Balchem Corp Q1 FY2024 Earnings Call

Greetings, and welcome to the Balchem Corporation First Quarter 2024 Earnings Call. At this time, all participants are in a listen-only mode. A question-and-answer session will follow the formal presentation. As a reminder, this conference is being recorded. I would now like to turn the conference over to your host, Mr. Martin Bengtsson, Chief Financial Officer for Balchem Corporation. Thank you, sir. You may begin.

Good morning, everyone. Thank you for joining our conference call this morning to discuss the results of Balchem Corporation for the quarter ending March 31, 2024. My name is Martin Bengtsson, Chief Financial Officer; and hosting this call with me is Ted Harris, our Chairman, President and CEO. Following the advice of our counsel, auditors, and the SEC, at this time, I would like to read our forward-looking statement. Statements made in today's call that are not historical facts are considered forward-looking statements. We can give no assurance that the expectations reflected in forward-looking statements will prove correct, and various factors could cause actual results to differ materially from our expectations, including risks and factors identified in Balchem's most recent Form 10-K, 10-Q, and 8-K reports. The company assumes no obligation to update these forward-looking statements. Today's call and commentary also include non-GAAP financial measures. Please refer to the reconciliations in our earnings release for further details. I will now turn the call over to Ted Harris, our Chairman, President, and CEO.

