those things come together for a sweet spot, and that's why in our industry for years, we have grown to the highest level penetrations and we're the market share leader in basically the biggest private label categories in America today with roughly 30% penetration. Internationally, we're a consumer branded business, bunches of regional stars where we have leadership positions, but they're not pan European. They tend to be markets, but somewhere around 36, 37 countries where we have 1,000,000,000 point dollars due in sales. And then our we have a very highly differentiated Rx pharmaceutical business, which we've discussed and gone public with, which is our goal over time to exit, but it's a very unique and successful business as well mostly leading the way with topical products. When I joined and was asked to come out of retirement and Ray joining me, we went down the path of studying the business and how we could create a lot of value, and we believed we could of focusing Perrigo back to its heyday of what it did best, which was growing the core consumer businesses. So we changed and launched a vision to say we're going to make lives better by bringing quality, affordable self care products that consumers trust everywhere they're sold, which is a sounds little, but self care being the operative word there, of moving from things that are treating diseases to ones that help prevent, help people live a healthier lifestyle and promote wellness, etcetera. And you'll see that within our portfolio, but it also says there's reconfiguration that needs to be done because we did still have if you needed to go to a doctor, we say that's not within our vision. If you can do it yourself, you can learn on the Internet, etcetera, and it takes advantage of huge massive trends and tailwinds that get behind our businesses. So we have this, we believe, a unique proposition in that we have a very large private label market, which again is continuing to grow, and we don't see anything changing. We don't see health care costs getting cheaper. The products go through the rigor. We have scale in that. And importantly, the sort of the biggest cohorts out there, millennials, etcetera, they have learned and they understand that private label products, 83% say it's the same quality as a national brand and that they trust private label at least as much as a national brand. That keeps fueling the growth of our core U. S. Business. And then as you define what self care is globally, IRI did a study last December and has when in that study identified $450,000,000,000 of global sales, and you can see some of the statistics underneath here, but it's a huge opportunity. A year ago, we were the first ones talking about it. Today, hear a lot of other big companies starting to talk about it as well. But we think that convergence of those two are huge. And if we can pull that off and get the growth associated with that, then Perrigo, which has been trading at a much lower multiple, should be able to trade up to its to its consumer peers, which is why Ray and I are here today. Today, we're at 12.8x. When I presented this strategy on May 9, we were at about 10x. And you can see the generic peers at 5.8x. That was about 7.5x when I presented the strategy. So what you see is the consumer story is starting to impact and drive the multiple. So our Rx went from 7.5 multiple as an industry down to 5.8. But despite that, total perigot went from nine point zero to 12.8, which is being driven by the consumer results and the consumer story. But having said that, you saw the big number there was 22. There's a long way to go. To get that to happen, we think we need to perform like a top consumer company. And the numbers I've stated today in line with the way they've been performing was we needed a three, five, seven was sort of the mantra that I've been using and that it would take us a year or two to get there again. First job, get the top line growing again, stabilize operating income and then grow and accelerate from there. So we are one year in and we have been following a very disciplined transformation playbook. The kind of the steps of this virtuous circle I like to talk about are reconfiguring our portfolio and which means exiting non self care businesses as we make sense, achieve our plans, invest in repeatable platforms, drive our organization, build the talent in the organization, fund growth, take costs out, allocate capital wisely and start delivering consistent results because we weren't so good at that a year ago. A year later, it's just a start, but I'm proud of the start. We have a global self care vision that I believe you could interview any employee anywhere in our company and at any level, and they would be able to describe the vision and where we're going and understand their role in it. We have made great progress of separating businesses that the big one being our Rx or being prepared to separate, although the multiples have made that difficult for the biggest piece, but we exited the animal health business for $185,000,000 as an example of one that didn't fit. We bought the leading oral self care company in the world earlier this year, Ranir, a fantastic asset that we're is doing incredibly well and opens up a new vector of growth for us. We closed yesterday on the Previzit brand that we just bought as a consumer brand. We've initiated and are getting savings already ahead of schedule on a $100,000,000 cost savings program, turned over or put into place new leadership. About 40% of the leadership team we have transformation offices in place have ramped up the innovation program and put $500,000,000 or more of ideas into the new product pipeline. We're investing a few $100,000,000 