Ladies and gentlemen, thank you for standing by. And welcome to the Charles River Laboratories Third Quarter 2021 Earnings Conference Call. At this time, all participants are on a listen-only mode. After the speaker's presentation, there will be a question-and-answer session. I will now like to turn the conference over to your speaker for today, Todd Spencer, Vice President Investor Relations. You may begin.

Good morning and welcome to Charles River Laboratories 3rd Quarter 2021 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 3rd Quarter of 2021. 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 2 hours after the call today, and can also 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 the 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 meant -- 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 on the Investor Relations section of our website. I will now turn the call over to Jim Foster.

Good morning. Our strong third quarter results demonstrate the effectiveness of our strategy and the progress we've made on its execution, as well as the sustained strength of the industry fundamentals. As anticipated, third quarter revenue increased at a low teens rate organically and we reported mid-teens earnings per share growth. We believe that Charles River is a stronger Company today than it has ever been. We have seen unprecedented demand across most of our businesses and we believe that this coupled with the strength of our leading non-clinical portfolio will enable us to achieve our low double-digit Organic revenue growth target over the longer term, as well as in 2022. As a result, we are continuing to invest, to add people on capacity, to accommodate growing client demand, and to build a scalable operating model. To enhance our scientifically distinguished portfolio, to strengthen our relationship with clients, and to work with them to device outsourcing solutions which enabled them to increase productivity and speed to market. We have maintained our focus on non-clinical drug research and manufacturing solutions. Strategically expanding our portfolio to provide clients with the critical capabilities that require to discover, develop, and safely manufacture new drugs. Last month, we divested our RMS operations in Japan and our CDMO site in Sweden for a total of approximately $115 million plus potential contingent payments of up to an additional $25 million. We routinely evaluate the strategic fit and fundamental performance of our global infrastructure for acquisitions and legacy sites alike, and have sold or closed operations that didn't meet our key business criteria but may have been underperforming financially. The decision to divest these 2 operations was consistent with our evaluation process. And we intend to redeploy the capital in other growth areas of our business. Moving to…

Thank you, Jim. And good morning. Before we begin, may I remind you that I'll be speaking primarily to non-GAAP results, which execute amortization and other transaction-related challenges, cost-related primarily to our global efficiency initiative, our venture capital and other strategic investment performance and . Many of my comments will also refer to Organic revenue growth which excludes the impact of acquisitions, divestitures, and foreign currency translation. We are pleased with our strong results for the third quarter, which included 13.6% organic revenue growth and the 15.9% increase in earnings per share. Operating margin in the third quarter was 21.4%, while lower than the prior year as anticipated. It represented a 60-basis point sequential increase and was in line with our full-year target of approximately 21%. In addition to the COVID cost controls last year and the CDMO acquisition this year that Jim mentioned, the third quarter operating margin was also lower than last year's robust 22.7% level because of our foreign exchange headwind, and last year's discovery milestone payment. Although cost inflation and supply chain pressure have made headlines recently, we believe we are effectively managing the tighter labor market in our supply chain and higher cost in these areas have been reflected in our updated guidance. Lower unallocated corporate costs contributed to the third quarter operating margin coming in at 5% of revenue or $45 million compared to 5.5% of revenue last year. Corporate costs on non-linear fluctuating from quarter-to-quarter due to several factors, including health and fringe related costs and performance-based compensation. Despite the third quarter capability, we continue to expect unallocated corporate costs in the mid-5% range as a percentage of revenue for the full year. The third quarter non-GAAP tax rate was 17%, representing a 490 basis point decrease from 21.9% in the third quarter…

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

Thank you. Our first question comes from the line of John Kreger with William Blair. Your line is open.

Hey, thanks very much. Jim and David, I heard you guys make a few comments about '22. Just wanted to make sure we heard that right. I think you said low double-digit organic growth expected and CapEx spending of around 9%. Anything else you can add to that early 2022 look? And maybe where should we expect the higher CapEx investing to be targeted? Thanks.

