Chr Hansen A/S : Q2 Conference call transcript 2020/21

Chr. Hansen Holding A/S

Q2 2020/21 Results

Conference Call Transcript

15 April 2021

10 am CET

Operator

Thank you for standing by and welcome to the presentation of Christian Hanson Q2 conference call. At this time, all participants are in a listen-only mode. There will be a presentation followed by a question and answer session at which time if you wish to ask a question, you will need to press 01 on your telephone. I must advise you that this conference is being recorded. I would now like to hand the conference over to your speaker today, Christian Hanson CEO, Mauricio Graber.

Mauricio Graber

Good morning and welcome to today's conference call on Christian Hanson's Q2 2021 results. Together with our CFO Lise Mortensen, we will do a short presentation on the developments of the last quarter before opening for questions and answers.

Before we start, please take note of the Safe Harbour statement on the next slide. Slide two please.

Thank you, let's turn to slide three.

Despite the ongoing global pandemic, Christian Hansen continued its strong growth trajectory in the second quarter, supported by both food cultures and enzymes and health and nutrition. This resulted in organic growth of 10% for the microbial platform in Q2 and year to date, with equal contribution from volume and euro pricing. Our underlying EBIT margin before special items, meaning our EBIT margin excluding the recent acquisitions, was 30.9% in Q2 and 29.8 year to date. The key drivers for the margin decline in the underlying business compared to last year were FX, higher freight costs and a negative product mix that outweighed the production efficiencies and lower travel expenses. The reported EBIT margin before special items was 27% in Q2 and 26.1 year to date, in line with our expectations.

Free cash flow before acquisitions, divestments and special items at €42 million in Q2 on par with last year. Year to date, the free cash flow was below last year due to the acquisition of the Calemborg site for our HMO business.

In terms of strategic progress- please turn to slide four. I am very pleased about the successful divestment of the Natural Colours that we announced on March 31st. The team has worked full steam over the past

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six months to prepare the division for its new start as an independent company and I would like to thank everybody involved in this complex process for the great teamwork to complete the carve out and wish the Natural Colours team all the best under the new leadership of EQT.

Consistent with the transaction agreement, Christian Hanson will provide various transition services for a period of up to two years. And as already communicated in September, we will use the proceeds from the divestment to bring down debt and we have also initiated the process to pay out an extraordinary dividend in May of around €116 million.

Sending off Natural Colours is not just a defining moment for the division itself, but also for the rest of Christian Hansen. After more than 145 years, we are opening a new chapter in our history as a microbial pure play with a truly unique business model and market positioning.

On the 2025 strategy, we will continue to reinvest in our core businesses of dairy, animal and human health whilst leveraging our technology platform to build our lighthouses and expand into new areas to grow a better world naturally and enable more sustainable development from farm to fork. In this context, I am very excited to share that we will launch the third generation of our bio protection range FreshQ later this month which will offer dairies even more powerful solutions to extend shelf life of fresh dairy products and use food waste in an all-natural way. The first trials have shown very good results and we have started dialogue with key customers. But also, we need to be mindful that the pandemic is making it more difficult to engage with customers around new concepts, particularly in emerging markets for which this product was developed, but where the demand for dairy products remains weak at the moment.

Extending our technology platforms via M&A is the third pillar of our strategy and we are on target to complete the integration of UAS Labs HSO Healthcare into our existing human health business by the end of the financial year.

In January, we officially launched our new combined strength to solution trademark product offering. Commercial activities have been aligned and the new organisation is transitioning into normal day to day business.

At Jennewein we continue to advance our dialogue with customers that are very keen to add HMO to their product portfolio and we are on track resolving the capacity bottleneck in Germany. We are also making progress on the new production site in Denmark and on establishing the new organization. At the same time, we continue to see pandemic related product registrations and customer launch delays which decelerate the pace of the HMO market development and this is a concern if we look ahead; however, I want to make absolutely clear that we still have a high conviction in the long term opportunity of the HMO market.

Overall, we continue to expect the acquisitions to contribute around €100 million revenue and around €10 million EDITDA for the group in this financial year, consistent with what we communicated in Q1.

Let's turn to the next page, page five for the Regional Performance review.

