Church & Dwight Co., Inc (CHD)
Q2 2008 Earnings Call
August 4, 2008 10:00 AM ET

Executives
James Craigie – Chief Executive Officer
Matt Farrell – Chief Financial Officer

Analysts
William Chappell – SunTrust Robinson Humphrey
Alice Longley – Buckingham Research
William Schmitz – Deutsche Bank
Joseph Altobello – Oppenheimer
Jason Gere – Wachovia Capital Markets
Connie Maneaty – BMO Capital Markets
Nik Modi – UBS

Presentation

Operator

Good morning ladies and gentlemen and welcome to the Church & Dwight second quarter 2008 earnings conference call. Before we begin, I have been asked to remind you that on this call the company''s management may make forward-looking statements regarding amongst other things the company''s financial objectives and forecasts. These statements are subject to risks and uncertainties and other factors that are described in detail in the company''s SEC filings.

I would now like to introduce your host for today''s conference Mr. James Craigie, Chairman and Chief Executive Officer at Church & Dwight. Please go ahead sir.

James Craigie – Chairman and Chief Executive Officer

Good morning everyone. It’s always a pleasure to talk to you particularly when we have good results to report. Let me start off by saying that I’m very proud of my team as I doubt that few consumer packages companies will match both the quality and magnitude of our second quarter and first half of 2008 results. These results reflect an organization that is highly motivated and firing on all cylinders. Our new product pipeline and increased marketing spending is driving strong organic growth. Our business teams and supply chain organization are working closely together to deliver exceptional gross margin expansion despite a dramatic rise in commodity prices in 2008. Everyone is continuing to keep a tight rein on overhead costs as proven by the fact that we have the same number of employees today as we had four years ago, despite a 50% increase in sales during that time. We are squeezing every dollar out of our working capital to drive a significant increase in cash flow. That increased cash flow and strong balance sheet is enabling us to smartly invest in our future through accretive built-on acquisitions and building new plans to further lower our cost structure and strengthen our competitive advantage.

While we are feeling bullish about our company’s business momentum we are very cognizant of the very tough business environment facing all companies these days. Consumer confidence is at a record low and consumers are trading down as shown by the growth of private label. We believe that consumer spending is going to get worse before it gets better. However Church & Dwight has handled this crisis exceptionally well so far as demonstrated by our strong organic growth and gross margin expansion. No other consumer packages company that I can think of is as well suited to handle a recession as Church & Dwight. Over 30% of our domestic portfolio consists of value oriented products. We’ve also just launched a major new product line that leverages two hot consumer trends; Value and Green. I’ll talk more about this in a moment.

Finally we have a superb plan in place to deliver on our goal of growing gross margin by at least 100 basis points per year. We promised that result for 2008 when oil was less than $100 per barrel. We will still deliver on our objective despite higher oil prices. Now you may wonder how Church & Dwight can still do this while most other consumer packages companies are not able to grow gross margin. The answer is that Church & Dwight have four key factors driving gross margin. The first two are common to other consumer packages companies in that we have taken pricing, in our case we priced over 30% of revenue base and I assume that other CPG companies have also have basic productivity programs in place to cut costs wherever possible.

On top of those two common industry factors, Church & Dwight have two unique factors. First the compaction of liquid laundry detergent products which started in September of 2007 and finished its national rollout in June of this year has generated significant cost savings that have more than offset the cost increases in this commodity sensitive business. Second we have $10 million in manufacturing cost synergies starting last October from the integration from the acquired OGI brands in to our manufacturing facility. Not only do we have these four factors driving gross margin expansion but when commodity prices started to rise dramatically in early 2008 we exceeded our assumptions on all four factors through an extraordinary effort by the whole Church & Dwight organization. In this regard we took more pricing than originally forecasted. We achieved more cost savings then we expected. The laundry compaction conversion went better than expected, and we exceeded the cost savings from the manufacturing synergies on the integration of the acquisition.

