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

Good afternoon, everyone. My name is Erin Wright, the health care services analyst at Morgan Stanley. We're happy to have with us Dentsply Sirona and the management team. We have CEO, Dan Scavilla, if I said that right, and Matt Garth, the CFO. Newly appointed management team is here. So we're really excited to have you here and give your views on the strategy and everything kind of going forward. But for more important disclosures, please see the Morgan Stanley research disclosure website at www.morganstanley.com/disclosures. If you have any questions, please reach out to your Morgan Stanley sales representative.

And with that, I will kick it off with sort of a higher-level question. But just in light of the recent management changes at Dentsply, new CEO, new CFO, both of you here today. Can you just give us some more insight into what the new team is really thinking in terms of strategy here?

Yes, glad to. And of course, I'm 30 days in, Matt's just closing out 90 days. So we reserve the right to refine that and go a little bit deeper over time, of course. But at the end of the day, there's a couple of things to throw out. First off, a team before us, for the most part, was on the right track. And you're not going to see a radical shift in some of the thinking. There's things such as common ERP or other things that we would follow and continue to put through along those lines. I think both Matt and I believe that we need to make bigger moves or deeper moves in structure. We need to move faster than we are. Both of us feel like the internal processes to formulate a decision and get approval are too cumbersome. It's actually a competitive disadvantage. And so said differently, we need to actually get out of our own way to move faster and use great products that we have, but how we go about addressing the market is what I think we have to see a shift in from us.

I think -- as we think about turnaround stories in dental, there's been admittedly several of them and one of them being different iterations of the turnaround story even at Dentsply Sirona, right? So I guess you said there's not going to be that much difference relative to kind of prior management team. But can you talk about even before that, and like where maybe others went wrong and then also where you can kind of move forward in terms of also the optimal mix of your business. Today, for instance, you announced the [Technical Difficulty] retention of the business, I guess, I should say. But how are you thinking about kind of your approach relative to others in terms of turnaround stories and what the right mix is?

Yes. So I'll start with that. It's tough to say what others did wrong, especially as you're just sort of new in the seat. But if you really look at a few things, how we penetrate a market, which is direct and with dealers and through DSOs, et cetera, I think we have to reevaluate decisions that we're taking about that versus what we think we should be the right approach. And so I think penetrating the market quickly and deeply is a key thing that we want to look at and understand and we're working through. Capital, in particular, is suffering today because of decisions made that I think we want to go back and strengthen a different position on. But ultimately, as I said, and I think Matt will chime in here next on this, we have strong products. Are we structured correctly commercially? I'll put a question mark on that. I don't think we are fully. We have to do that differently. We're too internally focused on gaining approvals and getting things stamped before we execute. And while we have to be compliant, we have to do that in a more efficient, faster way. And so there are really a couple, I know, basic, not overly exciting things. We also both feel that the middle of the P&L, the support groups are larger than they should be. And so we need to free up those funds and put them into R&D, put them into the field so we can innovate and penetrate faster.

And I think, Dan, just to add to that, which is something we both come to very quickly, it's what the identity of the company can be from a P&L through cash flow perspective. Dan talks a lot about resourcing and where that goes to be most effective for growth. And then once you achieve that growth, the decisions that you make in strengthening that full cycle in terms of where that capital goes. So investing in the organization, repurposing some of that capital, how you're going to balance that in terms of freeing up the balance sheet, strengthening it through debt paydown and then determining how you're going to return that value to shareholders, things that we're taking on in the early days.

And with the news today and retention of the business, what was the rationale behind that? And like what brought you to that decision? Was there a formal sale process going on and you walked away from more? Or was this something more you found kind of underlying value proposition in that business that wasn't being recognized?

