Welcome to the Second Quarter 2021 Financial Results Conference Call and Webcast for Zoetis. Hosting the call today is, Steve Frank, Vice President of Investor Relations for Zoetis. The presentation materials and additional financial tables are currently posted on the Investor Relations section of zoetis.com. The presentation slides can be managed by you, the viewer, and will not be forwarded automatically. In addition, a replay of this call will be made available approximately two hours after the conclusion of this call via dial-in or on the Investor Relations section of zoetis.com. At this time, all participants have been placed on a listen-only mode and the floor will be open for your questions following the presentation. [Operator Instructions] And it’s now my pleasure to turn the floor over to Steve Frank. Steve, you may begin.

Thank you. Good morning, everyone, and welcome to the Zoetis second quarter 2021 earnings call. I am joined today by Kristin Peck, our Chief Executive Officer; and by Wetteny Joseph, our Chief Financial Officer. Before we begin, I'll remind you that the slides presented on this call are available on the Investor Relations section of our website and that our remarks today will include forward-looking statements and that actual results could differ materially from those projections. For a list and description of certain factors that could cause results to differ, I refer you to the forward-looking statements in today's press release and our SEC filings, including but not limited to, our annual report on Form 10-K and our reports on Form 10-Q. Our remarks today will also include references to certain financial measures, which were not prepared in accordance with Generally Accepted Accounting Principles or U.S. GAAP. A reconciliation of these non-GAAP financial measures to the most directly comparable U.S. GAAP measures is included in the financial tables that accompany our earnings press release and in the company's 8-K filing dated today, Thursday, August 5, 2021. We also cite operational results, which exclude the impact of foreign exchange. With that, I will turn the call over to Kristin.

Thank you, Steve, and good morning, everyone. I hope you and your loved ones are all staying healthy and getting vaccinated for COVID-19. I’d like to start the call by welcoming our new Chief Financial Officer, Wetteny Joseph, who is joining me on the call today. As the former CFO of Catalent, Wetteny is a veteran of the biopharma industry and very familiar with many of you in the investment community. Wetteny joined us on June 1 and is off to a fast start learning all about the company and animal health, everything from cattle guarding and drive impacts to pet care trends and parasiticide season. I am confident that Wetteny will make strong contribution to our ongoing market performance, value creation and leadership in animal health. I also want to take a moment to thank Glenn David for his partnership and all of his contributions to Zoetis as CFO over the last five years. Glenn has taken on a new role overseeing our international operations, and other business units including PHARMAQ, BioDevices, and Pumpkin Pet Insurance. I know he will bring his signature leadership qualities, business skills and industry knowledge to this role and continue driving profitable growth in these areas. Now turning to the second quarter, we achieved strong results once again with 22% operational growth in revenue and 28% operational growth in adjusted net income. Our companion animal portfolio generated 36% operational revenue growth, driven by our pet care parasiticides, key dermatology products, vaccines and diagnostics. Meanwhile, livestock product sales were up 3% operationally and remain in line with our expectations for more moderate growth this year. The second quarter results also reflected favorable comparisons to last year's second quarter, when the uncertainty of COVID-19 and related lockdowns were more severely felt across the animal health industry.…

Thank you, Kristin, and good morning, everyone. Before I discuss our second quarter performance, I would like to take a moment to express how excited I to join Zoetis, a company with an exceptional opportunity for meaningful for long-term growth, driven by the durability and resiliency of the existing portfolio, a robust product pipeline and a key focus on future innovation. I look forward to leading an outstanding finance organization and maintaining the financial principles and investment strategies, which position Zoetis as the world leader in animal health. I would also like to express my appreciation to the Zoetis colleagues and the investment community for such a warm and gracious welcome. I had the pleasure of speaking with several of our investors since becoming CFO and I look forward to connecting with many more in the coming weeks. Now shifting the focus to earnings. This morning, I will provide commentary on our second quarter financial results, the key contributing factors to our performance and an update on our improved full year 2021 guidance. In the second quarter, we generated revenue of $1.9 billion, growing 26% on a reported basis and 22% operational. Adjusted net income of $566 million was an increase of 33% on a reported basis and 28% operationally. Operational revenue grew 22% with 2% from price and 20% from volume. Volume growth includes 12% from other in line products, 6% from new products and 2% from key dermatology products. We delivered another strong quarter and remain encouraged by the performance of our business, health of the overall industry and our outlook for the future. It is worth noting that Q2 2020 is a favorable comparative period due to the impact of COVID-19. The pandemic caused widespread uncertainty last year, which led to clinic closures, supply chain disruptions, and…

[Operator Instructions] And we will take our first question from Michael Ryskin with Bank of America.

