Good morning, and welcome to the Sensient Technologies Corporation 2020 Second Quarter Earnings Conference Call. All participants will be in a listen-only mode. [Operator Instructions] After today’s presentation, there will be an opportunity to ask questions. [Operator Instructions] Please also note that today’s event is being recorded. I would now like to turn the conference over to Mr. Steve Rolfs. Please go ahead, sir.

Good morning. I'm Steve Rolfs, Senior Vice President and Chief Financial Officer of Sensient Technologies Corporation. I would like to welcome all of you to Sensient's conference call to discuss 2020 second quarter financial results. I'm joined this morning by Paul Manning, Sensient's Chairman, President and Chief Executive Officer. This morning, we released our 2020 second quarter financial results. A copy of the release and our investor presentation is now available on our website at sensient.com. During our call today, we will reference certain non-GAAP financial measures, which we believe provide investors with additional information to evaluate the company's performance and improve the comparability of results between reporting periods. These non-GAAP financial results should not be considered in isolation from or as a substitute for financial information calculated in accordance with GAAP. A reconciliation of non-GAAP financial measures to the most directly comparable GAAP financial measure is available on the Investor Information section of our website at sensient.com and in our press release. We encourage investors to review these reconciliations in connection with the comments we make this morning. I would also like to remind everyone that comments made this morning, including in responses to your questions, may include forward-looking statements. Our actual results may differ materially, particularly in view of the uncertainties created by the COVID-19 pandemic, governmental attempts at remedial action and the timing of a return of more normal economic activity. We urge you to read Sensient's filings, including our 10-K, our first quarter 10-Q and our forthcoming second quarter 10-Q for a description of additional factors that could potentially impact our financial results. Please bear these factors in mind when you analyze our comments today. Now we will hear from Paul Manning.

Thank you, Steve. Good morning. Sensient reported second quarter earnings this morning. I’m very pleased with the results of our flavors and fragrances group as well as our food and beverage business in the color group. Flavors and fragrances is up mid single digits in revenue and high single digits in operating profit during the quarter, continuing its revenue growth trend from the first quarter. We also had favorable growth in our natural colors and pharmaceutical businesses, which were up in the quarter. The growth in these businesses is offset by the adverse impact of COVID-19 in the personal care market and throughout Latin America, Europe and Asia Pacific. Despite these COVID-19 headwinds and based on current trends, we expect to deliver on our EPS outlook for the year. I'm also pleased on the progress we have made during the quarter on our divestitures. We completed the sale of our inks business and signed a definitive agreement to sell our yogurt fruit prep business. We anticipate closing the yogurt fruit prep sale in the third quarter. We continue to make progress on that divestiture of our aroma chemical and fragrance compound business. Although we have been delayed by COVID-19, we believe we can close this transaction by the end of the year. All of our production facilities are open and have been throughout the pandemic. Our on time delivery remains high and we have successfully managed our raw materials. Our staffing and attendance at our facilities remains outstanding, and I'm very proud of the dedication of our employees. We will continue to closely monitor each of our production facilities to remain ahead of prevailing GMP and sanitation practices. As a result of COVID-19, we have incurred additional costs and we have experienced significant revenue headwinds in a number of businesses.…

Thank you, Paul. In my comments this morning, I'll be explaining the differences between our GAAP results and our adjusted results. The adjusted results for 2020 and 2019 remove the impact of the divestiture related costs and the operations divested, or to be divested. The second quarter 2019 results do not include any divestiture related costs. We believe that the removal of the gains and losses connected to the businesses that we are divesting provides a clearer picture to investors of the company's performance. This also reflects how management reviews the company's operations and performance. Included in this year's second quarter reported results is a gain realized related to the reclassification of accumulated foreign currency translation as a result of the sale of the inks business, as well as other divestiture related costs, which were primarily non-cash. These items, which are included in the divestiture and other related costs, increased net earnings by $1 million or approximately $0.02 per share. In addition, this year's second quarter reported results include $28.2 million of revenue and an immaterial amount of operating income related to the results of the operations to be divested. Last year's second quarter results include $36.4 million of revenue and an immaterial amount of operating income from the operations to be divested. Excluding divestiture related costs and the results of operations to be divested, consolidated adjusted revenue was $294.9 million in the second quarter of 2020 compared to $302.8 million in the second quarter of 2019. Consolidated adjusted operating income was $40.3 million in the second quarter of 2020, compared to $47 million in the second quarter of 2019. Adjusted diluted earnings per share was $0.70 in this year's second quarter compared to $0.81 in last year's second quarter. We’ve reduced debt by approximately $60 million since the beginning…

Thank you. [Operator Instructions] And our first question today will come from Heidi Vesterinen with Exane. Please go ahead.