in our manufacturing capacity to because it had been neglected in a few years. During the year, we also invested in our digital capabilities and we've met or exceeded our financial goals for the last four quarters in a row since we started this path. So we're off to a good start. It's all making sense. As you look at it, we're not disclosing a whole lot of numbers here, but bottom line, the business was flat with the acquisition of Ranir and the ramp up in organic growth. We had our first double digit growth in a very long time, reported in the third quarter. We on an adjusted basis, we had gone from the operating income declines to slight increases. Market share is never an issue for this company. It always puts market share first, so those continue to grow, and we had some pretty weak customer service levels issues a year ago that have been put back into place and repaired with some investments in working capital. So the business is responding. Feel like I hope if you're an investor today, and I know there's a couple of big ones in the room that we're staying true to our word and we're working here every day to make Perrigo the spectacular company and recapture what we call recapturing the Perrigo advantage. The investment thesis is simple: the unique business model takes advantage of consumer trends. That's not changing. It's on trend. Categories we compete in are going to grow. We have a diversified we have a very high complexity quotient. Our ability we make 14,000 products and our ability to service customers is a core competency of this organization. Favorable trends drive self care more and more. We typically convert 100% of our cash. And probably our biggest issue that holds us back a little bit right now is a little bit of tax uncertainty that's been a problem, not from the current management team or anything the company has done wrong, but from audits from six or seven years ago, and we're working through those issues to get rid of that uncertainty and let this stock start to really create value and provide value. But it's been a fun first year for me and for Ray, and I'm more confident today than I was a year ago that we can drive this company and do it in a way that I've done it in the consumer companies I've been involved with before. So now we're clearly on the road telling the consumer story, not just the pharma story because it's an entirely different mindset. Great. Well, that's a very helpful overview. Maybe first, we can start on the consumer side of the business and the articulation of an acceleration of that consistent 3% to five to seven cadence from a top line profit and earnings perspective. Can you talk a little bit about the top line piece of that? And what are the key strategies that get you there from where you are today? What's the level of confidence that you can do that? And maybe compare and contrast it to some of your prior experience in CPG and what's unique about the strategies here? Well, versus my last twelve years or so, these categories grow more robustly. So our challenges are less category growth here than in tobacco, right? You're fighting declining trends. And in foods, I was always fighting like stagnant to slightly declining categories. That's not the issue here, like health care costs and the value that's provided and the customers behind it so aggressively have these categories growing, and I don't see that changing. So we our challenge is price. In tobacco, I can take a price increase here. I have to I'm constantly facing people trying to cherry pick in and steal some business and whether you give price concessions or not. And that's where I think the consumer experience that we have can help drive that. Because if you could do that, you get a lot stronger growth than anything we're talking about here. We do all that while making we're already growing in those levels, and we're doing it while making some price conversions concessions. So if you can get to the point where you're innovating enough that when somebody walks into a customer and wants to try to compete with us on price, want the customer to say, well, that's great, but they've already made a better version of it. Do you have that? And then they'll be like, no, we'll be back in a year. And then hopefully, we're constantly staying ahead of them. But bottom line, it's a company of different pieces. The history of Perrigo was it always had to give a little bit of price concessions. It did small bolt on acquisitions that opened up new avenues of growth like our infant formula business. Ranir is an example of how we've gone back to something that hadn't gotten neglected for four or five years. We always were one of the fastest innovators. Our innovation pipeline slowed way down as the company invested to go internationally and invert and do those things. The core new product pipeline dried up to some extent, and we have ramped that way back. Those are the two most important issues that we needed to do to get growing again. And you just you look at the scale, did a $750,000,000 acquisition of Vernier. We just bought Previtsid. There's plenty more in the pipeline. We're tough, and we want them all to be good contributors. But so to get from what was 1% or 2% growth is some smart bolt ons, get you a little more aggressive growth, takes you to the next level. Hopefully, though, you're accretively buying in terms of revenue growth, takes that 2% to 3% on the organic line. Then with that, there's waste in the system from lack of investment that I believe we have very clear line of sight to over the next few years, 100,000,000 of operating expense coming out, and there's also SG and A or excuse me, the COGS opportunities as well. So those are