Neogen Corporation (NEOG) Earnings Call Transcript

Good morning. Welcome to the 42nd Annual JPMorgan Healthcare Conference. My name is Edwin Zhang, I'm a member of the JPMorgan Healthcare team and the moderator for this session. Today, I would like to introduce you to the team from Neogen. Please join me in welcoming our presenter, John Adent, CEO of Neogen.

Thank you, everyone. It's very nice to be here. Good to see you again. So good morning, everyone, and thank you for being here today. As Edwin said, I'm John Adent, President and CEO of Neogen, and I will be providing an overview of Neogen for you this morning. Just a quick reminder that in our presentation today, there will be some forward-looking statements. So at your leisure, please read our disclaimer. I know that some of you may not be familiar with the Neogen story. So I wanted to spend a little time taking you through that, and really what Neogen is about is we fuel a brighter future for global food security. That's what we focus on every day. We envision a world where everyone has access to a safe, sufficient and sustainable food supply, and we know, right, that's a really lofty goal, but it's one that we think we're uniquely positioned for because over 40 years, our mission has been to keep the food supply safe. And when we do that, we try to further human and animal well-being, we really champion sustainable practices that affect our land our water and our world. And you have to think about all the decisions that are made on the farm, in the lab and at the processing plants affect global food security. And we're there every step of the way to help our customers make sure that we're supplying a secure global food source. We were founded in 1982 in Michigan State. We have about 2,500 employees. Half of those employees are happy that Michigan won the national championship and half are very upset that Michigan won the national championship, but it's a 50-50 split. We have over 300 scientists and engineers today, and we work in nearly 40 countries where we have people on the ground in sales, support and technical service, and we're headquartered out of Lansing, Michigan. As a result of all the expansion, we are the global leader in food security today, and we operate mainly through 2 business units. Our first business unit is Food Safety. Our Food Safety really focuses on a range of rapid diagnostic tests and related products to detect the presence of unwanted things. I think that's the easiest way we put it. And what we mean by unwanted things is pathogens, toxins, allergens, things you don't want, adulterants you don't want in the food supply. Our tests find those for our customers to protect their consumers. And then on the Animal Safety side, we view that as an extension of food security. A lot of our competitors start at the manufacturing processing plant or at the lab level. And really, food starts at the farm. So we've extended that to the farm, through our disease prevention, our enhanced Animal Care products and optimizing the genetic selection of animals for our customers. We talked about our global presence. You can see on this slide, the countries that we're in today, we've got sales and marketing and tech teams in really over 40 countries following the 3M acquisition. With that, we've changed our leadership structure. We have put in new regional leadership, so we operate with 4 regional vice presidents who report in to our COO, Doug Jones. Those regions are North America, Lat Am, Asia Pacific and Europe. And we're making significant investments in those. So we have very strong teams today in the U.S., in our Lat Am business. We continue to invest in those businesses, and we're starting to see those investments pay off. For example, in Lat Am, we had a great double-digit quarter this last quarter in growth because of the people we had hired earlier to really drive more customer intimacy in those markets. We feel that we're underpenetrated in some of our markets, specifically in Europe and in Asia Pacific. And to address that, we've added significant resources in Europe, and we've really doubled the sales team and tech services team in Asia Pacific. We think there's a tremendous opportunity for us to increase the reach and frequency with our customers and continue to drive growth in developing markets. The reason we're able to drive that kind of growth is because we also have the leading portfolio. When you look at this, it's the broadest portfolio in the industry and our product offering consists of over 95% consumable business. So when you look at the first 3 columns, those really represent our Food Safety diagnostics. And we'll start with column 1, which is our indicator testing and Culture Media. The indicator testing is Petrifilm, it really is the gold standard in the industry for indicator testing. It's a fantastic franchise. It's a franchise that came over from 3M Food Safety that we acquired about 15 months ago. And complementary to that is Neogen's Culture Media and Sample Handling business that really focuses on accurate sample collection, incubation and time to results. So it allows us to be the demonstrated leader in this indicated testing market. Another big segmentation