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

Right. I think we're going to get started. My name is Jeff Johnson. I'm the senior medical technology analyst at Baird. Our next presentation this morning is from Henry Schein, the largest distributor of health care products and services to office-based practitioners in North America and Europe. With us today, we're very happy to have, as we always are, Chairman and CEO, Stanley Bergman. I'll throw in the man, the myth, the legend. Stanley, thank you for joining us and Chief Financial Officer, Ron South as well. Stanley, I'm going to turn it over to you for a few minutes if you have some comments to make, and then we'll go into Q&A.

Thank you, Jeff, thank you for having us. And as I noted earlier on, I believe you're the longest serving analyst of any of the big firms covering dentistry, and you know every nook and cranny. So thank you for hosting us. We have some prepared slides, which are on the website. I'm just going to fly through them because I think it's more valuable to handle the Q&A. So Ron, this is your part.

I reference you to the cautionary note regarding forward-looking statements. Thank you very much.

Thank you.

That makes the attorneys happy.

Right. So what we have here are some key metrics on sales, '22 was $12.5 billion. We have 1 million customers, office-based practitioners. That's the dentists, physicians in the alternate care setting, but also including dental laboratories, surgery centers, surgery centers, dialysis centers, et cetera, it's probably a 1.5 million to 1.8 million practitioners that we cover, 23,000 people, 90 years in business. We're servicing dentists throughout the world on the ground in 33 countries. On the S&P Index for 7 years. Been recognized as a Fortune Most Admired Company for 22 years. Ethisphere has recognized this as one of the, I think, 150 most ethical companies in their index and Best Place to Work from LGBTQ point of view, also for -- I think you get the picture. Henry Schein is committed to balancing the needs of our 5 constituents, our suppliers, our customers, our team, our investors and society. We've been doing that for 50 years, well before the concept of ESG was ever conceived. It's a fragmented market still. Some parts of the world are more consolidated than others. All the basic statistics are there. We have had consistent growth in our EPS. Pick any period of time, 5 years, 10 years. The macro trends, we think, are quite favorable. I can cover those, Jeff, and I'm sure you have a question there on the specific trends in regions, dental, medical, et cetera. But overall, it's a good market to be in. We are not in the acute care area. Procedures are moving from the acute care environment to the physician office, the surgical center, et cetera, et cetera, and including, of course, the home. And dentistry is a growing understanding of the importance part of care and activity between part of care and health care in general. And so we think the businesses we're in, are good places to be from a macro point of view. Our strategic plan has 5 major components. It's BOLD+1. The B is advancing or building our high-growth, high-margin businesses. That is in the area of services, specialty services, including the largest practice management and related practice solutions, digital company in the world, growing nicely, good margins. And we have a growing business in the specialty dental arena implants, bone regeneration products, endodontics and a small -- relatively small orthodontic business that is gaining some traction in the aligner space. You add all of that up. It's around 25% of our sales. At the moment, just under 40% of our operating income. You add our private brand to that and well over 1/3 of our business is in the high-growth, high-margin owned brand arena. And within the next couple of years, we will approach half of our profits. We are spending a lot of time driving efficiency amongst our portfolio of distribution businesses, operationalizing that. Lots of good things happening there, both growing our market share and our operating income in these businesses. A key strategy of ours is to leverage our relationship amongst our customers. Very important in the DSO world. In the United States, most of the larger DSOs view us as the primary supplier. And we're moving our high-growth, high-margin products into that arena, both the software and the various specialty businesses. And digitalization is very important for us. Happy to cover that. And of course, the social responsibility and ensuring that we provide our shareholders with a good return on investment. Consistent growth are all key components and that's the cost plus 1. So we have a leading position. Lots and lots of opportunity to grow our top line, our bottom line. Customer base can be leveraged. I think we can in all modesty say we have a very good track record for delivery on our commitments. And our team is quite experienced. So we recognize Andrea Albertini is in the room, who runs our international business, but is also responsible for our Global Laboratory business and is driving our clinical workflow initiative throughout the world. So Jeff, that's the story.

That is the story.

Sorry, Ron, took me 6.5 minutes. Heavy...

I had the over under set of 15 minutes so...

No, I'm known to not speak intact.

