West Pharmaceutical Services Inc (WST) — Q1 2018 Transcript

Thank you, Brian. Good morning, and welcome to West's first quarter 2018 conference call. We issued our financial results this morning and the release has been posted in the Investor section on the company's website located at www.westpharma.com. This morning CEO, Eric Green and CFO, Bill Federici, will review our results, give you an update on our business, and provide an updated financial outlook for the full year 2018. There's a slide presentation that accompanies today's conference call and a copy of that presentation is also available on the Investor's section of our website. On Slide 2 is the Safe Harbor statement. Statements made by management on this call and in the presentation contain forward-looking statements within the meaning of US federal securities law. These statements are based on management's beliefs, assumptions, current expectations, estimates, and forecasts. There are many factors that can influence the company's future results that are beyond its ability to control or predict. Because of these known or unknown risks or uncertainties, actual results could differ materially from past results and those expressed or implied in any forward-looking statement. For a non-exclusive list of factors which could cause actual results to differ from our expectations, please refer to today's press release as well as any further disclosures the company makes regarding the risks to which it is subject in the company's 10-K, 10-Q, and 8-K reports. In addition, during today's call, management will reference non-GAAP financial measures, including: sales in constant currency, organic sales growth, adjusted operating profit, adjusted operating profit margin, and adjusted diluted EPS. Reconciliations and limitations of the non-GAAP financial measures to the most comparable financial results prepared in conformity to GAAP are provided in this morning's earnings release. I now turn the call over to West's CEO and President, Eric Green.

