CRL — Q1 2022 Earnings Call Transcript

Thank you, Lisa. Good morning, and welcome to Charles River Laboratories first quarter 2022 earnings conference call and webcast. This morning, I'm joined by Jim Foster, Chairman, President and Chief Executive Officer; David Smith, Executive Vice President and Chief Financial Officer; and Flavia Pease, Executive Vice President and incoming Chief Financial Officer. They will comment on our results for the first quarter of 2022. Following the presentation, they will respond to questions. There is a slide presentation associated with today's remarks, which is posted on the Investor Relations section of our website at ir.criver.com. A webcast replay of this call will be available beginning approximately two hours after the call today and can be accessed on our Investor Relations website. The replay will be available through next quarter's conference call. I'd like to remind you of our Safe Harbor. All remarks that we make about future expectations, plans and prospects for the company constitute forward-looking statements under the Private Securities Litigation Reform Act of 1995. Actual results may differ materially from those indicated. During this call, we will primarily discuss non-GAAP financial measures, which we believe help investors gain a meaningful understanding of our core operating results and guidance. The non-GAAP financial measures are not meant to be considered superior to or a substitute for results from operations prepared in accordance with GAAP. In accordance with Regulation G, you can find the comparable GAAP measures and reconciliations on the Investor Relations section of our website. I will now turn the call over to Jim Foster.

