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The Moat in Your Medicine Cabinet

Mike Taggart, CFA

Mike Taggart: Hi, I'm Mike Taggart, senior equity analyst at Morningstar. As part of my responsibilities for covering the consumer packaging goods industry, I get to cover a company named Aptar. Aptar makes dispensers of all types. You almost definitely have its products in your house.

With me today to discuss Aptar in a little more depth is Steve Hagge, the chief operating officer of Aptar. Steve, thanks for joining me today.

Stephen Hagge: Thanks, good morning.

Taggart: In the consumer packaging goods industry, one of the bases of the competitive advantage is scale, manufacturing scale, but for Aptar it seems to be also intellectual property. How does design, innovation, that sort of thing, client relationships, how does that all fit together to create a narrow economic moat for you?

Hagge: You're right, Mike. Scale is important. If you take a look at what we do, our core manufacturing technologies include high-speed assembly. So we're putting together literally thousands of products within minutes. So that's a key.

Taggart: Every minute. In one minute, you put a thousand pieces together.

Hagge: We're putting together anywhere, a componentry of anywhere from eight to 15 components, we're putting those together upwards of speeds of 500 to 1,000 per minute. So scale is important, but it's also probably even more important in terms of where the technology goes.

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What we can do, what innovation we can bring--because what's not quite as well known with our products is that almost all of our products are customized. Today, with just-in-time inventories, you're not producing everything, putting in a warehouse, and then just shipping off of that. You're producing to the orders.

Technology is critical to us. Being close to the customer and the supply chain is very critical to being just-in-time. It is more than just having high volumes.

Taggart: Innovation is clearly a key to what Aptar does in terms of manufacturing unique dispensers for the clients. Can you walk us through a specific example of where your engineers and design people went from concept to marketable product and how that would work internally and who would be involved?

Hagge: Well, take one that has to do with the fragrance business that we have. We have a product today that we sell that's called Imagine. Imagine is a flat-sampling product primarily upscale fragrances. What we found in talking with our customers is that they had a problem.

That's really the base of where we come back, where are the problems our customers have? They wanted a piece of sampling, a device, that can come back and deal, getting more information to the customer, and being able to ship it to them to use it.

So today, if you think of a magazine, there's lots of scent strips in magazines. We actually have a product today that you can mail, and you can actually get two to three sprays on it, so you can see, feel, what's it going to look like. That product started with our own lab. It's a patented product.

We came, about five years ago, had a concept, went to our customers, talked about the concept. They thought it was very interesting, and we came back, highlighted one of our customers who we gave an exclusive to that for one year, went to market, and are now selling that to the broad-range of the fragrance cosmetic market.

It is a patented product today that solved a big need in the developed markets, and I think has a tremendous potential as we go to the developing markets where, instead of a giveaway, you may actually see it being sold.

Taggart: And then you operate in three segments, the beauty and home segment, and the closure segment. I think of those as more your bread-and-butter type segments. Your pharmaceutical segment is the third segment and it's a higher-profitability segment, also a lot of growth forecast for that segment.

I was just wondering if you could share with us, where is that growth coming from and where do you expect to see that segment operating, maybe just in general terms, five years from now?

Hagge: Well, you're right, that today it's our most profitable sector. It accounts for a little over 22% of Aptar's sales and almost half of our profits. It has our highest operating margins in the area of between 25% and 30% versus sales. We do expect that to grow about 6% to 10% a year over the long term.

When you look at that business, a couple of the big growth drivers go from the fact that A, two of the biggest products that we sell for, the diseases that we sell for, are asthma and allergy. Unfortunately, on a worldwide basis, both of those are growing, so we'll be growing with those.

The other thing we are doing, though, is expanding into other diseases, other therapies. We've just worked with a customer introducing our product on a pain medication used for post-operative cancer pain. That has been introduced in Europe, which has opened up a whole new therapy for us.

We're working on vaccines.

In terms of the marketplace growth, we have several big drivers. Again, we think we are by far the leader in that place, in that market space, and have good growth opportunity over the next five to 10 years.

Taggart: And the intellectual property around the pharmaceutical dispensers, that's protected because of the regulatory approval process. Can you talk maybe very briefly about how that works?

Hagge: Yeah, it's a good point.

Taggart: A lot of people don't get that. And it's really actually very crucial to the moat.

Hagge: It is and I think it's very different, as you said, a little bit different than our other product lines. Our product is part of the FDA approval process, so if you have an asthma inhaler, if you think about that, the amount you get out, the dosage you get out is critical to how well its going to come back and how well it will work.

We go through, with our customers the whole regulatory approval process, and that's anywhere from seven to 10 years in timeframe. So we're very much tied to theirs. If they want to change suppliers, they need to go back through that process again. It's a long a process. It's a difficult process.

For us, we also try to come back and bring in new technologies around actually working with the FDA. We've recently acquired a 70% ownership in a lab here in the United States that does a lot of testing for the FDA and does a lot of testing for our customers to come back and deal with some of the other regulatory issues. Technology is a key factor in our pharmaceutical business.

Taggart: We're very pleased to have you with us today, Steve. Thank you very much.

Thanks for joining us today. I'm Mike Taggart. Thanks for watching.