DENTSPLY SIRONA Inc. (XRAY) Earnings Call Transcript & Summary

Hi, everybody. I'm Elizabeth Anderson. I'm the health care technology and distribution analyst here at Evercore, delighted to be joined by Glenn Coleman, who I'm sure many of you know, CFO of Dentsply Sirona; and Andrea Daley, who does IR. So thank guys for coming down to Miami.

Thank you for having us.

It's nice to see you. So on the back of your recent Investor Day, I wanted to dig a little deeper into some of the subcomponents of the double-digit EPS growth. So it seems like the biggest driver of that growth is that $200 million of cost cuts that'll be completed by the end of '24. So how do we think about like the pacing of that? Is that like mostly come in '24? Is that really kind of like a 2025 benefit? Can you walk us through sort of how that plays out?

Yes, sure. So the $200 million of restructuring benefits really started at the beginning of 2023 when we reorganized the company, went to a 4-segment structure. And about half of that was recognized in 2023. Most of that was offset with reinvestments we had to do in the business around our Implants business, DSOs, clinical education events, our ERP investment in quality and so forth. But about half of that was already recognized this year. The vast majority of the remaining part of the restructuring will be realized in 2024, so call that $90 million to $100 million. The last pieces of the restructuring plan surround headcount, and that was just recently completed in Germany. So we got all the approvals now in Germany, which was the last major country where we had some headcount reductions planned. We still have a few more pieces to go. But clearly, the headcount piece is, call it, complete. We just have to now execute the remaining part of that plan. Non-headcount, we still have some work to do. We still are working on consolidating some of our marketing spend with vendors, renegotiating contracts around our fleet, around our wireless services and wireless service providers looking at temps and contractors and reducing spend there. So we still have work to do on non-headcount. But I would expect essentially $90 million to $100 million come through in 2024. We will invest and reinvest some of that back into the business. I said during the Investor Day about half of that will be reinvested back in the business. So you could think of that as about a $0.15 benefit in 2024 that we feel very good about. The other part of the EPS improvement will come from net investment hedging that we've already completed. So I just finished that this past month. There's about a $0.06 to $0.07 benefit we'll get in 2024 as well. So between the 2 of those gets us $0.22, $0.23, which is double-digit EPS growth. And...

And that's ex -- like all of those things are not macro...

Correct. Yes, correct. So we talked about 2024 being an inflection year for EPS and profitability improvement regardless of the macro situation. Obviously, if it deteriorated, it would create pressure for us. But even in a stable macro environment, we feel like we could have a meaningful improvement to our EBITDA margins where we said at least 100 basis points of EBITDA margin improvement in 2024 and each of the next 3 years, with a total of 500 basis points over the 3-year window, and double-digit EPS growth. And again, if we can get organic revenue growth on top of that, do some additional things around the business, we feel like 2024 is setup to be a good year. But, to your point, we're not counting on the macro environment improving, especially in the first half of the year at this point, given everything that we're seeing.

That makes sense. And maybe just to sort of ask a similar question on the SKU rationalization that you guys have been talking about. I know you've talked about sort of the need to be, obviously, very careful in terms of how you do it. Is that kind of a similar thing where it's sort of a little bit in '24 and then kind of accelerates as we think about '25 and '26?

Yes. So we've done a lot of good work around the SKU rationalization piece really around our Endo and Resto portfolios. So Tony Johnson did a nice job laying this out at our Investor Day. We have tens of thousands of SKUs coming out. There's a big benefit we'll see, and people say, well, what's -- how do you get a benefit from doing SKU rationalization? Well, obviously, we have lower inventory levels required to keep on these SKUs, lower E&O reserves, lower sustaining engineering costs, don't have to do all the regulatory filings, don't have to start and restart the manufacturing lines and that's a big deal in terms of some of these actually being down for 6, 7 hours to change over the manufacturing lines. It also helps to actually simplify our footprint. So there's many benefits associated with that. We expect that we'll see really the start of those at the very end of 2024. So I wouldn't expect much to happen in '24. Really 2025 and 2026 is when we're going to see the benefit associated with that work. And the reason why you're not going to see it in '24 is, we want to be thoughtful about how we do this. We want to make sure we give our customers enough time to transition to new SKUs, give them an opportunity to do last time buys. So we are keeping the customer front and center in all of our decisions, and making sure that we minimize any disruption from that point of view. So that, coupled with the fact it takes time to actually move some of the manufacturing, would enable us to probably realize a little bit maybe in '24, but most of it will come in 2025 and 2026.

