Envista Holdings Corporation (NVST) Earnings Call Transcript & Summary

Guys, good morning. Jon Block with Stifel and welcome to the 2023 Stifel Jaws & Paws Conference. We've got a great day. We're fully loaded today. We've got 15 total panels. And overall, we've got 25 companies that are attending our now 2-day conference. This is the first time we're doing that 2-day format. And we also have 4 physician panels tomorrow that hopefully you'll be around for. We're going to start with Envista Holdings and we're excited to be joined by Amir Aghdaei, President and CEO; as well as Howard Yu, Chief Financial Officer. I've got a bunch of robust questions, trust me, throughout the day. You guys take precedent, throw up your hand and I'll call on you. I mean what I'm going to do is turn it over to you just for some brief opening comments and then we can get into some more specifics.

Yes. Thanks a lot, John. So it's -- we have been a publicly traded company for 3.5 years coming out of Danaher. If I look at -- we're in a kind of 3-phase transformation. Phase 1 was separating from Danaher, running into COVID, looking at our capital structure, getting ourself in a better place. We have done significant amount of work around portfolio transformation. If you look at our exposure to the market, has been -- our growth has been improved by over 100, 150 basis points over that time period through these portfolio changes. Also during that transformation, we improved our margin, our EBITDA was mid-teens. We have gone ourselves to about 20%, 450 basis point of improvement in less than 3 years. So separation, transformation, where we are today is, looking at the next 2 to 3 years, we made a commitment that by 2026, we're going to be mid-single-digit plus, high single-digit growth, 22.5% and we see a clear path to be able to get to that point. On a quarterly basis, you have some choppiness about the uncertainties that they are taking place. But we think that we can manage through that, get ourself in a better place, despite of what we saw in China last year, beginning of this year, some of the news from Russia. Yes, these are facts that we are dealing with. We're not changing our guidance for the year and feel good about what is ahead of us in the next 2 or 3 years and be happy to answer any questions you have on the level of confidence that we have about the long run. Please.

Okay. Great. Let's get into it. I'll start with trends and maybe some near-term questions. For the first quarter, on the call, you guys kept on using the word resilient, I think, popped up again and again in terms of the overall environment, has that changed here in the near term? When we think about resilient, still unchanged, slightly better, slightly worse?

The same, we're really not seeing anything significantly different that says the market has radically changed from --keep in mind that we are very focused on a specific segment of the market. Over 60-some percent of our business are ortho and implant. And those are very specific premium segments, small number of dentists. The one that we are talking to, they feel like -- the books are already scheduled for the next 2 or 3 months. They are not seeing something radically changing. On the DSO side, what we are seeing is the patient volume remains steady. Spending is lower. People are a little bit more cautious about what is ahead. And you all know the news everyday and other piece of news coming in. So there's a little bit of cautiousness on long-term investment but they're not seeing anything that gives us an indication. We are walking into a radically different environment than what we have seen in the past couple of quarters.

Okay. That's helpful. And then I want to ask a China-specific question. And just every company here is sort of getting this one, predominantly dental, even animal health. But for China, we heard, look, Jan and Feb were slow and you and others refer to an acceleration that was seen in March. How has that demand slope looked recently specific to China? And I'm asking this because there's been a lot of headlines talking about peak infection rates. And I think what people are worried about is that slope that we started to see go higher in March, has that continued into April and May? Or was it thrown off a little bit about -- with some of the recent news?

Yes, it's important to think about the Chinese government decision-making process. There was a complete u-turn, 180 degree, go in the other direction. We're not seeing anything that says that they're going to shut down offices or anything. In fact, we talked to our team as recently as Friday and they're telling us, nobody is wearing mask, restaurants are open, public areas, you can go to, dental offices are open. Yes, there is a little bit of a second wave coming through. At one point, when we were talking last, we said about 75% of our people had COVID. This is 3, 4 months ago. That has already passed through. This one, rough order of magnitude of our own people, this is about 20%. They have had the second round of that but they are managing through it. They're coming to offices. So we're not seeing a radical shift on what we hear on the headline, another wave. On the other hand, this is not the 2020 that when they came back, it was a rapid ramp that took place. Keep in mind, I'm talking again about our own people and what we see. They have been locked up for 3 years. The first thing that you can do is, do you want to go to a dental office or you want to go to buy a ticket and go spend the weekend somewhere else. So this is sort of priorities about where you're going to make investments, where you're going to spend money. We're seeing ramp, hasn't slowed down but it's not a hockey stick that we saw in 2020.

