Catalent Inc

NYSE:CTLT

Earnings Call Transcript 2021-Q2

[Operator]

Ladies and gentlemen, thank you for standing by and welcome to the Catalent, Inc. Second Quarter Fiscal Year 2021 Earnings Conference Call.

At this time all participants are in a listen-only mode. After the speakers’ presentation, there will be a question and answer session. [Operator Instructions].

I would now like to hand the conference over to your speaker today, Paul Surdez, Vice President of Investor Relations. Please go ahead.

[Paul Surdez, Vice President, Investor Relations]

Good morning, everyone and thank you for joining us today to review Catalent's second quarter 2021 financial results. Joining me on the call today are John Chiminski, Chair and Chief Executive Officer; and Wetteny Joseph, Senior Vice President and Chief Financial Officer.

Please see our agenda for this call on Slide 2 of our supplemental presentation, which is available on our Investor Relations website at www.catalent.com.

During our call today, management will make forward-looking statements and refer to non-GAAP financial measures. It is possible that actual results could differ from management's expectations. We refer you to Slide 3 for more detail.

Slides 4 and 5 discuss the non-GAAP measures and our just issued earnings release provides reconciliations to the most directly comparable GAAP numbers. Please also refer to Catalent's Form 10-Q regarding additional information on the risks and uncertainties that may bear on our operating results, performance and financial condition including those related to the COVID-19 pandemic.

Now I would like to turn the call over to John Chiminski whose remarks are covered on Slides 6 and 7 of the presentation. John?

[John Chiminski, Chairman and CEO]

Thanks Paul and welcome everyone to the call. Before discussing our second quarter results let me take a moment to remind you that our top priority during the COVID-19 pandemic continues to be keeping our employees safe and by doing so maintain business continuity. Given the wide range of the 7000 products we produce on behalf of our customers I am sure many of the folks listening to our call today have been touched by one or more of these products in the last year.

Products that now include COVID-19 vaccines and treatments approved for emergency use. Like me I know you appreciate the employees at Catalent and elsewhere who are working relentlessly to help us fight our way out of the pandemic and are helping to save lives. For our frontline Catalent employees one of the ways we've shown our appreciation is through thank you bonuses which have totaled more than $20 million since the beginning of the pandemic for the second quarter.

Now I'm pleased to report that a strong start to fiscal 2021 continued in the second quarter. Our second quarter results when combined with the higher levels of net demand we now expect for the remainder of the year have led us to raise our fiscal 2021 net revenue expectation with the low end of the range increasing by $220 million and the high end increasing by $170 million. The adjusted EBITDA range was raised by $70 million at the low end of the range and $50 million at the high end.

In the second quarter, our constant currency revenue growth was 24% year-over-year of which 17% was organic. Adjusted EBITDA of $224 million represents constant currency growth of 28% over the second quarter of fiscal 2020 of which 22% was organic. Our adjusted net income for the second quarter was $114 million or $0.63 per diluted share, up from $0.45 per share in the second quarter of fiscal 2020.

The Biologics segment was again the biggest contributor to our performance as net revenue grew for more than 75% over the second quarter of fiscal 2020 on a constant currency basis including 65% organic growth with year-on-year margin expansion of more than 500 basis points to 33.5%.

Demand for our drug product and drug substance and viral vector offerings remains high particularly due to work on potential COVID-19 vaccines and treatments which was the primary growth driver in the segment. We saw another quarter where the contribution from Biologics to our net revenue has increased with the segment contributing 44% of the company's revenue in the quarter compared to 31% in the second quarter of fiscal ‘20.

In our Softgel and Oral Technologies segment, we continue to experience some headwinds which we attribute to both a decrease in occurrence of common flues and colds due to limited travel and social gatherings worldwide and to muted launches of new prescription products during the pandemic.

We're cautiously optimistic that these will begin to normalize and we see improved performance projections in the back half of our fiscal year. For oral and specialty delivery we saw continued organic revenue growth and new product momentum in our Zydis platform as well as a return to growth in our early phase development which were partially offset by lower demand for certain orally delivered commercial products.

As we highlighted last quarter we continue to be enthusiastic regarding the long-term growth prospects in the OSD segment given its 200 plus molecule pipeline including products based on our novel Zydis ultra technology which will enable higher drug loading into each Zydis tablet. We anticipate the first Zydis ultra commercial launch in the calendar year 2022 to 2023 time frame.

Now I'd like to provide you with a brief update on our COVID-19 related programs. We've now been awarded work on more than 80 unique COVID-19 related compounds for potential vaccines and therapies across all four of our reporting segments, an increase of 20 compounds since we reported our first quarter results in November. Some of those vaccines and therapies have been granted emergency use authorization or similar status.

The global pandemic has challenged our industry to be more creative and collaborative in all aspects of the supply chain in order to quickly accommodate additional COVID-19 related programs, [considering] our part by accelerating some of our previously planned capacity expansion projects across our global manufacturing network to meet increased demand required to help fight the pandemic and to serve other patient needs.

As some vaccines and treatments have been approved for emergency use and we hope others will follow soon we thought it would be helpful to provide a brief update on some of our capacity expansion projects that will be used for both COVID-19 projects and no non-COVID-19 projects.

It's important to know for Catalent COVID-19 has been an accelerator for our long-term strategic plans and will position us for continued long-term sustainable growth. I'll start with capital investments in Bloomington with an update on three specific capital projects in order of their readiness timelines.

The first is the addition of a high speed vial filling line which we first announced in January of 2019 along with other capacity expansions with expectations to complete the project within three years. This space has since become dedicated space for Johnson & Johnson's COVID-19 vaccine candidate. We've worked closely with Johnson & Johnson since April. Through truly extraordinary efforts, coordination and commitment by hundreds of people working tirelessly over the last nine months this build out was recently brought online allowing us to meet the operational readiness and 24x7 manufacturing commitments described in our announcement last spring.

The next new line scheduled to be available in Bloomington is the high-speed vial filling line we announced in early September 2020 which we expect to come online early in our fiscal fourth quarter. This line will help meet the high customer demand for vial filling at the site including for Mordena's COVID-19 vaccine which received emergency use authorization from the U.S. Food and Drug Administration in December. We're on track to support Moderna in meeting its commitment of 100 million doses to the United States government by the end of March and 200 million doses total available by the end of June.