Thanks for taking the question, as always I will congrats on another strong quarter. I want to start with Simparica Trio, just a really break out quarter with $139 million. I mean, by our projections, something in the $450,000 to $500,000 range, has been out of the picture for the rest of the year. So I just want to get better a sense of where you're seeing an incremental growth coming from? I mean, we did note a little bit of a tick down in regular Simparica in the U.S. year-over-year. So just wondering if you could kind of little again on cannibalization just revenue expectations as you move forward? And then, my second question will be on the operating leverage. I was wondering we’ve talked about in the past, but definitely saw a notable step up sequentially in SG&A coming in somewhat above my estimates. You mentioned a lot of the advertising spend, a lot of compensation-related expenses. Could just give us a sense of how much this is expected to persist going forward? Obviously, it’s going to play a big role in the operating leverage in the second half of the year and given some of the comps, I want to get a better sense of what goes into that $490 million and sort of how to think about that?

Great. Thanks, Mike. I'll take the first question and I'll let Wetteny take the second question on the leverage. Yes, Simparica, and Simparica Trio did had a phenomenal quarter. Overall, as Wetteny mentioned, we had 50% growth in parasiticides. But, as you look at the quarter for Trio with the $139 million, it was incredibly strong. And I would say, Trio is and has been outpacing our expectations. In fact, the Simparica franchise in Q2 was the second largest in the flea tick, heartworm space. So, we're very excited. We expect to continue to see this product grow. The market itself has now grown to over $5 billion. So, we remain super excited. We're doing well both on our penetration of clinics, as well as reorder. So we see strong momentum that we think will continue into the second half of the year. So, I’ll let Wetteny take your second question.

Yes, in terms of SG&A, indeed, the step up that you see in terms of our trend there is really largely driven by R&D investments, as well as advertising and promotion behind our strong brands, given momentum that we have in the market and the strong market conditions that we are in. We are really putting advertising behind our key brands You mentioned Simparica as a franchise, both Trio, particularly in the U.S. and other markets, but also Simparica continues to grow internationally for us and we want to take advantage of the momentum that we have in this very large market, $5 billion plus. And so, we'll continue to do that as we enter into the back half of the year, particularly, in Q3, as we said in the prepared commentary. But that's really largely what’s driving in. In terms of compensation-related costs, this is really more of a variable low compensation areas that are really in line with the performance of the company there, as well.

And we will take our next question from Jon Block with Stifel.

Great. Thanks, guys. Good morning. Chris, maybe I'll start on the monoclonal and I know it's early, but how are you seeing Librela being used in these international practices? In other words, is it market expansion? Is it taking share from other solutions or cannibalization or remedial? Any color you have there would be helpful. And then just to shift gears on livestock, it's always choppy and can move around. But is there anything more structural going on in the U.S. market in regard to generic competition? And maybe on that last point, how is traction playing out? You mentioned that it seems like maybe less impact to-date, but is the overall year assumption still unchanged? Thanks guys.

Sure. Thanks, Jon. Good to hear from you. I'll take the first question and I'll let Wetteny take the second question on livestock. We have been very excited at the uptick in Librela. As what we're seeing and your question about how is it really being used. We've seen really strong efficacy of the product. The feedback we've gotten and through early experience in our first quarter of sales is just us really quick efficacy. So, they are noticing differences pretty quick. It's improving quality of life, better socialability. So we really think more and more vets are looking at this as a first-line therapy. We do think that there are significant opportunities for Librela to grow the category. The dog categories you've talked about before, currently is $400 million. But we believe by bringing this type of innovation to the market, support them globally, but bringing this type of innovation from the safety and efficacy profile, we think we have the ability to potentially double that market, if you look at how many dogs there are, how many have away and how many are treated. So, we look at the opportunity to grow this market in a few ways. Certainly, as I talked about getting more animals, getting more days on treatment, and better compliance and then, certainly with price of this product is priced at a premium to those are already in the market. So Wetteny, do you want to take the second question on livestock?