for us is Bacterial & General Sanitation and it's microbial detection of pathogens. This is whether it's our MDS platform or some of our other platforms, that is the pathogen detection is an area where we've had really strong growth. I think this last quarter, that line was up 15% worldwide, and that's a testament to some of the things that we've been doing on cross-training and taking some of the technologies we saw from 3M to the existing Neogen customer base, and patho detection is a big market and it's a big opportunity for us. Hygiene monitoring is another in that segmentation. And that is a surface test to detect the presence and absence of ATP. So it's very simple cleanliness tests, high use, high frequency and opportunities for us to continue to bring this to really emerging markets as they think about how do they improve their food safety and food security protocols in their plants and for their customers. Allergens and natural toxins is the foundation really of what Neogen started. It is our long historical leadership in our lateral flow rapid detection, and it is the core business of Neogen from our legacy standpoint. We were the first to use lateral flow rapid technology to first develop a rapid toxin, aflatoxin test. We then followed that up. We were the first to use it as an allergen test. So we have led in that space for a long, long time and continue to find new technology or find ways to leverage that technology to help our customers. And these areas continue to grow. I think we talked about this last year. I mean, there are 13 known allergens in Europe. The U.S. just added a ninth, so you will continue to see rapid lateral flow testing play a big role around allergen and toxin testing because it's things that people need to understand what's in their food, and we're seeing more and more opportunity to do that with the new allergens coming online. The other 2 regard our Animal Safety product line. Our Animal Safety product line, like I talked about, it's an extension, really, of food because we start at the farm -- we start from behind the farm gate all the way to the dinner plate. It's a line that makes sure that we have developed, once we have chosen the right animal, we have put them in an environment, then now we want to make sure it's free of pathogen. Because the only way an animal is going to grow efficiently is if you make sure that the facility it's in is clean and you're keeping the pathogens out. And the way that pathogens enter those clean facilities are generally in 3 ways, they hitch a ride on people, they come in on insects or they come in on rodents. So I think -- I get a lot of questions, well, how can rodenticide and insecticide be relevant for a food safety company? It's because you have to be able to keep those pathogens out and those 3 vectors are how they come in. So this is how we keep that supply chain and we keep that farm system clean. The last piece of our business is our Genomics business, and genomics really covers across all points of our business. It's extremely important in food safety regarding 16S. If you think about pathogens today, you hear -- you may have heard about Salmonella outbreaks, you may hear about E. coli outbreaks. But what you don't realize is there's roughly 144 strains of Salmonella. Some strains you can eat it and you'll be fine. Some strains, you eat it and you will be deathly ill and may die, right? So our customers want to know, well, John, look, great. We know we have Salmonella, what Salmonella is it? We use our 16S so we can find the genetic trait in that genetic blueprint for that pathogenic Salmonella strain. So it's extremely important for us in using that across our food sector. We also use it to help our customers make the right decisions around their farm for their animals. By choosing the right genetic traits, they're able to be more efficient, make sure that they're meeting the needs they want to meet, whether it's lower water consumption, whether it's greater milk production, the things they want to do to make themselves better operators. And then lastly, we use our companion animal business in 3 different types. One is parentage. So you got a puppy over COVID, you want to know is it half Dachshund, half Saint Bernard, right? We can let you know that. We also have a test for wellness. So you buy a new pup, you take it to the vet, we run Neogen's Wellness test, and we can pick the genetic markers to help you understand is this puppy prone for hip dysplasia, is it prone for certain liver diseases, and allow you to work with your veterinarian to be proactive to say, this is the type of exercise regime we need to put the puppy on, this is the type of diet this animal needs to be on to help a long, healthy life for your pet. And then lastly is when we are looking at a certain specific breed. So we work with the AKC. AKC, I don't know if you just saw, they've announced there is a new breed of dog that just came out. It's interesting, we're still finding new breeds, but we work with them to do that. So instead of a parentage test that says, this is what's in the dog, this is a very specific test that says these breeds have these specific markers and don't have these. And