Envista Holdings Corporation (NVST) Earnings Call Transcript & Summary

Good morning, and welcome back, everyone, to this session of the BofA Virtual Healthcare Conference. I'm Michael Cherny, the health care tech and distribution analyst at BofA. Much more importantly, I'm thrilled to have the Envista management team with me. We have Amir Aghdaei; CEO; Howard Yu, CFO; and then Stephen Keller, who has recently moved into the Investor Relations role. So we're going to have a fireside chat. As always, feel free to send me any questions you want me to address either in the conference chat or on Bloomberg e-mail. But with that, I'll turn it over to Amir for opening comments.

Thank you, Michael. Thank you for having us. I'd like to take us back to about 18 months ago, right before IPO. Since separation from Danaher, we have been communicating that our intention is to build a company that is growing faster, has higher margin and uses M&A as a leverage to create value moving forward. In the past 18 months, we have made significant progress in both of those -- in all 3 fronts. Let me talk a little bit about what we have done inside Envista from a strategic point of view and the impact of that in our financials as well as the outlook, what we see. We embark on 3 specific initiatives. The number one was portfolio management. We took about 5% to 6% of our portfolio that was not growing, had no impact in our margin and we basically exited that during the 2020. That provided us significant amount of freedom to put energy and resources on the growth initiatives, which is the second part of that 3-pillar strategy that we have undertaken. We made significant investment in R&D; in CapEx; in commercial activities; around N1, the new generation of implant; Spark Clear Aligner; Infection Prevention; digital workflow as well as continue to make investment in China. Those growth initiatives helped us to come back a lot stronger in a much better format going forward. And last but not least, was around cost. We had a gap versus industry average from a margin perspective. We launched a program to take $100 million of permanent costs out of the system on top of temporary costs such as furloughs and others. In the past 12 months, we now have created a company that is growing mid-single digit compared to 2019, that's what we had said what we want to do, as our opportunity to create 50 to 75 basis point of a margin in an ongoing basis and in a really good position from a capital structure that now we have that lever in our hand to be able to accelerate M&A moving forward. Outside of building a better, stronger Envista, we put a lot of energy around building a culture, a culture of customer centricity, a culture of innovation, a culture of respect around diversity and inclusion, continuous improvement at the heart of who we are, where we come from, and last but not least, the leadership accountability and empowerment. These 5 element, 5 pillars that we call them circle is the heart of what we are building in here. If any, maybe accountable, empowered organization is committed to the depth of the industry and can start making progress. As you have seen in the past 3 quarters, we are making progress every quarter and really confident about our ability to continue that momentum moving forward. Michael, let me pass it back to you to talk about any specific topics that you and your team want to investigate further.

Yes. Amir, that's definitely a great starting point. And it's fascinating to think about the fact that you were public for less time where the world was "normal" than you've been dealing with during COVID. Clearly, at this time last year, your customers were in a complete and utter uncertainty in terms of where volumes were going. And so as you think about that, think about -- especially over the last 6 months and wrapping up with last earnings call, what have you seen in terms of pace of recovery? And how is that different in terms of how volumes have come back versus how dentists have shifted the way that they go and purchase stuff from you?