Yes, sure. Look, in terms of livestock, we don't see a structural change here in terms of your question and the performance that we're seeing is right in line with our expectations. Livestock grew 3% on the quarter. And as we've said, livestock has tend to grow somewhere around the 4% range in the past but we expect it to be in low-single-digits. This year, and really the global growth in that area is driven by international markets, particularly when you think about emerging markets like China and Brazil, et cetera, in the U.S. with the generic competition for DRAXXIN, we expected to see some headwind there. And it's really playing out in line with our expectations. One more point I’ll make is, if you recall, in Q1, we did have some promotions again in line with our generic defense strategy that really accelerated some of our revenue into Q1 from Q2. So that's playing out a little bit in terms of what you're seeing in the livestock figures for the U.S. But we expect to see further declines in terms of livestock for the remainder of the year and all that’s factored into the guidance that we raised today as well.

And we will take our next question from Louise Chen with Cantor.

Hi. Thanks for taking my question here. Just curious how durable you think this increase in the vet visit, plus spend per pet will be over the longer term? Thank you.

Thanks Louise. Great to hear from you. Yes, we're very confident in the durability of the companion animal trends that you've seen throughout 2020 and 2021. So, as you look in the quarter, we saw overall clinic revenues up 14% and that was equally split between vet visits and spend per visit. And our confidence in the fact that these durable trends really have to do with a few things; one, there are more pets. We've talked about that for a number of quarters. The other thing is, it's going to increase in the standard of care, the expectations of pet owners, greater use across the portfolio, greater use of diagnostics, more people home noticing more about their pets. But the other really important trend that's going to continue to play out is who is adopting a lot more of these pets and that's a lot of millennials and GenZ and they tend of spend more on their pets. They're very engaged in their care. So, we see these as durable trends that will continue, and will remain a big growth driver for the company over the coming years.

And we will take our next question from John Kreger with William Blair.

Hi. Thanks very much. I have a gross margin question. I realize the monoclonals are sort of a new class for you guys as Solensia and Librela ramp, do you expect the gross margin on those products to be better or worse than what you see across your traditional product portfolio?

Yes. Look, we certainly - given the safety and efficacy profile of these products, we expect to be priced at a significant premium to existing therapies including on remedial. So, I would say, it would be above sort of our average gross margin that you see across our portfolio.

Great. Thanks, Wetteny.

Thanks, John.

And we will take our next question from Katie Try. Sorry, Katie Tryhane with Credit Suisse.

Hi. Thanks for my question. You highlighted the strength in diagnostics. Can you just speak about some of the advantages and success that you've had with bundling strategies with therapeutics? And can you speak to what you're seeing in terms of competitive placements for instruments? You also called out the new VetScan Imagyst platform. I mean, how has that been performing today? And how do you expect that to contribute to growth in the business going forward? Thanks.

Thanks, Katie. As you look at diagnostics, it was a very strong quarter with 38% operational growth. Diagnosis, as we've talked about remains a very attractive segment with double-digit growth. And it really - it's core to the way that that practice operates. Again, pets cannot tell you exactly how they are feeling. So we continue to see this being a really strong part of our continuum of care strategy. It's critical to the best practice. We did incredibly strong growth as you saw in the quarter in international making significant placements, very strong in the U.S. and we're focused on a few things there. Certainly, it's placements as we talked about where we are seeing good growth there, stronger in the quarter in international than the U.S. but also really driving consumable use. And we think that remains a big opportunity for us versus competition getting more consumable use in the placements that we have. And then, really adding on to the innovation, so, if you look at the images launch, it had done better than our expectations. We continue to see very strong growth there. Right now, the indication for the VetScan Imagyst is in sequel and that's a large market, it’s about $500 million, growing at 7% to 8%. So, we see really strong growth there. I don’t know, what 8% and adds?

Not it’s probably 1%.

And we will take our next question from David Westenberg with Guggenheim Securities.

