Charles River Laboratories International, Inc. (NYSE:CRL) Q4 2022 Earnings Call Transcript

Charles River Laboratories International, Inc. (NYSE:CRL) Q4 2022 Earnings Call Transcript February 22, 2023

Operator: Ladies and gentlemen, thank you for standing by, and welcome to the Charles River Laboratories Fourth Quarter and Full Year 2022 Earnings Conference Call. This call is being recorded. At this time, all participants are in a listen-only mode. After the speakers’ presentation, there will be a question-and-answer session. I would now like to turn the conference over to our host, Todd Spencer, Vice President of Investor Relations. Please go ahead, sir.

Todd Spencer: Thank you, and good morning, and welcome to Charles River Laboratories fourth quarter and full year 2022 earnings and 2023 guidance conference call and webcast. This morning, I am joined by Jim Foster, Chairman, President and Chief Executive Officer; and Flavia Pease, Executive Vice President and Chief Financial Officer. They will comment on our results for the fourth quarter of 2022 as well as our financial guidance for 2023. Following the presentation, they will respond to questions. There is a slide presentation associated with today’s remarks, which will be posted on the Investor Relations section of our website at ir.criver.com. A webcast replay of this call will be available beginning approximately two hours after the call today and can be also accessed on our Investor Relations website.

The replay will be available through the next quarter’s conference call. I’d like to remind you of our Safe Harbor. All remarks that we make about future expectations, plans and prospects for the company constitute forward-looking statements under the Private Securities Litigation Reform Act of 1995. Actual results may differ materially from those indicated. During this call, we will primarily discuss non-GAAP financial measures, which we believe help investors gain a meaningful understanding of the core operating results and guidance. 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 on the Investor Relations section of our website.

I will now turn the call over to Jim Foster.

Jim Foster: Good morning. Before I speak about our strong fourth quarter results, I want to provide an update on the non-human primate or NHP supply situation. As many of you are aware, there has been an ongoing industry-wide investigation into NHP imports from Cambodia. On February 17, we received a subpoena from the U.S. Department of Justice related to an investigation into the Cambodian NHP supply chain. We have been informed this investigation related specifically to shipments of NHPs received by Charles River from our Cambodian supplier. We intend to fully cooperate with the U.S. government. Once the Department of Justice concludes its investigation, we believe it will find that any concerns with respect to Charles River are without merit.

As we have stated before, we are committed to ensuring our operations are fully compliant with all U.S. and international laws and regulations. And we maintain risk-based supplier due diligence, audit and management practices to help ensure the quality of our supplier relationships and compliance of applicable laws, including the status of the NHPs we import. Based on ongoing investigations and a heightened focus on the Cambodia NHP supply chain, in recent months, we have voluntarily suspended planned future shipments of Cambodian NHPs until such time that we and the U.S. Fish and Wildlife Service can develop and implement new procedures to reinforce confidence that the NHPs we import from Cambodia are purpose-bred. This will take time to implement and the duration of which is unknown.

The investigation in current NHP supply situation will result in study delays in our Safety Assessment business. By way of background, NHPs are the most scientifically relevant large model for the regulatory required safety testing of biologics drugs as mandated by the FDA and other international regulatory agencies. Biologic drugs cannot be approved for commercial use without NHPs. And given the proliferation of biologic drug development activity in recent years, NHPs have been in high demand. As an example, all of the COVID-19 vaccines developed in the United States and Europe utilized NHPs. In recent years, NHPs sourced from Cambodia have been responsible for approximately 60% of the NHPs supplied to the United States and to Charles River for drug research and development.

While there is no other near-term global source to replace the supply, we are continuing to actively work to diversify our NHP supply chain. It’s critical that we work diligently to resolve the NHP supply situation and collaborate with all agencies of the U.S. government, including the U.S. Fish and Wildlife Service, to restore this important supply chain because the U.S. pharmaceutical industry and the patients who need new life saving treatments are counting on us. The current Cambodian NHP supply constraints and the corresponding impact to our Safety Assessment business are expected to reduce our consolidated revenue growth forecast by approximately 200 basis points to 400 basis points this year, resulting in organic revenue growth guidance of 4.5% to 7.5% for the total company.

The non-GAAP earnings per share are expected to be in a range of $9.70 to $10.90 in 2023 with the wider ranges encompassing a number of scenarios related to the timing of the resumption of Cambodian NHP imports this year. The top end of our guidance ranges anticipate that we will have Cambodian NHPs available for studies in the fourth quarter, whereas the bottom end of our guidance assumes that we will have no Cambodian NHP imports for the remainder of 2023. In either case, we expect to begin to experience a more meaningful impact from NHP supply constraints in the second quarter. In addition to NHP supply, several non-operating items are significantly affecting the year-over-year earnings per share comparison in 2023, including higher interest expense, a higher tax rate and the divestiture of our Avian Vaccine business, which was completed in December.

These items will generate a combined earnings per share headwind of $1.20 to $1.40 in 2023, partially offset by up to a $0.25 benefit from foreign exchange. Flavia will discuss these items in more detail shortly. Now I’ll speak with you about an outstanding finish to another strong year for Charles River. We reported robust operating performance in 2022, highlighted by 13.4% organic revenue growth against the backdrop of escalating macroeconomic pressures. 2022 performance demonstrates the continued execution of our strategy, which enables us to enhance our position as the scientific partner of choice to accelerate biomedical research and therapeutic innovation. Let me give you the highlights of our fourth quarter and full year performance.

We reported record quarterly revenue of $1.1 billion in the fourth quarter of 2022, exceeding the $1 billion mark for the first time and representing an increase of 21.5% on an organic €“ on a reported basis. Organic revenue growth of 18.8% was driven by increases from all three business segments with the most significant contribution from the DSA segment due to another robust performance in the Safety Assessment business. In the second half, DSA organic growth rate rose to 23.6% as we exceeded the second half growth acceleration that we had forecast since the beginning of last year. For 2022, revenue was $3.98 billion with a reported growth rate of 12.3% and an organic growth rate of 13.4%. The revenue growth rate exceeded the top end of our guidance range by 140 basis points driven primarily by outperformance in both the Discovery and Safety Assessment businesses.

The operating margin was 20.4% in the fourth quarter, a decrease of 50 basis points year-over-year driven primarily by the Manufacturing and RMS segments. For the full year, the operating margin was unchanged at 21%. We are pleased to have held the operating margin steady in a year with substantial cost inflation and the CDMO business generated significant margin pressure. Earnings per share were $2.98 in the fourth quarter, an increase of 19.7% from $2.49 in the fourth quarter of 2021. For the full year, earnings per share were $11.12, a 7.8% increase over the prior year. We exceeded our last guidance range of $10.80 to $10.95 due primarily to the robust fourth quarter revenue growth, particularly in the DSA segment. We believe our 2022 performance thoroughly demonstrated the successful execution of our strategy to position Charles River as the non-clinical drug development partner of choice for our valued clients as well as the sustained pace of demand from these clients despite macroeconomic headwinds.

Our exceptional market position, unique early-stage focus and our large diversified client base give us confidence that many of the underlying business trends will remain intact in 2023. I’d like to provide you with additional details on our fourth quarter segment performance and our expectations for 2023 beginning with the DSA segment’s results. DSA revenue in the fourth quarter was $691.7 million or a substantial 26.5% increase on an organic basis. The Safety Assessment business continued to be the principal driver of DSA revenue growth with significant contributions from study volume, pricing and NHP pass-throughs in order of magnitude. As we have often mentioned, our business is not linear. In this case, the record fourth quarter DSA revenue growth was driven by a combination of the current robust demand and pricing environment as well as the comparison to the fourth quarter of 2021 when the business experienced some resource constraints, including staffing.