When you combine this incredible effort on cost savings with the great pipeline of new products, increased marketing spending, tight overhead controls, and squeezing working capital, you get the high quality business results achieved by Church & Dwight in the second quarter of 2008; 8% organic revenue growth, 110 basis points of gross margin expansion, 13% increase in net income, and 82% increase in cash flow. These results are not surprising to us as we expect to continue delivering solid organic revenue growth at the high end of our long-term goal of 3% to 4% and gross margin expansion of at least 100 basis points annually.

I’ll provide more details in my outlook for the year in a few minutes. I’ll now turn the call over Matt Farrell, our Chief Financial Officer, who will provide you with greater insight in the financial results of the second quarter and first half of 2008.

Matt Farrell – Chief Financial Officer

Thank you Jim, good morning everybody and I’ll start with the headlines. As Jim mentioned second quarter EPS was $0.66 per share compared with $0.59 in 2007 and a strong sales performance in gross margin expansion were the drivers of our second quarter earnings results. Revenue is up 8.7% of which 1.5% was due to currency. We had some offsets there to net it down to 8% organic growth. Of the 8% growth approximately 3% was due to volume and another 5% due to price and mix. The pipeline for new products as well as expanded distribution on existing products also helped the quarter by approximately 2% of that 8%.

Now let’s briefly review the segments. The domestic business had a strong quarter. Revenue is up 7.4% led by Xtra liquid laundry, Arm & Hammer liquid laundry, First Response, Arm & Hammer powdered laundry detergent and Arm & Hammer Super Scoop cat litter. We successfully raised prices in May for Arm & Hammer powdered laundry detergent and Nice’n Fluffy liquid fabric softener as in February for Trojan, as well as for baking soda. New product launches also contributed to the domestic revenue growth. Now the international division, international posted 3% organic growth as this segment performed well in many countries. The specialty products business had an exceptional quarter primarily due to price increases for our dairy products and the specialty chemicals business. The specialty products business enjoyed higher year-over-year prices in Q2 for virtually its entire portfolio of products.

Now we’ll look at gross margin. Our second quarter gross margin was 40.8%. That’s a 110 basis point expansion versus last year and we’re very pleased with this result despite significant commodity increases in packing in the business. As Jim said we have four levers that contributed to the margin expansion, cost reduction programs, pricing, OGI manufacturing synergies and the benefits of concentration of liquid laundry. The cost reduction programs include product reformulations, plant automation, more sophisticated forward buying, and optimization of trade spending just to name a few. The price increases we have taken thus far this year began to impact gross margin in the second quarter and we will continue to access additional pricing actions on products as commodity prices continue to rise.

We are pleased with the progress we have made in the transition of concentrated laundry products and the benefits this is providing to gross margin. These levers serve to offset higher input costs for resin, corrugated paper, liner board, diesel fuel and many others. So we are delighted with our gross margin performance in this past quarter. Now looking ahead, and excluding the plant charges that I’m sure you’re all familiar with, we continue to expect a healthy expansion of year-over-year gross margin in both Q3 and Q4.

I’ll talk about marketing now. The marketing spend was 13.3% of revenues which is 120 basis points higher than the prior year spend of 12.1%. Our marketing expense was about $13.1 million higher for the quarter than year ago. This higher spending is the key driver of our organic revenue growth along with our innovative new products which Jim will talk about in a few minutes. Our second quarter spend was about $80 million and we expect to continue to spend at or above this level in the remaining quarters. So we are targeting marketing spend to be about 13% of sales for the second half of 2008. SG&A is next. SG&A year-over-year was $7.4 million due to foreign currency changes, higher R&D and investment in information systems. SG&A as a percentage of sales was 13.7% in Q2 which is up from a year ago. Looking ahead we expect third quarter SG&A as a percentage of sales to be comparable to Q2 due to higher R&D spending as we continue to invest in new products. Remember also that the third and fourth quarter will also include integration costs for the Orajel acquisition that will be hitting the SG&A line.