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Edited Transcript of OFSA3.SA earnings conference call or presentation 8-Aug-19 6:00pm GMT

Q2 2019 Ouro Fino Saude Animal Participacoes SA Earnings Call

Sep 6, 2019 (Thomson StreetEvents) -- Edited Transcript of Ouro Fino Saude Animal Participacoes SA earnings conference call or presentation Thursday, August 8, 2019 at 6:00:00pm GMT

TEXT version of Transcript

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Corporate Participants

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* Kleber Cesar Silveira Gomes

Ouro Fino Saúde Animal Participações S.A. - CFO, Member of Executive Board & Chief IR Officer

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Conference Call Participants

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* Catherine Kiselar

BB-Banco de Investimento S.A., Research Division - Analyst

* Olivia B. Petronilho

JP Morgan Chase & Co, Research Division - Analyst

* Pedro Ferroni

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Presentation

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Operator [1]

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Ladies and gentlemen, thank you for holding. At this moment, we would like to welcome you to the Ouro Fino Saúde Animal conference call for the second quarter 2019. Today, we have with us Mr. Kleber Gomes, Chief Finance and Investor Relations Officer. We would like to inform you that this event is being recorded and simultaneously translated. (Operator Instructions) We have a simultaneous webcast at ir.ourofino.com. At this address, you will find the banner Webcast Second Quarter '19 that will lead you to the presentation.

Before proceeding, we would like to mention that forward-looking statements made during this conference call referring to the beliefs and assumptions of Ourofino's management are assumptions of the company and are based on information currently available to the company. They involve risks, uncertainties and assumptions as they relate to future events and, therefore, depend on circumstances that may or may not occur in the future. Investors should understand that general economic conditions, industry conditions and other operating factors could also affect the future results of Ourofino and future results differ materially from those expressed in such statements.

I would now like to turn the floor over to Mr. Gomes. You may proceed, sir.

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Kleber Cesar Silveira Gomes, Ouro Fino Saúde Animal Participações S.A. - CFO, Member of Executive Board & Chief IR Officer [2]

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Good afternoon to all of you. Thank you very much for participating in our earnings result for the second quarter '19. It is under our understanding that the cattle breeding scenario in Brazil is beginning a more constructive phase, driven by the opportunity to increase protein exports to Asia, considering the sharp reduction in China's swine breeding stock because of the African swine fever and because of the macroeconomic fundamentals that should continue to evolve because of the likelihood of the structural reforms that Brazil requires. Therefore, Brazilian producers may benefit from higher volumes and better profitability, increasing investments and enhancing the adoption of technology, including medicine vaccines and other veterinary products.

In this context, the company expects a very positive cycle for its Production and Companion Animals business and is ready to continue supporting producers in their continuous improvement of productivity and allow pet owners to offer the necessary care for their dogs and cats, therefore, continuing to capture better results. However, it should be noted that the first half of the year fell short of our expectations in the Production Animals segment with an increase of 7% in the quarter, with a slight recovery for the semester. We had a slow buyer's market due to a moment in which we are waiting for a definition of the points mentioned formerly, especially macroeconomic points. And part of this growth was due to higher sales of foot-and-mouth disease vaccines in the first campaign of the year, along with a higher idleness of the plants, including the startup of the new vaccine plant with only initial sales volumes. This affected the segment growth margin, which was 45%.

Despite all of this, in consolidated terms, the second quarter presented a considerable increase in net increase. They were 10% higher than the same period in the previous year due to volume increases in Companion Animals and international operational segment, with increases of 22% and 20%, respectively. These segments had their margins affected because of the lower production volume, reducing their historical profitability. The reduction of consolidated growth margin, coupled with the recognition of R&D expenditures as expenses, which had already been foreseen in this project phase, led to a 6% reduction in the company's adjusted EBITDA. Generation of cash from operations increased 6x vis-a-vis the second quarter.

As usual, market seasonality always presents the second half due to a higher concentration of trade fairs, a peak of cattle breeding period and favorable weather conditions, along with excellent prospects for the cattle breeding scenario in Brazil, as mentioned above. And because of this, we believe that the potential increase in the volume of populations will result in a further dilution of costs and expenses, consequently, ending the year in line with our initial expectations. We continue reimagining animal health in the second quarter of 2019. We entered a partnership with AgTech Garage, a startup hub focusing on agribusiness development. This will allow us to have access to innovations aimed at increasing productivity and to facilitate the life of man in the countryside.

We now go on to our financial results, and we will speak about the net revenue for the company. As mentioned, the net revenue was BRL 178 million, with a growth of 10% vis-a-vis the same period to '18. In the semester, net revenues were BRL 269 million, a growth of 6%. The market had greater retraction as we had foreseen in animal production, with net revenues of BRL 198 million in the first quarter and a growth of only 2% vis-a-vis 2018. In the second quarter 2019, net revenue for the segment were BRL 139 million with a growth of 7%, already showing a recovery. Most of the growth presented was due to market opportunities, with an increase in sale of foot-and-mouth disease.

