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Intrinsic Value is all-important and is the only logical way to evaluate the relative attractiveness of investments and businesses.
Good morning, ladies and gentlemen. Welcome to the Taro Pharmaceutical's Second Quarter 2017/18 Earnings Conference Call. [Operator Instructions] Please note that this conference is being recorded.
I would now like to turn the conference call over to Ms. Kristine Semetsis. Ms. Semetsis, please begin.
Thank you. Good morning, everyone, and welcome to our 2017/18 year-end earnings conference call. Joining me today on the call are Mr. Dilip Shanghvi, Chairman of the Board of Directors; Mr. Uday Baldota, Taro's CEO; and Mr. Mariano Balaguer, CFO.
We hope you received the copy of the earnings press release, which can be found on our website at taro.com.
We anticipate that many of you may have questions concerning not only this quarter's and year-end state performance but also our markets, operations strategies and other matters. While we will try to respond to most of your queries, we will not be able to share product-specific and commercially sensitive information, including pipeline detail. We ask that you limit yourself to one question. And if you have more questions, please rejoin the queue. As a reminder, this call is being recorded and a replay and a call transcript will be made available on our website.
Before we proceed, I must remind you that today's discussion may include certain forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. Although the company believes the expectations reflected in such forward-looking statements to be based on reasonable assumptions, it can give no assurances that its expectations will be attained and should be viewed in conjunction with the risk that our business faces as detailed from time to time in the company's SEC reports.
I will now turn over the call to Mr. Dilip Shanghvi.
Thank you, Kristine. Welcome to all of you, and thank you for joining us today for Taro's earnings call after the announcement of fourth quarter and full year '18 financial result.
Taro's results reflect the continuing headwinds in the generic industry. And while we are not completely satisfied with the results, Taro will, and we continue to work to overcome the headwinds, and we will try to minimize the impact.
While the fourth quarter results reflect an uptick from quarter 3, we believe that the U.S. generic market will continue to remain competitive.
I will now hand over the call to Uday.
Thank you, Mr. Shanghvi. Welcome, everyone, and thank you for joining us today. As Mr. Shanghvi indicated, given the environment that we have been operating in for some time, we are not completely satisfied with our performance this year. However, on the positive side, it is important to highlight a few things.
Our volume for the year increased 6% over last year, 7% in the fourth quarter, which signifies that our customers continue to demand our high-quality products. Our products rank number one and number two in more than 3/4 of our portfolio. We continue to maintain an excellent track record with the FDA and other agencies for quality and compliance. And we have a healthy balance sheet with $1.6 billion in cash and no debt. The generic climate remains very much the same. We are in a very dynamic and competitive industry.
We are facing pressure from our customers, especially given the consolidations and buying consortium that have been formed. Recently, there have been proposed changes on the regulatory front such as the U.S. administration's recent blueprint to lower drug prices, which we are reviewing to better understand the impact it will have on Taro's business going forward. The industry continues to witness approval of new products, particularly for products which have relatively low competition and there is an increased space of FDA approval.
Let me now speak briefly on Taro's pipeline and R&D spend. We take a long-term view of R&D investments. We will continue to invest going forward. However, given the broader R&D and industry trends, we constantly evaluate and rationalize both the R&D and the current product portfolio to adjust our R&D priorities. We invest only in those products, which are viable and have a strong business case, while other products are dropped if these don't make economic sense.
As we stated in our release, our onychomycosis drug, Novexatin, did not meet the main goal of the Phase IIb study under current guidelines of the FDA. The results of this study show so far that Novexatin did not show superiority over the placebo. The study is being analyzed further, and we are evaluating our next course of action for the program. We look to create long-term value for our stakeholders, with $1.6 billion of cash we will continue to identify and evaluate inorganic and in-licensing opportunities.
However, we have been and will remain disciplined in our approach, ensuring that our financial and operational metrics can be achieved. We will look at opportunities for growth in Taro's core areas of strength as well as some adjacent areas. We will also pursue additional avenues to diversify revenues via alternate routes and prudent asset management. We continuously evaluate product markets that could be or are expected to be in shortage to capitalize on additional share.