Yes. Well, thank you for that. So yes, a few questions there. And you talked about the breadth of the team and kind of your commitment to delivering to those goals and those plans. So let me maybe start both of those places. So I think at your Analyst Day earlier this year, I think one of the things that stood out amongst many things, but was the breadth of that team and the depth of that team. An impressive team you've assembled, obviously, over the years. So where are you with that team in succession planning? How are we thinking? I know you what signed up for another couple of years now? What's your latest contract. I think, 2 years or 3 years?

I have to check in a moment.

Yes. But where are you with the depth of the team and the comfort with the team in some day, a post Stanley Bergman era for Henry Schein?

Right. So we have a very, very good team across the board with, I think, very good succession plans, Jeff. On the business side, we have Brad Connett, who runs the distribution businesses in North America, a veteran of 25 years with Henry Schein Dental Medical today. Andrea Albertini, who manages our international distribution businesses and the areas I mentioned, been with Henry Schein for over 10 years. Both Brad and Andrea are really experts in the field of dental products and distribution and marketing. And at the same time, we have great leadership at Henry Schein One. Chris King is managing that business today, but she's an exceptional bench. And so those are the business leaders. At the same time, we have a Chief Strategic Officer, who handles Strategy and Acquisitions, Mark Mlotek, also a veteran of 30 years. And Mark Letting, who's our Chief Operating Officer, who manages all the infrastructure and related services. So this team is at the very top. There's many more I could mention. Of course, Ron, took over in a smooth transition from Stephen. Gerry Benjamin retired also, and Michael took over his function. But underneath those leaders, there's a very, very strong bench of many, many young leaders and talented leaders. And so the company has invested a lot in succession planning.

Yes, fair enough. The other thing from the Analyst Day, you laid out, Ron, a long-term plan. Talked about some higher growth in the specialty markets kind of a little bit lower on the dental side, a little bit higher in medical overall. We could put numbers on all that. But is that LRP -- are we in an era where that LRP we should be thinking about is current, is active? Or do we need to get back to a more normalized economy really to be thinking about LRP-type goals?

Yes. With reference to the Investor Day, the -- we provided some assumed market growth rates, as you mentioned. So for example, on dental, we said kind of on a long-term basis, we expect the dental industry to be growing kind of 2% to 4%. And I would argue we're probably -- we could be pushing towards the higher end of that in recent days, just given the -- some of the activity we're seeing on, for example, in standard equipment. That growth is helping provide -- pushing that towards the higher end of that. Dental specialty is kind of 5% to 8%, we think is the long-term growth opportunity. We still think that's the long-term growth opportunity there. But specialty is going to be a little more vulnerable to macroeconomic conditions. And so you do get a little more vulnerability there. But we're seeing very good growth in our endodontic business. Our implant business continues to grow kind of in the mid- to high single digits. So we feel pretty comfortable with that 5% to 8% range, holding as well. Our Medical business, and when I talk about our Medical business is really the medical segment in which we operate. So really working with the ASCs who are still experiencing very good growth as more and more procedures worked away from the hospital into the ambulatory surgical centers. Of course, our physician customers and now as you know, we're starting to branch a little more into providing product to home health care providers as well. So as we look at that, that growth is expected to be in the market about 4% to 7%. We're trending more towards the bottom end of that this year, mostly due to last year, just a very difficult comp. Our Medical business grew consistently greater than 10% last year, each quarter when you take out kind of the affected COVID test kits and PPE. And so very difficult comps. And last year, we had a very robust flu season, which really drove a lot of traffic to the physicians. So we sold a lot of flu diagnostic kits last year that's not really repeating itself this year. Nevertheless, they're squeezing out a little bit of low single-digit growth for us, which we're grateful for. And then beyond that, our Technology business, where Technology and Value-Added Services, we're assuming growth in that 8% to 12% in the market. And I think we're solid towards the middle of that right now. We feel as Stanley mentioned earlier, our Henry Schein One business, and we're very happy with some of the progress they've made this year, and how that business is operating. So I think we're kind of solid in that range.

Okay. So some puts and takes as there would be any probably year of when you go across multiple different verticals. I would assume then if Tech and VA is healthy within that 8 to 12 , maybe specialty a little softer to offset. But it sounds like that still gives you good kind of margin progression as well. I mean maybe talk about this environment as a distributor. Costs are going up. Obviously, you've got the BOLD+1 initiative that has some cost control efforts in it. still comfortable as well with that 10 basis points plus of kind of annual margin expansion goal?