Got it. That makes sense. And then maybe sort of on some of the nonoperating side. I think Pillar 2 is something that's become increasingly in focus from the investor perspective at least. I think you talked about that as part of the Investor Day that the tax rate would be higher and then potentially something -- some offsets in tax restructuring, et cetera. So how should we think about that as we look over the long-term period that you laid out?

Yes. So in our bridge from where we are today, which is, call it, $1.80 to $1.85 to the $3, I have $0.15 of improvement coming from nonoperational items, and it consists of really 3 different components. So 1 is the share buybacks. We announced $1 billion additional share buyback authorization from our Board right before the Investor Day. That gives us a total of $1.6 billion when you include our previous approved plan. We announced also we're going to have $150 million of shares repurchased by the end of this year. And my assumption is we will buy back about $600 million over the next 3 years. That gets you some meaningful EPS accretion based upon share price assumptions. The second piece is the net investment hedging. And again, we'll see about $0.07 starting in 2024, and that $0.07 benefit will continue over the 3-year window. And then that will be offset somewhat by a higher tax rate. And I would just say, we know there's going to be certain things that expire on our tax rate that's going to be a headwind for us, but we're working on some tax planning opportunities that's directly tied with a lot of the footprint work that we're doing that could enable us to get some tax benefits to hopefully get us back to where we are today. But given that I don't actually have a plan and some tangible things in place today, I thought it was conservative to say here's what I know today, knowing that we're striving to do better around the tax rate. But yes, we would expect at the moment to see a higher tax rate over the next 3 years. But net-net, those 3 areas, share buyback, net investment hedging and the offset of tax, should get us about a $0.15 benefit over the 3-year window.

No, that makes a ton of sense. Maybe switching to sort of the demand environment. I think you talked about half of your portfolio being sort of less economically sensitive. So we have Wellspect, which is a relatively small portion of your revenue, but should be growing mid-single digits next year. And Essential Dental should be relatively more immune given that it's essential, as you say.

Yes.

Which is a -- how do we think about the sensitivity of that Essential Dental piece? Because I know people are sort of looking back, okay, what did Dentsply do like way back when in '08 and things like that. So how do we think about kind of the economic sensitivity of that segment?

Yes. I think, to your point, Wellspect is obviously not sensitive to the macro pressures. It's a chronic condition that our patients use our products for. So I think...

With reimbursement, right? Yes.

With reimbursement and everything else. So that should be very stable even in a difficult macro environment. When we think about Essential Dental, there's really 3 different buckets. So preventive is 1 of the areas. For us, that's largely a U.S., U.K. and DACH business, so DACH being Germany, Austria and Switzerland, those are usually covered by insurance and any delta from a macro environment perspective is really tied to unemployment rates spiking. So as long as that doesn't happen, we feel pretty good. It will be stable in terms of preventive. Endodontics, obviously, if you need a root canal procedure, you maybe could push it off a little bit, but you're probably going to get the procedure done.

Right. You're in pain.

Yes, you're in pain. You're going to lose a tooth or whatever. So that, we believe, is not sensitive to the macro environment. And some of the restorative procedures are. I think, for most part they're not, but that is tied to patient volumes. So we see patient volumes dropping that would usually indicate there's probably a drop in the restorative area.

It might be a little bit of like trade down in terms of composite versus...

Correct. Yes.

But that's not dollar-wise as big as some of the -- Yes.

Yes, correct. So I think for the most part, you're exactly right. About half the portfolio is not really sensitive to the macro situation. Obviously, when you think about aligners, some full arch implant cases, equipment, those are areas that are more subjective to a macro recession. And we have seen headwinds in the equipment side, especially higher-end equipment in certain markets, in particular, Germany is what we've called out. And so we have seen that so far. And hopefully, as rates start to now stabilize and come down, we'll see an improvement in that part of our business as we get into 2024.

