Charles River Laboratories International, Inc. (CRL) Q1 2013 Earnings Report, Transcript and Summary

Ladies and gentlemen, thank you for standing by, and welcome to the Charles River Laboratories First Quarter 2013 Earnings Call. [Operator Instructions] As a reminder, this conference is being recorded. I'd now like to turn the conference over to our host, Miss Susan Hardy, Corporate Vice President of Investor Relations. Please go ahead.

Thank you. Good morning, and welcome to Charles River Laboratories First Quarter 2013 Conference Call and Webcast. This morning, Jim Foster, Chairman, President and Chief Executive Officer; and Tom Ackerman, Executive Vice President and Chief Financial Officer, will comment on our first quarter results and review guidance for 2013. Following the presentation, we will respond to questions. There's a slide presentation associated with today's remarks, which is posted on the Investor Relations section of our website at ir.criver.com. A replay of this call will be available beginning at noon today and can be accessed by calling (800) 475-6701. The international access number is (320) 365-3844. The access code in either case is 288102. The replay will be available through May 16. You may also access an archived version of the webcast on our Investor Relations website. I'd like to remind you of our Safe Harbor. Any remarks that we may make about future expectations, plans and prospects for the company constitute forward-looking statements for purposes of the Safe Harbor provisions under the Private Securities Litigation Reform Act of 1995. Actual results may differ materially from those indicated by any forward-looking statements as a result of various important factors including, but not limited to, those discussed in our annual report on Form 10-K, which was filed on February 27, 2013, as well as other filings we make with the Securities and Exchange Commission. During this call, we will be primarily discussing results from continuing operations and non-GAAP financial measures. We believe that these non-GAAP financial measures help investors to gain a meaningful understanding of our core operating results and future prospects consistent with the manner in which management measures and forecasts the company's performance. The non-GAAP financial measures are not meant to be considered superior to or a substitute for results of operations prepared in accordance with GAAP. In accordance with Regulation G, you can find the comparable GAAP measures and reconciliations to those GAAP measures on the Investor Relations section of our website through the Financial Reconciliations link. Now I'll turn the call over to Jim Foster.