Thank you, Todd. Good morning. We're pleased to report solid financial results for the first quarter that were precisely in line with our expectations. Organic revenue growth was slightly below the 10% level. Operating margin improved by 70 basis points year-over-year, and earnings per share growth was in the high single digits. Revenue growth rate is expected to increase from the first quarter level, positioning us well to achieve our robust outlook for the year. There are several factors that we believe support our outlook, including the continued strength of the biopharmaceutical market environment. First, we continue to benefit from strong sustained business trends, particularly in our largest business, Safety Assessment, which represents approximately half of our total revenue. We are booking work well into 2023 and have over $1 billion of backlog already for next year. We continue to get price and anticipate continued share gains. Our scale, scientific expertise, and geographic reach continue to resonate with our clients. We have added a significant number of staff in the second half of last year and continued hiring in the first quarter. Coupled with our growing backlog, we are poised to meet the escalating demand, which will result in a DSA organic revenue growth rate approaching 20% in the second half of this year. Another factor that supports our 2022 outlook is our well-funded client base, both large and small. Based on daily conversations with our clients and our key performance indicators, clients are continuing to spend at the rate that we anticipated and moved the nonclinical development programs forward. Given our early-stage focus, we are a canary in the coal mine should funding become a concern. This is not surprising as we believe biotech clients are resilient and continue to have an average of about three years of cash on hand based on both our internal assessment and our clients and industry sources. The biotech industry is more critical to biomedical innovation than ever. Our clients are generally unaffected by the recent headlines related to public biotech financing. Beyond the public markets, we believe that broader balanced sources of funding will enable many biotechs to continue to access capital from the private sector. Venture capital funds continue to raise new larger funds and invest heavily in start-ups, providing a sustained source of funding for the biotech industry. We believe that pharma M&A and partnering investments are also utilized to help ensure that promising molecules for unmet medical needs are funded and move forward. To provide some color on our biotech client base, roughly one-quarter of our clients can be defined as pre-commercial. Segmenting that further, there is a subset of public biotech clients with less than two years of cash on hand. We estimate that these clients make up only about 10% of the current DSA backlog. We have taken action in recent years to add staff capacity, scientific capabilities and secure resources to accommodate client demand and provide them with exceptional service. These efforts have intensified recently in order to support the robust growth that we are experiencing and continue to forecast. We are confident that we are taking the necessary steps to effectively manage the business in today's market environment and deliver on our commitments to clients. We believe that our ability to support our clients with flexible, efficient outsourcing solutions tailored to their needs and available when they need them has continued to distinguish us from the competition. I'll now provide highlights of our first quarter performance. We reported revenue of $913.9 million in the first quarter of 2022, a 10.8% increase over last year. Organic revenue growth of 9.4% was driven by a solid performance from all three business segments and was in line with the outlook that we provided in February. Biotech clients continue to be the primary driver of revenue growth in the first quarter. The operating margin was 21.4%, an increase of 70 basis points year-over-year. The improvement was driven by the RMS segment as well as lower unallocated corporate costs. Earnings per share were $2.75 in the first quarter, an increase of 8.7% from the first quarter last year. Strong mid-teens operating income growth was partially offset by a higher tax rate and interest expense compared to the prior year. Based on the first quarter performance and an expectation that the robust business trends will continue throughout the year, we are maintaining our organic revenue growth guidance of 12.5% to 14.5% and our non-GAAP earnings per share guidance of $11.50 to $11.75 for 2022. Our guidance has incorporated two unfavorable changes in below-the-line items since the beginning of the year. The expectation for a slightly higher tax rate this year due to the impact of a lower stock price and stock-based compensation and higher interest expense as a result of the Federal Reserve's recent monetary policy changes. David will discuss both of these items in more detail shortly. I'd like to provide you with the details on the first quarter segment performance, beginning with the DSA segment. Revenue was $554.3 million in the first quarter, a 9.5% year-over-year increase on an organic basis. As expected, the DSA organic growth rate improved by nearly 300 basis points from the fourth quarter level driven by the Safety Assessment business. We expect that growth to improve to the low double digits in the second quarter and approach 20% in the second half as the quarterly gating for the year continues to track to our initial plan. The Safety Assessment business continued to benefit from strong business trends as higher pricing and increased demand drove first-quarter revenue growth. We are pleased with the sequential improvement in the Safety Assessment growth rate and expect continued acceleration during the year. This is supported by booking and proposal activity, which remained robust. DSA backlog was $2.8 billion at the end of the first quarter, an increase of more than 75% in the first quarter of last year and over 15% since year-end. Proposal dollar volume in the Safety Assessment business increased by 35% year-over-year. We also have an exceptionally high proportion of Safety Assessment revenues booked into backlog already for this year but do have sufficient capacity to start certain studies during the year. These trends reinforce our DSA organic revenue growth expectation for the year and affording us visibility into the strongest future demand that we have ever seen. Capacity is well utilized both in terms of people and infrastructure, and we are continuing to add the necessary staff and space to accommodate these robust demand trends. As I mentioned earlier, we hired a significant number of Safety Assessment staff in the second half of last year, and hiring continued into the first quarter. With the staff now in place, we expect recent hires will help us meet our accelerating DSA growth outlook over the course of the year. Coupled with benefits from higher pricing continuing to work through the backlog, we are very confident in the anticipated DSA growth acceleration and our ability to achieve our mid-teens DSA organic revenue growth outlook for the year, including approaching 20% growth in the second half. Our clients are also accepting longer lead times required to start some studies, which necessitates that they book projects further in advance to ensure they do not delay drug development. Many are experiencing exploring new creative relationships with us to secure space. These discussions recently led to a large biopharmaceutical client entering into a multiyear agreement with us to reserve Safety Assessment capacity in a take-or-pay arrangement. We anticipate that other clients will follow suit and believe that these developments demonstrate the sustained strength of the demand environment and our market position as a leading non-clinical contract research organization. Revenue for the Discovery business increased in the first quarter, but the growth rate was below its recent low double-digit trend. This was largely the result of difficult comparisons to the strong first quarter of last year, which included milestone payments and some COVID-related work. Our integrated Discovery portfolio continues to resonate with clients, and it is imperative that we enable them to have access to cutting-edge scientific capabilities and expertise in major therapeutic areas, as well as biologics, so that we can be the scientific partner they work with to advance their research programs to IND filing and beyond. Our