You kind of answered for me. So a couple of things. The Board opened up strategic alternatives to look at, including a sale. They worked with Goldman to put it up, and we went through the first phase where things came in. During that time being new, I went in actually to Germany where these new products are being developed. And I realized we have a lot of late-stage investment that has not yet been monetized, hasn't been launched out. And so of course, from a PE model or a spin-out model, they're not valued into that. So if you look at what we believe the intrinsic value to be and the potential of these short-term launches coming up, they weren't accurately reflected in what was coming in. That was step one. Step two is, if you actually do the full math and say, okay, let's say we spin this. We have to do a stock buyback to keep EPS hold. We have to do a few other things. You actually come out net zero or slightly down in cash for the shareholders. And more importantly, you would have impaired your cash flow 40%. This is a large cash flow business. So in the turnaround stage, you spin something, give nothing to the shareholders and reduce your cash flow significantly. It didn't make sense to me. And then selling it at a price that doesn't have the value of the soon-to-be launched products were in there. And so at the end of the day, it's in our interest to say, let's hold this and continue to grow it and gain value from it, use it as a fund to help fuel the turnaround in dental. And it is a fairly stand-alone business. So it doesn't take a lot of time out from us. In fact, I'd tell you it's less than 5% of my time, and we'll put up a structure that even further makes that independent.

Yes. It's a higher margin, good cash flow business for sure. We kind of feel like that retention was warranted. In terms of -- let's go back to fundamentals in dental, how you view the long-term growth trajectory in dental? How you would characterize it now or how you would characterize it longer term relative to what you're seeing now across various different geographies?

So it's a couple of things, right? If you go back and look at some of the published data, you would say, hey, dental has been growing above GDP for many years, 20-plus years. And in recent years, it's come down to grow at GDP. I think it's fair to say that, that assumption for me is to continue. I wouldn't wait and say I'm waiting for the market to recover. I don't think that's a healthy thing to do. So I think knowing that it is at GDP, we need to make sure that we continue to innovate, share the strengths we have with our customers to demonstrate value and efficiency and simply outcompete, which is not something we're doing well today. I don't know, Matt, if you want to add?

I think as we look at the resources again and how they're being applied, where we have opportunities to refocus some of the spend today, which sits in the corporation into sales, into innovation, it's a big opportunity. And so that can help us in those areas where Dan said, to catch back up to what the market growth rates are and then in certain instances, find opportunities to beat it. And by the way, our planning process for '26 is starting with just that question to the organization. If we believe that these are the market growth rates, how can you achieve these growth rates? And it's actually a hard question for the organization because we haven't demonstrated that we could in the past couple of years. So let's get into it early and talk about it.

I think that's a good point because, I mean, there was the $3 number in terms of EPS for 2026. That was based on long-term growth -- or long-term growth that was different, right, than what we're seeing now and potentially what we see kind of longer term, too. And so I think that, that makes a lot of sense. But as we think about 2026, what do you think -- or when do you think we should get more color on that front? Is it the third quarter earnings call? And what sort of baseline long-term growth do you think you will imply in terms of that 2026 target?

Yes. So Dan, just looked at me, again, 30 days and 90 days. I think the process for 2026 is this. We want to see some demonstrated points of differences in decision-making that we are making now. And so we're not expecting some of these things to take a long time, and that will inform what we believe about 2026 in terms of top line growth. I think we can be much more pedantic and have a better understanding of things in the middle of the P&L that we control because we're going to make changes to my organization and other organizations within the company. And so we can start to talk about some of those things, but we want to see some proof points before we really mark out what 2026 looks like.

And that's one step of the journey, right? So just keep in mind, for us, returning the U.S. to health is paramount. We have to do that. Nothing else will matter in the company given its size. And you have to do that through capital and implants and aligners, that kind of business. And so even in that approach it's significant. While we address the middle of the P&L, our goal is to be at or slightly above market. We're not going to come back and say we're 10% or 15% growers in a 3% market. But what both Matt and I believe is we can strengthen the earnings per share and the cash flow and have meaningful growth in both of those areas for the long term that will pay down debt and unleverage the company and quite frankly, build up a powder for us to go out and do acquisitions.

Okay. Great. And then -- let's talk a little bit about the near term in terms of 2025 and your expectations there. I think revenue growth negative 4% to negative 2% organic is what you're forecasting. Can you break down some of the key headwinds, tailwinds that's incorporated there and what you're seeing?