Yes. Pretty good. Back in March and April, I think the view toward the industry became pretty negative there. Everybody look at us a more of a procedure that can raise election and is something that you really don't need. And now, maybe it's going to take some time for it to come back. What has happened since, I would say, in May, May of last year, May, June, first, people recognized going to a dentist is more of the safest places that we can go to, sanitized, really safe, everybody follows the procedures. Second, all of us, myself included, we weren't traveling all the time. Dentists, they were 8 to 5, none of us were around 8 to 5. Now with Zoom effect, having an ability to take power off and going and seeing the dentist in the middle of your day, that really has changed the model. Last but not least, dentists recognize that there is an opportunity to bring a lot of innovation into how they manage and work for or related. Some of our orthodontists, they are able to see 30 or 40 patients per day through teledentistry, through a different standard of work that they have done, after hours, extended hours. You pull all of that together, what we saw back in Q3, Q4 -- by end of Q4, they were like 10% lower volume, but the same earning because when people came to offices, they want to get a lot of the stuff done and dentists became a lot more efficient. And the volume is coming back, in spite of all the challenges that we see in different geographies. But I think if you look ahead, look at 2022, 2023, this industry will be a lot better than what we saw in 2019 because of all the things that I talked about, because innovation becoming real, digitization, productivity pieces. And I think government also did a really good job in different geographies, helped the industry to get back on its feet. We are optimistic, in spite of some of the short-term challenges, that's why we're looking at the year, we feel really good about 2021 as a whole year compared to 2019. And we are optimistic about years moving forward about this industry. We think this industry has tremendous amount of legs under it.

And just along those lines, you mentioned about challenges in geographies. Clearly, we're all watching and seeing where various different outbreaks and hotspots versus improving situations on COVID currently over the course of the year. And so how do you think about planning and organizational dynamics tied towards the fact that you do have a global business, you do have end markets that are more open versus end markets that are, unfortunately, very challenged right now?

So if I take you back to April and May, on a daily standup, take a look at many different leading indices, number of new cases, geographies, we've consolidated a lot of that information trying to kind of see what the different scenarios look like. We have the worst-case scenario, best-case scenario and then we constantly update that moving forward. That methodology is still in place, and we are not doing it on a daily basis, but we're doing on a weekly basis, take a look at the realities of what is taking place. That's why we are -- we look at it a little bit more from a broader sense than looking at it 1 month and 1 quarter. But how do we manage that? About -- I would say, about half of our population they're doing manufacturing, distribution, critical role, except very few weeks, they really never left. They were the last one to leave, the first one to come back. So what did we do? We put up wholesome new procedures, going to 3 shifts, changing the work model, put in testing program in place. A lot of things to make sure that we continue to deliver. We have changed the work-from-home, work-from-office model. About -- I would say, about 15% of our total population, maybe more, 20% is salespeople, that they have never had an office. And they are responding to realities, geographies that they are in working with their dentists. And then you go to Russia, to China, to other places, we are adjusting to those environments as we go. Pulling back up, Michael, here in the United States, we feel really confident that in spite of some of the hotspot that is taking place, 4 million shots per day, people are getting more and more vaccinated, the future of this in second half is going to look really good. In Europe, unfortunately, that is not the case. We continue to see various places go to a -- on a semi-lockdown. So we will respond to that reality on a real case and trying to kind of realign resources, capacity where the opportunities are. Some other places, Brazil, India, unfortunately, we don't expect that recovery is going to take place in 2021. We think this is going to be more of a 2022 back to normal. Combining all of that, that's why we said low 20s to mid-20s growth for 2021. High teens EBITDA is something that feels really good as we move forward. If things are improving, then definitely can respond to it. If not, at least we have a framework that we can control and manage our way through this.

Got it. And relative to the market, we actually have one question come in from the audience. So if you can bear with me. So dental traffic being at roughly 90% of pre-COVID levels, which according to ADA data, do you feel the last 10% of the recovery will be more hygiene-driven or procedure-driven? And along those lines, can you tell us -- remind us where your exposure is on the hygiene side in particular?

