Ladies and gentlemen, thank you for standing by, and welcome to the Charles River Laboratories Second Quarter 2018 Earnings Conference Call. At this time, all participants are in a listen-only mode. Later, we will conduct a question-and-answer session and instructions will be given at that time. And as a reminder, this conference is being recorded. I would now like to turn the conference over to our host, Todd Spencer, Corporate Vice President of Investor Relations. Please go ahead.

Thank you. Good morning and welcome to the Charles River Laboratories Second Quarter 2018 Earnings Conference Call and Webcast. This morning, Jim Foster, Chairman, President and Chief Executive Officer; and David Smith, Executive Vice President and Chief Financial Officer, will comment on our results for the second quarter of 2018. Following the presentation, they will respond to questions. There's a slide presentation associated with today's remarks, which is posted on the Investor Relations section of our website at ir.criver.com. A replay of this call will be available beginning at noon today and can be accessed by calling 1-800-475-6701. The international access number is 320-365-3844. The access code in either case is 451293. The replay will be available through August 22. You may also access an archived version of the webcast on our Investor Relations website. I'd like to remind you of our Safe Harbor. Any remarks that we make about future expectations, plans and prospects for the company constitute forward-looking statements for purposes of the Safe Harbor provisions under the Securities Litigation Reform Act of 1995. Actual results may differ materially from those indicated by any forward-looking statements as a result of the various important factors, including but not limited to, those discussed in our Annual Report on Form 10-K, which was filed on February 13, 2018, as well as other filings we make with the Securities and Exchange Commission. During this call, we will be primarily discussing results from continuing operations and non-GAAP financial measures. We believe that these non-GAAP financial measures help investors to gain a meaningful understanding of our core operating results and future prospects, consistent with the manner in which management measures and forecasts the company's performance. The non-GAAP financial measures are not meant to be considered superior to or a substitute for results of operations prepared in accordance with GAAP. In accordance with Regulation G, you can find the comparable GAAP measures and reconciliations to those GAAP measures on the Investor Relations section of our website through the financial information link. I will now turn the call over to Jim Foster.

Good morning. We're very pleased with the company's performance and the continued execution of our growth strategy. We believe our growth is indicative of an extremely healthy market environment and our position as the premier early-stage CRO with the unique ability to support our clients from target discovery through nonclinical development. Biotech funding from the capital markets is on track to reach the second highest level on record. We believe that our clients, both large and small, are intensifying investments in their pipelines, which is creating new business opportunities for Charles River. The time is now to capitalize on these opportunities and we believe that it is incumbent upon us to continue to invest in our portfolio, our people and our infrastructure to enhance the value that we provide to our clients and to our shareholders. The investments that we have already made to support robust client demand are generating the intended benefits, resulting in sequential improvement in the second quarter organic revenue growth rate and operating margin. We are optimistic that the progress we have made, and the favorable market conditions will continue in 2018 and beyond. This is reflected in our expectations for higher revenue growth, earnings per share, and free cash flow this year. Let me begin by giving you the highlights of our second quarter performance. We reported revenue of $585.3 million, a 24.8% increase over last year. Foreign exchange benefited revenue growth by 2.6%, and the acquisitions of MPI Research, Brains On-Line and KWS BioTest contributed 15.1%. The organic revenue growth rate of 7.1% improved from the first quarter level, reflecting sequential improvement in both Manufacturing and RMS segments. The DSA segment continued to perform quite well, reporting high single-digit organic growth. Revenue growth was broad across our spectrum of clients, with both biotech and…