technology partnership strategy has been a very successful means to do this. It has enabled us to continue to add new capabilities across many of our businesses with limited risk. We believe our clients' willingness to outsource more of their Discovery programs will be predicated on our ability to continue to add innovative capabilities to meet critical research needs. The DSA operating margin decreased by 90 basis points to 22.9% in the first quarter, primarily due to the higher staffing costs. We view this largely as a timing issue given the significant number of new hires and wage environment over the past six to 12 months. For the year, we continue to expect the DSA segment will be the primary driver of modest operating margin improvement for the company as leverage from the accelerated DSA growth rate offsets higher compensation costs. RMS revenue was $176.5 million, an increase of 8.7% on an organic basis over the first quarter of 2021 and in line with our high single-digit outlook for the year. Organic revenue growth was driven by broad-based demand and meaningful price increases in the Research Model business, particularly in North America, which performed very well. China also continued to perform well, but the growth rate was impacted by the comparison to the exceptionally strong start last year. We also experienced some very small RMS revenue impact related to China's COVID restrictions this year and are closely monitoring the situation. At this time, we don't expect it to become a meaningful headwind. Research Model Services was also a significant contributor to the segment's growth led by the Insourcing Solutions business, or IS; our CRADL, or Charles River Accelerator and Development Labs initiatives, which is part of our IS business, has further accelerated the growth potential for the RMS segment as both small and large biopharmaceutical clients are increasingly seeking to rent turnkey research capacity in key biohubs. To build upon our CRADL strategy and capitalize on a significant growth opportunity, we acquired Explora Biolabs last month. San Diego-based Explora has a similar focus as CRADL, currently operating more than 15 preclinical vivarium facilities with greater presence on the West Coast. While the demand for turnkey laboratory capacity makes this an attractive transaction on its own, the enhanced value proposition is that clients utilizing CRADL or Explora will be able to easily access additional services across our comprehensive discovery and nonclinical development portfolio, providing us with a new and unique pathway to connect with clients at earlier stages. With expansions currently underway in the United States and internationally, the combined CRADL and Explora operation is expected to include at least 25 vivarium facilities by the end of 2022, providing over 300,000 square feet of turnkey rental capacity in key biohubs. Explora Biolabs will effectively double the revenue and footprint of our CRADL operation, driving strong double-digit revenue growth that will solidify the RMS segment's position as a sustained growth engine for the company. In the first quarter, the RMS operating margin increased 120 basis points to 29.9% driven primarily by operating leverage from robust sales of research models. RMS operating margin expansion will be limited for the remainder of the year due to the Explora Biolabs acquisition. Explora has healthy margins for its service business, but the operating margin is below that of the RMS segment, creating a headwind to the segment margin this year. Explora is opening a number of new sites this year, so we expect the business to leverage these investments and be better positioned to enhance its operating efficiency thereafter. Revenue for the Manufacturing segment was $193.1 million, a 10.1% increase on an organic basis over the first quarter of last year. Biologics Testing services was the primary driver of the increase, with continued robust double-digit revenue growth. Microbial Solutions growth rate was below the 10% level, resulting in the Manufacturing segment's growth rate being below its mid-teens full-year target in the first quarter. This was timing-related and will not affect the outlook for the year, as we still expect Microbial revenue growth in the 10% range. Demand for our Biologics Testing services associated with cell and gene therapies and other complex biologics continues to be robust. And we are confident that cell and gene therapies will continue to be significant growth drivers for our business, even as COVID-related vaccine testing revenue settles into a steady run rate. There is a significant market opportunity for our Biologics Testing business, which provides services that support the safe manufacture of biologics, including process development and quality control. We believe client interest in our consolidated biologics solutions offering, which provides both Biologics Testing and the cell and gene therapy CDMO services, will only increase as the synergies to produce complex biologics and conduct required analytical testing with one scientific partner are more broadly adopted by clients. Utilizing our biologics solutions offering will be a strategic advantage for clients, who are looking to reduce bottlenecks and increase efficiency of their drug development and commercialization efforts. Our CDMO business also had a good quarter, and we continue to make excellent progress on our integration efforts. Our gene-modified cell therapy production business has gained traction and generated strong growth in the quarter as it continues to be one of the leaders in this emerging space. We benefited from commercial readiness milestones in the quarter, which are relatively common in the CDMO sector, and demonstrate that clients are continuing to advance their programs into later stages of development and trust us to take the critical next steps with them. We also continue to position our gene therapy product offering, plasma DNA and viral vectors, to be opportunistic in a marketplace that is greatly in need of more supply. The Manufacturing segment's operating margin declined 240 basis points to 33.1% in the first quarter of 2022 as a result of the inclusion of the Cognate and Vigene businesses, which have margins below the overall segment, but are expected to improve as we drive efficiency and leverage the significant growth potential for this business. We are operating in a robust business environment that gives us excellent growth potential. We have the best visibility that we have ever had, with an average 12 to 18 months of backlog in our largest business. We have the capacity and the people in place to deliver on the accelerated demand throughout the year. And we are benefiting from escalating pricing. It is opportune that the market dynamics will remain robust at a time when we believe we have built the premier non-clinical contract research and manufacturing organization. Before I conclude, I'd like to provide an update on our CFO transition plan. As we announced last month, Flavia Pease has been named our next Chief Financial Officer, replacing David Smith, who previously announced his plans to retire. I'd like to thank David for his dedicated service to Charles River and a remarkable career. David has been instrumental in Charles River's growth and success since he joined the company through the Argenta and BioFocus acquisition in 2014 and subsequently when he was promoted to Chief Financial Officer in 2015. During his tenure as CFO, Charles River's revenue has increased 17% annually and free cash flow by 14% annually, and David has played a critical role in these accomplishments by providing strategic financial counsel and direction to our global organization. David will remain with us through year-end by transitioning into a role of senior financial adviser shortly after earnings. I'm pleased to announce that Flavia Pease will assume the role of CFO at that time. Flavia is a highly regarded financial leader with more than 20 years of financial leadership experience at Johnson & Johnson. Her deep biopharmaceutical industry knowledge and experience managing the finance organizations of large, growing businesses will greatly benefit Charles River. I look forward to partnering with Flavia as we work to advance the company's growth strategy and mission. In conclusion, I'd like to thank our employees for their exceptional work and commitment, and our clients and shareholders for their support. Now Flavia will provide a brief introduction before David gives you additional details on our first quarter financial performance and 2022 guidance.

