Matrixx Initiatives Inc. F4Q10 (Qtr End 3/31/10) Earnings Call Transcript
May 11, 2010 | about: MTXX Matrixx Initiatives Inc. (MTXX)
F4Q10 Earnings Call
May 11, 2010 11:00 am ET
Executives
William Hemelt – President, Chief Executive Officer
Bill Barba – Treasurer
Analysts
Scott Henry – Roth Capital
Kevin Kendra – Gabelli
Peter Mondejar – Tradelink Securities
Brad Leonard – BML Capital Management
Matt Daniels – Madison Street Partners
Presentation
Operator
Welcome to the Matrixx Initiatives fiscal 2010 fourth quarter earnings results conference call. (Operator Instructions) I will now introduce your host for today’s conference, Mr. Bill Barba.
Bill Barba
Good morning everyone. Thank you for joining Matrixx Initiatives 2010 fourth quarter and year-end conference call. At the conclusion of today’s prepared remarks, we will open the call for a Q&A sessions.
But before we begin prepared remarks, I need to advise you that this call may contain forward-looking statements not limited to historical facts but reflecting our current beliefs, expectations or intentions regarding future events. A number of factors could cause these results to differ materially from those forward-looking statements. Because actual results may differ from expectations, we caution you not to place undue reliance on these statements. Additional information concerning risk factors that could affect our results, are described in our filing with the SEC including our 2009 10-K and quarterly 10-Q’s.
I would now like to turn the call over to Mr. Bill Hemelt, President and CEO.
William Hemelt
Good morning everyone and thank you for participating in our conference call this morning to discuss our yearend financial results for fiscal 2010. As noted in our press release, our net sales for the year ended March 31 were approximately $63.7 million, which was within our revised guidance of $67 million to $68 million.
The drop off in revenues from the prior year is attributable to the loss of revenues from our Zicam nasal products, which we withdrew from the market last June. The loss of revenues from these products coupled with the cost of recalling the products from the marketplace and the associated non-cash write down of certain assets, combined to produce a very large net income loss for the year of $23.6 million.
Before I turn it over to Bill Barba to discuss the financial results for the quarter and the year in more detail, I want to address what I think is the most important aspect of the recently completed quarter and year.
And that is, our number one objective for the year in response to the events of last June was to ensure that the Zicam brand was protected and secured and that we could establish a growth profile for the brand going forward.
I believe based on the data that was referenced in the press release, we achieved that objective. For the full year, our Zicam cold remedy oral products grew 12% despite flat category growth and despite a growing share of the category transitioning to store brand generic products. The growth in the Zicam oral products is a true testament I think to the strength of the Zicam brand and the loyalty of the Zicam customers. We intend to build on that in the future.
With that as a backdrop, I’ll turn it over to Bill now to discuss the financials.
Bill Barba
The H1N1 publicity did result in retailers building inventory early in the cold season. This early season inventory build affected fourth quarter sales as the incidents of colds and flu declined. Net sales for the fiscal fourth quarter were $6.3 million and we incurred a net loss of $9.6 million which equates to a loss of $1.04 per share. This compares to sales of $30.8 million and net income of $3.1 million or $0.33 per share in Q4 of fiscal ’09.
For the full fiscal year, net sales decreased 40% to $67.3 million versus $111.6 million in the fiscal year ended March 31, ’09. The full year sales were adversely impacted by the recall of our nasal cold remedy products. Those products accounted for $42.5 million of fiscal ’09 sales.
Partially offsetting losses in nasal cold remedy sales was a 22% increase of oral cold remedy products, which accounted for approximately 66% of our fiscal year sales. During the year, we also experienced declines in sales of our non-core product offerings including cough and multi-symptom products.
Due to declines in consumer market consumption on those products, we experienced higher than anticipated returns at the end of the season, which resulted in a $2.3 million increment to our returns reserve in the fourth quarter. This did have a significant impact on fourth quarter gross margin.
For the year, the company incurred a net loss of approximately $23.6 million or $2.56 per diluted share compared to net income of $13.9 million or $1.46 per share in the prior year.
The recall of nasal cold remedy materially affected our operating results in fiscal 2010. The loss from operations was $38.3 million compared to $22.3 million of income in ’09. Included in fiscal 2010 results are charges of $9.2 million for recall related refunds as well as $23.9 million for good will and asset impairment. Fiscal ’09 included a small comparative amount of $2 million for recall related charges.