Overall, the trends we saw in the first quarter continued into Q2. Our largest region, Europe, Middle East and Africa, delivered 4% growth in Q2 and 6% year to date with food cultures and enzymes growing solidly, while health and nutrition declined due to another soft quarter in dietary supplements where the market continues to be impacted by its dependency on the traditional pharmacy channel.

North America, on the other side, reported 7% organic growth in Q2 and 8% year to date, with both food cultures and enzymes and health and nutrition contributing to the solid result. For health and nutrition, we saw momentum in animal Health pick up again after a flat Q1 supported by recent new product

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launches and favourable commodity prices. Whilst in human health, the trend reversed and we saw a decline in the second quarter as customers were working through inventories that have built up during the pandemic.

Organic growth in Latin America was 32% in Q2 and 36% year to date, of which approximately two thirds were euro pricing and one third volume. Both food cultures and enzymes and health and nutrition contributed to the strong growth performance in the Latin American region.

Lastly, in Asia Pacific we saw an improvement quarter over quarter driven by a strong health and nutrition business, resulting in 10% organic growth for Q2 and 3% year to date. Food cultures and enzymes had another difficult quarter with declining sales due to continued weakness in China, which accounts for roughly half of our Asia Pacific business.

Whilst during the first phase of the pandemic, Chinese dairy industry was hit by shutdowns and production disruptions, what we have seen in the second half of the calendar year 2020, i.e. during our H1 fiscal year 21, was that overall dairy volumes grew slightly, supported by government recommendations to consume more dairy products but with a meaningful shift away from fermented products towards liquid milk.

According to AC Nielsen, the overall dairy retail value grew slightly in the second half of the calendar year, but it was driven by growth in drinking milk at the expense of fermented milk products. While drinking milk grew double digit, and that's a product segment that we don't have a large business in today, yoghurt declined double digits both in chilled and ambient.

We already mentioned this development on our last goal and in our view the trend continues to be driven by two main factors: first, consumers are choosing drinking milk over yoghurt due to affordability considerations. Remember that yoghurt remains a relatively expensive product for most Chinese and that instead of consuming yoghurt they can also follow the government recommendations by consuming plain drinking milk instead. We have experienced a similar high price sensitivity from consumers on yoghurt segment already during the African swine fever outbreak.

Secondly, in light of the short supply of raw milk and record high prices, the highest we have seen in nine years, producers have been simplifying their production and changed their priorities short term. We do expect this trend to continue for the foreseeable future, meaning we do not expect the market to come back to growth during our financial year 21 and it's difficult to say exactly when we will see this trend reverse, but we believe that it is a temporary decline.

We continue to see very high level of engagement with our Chinese customers in a solid project pipeline and strongly believe that mid-term the growth opportunities for the Chinese dairy market remain very attractive, which is why we will continue to invest for example, in local product innovations and our application presence in China.

And with this I would like now to hand it over to Lise for the segment and group financials. Lise.

Lise Mortensen

Thank you Mauricio and welcome also from my side. Please move to slide six for the segment review.

Food cultures and enzymes grew 8% organically in Q2 and year to date, with a 2% contribution from volume mix and a 6% contribution from the euro pricing mechanism.

Fermented milk markets in emerging markets remained soft and with our 2% growth from volume and mix, we're still outgrowing the underlying market.

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If we look at the product segments, in Q2 we've seen very strong growth in meat and enzymes, especially in yield increasing enzymes like Chy-Max Supreme and in our Nola Fit lactase portfolio, followed by strong growth in cheese and buyer protection, while fermented milk only grew slightly and probiotics declined.

Turning to profitability, the Q2 EBIT margin for FC&E decreased to 31.0%, compared to 32.2% last year. Its efficiency is that we continue to realise in our production plans and COVID-19 related lower travel expenses were offset by unfavourable product mix, higher freight costs and FX.

Year to date, the EBIT margin was 30.8% compared to 32% last year. Please move to next slide, slide seven.

In health and nutrition, we've seen another strong quarter with 14% organic growth in Q2 and year to date, with the continued strength in animal health, whilst momentum in human health slowed because of more challenging supplement markets in Europe and North America.

Our probiotics business for infant formula and young children grew strongly in Q2 in line with expectations and despite softer markets. But also note that this is this only accounts for 20% of our human health business.