Finally, regarding a word on the share purchases. Through 1st May, Taro has repurchased 1.8 million shares under the current authorization, combined with the 2013 Dutch auction and the March 2016 completed authorization, Taro has repurchased 5.5 million shares, returning a significant value to shareholders. With this, I will now hand over the call to Mariano.
Thank you, Uday. Hello, everyone and welcome. Let me discuss some of the key financial highlights, which are in comparison with the comparable prior year period. First, Q4 highlights followed by the full year comparison.
Net sales were $175 million, a decrease of $21 million, the result of continued increasing competition and challenging U.S. price environment. Overall, volumes for the quarter, as Uday stated, increased 7%. Gross profit of $119 million decreased $25 million, and as a percentage of net sales was 68% compared to 73%.
Research and development expenses of $20 million, increased slightly versus same quarter last year. Selling, marketing, general and administrative expenses, SG&A, increased $2 million to $24 million.
This increase is principally due to higher personnel costs and some legal expenses. Operating income of $75 million, decreased $27 million and as a percentage of net sales was 43% compared to 52% in the prior year quarter.
As a result of the above, Q4 EBITDA of $79 million decreased $26 million, with EBITDA margin of 45% compared to 54% for Q4 last year. Interest and other financial income increased $2 million to $6 million. Foreign exchange income of $16 million compared to FX expenses of $6 million in last year Q4, is at $22 million favorable impact on our earnings for this quarter. This impact is principally, the result of the weakening of Canadian dollar versus U.S. dollar.
This FX is mainly balance-sheet driven by the U.S. dollar-denominated accounts and intercompany AR balances on our Canadian subsidiary books.
Tax expenses decreased $7 million to $11 million, resulting in an effective tax rate of 11% compared to 17% in Q4 last year. The quarter reflects some favorable geographical mix and onetime nonrecurring benefits.
Net income attributable to Taro was $86 million as compared to $83 million, as the decrease in operating income was more than offset by the favorable impact from FX, the reduced tax expenses and the $2 million increases in interest income, resulting in a diluted earnings per share of $2.17 compared to $2.05 for the same period last year.
Let me now discuss the full year performance and comparison to last year. Net sales of $662 million, decreased $217 million, the result of continuing increase in competition and the challenging U.S. price environment, with overall volume increasing 6%.
Cost of goods sold decreased $9 million. Gross profit of $464 million, decreased $208 million, and as a percentage of net sales was 70% compared to 76%. R&D expenses of $70 million remained in line with prior year expenses. SG&A expenses of $88 million increased $3 million. Operating income of $303 million decreased $212 million, and as a percentage of net sales was 46% as compared to 59% in the prior year. EBITDA was $320 million, with a decrease in margin from 60% to 48%. Interest and other financial income increased $5 million to $20 million.
We continue to optimize our cash management through cautious diversification in our investment. FX in 2017/18 of $32 million compared to FX income of $20 million, an unfavorable impact on earnings of $53 million. This again is principally driven by the strength of our Canadian dollar versus U.S. dollar, but again this FX is mainly balance sheet driven. Tax expenses decreased $22 million to $82 million, however, the effective tax rate increased to 28% from 19% last year.
During the third quarter, the company recorded a $38 million expense for the impact of the remeasurement of the company estimated net deferred tax asset, as a result of the U.S. Tax Cuts and Jobs Act. Excluding the impact from the onetime remeasurement, tax expenses would have been $44 million with an effective tax rate of 15%, which include some favorable geographical mix as onetime nonrecurring benefit.
Net income attributable to Taro was $211 million compared to $456 million, resulting in a diluted earning per share of $5.26 compared to $11.05. Excluding the impact of the onetime tax remeasurement, net income attributable to Taro would have been $248 million or diluted earnings per share of $6.18.
Our cash flow and balance sheet remain strong. Cash including short-term and long-term bank deposit and marketable securities increased $191 million to $1.6 billion from March 31, 2017, including the $107 million impact from the company share buyback in fiscal year 2018. And for clarity, cash and cash equivalent are short-term, highly liquid investments that are readily convertible into cash. Short-term bank deposit are the bank deposit with maturities more than 3 months, but less than a year. Cash provided by operations for the year-end, March 2018 of $324 million compared to $438 million for the year ended on March 2017.