The Discovery Business Services growth rate also improved in the quarter. For the full year, DSA organic revenue growth was also a record 17.5%, exceeding our midterm outlook. As of year-end, the DSA backlog has increased 32% year-over-year to $3.15 billion. The backlog remained robust in 2022 and continues to support a long growth runway and also normalized during the year as expected because the backlog duration stabilized after substantially elongating in prior years. We are continuing to see broad-based and sustained client demand across our Safety Assessment business as we have the staffing and capacity to accommodate this client demand. The current NHP supply situation may restrict the revenue growth rate and margin expansion in 2023, but the underlying strength and resilience of demand environment and pricing should afford us with healthy DSO growth opportunities once the NHP supply situation is resolved and we have an adequate supply of these large models.

The Discovery Services business had a good quarter with improvement in the revenue growth rate from the third quarter level. Many of our clients who previously lengthened the timeframes to start new projects move forward with their programs in the fourth quarter. Discovery booking and proposal activity also support a healthy growth profile as we begin 2023. In order to strengthen our position as a single-source partner to support our clients’ early-stage research needs, we continue to expand our discovery capabilities through our technology partnership strategy and through M&A. We achieved both with SAMDI Tech, which we acquired in January. We established an initial partnership with SAMDI Tech in 2018, and we were able to validate their proprietary mass spectrometry technology for label-free, high-throughput screening with our clients.

During the partnership, we determined that SAMDI Tech cutting-edge technology was increasingly favored by clients to accelerate their timeline and reduce the costs required to identify a lead drug candidate and make critical go/no-go decisions earlier. As a result of the successful partnership, we mutually agreed to have SAMDI Tech join Charles River. Partnerships and acquisitions like this advance our ongoing efforts to build our scientific expertise for the discovery of novel therapeutics and strengthen our discovery toolkit by adding cutting-edge capabilities to enable clients to work with us for a single project or on an integrated program in a flexible manner tailored to their specific outsourcing needs. The DSA operating margin was 26.3% in the fourth quarter, a 320 basis point increase from the fourth quarter of 2021.

For the year, the DSA operating margin increased by 160 basis points to 25.3%. Both increases were driven primarily by operating leverage associated with the meaningfully higher revenue in the Safety Assessment business. RMS revenue in the fourth quarter was $196.1 million, an increase of 10.8% on an organic basis. For the year, RMS organic revenue growth was 9%, squarely in line with our outlook of high single-digit growth in 2022. Accelerating growth for Research Model Services, particularly our CRADL initiative and research models in North America and China, drove the exceptional RMS revenue growth rates for the fourth quarter and full year. We also continue to benefit from meaningful price increases, which were implemented in part to offset inflationary cost pressures.

Photo by Jaron Nix on Unsplash

We expect similar trends will drive high single-digit organic growth again in 2023. In the Research Model business, North America continued to generate strong revenue growth. And China, although reporting a double-digit increase, experienced a modest impact from an increase in COVID cases during the fourth quarter. The expansion of the central, southern and western regions of China are progressing well, and each new set is operational with two sites already shipping research models. This will enable us to continue to generate robust double-digit growth in China and gain additional market share. Research Model Services also continued to perform well with broad-based growth across Insourcing Solutions and GEMS in the fourth quarter and for the year.

Growth was primarily driven by Insourcing Solutions CRADL operations or Charles River Accelerator and Development Labs, including last year’s Explora acquisition. Clients are increasingly adopting this flexible model to access vivarium space without having to invest in internal infrastructure. Explora continued to perform very well, and the combined CRADL footprint now encompasses 28 vivarium facilities totaling over 380,000 square feet of turnkey rental capacity. CRADL and Explora provide us with a new and unique pathway to connect with clients in earlier stages, enabling these clients to invest in a research and not in infrastructure, preferring to leverage Charles River’s broader capabilities to continue to advance their research. The RMS operating margin declined by 420 basis points year-over-year to 22.7% in the fourth quarter and by 210 basis points to 25.2% in 2022.

The declines were primarily attributable to the 53rd week, which has a greater impact on the RMS segment, headwinds from expansions of our CRADL and Explora operations and new RMS sites in China and also a modest COVID impact in China. We anticipate that each of these factors will either be eliminated or generate less of an impact in 2023, resulting in improvement in the RMS operating margin. Manufacturing Solutions revenue was $212.1 million in the fourth quarter, a growth rate of 5.3% on an organic basis. And the full year organic growth rate was also 5.3%, in line with our mid-single-digit outlook for 2022. The segment growth rate in 2022 was compressed by lower revenue in the CDMO business. The initiatives that we have implemented to improve the performance of our CDMO business continue to gain traction and earn positive feedback from clients.

Our creation of centers of excellence for cell therapies, viral vectors and plasmids has been well received. And coupled with our focus on CDMO business development efforts and investing in the commercial readiness of our operations, we are generating new client interest. We have won over $100 million of new CDMO projects over the past 12 months and more than two thirds of which are for our world-class cell therapy operations in Memphis. We believe that a stronger sales funnel has helped in a gradual improvement in the CDMO performance during 2023 as the business returns to its targeted growth rates. We expect the CDMO business will drive a rebound in the Manufacturing segment organic growth rate to the low double digits in 2023. The Biologics Testing Solutions and Microbial Solutions businesses both performed very well in the fourth quarter, benefiting from robust client demand as the growth prospects for these legacy manufacturing quality control businesses remain strong.

These businesses in the Manufacturing segment in total will continue to be principally driven by demand for biologic drugs, including cell and gene therapies and other complex biologics. Microbial Solutions had a strong quarter and full year, benefiting from broad-based growth across its Endosafe Endotoxin testing and Accugenix microbial identification testing platforms. We are continuing to convert the marketplace to our more efficient and reliable quality control testing platform. The continued expansion of the installed base of instruments drives demand for the consumable cartridges and reagents, which provides a healthy recurring revenue stream. We believe Microbial Solutions’ long-term growth potential continues to be approximately 10%, including in 2023.

The Biologics Testing business reported an excellent fourth quarter and full year. Robust demand for cell and gene therapy testing services continue to be the primary growth factor as well as traditional biologics. And the business had an excellent year despite the moderation of COVID vaccine testing revenue during 2022. We have been successful in maintaining €“ and we have been successfully gaining business because of our extensive portfolio of services to support the safe manufacture of biologics. We believe cell and gene therapies will continue to be significant growth drivers over the longer term. The Manufacturing segment’s operating growth declined meaningfully in both the fourth quarter and full year to 25.3% and 28.8%, respectively.

As has been the case all year, the decline was driven almost entirely by the underperformance of the CDMO business. Based on our expectations for the CDMO business, we believe the manufacturing operating margin will improve meaningfully in 2023 to above the 30% level. As you know, there is inherent operating leverage in our businesses. So as project volumes improve in the CDMO business, we expect the margin profile will follow. In 2022, we celebrated our Charles River’s 75th anniversary. We’re delighted to have evolved from a small revolutionary research model company overlooking the Charles River to a leading global drug discovery and development partner, generating nearly $4 billion in annual revenue and helping to lead the biopharmaceutical industry’s essential nonclinical drug development efforts.