the pieces, and that's all happening. It's all happening. It feels real well, and then we just got to get some of this uncertainty out of it. Okay. That's helpful. And maybe you can take us through the innovation process and how that's changed. It seems like it's a pretty important piece of the top line acceleration expectations going forward. So obviously, there's been increased spend, as you guys have publicly outlined already. But help us just understand, is it spend, is it people, is it process, how has that actually changed and how impactful should that be from a top line growth perspective? Yes. It's sort of two stories, one internationally and one internationally is they've been doing a good job for four or five years, and we bought a business that also had a lot of cats and dogs that needed to be pruned out of it. So they are operating under the traditional do your consumer market research tests. And when you do those consumer tests, you find a way to innovate and bring new products and take products to work in a market, bring it to another market. They have a beautiful new product program with has a very full pipeline, and it's continuing to generate results. So you can just think of our international program as like any good consumer company. There is a step change, mind difference, the way we're trying to manage The U. S. Private label business. For years, private label was managed under, I'll call it the definition, we call it NBE, national brand equivalent. Wait, see what they are, there's a big switch that comes from Rx, and then be the first and fastest to go out there and copy it exactly. To innovate, we need to shift from a mindset of national brand equivalent to a mindset of national brand better or national brand different. And we can do that. We don't have to own the NDA, the active ingredient license with the FDA to take, let's say, nicotine lozenges or gums and put them in a consumer better, consumer friendly packaging, liquid centers, easier, softer I mean, all the kinds of things you would do for any traditional consumer marketing company, as an example, take it to another level of form and usage, easier open packaging, better flavors, all of those kinds of things, sizes, mini, faster dissolving, all those kinds of things we can take the lead on. We're not inhibited from doing, but it wasn't the way the company operated it. And that's been the biggest shift in the year to go after those. Some of those we can make happen very fast. Some of those will take two or three years, the bigger hitters. But I think the world will be surprised when I come out in the beginning of the year to see how much we've ramped up and we'll start hitting the market next year. And the idea generation from an innovation standpoint, is it more internally generated? This is just a matter of now there's a top down focus on it and it's moving throughout the organization using third parties. We're not using third parties. It's especially in The U. S, there were capabilities that didn't exist. So some of them is just the fundamentals of a good, well run consumer company of having the data, which we don't have all fully yet, where you know where the gaps in the marketplace and items that aren't available and doing the consumer testing of what's liked and what's disliked. So we have ramped up market the investment in market research to identify those national brand better differences. I also brought in a top head of R and D. It was all run as separate divisions. So now they all report to Jim Dillard, worked with Ray and I at UST, and he's brilliant, and he's now and he's got a great team, but the team worked in silos. Now an idea in Belgium becomes an idea in The US and vice versa. And so, there's ideas are coming from all over the company, but a lot of them are obvious. But we're not going out to, like, get a consultant to come up with the ideas. We don't need to. It needed a strategic as soon as you're no longer a treating disease company and you're a self care company, there's just the world opened dramatically, right? It went from you have this narrow lens to look at opportunities to, wait a minute, oral care makes sense, let's buy Ranir. Now all of sudden, there's tons of opportunities. Ranir is small internationally, and it has all these great products. Now we can use our 1,200 detail force that calls on every pharmacy individually, even France and Spain and Italy, and take a line of products that way. So there's just so many opportunities. And take us through the thought process on how you look at those different opportunities. Obviously, self care is an enormous market. OTC is a huge market. So are there particular segments you're excited about? Do you approach it more from an organic or M and A standpoint? And while we're on the subject of M and A, the strategic and financial criteria? Do you want to do the strategic and financial I mean we have a full process, if you why don't you talk about the M and A pipeline? Yes. We have a pretty robust pipeline of M and A, and we have a Board approved our Board approved a process that we use for evaluating whether a particular acquisition target would fit our criteria or not. And so we and we don't look at anything that doesn't actually fit inside that criteria in terms of industry type of product, size of company and so forth and where it's located, whether it's in The U. S. Or overseas or whatever. So separately from that, in terms of return criteria, yes, we definitely we have specific ROI requirements within each of the each of those categories. I don't think we're not going to disclose the specifics for obvious reasons, but we do we are very data driven, and we make sure that those return requirements