We have really a limited hygiene business, less than a percentage or 2. But what's really interesting about hygiene is the start of the process. You go for a clean-up, they identify cavity, they send you to a specialist, implant get started, ortho get started. So there is an upside opportunity on the hygiene for us in the long run. But from a business exposure, fairly low. So it's at 90% capacity. About 50% of our business, and it's getting more and more, is Specialty businesses. It's ortho, endo, implant. These are Specialty businesses, and these are the one that they have done extremely well. The number of cases in ortho just double digit new case starts, bracket and wire as well as clear aligners. Our implant business, our premium implant, continue to make progress. In Q1, our premium implant, when you look at it year-over-year, even versus 2019 was growing mid-single digit. So Specialty businesses, for us, have been doing really well. And it changed a lot of our equipment and consumable. Over 85% of the total portfolio, what we call it more of a consumable day-to-day use. Even products, hardware product like sensors and handheld devices, $5,000, we can ship it directly, we can support it directly. Only 15% of our business is high-CapEx pieces. So overall, I would say that what we are seeing a positive strength, combination of the stuff that we are doing, plus what we see in the market. As hygiene comes back, we expect to see additional opportunities, both on our Equipment & Consumables as well as on our Specialty business as a -- down the value chain from that perspective.

And following up a bit, you touched on it, Amir, slightly, but I'll go a little further. So there are a number of areas of dental that could be considered hot areas, high demand, whatever term you want to use, but...

Right.

And this specifically has strong exposure to thinking about aligners in particular, thinking about digital workflow. Can you give a sense on the recent trends you've seen in those markets? And in particular, in aligners, any advancements you've seen and competition you've seen relative to the changing direct-to-consumer market?

Yes. Of course. So let's say, the market is about $5 billion, the ortho business, $5 billion, $5.5 billion business. About $2 billion of it is bracket and wire. In norm, going flat to low single digit. It's no surprise. A lot of the new opportunities is on the clear aligner, $3 billion, $3.5 billion. 1/3 of that $3 billion, $3.5 billion is direct-to-consumers. We're not competing in that space. That's not where our core competency. We are a med tech, focus on the professionals, focus on specialists. 1/3 of that market is general purpose practitioners, people who are providing support. They get a scan, they send it to a central place, they get an aligner, they give it to customers. And 1/3 of it's orthodontists. We are really focused on the orthodontist's area. They're the one that they use a combination of bracket and wire, clear aligner to give the best finishing, the best possible answer in there. That business for us, that combination is growing over 25%, 30%. The bracket and wire business is growing at double digit. And obviously, clear aligner is starting -- they are starting from very small, and we are just every quarter, about a 50% growth, we have seen that going forward. The approach that we took on the clear aligner rather than a big bang introduction, you saw in Australia and New Zealand, we came to U.S. and now in Europe and China, take a small number of orthodontists, train them, teach them. They teach to their network, they do the most difficult cases, and they will continue. There are about 1,300 customers as of now and it's growing, but they're active. Our definition of active is that they placed 4 clear aligner in the past 4 weeks. So we want to see that these people are really using our product. And we much rather then have 1,300 using that format, than 13,000 that they come back to us every 6 months. So clear aligner obviously is growing very rapidly. We have put a lot of money on innovation, capacity building, capability building over time, in coordination, the same team, same capability as our bracket and wire. And we're seeing really good outcome as a result of that combination. N1 and Spark in Q1 was about 100 basis points of growth for us on top of what we've done, and we think that's just going to continue moving forward.

And also maybe thinking about other growth areas of the market, you've had some recent advancements, recent expansions on the dental service organization side of the business. Can you just give a little sense and remind us of what your strategy is on DSO penetration and how you think about the different approaches you would take going into DSOs versus going into the dealer channel versus going into other areas where neither exist?