The third new line that will become operational in calendar 2021 in Bloomington is a high-speed flexible syringe cartridge filling line which was also announced in January of 2019. As this type of line is not urgently needed for the manufacture of COVID-19 related products we expect the line to be completed in the back half of 2021 and to serve non-COVID-19 programs.

Additional capital investment projects announced in January 2019 included increased mammalian cell cultural capacity of Madison by adding the fourth and fifth manufacturing trains at the site providing additional clinical and commercial production capacity at the 2000 and 4000 liter batch scale. These trains are on track to come online in our fiscal fourth quarter and will help accommodate increased customer demand for direct substance manufacturing for both COVID-19 related projects and non-COVID-19 related projects and we anticipate achieving our long-awaited goal of commercial drug substance GMP production as a result of this work; thereby transforming this historical development based site.

The Anagni facility which we acquired just over a year ago and is on track to generate substantial returns in a very short period has become a critical asset for drug product manufacturing in Europe including for COVID-19 vaccines. Like in Bloomington we are working on multiple high-profile vaccine projects in [indiscernible] with plans to increase capacity to support additional customers and programs.

Further enhancing our capacity in Europe, last July we announced that we would modernize our Fill/Finish facility in Limoges, France including the installation of high-speed flexible filling line capable of filling vials, syringes or cartridges under barrier isolator technology.

We continue to anticipate the completion of this project in calendar year 2020. Our viral vector manufacturing capacity is in high demand for the growing number of gene therapy compounds currently in the industry's development pipeline which now totals roughly 600 assets targeting 1600 different diseases. Adding to that demand has been viral vector manufacturing for COVID-19 vaccines for which a portion of our newly expanded capacity in our lead gene therapy manufacturing site has been dedicated.

We've now completed construction of all of the suites at the first building on the site to be developed and expect additional capacity being built out in the adjacent building to be brought online in calendar year 2022 to help meet the significant patient needs for gene therapy treatments.

A year ago we announced our entering to the adjacent cell therapy space with the acquisition of MaSTherCell, cell therapy assets a rapidly growing with recently available count of unique assets in development topping 1500. More than a third of these involve allogeneic therapies. Since the acquisition we've made a number of strategic investments to expand our footprint in the cell therapy business and its high growth potential including opening and validating our U.S. clinical facility in Houston where we're now performing work for a number of customers.

Continuing the build out of our commercial scale production and fill-finish facility in Gosselies, Belgium scheduled to open in fiscal 2022 and acquiring a purpose-built CGXP facility and manufacturing assets from bone therapeutics which is located next to our existing facility in Gosselies.

Given the evolving dynamics and technologies in our industry and the resulting demand for our valuable capacity and capabilities even without considering the demand for COVID-19 related products we've been focusing on our strategic planning on creating and expanding valuable offerings for our customers and their patients while also considering long-term returns across our business.

This process includes evaluating potential acquisitions to expand our offerings as well as making adjustments to our existing portfolio where appropriate. In the last six weeks, we made two moves to adjust our portfolio in our oral and specialty delivery segment. The first was signing an agreement to sell our global steel manufacturing business located in Woodstock, Illinois to SK Capital for $350 million with potential for additional performance earn outs of up to $50 million.

The sale is expected to close in the coming spring. [Blow-Fill-Seal] is very attractive space for the right owner. Given the opportunities for potential expansions in other areas of our business that we believe have higher potential returns and growth trajectories we're pleased to have identified an owner with the desire to invest in the facility and create more opportunities for employees and customers in that segment.

The second portfolio move is an agreement to acquire a 90,000 square foot CGMP facility in the Boston Cambridge area from Accorda Therapeutics for $80 million. The site includes best-in-class spray drying capabilities and will provide catalytic with significant commercial scale capacity permitting the site to act as a global center and dry powder encapsulation and packaging.

In addition to serving new customers at the site we'll continue to manufacture for a quarter there as a result of a long-term supply agreement for the manufacturer of its commercial prescription product intended to treat symptoms associated with Parkinson's disease. The acquisition which is expected to close before the end of our fiscal third quarter complements our existing U.S.-based capabilities in metered dose and nasal inhalation and positions us for growth in the outsourced dry powder inhaler market which we estimate at over $500 million in total and growing in the high single digits.

I'd now like to turn the call over to Wetteny who will review our financial results for the quarter in our enhanced fiscal 2021 guidance.

[Wetteny Joseph, SVP and CFO]

Thanks John. I will begin this morning with a discussion on segment performance. As in past earnings calls my [indiscernible] will be in constant currency. I will start my commentary on Slide 8 with Biologics which is now our largest business segment. Biologics net revenue of $404 million increased 76% compared to the second quarter of 2020. This segment EBITDA increasing 109% over the same period.

Acquisitions contributed 11 percentage points to revenue and 5 percentage points to segment EBITDA in the second quarter compared to the prior year. The acquisitions that primarily contributed to revenue and segment EBITDA growth include the addition of the Anagni facility in January 2020 and MaSTherCell in February 2020. In Anagni which expanded our drug product business that falls within the Biologics segment we continue to attribute all non-BMS work including all COVID-19 projects that we brought to the facility after the acquisition to organic growth in the segment.

The robust organic growth in our Biologics segment in the quarter was driven across all segment offerings including drug products, drug substance and selling gene therapy. It was primarily driven by COVID-19 related projects.

The segment's EBITDA margin increased significantly both year-on-year and from the first quarter to a record level of 33.5% for the segment which is primarily attributed to increased capacity utilization and higher volumes. We expect strong year-on-year growth for the Biologics segment for the remainder of this fiscal year.

Please turn to slide 9 which presents our Softgel and Oral Technologies segment. Softgel and Oral Technologies net revenue of $247 million decreased 10 % compared to the second quarter of 2020 with segment EBITDA decreasing 31% over the same period. The decline was driven by reduced volumes for certain precision products as well as lower demand for consumer health products particularly for cough, cold and over-the-counter pain relief products.