Yes, we are. I think that you can get year-to-year or period-to-period where it can fluctuate a little bit. And I think as we begin to shift more and more of the business to specialty and to Tech. Those are obviously very different profile businesses than a standard distribution business, much higher gross margins but also you have to make some investment in OpEx along the way, whether it be in R&D for the implant businesses or in software development costs for Henry Schein One. And sometimes those revenues don't match up with when you incur those costs. But nevertheless, we think that in the long term, we can consistently deliver 10 basis points of operating margin expansion going forward.

Yes. Fair enough. Stanley, I think there's many examples of Schein kind of leading the way over the last 20-some years that I've covered the company, whether it was the Demedis acquisition going into Europe and really starting to roll that business up, getting into the specialty side when you didn't have access to those products through some of the manufacturing partners. I think the other one was early on being a good partner to the DSOs, especially here in North America. So it's given you a good competitive advantage. Where are you in the DSOs in Europe? And it seems like DSOs in Asia are growing very fast, at least from our checks. So where are you in partnering with DSOs in Europe but especially in Asia, which I think is a little bit newer of a process?

So Jeff, firstly, let me just go back to the first question. I forgot to mention the leadership of our specialty business. We have tremendous leadership. I think probably the most stable leadership team in the implant oral surgery space of any of the companies. The endo leadership is incredible and so is the orthodontic leadership. But to answer your question, from our point of view, we remain the largest provider of products and services to the DSOs in Australia and New Zealand. There's been quite a lot of activity in that space, perhaps in the last 5 to 7 years. So it's growing significantly in that part of the world. China is not a very big business for us. It's hundreds of millions of dollars, and we do well with the DSOs in China from distributing branded products. We don't make much money from that. But where we do make our money is in the endodontic space and in the providing of implants to DSOs. Our focus in China is much more in the private sector. We do sell to the government area, but it's not that profitable. And it's a relatively small business. Japan is a joint venture, and I don't think DSOs are important there yet.

Okay. Fair enough. Maybe I didn't hear anything just DSOs in Europe there, but just more broadly -- but more broadly on Europe, I think there's been some mixed macro signals, but also some mixed dental feedback, especially in Germany but in a couple of other European markets as well. Just kind of your lay of the land of Europe right now from a consumption standpoint as well.

Yes. I should have mentioned in the DSO world in Europe. I think we only -- the only provider of products that has a Pan-European strategy in dentistry, and we cover a significant number of the emerging DSOs. I think the fastest-growing ones are customers of ours. There are some challenges in that area, a couple of bankruptcies, et cetera. But generally, there's good solid management in several of these big DSO groups, and they're generally customers of ours. The market is mixed. I would not say it's as bad as some of the analysts have written. There are some challenges in some of these markets. There is definitely a movement around, Jeff, amongst manufacturers. I think a couple of the manufacturers took their prices up a little too high. Others have moved in to fill that vacuum. So I think one has to look at the macro market, and not a 1 or 2 companies. So it is quite complex and particularly the case in Germany.

Yes. And I guess following up there, when I think of your product positioning, if there's a slowdown in Germany, you do have some of those other either branded product. Maybe not the highest end equipment so you can offer a more value proposition on the equipment that some of the manufacturers are stuck in the premium side only. And same thing with Camlog. Obviously, a good price point there, but a good market share. So yes, just wanted to follow up on what you said about it's not necessarily an overall market thing. It seems to me like you're fairly well protected there and well cushioned in Europe. Is that a fair way to think about it relative to some who might be at the more premium end of the scale?

So you have to break a little bit down by country. I would say in Germany, on the specialty side, particularly on the implants, oral surgery side implants and burn regeneration. We have an outstanding business. I would say in all modesty, the best management team in that field, and we've done extremely well. We continue to grow. We've grown that business for the past 10 years a really outstanding team. We also -- that's on the premium side, Camlog, by rights it's Camlog today. And then we have Medentis, which has done extremely well in the low end, high quality, but lower priced. On the equipment side, there has been movement on the traditional equipment. Some of the lesser known brands have done very, very well with us not because we're not supportive of the big brands, but they much more attuned to pricing in the marketplace. And there's been a lot of competition on the digital side. The units are doing well, especially the DI, but the players are a little bit different. I mean there's 1 or 2 players that have continued with their market share, but there's a couple that have not done that well and have ceded that market share to others. So -- and on the consumable side, there's a private brand. And there are some of the second and third layers of manufacturers that have realized that some of the big guys have gone too high. And so there's a lot of shifting going on there in Germany, but that shifting, you can see throughout Europe.

