Henry Schein, Inc. (HSIC) Earnings Call Transcript & Summary

Good afternoon, everybody. Thanks for joining us today. My name is Matt Miksic. I cover medical devices here at Barclays in the U.S. I'm very pleased to have with us today the team from Henry Schein, Ron South, SVP and CFO; and Graham Stanley, Head of IR. So thanks, guys, for coming, so much.

So maybe I thought we might start with -- I want to take a break here and hear for the questions from the audience if there are any, maybe about 5 or 10 minutes in, but I thought we'd start with just a long-term plan. And going through the slides and taking a look at the sort of market growth and the way that you framed it out. You talked about 6% to 8% organic growth on the top line, 8% to 11% EPS growth. But the -- it struck me that looking at your markets, you have dental growing in like the 2% to 4% range, but then dental -- and specialty is 5% to 8%; technology, 8% to 12%; and medical 4% to 7%. So looking at that and thinking about how Schein has been historically kind of viewed as this sort of dental distribution business from a distance, obviously not really what you are today. It just struck me that you've got exposure to some much higher growth, attractive markets and hence, the strategic focus to get greater exposure to those markets. So on the one hand, I just wanted to talk a little bit about, maybe some of the ways in which you're driving greater access to those, sort of, dental specialties and technology markets, maybe starting with implants and where you were pre the Biotech deal and sort of what that does for you, just on the implant side? And maybe you could talk a little bit about technology?

Yes, certainly. Thank you, Matt. So in terms of the specialty products, and you mentioned implants. Our specialty products is about a $1 billion portfolio now. And that mix is about 60, 30, 10 in terms of implants endodontic products and orthodontic products. We really -- with the effort as you mentioned, we have seen a lot of focus on growing that aspect [indiscernible]. We think that there's tremendous opportunities, especially on the implant side. There's a lot of kind of untapped market out there, when it comes to dental implants. And we see some really good growth opportunities there. I do think that a lot of this growth that we're going to get, obviously, we're getting -- we like the organic growth we're getting. We think we're getting some market share along the way. But to accelerate that growth, we really focus a lot of our merger and acquisition activity in that area. You mentioned Biotech. Biotech is the implant market, implants. So that gives us an opportunity to expand our geographic footprint from an implant perspective there. And we also are -- within the pipeline, we're looking at other implant manufacturers as well.

Okay. And that is -- or do you feel like you're sort of punching in that 6% to 8% range for that business now? Or punching a little above that range or...?

I think when it comes to dental specialties and implants specifically, we'd like for that growth to exceed that 6% to 8%. We really would. Some of that's going to be from acquisitions. That's not all organic. But we think we can exceed that 6% to 8% when it comes to it. I think what we disclosed at our Investor Day, which was 2 weeks ago today, when we talked about our overall growth, we kind of disclosed what our assumed market growth was in those segments, right? And I think for dental specialties, with the assumed market growth, if I recall, we almost say 5% to 8%, [indiscernible]. But it was 5% to 8%. And I think that we believe we can outgrow that market.

That's great. And then on the technology side, and I guess this is where it kind of folds into dentistry, which has been kind of this theme -- thematic growth area for some time now. There's an element of the Biotech acquisition that falls on the software side as well. If you could talk a little bit about that, about some of the other things you're doing to kind of access that what you describe as an 8% to 12% segment?

So to kind of clarify on that. So Biotech has a software platform, which isn't necessarily a practice management system, such as what we offer at Henry Schein One. But it is a clinical workflow product that greatly assists in the efficiency of the practice. So it allows -- and it's a completely open architecture that would allow us for a scanner of any brand to take a reading, to immediately update the patient records, which is part of our practice management system, also sort of send that image to a chairside mill or to a third-party lab or to a 3D printer, depending on the application that it is being used for. And this is really -- we feel like it's what Biotech has developed is kind of the first kind of end-to-end agnostic digital platform workflow type of product that [indiscernible] we think it can really take away a lot of headaches from our customers in terms of managing their practice.

Right. So even though Biotech is predominantly an implant company you talked about and a leader in France, this Nemotec software platform that they have has application sales across a variety of different kinds of product [indiscernible] or...