Yes, 2% to 4% down is what we were pointing to, right? And that was based on a number of factors, right? Some ERP prebuilds last year. We've seen some headwinds in CTS. We've seen some headwinds in implants, pointing to those we do have Byte that is coming down on a comparable basis year-over-year as we've suspended sales in that business. So there's a couple of proof points. But really where I think Dan and I have focused early days on is how do you get stable? How do you demonstrate that very quickly? And then how do you build back the processes to grow. So again, if I get really near term and just say -- going from Q2 to Q3, we do have a seasonal down. And we've said that, that's kind of 5% to 10%. But then we do see DS World coming in at the end of Q3, which leads into Q4. And our Q4 springs back largely on the basis of how dentists are going to take advantage of tax situations that they may have and what the interest rate environment may be. So we're looking at the rest of this year to be fairly balanced with the first half. So it puts us really in a nice position from a guidance perspective to be able to meet guidance as we saw in the third quarter -- sorry, second quarter and then generate that type of top line growth. But it's the momentum and the things that we're going to talk about underneath going into '26, but I think they are going to be important proof points for us.

Okay. And talking about some of the things that are under your control and margins across this business, I think fiscal '25 margin target of over 19%. Can you talk about or help us understand what's durable here? What some of those areas in terms of low-hanging fruit from a cost save perspective, what you're targeting first?

I think the real thing is, we're looking for sustained profitable growth, and we're looking to make sure we build the organization that can do that. This is really about when you actually have the right solution for a customer, and you have a good customer experience and you execute those, your financials will follow. And so while we're looking at finances, it's not leading it, they're going to be the result of us doing the right things. That said, it's clear to us that we have to change how we go to market, particularly in the U.S. to penetrate that better. We have to soften up what's in the middle of our P&L so that we put more into R&D and more into the field to do those expansions. And we're trying to do that almost as a self-funding item as opposed to going out and still leveraging more to do it along those lines. And so while we're not spinning out exact margins, what we're saying is growth will give you a margin lift anyway. It will give you cash. Us reallocating those things can sustain it. And the ultimate thing here is just to be continuously strong and more predictable on your margins once you solidify the top line.

The only other thing I'll add, Dan, and I think both you and I look at it the same way, and we're trying to push that through the organization, operating in an extremely lean manner given our backgrounds of operating and lean, bringing that philosophy to the table and ensuring that everybody knows the value of a dollar and how they put it to use for a return. And so minimizing those things that are not return-seeking. So by and large, corporate organizations versus the sales and innovation organizations, repurposing those dollars, Dan has talked about it today, and I share the same view, we have a significant overspend on resource functions that can go back into value-generating functions.

And can you talk a little bit about some of the -- I guess, in the first half of the year, can you talk about some of the moving pieces from a working capital perspective that you're seeing, like in terms of the cash flow dynamics, I guess, weren't as good in the first half. Like how do you -- can you get back to like $300 million, $400 million in cash generation on an annual basis?

Yes. And I think in 2025, you're seeing some unique dynamics. There was a big cash flow benefit last year from a tax credit. If you remove that, we're kind of pointing to even slightly lower free cash flow this year than what we saw in 2024. That being said, the big dynamic of that, we had $1 billion in working capital on the balance sheet. That is overpositioned for us. A lot of that is being driven by prebuilds in inventories related to ERP go-lives related to tariffs. So we can work through those inventories. We can drive down our inventory position, and we have a phenomenal supply chain team that's going after doing that. The other areas being very pedantic and directive on the terms that we are providing to our customers and the terms that we are getting from our suppliers, those are 2 key areas that we're also working on. Now Dan is going to tell you, we don't have targets for that yet. The answer is they are going to be better than they are today.

Okay. And then from a capital allocation standpoint, you did mention potential to do deals on -- how are you thinking about M&A? What would be the ideal target for you and maybe it's too early to ask?

Well, not that it's too early to ask, stabilize the business and the foundation before you build on it. And so let's go get ourselves in a solid state within dentistry, retain well spec and let it grow, accumulate cash to deleverage and also stockpile. And then let's look at opportunistic deals as bolt-ons or even as transitional that will expand your TAM. I think that's really effort. But if you said, hey, do you see that happening in the next 12 months? I doubt it. It would have to be really an amazing opportunity. I think we need to focus the organization on coming out stronger first and then building on that base.

