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

Okay. Good morning, everyone. My name is Vik Chopra. I'm one of the Medical Device Analysts at Wells Fargo. And for this session is Ron South, CFO. Ron, thanks for being here.

Certainly. Thank you, Vik.

Let's just get into the second quarter reported Q2 results about a month ago. Just curious what investor feedback you've received? What are you focused on post Q2?

Yes, certainly, Vik. I think as people are probably aware, our results were a little less than what was expected. We did see a little pressure on the stock that day. But since then, the stock price has recovered to a level that is back to where we were prior to our release. I think it's an indication that as investors had the opportunity to kind of digest our message, indicate why we were holding our -- maintaining our guidance for the balance of the year. They began to understand the story a little better, and we did see the recovery in the share price. So a lot of the investor communication we've had since then, it's just kind of understanding what are some of the initiatives we have in place to accelerate earnings and what are the kind of general expectations kind of going forward beyond 2025.

Okay. Great. On your second quarter call, you called out good momentum in July. I'm just curious if you have any color to share post that, like what trends were like in August? Has that positive momentum in July carried into August as well?

Yes. I mean, typically, we wouldn't provide kind of intra-quarter guidance like that. But I will say that, like I said, we were pleased with our results in July. We saw, I think, some benefits from some of the promotional activity that we had in the second quarter. And now it's just our job to try to make that a little sticky, develop a strategic relationship with some of those customers that we obtained through that promotional activity and allow that to be a part of our revenue base going forward.

Okay. Great. Maybe just talk about how you see the rest of the year playing out from a cadence perspective on the top line? How do you feel about current consensus estimates and what drives the step-up in revenues in Q4 over Q3?

Certainly. I mean Q4 revenues are typically better than Q3 revenues. As we see Q3 can sometimes be a little soft with our European businesses and the holiday season. But Q4 is often strong as it relates to equipment. We see a lot of tax incentive buying of equipment in the fourth quarter. So we do expect the fourth quarter to be stronger than that of Q3. I think also on the top line, with reference to equipment, we did see some pressure on equipment in the first half of the year. Some of that was driven by some uncertainty around what was happening with tariffs, not so much directly to equipment buys, but just kind of that macroeconomic uncertainty. The feedback we're getting from customers now and the ordering patterns we're seeing from customers is more back in line with what we would expect. And as we said on the call last month, we were comfortable with the backlog we had in equipment and the general demand we were seeing through the ordering process for equipment, and that's why we believe we can get equipment growth in the second half of the year as well.

Okay. Great. So the EPS guidance implies a pretty big step-up in Q3 from Q2 and then another step up again in Q4 over the third quarter. Just talk about the drivers here and what gives you confidence in a back half ramp on EPS?

I think part of it is, like I said, with reference to the improvements in the equipment area, we do believe we can get some improved growth in dental merchandise coming out of the promotional activity we did in the second quarter. And just carrying the momentum, I believe, as we've seen with our -- in our technology business. We had good momentum going from first quarter to second quarter at Henry Schein One, very good kind of targeted investment by that business and reducing costs and making better use of some of the OpEx. Our technology sector had -- our segment had greater than 30% operating income growth in the second quarter versus the prior year. So we were encouraged by that. We think we can continue with good growth there. Keep in mind, too, the second half of the year, we do expect to have a remeasurement gain that will occur in either the third quarter or the fourth quarter, depending on the timing of the related transaction. I suspect that gain will be somewhere in line with what we have seen in similar remeasurement gains the last couple of years, and that will also benefit earnings in the second half.

Okay. Great. And just stepping the back, big picture, looking at the macro environment, the operating environment, how are you thinking about that in 2025? What are the potential headwinds and tailwinds to keep an eye out for? And would just love to get your thoughts around the trajectory for the dental market, which has obviously been pressured into -- in the U.S.

Yes. The dental market, especially in the U.S., has been relatively flat the last couple of years. If there's been any growth, it's been fairly tepid growth. You're really looking at something in the very kind of low single digits. It's really indicative of, I believe, not as much expansion to the -- in dental services, more practices opening up. We do see some of our DSO customers are continuing to build de novo practices. But coming out of the pandemic, there were an increase in the number of dentists who were retiring. You had some fairly, I would say, strong disruption to the end market. A lot of patients changed dentists as part of the pandemic. That created opportunities for a lot of dentists. We saw a lot of good investment in equipment for a couple of years that has now kind of leveled off some as many practices were adding a new chair, building out new operatories. But I do think that as we begin to see perhaps lowering interest rates, we were just in the last breakout session that I was just in, we were talking about interest rates. And I think we've all been expecting interest rates to go down for some time now. At some point, it might actually happen. And I think when it does, we'll see an acceleration in the pace of growth of new dental offices opening up. And I think that expansion of the supply of dentistry services is obviously beneficial for us. It require more equipment in those new practices. There's clearly sufficient demand for dental services. So we're confident that those new offices will fill up with patients fairly quickly, which means the churn of consumable merchandise will pick up. So I think there is opportunity for us in the coming years as we see perhaps a more favorable interest rate environment and greater investment by our customers in their practices.

Okay. Great. You also highlighted some targeted sales initiatives in Q2. I'm just curious, as the company has returned to normal levels of promotional activity, what strategies do you have in place to sustain the momentum and customer loyalty gain from these campaigns?

