Earnings Call Transcript - NOTV Q1 2022

Operator, Operator

Greetings. Welcome to Inotiv, Inc's First Quarter Fiscal 2022 Financial Results conference call. At this time, all participants are in a listen-only mode. A question-and-answer session will follow the formal presentation. Please note this conference is being recorded. I will now turn the conference over to your host, Kalle Ahl of The Equity Group. Thank you. You may begin.

Kalle Ahl, Equity Group

Thank you, Alex. And good afternoon, everyone. Inotiv Inc's First Quarter Fiscal 2022 financial results were released today after the market close. A copy of the earnings release can be found in the Investors section of the Company's website at inotivco.com. As a matter of formality, I need to remind you that some of the statements that management will make on this call are considered forward-looking statements, including statements about the Company's future operating and financial results and plans. Such statements are subject to risks and uncertainties that could cause actual performance or achievements to be materially different from those projected. Any such statements represent management's expectations as of today's date; you should not place undue reliance on these forward-looking statements and the Company does not undertake any obligation to update or revise forward-looking statements, whether as a result of new information, future events, or otherwise. Please refer to the Company's SEC filings for further guidance on this matter. Management also will discuss certain non-GAAP financial measures in an effort to provide additional information for investors. A definition of these non-GAAP measures and reconciliation to the most comparable GAAP measures is included in the company's financial results, press release, and corresponding Form 8-K. Joining us from the Company this afternoon are Bob Leasure, President and Chief Executive Officer, Beth Taylor, Chief Financial Officer, and John Sagartz, Chief Strategy Officer. We'll begin with some opening remarks, after which Beth will present a summary of the company's financial results. Then we'll open the call for questions. Now it's my pleasure to turn the call over to Bob.