We continue to attribute the lower prescription volumes to slow roll-outs of new products during the pandemic and the lower consumer health demand to a combination of consumer stocking in the early stages of the pandemic as well as the effects of limited social gatherings and travel due to pandemic mitigation efforts.

We see some of these headwinds subsiding in the next six months and expect improvement in revenue growth in the back half of our fiscal year. Year-on-year growth in SOT development revenue was over 40% for the second consecutive quarter which we expect will eventually lead to future new product introductions that will help drive the segment's long-term revenue growth.

Lower volumes were the primary drivers to the decline in margin which was also affected by elevated year-on-year operating costs related to the pandemic including costs for Thank You bonuses, additional protective equipment and adjusted less efficient production workflows put in place to facilitate social distancing among our employees. Note that these higher costs impacted all segments.

Slide 10 shows that our all incessantly delivery segments recorded net revenue of $170 million in a quarter which is up 17% compared to the second quarter of fiscal 2020. Excluding a portion of the acquired Anagni facility that is part of the OSD segment year-on-year revenue increased 2% rising in market demand for commercial product across Zydis orally dissolving tablets technology platform and return to growth for early phase development activity in the quarter was partially offset by lower demand for non-Zydis subscription products.

Segment EBITDA increased 31% over the second quarter 2020, of which the OSD portion of the acquired Anagni facility contributed 22 percentage point, segment EBITDA margin increased by nearly 300 basis points.

Turning to the remainder of our development revenue in order to provide additional insight into our long cycle segment which includes Biologics, Softgel and Oral Technologies and Oral and Specialty Delivery each quarter we disclose our long cycle development revenue in the current year.

In the second quarter of 2021, we reported development revenue across both small and large molecule products of $370 million which is 68% of the development revenue recorded in the second quarter of fiscal 2020. Development revenue, which includes net revenue from product approval for emergency use represented 41% of our revenue in the second quarter compared to 30% in the comparable prior year period. The strong growth in the Biologics business was the biggest driver of the year-on-year changes.

In the second quarter, our development pipeline led to 32 of new product introduction for a total of 62 in the first six months of fiscal 2021. Now as shown on slide 11 our Clinical Supply Services segment posted net revenue of $94 million an increase of 4% over the strong results in the second quarter of the prior year.

Segment EBITDA was $25 million or 2% increase and segment EBITDA margin was 27.1% down slightly over the second quarter of last year, margin was impacted by sales mix in Europe. The CSS business is adjusting for some new realities enclosed by BREXIT. In response we have implemented a process to close the segment facility in Bolton, UK and consolidate into our existing facility in Bathgate UK and Schorndorf, Germany. An important consideration for this action is our investment in higher growth areas for the business including Asia-Pacific where we are filling out our newly acquired 60,000 square-foot facility in Shiga, Japan and North America where we are starting construction on the new 25,000 square facility in San Diego that will be co-located with our existing oral and specialty delivery early phase development facility.

As of December 31, 2020 our backlog for the CSS segment was $448 million compared to $428 million at the end of last quarter and up 15% from December 31, 2019. The segment recorded net new business went up $118 million during the second quarter a 13% increase compared to the second quarter of the prior year. The segment's trailing 12 month book to bill ratio is 1.2 times.

Moving to companywide adjusted EBITDA on slide 12, our second quarter adjusted EBITDA increased 31% and to $224 million with 24.5% of net revenue compared to 23.7% of net revenue in the second quarter of fiscal 2020. On a constant currency basis our second quarter adjusted EBITDA increased 28% including 22% organic growth compared to the second quarter for fiscal ‘20.

On slide 13 you can see that second quarter adjusted net income was $114 million or $0.63 per diluted share compared to the adjusted net income of $72 million or $0.45 per diluted share in the second quarter a year ago. Slide 14 shows our debt, EBITDA ratio and our capital allocation priorities. Our cash and cash equivalents balance at December 31 was $833 million compared to roughly $1 billion at September 30 and $189 million at December 31, 2019. Our net leverage ratio was 2.6 times at December 31, the same as September 30 and down from 4.2 times at the end of December 31, 2019. Recall that in August we lowered our long-term net leverage target to 3.0 times compared to our previous target of 3.5 times.

Moving on to capital expenditures. We continue to expect CapEx as a percentage of net revenue to remain at elevated levels over the next two fiscal years as he accelerated organic growth plan to meet customer demand and patient needs. In fiscal 2021, we continue to expect that CapEx will be approximately 15% to 16% of 2021 revenue.

Now we turn to our financial outlook for fiscal 2021 as outlined on slide 15. We are raising our previously issued guidance to reflect second quarter performance and to account for higher demand primarily related to COVID-19 projects. The guidance ranges which remain broader than in recent years due to the increased uncertainty introduced by the pandemic are now net revenue in the range of $3.8 billion to $3.95 billion compared to the previous range of $3.58 billion to $3.78 billion.

Adjusted in the range of $950 million to $1 billion compared to the previous range of $880 million to $950 million and adjusted net income in the range of $475 million to $525 million compared to the previous range of $410 million to $470 million.

We expect that our fully diluted share count on a weighted average basis for the fiscal year will be in the range of 180 million to 182 million shares and that our consolidated effective tax rate will be between 24% and 25% in the fiscal year compared to a previous estimate of 24% to 26%.

There are important assumptions underlying our revised guidance including first we assume no major unforeseen external change to the current status of the COVID-19 pandemic and its effect on our business. Second, the revised guidance does not assume the receipt of any vaccine or treatment order from any of our customers beyond what either has been received today or is deemed required under executed take or pay arrangements.

Third, revenue from acquisitions is projected to represent approximately 2 percentage points of our revenue growth rate for the year. Our guidance assumes that the acquisition and divestiture in the OSD segment that John highlighted in his opening remarks closed as anticipated in the coming months.

And finally, we now attribute approximately 14 to 15 percentage points of the projected net revenue growth to net COVID-19 related revenue versus our previous estimate of approximately 9 to 11 percentage points. This estimate is based on factors that affect multiple business segments including updated forecasts related to business that we included previously including some that have increased in size due to reaching certain milestones or other triggers.

