Probi AB

STO:PROB

Earnings Call Transcript 2019-Q4

[Operator]

Hello, and welcome to Probi AB Q4 Report 2019. [Operator Instructions] Today, I am pleased to present CEO, Tom Rönnlund; and CFO, Henrik Lundkvist. Tom, please go ahead.

[Tom Rönnlund, Chief Executive Officer]

Thank you very much. And a warm welcome to everybody for Probi's presentation of the Q4 results as well as the full year 2019. Together with me here in Lund today, I have our CFO, Henrik Lundkvist, as previously mentioned. Next slide, please. Please familiarize yourself with our safe harbor statements before we move on. Next slide, please. So today's agenda, we will cover some comments with regards to our fourth quarter and full year performance. We also -- I'm also going to hand over the word to my colleague, Henrik, for a financial review. We're going to have a few comments with regards to our outlook moving forward as well as open up for question and answers afterwards. Next slide, please. So in a brief summary, the full year of 2019 has been a very active year for Probi. We have had a sales development which was -- displayed a small growth versus 2018. But adjusted for currency, that is basically a flat sales development through 2019 compared to 2018. At the same time, our teams have been very active in making sure that we position ourselves for a stronger future and returning to growth as a probiotic company. We have initiated collaboration with 23 new buying customers across the world. We have entered -- started selling in 4 new geographic markets, of which 2 are in the APAC region, so Malaysia and Thailand. We have, together with our partners, worked through more than 30 new product launches together with our customers. And we have also initiated a number of interesting business development projects with customers for launches in 2020 and beyond. Also we have put a particular emphasis and focus in making sure that Probi brings to the market our Osteo offering for improved bone health in postmenopausal women, a scientific breakthrough in this area and which is garnering a large customer interest. We have, through 2019, had 5 launches in 5 countries with that product, and we are looking at additional projects as we move forward as well. Other than that, we have continued our focus in ensuring -- a proper focus as an organization in ensuring driving our high-value segments and our premium part of our portfolio. We have expanded our market presence with more commercial staff on the ground in most regions. And we have also throughout the year, improved our profitability as you can see from our numbers. If we move to next picture, please. So from a performance perspective, a brief summary of what Q4 and the full year 2019 looked like. We ended the year with a growth of approximately -- of around 4% as a total company compared to 2018, which, currency adjusted, was basically plus/minus 0. But we have, through this year, seen a recovery in the U.S. market for Probi. Despite the falling overall market growth in the U.S. -- or decreasing, I would say, market growth compared to historic growth rates in that market, Probi has been able to work through the challenges that the company has had with customer dynamics there and actually are setting ourselves up for a stronger future in the region. We have maintained growth -- grown our profitability through the year as well, meeting our long-term objective of having an EBITDA margin of above 20%, and we are significantly above that in 2019. However, our long-term objective of growing faster than the market was not met in the year, as previously communicated, as we estimate the 2019 full year growth on a global level for probiotic supplement being in the range of 7% and probably coming in at 4% for the full year. If we move to the next picture, please, that's picture #6. So our fourth quarter was, as mentioned here, we see that as a recovery from a weaker third quarter where we presented -- or we present sales of SEK 166 million in the quarter, which is slightly higher than the comparable quarter of 2018. Our EBITDA increased by 21% to SEK 53 million. And adjusted for the IFRS 16 impact, we should knock off SEK 3.8 million of that. But our improved EBITDA margin was driven by higher sales of higher-margin products in our portfolio, i.e., our premium segment of products, which improved our EBITDA together with slightly lower operational expenses. As well as mentioned, our performance in the U.S. has stabilized. And we have also in the quarter, signed 2 exclusive supply agreements with important customers which also ensures a stable foundation for continued growth for Probi in the U.S. As you are aware, the U.S. is the world's largest probiotic market and also where we have a large share of our total product sales in the U.S. as well. So these are very important steps for ensuring stability in our business there and creating the platform for growth as well as tying customers closer to us in ensuring an exclusive supply agreement for product ranges with our customers. We have also in the quarter, made important progress in the Italian market. We have initiated collaboration with an Italian pharmaceutical company on one of its subsidiaries focusing on dietary supplement, where Probi historically has had a quite limited market presence. And Italy being Europe's, by far, largest probiotic market with good growth rate, this is an important step for Probi and we are actively working on additional opportunities in that market to grow our European position as well. Other good developments now as well is that our Board of Directors and management are proposing a resumed dividend in Probi with SEK 1 per share ahead of our -- as a proposal ahead of our Annual General Meeting later this year. Next picture, please, that will be picture #7. A brief comment on sort of geographic market dynamics. As Probi is active globally today as a company, it is important to understand the market development in different regions. And as Probi is operating as a company across 3 main geographical areas: Americas, EMEA and APAC, we wanted to provide you a bit of an outlook in terms of what is happening in these regions right now. So the Americas, as mentioned before, world's largest probiotic market, has historically had growth rates of around -- well, between 5% and 10%. And in 2019, available data is indicating that the overall market growth rate was around 2% in the U.S. As a consumer base, the per capita spending is highest in the