Thank you, Jim. I'm excited to join the Charles River family and become Chief Financial Officer. Charles River presents a compelling opportunity to join a life sciences industry leader, work with a deep and talented finance team and collaborate with experienced senior leaders. I intend to leverage my experience as a trusted business partner to help the company achieve its financial goals, supported by significant growth potential and creating value for shareholders. I look forward to meeting many of you in the investment community in the coming weeks and months. I would also like to thank David for his support and guidance over the past few weeks, and I will continue to work closely with him to ensure a smooth and seamless transition. Now, I'll turn the call over to David.

Thank you, Jim, Flavia, and good morning. Before I begin, may I remind you that I'll be speaking primarily to non-GAAP results, which exclude amortization and other acquisition-related charges, costs related primarily to our global efficiency initiatives, our venture capital and other strategic investment performance and certain other items. Many of my comments will also refer to organic revenue growth, which excludes the impact of acquisition, divestitures, foreign currency translation, and the 53rd week in 2022. We are pleased with our first quarter performance, which included revenue and earnings per share growth in line with the outlook we provided in February. Organic revenue growth of 9.4% and operating margin expansion of 70 basis points were partially offset by a higher-than-expected tax rate resulting in an earnings per share increase of 8.7% to $2.75. As Jim mentioned, we have reaffirmed our organic revenue growth and non-GAAP earnings per share gains for the full year. Our earnings per share guidance of $11.50 to $11.75 effectively absorbed a higher-than-expected tax rate and interest expense compared to our initial outlook. I will discuss both of these items in more detail shortly. Our organic revenue outlook for the full year is unchanged at 12.5% to 14.5% growth. With the addition of Explora BioLabs, we've increased reported revenue growth guidance to a range of 13.5% to 15.5%. This includes a larger 1.5% headwind on foreign exchange due to the strengthening of the US dollar. Given the robust top line performance, we remain well-positioned to moderately expand the operating margin in 2022. As I mentioned, our tax rate and interest expense outlook have increased since the beginning of the year. We expect a slightly higher tax rate in 2022 because the lower stock price during the first quarter resulted in a lower excess tax benefit associated with stock-based compensation. This led to a first quarter tax rate of 16.8%, a 230 basis point increase year-over-year and above our prior outlook in the mid-teens. Our tax outlook remains within our initial low 20% range for the year but has moved slightly higher due to the stock price movement since February. We now expect adjusted interest expense of $98 million to $102 million in 2022, approximately $15 million higher than our prior outlook. The primary drivers of the increase are nearly evenly split between higher interest rate assumptions associated with the Federal Reserve's outlook provided in March and higher debt balances due to the Explora acquisition in April, which will not have a meaningful impact on non-GAAP earnings per share since the transaction is expected to be earnings-neutral this year. For the first quarter, total adjusted net interest expense was $20.4 million, which was flat sequentially compared to the fourth quarter. At the end of the first quarter, we had an outstanding debt balance of $2.7 billion, equating to a gross leverage ratio of 2.5 times and a net leverage ratio of 2.4 times. As planned, we financed the Explora acquisition through our revolving credit facility, and our leverage remains below three times pro forma for the transaction. For the remainder of 2022, we will continue to evaluate M&A opportunities. And absent any additional acquisitions, our capital priorities will be focused on debt repayment. By segment, our organic revenue growth outlook for 2022 remains unchanged. RMS organic revenue growth guidance remains in the high single digits. The reported revenue growth outlook for this segment is being increased to a high single-digit range to include the Explora revenue contribution. We continue to expect the DSA segment to deliver mid-teens organic revenue growth driven by strong contributions from both the Discovery and Safety Assessment businesses and the Manufacturing segment to achieve mid-teens organic growth as the Microbial Solutions growth rate improves from the first-quarter level, and the Cognate and Vigene acquisitions are included in the organic growth rate. Lower unallocated corporate costs totaling 5% of revenue contributed to the first-quarter operating margin improvement. This is compared to 6.2% of revenue last year, with the decrease driven by several factors, including favorable fringe-related costs and quarterly fluctuations in the gating of corporate costs. Despite the favorability in the first quarter, we continue to expect unallocated corporate expenses to be in the mid-5% range as a percent of revenue for the full year. Free cash flow was $22.2 million in the first quarter compared to $142.2 million last year. A decrease of $120 million over the prior year was primarily due to planned increases in capital expenditures associated with projects to support future growth and higher performance-based bonus payments related to the strong 2021 results. Capital expenditures were $80.5 million in the first quarter compared to $28 million last year. For the year, our free cash flow and capital gains remain unchanged at approximately $450 million and $360 million, respectively. As previously discussed, CapEx is expected to total approximately 9% of total revenue in 2022. A summary of our updated financial guidance for the full year can be found on slide 39. For the second quarter, our outlook reflects a continuation of the strong business trend and for the revenue growth rate to continue to accelerate. We expect the reported and organic revenue growth rate to be in low double digits. The DSA and RMS organic growth rates are expected to improve sequentially from the first-quarter level, while the Manufacturing segment will be slightly lower due to the strong comparison to the nearly 27% growth last year. Earnings per share are expected to increase in the mid to high single digits year-over-year in the second quarter. In closing, we are very pleased with our first-quarter financial performance and are confident about our growth prospects for the remainder of the year. Given the strong DSA business development activity that Jim highlighted, our order book firmly supports our full-year financial guidance, including DSA organic revenue growth approaching 20% in the second half of the year. Before concluding, I would like to say a few final words. I'm pleased to welcome Flavia to the Charles River team. In the past few weeks, we've begun the transition of my responsibilities. And as such, this will be my final earnings call as Chief Financial Officer. I'm officially retiring until after year-end, but will move into a new role shortly after this earnings call to ensure a smooth transition. It has truly been a privilege to serve as Charles River CFO, and I would like to thank Jim, the Board, and all of my colleagues for their support and collaboration during my tenure at Charles River and for the successes that we have all shared together. I firmly believe I am leaving this company well-positioned for continued success because of the sustained robust demand environment, our industry-leading portfolio, and the highly experienced leadership team. I would also like to thank each of you, the Charles River shareholders and analysts, for the collaborative relationships that we have forged over the years and for your support. It's been a pleasure working with you. Thank you.