So where? We did say that, John and we're enjoying really extraordinary demand pretty much across the whole portfolio. And we anticipate given the spending paradigm, given the strength of new scientific modalities, given Cell & Gene Therapy,

given the nature of our portfolio the demand will continue through next year at least, so giving early indications of that. What we're experiencing this year is -- it's quite interesting and unique. We had a pretty thoughtful and positive plan for this year. We are well in excess of our operating plan. As evidenced by our couple of guidance raises and just the changes in the top-line guidance. And so we have been working really hard to plan for additional capacity and higher enough people to do the work.

I think we're doing well, but as we look at next year and beyond, we do think that the capacity needs will continue to be significant and it's not something you can do at the 11th hour, and the scale and size of the business is just getting to the point where not only did we think it was appropriate, but our early roll-up is showing that our CapEx on a percentage basis will be meaningfully higher than last time we had spoken to you folks. I would say it's the nature of the portfolio as a whole, probably more legacy portions of the portfolio and more probably Safety Assessment than anything else, so does that Safety Assessment goes so does the Company these days.

So we have terrific growth rates in the Safety Assessment business. We're by far the market leader. A lot of clients depending on us, we have always new biotech companies created and minted, and have no internal capability to do the work. So we thought that both at 9% and a double-digit would be a good early glimpse than what we anticipate for next year.

Great. Thank you.

I'll had a bit more color on the puts and takes as well, because I think that's clearly of interest to a number of people, and while we're not going to talk about the 2022 full guidance, there are a number of things that we have called out, but there's a lot of materials this morning to go through. Jim talked about the strong demand environment so I won't repeat about that. But that low double digital organic growth does help fuel some of the headwinds that we're seeing. And by the way, you're aware of micro glacious' headwinds that we've had this year, which is behind us, the cell supply, we would hope that would be fully behind just want to get into 2022, as well because that's another tailwind. And of course that buoyant double-digit growth helps with our margin expansion goals. You know that we're trying to get to a 150 basis points over the next 3 years. That won't be linear. For instance, the investments that we're making in digital, we won't see the returns really kick in until the out-year. And next year, we have this modest headwind from the 53rd week, which I called out in my remarks. And then there are other known headwinds that we've got. We'll continue to invest in people, capacity, digital. You're all familiar with the global pressures that we're staring on hiring and inflation. It's impacting many sectors and regions, so won't leave at that point. But we'll have our share of that. However, we are fortunate to be in the industry that we're in. We're not as buffeted by those issues as some, but neither are we immune. So that said, we believe for effective in managing those tighter labor markets into supply chains. But it will take asset and it will take investment. And then there are things which we can't call out today, simple ones like FX. That's one of the last pieces we put in the jigsaw piece. We've got that unique item around potential for U.S. tax reform, should it be enacted. But I am hearing that there's a good chance that we punch it into 2023. And then we've got theorical questions about Is it short-term as some people would have it the least or is it more sustained and I think that's too early to call. And finally, Great Resignation as is being called has to come to an end but at what point,. We're working on finalizing the plan. In February well put those pieces together and share that with you. But as I said. Strong demand that we're seeing that should help us progress towards these long-term targets, and we should have appropriate numbers for you in 22.

Very helpful. Thanks.

Thank you. Our next question comes from the line of Derik De Bruin with Bank of America. Your line is open.

Hey, good morning, everyone. Hey, Jim, can you talk a little bit about the Cell & Gene Therapy business and the demands in that area and particularly how that's flowing through on the margin profile. And just -- how should we think about the growth in that segment in '22 than the rest of this year and into next year?