Revenue not previously projected from additional work among the COVID-19 related projects in which we are engaged. An assessment of opportunity costs including the lost value of work that would likely have been placed in the same space as some of the COVID-19 related work. An estimated loss revenue in certain parts of the business as a result of the pandemics such as lower demand for consumer health products in our Softgel and Oral Technologies segment as well as impacts to some prescription products.

Operator this concludes our prepared remarks and would like now to open the call for questions.

[Operator]

Thank you. [Operator Instructions] Your first question comes from the line of Dan Brennan with UBS. Your line is open.

[Dan Brennan, UBS]

Hey guys, great job congratulations on a strong quarter and everything you guys are doing obviously to get the economy going here. So maybe first question would just be if we could dig in on COVID. So can you just break out what was the impact on the quarter? I know you basically said it was the biggest contributor to Biologics growth but if you could just help us on that front A and then B, just you gave us the math Wetteny at the very end but just kind of walk us through implicit in your updated guidance kind of how do we think about, I mean I could do the math but didn't have time here. How do we think about the change and what you're thinking about the base business ex-COVID in the full year?

[John Chiminski, Chairman and CEO]

Yes. Sure. Dan, look first in terms of the COVID impact on the quarter clearly we're pleased to see the progress on the various vaccines therapeutics we're working with our customers on. As you know we have 7,000 products across the company. 400 development programs and across over a thousand customers. I just want to remind everyone the impact across the COVID programs in therapeutics which is I would say not a precise science and quite frankly at this stage given the various parts of the business and the impact that we described laying out our guidance earlier it becomes increasingly difficult to really bifurcate COVID-19 versus non-COVID-19 which is why we're not going to a level precision here then what we can say is the Biologics business had 65% organic growth in the quarter and just remind everyone the COVID activities that we're doing also organic and occupy some of our top scientists across the company who arguably could be working on other projects as well as quality professionals etc. and some of the space that we use.

One more comment on Dan is that in some cases we have programs that we are working on pre-prior to the pandemic with our customers within our current business that now become a good therapeutics or candidates for the COVID-19 pandemic and so it makes it again not a precise science to count those as purely COVID-19 versus not. But what we can say is compared to the first quarter a significant portion the majority of the growth was coming from COVID-19. We still saw a very good growth in our Biologics business but we're staying on the 65% a significant portion of it came from COVID-19 in this case and therefore for the company as well.

Moving on to the base business as you might see if you really take the midpoint for example of our guidance range we increased that by about 7 points but we added about 5 points to the COVID-19 range that we gave taking it from 9 to 11 to now 14 to 16. So that would imply about 5 of the 7 is coming from COVID-19 and the remainder coming from the base business. So hopefully that gives you a sense in terms of where we see the base business versus the rest of COVID-19 and again I'll remind everyone the COVID-19 activities are organic in nature.

[Dan Brennan, UBS]

And maybe just one follow-up and John that was tremendous amount of detail obviously updating us on all the manufacturing expansion plans and timing if you will but when we think about the things coming on in this kind of fiscal year and then in this calendar year like how does your guidance account for the expansion that's ongoing this year meaning have you left open room with this new capacity expansion coming online at different points in the year that we could see further step ups or have you already incorporated largely in your guidance for the year benefits and customer demand that is occupying some of that new expansion plans? Thank you.

[John Chiminski, Chairman and CEO]

Yes. So first of all obviously our updated guidance includes all the assumptions with regards to the capacity and the programs that we currently have in place but one thing that I want to emphasize that's really important is that COVID has really been an accelerator of Catalent's strategic plans. We have pulled in capacity that we were planning for and we've also put in place additional capacity that would have been within our strategic plans. So when we take a look at the impacts of COVID on Catalent certainly we're seeing an impact in our fiscal year ‘21 and we'll see ongoing impacts into our fiscal year ‘22 but importantly we've been able to really accelerate our strategic plans which is really going to help drive our continued long-term sustainable growth. Thanks Dan.

[Dan Brennan, UBS]

Great. Thanks guys.

[Operator]

Your next question is from the line of John Kreger with William Blair. Your line is open.

[John Kreger, William Blair]

Hi, thanks very much. John I think I saw yesterday an interesting article that Moderna's kicking around the idea of putting more doses in vials to expand their overall capacity. Is there a way for you to comment on this maybe not specific to Moderna but is that feasible from your perspective and is that the kind of change that you could implement quickly and alleviate some of the capacity constraint? Thanks.

[John Chiminski, Chairman and CEO]

Yes. Thanks for the question John. And I'll just say that I can't comment on that. That's really something for Moderna to opine on. What I can tell you is in the current configuration of the vials that we have that we are committed to delivering what Moderna is put into their press release which is really a 100 million doses by the end of March and then a total of 200 million by the end of June. Thanks for that question John.

[John Kreger, William Blair]

Okay. Great. Thanks. And then a follow-up given the unprecedented spike in COVID work, how are you handling disruptions to non-COVID clients? Can you comment on the degree to which some programs have had to be back burnered and how are you sort of mitigating those disruptions for them? Thanks.

[John Chiminski, Chairman and CEO]

Yes. No thanks John. What I'll say is that although a challenging situation with I would say a handful of customers that we have to manage specifically in our Bloomington site we see that really being alleviated really kind of in our fourth quarter as we're bringing on a new vial capacity, a new high-speed vial that I discussed in my prepared comments. So certainly we're working very closely with all of our customers and they certainly understand the situation in urgency from a capacity standpoint or COVID related programs but I will say that although challenging certainly we're able to mostly manage that situation and definitely see relief as we approach our fourth quarter of this fiscal year with the additional capacity coming online. So we don't see this as any long-term impact the pipeline for the company.

[John Kreger, William Blair]

Great. Thank you.

[Operator]

Your next question comes from the line of Tycho Peterson with J.P. Morgan. Your line is open.

[Tycho Peterson, J.P. Morgan]

Hey thanks. John actually want to pick up on that last point about capacity. We've gotten the question about Defense Production Act and if you could get kind of strong-armed I know you're doing 100 million MRNA doses for the government by March and 200 million by June but is there risk that the government could actually request for you to develop further capacity and create an issue or do you feel like with the new high-speed viral line you've got enough cushion there?