Good morning. I'd like to begin by providing a summary of our first quarter results before commenting on our business prospects. We reported sales of $291 million in the first quarter of 2013. This was 1.8% above the previous year and excluding the negative impact of foreign exchange, a 2.8% increase in constant currency. Growth was driven primarily by the PCS segment, which increased 6% in constant currency from the previous year. The RMS segment gained 1% in constant currency over the prior year. And as expected, sales were significantly higher than the seasonally weak fourth quarter. Also as expected, the restrained spending, which we noted in the fourth quarter of 2012, continued in the first quarter as our large biopharmaceutical clients finalized budgets and set spending priorities for the year. RMS was the primarily driver of the 90-basis-point year-over-year consolidated operating margin decline to 16.8% from 17.7% in the first quarter of 2012. I would remind you that the RMS operating margin was 33.3% in the first quarter of last year, one of the highest levels we have achieved during our tenure as a public company. At 31.5% in the first quarter of 2013, we were pleased with the RMS operating margin and also with the PCS margin, which improved 170 basis points year-over-year to 10.6.%. We continue to implement initiatives through our profit -- through our performance improvement plan in order to improve operating efficiency. In 2013, our efforts are primarily focused on projects in the areas of procurement, IT, energy, discretionary spending, preclinical study management and sales productivity. There are also a number of smaller projects at multiple sites that are in the process of implementation. We are making significant progress in procurement through the implementation of our e-auction process early in the first quarter and have implemented new key performance indicators to enhance our ability to monitor sales efforts. As we stated when we provided guidance, we expect all of these projects to generate approximately $20 million in additional annualized operating income in 2013. Earnings per diluted share were $0.69 in the first quarter of 2013, compared to $0.70 in the first quarter of 2012. We generated slightly less operating income as a result of lower-than-expected sales. We continued our intense focus on management of our cost structure with a benefit from our performance improvement plan, mostly offsetting the cost increases from compensation and inflation. We continued to return value to shareholders in the first quarter through our share repurchase plan with the purchase of approximately 157,000 shares or $6.5 million. We are reiterating our sales and EPS guidance for 2013, although we are adjusting sales guidance to reflect the negative impact from foreign exchange. We continue to expect constant currency sales growth in a range between 4% and 6%, with both RMS and PCS segments in that range. Sales growth is expected to be driven by successful targeted sales efforts, which are enabling us to gain market share, as well as the acquisitions of Accugenix and Vital River, which are both performing ahead of plan. Our non-GAAP EPS guidance remains in the range of $2.80 to $2.90 or about 4% growth at the midpoint. As we discussed when we gave guidance in December, earnings growth in 2013 will be moderated by compensation cost and inflation, as well as cost incurred in relation to new strategic relationships. As was the case in the fourth quarter of 2012, our first quarter results reflect both the opportunities and challenges which characterize our end markets today. These contradictory forces are illustrative of the significant changes taking place in the biopharmaceutical industry. On the one hand, our global biopharmaceutical clients are continuing to streamline the cost of drug development, which has resulted in a reduction of therapeutic areas and the elimination of molecules earlier in the process, as well as closure of capacity and reduced headcount and, therefore, a reduction in unit sales of research models worldwide. Some of these clients are also continuing to allocate more resources to clinical development, as they attempt to offset the loss of revenues due to patent expiration. On the other hand, their efforts to streamline operations and improve operating efficiency are leading to more opportunities for preclinical outsourcing, and we are executing our strategy to gain as much market share as possible in this window of opportunity. I'd like to provide you details on the first quarter segment results. RMS segment sales were $182.5 million or a 1% gain in constant currency. And on a sequential basis, RMS sales increased by 6.2% from the seasonally soft fourth quarter. Year-over-year the acquisitions of Accugenix and Vital River contributed approximately 3.5% to total RMS sales in the first quarter, in line with our guidance that each would contribute approximately 1% to total company sales. The impact was less sequentially because Accugenix was already included in the fourth quarter. In addition to the acquisition, the Endotoxin and Microbial Detection business, or EMD, contributed significantly to sales growth but was offset primarily by continued soft sales of research models to large biopharmaceutical clients. The RMS operating margin was 31.5%, a decline of 180 basis points from the first quarter of 2012, but a sequential increase of 420 basis points from the fourth quarter. As I said, the comparison to the first quarter of last year was unfavorable in part because at 33.3%, last year's first quarter margin was exceptional as a result of higher sales in nearly all RMS business units. We were pleased with the first quarter operating margin and are continuing to implement efficiency initiatives, which we believe will enable us to maintain the operating margin at or above the 30% level. The largest RMS sales contribution in the first quarter came from our EMD business. The EMD business delivered an outstanding performance, with year-over-year sales growth in excess of 20%, including the addition of Accugenix. The PTS franchise continued to perform exceptionally well as a result of our identification and penetration of new niche markets with the PCS and MCS. These machines are becoming increasingly embedded in our clients manufacturing processes because of the accurate and timely results and the ease of use. As I mentioned, Accugenix is performing ahead of our plan. With the benefit of the larger Charles River sales force and our broader access to clients, Accugenix is reaching a bigger audience than it was able to do on its own. I noted last quarter that we are strategically expanding our testing facilities so that clients in countries other than the U.S. can have their microbial identification testing performed in one of our labs situated closer to them. For those clients who prefer in-house testing, in partnership with a hardware manufacturer, we are providing a solution that enables a client to perform its own testing. This is consistent with our approach to structure our relationship with clients flexibly and in the manner which suits their individual needs. We intended to continue investing in both product extension and acquisitions like the Accugenix in order to enhance our ability to support our client's manufacturing processes because we believe that execution of this strategy will advance our position as the market leader in Endotoxin and Microbial Detection and enable us to continue to drive growth for the EMD business. Sales of research models clearly demonstrated the impact of the challenges and opportunities I mentioned. Our global biopharmaceutical clients are significantly reducing their purchases of research models as they rationalize capacity, which is no longer needed due to industry consolidation, elimination of therapeutic areas, rationalization of pipelines or a combination all of all 3. And as we successfully win more strategic relationships with these clients, sales of