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Edited Transcript of BCPC earnings conference call or presentation 3-Aug-18 3:00pm GMT

Q2 2018 Balchem Corp Earnings Call

NEW HAMPTON Aug 16, 2018 (Thomson StreetEvents) -- Edited Transcript of Balchem Corp earnings conference call or presentation Friday, August 3, 2018 at 3:00:00pm GMT

TEXT version of Transcript

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Corporate Participants

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* Mary Theresa Coelho

Balchem Corporation - CFO and Treasurer

* Theodore L. Harris

Balchem Corporation - Chairman and CEO

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Conference Call Participants

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* Anthony Polak

* Brett Michael Hundley

The Vertical Trading Group, LLC, Research Division - Research Analyst

* Julian Reed Harrison

H.C. Wainwright & Co, LLC, Research Division - Associate

* Timothy Scott Ramey

Pivotal Research Group LLC - Co-Head of Consumer Research and Senior Analyst of Food, Beverage, and Nutrition

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Presentation

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Operator [1]

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Greetings, and welcome to the Balchem Corporation Second Quarter Financial Results Conference Call. (Operator Instructions) As a reminder, this conference is being recorded.

I would now like to turn the conference over to your host, Terry Coelho, Chief Financial Officer for Balchem Corporation.

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Mary Theresa Coelho, Balchem Corporation - CFO and Treasurer [2]

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Ladies and gentlemen, thank you, for joining our conference call this morning to discuss the results of Balchem Corporation for the quarter ending June 30, 2018. My name is Terry Coelho, Chief Financial Officer. And hosting this call with me is Ted Harris, our Chairman, CEO and President.

Following the advice of our council, auditors and the SEC, at this time, I would like to read our forward-looking statements. This release does contain, or likely will contain, forward-looking statements which reflect Balchem's expectation or beliefs concerning future events that involve risks and uncertainties. We can give no assurance that the expectations reflected in forward-looking statements will prove correct, and various factors could cause results to differ materially from our expectations, including risks and factors identified in Balchem's Form 10-K. Forward-looking statements are qualified in their entirety by this cautionary statement.

I will now turn the call over to Ted Harris, our Chairman, CEO and President.

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Theodore L. Harris, Balchem Corporation - Chairman and CEO [3]

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Thanks, Terry. Good morning, ladies and gentlemen, and welcome to our conference call. This morning, we reported record quarterly consolidated net sales of $163.7 million, which resulted in record second quarter net income of $19.7 million or $0.61 per share on a GAAP basis. This result includes noncash amortization expenses of $6.6 million for acquisition-related intangible assets, which were recorded in the second quarter GAAP financial statements. The amortization expense is a direct result of acquisition, valuation and business combination accounting rules. This quarter also includes $893,000 of transaction and integration cost, largely related to the Hayfield, Minnesota plant closure, associated with the acquisition of Innovative Food Processors or IFP.

Consequently, our second quarter non-GAAP net earnings of $24.5 million or $0.76 per share, reported in our press release earlier this morning, exclude these items to facilitate comparative evaluation of this current-period operating performance versus the prior year period. These non-GAAP net earnings of $24.5 million or $0.76 per share were 19.5% or $4 million above the comparable prior year quarter of $20.5 million or $0.64 per share and were an all-time record. Adjusted EBITDA of $41 million was also an all-time record and was $4.7 million or 13% above the $36.3 million posted in the second quarter of 2017.

We delivered quarterly cash from operations of $21.2 million compared to $22.9 million in Q2 of 2017. Our record quarterly net sales of $163.7 million were 11.3% higher than the $147.1 million result of the prior year comparable quarter. All 4 of our reporting segments delivered solid year-over-year sales growth in the quarter, with Animal Nutrition & Health, Specialty Products and Industrial Products delivering double-digit sales growth and both Human Nutrition & Health and Specialty Products achieving all-time record quarterly sales.

Our Q2 consolidated gross margin dollars of $53.5 million were up $6.7 million or 14.3% compared with the same period in the prior year and were an all-time quarterly record. The increase was primarily driven by the higher sales.

Our consolidated gross margin percent was 32.7% of sales in the quarter, up 90 basis points from 31.8% in Q2 of 2017, primarily due to strong sales volumes, mix and certain higher average selling prices. Gross margin percentage for the Human Nutrition & Health segment decreased by 260 basis points to 29.9%, primarily due to higher raw material cost, mix, additional expenses related to manufacturing, site consolidation and expansion activities and the timing of our prior year insurance recovery.