world for dietary supplements overall, but for probiotics in particular which also is an encouraging sign for the potential in other regions as well. We are also seeing an increased industry as well as consumer quality awareness and attention to scientific validation and documentation as well as ensuring that products that are being sold in the market are delivering their benefits throughout the shelf life of the product. These are developments that we see is driving opportunities for Probi with the activities that we are currently carrying out with our manufacturing facility upgrade, intended to improve overall quality as well as increased capabilities or capacity in our factories. And our focus on the premium range of our products, combined with exclusive supply agreements, we feel that despite that the outlook for the U.S. market in total might not be the fastest-growing region in the world, but it still represents significant opportunities for Probi. If we turn to the EMEA region, the growth in 2019 was approximately around 4% to 5%, judged by different market institutes. So it's a fairly mature market area, but there are certain countries in this region who are displaying a stronger growth than that and Probi are well positioned to enter some of these as well. We continue to be the market leader in the Swedish market, also growing our position in 2019. And by this, we also see opportunities to roll out similar product lines into other markets which have happened throughout 2019; in Turkey, for example, where we had a very positive development, together with a large pharmaceutical company in the Turkish market and with whom we will also throughout 2020 roll out additional product. Probi's position across EMEA is sort of -- we're fairly low -- have fairly low penetration in quite a few of the larger probiotic markets in Europe. And we see, through the resources that has been added to the team over the past years, we see an increased traction in these markets which fills us with confidence for the future. If we turn to the APAC region in 2019 suffered from a slightly lower growth rate than historically, partly due to increased governmental scrutiny in the Chinese market in the dietary supplement space. But we deem this as being a temporary dampening of the growth, and we are seeing demand picking up in the region. Probi has established itself quite recently in the region with teams and resources on the ground, and looking forward, we see continued opportunities to add resources to the region as well as partnering with relevant players in the market to actually drive a faster growth for Probi in this region. If we turn to the next page, please, that's Page #8. A brief overview of Probi's performance in the respective regions through 2019. We can see that we are -- have returned to growth in the U.S. even though the currency adjusted, the growth is not impressive. EMEA continued to deliver an okay performance, representing growth for the company while Probi had a challenging year in the APAC region. It is still a quite small part of our business. But at the same time, we suffered from the Chinese governmental actions through the year as well as a lost tender in the Indian market, which we lost ahead of 2019, but now have been able to regain in collaboration with our partner for India which provides us with a better foundation for driving growth in APAC as we move forward. Next picture, please, that would be picture #9. We have, through the years, presented our business split into Consumer Health Care and Functional Food. Moving forward, it's been proposed, that we will not report our financials this way as the Functional Food component actually to quite large degree with [ samples ] the way we do business as a business-to-business company in what we do in Consumer Health Care. So moving forward, we will report our probiotic sales not divided into Functional Food and Consumer Health Care. However, through this year, the Consumer Health Care, as you can see, as a combined business area had a low growth rate as previously communicated. While we had a somewhat better performance in the Functional Food area despite -- well, bearing in mind that it's representing a smaller part of Probi's total business. Also in the consumer health -- sorry, in the Functional Food area, there was a one-time event of nonrecurring income of SEK 4 million, which affected the sales there. Important here, Probi Osteo has been launched in both Functional Food as well as Consumer Health Care applications. And the launch in Functional Food happens in the latter part of 2019 in the U.S. and it's off to a good start there. Interesting to see how that develops together with our customer there. If we move to next picture, please, that's Picture #10. Other highlights important in the fourth quarter, we commented already on the Indian tender that we won back basically for a 2-year supply to the Indian government. Important, it is based on one of our premium products in our portfolio and gives us a good foundation for driving growth in the region again. In Australia as well, our customer and partner Activated Nutrients, with their product line Activated Probiotics, has launched a wide range of products which are based on Probi's premium strain being launched with a medical marketing strategy approaching doctors and dietitians and being sold in pharmacies across the country. We have a very close collaboration in that launch and it happened during the latter part of 2019. And we are hoping that that will continue to develop well for our partner there. We're also very proud in the fourth quarter of getting a strong scientific validation of our results in our bone health study on Probio Osteo by a publication in The Lancet Rheumatology, highly esteemed scientific publication, which is a strong testament to the quality of Probi's research and development. We have also through the quarter, continued our investment program in our Redmond production facility where we are, as we are running continuous production, we are simultaneously making large investment into the factory to provide ourselves with a stronger competitive position for the future. We are working through these upgrades, started in 2019 and will continue through 2020, and deliver effects in the future from 2021 and onward. That concludes a few of the comments here with regards to 2019 and the fourth quarter, and I will hand over to my colleague, Henrik Lundkvist. So please click to Page #11. Henrik?