Great. Thank you, Quintin, and good morning everyone. Thank you for joining us today. This morning we reported our first quarter performance. And you have seen in our press release, we grew overall sales despite the headwinds and the tough first quarter comparison that we forecasted at the beginning of the year. Our generics market unit posted another quarter of accelerating growth. Our Contract Manufacturing segment also saw impressive growth in the quarter. There are positive signs of future growth across all market units and we’re confident in the underlying strength of our business as we look to the remainder of 2018. Let’s now turn to the detail of our market unit performances for the first quarter. On Slide 4, we show the organic sales growth performance of each of the three market units in our Proprietary Product segment and our Contract Manufacturing segment. As we have done on previous calls, we show the trailing four quarters along the current quarterly performance. While we adjust for last year's sales associated with both the deconsolidation of the Venezuela business and lower consumer contract manufacturing sales due to our customer moving their business in-house, our organic sales growth would have been 4.1%. I'll start with generics which represents an excellent example of the resilience of our business. Looking back, we saw the first signs of a slowdown due to customer inventory management beginning in late 2016. By Q3 of 2017, we started to see early indications of a return to normal growth. Since then, we’ve reported accelerating growth for the past three quarters. Order patterns from our largest customers gave us confidence for the rest of the year. Another encouraging sign is a strong rebound in sales growth we're seeing in India. On the new product front, we are encouraged to see numerous sampling requests for our AccelTRA component program, a high-quality product offering that is built around the most critical and fundamental customer needs for quality, speed, and simplicity. We are also seeing increased customer activity around our patient-controlled self-injection platform SelfDose, as companies seek technologies that make it easier for patients to self-inject. These and other initiatives are seen in the market for future growth. For the full year of 2018, we expect generics organic sales growth in the high single-digits. Turning to Pharma, the sales growth pattern is similar to what we saw with generics over the past two years. Pharma saw customer inventory management issues impacting results beginning in 2017. But our order book has stabilized now and we expect to see sales growth acceleration for the remainder of the year. Within the Pharma market unit, there's increased demand for a universal vial transfer system. To address this, we are adding manufacturing capacity for a Vial2Bag administration system. This capacity comes online throughout the year and will contribute to the anticipated growth we expect. We are also encouraged with the outlook of HVP adoption of FluroTec, Westar RS, Envision, and NovaPure components. For Pharma, we're planning for mid single-digit organic sales growth for the full year with a balanced revenue stream throughout the year. Looking at Biologics, the past two quarters illustrate the quarterly variability primarily driven by launch plans, as well as active stock adjustment programs at large customers. A strong double-digit growth in Q4 was aided by commercial launch activities that did not occur in Q1. To address the challenges we have experienced with inventory management activities of our customers, we have been working closer with the supply chain of our larger customers to better anticipate timing of demand. Understanding the complexities of this supply chain is leading to better transparency and in fact helped us forecast last quarter that Q1 will be soft for Biologics. Using the same methodology, we see a more stable outlook for Q2 in Biologics and accelerating growth for the remainder of the year. We are making good progress with the supply chain partnership program. Given the start in Biologics, full-year growth will likely be in the mid single to high single-digit growth range. However, as we look to the future we remain confident in the strength of this business. We continue to maintain a strong market position with excellent participation on FDA molecular entity approvals. Our high-value components are the go-to standard for Biologics and biosimilar customers. And demand is building and forecast to grow throughout the year. High-value product adoption remains the key focus for Biologics and for all our market units. We are seeing good adoption rates for NovaPure components, Envision expected components, and our administration systems. These products are key to addressing the challenges our customers are facing across all market units. They represent our highest quality offering and therefore yield better margins for the business. We expect high single to low double-digit growth for our HVP portfolio for the full year. Turning to Contract Manufacturing, we had another strong quarter of sales growth. Our CMT was doing a great job of providing our customers with expertise in high precision, high-volume injection molding and assembling. A great example is our recently expanded Dublin, Ireland facility. Just a few weeks ago, I toured the facility and was impressed with the level of activity. It was less than two years ago when we expanded to a second building. Now that building is running on all cylinders and we’re looking to meet growing demand with further expansion within our current footprint. At the same time, our business is continuing to evolve to meet the needs of our customers we serve. As an example, we’ve recently added new capabilities such as cold storage drug handling in Arizona and will soon be installing the same technology in Ireland. These new capabilities accelerate our strategy to provide strategic and high-value products and services for our CM customers. We expect continued progress in 2018 with high single-digit growth for the year. While our commercial team continues to engage customers about what is most important to them in terms of products and services, as noted on Slide 5, our operations team is also focused on improving the customer experience across all segments and units. Our unified global manufacturing team is working across all our sites to improve safety, quality, and service to our customers, while reducing overall costs. We are seeing good progress on each of our key performance metrics and our previously announced restructuring program is on track. We are looking forward to delivering the first commercial sales in our newly constructed Waterford site in Ireland later this year. We are also working to transfer high-value product technology to Waterford so we can serve customers even more fully from the state-of-the-art site in the future. Waterford is now part of our unmatched global manufacturing footprint through which we are delivering industry-leading lead times with the highest level of quality. I'm especially pleased to see how our teams are working to continuously improve our performance in the future to exceed our customers' expectations. With Q1 behind us, we're well-positioned for the remainder of 2018. We are reaffirming our full-year 2018 organic sales growth guidance of 6% to 8%, and we are reaffirming our overall sales and adjusted EPS guidance. Now I'll turn it over to our CFO, Bill Federici, who will provide more color on our financial performance and details on our long-term outlook.