Thanks, Martin. Good morning, and welcome to our conference call. This morning, we reported strong first quarter financial results, with record sales and adjusted EBITDA and strong margins driven by a favorable product mix. I am particularly pleased with the excellent results within our Human Nutrition & Health segment, which once again delivered strong growth and record sales and earnings. Our consolidated revenues of $240 million were higher by 3.1% versus the prior year. Gross margin grew 11.4%, and we expanded our gross margin percentage by 255 basis points to 34%. Earnings from operations of $42 million were higher by 21.1% versus the prior year quarter, and we delivered record quarterly adjusted EBITDA of $61 million, an increase of 8% with an adjusted EBITDA margin of 25.4% of sales, up 113 basis points from the prior year. Our first quarter net income of $29 million, an increase of 27.6%, resulted in earnings per share of $0.89 on a GAAP basis. On an adjusted basis, our first quarter non-GAAP net earnings of $34 million, an increase of 9.8%, resulted in earnings per share of $1.03 on a non-GAAP basis. Cash flows from operations were $33 million for the first quarter of 2024, with quarterly free cash flow of $27 million. Overall, a strong quarter for Balchem with performance that highlights the strength and resilience of our business model. Before passing the call back to Martin to cover the financial results in more detail, I would like to make a few comments about the overall market environment, provide a brief update on our progress around sustainability as disclosed in our recently published 2023 sustainability report, and share some progress we are making on the marketing front to drive increased awareness for VitaCholine, Balchem's market-leading brand of the essential nutrient Choline. The current market environment continues to be dynamic and circumstances vary greatly across our portfolio. As discussed on earlier calls, we experienced destocking in the early part of 2023, with customers adjusting their inventory levels down as supply chains became more reliable and the demand outlook became more uncertain. Since then, we have seen a gradual stabilization of demand patterns, and customers returning to more normalized order patterns. When we look across our portfolio of businesses, we are seeing excellent performance in our Human Nutrition & Health segment, led by our minerals and nutrients business, where we are seeing very strong end consumer demand for our unique portfolio of minerals, nutrients, and vitamins. Our Human Food Solutions businesses returned to more normalized order patterns, also contributing nicely to the overall growth of the HNH segment. Our Animal Nutrition & Health segment is going through a challenging time from a market perspective. We have discussed earlier how our European feed-grade choline business has been negatively impacted by low-cost product flooding the market, and we expect this to continue for some time. We are looking into this unfair pricing behavior in an effort to understand if there could be potential for antidumping or other tariff relief. The dairy economics impacting our animal ruminant business is going through a tougher cycle with reducing yet still elevated feed costs and low milk protein prices. While this is currently having a negative impact, we believe this to be more short-term in nature, and we expect this market to recover gradually. For our Specialty Products segment, the primary business is our Performance gases business, which continues to perform well in a stable market. From an overall Balchem perspective, I am pleased with how we have managed through this dynamic environment. Our market positions and value propositions in the various markets we serve have enabled us to maneuver through these volatile times, and it has highlighted the strength of our overall portfolio mix and our ability to drive above-market growth over time. As we continue to drive growth, we are guided by our core values and our vision of making the world a healthier place. Supporting this is our dedication to corporate social responsibility. Last month, on Earth Day, we published our 2023 sustainability report, and I'm very pleased with the progress Balchem continues to make in advancing our sustainability efforts. In 2023, Balchem exceeded our 2030 greenhouse gas absolute emissions reduction goal of 25% as we achieved a 32% improvement over our 2020 baseline, and we remain on track to achieve our commitment to reduce water usage by 25%. In 2023, Balchem reduced its water withdrawal by 8% compared to our 2020 baseline. In this latest report, we also disclosed our Scope 3 emissions for the first time and shared our internal assessment that determined that more than 70% of our product line revenues directly support 3 out of the 17 United Nations Sustainable Development Goals or SDGs: SDG 2, no hunger; SDG 3, good health and well-being; and SDG 12, responsible consumption and production. Our performance towards our 2030 goals and our broad progress on all of our other initiatives shows our commitment to our two main objectives: providing innovative solutions for the health and nutritional needs of the world and operating with excellence as strong stewards of our people, communities, and shareholders. Additionally, I would like to share with you some progress we are making on building consumer awareness for some of our market-leading brands of vitamins, minerals, and essential nutrients. Yesterday, we were excited to announce that VitaCholine, Balchem's market-leading brand of the essential nutrient choline, has become a proud partner of the New York Jets, a major professional NFL sports team. This is the first sponsorship for VitaCholine and the first sponsorship in the nutritional ingredient category for the Jets. The partnership will help VitaCholine reach a large and health-conscious audience and promote its message of improving well-being of body and mind. VitaCholine is a nutrient that supports both mental and physical performance by enhancing memory, accuracy, and muscle control. Raising awareness of the benefits and accessibility of VitaCholine is an important aspect of the Jets partnership. To that end, VitaCholine will become the presenting partner of the Jets official website, newYorkjets.com, receiving prominent branding at the top of each page on the site. VitaCholine will also have significant presence at MetLife Stadium with impactful exposure on stadium signage. Choline's crucial role in pregnancy has been well established by experts for many years. Now with emerging clinical evidence showcasing its positive effects on adult mental performance and physical wellness, it's an ideal time to embark on this dynamic partnership with the New York Jets, and we are excited about this opportunity to drive increased awareness. We are very pleased with the early response from our customers who manufacture and market the supplements, nutritional beverages, and fortified foods that contain our VitaCholine to this unique partnership as they clearly see and value the opportunity for increased awareness for VitaCholine. We look forward to sharing progress with you over the coming quarters on this advancement in our marketing efforts to drive market penetration for VitaCholine. And with that, I'm now going to turn the call back over to Martin to go through the first quarter consolidated financial results for the company and the results for each of our business segments.