No, that makes sense. And then just thinking about -- I know you talked about, obviously, there's a lot -- you're doing a ton of work on the cost and things like that. Are there additional cost levers or ways to sort of think about the OpEx side, if the growth -- that markets really do slow next year? Or you sort of balance that versus, obviously, kind of the longer-term opportunity that you guys have?

Yes, I think we do balance it. And I think the most important thing for us is that we stay focused on the plans we have in place and not look for more incremental things at the moment. There's obviously things we're looking at that could drive some incremental benefit, but we still have work to do around the restructuring program. So let's get that work done. That's going to help us going into next year. The SKU work needs to continue to advance. Being now over a year in the job, I have some more ideas around where to go, which we'll talk about more as we get into 2024. But I think the point is, we're not really counting on a big macro improvement next year. And even with that, if we stay focused on the plans we have in place, we feel like we can drive a meaningful improvement to profitability next year. And so, yes, of course, we're looking for more opportunities, but I think we got to stay focused on getting done the work that's currently planned, and then we'll take on some additional initiatives. But again, we feel quite good about what we have in place. And most of it's in our control and a lot of it's already been done. So that's the good news.

Okay. So maybe digging into some of the longer-term drivers. And I noted, at the Investor Day, you talked about Byte now has a traditional, like a traditional at-home business as well as the new hybrid solution. I felt like one of the few areas we didn't get dig into at the Investor Day, which we dig into a lot of things, is that what is the hybrid solution? Is it -- I think it's a pilot now. And so like could you talk a little bit about what that is and where the opportunity in that product lies?

Yes, sure. So we have 2 brands: SureSmile, which is sold in-office; Byte is a direct-to-consumer business traditionally and historically. Byte has done quite well. And obviously, we have some competitive dynamics that are favorable right now in the space for us. For us, I think we're looking at what could make sense from a patient perspective, and how can we drive even better conversion at the direct-to-consumer level? And so 1 of the things we're doing is piloting certain markets to do this hybrid approach where you actually get a consult with a clinician. You go through an initial treatment plan, get a scan done, and then you do most of the rest of the treatment plan at home.

Okay.

But it gives you an additional level of confidence going in talking to somebody, and there's benefits from the patient side getting more confident in the actual treatment. Obviously, on the clinician side, it's potentially a new patient for you and a new patient that could come in the door for other procedures, which, today, most of these patients on the direct-to-consumer side don't traditionally go to a dentist or get their teeth cleaned and all that type of stuff. So we think there's an opportunity on both sides of the equation. We're starting off in some of the smaller markets initially, and it's only a handful. So it's markets like Las Vegas, Tucson, Fargo. We will eventually roll out to many markets. And starting probably in the next couple of weeks, we'll go to some bigger markets. We've got very positive feedback so far in the first couple we've done, both on the consumer side as well as on our customer side. So we'll move out to bigger markets like Miami, Dallas, L.A. And as we go forward, we'll continue to see whether we get higher conversion rates, whether there's an increased adoption? It's important to note, though, that the customers that are part of the trial also are part of an advisory panel with us. And they also are big SureSmile users.

Okay. Yes, that was going to be my next question like how do you differentiate that -- between that and SureSmile?

Yes, because what we wanted to do that is, obviously, some of these may be more complex cases where Byte and just doing the treatment at home may not make a lot of sense. So we went on, actually had them use SureSmile and go through a much more comprehensive treatment plan and convert them to SureSmile if that's a possibility for both the customer and for the patient. So that's the reason why we want to have our SureSmile users. And again, a lot of these more simple cases can be done at home, but if it's a more complex case, probably requires a more comprehensive treatment plan, you probably want to have more touch points with the clinician. So we'll see how it goes. So far, so good. Like I said, next couple of weeks, we'll be rolling out to some of the bigger markets. And again, I think some of these competitive dynamics that are playing out in this space are very favorable for us. We actually think we're creating a bigger market opportunity here, though, because a lot of these patients, again, wouldn't be going to the dentist. If you can actually get them to move into an aligner, it's probably opening up the aligner market to a bigger market...