As we look to 2023, we continue to see a resilient funding environment to continued renaissance in the golden age of scientific innovation, our clients’ increasing use of strategic outsourcing and their need for enhanced efficiency and speed to market. Our core competencies, including our extensive scientific knowledge and our focus on preclinical R&D, are precisely tailored to these trends and make us an even more indispensable partner to advance our clients’ life-saving therapies. I assure you that we will continue to proactively manage the NHP supply and reinforce our firm commitment to conducting ethical regulatory compliant business practices and to the humane treatment of the research model under our care. To conclude, I’d like to thank our employees for their exceptional work and commitment and our clients and shareholders for their support.

Now I’d like Flavia to give you additional details on our financial performance and 2023 guidance.

Flavia Pease: Thank you, Jim, and good morning. Before I begin, may I remind you that I’ll be speaking primarily to non-GAAP results, which exclude amortization and other acquisition-related adjustments, costs related primarily to our global efficiency initiatives, gains or losses from our venture capital and other strategic investments, a gain on the sale of the Avian Vaccine business and certain other items. Many of my comments will also refer to organic revenue growth, which excludes the impact of acquisitions, divestitures, foreign currency translation and the 53rd week in 2022. My discussion this morning will focus primarily on our financial guidance for 2023. We’re very pleased with our fourth quarter results, which included revenue and earnings per share that outperformed our previous guidance, including quarterly revenue exceeding the $1 billion level for the first time.

Our 2023 guidance ranges reflect multiple scenarios with regards to the estimated impact from the NHP supply constraint, as Jim outlined, the impact of which is expected to result in reported revenue growth of 1.5% to 4.5% and organic revenue growth of 4.5% to 7.5% in 2023. Notwithstanding the NHP supply situation, our outlook reflects sustained underlying trends in most of our businesses and a resilient funding environment. We expect non-GAAP earnings per share between $9.70 and $10.90, reflecting meaningful headwinds associated with both NHP supply and non-operating items. I will not provide too many more comments on the NHP supply impact since Jim covered it. So, I’ll focus my comments on the other headwinds, which include the impact of the Avian Vaccine divestiture, a higher tax rate and increased interest expense.

In combination, these non-operating headwinds will reduce earnings per share by approximately $1.20 to $1.40 for the year, partially offset by an FX benefit to earnings per share of up to $0.25 in 2023. These items will reduce earnings per share growth by nearly 10% at midpoint. I’d like to provide some additional details on the three non-operating items that we expect will generate headwinds for our financial performance in 2023. First, we completed the Avian Vaccine divestiture in December as expected. The transaction will reduce 2023 revenue by approximately $80 million and non-GAAP earnings per share by approximately $0.25 net of the interest expense benefit since we used the proceeds to repay debt. Second, the non-GAAP tax rate is expected to move to the top of our long-term low 20% range to 22.5% to 23.5% in 2023, representing a nearly 400 basis point increase at midpoint compared to the 2022 tax rate of 19.2%.

The increase will be primarily driven by a year-over-year reduction in the excess tax benefit related to stock compensation as a lower stock price will generate less of a benefit in 2023 compared to the prior year as well as discrete tax benefits in 2022 that are not expected to reoccur this year. The higher tax rate is expected to reduce 2023 earnings per share by $0.50 to $0.65 and the earnings growth rate by over 500 basis points at midpoint. Finally, total adjusted net interest expense in 2023 is expected to increase to a range of $133 million to $137 million compared to $105 million last year. We expect year-over-year increase will be driven by higher variable interest rates primarily as a result of the Federal Reserve’s actions, partially offset by repayment of debt.

We anticipate the higher interest expense will create an earnings per share headwind of $0.45 to $0.50 and reduce the earnings growth rate by at least 400 basis points. As we mentioned last quarter, we entered into an interest rate swap agreement effectively locking in a fixed rate for two years on $500 million of our revolving credit facility. At year-end, approximately three-quarters of our $2.7 billion debt was at a fixed rate. We believe the Federal Reserve will increase rates in the near term, and our outlook accommodates an additional 100 basis point increase in rates in 2023 beyond the recently announced February increase. At the end of the fourth quarter, our gross and net leverage ratios were approximately 2.2 times and 2.1 times, respectively.

This is a meaningful decline from the third quarter due in part to a cash gain on the Avian divestiture. We continuously evaluate our capital priorities and as always, intend to deploy capital to the areas that we believe will generate the greatest returns. Our outlook assumes an average diluted share count of approximately 51.5 million to 52 million shares outstanding in 2023. From a segment perspective, our 2023 revenue growth outlook reflects sustained client demand trends, offset by the NHP supply impact in the DSA segment. Similar to the prior year, the RMS segment is expected to achieve high single-digit organic revenue growth, the result of continued robust demand for research models and associated services. As a reminder, the Cambodian NHP supply situation does not have an impact on our RMS segment as these large models are sourced and used to support our Safety Assessment operation.

For the DSA segment, we expect the organic growth rate will be between low to mid-single digits based on our NHP supply assumptions around the timing of the resumption of imports. The Manufacturing segment is expected to generate low double-digit organic revenue growth with the increase from the 2022 growth rate principally driven by the expected rebound in the CDMO performance during the year. While foreign exchange was a 350-basis point headwind in 2022, the weakening of the U.S. dollar since November is expected to result in a slight FX benefit of up to 50 basis points to revenue growth in 2023, assuming near current foreign exchange rates. This will drop down to a more meaningful contribution to the bottom line and is projected to generate up to a $0.25 earnings per share benefit due largely to movements in the Canadian dollar.

You may recall, in Canada, we invoiced most of our revenue in U.S. dollars, but essentially all of our costs are in current Canadian dollars. We have provided information on our 2022 revenue by currency and the foreign exchange rates that we are assuming for 2023 in our slide presentation. For the operating margin, we would have expected to generate moderate margin improvement in 2023 without an NHP supply impact. But given this meaningful headwind, we expect the 2023 operating margin to be flat to down 150 basis points depending on the timing of the resumption of Cambodia NHP shipment. Longer term, we still believe there is operating margin improvement that is inherent in our business from a combination of leverage from higher volume, pricing and continuing to drive efficiency.

We will not provide free cash flow or capital expenditure outlooks at this time because these metrics could vary based on the level of NHP supply impact that is incurred. For 2022, free cash flow totaled $330.3 million compared to $532 million for the prior year. The decrease was due to higher CapEx as we added capacity to accommodate the robust demand as well as unfavorable working capital movements, the timing of which contributed to our free cash flow being below our prior outlook. Capital expenditures for 2022 increased by $96 million to $324.7 million with most of the increase driven by the continued capacity needs of the Safety Assessment business. Given the current NHP supply situation, we will reassess our capital needs for this year.

Longer term, the targeted level for CapEx remains at approximately 9% of revenue as we expect to continue to invest in capacity in order to keep pace with a sustained underlying demand environment and support our long-term growth forecast. The next slide shows a summary of our 2023 financial guidance. Looking at the first quarter of 2023, we expect that year-over-year revenue growth will be in the high single-digit range on a reported basis and at or above the 10% level on an organic basis. We’re expecting stronger revenue growth in the first half of 2023, both due to the comparisons to last year when growth accelerated throughout the year as well as the gating of the NHP supply impact. We expect only a small impact related to NHP supply in the first quarter because these large models are already in place to start the scheduled study.