Gross margin percentage increased for the Animal Nutrition & Health segment by 740 basis points to 28%, primarily due to improved monogastric gross margins as a result of increased average selling prices and higher volumes, driving improved throughput. Gross margin percentage for the Specialty Products segment decreased by 10 basis points as compared to the prior year comparable quarter, primarily due to mix.

Industrial Products gross margin increased by 610 basis points, primarily due to the higher sales volumes. Consolidated operating expenses for the 3 months ended June 30, 2018, were $25.8 million as compared to $21.9 million for the 3 months ended June 30, 2017. The increase was principally due to a prior year favorable indemnification settlement, additional R&D investments, certain higher compensation-related expenses and the inclusion of IFP operating expenses, partially offset by lower transaction and integration cost.

Excluding transaction and integration cost of $893,000 and noncash operating expense associated with amortization of intangible assets of $5.4 million, operating expenses were $19.5 million or 11.9% of sales.

Looking forward, we will continue to focus on tightly controlling our operating expenses and leveraging our existing SG&A infrastructure. All-time record quarterly GAAP earnings from operations were $27.6 million, which increased $2.8 million or 11.2% compared with the prior year comparable quarter. This increase was primarily due to earnings growth in 3 of our 4 segments: Animal Nutrition & Health, Specialty Products and Industrial Products.

On an adjusted basis, as detailed in our earnings release this morning, earnings from operations of $34.7 million increased $3.6 million or 11.6% from the prior year comparable quarter, again due to higher earnings in our Animal Nutrition & Health, Specialty Products and Industrial Products segments. These adjusted earnings from operations of $34.7 million were an all-time record quarterly achievement.

Interest expense for the 3 months ended June 30, 2018, was $2.3 million, which includes a write-off of $0.4 million of deferred financing cost in connection with the credit facility in place through June 27, 2018. And our net debt on June 30 was a $148.3 million, an improvement of $19.8 million compared to Q1 2018 net debt. The company's effective tax rates for the 3 months ended June 30, 2018, and 2017, were 21.5% and 26.7%, respectively. The decrease in the effective tax rate is primarily attributable to the recently passed tax reform.

As previously noted, consolidated net income closed the quarter at a second quarter record of $19.7 million, up $3.1 million from the prior year quarter. This quarterly net income translated into diluted net earnings per share of $0.61 for the current year, an increase of $0.10 per share over last year's comparable quarterly results of $0.51.

On an adjusted basis, and as detailed in our earnings release, our all-time record adjusted net earnings were $24.5 million or $0.76 per diluted share, up $4 million or 19.5% compared with $20.5 million or $0.64 per diluted share in the prior year quarter. Our second quarter results generated an all-time record $41 million of adjusted EBITDA or 25.1% of sales compared with $36.3 million or 24.7% of sales in the prior year, an increase of $4.7 million or 13%.

As previously noted, our cash flow remains strong, as we generated second quarter cash flows from operations of $21.2 million and closed out the quarter with $62.5 million of cash on the balance sheet. This cash balance reflects the growth in net earnings and $4 million of capital expenditure funding in the quarter. Free cash flow for the second quarter was $17.3 million, an increase of $2.2 million compared to the same quarter in the prior year.

Before passing the call back to Terry to cover the detailed results by segment, I would like to update you on a few of our key strategic activities and growth initiatives. We continue to work hard to progress awareness around choline after the issuance of the Reference Dietary Intake by the Food and Drug Administration, and the European Food Safety Authority's first-ever intake recommendations for this essential nutrient. We were pleased, last quarter, to announce the availability of choline singles in Walmart and Target stores across the country, effectively increasing availability of choline.

Additionally, part of our increased research and development spending has been focused on a series of outside research efforts to support our market development efforts. One of those studies is a follow-on study to the Dr. Caudill study from Cornell University, that showed the benefits on infant neurology function from adequate and increased levels of choline supplementation by mothers during pregnancy and early nursing. The researchers at Cornell have been conducting extensive neurologic and cognitive testing on the same children who are now 7 years old to determine if the positive benefits seen in the first year of life are sustained into childhood. We're excited to support this study and eagerly anticipate the findings to expand our understanding and appreciation of the critical role of choline in pregnancy and early childhood development.