Yes. Hi Derik. We've put together relatively swept through M&A several Cell & Gene Therapy assets for that cell product businesses and the CDMO assets and of course they show up in 2 different segments. They're working really hard to integrate and connect in those businesses. I think we're doing really well at that. We're also working really hard to connect those businesses, particularly the CDMO piece to our Biologics business, because being able to manufacture the drug and test it are really important capability that distinguishes us from most of our competitors. The cell supply business, as we call those, its growth rate is being hampered right now by COVID-related donor restrictions for donors. But that should emolliate over time. And growth rate, it should be 25% or 30% on an ongoing basis. And we haven't said that much about the margin. The margin should not be dilutive to RMS, let's put it that way. On the CDMO piece, we've been really clear that manufacturing segment has had mid to high 30% operating margin. Not a lot of businesses that would be accretive to that so it's a bit of a headwind, although that will improve meaningfully and systematically over time as we as we increase volume, as hopefully a few clients go from clinical stage to commercial as we have more digital capability. It should be less of a drag. It's tough to say what CDMO will look like from a margin profile out a few years, particularly if we're doing multiple commercial runs for clients. So, you obviously have just greater efficiency and throughput and consistency of supply. And I think that could invigorates the margin. So, pleased with the growth rates, directionally pleased with the margin rates, we think we put together a nice portfolio on its own, and are connecting it thoughtfully and carefully with our legacy businesses, particularly Biologics.

Which do you need to invest more heavily in technologies in this area, particularly in Discovery. It's still like the Wild West, so I'm just wondering if it's an extra heavy technology investment relative to what you're typically used to?

I wouldn't say that. I think that we're going to continue to have to invest in technology across the portfolio, particularly in areas like AI and machine learning and next-generation sequencing, and certain the aspects of pathology and antibody discovery. AI is a bit of a wildcard. There's so many shots on goal that we could take and so much impact that this can have on the portfolio, but it's still relatively early days. So I think that we will have meaningful investments particularly in AI machine learning. I do think that can be beneficial to the whole portfolio, maybe particularly Cell & Gene Therapy. Look the whole this -- per your question, the whole discovery platform is obviously much heavier science, much more cutting edge science, and I'd say the majority of our strategic deals are discovery-related. so, I guess from that scientist point, yes, we're very much focused on it. I don't think the price points will be necessarily higher though.

Thank you.

Thank you. Our next question comes from the line of Tycho Peterson Peterson with JP Morgan. Your line is open.

Hey, thanks. I want to revisit the 2022 discussion for a minute, because I think you also talked about earnings leverage. And David, as you talked about, obviously, you've got some headwinds here with the extra week, in wage inflation and three quarters of the divestiture headwinds. Can you help us think about the leverage you can pull to drive that earnings leverage next year and Street takes you up about 11.5% on earnings in line effectively with revenue. But if you're actually going to have the earnings leverage. You mentioned digital, I'm just curious what other leverage you have to pull to drive margin expansion, and earnings leverage next year? And how should we think about tax rate at this point for next year?

look, we've got really strong revenue demand. This year as the demand is increased more than we expected, which is great. It's setting us nicely for the future. And we've made meaningful investments this year. So we can continue to make meaningful up investments in the business with that revenue . And that's one of the benefits of having high revenue and double-digit growth. But we do need to invest some of that additional property, if you like, into the business, not just for the short-term in terms of headcount for those who enter the medium in terms of digital. So we will continue to do that. And I don't see next year difference in that respect, except we might not see -- we're not going to see a 100 basis points margin improvement in 2022 that we've seen in the last two years, in particularly this year where we've got a 100 basis points improvement despite the investments that we've made in the business. So that's helpful. That's a helpful headwind that could like help cover some of the tailwinds. In terms of tax well it like depends where we end up with Biden. We did call out on our investor call back in May that while we're low 20 traditionally at the moment. Okay, this year we've had a few discrete items that brought us down. But without those discrete items, we would have expected for 2022 to be the low 20's. With Biden that would have moved us up to the -- we expect it to move up to the mid-20s. And as I've said a few moments ago, I'm hearing that subject to a vote in the house, we should see the Biden reforms pushed down to '22 and to '23. I'll go if that happen, tax rate would be back to where we've positioned to be in the low 20. Actually, while I have to call again people talking about puts and takes, in terms of the divestitures that we called out. We called out what that impacted for this year. But I'll share with you that some broadly, we would expect that to be a $0.20 to $0.25 headwind for 2022 as well.

Okay. That's helpful. And then if I could ask just one clarification for Jim on the DSA capacity expansion. You talked about the patients increases on prior calls. Are we at a point now where customers are pushing back on pricing in your heavy debt expand capacity? How do you think about that tradeoffs?