so we work closely with breeders, with the American Kennel Club and others to help them keep their books of records very straight about those specific breeds and animals. We're really well positioned to address kind of the global food security challenges that the world is facing. Our scale and portfolio allows us to do that. There's really nobody else in the industry that has the reach and frequency we have and the broadness of our portfolio lines. And we serve what really are very large markets that have mid- to high single-digit growth rates. So we're in very, very strong markets. We're the leader in a very strong niche market. We've got very strong secular tailwinds. I mean, we've talked about this before. We talked about there's new allergens coming. And if you think that there's 13 in Europe and the 9 in the U.S., that's not because the Europeans are more allergenic, right? It's that they are taking the time to understand what's causing those allergies and want to make sure they're protecting their consumers around those things, right? I remember when I was a kid, there was no such thing as a gluten allergy, right? Now think of what's out there. So the market is constantly changing and consumers are demanding to know what's in their market. I love going shopping, I've got 5 kids. The oldest is 24, the youngest is 12, and I would tell them, when I went to the grocery store and we would get a can of SpaghettiOs, you just knew it was SpaghettiOs. You didn't know what was in it. My children are very specific, they want to know the protein content, the number of grams of protein in that product. They want to know the dietary fiber of that product. They're looking at the sugar in that product. That's not going to get less. That's only going to get more. And that's what we do. We have the products, whether it is our lines that show dietary fiber. We can help you as a customer explain to your consumers what is in and out of your food products. That's what Neogen does to help you connect with that consumer. We also see rising incomes and food standards around the world. Edwin and I were just talking about this. I was in China in the 1990s, Edwin just went back. When I would go to the wet market in China in the early '90s, I would buy a piece of pork and it'd be hanging in the stall and I didn't know if that pork was there for an hour or 2 days, all right? And so you bought it, you cook the heck out of it and you knew you're going to get sick 50% of the time. You go to China now with the rising income levels of those people, they demand not only new food, but they demand that it be safe food. They're not going to tolerate being sick like it was in the old days. So we see that around the world. And that's a huge tailwind for us and people are going to continue to push their governments along that path. We also see increases of regulations for the government, right? We saw that with the allergen testing. I think you will start to see that more with pathogens. We see that as a big opportunity for pathogens. E. coli is a known adulterant. So you have to test for it, but you don't have to test it isn't for Salmonella, it isn't for Listeria, it isn't for Campylobacter. But I think you're going to start seeing the government head that way. And today, we are the USDA-approved method to test for Salmonella. We've seen some RFPs come out that we think look exciting, to think that the government is going to go a certain way. And that's extremely popular -- or positive because if it's not an adulterant, you don't have to test for it. Now Dave, my CFO is new to the company, Bill is new to the company, and I tell all the new employees when they join, it's great to work at Neogen, you're going to love working here, but you're never going to eat out again. That's the downside of Neogen, right, because you start to learn. And what I will tell you is, unfortunately, there is Listeria in every single plant in the U.S. The issue is you have to keep it away from the food, right? You've got to make sure that the surfaces in the areas that you're cleaning are free of those pathogens and those contaminants and adulterants. It's not realistic to think that they are free of Listeria, there may be some that are, that are very, very rare. But generally, you can always find something in a drain or something else. So that's how we use kind of our analytics platform to help tie together the protocols of the customer to make sure that they are tracking their food safety protocols and processes so they can have a robust way to understand where they were testing, what the results were, how do they interdict if there's an issue and how do they keep going forward? The other thing I really like about our business is our broad diversification. If you look on the far right, Culture Media and indicator testing is 36% of our business. But we've got really strong categories in Bacterial & General Sanitation, Allergens, Toxins and Animal Safety products and Genomics. So really nice mix. And the other is, geographically, we're very strong, right? 