Thank you, Ted. As Ted mentioned, overall, the first quarter was a strong quarter for Balchem with record sales, adjusted EBITDA, and strong margin performance. Our first quarter net sales of $240 million were 3.1% higher than the prior year, driven primarily by strong growth in our Human Nutrition & Health segment. Our first quarter gross margin dollars of $82 million were up 11.4% compared to the prior year. Our gross margin percent was 34% of sales, up 255 basis points compared to 31.5% in the prior year. The increase was primarily due to a favorable mix and decreases in certain manufacturing input costs. Consolidated operating expenses for the first quarter were $40 million as compared to $39 million in the prior year. The increase was primarily due to higher compensation-related expenses and the impact of a gain on the sale of fixed assets recognized in the prior year, partially offset by lower transaction and integration-related expenses. GAAP earnings from operations for the first quarter were $42 million, an increase of 21.1% compared to the prior year quarter. On an adjusted basis, as detailed in our earnings release this morning, non-GAAP earnings from operations of $49 million were up 7.8% compared to the prior year. Adjusted EBITDA of $61 million grew 8% compared to the prior year, with an adjusted EBITDA margin rate of 25.4%. Interest expense for the first quarter was $5 million, a decrease of $0.2 million compared to the prior year. This decrease in interest expense was due to lower outstanding borrowings, partially offset by higher interest rates. We continue to use our solid cash flows to pay down debt, and we reduced our debt by $8 million in the first quarter and ended the quarter with net debt of $241 million with an overall leverage ratio on a net debt basis of 1.0. The effective tax rates for the first quarters of 2024 and 2023 were 21.3% and 22%, respectively. The decrease in the effective tax rate from the prior year was primarily due to higher tax benefits from stock-based compensation and certain lower foreign taxes. Consolidated net income closed the quarter at $29 million, up 27.6% from the prior year. This quarterly net income translated into diluted net earnings per share of $0.89, an increase of $0.19 compared to the prior year. On an adjusted basis, our first quarter adjusted net earnings were $34 million, an increase of 9.8% from the prior year, which translated to $1.03 per diluted share. Cash flows from operations were $33 million, with free cash flow of $27 million, and we closed out the quarter with $60 million of cash on the balance sheet. As we look at the first quarter from a segment perspective, for the first quarter, our Human Nutrition & Health segment generated record sales of $153 million, an increase of 15.1% from the prior year, driven primarily by higher sales within the minerals and nutrients business. Our Human Nutrition & Health segment delivered record quarterly earnings from operations of $33 million, an increase of 80.4% compared to the prior year. This was driven by the aforementioned higher sales and lower manufacturing input costs. First quarter adjusted earnings from operations for this segment were a record $39 million, an increase of 43.3%. We were very pleased with the overall performance of our Human Nutrition & Health segment, delivering record sales and earnings from operations. We saw strong demand growth for our minerals and nutrients, and the overall demand picture continues to improve in the food and beverage markets. Our Animal Nutrition & Health segment generated quarterly sales of $54 million, a decrease of 16.9% compared to the prior year. The decrease was driven by lower sales in both the monogastric and ruminant species markets. Animal Nutrition & Health delivered earnings from operations of $2 million, a decrease of 78.3% from the prior year. The decrease was primarily due to the aforementioned lower sales, partially offset by lower manufacturing input costs. First quarter adjusted earnings from operations for this segment were $2 million, a decrease of 75.8%. Similar to what we discussed in our Q4 earnings call, our Animal Nutrition & Health segment is experiencing challenging market conditions, particularly in Europe, but also in the North American dairy market. The European animal feed market continues to show relatively soft market demand and continued competition from low-cost imports flooding the market. The North American dairy market is still experiencing low U.S. milk and milk protein prices, impacting demand for our rumen-protected encapsulated nutrients in North America. While Animal Nutrition & Health is clearly going through a tough time at the moment, we continue to believe that the animal nutrition markets provide a growth opportunity for Balchem over the longer term, and we expect this segment to gradually improve as market dynamics become more supportive. Our Specialty Products segment delivered quarterly sales of $32 million, a decrease of 1.9% compared to the prior year due to lower sales in the plant nutrition business, partially offset by higher sales in the Performance Gases business. Specialty Products delivered earnings from operations of $8 million, an increase of 3.2% versus the prior year, primarily driven by lower manufacturing input costs, partially offset by higher operating expenses. First quarter adjusted earnings from operations for this segment were $9 million, an increase of 3.1%. We were pleased with the performance of Specialty Products in the first quarter as improved margins delivered good earnings growth. Overall, the first quarter was another strong quarter for Balchem and a great start to 2024. I'm now going to turn the call back over to Ted for some closing remarks.