are within the constraints of whatever the pricing for that particular acquisition would be. And that's true on an IT investment. That's true on a capital investment. That's There are some that are maintenance. But for the most part, if you want us to invest, it comes to a committee, and you've got to we're your bankers, so you've got to sell the proposition. I do give some freedom to the for the when you're talking about initiatives, like we have a top notch person running international, a top notch person, and they have to run their businesses and deliver. And they depending on the size of it, but we they invest, but they have to ultimately show their strategy and how they are going to deliver on the over the next year or so building towards the three fifty 7. So it's that part, I think, is very good at Perrigo. We're pretty disciplined on that. Yes. Don't that wasn't broken. What was broken were things like the the tools to make it a lot easier to to not have to manually do that and to be able to scan and see more opportunities quicker. But I I will tell you, like, I see more acquisition opportunities in a week than I saw in fifteen years in tobacco every week. I mean it's like and we turn most of them down, but there are plenty of opportunities once we divided this or changed the course and definition of the company to self care. And as you look at interesting subcategories to move into, is there an ability to do some of that organically just given your retailer relationships? Or it really requires more partnerships or acquisitions just in terms of getting the scale to compete in those categories and margin dynamics, etcetera. How do you think through that at a high level, either different category by category, but just from a high level perspective? I mean it we're in you'd be shocked how many categories we're in. But it really varies. I put a higher priority than maybe you think on bolt on bite size acquisitions. They're faster. They help get you there. They help shortcut the regulatory process because that can take years. And given what I'm trying to do and Ray is trying to do on and the team is trying to do ramping up, it's a faster way in. Could we have built an oral care business? Sure. It would have taken years and years to do what we've done with Ranir. And Ranir is now from there to leverage the two companies, can bring a lot of revenue synergies. We don't buy a company on revenue synergies, but they're there on this one. And it reduces the risk, too, terms of by making an acquisition, you reduce it clearly. Yes. What we're not doing is what I believe was a mistake for the company, well intentioned, but there were some multi big multibillion dollar acquisitions over the during the period of time when the company lost focus on North America, and there's none of those coming. That doesn't make sense to me. I want if there's going be an acquisition, it's getting us into a segment or supporting a segment. Ranir gets us a whole new area of oral care that has tons of places to go with it. Previces helps to bridge the gap of us starting to learn to be a little bit more branded and consumer in The U. S. Ranir helps us be a little bit more private label in Europe, right? So everything is being done very methodically and strategically. Can you talk a little bit about the margin opportunity in your three different segments? And one of the things we've seen in store brand business over time in The U. S. Is there's been a decent amount of margin as well as top line volatility for a lot of businesses. Is there sort of an ability to have a steady path to margin progression? And how do you think about it, U. S. And international business and then on the R and S side? Our international business has been growing a margin point a year basically for a number of years when you look underneath it. So we bought it, and it's, I don't know, it's four or five points higher. But we are a tough business to manage on the gross margin line because private label businesses don't have A and P. When you get mix between branded and private label, they end up at the same margin, operating margin, but they look a little bit different. So for me, I believe that operating expenses in Perrigo have inflated over the past four or five years, so there is an opportunity across the board, and that's where the $100,000,000 program is, to improve margin at the operating margin line, which we believe I think you would agree with that, Ray, that I would. That is the critical driver for our company's success. Growth has been very reliable. I think it could be faster to ramp up to the three or four in which we're starting to do. But Perrigo was I don't know Perrigo as in fifteen, eighteen years ago, fifteen years ago was like a $700,000,000 company. It's $5,000,000,000 I mean it's grown rapidly. It's just the last couple of years that it's stalled as it took the eye off the ball, but those categories didn't slow down. They just became sort of less differentiated, and we need to use our scale and our high complexity quotient at a better level. Bottom line, I'm very confident of the growth. Margins have been compromised a little bit based on pricing and on operating expense. I think the operating expense and the addition of faster growth overcome that the way it did for years and years and years. We just walked away from it a little bit. You have to know the Perrigo story a little better, but there was like a model that worked beautifully and it went away from it. And in essence, all we've done over the last year is to put back in place the model that works so well, And we're now starting to see those results. Can you talk a little bit about your retailer relationships? In theory, private