West Pharmaceutical Services, Inc.

Thank you, Operator. Good morning everyone, and welcome to West's second quarter 2012 results conference call.

We issued our financial results this morning and the release has been posted in the Investors section on the company's website located at www.westpharma.com. If you have not received a copy of this announcement, please call Westwicke Partners at (443) 213-0500 and a copy will be sent to you immediately.

Posted on the company's website is a slide presentation that management will refers to in their remarks today. The presentation is in PDF format.

Should you require it, a link to a free download of software that will enable users to view the presentation is also available on the website.

I remind you that statements made by management on this call and in the presentation will contain forward-looking statements within the meaning of the U.S. Federal Securities Law and that are based on management's beliefs and assumptions, current expectations, estimates and forecast.

Statements that are not historical facts, including statements that are preceded by, followed by, or that include words such as estimate, expect, intend, believe, plan, anticipate and other words in terms of similar meaning are forward-looking statements. West's estimated or anticipated future results, product performance or other non-historical facts are forward-looking and reflect our current perspective on existing trends and information.

Many of the factors that will determine the company's future results are beyond the ability of the company to control or predict. These statements are subject to known or unknown risks or uncertainties, and therefore, actual results could differ materially from past results and those expressed or implied in any forward-looking statement.

You should bear this in mind as you consider forward-looking statements. For a non-exclusive list of factors, which could cause actual results to differ from expectations, please refer to today's press release.

Investors are also advised to consult any further disclosures the company makes on related subjects in the company's 10-K, 10-Q and 8-K reports. Except as required by applicable securities law, the company undertakes no obligation to publicly update forward-looking statements whether as a result of new information, future events or otherwise.

In addition, during today's call management may make reference to non-GAAP financial measures including adjusted operating profits and adjusted diluted EPS. These measures and their component parts have no standardized meaning prescribed by U.S.

GAAP and therefore, may not be comparable to, and should not be viewed as a substitute for, U.S. GAAP operating income and diluted EPS.

Reconciliations of the non-GAAP financial measures to the most comparable financial results prepared in conformity to GAAP are provided in materials accompanying this morning's earnings release.

At this time, I'd like to turn the call over to Don Morel, West's Chairman and CEO. Don?

Thanks you very much, John, and good morning everyone. Welcome to West's second quarter 2012 conference call.

I'm joined this morning by Bill Federici, our Chief Financial Officer; and Mike Anderson, our Treasurer and primary Investor Relations contact.

As a reminder, we will refer to the slides that John mentioned in our prepared remarks this morning. The slides can be found through our website www.westpharma.com, under Investors.

However, if you have difficulty accessing the files, the content of those files is covered both in this morning's release and in our commentary.

As we presented in our April call, 2012 started strongly and indeed that momentum has carried through the second quarter. For the last 3 months, as highlighted on Slide 3 and in the release, West generated record consolidated sales of $324.8 million, representing a 5.5% growth at actual rates or 11.3% excluding the effects of currency exchange versus the second quarter of 2011.

Our sales growth resulted from a favorable product mix and when combined with pricing actions from earlier in the year improved by operating efficiencies and lean initiatives, our gross margin improved by 2.9 percentage points to 30.4%. Although SG&A rose moderately, second quarter adjusted operating income was $39.5 million, yielding very strong quarterly adjusted diluted earnings per share of $0.79.

Order patterns remain favorable with approximately 85% of expected third quarter production booked and our confirmed backlog remains at a very healthy $305 million, approximately 10% higher than the same period in 2011.

As a result of our strong first half and our visibility into demand for the next 6 months, we are increasing our full year adjusted EPS guidance to $2.60 to $2.70 per share. Even with a headwind of the strengthening dollar and an assumed euro conversion rate of $1.22 for the remainder of the year.

Bill will cover our results and guidance forecast in greater detail. So I'll offer just a few observations on the business units as summarized on Slide 4.

Pharmaceutical Packaging sales grew 13.1% excluding currency, again driven by continued strong demand for value-added products, including Envision, FluroTec and Westar.

Selectively high value products grew 28% at constant exchange rates, resulting in a very positive product mix despite the currency drag in Europe created by the strengthening dollar. We also experienced solid standard product growth as customers continue to rebuild inventories and certain generic customers ramp up production to meet market shortages of selective drugs.

Overall, sales were up in all geographic regions, led by an almost 20% gain in Asia and more than 10% in Europe, excluding exchange effects.