And do the clinicians get a fee for that initial consult with the Byte, the hybrid Byte?

They do. So they...

Okay. So you incentivize not only that, but also the future potential prospect of the customers, but they do get some thing...

They do get a fee for that. And it's a win-win scenario from our perspective. And so, so far, we've gotten very positive feedback. There's an ease of use with our software that comes with this as well, our Byte app. So we feel very good between SureSmile and Byte, the complementary nature of the 2 and how we're approaching it should drive double-digit growth for us going forward.

Yes. No, that makes sense. And how do we think about the SureSmile margins on that business? Like I know, obviously, as that business continues to scale, I assume they'll get better. But sort of how do we think about the opportunity there on...

Yes. I think Ortho in general, so you take the 2 together, we don't report it out separately. It's part of Implants as well from a segment perspective.

Well, I took my protractor on the graph...

You figured it all out. But Ortho is less profitable than their corporate average. And SureSmile is not really the drag on profitability, it's our Byte business. Byte is profitable, but it is dilutive to the corporate average. I think, for us, we've seen a meaningful improvement in profitability. And really, it's come from a couple of different areas. #1, we've done a much better job of targeting customers through our social media and digital platforms from a marketing perspective. So we're very efficient now on how we go about interacting and engaging customers and improving customer conversion rates, which is critical in this space. So in a typical direct-to-consumer where you don't have this hybrid model, you say you're interested. We send you the impression kit. You do the impressions. It gets sent to a location where we do a treatment plans and then back to you in that, call it, 10-day, 12-day window, do you actually move forward and purchase the product when everything is finished? And that conversion rate is actually quite low, surprisingly.

Okay. Even for people who have done the Byte...

Even if they have done the impression. And we've spent [indiscernible] that whole process, right?

Yes.

So bringing these conversion rates up has been a big focus for us, and they have come up in a meaningful way for us now. So it's still below 50%, just to give you some context. But as those conversion rates come up, the cost of customer acquisition goes down. It helps to really improve, not just the top line, but probability. And then the second aspect of this business is we've been much more selective on who we finance in this population. So in the past, it's been anybody that wants financing got it. Now we're being much more selective in our...

And you are financing that part, yes.

We are financing or paying for somebody to finance on our behalf.

Got it.

So offloading to a third party. And our financing costs have come down in a meaningful way, and that's helped the profitability of the business as well. But we still have a ways to go. Part of our bridge to $3, I did have a bar in there that talks about Ortho profitability improvement.

Yes, $0.05...

$0.05, yes. So we are working to get more profitability benefit as we go forward.

Got it. And just as you're sort of -- just maybe 1 last question on this. As you're thinking about that improved targeting and things, can you just remind us of like now, what's the typical -- like how would you describe the typical Byte customer versus the typical SureSmile customer?

I think the Byte customer, a low-income customer doesn't go to the dentist on a frequent basis for sure. So they're very sensitive to price. And it's more of a simplistic aligner case. SureSmile in-office requires a more comprehensive treatment plan, more expensive, obviously, because you're going back to the clinician.

Right. So It's mostly sort of a function of acuity of the case and customer income as those are the 2 big drivers?

Yes. Yes.

Okay. Got it. Okay. Within Implants, we've heard a lot about -- maybe just switching over to that, a lot about sort of share shift. And obviously, you guys have a much like new offering in terms of new products and the platforming of some of your prior solutions. How do we think about sort of the current environment versus some of the share shifts we've been hearing about, and like where are the biggest opportunities for you there?

I think when we look at our Implants business, first and foremost, we've done really well in the value implant side of our business. We've struggled on premium. And we've lost market share in the U.S. We've lost market share coming into this year in China. We really turned the corner, though, in some of these markets. So in China, as an example, we were 1 of the winners on VBP. We took the pricing haircut on the premium side. We've now seen the turn on volume to the point where it's so significant it's actually offset all of the price reduction. And actually, we're putting up growth now in China, which we're not expecting when we started the year.

Yes. And I think, previously, you were saying sort of flat for China for the year, so now grow, okay. So like low-single digits, something like that?