Hi. Thank you for taking the question. I am going actually continue on that concept. And can you - that was just asked with Katie. Can you help us conceptualize the size of the non-therapeutic revenue for Zoetis on a go-forward basis? And whether or not we should see it as a revenue contributor or as maybe a means of driving therapeutic revenue? And I am going across the categories with like diagnostics, insurance, Embrex, genomics, et cetera. And then, just a quick clarification question to the answer to Jon Block’s question on the doubling of the pain market. Was that just in dogs? And then, cats is just a plus beyond that or was that $800 million or the doubling of $400 million just the dog and cat? Thank you.

I'll start and see if Kristin wants to add anything. In terms of non-therapeutics, if you look at diagnostics, for example, where we saw 38% growth this quarter. So roughly $99 million of revenue on the quarter on the base of what we reported for the year. So, in relative terms, it's not the largest proportion of our revenue streams, certainly, but we are, very much excited about the potential for the future in the very fast growing markets as diagnostics which is expected to grow faster than the overall animal health space for us. And really one more point that I'll make is, overall, we expect diagnostics as Kristin covered earlier, does have the impact continuum of care, we think overall increasing the use of diagnostics as we look to medicalization across pets will have a positive effect on overall therapeutics in the long haul, we think that's also an exciting opportunity for the long-term.

Sure. And I can take your second question with regards to the cat market. Yes, we think that would be incremental. It is a little hard to size the cat market today. There is really not much of an OA pain market in the U.S. There is some international products that are approved. But, as we talk about doubling the dogs from $400 million to $800 million, if you recall and it's again it's a little hard to size the cat market, maybe it's a $100 million. We think you can double that as well. So I think that could be a $200 million market, which would make the OA category for us across dogs and cats, potentially a $1 billion market that we can play. And so, we think this is a very exciting space for us.

And we will take our next question from Balaji Prasad with Barclays. Your line is now open.

Hi. Good morning, and thanks for questions. Just a couple for me. Firstly, on the parasiticides market, do you have a sense of relative size of where mix gotten better in the quarter and if Trio growth came in at the cost of competitors or some market expansion? On the same point, you recently got a label expansion for Simparica. Could you also just describe take us through the implications for it commercially? And on the guidance side, could you also just take us through what led to a 1% revenue guide change and the 2% increase in SG&A? And where those increased expenditure is going into? Thanks.

Sure. Thanks, Prasad. I'll take the first question, and I will let Wetteny take the second one. As we look I don’t – I can't get into what our competitors products sales are. We remain quite excited for what the comparative is doing. We did get the additional label claim that was expected, that was included in the guidance that we had. In the sense of where are we getting some of those sales from, it is an end. So, we are both growing the market. I think more people are moving back into prescribed products versus some the over-the-counter. But we're also seeing that we are taking share from many of our competitors, as well. So, it's an exciting opportunity across both dimensions. Wetteny, do you want to take this other question?

Yes. Look, one thing I would add in terms of parasiticides, I think it's a $5 billion market, that's growing around 5% and we're gaining share in this marketplace. We do think that with a triple combo, it's improving compliance with respect to heartworm, et cetera and so that we'll have the opportunity to continue to expand the market, as well. So we're very pleased with the performance across our parasiticides portfolio and the share that we're gaining. We will continue to invest behind this product and this portfolio, as well.

Did you want to take the increase in guidance question?

Yes, look, certainly, and when you look at our guidance, compared to where we started in the year and given the overall market - positive market dynamics that we see, our portfolio is performing very well. Kristin covered some of the trends around vet visits and so on. All those are contributing towards optimism and you've seen the year-to-date performance that we've delivered. And in fact, we've taken our guidance in terms of top-line operational growth up from where we started in the year at 9% to 11%, now at 12.5% to 13.5%. So full three points above where we started the year. So, we're very pleased with how we started the year. I think if you look at from a overall perspective, certainly, the first half and the second half of the year, if you look at purely top-line, it's really roughly in line, pretty consistent sort of phasing across the year. The growth rates will moderate based on last year, largely not really a matter of how this year is executing for us. We're in a very positive market dynamic with very strong performance across our portfolio. Last year, given the pandemic, there was a bit of variability across the year. There was disruption in the first half of the year, given COVID-19, which created more demand that got pent-up and caught up in the back half of the year. So that's going to create a dynamic in terms of what the Vs look like in terms of growth rates first half versus second half. But we are very pleased with where we are and we are going to continue to invest behind our key portfolios and brands.