Bob Leasure, CEO

Thank you, Kalle, and good afternoon to everyone. Thank you for joining us today. We're really pleased with the way we've started fiscal '22. We continued our momentum building Inotiv into a comprehensive provider of preclinical research services while adding a highly complementary research model platform through the strategic acquisition of Envigo. Our Full-Spectrum solutions now span two segments: discovery and safety assessment, which we refer to as DSA, and research models and services, also known as RMS. The acquisition of Envigo was transformative for our company, and we have now grown from 240 employees in 2018 to over 2,000 employees today. In addition, our revenue has grown from approximately $26 million in fiscal '18 to pro forma revenue for fiscal 2021, reflecting the acquisition of Envigo of approximately $395.8 million. Since the start of the fiscal year, we have further bolstered our DSA capabilities through the acquisition of Plato BioPharma in October 2021, the purchase of Integrated Laboratory Systems in January 2022, and a new collaboration with some extra life sciences in January 2022, along with ongoing investments in internal startups and capabilities. Plato BioPharma provides our DSA segment with in vivo pharmacology research and drug discovery expertise in the areas of cardiovascular, renal, pulmonary, and hepatic therapies. Plato's integrated approach to functional and physiological measurements, histological evaluations, and biomarker analysis complements our existing suite of services. Plato is located near our Boulder, Colorado operation, and Plato and Boulder operations are now both operating synergistically, and we're adding additional leased space to both locations to support the strong demand we're currently seeing. Integrated Laboratory Systems brings our DSA segment immediate scale in genetic toxicology, building on the genetic toxicology assets we acquired in 2021 from MilliporeSigma’s BioReliance portfolio. We've essentially accelerated by a few years our in-house toxicology startup with the acquisition of ILS, which adds two leased facilities with a total of 50,000 square feet, including a vivarium that is accredited by the Association for Assessment and Accreditation of Laboratory Animal Care. In addition to gaining expertise in genetic toxicology, we have gained access to excellent talent in the vicinity of North Carolina's Research Triangle Park, where ILS is located. We're making further investments over the next two quarters to expand capacity in the ILS facility. Our collaboration with some extra life sciences will establish a center of excellence for biotherapeutics and biomarkers at our recently leased facility in Rockville, Maryland, which is currently under construction. Under this collaboration, biomarker pioneer Synexa will further its international expansion at our Rockville site while supporting Inotiv in developing and delivering comprehensive GLP biomarker and biotherapeutic services. Working together, we expect to achieve scale, broaden our respective customer bases, and capitalize on cross-selling opportunities. We continue to make internal investments in our DSA business, including the opening of modern DMPK cell and molecular biology laboratories at our St. Louis facility, which we opened in November 2021, with the first phase. The second phase is set to open next month. We are beginning to see the benefits of the new capabilities and capacity. We have continued to invest in our people, infrastructure, and new systems and technologies. We believe these investments will augment future growth and enhance operating margins while improving service for our clients. The first quarter adjusted unallocated corporate G&A was approximately $7 million, or 8.3% of revenue, compared to 16.2% of revenue for the same period last year. We expect to see this figure climb as we continue to grow. Moving to our RMS segment, our strategic acquisition of Envigo established Inotiv as a leader in research models at a time when strong industry demand has outstripped supply, particularly in the category of nonhuman primates. The Envigo purchase has mitigated potential research bottlenecks, addressing a common concern of our customers and establishing a new growth platform for additional service offerings. Given this view and our desire to scale the RMS business, we acquired two complementary businesses in January: the breeding and supply business of Robertson Services, Inc. ORC and the facility located on 500 acres of land near our existing primary facility in Texas, which brings meaningful opportunity to expand our boarding and breeding capacity for our RMS customers. Having been a customer of OBRC ourselves, we're very familiar with OBRC's high level of service and animal welfare. RSI brings additional rabbit customers and market share to RMS, and we'll consolidate this production into existing facilities during 2022. We believe RMS is well-positioned for revenue growth and improved operational performance. By way of example, in fiscal Q3, we will begin closing two Envigo sites and consolidate their operations to a third location in Denver, Pennsylvania, creating scale advantages at the site level and driving operating leverage. Several common goals guide our actions across both segments, including listening to our customers and providing them with high-touch consultative service, building a comprehensive offering to meet our customers' needs, controlling speed-to-market, scaling our business in strategic growth areas, cross-selling services and products to expand our customer base, respecting our employees, customers, and shareholders while encouraging a culture of playing to win, and investing in people, technologies, and infrastructure to build a contemporary and scalable company. As we succeed in these areas, we plan to increasingly become our customers' primary research provider instead of a secondary option, handling a greater number of longer duration programs spanning the entire preclinical continuum versus offering specialized services. We achieved an excellent mix of internal and external growth in the first quarter of 2022, reflecting the successful execution of our strategy. Looking ahead, near-term demand for our DSA and RMS services remains very robust, as illustrated by our DSA strong book-to-bill ratio of 1.78 and the quarter-end DSA backlog of $104.6 million. Over the long term, we are continuing to target organic revenue growth in the high single to low double digits and adjusted EBITDA margins in the range of 18% to 20%. With that, I'd like to turn it over to Beth Taylor, our Chief Financial Officer.