55% of our business is in the U.S. and Canada. We're pretty much 15% in the other 3 regions. You will see we will have robust growth in U.S. and Canada, but you will see that number come down, because we are going to outgrow in some of those regions like we talked about. We had really strong growth in Lat Am for the quarter of double-digit growth. We see that continuing to happen. So those are things that we get excited about for the future. It's a -- this slide shows you kind of how complex the food chain is. Think about protecting that grain of rice, protecting that leaf of lettuce, protecting those things through this whole process on how many times it changes hands. And it's very, very difficult to do. But that's where we are there to be the glue and the conduit to help all the way through the global food supply chain. We do that with data and information in our analytics platforms, and we do that with products and services that are tailored for each person and for each entity at those specific levels. So it's a way in which you can see Neogen's breadth and reach across customers and industries. We've got some significant growth drivers, right? And we're going to leverage our core capability to continue to drive growth. We've talked about this. Our 2 foundational platforms really are microbiological with Petrifilm franchise and our Culture Media and our immunoassays, which is our lateral flow technology that drives allergen and toxins. Well-established, known in the industry, gold standard in the industry and the ability to continue to add product lines and meet new needs as the market continues to change and regulations demand. So when we came out with a new allergen, the new known allergen of celery last year, by the time that was demanded to be in, product that already been launched 3 months in advance, already had trained all the customers. We continue to see growth in those core segmentations. The other thing that we've seen specifically around microbiology is, when we bought that business from 3M, it was very specific that, that technology was to be only used in food safety. That platform can be used in different very attractive adjacencies. Now it's not something we're going to do in the next 12 months, but when you think longer term of where you're going to see growth in 3, 5, 10 years for Neogen, this is a really big opportunity for us to take this fundamental technology and use it in other areas, looking for other type of diagnostic testing markets we could move into. We talked a little bit about the regional expansion, right? So the local leaders are in charge of their P&L, they drive commercial operations there, we're closer to the customers than we've ever been. And as I talked about, we have strong teams in the U.S. and Lat Am that we've continued to invest in, and we really invest and spend that -- we really did some investment spending in Asia and APAC because we felt we were underpenetrated, an opportunity to hire more salespeople, improve the tech service teams, increase reach and frequency to help us drive faster growth in those regions. And then the last is innovation. We got a very strong team that came over from 3M. We had 2 separate groups that had -- we're working on different projects, trying to understand how they're fitting together, and what we did this year was really focused the team to make sure that they are laser-focused on what our strategic goals are for driving the growth. So while we were going to invest across all segmentations, Food Safety, Animal Safety and Genomics, the majority of our investment is going to be where we can get the greatest return, and that's in Food Safety. That's where we're going to drive the team. So we are focusing those resources, whether they're R&D, capital, money to the right things that are going to get us the greatest growth for the future. But to do that, you have to have a multigenerational road map. You have to know where the industry is going and where these products are going. So we've done that, we know that, and we're making sure that we're aligning those R&D products and tests and research to align with our road map. So we are fully aligned to continue to drive growth going forward. So I'd love to talk about the future and growth. But obviously, we are in the middle of a huge acquisition. And as people say, the pig is still in the python, right? But we are working our way through this. We made significant progress in the 15 last months. So as you can see, we are on track to be off of all of our service agreements by the end of third quarter excluding Petrifilm. We may have one small manufacturing that drips into the fourth quarter because we want to make sure we take care of our customers and can build enough inventory before we bring that over. But after that, the only agreement we have with 3M is Petrifilm production on a toll manufacturing basis for the next couple of years. Now I want you to think about the work that was taken to accomplish that. We replatformed the company in the last 15 months. We implemented SAP. We made a book of record for the company. We changed our process and procedures to do that. As soon as that was done, we immediately then doubled the size of the business by bringing all the 3M products into our distribution network. And we did all order to cash. So now we take the order, pick the order, bill