models, which formerly were reported as production sales, are shifting to service sales. In addition, the first quarter started even more slowly than expected due to our global biopharmaceutical clients' budget prioritization process. In the first quarter, sales of research models to academic and government clients in the U.S. were unchanged from the prior year. Sequestration did not appear to have a material impact in the quarter. Based on discussions with the NIH and some of our NIH-funded clients, we have been notified that there could be some holdback of spending going forward. However, we have also been told by many of these clients that the 8.2% spending cut for NIH does not apply to critical animal care-related functions. Contract changes to date are expected to have an impact of less than $3 million annually in 2013. The impact of sequestration is primarily a modest reduction in small model volume and restrictions on filling open positions in some of our in-sourcing solutions contracts. Sales of models to government clients carry a lower margin in commercial sales, so the impact would be less significant to the operating margin. Sales of research model services also declined in the first quarter due in part to the expiration of 2 long-term contracts for certain services in Europe at the end of 2012. These contracts represented approximately $5.5 million in annual revenues. And as a result of the expirations, we closed a small facility in France in the fourth quarter of 2012 and are in the process of winding down another facility in Germany. Reducing our infrastructure is helping us to maintain the operating margin despite lower sales. Both the contract expirations and site closures were anticipated in our 2013 guidance and were expected to be more than offset by a net 1% to 2% price increase for research models and market share gains in all 3 clients segments: global biopharma, mid-tier and academic and government. Discovery Research Services, or DRS, also contributed to the decline in research model services in the first quarter. The decline was against difficult comps because the first quarter of 2012 was very strong for this business. The slow start for many of our biopharmaceutical clients in 2012, as well as the unevenness of discovery work in general, led to the decline. We believe sales will improve throughout the year because ongoing discussions with our clients reinforced their intentions to outsource additional discovery services, and we believe we are extremely well positioned to be the partner of choice for this work. Our expertise in, in vivo discovery is well known, in particularly, our proficiency in the key therapeutic areas of oncology and CNS, which have enabled us to win strategic relationships. Our tireless sales efforts and market share gains are clearly visible in the PCS segment sales, which increased 6% in constant currency to $108.7 million. The strategic relationships we have established, both with global biopharmaceutical client and with the large and mid-tier client, are generating higher sales. As we build each working relationships and embed ourselves in our clients' processes, we become a trusted part of their team. This encourages the clients to place more work with us for 3 reasons: first, because outsourcing is essential to their ability to improve operating efficiency and productivity, so they are focused on finding additional outsourcing opportunities; second, because they are impressed with the breadth and depth of our scientific expertise and the range of our capabilities; and third, because the pricing structure of these relationships promotes placement of additional work. Volume discounts have historically been a feature of our pricing structure, and that is still the case. As a result of the strategic relationships, which represented approximately 25% of total company revenue at the end of 2012, we have better visibility. The PCS operating margin increased 170 basis points to 10.6% in the first quarter of 2013 from 8.9% in the first quarter of last year. The biopharmaceutical services business, or BPS, which had an extremely weak first quarter in 2012, improved year-over-year. However, it still exerted approximately 120-basis-point drag on a sequential operating margin. As it did last year, we expect the BPS business to improve in the second quarter, and we also expect stable to improving capacity utilization to benefit the PCS operating margin. Capacity utilization has improved year-over-year, with 2 of our facilities continuing to operate at or above the optimal 85% level. The drug research and development market is still undergoing tremendous change, as global biopharmaceutical companies streamline their operation in an effort to improve the productivity and cost efficiency of the drug development processes. Outsourcing has become essential to their success, a fact which almost all of them recognize and have embraced to different degrees. Discussions concerning additional strategic relationships are continuing, as our clients grapple with the logistics of how and what to outsource. We believe it's critical to participate in that process now, so our strategy is focused on positioning Charles River as a preferred partner for outsourced early-stage drug discovery and development products and services. To that end, we are strengthening our existing capabilities and identifying adjacencies and other opportunities, which will enhance our portfolio and enable us to support a broader segment of our clients' early-stage drug development efforts. Targeted acquisitions are an important part of our growth strategy, and we are actively accessing opportunities in order to find assets, both upstream and geographic, which are a sound financial and strategic fit. Vital River is one example of the type of acquisition we are seeking. A strong business operating in a market with excellent growth prospects. Vital River fits exceptionally well with our existing research model business, expanding our geographic reach and giving us the opportunity to utilize our expertise to help set the standards for models in one of the largest markets for pharmaceuticals in the world. We have also invested in upgrading some of our facilities in order to provide more capabilities and space to take on additional work. Our BPS business opened a new facility in the second quarter of 2013, and our RADS business has been operating in its new facility for nearly 1 year. The RADS business has been performing exceptionally well due to new business wins; new service offerings, such as molecular diagnostic; and improved efficiency due to revised workflow, which the new facility made possible. We are increasing collaboration across our business units in order to leverage the capabilities of our unique portfolio. We have extensive scientific expertise embedded in our organization and early-stage capabilities which are unmatched by other preclinical CROs. We have worked to unlock that value through a series of actions over the last 5 years and believe our success in those efforts has been one of the drivers that has enabled us to present clients with a superior value proposition that enables them to outsource services, which they formally maintain in-house, without compromising science and with improved time frames. Today, we differentiate ourselves by our broad early-stage portfolio, which is unique in the CRO universe; our extensive scientific expertise; our attention to client service; our best-in-class data systems and portals; and our ability to structure creative, flexible solutions that support our clients' goals of reducing the costs and improving the productivity of drug development. We are dedicating ourselves to executing our strategy and continuing to return value to shareholders. In conclusion, I'd like to thank our employees for their exceptional work, commitment and resilience and to our shareholders for their support. Now I'd like Tom Ackerman to give you the first quarter financials results in detail.