Beth Taylor, CFO

Thanks, Bob. Good afternoon. In the first quarter of Fiscal 2022, our total revenue increased 370.4% to $84.2 million from $17.9 million in the comparable prior year period, driven by a $14.9 million increase in DSA revenue and $51.4 million of incremental RMS revenue. RMS revenue reflected a partial quarter contribution from Envigo, which was acquired on November 5th, 2021. Our DSA segment revenue grew 83.2% year-over-year to $32.8 million, driven by $10 million of incremental service revenue from the acquisitions of HistoTox Labs, Boulder BioPATH, Gateway Pharmacology, and Plato BioPharma, and $4.9 million of higher service revenue from internal growth. Our acquisition of Envigo contributed $45.1 million of product revenue and $6.3 million of service revenue to our RMS segment this quarter. We did not have any RMS revenue in the comparable prior year period. In the first quarter of fiscal 2022, our total gross profit increased to $19.3 million, or 22.9% of revenue, and that was up from $5.9 million, or 33% of revenue in the comparable prior year period. The decrease in gross profit as a percentage of revenue reflects the introduction of RMS products to our overall business mix starting this quarter. RMS products have lower gross profit as a percentage of revenue compared to DSA services. In addition, total gross profit included non-cash amortization for a step-up in the value of RMS inventory of $3.7 million for the acquisition of Envigo, which had a negative impact on the gross profit percentage of 4.4%. Our DSA segment gross profit, excluding amortization of intangible assets, was $12.2 million or 37.2% of DSA revenue, compared to $5.9 million or 33% of DSA revenue in the prior year period. The year-over-year increase in gross profit percentage was primarily driven by higher margins on incremental revenue from the acquisitions of HistoTox Labs, Boulder BioPATH, Gateway Pharmacology, and Plato BioPharma, as well as greater utilization of recently expanded capacity. Our RMS segment gross profit excluding amortization of intangible assets was $7.1 million or 13.8% of RMS revenue. The amortization of the step-up in value of inventory for about $3.7 million for the acquisition of Envigo negatively impacted the RMS segment gross profit by 4.4%. The operating loss in the first quarter of fiscal 2022 totaled $33.6 million compared to operating income of $14,000 in the comparable prior year period, reflecting higher non-cash stock compensation expense of $23.8 million, which included $23 million of post-combination stock compensation expense recognized in connection with the Envigo transaction, higher strategic investments in unallocated corporate G&A to support additional future revenue growth, and this included additional headcount, recruiting, and relocation expenses. Higher compensation expenses, transaction costs related to the acquisitions of Plato, Envigo, and RSI, an increase in sales commissions due to higher sales awards, and an increase in selling expenses due to an increase in travel, as our sales and marketing teams have traveled more as the COVID-19 pandemic eases, also contributed to our expenses. During the quarter, we continued investing in internal capabilities to provide additional service offerings such as laboratory solutions, medical device pathology, biotherapeutics, and genetic toxicology. Overall, adjusted corporate unallocated G&A, much of which was growth-oriented, totaled approximately 8.3% of revenue in the first quarter of fiscal 2022, compared to approximately 16.2% of revenue in the first quarter of fiscal 2021. I'd also like to point out that this quarter's selling expenses were higher compared to prior periods due to our increased book-to-bill ratio, as we accrue commissions when we win new orders prior to the recognition of corresponding revenue. Net loss attributable to common shareholders in the first quarter of fiscal 2022 totaled $83 million, or a negative $3.93 per diluted share, compared to a net loss of $366,000 or a negative $0.03 per diluted share in the comparable prior year period. This quarter's reported figure was impacted by post-combination non-stock compensation expenses recognized in connection with the Envigo acquisition of $23 million relating to the adoption of the Envigo equity plan and a $56.7 million loss on fair value remeasurement of convertible notes issued in September 2021. Adjusted EBITDA equaled approximately $10.1 million or 12% of revenue in the first quarter of fiscal 2022 compared to $1.4 million or 7.8% of revenue in the comparable prior year period. The book-to-bill ratio for our DSA services business in the first quarter of fiscal 2022 was 1.78 times. We continued to build our infrastructure for growth, which included additional headcount, transaction and integration costs, and internal investments in our people, new service offerings, new systems, and technology. Our backlog at the end of the first quarter of fiscal 2022 was $104.6 million, up 28.5% from $81.4 million on September 30, 2021, and up 130.9% from $45.3 million on December 31, 2020. Our balance sheet as of December 31, 2021 included cash and cash equivalents of $42.4 million. We had a zero balance on a $15 million revolving credit facility and a delayed draw term loan in the original principal amount of $35 million, available to be drawn up to 18 months from the date of the credit agreement, which was November 5, 2021. Our consolidated debt as of December 31, 2021 totaled $260.6 million. Our Form-10-Q will be filed on Monday, February 14th, and we'll provide the balance sheet and statement of cash flows. On January 10th, 2022, we borrowed the full amount under our existing $35 million delayed draw term loan facility to fund the purchase of ILS. And on January 27th, 2022, we brought on incremental term loans of $40 million for the purchase of OBRC. Overall, we are pleased with the direction our business is heading and we feel confident in continuing to invest in our future. This concludes our prepared remarks and with that, operator please open the call for questions.

Operator, Operator

Thank you. At this time, we will be conducting a question-and-answer session. Our first question comes from the line of Kyle Bauser with Colliers. Please proceed with your question.

Kyle Bauser, Analyst

Great. Thanks so much and congrats on the phenomenal results here again. Maybe starting with the recent acquisitions, specifically ILS and OBRC. Just curious how those came about. Were they situations where you were able to quickly act and, say, popped onto your radar somehow, or had you been in discussions with the companies for a while? Just curious how it played out.