[John Chiminski, Chairman and CEO]

Well, first I just want to qualify that the Defense Production Act which really gets known to us through what's called a rated order are not the government on Catalent but for our customers which then slows down to us just for that clarification and I will say that we have put in place the necessary capacity between the dedicated Johnson & Johnson line that I described in my prepared comments along with the additional line that's going to be coming in our fourth quarter more precisely. We'll probably be a little bit more early in that fourth quarter. We're comfortable that we're going to have the capacity necessary to meet vaccine required production as well as the production of our customers through non-COVID related customers through the remainder of our calendar 2021.

[Wetteny Joseph, SVP and CFO]

Yes, I will just add here Tycho that we and our customers are certainly responsible for delivering many non-COVID-19 medicines that are critical to patients and so we continue to work closely with our customers and government agencies to balance those priorities with COVID-19 pandemic needs as well as other items that are impacting to patients and using a patient first if you will mindset and culture as a guiding principle along those lines.

[Tycho Peterson, J.P. Morgan]

And then maybe shifting over to Softgel and Oral Tech still down double digits. I guess what gives you confidence that it can get back to growth in the back half of this fiscal year especially with the lighter flu season and all the stocking that happened at the beginning of the pandemic?

[Wetteny Joseph, SVP and CFO]

Yes, Tycho we said all along after our first quarter results we expected the second quarter to be roughly in line with where the first quarter landed and we already then saw the back half being improved from where the first half was. So the business continues to really perform as we thought it was. Keep in mind our Softgel business is a relative to the rest of our segments a lower pipeline growth business but generate significant amount of cash flows which is one of the reasons we love this business and it contributes to the growth that we're in the expenses we're making across the rest of our segments.

It also has the majority of our long cycle, if you will, commercial products which gives us an opportunity to see and interact with our customers in terms of looking at what they're forecasting what they're starting to see and so as we enter into the second year as John said in his opening remarks we're cautiously optimistic with what the business will deliver in the second half and we certainly see an improvement in the business versus where the first half was.

[Tycho Peterson, J.P. Morgan]

Okay and there is one last one is the divestiture of [indiscernible] seal kind of a one-off or is there more portfolio shaping as you shift into a Biologics cell or gene therapy? How do you think about potential future -- ?

[John Chiminski, Chairman and CEO]

So what I would just tell you on this one is that strategy is everything in Catalent and we're constantly updating and driving our strategic plans which include constantly looking at our portfolio businesses and understanding what is the best mix of businesses for Catalent for long-term sustained growth, high growth higher margins and so this was the case where we had been looking at this for a while and we were able to find the right owner for this business but you can count on Catalent continuing to adjust its portfolio going forward strategically as it makes sense to drive higher growth and higher margin for the business.

The other part is that when we looked at our global sale business it was requiring a certain amount of CapEx investments that when stacked up against the returns of CapEx investments in other parts of our business specifically Biologics, cell and gene therapy. It was a situation where we weren't going to be able to make the best investments into Woodstock because we knew we would get better returns in other areas of our business. So we'll continue to use that very strong discipline not only in our acquisitions but also in looking at our portfolio for potential divestitures.

[Tycho Peterson, J.P. Morgan]

Okay. Thank you.

[Operator]

Your next question is from Dave Windley with Jefferies. Your line is open.

[Dave Windley, Jefferies]

Thanks for taking my questions. I was trying to do some back of the envelope would it be reasonable to say that you're in your new guidance and what you're expecting for COVID that year-to-date you've recognized maybe something like 40% to 45% of that number. Is that so kind of trying to figure out have you recognized more in the first half or do you still expect more in the second half higher percentage of the total that is?

[Wetteny Joseph, SVP and CFO]

Yes. Let me see if I can give some help with that. First we're very pleased with the strong starts of the fiscal year, right. Which continued with robust organic growth in the second quarter and put us in position to raise our guidance given the increased outlook that we see for the remainder of the year as well.

As you recall the first quarter was primarily on largely non-COVID related we saw robust work across Biologics and for the company in the first quarter and the second quarter we're seeing primarily COVID but we still saw a very-very good growth across our Biologics business again and so on and you saw the grew up in our OSD, etc.

So I think given the timing of some of the relatively speaking higher volumes some of the emergency used authorizations and so on. Those will be mostly in the second half of the year. So that would be the lion's share of the COVID related impact on the year would fall on the back half versus the first half of the year as well and as a reminder we just raised our guidance. It's largely the second half of the year adding 7 points to the growth with about 4 or 5 of those being COVID related. So that would also infer that the lion's share would fall in the back half but I won't take it down to a precise number.

[Dave Windley, Jefferies]

Okay. John I appreciate your detailed discussion on the capacity adds and noted the specific companies appreciate that detail too by the way. The specific companies there are a couple that I think you've had press releases at least one I'm thinking of Astrazeneca that you've had some press releases about that you have relationships for that you did not specifically identify in your commentary and relative to Tycho's question about capacity just wanted to kind of broaden the question as you're answering the high speed filling line that you were adding if we get additional approvals beyond J&J and the dedicated line there are you still okay to kind of service everybody presuming others get approval as well?

[John Chiminski, Chairman and CEO]

Yes. All right. Thanks for the question there Dave and I would just say that we're in a position to meet our commitments with all of the COVID vaccine manufacturers that we have signed up with specific to Astrazeneca we're not just using assets in Bloomington. We're also using assets in our newly acquired gene therapy business which by the way is a very welcoming development because now [indiscernible] being used for gene therapy but there are also be obviously validated needs for vaccine work.

So with regards to Astrazeneca we're doing work primarily out of our gene therapy business on the drug substance side and then our Anagni facility which again was a very fortuitous acquisition that came online at a point when that capacity became coveted and so perhaps Astrazeneca will be doing drug product work there.

So again back to the essence of your question we are comfortable that even with additional approvals that we will be able to meet our commitments to our customers also noting that our customers have a wider network than just Catalent they're using a multitude of CDMOs and other assets to be able to meet those commitments. So we're very comfortable with what we've committed to our customers in the capacity that we have or we'll be bringing online.