Thanks, Martin. We are very pleased with the strong financial results reported earlier this morning, with record sales and adjusted EBITDA for the quarter, particularly in light of the continued economic and geopolitical uncertainties we are facing in the marketplace. At a consolidated level, we continue to show an ability to deliver results in a variety of market conditions, given our strong market positions, and we remain confident in the long-term growth outlook for the company. I will now hand the call back over to Martin, who will open up the call for questions.

Thank you, Ted. This now concludes the formal portion of the conference. So at this point, we will open the conference call for questions.

Operator Instructions. Our first question comes from the line of Bob Labick with CJS Securities.

Congratulations to Martin on his expanded role. Absolutely. So great quarter, obviously, a nice recap there for us. Maybe we could dig a little more into the significant margin upside on the human side. What drove the record margins? Is it mix, raw materials? Are there one-time benefits? Is it sustainable? How should we think about the margin profile going forward?

Yes, maybe I'll take a first stab at that, and then Martin can chime in. To simply say, there were no one-time items of note. It really was driven primarily by mix and the strength of the minerals, nutrients, and vitamins business. We saw significant year-over-year growth in that business, and that really was the primary driver. We have, as you know, over the last 3 or 4 quarters continued to see margin improvement as raw material input costs ease. So that played a more minor role, but it was primarily mix and just an indication of the significant growth we saw in the Minerals & Nutrients business, which, of course, has a fairly measurable higher margin profile than the rest of the food business.

Okay. Great. Yes. And maybe obviously, over the last couple of years, gone through a lot in terms of inventory corrections, demand issues, and the acquisitions you've made. Maybe we could take a half-step back and just break down the key subsegments: choline, K2, MSM you're referring to, chelated minerals, and encapsulation, and the flavors and powders or however you want. And the outlook for each of those subsegments within the human side would be great right now.

Yes. Again, I'll try to tackle that one as well. Long term, as we have said for quite some time, obviously, the period of time during the pandemic confused the markets a little bit, but we really believe that the organic growth potential of our Human Nutrition & Health business is mid-single digits. We have achieved that historically, and we believe that will be the case going forward. That is a multiple plus of the overall inherent market growth. What we're seeing today is that the food markets have at least returned to growth, albeit at very low single digits, but at least returned to growth after this very volatile period of time. The supplements market, which is the primary end market for our minerals, nutrients, and vitamins has returned to more healthy growth, let's say, at higher mid-single type growth. But when you peel that onion back and look at the vitamins, minerals, and nutrients that we sell, several of them are seeing much more significant growth than the market as a whole. I think it is a result of increased science around these nutrients, for example, vitamin K2 and increased awareness around these products as well. We see significant double-digit type growth in our vitamin K2 business, in various minerals within our Minerals portfolio, and high single-digit growth with the MSM product line. It does have to do somewhat with the overall market returning to growth, which is always great to see. But specifically for the products that are part of our portfolio, which we have invested in over time, are indeed growing significantly faster than the market as a whole. We are excited about that. Obviously, something that we talk a lot about is the potential for that significant growth, which will be driven by increased awareness, increased science, and ultimately increased market penetration. We are seeing some of that here over the last 2 or 3 quarters. Our investments in additional science, marketing, like the Jets partnership we announced, are all parts of our plan to drive that awareness and further penetrate the market.

Okay. Great. And maybe I'll just jump to that question because it's pretty exciting as Jeff and over here to hear about that partnership. But what do you hope to get? Or how will you measure, I guess, maybe a better way? How do you measure the success of the partnership with the Jets?