Thank you, Eric, and good morning, everyone. We issued our results this morning, reporting first quarter 2018 earnings of $43.6 million, or $0.58 per diluted share versus the $0.81 per diluted share we reported in the first quarter of '17. Our Q1 '18 reported results include $3.3 million or $0.04 per diluted share of restructuring and other charges, resulting in adjusted diluted earnings per share of $0.62. Our financial results are summarized on Slide 6, and the reconciliation of non-GAAP measures are described in Slides 12 to 14. Our Q1, 2018 reported results also include a $2.1 million or $0.03 EPS tax benefit associated with share-based payments, whereas Q1, 2017 included $15.9 million or $0.21 EPS tax benefit. Our results for Q1, 2018 were impacted by the new revenue recognition rules and the new pension expense classification rules. While the new pension rules had no net impact on EPS, the new revenue recognition rules accelerated the recognition of certain revenues. The adverse impact to our Q1, 2018 sales was $3 million, and we expect the full-year adverse sales impact to be approximately $6 million. Our working capital has been and will continue to be adversely impacted by the acceleration of revenue recognition. The adverse impact on Q1 working capital was approximately $3 million, or two days. Turning to sales, Slide 7 shows the components of our consolidated sales increase. Consolidated first quarter sales were $415.7 million. Excluding the currency translation effects and the effects of the deconsolidation of our Venezuelan subsidiary and the lost consumer products contract manufacturing customer, our consolidated Q1, 2018 sales would have increased by 4.1% versus the prior year quarter. Proprietary product sales increased 1.3% versus the same quarter in 2017, excluding exchange effects and the effects of the deconsolidation of our Venezuelan subsidiary. Sales price increases accounted for just over 1% of the sales increase in the current quarter. Our high-value product components and systems sales increased 2.2% versus the prior year quarter. While our generics market unit business saw a return to high single digits in the current quarter, as expected, the current quarter’s HVP sales were adversely impacted by customer inventory management, especially in our Pharma and Biologics market units. The current quarter's HVP sales as a percentage of total proprietary sales were essentially flat versus the prior year quarter and represented more than 55% of our total proprietary product Q1 2018 sales. For the full-year 2018, we expect high single to low double-digit sales growth in high-value products. CZ and SmartDose sales were $9 million in the current quarter, $8 million in the prior year quarter. Contract manufactured product net sales increased by 7.9% X currency versus the prior year quarter despite the loss of a consumer product business customer. A favorable mix of products sold, volume increases, and pricing drove the increase in Q1, 2018 sales. This quarter's growth was favorably impacted by continued strong demand for some customer projects in our Dublin facility. We expect high single-digit sales growth in contract manufacturing for the full-year 2018. As provided on Slide 8, our consolidated gross profit margin for Q1 2018 was 32.3% versus the 34.6% margin we achieved in the first quarter of '17. Excluding the adverse effect of the deconsolidation of our Venezuelan subsidiary, the lost consumer products contract manufactured customer, and the under absorbed overheads in Waterford, our Q1 2018 gross profit margin would have increased by 20 basis points versus the prior year quarter. Proprietary products first quarter gross margin of 37.1% was 220 basis points lower than the 39.3% achieved in the first quarter of '17. The decrease in gross margin is due to the unfavorable mix of products sold, the under absorbed overheads in Waterford, and the Venezuelan deconsolidation, partially offset by increased prices and operational efficiencies in another facility. Contract manufactured products' first-quarter gross margin decreased by 150 basis points to 14.8% compared to the prior year quarter. The current quarter's lower gross margin is primarily due to the adverse effect of the lost consumer product customer, partially offset by the favorable mix of products sold and operational efficiencies in our Dublin facility. As reflected on Slide 9, Q1 2018 consolidated SG&A expense increased by $5.9 million versus the prior year quarter. As a percentage of sales, first quarter 2018 SG&A expense was 16.4% versus 16.1% in the first quarter of '17. Foreign currency exchange increased SG&A expenses by $2.3 million. We also experienced higher compensation expense, including merit increases and increased outside service costs, offset by less SG&A associated with the deconsolidation of our Venezuelan operations in Q2 2017. Slide 10 shows our key cash flow metrics. Operating cash flow was $45 million for the current quarter, $24 million more than the prior year quarter, primarily reflecting a $20 million voluntary pension contribution made in the prior year quarter. Our capital spending was $28 million in the current quarter. We expect to spend less than $150 million in capital in 2018. More than half of our planned capital spending is dedicated to new products and expansion initiatives. Slide 10 also provides some summary balance sheet information. Our balance sheet continues to be strong and we're confident that our business will provide necessary future liquidity. Our cash balance at March 31st of $200 million was $36 million less than our December 2017 balance. Approximately $48 million of our cash was used to buy back 540,000 shares of our common stock under the board-authorized year buyback plan. Yet at March 31st, our cash balance of $198 million is roughly the same level as at year-end. On a net debt to total invested capital ratio basis, we are essentially deleveraged. Working capital of $480 million at March 31 was $16 million higher than at year-end, the majority of the increase is due to the decrease in our cash balances, being more than offset by increases in our receivables related to the growth of our business and the impact of the new revenue recognition accounting rules, as well as less accounts payable and accrued expenses at this quarter's end. Our committed proprietary product orders of $428 million at March 2018 were 11% higher than at year-end, but 3% lower than the March 2017 orders excluding exchange due to the current reduced order lead times. Turning to Slide 11, we are reaffirming our full-year 2018 sales and EPS guidance range reflecting the favorable Q1, 2018 foreign currency exchange rate, offset by less Q1, 2018 excess tax benefit on stock transactions than we had previously anticipated. We expect our 2018 full-year effective tax rate to be approximately 26%, excluding the impact of the tax benefit from option exercises. Despite the euro exchange, the spot rate increased to $1.22 per euro, we have conservatively based our guidance on an exchange rate of $1.20 per euro, the same rate used in our prior guidance. Our 2018 guidance excludes any expected additional expense associated with our restructuring program. I now like to turn the call back over to Eric Green.