Could be the integration, for example, with our [indiscernible]

Right, which is a good sort of bridge into that category that's, I think it's been something that you've sort of been banging the drama on -- for a number of years, like we're going in this direction. You see this as an important strategic direction. Maybe help us understand sort of like what you're at now? And how this is contributing to sort of growth in kind of the core consumable business and all the things that go through, that flow through that process?

Certainly. So I think with reference specifically to Henry Schein One, we have a very broad customer base there. But where we think we have a great opportunity within that is just a greater share of wallet with those customers. A lot of them might only use the practice management system, but they don't use a pay-demand type of product that we more or customers or patients to their practice. They might not use the e-claims model that's available to them as part of our -- part of that kind of suite of technology that comes with Henry Schein One. So we're really focusing within that customer base and as many as 100,000 customers who touch Henry Schein One is how do we get a deeper penetration with them some of the additional technology products that we offer. In turn, as things such as the clinical workflow products begin to become a more integral part of the practitioner's practice, we can then see a greater reliance on some of the products that are available to Henry Schein One to interact with that to make a much more seamless experience for both the practitioner as well as for the patients.

Okay. Well, it's still sort of above my pay grade to fully understand exactly how that drives commercial value, but I do kind of see the sort of like razor blades, sort of integrated integrating into your customers' business. These are benefits as you can see kind of the idea to pull through more consumables. But I don't know if you have any other color, you can provide that how exactly works?

I think what it does do, I think right now, these digital platforms have been built piece by piece. You might have a scanner for 1 manufacturer, you can have a different practice management system or somebody else. And if something isn't working right, it's up to the practitioner to figure out what's not working right and who do they need to call. And what they would really like to have is a single source to go to. And if you have this kind of open architecture platform, we think it encourages them to then realize they can rely more on Henry Schein to help them solve those issues, which strengthens that relationship. And we think the stronger that relationship with the practitioner the greater it is ultimately for our revenue base.

That's great.

So Matt, just to put a little bit more color on that. So firstly, within Henry Schein One, probably the average customer spends probably about slight $350 a month, something like that with Henry Schein One. The potential in terms of buying all of the suite of services is about $1,200 a month. So to Ron's penetration point, the more that we can get an existing customer base to purchase additional services from Henry Schein One will grow our revenue and grow our business. Then the interconnectiveness as the sort of the workflow helps with the specialty sales because the easier that you make the procedure with the patients and for the practitioner the more practitioners will use specialty products and move into implants or also -- so it grows the market effectively and therefore, grows our business. And then -- so lastly, in order to facilitate that, you got to have interconnectedness with equipment whether it be sort of imaging or x-ray equipment in order to facilitate those additional procedures.

That makes sense. I'll stop there briefly to see if there's any questions you got one. Tom?

I'm taking for the third question on spec [indiscernible] like implants in your [indiscernible] or don't distribute others. Do you, or do you?

No, it's all self-manufactured.

It's all self-manufactured. Any other manufacturing of those products' you guys don't distribute them?

That's correct. That's correct.

Right. Yes. That's -- and that draws a clear distinction between your sort of -- sort of pure dental distribution business, the BioHorizons and now Biotech implant business, the Clear Aligner's business.

And just to clarify, being with the markets where they're direct markets. So in order for us to get access to implants or orthodontic products, we really have to own our own products in order to be able to provide the customer with those products.

Any other questions from the audience? The one sort of market trends, sort of positioning question. As you, I'm sure, get this question from investors, folks, think sometimes about dental as being more economically sensitive than some of the other covered medical procedures and so on. So that clearly appear to have been the case so far. But throughout last year, you know where we are in terms of peer recessionary risk. So what I guess the question is, what are you seeing now in terms of trends or your customers talking about patient behavior? Any indication that folks are acting in a more conservative way? And what's your anticipation as we kind of get through the middle of this year and into the back of the year, whenever we do start to see something that looks and feels like a recession?