Okay. Thank you, Jim; and good morning. Now, before I begin, may I remind you that I'll be speaking primarily to non-GAAP results from continuing operations, which exclude amortization and other acquisition-related charges; costs related primarily to our global efficiency initiatives; the divestiture of CDMO business in 2017; and certain other items. Many of my comments will also refer to organic revenue growth, which excludes the impact of acquisitions, the CDMO divestiture, and the impact of foreign currency translation. We are pleased with our results for the second quarter, which included strong revenue, earnings per share, and free cash flow growth. Second quarter earnings per share were $1.62, an increase of 25.6% year-over-year and outperforming our expectations. Along with the strong revenue growth and higher operating income due in part to the contributions from the MPI acquisition, earnings per share were aided by venture capital investment gains of $0.17 per share compared to $0.03 in the second quarter of last year, and a lower tax rate due primarily to modest benefit from U.S. tax reform. The outperformance to our prior outlook was driven primarily by the venture capital investment gains. Our initial guidance for 2018 included an estimate of venture capital investment gains of $0.14. VC investment gains for the second quarter were $0.17 and total $0.26 year-to-date. The year-to-date gain was substantially higher than our initial full-year estimate. And because we do not forecast the performance of these funds beyond our annual expected return, we have not included any gains in the second half of the year. As a reminder, given the inherent difficulty of forecasting VC gains or potential losses, we intend to eliminate the VC investment performance from our guidance beginning in 2019. Unallocated corporate costs were $36.6 million or 6.2% of revenue, which is below last…

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

Thank you. Our first question comes from the line of Tycho Peterson, JPMorgan. Please go ahead.

Hey, thanks. Jim, I want to start with maybe the drivers of greater than expected MPI strength. Can you talk about how much of this was legacy impact, pipeline versus your legacy Charles River clients adding work? And then, if I could ask one follow-up. On the study mix issues, how long do you expect this to persist and weigh on margins? Thanks.

The study mix is difficult to predict but follows a typical pattern. So, you want a mix of long and short-term studies. And you don't typically have long-term studies unless you have the short ones. So, you sort of have the life cycle issue. You have higher start-up costs for the long-term studies, which we talked about a lot on the last quarter call. We're working through those. We're in a more standard phase of the long-term studies, where the margins are actually comparable to some of the short-term works. So, given the backlog and bookings and mix shift, which we saw from quarter one to quarter two, and we are guiding you for second half of the year, we anticipate strong half of the year, both top line and bottom line in DSA, and obviously, in the SA part of that as well. Not sure exactly what your MPI comment was.

Yeah, just on the strength. How much was legacy MPI pipeline versus Charles River customers adding work?

Yeah. I mean, it's both. MPI performed extremely strongly, as well or better than we had anticipated. Maintaining clients, delivering the margins, having some of their legacy clients be open and begin to utilize Charles River locations. And the inverse, Charles River clients who have historically not been MPI clients were, of course, where we have space, beginning to utilize that. So, we're extremely pleased with the integration process and the client receptivity from both sides of the house.

Okay. Thank you.

Sure.

Our next question is from David Windley, Jefferies. Please go ahead.

Hi. Thanks for taking my questions. Good morning. Jim, a lot of emphasis on investment in the platform this morning in your comments. I was hoping you could elaborate on, say, what the trigger was for this. Was this a long evaluation in terms of looking at what needed to be done? And maybe a little bit more elaboration on how you're streamlining the senior management structure in light of – I think you just promoted Davide in February of this year. So, just trying to understand how this evaluation has progressed and brought you to this point. Thanks.

Sure. So, significant investment in people and space, and meaningful investments in IT, and that's just a function of the scale and size and growth rate of the company. Labor is our principal resource, competitive advantage and always the rate-limiting factor. So, you need people in advance of the work – not too far in advance, that hurts your margins. But you can't sort of hurry up and hire them once you have the work, because it's some months to many months of training. So, given the competitive nature of the markets that we're in, and given our need to hire hundreds and hundreds of people, we made some adjustments to base pay, which we're sure will bear fruit. We're going to continue to invest meaningfully in IT, principally for clients: Enhance client interface; use data better; and of course, the cybersecurity, which keeps everybody with one eye open while they're sleeping. And we want to keep as far ahead of that process as possible. On the organizational structure, we made a significant move in the last couple of months to more decentralize the way we run the business, so that we really have business leaders and GMs who feel as if and have the ability to run their own businesses and make decisions quickly and decisively. And so, we've married some of the staff functions, which we're reporting in corporately with those operating folks, so they have their own teams. And we're already quite confident that we're beginning to pick up the pace of decision-making and have that decision-making closest to where the issues arise. With regard to the COO position and Davide, that's merely a larger commentary and reflection of the organizational efficiency that we're driving for. And while that was a relatively recent move, as you've indicated, it's also – it was a novel move. So, a 70-year-old company that never had a COO. And what we found was that, that layer was not beneficial in terms of the speed with which we're moving, and to some extent, sort of counterproductive to that. So, in that context, we eliminated that role. So, the organization feels more nimble. We have lots of really smart people. And the less top-down decisions are made, and the more, as I said before, closer to the decisions as possible, I think the better off we are.

