Envista Holdings Corporation (NVST) Earnings Call Transcript & Summary

Thanks, everyone. Good afternoon, and thanks for staying with us. Jon Block from Stifel. We're going to conclude the day, obviously, sticking with the dental track, and we've got Envista Holdings Corporation. Envista is a manufacturer of dental equipment and supplies. And with me today, I have Amir Aghdaei, President and CEO; and Howard Yu, CFO. Stephen, as well, joining us from Investor Relations. Look, we're going to go through Q&A, investors. I think you know the drill. [Operator Instructions]

I'm going to start big picture and with the industry. And where I want to go with this, Amir, is actually DSOs. They're getting bigger every day. I think at times, Envista's positioning within DSOs actually can get lost with investors. And I'm wondering if you can just kick us off. In other words, talk to your partnerships with DSOs. I think you mentioned roughly 10% of overall revenue in the first quarter of '21, and how you see this unfolding in the future years. And then, Howard, I want to touch on the margin side of that as well.

Yes. Thank you, Jon, for inviting us. So we see DSOs as an important part of this overall equation in the dental industry. We see them as really taking -- giving access to masses, democratizing this industry. And we have been very active. We started in 2018, put a team together that is purely focused on DSOs, single point of contact, all product and capabilities coming together. And we have been making progress week after week, months after months, and you can see that through some of the recent RFPs that have been communicated. But let's take a step back and say, what is it that they're trying to do, and why we're excited about it. You're going to go open 1,000 offices. First and foremost, you want to recruit 1,500, 2,000, 2,500 dentists, and you want to make sure that they are doing interesting work and their retention is really high because if we have significant amount of rotation, they never get momentum, retention. How do you get retention? You want to teach them. You want to have them do significant new skills. You want to teach them new skills. And that interesting work is not necessarily standard hygiene. It's implant, ortho, endo. Second part of the equation is there are numbers out there that says somewhere between mid-20s is acceptance rate, right? So let's -- Jon, let's just take a number, and please don't quote these numbers as being exact accurate. But let's say, the U.S. is spending on -- overall dental market is $100-some million -- $100-some billion, $120 billion, $130 billion. 20% of that goes to DSOs today, $25 billion. If you say the acceptance rate is only 25% or 30%, that means they diagnose 3x, 4x more than what they treat. So improving acceptance rate is a really important part of the equation. Training and education, acceptance rate, last but not least, monetization or all the investment that you have done in there. How do you monetize it? Demand generation as well as doing a specialty type of work. That's why we're so interested in DSOs because we can make a contribution. We can help them to do all 3 of those things. Through equipment and consumable that we have, through software and diagnostic and planning, through training and education, we can accelerate what they want to do going forward. And we have seen the benefit of it because it's getting those top 10 DSOs in the U.S. are growing double digit. And now in Europe, we're beginning to get momentum not only on Equipment & Consumables but also on implant and Spark in China with the top 2 DSOs. So what does that mean from a margin perspective? I'll let Howard talk about it.

Yes. I would say, Jon, clearly, margins -- these organizations with DSOs have professional procurement organizations. But -- and so there is going to be some pressure there, obviously. But the one thing to think about for us is the cost of servicing. And so if you think about our training and education programs, typically, we'll do a training -- a small group training and may have 5 to 10 doctors. Well, for the DSOs, we may have 50 or 100 doctors that are able to attend that. So you think about that in that context. That certainly gets us much more coverage despite having some pressure on the pricing. The other thing, as Amir indicated, the procedures that DSOs are looking to get into are the specialty side, so around implant, for example, and our implant business certainly has, and we enjoy better margins in that space as well. So if you think about it in the context of mix for us, it certainly up mixes into more profitable business. And so we welcome being a partner to the DSOs. We're thrilled to see that they're expanding, and we see ourselves as a viable partner for them.

And that's very helpful, guys. And maybe, Amir, just a follow-up, your confidence level that these are dynamic, long-term agreements, and we don't see sort of the, pardon me, but the horse trading that went on, on the distribution side, right? Like the #1 player flip flopping back and forth. You're much more closer to these DSOs. You're training a lot of their physicians and hence, why you think you're going to have sort of that long-term relationship with them. Is that fair?