Bob Leasure, CEO

OBRC had historically been a supplier to Envigo or to Inotiv for several years. So we'd started talking to them prior to the Envigo deal being closed or announced. So that had been in the works for some time. It was part of our strategy. We knew there was an opportunity to continue building our services and expand our boarding capability. A board for breeding, a boarding for maturing, for our customers. And that's been an increasing revenue source for Envigo going forward. We looked at other alternatives and how we could expand in our property in Texas. Knowing our supplier, we had an idea that they wanted to sell, and we were able to get involved before anybody else did. They agreed with us and we were able to complete that transaction. So I am really pleased that it opens up some capacity for us. I think it will be synergistic with our current facility and provide additional room and services for our customers. As for the RSI, that was a company that Envigo had identified prior to us closing. They informed us about it, initiated those conversations with them and visits. Then in early October, we were able to strike a deal with them, again, prior to properly closing the transaction and we knew that was something that we had capacity for internally. They were getting out of the business and it was an opportunity for us to gain market share using some of our existing capacity. One of our key strategies is scale, making sure we utilize unutilized capacity. We knew that the customer base was somewhat sticky, which we've talked about before. Acquiring that customer base made sense to us. I thought it would not put too much more burden on our team since they were going to be somewhat add-ons to what we already had. So, I know there are a lot of acquisitions at one time and we've been able to complete them. I'm really pleased with what the team has done. But we've got a lot of work to do.

Kyle Bauser, Analyst

Great, certainly highly accretive. I realize that the Envigo deal only closed in early November, but given your track record of quick turnaround, I was just wondering what changes or improvements have been made so far in relation to the organizational and operating structure? And what are some other opportunities to drive synergies in that business?

Bob Leasure, CEO

First of all, we have only owned Envigo for seven weeks. Out of those seven weeks, three weeks were holiday weeks, so we really had only four or five weeks to accomplish anything at the end of the year. But I think we've been pretty aggressive in transforming the corporate culture. We've made several changes in identifying who the leaders will be from a corporate standpoint, and unfortunately, that means that we don't need duplicate corporate leaders. Those changes have occurred, are being announced, or are in process. Another interesting point is that a year ago Envigo was a $50 million company growing to be a $100 million company, and it was not sure of its strategy. Today, we're looking at a run rate of over $500 million. Instead of building a company to be a $100 million player, we're building a company much bigger than that. Earlier, I mentioned additional changes in infrastructure and skill sets, and we're happy with the progress. I think you'll see us make more moves in the future, and I'm excited about what this team can accomplish. However, I also think we're testing them quickly; there's a lot to do in the next four to five weeks.

Kyle Bauser, Analyst

Definitely not. Appreciate that. Just one last housekeeping item: Can you provide the current cash levels and debt, including converts and basic shares outstanding after these recent acquisitions?

Beth Taylor, CFO

Yes. Our current cash level is down slightly from the $42 million level, but we expect strong receipts, so we're not anticipating a significant change in cash. It will not be lower by the end of the quarter. Our current debt level is $260 million reported plus the $40 million in term loans that we borrowed for the OBRC acquisition. The basic shares currently outstanding, which we reported in the proxy last week, are around 24.8 million. Fully diluted, including the convertible notes, would be around 30.5 million.

Matt Hewitt, Analyst

Good afternoon. Congratulations on the strong quarter. Maybe first, and I realize it's still early for some of the recently acquired properties, but could you talk a little bit about the cross-selling synergies that you're seeing already and how you think those could progress over the course of the year?

Bob Leasure, CEO

Yes, Hewitt. I don't have a metric for you on the cross-selling. Obviously, with the book-to-bill ratio of 1.78 to 1, we're not having trouble selling our services at the moment. I do receive reports on the cross-selling and we're seeing a lot happening right now, mainly in the discovery and small animal models. We are developing those relationships and expanding them. Fortunately, this is also taking advantage of some of the new capabilities we've built with the acquisitions and the recent expansion in St. Louis.

Matt Hewitt, Analyst

That's great. I'm wondering about NHP pricing. Could you walk through maybe where that was pre-pandemic, where it is today, and how you've positioned yourself to be the source for your customers, where others are facing challenges due to supply disruptions?