Thank you, Jim, and good morning. Before I recap our financial performance, let me remind you that I'll be speaking primarily to non-GAAP results from continuing operations. A reconciliation of non-GAAP items can be found in our press release and on our website. Our first quarter performance reflects a continuation of the restrained client spending that we experienced at the end of 2012, primarily related to large biopharmaceutical clients. This trend has a slightly greater impact than we previously expected, which pressured RMS results in the first quarter, particularly demand for small research models and Discovery Research Services. RMS sales increased 1% on a constant currency basis, and the operating margin declined to 31.5% after an extremely robust performance in the first quarter of 2012. In addition, foreign exchange became a more meaningful headwind than we previously forecast in February. FX reduced reported RMS sales growth by 1.4% in the first quarter or by $2.5 million but only had a small impact on the PCS segment. This was primarily driven by the strengthening of the yen. Sales in Japan represent approximately 7% of total annual sales and our generated almost exclusively in the RMS segment. PCS results were essentially in line with our prior outlook as we continue to benefit from market share gains and intensified outsourcing activities by certain clients. The PCS segment reported 6% year-over-year sales growth and an operating margin of 10.6%. As Jim mentioned, the biopharmaceutical services businesses within PCS started off slowly in the first quarter as clients prioritized budgets and new projects at the beginning of the year. However, we expect this business to improve in the second quarter as it did last year. The impact of the soft BPS performance reduced the sequential PCS operating margin by approximately 120 basis points in the first quarter when compared to the fourth quarter PCS margin of 12.1%. First quarter EPS of $0.69 was $0.01 below the first quarter of 2012. The EPS decline was primarily driven by lower operating income in the RMS segment. Other factors that impacted first quarter EPS include a sequential increase in the average diluted share count due primarily to dilution from option exercises and a higher stock price. We continue to anticipate repurchasing between 1 million and 1.5 million shares in 2013 but were below this run rate in the first quarter of the year. The unfavorable share count resulted in a $0.01 reduction to EPS in the first quarter compared to our prior expectations. This was offset by other income, which was favorable in the quarter. Turning to nonoperating items. I'll begin with unallocated corporate costs. These costs increased by $0.4 million year-over-year to $20.1 million, primarily reflecting annual cost increases across several expense categories. Historically, unallocated corporate costs trend higher than the first half of the year before moderating in the second half. We continue to expect unallocated corporate costs to be at approximately 6% of sales for the full year. Net interest expense was $4.4 million in the first quarter, which was flat sequentially and consistent with our expectations of between $17 million and $19 million for 2013. As I mentioned, other income was favorable at $1.1 million in the first quarter. Our non-GAAP tax rate was 26.7% in the first quarter, increasing 10 basis points year-over-year and approximately 600 basis points sequentially from the exceptionally low rate in the fourth quarter. You may recall that the fourth quarter rate declined as a result of discrete tax benefits in the period. Our first quarter tax rate was within our guidance range for the year, which we continue to expect will be a non-GAAP tax rate of 26.5% to 27.5% for 2013. I will now provide an update on cash flow and our capital priorities. Free cash flow in the first quarter was $23.5 million compared to $11.2 million last year. Free cash flow benefited from lower capital expenditures, which declined by $7.7 million year-over-year to $6.4 million. The lower CapEx is largely reflective of the timing of projects, and our CapEx guidance remains at approximately $50 million for the year. Although stronger than in the same period last year, the first quarter is typically the weakest for cash flow generation, and we are on track to achieve free cash flow of $165 million to $175 million in 2013. Our capital priorities in 2013 remain focused on a balance of stock repurchases, debt repayment and targeted acquisitions. In the first quarter, we repurchased approximately 157,000 shares for $6.5 million. As of March 30, we had $48.4 million outstanding under our stock repurchase authorization. Our debt repayment activities in 2013 will be primarily focused on the pending maturity of the $350 million, of 2.25% convertible notes due in June. We are finalizing the financing plans with our bank group and plan to provide more details when the financing arrangements have been completed, which should be within the next month. Our goal is to keep the interest rate low. We continue to evaluate acquisition candidates to compliment our early-stage portfolio. As you know, we completed the acquisition of Vital River in January to enter the research models and services market in China. Combined with Accugenix, which we acquired last August, acquisitions contributed approximately 350 basis points to RMS sales growth on a year-over-year basis. The integration of these acquisitions is progressing well, and each transaction is slightly ahead of our plan. As Jim discussed, we are reaffirming our 2013 guidance of constant currency sales growth in a range of 4% to 6% and a non-GAAP EPS in a range of $2.80 to $2.90. We updated our reported sales guidance to 3% to 5% growth to reflect the recent fluctuations in foreign exchange rates, particularly for the Japanese yen. We now expect foreign exchange to reduce reported sales growth by approximately 1% in 2013 compared to our previous outlook of a negligible impact. FX is expected to be a greater headwind for the RMS segment as a result of the exposure to the yen. Our outlook for the second quarter calls for flat to slightly higher consolidated sales and EPS compared to the first quarter of 2013. By segment, RMS sales are expected to be flat to slightly lower on a sequential basis, but we intend to maintain the RMS operating margin near the first quarter level through our continued focus on managing costs and production levels commensurate with demand. We expect lower sequential sales of small models in the second quarter but expect this to be largely offset by a continued growth in our EMD business. As a reminder, the prior year RMS sales comparisons ease for the remaining 3 quarters in 2013. And as a result, we expect meaningful improvement in the year-over-year RMS growth rates beginning in the second quarter. Looking at the PCS segment in the second quarter, we believe that both PCS sales and the operating margin will improve modestly from first quarter levels as new and renewed strategic client relationships continue to gain traction. In addition, we also expect the sequential improvement in the BPS margin after the slow start in the first quarter. Other nonoperating items in aggregate are not expected to have a meaningful impact on EPS in the second quarter. Unallocated corporate expense is expected to decline slightly from the first quarter, and we are not forecasting the same favorability in other income that we reported in the first quarter. Although spending from large biopharmaceutical clients were slower than expected to start the year, we continue to manage through these challenges and are pleased that the fundamental outlook of our business remains largely unchanged for the year. Thank you.

