Perrigo Earnings: Weak Sales but Margin Recovery Well Underway With Strong Momentum

No-moat Perrigo PRGO reported mixed third-quarter earnings that were largely in line with our expectations. Total sales, which was up 2.1% year over year, was mainly driven by infant formula acquisition (purchased in November 2022) and strong international business with offsets from stock keeping unit, or SKU, prioritization. On the backdrop of challenging dynamics in the U.S. infant formula business, management lowered sales guidance to 4%-6% from a previously stated 7%-11%. However, we also saw margins showing great momentum and improving much faster than we had initially anticipated. After slightly lowering our sales forecast for the year and upping our margin assumptions, we maintain our fair value estimate of $40 per share.

Sales for the Americas was down 2.7% year over year as SKU prioritization caused a 3.6% drop in segment sales during the quarter. The prioritization, which predominantly impacted pain and sleep-aids, oral care, and women’s health, is roughly 75% completed for the year, but we expect some additional SKU reduction in 2024. This is part of Perrigo’s supply chain reinvention program that was introduced during investor day in early 2023. While we expect continued top-line headwinds from this initiative, the firm has enjoyed its subsequent margin boost; over the last two quarters, gross margin for the segment improved 430 basis points. It is difficult to pinpoint the exact margin contribution of the program since there are other actions in play, including pricing actions and the higher-margin Gateway acquisition. Nevertheless, we appreciate the path the margin recovery is on and expect a similar trend to continue going forward, although the pace of growth might slow.

Perrigo’s international business, on the other hand, tells an opposite story to its American counterpart. Sales for the quarter were up 11.2%, or 5.2% on constant currency, thanks to contributions from the HRA acquisition and strong U.K. store brand performance.