Yes. So this -- in 2018, we've put a team together that is dedicated to DSOs, which means that one point of contact for Heartland, Pacific, Aspen, Smile, all of them. In Europe, with Colosseum, with Curaeos, we focus a team dedicated to them, try to figure out what the next 5 years, 10 years, what they want to do and kind of get aligned with them to make sure that we have a long-term relationship with them. And I think I said that. So what are DSOs are trying to do? First, establish your stuff, which means you have 300, 400 and 1,000 offices. Then you want to bring people in, train them, develop them, retain them. So one of the key challenges that they have, to make sure that those capabilities exist. Last, you want to expand the capabilities. You want to do more specialty work. So if I look at those 3 things, we help them build the capacity. We help them to unify, to standardize with a standard work, all the products that we have, the service capabilities. And we let them train their network of people through a lot of training, handheld support, best-in-class people that we work with come in and teach them. Handhold -- being next to them, showing them how things are done. And last but not least, try to give them significant specialty type that helps them with the retention, but also allowing to get their ASP going up. So 50% of what we sell today, 50%, 55% is direct anyway. We are telling these people you decide how you want to buy. If you want to buy things directly from us, we are available, we would do that. We love the relationship with our partners. They add a lot of value. But we are handing that responsibility to them, you tell me what is the best way that you want us to serve you. We're prepared in very open, very collaborative approach with distributor to provide that support to you. And the model is not unified, Michael. Patterson and us, we have relationship with a specific set of customers that they get level of support from us some this patient from Patterson. At this time, with some other DSOs, we have a different model. In Europe, we have a different model. As long as that transparency and collaboration exists, as long as we understand what they are trying to do and everybody is upfront, we can have dialogue with everybody and provide the support that they need. We have seen some of recent RFPs that we have been the winner, innovation, training, support, all of that combined creates differentiation that enable them to do a better job serving their customers. This is not about direct or indirect. This is about providing the best quality of service so DSOs can expand their capabilities over time, bringing the oral care to masses. They really play an important role in here to give people access, and we want to be part of it.

And turning a bit, maybe thinking about the evolution of the business over the last year. If you had -- if we had talked right around the IPO time, and I told you that Infection Prevention would be the area of your business that would be the most in discussion, you probably would have chuckled at me and said that something has gone horribly wrong with one of your other product lines. That being said, it's been a significant focus. And clearly, somewhere where you've been able to service customers quite well during COVID as well as showing your partnership model by investing into the manufacturing capacity to do your best to meet demand. And so as you think about Infection Prevention, whether it's the medical-grade wipes, in particular, or all the other solutions that come around Infection Prevention, how do you think about what that next step is for demand? Not necessarily filling the current demand curve, but what is -- if we're doing this conversation next year, what is the average one of your dentists buying from you within the Infection Prevention portfolio, especially versus what they did pre-COVID?

Excellent. Yes. 2018, the Infection Prevention team came to us, Howard and I said, we think there is opportunity for value creation, margin improvement capacity in 2018. We gave them a significant amount of investment to build new techs, build new capacity, to install -- so it took 18 months. And what do you know? January 1, 2020, all of this is in place. So we did a lot of that capacity building 18 months prior to that. So we build the capacity, brought a lot of stuff in-house, we did that. So just to give you a little bit of a feeling, it wasn't -- okay, let's start pre-building up. We have done that, and you can say foresight, you can say lucky, but we wanted to build a better organization, better capabilities that has higher growth, higher margin, as we have said. And we saw this as an opportunity to -- maybe the growth wouldn't be as it is today, but has higher margin. And as you recall, we took about $100-or-so million business. We moved it out, we replaced it with the Infection Prevention. So let me now go back and answer your question. 2019, that business was about $170 million, $175 million. 2020, that business was about $220 million. As of now, it has $20 million of past year. In Q1, it grew 20%. Compared to 2019, it grew 7%. We think this business is going to be a double-digit growth going forward. Next year, when you and I are sitting having this conversation, I like this business to be growing double digit. What we are building is after pandemic, the norm is taking place, that's what we are seeing. So how could that grow double digit? Two reasons. We have about 40% market share in dental. 80% of that business is in U.S. In the past 12 months, first, we went to China in February, March with Wuhan, donated a lot of things. And then, we start building capacity in there. Now in Europe, we're really expanding capabilities in Europe. Sales organization capacity under dental, a lot of room on the dental. Medical, we have less than 10% -- less than 5% market share in medical. And by the way, when we think about medical, we don't think about all of it. We only think about the segment that we are going to go after. And the contracts with medical guys, with IDNs and GPOs are 3-, 5-year contract. They standardize the user. There is a standard procedure in ambulances, point of care and so on and so forth. We have built a medical team in U.S. We are building one in Europe dedicated to this segment. Last piece of this is around innovation. CaviWipe always was seen as highest kill time -- a better kill time and higher number of pathogens being solved while it's easier on your skin. CaviWipe 2.0 has a lot of better capabilities on medical, capacity, innovation, outside dental, in different geographies, in medical. That combination of the market is large enough for us, as known, to do a double-digit above-fleet average margin and a big part of our business. That's the future of this thing over time. That now -- but roughly 10% of our business has that kind of a growth momentum, while we took 5%, 6%, that had a really different momentum. That's how we have changed the mix.