Okay. And just to push you a little bit there, Amir, you didn't expect that hockey stick back on your 1Q call. So when I sort of asked that China question, nothing's really changed from, I can't remember, it was late April or early May from your conference call, but nothing's really changed despite some of those headlines.

Nothing has changed, and the VBP now I am jumping to, is panning out exactly as what we expected. It's in public sector. We got those -- first, you got to accept it, they give you a volume. Second part is just going to other rev in order to make sure that those volume actually are becoming real. It was public with some spillover on the private side and is playing out exactly as what we had anticipated. And the impact of that on pricing and volume is beginning to take shape as we go forward.

Okay. And I'll jump around with a couple of other near terms and then I'll sort of go to different parts of the business. But -- it's funny, I think back to last year, you guys came here and the implant division was showing some traction. It was up roughly high single digits. You still sort of had this and N1 thing you were talking about, fast forward a year and 1Q '23 was more challenging. It was down year-over-year. I know a portion of the weakness was attributable to China VBP. Arguably, there were some variables that were more Envista specific. You talked about this earlier, what if any of that weakness is specific to the consumer. When we think about the consumer, when we think about the more discretionary procedures for you guys, clear aligners and dental implants, recently, have you seen some fraying of the consumer in your business?

Not on the clear aligner side. And the reason for it is because we've got such a small share. We're not a dominant player in there. We have small share. The people who are using our product either are doing a additional work or substitution of what they have been doing before. If we go back, what was our original plan. We're going to go after our own customers. We're going to give them an option of a combination of a clear aligner, bracket and wire. That play has worked extremely well and is working -- continued to work really well, double-digit growth on the number of new doctor dos that they get lined up. What we call an active doctor, is somebody who's done 6, 7 cases per month. So think about it, if we get to thousands of people, then this momentum continues to build up. That's what we're seeing on the clear aligner. And implant -- so no slowdown in any way or shape.

You're the market share beneficiary.

We are seeing the benefit of whether it's product, it's relationship, it's a segment that we are going after.

And for implants?

And implant, North America specifically, we have had some challenges. And we had exactly the same set of issues in Europe about 2 to 3 years ago. We had multiple brand. We had channel conflict. The customer experience wasn't as good. So what we did, we started doing some radical move on customer experience. We consolidated a lot of our order management [ and product ]. We start building training and education program with delayered organization. 7, 8 quarters in a row, we have seen European implant perform as good as the market, in some places even better than the market. In North America, we have 2 brands. We have the Implant Direct on the value side. We have Nobel on the premium side. Implant Direct, value as a whole for us is a work in progress. We are under indexed. We need to add to it. We need to continue to evolve it over time. And it has improved. If you look at the past 6 quarters, our value business in North America is improving steady quarter after quarter. Premium in North America has pockets of challenge around performance. So I want to separate the market versus our own performance. The market is not rapidly growing. We're not seeing a radical movement but steady as we had seen in previous year. We have some challenges in execution and we are addressing it radically, very quickly, very fast. Where is it? It's around daily management, it's [indiscernible]. The hallmark of Envista, Danaher is this ability to really segment the market, put resources on the ground and do daily management. We have it in some pockets. We don't have it in other pockets. So we are making some radical move. We're changing some of the leadership structure. We're confident that we're going to get this back on track as we go forward in second half of this year and throughout the 2024. We have good product, a good followership and one is expanding. It's all about execution moving forward.

Okay. And so when you say, I was going to push you on how long you thought it was going to take you to get that back on track. It seems like you alluded to the back half of '23 and then to '24. I think Amir, you said you're pretty confident implants can grow at or above market.

Right.

Pardon me. We should expect that to maybe start to take place in the back half of '23.