That concludes our comments. Lola, would you please take questions now?

[Operator Instructions] Next, we'll go to line of Dave Windley with Jefferies. David H. Windley - Jefferies & Company, Inc., Research Division: So Jim, as you've touched on the quarter got off to a little slower start than you expected. You've also touched on some of the impact, potential impact from sequester and a little bit stronger yen FX headwind. I guess the bottom line I'm looking for here is, what gives you confidence that you can still keep the full year EPS guidance in light of those kind of incremental impacts from the last update we got from you?

It's a combination of factors. We clearly saw a more protracted sorting out process in the first quarter than we had seen otherwise. But clearly, people are back to work and have engaged with us in terms of giving us clearer delineation of what the needs will be for the rest of the year. We have a fair number of strategic deals, both multiyear, single year and sort of order by order, that we continue to win and are kicking in. Some started from last year, some started in the middle of last year, some are starting now. We also have some share gains, contractual share gains, specific client share gains in the core animal business. We also have indications that our discovery business will continue to be strong. Obviously, EMD continues to be sort of a rock in all of this. And with the acquisitions continuing to perform slightly ahead of the acquisition plan, which was quite positive, we feel the collection of all of those facts, with very modest impact from sequestration, which I think a lot of people are concerned about, should hold us in good stead. We also enjoyed a nice uptick in the mid-tier clients in the first quarter. We think that will continue to be a solid source of sales growth for us. David H. Windley - Jefferies & Company, Inc., Research Division: Okay, that's helpful. So Tom, on the refinancing, you touched on -- you mentioned goal is to preserve a low interest rate. I guess, I'm curious if we need to anticipate that the culmination of that refinancing would prompt an adjustment to guidance following that?

I don't think it would be material, Dave. So we've been working most closely with our bank group and leveraging the credit facility as much as we can. And so I do think that relative to where the convert rate is and what we think we can do and overall with markets and structure, we're still comfortable at this point that we wouldn't have a negative impact.

And next we'll go to the line of Tycho Peterson of JPMorgan. Tycho W. Peterson - JP Morgan Chase & Co, Research Division: Just wondering if you can kind of talk through your thoughts on the RMS trends from here? I mean, I know organic growth is down a bit in the quarter, and if you could just give us some geographic color there that would be helpful for the RMS business?

I presume you're talking about the core model? Tycho W. Peterson - JP Morgan Chase & Co, Research Division: Correct.

So certainly, it's been affected by these major consolidations, as we said, causing a unit reduction, sort of the offset of that is the increasing demand for preclinical. So that's kind of the present legacy of the consolidations, which I suspect will continue. Having said that, we're continuing to just take share pretty much across the globe in our research model business. We are going to get 1% to 2% price, which is sticking. We have won some business, some contractual business with some clients that we didn't have last year. So -- and a lot of that business is about the mix. So we continue to feel obviously very good about that business and the margins, it will contribute. I would say that the impact, at least in the first quarter, was pretty much global. So you're seeing facility consolidations and restructuring from therapeutic area. Realignments, certainly worldwide. There are big drug companies, although there's a relatively small number left, so the dozen or so big drug companies are situated across the globe. Our feeling for the rest of the year is that, that segment will be -- will continue to be solid and kind of continue in the vein that it is now subject to the caveat that we have taken share in it, that we have won some of these contracts. So I wouldn't expect it to be significantly different than we've -- than you've seen other from a volume point of view or margin. Tycho W. Peterson - JP Morgan Chase & Co, Research Division: Okay. I think last quarter you had called out particular strength in Japan for that business. Does that continue to hold up?

For the first quarter Japan was similar to the U.S. and Europe. So we did see a global situation there. There were specific client issues, which are actually too specific get into. But we have several large clients who are in the process of renovating large facilities and we're supposed to open them in the first quarter. One of those was a very big Japanese client, which had a lot to do with the impact in that locale, but, yes, it really was worldwide in the first quarter.

Next we'll go to line of Tim Evans with Wells Fargo Securities.

Jim, just I'm kind of curious about the pacing in the quarter of kind of the incremental headwinds that you experienced. And I guess, the one thing that kind of puzzles me is the last update we got from you was kind of mid-February and today, we're hearing that kind of Q1 started out more slowly than you expected. I guess, I would have thought that would have been sort of apparent in mid-February. And maybe the question that's kind of embedded in here is, is do you feel like you have a timely visibility into kind of the trends in that business?