Excluding the recall charges and asset impairments, fiscal 2010 loss from operations would have been $5.2 million as compared to income from operations of $24.3 million in ’09. Additionally, 2010 results include $2 million in expenses associated with the discontinuation of sales in Canada.
The recall of nasal cold remedy products in June of last year clearly impacted our financial model in fiscal 2010. After the recall, our primary goal was to support our other four products and retain cold remedy users in the franchise. To meet that goal, we increased our in store promotion and invested heavily in advertising and marketing support to spur consumption. Fiscal 2010 marketing expense was $25.4 million or 38% of net sales compared to $31.3 million and 28% of sales in fiscal ’09.
Financial results were also affected by increased legal expenses after the recall. Product liability, regulatory and recall related legal expense increased from $2.5 million in ’09 to $7.2 million in fiscal 2010. Our fiscal 2010 average gross margin of 69% was 2% less than the 71% achieved in ’09. Lower gross margin was due to a lower average sales price per unit and this lower average sales price per unit was due to increased return reserves as well as higher levels of in store promotion, which is recorded as a gross to net reduction.
Gross margins do vary by quarter generally due to the levels of in store promotion and mix of products sold.
I’ll now turn the call back to Bill Hemelt for additional comments and expectations for 2011.
William Hemelt
Without a doubt, 2010 was the most challenging year in our corporate history. The events of last June would have been fatal I believe to many other companies and many other brands, but the strong loyalty of consumers for the Zicam brand, afforded us the opportunity to reposition the brand and the company for the future.
I believe within the past year, we laid a good foundation for that future. Our research continues to show that consumers believe that Zicam stands for getting over your cold faster, which is a relatively unique claim in the category.
Also, they look to Zicam for innovative new products. Our focus has been to redirect those customers from our nasal cold remedy products to our oral products and we are pleased in the progress we made throughout this past cold season in that effort.
We introduced two new Zicam cold remedy oral products this past year, the Liquid product in particular which only attained limited distribution, shows particular promise in attracting new consumers into the franchise and in keeping old nasal users in the franchise.
We will build on our record of product innovation this year by introducing two additional cold remedy oral products. Product concepts for subsequent years are already in the development pipeline. In summary, we did not miss a beat in our development efforts this past year.
To promote our products, we are currently working on the creative for our marketing program this year. While the results for this past year’s commercial were good, we are committed to doing better, much better, and I’m working with our advertising agency on trying to develop that unique way to communicate with consumers that they don’t need to suffer through a cold, but can take Zicam and get over it faster.
Our studies indicate that there is still a large percentage of the population who haven’t heard that message and are receptive to it, so the potential for growing our franchise that we have talked about many times, still exists.
On other product fronts, the events of the past year prompted us to take a closer look at our allergy, sinus extreme group of products or ACS. These four products, which have provided a very steady revenue stream for several years, now account for almost 25% of our annual revenue. We are currently investigating a number of opportunities to further develop this sub segment of the cough/cold market and expect to have more to say about it later this year.
In conclusion, I think we can say that we have not just weathered the storm, but have come through it with a focus and a plan to grow. Obviously, we still face some storm clouds, notably the significant product liability and economic class action litigation.
I’ve previously reported that the bulk of the Federal litigation we face has been consolidated through the multi-district litigation process or MDL. Recently, a magistrate judge was appointed to serve as mediator in this action. He has wasted no time and has scheduled a number of meetings with the parties over the next couple of months to see if this portion of the litigation can be brought to an early resolution.
The settlement discussions I think reflect the strong interest that has been publicly expressed by the plaintiff’s attorneys. Obviously, it is in our interest to reduce legal costs of this litigation as soon as possible and eliminate the attendant risk associated with this litigation.
I will conclude by noting that our number one priority this year is to restore profitability to the corporation. To that end, we have given guidance for the full year of 3% to 5% growth in revenues and net income of between $2 million and $3 million.
Obviously, this is not where we need to be in the long term, but it is a start and we believe a strong start to re-establish a strong, growing profitable company. But I definitely believe that our marketing success this past year has put us on the right track for the future.
With that, we will take your questions.
Question-and-Answer Session
Operator
(Operator Instructions) Your first question comes from Scott Henry – Roth Capital.
Scott Henry – Roth Capital
When you look out to 2011, what type of category growth do you expect for the cold season?
William Hemelt
The recent indication from the people who do, they try to predict illness levels. I think they are predicting that it will be at the same level as this past year, so that assumes a relatively “weak season”.