Within our Animal Nutrition & Health segment, as previously noted, for the first time ever, researchers have clearly demonstrated the benefits of choline supplementations on the newborn baby calf, indicating a positive connection for choline in utero and through the milk. Calves born from mothers supplemented with choline and fed milk from those cows were healthier, faster growing and produced more milk as adults.

Furthermore, we were very encouraged to see the results of 11 new research projects presented at the Annual American Dairy Science Association meetings. This growing body of evidence continues to demonstrate positive health and production benefits of our entire portfolio and will certainly help in our efforts to expand the penetration of ReaShure and our other products into dairy herds across the globe.

While we have no new news on CureMark's progress and their post Phase 3 clinical trial data analysis work, Balchem continues to support CureMark in the manufacturing of validation batches for FDA inspection as part of the progress toward full MDA submission and approval. We celebrated the 1-year anniversary of the Innovative Food Processors, or IFP acquisition, in early June. We are pleased with the performance of the business to date, and the addition of the new products, services, complementary manufacturing capabilities and talented new employees has made Balchem a stronger company.

Progress continues on the plant closure of one of the acquired manufacturing sites and the transfer of the production capabilities to our Faribault, Minnesota and Slate Hill, New York, manufacturing locations. We believe these activities will be completed within Q3, effectively concluding the integration efforts for the IFP acquisition.

And lastly, in late June, we entered into a new credit agreement with our lenders in the form of a senior secured revolving credit facility due in 2023. The new revolving credit agreement allows for up to $500 million of borrowing. We used initial proceeds from the new credit agreement to repay the outstanding balance on our senior secured term loan A, which was due in May of 2019. This new revolving credit agreement enhances our strong financial profile and provides increased flexibility. The available funds from this new credit facility, in conjunction with our already healthy balance sheet and our strong cash flow, strengthens our ability to execute on our growth plan.

I'm now going to turn the call back over to Terry to go through the detailed results for each of the segments.

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Mary Theresa Coelho, Balchem Corporation - CFO and Treasurer [4]

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Thanks, Ted. For the quarter, sales of our Human Nutrition & Health segment were $85 million, a record quarter, and an increase of $7 million or 8.9% from the comparable prior year quarter. The sales increase was primarily driven by added sales from the IFP acquisition, higher powder systems and encapsulated product sales into food and beverage markets, strong chelated minerals volumes and increased choline nutrients sales, partially offset by softness in flavor systems. The 2018 powder systems improvement was due to modest successes related to conversion of customers to reformulated PHO-free products, growth in nutritional beverages and new market wins, including with plant-based protein products. We are very pleased with the strength in chelated minerals, driven by both domestic and international growth. In particular, our branded Albion organic magnesium products have experienced significant growth, as the critical role of magnesium in human nutrition continues to be better understood among brand owners and consumers.

Additionally, Latin America has long been one of our strongest bases in the use of Albion's branded organic iron products, and while last year was a slow year for iron sales into Brazil, this year we've seen a rebound of sales into this region.

Second quarter earnings from operations for this segment were $10.1 million, a decrease of $1.3 million or 11.1% compared with $11.3 million in the prior year comparable quarter, primarily due to unfavorable mix, higher raw material costs, additional expenses related to manufacturing, site consolidation and expansion activities, timing of a prior year insurance recovery and increased research and development spending.

Excluding the effect of noncash expense associated with amortization of acquired intangible assets of $5.4 million, second quarter adjusted earnings from operations for this segment were $15.4 million compared to $17 million in the prior year quarter. The Animal Nutrition & Health segment sales of $42 million increased 13.5% or $5 million compared to the prior year's second quarter. Sales of product lines targeted for ruminant animal feed markets decreased by $0.3 million or 3% compared to the prior year, primarily due to lower ruminant product volumes resulting from challenging dairy economics, particularly in North America, where milk and milk protein prices remained low in the second quarter.

Despite the poor economic environment in the dairy market, we continue to be pleased with the performance of our flagship brand, ReaShure, the market-leading rumen-protected choline, as sales for this product have continued to grow through these difficult market conditions.

Sales into the global monogastric species market increased $5.3 million or 19.9% from the prior year comparable quarter, driven by healthy demand in North America and Europe, higher average selling prices and additional sales realized as a result of the continuing supply disruptions of Chinese imports.