Exactly. That's what we said. The first half of 2023 is going to be a little bit challenging, what we saw in Q1. In second half, we're going to see a better improvement going forward. And why that is, it's a combination of things. IOS, this is the business that we bought out of Carestream, is becoming part of our core in Q2. Osteogenics, which is the biomaterial we bought, that's going to become part of the core in Q3. Spark continued to perform and we are making those changes, both on the imaging side as well as on the implant and we're beginning to see the outcome of it going forward. That's why we were confident to say second half is a lot better than the first half, both from a growth and margin perspective. That's why we're hanging on and say, we feel pretty good about the year guidance that we have provided.

Okay. And maybe just to jump over to you, Howard, and pull you in a little bit. [ You know it’s funny ], I went back and I relistened to the 1Q call, and I was thinking about the adjusted EBITDA cadence and for the year, you put out there more than 20%. I think almost all of us were sitting right at 20%, 20.1%, that's where we are. But was there -- was the reference that you had on the call, improvement sequentially or improvement year-over-year? Because I walked away and I'm cheating, I'm looking at my model but 19.7% was the adjusted EBITDA in 2Q '22. And I am like flat-ish year-over-year. But then in 1Q, your adjusted EBITDA of 1Q '23, pardon me, was 18.2%. So was that improvement a year-over-year reference or more of a sequential reference?

It's sequential Jon, and so the idea here is that at 18.2% that we would do something, a modest improvement to that in Q2 and then in the second half sequentially, it improved. So for the full year, obviously, still getting to that 20% or 20% plus. But sequentially, it would be 18.2%, stepping up slightly in the first half here in Q2 and then accelerating in the second half of this year.

Okay. So then the easy math that I can do, if you're sub-19 in 1H, call it, and maybe even closer to like 18.5%, you've got to clearly be over 21% in 2H? And maybe talk to us, one, how do you get there? And then because of the Danaher, we can't look at 15 years of financials but that sort of delta is not normal with prior years. So talk to us about why 21% plus in 2H? And then what sort of number do we extrapolate out into 2024.

So I'd say, yes, we see a lot of improvements that are going to happen. I mean, we talked about the business improving throughout in China and in Russia in the second half of this year. And so -- and that's principally specialty businesses, which enjoy better margins than our fleet average. And so we'll see that pull up. We'll see -- sequentially, we continue to see improvements in the Spark margin profile as well. And so while it's below fleet average relative to the entire fleet, it's improving consistently. And so we're going to see that making some meaningful changes as well. And then as you mentioned, Danaher, it's EBS and the productivity that we're going to see in the second half. We've done a lot of scenarios internally and we certainly believe that we're going some margin uplift in the second half of this year associated with some of the EBS actions and productivity gains that we'll get as well.

Okay. That was very helpful. And I think I'll sort of push you on margins a little bit later in the conversation as well. But based on that commentary, it seems like the 21% plus in the back part of the year is more the right run rate or it's more normalized, if you would, than 1H? And I guess where I'm going with this Howard is, you're going to need a couple of years where you're north of the 50 to 75 bps cadence to get to the 22.5% in 2026 just on the sort of the run rate, if you land this year at 20%. And based on that commentary, it would seem like '23 is a below 50 to 75 bps in '24, is certainly north of 50 to 75 bps to get you on that trajectory. Is that fair?

So we're not providing any guidance specific to 2024, Jon. Let me make that clear. That being said, I think many of the things that we talked about will certainly provide a lift to the margins and get us well on our way to achieving that 22.5%, that Amir talked about, in 2026. I think one of the major drivers will be the margins associated with Spark. We said that it's below fleet average. We've said that we're investing heavily last year, this year as well for the duration of 2023. We anticipate that Spark margins will improve to about the fleet average exiting 2024. And so that will obviously provide a substantial lift to the margin profile for us going into long term.

Okay. And when I think about '24 and sort of pulling forward some of my questions, but you mentioned Spark, Howard, right? You've got VBP being less of a headwind. There's some stuff around stock comp. I mean, arguably you have, growth may be accelerating. So there's a bunch of things to maybe lean into?

I think that's right. I think that's absolutely right. And VBP, I mean, we talked a little bit about China and our view on China long term is that it's certainly a very important strategic piece of our business. And so once we get over the kind of anniversary of VBP, we anticipate that those margins will improve there for us as well.