Hi. Good morning. So, Paul, I think you said in your opening comments that COVID was a net negative for flavors. Could you elaborate on what you meant if I heard that correctly? Because I thought you may have benefited from pantry loading, a lot of your peers are talking about that. And then as a related question, I guess, to finish on flavors, some of your peers have talked about pressure in food service. Did you see that as well and how big is your exposure to this area? That's my first two questions. Thanks.

Okay. Well, good morning, Heidi, or good afternoon actually. So the COVID being a net negative for flavors, yes, I would say. So there's certainly -- let's take the revenue portion. While there were certain segments that were up, for example, process foods, soups, things of that nature, there were a number of segments that were also down, ice cream, confectionary, beverage. In terms of -- that's from a product line standpoint. From a sales channel standpoint, yes, indeed QSR, in many of our regions was a big headwind. And in particular that played out not necessarily exclusively in flavors. We saw that in Asia Pacific and we saw that in colors as well. The traditional retail outlet food stores and the like, we did not have that type of headwind. From a geographical standpoint, the -- as COVID has evolved that that has sort of impacted countries at different timeframes. So, right now we're in the thick of things in Latin America. So certainly, we had those geographic headwinds towards the end of Q2, and of course those continue into Q3. Europe, we still had an improving situation and I would tell you that in the U.S we had an improving situation. But you take all those things together, and that's what we would say from a revenue standpoint, it was a net negative. Now, as that flows down to profit, there's that contribution. But then of course, we also have the incremental costs associated with cleaning and PPE and everything from air freights or rush shipments, all these other logistical and supply chain costs that certainly also were a headwind. There was obviously a lot less travel, but the net of all those factors for the flavor group, I would tell you, overall was negative, but certainly there were pieces that it was favorable. But there were plenty of pieces where it was not favorable.

Thank you. And then, separately, there's a view out there and some peers have talked about this, that smaller customers are challenged. You have historically said that you work a lot with the so-called B and C customers. So have you seen any smaller customers being challenged? There's a general view that, larger multinationals are winning. So, what's your view there?

My view is, it's fairly mixed, right. In some locales, multinationals have reduced -- shrunk SKU's for sure. There are other multinationals that are strongly aligned with certain channels, like QSR that are not performing particularly well. On the other hand, there are some smaller local brands that are quite essential to the market that they're serving. And so I would tell you that in both cases, the overall reduction in -- there is an overall reduction in terms of the number of product launches that is for sure for our business, whether that's smaller B and C types or big A types. But in terms of activity, I would have to tell you that overall, in my opinion, as I look at the whole company, we probably see more activity from a product development and what can we develop now, and what are we going to develop coming out of this pandemic, we see more of that activity on the B and C level than we do on the A level. I would tell you that here again, in my opinion, we see a lot more activity customers, employees returning. We see more of that activity at some of these B and Cs than we do at a number of the As.

Thank you.

Okay. Sure thing.

The next question will come from Mark Connelly with Stephens. Please go ahead.

Thank you. I wonder if we could follow-up on that just a little bit, in terms of what kind of product development. Have you started to see a shift in where your customers are putting their priorities? We've sort of come to the conclusion that gluten-free is dead now that everybody is baking bread. So I'm curious whether you're seeing your customers shift more towards the food as -- food as medicine side, or whether that it's just a greater pace of activity across the board?

