Align Technology, Inc. (ALGN) Earnings Call Transcript & Summary

Got it. I'm curious, how much of a friction point in the market growth is -- and obviously, the market growth -- the market is accelerating, but how much of a friction point still exists related just to a generation of orthodontists that maybe resistant to behavior change? Or GPs resistant to behavior change or in the later stages of their career versus actual other considerations?

Yes, I think there's -- sometimes change is difficult for anybody to go through, and doctors are no different from that. You've practiced a certain way. You've done things a certain way. And then you have to -- you switch. I think what we saw prior to COVID in this vastly under-penetrated market. People make choices, doctors make choices, patients make choices in terms of how they wanted to provide care and be a part of getting their teeth straightened in a certain way. I think COVID has given, in some cases, an urgency to make some changes that many times doctors might not have wanted to make in the past, but now they have to. If they had 10 chairs prior to COVID, you might only be using 5 of those going forward because you have to distance, or you used to have a certain throughput through your practice, now it's a different amount, and we're all facing that in businesses that we're in. And I think doctors, just like everybody else, want to keep themselves safe, keep their staff safe. So they've had to change some of their practices. You think about just on the digital ecosystem that we're talking about, if you were doing physical impressions and having kind of that exposure, the time and everything else that it take versus a 2-minute scan with less exposure and better outcome for the patients, you make those switches. And I think the practices are being much more mindful of that. And I think patients coming in are more mindful. If you're going in every couple of weeks to get your wires and brackets changed or adjusted at your orthodontist. People don't want to do that. Many times, people don't want to go out as much. And I think there's a shift that's going on where people are saying, look, the only way I'm going to get treatment is to get Invisalign, and they don't want to have clear lines. And I think that goes to the point that we talked about earlier about Switch, where many times patients or even doctors kind of have that buyers who more say, "Look, it's going to be difficult to treat you with wires and brackets given this environment. We'll allow you to switch out and go to Invisalign." And I think that's why we've seen some success in that program. So I think change is inevitable. And I think once the doctors and patients realize the digital benefits that Invisalign can bring, safety, the predictability, the outcomes that they're getting in a way that kind of is modern in the times that we're living now, that's a good combination for us.

Got it. I want to switch gears a little bit to some of the commentary you gave around the outlook for '21 as well as just COVID trends and what you saw in the fourth quarter. You commented specifically on COVID that the strong trends you saw throughout the fourth quarter were carrying over into January. And I'm just curious, we all read the headlines every day and we see COVID cases coming down even further since then. So I'm just curious if you could provide some more color there and update kind of the trend line.

Yes. Really, what we try to do, Rich, is because it starts to get difficult to start to talk about year-over-year now because you're kind of anniversary-ing COVID and so on. And we really wanted to give a flavor for kind of how things had been trending through, in this case, the fourth quarter and then now into January. And we saw continued momentum through January. We're doing everything we can. We'll try to continue that momentum. There's going to be impacts as we see where -- if there's a lockdown and they actually shut down the office, the government or there's an outbreak or something, we see impacts to our volume. But as long as those practices are open, we have a chance to see volume from our doctors. And so we can pull the levers that we're pulling. And we talked a lot about them on past calls or Investor Day, we talk about kind of the investments that we make in sales and training and working with doctors. We talk about some of the marketing investments that we make in the U.S. and now expanding that further out. Some of the great tools that we have on -- to be able to help with visualization and remote monitoring and so on. All those investments to be able to help drive demand and we can pull those levers. There's still some unknowns that we have outside of that, that COVID impact or global economy and so on that we -- it's difficult for us to give that guidance. But as we go further and some of those externals become less and less of an impact that will give us the ability to give more of a forward-looking guidance. But when we know how to control the levers and pull the levers that we have within the business, it's just that COVID and some of the other externals still are in the headlines. And hopefully soon, we'll be able to get more forward looking.

Got it. You gave -- you didn't give specific 2021 guidance, but you did reiterate that you're committed to your long-term objectives around sales growth in the 20% to 30% range as well as your kind of long-held margin kind of trajectory 20%, 25% -- or I'm sorry, forgive me, 25% to 30%, right? You were at the mid- to upper end of the ranges in the second half 2020, understanding that maybe your expenses were understated because people aren't traveling and yet lower G&A expenses. But how do we think about the margin expansion and investment profile impacting you over the intermediate term here with respect to being committed to those long-term goals and being -- knowing that you've been at the already in and towards the mid- to upper end of them?

Yes. I think, Rich, when we look at it, we look at our long-term growth model and think when we think about the forward-looking investments that we have, it starts with the vastly under-penetrated market. I talked about the ortho side and on the expansive kind of GP 500-million-plus patients that are out there. We talk about investments that we're going to make to be able to grow into this market opportunity. And that's why we feel, on a normalized basis, when you look at it over year-over-year, 20% to 30% growing in that space is how we think about our forward investments. And we balance those growth opportunities with being able to return margin back to our shareholders. So that 25% op margin or plus to that is something that when we think about the forward-looking opportunities, that's how we look at it. It can vary by quarter in terms of some of the expenses and some of the expense timing when you invest something versus when you actually get the return. But broadly, when we look at our opportunities, it falls into that. And it starts with the vastly under-penetrated market. We've got a growth model that we invest in and gives us return. And we're pleased with what we've seen in the third and fourth quarter. We're driving that growth. These are things that we're going to continue to do and be able to drive this growth. We were a vastly under-penetrated market prior to COVID. We're in a vastly under-penetrated market post COVID. And we're going to continue to do things. And still, 80-plus percent of the cases are done with wires and brackets. We've been at it for 20 years, trying to push against that, we're making progress. We're seeing our growth and so on. Organic growth of 25%, 30% a year is unique in this space. But with the technology and the opportunities we have, that's how we think about our investments going forward.