As we indicated on our first quarter call, we expected this disruption to be short term and peak in the early part of 2018. We estimate the benefit to Q2 sales was approximately $3 million to $4 million, and as expected, it should diminish through the second half of the year.

Animal Nutrition & Health quarterly earnings from operations of $7.1 million were $3.4 million or 92.8% higher than the prior year comparable quarter of $3.7 million. The higher sales, driven by increased monogastric volumes and higher average selling prices, coupled with improved throughput from the higher volumes, drove the strong margin expansion in the quarter compared to prior year.

The Specialty Products segment achieved record quarterly sales of $22.9 million for the 3 months ended June 30, 2018, as compared with $20.8 million for the 3 months ended June 30, 2017. The increase of 10.1% was driven by strong sales of ethylene oxide for the medical device sterilization market, along with record plant nutrition sales, following a soft first quarter. Specialty Products' quarterly earnings from operations were $8.7 million versus $8.1 million in the prior year comparable quarter, an increase of $0.6 million. Excluding the effect of noncash expense associated with amortization of acquired intangible assets of $732,000, second quarter adjusted earnings from operations for this segment were $9.4 million compared to $8.8 million in the prior year quarter, an increase of 6.8%. The increase was driven by the higher volumes across both businesses, in addition to the impact of certain pricing actions taken to help mitigate increased raw material cost as well as other rise in costs, where contract terms permitted.

In the Industrial Products segment, sales of $13.8 million increased $2.5 million or 22.5% from the prior year comparable quarter, primarily due to higher sales of choline and choline derivatives used in shale fracking applications. Compared sequentially to the first quarter 2018, sales were, however, $0.7 million lower, as we have seen oil and gas demand stabilize, following significant growth throughout 2017 in particular. As we have discussed in the past, we're pleased with the year-over-year growth but remain cautious about this historically cyclical market. Our earnings from operations for the Industrial Products segment were $2.7 million, an increase of $1.1 million compared with the prior year quarter and primarily, reflects the increased sales.

I'm now going to turn the call back over to Ted for some closing remarks.

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Theodore L. Harris, Balchem Corporation - Chairman and CEO [5]

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Thanks, Terry. We delivered year-over-year revenue growth across our 4 segments and operating earnings growth in 3 of our 4 segments. With overall record quarterly revenues of $163.7 million, up 11.3% year-over-year. All-time record adjusted net earnings of $24.5 million and operating cash flow of $21.2 million, despite challenges, including raw material and other price inflation across all segments, and unfavorable dairy economics impacting Animal Nutrition & Health. We continue to generate strong cash flows, and our net debt has been reduced to $148.3 million as of June 30 or 0.9x trailing 12 months adjusted EBITDA, further strengthening our balance sheet. And our new revolving credit facility enhances our strong financial profile and provides increased flexibility, strengthening our ability to execute on our growth plans. Our strong second quarter results, once again, highlight the strength and resilience of our business model. We do, however, continue to face a difficult dairy economic environment, with the ruminant side of the Animal Nutrition & Health segment, and some increasing uncertainty across most of the markets we serve from a macroeconomic perspective, particularly in light of likely global trade and foreign currency changes, and ultimately, their possible impact on demand, commodity prices and input costs. While there is good momentum in each of the 4 segments, we will be watching these macroeconomic challenges closely as they evolve and implementing mitigating strategies, where possible. We are pleased with the progress made on our key strategic growth initiatives, in particular, the growing awareness of choline as an essential nutrient, the exciting new research related to Balchem's rumen-protected choline for newborn calf health and the integration of IFP. We will continue to strengthen our company by focusing on these and our other growth initiatives, exercising disciplined cost management and seeking value-creating acquisition opportunities.

I would now like to hand the call back over to Terry, who will open up the call for questions. Terry?

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Mary Theresa Coelho, Balchem Corporation - CFO and Treasurer [6]

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Thanks, Ted. This now concludes the formal portion of the conference. At this point, we will open the conference call for questions.

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Questions and Answers

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Operator [1]

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(Operator Instructions) Our first question comes from Tim Ramey, Pivotal Research Group.