Got it. Thank you. I appreciate the answers.

Sure.

Our next question is from John Kreger, William Blair. Please go ahead. John C. Kreger - William Blair & Co. LLC: Hi. Thanks very much. Jim, just to follow on, on Dave's question. Given the big demand opportunities that you talked about, has your thinking changed at all in terms of what businesses you want to be in? Are you sort of expanding the boundaries of where you see Charles River having a competitive edge? Thanks.

So, I guess you're talking about both organic investment and M&A. And I would say, not. We intend to stay in the non-clinical arena. As we, I think, posted in our first quarter call, we have about a $15 billion market, if you aggregate all of our businesses growing at sort of mid-single digits. So, it's a big market, one where we have leading market shares in virtually everything we do and opportunities to enhance those shares. We are investing meaningfully in organic growth in places where that's the best way to grow, but – well, no buts. Additionally, the M&A pipeline is quite diverse and quite robust. There's a lot of assets out there. As always, we have multiple conversations going on now. I would say that we have increasingly less strategic competitors as we look at some of these and perhaps more financial sponsors looking at them. While sponsors often pay up, they should never have both the top or bottom line synergies that we have. So, we have a vision and a view towards how we will continue to expand and enhance our portfolio, not just to be bigger, but to be more responsive partner for big pharma; and particularly, for biotech, and all the areas that we're in, particularly, Discovery, maybe Safety, definitely China, more large molecule-related services, probably more laboratory-based services. So, I would say that fill in some very subtle areas where we are under scale and expand some areas where we have significant scale but need to be larger. And I continue to feel that our portfolio is the principal competitive advantage we have both in terms of the quality of the science, but also the depth and breadth of the activities that we are very good at, and solving a lot of problems for clients, if you look at most of biotech, who will never build this sort of capacity. I can say that with authority. They just will never do it. It makes no sense for them. And the ability for them to do it on a cost-effective basis quickly outside to get great science is really the role that we are increasingly playing. John C. Kreger - William Blair & Co. LLC: Thanks much.

Sure.

We have a question from the line of Ricky Goldwasser, Morgan Stanley. Please go ahead. Mark Rosenblum - Morgan Stanley & Co. LLC: Hi. It's Mark Rosenblum on for Ricky. I just had a question on the digital interface that you guys mentioned in your prepared remarks. Could you just give some examples or some context of what kind of services you're building out for clients?

So, it's a whole host of things. It's everything from online ordering to really using our data better to design studies – both predict the end points, design studies, and in a perfect world have some linkages with the clinical folks, so that you design clinical studies and pull that all the way back to pre-clinical. Probably most importantly though is availability of data on essentially a real-time basis for our clients that they can access themselves. So, if you think of how our business is evolving literally with thousands of biotech clients, the scalability of that model is very much dependent on some additional people, which we've added. We added a whole group of what we call alliance managers this year to interface with some of the smaller clients and shepherd them across our geographic portfolio. But the real magic there will be for clients to feel that they have control over the day, that they're knowledgeable about it, that they can look at it at their leisure realtime. And if they have a question or a problem, or want to, or need to talk to somebody, they can do that. So, data, as you hear a lot from the clinical folks, is a really important part of this business. Our ability to use data that we have from thousands of studies in a more predictive way, I think, will be powerful if we're successful in that. But certainly, having clients have access to their own data is not optional, it's definitely essential. And we are building that process out as we speak. Mark Rosenblum - Morgan Stanley & Co. LLC: Got it. And just a follow up, do you have a sense of timeline on how long it will take to build these interfaces?