All right. That's helpful. And then on that pricing point, I mean, I think last year, we probably hit, what? Plus 2%, 2.5%, somewhere in that range, maybe even plus 2% to 3% from a pricing standpoint across kind of broadly across consumables if we roll all the manufacturers up. Your consumables growth in the second quarter, if I look at kind of the 4Q and 1Q blend and compare that to second quarter. In North America, it slowed by a few points. How much of that was pricing coming back from that plus 2% ,3% more to a normalized maybe 1% or sub-1% versus a change in maybe patient consumption or volume?

I can't give you a perfect answer. Having said that, my notes tell me, our gurus tell us it's 50-50. I actually think that in terms of profits, we've done quite well. In terms of price deflation, I think it's not price deflation with a particular manufacturer. It's movement to other manufacturers. And it's to some extent, movement to our corporate brand. What has happened is customers are more educated today than ever before. They're looking for value. And those that are prepared to meet the customers' needs and work with us are doing well, and we are doing well with them. So I expect that the market will recognize this in the months to come, and there will be adjustments. But a couple of manufacturers really price themselves a little too high.

Yes. Yes. How much of that is driven by dentists coming to you saying we need an alternative here versus you guys have been so good at putting formularies together and things like that. Do you make a proactive effort to say, "Hey, look at all these other options?" Or is it the dentists coming to you saying we need options?

For the larger customers, and that's particularly in the U.S., these are educated people. They know what's going on. And they will come to us and say, "We've got this particular product at file. Who are the players in that?" They know who they are. Who can you get us the best deal? So they view us, I wouldn't say as a pure-play GPO, but they rely on us to go and get them the best pricing. That is the case with the DSOs, large and midsize to smaller people. Our job is to -- we don't show a brand and a private brand next to each other like you find in drugstore, but we show the options, and the customers are doing their checking. And there's definitely an awareness, an educated consumer today more than ever. And it's not really driving our margins down. I mean our absolute dollars on a unit is still pretty good. But there is a shift and it impacts the top line. In the end, it doesn't matter because the operating profits for us will continue to grow.

Yes. Fair enough. And then, Ron, maybe just for you on the equipment side. We've seen, I think, that equipment on a probably trailing 12 month or maybe trailing 6 quarters or so growing probably, what? Mid- to upper single digits, 5% to 6%, 5% to 7%, somewhere in there, maybe even a little above that. How much of that is -- and I'm talking mainly North America now -- how much of that has been price. And I think some of the A-dec price increases and that kind of went in last spring to summer kind of area. Do we anniversary through that now that TTM growth rate comes down? Or is there a volume backfill that can kind of offset? Just how to think about kind of the moving pieces on the equipment side?

There is some price favorability that we're getting this year still. I think that's...

Probably through the year?

I think it will. As we work the backlog down, if we have the opportunity to work the backlog, the backlog really didn't move too much in the second quarter. But as we work the backlog down, we will see some price benefit come through because we took delivery on that product, and we don't record the revenue on that product until we actually install it on behalf of the customer. So we'll see the effect of that price increase happen at that point in time. So you're right. In North America, especially on standard equipment and really talking about standard equipment versus high tech. We had essentially double-digit growth in standard equipment in the second quarter. I would say perhaps a little less than half of that would be price related. But nevertheless, we're very pleased with that level of growth, especially in light of the backlog not coming down.

And in the environment where dentists are saying, look, Brand A and Brand B have gotten too expensive. I'm going to go to Brand C. Is that possible or even happening in basic equipment? Or is there going to be better price sustainability, pricing gains that can continue into '24, '25 in an inflationary environment? Can those companies continue to take price? There's fewer manufacturers. There's preferences that maybe are a little stronger in some of those. So how to think about sustainability and pricing thing...