Yes, that's a great question. Because you're -- when I talk about pantry loading and it's -- a lot of that is processed food or food that tends to have a longer shelf life that does not lend itself to the sort of natural nutraceutical profile that we all heard about quite a bit coming into COVID, which tends to have much shorter shelf lives. I would tell you that most of the product activity, or let me say it this way, there's a lot more functional in nutraceutical attributes that customers are looking for. So for example, our Pharmaceutical business did quite well. We're selling a lot of functional ingredients there, which can go into pharmaceutical over the counter applications and probably more likely nutraceutical applications. So we see a lot of activity there. On the personal care side, we talk about makeup, certainly there's a big headwind there. But there's this other category out there somewhat akin to the nutraceutical market, which is described oftentimes as cosmeceuticals. These would be cosmetic products that bear some type of functional benefit to either the skin or to the hair or some other attribute that people are trying to enhance. So there is more of that activity. In fact, at some of the customers that has accelerated well beyond any activity that we saw even before COVID-19. But, yes, I tend to think that with so much of the development slowed and in some cases almost completely stopped at some customers, you're right about this notion that products containing certain gluten-free or other, what would -- some would say is, before the pandemic, we certainly see a slowdown in that activity. So, yes, coming into 2021 and 2022, it'll be very interesting to see how the market responds, how quickly the customer's resume that priority towards fresher, healthier, more natural products and how much continued emphasis there'll be on the more, say historical or in some cases even legacy products at some of our customers. That one, I couldn't tell you yet, but I can tell you for a fact, lot of activity on the nutraceutical functional aspect of our products that would go into pharma, food and even personal care.

It's helpful. Just two more things. First, with the administration basically saying Phase 2 is no longer a priority or at least no longer a near-term priority, does that cause you to shift any of your Asia Pacific priorities? I know China is not a big market, but I'm curious whether China is causing you more competition over there now?

Well, I would say this, every country has a different approach being taken by governments. And in fact, as everybody is well aware, even within a single country, there may be multiple, local governments, coming up with their own programs. And so, this just plays out in different places and in different [indiscernible] and on different timelines. And so our approach to that has been, we are an essential business. We are going to continue to operate. If customers want to develop new products, we are very happy to do that, our labs are open. If customers want to continue to have their existing products, we can do that too. And our on-time delivery is absolutely outstanding and we can continue to fulfill those particular needs. But I think our business model and that of most of our -- the folks in this space of ingredients, if we want to call it that, they tend to have a model you produce locally for your local customers in your local markets. So for example, we produce in China for China. I'm not aware of many, if any products that we export from China to the U.S or to any other jurisdiction. And so I think that model will continue to us and actually that's been quite helpful through this, because we don't have to necessarily jump through a lot of logistical hurdles in many cases when we're sourcing manufacturing, product support, supply chain support locally to those local customers.

Okay. And just one last question. Working capital was quite a bit better than we expected and better than what I'm seeing elsewhere. Is there anything we should be thinking about for the second half?

So we continue to -- that's been an initiative that we've been focused on that -- focusing on for the last year and a half. So we're really trying to exercise very tight control over our inventories, as well as our receivables and payables. And over the last 12 months, we've done well on inventory. I will say actually in the quarter, consistent with Paul's comments, we earned some of our businesses to stock up on certain raw materials. So we made some investments in inventory, but we did well on receivables. Our receivables days have come down about a day. And I think you're also just seeing a better mix of cash earnings out of the business this year, and that's helping contribute to cash flow.

But I would also say this, we certainly have more work to do on reducing our inventory levels throughout the company. We've taken many, many days out, not only on the trailing 12 months, but even on the trailing 6 months. And -- so we've got a lot of supply chain initiatives that probably have a lot less to do with specifically serving customers, but they have a lot more to do with generating internal cash and improving efficiencies. There's a lot more of that to underway. So I would anticipate we have inventory reductions, well into the rest of the year and into next year. And so that, that could be something to anticipate for everybody.

Very nice to see in this environment. Thank you.

[Operator Instructions] The next question comes from Mitra Ramgopal with Sidoti. Please go ahead.

Yes. Hello and good morning. Thanks for taking the questions. First I just wanted to be [technical difficulty] I think Paul you mentioned that I think COVID has had maybe about a $0.10 impact on EPS for the half. Just wanted to double check if that's a net number or just from the headwinds you've been seeing, because I know you've also benefit a little from it.

Sure. So, Mitra, that is a net number. So we really, we looked at the sales impact, which Paul spoke to. We looked at the one-time costs. And then we've also fortunately had some offsetting savings in the area of travel. So when you net all that together, that was $0.10 year-to-date. I think there may have been a little bit of positive impact in Q1 and a little bit of a greater negative impact in Q2, but year-to-date net of $0.10.