As a result of the positive product mix and plant operating efficiencies, the segment operating margin improved to 22%, significantly above our stated 5-year business plan objective for the Packing business. We also benefited from relatively stable raw material cost and improved plant utilization when compared with 2011.

While there's doubt there will be fluctuations in the margin in future quarters, we still believe this part of the business can deliver a 20% or higher operating margin on a consistent annual basis. Certainly, the primary drivers of our business over the next few years remain intact, led by an aging population with an increasing incidence of chronic disease treated with injectable drugs of biologic origin.

Sales in the Delivery System segment grew 6.1%, due to strong demand for contract manufacturing services, reconstitution systems and continued improvement sales of safety systems. CZ sales were flat compared with the prior year, primarily due to a customer delay in launching new product in the U.S.

On a positive note, we did book 2 significant orders for CZ systems in the quarter for future stability trials. And also announced our collaboration with Amgen to develop and evaluate CZ systems.

For our June 20 release, the terms and details of that collaboration and bound by confidentiality, and thus not subject to further comment. Operating profit for this segment improved versus the prior year helped by customer funded development projects.

Overall, we continue to make good progress towards our strategic objective of shifting the mix in this segment from approximately 80-20 contract proprietary to 50-50 within the next 5 years. As the mix improves, we will also see a substantial improvement in operating margin.

Slide 5 provides highlights of our ongoing expansion and product development programs. I'll be brief here as this was covered in some detail during our May 23 Investor Day.

The China elastomer facility remains on schedule and as a reminder should begin shipping product for validation trials late in the first quarter next year. All of the required approvals and permits have been obtained for construction of the India facility and we expect groundbreaking to take place this month.

The global launch of NovaPure continues to go well with customers focused on meeting the market's rising quality standards for all aspects of their drug products. The NovaPure product line builds on the quality attributes of the Westar line, which was launched more than 10 years ago, and has secured a significant part of the small volume parenteral market.

Certainly, the infrastructure investments we have made over the last few years are bearing fruit, as much of the growth in high value product demand such as Envision is being produced in this recently installed capacity. CZ sales for the quarter were flat compared with prior year and remain unpredictable in the near term, but we remain confident that full year sales will fall in the range of $8 million to $10 million for these products.

While the 1-ml insert-needle syringe is getting the most attention, a number of recent buyer recalls for delamination have started to generate market interest in alternatives to glass vials as well. As customers continue to focus on particular issues, we expect sampling activity for CZ vials to pick up in the second half of the year.

Our development group continues to feel numerous inquiries requiring our self injection platforms ConfiDose and SmartDose. As was mentioned in our Q1 call, the primary development efforts for the SmartDose system remain focused on engineering validation of the CZ cartridge and optimizing the supply chain for the device itself so that customers can begin planning for formal stability, patient use and clinical studies using the ultimate commercial iteration of the device.

Hardac's [ph] major program goal remains to have validated units ready for clinical trials in mid 2013.

On the safety front, sales of the éris system have strengthened and we are forecasting full year volumes to be substantially ahead of 2011 level. We've also secured our first customer for the new B-Safe system with the first production units delivered in July.

In sum, the first 6 months of 2012 have been very strong. With a great deal of progress achieved relative to our long-term goals.

And we expect a very strong year in terms of both sales and earnings per share on a fully diluted basis.

I'd now like to turn the call over to Bill Federici for more detailed look at our Q2 results.

Thank you, Don, and good morning, everyone. We issued our second quarter results this morning, reporting net income of $15.6 million or $0.45 per diluted share versus the $0.57 per diluted share we reported in the second quarter of 2011.

Excluding the effects of special items like the quarter's -- current quarter's debt extinguishment loss and impairment charge, and the smaller restructuring in acquisition earn out adjustment, second quarter 2012 earnings were $0.79 per diluted share versus $0.62 we earned in Q2 2011, a net increase of 27%. Those non-GAAP measures are detailed on Slides 13 to 15.

The net effect of our debt refinancing activity is expected to be accretive to earnings per diluted share in future periods by eliminating the dilutive effect of the underlying 2.9 million shares associated with the tendered convertible debt. Our current guidance indicates 2012 accretion of approximately $0.04 to $0.05 per share based on unexpected results.

Turning to sales, Slide 6 shows the components of our consolidated sales increase. Consolidated second quarter sales were at record $324.8 million, an increase of 11.3% over second quarter 2011, excluding exchange effects.

The favorable mix and pricing added sales of $35 million in the current quarter.

Packaging System sales increased by $29 million or 13.1% over same quarter 2011 sales excluding exchange effects. Our favorable sales mix and modest volume increases accounted for 8.6 percentage point to the increase.

