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Management's discussion and analysis of financial condition and results of operations (MD&A) is intended to assist the reader in understanding and assessing significant changes and trends related to our results of operations and financial position. This discussion and analysis should be read in conjunction with the condensed consolidated financial statements and accompanying footnotes in Item 1 of Part I of this Form 10-Q. Certain statements in this Item 2 of Part I of this Form 10-Q constitute forward-looking statements. Various risks and uncertainties, including those discussed in "Forward-Looking Statements" of this Form 10-Q, in Item 1A, "Risk Factors" of Part II of this Form 10-Q, and in Item 1A, "Risk Factors" of Part I of our Form 10-K for the year ended December 31, 2021, may cause our actual results, financial position, and cash generated from operations to differ materially from these forward-looking statements. Further, due to the seasonality of our pet health sales, interim results are not necessarily an appropriate base from which to project annual results.


Elanco is a global animal health company that develops products for pets and farm animals in more than 90 countries. With a heritage dating back to 1954, we rigorously innovate to improve the health of animals and to benefit our customers while fostering an inclusive, cause-driven culture for our employees. We operate our business in a single segment directed at fulfilling our vision of enriching the lives of people through food, making protein more accessible and affordable, and through pet companionship, helping pets live longer, healthier lives.

On August 27, 2021, we acquired KindredBio, a biopharmaceutical company that develops innovative biologics focused on saving and improving the lives of pets. We had previously signed an agreement with KindredBio in the second quarter of 2021 to acquire exclusive global rights to KIND-030, a monoclonal antibody in development for the treatment and prevention of canine parvovirus. The acquisition of KindredBio further accelerates our opportunity for expansion in pet health, notably by expanding our research efforts in dermatology. See Note 5: Acquisitions, Divestitures and Other Arrangements to the condensed consolidated financial statements for additional information on the acquisition. Subsequent to the acquisition date, our consolidated financial statements include the assets, liabilities, operating results and cash flows of KindredBio.

On August 1, 2020, we completed the acquisition of Bayer Animal Health. The acquisition expanded our pet health product category, advancing our planned portfolio mix transformation and creating a better balance between our farm animal and pet health product categories. Our product portfolio and pipeline have been enhanced by the addition of Bayer Animal Health, which complements our commercial operations and international infrastructure.

We offer a diverse portfolio of approximately 200 brands that make us a trusted partner to pet owners, veterinarians and farm animal producers. Our products are generally sold worldwide to third-party distributors and independent retailers, and directly to farm animal producers and veterinarians. With the acquisition of Bayer Animal Health, we have expanded our presence in retail and e-commerce channels in order to meet pet owners where they want to purchase.

We operate our business in a single segment directed at fulfilling our vision of food and companionship enriching life - all to advance the health of animals, people and the planet. We advance our vision by offering products in these two primary categories:

Pet Health: Our pet health portfolio is focused on parasiticides, vaccines and therapeutics. We have one of the broadest parasiticide portfolios in the pet health sector based on indications, species and formulations, with products that protect pets from worms, fleas and ticks. Our Seresto and Advantage Family products are over-the-counter treatments for the elimination and prevention, respectively, of fleas and ticks, and complement our prescription parasiticide products, Credelio, Interceptor Plus, and Trifexis. Our vaccines portfolio provides differentiated prevention coverage for a number of important pet health risks and is available in the U.S. only. In therapeutics, we have a broad pain and osteoarthritis portfolio across species, modes of action, indications and disease stages. Pet owners are increasingly treating osteoarthritis in their pets, and our Galliprant product is one of the fastest growing osteoarthritis treatments in the U.S. Additionally, we have products that offer treatment for otitis (ear infections) with Claro, as well as treatments for certain cardiovascular and dermatology indications.

