Recro Pharma, Inc. (NASDAQ:REPH) Q3 2020 Earnings Conference Call November 9, 2020 8:00 AM ET
Claudia Styslinger – Argot Partners
Geraldine Henwood – President, CEO & Director
Ryan Lake – CFO
Conference Call Participants
Leland Gershell – Oppenheimer
Jacob Johnson – Stephens Inc.
Good morning, and welcome to Recro’s Third Quarter 2020 Financial Results Conference Call. [Operator Instructions].
I would now like to turn the conference call over to Claudia Styslinger with Investor Relations. You may begin.
Good morning, and thank you for joining us on today’s conference call to discuss Recro’s third quarter 2020 financial results. This is Claudia Styslinger, and I’m joined today by Gerri Henwood, President and Chief Executive Officer; and Ryan Lake, Chief Financial Officer. Following prepared remarks today by Gerri and Ryan, we will open the call for questions.
Earlier this morning, we issued a press release detailing our financial and operating results for the 3 and 9 months ended September 30, 2020. The press release is available on the Investors page of our website, at www.recrocdmo.com.
Before we begin our formal comments, I’ll remind you that various remarks we make today constitute forward-looking statements pursuant to the Safe Harbor provisions of the Private Securities Litigation Reform Act of 1995, including statements related to our financial outlook. These forward-looking statements are subject to risks and uncertainties that may cause actual results to differ materially from our expectations and forecasts and can be identified by words such as expect, plan, will, may, anticipate, believe, estimate, upcoming, should, intend and other words of similar meaning.
The following are some of the factors that could cause our actual results to differ materially from those expressed in, or underlying, our forward-looking statements: customers’ changing inventory requirements, continuing adverse impacts from customer inventory rebalancing, disruption in raw materials or supply chain and manufacturing plans, customer decisions to move forward with other manufacturing services, average profitability or mix of the products we manufacture or customers facing increasing or new competition. This list of important factors is not all inclusive.
Any such forward-looking statements are not guarantees of future performance and involve certain risks and uncertainties. These risks are described in the Risk Factors and the Management’s Discussion and Analysis of Financial Condition and Results of Operations sections of Recro’s Annual Report on Form 10-K for the fiscal year ended December 31, 2019, and any Quarterly Reports on Form 10-Q which are on file with the Securities and Exchange Commission and available on the SEC’s website. Any information we provide on this conference call is provided only as of the date of this call, Monday, November 9, 2020, and we undertake no obligation to update any forward-looking statements we may make on this call on account of new information, future events or otherwise. In addition, any unaudited or pro forma financial information that may be provided is preliminary and does not purport to project financial positions or operating results of the company. Actual results may differ materially.
I would now like to turn the call over to Gerri Henwood. Gerri?
Thank you, Claudia, and good morning, everyone. We hope those joining us today are keeping safe and healthy as we all continue to navigate through the ongoing global COVID-19 pandemic. For the third quarter of 2020, we generated revenue of $19.3 million, an increase of 24% compared to the second quarter of 2020. We’re encouraged by this positive trajectory coming out of the first half of the year, which was a challenging period for our commercial partners because of Mylan reentering the market and the impact of the COVID-19 pandemic. We continue to enhance our business development team and have promising CDMO opportunities, adding to our momentum going into 2021. We believe the COVID-19 pandemic is likely to continue to impact end user demand, inventory rebalancing and project starts through the remainder of the year and beyond.
I’d now like to highlight several new business growth initiatives. First, in our Formulation & Development Services business unit, which we call RGD, we secured multiple Phase II modified release projects from new customers during the third quarter, all of which include analytical, formulation optimization and CTM work. Our high potency group continues its development work with a Top 20 pharmaceutical company to formulate a high potency oral new chemical entity. And finally, we are pleased with the amount of add-on or extension work we are earning from so many of our existing customers. Approximately 90% of our development customers have proceeded to sign proposals for extensions of work and next-phase development projects. Repeat customers are a strong sign of the confidence our clients have in our technical and execution abilities. As always, we continue to deliver superior manufacturing and development services to our customers as their projects grow and evolve.