Sales price increases in Packaging Systems contributed the remainder of the increase.

Sales growth in our high value products increased 28% versus the prior-year quarter excluding exchange. Our Q2 2012 sales comparisons to the prior-year period continued to benefit from our customers product launch, customer inventory management actions and activities, in advance of customer product and plant relocations.

In addition, the sales price increase in the first half of 2012, reflects higher material cost incurred in 2011, but not passed on the customers until the latter part of 2011.

Excluding the positive effects of the customer inventory builds and product launch activity, we estimate our normalized 2012 sales growth to be in the range of 5% to 7%. Delivery System sales increased by approximately 6% over sales in the prior-year quarter excluding exchange.

Sales improvements for engineering services and the éris safety system were partially offset by lower contract manufacturing sales for consumer products. Sales of the proprietary products were $18 million or 20% of this segment's revenues in the quarter.

The same percentage of segment revenues as in the prior-year quarter.

CZ sales and new development activity were approximately $1.8 million in Q2, about $200,000 less than the prior-year quarter. Total proprietary product sales are expected to grow at a double-digit rate for 2012.

As provided on Slide 7, our consolidated gross margin for Q2 2012 was 30.4% versus the 27.5% margin we achieved in the second quarter of '11. Packaging Systems second quarter gross margin of 35.1% is a full 4 margin point higher than the 31.1% achieved in the second quarter of '11.

High raw material prices and general inflationary increases in cost continue to put pressure on margins. But the impact was more than overcome by favorable mix of products sold and sales transactions [ph] that took effect over the past few quarters, and continued leading savings and efficiencies in our plants.

Delivery Systems second quarter gross margin was unchanged versus the prior-year quarter at 17.9%. Production efficiencies resulting from restructuring efforts and marginally higher selling prices were offset by an otherwise less profitable mix of contract manufacturing revenue.

In addition, our Delivery Systems segment recorded $3.8 million in other income in connection with the development of the proprietary product.

As reflected on Slide 8, Q2 2012 consolidated SG&A expense increased by $8 million compared to the prior-year quarter. The largest share of the increase comes from a $3 million increase in performance-based compensation expense associated with our improved operating results.

And $2.6 million of stock-based compensation, most of which was due to an 18.7% increase in the company's share price during the quarter compared with a 2.3% decline in the prior-year period.

Slide 9 shows our key cash flow metrics. Operating cash flow was $66 million for the first half of 2012, $16.8 million more than the comparable prior-year period, due primarily to our strong operating results.

Capital additions of $75 million were made in the first half of 2012, including $23 million for the new corporate office facility.

Roughly half of the capital we spent on new product and expansion efforts. We expect to spend between $145 million and $155 million in capital in 2012, including approximately $40 million of cost associated with our planned new corporate office and research facility.

Slide 10 provides some summary balance sheet information. Our balance sheet continues to be strong and we're confident that our business will provide necessary future liquidity.

Our cash balance at June 30 was $107 million, $15 million higher than our December 2011 balance.

Additionally, not included in that cash balance is $25 million of short-term investments with maturities of less than one year. The vast majority of our cash is invested overseas and is generally not available to be repatriated to the U.S.

without incurring significant tax consequences.

Debt at June 30 was $385 million, $36 million higher than at year end, primarily due to increased borrowing on our revolving credit facility, including the financing of our convertible debt buyback. Our net debt to total investing capital ratio at quarter end was 29.1%, about 1 percentage point higher than the prior year end ratio.

Working capital totaled $196.8 million at June 30, $32 million lower than at the prior year end. The main reason for the decrease in working capital is due to the reclassification of $25 million of our private placement notes to current liabilities, reflecting a stated maturity date of February 2013, and $32 million of accrued new building cost, which are expected to be funded within the 12 months.

Our backlog of committed orders continues to strengthen, which at $305 million as of June 2012 is significantly higher than the prior year end and June 2011 balances, excluding exchange and represents a continued lengthening of customer orders, a trend we believe is representative of customer inventory and risk management activities and the reaction to our increasing lead times.

Based on our strong Q2 2012 results and our strengthening backlog, we revised upward our full year 2012 guidance in this morning's release. That guidance is summarized on Slide 11.

We have based our guidance on an exchange rate of $1.22 per euro. By contrast, our 2011 actual results are translated at $1.39 per euro rate.

This strengthening of the dollar creates adverse earning comparisons to the prior year. Each $0.01 strengthening of the dollars versus the euro, results in just over a $0.01 reduction of full year EPS as a result of translation.