[Henrik Lundkvist, Chief Financial Officer]

Thank you, Tom. Good morning, everyone. I will now walk you through the financial section. Now turning to Page 12. As earlier described, the sales increase mainly was a result of favorable exchange rate effect, and the underlying growth was SEK 1 million. If we look at our EBITDA, the increase compared to last year was SEK 29 million or 18%. Adjusted for IFRS 16 effects, the EBITDA increase was SEK 14 million or 9% which is an effect of our increased high-margin product sales. Most of the EBITDA improvement, or to be specific, SEK 10 million flows down to EBIT and net income. The EBITDA margin for the full year 2019 was improved and landed at 29% or 27% adjusted for IFRS 16, which is a healthy margin and well above our long-term goal. Now turning to Page 13. Net income for the year increased by SEK 10 million or 13% and ended at SEK 86 million. The increase was mainly related to a higher gross profit as a result of higher net sales, but we also increased our sales of high-margin products compared to previous year. During the year, we strengthened our sales organization which slightly increased our operating expenses. The tax was slightly higher as a result of the improved result. Now turning to Page 14. For 2019, the gross operating cash flow amounted to SEK 183 million which demonstrates a solid business model. Adjusted for IFRS 16, this was SEK 8 million higher compared to 2018 or a 5% increase. We had a favorable working capital effect at the year-end related to trade receivables which is mainly connected to the timing of large orders and the positive effect should be regarded as temporary. CapEx was mainly related to the upgrade program of our manufacturing site in Redmond in the U.S., but it's also connected to our further investments in clinical trials and patents. During the year, we made redemptions of bank borrowings of a total of SEK 119 million which means that we no longer have any bank debt. To summarize, we are pleased with the cash generation during the year and we have managed to increase our cash position, even if we have repaid SEK 119 million of our loan. Now turning to Page 15. Our balance sheet continues to be in good shape, and I will make a couple of comments on individual balance sheet items that explain larger movements. Regarding our intangible assets, most of them are connected to the acquisition of our American subsidiary back in 2016 and the reduction comes from normal depreciation. The increased goodwill comes from a currency effect due to the stronger U.S. dollar versus the Swedish kroner. Property, plant and equipment increased by SEK 61 million due to IFRS 16; and at the same time, the liability increased by SEK 61 million whereof SEK 15 million are completed short-term and SEK 46 million are considered long term. The small increase in inventory is mainly explained by the stronger U.S. dollars. The rest of the balance sheet items have limited movement compared to last year. The proposed dividend of SEK 1 per share means a total amount of SEK 11.6 million. To summarize, we have a strong balance sheet with an equity of SEK 1.2 billion and an equity ratio of 89%, which means we are well-equipped to move into 2020. Now turning to Page 16, and handing over to Tom again.

[Tom Rönnlund, Chief Executive Officer]