Thank you, Bill. Before we close, I want to share some customer feedback. We recently wrote to the panel of global customers representing all our business segments and market units. We asked these customers to provide feedback on our performance and what makes for an ideal industry partner. They talked about the criticality of high-quality, security of supply, and scientific excellence. And we're pleased that West rated highly in all those fronts. Importantly, they talked about wanting a partner who could help them differentiate their products to offer more value to patients. They want flexible dosing, wearable devices, connectivity, digitization, and innovation. They’re also looking for suppliers that added samples of long drug development cycles and the need for speed and flexibility and how best to partner along the way. At West, we're proud of our long-standing partnership with the injectable drug industry that these customers represent. In fact, earlier this month, we celebrated our 95th year in business. And while we have celebrated that milestone, our focus is on what the next 95 years will bring, and how we can continue to grow our business into the future. As we look to the rest of 2018, our focus is on execution. We're working with our customers across all the markets to deliver products and services that meet their unique needs. Our global operations team is working to improve safety, quality, and service for customers, while reducing our overall costs, and we're anticipating the future and what our customers and their patients will need as we develop new products and new capabilities to service them. Our market-led approach is resonating with our customers and we're confident we will continue to see future growth for the remainder of the year. Brian, we’re ready to take questions. Thank you.

Hi, everyone. Thank you for taking my questions. I wanted to gain a clearer understanding of sales growth. I noticed the slide showing your growth tracking by end market segment and I'm curious about how you plan to move from 0.2% in the first quarter to a forecast of 6% to 8% for the full year. Could you walk me through that, especially regarding Biologics, but also breaking it down by client segment? That would be very helpful. Thank you.

Yes. David, good morning. Thanks for the question. I will start with the Biologics area. As we commented on, this particular part of the business we’re seeing some variability because of when customers are buying high-value products, starting their clinical phase for evaluation such as line trials or part of the delivery system, are being developed specific to anticipated approvals. So when the launches occur, there is a buildup, and then there's somewhat of a wait until a replenishment of the inventory, so we’re seeing a little bit of variability in the Biologics. Saying that, we are pretty confident when we start looking at the order book and future projects we are currently working on in Q2, Q3, and Q4. That gives us confidence that we're able to drive organic performance of mid single to high single-digits for the full year. In the Pharma sector, that particular market unit, if you strip out the headwind they had in Q1 specifically around Venezuela which not all of that, a good portion of the Venezuela operations was under Pharma. And as you know when that shutdown with minimal revenue coming back to West going into that market with those operations not working. So we are thinking about the Pharma uptick and the high-value products. We also see the administration system business over capacity constraint today will be additional capacity online starting this quarter. And we will be able to push that through to our customers who are pulling the demand today for us. So for Pharma, we’re feeling much more comfortable that we will be back to our typical growth rates. We will look at the revenues; it's more stabilized each quarter versus the fluctuation. Just to finalize on the generics, it has come back as we anticipated, but actually a little bit stronger virtually, but the outlook is even greater. The reason why I would say little stronger than we anticipated, we didn’t anticipate India to come back as fast as it did in Q1. That was a very strong performance. In fact, all of Asia was very, very strong growth across all of Asia Pacific for us. So we believe the generics base will continue to deliver as we’ve seen this quarter, but going forward. So if you bring that all together, that gives us a little bit higher than that 6% to 8% quarter for Proprietary. The full average for the full year is 6% to 8%. I’m not going to say much for contract manufacturing; that's pretty much isolated, and you can see it. But David, last comment, high-value products are the key driver of that growth. So as we look at the next three quarters, we’re looking at growth rates of high single low double-digits with a high-value product portfolio.

So just to clarify, I mean, numerically from a basically zero starting point in the first quarter, a lot of your guidance you’re talking kind of hovers around high single to low double. Don’t you need solidly double-digits to drag the average up to 6% for the year?