With our remaining time, John, I want to make sure we touch on international, which has just been an explosive growth area. And especially in this last quarter, your EMEA performance accelerated and really stood out. And then also, I want to just give you an opportunity to talk about some dynamics to consider for ASPs and deferred revenue. On international, just what's driving that pickup, particularly in the fourth quarter? And how sustainable is that?

I think when you look at -- you mentioned EMEA, and if I just looked at that in terms of some of the growth, vastly under-penetrated market everywhere. EMEA is no different. And it is a very open market for us and full of opportunities. I think we've done a good job of really segmenting, targeting doctors that really want to start this digital journey or continue the digital journey. We sell to orthos different than we sell to general dentists. And I think we've made that switch a while back to be to have salespeople that focus in on that. I think we find that there's marketing opportunities where we can market in a way to consumers, get them to come to our website, get them to look up doctors and then ultimately go make an appointment and see a doctor. I think that conversion, we're seeing positive effects of that. So when you play all that together, we've seen broad growth across. And this is not one country within EMEA doing this. Because in one country -- I mean there's all different ways that you can even advertise and get that awareness, and go-to-market is different across EMEA. And we've seen no matter how it's been, we've seen really good growth across. And I think that's the same way in APAC as well. That's why we've seen -- when we talk about this broad growth that we saw in the third and fourth quarter, this is a part of it. It was international growth, but it was international growth and growth across all our countries and not just one or another. ASPs, you mentioned, look, they'll get headlines in terms of what our numbers are. You could get mix effects of that. We've talked a fair amount of that. Of late, we get a mix effects of a new case versus a case where you have additional aligners or some refinements that you have to do, and that can affect us. What we've seen lately is many doctors doing new cases, patients coming in, wanting to start treatment versus existing patients who come in for refinements. So that mix has shifted to that. That helps us from a gross margin standpoint. And really, when we look at it, even though ASPs make the headline, it's really about the gross margin. When we think about how we're driving the business, it's volume, it's gross margin, it's op margin. Those are the trade-offs that we're making. We've seen a good improvement in our gross margin as well over this time period. Some of it is this mix that I talked about. Some of it is just the productivity that we've seen. We opened a new China manufacturing facility and a greenfield facility in June of last year, ramped up production, continued to ramp up production, starting to expand outside of not only producing for China but outside of China. So that adds productivity, and there's a lot of other programs that we have across the company to help from a productivity standpoint, which helps our gross margins.

But it sounds like the trend should continue. There's some mix shift dynamics of lower ASP products that are increasing as a percentage of the revenue, but ultimately, they kind of have a higher gross margin. So it's traded off that investors probably should be willing to accept and it's something you welcome, right?

We definitely welcome it. When we look at our growth that we have from our non-comprehensive cases are growing faster than our comprehensive cases. So we look at that as those are cases where there's some minor movement. It was kind of that what I described earlier, where you're kind of in the chair. That's what is being offered by the doctor. It might be 5 sets of aligners, 10 sets of aligners. There's no additional follow-up or other refinements that are even offered with those cases. So they come with very, very high gross margin. Lower ASP, that's okay. It's better gross margin. And we have a product portfolio that can help doctors with the more simple cases, all the way to the more complicated cases. And ultimately, this is part of the adoption. This is when you have a vastly underpenetrated market, you're going to get all types of cases coming through. And some of these lower stage, non-comprehensive cases are where some of that market is.

Great. And then, John, just there were -- you commented on deferred revenue dynamics in the last 2 quarters in particular. Can you just maybe just flesh that out a little bit? Why is that account balance moving around so much? And how should we think about that?

Well, it really is driven by growth. I mean when we have growth, especially on the comprehensive side, there's a certain amount -- when we offer a product that we say, look, you can have unlimited refinements for the next 5 years, so you ship the case to them, it provides treatment, and then there might be adjustments at that orthodontists or general dentist wants to make over that period of time. When that additional adjustments and refinements that are made, we defer revenue for that. So that's work that still needs to be done to be able to finish that case. And we have a certain amount of deferred revenue for that. It simply comes down to the accounting. It affects ASPs from that standpoint. But we've seen growth because our volumes are growing. That's deferred revenue that's going to come back as we do those refinements to finish those cases. Those doctors finish those cases, and we see that come back. When that revenue comes back, it's not as high of a gross margin as it would be if it was a primary initial shipment. But that's the dynamics that we have in our ASPs. And that's, like I said, it ultimately comes down to the gross margins that we're delivering.

And so going forward, as that reverses, what should we expect on gross margin and ASP creation?

There's the mix. I mean as you would expect, maybe, as that comes back, your ASPs actually would get better. You'd see some of that secondary revenue coming through. And we manage that with productivity to help offset. So we know the dynamic. It's just -- it was so imbalanced in the third and fourth quarter to shift it to comprehensive cases.

Excellent. I think we're at the time marker here. But John, thank you so much for the valuable discussion. And I really appreciate your participation in our conference this year.

Thank you so much, Rich. Appreciate it.