Thank you, Henrik. So please turn to Page 17. As an outlook, with regards to the geographical areas where Probi is active, with regards to what we believe that the overall market development will look like for the year and the year to come potentially. In the Americas, we are expecting, as mentioned, a low single-digit growth rate on the overall market, whilst in EMEA, slightly higher acting as a fairly mature market area despite the regulatory challenges that the European market is facing when it comes to probiotics and how to sell probiotics in the region. Whilst the APAC region, we expect to resume higher growth rate. Of course, very early to have any solid views on how the recent coronavirus development will affect the growth rate in that region. We are monitoring that very closely, obviously, both for our employees in the region as well as for potential business impact moving forward. But all in all, over the next few years, we expect APAC to continue to grow at higher growth rates compared to other regions. When it comes to Probi's focus, even though that we have our largest share of sales as a company in the Americas, we are still a fairly medium-sized to small player in that market. And we see opportunities to increase our market share, particularly with our premium segment of probiotics there. We have displayed that by the ability to sign a number of very important exclusive supply agreements with major customers in the U.S., which is not that common in our industry, which helps us also securing Probi's ingredients into these products for a foreseeable future. This, combined with new customers and new market channels where Probi has not been very present in the U.S. market, we still believe that the U.S. market represents an attractive growth opportunity for Probi as we're moving into the future here.For the EMEA market area, as previously mentioned, Probi has had a very strong success in the Swedish market where we are, together with our partner, working with the market-leading brand in the probiotic space. And we see opportunities also in other large European markets in obtaining a stronger market share, thus providing us the opportunity to also grow in these areas. For the APAC region we have in 2019 entered into 2 new geographies, we have deployed a team, which is on the ground covering the market. And we are very active in also assessing the region for suitable partners to help us drive the growth in the region. We have lots of interest for Probi in this area and we foresee that partnering with solid players in these countries actually could provide Probi with a soft opportunity to increase our market penetration in the region. We are focusing our efforts, mainly on the Chinese market, on South Korea, Australia and India, which together represents the largest opportunities in the region. And our ambition is clearly to make sure that we are returning to growth there after a poor 2019. If we move to our strategic ambitions on Page #18. The probiotic space, even though that the global forecasted growth rate is slightly lower than what has been in the past and that the U.S. market probably will show a slightly smaller growth rate moving forward, Probi is well positioned to actually outpace the market in this sector. We have a very well-respected and extremely well-documented product portfolio, which has been built over decades of scientific validation and high-level clinical studies that have been performed. Probi has multiple times shown the courage and the daring to enter into previously unexplored areas of the probiotic business and through that curiousness and scientific rigor been able to enter into new spaces and broaden the probiotic market opportunity. As a company, we remain true to our scientific heritage and our ambition to be frontline in driving innovation and scientific validation of products in this space. And we will, as we move into 2020, actually increase our investment in our R&D activities to ensure that we can continue to remain as a first mover in this space. Our ambition is also to double our market footprint, and that's not necessarily in terms of number of markets that we're active in, but rather targeting that long-term, Probi should be about twice the size that the company is today, organically and together with partnering -- strategic partnerships as well as acquisitions. We do this by focusing on our premium probiotic market segment where we see the greatest opportunities for differentiation and ability to win. The geographic expansion is a very important element of our strategy as well in terms of garnering a stronger penetration in areas where we are relatively smaller than what we should be, provided the strength of our product portfolio as well as our sort of pipeline of opportunities moving forward. We are also as you are aware, raising the bar in our manufacturing facility as well, ensuring that we have both the capacity and the competitiveness to be able to fuel these growth ambitions as a company. With that, we could move over to Picture #19 and open up for question and answers.

[Operator]

[Operator Instructions] Our first question is from Rickard Anderkrans from ABG Sundal Collier.

[Rickard Anderkrans, Analyst]

So first, looking at growth in EMEA, it came in strong for the full year. This seems to have been driven primarily by the large accounts from Italy and Turkey, for example. Should we expect an increasingly lumpy sales pattern for EMEA in 2020 or do you have any thoughts on how we should think about the quarterly developments in the EMEA region here?

[Tom Rönnlund, Chief Executive Officer]

Thank you for the question, Rickard. And as we have mentioned before as well, our business, provided that we are active in the business-to-business space, which is also dependent on -- in certain elements when customers are building up their launches, there might be larger orders in the beginning, you start to sell, and then you return to a reordering pattern over time as you build your brand and your success in the market. That means that sometimes, we have a bit of a jumpy sales development from quarter-to-quarter. I think you've seen that as well historically in our company. So for the EMEA region, provided that we are working on a number of larger accounts, both who recently have launched and also some who will launch in the future as well, we will most likely see actually a bit of a jumping up and down by quarter in the EMEA region as we go forward.

[Rickard Anderkrans, Analyst]

Perfect. So I have 2 questions on APAC as well. So could you, by any chance, add some perspective on the scale of the Indian tender win? And looking also at APAC as a whole and China in particular, could you -- do you think that the regulatory environment will require local production of your probiotics in the launch phase? Or how would you describe the sort of regulatory environment in terms of [ CHCM ] production?

[Tom Rönnlund, Chief Executive Officer]

Yes, thank you for the question. And with regards to India, we do not normally comment on the individual side of customer engagement out of competitive reasons, so I decline to do that. But the Indian account does represent a significant opportunity for us there. And turning to your second question there with regards to the regulatory scrutiny and if that would warrant local manufacturing. So the regulatory scrutiny actually works to our advantage in a sense, provided that we are able to obtain the right regulatory approvals in the market and with the quality of our documentation and our products, we are confident that when we move into new regulatory approvals, we are actually successful. Recent examples include Thailand, for example, where we were able to get our product approved. So from that perspective, we actually believe it's worked to our advantage. But when it comes to local manufacturing, we do not experience that that would be a requirement moving forward end up hampering our opportunities in the market. But it can, from time-to-time, be an advantage of having manufacturing in the region as well, provided a response time to customers and other elements as well. That being said though, we are currently not planning to build the manufacturing capabilities in the region.