Yes. We definitely had a slower start to the quarter than we anticipated, although we did guide to the fact that we thought that the first quarter would start slowly, because we were seeing really restrained decision-making and spending by our clients in the fourth quarter. And what's happened, I would say, over the last few years, but particularly pronounced this year was the decision-making process and the allocation of work internally versus externally. And yes, we saw that in January, but we didn't know how the rest of the quarter would fair or how much of a change we'll be seeing. So February was a better month and March was also -- we just think that there was a fair amount of dislocation with clients not having their budgets done, and an unusual amount of clients actually not having their research facilities even open during parts of January. So it was just more sluggish than usual. They're definitely back to work. I think the predictability is quite good for the rest of the year given historical trends, given the market share gains, given the pricing impact and given how close we are to our clients. So yes, I think we have a very good ability to forecast and guide for the rest of the year.

Okay, great. And did you win any new strategic relationships this quarter?

Just thinking. I think we did. Again, let me redefine them. We have several multi-year deals, one -- we announced 2, 1 by name and as we've indicated, the continual announcement of them will be complicated and probably unclear. So we're going to try to continue to size it for you in terms of total percentage of revenue. But yes, we won some large amounts of work. Some of it will be annually based. Some of it will be -- one situation I can think of, we're now the preferred provider for a client, which was a very arduous bidding process. Most of them are these days. So yes, we're continuing to win a fair amount of share of both business that was never available to any of us. So clients work that was embedded internally that's now available for bid that we've been winning, and we also have a couple of instances where we have taken share directly from the competition, where we never had it at all. So our stated goal and strategy and focus on winning share, particularly those instances where there will be multi-year deals to the exclusion of the competition, those are critically important, and we're continuing to work hard to win those. And what happens most of the time with the larger deals is we get additional business across our entire portfolio because it's a value benefit to our clients of buying across the portfolio.

And next we'll go to the line of Robert Jones with Goldman Sachs.

It's Adam Noble calling for Bob. I just want to, I guess, ask around pricing and specifically in the PCS, definitely seems to be somewhat weak on both revenue and margin. I'm wondering if pricing had anything to do with that, and if you can just give an update on overall pricing across the industry.

Just, I guess, our answer to that would be twofold. One, price definitely depends on mix. So we can get a benefit from that. Our mix of specialty work tends to be higher than the competition. We did see throughout North America about a 1% price increase. That's kind of a culmination of capacity utilization improving. As we said in the prepared remarks, we have a couple of sites at or exceeding our 85% goal, which means that facility -- those facilities are very, very efficient right now. I would say industry pricing is pretty much holding steady. We won some work in the first quarter, where we were not the lowest price point. We were not the lowest bidder. So clients are very cognizant of the importance of science and delivering their work on time and regulatory prowess and IT interface. So price continues to be important for sure. Our clients are waiting a little bit longer to start studies, paying a little bit more, I mean, 1% is just a little bit more, but we are seeing that. And I think that we're also seeing clients utilize multiple facilities of ours. So the value proposition should continue to improve as we fill sites. We've used the hotel analogy multiple times, our ability to locate the client's work and the facilities where we have capacity available will be very beneficial to the margins. So have to predict where pricing is going, except I think it's pretty clear that as all of the CROs continue to fill this space and as many of the large biopharmaceutical clients continue to reduce their space, that there will be some pricing opportunities for sure, as our mix of specialty versus general toxicology work, let's say, balances out. And we have had some historical situations where there was more specialty work, but even balancing out, that improves the pricing proposition as well. So starting to see a glimmer of it. And obviously, we'll continue to work hard to get price wherever we can.

Okay, great, that's definitely helpful. And just with regards to, I guess, the overall preclinical capacity, where would you say the market is right now? And how much further do you expect it to go over the next, let's say, 12 months or so before you start to see a meaningful uptick in pricing from a reduction in capacity?

So it's -- I'll answer it, but it's a little bit of an imponderable, and we don't know for sure. But probably I guess now is that if the industry is in the high 60s, maybe closer to 70%, we're higher than that -- we don't give the exact number. We know that some of our competitors have taken out more space. We know -- I know one smaller competitor that's totally full. So I think everybody's space is filling slowly. Ours certainly is. That's very good for the industry's collective strength and even individual's strength, vis-à-vis, having leverage with our clients to be paid, if I can use this term more properly for the value of the work that we're doing, because we obviously don't like the price point. And the other thing that we mentioned in our prepared remarks, which is really, really important to us is that I can't -- we can only speak for Charles River obviously, is we're spending a lot of time trying to drive efficiency, and that will be a benefit to how we use the space, how we allocate it and the ultimate value proposition and the pricing that we get. So space will continue to fill for sure. It would be shocking if anybody began to build new space, so I don't think we're going to see that. Maybe people will open small amounts of space that they've closed previously. I think that would be fine. And obviously, the major impact on capacity utilization is incremental work that was never available to any of us as the clients continue to shut down space. And we're obviously seeing that given that our sales were up 6%, there's a lot of pure growth in that, both market share from competition and new business that's now available.

And next we'll go to the line of John Kreger with William Blair. John Kreger - William Blair & Company L.L.C., Research Division: Jim, kind of a longer-term speculative question for you. When you talk your clients about their strategic goals over the next couple of years, are you getting any sense about when they might start to tilt resources back to early development and discovery work versus the kind of later-stage tilt that we've seen over the last 3 or so years?