We now believe revenue growth will be in the 8% to 11% range at constant exchange rate. We believe the sales increase range includes 3% to 4% of customer inventory builds, product launch activities and sales price adjustments, which we believe are not indicative of the normal sales run rate.

Our consolidated sales for 2012 should be in the range of $1.24 billion to $1.27 billion at current exchange rate. Both operating segments are expected to generate margin expansion.

Our revised guidance includes $8 million to $10 million of CZ sales for 2012. R&D funding for all programs is expected to be about $5 million more than 2011 levels.

Using these assumptions, our full year earnings per diluted share should fall in the range of $2.60 to $2.70, excluding restructuring cost, but including adverse currency effects. Our prior guidance utilize an exchange ratio of $1.33 per euro for the remainder of 2012 versus the $1.22 per euro current rate used for our updated guidance.

That adverse currency rate had the effect of reducing our guidance by approximately $0.08 to $0.10 per diluted share.

Slide 12, shows significant factors that have been evident in our Q2 results, and which are expected to impact our margins throughout 2012. We expect to continue favorable mix shift towards high value products and lean savings programs to more than offset higher raw material cost and normal inventory cost increases.

Note, that the impact of the price increases over the prior-year period comparisons will moderate in the second half of 2012, as we implemented price increases in the second half of 2011. Also, our second half year results historically have been and are expected to be less profitable than the first half due to scheduled plant and customer shutdowns for maintenance and holidays.

We expect these net effects will produce full year 2012 expanded margins and EPS growth.

I'd now like to turn the call back over to Don Morel.

Thanks very much, Bill. This concludes our remarks for this morning.

And we now will be pleased to answer any questions you might have.

First question is a simple one for Bill, with given the timing of the convert, what was your end of quarter share count or how should we think about share count on a go forward basis?

That's -- you remember what -- at the end of the quarter, we had the converts added there. So you would have 2.9 million less shares, but you have the weighted average debt, so the convert shares were outstanding for about 170 days or so.

And there are not going to be included for about just under 200 days. So when you think about it, you should use for the full year about 35.8 million shares versus what it would be if we had left them outstanding for the whole year, about 37.3 million shares.

And embedded in your press release, you talked about a $3.8 million of income recognized in connection with the development of a proprietary product. The couple of questions about that which area is that in?

Is that in delivery?

Yes.

I know you're probably constrained about how much you can tell us, but is it a one-time or is it something where there will be some legs related to it?

There will more feeds, milestones et cetera associated with that development agreement.

And you can appreciate, Arnold, many of the development agreements that are customer funded are task related, so that there will be some lumpy revenues for delivery as we forward.

Is there any more built in the back half of the year for that?

For that program, yes.

There is a small amount built into that for the fourth quarter.

Similar to what you had this quarter?

Less than that.

And going back to in Q1, you had highlighted a pretty sizeable delivery at high margin for a customer launch. Did you also have one in Q2?

The continuing effects continued into Q2 for that same launch.

But there was not a second product launch that was introduced.

It is the same one and the impact of it was felt in Q1, but continued into Q2.

Little different question for Don, your leading competitor was acquired recently. Can you comment on how do you think it may change industry dynamics?

There are actually kind of number 3. I assume you're referring to Aptar's acquisition of Stelmi?

Correct.

Clearly, Aptar has made a strategic decision to look at the injectable market. It compliments their existing pharmaceutical business on the pulmonary side.

They have a very strong franchise in valves for metered dose inhalers. It bears watching, certainly they are going to invest and try and grow that business.

Any effects will probably not be seen, for I would guess, a period of maybe 3 to 5 years because of the regulatory mode around the business.

I just had a couple of really simple questions. The $3.8 million, I just wanted to make sure I understood or heard that that's kind of more of a milestone type of payment?

It's actually a payment for developing cost that we had incurred during the year.

And how much of the customer inventory stocking is kind of completed at this point, or how much might it impact revenue during the second half?

I think it's difficult to put a quantitative handle on that, Ross. It's been mostly into disposable device of that.

We've seen it creep over into the pharma side. Our expectation it's likely to tailor off.

And my last question, I just wanted to clarify a number that Bill, gave out towards the end of his prepared remarks, but I think he mentioned the expected 8% to 11% organic growth, on a kind of normalized basis excluding some of these inventory?

No. You see that's the total number excluding exchange rate to 11%, Ross.