Dan, really cool thing in that, though, was implied a strong balance sheet and a leverage profile that gives us maximum flexibility. And so being able to have gum powder if we need it or significant cash reserves should we want them, that's how we're driving after it.

And how do you think about the R&D strategy? I think you talked a little bit about this, but is R&D spending over 4% of sales? Is that the right level? Like what do you see?

I'd like it anyhow...

Yes, sorry.

I would like it to be higher, I would say, 7% or more at least equivalent to the market.

Okay. And then I always thought that there was like going back to the mix of the business and sort of the strategy and the rationale between like the Dentsply Sirona merger that obviously has been shaky since then. But how do you prioritize things like are you looking at SKU rationalization? I think before like it was like 100,000 SKUs across Dentsply. I would think that, that's an area of low-hanging fruit that you could kind of take a look at. But any bigger chunkier kind of divisions that you don't see as -- that could be deemphasized, I guess, near term?

No, not really in the near term. I mean what I would tell you even with the Sirona thing is, putting capital out and developing shares side abilities is key. And I think having the ability to have all of your field trained in that and be able to sell that to dentists can be better than it has been done. I think there's an opportunity there. I think the verticals are good verticals. I think EDS is solid and can continue. I think if you look at implants, we have to do a much better job. I think CTS is a major part, including DS Corp. And how you build the future of digital dentistry. It's all out there. I wouldn't walk away from that. Even I don't believe labs will ever go way to zero. I think there'll be a significant part that we have to pay more attention to. And I think you have to verticalize this and understand how best to approach these. We've been doing it geographically. And I'm wondering if there's a need for us to think more as a vertical -- set of verticals than just the geography type approach. I honestly don't know yet. I'm still playing with that, but I'm leaning in that direction to go deeper.

What's the latest on tariffs in terms of your expectations there?

So for this year, it was really unchanged in terms of the net impact to the company, around $25 million. As we moved into what that actually means, though, on an annualized basis, that's $50 million. But what we said at the end of the second quarter was given the new tariff rates that were put into place, particularly Switzerland came on with a very large rate, and you know that we do manufacture in Switzerland and distribute around the world. We expected that tariff impact to grow to about an $80 million annualized impact. Now that was only the impact that we talked about. We didn't talk about the offsets. We didn't talk about the things that we are looking at doing. That will come out. We'll talk to you about that in Q3, and we'll keep you up to date on that. But we do have levers that we are going after. One of the things within, let's call it, SKU rationalization, there is also our footprint rationalization in terms of how we operate, where things are manufactured, how we go after that, the speed at which we do that, that will help us, other levels within the supply chain organization and of course, surcharge pricing and/or tariff pricing, to be able to push through some of those are requirements that we'll have to talk about.

Okay. And then let's talk about equipment first. So how would you characterize the willingness to spend on capital equipment at practices right now?

I think it's a little bit mixed, right? Certainly, interest rates being high don't help. And as they decrease, there's probably more of a willingness since dentists -- individual dentists will come out and actually use financing to get some of that type of thing. I think that a lot of the dentists that I've talked to see the benefit of chairside and the need to do both milling and 3D printing. I think that they're a wave of the future. I'm not saying they're 100% of the future, but I think they have a prominent and growing role in the future. And I think how you provide scalable options to the dentists over the long term is going to be key to capturing that real estate.

And within kind of the CAD/CAM offering, your newer Primescan portfolio with Primescan 2, Primescan Connect, also Primemill. I guess any update on sort of the competitive landscape, ASPs, how you're thinking about the competitive response to some of the lower ASPs that are out there?

I think there's always going to be lower cost offerings out there. We're not going to become the low-cost offering. And you tell folks you can choose between the Mercedes and Hyundai. There's room for both. You have to decide what your style is and go. And I think a company with our background trying to become a low cost isn't really a realistic approach right now. It doesn't mean we can't drive cost out and be competitive in the right ways. But I think ultimately, you want to sell based on innovation and technology that matter and get into the right market segment that will accept that.