Yes, we do, Dave. That's what we’re looking at, if you look at through the pacing of the quarter, it’s building up towards that, but its back half of 2018. It's going to be much stronger than we had in the first half and its a little bit of a comp issue too. We're sort of thinking about the back half of last year.

Yes, okay. And then maybe one last question before I turn it over to others. On the qualitative side, I was considering the impact on lead times and inventory. We have discussed for several quarters how there were bottlenecks that you addressed, but during those bottlenecks, clients overstocked and built up inventory. Now that those issues have been resolved, we're facing a tough comparison as they adjust to those changes. While I believe these are generally related issues, we have also described similar situations in Biologics. However, I think the issues there are different because it seems like they involve whether clients are launching products or not. Are those delays? Do you have visibility on that? Am I correct in thinking that the nature of the two issues is different, leading to less confidence that we'll overcome the challenges in Biologics as easily as the general issues?

Yes, that's a great observation. When we consider generics, you're right that many of the bottlenecks we experienced a year and a half to two years ago were related to our high-value product portfolio and converting generics customers to that segment. Because we weren't able to produce, lead times increased significantly. I believe we have clearly moved past that. In the generics space, we are now achieving record cycle times that are faster than anyone else in the industry today. Regarding Biologics, you are correct that it differs somewhat from generics. While it still involves the high-value product portfolio, a significant part is focused on preparing for launches and drug acceptance in the market. That’s what we are observing. I can assure you that what we've learned from working with generic customers and our top customers, where we have aligned supply chains, is helping us map out demand curves for major launches. This enhances our anticipation not just in Generics but also in the Biologics sector. Therefore, we have increased confidence in Biologics. Although the cycle times are shorter and ordering in advance isn't as critical, the primary concern still revolves around drug launches and their cyclical nature.

All right. As promised, I will step out. Thanks.

Great. Thank you, Dave.

Great. Thanks. Good morning, guys.

Good morning, Larry.

A follow-up on the backlog question. You have done an excellent job of reducing lead times. Historically, backlog has been somewhat of an indicator of future growth, although there have been some nuances, especially recently. The fact that you are essentially flat year-over-year raises questions. Does your forecast suggest even more customer conversations? In other words, how do you anticipate achieving low double-digit growth this year despite a relatively flat backlog? Additionally, now that you have more capacity, have discussions opened up about modifying some existing products or transitioning more towards high-value offerings?

Yes, those are good questions. Thank you. Regarding the backlog, you're absolutely correct. What we see today is a different profile compared to the past. Historically, we had good visibility with the backlog evenly spread over the next three to four quarters. Now, although the numbers are flat, a larger portion of the backlog is more short-term. If I consider Q2 and Q3 together, it reflects that cycle times are shorter, and customers are less inclined to place long-term orders. This doesn't mean they aren't considering potential sources. We are the preferred supplier for the products they plan to launch. We're simply performing at a much higher level than before, thanks to our lean initiatives and capacity expansion. This gives us a solid foundation. So, I believe we are focused on a more near-term outlook for the backlog rather than a long-term one. That’s the shift in dynamics. Regarding capacity, you’re right. We are actively discussing with our customers transitioning from standard products to high-value products.

Okay. Just a question in terms of the cadence of growth, you can grow after the year. I know you guys got it quarterly, but it sounds like maybe a little bit improvement in Q2, but most of the sequential improvement will really occur in three and then into four, is that sort of good assessment?

Yes, Larry. I think you will find consistent growth around the generics. Pharma, as I mentioned, would be more consistent from a revenue perspective, but on a comp perspective you will see it accelerate as a percentage because the comp is less than in 2017, and Biologics, we will see a continued acceleration throughout the year.

Okay, great. Thanks.

Thank you, Larry.

Hi. Thank you very much for the questions. I guess my first one and just following up on just the cadence throughout the year. Can you just talk a little bit about just the gross and operating margin progression that we should expect? I mean, will that generally follow revenue growth or is there any lumpiness that we should be thinking about in terms of just margin improvement throughout the year?

Yes, Dana. Thank you. Yes, it will be more progressive as the year goes. It was, as we said, a very tough comp in the first quarter. As we go through the year with both high-value product expansion and the growth in sales expansion as we talked about, we believe that that margins will get better as the year progresses. So, yes, definitely back half ended and progressing as the year goes.