Pricing is -- we're very pleased with the price that we're getting. We continue to be pleased. And now I would say that generally speaking clients are the most interested right now in when they can start a study available study slots. sometimes or many times the geography or with our status study so do you have run for me? Do you have the scientific capability for me? Can you read my turnaround times? And oh, by the way, what is the price? I'm not saying that I'm interested in price, I would say it's significantly de -emphasized as an important issue. So if you think of the client base with hundreds of new biotech companies being created every year, with literally no internal capacity and big pharma continuing to rapidly reduce their internal capacity, the role it's just become -- has become increasingly more significant. That's what we're trying to say about this year. This is a high-class problem, right? High-class challenge that we are working really hard to have enough people, and to build enough space to accommodate the demand which is right now significantly ahead of where we thought our business plan would be. As we put the final touches on next year's operating plan, we just have to be very thoughtful and make sure that we have capacity and then some. And of course, by the way, anything we built even now is probably not available until 2023 anyway, so we have to get ahead of that. So it's a very -- it's the most attractive supply-demand paradigm that we've ever seen across most of our businesses, but particularly new ones on safety just given our scale and scientific doubt. And so it's incumbent upon us if this marketplace is going to depend on us to make the necessary investments in capacity and people to accommodate them.

Okay. Thank you.

Thank you. Our next question comes from the line of Elizabeth Anderson with Evercore. Your line is open.

Hi, guys. Thanks so much for the question. Maybe just to follow-up on that one slightly. If we think about the CAPEX expenditures next year. How do you see that, I mean broadly trending, you said you obviously increased capacity across a variety of facilities, but do you see that 9% maybe tapering back down, or is that the new run rate to go with? Thank you.

I think it would be -- I'm not sure here. I think it will be difficult to predict that. But I think if, we had to call it today, we think that demand will continue. We look at the world in 5-year chunks, 5-year strategic plan. We've be public about being able to double the size of the Company, etc. We certainly don't think this growth rate is going to slow given the Biotech funding, given all the new modalities, given our competitive prowess, given the fact that we'll probably do additional M&A to make our portfolio stronger. Given the scale of our business and the demand on our business, I think we would anticipate that that's the new normal, that we'll have CapEx as percentage of sales, around that level going forward. And there's no logical demand reason that that should slow, but from where we are now, that looks like the right rates to accommodate client demand.

Thank you. Our next question comes from the line of Eric Coldwell with Baird. Your line is open.

Thanks. Good morning, David a second ago, you mentioned another 22 factor which was the impact of the divestitures at $0.20 to $0.25. We were curious if that was a full-year impact, or that was the incremental impact after adjusting for the fourth quarter here this year?

Yeah. Simple, that's a full-year impact. It's --

So full-year, 20 to 25, so incremental would be roughly something less than 10 to 15?

Correct, it's the impact on the '22. Yeah, correct. If we were taking it out of '22, it'd be the $0.20 to $0.25. And the reason why it's not the Q4 multiplied by 4, is broadly the work that we've divested in the Swedish side can actually be done elsewhere within our organization. So we're making an assumption as to how much of that work we can pick out.

Got it. And then I had a follow-up on the cell supply business. And I know those units have been impacted by the pandemic and donor access in particular, but look, I'm going to people's advocate. We covered the healthcare supply chain broadly. We look at a lot of healthcare sectors, just about every category I can think of is near or above pre -pandemic levels and some healthcare sectors are actually growing fairly nicely at the moment. It just seems like the world has opened up more than these numbers are representing. And I'm curious if there isn't something more going on in the cell supply business that's holding it back?

There really is nothing more going on, Eric. It's a function of donor access. The demand is still quite significant. The good news is that we had a better October. We've opened additional donor rooms, given that we did two acquisitions in that space. So initially, the California facility, we have capabilities in Massachusetts, and Washington State, that obviously is and will continue to improve during our access in certain areas. As we said, that business should continue to improve hopefully sequentially as we move through the back half of this year and into next year to get to the growth levels that we anticipated when we did these deals that amount which was around 30% topline. We're confident we'll get back to that.