Yes. I think in terms of recessionary risk, the metric we looked at from a macroeconomic perspective, probably more so than others is the unemployment rate. Especially in the U.S., the unemployment rate really -- if you're staying employed, you're maintaining your access to care. You still have your medical coverage. And in many cases, assuming your employer offers up dental coverage, you have dental coverage as well. So we're pretty encouraged by the fact that unemployment has stayed as low as it is. You think back to the 2008, that was double-digit unemployment at that point in time. I don't think anybody is forecasting double-digit unemployment. Right now, if, in fact, there's even going to be a recession. So we're pretty encouraged by that. Access to care by the general public is good for us. It means more traffic to the physician, more traffic to the dentist, [indiscernible] as a result, I guess and if there is a recession or even a continued pullback. I mean the area of our business to be the most vulnerable would be the implant. There is a greater kind of out-of-pocket expense associated with that. Having said that, kind of all saying it is that there is a growing acceptance of implants as really a standard of care. It's not an esthetic procedure. It is a standard of care that's the most greater oral health, which in turn promotes our greater overall global model. And so while there may be somewhat of a pullback, you think that there's still given that standard of care process and that kind of growing acceptance that this is a medical procedure is something that we think [indiscernible].

Fair enough. And then maybe perhaps in the last, whatever it's been, I can't believe it's been like 15 years since the Great Recession. But in that time period, you say that the change in the way those procedures are viewed that might change the calculus for how they might be affected even by unemployment?

I believe so. I think initially, implants was seen as being a cosmetic event would in fact they're not. A lot of implants take place where you can't even see them in the mouth because they actually promote greater oral care. That's the whole purpose of them. So yes.

I think the other change as well that's probably taken place over the last 2 or 3 years is at the moment, demand for dental care in the U.S., at least, outstripped supply of dental care. So you can see in some of the data that appointment books are full. It takes a while before you can get an appointment. What we've seen in the last couple of quarters, there's been some cancellation of appointments because of sickness, et cetera. But I think underlying sort of like demand is outstripping supply. And okay, if there's a mild recession, then that should provide some buffer of what the impact of that would be?

Back -- like a backlog of durable demand that would still be pulled through. And in terms of where you are versus a -- the number of 2019 levels or something like that? Do you feel like -- so I'd assume from that comment that you're not exactly back or...?

Back to 2019 levels, yes.

Yes. Okay.

I think the disruption that the dental industry experience from the pandemic has been -- it's been interesting in the perspective that you have a lot of people who haven't gone back to the dentist since the pandemic. They just got out of the habit of going and they just haven't gone back. We also had a lot of people who had who changed dentist. They were -- if I'm using New York as an example because that's where I'm from, but if you -- people in the community in Manhattan, and they were probably going to a dentist in Manhattan during the day. Well, they're not working from home, they had to change dentist. So there's been a lot of disruption to the end market in that perspective, plus we had a lot of dentists who retired. So I think that's put a little bit of a constraint on the capacity. And that's why we believe that the demand for the dentistry doesn't keep the supply. And that's also supported by the equipment growth you're seeing. Equipment growth is really being driven by double-digit growth in [indiscernible] and primarily new chairs, which is an indication that the existing practices are building out their practices to take on that additional demand we think they -- that they can -- that's worth investing in their practice in order to [indiscernible]. So that's why we stay fairly optimistic about what's happening in the market. That's also why equipment growth seems to be exceeding that merchandise growth is really just the term of the patients going through the traffic.

Interesting. And so a couple of things on that, unless there's questions in the audience. Go ahead.

The changes with the practice, just given the dislocation of patients in serving and the aging of dentists and the sheer fact that you have more and more traditional practitioners doing endodontics work. Can you talk a little bit about your strategy there, and how that could add to profitability over time?

No, it's a great question. And I think it's something that we've actually have been focused on for some time. We do provide education services to general practitioners who may want to expand into endodontic [indiscernible] in to reference out that work to an endodontics, because it's a high-value piece of work for the endodontics to pay. So we do provide education services for them so that they can learn to do that in-house and retain that patient and provide a broader scope of services to the patients. And we've seen good growth in endodontics. And I think that's really an indication of -- it's probably driven by the aging of the population a little bit or demand for root canals. And endodontics aren't as vulnerable to endodontic procedures are not as vulnerable to say a slowdown in the economy is implant because you need a root canal you like to get it. So it's the -- we have seen very good growth in endodontics.