And Primescan 2, what's kind of the target customer there in Primescan Connect and the different iterations? Like now do you have a sufficient offering for like mid-tier to higher end? And how are you approaching kind of the different offerings across the Primes business?

Well, the best thing about Primescan 2 is the fact that it's cloud-based digital scanning. And so we're really going at that almost anywhere we can for the sake of saying, to modernize your practice and to capture digitally that ability to take a patient throughout from cradle to grave is going to be one of the best ways to do it. It goes right in line with our DS Core ability, right, to offer that as the overall arching software to do your business with and capturing and transferring data. And so for us, we're really spreading wide. We're not focusing in on Primescan too. I think for the mills and the chairside, it really depends on what the dentist is doing with the specialists, although more generals are playing with it. And I would tell you, we're a little more open to that as opposed to saying we're focused only on this type of dentist at this level for these things. I think we're willing to talk to them and see what's your best solution. And ultimately, it's how do we build that long-term relationship by placing this capital with you, growing it based on you growing your business and really demonstrating the efficiencies and therefore, the chair turns you can get by using our systems and our approach.

Okay. Great. And then I'll switch over to specialty. On the implant side of the business, can you parse out what you're seeing now in terms of the key underlying kind of growth and key drivers of that business, both in the U.S. and international markets? And how do you get back to market growth rate in that segment?

Yes. Well, it's a couple of things. I think with implant, you really have to further define the brands with a lot of brands. And I think we have a lot of white papers and clinical data that we haven't leveraged to our ability, meaning that we haven't fully trained our sales force or expanded our sales force in a way that's optimal there. So if you got into the implants, I think it's a matter of having more feet on the street with better education to a differentiated portfolio offering than we have today using white papers that we have. I think that's one on the implant side. On the aligner side, everyone talks about aligners these days, but actually that solution, as you know, is braces, it's wires, it's also the aligners. And we have the ability -- honestly, I think we have some of the best robotically dense wires no one else has. When we have to SureSmile, we can actually go along the journey with a patient. He may want to start with wires, he might want to move into aligners. He may even do the opposite. We have to capitalize on that more. We also have to modernize our software. It's a bit old and cumbersome. And so to be competitive there, you want to go and modernize your software, making it easier for the practitioners to use and then offering them both the wires and the aligners as a way to go at it. I think those 2 are probably the biggest thing we have to do. I think post Byte, we have to strengthen our ortho relationships. I think there was something there that we have to go back and build bridges on, and that may take some time. But I think we have to be more present with them now that you've walked away from Byte and direct-to-consumer.

Got it. And what does the innovation pipeline look like across implants?

Across the implants?

Yes.

There's a few things I'm not going to talk about that I think are going to be relevant. And I'm coming from my spine background with this and talking about vertebra and putting things in. And when I see the way the engineers are approaching this, I'm generally excited. There's some great metal technology. There's some great fastening technologies that I think if they come through, can differentiate, but they're early on right now.

Okay. And I think we've updated kind of the software across SureSmile before, and you're saying you need to still modernize the software. Is that what you were talking about on SureSmile?

Yes. I'll be specific. I think it takes about a week to be trained on our software. It takes 2 hours to be trained on a competitive software. That's a big gap that has to close.

And how is demand for SureSmile right now?

It's okay. It's not great. It's moving along. It's going through the process. But if you say why? You've also depleted a lot of your sales force and haven't replenished them. And so ultimately, you need a relationship and you need to be present if you want to go push. And I think we have to reestablish our field if we're going to lift that up.

Okay.

In North America, I -- in Europe, it's pushing really well, and we have an educated team over there that's doing a great job only to give a [indiscernible] at Saudi. But then you do have the dynamics within aligners. And I think over the weekend, you heard -- one of our competitors talking about it. There is obviously some pocket share -- consumer pocket share elements that are taking place, and you are seeing that primarily in the U.S.

Okay. And as you think about your angle in terms of your strategy and primarily focused on the GP side of the market, how do you think about ortho expansion as sort of the offering beyond kind of where you're targeting now?

We need to go heavier at ortho than we are today.