[Dave Windley, Jefferies]

Last question for me, appreciating folks who are acting responsibly not trying to profiteer in this environment. Your margin, I'm thinking about the kind of the basket of margins are really good. Utilization is I'm sure relatively high but you are also putting this capacity in place that is ramping or not being fully used until EUAs or extended things like that that would perhaps dampen utilization in the short run. How is the pricing environment for the services that you are offering particularly in Biologics?

[Wetteny Joseph, SVP and CFO]

Dave this is Wetteny here. As we've shared previously we would put the pricing for the services that we're performing for COVID-19 roughly in line with similar work that we do for non-COVID-19 related activities and so clearly with our mission being to help people live better healthier lives we're in position to demonstrate and be energized quite frankly across our network for our employees working around the clock to deliver robustly on these commitments and do so in record time.

So we'll continue to do that and by the way we are dedicating assets in some ways it is accelerating capacity to be online in time to deliver for our customers locations worldwide. So the pricing is roughly in line. I would point that you might have seen a nice increase in EBITDA margins for example in our Softgel business in the quarter and whenever as a manufacturer whenever you get to high levels of throughput and utilization in any part of the business it's going to translate into higher margins and we're starting to see those happen.

As a reminder back half of last year as well as through the first half of this year we continue to add significant amount of resources not just hard capacity but also people headcount that have had an impact on overall margins and as we see volume come through you see that increase and we would anticipate continuing to see particularly in the parts of the business where volumes are increasing significantly we see that translates into better margins as well. So it's not purely on the pricing point it's also the throughput in [indiscernible].

[Dave Windley, Jefferies]

Okay. Thank you.

[Operator]

Your next question is from the line of Jacob Johnson with Stephens. Your line is open.

[Jacob Johnson, Stephens]

Hey thanks. Maybe a big picture question you talked about 4.5 billion revenues by 2024. 50% of that coming from Biologics. As we think about the cell and gene therapy component within Biologics, how large could that business be by 2024 or maybe ask it another way how should we think about the long-term organic growth profile of your cell and gene therapy assets?

[John Chiminski, Chairman and CEO]

Yes. Thank you for the question. I'll first answer just from may be a big picture strategic standpoint, so first of all the market for gene therapy and cell therapy continues to be incredibly robust if you take a look at the challenging therapy as I had in prepared comments, you have roughly 500 assets that we expect to growth to more than 1500 assets over the next five to six years and then when you take a look at the cell therapy space you've got about 1500 assets right now that it's going to grow to probably double in that overall size.

So there continues to be I would say a very robust end market for these services. We see really demand outstripping supply throughout this whole period. Something else that I want to maybe highlight I stated in our JPM presentation at the beginning of the year that we first introduced that chart about us being $4.5 billion with 50% of our revenues coming from Biologics at that time at 28% margins.

At the time that we actually introduced that chart we had envisioned both organic growth as well as inorganic growth contributing to getting to that 4.5 billion with the additional moves that we've made and capacity expansions and the purchase of Anagni and a capacity expansion there as well as our acquisition of our MaSTherCell in the cell therapy space. What I now stated at the JPM conference this year is that we do not see any additional substantial M&A required to get to that $4.5 billion target and 50% coming from Biologics. So when I use the word substantial it means it would be material enough where through an acquisition we would state the revenue and EBITDA. So I'll leave that as kind of the big picture comments and see if Wetteny wants to round it out with any other specific details.

[Wetteny Joseph, SVP and CFO]

No John. You covered really well. Clearly we see long-term sustainable growth across our Biologics business broadly. We won't get into a specific contribution of the growth rate from gene therapy or cell therapy, etc. but overall we feel great about the business and where we are on that trajectory and as John said we expect the business to be roughly 50% of our revenues by 2024 and I think you can see us making significant progress towards that.

[Jacob Johnson, Stephens]

Got it. May be just one quick follow-up you're selling the Blow-Fill-Seal operations for $350

million is there any way to frame up the financial impact to Catalent from that sale in terms of the revenues or margins of that business?

[John Chiminski, Chairman and CEO]

Look I think as we said in the prepared comments we are able to raise our guidance here for the remainder of the year given the [indiscernible] as well as programs in the pipeline and increased [doubles] that we can see. That includes by the way reflecting on the divestiture in the guidance that we just gave and just released. So we won't go as far as to quantify the exact amount coming from both Seal given the vast number of products that we have across the network and so forth but suffice it to say the guidance that we just issued already reflects that based on the timing we expect that divestiture to close.

[Jacob Johnson, Stephens]

Got it. Thanks for getting the questions.

[Operator]

Your next question is from Ricky Goldwasser with Morgan Stanley. Your line is open.

[Unidentified Analyst]

Hi this is [indiscernible] and congratulations on the quarter. I wanted to follow up on the guidance. Can you help us understand how much of the increased vaccine demand in the guidance comes from the orders that have been received from the already approved vaccine versus the take or pay agreement and then given the nature of the J&J contract should we think about the J&J opportunity already embedded in the current guidance or there is more room for upside once it is approved and what our data points should be working for?

[John Chiminski, Chairman and CEO]

Yes. So look in terms of how we treat the COVID-19 impacts and our guidance assumes very consistent from the beginning, we effectively reflect in our guidance, any portion of our contractual elements with our customers where it's basically a take or pay required volume that they have to give us within the time frame that falls within this fiscal year. I will remind everyone that our fiscal year ends at the end of June and so we only have roughly five months left in the fiscal year.

So to the extent there is work that we're doing with our customers and those require certain volumes throughout the calendar year perhaps maybe even getting into the following calendar year those would fall into our next fiscal year which we'll talk about in August as we give guidance for that fiscal year but office year is ending in June reflected in there anything that's already unordered that's been given to us by the customer that is effectively firm or a contractual commitment effectively a take or pay that requires the customer to give the volume by the end of the fiscal year to produce by the end of the fiscal year whether they have actually given that order or not.

So that's what's reflected to the extent that a customer gives additional orders above that minimum from year forward that would potentially provide some level of upside to the year but again it's a limited amount of time remaining in our year.