Since the launch of our Clinical Trials Material and Logistics or CTM business unit in June of 2020, we’ve seen interest in this area increase, and early work has resulted in expanded proposals from multiple current and prospective clients. Customers are able to take advantage of moving directly from manufacturing a clinical trial drug product right into our double-blind packaging, labeling and distribution services. We have received highly positive feedback from customers who are recognizing the value and benefit of utilizing Recro as a single resource for their diverse manufacturing needs. We currently anticipate that some of our customers who had not realized our capabilities for double-blind clinical trial packaging will now look to add this offering as well. In addition, we are also actively enhancing our business development team to further support the anticipated growth of our CTM business.
In November, we signed a 3-year extension to our licensing and supply agreement with Lannett, a generic pharmaceutical company, for Verelan PM, Verelan SR and Verapamil PM. The signing of this agreement included a $1.9 million upfront cash payment and a $0.5 million per year licensing fee for each of the 3 extension years, ending on December 31, 2024.
Before I turn the call over to Ryan to review the financials, I’d like to take a moment to discuss the recent corporate initiatives to restructure our existing debt agreement with Athyrium Capital Management. In early November, we worked with our partners at Athyrium to amend the credit agreement, which allowed us to secure more flexible covenant terms to pay down a portion of our principal balance without a penalty and defer our remaining scheduled principal repayments until 2022 as part of our plan to de-lever the company over time. The repayment of $9 million of loan principal this month without prepayment penalties will immediately lower our interest payments going forward. The amendment enables us to execute on our further growth strategies.
With that, I’ll turn the call over to Ryan.
Thanks, Gerri. Good morning, everyone. Since we issued a press release and our Form 10-Q earlier this morning, outlining our full financial results, I’ll just review some of the key highlights.
As of September 30, 2020, we had cash and cash equivalents of $21.5 million. Revenue for the third quarter of 2020 was $19.3 million, an increase of 24% or $3.8 million sequentially from $15.5 million in the second quarter of 2020, although a decrease of $6 million compared to $25.3 million for the same period in 2019. Gerri touched on this earlier, but to elaborate, the favorable impact sequentially was driven by customers rebalancing their inventory levels and an improvement in profit sharing results. The decrease from the prior year third quarter of 2019 was primarily the result of customer ordering patterns in the prior year and the loss of Verapamil SR market share by our commercial partners in the first quarter of 2020 due to the reentry of a competitor, Mylan.
Our commercial partner has sustained its market position for the Verapamil SR capsules since the end of the first quarter of 2020. The COVID-19 pandemic has resulted in variances due to the impact of commercial customers rebalancing their inventory levels, decreased end user demand and slower-than-expected new business starts. Higher revenues from new business growth activities has partially offset the decrease, including a significant new commercial product and tech transfer project.
Cost of sales were $11.7 million for the third quarter of 2020 compared to $11 million for the third quarter of 2019. The increase of $0.7 million was not proportionate to the decrease in revenue, primarily due to the lower overall commercial manufacturing volumes and the related impact on fixed costs expenses expensed through cost of sales despite having made earlier reductions in the work force and implementing other cost saving measures.
Selling, general, administrative expenses were $4.5 million for the third quarter of 2020 compared to $4.1 million for the third quarter of 2019. The increase of $0.4 million was primarily related to our new business development efforts related to the launch of our CTM business.
Recro reported a net loss of $2.1 million or $0.09 per diluted share for the third quarter of 2020. This compared to a net loss of $4.3 million or $0.18 per diluted share for the third quarter of 2019, which included a loss from discontinued operations.
Moving on now to the 9-month financials. Revenue was $56.6 million for the 9 months ended September 30, 2020 compared to $81.6 million for the same period of the prior year, a decrease of $25 million, primarily due to the same factors as I previously described in the 3-month results.
Cost of sales were $41.6 million for the 9 months ended September 30, 2020 compared to $39.5 million for the same prior-year period. The increase of $2.1 million was not proportionate to the decrease in revenue, primarily due to lower commercial manufacturing volumes and the related impact on fixed costs expensed through cost of sales despite making reductions in workforce and implementing other cost saving measures as well as increased costs of development sales on higher revenues. Cost savings generated from these activities are expected to continue into 2021.
