Good day, ladies and gentlemen, and welcome to the Q1 2019 West Pharmaceutical Services 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 for to participate will follow at that time. [Operator Instructions] As a reminder, this conference call is being recorded. I would now like to introduce your host for today's conference, Mr. Quintin Lai, Vice President of Investor Relations. Sir, you may begin.

Good morning, and thank you Jimmy. Good morning and welcome to West's first quarter 2019 conference call. We issued our financial results this morning and the release has been posted in the Investors section on the company's website located at www.westpharma.com. This morning CEO, Eric Green; and CFO, Bernard Birkett will review our results, provide an update on our business, and provide an update on the financial outlook for the full year 2019. There's a slide presentation that accompanies today's call and a copy of that presentation is available on the Investors section of the 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 U.S. Federal Securities Law. These statements are based on management's beliefs and assumptions, current expectations, estimates and forecasts. There are many factors that can influence the company's future results that are beyond the ability of the company 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 make reference to non-GAAP financial measures including 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.

Thank you Quintin. Good morning everyone, and thank you for joining us today for our Q1 call. I'm very pleased to report that we're off to a good start to the year and delivered a strong first quarter. Our team executed well on multiple fronts, with solid performance that demonstrates the success of our market-led strategy. The markets we serve remain robust and we're delivering differentiated products and services for our customers, which is driving above-market growth in all segments and market units. We continue to see good uptake of our new product pipeline, including an increasing number of development agreements for our delivery device platforms and continued growth momentum of our high-value product portfolio. And our global operations team is successfully delivering on its strategic initiatives, which is resulting in improvements to our quality and service metrics along with higher gross profit margins. As we look to the rest of 2019, we are reaffirming overall net sales guidance, despite the headwinds we are assuming based on current FX rates. We're also raising our EPS guidance to include the incremental tax benefits from stock-based comp we saw in Q1. We expect that strong high-value product mix shift and operations initiatives will offset some of the expected FX headwinds in the back half of the year. Let's take a closer look at the performance of the business. Slide 4 shows a summary of our first quarter 2019 sales performance. Before I get into the specific market units, I want to highlight the increasing demand for our high-value products. We saw strong double-digit growth in Q1. Based on market dynamics, as we see them today, we expect this trend will continue for the balance of 2019. Now let's turn to the details. In biologics, we had a strong quarter with double-digit organic…

Thank you, Eric and good morning, everybody. Let's review the numbers in a little more detail. We'll first look at Q1 revenues and profits where we saw continued solid growth, while absorbing the impact of the Vial2Bag recall. I will take you through the margin growth we saw in the quarter and how we see it continuing to improve in 2019 in addition to some quarter-end balance sheet takeaways. And finally, we'll review the guidance for 2019. First up, Q1. Our financial results are summarized on slide 6 and the reconciliation of non-U.S. GAAP measures are described in slides 11 to 14. We recorded net sales of $443.5 million representing strong organic sales growth of 11%. We also saw growth across each of our market units as Eric noted earlier. We are pleased to see continued improvements in gross profit. We recorded $146.8 million in gross profit, $12.4 million or 9% above Q1 of last year. And our gross profit margin of 33.1% was an 80 basis points expansion from the same period last year. We also saw improvements in adjusted operating profits with $71.3 million recorded this year compared to $56.7 million last year, a 25.7% increase. Finally, adjusted diluted EPS grew 19%. So what's driving this growth in both revenue and profits? On slide 7 we show the contributions to sales growth in the quarter. Volume and mix contributed $44.5 million or 10.7 percentage points of growth. Sales price increases contributed $2.9 million or 0.7 percentage points of growth. And changes in foreign currency exchange rates reduced sales by $19.6 million or a reduction of 4.7 percentage points. Taking a look at margin performance, slide 8 shows our consolidated gross profit margin of 33.1% for Q1 2019 up from 32.3% in Q1 2018. Proprietary Products first quarter gross…

Great. Thank you, Bernard. Our Q1 results underscore the value that our teams are providing to customers. At a recent customer advisory board meeting, we got feedback from key decision makers from various pharmaceutical and med device companies. They talked about the need for more systems and solutions that can support and improve patient care in the injectable space. We are addressing these needs with new product development and initiatives such as our integrated solutions programs. We're also expanding our capabilities to include drug handling and cold storage within contract manufacturing. All of which will allow us to partner more closely with our customers as they work to introduce new products to the market. Through the execution of our strategy we're focused on delivering on our financial goals to grow our business, expanding operating margins and generate more cash for our business to reinvest in our future. We're confident in our growth strategy across the markets we serve for the both short and long-term and look forward to carrying this momentum through the year. Jimmy we're ready to take questions. Thank you.