[Unidentified Analyst]

Thank you and next I wanted to touch on the cell and gene therapy manufacturing because recently we've heard some discussions on biotech and manufacturers moving in-house over time given the various quality considerations. So what's your view on the sustainability of outsourcing trends of cell and gene therapy based on your recent conversations with the clients?

[John Chiminski, Chairman and CEO]

Yes. This is John here I would say that we actually see outsourcing rates increasing across the cell and gene therapy space over the next five to seven years. You have to understand for gene therapy a majority, gene and cell therapy a majority of the customers are small biotech customers where the decision to put in capacity for relatively few assets that could actually cure the disease they're dramatically reduced their volume doesn't really make a lot of sense. So it actually lends itself much more towards outsourcing and so as we looked at specifically the gene therapy space our de novo research that we did showed that today about 65% of the gene therapy manufacturing was outsourced and we actually saw that growing to nearly 75% again over the next five to seven years. So we still are very bullish on both the gene and cell therapy space as it relates to capacity requirements from CDMOs like channeling.

[Unidentified Analyst]

Great. That's helpful and lastly on the Softgel segment. On the margin side the segment margin still came a bit below our expectation. So what are the puts and takes if we need to see the margin coming back to the pre-COVID levels?

[John Chiminski, Chairman and CEO]

Yes. So across our businesses particularly where we have high levels of capacity and where in Softgel Technologies as I said a good portion of our 7,000 products that we supply are in that business you can have an outsize effect in both directions when volumes go down versus when volumes come up in that sort of business. You can see the impact even in our Biologics business. The volume increased this year and outside effect in terms of margins increasing.

We're pleased to see margin expansion in the quarter across the company. Our guidance if you just take the midpoint of our guidance for example you see about 80 basis points margin expansion year-on-year in the business despite what you just described in your question with respect to Softgel Technologies business. We have very good visibility in that business and is reflected already with the second half of the business coming in better than the first half obviously and all that reflected in what we've described today and what we've included. So we are delivering margin expansion in the year which we're very pleased with despite that and we would expect these volumes come through in the business for that to reverse in terms of the impact on margins as well.

[Unidentified Analyst]

Thank you.

[Operator]

Your next question is from Sean Dodge with RBC Capitals. Your line is open.

[Sean Dodge, RBC Capitals]

Thanks, good morning. Maybe John going back to the insourcing versus outsourcing decisions if we set gene therapy aside for a moment, are you seeing any evidence the added strain these new COVID projects are putting on the available supply is that changing kind of the thought processes around insourcing/outsourcing maybe not for everyone but for the larger guys you think this encourages some of them to think a little bit more critically about building their own internal capacity now?

[John Chiminski, Chairman and CEO]

Actually what I would tell you is that what has happened because of COVID is I think pharma and biotech in general has really understood the strategic nature and partnership of CDMOs in fact the challenge put in front of all pharma and biotech with regards to COVID-19 would not have been able to be realized by I would say pharma companies that were totally vertically integrated of 20 years ago. If you take a look what has happened during COVID it has allowed pharma and biotech to focus on what they do which is to develop these novel vaccines and treatments and run their clinical trials with their partners and then using CDMOs for the strategic capacity build-outs which Catalent has done on our part and well noted through my opening comments.

So I think the strategic nature of CDMOs partnered with pharma and biotech has really come to bear strongly throughout COVID and I believe that those partnerships will continue and actually probably increase overall outsourcing in the future specifically with regards to the large pharma companies that again really got it promoted partnering with CDMOs to be able to [indiscernible] this challenge.

[Sean Dodge, RBC Capitals]

Okay, that’s helpful thank you and then going back to the question around loading more COVID doses into vials if that is feasible and they do go ahead with it, does that affect the economics of the contract at all for you I guess do you get paid on a per dose or a per vial basis?

[John Chiminski, Chairman and CEO]

We won't get into specifics across our programs. What I would say is again what we reflect in our guidance which is what is contractually required as contractual minimums from our customers or if they have indeed place orders for something above than we reflected those and so it's very unusual for us with these concepts that come down to individual doses but I won't go into and contracts vary as well in terms of how they're constructed with our customers. So they're not all one and the same but I would just say across whether it's COVID or not it is unusual to have contracts for us that come down to an individual doses for our patients. So that I'll just give you that as an added point.

[Unidentified Analyst]

Okay. Fair enough. Thanks again.

[Operator]

Your next question is from Juan Avendano with Bank of America. Your line is open.

[Juan Avendano, Bank of America]

Hello, thank you for squeezing me in based on some of the comments by other COVID-19 supply chain players, vaccine manufacturing activities in the early innings and this could continue into calendar 2022. So my question is I guess do you agree with this view and given that your fiscal year ends in June why couldn't we conservatively expect a similar COVID-19 revenue contribution in fiscal year ‘22.

[John Chiminski, Chairman and CEO]

Juan, look I think you're probably looking at some of the same information that we are. I would probably turn that question to our customers who essentially are working with us and working with them to deliver on what they see that they're going to need and as the need arises whether it's multiple different strains or what have you the impact of those will be first and foremost be seen by our customers who will work with us to determine what we need to assist with in terms of our role in this process.

In terms of our next fiscal year as I said earlier official year end in June therefore as we talk about and see some of these programs get to the point of very good data to potentially emergency use authorization and then eventually potentially full commercial approvals these impact is limited in terms of how much time we have left on the current fiscal year and you would imagine some of those would spill into the following year that starts on July 1 and we'll give guidance more specifically as we get to the point of giving guidance for the next year.

[John Chiminski, Chairman and CEO]

Juan maybe I'll just say that we're going to learn a lot more about vaccine requirements and effectiveness in the coming months. These learnings are going to aid our thinking as we formulate our guidance for fiscal year ‘22 later this year. That said I'd say that we do anticipate manufacturing vaccines into our fiscal year ‘22 which begins on July 1 and likely through calendar year ‘22 also.

[Juan Avendano, Bank of America]

Okay. Thank you. That's helpful color and a quick follow-up I mean if we look at the publicly disclosed the COVID-19 manufacturing partnerships that Catalent has most of them are on the product side with the exception of the drug substance for AstraZeneca but keeping this in mind what is the state of the drug substance vaccine API supply and are you seeing any bottlenecks that would prevent you from doing the drug products aside that you've been summoned to do?