Selling, general, administrative expenses were $14.2 million for the 9 months ended September 30, 2020 compared to $16.1 million for the same prior-year period, the decrease of $1.9 million primarily due to lower public company costs, partially offset by our new business development efforts and launch of the CTM business.
Recro reported a net loss of $15.8 million or $0.67 per diluted share for the 9-month period of 2020. This compared to a net loss of $9.1 million or $0.39 per diluted share for the comparable period of 2019 which included a loss from discontinued operations.
We have generated $14.2 million in cash from operations year-to-date through September 30th and ended September with $21.5 million of cash on hand.
I’ll now turn the call back to Gerri for closing comments. Gerri?
Thanks, Ryan. In closing, I’d just like to say that we remain committed to our customers, suppliers, business partners, shareholders and employees. We’re committed to delivering on Recro’s upside long-term potential, while prudently managing the business through this rapidly evolving economic situation.
I’d now like to open the call for questions. Operator? Operator? Excuse me. Operator, are you there? We are open to taking questions.
Well, for those listening, it sounds like we may have some technical difficulties. We will hold just for a moment to see if we can resolve those, but for those of you that need to drop off before that time, thank you very much for joining us here today and have a good day.
[Operator Instructions]. And your first question comes from Leland Gershell with Oppenheimer.
Thanks for the update. I wanted to ask — as we think about sort of the weights of the different factors going from Q2 to Q3 with commercial customers, certainly a resumption in level of end user products, the pull-through, perhaps smaller customers, maybe less hesitation to do business, enter into contracts, move along with contracts. Maybe if you could speak to the kind of the different weighting of those factors with COVID-19 in the background as we went from Q2 to Q3. And I have got a follow-up. Thank you.
Sure. Thanks, Leland. I’ll do the qual and then pass to Ryan for the quant on that. So we did see a number of customers who had in the second quarter been holding off on hitting the red button to start their projects, come back to us, generally, fairly recently, a little bit towards the end of the third quarter and a little bit more now, to say that they wanted to get some programs going that were on somewhat indefinite hold, but because COVID has no clear end date, I think they began to think that they needed to make some progress. So I think that has contributed somewhat in addition to somewhat of a return to prior-to-COVID levels of total Rx prescription filling for some of our profit sharing products. But I’m going to pass it over to Ryan for a little more quantitative on that.
Yes, that was good question, Leland. I mean, the 24% increase sequentially, I would say, is roughly driven half by higher product shipments and timing of those shipments. We described earlier some of our customers rebalancing their inventory levels as a result of COVID. And then the other portion, or approximately, the other half, maybe slightly under half, was really driven by improvements in our customers’ profit sharing, so improvements in the gross to nets for our partners.
Okay. That’s helpful. And then I just have actually another question just to drill down into this further. Across the customers you have with commercial products, was it a fairly even trend back in Q3 or were certain customers still more depressed versus Q2 levels in terms of the product landscape for which you benefit?
So, again, remembering that we don’t — it isn’t usual that we are making and seeing the products sold in similar quarters. There is a skew from when we will have made materials until they are actually pulled through the end user for those products subject to profit-sharing agreements. So I’ll come back to that. But for those products that are being shipped, it really reflects where is that customers’ inventory and how are they ordering forward. And I would say that like others in the class, we do see that the ADHD products are not moving at the same level velocity that they had before COVID. And so, that remains somewhat impacted as it had been. But I think we do see a little bit more return to normalcy, at least on the pull-through side for cardiovascular products, and our Verapamil products seem to be included in that mix. Ryan, do you want to add anything to that?
Yes. I mean, I would just say that — echoing what Gerri said. I mean, we are impacted by our customers’ ordering pattern. So, certainly there can be volatility between quarters, and certainly, our customers been trying to adjust their inventory levels not only to new competition, but the uncertainty surrounding the pandemic and everything from stockpiling and medicine to patient visits, and that certainly is an impact. We don’t control that, our customers are more in direct touch with that, but obviously impacts our volumes.
I’d say what we can see in terms of visibility right now into — having a little bit of long-term visibility into our customer forecasts, we’re seeing some kind of normalization as they work through not only their inventory levels and rebalancing those, the impacts of COVID and Mylan being back in the market, there is some stabilization of kind of anticipated manufacturing volumes in our projections as we look out into 2021.