Got it. And sticking within the growth businesses, maybe turning to aligners and Spark, in particular. It's one of those interesting dynamics in the sense that the common refrain you hear and from speaking to people in the field, it's typically almost entirely incredibly positive feedback. And obviously, Envista has a longstanding relationship with the orthodontics market, yet this is still a small product in terms of the total Envista revenue base. And so maybe to ask this question 2 ways. One, how happy are you with the progress of Spark relative to what you thought the broad-based rollout would be? And then two, at what point will you feel comfortable putting your medium-term targets out there on how big Spark could be, especially in what appears to be a very competitive market with a whole host of what all appear to be at least decent, if not very good products?

So we're very happy where we stand today, exactly what we expected, a little bit ahead of our program as well. In all respect, Michael, I challenge you that Spark is probably the best product that is out there. And this is not according to me. Ask people who have done and now we're talking to people who have done a 500 case, 1,000 case they have seen in the past 18 months. So people have used it, they're committed to it. They're not going back to anything else. They say product is more transparent, easier to use, easier to start from, more control, more finish. And so yes, there's significant amount of competitors, but this market is large, it's diverse, it has different segments in it. 1/3 of the overall clear aligner business is in the ortho segment. We have over 20% market share on the bracket and wire. 1/3, if we get smaller view of that, well, and that's a significant number. We said we're going to get to $100 million. We're committed to that. We think by 2022, we'll be there. If you ask for a medium-term goal, that's what we want to be. We don't think that's the starting point. Let's get to that first point with that group, and then there is a significant opportunity in the long run to go forward. We're not in a direct-to-consumer business. That's not where we want to be. We want to be on the professional side. We want to be combination of bracket and wire. We want to give combo. We want to give choices to orthodontists, to dentists. They can select whatever makes the most sense because this is cheaper, that's better. And orthodontists, the high-end orthodontists today are able to give the best service using a slew of the product, Damon Ultima, DQ2, Spark. And they're able to charge the same amount of money. They can make more money using that combination than going down a different path. Monetization, economics make sense, solution make sense. An approach that we have taken, slow, steadily and deliver. Deliver to those orthodontists, make sure that they are happy with what they get, turnaround time, quality service and then keep expanding it, that's the direction that we are taking.

And along those lines, when you go into the orthodontists, clearly, you're the only manufacturer left that has a leading aligner and a leading brackets and wires business. And so how do the conversations evolve over time about prioritizing one versus the other within the dental practice? And maybe the education component that comes with, as much as you can, push at what's going to contribute the highest margin, highest profit margin to Envista?

Orthodontists were the first group of people who have started using clear aligners 10 years ago, 15 years ago. So they are very familiar with it. Because you use the same methodology of movement as bracket and wire. We don't have to introduce clear aligner to them. You just have to give them the option to be able to use the best answer. We don't have to tell them use this from the other one. We give them all the option. They select what's right for them. And we have seen the benefit of it and they like that approach. They like the approach. That choice is theirs.

Well, I think we definitely could keep going, but I'm seeing the red 0 flashing. So Amir, thank you so much. Howard, I'm sorry, we didn't get to you, but I appreciate you and Stephen being here as well. And thank you, everyone, for joining us on the webcast today.

Thank you, Michael. Appreciate it.