That concludes our comments. Operator, we will now take questions.

My question is about the DSA segment. First, I heard that DSA growth is expected to approach 20% in the second half. Can you provide any insight on the split between Q3 and Q4? Will both quarters show a similar growth rate, or will the growth continue through the year and finish at or above that range in the fourth quarter? My second question is regarding a take-or-pay deal in DSA that was completed this quarter. I missed that part, so could you share more details on it and your thoughts on the client's interest in additional take-or-pay deals right now? Thank you.

We expect the ramp-up to continue throughout the latter half of the year, with each quarter showing progressive strength and concluding positively. The second half should reach around 20%, driven by significant price increases, market share gains, overall volume, and an improved mix. Our capacity utilization and staff efficiency are contributing to this, even as some new hires are still in training and not yet impacting our financial results in Q1. Our competitive position is strong, based on our scale, geographic proximity, and the specialized scientific components of our business. We have an unprecedented backlog that is growing, reaching $1 billion for next year already. Our volumes have noticeably increased compared to both the previous year and last quarter, which boosts our confidence in our projected numbers. Regarding the take-or-pay arrangement, we're intrigued by its potential. We've been surprised that we haven't seen more of these deals, given that capacity is tight and clients are very active. They're also financially secure and exploring new modalities, with bookings happening well in advance. Companies want to ensure they secure slots, and if I were leading an R&D department, I would prioritize securing space to maintain flexibility in scheduling. We recently signed our first take-or-pay deal with a major client, and we believe others will likely follow suit due to the increasing demand. This arrangement acts as a safety net for clients. Over the past year, we have been in discussions with our clients to understand their true priorities rather than treating every project equally in terms of urgency or expected revenue. This understanding will help us better schedule their projects and offers them the option to secure space on a take-or-pay basis, which we anticipate will result in a more logical scheduling process for all parties. While we can't predict future deals, we would be surprised if more large companies do not engage in similar arrangements by the end of the year.

Jim, thanks very much for the details. I'll jump back in queue if I have anything else. Congrats on the outlook.