As Uday highlighted, we return value to our shareholders through our share repurchase program. During the current fiscal year, the company has repurchased 1,085,694 shares at an average price of $102.52. Through May 1, 2018, in total under the authorization, the company has repurchased 1,774,064 shares at an average price of $102.83. As of May 1st, there were still $68 million remaining under this authorization. Thank you very much.
And now let me hand back the floor to Uday.
Thank you, Mariano. Before you open the floor to your questions, I want to briefly address the Department of Justice investigation. While we have nothing new to report on this matter, we continue to work with our counsel to cooperate with the Department of Justice. We remain committed to strong corporate governance and fostering the culture of compliance at Taro. Finally, I would like to thank the entire Taro team for their continuing outstanding efforts throughout the year during these very challenging times. I am confident that we will work in face of these challenges to move the company forward and our effort to position well for the future. In conclusion, we will continue to evaluate opportunities to ensure that we continue to grow the business and look at initiatives and opportunities that can put our business in even stronger position. We will need to adopt our strategy and asset portfolio as market conditions dictate.
With this, I would like to open the floor up for questions. Thank you.
[Operator Instructions] Our first question comes from the line of Greg Gilbert of Deutsche Bank.
Uday, I was hoping you could talk about the environment. Many of your competitors in the generic industry are talking about a relative stabilization in the generic pricing pressure that has been observed in the past year or two. So I'm wondering if you're seeing similar stabilization in the negative trends. And Mariano, hopefully you can help us understand in the fourth quarter, did you call out what items, whether gross, net or COGS or anywhere else on the P&L were sort of nonrecurring or onetime items to help us better understand how indicative the fourth quarter trends are for the go forward outlook?
I think your question is on the overall price trend.
Yes.
I think the pricing trend depends primarily on the product. So each product has sort of a different impact and to the extent that a company is made up of. Companies have different portfolios, so it's difficult to sort of generalize across companies, but I have to say that the overall trend is probably not changing dramatically and price deflation is something that is a reality. It depends on the product portfolio that you may have and the experience that you have in 1 quarter and 1 year may be different compared to what other competitors are seeing it. But I would say that the reality of price deflation is sort of continuing for us, and that's where we see a substantial amount of challenge.
Gregg, regarding the second part of your question. We don't have any onetime item within the lines of gross to net or COGS. I would say, however, that you need to take into consideration that our portfolio has some significant impact within the mix. So 1 quarter could look more favorable than other when you see the different mix of certain products. So I will be cautious on that. And if you want to do projection, I will isolate myself from a single quarter and try to go more on the year-over-year trend. I hope that it helps.
Our next question comes from the line Neha Manpuria of JPMorgan.
Uday, given the environment remains challenging, and we're likely to see more competition, and therefore, to a large extent Taro's portfolio. How are we going to changing our R&D strategy to meet the environment. And second, given we have the 1.6 billion of cash in our books, do you think there is a need to get a little more aggressive to sort of move the way the parent is moving in terms of building a larger speciality pipeline faster?
So I think as far as our R&D portfolio is concerned and this is what I attempted to address in the comment that I had that, we have to continuously evaluate each and every product that we're putting into our development pipeline. And given the fact that the overall price deflation that we've seen over the last two to three years, I think the need for this rigorous evaluation even heightens. So we have continued to adjust our portfolio, drop products that probably don't make economic sense and adding products that we continue to see a good future in. I would say that, that rigorous approach on continuing to adjust our R&D will happen.
Overall, we haven't dropped any product as of now, which makes economic sense. So from that perspective, I think we remain very confident of the overall R&D investment that we are making. In terms of adjusting the portfolio. I think we continue to look at opportunities. And as we do going forward, we will keep you informed. In terms of using the $1.6 billion, we have said that opportunities are evaluated. We look at whatever make sense for us from a strategic perspective. To your comment on being more aggressive, I think we would remain very disciplined. We've been very disciplined in the past, and we would like to remain very disciplined going forward as well.