We expect earnings per share will decline at a mid-single-digit rate in the first quarter compared to $2.75 in the first quarter of last year. In addition to the impact of the Avian divestiture, the non-operating headwinds will have a greater impact to earnings per share in the first quarter. Specifically, the higher tax rate and increased interest expense. As previously mentioned, the tax benefit from stock compensation is expected to be lower in 2023 with the greatest impact in the first quarter. We also will now have anniversary last year’s Federal Reserve more aggressive interest rate increases in the first quarter. These two items are expected to result in a combined earnings headwind of approximately $0.40 per share. In addition, the Manufacturing segment faces a difficult comparison versus the first quarter of last year with regards to commercial readiness milestones in the CDMO business and COVID testing revenue in the Biologics Testing business.

This will result in a lower growth rate for the Manufacturing segment in the first quarter. Each of these headwinds will improve throughout the year, beginning in the second quarter. In conclusion, we’re very pleased with our 2022 financial performance, and we’ll proactively manage the challenges in 2023. We’re confident in our ability to generate value for our shareholders by consistently growing revenue, earnings and cash flow. Over the last five years, we have achieved compound annual growth of 16% for revenue and 17% for earnings per share, generating robust operating and free cash flow while continuing to make necessary investments to support the growth of our business. We’re focused on continuing to drive growth, executing our strategy and enhancing our position as the leading global nonclinical drug development partner, working with our clients from discovery and preclinical development through the safe manufacture of their life-saving therapies.

Thank you. Todd Spencer That concludes our comments. We will now take your questions.

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Q&A Session

Operator: And our first question will come from Derik De Bruin with Bank of America. Your line is open.

Derik De Bruin: Hi, good morning. Thanks for taking my question. Jim, I’m just curious, what are your customers doing that €“ in the biotech space and elsewhere to €“ in terms of their studies? I mean, is €“ are other vendors having similar delays on some issues? Basically, are you at risk of losing business because other vendors have better access to some of the model systems?

Jim Foster: Tough to comment on the competition, Derik. I guess my overarching comment would be, number one, we are a much wider scale. Number two, we have different supply sources and different capabilities. But I would say that with regard to Cambodia, where 60% of the animals come from, we are all at least temporarily foreclosed from bringing new animals in and utilizing them on studies in the United States. So you want to extrapolate this and say this is an industry issue, a relatively profound one because drugs aren’t going to move through preclinical and into the clinic. Biologics are not going to move unless they’re tested on large animals, and it’s has to be NHP. So we are €“ our focus now is to work with Fish and Wildlife to come up with a collaborative methodology that they’re in agreement with, and we can execute to show parentage, which is sort of the underlying issue here.

It’s going to be some sort of laboratory assay that we’re developing, but we have to be able to do that quickly and cross a large population of animals. The €“ just to reset the table for you, the irony is that demand is really significant for us. I can’t comment on the competition, but I assume similarly. So demand is exceptional. We’re well staffed. Capacity’s in a good place. We actually have enough animal supply in terms of our relationships with the various suppliers that we have where we either own a piece or have a long-term contract. And we’ve hit this unanticipated speed bump with Fish and Wildlife. They’re saying that they’re concerned about parentage. So I don’t €“ I can’t guarantee anything. I don’t think this is a situation that we’ve been concerned about losing share.

It’s a situation of how do we €“ we, and that’s both Charles River and the competition to some extent, move past this so we can support the clients to get drugs through preclinical and to patients. And that’s €“ that’ll be pretty much 100% of our focus going forward. We’re optimistic that we will be able €“ that’s been a request. We’re optimistic that we’ll be able to meet that request. It’s a little bit difficult to determine exactly when it will be resolved and exactly when we will get animals into the U.S. We’ve sized our guide, as we said in the prepared remarks, to either have animals kind of late in the third quarter for utilization in Q4. That would be sort of the best case. Worst case would be that Cambodia doesn’t open up at all for fiscal 2023.

And of course, it’s about 60% of the supply source, both for Charles River and the industry at large. So it’s €“ I don’t know how else to say this. It’s not really optional that we fix it, have to fix it for our clients and for patients and for ourselves. I think the U.S. government authorities understand the criticality of the work that we do and the role that NHPs play. And we’re hoping they’ll work closely with us as we work through the resolution.

Derik De Bruin: Great. And that was sort of my next follow-up on this one is like how closely are FDA and Fish and Wildlife working together? I mean, do they clearly understand the importance of what this is? And is there €“ did you get any sort of suggest an all-in timing on when this would be resolved or what the milestone we need to see?

Jim Foster: I mean, the timing is hard only because they’re pretty much consistent that we prove parentage. By the same token, Fish and Wildlife absolutely understand how these animals are used and the critical nature of them. I know that the various government agencies have been in conversation with one another on the outlook of the world through a different lens. But it’s going to be essential to move drug development forward for hundreds of clients and drugs that we have a resolution. So we’re off working on that. We’re off with an open dialogue with Fish and Wildlife about what exactly they need. And we have to explain to them that the reality of it’s going to take some time to get this up and running, but we’re well intentioned that we have deep science on our own.

We’ll collaborate with some others to get this up and running. And we’ll provide these tests, which €“ yes, that’s the basis of this whole situation to prevent wild animals being used in biomedical research.

Derik De Bruin: Thank you.

Jim Foster: Sure.

Operator: Thank you. Our next question will come from Eric Coldwell with Baird. Your line is open.

Eric Coldwell: Thanks very much. On the subpoena, are there any additional details you can provide on the timing of the receipt, what DOJ perhaps might think, they have come across that would drive this? And then can you confirm that the incremental margin on the rough $80 million to $160 million revenue headwind is about 50% to 60%? That’s what’s embedded in the guidance. And then third, could you talk about the supply expansion you’ve €“ to what extent you’ve been able to achieve supply expansion beyond Cambodia? Is there any additional detail you could €“ would be willing to provide on countries of origin, new suppliers, increases with existing non-Cambodian suppliers? Is there anything you can share to let us know what might be the ultimate outcome if, let’s say, worst-case scenario Cambodia doesn’t reopen?

Jim Foster: Sure. Subpoena is relatively recent, Eric. And we’re a subject here, meaning that they want to get information from us. Just to back up, that another Cambodian supplier was invited in November. That’s not somebody that we work with. And so we take a couple of our competitors to work with, and that started the whole questioning and to prove for the methodology. And so they are now looking at all of the suppliers in Cambodia, one of whom we get our monkeys from. We were just there and audited that, I guess, I should say, without sort of weighing in on what the government thinks. So doesn’t think that we believe it’s a professionally run operation from a veterinary point of view, from a nutritional point of view, from a housing point of view, from a shipment point of view.

And it’s a big farm. And they take our advice and counsel really well. So we feel that we have some end point and some auditing capability with them. We believe that as this DOJ investigation continues, we’re confident that they’ll conclude that any concerns they have with regard to Charles River are without merit. We don’t believe we did anything wrong. To the contrary, we always fully comply with U.S. and international laws. So we’ll work closely with them. We’ll be collaborative. We’ll be transparent. We will take the high road in terms of coming up with a solution that works for them, works for us and probably will work for other providers and competition, which is great. The supply thing is €“ I mean, it is what it is, Eric. It’s frustrating.