[Rickard Anderkrans, Analyst]

Perfect. And just a final question. Do you have any indication in terms of time line for the double market footprint ambition? Sort of are we talking within the next 5 years or 10 years? Are you able to comment on that ambition? How should we think about the timing? And I guess it refers to sales as well in terms of doubling or how should we think about that?

[Tom Rönnlund, Chief Executive Officer]

That is the ambition, and it's a long-term ambition, and we stay at that at the moment.

[Operator]

And our next question is from Mattias Vadsten from SEB.

[Mattias Vadsten, Analyst]

Can you hear me?

[Tom Rönnlund, Chief Executive Officer]

I can hear you there.

[Mattias Vadsten, Analyst]

Perfect. So some of my questions were covered before, but just on Americas. So do you see sort of -- or can you feel sort of a sequential improvement compared to Q3?

[Tom Rönnlund, Chief Executive Officer]

So I heard you a bit not so good there. Could you please repeat the question, Mattias?

[Mattias Vadsten, Analyst]

Yes. So it was good to get a sense of the growth rate in the various regions. But I'm just curious to know if you can feel sort of a delta sequentially from Q3 in Americas or more specifically, in the U.S.

[Tom Rönnlund, Chief Executive Officer]

Okay. So specifically in the U.S., which is still the majority of our sales in the Americas region, yes, we did have a sort of sequential improvement from Q3 -- yes, from Q3 into Q4. And looking forward, provided that we have some large accounts there and how the orders actually spread throughout the year, that can have an effect or sort of impact individual quarters also as we move through 2020. But in the light of the supply agreements that we have signed with major customers as well as the activities and projects that we're working on right now, we are feeling sort of positively inclined towards our development in the U.S. for 2020. And even despite that the overall market growth rate seems to be sort of in the lower spectrum, we believe that Probi have the opportunity to actually grow faster in the U.S.

[Mattias Vadsten, Analyst]

So my next question is on gross margin. So in Q3, if we look at the gross margin there, it was 46% on a rolling 12-months basis. And this quarter, you report 47.5%. So my first question is what is driving this? Is it a mix of more premium products or is it just overall stronger sales development compared to Q3 and before that? Or -- and is it possible for you to sort of keep the gross margin heading into 2020.

[Tom Rönnlund, Chief Executive Officer]

Thanks. So you're correct on both points there with regard to the gross margin improvement with higher portion of our premium line of products as well as increased sales, but -- and moving forward, I mean our ambition is to maintain a strong gross margin, our investment program in our manufacturing facility is also targeting that. So that is definitely our ambition to continue to keep and increase that over time.

[Mattias Vadsten, Analyst]

And if you can just remind us, so the investments in your manufacturing units, when do you expect to see sort of year-over-year improvements from those investment?

[Tom Rönnlund, Chief Executive Officer]

That will be 2021 and onwards. So it's -- as we're doing this in -- well, simultaneously with maintaining production as well. It also -- that also results in the project actually taking a bit longer than it normally would do. If you shut down production in order to be able to make these changes. And that is why the program actually has to run a bit longer time. But from -- through 2020, we should be done with the bulk of the upgrade initiative and then see results of that on 2021 and onwards.

[Mattias Vadsten, Analyst]

Yes. So my last question, the -- so how do you plan to record your sales now going forward in terms of segments? Is it geographies or...

[Henrik Lundkvist, Chief Financial Officer]

Yes, maybe I can comment on that one. Yes, it's going to be in the different regions. So we will have 3 new segments: Americas, EMEA and APAC.

[Mattias Vadsten, Analyst]

Perfect. And then I guess you will report then the sort of constant exchange rate growth in those regions as well?

[Henrik Lundkvist, Chief Financial Officer]

Yes, that is our ambition. There is a teaser of this in the report where you can see this -- the new structure.

[Mattias Vadsten, Analyst]

Perfect. I just wanted to confirm that, and congrats to a stronger quarter.

[Operator]

[Operator Instructions] As there are no further questions, I will hand it right back to the speakers for any final comments.

[Tom Rönnlund, Chief Executive Officer]

So thank you for your attention today and making it to the call. And hope to speak to you again on the 24th of April when we present our first quarter results. Thank you very much. Have a good day.