We have to keep in mind that the overall economics of the industry, let's say the larger pharma industry and specifically, the generic industry, they have changed dramatically over the last, I would say, couple of years. And we have to keep that in mind whenever we evaluate any investment. So the idea would be to be aggressive on ensuring that we meet our financial and operating metrics in the event we were to do a deal, either, let's say, an acquisition or an in-licensing and not just to be aggressive on showing growth for the sake of growth.
Our next question comes from the line of Ram Selvaraju of H.C. Wainwright.
This is Julian on for Ram. Are you able to provide any guidance on your effective tax rate going forward? Do you expect it to be close to the 11% indicated for this most recent quarter or closer to the average 15% for full fiscal 2018?
Even though we do not provide guidance, I was clearly stated that Q4 has some anomalies for onetime benefit. So I want to take again, the same way we're analyzing sales or gross to net. I would take a single quarter as a reference for a trend. I think that's a safe statement to make.
[Operator Instructions] Our next question comes from the line of Greg Gilbert of Deutsche Bank.
Just one follow-up about pipeline strategy. I'm curious how many more topical targets there are in the industry for you to go after, and by necessity are you finding yourself looking at other dosage forms more aggressively in terms of development projects?
I think that's a good question. I think there are opportunities for us to develop products in the topical areas. But I think historically, if you look at Taro's portfolio, I think we do have products which are beyond the topicals as well. So wherever we feel, which is appropriate given our capabilities and our commercial strengths, I think we continue to look for those opportunities as well.
Our next question comes from the line of Surya Patra of PhillipCapital.
So wanted to know this 6% growth what we have achieved after few years of no growth kind of scenario, and this is happening, again, in a period when we are restructuring our portfolio and all that. So this growth is coming from where actually? Is it the like-to-like growth in the existing product or it is after restructuring, we are getting this growth because of the volume increase really?
I think volume increase is happening both from existing products and some new products contributing there, so I would say it's a mix.
Okay, so this is not the like-to-like growth for the existing product what we meant to say?
Yes. It is not like to like, that's right. It has new products also included there.
To complete the answer, I want to clarify that this is a growth quarter-over-quarter, but not versus Q4 last year.
[Operator Instructions] Our next question comes from the line of [indiscernible].
So Uday, given that globally, are generic companies willing to exit positions from the U.S. market. Would this kind of present an opportunity for us? Have you evaluated that situation?
We did mention that in the event that there are some opportunities available, I think our team remains agile to ensure that we are able to capture those opportunities. But I have to say that we have to look at it from both standpoint. While you are mentioning that some generic companies are probably vacating their positions, but at the same time, we have to keep in mind that the approval rate of products in the U.S. has really gone up and new companies continue to get faster approvals. So I think, keeping both of these things in mind, not necessarily there would be sort of too many or very large opportunities available if sort of this trend continues. So we keep our eyes open, and we ensure that whatever opportunities are we would like to capitalize on those.
Okay. But still in some way or the other, you believe this would provide some respite on volumes or not really?
I didn't get the question.
In the same it would help us if some other guy exists. It would help us push more volumes?
As I said it depends on the product that we have, let's say, if there is an opportunity in our product, I think we want to position ourselves that we are able to meet that requirement for the patient. I think that's where we are trying to position ourselves.
Fair enough. Sir, it has been quite a while, we have been, all these while hearing that Taro is a derma-heavy portfolio. So if you could help us understand better like what has changed which was 2 to 3 years back. Now how are you positioned, how is the portfolio looking now, and are we digressing from derma portfolio? How is the portfolio shaping up now?
I think the overall complexion of the portfolio does not change much. And typically, if you know the development timeline for a product, it's not a one year scenario. You take more than a year to actually develop and file and get an approval. So I think our complexion of the portfolio is by and large similar, except that we sort of have -- we have got several approvals over the years, and we continue to file new products. But if I look at the overall product complexion -- of portfolio complexion, it has not changed much.
[Operator Instructions]
In view that there are no questions further, thank you everyone for joining us on the call. And if there are any questions, feel free to reach out to Bill or Mariano. Thank you.
Ladies and gentlemen, thank you for participating in today's conference. This does conclude today's program. You may all disconnect. Everyone, have a great day.