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Farm Animal: Our farm animal portfolio consists of products designed to prevent, control and treat health challenges primarily focused on cattle (beef and dairy), swine, poultry, and aquaculture (cold and warm water) production. Our products include medicated feed additives, injectable antibiotics, vaccines, insecticides, and enzymes, among others. We have a wide range of farm animal products, including Rumensin and Baytril, both of which are used extensively in ruminants (e.g., cattle, sheep and goats). In poultry, our Maxiban product, is a valuable offering for the control and prevention of intestinal disease.

A summary of our 2022 revenue and net income (loss) compared with the same period in 2021 is as follows:

                                                                Three Months Ended June 30,                 Six Months Ended June 30,
        (Dollars in millions)                                     2022                  2021                 2022                 2021
        Revenue                                             $        1,177          $   1,279          $       2,402          $    2,521
        Net income (loss)                                              (22)              (210)                    26                (271)

Increases or decreases in inventory levels at our channel distributors can positively or negatively impact our quarterly and annual revenue results, leading to variations in revenues. This can be a result of various factors, such as end customer demand, new customer contracts, heightened and generic competition, the need for certain inventory levels, our ability to renew distribution contracts with expected terms, our ability to implement commercial strategies, regulatory restrictions, unexpected customer behavior, proactive measures taken by us in response to shifting market dynamics, payment terms we extend, which are subject to internal policies, and procedures and environmental factors beyond our control, including weather conditions and the COVID-19 global pandemic.

Key Trends and Conditions Affecting Our Results of Operations

Industry Trends

The animal health industry, which includes both pets and farm animals, is a growing industry that benefits billions of people worldwide.

We believe that factors influencing growth in demand for pet medicines and vaccines include:

increased pet ownership globally;

pets living longer; and

increased pet spending as pets are viewed as members of the family by owners.

As demand for animal protein grows, farm animal health is becoming increasingly important. We believe that factors influencing growth in demand for farm animal medicines and vaccines include:

two in three people needing improved nutrition;

increased global demand for protein, particularly poultry and aquaculture;

natural resource constraints, such as scarcity of arable land, fresh water and increased competition for cultivated land, driving the need for more efficient food production;

loss of productivity due to farm animal disease and death;

increased focus on food safety and food security; and

human population growth, increased standards of living, particularly in many emerging markets, and increased urbanization.

Growth in farm animal nutritional health products (enzymes, probiotics and prebiotics) is influenced, among other factors, by demand for antibiotic alternatives that can promote animal health and increase productivity.

2022 Q2 Form 10-Q | 27 [[Image Removed: elan-20220630_g1.jpg]]

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Russia-Ukraine Conflict

In February 2022, Russia commenced military action against Ukraine. In response, the U.S. and certain other countries imposed and continue to impose significant sanctions and export controls against Russia, Belarus and certain individuals and entities connected to Russian or Belarusian political, business, and financial organizations. The U.S. and certain other countries could impose further sanctions, trade restrictions, and other retaliatory actions if the conflict continues or worsens. The broader consequences of the conflict, including related inflationary pressures, geopolitical tensions, additional retaliatory actions taken by the U.S. and other countries, and any counter retaliatory actions by Russia or Belarus in response, including, for example, potential cyberattacks or the disruption of energy and commodity exports, are likely to cause regional instability and could materially adversely affect global trade, currency exchange rates, regional economies and the global economy. The situation remains uncertain and it is difficult to predict the impact that the conflict and actions taken in response to the conflict will have on our business; however, they could increase our costs, disrupt our supply chain, reduce our sales and earnings, or otherwise adversely affect our business and results of operations.

As a global animal health leader, we have an obligation to support the health of animals and people. At the center of that work is ensuring access and availability of food. At this time, we are limiting our business in Russia to only the essential products that support these needs, while complying with all imposed sanctions. We do not manufacture products or source any materials from companies in Russia for use in our products, nor do we conduct business with the Russian government. During the six months ended June 30, 2022, revenue to Russian and Ukrainian customers represented approximately 1% of our consolidated revenue. Assets held in Russia as of June 30, 2022 represented less than 1% of our consolidated assets.