Thank you. [Operator Instructions] Our first question comes from Paul Knight with Janney Montgomery. Your line is now open.

Hi, Eric can you talk to the operating margin initiatives that you have undertook and are reflected in the quarter? And what you're doing in the months and years ahead?

Yeah, good morning Paul, and thank you for the question. No, the team's done a good job and focused on driving margin improvements as we discussed it's been our focus of 100 basis points per year ongoing. And so there's two really key drivers. One is we're getting good mix shift with our solid high value product growth from a product point of view. And if you look at the outlook and the order book that we have on hand, we're pretty confident we should see continued growth and adoption of the high value product portfolio. When we move down the income statement, so thinking about in SG&A while there was some cost to the remediation of the Vial2Bag, we've offset that was really leveraging the existing asset base around the -- of our SG&A to be more effective on a global basis. And what you're seeing is it's really fallen down through to the operating margin expansion. So I would say those are the two biggest levers. One area that we need to focus and work on, the teams are very cognizant of that is expanding our margins in Contract Manufacturing. So we still have more work to do to continue that momentum there Paul.

And what's your -- what's latest on the Ireland facility, specifically capacity utilization in those facilities?

Yeah. And specifically in Dublin, we're still ramping up on a couple areas, and are Contract Manufacturing in regards to -- in the diabetes space, and also in auto injectors. And so as we continue -- we're not at the full capacity at this point in time. As you know, as we install the capacity and we've seen ramp-up throughout 2019, so we should see closer to capacity towards the mid to the end of the year. When we think about Waterford, which is really the state-of-the-art facility for high-value product portfolio, we're seeing increasing demand in regards to our Westar Select offering that we recently launched. And while we're still -- obviously there's headwinds on cost of that facility until we fill it, they're dissipating because we're gaining more revenues through the plant as we speak. So to give you a number around that, we're probably about $5 million better this year than we were last year.

Okay. And lastly on Vial2Bag guidance, you are no longer assuming that that is a product and sales again this year, but is there any change in your process of getting that product or any change in customer feedback? Or is it conservatism? Thank you.

No. I would -- thanks for the question. Now Paul, I would say at this point of time, the teams are working diligently to get -- working with the regulatory authorities to get the product back in the market. We are still getting significant response from the marketplace, particularly the hospitals saying that this product does create -- it helps them deliver better patient care. So we are working with them diligently. We've gone through user research human factors device testing, all the necessary steps, and I'm confident the team will have a product back to the market that we can continue to stand behind and support the healthcare the hospitals. We have -- as you noted, we reduced our guidance. We never reduce the guidance. The guidance stays the same. But we reduced the contribution of Vial2Bag to be conservative, because it's uncertain at this time exact point of time when we'll be back in the market.

Thank you very much.

Thank you, Paul.

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

Hi. Good morning. Thanks for taking my questions. I’m wondering if you could first on that last question quantify the delta in guidance. Obviously, Eric you said, guidance didn't change, but what is the amount of change in Vial2Bag that you're absorbing in that guidance update?

We're probably taking about $12 million plus.

Okay. All right, very helpful. Thank you, Bernard. Eric on the -- to follow-up on Paul's question on efficiency and margin, I hear you talking about mix shift in HVP, and that certainly helps. We all know the margin differential there. You're also taking some absolute cost out. You mentioned Indiana, a couple other facilities to consolidate over the balance of this year. How should we think about that -- those activities influencing margin? Is it simply the $14 million that's listed in the press release that essentially comes out of the operating cost? Or are there more dynamics that we need to consider?