It's going to be sort of continual. Aspects of it will be beta-tested, then rolled out, and then added to continuously. So, I'd say, over the next couple of years, we will make meaningful moves in these areas. That should enhance the people that we have, and we hope, obviously, distinguish us from the competition. Mark Rosenblum - Morgan Stanley & Co. LLC: Okay. Thank you.

Sure.

We have a question from the line of Derik de Bruin, Bank of America. Please go ahead.

Hi. This is Juan Avendano on behalf of Derik. Congratulations on the quarter. Would you be willing to break out the organic revenue growth performance and DSA between Discovery and Safety Assessment? And also, what's the breakout embedded in your high-single-digit guidance for DSA in 2018?

Yeah, so, we would always love to be responsive to your questions, but we're just not going to do that. It's important that we all look at that segment as one. We want clients to start with us as early as possible. And if their drug continues to look promising, to work with us in the discovery phase, and as we move into the pharmacology phase, and into the GLP tox phase. So, the holistic view by both our shareholders, and our clients, and ourselves is pretty important. And we made some operational changes last quarter with the way we operate this. And we have a senior operating person overseeing both businesses: A senior finance person; senior IT person; HR, etcetera. So, we would like you to gray the demarcation, but suffice it to say, that we're happy with the growth rate in the second quarter. We think that will intensify in the back half of the year, so we will be happier. We're doing a very good job taking share. And we have 20% of folks who use Discovery, also use Safety. And we have about half of the clients in Discovery, who do integrated studies with us, work across multiple sites. So, we're seeing the expansion and the utilization of the portfolio exactly the way we had hoped when we bought all of these businesses.

Okay. Thank you. And if I may have a follow-up. The study mix improved sequentially, but it was still a headwind to DSA operating margin. Besides the mix of long-term and short-term studies, what are the trends that you're seeing across general toxicology and specialty toxicology studies? Is this also contributing to the unfavorable study mix that you're seeing?

No, I mean, it's mostly mix, very much mix. And it is and will work itself through the year. And as I said earlier, we want a healthy mix of both short and long-term studies, so we do have that and will continue to have that. So, no, nothing more than that.

Thank you.

Our next question comes from the line of Ross Muken, Evercore. Please go ahead.

Good morning guys, and congrats. So, on Manufacturing, maybe just tease out a little bit sort of the sequential improvement in the biologics business. Seems like activity levels were up there, which I'm sure some of it's seasonality. That seems strong. In Endosafe and Avian, it seems like those are still going quite well. I guess, how are you still thinking about those for the rest of the year?

So, biologics often has a slow first quarter. We don't know why; just is. Seems the volume tends to be a little bit lighter as it definitely was in the first quarter. And we guided you all to a strengthening in the second quarter, which we both anticipated and achieved. And we anticipate that, that business will, from a volume and demand point of view, have a good year. There's just a plethora of large molecules, and at least the beginnings of biosimilar drugs out there. So, building out a lot of space, hiring a lot of people, highly competitive space. It's definitely our most competitive space, and yet, growth rate is quite robust. And we think this is sustainable for years. Microbial had a really strong quarter, as it usually does, but a really strong quarter across most of the parts and pieces. As we said in the prepared remarks, more instruments sold. And of course, it's all about cartridge sales, so the razorblade sales. And we should continue to see that continue for the balance of the year. And our little Avian business, which had kind of a not wonderful 2017 due to some client issues, totally dislocated from our capabilities and performance – had a nice quarter. That's a okay growth rate business with good operating margins and very large market shares. So, Manufacturing continues to grow at significant double-digit organic growth rates with operating margins in kind of the low to mid-30s range. That is sustainable indefinitely. And we don't see anything on the horizon to impair that. In fact, we do see significant opportunities in all three of those businesses from a demand point of view and a competitive point of view.

That's helpful, Jim. And maybe just one follow-up, quick one. On the VC gains, obviously, it's tough to predict, and it's now built in terms of what we've seen into the full year basic. I guess, how are you philosophically thinking from a guidance standpoint on how to handle this going forward? Because obviously at some point, we may get some pause in that contribution, although the strategic merits are still there. But it could create some noise in the P&L when the underlying is doing very well. So, I guess, what are the debates you guys have gone through in terms of how to account for that and help the Street maybe on a go-forward basis? Model the underlying versus that maybe more accurately.