Well, the way to think about it, Jon, is that they're trying to standardize their work. So if a dentist moves from one location to another, if they have patients moving from one location to another. They have that standard work setting in place. You can't create a standard work if every office uses a different set of equipment, different software, different practice management system. So that is standardization. Of course, you got to deliver on what you promise. But the more they standardize, the better you ingrain into that system. And they have DTX, cloud, on-premise capabilities that they can move things around, and you're part of it. It gives you an opportunity to kind of innovate with them, continue to expand with them rather than just being one point solution providers.

And I guess, grow with them as they continue to roll up their practices.

Exactly. Exactly.

I want to start with that big picture. I do think that sometimes gets lost with investors. I want to shift and try to work my way down by some of your divisions and starting SP&T, specifically the Ormco business. My numbers, not yours, but roughly, a $500 million business. Wires and brackets, help us with how we think about your growth within this segment. And I think the perception was, hey, wires and brackets is hostage to clear aligners. Its market's only growing maybe very low single digits, but you guys have done much better, grown faster, emerging markets and taking share. Can this be a mid-single-digit plus business longer term, specific to you, I just want to be clear, the wires and brackets component?

Yes. Jon, it has been a mid-single-digit market 5 years prior to COVID. To put it into perspective, 10 years ago, wire, bracket was $2 billion. Clear aligner was small, several hundred million dollars. Today, wire and bracket is $2 billion. Clear aligner is $3.5 billion. And anybody's guess, 10 years from now, clear aligner could be whatever, $10 billion. Wire and bracket would be $2 billion. So why is it that it's not going away? Out of the 15 million, 16 million cases, about 30% of them are really complicated cases. They're pre-teens, complex that as much as the clear aligner continue to advance, orthodontists, that's what they do every day. They want to have the optionality. They want to have a choice to be able to give the best possible support to their patients. There are 8,000 orthodontists in the U.S. We have 20% market share. If you just do a simple calculation, say, 2,000 of these guys, they are Damon customers. That's what they use. And there is -- similar to what you said, there may be misunderstanding ideas. So there may be misunderstanding on bracket and wire as well. We normally think about bracket and wire -- I remember 60s and 70s and 80s kids with all kinds of head gears. The bracket and wire of today is some of the most advanced things that you've seen, simple, clear, easy to use, easy to change, software oriented. So why are we growing mid-single digit outside of this thing? 70% of this business is outside U.S. Innovation is really important role -- play an important. 15% of this business comes from product that is less than 3 years old. There is a significant network of trainers, leader that they teach, and they implement and they build a network around themselves around those and the most difficult cases come to them. Now add on top of it a clear aligner with the same software, same company, same infrastructure and it gives them optionalities to use one versus other, a combination with the company that they know. We are confident that this is going to be a mid-single-digit growth, high-margin business for us direct, and now we are adding more to it. We are differentiated. We're not a clear aligner company. We're a dental company. We are ortho company focused on the professionals, the people who do that for a living, and they do it every day.

Yes. And you guys have made that very clear and you are focused on orthodontists, which I think has gone a long way in the industry. Maybe just to double back on wires and brackets for a second. You talked about the recently launched Ultima. Can you just maybe elaborate the impact that, that's going to have on growth? Is that a premium-priced system? And can that be more of a near-term tailwind for wires and brackets?

Yes. We launched it in -- so any one of our launches -- Jon, you know this very well. We don't go by iPhone launch. We do it with a very small number of people, elite customers. We'll let them use it, become really comfortable with it, then they teach it to other people and then they expand. Ultima has been, I mean, just outstripping what we expected because the group that they started at, elite group, they have recognized this gives them optionality on the finish. They can finish a lot easier, a lot faster. And by the way, it's not just a wire and bracket. It's a complete system that we are able to give them higher prices, better finish, faster impact. We've already seen that. We saw it in Q1, and that trend has continued. As we bring more and more people, we teach them more and more Ultima, and now we're expanding into other geography. This business is a really outstanding business. I think it gets lost in the noise of direct to consumers and all this other stuff. It gives people choices and has really good outcome at the end. 18 months later when you come up, it's completely your smile and your way of life has changed in here. You go get a 3D CBCT. You develop a plan for the rest of your life rather than -- I'm not saying anything is wrong with the other solution, but this is a very different treatment.

Okay. Great. And let's just round out Ormco, if you would, and shift to Spark for a second. My numbers again, Spark, maybe $7 million, $8 million in the fourth quarter, a nice step function higher [ to ] maybe $11 million or $12 million in the first quarter of 2021. It does seem like this is well on its way to be a $50-million-plus business this year. But Amir or Howard, what's the gating factor to this business really growing faster, inflecting -- we're just hearing a lot of positive clear aligner comments from the industry. And so maybe talk to us where you are with manufacturing and where you are when you think about the next handful of quarters of being able to see this business inflect.