Jim, last one for me. Thank you for that. Your largest competitor in the Research Model Animal supply side of the business is in the midst of a combination with another Company in the space, is there any knock-on impact from that to you? I don't suspect that there is, but I'm just curious. We often talk about clinical CRO mergers and the impact across clinical CROs. It's much less common to talk about larger competitors and research models coming together. And I know that's a more of a vertical deal than a horizontal one. But I am curious if you see any potential impact from the changes over at Envigo?

We really doubt, that's been an enterprise that we've competed with for a long period of time. I would say principally and always on price as opposed to quality. So we've always been scientific prime, with a broader geographic footprint and so the different level of service with our clients in a broader portfolio. And that Company has been less of an impactful competitor I would say over the years than they were historically, so I would expect that situation and that fact pattern really doesn't change at all as a result of this.

Thanks very much.

Sure

Thank you. Our next question comes from the line of Tejas Savant with Morgan Stanley. Your line is open.

Hey, guys, good morning. Just one follow-up there also related to RMS, Jim. Are you seeing any pickup in disruptions in China from some of the COVID -related shutdown there or are customers generally in better shape to handle the surge this time around. And one for Dave on the guide, to what extent in '22 can you push through pricing increases to your customers to absorb some of the headwinds you've outlined on the call here.

We're not seeing any new or additional COVID -related dislocations in China. Is obviously the first place we saw back when it all hit, and the first place it improved. I would say that that marketplace for us at least is back minimally their pre-COVID levels and probably stronger than that both in the academic tired and the biopharmaceutical part. We make -- continue to make significant investments in capacity, and we're growing that business nicely and nicely geographically, both in the core Research Model piece, and related services, now that business is going really well.

And then in terms of pricing for '22, that's part about low double-digit growth assumptions. So as you know, we don't break out price anymore anyway, and we're still sharpening our pencils as to what exactly the 2022 plan will look like in terms of price. But yea, it's part of the low double-digit growth that we've mentioned before.

Got it. Thanks, guys.

Thank you. Our next question comes from the line of David Windley with Jefferies. Your line is open.

Hi, good morning. Thanks for taking my questions. Jim, is it possible to quantify in some way the benefit to your visibility, particularly in Safety Assessment, but the benefit to your visibility in '22 from clients booking out further like -- how much more percent of revenue do you think you have visibility to in '22 versus what would be normal?

It's probably quantifiable Dave, but --

But not for us, right?

No, probably Dave will say the quantifier. I would say that there continues to be more pronounced. But that's a very good thing for us in terms of -- some of the things I've talked about, hiring capacity, and timing, and scheduling, and utilization of our various facilities. It just -- it gives us several things. It gives us a better look to the future. It also gives us a much closer working relationship with the clients who now have to really do a better job planning, a better job nuancing their priorities and portfolio, and a better job messaging to us what's really essential to be done quickly, whatever that means for them, and what could wait. It feels like while it's a pretty feverish and the demand is great, it's more rational planning paradigm. So I think that it's actually enhancing our relationship with the clients. It feels like the sort of leverage that we have and they have is on an equal playing field now, and that we're much more communicative. So we like it from a planning point of view when a visibility point of view.

Then a related follow-up question is around the mix in that business. I'm thinking broadly about a pipeline that's moving toward large molecule in general but also maybe at the bleeding-edge moving towards Cell & Gene Therapy and you've highlighted that part of your business. And so the shifting mix, but also in that, the supply chain for that shifting mix, how does that change the type of animal models that you need to use in those studies? And do you have access to all of those?

Yeah. There's -- we work really hard making sure we have sufficient supply of all our models, particularly some of the larger models. And we've had to identify and validate multiple new sources of supply at multiple countries, to accommodate just the increase in demand and the pace of demand and just to ensure that the supply is there. It's an ongoing complex challenge, one that I think we're managing well, and we feel that we are directionally managing it quite well in terms of having sufficient numbers for '22. Yes, I mean -- I think the annual models will become increasingly more complex, particularly some of the large ones for the Biologics in particular, I think that's been the case for some period of time.