Okay, great. And just my second quick follow-up, just on the bigger picture on competition, I believe a few of your larger competitors have announced investment in expanding capacity. Just how are you thinking about the supply-demand equilibrium in the medium-term across standard products, across high-value products and just, I guess, the potential for competition on new business? Thank you.

Yes, Dana, we are aware of our competition. We are continuously investing in specific areas of the business. To give you some perspective on the volumes we currently produce, it's lower than $40 billion in components per year. When we start a new site, like we did with Waterford back in 2014, it takes time. We’re now in discussions with customers who are validating the lines, and we expect to generate commercial revenues in 2018. Our process is quite similar to other companies since the building and validation stages are consistent. However, we recognize that our competitors are also increasing their capacity. We are engaging in active conversations with our customers to progress towards higher-value products. As we consider differentiation, it mainly revolves around quality and service availability, which we believe we have significantly improved over the last 12 to 18 months. We are not complacent; we understand the current landscape, but we are confident that we will maintain a favorable position due to these factors.

Thank you.

Hi, Eric. When is Waterford coming online?

Yes, Paul, we are currently validating our product with customers. We have conducted samples and are making adjustments needed for manufacturing at our Waterford facility, both for existing and new products. There is certainly a validation process involved. In the third quarter, we anticipate commercial revenues, which will mark the official launch and growth as we move forward through the quarters. I must say I’ve visited the site several times, and it is exceptionally well-positioned. Our customers have expressed strong appreciation for what we are doing, not only in replicating current processes but also in advancing them to the next generation. There is considerable interest, and we have had many visitors on-site for future business. So, we look to Q3 and beyond.

What is the SG&A expense for this interim quarter?

Okay. Go on.

So, Paul, it really impacts more costs. The under absorbed overhead was $3.6 million in the quarter. We will see a similar amount in the second quarter, but as you remember we discussed last year, we started depreciating the plant in the second quarter. So you will start to see that under absorbed overhead as it's comparable to last year. We will start to update and as we start to get from the commercial activities in Q3 and beyond, that number, the unabsorbed overhead, will lessen as we go through the year.

And then lastly CapEx you're saying down this year below 150; what's it look like after this year?

Yes, Paul, one of the changes we implemented about a year and a half ago is that we have formalized our global operations, which we have always considered but now have structured more systematically. We currently operate 28 manufacturing sites, allowing us to allocate resources more effectively for investment in centers of excellence. We are looking at our capacities, with projects such as the one in Kinston and expansions in Dublin. This year, we expect our capital expenditures will be below $150 million, and we anticipate staying in that range moving forward, with a continuous decline as a percentage of sales. To give you a clearer perspective, approximately $50 million to $60 million of our capital expenditure is dedicated to maintenance. To maintain high quality and productivity at our facilities, these investments are essential. A portion of our spending is also directed towards IT, combining maintenance with future growth opportunities. The remainder focuses on new products, innovations, and new high-value portfolios entering the market. That’s how the expenditures are divided.

Okay. Thanks.

Thank you, Paul.

Thanks, guys. Looking at the core proprietary product revenue, down about 2% year-over-year, can you sort of parse out how much of that was volume versus how much was mix? And is it safe to assume that the volumes are going to rebound in the back half of the year? I know you talked a lot about HVP being a key driver from here, but just want to get a feel for the volumes bounce and back other than just easier comps coming up?

Yes, we believe the lines will continue to grow based on what Eric mentioned earlier. We don't differentiate between volume and mix except when it comes to high-value products, which were also down this quarter. However, we anticipate that for the full year, there will be high single to low double-digit growth in high-value products. Consequently, you can expect us to continue to accelerate in both volume and mix. Our structure is about 1% price, 2% to 3% market volume, with the remaining growth attributed to mix. Although we didn't experience significant growth in the first quarter, Eric noted that we haven't lost any business, and we plan to continue to grow this business as we believe this structure is effective for us. Therefore, we expect more growth in the back half of the year, including both volume mix and a slight increase in price.

Perfect. And then on the contract manufacturing side, you talked about losing the consumer, customer filling that with a healthcare line. What’s your line of sight for when that’s going to stop being a drag on margins?

Well, that was resolved quickly. The consumer business that we lost and brought in-house will affect us for the entire year of 2018. We ended that relationship at the close of 2017, and it will have a somewhat ongoing impact throughout 2018. However, I must say that achieving high single-digit performance despite that loss is quite commendable, due to our strategic focus on the healthcare sector driving that performance. Bill, would you like to continue?