Okay. No, thanks. That's great. And on the divestiture front, you're obviously making nice progress as it relates to the sales. I was just curious -- a couple of questions on that. First, the use of the proceeds, if that's going to be primarily for reducing debt and as you've gone through this process and given COVID, I was wondering if this has changed anything as it relates to your longer term growth strategy, as you look at the remaining businesses and maybe areas you probably would like to be more active in.

So, yes, the proceeds from those divestitures will go towards reducing debt. As you've seen, we've taken out a whole bunch of debt over the last 12 months, over the last 6 months. Our debt to EBITDA is now just below 2.7, it's actually 2.68, Mitra, if I could quote you precisely, the number I like to watch very carefully. So that's what we're going to continue to focus on for sure. Hey, we always look at other uses of our cash as well. But I think for the here and now, that that's how we're going to play that one. With respect to the strategy of the business, we have been underway with our diversification program in cosmetics for some time. In other words, how can we utilize some of our technologies more directly into the skin care market into other personal care applications that just for example, oral care, have a very good hair care and hair coloring business, but there's certainly more opportunities for us in that segment as well. So I think if anything -- COVID-19 is accelerating, our penetration to these other segments have a very good product line that in many cases is very suitable for those areas. There's a lot of customers in that space throughout Americas, Asia and in Europe. So we feel very good about that it is still a very good and growing market. It's a strong technology based market. And so I think we can be quite successful there. Beyond that though, we’re going to just keep riding and roping in colors and flavors. We've got a very strong focus on what we want to do. And we’re -- I think we're starting to show the world that we can be set successful with this strategy. And now I feel good about where that's going for the rest of the year and into 2021, for sure.

Okay. No, that's great. And that's -- a little of a follow-up on that. On COVID, I’m just wondering how you view the environment as it relates to on a competitive front and maybe an update in terms of what you're seeing on the raw material and being able to implement maybe some favorable pricing for you?

Well, let me take that first part first. So, raw materials, this is something that I think we got well ahead of this whole situation earlier in this year. And we loaded up thoughtfully on a number of our strategic raw materials that perhaps had more sensitivity than, say more mundane raw materials. So we had a very strong effort there. But along with that, you can have raw materials all day long, but if your employees aren't producing and you're not delivering these things and managing the supply chain around them, that's only kind of half the battle. And so, yes, our folks have just been unbelievable putting these -- not only from the supply chain, but from the production and the quality and the lab support across the board, it's been a real team effort. And I think we've seen some very impressive results there. So I like our chances moving forward as well on the supply chain. We're going to continue to watch it, whether there's another lockdown or not a lockdown, we just kind of, as I said, we just assume pretty much the worst in all cases. And that tends to be a good policy for us when you consider -- because it's all about delivering and it's delivering on-time to our customers and we're doing. In fact, our delivery is better in June, that it was before the pandemic. So our people are very engaged and they understand their mission and they're very motivated to complete it. Now with respect to competition, hey, we deal with different folks in different parts of the world and in a lot of different product lines. And so we're happy to know when they're not doing well, because we'd like to take advantage of that fact and service the cost customers. And so, I guess that's all I had to say about that piece.

Okay. No, that's great. And then finally, Steve, I just was curious in terms of, maybe where there could be some leverage in the model. And I was just -- I know it's on the selling and admin side, the first half or second quarter pretty similar to what we saw in the first quarter. I was just curious, how should we think about the back half given the ongoing divestitures?

Yes. So I think any increase that you saw in SG&A in the quarter, again was going to be attributable to primarily incentive accruals. We're actually watching SG&A very closely and getting some benefits from the reduced travel that we see right now. With this type of volume growth, particularly in flavors, we should continue to see good operating leverage. We've spent a number of years rationalizing our production footprint. We have SG&A capable of supporting significant growth without having to make new investments. So with revenue growth, we should be able to generate good operating leverage.

Okay. Thanks again for taking the questions.

Okay. Thanks, Mitra.

At this time, there are no further questions. I would now like to turn the conference back to the company for any closing remarks.

Okay. Thank you everyone for your time this morning. That will conclude our call. Goodbye and have a good day. Thank you.

Thank you. The conference has now concluded. You may now disconnect your lines.