And included in that number is about 3% to 4% of those things you talked about, the special kind of non-normal run rate issues. We look at it and we say, we're somewhere between 5% and 7% normalized growth.

I guess my question go in fact to what I was asking before, to the extent I would add back -- or I'm sorry, subtract out the $3.8 million one-time income from the delivery area. Your margin there was dramatically lower than you've been running.

I know you mentioned a lot of contract manufacturing, so first of all am I on the right track that it would been much lower ex that? And then speak to the 80% of contract, are you winding down previous contracts you had?

And are you in fact, finding some offsets that we should think about for next year to fill it in at hopefully better margin?

Let me take the first part of your question. Arnie, if you take the $3.8 million now, you'd also have to take out the expenses that were incurred during the year that this was a reinvestment of.

So yes, when you say it's a one-time reimbursement of prior development cost incurred. So you'd have to take nearly both of them out and you'd end up somewhere close to the same number.

But your general comments about it being less of a favorable mix and therefore less profitable, is true. That is in fact the case, our proprietary device sales were 20% of total which is equivalent to what it was in the prior year.

But some of those proprietary devices were at the lower end of the proprietary device margin scale. So they weren't nearly as profitable as, say, the CZ was and as you know CZ was short about $200,000 compared to the prior-year quarter.

So those all things added together, the number isn't terribly, dramatically different from what we have here. But there was an impact from that $3.8 million.

But Bill, you had the expenses in the different period?

They were in the first and second quarter. Some of that was incurred in 2011, but again not all of it.

The second part of your question Arnie is that, we haven't necessarily deemphasized the contract part of the business. It happens to be growing very robustly this year.

Customer demand in the assemble devices, that we're doing has been very, very strong. So that's actually rising a little bit faster than sales on the proprietary side.

And because proprietary is a lot lower, that the ratio was maintained at that 80-20 kind of level. If you recall, when we talked about our 5 year plan at the Investor Day, our expectation was, once the validation and stability is done on many of the proprietary systems, when you get into the mid-14, mid-15 timeframe, you start to get a dramatic shift in that ratio with a proprietary increasing.

Just clarify a couple questions on the backlog. I want to make sure I have the number right.

Was it $305 million or $320 million of backlog?

$305 million.

And again, if it's reflecting the changing in currencies and your volume embedded in that backlog is growing quite dramatically, is that correct?

No. The volume is actually is showing fairly modest growth.

What you're seeing a lot of the effect of mix where you've got a very high demand for the higher value products and also the effect of price.

And going back to your 28% growth in high-value products, that's a very sizeable number. And I guess, the question I have is, you did show good margin improvement, but what are the offsets?

Why wouldn't you -- if the margins on your high-value products are double or triple of the lower margin products, I'm surprised you wouldn't have had even stronger margin performance. What's holding it back?

You're talking about gross margin. We can answer that for you.

I mean, there are increased costs associated with our, raw materials were up in the Packaging Systems space, 1.2 margin points. And you had currency running the other way from you.

And you had general inflationary cost, so a full 4 margin point increase in Packaging Systems margins already is pretty spectacular. And we're very happy with it, yes.

When you think about, if you just took the margin differential between the standard products and high value product, you're absolutely right. It's roughly closing in on being double.

But you do have to take into consideration the raw material price increases and other general inflationary increases as an offset.

It's Alanna Crank for Lara Marsh's [ph] team here at Barclays. Just a quick question on the recent agreement you announced that Amgen back in June.

Have you guys received any additional feedback from manufacturers of the result or any additional interest in the CZ product?

CZ interest is really being driven by general market conditions. We can't comment further on the Amgen agreement.

But if you follow what's happening, generally within our space in injectables, concerns about delamination of glass and about breakage, are getting more and more attention. So I think generally the market is taking a look at alternatives to glass in a broader sense, and that's where we see the interest.

Also with NovaPure being a relatively recent launch, when you think about where you are now with that launch versus where we saw you back at your Analyst Day, where are guys versus your original expectations? Are customers seeing the value proposition there despite the higher prices?

The time lag has been relatively short since the Investor Day. The feedback that we're hearing is very, very positive, but again to make these switches does not happen overnight, because of the regulatory requirements.

But we do believe when we look at the uptick [ph] of Westar at 10 years ago, that NovaPure will in large part follow that trajectory. So over the next 6 to 24 months, we think we're going to see increases.

Thank you very much operator, and thanks everyone for your time this morning. We look forward to talking with you again in early November when we provide our third quarter results and an early look into our revenue expectations for 2013.

Thanks very much.