I'm glad to hear that you're a Jets fan—it's part of our mantra here at Balchem. We're excited about this partnership. It's interesting how our European and international colleagues have a different perspective, and they see the Jets representing New York City, one of the most dynamic cities in the world. We believe the Jets partnership is a test case for us. Our expectation is that we are going to see a nice return on investment. We're going to look at sales of these nutrients, specifically VitaCholine, relative to this campaign, to see if we see an uplift in sales and measuring that on a regional basis. We're also measuring awareness through focus group studies, and we hope to see those numbers increase as VitaCholine is prominently displayed at various Jets games. Additionally, we're closely monitoring our customers who manufacture the supplements and nutritional beverages; their interest in co-branding opportunities is also a key metric for us. We are seeing increased interest from our customers in co-branding our products, which is extremely promising. It will be multifaceted how we measure this, but driving higher sales will be our primary focus.

Okay. That's really exciting, as I said. Okay. Last question, then I'll get back in queue. And just jumping over to the Animal Nutrition & Health. You alluded to it a little bit; maybe what actions can be taken in Europe to kind of improve the market potentially? And have you seen anything like this in the past? How has it resolved last time if there was any dumping or anything like that?

Yes. There are actions that we can take. We're not just sitting on our hands and waiting for the market to turn around. There are market elements involved, but we can do things. We have seen situations like this over time; it hasn't been this challenging in the past, but low-cost imports have come and gone. We're looking to protect our business and maintain our volume because we believe this market can turn around. We can also look into reducing costs within our system and possibly investigate the potential for antidumping tariffs or other types of tariffs. There are established processes through the governments to address these unfair practices, which we will explore. The bottom line is, it is challenging right now, but long term, we believe the animal nutrition markets are attractive and will ultimately return to a healthier situation.

Our next question comes from the line of Ram Selvaraju with H.C. Wainwright.

Congrats on continued strong operating performance. Just first of all, could you give us a sense of what you expect to execute on this year, specifically in the U.S. market with regard to marketing and promotional activities, specifically around MSM, vitamin K2, and VitaCholine? To what extent might those marketing activities differ from what you've done historically? Additionally, if you could comment on how you envision the Jets partnership potentially extending beyond the VitaCholine brand into areas like K2 Vital, which my understanding is also important for boosting athletic performance.

We're really excited about this, and I appreciate your support. We are a technology and new product development company at our core, but we haven't invested in marketing significantly, and we're starting to see the results of those efforts. This investment in the Jets partnership is a pilot case for us. We expect to see a return on investment, which we would want to extend to include products like K2 Vital. As we look to the goals from this partnership, we expect to see increased awareness of our products, more co-branding opportunities within our portfolio, and a meaningful impact on our revenue growth profile. We are also enhancing our brand image, revamping our website, and focusing on a new consumer-facing website for VitaCholine in conjunction with the Jets partnership. We have also launched the True Quality program, testing consumer products on the market to verify their claims, which showcases the reliability of our ingredients. We are ramping up our social media activity as well, as consumers today make purchasing decisions based on online platforms. Our strong new marketing team is enhancing our capabilities while maintaining our focus on science-driven manufacturing.

Very helpful. Just following on from that, I wanted to see if—now that we aren’t anywhere near a scorching hot inflationary environment—maybe you could comment on the degree to which your pricing strategy has evolved and may continue to evolve as we hope inflation continues to come down. Certainly, we see markets that continue to be inelastic; does that apply to specific product lines at Balchem, particularly within the H&H segment? Additionally, how do you think strategically having these two business units within Balchem is synergistic, or do you anticipate that it might be plausible to entertain focusing more on the H&H segment as opposed to the Animal Health segment?

There's a lot in there, and I'll try to capture it. Remind me if I don't get to all of it. The Animal Nutrition Health business is going through a difficult time right now, but we are confident that our market positions and technology are solid, and we will get through this period and return to growth. We are not at this point discussing separation from the animal nutrition and health space. Our brand holds respect in the animal nutrition and health sector. Some of the technology we’re working on will address the challenges we're facing. There are synergies; the metabolism of choline varies across species, and there are commonalities in the manufacturing processes. Regarding pricing, we were pleased with our ability to raise prices in the extreme inflationary environment. We were able to raise prices dollar-for-dollar with costs, which indicates the strength of our position and pricing power. Although we lost margin, we have regained it as inflation moderated. We're seeing some deflation, and a portion of that is being returned. This affects mainly mature product lines with less competitive advantages. However, several products continue to maintain their pricing power, allowing for margin expansion. The most meaningful growth opportunity derives from accelerated growth in H&H's higher-margin product lines, delivering a mix benefit.