Hey. Good morning. Thanks for taking the question. Jim, I wanted to follow up on something you alluded to in your comments in terms of the cell and gene therapy clients you have in biologics and kind of your ability to I don't know if we want to call it pull-through or cross-sell them into CDMO work. Can you just talk about the initial reception there and what your experience has been?

Yes. The main reason we decided to return to the CDMO space after leaving it a few years ago is that we now have a growing, high-margin Biologics business worldwide. We’re involved in testing drugs before they enter clinical trials and even after they receive approval, potentially for an indefinite period. We've started receiving requests from clients asking why we can't manufacture the drug ourselves. There's a connection here; if someone else is producing the drug, we could still handle testing it, or the other way around, but that approach lacks efficiency and elegance for our clients, ultimately slowing down the process. While we have competitors that focus on either aspect, we believe being able to do both gives us a strategic advantage. The link between Safety and Discovery is also quite significant. It’s still early to evaluate the success of this strategy, but our sales team is addressing all these services, and we see a strong interest from clients. Former Biologics clients are starting to engage with us for CDMO manufacturing or gene therapy products and vice versa. We’re quite confident that this combined offering represents the value we are aiming for. Essentially, we believe that one plus one can equal three in this context.

Got it. And then just maybe following up on that. Just on HemaCare and Cellero, can you just talk about the latest trends in cell supply of kind of the COVID headwinds there abated? Are you seeing a rebound in those businesses?

So HemaCare and Cellero has new management, has new capacity and has much more sophisticated ways to access and hopefully retain donors. So the slope of that business is positive as we move through the back of the year.

Got it. Thanks for taking the questions.

Hi guys. Thanks so much for the question. And welcome, Flavia. It's nice to speak with you. I was wondering if you could talk to me a little bit more about sort of the OpEx spend in the quarter that came in a little bit under what we were suspecting especially given the inflationary environment. Just any additional puts and takes you can sort of talk about on that so we can sort of think about the run rate for the rest of the year. Thank you.

I’m sorry. I'm not sure I heard the whole question. Speaking a little quickly. Yes.

Operating expenses in the current kind of inflationary environment.

Yes, while we can't predict the future with certainty, we believe we've effectively accounted for inflationary pressures in our operating plan, which is reflected in our guidance. Specifically, this relates to supply chain costs, including staffing levels and compensation. In the first quarter, we hired a significant number of employees for our Safety Assessment business, resulting in higher salaries and substantial training costs that did not directly contribute to our revenue or profitability. However, we expect this situation to improve in the latter half of the year as we see increased pricing for many studies booked later on. I want to emphasize that the slight expected increase in our operating margin this year will mainly come from the Safety Assessment business, and those costs are already factored into our analysis.

Got it. That’s very helpful. Thank you.

Hi. My name is Christine. Thanks for the question. I was hoping you could give me an update on your plasma DNA business, if this is an area of investment for Charles River. And how does it fit into your end-to-end offering for cell therapy innovators in that strategy? Thanks.

We are working diligently to improve the management of the businesses we acquired and to refine the strategies for our plasma DNA and viral vector operations. These will be focused geographically, and we are shifting away from some of the COVID-related tasks that these businesses were engaged in prior to and shortly after acquisition. With our available capacity for plasma DNA, we are in a strong position to offer gene therapy products, allowing us to capitalize on market opportunities where supply does not meet demand. We are confident in our ability to deliver these essential products to our clients in this sector.

Yes, great. Thank you.

Hi, good morning. Thanks for taking my questions. David, congratulations on your impressive career and best wishes in your retirement. I wish I could follow your path. My question is directed at Jim; I appreciate the data on your client mix. Venture funding seems to have held up a bit better than the public market. Do you have any insights on the mix of your precommercial ventures compared to public ones?

I don't think we have a precise estimate at this point. We mentioned that less than 10% of the small pre-revenue businesses are involved, and many of those are publicly traded. As you pointed out, we have numerous formal and informal connections with most major healthcare venture capital firms. They are raising funds at a much faster pace than before; what used to take five to seven years is now down to two to three years. These companies are in a good position, being well-funded and showing no interest or capability in developing their own internal resources to handle what we do. In many respects, they make excellent clients. They often reach proof of concept and are less sensitive to pricing because they are well-financed and primarily rely on outsourcing. To answer your broader question, we believe the clients generally have three years of cash. For those that may have less than two years, I think several factors will come into play. The pharmaceutical industry is likely to support many of these companies and their technologies, especially for new drugs aimed at addressing unmet medical needs. I don't think the industry would allow promising ventures to fail without backing. Therefore, it seems unlikely that these companies will flourish without funding and continued collaboration with us. That said, based on the numbers we shared in our prepared remarks, we are experiencing longer backlogs, improved pricing, and increased demand. Additionally, we have seen our first client execute a deal on a take-or-pay basis. Overall, our client base appears strong, with a full product portfolio and no concerns about their capacity to fund projects in the future.