COVID-19 Pandemic and Resulting Operating Environment

We continue to closely monitor the impact of the COVID-19 pandemic, including its variants, and the related economic effects on all aspects of our business, including impacts on our operations, supply chain, and customer demand. The extent to which the COVID-19 pandemic may impact our financial condition and results of operations remains uncertain and is dependent on developments that are out of our control, including measures being taken by authorities to mitigate against the spread of COVID-19, such as the recent lockdowns in China, the emergence of new variants and the availability and successful administration of effective vaccines. We cannot predict the impact that the ongoing COVID-19 pandemic will have on our employees, customers, vendors and suppliers; however, the COVID-19 pandemic has had and may continue to have an adverse impact on our business if these parties continue to experience negative effects.

While the situation surrounding the COVID-19 pandemic remains fluid, the effects have disrupted the global supply chain across all modes of transportation, which in turn has resulted in less reliable transportation schedules and increased freight costs. This disruption, combined with increased demand for key raw materials, including those used in COVID-19 vaccine manufacturing, and labor constraints has also impacted our suppliers, resulting in shortages of raw materials or components required to manufacture our products. We continue to work closely with suppliers and freight partners to mitigate impacts to our operations and customers, including the addition of new transportation routes and targeted increases of certain safety stocks. Although we regularly monitor the financial health of companies in our supply chain, prolonged financial hardship on our suppliers and labor shortages could continue to disrupt our ability to obtain key raw materials, adversely affecting our operations. The global industry freight environment has experienced, and could continue to experience, lead time disruptions and increases in shipping costs, negatively impacting our profitability.

Our Acquisition of Bayer Animal Health and KindredBio

We have incurred and expect to continue to incur expenses in connection with our acquisitions of Bayer Animal Health and KindredBio, including fees for professional services such as legal, accounting, consulting, and other advisory fees and expenses. Expenses incurred in 2021 and thus far in 2022 are primarily related to integration activities. In addition, we have incurred and expect to continue to incur costs related to the build out of processes and systems to support finance and global supply and logistics and to expand administrative functions, including, but not limited to, information technology, facilities management, distribution, human resources, and manufacturing, to replace services previously provided by the former parent company of Bayer Animal Health. We anticipate that these additional costs will be partially offset by expected synergies.

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Product Development and New Product Launches

A key element of our targeted value creation strategy is to drive growth through portfolio development and product innovation. We continue to pursue the development of new chemical and biological molecules through our approach to innovation. Our future growth and success depend on both our pipeline of new products, including new products that we may develop through joint ventures and products that we are able to obtain through license or acquisition, and the expansion of the use of our existing products. We believe we are an industry leader in animal health R&D, with a track record of product innovation, business development and commercialization.


We face intense competition. Principal methods of competition vary depending on the particular region, species, product category, or individual product. Some of these methods include new product development, including generic alternatives to our products, quality, price, service and promotion.

Our primary competitors include animal health medicines and vaccines companies such as Zoetis Inc.; Boehringer Ingelheim Vetmedica, Inc., the animal health division of Boehringer Ingelheim GmbH; and Merck Animal Health, the animal health division of Merck & Co., Inc. We also face competition globally from manufacturers of generic drugs, as well as from producers of nutritional health products, such as DSM Nutritional Products AG and Danisco Animal Nutrition, the animal health division of E.I. du Pont de Nemours and Company, a subsidiary of DowDuPont, Inc. There are also several new start-up companies working in the animal health area. In addition, we compete with numerous other producers of animal health products throughout the world.


Our results during the periods presented have benefited from operational and productivity initiatives implemented following recent acquisitions and in response to changing market demand for antibiotics and other headwinds.