Yes. The answer to that is pretty much all over the place. We had several clients, large pharma clients over the last, I'd say, 6 months, at the end of last year and the beginning of this year, particularly at the end of last year when we were trying to put our budget to bed, made a point clearly of indicating that they were reemphasizing spending in discovery, in early development, in developing some of the compounds that had been languishing. And acknowledging the fact that they had 2 ways to fill the gap that they've seen from drugs rolling off patent. And one is obviously, to drive drugs in the clinic through the clinic and to the market, if possible, but also the necessity to invest in early discovery, in early development, or they were going to have significant gap. So we had several that said that, we have several that said they understood that they needed to get back there, but were still emphasizing spending in the clinic. And I think we're seeing that with some of the work that's being externalized in some of the clinical CROs. But tough to predict, but I would guess based upon the comments we've heard from several of them that we would continue to hear more of that over time as they acknowledge the necessity really to generate more hits that ultimately will be lead compound. John Kreger - William Blair & Company L.L.C., Research Division: Great. And Tom, a quick follow-up. It sounds like you expect some degree of impact from sequestration. If you look at your academic and government work on the RMS side, what's the sort of impact that you're now baking into your expectations for '13 over the next 3 quarters?

As we said, we -- as of now, we -- indications are we're -- that we have some government contracts where we're not being able to refill jobs, that's having a very small impact on us. We had 1 contract that didn't renew that was quite small. So as we indicated, we're actually -- we have an annualized forecasted impact of less than $3 million. As we've always said, Research Models are a vital research tool, not high-ticket items. And any significant cutback would really hurt research across the board. We think what we've seen is trimming. We don't anticipate that it will be a lot higher than that. I suppose it could be slightly more, but we just don't think, given the nature of the relationships that we have, contractual relationships we have and the nature of our client base. And by the way, the amount of our government and academic work that's not U.S. that we should have any material impact from this.

And next we'll go to the line of Rafael Tejada with Bank of America Merrill Lynch.

Just a quick one on the academic and government customer base. During the prepared remarks, you noted that basically you're looking for a modest reduction in small model volume. I'm wondering if there's also -- do you expect there to be a mix shift in terms of the types of models that are being ordered by your academic and government customers?

No, I wouldn't think so. So a lot of the government work we have is contractual, where we actually breed animals for the government. And it's a whole host of different strain and species, and those go out to NIH-funded research all over the country. So as we've said, we're seeing sort of modest impact on headcounts and stuff there. But I wouldn't think there would be any shift in those models nor would we think that there would be a shift in our commercial production that we sell into the academic and government marketplace. I mean, animal sales would be heavily in the inbred strains and in the immunocompromised strains, where they're doing a lot of specialty work and a lot of -- we sell a lot of animals to the National Cancer Institute, for instance. So a lot of the oncology work and infectious disease work would require models like that. So I wouldn't think that it would have any discernible impact on the mix of the models that we sell.

And in terms of the recent M&A, it sounds like, as you mentioned, things are ahead of schedule. So I'm just wondering if current guidance is, I guess, changing in terms of the anticipated amount of contribution for the full year. Or are you expecting a little bit more now for the full year?

In regard to the acquisitions?

Yes.

No, not at this point in time. I mean, we had factored Accugenix in, in our December call and then we updated a little bit the Vital River coming into January. So we'd like to see them outperform, but at this particular point in time, and while we already mentioned that they're at plan or slightly ahead. At this point in time, we wouldn't make that call.

And just quickly, any updates on the Nexus launch for this year?

Only that we're working hard on it, sort of we've alpha and beta tested the technology. We have it teed up for back half of the year. We have several clients, several large clients who are quite interested in it. Some are placing orders. So pretty much no change from the last time we indicated when we get that launch. So interest is building in having that capability to utilize more cartridges and do more work with lower labor component.

And next we'll go to the line of Ross Muken with ISI Group.

This is Vijay for Ross. Just wanting maybe to start off with the big picture question. Jim, you mentioned a strategic deal that now accounted for 25% of the company revenues. Can you give us a sense of what it was in 2011, and where do you think this can go over the next 2 years?

I wish we could.

Or I guess, I mean, if the trend is -- I mean, everyone is talking of strategic deals.

I mean, for the year before it's going to be way below 20%. And since we have so many of these in conversation and we are prevailing in the large majority of them, I certainly think we can get another 5 percentage points on that, maybe get to 30% in the next year or so. It's tough to say except I would say all the drug companies, even the ones that were initially kind of resistant to this kind of outsourcing and said, "yes, we're really better at that stuff than you, and yes, it's not that much of a call center," every drug company is really focusing on streamlining their cost, some more aggressively than others. And as we roll out new services and as we get the story out there, because you have to really spend a lot of time with those senior scientists to get them comfortable, we're seeing people say, okay, that's something that we're comfortable, outsourcing. So a lot of -- I think, a lot of our M&A will continue to be focused upstream and in therapeutic areas, growth and development and additional technologies and even some geographic moves. Our goal is to be able to offload, have the clients offload that work to us. So the predictability is a little bit difficult. But I see no reason why we can't grow in '14 and '15 the way we grew in '12 and the way we started to grow in '13.