We worked really hard over the last, I’d say, COVID years, so probably three years now, maybe four particularly after China closed out in 2018 to have a multiplicity of suppliers. And I won’t go through where they are and what their names are, but we have multiple supply sources. And so we were starting this year with more than a sufficient number of monkeys to do the work. You know we have orders last year way into the back half of 2023 and some into 2024 and hopefully, some incremental on top of that. And as I said earlier, we had staff and space. So we’re heading into this €“ and we had an extraordinary second half of last year. So we’ve been heading into this year really optimistic about our supply sources. So I would say that we have multiple supply sources, which is great.

I would tell you in specific answer to your question that if Cambodia never opens up, there will be an insufficient number of monkeys to do the work for the whole industry. And I’m not just saying this with €“ through Charles River lens. That’s not a tolerable situation. That’s not an acceptable situation for the health of patients, for drug development, for getting drugs through preclinical into the clinic. So we have to find an accommodation. They €“ the dialogue with them was quite open, and they’ve been really clear to say you just have to show parentage and by that, listing. What we mean by that is just that you can track the offspring to mothers and that those mothers are part of a purpose-bred operation. So we believe that we can do that.

We believe that Cambodia will open up at some point. We’re hopeful that it will be sort of best case to become end-ish of third quarter with the animals in the fourth because it’s a big industry dilemma if that can’t happen. And I will let Flavia drill down on the financial impact of what we just gave in our guidance.

Flavia Pease: Thanks, Jim and good morning Eric. Yes, our EPS guidance obviously assumes different scenarios as we mentioned in our prepared remarks. Obviously, the revenue loss drops down at a fairly high rate initially. But I’ll prefer not to comment on the specifics.

Operator: All right. Thank you. Our next question will come from Sandy Draper with Guggenheim. Your line is open.

Todd Spencer: Hey Sandy, are you on mute? We can’t hear you.

Sandy Draper: Yes. Thanks, Todd. So just a quick follow-up on NHP and then my bigger questions on the CDMO business. But to make sure I understand it correctly, you’ve decided, Jim, to stop. But were you ordered to stop taking on primates from the supplier to this resolved? And basically is this €“ you’re waiting from signals from the Food and Wildlife or the FDA and so your hands are tied? Or once you think things are clear, you can make the call? So I just want to make sure I understand that. And then the bigger question is just on clearly encouraging signs on the CDMO in your guidance. Going back to the miss in 2022, is this just a function of time and that you’ve sort of gone through that 12 months of just rebuilding the pipeline that you had that sort of the air pocket? Or has demand actually gotten better? Thanks.

Jim Foster: Yes. So on the Fish and Wildlife situation, so there was all sorts of contradictory and probably erroneous information about what Cambodia was doing after this first farm was invited back in November. So the initial ruling was that the Cambodian government just closed down exports, which was we don’t believe was ever true. So Cambodia is €“ from their end, is open for business. We’d like to shift the animals, we’ll provide the paperwork. The U.S. government is saying, you can’t bring them in yet. And the ones that you have in country, and we have some in country, you can’t use yet until we sort of work out and ensure that they are indeed purpose-bred. So no. So I don’t think it’s €“ I don’t think we can just do what we want.

I mean, there’s always permitting. There are these site permits that one has to get and then they €“ when they €“ so canceled, you can go ahead and utilize the animal. So just your prevalence, I guess our hands are tied, but we’re trying to look at that positively that it’s within our control to get them untied. They’re just going to sort of wait for us to make a proposal on how we can prove they’re purpose-bred. So as I said, that’s like 100% of our focus right now in our control. And obviously, the faster we do it, the faster they will allow us to utilize the animals. CDMO business is an interesting one. As we’ve spoken to consistently for a while, now integration has been complicated. The science is quite complicated and new. And we really had to re-staff all three of the companies, the major companies that we bought from kind of top to bottom, senior management, sales, regulatory, et cetera.

I think the demand has been great across the Board. The sales cycle is long. So I’m not sure that was totally clear to us or the length wasn’t crystal clear to us when we bought the company and plus some of the clients that we felt we had firm commitments weren’t so firm. So I think we’ve done a great job with the new sales force where people that understand the science can explain it well. And we have in our prepared remarks a commentary $100 million of new business come in last year. Our Memphis facility, which is a gene-modified cell therapy manufacturing operation, this sounds particularly solid right now just in terms of numbers of clients, scale of clients. By that, I mean, there’s a bunch of companies that are cell therapy companies that are kind of small and new that you’ve never heard of, but there’s a bunch of really big companies, including big biotech and big pharma who either don’t have their own space or don’t feel there’s sufficient space in the system.

We have several clients that we’re talking to who have either finished Phase 3 or almost €“ who are talking to us about commercial quantities. And there’s at least one client that we are confident that we will produce commercial quantities for them this fiscal year, which obviously would be fabulous just in terms of, I don’t know, expertise, reputation, capability and really doing it because there’s still a few commercial products actually being manufactured. So the business feels better, stronger, better demand, better client understanding of who we are, better integration amongst and between the cell and gene therapy companies and also between cell and gene therapy and our biologics business, in particular, and I would say safety. Secondarily, we have very good facilities that have been all three of the big €“ three of the major facilities have been added on to over the past year.

So we’ve got new space, incremental space and pretty well staffed. It’s a very attractive area. There’s lots of people that want to work and sell in gene therapy. I think there’s a little bit of a positive buzz around our capability and potential. So we should have nice growth rates in those businesses in fiscal 2023. The margins won’t be anywhere near we want them to be, but they will be distinctly better than the prior year. So CDMO should be accretive for sort of the manufacturing top and bottom line. And similarly, obviously, to a lesser extent given the denominator, but similarly to CRL’s top and bottom line also. So we feel good about those businesses as we’ve entered this fiscal year.

Sandy Draper: Thanks for the update, Jim.

Jim Foster: Pleasure.

Operator: Thank you. Our next question will come from Elizabeth Anderson with Evercore. Your line is open.

Elizabeth Anderson: Hi guys, thanks so much for the question. I was wondering if you could comment, it seems like you based on the guidance that you gave for the full year on NHPs that you probably have enough supply domestically to get you to this sort of fourth quarter at least between the Cambodia and non-Cambodian supply. So if that’s something you could comment on. And then secondarily, can you talk about the impact of potentially follow-on work after NHPs? It seems like maybe is that something that you guys have accounted for in the guidance? Or is that something that would maybe impact 2024 more than 2023? Thank you.

Jim Foster: Yes. So we have some supply, for sure, Elizabeth. So we have €“ we do a lot of NHP work in the U.S., but we also do €“ I mentioned Europe that we have other suppliers for European operations. We have other suppliers for the U.S. We had monkeys in countries, some of which our hands are tied at the moment, but some of which our hands aren’t tied. And I don’t want to peel it back too finely, but I think that we have a sufficient supply for a while, and then it begins to wind a little bit. We’re just going to have to have conversations with our clients about their priorities and what they really need to be done quickly and try to match their priorities and the cadence of their drug development pipelines with availability of space and NHPs. So yes, to some extent, we’ll have sufficient supply.

And to some extent, we won’t. And hopefully, as we’ve indicated in our prepared remarks today and in the numbers in our guidance that we’ll be off and running in the back half of the year. We’re continuing to take orders and book orders certainly into 2024. I don’t want to comment on what the impact is in 2024. We’re early in the first quarter of 2023 except to say that our hope would be to resolve this problem because we have sufficient supply if the U.S. Fish and Wildlife Service and the other regulatory agencies will let us use them so. And just given the importance of the work, we have to figure it out. We’re confident that they will listen. They understand the importance. We’re also confident they don’t have a lot of options. Very few of our clients have internal toxicology capacity.