Great. And then just very quickly, two quick questions for Martin. Firstly, I always ask this question. Martin, how are you thinking about effective tax rates evolving going forward? Do you think the company may be able to maintain that below the 22% level? Do you expect it to tick up over the course of the remainder of this year? Secondly, what's the company's current positioning with respect to share buybacks? How do you expect this to evolve? What inputs do you take into consideration for moving forward?

On the tax rate, it was a little bit lower here in the first quarter. I do expect it to tick up as we go through the year. It benefited a little from higher exercising of options and stock comp expenses in the first quarter that pushed down the rate a little. I would not use 2022 as a planning rate; I would use 2023 as the planning rate for modeling going forward. On share buybacks, it's been a while since we did that. As we've stated in the past, it's part of our capital allocation, but we prioritize investing in organic growth and increasing our dividend while paying down debt. As we sit here today, our leverage ratio is lower, so the discussion on share buybacks becomes more relevant. However, we continuously evaluate acquisition opportunities. If we pursue another acquisition, share buybacks would not be part of that. If that does not happen, we will give share buybacks further consideration.

Our next question comes from the line of Kyle May with Sidoti & Company.

Ted, I wanted to follow up on one of the last couple of questions. You mentioned that gross margin this quarter, overall percentage of sales was 34%, which came in better than we were expecting. Can you touch on that and talk about some of the puts and takes that we should be looking for?

We were really pleased with 34%. It kind of marks a bit of a high point for us. Part of my comments around the mix elements and success in the Minerals & Nutrients business or in the ruminant business in Animal Nutrition & Health is going to ultimately give us a tailwind relative to margin going forward. As we grow those high-margin growth businesses at accelerated rates, we are likely to see margin expansion. I want to caution you a little in that the 34% was an excellent rate for the quarter, and nothing unusual drove that number. However, the growth in the Animal Nutrition business will naturally dilute that mix. Part of the benefit in this quarter was the growth in the Minerals & Nutrients business alongside the decline in the Animal Nutrition & Health business, so please weigh that into the picture.

Got it. Okay. That's helpful. And then also in the Animal Nutrition & Health, I was wondering if maybe you or Martin could expand on the sequential change from what we saw in the fourth quarter to Q1. I appreciate the big picture commentary, but could you detail what was more impactful in the first quarter?

On an H&H perspective, the first quarter, if you compare it to the fourth quarter, it was down a couple of million on sales. This decline was particularly driven by the ruminant side. The U.S. dairy market saw lower sales while the monogastric piece remained more stable sequentially. The ruminant market decreased a little driven by exceptionally low milk protein prices, which negatively impacted the value proposition of some of our key products.

Got it. And maybe following on with that, is there anything the company can do to boost sales in that category, whether it's other marketing, product placement, or anything like that?

We're certainly looking at our options in this very tough market and how we can succeed. We've been successful on the choline side with our Reassure flagship product, where new science and expanded marketing materials have helped us. We're trying to do similar things across products to better convey their value propositions.

Ladies and gentlemen, that concludes our question-and-answer session. I'll turn the floor back to Mr. Harris for any final comments.

Thank you, Melissa. Once again, thank you all for being with us today. We really appreciate your time, and we look forward to reporting our Q2 2024 results in July. In the meantime, we will be participating in a few investor conferences: the BMO Farm to Market Conference in New York City on May 16, the Deutsche Bank Global Consumer Conference in Paris on June 4, and the Wells Fargo Industrials Conference in Chicago on June 12. Hopefully, we'll see some of you at one or more of those events over the next month or so. Thanks again for joining. Have a great day.

Thank you. This concludes today's conference call. You may disconnect your lines at this time. Thank you for your participation.