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Timothy Scott Ramey, Pivotal Research Group LLC - Co-Head of Consumer Research and Senior Analyst of Food, Beverage, and Nutrition [2]

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One of the things that you seem to be really good at is doing these tuck-in acquisitions, and you've got a lot more balance sheet capacity, perhaps now than you've had in the past. I wonder if you would discuss, kind of, how target-rich the environment is out there for future acquisitions. I know you're not going to give us specifics but in broad strokes?

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Theodore L. Harris, Balchem Corporation - Chairman and CEO [3]

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Sure. Thanks for your comments, Tim. Yes, we do think we've been pretty good at making tuck-in acquisitions. And if we even go back to the Albion acquisition and put that with the IFP acquisition and the Chol-Mix acquisition, they've all really contributed nicely. And actually, in those kinds of spaces, we think the environment is quite target-rich. We have a fairly robust portfolio that we take very seriously, we -- our entire team meets regularly to review progress towards specific goals that we set. A lot of it is courting families who own businesses that are attractive to us. And they do take time. But I really feel very good about the opportunities that are out there. We spend, I spend, a significant amount of my time on these, because we really do see that they can make the company stronger, provide acceleration, whether it's geographic expansion, acceleration or just general growth acceleration. So we think that the -- in these sort of smaller bolt-on acquisitions, the environment is still quite target-rich, while the maybe bigger, more transformative acquisitions, a little less so, I would say, just because of the lofty prices that are out there. So we're still very active, and we do think our new credit facility and just the cash we generate really gives us some flexibility, when we are able to convert on some of these opportunities in our pipeline.

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Timothy Scott Ramey, Pivotal Research Group LLC - Co-Head of Consumer Research and Senior Analyst of Food, Beverage, and Nutrition [4]

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That's great. And then, the Specialty segment. You discussed good growth in the plant nutrition area, and I recall there was some weakness in that a year ago. Are we, kind of, back to what you view as normal levels there? Did you do better than normal? Can you put some quantification on that?

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Theodore L. Harris, Balchem Corporation - Chairman and CEO [5]

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Sure. So our volume in Q2 was about 11% higher this year than last year. So that was very positive to see. But as you know, Q1 was down. So year-to-date, we're about flat with last year, and we do believe that Q3 will be a little bit better than last year. So ultimately, we should be able to show some growth in that business over last year. Of course, last year was an all-time record, great year. But, I think, simply said, we do feel like we were covered with a good Q2 and are about where we should be and we expect to ultimately show a little bit of growth by a bit of a stronger Q3 than we might normally see.

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Timothy Scott Ramey, Pivotal Research Group LLC - Co-Head of Consumer Research and Senior Analyst of Food, Beverage, and Nutrition [6]

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You've got 11% related to the entire segment or just plant nutrition?

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Theodore L. Harris, Balchem Corporation - Chairman and CEO [7]

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Plant nutrition. The art business, what we call the art business, which is really, the sterilization business, also had a very good quarter. That's a business that typically is pretty low growing in the sort of 2%, 3% range. We would normally say, but we've seen volume -- we saw volumes in Q2 grow about 7%, which is significantly higher than normal. Although, Q1 also was a bit weak in that area. But again, back on track after a little bit of a disappointing Q1. We had a very good Q2, and it's really because both of those businesses really got back on track and offset the poor Q1.

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Operator [8]

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Our next question comes from Brett Hundley, The Vertical Group.

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Brett Michael Hundley, The Vertical Trading Group, LLC, Research Division - Research Analyst [9]

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I wanted to ask about -- so, Ted, you talked about momentum in each of your 4 business areas. And I wanted to ask you about the ANH segment with regards to momentum. I mean, clearly, we all know what's been going on in dairy. And so I wanted to ask you about your thoughts on the monogastric side? When I have sat down recently and tried to think about forward trends in mono and your concentration in the chicken and pork industries, when I think about profitability across both those areas, it looks like chicken and pork producers are going through some more difficult times here, at least in the States. And I know your entire business isn't just focused on the States. And then maybe, you can remind us of your geographic mix on the mono business. But anyway, I just wanted to get updated thoughts from you on why you feel like you have momentum across ANH and maybe get some comments on things that I might not be seeing?