Okay. Question in the middle here.

I just want to follow-up just on the guidance for -- so the top line 1% to 3%. Like could you just walk through the kind of puts and takes, like any areas of concern or like potential conservatism just as we're thinking about the guide? And then specifically on equipment, you reported had a tricky quarter in this quarter, I understood your guidance where you guys are kind of thinking about on that front just Q2 '23?

Yes. So the 1% to 3%, keep in mind that included about a 3- to 4-point headwind from PPE and COVID test kits. So when you exclude PPE and COVID test kits, that growth becomes something closer to 4% to 7%. So what we think is indicative in '23 is a little more indicative of what's happening in the market. It doesn't include any acquisition from both or any unannounced acquisitions, correct? And assumes that reporting maybe will stay fairly [indiscernible] during the year. But in terms of assumptions around that, what you've talked about. What I can say is that we've assumed kind of mid-single to high -- mid- to high single-digit equipment growth in '23. And we haven't -- I'm really not run on, really not [indiscernible] have opportunities to [indiscernible]

Just a follow-up on equipment. Obviously, 2022, we saw across the board, very strong basic equipment. From checks a lot, but also pricing driven by strong backlog due to COVID. Is that eases through now, are you seeing this -- I guess my question is how you see unit volumes and basic equipment growth versus pricing?

Yes. I think that equipment, you really have to bifurcate it into 2 different segments. You've got the standard equipment, so the chairs, units and lights, which I think is what you're referencing. And we had double-digit growth in North America in the fourth quarter in standard equipment. And our backlog for standard equipment, or our overall backlog, [indiscernible] which is primarily standard equipment. Our year-over-year change in the backlog was actually an increase in backlog by the end of '22 versus the end of '21. So we still feel very bullish about the opportunities for equipment in 2023. Could there be a little bit of price increase? I think it would be no different than any other year that what we see in terms of the pricing of that on standard equipment. Graham, do you agree with that? I know you don't need to look at the business cost.

Yes, again, I think -- I don't think there's anything. But I wouldn't -- we talked about at the end of the year that we had a significant backlog. I would expect over the course of this year for that backlog to somewhat unwind and that helps with some of the equipment sale growth that we expect for this year.

I actually expected it to come down a little bit in '22 and it hasn't. But we do -- I'd be surprised if it doesn't come -- that backlog doesn't come down a little bit in '23.

Okay. And then maybe in terms of the balance of your portfolio, given that you have this medical systems, medical distribution business, and also given that you have -- but distribution is positioned a little bit better to pass through price. Maybe talk about what you've experienced so far in terms of being able to offset inflationary pressures? And then how this medical device business -- I mean how do you expect medical distribution to kind of behave -- from dental distribution as we kind of revisit some of those inflationary risks we were talking about earlier?

Certainly. So it's like on the dental side, as we get price increases from the manufacturers, we do pass those price increases on. To the extent that the customers are unhappy about that price increase, we do typically have alternative national brands or private line of products we can offer them, so we don't lose that sale. On the medical side, a significant part of our medical business is a contract business, which tends to be a cost-plus business. So as those costs go up, it is covered in those contracts. I think in medical; we're obviously extremely pleased with the year medical had in 2022, double-digit growth when you take out the effects of PPE and COVID test kits. And it's really an indication of I think, a greater amount of traffic that's working its way through the alternate care sites now such as ambulatory surgical centers. And as we continue to see more and more procedures move from the hospital to the ASCs, that's going to be very good for the medical business.

Great.

What the medical business provides us as well are 2 things: One is just the volume of business that goes through our fixed cost base, it really helps in terms of what the profitability of those -- that business is; and then secondly, it's still like a little bit of a natural hedge. Like when people get sick, they go to the doctor, but they don't go to the dentist, and then vice versa. So from a portfolio perspective, it's quite a nice balance to the dental business.

Excellent. Well, with that, we are at time. So we'll probably leave it there. But Ron and Graham, so glad you're able to come, and thanks for taking the time.

Thanks very much.