Hey, David, it's a great question. I would tell you, it's on the spot two years now ago we pulled together the global operations. At that point of time, we had 28 sites. While you'd say it had a discrete purpose obviously to service our customers. By globalizing the operations, we have more opportunities to leverage across our operations globally. So to gain some point, we've created centers of excellence our investments around capital are going to specific sites for specific product portfolios. This focus is allowing us to leverage not just on capital investments, but also on labor. So think about burden reduction and you think about asset utilization, these are key indicators that we're looking at. It's not a one-year journey. It's a multiple-year journey. I'd say, we're still in the early stages, but I'm actually quite excited because it's – when you go to the plants, you're seeing it. You can see the improvements, when you're sort of getting – sitting down looking at the labor burden rates. So you're absolutely correct the gross margin expansion, while major thesis and driver of that is around high-value product conversion, this global operation opportunity and the One West business system we've put in place should enhance that on a – going forward on a continuous basis.

And so on that are we seeing that today? Or is that not really something that's materially impacting your financials yet?

It's – I would characterize it as minimal at this point in time, because some of these site consolidations required costs and I know it's taken – we are looking at a restructuring on that part of the activity. But these are really early initiatives that we have in place, while we're seeing some of the benefit I would say the larger benefits are more forward-looking at this point, Dave.

Okay. Which is encouraging when I look at the margin performance, the idea that that's still to come is certainly encouraging on, so my last question is on this margin performance. If not the added benefit from what we just discussed, how did – what are the factors that drove kind of a 45% to 50% sequential incremental margin in Proprietary Products? So, looking at it that way or if I look year-over-year it was actually 100%. Talk about the various factors that are driving that kind of incremental margin improvement.

Yeah. That's – one of the major drivers of the margin expansion that you're seeing is really in the biologics as the high-value product growth. Let me get a little more granular. If you look at the NovaPure product portfolio that we've been talking about over the last couple of years, we've seeded the market. And it takes time to seed the market and get the expansion. I can tell you in the first quarter, the absolute dollar value of revenues is 2x, in NovaPure and you know where that fits in our portfolio of products it's the highest ASP and the most profitable. And so we're gaining traction on initiatives that we've seeded a couple – a few years ago that we're seeing come through and it's particularly in the biologics area. So you're right to point out that's one of the biggest drivers in the margin expansion that we have today. On a consolidated basis, it's true though that Contract Manufacturing's brought it back and that's why we have that focus to make sure that we continue to expand our CM business in addition to high-value product growth.

Got it. Great. Thank you very much. Very interesting.

Thank you.

Thank you. And our next question comes from Larry Solow with CJS Securities. Your line is now open.

Great. Thanks, guys. Good morning. Great quarter. Just a couple of questions on the margin enhancement is the – on the Proprietary Products particularly is that – these margins it sounds like with sustainable high-value – growth in the high-value products and ongoing efficiencies. Are these margins plus or minus somewhat sustainable as we look out through the year?

I would say the – if you think about, we want to continue to have high – well, we are going to continue to have high-value product growth in double-digits for the balance of the year. It was very strong in Q1. We anticipate it to continue throughout maybe not as – it's by lower double digits in the second half, because of stronger comps. Now let me say that, we're still thinking about the margin expansion we do think it's sustainable. If you think about the thesis of – the high-value product portfolio while it's 60% of the revenues from a units perspective it's still about approximately 20% of the units. When we think about the pipeline of that we're feeding right now in the biologics and also the work we're doing with AccelTRA and generics in the opportunity for conversion over the next one or two years that's why we have confidence of continued healthy margin expansion to give us that 100-plus basis points of operating margins over long periods of time.

And it's really nice you received this NovaPure ground, because I was just looking back a couple of years ago, I had – some write-ups and I went ahead. It was just sort of in the beginning of a sort of hockey stick growth if you will but on the front end of it. And you mentioned two double contributions this year. Is that still -- I imagine on volume basis there's still lots of opportunity and I imagine still -- I don't know help me if you can.