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Theodore L. Harris, Balchem Corporation - Chairman and CEO [10]

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Sure, Brett, we can get into that in a little bit more deep detail. Our mono business, just roughly, is about 60% U.S. and 40% Europe. And while we do explore to some of the other regions, they are fairly minor. Overall, and I'll get into your specific comment, but overall, we're really pleased with the ANH results for the quarter, and really for the first half of the year. Sales were up significantly, even if you adjust out the benefit that we think we've seen from the short-term Chinese supply issues. And then just fundamentals like ReaShure continuing to grow through this very, I almost want to say, lousy dairy economic environment, actually, our ReaShure volumes were up double digits in Q2. So for the year-to-date, we're showing some growth in that market. So ANH, overall, I've been pretty pleased really with the last 3 quarters. But the fundamentals that you're getting to are certainly being challenged by the macro economic environment, particularly the tariff discussion. You probably saw the announcement from Tysons and the impact on poultry prices from the pork tariffs. All of those are things that we watch and we care about, and the profitability of our customers is obviously very, very important. But while this uncertainty is out there, fundamentally, choline is a critical part of poultry and swine diets. And we don't really see that changing. We don't see, based on profitability, the poultry and swine producers reducing the levels of choline in their diets. So the demand should stay relatively steady. If you have an outbreak of a disease, typically, those animals are replaced. And so, we traditionally have not seen significant swings in, kind of, demand for choline, based on the types of things that we're seeing. So while we're concerned about it, we're watching it. We really feel like, fundamentally, the outlook for choline and poultry and swine is fairly solid. We -- historically, that market's grown at about 3%, and we believe that once the Chinese shortages are passed, we'll be back in a 3% to 4% type growth range. So that's really how we view that. I'm not sure whether you're aware of the fact that choline has been included on the threatened list of $200 billion of Chinese imports to receive either the 10% tariff or the 25% tariff. It may benefit U.S. volumes some, but we would be concerned if that went in place, what impact it might have on Europe and the positive that we may see in the U.S. could possibly be offset in Europe, as Chinese volume shifts from the U.S. to Europe. So again, some uncertainty there, but we really don't see any significant impact relative to a monogastric perspective, despite some of these uncertainties. And we still are bullish on the dairy protein market long term. We do think that this period is an extended downturn period, we don't really necessarily see it getting any worse. The future is for milk prices are trending somewhat upward. And, I think, that will be beneficial. And again, the value proposition for ReaShure, in particular, works in this environment as well. And so, while it's harder for us, we think that we can continue to grow modestly, our flagship product, at least on the dairy side of things. So that's how we're seeing it. It certainly is a little unclear. But fundamentally, I think we're in a pretty good place.

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Brett Michael Hundley, The Vertical Trading Group, LLC, Research Division - Research Analyst [11]

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That's really helpful. Thank you for going through that. If I can maybe ask you a similar question as it relates to the forward look on the HNH business. I tried to consistently think about the forward growth algorithm for your HNH business, and at least the way I do it, is I kind of divvy that business up into a number of different areas. I mean, you have your human choline and the awareness that you're trying to drive there. You have your encapsulation and agglomeration business areas. And I would expect for that to continue to be a strong growth area, if not picking up pace in quarters and years ahead. I think, about the chelated minerals that you bring to market. And then really, beyond that, I think of some of the more commoditized products that you might bring to market across your entire Human Nutrition area. With that as a backdrop, I mean, do you have any updates for us on how your HNH business might progress in quarters and years ahead, just considering the various moving parts of that business?

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Theodore L. Harris, Balchem Corporation - Chairman and CEO [12]

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Absolutely, Brett. And, I think, you think of it in the right buckets. It is a combination of really different products and services and solutions and they do have very different growth rates and growth potentials. And chelated minerals, year-to-date, our volume has grown a little over 20% in that business. I think that longer-term, that's probably a little higher than we would expect. But we certainly, expect double-digit growth in that product line. We certainly expect double-digit growth in our choline nutrients business, as you say, as we increase awareness. Of course, growth in both of those could even be more prolific if we're wildy successful. But certainly, double-digit growth there. Our encaps business is highly specialized, highly unique, and we really do have the market-leading products. And so, while the food industry might be growing at 2%, 3% a year, we expect to grow that business at a higher single-digit rate. And then, you have, as you say, sort of, the more mature food ingredient business. It's probably -- we think we can certainly grow it double what the food business is or the food industry is growing as a whole. So instead of 2% or so, we can grow that business at 4%, 5%. So when we, kind of, put that all together, there's really, fast growing bits are a bit smaller than the others. But we think mid-single digits growth for this business is absolutely attainable, and we are seeing that kind of growth now. We talked a lot last year of some of the struggles that we had in the powder systems business, and we're very pleased we've had a couple of quarters of reasonable growth there. We alluded to some successes and the transition away from PHO products, and we feel like we were quite successful there and actually captured some additional business. So that business is now actually growing, whereas before it was declining. And so we feel much better about that business. And when you put all of the aspects of HNH together, mid-single digits, I think, is a reasonable expectation to have for that business.