Companion Animals had net revenue of BRL 24 million in the second quarter '19, a growth of 22% vis-a-vis the second quarter of 2018. These volume increases enabled us to reach the higher historical quarterly volume and because of the sellout of distributors that we had seen expanded throughout the year. In the first semester 2019, net revenues were BRL 43 million for the Companion Animals segment, a growth of 13% when compared with the first semester 2018.

For International Operations, net revenues reached BRL 16 million in the second quarter, an increase of 20% when compared to the same period in 2018. If we exclude the foreign exchange impact, the growth was 16% with volume increases, with a highlight for Colombia. Net revenue for the segment was BRL 27 million with a 31% growth.

Regarding gross margin, the result was 50%, a decrease of 4 percentage points vis-a-vis the same period in 2018. Generally, the margins were under pressure of the lower volumes, reducing our historical profitability. Because of this, the margin of the first semester was BRL 132 million, representing BRL 49 million, a reduction of 6 percentage points when compared to 2018.

The Companion Animals segment had a gross margin of 71% in the second quarter, a decrease of 4 percentage points vis-a-vis the second quarter 2018. This reduction reflects a lower volume of sales impacting the segment as a whole. In the first quarter of 2019, gross margin was 44%, a reduction of 7 percentage points vis-a-vis the same period in 2018.

Once again, because of the factors mentioned before and the shutdown of the plant at the beginning of the year, the Companion Animals had a gross margin of 71%, with a reduction of 4 percentage points vis-a-vis the second quarter 2018. Once again, this is due to the greater idleness of the plant impacting dilution and, of course, increasing the cost of production. In the semester, gross margin was 70%, a reduction of 3 percentage points compared to the same period in 2018.

International Operations had a gross margin of 58%, with a decrease of 9 percentage points when compared to the same period last year. Besides the lower production volume, we had an impact in the project mix in Mexico and Colombia and the countries that we export to. Gross margin, therefore, was 57%, a reduction of 8 percentage points.

We will now speak about SG&A and EBITDA, and we highlight the expenses for the second quarter that added up to BRL 60 million, 34% of net revenue. In the first semester of 2019, they stood at BRL 110 million, 41% of our net revenue and a growth of 2 percentage points compared to the same period in 2018. In the second quarter, the growth of 2 percentage points reflects a greater share of expenses in research and development compared to the allocation of PP&E in previous results.

Once again, expenses allocated to R&D were BRL 13 million in 2019 vis-a-vis BRL 6 million in 2018. Once again, these results are now being launched into our figures due to accounting rules. Thus, due to the reductions and margin and the change in the mix of expenses in R&D, the EBITDA -- the adjusted EBITDA was BRL 35 million, with a reduction of 6 percentage points vis-a-vis the same period 2018. For the semester, adjusted EBITDA stood at 13%, a loss of 8 percentage points vis-a-vis 2018.

We will now speak about the net financial expenses, income tax and social contribution on net profit. Net financial expenses for the second quarter 2019 amounted to BRL 3.4 million, a reduction of 11% vis-a-vis the second quarter 2018, while for the semester, financial expenses were BRL 7 million, a reduction of 4 percentage points compared to the same period in 2018. Net debt stood at BRL 217 million, a reduction of 5% when compared to the same period last year. Income tax and social contribution for the second quarter were at BRL 9 million, with a tax rate of 37.8%. For the semester, this stood at BRL 7 million. Once again, the measurement of income tax and social contribution is done on fiscal basis, and this is different from accounting results.

Net profit for the second quarter was BRL 15 million, below the BRL 21 million observed in the second quarter 2018. This is due to a trough in margin and the EBITDA. The net profit for the semester stood at BRL 9 million, a reduction of 6 percentage points vis-a-vis the first semester in 2018. In terms of indebtedness, at the end of the second quarter 2018, the net debt-over-EBITDA margin in the last 12 months was at 1.9. The increase is due to a reduction of EBITDA in the first semester this year, and there was a reduction of net debt of the company to BRL 217 million, a 5% reduction. The average cost of the debt is close to 7% for the year, in line with our background during the last few periods. Once again, we would like to highlight our net debt profile that represents 2/3 of our long-term debt.

We will now speak about the cash generation for the company. For the consolidated amount of the semester, there was debt amortization and payment of interest rate totaling BRL 58 million, CapEx of BRL 25 million and the payment of taxes of BRL 9 million, offset by the cash generation of BRL 67 million. This indicator grew 131% vis-a-vis cash generation in the first semester 2018. In the second quarter 2019, cash generation was BRL 25 million, a number 6x greater than in the same period 2018.