Scott Henry – Roth Capital
What I’m trying to kind of figure out is you’re currently gaining share, but some of that is probably coming from switches from the nasal products. Once we get on sort of an annualized run rate without the nasal products, do you expect to still be growing share?
William Hemelt
Yes. I think that we have a long way to go in recapturing obviously all the nasal users. That was 40% of revenues and we’ve I think only scratched the surface. Our research indicates that maybe a third of them have come back and perhaps tried our oral products. You know, if they didn’t get a cold there was no opportunity to have them come into the store to look for an alternative product.
So I think we’ll be at that game for some time. But moreover, there’s still a large group of people out there who still, they hear the message that you can get over your cold faster, but they didn’t realize or don’t believe that there are products that can do it. Really, I think the opportunity is still there, and I still think it’s a very large opportunity.
Scott Henry – Roth Capital
It sounds like the 3% to 5% growth, which is a little lower than what I would have expected, probably hinges on conservative expectations for the category as a whole.
William Hemelt
I think the other part of it is, actually we anticipate – let me give you a little more color. We expect double-digit growth in our oral products this coming year. What the 3% to 5% reflects is, we have some non-core products that will be dropping off. We still have a multi-symptom product and a cough product that will probably fade away over the course of the next year or so.
I mean it still remains to be seen whether the stores continue to carry it and if they do, that will be to the good, but we’re making certain assumptions that those sales will disappear. So there’s a bit of a negative offset to the growth of our oral cold remedy products.
Scott Henry – Roth Capital
When should we expect the timeline for the next Daubert rule. My understanding is that’s a critical component for the plaintiff case and that could be an important event to focus on. When should we look for an update there?
William Hemelt
The MDL process, the judge has identified two issues. The first is on the economic class action portion of it, can you even certify a class for these types of claims. Second he said is the Daubert issue which is basically, can this product be associated with the loss of smell allegation.
He has set a very tight timeline and he wants to have those two issues resolved by next June when he’s finished with the MDL process. Those are basically the only two issues he’s going to decide, and he has outlined a very tight schedule for the plaintiffs and the defendants to file motions etc. and for him to hear that. He would probably be making those decisions let’s say next February or March.
Now separate and apart from that, has been this process of mediation that has been established that was in the response to the plaintiffs desire to try to settle these cases and also our interest in exploring that because an early opportunity to settle this, and get us out from underneath this risk, I think is in the best interest of the company and our shareholders.
So there’s kind of two tracks that we’re now following and I mentioned the magistrate’s efforts because that’s probably the more immediate action right now.
Scott Henry – Roth Capital
Mediation procedure, if you were to get a settlement, approximately what percent of cases would that occupy? I don’t know if you need separate ones for State versus Federal but how can we think about a settlement in context to the overall liability?
William Hemelt
The bulk of the cases as you know were either filed in Federal court or they’ve been filed in Arizona State court and then we have a relatively large cluster in California. The Arizona cases, I think are on track. They may be consolidated in a similar manner to the Federal process. The California cases have been consolidated under whatever the State law is in California and I believe they will follow the Federal MDL process.
They will run in sync with it, and the benefit of it is that it reduces our legal costs. There is a lot of overlap in the plaintiff’s who have filed Arizona cases with the MDL cases to the extent any settlement to be had, it’s going to involve, if the plaintiff’s firm has cases in both, it will undoubtedly have to include all their cases.
Operator
You're next question comes from Kevin Kendra – Gabelli.
Kevin Kendra – Gabelli
I wanted to ask a bit about the guidance that you put out there. You said about 34% to 5% increase which by my math gives you about a $3 million to $4 million pickup in sales. It looks like you’re going to improve the bottom line by, even if you exclude the one-time items related to recall about $7 million to $8 million, so where are you going to come up with the savings next year to handle that delta. Is it going to be cut in marketing spend, the G&A?
William Hemelt
It’s a combination. This year our promotional expense, which is a deduction in the net line was a very high percentage. We’ll be scaling that back. I wouldn’t say we would get it back to historical levels, but we will make a major cut to get it back to a more normal level.
Similarly we’ll be reducing the marketing spend a little bit further to get it back in line. Again, it will still be above our 30% goal, but it will move down. I think we ended this past year at around 36% or 37%. So those will contribute to it.