And we will take our next question from Chris Schott with JPMorgan.

Great. Thanks so much for the questions. I just want to focus a little bit more on U.S. livestock. Can you talk a little bit again about the 2Q dynamics? Because it seems like you were going up against a fairly easy comp, but this was still down about 8% So, I was trying to get a sense of like, as we think about the rates of decline you're expecting in the business in the second half of the year, just help us conceptualize what type of erosion you're thinking about as we go up against, what seems like some tougher comps for those quarters? And then, maybe from a longer term perspective, just walk a little bit through about how you're thinking about recovery for U.S. livestock as we think about both poultry and cattle as we get past some of these kind of more challenging near-term dynamics and just think about the longer term business? Thanks so much.

Thanks, Chris. I'll start on more on the strategic drivers and I'll Wetteny get into some of the specifics here. Livestock really has performed as we expected. As we talked about going into the year with the of LOE of DRAXXIN, we did expect a decline in general as we talked about for the last few years. That's generally 20% to 40% over two to three years. And as we said, we thought that would be faster. As you look at the quarter, we did see a 19% decline overall in DRAXXIN, specifically. And I think that is of the key factors in the U.S. And as Wetteny mentioned earlier, I think this will continue. But if you look at broader livestock, historically, it's a low to mid-single-digit grower. Certainly, if you saw in 2019 with AFS and China and 2020 with COVID, it's been lower than what you've historically seen. We do believe as we said that overall this will trend back to a market growth in the mid-single-digit, call it, around the 4% range, maybe be 3% to 5%. And then we think the vet will be in line with that, it could be slightly lower over the next few years if you see this year and really the strategic driver of that is that we have a number we have the largest number of products hitting, lots of exclusivity. And as you look at our guidance, that's why it is baked in. So, it wasn't just DRAXXIN we also have one in poultry, you were just referencing had Zoamix and BMB as well. But again, we've got good growth in some of these other species as well. If you look at poultry, we're really excited at the growth of vector vaccines. It’s a $300 million market, growing 13%. We've already launched two of them Newcastle and IBD and that will be a growing portfolio for us. But, I'll like Wetteny get into some of the more specific numbers, but I do think if you look at livestock just more strategically on a higher level, I think it's going to be a lower grower than companion animal. But we do think it goes back to historical levels. Wetteny, if you want to build on that?

Yes. Look, I mean, look, if you look at livestock across the world with protein consumption population growth, income levels rising, et cetera, we expect those to continue to drive growth in livestock for the long-term. We delivered 3% on the year, as we said it’s as expected and as was covered in the prior earnings call, we expected declines in the U.S., particularly given the generic entry for DRAXXIN. Now, the first quarter did benefit a bit from two things. One, there was a little bit of a delay in terms of the entry of generic for DRAXXIN, but also we ran a promotion in the first quarter that accelerates some revenue into Q1 taking it out of Q2. So, if you take those in consideration, which are exactly in line with our defense strategy, livestock really is performing exactly as we expected. Now, given that the intensification of generic competition as we expected, just began really into the late first quarter into the second quarter, we expect the decline to continue. And again, they are right in line with our expectations here.

And we will take our next question from Steve Scala with Cowen.

Thank you. A local paper in Nebraska reported last week that Librela is being manufactured at the Lincoln plant. If that is correct, then is that product ultimately destined for the U.S.? And as the U.S. regulatory process evolves, can you confirm that it is still the case that no new clinical data is required? Thank you.

Sure. We mentioned - I mentioned earlier, we do believe we will see approval in the U.S. for both Librela and Solensia in 2022 with Librela most likely in the second half. We have long-term strategies from obviously multiple sites. I don't think the U.S. will be manufactured out of Librela at launch. We certainly are looking at potentially adding sites just given the strength as I mentioned earlier of that product. So, we have been having ongoing conversations of regulatory authorities and we remain on track for the guidance we previously provided, which is approval for both of those products with Solensia likely earlier in the year and Librela later. But you should not probably expect that we are producing out of Lincoln Nebraska at launch for Librela.