Prior to the acquisition of Bayer Animal Health, our acquisitions within the last six years added in the aggregate $1.4 billion in revenue, 4,600 full-time employees, and 12 manufacturing and eight R&D sites. The acquisitions of Bayer Animal Health on August 1, 2020 and KindredBio on August 27, 2021 added 3,950 full-time employees, 10 manufacturing sites, and five R&D sites (before company-wide restructuring activities initiated in 2020 and 2021). In addition, from 2015 to 2021, changing market demand for antibiotics and other headwinds, such as competition with generics and innovation, affected some of our highest gross margin products, resulting in a change to our product mix and driving operating margin lower. In response, we implemented a number of initiatives across the manufacturing, R&D and marketing, selling and administrative functions. Our manufacturing cost savings strategies included improving manufacturing processes and headcount through lean manufacturing (minimizing waste while maintaining productivity), closing and selling manufacturing sites, consolidating our CMO network, strategically insourcing certain projects, and pursuing cost savings opportunities through alternate sources of supply. Additional cost savings have resulted from reducing the number of R&D sites, sales force consolidation and reducing discretionary and other general and administrative operating expenses.


The results of our pet health business may fluctuate due to seasonality. For example, based upon historical results, approximately 70% and 60% of total annual revenue contributed by our higher-margin parasiticide products Seresto and Advantage Family, respectively, has occurred during the first half of the year, which is reflective of the flea and tick season in the Northern Hemisphere. Therefore, a period-to-period comparison of our historical results may not be meaningful and fluctuations in total revenue for our pet health products are not necessarily an indication of future performance.

2022 Q2 Form 10-Q | 29 [[Image Removed: elan-20220630_g1.jpg]]

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Significant portions of our revenue and costs are exposed to changes in foreign exchange rates. Our products are sold in more than 90 countries and, as a result, our revenue is influenced by changes in foreign exchange rates. During the six months ended June 30, 2022 and 2021, approximately 52% and 51%, respectively, of our revenue was denominated in foreign currencies. As we operate in multiple foreign currencies, including the Euro, British pound, Swiss franc, Brazilian real, Australian dollar, Japanese yen, Canadian dollar, Chinese yuan, and other currencies, changes in those currencies relative to the U.S. dollar impact our revenue, cost of sales and expenses, and consequently, net income. These fluctuations may also affect the ability to buy and sell our products between markets impacted by significant exchange rate variances. Currency movements decreased revenue by 4% during the six months ended June 30, 2022. Currency movements had a limited impact on revenue during the six months ended June 30, 2021.

        Results of Operations
        The following discussion and analysis of our results of operations should be
        read along with our condensed consolidated financial statements and the notes
                                                       Three Months Ended June 30,                                     Six Months Ended June 30,
        (Dollars in millions)                  2022                2021              % Change                2022                2021              % Change
        Revenue                          $      1,177           $ 1,279                     (8) %       $     2,402           $ 2,521                     (5) %
        Costs, expenses and other:
        Cost of sales                             484               551                    (12) %               993             1,120                    (11) %
        % of revenue                               41   %            43  %                  (2) %                41   %            44  %                  (3) %
        Research and development                   82                94                    (13) %               163               183                    (11) %
        % of revenue                                7   %             7  %                   -  %                 7   %             7  %                   -  %
        Marketing, selling and
        administrative                            343               385                    (11) %               663               733                    (10) %
        % of revenue                               29   %            30  %                  (1) %                28   %            29  %                  (1) %
        Amortization of intangible
        assets                                    133               129                      3  %               270               276                     (2) %
        % of revenue                               11   %            10  %                   1  %                11   %            11  %                   -  %
        Asset impairment, restructuring
        and other special charges                  86               299                    (71) %               132               407                    (68) %
        Interest expense, net of
        capitalized interest                       67                60                     12  %               119               121                     (2) %
        Other (income) expense, net                 -                (3)                       NM                 9                (3)                       NM
        Income (loss) before income
        taxes                                     (18)             (236)                    92  %                53              (316)                   117  %
        % of revenue                               (2)  %           (18) %                  16  %                 2   %           (13) %                  15  %
        Income tax expense (benefit)                4               (26)                   115  %                27               (45)                   160  %
        Net income (loss)                $        (22)          $  (210)                    90  %       $        26           $  (271)                   110  %

Certain amounts and percentages may reflect rounding adjustments.