And even if they did, they can’t get the NHPs either. And we have perfectly capable competitors, but they have limited infrastructures, and they have limited access to NHPs as well. So just given our scale and prominence, we have to resolve it. And we’re hopeful that people will work with us and understand that we’re doing everything in good faith and want to come up with a scientific solution that satisfies everybody’s expectations and demands.

Operator: Thank you. Our next question will come from Jacob Johnson with Stephens. Your line is open.

Unidentified Analyst: Good morning. This is Mac on for Jacob. Just a quick one for me. Are there any areas of your business where the funding environment actually drives additional demand or outsourcing? I think CRADL is perhaps one of these areas?

Jim Foster: Yes. CRADL for sure. CRADL’s €“ I don’t want to overstate it. I’d say it’s a relatively recession-proof business and kind of the pure-play outsourcing move for €“ we thought it was only going to be small companies. It’s a whole range of countries. It’s quite interesting, but for everyone at the moment who might not want to build de novo space, add on to the current space, just hold on to the capital and at least small amounts of space from us, use our people either in large measure or a small measure. I think that business is going really well. Look, our whole thesis €“ I mean the whole basis of the bargain with Charles River is that we can be your outsourcing partner. You use our people and our space as if they’re your own.

We’ll invest in technology and capacity consistently. We’ll help you get your drug into the market or at least tell you that it shouldn’t get into the market because of high levels of toxicity or whatever, lack of efficacy. So I think that so much of what we do, all of the Research Model Services are pure outsourcing. All of our discovery and safety work is pure outsourcing. And so is the biologics work. And so €“ and everything that we’ve added through M&A over the last decade or even two decades has been about providing a large cohesive portfolio to €“ so somebody can literally give us a drug and say, please tell me, file my IND and get this thing to market. So obviously, it’s somewhat correlated to the availability of cash. I would say that our biotech clients, in particular, are very judicious and thoughtful about the way they spend money.

So they tend not to move forward unless they think they have enough money to at least get their drug minimally into the clinic and actually to proof of concept. And we’re still hearing very little from our clients about concern about access to capital and how that would impair or slowdown both the demands from us and ability to spend. So yes, we think our €“ and if they have those concerns, and they’re just not articulating it, I think our portfolio is quite helpful for them. And yes, I would agree that CRADL is kind of the top of the list.

Unidentified Analyst: Thank you for taking my question.

Jim Foster: Sure.

Operator: Thank you. Our next question will come from Patrick Donnelly with Citi. Your line is open.

Patrick Donnelly: Hey guys, thank you for taking the questions. Jim, can you maybe just talk through the timeline of how this all played out? I mean, obviously, you put out the 8-K, I think it was mid to late this November, sorry. And then December, there were mixed reports. Cambodia was shut down, then it wasn’t a few days later. And obviously, you guys got the subpoena just a few days ago. So can you just talk about when you guys started to realize, hey, this might be a real disruption, and this is going to shut down and just trying to get a sense in terms of how quickly you could prepare for this and just how it played out internally would be helpful. Thank you.

Jim Foster: Sure. When the information came public about the indictment in November of a supplier in Cambodia that was the first time we know anything about €“ any concern about Cambodia. Just to remind you all this probably around the same percentage of our animals, our NHPs were coming from China up until that point. We had pretty wide scale supply agreements from China, and then the Chinese government closed those exports down in favor of keeping those monkeys in country. And we and our competitors pivoted to Cambodia, which has essentially the same type of animals or the same genetic background. So we knew that the research community would be fine with them. They also didn’t really have a choice. But it’s similar background.

So we’ve been working hard to validate our supply sources by visiting them, by telling them what our kind of requirements were from an operational point of view. We’ve been quite pleased with them. We’ve been quite pleased with the quality of monkeys. As I said earlier, we had probably the best €“ not probably, we had the best year in the company’s history for our Safety Assessment business in fiscal 2022, really strong demand way out a year or 1.5 years and escalating price points and market share gains. And so we were feeling very good coming into this year as we were locking down our operating plan, and this came up literally out of the blue. And then as you say, I can’t put a finer point on it than what you said. All sorts of rumor is tough to verify.

But Cambodia closed, no it’s not closed. Great, it’s not closed, but then we got U.S. government is we don’t care, but you can’t use them until you can determine and prove to us that the animals are purpose-bred. So it’s just November to now, which is €“ it feels like decades, that’s a relatively short period of time. We have finally opened up channels to have conversations with both DOJ and Fish and Wildlife, obviously, not only will we cooperate, but I think it’s incumbent upon us given our scale and who we are to be the leaders in solving this problem. We have to solve this for the client base. By that, I mean, we have to come up with the necessary tests that can be done quickly to determine which animals €“ that the animals are indeed purpose-bred, and we will do that.

So we’ll stay close to all of our suppliers or particularly the one that we €“ the principal one that we use in Cambodia, provide advice and counsel on what we think they need to do additionally on their end. And we’ll enhance our own internal testing methodology such that we can just show efficient wildlife data, and hopefully, they’ll be pleased with it. And it’s as straightforward as frustrating and as sort of sudden as that, the €“ it just literally sort of the information and the kind of severity of what the government was looking for seem to come out of nowhere, certainly with no advanced notice. And it’s not something we’ve spoken to them about previously. And as I said, we had an extraordinary fiscal 2022, so €“ and never even a hint of this kind of concern or investigation or conversation.

Patrick Donnelly: That’s helpful. Thanks, Jim.

Jim Foster: Sure.

Operator: Thank you. Our next question will come from Max Smock with William Blair. Your line is open.

Max Smock: Hi, thank you for taking our questions. Maybe one for me on the CDMO business. You mentioned a stronger sales funnel for this part of the company. And just wondering if there’s any more detail you can share around how the sales funnel has grown over the last couple of quarters here, and what you’re seeing in terms of the strength in the cell and gene therapy market more broadly? And then in terms of those potential opportunities that you’ve won so far, I guess, it would be helpful to hear really what has differentiated you or what you think differentiates you from some of your larger competitors in the space. Thank you.

Jim Foster: Sure. The market is strong and has remained strong. There’s a plethora of cell and gene therapy drugs that had then quote discovered and need to be developed either to success or failure. So we’re going to be very, very busy. We’ve, as I said earlier, retooled the sales organization. So we’ve got people with great expertise in both cell and gene therapy to understand both the science and the processes for manufacturing and the time frame. As I said earlier, the time frame is longer than we had anticipated. So we’re really pleased with the way we’ve been signing up clients, large and small, the openness to share their anticipated plans with us to wheel what the market size they think the drugs might have. As I said earlier, we have several clients that are on the verge of commercialization.

It doesn’t mean the drugs will get to market, but I’m just saying from a regulatory point of view are on the verge of having finished clinicals and will be filing and one that has moved into a commercial zone. So the sales funnel feels solid, consistent, persistent and pretty varied in terms of the scale of the companies. The market itself, the €“ it’s probably a number we should update, but we €“ when we quantified it last time, we said they were about 3,000 cell and gene therapy drugs in development, probably two-thirds of which were in the preclinical domain. And obviously, some meaningful portion of these we’ll get to work on. The differentiating factor for us and the reason we went into CDMO space having kind of fleet from a few years ago because it’s kind of a crowded space is that this is kind of an interesting niche.