Thank you. Yes. This leads into my follow-up regarding take-or-pay. Eric touched on this a bit. It's been some time since we've seen one of these contracts despite your recent discussions. I'm curious about how this take-or-pay contract is reflected in the backlog number you provided this quarter, which is unusual. Considering the demand for locking in the space, should we assume that you were able to negotiate spot rate pricing for the take-or-pay contract? Or did the client request a specific volume and receive a discount?

We are pleased with the pricing on this contract. It's part of our backlog, although it's just with a single client, so we want to be cautious not to overstate its impact. We wanted to highlight it because we have been anticipating this development. I'm surprised it hasn't been done sooner, and I believe others will likely follow suit. This could serve as a model for others to gain confidence in identifying opportunities earlier for high-priority studies. It also allows us to collaborate more effectively with our clients and engage in strategic discussions about their needs and timelines. This gives us significant visibility and improves our planning for additional space and staff. We're excited about this development; it emerged during our conversations as we strive to listen to our clients and offer them flexible solutions. While not all clients require the same solutions, larger companies with substantial portfolios can afford to invest in these arrangements. Many of these pharmaceutical companies have downsized their internal capabilities, which is a strategic move that was largely anticipated.

Got it. Thank you.

Hi, guys. Thanks for taking my question and congratulations, David. I guess, so on DSA, you talked a lot about Safety Assessment, but can you elaborate on what you saw in Discovery? You noted the growth rate was below the recent double-digit trend there. So wondering how much of that is related to the tough comp versus maybe some shift in customer spend or pipeline rationalization from customers?

Yes, the Discovery business remains strong, though its growth has slowed compared to previous periods. The comparisons this quarter were quite challenging due to significant COVID-related projects that we are proud of but are not sustainable over the long term. Additionally, we experienced some one-time events that won't be repeated. Excluding these factors, we feel optimistic about the growth trajectory of that business moving forward. Discovery services are essential for many of our clients, large and small, and they play a crucial role in supporting the Safety Assessment business. We prefer to view DSA as a whole, which is why we haven't delved deeper into the details, but we did mention that this quarter was somewhat slower. However, we expect a strong performance for DSA in the latter half of the year.

Got it. And then I'm just wondering how much of the RMS demand you saw in North America is catch-up work from canceled or delayed projects from COVID? And can you also quantify what the China lockdown impact was to RMS in Q1? What's implied there in Q2 and for the full year? And any other color around China? Thank you.

So all we can tell you about China is kind of a tale of two cities. The demand continues to be considerable. So we have a growth rate in China that totally outstrips the growth rate in other parts of the world, had a nice first quarter, tiny impact from the lockdowns. We don't anticipate, as we said in our prepared remarks, that it will have a meaningful impact in the second quarter, but it's a little bit impossible to predict. Our overall feeling is that the RMS segment is so strong that unless the impact is greater than we anticipate, we'll be able to offset it. So we'll see. But right now, we feel quite good about it. We were particularly pleased with North America. I would say that's not a rebound from anything in particular COVID-related. I would say that it's about the spending by our North American clients. It's about our strength versus the competition. It's about our continued investment in that business and the sophistication of the product line. It's about significant pricing, some mix and share gains. So I can't tell you how delighted we are. So you didn't ask this, but I'm going to say it anyway. I mean, I do think that we are living in the renaissance in the RMS business, which between China, legacy businesses, the service businesses, particularly IS, now enhanced by this Explora acquisition that we've done, that we're going to see that business squarely in the high single digits as we move forward with hopefully strong operating margin. So we're really thrilled actually with pretty much all of the constituent parts and pieces of that business, which it's been a while coming. So we feel really good about that. We'll obviously continue to give you updates on the China situation vis-à-vis RMS; we think will be fine.

Thank you.

Hi. Good morning, everyone. I was hoping to get more information about the backlog growth in DSA. You mentioned that you have $1 billion booked for 2023 at this point, which is around 40% of my revenue forecast. It hasn't been long since your total backlog for the year was also $1 billion. I would like to understand how far out you're willing to book and possibly get some historical context on how much you would have booked at this time for the following year a few years ago.