the order, talk to the customer, collect the money, that's all done in-house, right? That's what we did during the second quarter when we finished out. Now we've been doing it for 15 months. That is a big deal, right? So when we take the opportunity to look up for a minute to see where we're going, that's why I get really excited. And that's kind of where we are when you think about our post-integration expectations. Like, this business will be a mid- to high single-digit grower on a core annual growth. It's what the businesses did historically. It's what we know we can do. And it's the ability for us to continue to drive that growth rate that people have known Neogen to be for a long, long time. We will be a 30-plus percent adjusted EBITDA margin business. I think the other thing is that -- like these are not the end goals. This is just where we're starting when we're together. So these will be better. These are not where I'm saying we're going to finish. This is how we're going to start this business and the opportunities to get better from there. We're going to be 100% free cash flow business on an adjusted net income basis, right? We throw off cash. It's a great business. We're going to use that cash to strategically pay down leverage. So our net leverage target is going to be below 2. Once we start getting into that range, we will then use capital to look at other acquisitions, other opportunities to continue to drive growth and profitability because our flow -- our free cash flow and flow to the bottom line is very, very strong with incremental growth. So those are the things that we're going to do to continue to drive the business forward. I get really excited about the future. I know that there's a lot of near-term choppiness and we're kind of working through that. But if you take a step back and look at how the business has performed with all the things that we're doing, once we're through that and we focus on execution and meeting our customer needs and continue to service our customers and have all this other noise through it, it's going to be a fantastic business, and we're really, really excited about it. Now for those of you who fell asleep during this, this is the highlight. So Bill said, half people fall asleep in mine, so we have to put this in. So if you have a chance, you can read it. But with that, I'm done, and I'd love to answer any questions from the group.

Thank you so much for that, John. We will now begin the Q&A portion of the session. So if you have a question, please raise your hand, and we'll bring a mic to you. John, I'd love to kick off with a question from my side, right? So the end market environment is on top of many people's minds and you've talked about seeing some improvements, right, in these end markets. So I'm curious as to like what are you currently seeing at the moment?

Yes. I mean, when we looked at -- when we put out our forecast in May of last year, we had talked about a challenging first 2 quarters and then an improvement in the market that was going to be followed with an improvement in our business. And while we see the market improving, it's not improving to the level as fast as enough as we thought it was going to be. And we monitor a number of our customers. And I think if you have a chance, you can go look at some of these customers who have said the same thing that they're seeing -- for example, one was down 9 in the quarter and now they're down 3. Sequentially, it's better, but it's still not positive growth. So we're optimistic that we're going to get there. We just think it's pushed out a little bit as we continue to monitor what's going on and help our customers.

Great. So another question from my side. You've recently talked about some negative demands related to the Petrifilm business in APAC because of transitional supply issues. Is this like a broader concern for you at the moment?

It's not. I mean, it was a big challenge because that -- for some reason, that region was starved for product. Everyone knows if you were here last year, we were, at that point, we were struggling with getting 3M to produce Petrifilm for us. And I know there was a lot of consternation about how do you have any leverage? What can you do? Well, a lot of it was, we just went and worked, and we put our own employees in the plant. And for the last 9 months, we have not had a supply issue for Petrifilm. And what we saw was sequentially, we had a 20% increase quarter-over-quarter in our sales in China. We saw Petrifilm worldwide grow, Bill, what was the number, 8%? So 8% growth worldwide for Petrifilm for the quarter. So we're really excited about the regions. So China came back strong. Our Japanese business came back strong. When we were supply-constrained, our Japanese business lost 400 customers because we just couldn't get them the product. We've got over 200 of those back already in the first 90 days. So it shows the resiliency of the Petrifilm. It shows the power of that brand. And when we have supply, we can bring customers back because it's the best solution for them.

Great. I'm happy to ask one more here. So it's been over a year since the 3M acquisition. How do you feel about the acquisition overall?