Kevin Kendra – Gabelli
Do you have a sense of where inventories are when you exited the year? I know there was a build up from the H1N1 and then it came down a bit in this quarter. Are you back at sort of a normalized level or is there still some markdown that’s going to happen going into this current fiscal year?
William Hemelt
I think we have some retailers who are a little bit heavy, but they’re offset by some retailers who are a little bit light, so I would say on average it’s pretty normal in the current quarter. We’re seeing in the current quarter as you know is always our weakest quarter, our lowest sales quarter and we lose money in the current quarter, but the sales have held up certainly in line with our projections and maybe slightly ahead.
Kevin Kendra – Gabelli
If I could talk about gross margins, you said that some of your non-core products you might see those drift away over time. Where did they rank as far as gross margin relative to the core oral franchises?
William Hemelt
The multi-symptom was probably our lowest gross margin and our cough product was probably right around the average, maybe a little bit below it.
Kevin Kendra – Gabelli
So seeing both those go away probably brings the margins up a bit on average?
William Hemelt
Yes they will.
Kevin Kendra – Gabelli
If I could move to litigation, what sort of statute of limitations are you looking at for these cases. Is it the typical sort of two years statute of limitations starting from the time of the product recall on the nasal gel products and does that impact the way that you think about settlements or at least the timing of making a settlement?
William Hemelt
Well certainly it factors into our thinking but I have learned that two years is generally the standard. It’s different in different States, but I’ve learned that there are ways around statute of limitations and basically in many States they provide a mechanism when you first became aware that there was a possibility of a risk from that product.
So you inevitably get to an argument was there enough publicity surrounding the associated relationship of Zicam with loss of smell last June, is that the trigger point. So in direct response to your question, two years is kind of the average that I’ve heard.
Kevin Kendra – Gabelli
Based on the amount of publicity that was out there I think that somebody would have had to been under wraps to have not seen it. It seems a good point to start the clock.
William Hemelt
Yes.
Kevin Kendra – Gabelli
So it could be possible where you could reach a settlement before, I guess the roughly two years would take you into July of next year?
William Hemelt
That’s correct, and obviously that’s a concern when we think about even entering into or contemplating a settlement.
Kevin Kendra – Gabelli
Do you plan at any point to take a reserve based on expected settlement or will that come more when you actually reach an agreement?
William Hemelt
At this point, we absolutely have no basis on which to book any reserve. We have a small reserve on the books now, and it was just a continuation of the prior amount. We have no information available to us now to go beyond that, so we would have to wait and assess this and we do look at it quarterly, every quarter. Do we have more information? Do we have a base on which to make that entry? Right now we cannot make that determination.
Kevin Kendra – Gabelli
You said that you expect to be cash flow positive next year and you also said you expect net income of $2 million to $3 million. I would imagine you’re probably going to get some money back from the government for taxes, so why shouldn’t the cash flow next year be materially higher than that net income?
William Hemelt
Yes we will get some money back. When we talk about cash flow positive we’re looking pretty much at the operations. We generally don’t address the income tax situation.
Kevin Kendra – Gabelli
Was there any reason why the cash flow shouldn’t be significantly better than that $2 million to $3 million next year?
William Hemelt
You are correct. We should expect a tax refund for losses that we incurred this past year.
Operator
You're next question comes from Peter Mondejar – Tradelink Securities.
Peter Mondejar – Tradelink Securities
I want to get a clear picture on litigation expenses. You’ve got it for $1.3 million to $1.8 million per quarter. Let’s say you go into settlement. Is there any indication of how much these costs could ramp up? Is it comparable to any past settlements that you’ve had?
William Hemelt
The litigation costs that refer, the $1.3 million to $1.8 million is really just our defense costs that we’re incurring. I can’t say or discuss or have anything really to guide you in terms of what any settlement amount could be. Obviously, our interest in even thinking about settlement is to get rid of the risk an obviously reduce that ongoing legal expense from hopefully the $1.5 million down to much less.
Operator
You're next question comes from Brad Leonard – BML Capital Management.
Brad Leonard – BML Capital Management
What kind of income tax receivable are you going to have when the K comes out? Do you have any idea?
William Hemelt
I haven’t look at that detail just yet, but it will be at least a few million dollars.
Brad Leonard – BML Capital Management
It seems like it would be a lot more than that. What would keep it from being larger?
William Hemelt
Some of those things that the losses that we incurred were attributable to the write down of the machines. I don’t think those will be good tax deductions. We haven’t got rid of those machines and one of them we’re still using and operating with it.