Okay. Got you. That’s helpful. And then my last question is just if you could comment on the pipeline of potential new business that you have? Gerri, in past quarters, you’ve had commentary about a number of opportunities, kind of in the hopper that were moving along. And are we seeing now, this Q3 revenue bump, that the realization of a number of discussions that came to fruition? How should we think about the continued pipeline of newer discussions that may come to agreements in coming quarters [indiscernible]?
Yes. No, great question. And I will say that we have — we’ve had the opportunity to see some of the projects that had been pending for a while come to fruition. And the beginning phases of most projects are not going to be like rocket ships, but they’re like steady incremental steps as we mentioned on the Phase II multi-formulation projects that we have right now. Those are very encouraging because, we’ve got between us and OHAM a number of those, if not all of those, will proceed to become eventually Phase III projects and sell them. So those are very positive.
The CTM business, we’re very excited, and we’ve got some work underway, and we have some large proposals pending with customers that we’ve had for other reasons. So we’re interested in that, having not been aware that we were finalizing the availability of that service on a scaled-up basis.
And so with — again, they are not all in hand, but they are very encouraging because in general, CTM market is a shorter sales cycle and also a shorter cycle to earn, in general, than most of the development work, which will take 6 months or longer, sometimes, to pull all the way through. So those are encouraging. We’ve added a couple of very experienced salespersons to the mix with CTM-specific experience, and so we’re also very encouraged by that.
But I think recognizing that we want to continue to see new growth form and that tech transfer is beginning to come into a period of greater revenue earning, as we would, during ’21 to the installation of required equipment and some validation batches, I mean, all of those things I think are going in the right direction, and the opportunities that we’re [indiscernible] that we’re converting on seem to be much, much better than they were this time last year.
And your next question comes from Jacob Johnson with Stephens.
Good morning, Gerri and Ryan. I guess, following up on some of that commentary. Understanding that there is normally — or there can be quarter-to-quarter movements in inventory and order patterns, not to mention what’s going on with COVID, and the fact you don’t have formal guidance. But is it fair to think of this third quarter revenue level as at least a floor for how we should be thinking about the fourth quarter? Are there any other kind of moving pieces we should be aware of?
So, one major factor every year is how much inventory our customers want to be holding at the end of the year. And if you look historically at our fourth quarter patterns, you’ll see that that is — it’s not always the highest ordering quarter. Ryan, do you want to add anything to that?
Yes. I mean, again — and we’ve made some remarks about this earlier. I mean, we continue to expect to see some impacts of that customer inventory rebalancing and COVID through the end of this year. What gives us some–
A lot of optimism.
Optimism is kind of what we’re seeing from our customer forecasts right now, especially into the first half of 2021. So, again, I wouldn’t — this isn’t a quarter-to-quarter thing. I think normally, you’re looking at kind of a normalization over a period of 12 months, and that’s what we’re looking at right now in terms of our customer forecasts. Certainly, as I mentioned before, the impact from manufacturing volumes, from the impacts of customers rebalancing their inventory levels, from COVID, the product discontinuations we had and Mylan, we really think that we’ll see some of that impact for the remainder of 2020, but seeing that stabilization into our projections for 2021.
I think in the second quarter, we were noting the incremental impact of COVID as being quite high. We saw some attenuation of that in the third quarter, and that’s encouraging. At this moment, I’m not — my crystal ball is cloudy on what’s going on with COVID, but at this moment, we would hope to continue to see that stabilization or perhaps a little incremental improvement in what’s going on the gross to net and profit sharing side as we go through the balance of the year.
Okay. Got it. And then just a quick one, maybe for Ryan. The $1.9 million upfront cash payment from Lannett, is that something that will flow through revenues in the fourth quarter or is that accounted for maybe somehow differently?
Yes. Under GAAP, it will be accounted for differently and over time.
Okay. Got it. Thanks for taking the questions.
But cash is king.
So we’re happy for the cash and the renewal.
Cash is king. Thanks for taking the questions.
[Operator Instructions]. We have no further questions. I will now turn the call back to Gerri for closing remarks.
Thank you, Operator. Thank you, all, again for joining us today. Have a good day. Take care. Bye.
Ladies and gentlemen, this does conclude today’s conference call. Thank you for your participation. You may now disconnect.