So Jon, there is no gating items. We're not slowing it down. There is nothing that has stopped us from getting that run rate to go higher. But let me give you a couple of statistics that may be helpful. While we moved away from about $100 million or so business last year in the past 12 months, over a 12-month time period, we added 2,000 people to our ortho business. That's combination of Ormco and Spark. We built a new factory. We added close to about $50 million to $60 million CapEx, and we're going to add significant amount of investment this year. Why we are doing this? Because we want to stay ahead of the program. We want to stay ahead and make sure those that they transition, they have an outstanding experience. How do we measure this, Jon, is, as you well know, we sign up 30 people. We get them to the third case. Then we sign up -- they have 1,500 customers today that they are active, which means that they placed a clear aligner on us every 4 weeks. Every quarter, that number is going up by 30%. These are one by one. We're beginning to tap into the DSOs in Europe. That can really accelerate this very quickly, very rapidly. The math that you did is absolutely close to the -- what we have intentionally, but there is no -- we're not stopping. We're not saying that, that's the end. Capacity is in place. We are adding resources. We expect in this to grow, become an important part of the equation. We just want to make sure we're differentiated and those people who work with us have outstanding experience. That's why we're not going too fast, too quick. We want to make sure that it's sustainable.

And Howard, is this one of the few product lines when you think about the growth vehicles of infection prevention and implants with N1, that might be margin dilutive in the near term, just as you're bringing the manufacturing up to speed, unlike the other ones that I just called out?

Yes. I think, Jon, that's probably a good way to look at it. I would also say, as we get up to scale on N1, that might be on a temporary basis as we make the investments and get that capacity up to scale. But certainly, longer term, we think that this will be accretive as well. And bear in mind, even on the implant side, the surface technology, the TiUltra and the Xeal are also accretive to our margins.

Okay. And let's go there now. Just help us -- what are the next steps with N1 in the U.S. for regulatory approval? Just maybe if you can be as detailed as possible. And just still a high level of conviction that this does come in the back half of 2021, please?

Absolutely. We haven't seen anything, Jon, that says otherwise. We're in the process of going back and forth answering question. But I want to say, why is it taking so long? The last really innovative solution out of Nobel was NobelActive in 2007. And that implant is the most copied one in the world, the most used one. 14 years, 15 years later, you have a complete different system. It's not just a titanium screw. It's a drill protocol. It's abutment. It's a regenerative that goes with the whole system. So we're going through a complete new system approval process, clinical evidence, efficacy, things that they're looking for, and we are providing that to them as we go forward. Capacity is there. We have built all the resources that it is needed. If we get it sooner, excellent. If not, it is what we have in our plan for second half, late second half of this year in United States.

Okay. And I'm going to put you guys a little bit on the ASP. You mentioned NobelActive. And when an implant's out there for a while, I believe, what happens is a lot of times, you have these knock-offs on the abutment side. N1's a brand new platform, highly differentiated. We've done some prior work, Amir or Howard, just on the ASP opportunity. I think there is really 2 components, and I want to make sure I deconstruct it. One is, what, this implant is going to have a premium price to the tune of maybe 8%, 10%, 12%, somewhere around that. And then there is a second component of -- if I'm using N1, I got to use an N1 abutment. And so my attach rate should be 1 to 1. Howard, when we roll that all up, is this really a 20% pricing opportunity once you get someone to move to the N1 platform?

Jon, I don't think that that's that farfetched. I mean clearly, the implant in itself will be at a premium pricing, higher than what we have today. And then as you indicated, yes, the abutments, we've done a nice job of ensuring that the patents are intact, that this is an integrated system. And so if we get that 100% abutment capture, which we anticipate, that's going to be a nice lift, both in terms of total revenue but also as it relates to margins.

Okay. Fantastic. We talked about Ormco. We talked about implants. Let's go to E&C, consumables, and I'm going to kick it off with infection prevention. So just running through some numbers, about $175 million business in 2019 to $220 million 2020, give or take. And then I think it was up 20% in the first quarter of 2021. You expect double digits in 2021 off of that really difficult comp. Just when you think about next year, it's already shifted next year in 2022, does this growth rate roll over as workflow normalizes? Or do you still expect an above corporate growth rate for this product line in 2022?