We also have the patent continue as a tax deduction going forward. So the principal tax losses would be associated with the basic loss in net income as well as the write off of the inventory. Those would be the good tax deductions.
Brad Leonard – BML Capital Management
What would those numbers be? It should still be more than a couple million shouldn’t it?
William Hemelt
I said a few million dollars in taxes. It could be more. It may be $4 million or $5 million.
Brad Leonard – BML Capital Management
But that will be in the K?
William Hemelt
For sure. You know that tax disclosure footnote, it will go there.
Brad Leonard – BML Capital Management
Any settlement would be a tax-deductible event wouldn’t it?
William Hemelt
Yes.
Brad Leonard – BML Capital Management
On the multi-symptom product, I didn’t catch the numbers. You took a reserve on some of that product in Q4?
Bill Barba
We increased our returns reserve. The increment to the reserve was a little over $2 million.
Brad Leonard – BML Capital Management
So that reduced the gross margin. That was part of the reason for the low gross margins?
Bill Barba
Yes, with the lower level of sales from that deduction.
Brad Leonard – BML Capital Management
I think you said next year you think the Zicam brand oral would be above 10% growth. Is that what I heard?
William Hemelt
Yes.
Brad Leonard – BML Capital Management
That’s what you’re predicting but it’s going to be offset by the dropping of the multi-symptom and the cough suppressant?
William Hemelt
In our AFV group, I said we’re focusing on that. It will be pretty much flat. It’s been very flat for years. Maybe it’s trending down a little bit, but our goal as I mentioned is to introduce new products in that category in subsequent years, but they won’t have any impact in the current year.
Brad Leonard – BML Capital Management
In allergy and sinus?
William Hemelt
You have two new products coming in the oral?
William Hemelt
Yes.
Brad Leonard – BML Capital Management
When will those be hitting the market, in the fall?
William Hemelt
Yes, they would be shipping probably in July and August.
Brad Leonard – BML Capital Management
And then the Liquid do you think you’re going to get greater distribution this year?
William Hemelt
Yes, it was a very popular item. It was only carried at one major national store, and it sold very well there. I think initial indications are that all the other major stores will carry it this year.
Brad Leonard – BML Capital Management
The SG&A seemed a little bit high in Q4. I know the advertising was large and I’m assuming you felt you needed to do that this year to protect the brand and I probably would agree with that, but was there something in there that stood out for SG&A being higher? I know the breakdown will come later.
William Hemelt
I think there was some, in order to retain the management group, the Board last year in August or September had a retention program and that is higher than what we would normally expect to flow through the expense statement. So I think that drove the SG&A a little bit higher for this quarter and for the year.
Brad Leonard – BML Capital Management
I think it would be helpful in the press release to put out the multi-symptom increase in reserve. I would view it as meaningful, but just a suggestion.
William Hemelt
Okay.
Operator
You're next question comes from Matt Daniels – Madison Street Partners.
Matt Daniels – Madison Street Partners
I’m curious if you can update us on the total number of lawsuits that are out there and the underlying plaintiff’s number.
William Hemelt
I don’t have them in front of me, but I will tell you that there’s 200 or 300 individual plaintiffs in the Federal courts and maybe 200 to 300 in State courts in various State courts. The largest concentration being in Arizona, so that’s about 500 or 600. In addition, there’s a number of lawyers have said that they’ve got some additional plaintiff’s that they haven’t filed yet, so I would think that, we kind of think about a number of 700 or 800, maybe 1,000.
Matt Daniels – Madison Street Partners
How much did you spend on legal expense in the fourth quarter?
Bill Barba
Fourth quarter legal expense was a little bit over $2 million.
William Hemelt
One thing I will comment on in terms of the legal overall on an annual basis, we had a couple of issues. Obviously we spent a fair amount responding to the FDA. That should go away now and then in addition we had some litigation with one of our suppliers. We reported on that I think in the last quarter. We reached a resolution and they paid us about $300,000. That litigation will be gone.
But the decreases from that will be offset by an increase in product liability and that gets you to the $5 million to $6 million number that Bill Barba mentioned.
Operator
There are no further questions. Back to you Mr. Barba.
William Hemelt
I’ll conclude. Again, thank you for participating in the call today and your interest in the company. As I’ve mentioned previously, Bill Barba and I will be out making investor calls over the next few months. Our next phone call is scheduled for early August when we will report on our first quarter results. Again, thank you and have a good day.
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