Yeah. Larry it's a dimension that was about less than 2% of revenues last year for NovaPure. So -- but if you can -- we continue to focus on the pipeline and that's what drives this portfolio. It's what's in the pipeline that's coming through. We've been seeding it for, a period of time and that's the exciting part you think about the number of biologics that are in the pipeline more than they have been in the past. And the other exciting part is that, we're touching a lot of smaller biotech companies, if you look at our portfolio of customers. And there is a, statistic recently roughly around three-fourth of the drug molecules coming through are coming from the smaller firms. So it equates well for us as we start thinking about future growth potential.

And just on the foot on the Contract Manufacturing piece. I realize, I guess, some of that's still sort of overhead capacity absorption. Just any other more color there obviously it sounded like these global initiatives I assume will help Contract Manufacturing as well a little bit. We're just such strong growth top line this year I would figure maybe the gross profit margin would have moved a little bit higher. Any color on that?

Yeah, what we're seeing with that is that, just if we look at the products and sales we are seeing a margin expansion in line with our expectations. I think in the first quarter, as we commented earlier it's down to product mix. And we did have a lot of tooling costs, our tooling sales and engineering sales and they typically have a much lower-margin profile. So that impacted the gross margin percentage within the quarter. But when we look out for the remainder of 2019 and beyond we would expect to see incremental improvements in gross margin within contract.

Okay great. And then just lastly, Eric you mentioned sort of it seems like somewhat of an acceleration in some strategic agreements across lot of your platforms. Maybe a little bit more color on that. Maybe update on SmartDose and CZ?

Yeah. No absolutely Larry. What's -- it's exciting we're seeing a -- look we have more work to do with our clients and our customers. But we have a number of -- in the double-digits of feasibility and development agreements with specific customers around SmartDose. And we obviously had discussions with several more. Some of our customers are making that public, but we tend not to discuss the details in great detail. So, we're feeling more comfortable as we start thinking about the potential of SmartDose. But I would say like we experienced with the path it's a long journey to get it to over the line and get it as a combination device in the market. Now what's encouraging on top of that is, not just in the biologics space we're seeing the interest level increase in our generics space. So, and that takes me over to the SelfDose. We have three distinct customers that are going into commercial launches with SelfDose. This is that, our unique product in the auto-injector space that is gaining traction for the dosing with multiple molecules. The last thing I'll comment is on CZ. We obviously use CZ for the SmartDose component. But what's also encouraging, we've been working for quite a while with a couple of customers on one mL Insert Needle. And we're looking at commercialization later on in 2019 early 2020. So as you think about these development agreements they take time to development and work through but, it's very encouraging and the quality of these agreements are strengthening also.

Okay. And then just lastly I might add you had a really great start to the year and obviously have realized some of the year-over-year increases were due to a little bit of a better easy comp compared to Q1 2018. But just, what's some of the initiatives going on? And sort of your guidance sort of implies like a 50bps-ish decline in operating margin from the Q1 level. Might there be a sense of conservatism in that? Or how should I sort of connect those dots?

Yeah. Again we've got a lot of initiatives going on of focus, but we have to be really focused and disciplined in our approach. And the key thing for us is to execute on the guidance that we've put out there and that's foremost in our minds. And that's why we want to make sure that it's the first quarter and it's been a really positive start. And we will make sure that traction continues as we move through 2019.

Fair enough, great. I appreciate that. Thank you very much.

Thank you, Larry.

Thank you. And our next question comes from John Kreger with William Blair. Your line is now open.

Hi, thanks very much. I wanted to ask another question on the margin outlook for Contract Manufacturing. Bern you said you expect it to improve sequentially, do you expect for the whole year to have an improvement in gross margin or should we still assume it's down year-over-year for the full year?

No, we would expect to have an improvement -- an overall improvement year-over-year as we move through 2019. And we -- there are a number of initiatives underway; there is a lot of focus within that area because we realize that we want to capitalize on the revenue growth and we know we have to improve the margins within that business. And we've seen this take place in the proprietary business, so if you look over the last four quarters, we've seen margin improve in that area. And now our focus is on improving within Contract Manufacturing to make sure that we capitalize on the total revenue growth that the business has seen.