label here in The U. S. Is becoming more important to them for a variety of reasons. So are you sort of seeing that in your categories? Is that relationship strengthening? And on the other side of it, one could argue that, look, technology is enabling more competition, smaller companies to crop up, right? So is there more competition for the business from other manufacturers out there, etcetera? And how you sort of think through those things in terms of your ability to continue to prosper in The U. S. Private label market over time? Yes. We're nothing like the sort of most of the private label categories that you're used to. The barriers are pretty high. One of the one on one sessions this morning, I love that comment that when we had a group out to Malligan, Michigan to see the factories and you see the 28 facilities and the amount of investment that goes in, it's not an easy and all the FDA approvals and the regulatory process to get all that, it's not an easy category. And having said that, there's more competition than there was a few years ago, but it's cherry picked. So it's on a particular item here or a particular item there or two or three of the higher profit items, but Perrigo is sitting there covering, giving offering you 100 items. And we need to be stronger in that partnership. So shame on us, but we have brilliant partnerships with our customers, but we suffered last year on service. And when you want to say, you need to pay me a little bit more and all that, you better have the best service and offer the full breadth of that line and offer category management services better than anybody else, and that is what we do. And I feel like we've gotten all that, for the most part, back this year. It's not perfect yet, but massive strides have been made. Don't again, you're in relative to the categories that many of you guys, ladies and gentlemen, carry, in us, like the biggest brand in over the counter by far is a private label brand at one of the biggest mass mergers in the country dwarfs. We sell four times more ibuprofen than Advil. We sell more Tylenol than Tylenol. We sell more we're the market leader in every category. We're a seventy-eighty share in nicotine replacement. Now I'm not talking dollars, I'm talking units, doses that people are actually consuming. Okay. And then maybe we can touch on the Rx business for a few minutes. It sort of seems like we're in a bit of a holding period here in terms of deciding what to do with that business. So maybe just talk about the thought process there, timing and how you guys think about making a decision on that side of the business. Well, the strategic decision is made. So you don't hear me talking a lot about Rx. It's it's noncore, but it is a steady eddy contributor of of a lot of cash. And at a five multiple, I I mean, it's it's radically dilutive at this moment. When we went into the process, we probably were thinking, and it was before I got to the company, it could be double that. And then in the last year with last two years, there was already a lot of price erosion in that area. But we beyond that price erosion, you had a lot of other things, opioids and all these other things that were really DOJ investigations and things that have really, really tortured that segment, and you saw the multiple I put up there, it's like five times, it's just not a great time to get it done. Strategically, it's not a self care business. We're very fortunate. It's got great people running it. It's very solid. We're probably I showed I think a relative chart in the third quarter. We're if not the fastest growing, we're the business is growing. It's challenged from an operating income standpoint, and that business has to have a robust new product pipeline, and they do. So it's not a drag on the company. Strategically, would I like to go out? Would I like to deploy that cash differently? Yes. But I'm not going to destroy value doing it. So decisions made, we'll see when the timing is right. And when the opportunity is there, we'll take advantage of it. But we continue to move forward to make sure we can make that decision happen very quickly when it presents itself. In the meantime, we are not robbing it. We continue to treat it business as as usual. It self funds itself. It self funds more than itself. But the growth of the company, the future of the company, the multiple of the company, you'll see is a focus on consumer. Okay. And Ray, maybe you can give us an update on some of those tax disputes, time line for getting more clarity there and how you guys think of how that impacts your decisions in terms of capital allocation. We think that we have strong cases against most of the certainly, it will be the three, the Irish one and then the two IRS ones that we've received this year. We feel we have very strong defenses against all of those. That said, we would like to find a way to move forward. There's very long time lines here. I mean the length of time before if we went through the process and the appeals and other things that would happen, there's years before they would get settled. But we would certainly like to find a way of taking some of the uncertainty off the table, and that's where we're focused right now is trying to get some of that uncertainty off the table. But we do believe, and I think this is the problem that we face, is that we believe that we have very we believe that we have strong defenses against them, and therefore, it's hard for us to just settle them for large amounts of money. Right. Okay. Well, that was very informative. It was great to get to know you guys better, and we really appreciate you being here. Thanks for having us, and thanks for your interest in Perrigo.