We have a couple of other very good players in the space, which is fine. The market needs them, but what the differentiating feature is that we don’t just manufacture a drug. We have the Biologics Testing business, which is kind of how we ended up pivoting back into this space because clients were saying speed is of the essence. We give you our molecule and develop it for us. We can’t tolerate you sending us out to find some of the manufacturer negotiating prices, maybe someone we don’t know or trust. We’d like you to be able to do that for us. So if you think about it, we can do some of the discovery development. We can do all the toxicology work to say it’s safe, then we can test that molecule before it goes into the clinic €“ sorry, we can now manufacture the molecule, and then test it before it goes into the clinic and then test it as it goes into commercialization.

So I do think it holds true not just for cell and gene therapy but pretty much everything we do. We just have this €“ we have a broader portfolio than the competition. And even if they’re bigger companies and even if they’re bigger and have a larger reputation than us for being a CDMO, they don’t have the pull-through that we have, and they don’t have a comprehensive portfolio. We think that gives us a significant and distinct competitive advantage.

Max Smock: Thank you.

Jim Foster: Sure.

Operator: Thank you. Our next question will come from Dan Leonard with Credit Suisse. Your line is open.

Dan Leonard: Thank you for taking the question. I have a couple of follow-ups to Derik’s question at the start on what customers are doing with the NHP supply constraints. How actively are they pivoting to different models like many pigs or dogs? And are clients being more discriminating about NHP use in line with the recent FDA guidance? And then finally, is there any chance, Jim, that the heightened NHP concern reduces long-term demand for NHPs from biopharma as clients reconsider their NHP needs? And if that happens, what does that do to Charles River’s business opportunity? Thank you.

Jim Foster: Yes. Very smart and sophisticated question. Not an easy one to answer. I think that we all particularly given the complexity of NHP availability and by the way, it’s always been complex. It’s just more complex these days because of the sheer numbers. If there was an alternative species that was €“ yes. Let’s start with your pig question. You could produce them domestically, and they have litters as opposed to one offspring, and you could get significant numbers. The problem is €“ and by the way, we do a fair amount of swine work right now, mostly for dermatology and cardiovascular work. But it’s not a bad model. Several problems and several which is number one is there are not enough swine either. Number two is if you use sort of farm size one, that’s just too big.

And by too big, I mean, at that stage, drug companies have made a very small amount of the drug, which is classic extraordinary amount. So they’d like to put it in small animals. So if you put it in mice or rats, that’s obviously a small amount of drug. And the monkeys that we use are quite small as well. And plus it’s years and years and years of data using NHP. So I would say that swine is theoretically a long-term solution, but you’d have to have lots of elevation work done by our clients, accepted by the FDA and then a massive breeding operation, which we would undertake that. It just €“ it’s not around the corner. The utilization of NHPs and a small animal model, usually a rat, is required by the FDA and comparable organizations around the world.

So that’s unlikely to change. I think the essence of your question as well, that’s really interesting, but what if they’re not available, what happens. And you know that the FDA is the protector of the public safety. So they won’t do anything to impair safety, biologics of complicated drugs and I mentioned human proteins or artificial human proteins. And so you really want something that is closely aligned with a human being as possible. So I don’t see significant pivot out of that. And would it reduce demand? I mean, if you have a host €“ so let’s take the worst case that Cambodia never opens up. That would beg the question of would the FDA accept smaller numbers of animals per study than they do now. I don’t know the answer to that. And if they did accept that, would that be significantly €“ significant enough to give them enough data to approve the drug?

Maybe. Probably not. They couldn’t pivot overnight to another animal model. So again, I just have to go back to where I’ve been on this whole call, the animals are available. There are enough animals available. The farm that we use, we provided really good oversight. And we think it’s well-run farm, and we think the animals are of high quality. And we have to get through this logged in, and it’s not like €“ think about your question, it’s not like literally are there enough animals available in the world to satisfy the demand because there aren’t. These animals typically are pests in these countries, and then they take the test, and they use them as initial breed stock. So they’re wild. And then we sell usually the second generation, occasionally the first, but the second generation.

So the animals are clean, and we’ve had an opportunity to ensure their viral and bacteriological and genetic profiles are as it were €“ as you want it to be. So we are €“ trust me, we talk daily about alternative models, what our responsibility would be, how we would go at it, how we support our clients. And that may happen over the next €“ I don’t know the time frame, let’s say, five years. But that doesn’t satisfy any of the short-term needs right now. So I do think that €“ we’re quite hopeful in the final analysis, organizations like NIH and the FDA will weigh it seriously about how important these animals are, support us and the work that we do. And so ensure in a long-term basis, these animals are available.

Dan Leonard: Thank you for that perspective. And if I could ask a quick follow-up, can you help me better understand the complexity of showing parentage for NHPs? Presumably, this isn’t just a 2023 Ames test. It’s more complicated than that, but I’d love to be able to better understand that.

Jim Foster: Yes. It’s €“ I don’t think it’s all that complicated. You just €“ you’re proving genetics. And there are also sort of genetic assays that are available. The issue is actually more trivial. It’s just actual scale depending on how many of the animals they want tested. And how do you do that on a large enough scale quickly enough so it doesn’t impede the speed, the velocity of your business. So we’re hopeful. We’re speaking to a few organizations right now. We’re hopeful that we can enhance the technology to be able to do it faster. So that would be good for us, that would be good for our clients. And I think that’s €“ speed is an issue of the regulatory folks. They just want proof with it.

Dan Leonard: Appreciate that perspective. Thank you.

Jim Foster: Sure.

Operator: Thank you. Our next question will come from Casey Woodring with JPMorgan. Your line is open.

Casey Woodring: Hi, thanks for taking my question. So just curious, is this your max impact from NHPs? Or do you think there’s more downside to that range for 2023? I guess, does that headwind include any pricing offset? Is there any way to go back to the table and renegotiate price for work that you maybe had booked last year pre-supply crunch year? And then just as a follow-up, how much of your existing supply will have run through in 2023? Does that downside case that you laid out assume you’d be entering 2024 with only 40% of your NHP supply available? Thank you.

Jim Foster: Yes. So I’m going to stay away from 2024. Just €“ it’s too far away, and we don’t know how this year is going to unfold in terms of access to new animals. And so the supply will be €“ yes, it’s hard to call what it will be going to next year, which, of course, is more than 10 months away. We believe based upon everything we know today and based upon our conversations with the Fish and Wildlife and others that the guidance range that we have out and now accommodates for sort of close to the best case and close to the worst case. And so we’re pretty comfortable with that. So we like our shareholder base to just sort of get in that genre. The price points for work in kind of the back half of this year and definitely for 2024 continue to escalate.

It might not be quite at the escalating point that we had last year to really cover our inflationary costs but meaningful prices. I don’t know. It feels unclear as to what we do from a pricing point of view to accommodate for this lack of demand. I think we need to be paid well for the complexity of the work we do and for the animals that we have. But we may have a small amount of pricing power only if the costs go up dramatically. But I wouldn’t think that we can make up much of this by significantly increasing the cost to our clients.

Operator: Thank you. Our next question will come from Tim Daley with Wells Fargo. Your line is open.

Tim Daley: Great. Thanks. First, I wanted to ask on RMS. So within the RMS organic growth guidance for the year, are you assuming any divergence in product versus service above or below the segment average? And then secondly, a few quick yes, no for you, Jim, on DSA. Will you be providing intra-quarter updates to investors regarding developments in the NHP dynamics? Does your guidance assume any resumption of China NHP exports to the U.S.? And just a quick follow on to Dan’s first question on the FDA Modernization Act. Where you sit today, is there any meaningful mid- to long-term risk to the Safety Assessment addressable market due to synthetic models? Thank you.