Health delivered strong growth ahead of the sugar cane season in Latin America. Our three acquisitions, HSO healthcare, UAS Labs and Jennewein contributed €22 million revenue in Q2 and €43 million year to date in line with our revised expectations.

Looking at profitability in the underlying business, the margin was 30.9% in Q2 compared to 32.1% last year and the decline can be fully attributed to FX. If we look at reported EBIT margin, it remained impacted by the acquisitions which led to an overall EBIT margin for the segment of 19.6% in Q2. Remember, Q2 is the first quarter where we fully consolidate all three acquisitions, which is why the impact is larger than it was in Q1.

Year to date, the reported EBIT margin was 16.8% compared to 26.5% last year and the underlying EBIT margin was 26.9%.

If we look at the top line performance for the microbial business in total, please turn to page eight. We realised 10% organic growth with equal contributions from price and volume both in Q2 and year to date.

Pricing was driven by our euro price list mechanism and given current FX rates, we expect the tailwind to slow down but still with meaningful contribution of around 3% for the full year. Acquisitions contributed 9% to absolute revenue in Q2 and year to date, and adjusting for negative currency effect mainly because of the strengthening of the euro versus the US dollars, this led to euro growth of 9% for the quarter and 10% year to date.

It is also worth flagging that in the first half of FY21, we had a relatively easier baseline, which as you can see on the right side will change as we go through the year. This is particularly true for Q3, where last year we experienced extraordinary demand from customers ordering additional safety stock because of the pandemic.

Let us now turn to profitability on the next page, page nine.

If we look at the margin bridge, the picture looks very similar to our Q1 reporting. In line with expectations, the EBIT margin in our underlying business was flat in Q2 as lower travel expenses and production efficiencies were offset by higher freight costs and investments into strategic initiatives.

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The negative impact from FX remained around minus one percentage point and the dilution from the acquisitions was approximately 4%, leading to a reported EBIT margin before special items of 27.0% in Q2 and 26.1% year to date.

If we look at the cash flow on the next slide, slide ten. Year to date, our free cash flow before acquisitions and special items decreased compared to last year, mainly due to higher investments driven by the acquisition of the Calemborg side for the HMO business.

CapEx to sales ratio was 14.9% compared to 9.7% last year. Operating cash flow increased driven by acquisition related tax benefits, resulting in lower taxes paid and higher non-cash adjustments due to depreciation and amortisation charges that were partly offset by higher working capital.

Leverage was 3.7 times EBIDTA, but has already come down to around two times with receipt of the proceeds from the Natural Colours divestment.

Following the divestment of Natural Colours as Mauricio already mentioned, we have now initiated the process for paying out an extraordinary dividend at least equal to normalised ordinary difference for FY19/20. The dividend amount is expected to be around €116 million or 6.5 DKK per share. Declaration and payment of dividends is expected to be affected during the month of May, subject to board approval.

Please now turn to page 11 for some comments around our guidance for this financial year.

Given the strong performance during the first six months, we updated our guidance for the financial year 2021 as follows. We now expect organic growth of 6 to 8% with a positive contribution from Europe rising of around 3%. Both health and nutrition and food cultures and enzymes are expected to outgrow their respective underlying markets. Do note again that Q3 will be the weakest quarter of the year given the inventory building that took place in Q3 last year, the fading of the euro pricing tailwind and the currently relatively low demand in fermented milk in emerging markets.

Our margin guidance is unchanged, with an EBIT margin before special items still expected to be in the range of 27 to 28%. The EBIT margin of the underlying business for FY20/21 is expected to be below last year as FY19/20 number contains some positive one offs which we discussed in our annual report, and as we intend to ramp up investments in our 2025 strategy key initiatives and expect to return to more normal cost levels towards the end of the financial year.

Currency is expected to dilute the EBIT margin negatively by up to one percentage point and the acquisitions by around 4.5 percentage points.

With regards to the carve out of Natural Colours, we now expect total special items of around €20 million due to the complexity of their divestment.

The accounting profit which will be booked in Q3 as profit from discontinued operations, is expected to be around €650 million after taxes and transaction costs.

Guidance for free cash flow before acquisitions, divestments and special items is now expected to be €140 to €160 million with CapEx of around €150 to €160 million, slightly below the €150 to €175 million that we have indicated before.

And with this I'm heading back to Mauricio to wrap up the presentation.

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