But just to be clear that the implication in your response to that, that the shift or you are seeing a shift toward large animal -- or I'm sorry, like non-human primate and large animal within the mix, is that the right way to think about it with large?

Yeah, and I think that's a continuation of the shift that started some time ago. I think it's just -- it's more intensified these days, just given the nature of the drugs.

Sure. Thank you. Appreciate it.

Thank you. Our next question comes from the line of Patrick Donnelly with Citi. Your line is open.

Thanks for taking the question, guys. David, maybe one more on the margin side, just trying to figure out again the moving pieces for '22 versus the long-term guide you gave. Does '22 have potentially a bit more reviewed year given, again, some of the increasing costs of labor side, obviously significant investments in manufacturing, just trying to figure that bridge in terms of 2022, it seems like there's some pressures. So just talk through that one more time, it'd be appreciated.

You broke a little bit. You said -- I missed the middle part of the question which I think was key to the question.

Yes. It was around the '22 margins and then just the cadence in terms of the long-term guide. Does '22 have potentially be a bit more muted given the labor pressures, investments in manufacturing and all the other moving pieces?

Yes. I mean, as I had said earlier, anybody that's expecting us to get a 100 basis points next year, we consider that please. And equally, even if you take a 150 basis points and you said that's going to be linear, I think you do to consider that as well, given the commentary that we've made about some of the pressures this year, in terms of wage at particular and inflation. But we made some meaningful investments this year in 2021. I wouldn't want you to feel that we have conium pressures on us. We have a portion of pressure as everybody else in the world does. We think we can cope with that well. But I wouldn't want to leave you with the impression that the last two years lesser margin is going to continue. And indeed, we did try to say a lot at the Investor Day that we would be looking at $150 over 3 years. And we've also got that headwind from the 53rd week. In 2022, digital investments that we can make in which have been quite sizable in amount. We'll be kicking in in the out year. And then of course that we've got on top of that, some of the compensation pressures that we've mentioned. Our key here is to make sure that we can supply the needs of our clients, continue to get that growth, continue to win new share, make sure that we're in a great position that we become the first call in terms of doing the work for doing research.

Understood, thanks. I'll leave it there.

Thank you. Our next question comes from the line of John Sevier with UBS. Your line is open.

Thanks for taking my question. I guess just in the Cell & Gene therapy manufacturing portfolio, are there any areas there that you see gaps or areas that could be complementary to invest with the existing portfolio? And any thoughts on where to maybe deploy the divestiture proceeds from the transactions?

We would hope to deploy the divestitures in further M&A but money is fungible, so I would say generally, we're just going to deploy it and to grow our business generally, if, obviously -- if we have a deal sooner than later, we can directly can directly apply it. The Cell & Gene Therapy portfolio is pretty robust right now. I think there's some subtle -- I don't want to list them off, because we're looking at additional M&A there. But there's some certain areas that we can improve and enhance just to have a broader connectivity, so we never have to outsource anything ourselves. Having said that, I think it's more about the scale of the current portfolio and the geographic footprint of the current portfolio that will market, we'll primarily do organically although it's possible we'll do some M&A. If you take the businesses that we bought, which are 5, maybe 6, depending on what you think Retrogenix is. And then you add our Biologics business and some of our safety and discovery capabilities. It's a very broad portfolio now, and certainly from a service point-of-view, it's the broadest of anyone in the industry. So we have a good base right now and can accommodate a lot of lot of demand from a diverse client base. And so we'll invest aggressively organically, if we can get some of these niche deals done that we're looking at from an M&A point of view then some of the subtle gaps that would actually be that obvious will be filled.

Thanks for taking my question.

Thank you. I am not shown any further questions in the queue, I will now turn the call back over to Todd for closing remarks.

Great. Thank you for joining us on the conference call this morning. We look forward to speak with you during our upcoming investor conference. That concludes the conference call. Thank you.

Ladies and gentlemen, this concludes today's conference call. Thank you for your participation. You may now disconnect.