Jim Foster: Wow, four-part. So, I would say that the FDA Modernization Act is well intentioned and is pointing to alternatives to the extent that they are available and viable. And we would be the first company to own those technologies were they available and viable. I think that there’s very limited technologies right now. We try to invest in them when we see them. We bought one company in the last 25 years. It was clearly in vitro or non-animal based to replace an animal technology that the FDA required. It’s done quite well. But I remember when I made the decision to buy it many years ago, I assume by now there’d be 20 other technologies, and there simply aren’t. So while the FDA Modernization Act means well and it’s sort of pointing towards less animals, more sophisticated animal models, early or assays that are in vitro, I think some of that will happen.

I think you’re going to see AI and machine learning and utilization data to decide how the trials used potentially more in the early discovery phase to give you an indication of €“ I don’t know whether the new drug is likely to work as well as an old one and minimally in toxicology. We hear every month €“ and I totally ignore it, by the way. We hear every month that China is opening up again for exports. I don’t know why we’re hearing it. I don’t know who’s saying it. I don’t believe it. So China is at odds with the U.S. and probably Europe right now. They have lots of animals that would potentially give them, I don’t know, but any edge, but at least access to more monkeys. It’s hard to imagine what the scenario might be that they would open up again.

So, we’re certainly assuming for all of our guidance and assumptions and plan that we don’t have them available for us. You had another question €“ oh, I can’t imagine that we would give inter-quarter updates on DSA. So, I would leave it at that. And on the RMS business, this is a business that’s really rocking right now. It’s kind of moved up into sort of high single digits genre. We did 9% for fiscal 2022. That’s the best it’s been in a long time. We’ve got China doing well. We’ve got North America doing really well. I’m only laughing because it’s been years since that’s happened. So it happened 2022 and we imagine 2023 as well. This CRADL business with the acquisition we made last year is doing particularly well genetically engineered model business, it’s also doing particularly well.

And so we see a really good opportunity to take share. We always get price in those businesses. Clients are pretty much happily dependent on us. It’s been €“ nobody produces their own animals or provides the level of services that we do. So the business feels continually stronger pretty much in all of the geographies in which we participate. Some of our competitors, particularly because of COVID, had a rough time, I don’t know, having enough infrastructure to work through COVID. I think they’ve been €“ had some financial issues as well and some of them are only in the Research Model business. So, I think they’ve had a lot of pressure on them. So, we feel really good about that business, its growth rate potential and its operating margin potential and really feel good about how it ended up in 2022.

Tim Daley: Great. Thanks. And sorry for the multi part there.

Jim Foster: All right.

Operator: Thank you. Our next question will come from Dave Windley with Jefferies. Your line is open.

Dave Windley: Hi good morning. Thanks for taking my questions. Jim, I wanted to ask one on kind of availability. You touched in one of the earlier answers about the test. I wondered if you could give us a framing as to whether you think this is a test that kind of the assay exists, but you need to repurpose it and validate it in your area? Or are you kind of starting from scratch? And then more broadly, in terms of kind of longer-term availability of NHPs. I wonder what consideration you have given to establishing domestic colonies and/or working with U.S. primate research facilities that I think are mostly used for NIH, but is there any opportunity to leverage those for access to primates?

Jim Foster: Yes. The domestic colony question is a really good one, Dave. I can’t tell you how many times we’ve discussed it. And I think you know that we did it once. So, we set up a domestic colony in Southern Florida. It’s extraordinarily significant expense and had the bad luck of even though we have built hurricane proof of closures having a hurricane, which really grew in the bunch of the facility actually a bunch of monkeys got out. The €“ at the time this was a long time ago, Dave, it was €“ I remember the project was like cash flow negative for over a decade. It’s just a brutal drop. So you have two problems with it. One is it’s crazy expensive now. I think underlying your question was, could you go to the federal government and say, can you help us with this?

It is a critical national resource. And they probably would. So that would take some of the financial sting out of it, but it still would take forever. We’re talking about what can we do between now and the end of this year. And it just would be forever. So it’s just €“ it’s not a practical approach. On the test, I think it’s both. The answer to your question is both. There are current tests that can be utilized but are set up not on a very large scale. So, we have to scale them up or find a partner to scale them up. So minimally we’ll do that. What we’re really hoping for, particularly with one or two of the collaborators that we began to talk to is that the quality of their science is so sophisticated that they can help us refine the test in a way that we can do more, have more throughput faster with better and unequivocal results.

And obviously, you got our own labs. As you know, Dave, we have big labs all around the world in our facilities. So we have really good capacity and really capable people that would know how to do this work. We just would like to get ahead of it. So it’s kind of a work in progress literally as we speak. We’re working on. I’m confident that we will minimally have kind of something relatively new and not yet standard and potentially something better than even something that’s new that would be €“ care so much about the cost as speed and accuracy. So, we’re all over that, and we’ll update you folks on what our progress is. And if the relevance of the partners and we have an appropriate partner, if we think that’s meaningful to our shareholder base, we’ll share that with you as well.

Dave Windley: That’s great. And if I could follow up on kind of the, I guess, the breadth of the effort. Do you see €“ I mean you mentioned the industry understand that. Certainly makes sense to kind of be collaborative to solve an industry problem. But for your purposes, are you needing to scale this up to kind of validate parentage with your primary supplier in Cambodia? Or is it kind of needs to apply to all of Cambodia and get the U.S. government comfortable with the whole thing as opposed to just KF in your case?

Jim Foster: I mean, eventually, I think it’s good for the industry if you can even call what we do an industry and certainly for our clients, if you could €“ certainly they are an industry. I think it would be good if the whole Cambodian source, and there are a couple of really big players and then some smaller ones if they could use a similar methodology to show who are the moms and who are the offsprings. So if we’re successful, we won’t be selfish about it. I think the way we see the landscape right now, we’re unlikely to work with anybody besides our principal supplier because we just know them so well. We like the scale at which they were again, and they really take our advice and counsel really well. So, we are quite confident that work with us.

And so maybe that will be the nice edge. We’ll start with our supplier. We’ll work with them. We’ll show Fish and Wildlife what we’ve accomplished. And then we can offer to share that. I don’t care. We can share that with our competition. We don’t have 100% share. So we just want the biopharmaceutical industry to be well resourced here and have access to companies that can do the work well for them. So €“ and I do think that the U.S. providers are quite €“ will be quite reliant on Cambodia for the foreseeable future, just given the genetic similarity between the Cambodian monkeys and the Chinese ones. And it’s much better for the research just sort of background data point of view. So that’s how we see it unfolding. It’s possible that our competition will do something similar.

And maybe they get there first. I don’t even care. We’re not going to spend a lot of time, I think, working with them because we just have a different, I think, viewpoints and capabilities and scale and just the way we deal with suppliers and the government. So while we may talk to them and get each other’s support, I think we have to do this alone. And I think we have to do it quite quickly.

Dave Windley: All right. Understood. And thanks for the perspective. Good luck with that.

Jim Foster: Sure, Dave.

Operator: Thank you. Ladies and gentlemen, we have reached our allotted time for questions, and this does conclude today’s Charles River Laboratories Fourth Quarter and Full Year 2022 Earnings Call. Thank you for your participation, and you may now disconnect.