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Brett Michael Hundley, The Vertical Trading Group, LLC, Research Division - Research Analyst [13]

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All right. And I'm just going to ask you two more here quickly and then yield the floor. First is on inventory growth. Should we expect that to really level off here now, just given that you've, kind of, lapsed recent year acquisitions? That's my first question. And then, my second one is, just going back to the credit facility update that you were talking about with Tim, I mean, that was nice to see. You guys upsized the facility, you obtained laxer financial covenants, particularly on the leverage ratio side. Should we not read too much into that? What type of flexibility was most important to you? Another one of my companies has done something similar and they view that updated facility to be able to both make portfolio changes and invest behind their business. Is that really the same thing that you guys are looking at when you do something like this and look for looser financial covenants? Just wanted to get you to address that too.

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Theodore L. Harris, Balchem Corporation - Chairman and CEO [14]

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Yes. So let me address the first one first, around working capital. So you specifically mentioned inventories, and I think, just the short answer to your question is, yes, you should expect that to level off. And in fact, I think, you should expect us to reduce our inventory by a few days over the coming quarters. Part of the increase has been driven by the acquisitions. But certainly, part has been delivered on our part in anticipation of the Hayfield plant closure and ensuring really smooth transition for our customers who built a fair amount of inventory there. And then we did have a -- an efficiency capital project at our Verona site that we needed to build some inventory in advance of. And we did that and you're seeing some of that. And also, we got caught a little bit with, as you've seen Industrial Products, specifically oil and gas, as that prolific growth we were seeing quarter-over-quarter has started to slow, and we got caught with a little bit too much inventory there. So absolutely, you'll see that level off, and I think we'll take a couple of days out of inventory, going forward. As far as the new credit facility, yes. I would not read too much into that. As we looked at the options that we had, flexibility was very high on our list of things that we valued, and we felt like this was a good alternative for us to the extent acquisitions come about or significant growth projects come about, we wanted the flexibility and just the terms and conditions were very favorable to that. So that's why we picked that scenario.

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Operator [15]

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Our next question comes from Ram Selvaraju, H.C. Wainwright.

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Julian Reed Harrison, H.C. Wainwright & Co, LLC, Research Division - Associate [16]

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This is Julian on for Ram Selvaraju. I just have one quick question. Looking back, are you able to talk about how the disruption in Chinese imports this quarter compares to previous quarters as it pertains to your Animal Nutrition & Health segment? I think you mentioned the benefit for this quarter was between $3 million and $4 million. Do you have a similar figure for the first quarter of this year as well?

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Theodore L. Harris, Balchem Corporation - Chairman and CEO [17]

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Yes. So the first quarter of this year was a similar figure. I think we maybe were a little more specific and said $4 million. It really is somewhat difficult to calculate. So I would say, Q2 was similar to Q1, and we do see that diminishing in Q3 and essentially, going away in Q4.

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Operator [18]

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Our next question comes from Tony Pollock, Aegis Capital.

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Anthony Polak, [19]

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Could you give us a little flavor on the lower flavor systems sales in the Human Nutrition & Health?

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Theodore L. Harris, Balchem Corporation - Chairman and CEO [20]

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Sure. Tony, it is an important part of our business, and we've seen a couple of quarters decline. And really, the way I look at it is, the core part of that business is solid and performing reasonably well. We had a great first half of 2017 with lots of -- one aspect of this business is just around limited-time offering, so flavor of the month or flavor of the year. And 2017, first half really benefited from some really good wins relative to limited-time offerings. And those just have not materialized to that extent in 2018. And so that's really where we've seen the decline. We think the core business is performing well and look forward to trying to win more of those limited-time offerings going forward.

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Anthony Polak, [21]

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Could you talk about the increased R&D spend and where that is and what you expect from that?