Great. And then switching to PCS and tox, it looks like, for the last few quarters, you've been doing relatively better than your largest competitor. What do you think that you're doing right, which is driving this outperformance? I guess, I mean, if you compare '11 to '12, there's been a significant change in the revenue trajectory, but also that's been reflected in the margins. I mean, is this just a pricing game now, or is there something else that's going on out there, which has caused driving that better revenue performance?

As we always say, the clients are acknowledging our scientific depth and capability. I think, we've worked really hard to have flexible solutions. So we literally come up with a different solutions for every large client. We've done very creative things in terms of confidential real-time IT portal for our clients. The mix of work that we have between specialty and general tox is very different than the competition, as is our geographic footprint, as is our entire portfolio. So yes, I think that what we're able to provide solutions that our clients need at times where they've actually taken space offline and they're now really serious about outsourcing work for long periods of time. And that's what we've been working hard to accomplish for over a decade, and this is sort of a culmination of our hard work and a larger demand from the clients given the whole the patent cliff and space coming offline. So yes, we're not surprised by this. This is what we've been working hard to achieve for a long time.

And next we'll go to the line of Todd Van Fleet with First Analysis.

Just wanted to ask about the RMS business, the Research Model and Services contracts that expired in Europe. I mean, they seem to be not extremely large contracts, but decent size, and I just was curious as to the expiration, do they go with another provider? It seems like those could support a much larger body of work just overall. So I'm just -- I'm trying to asses whether or not this is indicative of any sort of geographic slowdown or hardship in the European market or how do you -- what's your take on that situation with those contracts.

So I'm glad you asked that because I think it's important to understand the nature of them so that -- they're not classic Research Model contracts at all. They were unusual contracts in terms of the nature of the work we were doing. And one case was a small pharma company; and in one case, a biotech company. One of the work streams ran out. The company just didn't need the service, and frankly, we no longer wanted to provide it given the -- that we didn't really love the value proposition. And so we were actually pleased that, that one stopped, notwithstanding the fact that there's a revenue impact. And on the other one, there was a very, very aggressively -- very aggressive competitor price negotiation, and the price point got to -- the price got to the point where we didn't think it was useful for us to continue to provide that work to the client, and they gave that work to a lower price provider. So that's the nature of those, and they were unusual types of work, which will have no reflection or impact on the rest of the work that we do in Europe, or even with those clients, frankly.

Next, we'll go to the line of Shaun Rodriguez with Cowen and Company.

So one of the things we've talked about over the past few quarters is that upfront costs associated with your strategic deals might limit PCS margin improvement in the near term despite the improved demand there. So can you just talk about the impact these had on the Q1 margin and how we should think about this impact over the course of the year as some of these just move further along from initial signing of the contracts?

Yes, on the strategic partnerships, yes, we didn't -- we didn't really call that out specifically because in the first quarter as we ramped up a little bit, the impact was not meaningful enough to actually call out. If I'm not mistaken, we had drawn attention to that in Q4 and did indicate that as we began to ramp a little bit more actively, the impact would diminish. So really in Q1, it wasn't much of a factor at all, although what I would say is that the margins on some of that activity is not where we want it to be yet. But again, the overall volume and the margin impact was not significant enough to call out specifically.

And the last question will come from Garen Sarafian with Citigroup.

Just a clarification on the first point, the 1% price increase in North America, could you just state what segment was that and how does that compare to the price increase at this point last year?

So that was for preclinical. So we obviously have -- we have no published price increases in preclinical given the state of the market and capacity. So first time in a long time, we've seen any price improvement. So that's a good thing. And when we talk about the 1% to 2% price increase, that's with regard to -- that's the worldwide number for Research Models. So those are 2 different issues.

And last year, the 1% to 2% was -- what was the price increase last year on the -- on RMS side?

This is the effective net price increase. Last year, it was 2% to 3%.

Got it. And the second question is, just on the RMS side on your comment about global clients' budgeting process leading to lower sales. So could you just elaborate on the message that they're sharing with you as to the length of the delays that they think it would be? Just trying to better understand the incremental challenges and how it would impact 2Q?

Yes, it's over. As I said, it was a combination of budgets literally not being done and facilities, in some cases, not open, and then not being able to make decisions on either -- for us, it's always about what drug -- what compounds they're going to test internally versus externally. So actually in '12, they sorted that out much more effectively in the fourth quarter. And going back to '11, we had a similar situation where it drifted over into the first quarter. So that's clearly behind them. We don't expect it will have a downward impact on the second quarter.

And no one else is in queue.

Thank you. That concludes our comments for this morning. Thank you for joining us. And this concludes the conference call.

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