Yes. Okay, point taken. And then as we think about the overall -- let's switch gears a little bit. So the distribution strategy, you mentioned earlier about going to dealers and going to kind of distribution in terms of getting potentially better economics. Obviously, the prior CEO is vocal about that to some extent in terms of the relationship with Patterson. Where does that stand now in terms of the relationship? And how do you value distribution? How do you leverage distributors more broadly? And how is that going to change?

Yes. And I would say to be determined. But when you look at dealers, you say, listen, they're your partners, they're your competition, they're your customers, all in one. And they're not going away. And so I think how we decide to go to market either with them or without them is something I'm working on. I've had a chance to actually connect with Patterson, CEO new, and also Henry Schein. And we're just working through conversations about what makes the most sense with that. I'm not signaling anything to you yet other than I'm learning and figuring out what to do with that. But I think ultimately, we want to say, how can you rapidly penetrate the market and have sustained growth? What's the best way to do that? And I'm still in that process of evaluating direct versus other alternatives.

Okay. Would you ever go fully direct? I think it's like 2/3 of your business today is through distribution. Is that roughly about right? Or where does that go over time then?

Yes. Your general practices tend to be right now through the dealers. And then you tend to be on your specialties more direct. And the answer is, I don't know. Give me some more time I'm evaluating it and seeing where it is. Are you capable of doing it? Is the best thing for the customer experience to go direct or not? Does it create the best return to the shareholders to do that? And we're just in the middle of having those conversations now. That's not going to be a long process, but probably need another couple of months of figuring that out before I know where I want to be.

Okay. And there was an ongoing kind of sales force excellence program, restructuring initiatives going -- like can you give us what's currently going on? What was halted from before? Are you reassessing things? Where do we stand now in terms of some of your either sales force excellence program, what's been implemented, what's going forward? And then how do we think about your own kind of initiatives that you're adding on or supplementing to what it's...

Well, I think a couple of things. I think some of the margin achievement that's been done have been through unilateral cuts throughout the company. And both Matt and I are going back and saying, we need to invest more in sales force and innovation and less in the back office corporate thing. I think that's one shift that we're going to do. It's going to put more feet on the street and fill more positions on the sales force side. I think that increased training for the sales force and increased training for the customers are 2 keys that we need to put in and figure out how to fund through reengineering of the P&L. But I would say that we're continuing down on those paths right now.

Any update on the German audit?

Actually, I'll let you do that.

Yes, I mean the way that we've been talking about the German audit is exactly the same, which is we're continuing to be very open in terms of the overall dialogue. We're providing all information that's being requested. We have taken the stance that we followed a similar practice in tax structuring that almost every other company doing an acquisition in Europe has done. And so approaching it from that basis and being very collaborative, we're expecting it to be resolved, but sometime these things don't have a very good track record of this time frame or that time frame. It just takes time.

Got it. And then, I'll end with a broader one for each of you, if you could answer what is -- has been most surprising since you've come on board?

Actually, for me, it was the willingness of the entire team at different levels to want to drive forward and have some fight in them. I wasn't sure what I would inherit when I came in, and I started doing skip levels down to the reps actually in the U.S. or in Europe or manager level, not up to the VP. And when I see the willingness of the team to actually come along and improve the things we've talked about, they're looking for people who can make decisions and stay with those decisions and they go execute. That was stronger than I anticipated. I thought there'd be some resistance or maybe just retired and you are CEO #27 and here we go. And that wasn't the case. They really are saying, here's what we see the issues are in our day-to-day. Can you help us improve these things? And I like that because this is a mindset shift. This turnaround is not about product, it's about mindset. And when I look at the right level, they have the right mindset. We just have to get some fight and some swagger back into the company to get this moving.

From my perspective, I think when you enter these types of situations, you often think, well, there's got to be some talent gaps. We have an extremely talented group of people who have great backgrounds across this industry and other industries, many of which just have seen excellence and want to pursue excellence again. And that want was much stronger than I thought it was -- well, it is much stronger than I thought it was going to be when I was showing up. So happy to see that here.

Okay. Great. Thank you so much. Appreciate the time today.

Thanks for having us.