And so, that's one of the reasons why even at the beginning of this year, we started to signal that in 2019, we didn't want to give guidance for the VCs. We have been judging ourselves against the performance of our organic business, the core business, i.e., with the VCs stripped out, because as you've seen, in recent quarters, they can bounce around quite wildly. And I guess, we're trying to signal to yourselves that we'd like you to consider to consider Charles River and its core business and almost put the VCs to one side, which is why we're essentially saying that, because of volatility, it's our intent to remove the guidance – or in our guidance, the VCs from 2019 onwards.

Got it. Thank you.

We have a question from the line of Donald Hooker, KeyBanc. Please go ahead.

Great. Good morning. So, with respect to the new capacity in China and the research models area, how much capacity does that give you, looking forward, to sustain that high level of growth you're generating in China? I mean, when is sort of do you look down the road and see another capacity addition?

So, it'll be continuous. It's a really big market. On a unit basis, it's certainly as big or bigger. You've got lower price points but lower cost. As we've said before, we have some government competitors who are small and not very sophisticated; and we have some small quasi-independent businesses that compete with us. And none of our sort of standard U.S. or European competitors are over there. So, we have a really wonderful market position. So, we're the principal player in the Beijing market. We've opened this wonderful new facility which, by the way, the part that we opened, we're selling in real strong and are finishing the balance of the building now. That will give us much more capacity. We may need additional spaces in Shanghai market. We're investigating that right now. We, for sure, will need additional capacity west and south. It's a gigantic country and – so, big research centers, and a lot of money being pumped into the Chinese life sciences arena by the government. And so, we look at the world through sort of the lens of five-year strategic plans. We are entirely confident this is a high-growth business, certainly through the five years. I definitely think it's high growth longer than that. And it's not just research models, all of the ancillary services that we have: Genetically engineered model services; our laboratory services. And we hope our insourcing solutions services where we both provide space for clients to work in and manage their space, there's some opportunities there, as well. So, it's early days. As we told you, it's slightly less than 10% of our research models revenue are growing disproportionately fast. So, you'll see that paradigm shift change quickly. Not just that we're biased, but our animals are of definitely of a higher-quality than the competition's, and our science is better. So, if the Chinese folks want to play on the international scene and sell their drugs internationally, I think, they're going to have to use higher-quality animals to do their basic research. So, we're just in a great place. We're spending a lot of time educating that market with seminars, and meetings, and publishing about not just the benefits, but the necessity of using high-quality animals that are of consistently high quality. So, definitely more investment. I think the returns will be fine. It's a necessity. There's maybe some M&A opportunities there, which we'll obviously pursue if we can, if they make sense for us. But we are out and about literally right now looking for additional space, so stay tuned.

Thank you.

Our next question comes from the line of Robert Jones, Goldman Sachs. Please go ahead. Jack Rogoff - Goldman Sachs & Co. LLC: Great. This is Jack Rogoff on for Bob. Thanks for taking my question. Your 3Q guide seems to imply a steep margin ramp in 4Q. Can you talk about the sequential margin cadence you expect for the back half?

So, you're right. There is a steeper climb in the second and the fourth quarter. And that's partly because we're seeing, as we mentioned in terms of the DSA study mix, washing through and returning to normal sort of levels. Also, we've seen seasonality impact, particularly in some of our businesses where there is a stepping up in the final quarter. So, it's a combination of those different factors, which comes to the conclusion that we've reached in the guidance that we've provided to you. Jack Rogoff - Goldman Sachs & Co. LLC: Got it. Thanks.

Our next question is from Jack Meehan, Barclays. Please go ahead.

Hi. Good morning, everybody. I wanted to go back to the DSA acceleration that you're looking for in the second half. Right now, funding is positive; your customers are flush with cash; utilization is optimal. It feels like the perfect set-up to start using price as a lever, at least, think about the way you prioritize work. Could you just weigh in on that, and what you're seeing in terms of the competitive landscape?