Let's speak about our investments in research and development and launches in 2019. Our investments totaled BRL 21 million in the consolidated figure in the first semester, equivalent to 8% of our net revenue for the period. This percentage is in line with the historical investments of the company and reinforces our guidance to have sustainable growth.

This semester, we also held a partnership with AgTech Garage. This is a startup in agribusiness, a hub, and it is deemed to be the greatest center of innovation in Latin America. With all of this and with the new innovative initiatives, we contribute to our purpose of continuing to reimagine animal health.

I would now like to return the floor to the operator to go on to the question-and-answer session.

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Questions and Answers

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Operator [1]

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(Operator Instructions) Our first question comes from Olivia Petronilho from JPMorgan.

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Olivia B. Petronilho, JP Morgan Chase & Co, Research Division - Analyst [2]

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Okay. In truth, I have 2 questions. The first is about the plant. We see that you have had a margin pressure. What is happening with the ramp-up at the plant? And which should be the ramp-up at the plants so that you will no longer have this pressure on margin? And in 2 or 3 years, which is the margins that we can imagine after the new products?

The second question refers to the growth of Production Animals. During the first semester, there was a decrease in revenue. Now is this normal for the semester as a whole? Or should there be an improvement going forward?

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Kleber Cesar Silveira Gomes, Ouro Fino Saúde Animal Participações S.A. - CFO, Member of Executive Board & Chief IR Officer [3]

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Olivia, thank you very much for your questions. I'm going to begin with the second question, the growth of Production Animals. We highlighted that in the first quarter, we had an impact. Once again, in the second quarter, we had another impact, and this impact was greater than the initial one, and the growth figures of the Production Animals are the same. We would have had a greater growth if we had considered that of the second quarter. We ended up selling more hoof-and-mouth disease, and because of this, we still continue our results to be somewhat below, while also, imagine, we felt that the market had a greater retraction. And in our opinion, this is due to the holding of producers who are awaiting to see what will happen in Brazil. And we believe that in the second semester, we will continue with this retraction.

The second semester naturally tends to be much stronger. We have the trade fairs. We have the great fair of the year. We have the breeding, increase in production. Of course, this will bring in additional revenue. Additionally, it is a period with greater rainfall, and this, once again, will increase the purchase of our products and increase our results.

Very generally, our results are good. Although, they are below what was expected. We hope that they will improve in the second semester, considering the macroeconomic scenario. And perhaps, the push that we have had was the African swine fever that has been advancing significantly, and this will allow us to enter a very new and constructive cycle in coming years.

When it comes to the plant biologics, if we look at the pressure on our margin, this is due to several factors. First of all, we're coming out of a period of lower sales. Our inventory was somewhat higher at the end of 2018 because of the market retraction. We had a consumption of that inventory and less volumes produced at the plant in general. This leads to a lower dilution of fixed costs and exerts pressure on margins.

The greater impact, once again, is due to the lower volume throughout our plant, and the biologic plant has already started operations but only with initial volumes for the first vaccine that we have launched, which is the Safesui Circovírus vaccine. And the volumes are still quite limited. The introduction of this vaccine in the market tends to be technical. It will take time, and it will have a direct impact on the producers that oftentimes have already closed their purchases for the year.

Now when it comes to the plant, once again, we're still with the expectation that we will have a very complex production for swine as well as for beef. We will have 3 or 4 years of launches looking forward.

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Operator [4]

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Our next question comes from Catherine from Bank of Brazil.

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Catherine Kiselar, BB-Banco de Investimento S.A., Research Division - Analyst [5]

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Congratulations for your results. I'm referring to your administrative costs, and I have a question on this. There has been a great impact because of research and development on your revenues. And if you could, perhaps, give us an outlook of your coming results, if there will be a reduction in your investments in research and development and what it is that we can expect as a return from R&D, for EBITDA and your margin in general.

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Kleber Cesar Silveira Gomes, Ouro Fino Saúde Animal Participações S.A. - CFO, Member of Executive Board & Chief IR Officer [6]

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Thank you very much for your question, Catherine. Well, let's begin with the expenses with research and development. We always underscore that R&D is important. Every year, we carry out investments fixed to 8%. Now the allocation of these amounts for the results relates directly to the phase of each of our products that are underway in our product portfolio. And in fact, this semester, we had a somewhat greater concentration of expenses. Our outlook for the second semester is that we will have something very similar to what happened in the second semester of 2018. Year-on-year, the level will be more similar to what we had in previous years, and this should level out the distribution during the period.