Bob Leasure, CEO

Yes. It's a big question. But I think pre-pandemic, the open market was probably in the $3,000 range. I believe it has doubled every year, reaching $6,000, $12,000, and I think this year we'll see it double again. I think the spot market is probably in the $20,000 range now, and we don't see that going away. Most of what we have coming in for the year has been pre-sold and we will ensure we honor all contracts with our customers. However, there has been significant cost and pricing pressure, so our costs have increased, and so have the pricing. Our margins are performing well so far. There will be more synergies with our recent acquisitions. I anticipate that there will be additional services resulting from the conditions where some customers want to conduct their own breeding, boarding, and maturing. So we're expanding those services, making sure they are available. I believe this trend of increased demand began long before the pandemic, possibly starting 10 years ago. At one point, China was exporting 90% of what they produced, and today they don't wish to export any. That trend began about ten years ago and coincided with COVID. As COVID escalated, it coincided with China's halt in exports, which has put significant pressure on the supply. The demand continues to rise with biotherapeutics and gene therapy. Many drugs still require NHPs for studies, and I do not see the upward trend changing anytime in the next few years. We are continuing to expand our services and capacity, and right now, I believe we have good market share for NHPs.

Matt Hewitt, Analyst

That's really helpful. Thank you. Lastly, Beth, could you walk us through the product gross margin and its components? If I understood correctly, without the non-cash amortization, the adjusted product gross margin should have been something closer to 17% for the quarter. Will it bounce back to that here starting this quarter? How does that play out over the next couple of quarters, especially given some of the price increases that you have seen?

Beth Taylor, CFO

Yes, you are correct. It would be closer to that 17% without the non-cash amortization. There will be a little bit more of that amortization that will hit Q2 for the step-up of inventory. However, this should not continue after Q2.

Bob Leasure, CEO

Thank you, Matt.

Frank Takkinen, Analyst

Hi Bob, hi Beth. Thanks for taking my questions. I wanted to continue on Matt's line regarding NHP pricing. I was hoping you could provide some additional insights into what some of the contracts look like right now, and if there’s an opportunity, as contracts expire and new ones come in, to see a step-up in pricing over the next couple of years.

Bob Leasure, CEO

Our contracts are generally structured such that we may have multiple-year contracts with our suppliers, but they reset pricing annually. Therefore, we reset pricing with our customers annually. I don't know that anybody has a real good fix on what 2023 pricing will look like at this point. We'll be reaching out to our suppliers and will make that decision probably closer to September or October of this year. It will likely be 2023 when we receive more feedback from them. We are hoping that the markets throughout the year will remain open; we should be able to visit them and meet them in person, which has been challenging lately. We'll continue to honor existing agreements.

Frank Takkinen, Analyst

Got it. And just wanted to take a higher view regarding the anecdotal feedback you have been hearing in the field, especially since you have been offering the full suite of preclinical plus research models since November. What has been the broad industry feedback? How have people been digesting this change in the market?

Bob Leasure, CEO

On the DSA side, we're both a buyer and a user, and all of our customers are well aware of what's taking place. As a result, we've been able to pass through the changes without much difficulty. Our customers understand it's just part of doing business; I'm not hearing pushback. Currently, they are more concerned about supply access, increasing requests for boarding, breeding, and boarding contracts to enable them to maintain their own colony or resources. As a result, I believe we will see an increase in services, and we'll be making further investments to expand those services. We really don't comment on future acquisitions. I'm open that we're expanding internally, and that is a viable strategy for continued growth. However, we are consistently exploring external acquisitions. With our growth over the last four to five months, we likely appear on more radar screens than before, allowing us to evaluate a broader array of potential assets moving forward. Therefore, I won't comment on specific opportunities, but we are always active. I must balance that with our team and ensure they are prepared to manage ongoing growth. We are certainly keeping an eye on various possibilities and look forward to pursuing those opportunities. Thank you for participating in our call this afternoon. In closing, I'd like to thank all of our employees and everyone involved for their extraordinary efforts that they bring every day to make this an exceptional company, achieving the transformation that has occurred over the last four to six months. Please reach out to our investor relations firm if you're interested in scheduling a follow-up call. I look forward to reporting back to you in May when we release our second-quarter fiscal 2022 financial results. Have a great day.

Operator, Operator

Thank you. This concludes today's conference call, and you may disconnect your lines at this time. Thank you for your participation and have a wonderful day.