Great. Thank you. A question about the geographic mix. What sort of growth differentials do you expect across regions based upon your pipeline at this point? And does that have a mix impact on margins?

I'll start with this Bernard. When we look at the growth in the first part of the year, it's pretty even when you think about the Americas and Europe. It's close to the double-digits. In Asia as you know it's a smaller piece of our overall business. Overall, we're looking at for the full year about double digits as we have done the last couple of years. And that we're actually more excited now with South Korea onboard and it will be able to generate more revenue growth in that particular market. But as we go forward it's relatively a consistent growth across the three regions. What's interesting is when you think about generics it's a healthy growth in both the Americas and Europe and obviously biologics that's more right now it's heavily in the U.S. markets as we speak. So, that's kind of the mix that you would see. But we're not seeing much of a difference at this point in time in the different geographies.

Great. Thank you. And then just one last one. Are you able to tell us what impact of Vial2Bag recall and your remediation efforts for that had on Q1 EBIT margin?

Yes, cost-wise, we probably picked up $2 million to $3 million in incremental cost within our SG&A line. We did look at and have some inventory obsolescence accrued for within COGS and that ranges at about just over $4 million and that -- and then we had some other one-time as we -- just in case people start to backing that out at the COGS number and extrapolating into margin we had some one-time revenues that came in from agreements that we have in place around our SmartDose device. So, that kind of offset the obsolescence charge.

Great. Thank you.

Thank you, John.

Thank you. And our next question comes from Derik DeBruin with Bank of America. Your line is now open.

Hi, this is Juan on behalf of Derik. Congratulations on the quarter. My first question is on research and development. Total R&D spend as a percentage of sales has come down slightly it's been down about by 10 basis points year-over-year over the last couple of years. Can you tell us about your outlook on R&D spend going forward? If you see R&D spend continuing to decline as a percentage of sales going forward? And how do you see all about this level of R&D spend and your ability to continue to innovate on high-value products and self-injection devices?

Yes, Juan it's a great question and thank you for dialing in this morning. We -- when we take a look at R&D, I would like to first isolate against proprietary as CM is growing much faster than rest of the business. I think as a percentage of sales you're right it's somewhat flat may be slightly down. What we are seeing though is that there's a significant amount of resources within our R&D team that are focused on these development agreements for our customers. In particular it's not just in devices, but it's also in some of our elastomer components that we're designing for -- on behalf of specific customer. So when you think about that and that's actually on the rise and that we capture that in our COGS or cost of goods sold and -- to obviously get revenue to offset that. So if we look at that in the totality, it's probably relatively neutral slightly up as far as expense as a percentage of sales come out of our R&D group. Now it's a great question about the future, making sure that we are seeding the future portfolio, we continuously evaluate how we're going to use leverage R&D and look at, is there opportunities to put more resources particularly in our core part of our business. And that's an ongoing review, Juan and we will continue to feed it if there's opportunity for future growth in new product.

Okay, good. The Contract Manufacturing segment has grown low double digits in the last couple of years. And it has exceeded your guidance in both years started off being mid-single digit and then eventually high single digits, but it did exceed your guidance. And so I know that for this year, you're continuing to guide mid-single-digit growth for the whole year. How conservative is that and why can't the CMO segment continue to do low double-digit growth going forward? Especially after you realigned this business to do more health care business as opposed to consumer products? What is the new long-term growth target for this segment going forward?

Yeah, Juan it's a good question. I think when we look at installed capacity, we're just looking at how as we're building components for our customers. The installed capacity and the ramp-up we have for this year and what we have on the order book gives us confidence to be solid in the mid-single. There's always upside I want to tell you what the upside, the upside is the diabetes market continues to I guess I would argue exceed expectations and the actually phenomenal impact it's having on patient health care. And so we -- and we play part of that, we're part of that not just from a device point of view, but also from an auto-injector. So -- and then a lot of it comes from our Contact Manufacturing, but we also benefit with some of the primary containment elastomer coming out of our proprietary business. So Juan you're correct that part of the diabetes market has been a little bit more aggressive than we anticipated I would say if we look back. We do have some pretty tough comps in the second half of this year and that's why we are seeing that as lot more mid single-digit. And as we go forward, we have deemphasized consumer product that's less than 10% of our revenue within Contract Manufacturing today and we'll continue to invest in the health care space. So I would say Juan it's a -- we're in a good situation but we need to continuously improve the margin and profitability of that unit that's our primary focus outside of -- making sure we deliver on time in the fall and high quality to our customers. But we got to get profitability and then we'll continue to expand as we see profitable business coming to the -- into West.