Yes, just one extra thought on that. There are two components that affected Q1. One is obviously the margin on the products sold. The other is the under absorbed overhead that arises when you take the product out. As part of the restructuring plan we discussed, we will be combining those two contract manufacturing facilities in the U.S. into one, which will happen in the latter part of 2018, in the second half. Consequently, you'll see that under absorbed overhead issue diminish, resulting in less of a drag in the latter half of the year. However, as Eric mentioned, the strong growth in healthcare is certainly a net positive for that business moving forward.

Thanks, guys.

Thank you.

Hi. Good morning.

Hi, Derik.

Hi Bill, I have a question. When you look at the second quarter regarding exchange rates, what is your model reflecting for FX in the second quarter and for the rest of the year? I noticed that 7% was significantly higher, and Q1 also exceeded our expectations.

Yes, you’re correct. In the first quarter, the exchange rate was €1.23 per dollar, while for the remainder of the year, we've set it at €1.20. Although the current spot rate is €1.22, we opted for a conservative approach regarding foreign exchange growth. As you may recall, a $0.01 shift in the ratio for the entire year will result in approximately a penny of earnings per share. We previously projected this at €1.20 and have maintained that estimate for now. There was some advantage in the first quarter, and we're being cautious by stating we will stick to €1.20 for the rest of the year. Therefore, for the second quarter, using the €1.20 rate, you can expect about $0.04 of earnings per share growth compared to the previous year.

Okay. And so that was about the same rate then in the first quarter, about $0.04 benefit?

It is a little higher than that, Derik because we had €1.23, not $1.20. So in the first quarter …

$0.07.

$0.07 FX, got you.

I'm curious about your clean balance sheet and your plans for utilizing it going forward. Are you considering leveraging it a bit more for perhaps more aggressive buybacks? Given the company's growth profile, I'm wondering what your strategy is regarding the balance sheet.

Yes, Derik, I would like to talk about a couple aspects of that, use of cash. Number one is, as you know, we want to continue to fuel the high-value product portfolio with internal organic investments. But in addition to that is continuously looking at potential bolt-on technologies or broaden the product portfolio. I would argue in the last 2.5 years, my tenure here we’ve been not very inquisitive in that space. But I think we have a good position, a good line of sight where our customers are asking us to look at part of as broaden the portfolio and we will take that into consideration as we move forward. But we, obviously, are giving the dividends, we are doing share buyback this year. The Board authorized about $30 million worth of shares really to keep the share count somewhat neutral for the balance of the year. But that’s generally how we look at the use of cash today and we are looking at that on a regular basis. We don't see that static. The dynamics do change and there's more opportunities in lever or the other to make sure we balance between our customers and our shareholders, we will do that.

Great. And just one final thing, I just noticed on the slide 4, you called out some reclassification, some sales in your Pharma segment. Can you sort of talk about what that is? And I think it had sort of the impact of maybe making the 2Q comp a little bit tougher?

It doesn’t have anything to do with 2Q comp, but it is as you suggest, Derik, we’ve looked at the way that we record those sales by the market units and there needs to be tweaking from time to time based on customers order, things in the Biologics space, the Pharma space, and the generics space. It is difficult to parse it out between the various market units. We’ve gone through and we’ve periodically gone through and looked at it. These are very, very small changes, they're not significant. In fact, for the full year, it's less than 1 percentage point. So we just want to be absolutely transparent, but really that was very, very small.

So it's just a matter of how your customers are being defined and what that means. That's how you're approaching it?

Yes, it's not about how we define them. If we have a customer that we sell Bio, Pharma, and Generics to, and we do have such customers, distinguishing between those three categories is not an exact science. We review this periodically to ensure accuracy. To reiterate, there is no change in the overall portfolio of proprietary products. None of these changes fall outside that; they all remain within those three categories.

Great. Thank you.

Thank you, Derik.

Thank you, Derik.

Thanks, Brian, and thank you all for joining us on today's conference call. An online archive of the broadcast will be available on our website in the Investor section. Additionally, you may access a telephone replay through Thursday, May 3 by dialing the numbers and conference ID provided at the end of today's earnings release. This concludes today's call. Have a nice day.