Yes, may be even better, I mean from some of the trends, but our volumes are up meaningfully. And so that's a very good sign as we go into 2024. And it's in the value side and premium side. So we didn't really discount much on the value side. So from a mix perspective, that's helping us on the pricing side. Both public and private sector has shown really strong growth for us, and we're clearly capturing share, especially on the public side. So on the whole, we feel very good about what we're doing in China. In the U.S., I would say things have not gone as fast as we would have hoped, if I'm being candid. We've got the sales force in place. We've done all of the training. We're doing more clinical education events. We just did a World Summit in Greece in 2023. We have a big summit planned here in Miami in June of 2024.

Would you like to invite us to the Greece...

But yes, so in June, we're doing a big World Summit in Miami. It just shows that we're putting a lot more behind it in terms of clinical education. A big part of our value is around being digitally connected across our entire portfolio, including Implants. And so we think with DS Core now, that should help the overall portfolio in all the markets that we are talking about. And then we did an in-depth comprehensive survey with over 2,000 customers around the portfolio. And so our teams told us when we came in, both Simon and I, hey, we have a good portfolio. It's very competitive. We tested that. We actually went out to customers and asked them, do we have a gap in our Implants portfolio? And it came back resonantly no, you guys have a really good portfolio. So we think we got the portfolio. It really comes down to sales force execution, doing more clinical education events, continuing to drive DS Core and being digitally connected. If we do those things, I feel very good about our implants turnaround. Again, the U.S., we've seen market share erosion. Our goal is to stabilize here in the fourth quarter and then get back to growth in 2024.

Great. No, that makes sense. Maybe switching over to intraoral scanner. And 1 of the themes this year is we've heard about sort of lower pricing in that market. How do you sort of see pricing in that market now? Obviously, you guys launched the Primescan Connect. Like how has the traction been on that? Yes, maybe let's start [indiscernible] there.

Yes. I always start off by saying a scanner is a product. We try to wrap everything from a scanner into our DS Core solution and being digitally connected. And that's a continuous message you're going to hear from Dentsply Sirona and everything. Because if we're just selling a product at the end of the day, that's not what we want our customers to see us as. We want to be the full provider and solution company that actually improves their workflows, reduce their costs and drives significant benefits to their practice. In terms of the scanners themselves, there is price headwinds. There's certainly pricing pressure in the scanner market. We did launch, to your point, Primescan Connect last year. We've seen very good traction, especially in certain markets like Europe. And we have actually taken our prices down on Primescan Connect and seeing meaningful improvements in volume. So we are testing out price sensitivity in certain markets to see if it's going to drive more volume, and it has done that in markets like Europe. We still see some really good growth and demand coming on chairside, still seeing good growth on the stand-alone digital side, especially of Primescan Connect. But I think, market to market, it does differ. In Latin America, as an example, we're seeing a really nice pickup in a lot of refurbished units, and some of these units also get leased and financed and so forth. So if you think about Latin America, maybe a different market in terms of how we think about it, Europe, Primescan Connect, same with Asia, seeing really good demand with chairside and Primescan AC in the U.S. So we feel good about the portfolio. But yes, there is pricing pressure still, I would say, on the scanner side. There's lower cost alternatives and it comes down to cost and you want a lower scanner, they're out there. If you really want the full that's digitally connected to everything you do in your practice, you want Dentsply Sirona.

Yes. No, that makes sense. And then maybe just sort of talking about equipment more broadly. How are you sort of thinking about the demand for treatment centers and imaging versus we just talked about scanners?

Yes. I think treatment centers imaging higher-end purchases in a dental practice. So obviously, if you look at the last couple of quarters, these have been areas of decline in the portfolio. And treatment centers, probably the #1 market is Germany. And so Germany right now is probably our most challenging market. So the combination of that has led to declines. I think, for us, again, the digital play is really important when we think about these products. But we're probably going to see pressure in these parts of our business, the higher end parts of our equipment business for the next few quarters. I mean the good news is rates now are starting to come down. We're trying to help customers with different aspects of financing that may move them forward on a purchase, especially if it's a competitive situation. So we'll see how that plays out. But we're not expecting to see an immediate turn on the high-end equipment market anytime soon. I think as rates start to come down, we'll start to see a better situation. And again, Germany is an important market for us. So as Germany starts to come out of a recession here, hopefully, that's going to help the situation.