I would say, Jeff, in North America, there are very strong brands on the equipment side, on the traditional side. I don't think that's going to result in movement of share amongst manufacturers on the traditional side. At least the top 2 of them. In Europe, it's a little bit of a different case. We've seen dentists rebel and Andrea is nodding. And they've just said to us, it's enough, it's high -- great. These brands are great. But it's -- it takes a place like Germany, where people are not looking for the most perfectly engineered product that may have been great. Maybe looked at it that way 10 years ago. They want to see the best value. There's plenty of -- there are plenty providers that are servicing that need.

DSOs, just I think, back to the North American equipment market. It sounds like there's the strong brand reputations and we're seeing it in areas outside of dental where on the base -- or on the capital side, you can push a little bit bigger price increases than normal. But I also think there's this dynamic in the North American market with DSOs are the biggest consumers probably of basic equipment, and they're not going to necessarily continue absorbing those higher prices, I would think, so even in North America, you think these pricing like...

There's -- you have to be careful with the traditional chairs, units and lights. There are some very strong brands. But with the rest of the market, it's -- they're looking at price, especially with the digital.

Yes. Fair enough.

And then there are -- there's a couple of anchors in there that based on features and benefits, will keep their market share. But this is a fluid market. And we're being asked all the time for alternatives that early on.

All right. Yes. Let me ask a question on 3D printing, and then I want to maybe just finish up in Tech and Value-Add. On 3D printing, I mean, -- we hear a lot of excitement. I think the excitement is probably a little bit ahead of the true utilization or capabilities of what's possible in the dental office. What's the next kind of -- does it have to come on digital dentures? Does it have to come on clear aligners? What's the next step to really push 3D printing into the dental office and get the uptake there?

Yes. I think it's -- like with the scanners, there's the early adopters. We have the early adopters. I expect that in the next couple of years, it will be standard of use or standard of purchase. I don't know if they'll buy them because -- I know they'll buy them. They're not that expensive. Will they be integrated into the practice? I think that very much depends on functionality and the availability of diverse materials. So that's maturing. I think the denture will come, the 3D denture one.

Yes. And then...

We showed you one at our investor meeting. Yes, it will come. I mean, like with all products, I'm sure, have some challenges when it's launched and but it will come.

Will that be ahead you think of true crown capabilities? Or do you think we're close enough with crown's right now with some of the providers out there?

Very hard to tell where this is going to go. A lot of it's...

Through your crowns now.

Yes. I mean...

Yes. That's it. The front is not...

You're still seeing good customer reaction to that. I mean, obviously, there's some question on is it a temp? Permanent and things like that?

It's good. The customers want it. I just saw on my e-mail this morning, there's a seminar on using 3D printing for cosmetic purposes. I would like to see that. And I asked some of our people to tune into that seminar. This is going to move. The fact that the ADA has approved this so quickly as a product code -- procedure code is very exciting. We were selling a lot of these things. I think we're today the #1 provider of these 3D printers in most countries that we're in, and the lab is moving exceptionally fast into that area.

Yes. All right. Well, 45 seconds. So Ron, that means it's a question for you, not Stanley, we have 45 seconds or so.

35 minutes.

Yes. In Tech and VA, just I think between Tech and VA and specialty, when those -- when we're back in good markets, those are all growing and all that, the real story to Henry Schein here on both the revenue and the margin side from putting those 2 businesses together. But the Tech and VA, you think going forward, can sustain at that upper single to low double digits. Is that a long-term sustainable? And do you sustain upper teens margins in that business?

Yes. I mean we expect it. Like I said before, we got 8% to 12% market growth assumption in our long-range models. We think we can operate within that market growth assumption and take some market along the way as well as increasing size of wallet with our existing Henry Schein One customers. And that should give us some accelerated growth there. So no, we do it. And we will -- I think we can continue to get the margins we have right now. Like I said, you occasionally have to invest in some development costs that can create a little bit of lumpiness there, but I think over a long-term period of time, we can definitely maintain those margins.

All right. Fair enough. Well, I think our time is up. So please join me in thanking Ron and Stanley for a wonderful overview here of Henry Schein. And as a reminder, the next presentation is set to begin at 10:50 a.m. Eastern Time, include Exact Sciences, Ambrx Biopharma and Vital Connect. Thank you.

Thank you.