Look, given our global footprint and presence, you should not beat anything into the location of manufacturing in terms of where products are destined to. In particular, we'll continue to leverage both our footprint as well as third-parties that are manufacturing. And so I wouldn't draw any conclusion from that.

And we will take our next question from Elliot Wilbur with Raymond James.

Hi guys. This is actually Michael Parolari filling in for Elliot. Thanks for taking my question. So, I believe you said in the past that Trio has had about a 90% uptake on top corporate accounts. Just wondering if you provide an update though on penetration across all targeted accounts. And then, in relation to the DTC campaign, I know you said in your prepared remarks that it remains beneficial. But just wondering if you could give a updated timeline line on how long you could see it continuing? And then also how you see incremental spend really driving ROI here? Thank you.

Sure. Thanks, Michael. We continue to see very – we are at or surpassed all the clinic penetration that we expected for Trio. So we're quite pleased with that. And right now, we're a little more focused on reorder rates, as I mentioned. We think reorder trend for us now is I think our penetration is where we would expect it and it’s very broad across the U.S. for Trio and we're to really focused on those reorders, which we now have at 80% continuing to grow those overall reorder rates. Direct-to-consumer advertising is critical in this category. It is $5 billion. It is a category that consumers really do go in and ask for brand. We do obviously track our ROI in this and as you've seen and as Wetteny mentioned earlier, we will continue to invest behind this brand. We have seen incredibly strong ROI in doing so. And that is why you're seeing us step up that spend. As we talked about earlier, it has outpaced our expectations. I think that has everything to do with the innovative nature of this product, but it also has to do with the investment we put behind that in direct-to-consumer advertising and investing with our field force and we will continue to do that. You should expect this year and next year, certainly, we have a window of opportunity with no competition in the U.S. and we will leverage that opportunity. We still don't know exactly when we'll see competition. At this point, we don't expect any into the second half of 2022 at the earliest as we mentioned. But as long as we do not have competition, we will invest aggressively behind this brand. And even when we do, we will do it as well, because we've seen very strong ROI in doing that.

And we will take our next question from Navaan Ty with Citi.

Hi. Good morning. Could you comment on the capital allocation? Should we expect to a continuity of financial policy going forward? And also, following Jurox, should we expect further geographic expansion via bolt-on acquisition in addition to the internal investments? Thank you.

Yes, sure. So, in terms of capital allocation, you should expect consistency in terms of how we've managed capital allocation with the focus first and foremost on internal investments. We have opportunities in terms of R&D, investing behind our brands, on advertising and promotion perspective, CapEx to support our growing pipeline including monoclonal antibodies, et cetera. That's really our first priority. Of course, we'll take advantage of any opportunities from a business development perspective for M&A that helps to accelerate our growth in various markets in areas, as well. So that really follows in terms of investments. And then, as we have free cash flow generation very strong free cash generation, we'll look to return cash to our shareholders. We’ve increased our dividends as you've seen typically faster than our revenue and we reinitiated our share buyback program, which we were continuing. So, that remains consistent, I would say with the best.

And then, on direct, do you want to just comment on that BD geographic expansion?

Yes. So, look, certainly in Jurox, we are excited to be bringing them once we get through the process here over the next six months and close the transaction. We try to bring Jurox into the Zoetis family. Australia is our fifth largest market globally. And this is really at our core. It does increase our presence in a therapeutic area with the leading product, as well. So we're very excited about that opportunity and what it does for us. And we will continue to look for bolt-on opportunities to bring on both the core, as well as other areas of the business whether it's diagnostics or what have you, as well.

And this does conclude today's question and answer session. I will now turn the program back over to Kristin Peck for any additional or closing remarks.

Great. Thank you everybody for your questions today and for your continued interest in Zoetis. We look forward to keeping updated on our business throughout the remainder of the year and continuing to deliver on our results and innovations that you and our customers expect. So, thanks so much for joining us today. Stay safe.

This does conclude today's program. Thank you for your participation. You may disconnect at any time and have a wonderful day.