Now when it comes to our other expenditures, we do have a very high fixed component in our expenses and with a performance that is somewhat more retracted than we had expected. And of course, this is what led to a lower dilution. But as we mentioned, we are awaiting a market resumption. The market is going in that direction. And what we have to do, perhaps, is change our mindset, stop this waiting that we are involved in and go back to our normal activities. Our expectation is to end the year as we had forecast because up to present, we have been moving ahead quite slowly.

Do you have any additional question, Catherine?

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Catherine Kiselar, BB-Banco de Investimento S.A., Research Division - Analyst [7]

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If you could give us more results in terms of what you announced for the second semester in terms of SG&A and EBITDA. What is it that we can expect?

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Kleber Cesar Silveira Gomes, Ouro Fino Saúde Animal Participações S.A. - CFO, Member of Executive Board & Chief IR Officer [8]

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Well, Ourofino has several initiatives in the field of innovation, and we have 1 more at present. We began this partnership with AgTech Garage 3 years ago as part of a broader initiative that is called A Round with Producers. This is a startup that presents to us our projects so that we can assess their stage of maturity and the potential for partnership.

3 years ago, we began this movement. We began with cattle breeders that would help us in deciding what to do with their startup. This is located in the valley of Piracicaba, very similar to Silicon Valley. It is strong in business with very renowned institutions, and it is one of the greatest businesses in Brazil. And as part of the ecosystem of businesses, as it is one of the most important startups when we began 3 years ago, this was a very natural process. We were selected as their innovation partner. And what we are expecting is to develop projects that are selected, work on them and bring them in-house.

We cannot speak about percentages or the growth expected from these projects because everything will depend on the relationship. It is a sine qua non condition to have this company connected to all of our initiatives, and we're working from the outside, inside. Once again, we're not going to be competing with the entire world. This is a process that goes from the outside to the inside. And this is one more initiative amongst the multiple ones that we have.

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Operator [9]

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Our next question is from Pedro Ferroni from CTM Investments.

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Pedro Ferroni, [10]

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If we go back to the question that was already responded for Olivia, the renovation of your plant has given way to several costs. Are we going to continue to see this in the second semester as we saw in the second quarter? And you're speaking about the change of mix in your International Operations. What is this mix about? This is a curiosity that I have and a question in terms of Safesui, your Circovirus vaccine. If we had a swine fever in Brazil, would we be prepared for this? And if you have a survey development or if you have talked to the people in the market to understand, which is the molecule that can be used in this case?

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Kleber Cesar Silveira Gomes, Ouro Fino Saúde Animal Participações S.A. - CFO, Member of Executive Board & Chief IR Officer [11]

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Pedro, thank you very much for your questions. When we speak about the refurbishment of the plants that began at the beginning of this year, we had already remarked in the previous quarter that this was a one-time activity. Our plants are quite new. They are very streamlined. Nevertheless, our main block was already 10 years old, and we had to work with a retrofit in some sectors. This is an event that will not be repeated. We have already carried out the necessary maintenance, and we are prepared for the rest of the year. Once again, this began in the first quarter. And with an increase in the volumes, we do hope to dilute the loss of productivity that we had in the second quarter.

Now when it comes to that mix, in our International Operations, we don't tend to speak about products here. It was, once again, a one-time event during the semester. We sold a bit more of less profitable products compared to the more profitable ones that we had. We had an increase in costs and the increase of prices in some products, and some of these price increases will also be transferred in the second semester. And all the productions, even those that are exported, come out of our plant. And we -- because of the lower volumes, we had the impact. It was a mix of these 3 factors that have caused this problem.

Now when we speak about the African swine flu, we do not have any study focusing on this disease because we don't tend to work in those markets, and therefore, we don't have a research for these products. We do know that the market is working with a potential vaccine for the control of African swine fever or antivirals. There are very good people already researching this.

When it comes to Brazil, we have great confidence in our sanitary surveillance that has always been very positive. We haven't had a single case. And once again, this is in the hands of the government and sanitary policies that we deem to be very robust. We don't think Brazil will be afflicted by this disease, the African swine fever.

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Operator [12]

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(Operator Instructions)

At this moment, we would like to end the question-and-answer section. We will return the floor to Mr. Kleber Gomes for his closing remarks.

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Kleber Cesar Silveira Gomes, Ouro Fino Saúde Animal Participações S.A. - CFO, Member of Executive Board & Chief IR Officer [13]

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To conclude, once again, I would like to thank you for the confidence that you have in our company. We continue forward with our purpose of trying to find solutions for the needs of our clients, and we hope to sustain the positive growth of Ourofino. We look forward to the second semester, and we hope that our expectations will be fully complied with in the second semester. Once again, we would like to thank you, and we are at your entire disposal.

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Operator [14]

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The conference call for the second quarter 2019 ends here. We would like to thank all of you for your participation. Have a good afternoon.

[Statements in English on this transcript were spoken by an interpreter present on the live call.]