So, we're going to weigh in on that in concert with our stated decision not to talk a lot about pricing from a competitive point of view, which is too much of a blueprint for the competition. So, we don't like that. So, suffice it to say that demand is quite good. Capacity utilization is quite strong. And we have the benefit of actually having some space with MPI, if we need it, having known that when we bought it, because we never know for sure what the competition's capacity looks like. They know a little bit better about our capacity, because we have calls like this. But based upon the competitive dynamics right now and the lack of sort of price cutting and lack of aggressive activity, it feels like the competition's pretty full, which is a really good thing, I think, for everybody. So, all I can tell you is that we appropriately try to get price when we can. And sometimes, we can't, because clients are price-protected with longer-term arrangements, or the price escalation is simply pre-negotiated. And, obviously, different types of work have different pricing metrics and different margin paradigms. So, you know that our specialty work, for instance, often has less competition and a higher profit margin. So, all I can tell you is that we're very cognizant of the opportunities that pricing can provide, the necessity of pricing to be able to afford things like improving in wages, and building facilities, and investing in IT, and obviously enhancing operating margin. I do think that for a lot of our clients, pricing is certainly not the first thing they look at. They're interested in our capacity and our capabilities. And so, we do have opportunities, which we pursue almost daily.

Great. Thanks for all that color. David, I had one follow-up for you, just around some of the moving parts as we start to think about 2019. I know you're not in a spot to give guidance at this point, but I do think it's important, because there's a few things going on. If we balance – I think you should have about $0.35 of extra WIL accretion, maybe a little – another $0.10 of carry-over from the wages, and then the headwind related to the VC gains this year. Do those things shake out as neutral? Are we thinking about that the right way?

Well, you're right. I mean, in the information we gave on WIL, so that $0.35 is incremental over the $0.25 that we said this year. And you're right, we get a full-year effect on the wages, so that's a additional $0.10 headwind for next year. The VCs, so we're $0.26 year-to-date, that will be a headwind. Let me complete this story. We've tried to give you some signals in terms of where we are with corporate costs, which is under 7% of revenue, so that's stable. And the tax rate, we think, the second half of the year tax rate is something similar to what we would expect in the future. So that gives a little bit of color to look into 2019.

Great. Looking forward to seeing you guys next week.

And we have time for one last question, and that comes from the line of Justin Bowers, Bloomberg Intelligence. Please go ahead.

Hi. Good morning, and thank you for the question. Can you remind us on what your targeted savings are this year for your efficiency measures, and kind of where you are halfway through the year, and also acknowledging that you're reinvesting a lot of that back into the platform?

What was the number we've given publicly?

$65 million.

$65 million. So, $65 million is the public number. We are on track with that, as you heard from Jim's prepared remarks. WIL is also delivering to the original guidance, as well. So, there's nothing that is being disturbed in terms of our ability to deliver the savings that we're expecting. So, that's on track.

Okay. And then, just one quick follow-up, Jim. Can you just comment on kind of the RFP activity and how that's been in the beginning of the third quarter? And then, more broadly, could you just compare kind of the current environment to 2015, where we had another robust funding year, just in terms of biz development and outsourcing prospects?

Demand is very good, very strong, and persistent, and consistent. As you know, we have kind of a disproportionate amount of business with biotech, a principal driver of our growth. We never really quite see spending directly proportional to the inflow of funds. But, we see just strong spending patterns and not a lot of starts and stops and pulling back, and waiting for the next fiscal period to fund work. So, it feels very strong as we said. It feels like the back half of the year will be solid. Obviously, it's too early to even predict about next year, but the external funding paradigm for the biotech folks has been almost as strong as ever right now. And if you combine that with the therapeutic breakthroughs and new treatment modalities, it's an unusually robust time in the history of biotech, so we feel really good about it.

All right. Thank you.

Sure.

And I'll turn the call back over to Todd Spencer. Please go ahead.

Okay. Thanks. Thank you for joining us on the conference call this morning. We look forward to seeing you at our upcoming Investor Day in New York next week. This concludes the conference call. Thank you.

And ladies and gentlemen, that concludes our call for today. Thank you for your participation and for using AT&T Executive TeleConference Service. You may now disconnect.