[Wetteny Joseph, SVP and CFO]

One thing I would say Juan first of all we have more than 80 COVID-19 related programs that we're working with our customers on that's been across our business segments, across your product and drug substance. Indeed we have only announced a relatively small number of those and you're making references to those but just keep in mind there are many more that we have working with our customers on that may spend across the product in drug substance as well as therapeutics that are not in our biological segment.

So that's the first point. In terms of what drug substance looks like clearly the supply chain is relatively complex. There are instances where we're manufacturing drug product for our customer. They are coming from multiple different places from acceptance perspective and we want to speak to those and I would reserve those questions for our customers in terms of what that means if they look at the overall supply chain for us.

We tend to have again contracts that fill out what our requirements are, what we need to deliver to our customers and if that hinges on the customer providing drug substance to us we still have the contractor right in terms of the volumes that they've committed to for us and gives us a level of confidence in terms of what we include in our guidance and what we're prepared to execute for. John if you want to add anything to that?

[John Chiminski, Chairman and CEO]

No. Thank you.

[Juan Avendano, Bank of America]

Thank you.

[Operator]

And now our last question comes from Jack Meehan with Nephron Research. Your line is open.

[Jack Meehan, Nephron Research]

Yes, thank you for taking the questions. Just a couple of cleanup ones on Softgel and Oral Tech, I know talk about the expectations growth is going to start to improve in the second half. Can you just talk about what you're hearing from customers in terms of demand and whether there could be some lingering impact from the pandemic kind of, what kind of growth rates are you thinking about for the segment?

[John Chiminski, Chairman and CEO]

Yes. Thanks for the question. Look we've reflected in our guidance not only what has already taken shape clearly in the first half or we expect in the second half and what we've said is what we expect improvement in the growth in the segment it's still going to be substantially below what we've thought the business would do long term from a top line perspective.

Again those all have been reflected. We do have regular communications with our customers obviously who are providing this forecast. In many instances those forecasts on a rolling basis all the way out for a year and so we get a sense from them in terms of where they are as well as in our commercial contract we tend to have about a 9 day period in general where the forecast becomes firm.

So that gives us a certain level of clarity clearly in addition to the additional information they're providing to us from a forecast perspective. So this is a business that has a very good level of visibility clearly in it given the commercial products that we supply and indeed we have seen some impacts from COVID-19 which we described in our prepared commentary but we are expecting the business to improve in the back half again still substantially below what we would take the business to do long term and all reflected in the guidance that we gave.

[Jack Meehan, Nephron Research]

Great and then two follow-ups on COVID. The incremental projects you're working on now up to 80 since last quarter. Can you just give us a sense or any of these or any of these high profile similar to the ones that you have publicly announced and then also I'm sorry if I missed this earlier but of the guidance increase for the full year embedded within that what is the expectation for COVID?

[John Chiminski, Chairman and CEO]

Yes. So in terms of what we haven't announced I mean there are reasons that we haven't announced. So we won't go into any particular detail on these programs clearly some of the more spotlighted programs that are vaccine related and so on there is a fair amount of public information on those.

And I'll just remind you when we look at the business we have a strategic point of view that particularly when you look at our Biologics business and the number of development programs we're working with our customers across a number of different modalities, gene therapy, cell therapy, monoclonal antibodies, etc. We have expectations to need to deploy capacity to add the scale necessary for these programs as they get late fees and require more volume and potentially commercially approved and require more as well.

So we are accelerating capacity builds across the business that are initially necessary for COVID-19 programs in some instances but long term business capacity we would anticipate adding and that are perfectly in our strategic viewpoint as well. So this is why we say this is allowing us to accelerate our capacity, our strategic plans in terms of adding capacity to meet those needs whether the COVID programs we announced -- haven't announced or non-COVID related programs essentially across our Biologics segment in particular.

[Jack Meehan, Nephron Research]

And within the guidance was there an amount that this represented in terms of the [raise]?

[John Chiminski, Chairman and CEO]

In terms of the COVID impact in terms of the [raise]?

[Jack Meehan, Nephron Research]

Correct. Yes.

[John Chiminski, Chairman and CEO]

Yes. So our guidance we've increased if you take just for any other point just the midpoint of our guidance range we've increased it by about 7 points but we've increased the COVID-19 net contribution by about 5 points. So hopefully that gives you some level of clarity here.

[Jack Meehan, Nephron Research]

Yes. Thank you.

[Operator]

There are no further questions. I turn the call back over to John Chiminski for closing remarks.

[John Chiminski, Chairman and CEO]

Thanks operator and thanks everyone for your questions and for taking time to join our call. I'd like to close by highlighting a few key points we’ve covered today. First, a strong results in the second quarter including 17% organic net revenue growth and 22% organic adjusted EBITDA growth combined with our increased forecasts for the back half of the year have led us to raise our fiscal 2021 net revenue growth expectations by approximately six percentage points and our adjusted EBITDA growth expectations by approximately seven percentage points.

Next we've been accelerating our strategic CapEx plans in our Biologics business in order to help meet near-term demand for both COVID and non-COVID products. As a result of some of these actions we are now producing COVID-19 vaccines and treatments. They are being used at this moment to help fight the pandemic.

Importantly COVID-19 has been an accelerator for our long term strategic plans and will position us for continued long term sustainable growth. The Biologics segment continued to report exceptional growth in the second quarter with organic net revenue growth of 65% in organic segment EBITDA growth of more than 100%.

The Biologics segment constituted 44% of our overall net revenue in quarter compared to 31% a year ago. And is the key driver for Catalent to meet its 2024 revenue target of $4.5 billion which we believe can be met without any large new acquisitions.

Finally, our mission to develop manufacture and supply products that help people live better and healthier lives has never been more important. We continue to be thankful for our 14,000 plus employees deliver patient first culture and work hard to carry out the great responsibility we have to maintain business continuity for all of those counting on us to deliver for COVID-19 therapy or vaccine or the 7,000 other products we produce every year. Thank you.

[Operator]

Ladies and gentlemen that concludes today’s conference call. Thank you everyone for joining. You may now disconnect.