Okay, got it. And one last one if I may. It's sort of a very different question. A lot of people don't focus on this. But when I look at your product sales by -- I mean your overall sales by product type, we barely talk about the standard packaging components; everyone just focuses on the high-value product. But I was looking at historical slides for standard packaging components. When I compare the slides that you typically would have noted with the bubbles and the gross margin associated by product type and the five-year CAGR associated with them, I've noticed that for standard packaging components, the size of the bubble has decreased significantly. The growth profile has gone from mid-single digits to about low single digits and the margin -- gross margin profile with standard packaging components has come down from a high 20s to below the CMO segment and so about mid-teens at best. And so given that this product category still accounts for over 30% of sales on a product basis, can you just give us an update on the standard of packaging components? Any loss to high value products and your outlook in this product category in the future?

Yeah, Juan it's a good question. We look at standard products. Obviously it remains an important part of our portfolio because there are several molecules in the market that rely on that portfolio. I can tell you, our global operations initiative one area they are looking at is continuously driving cost out of the system, so we can continue to deliver the product -- high-quality product to our customers. Now, when you think about the conversion of existing products to high-value products with our customers, so standard to high-value products that is still going on, so when you think about a high-value product growth in strong double digits that's not just new product pipeline or just biologics. That's spread throughout all three of the market units. And so there is an element of conversion and therefore there is -- I will say it in a different way, there's a little bit of cannibalization of ourselves. But it's a good thing because we get better ASP and get better margin. When you look at the margins itself, we don't believe that it's declining as much as I think you were articulating there. It's relatively consistent I would say. You're right. We probably don't get a lot of price, additional price in that area, it’s probably less -- it's less than 1%, it's still positive. But I would say it's -- we're really focused on driving cost and lean-out the system at this point in time.

Okay, got it. And in that vein, I guess, can you give us an update on the market penetration rates of high-value products by customers and so pharma, biologics and generics and overall? What percent of volumes do they make up overall and across each customer category nowadays?

Yes, so on the biologics space over 90% of our transactions are what we classify as high-value products and it's just the nature of the portfolio. When you think about the generics side -- and by the way, when we think about the pipeline feeding the pipeline, if it was -- we were doing Westar RU, if we're doing coating and then also the FluroTec coating and also maybe Envision, our focus from that point is moving them up to NovaPure. So there is a conversion within the high-value products, we're still focused on -- in biologics. In generics, it's roughly around 50% of the portfolio is high-value products and you can see that increase. The reason why is because of the AccelTRA program which is gaining a lot of attention from our customers and interest to convert over the next couple of years. So you'll see that shift from 50% to much higher over the next couple of years. And when you think about pharma that's probably a slower transition. It's roughly around 30% to 40% -- roughly 35% to 40% of pharma is in high-value products, but I wouldn't say the shift towards HVP will be faster than generics. Let's say it's probably just slower just for the nature of the product.

And overall?

Well again, overall it's 20% of the volume we produce out of our elastomer portfolio and it's 60% of the revenue in Q1. It's just to give you that 60% of proprietary sales and it's roughly around 20% of the units and that's -- I'm using Q1 as the proxy and it's relative -- slightly better than it was last year.

All right. Thank you. I appreciate the update and I'll follow-up online with additional questions.

Great, thank you.

Thank you. And I'm showing no further questions in the queue at this time. I'd like to turn the call back to Quintin Lai for any closing remarks.

Thanks Jimmy. Thank you for joining us on today's conference call. An online archive of the broadcast would be available on our website in the Investors section. Additionally, you may access the replay through Thursday, May 2 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.

Ladies and gentlemen, thank you for your participation in today's conference. This does conclude your program and you may all disconnect. Everyone have a great day.