NM - Not meaningful

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        Disaggregated Revenue
        On a global basis, our revenue by product category for the three months ended
        June 30, 2022 and 2021 is summarized as follows:
                                                                    Revenue                        % of Total Revenue                                  Increase (Decrease)
        (Dollars in millions)                                2022             2021              2022                2021               $ Change               % Change              CER (1)
        Pet Health                                        $   612          $   685                  52  %              54  %       $            (73)                (11) %                (7) %
        Farm Animal                                           553              567                  47  %              44  %                    (14)                 (2) %                 3  %
        Subtotal                                            1,165            1,252                  99  %              98  %                    (87)                 (7) %                (3) %
        Contract Manufacturing (2)                             12               27                   1  %               2  %                    (15)                (56) %               (53) %
        Total                                             $ 1,177          $ 1,279                 100  %             100  %                   (102)                 (8) %                (4) %

Note: Numbers may not add due to rounding

(1)Constant exchange rate (CER), a non-GAAP measure, is defined as revenue growth excluding the impact of foreign exchange. The calculation assumes the same foreign currency exchange rates that were in effect for the comparable prior-year period were used in translation of the current period results. We believe this metric provides a useful comparison to previous periods.

(2)Represents revenue from arrangements in which we act as a contract manufacturer, including supply agreements associated with divestitures of products related to the acquisition of Bayer Animal Health.

On a global basis, the effect of price, foreign exchange rates and volumes on changes in revenue for the three months ended June 30, 2022 and 2021 was as follows:

        Three months ended June 30, 2022
        (Dollars in millions)                               Revenue      Price        FX Rate       Volume      Total        CER
        Pet Health                                         $   612         1%          (4)%          (8)%       (11)%       (7)%
        Farm Animal                                            553         2%          (5)%           1%         (2)%        3%
        Subtotal                                             1,165         1%          (4)%          (4)%        (7)%       (3)%
        Contract Manufacturing                                  12         -%          (2)%         (53)%       (56)%       (53)%
        Total                                              $ 1,177         1%          (4)%          (5)%        (8)%       (4)%
        Three months ended June 30, 2021
        (Dollars in millions)                               Revenue      Price        FX Rate        Volume (1)       Total       CER
        Pet Health                                         $   685         6%           3%              161%           170%       167%
        Farm Animal                                            567         -%           6%              73%            79%        73%
        Subtotal                                             1,252         2%           5%              112%           120%       115%
        Contract Manufacturing                                  27         -%           -%              69%            69%        69%
        Total                                              $ 1,279         2%           5%              111%           118%       114%

Note: Numbers may not add due to rounding

(1)Impact of 2021 revenue from Bayer Animal Health is reflected in volume.

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                                                                       Revenue                        % of Total Revenue                                 Increase (Decrease)
        (Dollars in millions)                                   2022             2021              2022                2021               $ Change               % Change               CER
        Pet Health                                           $ 1,251          $ 1,330                  52  %              53  %       $            (79)                 (6) %              (3) %
        Farm Animal                                            1,122            1,145                  47  %              45  %                    (23)                 (2) %               2  %
        Subtotal                                               2,373            2,475                  99  %              98  %                   (102)                 (4) %               -  %
        Contract Manufacturing                                    29               46                   1  %               2  %                    (17)                (37) %             (34) %
        Total                                                $ 2,402          $ 2,521                 100  %             100  %                   (119)                 (5) %              (1) %

. . .

Aug 08, 2022


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