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Theodore L. Harris, Balchem Corporation - Chairman and CEO [22]

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Sure. It is somewhat an internal spend through headcount but it, by far and away, is external spend. It's both in our Animal Nutrition & Health business. We talked about, there is 11 papers that were presented at the recent dairy show, we're partly funded by Balchem. So we really think a big part of what we bring to the industry is our expertise, yes, our differentiated products, but also our vast library of, kind of, in essence, clinical studies that show efficacy and the benefits of our products. So we are investing pretty heavily in those areas. We are working on a few new product launches in Animal Nutrition & Health that we're quite excited about, that are maybe a year away. But in anticipation of those launches, we really want to have the full library of field trials completed, coincide with the launch of those products. And then, in the Human Nutrition area, I mentioned one, the follow-on Caudill study, we are funding that. We're funding a biomarker study at the University of North Carolina as well as several other studies on choline and even a couple of mineral studies. So it's largely external spend though we are beefing up internal spend a little bit as well.

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Anthony Polak, [23]

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Do you have a number on the increased R&D versus last year? And do you expect it to continue at that rate?

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Theodore L. Harris, Balchem Corporation - Chairman and CEO [24]

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So last year, I think, we were at 1.4% of sales, and this year we're about 1.7% of sales. But, kind of, when you put the real math on it, our actual spending is up about $1 million and in the 3 months in Q2, which is almost 50% increase. So we are significantly increasing our research spend, and I think in the right areas.

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Anthony Polak, [25]

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All right. In terms of the CapEx, could you give us a number on that and what we expect from the CapEX expenditures?

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Theodore L. Harris, Balchem Corporation - Chairman and CEO [26]

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Sure. We have really talked about expecting $25 million to $30 million of CapEx, similar to last year. Obviously, our year-to-date spending is, I think, it's about $8 million. So it's certainly low relative to that target. Our spending does tend to ramp-up as the year goes on. So I think the best guidance right now would be to say the low end of that range that we have been saying. We could come in even a little bit lower than that. But we do have a fair chunk of the year left and spending does tend to pick up as the year goes on.

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Anthony Polak, [27]

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And is that maintenance or expansion?

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Theodore L. Harris, Balchem Corporation - Chairman and CEO [28]

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It's a combination of both. It's -- we've have had some spending this year still on the fire recovery out in Utah relative to minerals. We are investing in some additional minor capacity additions at our plants and quality improvements. But the majority of it is, sort of, maintenance and business-sustaining type capital.

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Anthony Polak, [29]

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Could you just give us a time line update on the (inaudible) of drug?

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Theodore L. Harris, Balchem Corporation - Chairman and CEO [30]

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Sure. Obviously, as I said earlier, we have no new news around CureMark's progress relative to the data analysis. But we still believe that in 2018, an NDA should be completed and filed, and in the hands of the FDA, again, based on the latest news that we have and the outside consultants that we talked to, they guide us around what we should expect relative to timing. So that's still our expectation at this point.

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Anthony Polak, [31]

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And how soon after that, would it be 6 months, for them to rule on that?

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Theodore L. Harris, Balchem Corporation - Chairman and CEO [32]

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Yes. I think that -- but again, this is just an estimate, and we do seek guidance on this and advice. But I think, minimally, you should expect 6 months. I think that's about -- as it probably can happen. And what benefits, that is the fact that there has been this rolling NDA process and fast-track process. And just the nature of this drug treatment should facilitate, sort of, shorter rather than longer review from the FDA, you would think. But again, really need to caveat that once it's in the hands of the FDA, it is really difficult to tell.

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Operator [33]

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Ladies and gentlemen, we have reached the end of the question-and-answer session. Now I would like to turn the call back to Ted Harris for closing remarks.

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Theodore L. Harris, Balchem Corporation - Chairman and CEO [34]

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Sure. I'd just like to thank everybody again for joining the call. We're really pleased with our first half results and look forward to updating everybody in November on our progress in Q3. In the meantime, I'd like to let you know that we will be presenting at the Jefferies Industrial Conference next week in New York City, and also, at the Credit Suisse Basic Materials Conference in September, again in New York City. So hope to see some of you there and thanks again for joining.

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Operator [35]

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This concludes today's conference. You may disconnect your lines at this time. Thank you for your participation.