And Germany started getting weak in 2Q? Is that right? Yes.

Yes. And we do very extensive customer survey around what's going on in their practices, what're they seeing in patient trends? It's probably the most extensive survey that's out there.

If you like to publish that, I'd be very...

Yes. It's thousands of customers, and we do it globally. So we hit all the key markets that we participate in. And we saw in Q2 before the actual notes came out from any of the analysts and so forth that Germany was going to be in for a rough ride. Our customers told us they were seeing staffing shortages and it was the highest in the world at the time. The cost of their practices has gone way up. They were seeing reduction in patient volumes, patient cancellations started to go way up. So all the trends were turning negative. And so we became much more bearish on Germany. We called that out back on our second quarter call before others started really talking about it. And yes, it hasn't really seen much of a turn yet. But hopefully, as we get to the end of the year and go into next year, we'll start to see a better situation there. And while we pull that out, I think it's 10% of our consolidated sales. So it's our second...

Right. Not German equipment, but Germany total.

Germany in general, in total sales.

Yes. Right. that makes sense. So in 1 of the slides from our Investor Day, which is Slide 83, for those of you playing along at home. It talks about commercial investments in DSOs. We talked about some of the investments that you're making in aligners and in implants more broadly. But how do you think about your DSO strategy? And with all these changes that you've been making in the -- you and Simon have been making in the organization?

Yes. We had a big focus on DSOs. Obviously, if you look at the trends of DSOs in the U.S. in particular, it's probably, over the next 5 years, going to double in terms of the size of DSOs from 20% to 40% or something like that. So we've put a much greater focus on it. We've added more resources. I think the key for us, though, is DS Core, and how DS Core can benefit a DSO and all the practices that are part of a DSO. And so we're doing a lot of experimentation now with DS Core Enterprise with these large DSOs to figure out how we can help them and how we can make it unique to their practices. So DS Core, I think, is a key investment area for us as we go forward. For DS Core, we charge a subscription fee of $20 a month to several hundred dollars a month depending on storage, features and functionality...

The iCloud model.

The iCloud model. So it's really all of those areas that determine what a customer is going to pay. But the fee itself is not what's important. It's really being digitally connected to everything in the portfolio. So, for us, it's a key part of our strategy. But that's what we're doing with the DSOs. Simon and myself, the entire MC are spending a lot of time with DSO CEOs CFOs to really show our commitment to this space. On the Implant side, we're doing much more clinical education. I talked about some of the events globally worldwide. We're doing a lot of more local events as well. I think that's the key for us there. And on aligners, we're not done investing there either. We just did a couple of trips, Simon and I, to Japan and Brazil. Japan, we're going to be expanding our sales force in aligners. We see it as a bigger market opportunity. So we've already approved additional heads there. And we're launching both SureSmile and DS Core in Brazil in the first quarter of 2024. So we're going to be ramping up resources there to address that market need. So still lots of runway for the aligner space, but those are the 3 key areas that we're investing in. And if you think about where the growth of the company is going to come from, those are the areas over the next 3 to 5 years.

Yes, that makes sense. In our final 30 seconds, I'm going to sneak 1 more in. You mentioned $135 million in investment for the ERP system. Can you talk about the timing of that? And then the sort of split, is that CapEx, it's OpEx, some of both?

Yes. So most of it will be CapEx, probably 75% is a rough order of magnitude estimate and that gets depreciated once it's put into service and over 10 years. So just to give you some sense about the depreciation of that. Some of it will be OpEx for subscriptions. Obviously, that's part of our P&L. Some will be onetime expenses associated with doing the integration, but the vast majority is CapEx. And I would say over 1/3 of the CapEx and OpEx will come in 2024. It will start to wind down as we get towards the end of the 3-year window. But we should be done with order to cash, procure to pay, logistics and warehousing by the end of 2026.

Perfect. Well, I mean, who doesn't want to end on the ERP note. So I think, we are out of time unfortunately, but thank you so much.

Thank you so much, Elizabeth. It was a pleasure.

Yes, absolutely.

Take care.

Thanks. Thanks, everybody.