It's unprecedented. The best years we had were six, seven, and eight. This is far better. However, it’s a completely different industry now. The competitive landscape has shifted significantly. The strength of Charles River has transformed, and the number of clients has changed as well. The role of biotech as a driver has also evolved. Most of our revenue is secured; we have a backlog this year that aligns with our guidance in Safety. While I won't confirm your specific number, you can assess the size of our Safety Assessment business, its growth potential next year, and how much is in backlog. It’s much higher than what we typically see at this time of year, and I expect it to keep growing. We hope to have a similar situation next year, with most of the work already in backlog. This is bolstered by the highest pricing we've achieved, which is justifiable given the increasing complexity of studies. Our capacity is tight, clients have more drugs to develop than ever, and the availability of competitive capacity is limited. This creates an appealing demand situation for us, and our mission is to increase our capacity now and through 2023 and 2024 to meet growing demand. We plan to hire slightly ahead of requirements, enhance our digital portfolio for improved efficiency and responsiveness to clients, and set pricing rationally to encourage take-or-pay relationships as desired. We also always ensure we have space for both short-term and long-term studies since clients need to start earlier. As I’ve mentioned over several quarters, we are meeting with our clients to identify their priorities within our portfolio and will make every effort to accommodate them. It’s a very appealing business model, and we’re fully focused on executing against this demand. We've never encountered demand like this before, so we won’t take it lightly. We’re committed to responding effectively, ensuring our execution is as strong as possible, and having both personnel and physical capacity ready ahead of when we need it.

Appreciate the color there. I’ll hop back in queue.

Hey, guys. Good morning. And Dave, congrats on your tenure and best of luck in retirement. And Flavia, looking forward to working with you. Jim, maybe to start things off, did you disclose what organic constant currency growth look like when adjusting for the COVID impact last year? Any color you could share on that at the segment level perhaps would be helpful.

Yes, I'll take that, Jim. We did highlight the COVID impact by segment during our discussion of 2001. At the end of the year, we also provided those details. We experienced a 980 basis point impact in RMS, 80 basis points in DSA, and 210 basis points in Manufacturing. I hope that provides you with the information you were seeking.

Got it. That's helpful. And then, Jim, as we think about sort of operating margin expansion here, you did talk about continuing to expect modest expansion year-over-year. Can you just walk us through the impact from Explora? Sounds like it's going to be a little bit of a headwind on RMS? And then to Dave's point earlier and your commentary around expecting a lot more of these take-or-pay contracts, how confident are you that the magnitude of the pricing increases that you foresee working their way through the backlog here can help offset any take-or-pay sort of headwinds in addition to staffing costs and wage inflation?

We do not view the take-or-pay deals as challenges. Our clients greatly appreciate this type of accommodation structure, and they will compensate us well for those arrangements and for having that capacity available. I believe this will simply be part of our portfolio. While it's hard to forecast its size, I expect that some of our larger clients will want to pursue similar agreements, so I do not consider this a negative factor. The Explora deal is strategically advantageous, as it will double the size of our CRADL life business, although it may present a slight challenge to margins in that division. Our Charles River businesses have historically enjoyed very high margins, but the scale of new facilities being opened and their overall structure will have somewhat lower margins, which we anticipate will improve over time. This expectation is already reflected in our guidance. We feel confident in achieving the modest improvement we mentioned, which we expect will primarily come from Safety. While we hope to see contributions from other areas, that's not what we're currently guiding towards. Overall, we see significant demand across the board and maintain a strong competitive position without any apparent external disruptors to that demand.

Got it. That's helpful, Jim. And one final one on Biologics Safety Testing. You spoke about, sort of, vaccine lot-release work you're settling into steady state for the COVID component heading into the back half of this year in 2023. Can you just help share some more color on what your assumptions are in terms of that steady-state demand? And if there were to be a relatively sharp drop-off, should we be thinking of a slight moderation here versus that, sort of, 20% growth target you've spoken about for BST?

I expect a decrease in demand. Last year, we experienced a 30% growth quarter, and even after accounting for the impacts of COVID, we're still seeing a growth rate of 20%. The business remains robust, primarily driven by large molecules, which can be used in various ways. Cell and gene therapy significantly contributes to our growth, along with our geographic expansion. We will continue to work on both COVID and non-COVID vaccine projects as part of our portfolio, but we won’t be overly impacted by any major fluctuations in COVID vaccine revenues or testing.

Very helpful. Thank you.

Great. Thank you for joining the conference call this morning. We look forward to seeing you at upcoming investor conferences. This concludes the call.