Well, there's a couple of different ways we've approached this, right? So we targeted customers who were buying some product from us, but they were fairly low volume customers. We knew they were also buying from other distributors at the same time. And so we targeted them. And in some cases, we're able to get commitments from them to purchase a minimum amount of merchandise over a period of time in exchange for a rebate at the end of that commitment period if they fulfill that commitment. That gives us time to engage with that specific customer so that they can better understand what are some of the value-added services that we can also offer them. Our strategy with our customer base is to help them run a more profitable practice, not just -- part of that is delivering merchandise and installing equipment for them and doing all these things that are fundamental. But it goes beyond that to what can we do to help them run a more efficient practice. And so by engaging with that customer for a longer period of time and getting that commitment from them to purchase from us for a longer period of time, it gives us the opportunity. And we've also increased the number of salespeople we have so that we can -- we have the resources available to engage with those customers. It gives us a better opportunity to educate them as to what we can do to help them with other pain points in their practice. I always kind of use the example that if you sat down with a focused group of dentists and ask them, what is the -- what are the things that are pain points for you? It's not that they wish they could buy consumable merchandise like cotton balls or gloves for $0.05 or $0.10 cheaper, they want to be able to get reimbursed faster by their insurance company. They want to be able to increase their reimbursement rate from insurance. They want to hire a hygienist. There's a number of things they want to do that we can help them with and help them run a more profitable practice. They want to see more customers. They want to be able to see more patients in a day. We can help them improve their capacity if they want to see more patients in a day. So those are all areas that if we just get the opportunity to engage with some of these customers, we think we can make them more sticky going forward.

Okay. Great. So in September, I'm sure you're planning for 2026. Any potential headwinds or tailwinds that you call out on the top line and any items that will impact the P&L next year that you can highlight broad strokes?

Certainly, Vik, as you know, I mean, whenever I start talking about '26, I'll start with -- this is not '26 guidance, but we will provide -- we're planning on providing 2026 guidance as part of our Q4 release next February. But some of the things we'll take into consideration when looking at '26. One, we state the obvious, what's happening in the markets? What are we seeing in terms of market growth rates? What kind of trends are we seeing in core dental, in core medical, what are we seeing in specialty dental because sometimes those growth rates will differ -- frequently, they will differ from what you see in core dental. And what kind of developments do we have in our technology business. All those areas will come into consideration. We'll also have to take a look at what's the most recent tariff environment. It has been changing. It does have an impact on pricing. It does have an impact on how we negotiate with our suppliers. It also has an impact on how we negotiate with our customers. So what's that tariff environment? And has that stabilized? And what economic challenges or benefits do we think we may be able to generate from that? And then also, one of the things we mentioned in our earnings release last month was that we have initiated 2 value creation projects. I describe it to people as if you look at the P&L and cut the P&L in half, the top half gross profit. We have one value creation project that is looking to optimize gross profits. And that's not just how do we increase revenues. It's also how do we work smarter to improve gross margins and gross profit through either greater acceleration of our private label products, a better negotiation of how we acquire products. There's a lot of different areas there that we can look at that we believe can improve gross profits. And then also the bottom half of the P&L, G&A costs. While we have been, I think, quite good at reducing costs over the last several years, it tends to be related to companies that we have acquired and how do we rationalize some costs there and how do we combine some costs within certain business lines. But now stepping back from it from a global perspective, how do we operate more efficiently from a G&A perspective. And we have a different group of consultants who are helping us with that piece. So what do we think we can deliver going forward in terms of value, in terms of what can drop out to the bottom line, both in gross profit and G&A going forward will be something else we consider for '26.

Okay. Great. So let's double-click on these value creation projects that you just talked about. When can we expect to hear more around the specific details on the expected cadence and magnitude of these savings?

So we're in the middle of what I'll call the assessment phase right now where we are developing estimates of what we think the opportunity is and then pressure testing those opportunities. Our intent is that when we provide our third quarter earnings release, which is typically around the first week of November, that we will be able to provide some color around what those expectations will be for both projects for both the gross profit optimization as well as the G&A optimization.

Okay. And I'm just curious, are these expected to be upfront cost savings? Or are you expecting this to be a more consistent gradual enhancement to profitability?

I think there will be some short-term benefits. But I think the more important -- the goal of both of these projects is to provide long-term sustainable value to the business. So while there could -- there will be some short-term benefits, I think the -- we will see incremental benefits as we progress through '26 and even well into '27.

Okay. Great. On your restructuring plan, you've said that you expect to be above $100 million in annualized run rate savings. Can you provide a breakdown of the specific areas where these significant savings are being realized? And just to add to that, what portion of these are from the rightsizing of expenses in the distribution business versus the consolidation of the manufacturing facilities?

Certainly. So I would say some of the savings that we achieved in 2024, when we announced this plan, it was almost exactly a year ago, it was in August of last year. And some of the initial savings that we achieved in 2024 was really through the fundamental reduction of headcount in our distribution business as we rightsized that business to reflect really what the ongoing growth rate was in distribution at that point in time. So that was the immediate cost savings that we were able to generate from it. Then you have some of the additional cost savings that we have been able to get over the course of this year from more complex matters such as combining some operations in our endodontic business, really kind of stripping down some of the infrastructure in our orthodontic business and folding it into the operating infrastructure of our U.S. Dental business. Those are the areas that we have really focused on over the course of 2025 and where we've been able to get more meaningful savings within those -- that's really our Specialty Products group, if you're looking at it from a segment perspective. If someone wants to see where are we incurring restructuring costs, the restructuring footnote in our SEC filing will show you one of the required disclosures is where are you recording restructuring costs by segment and people can see what that level of activity is in each of those segments.

Okay. And I'm curious how you balance the need for cost cuts with continued investment in your growth businesses? And then how much of that $100 million in annual run rate savings will fall to the bottom line versus reinvesting it back into the business?

Yes. It is a delicate balance. I mean you have -- we've made some significant investments in the last several years in some of the specialty areas of dental. Specifically, we bought an implant manufacturer in France and an implant manufacturer in Brazil. We are very bullish on the long-term opportunities in the implant industry. You don't want to make cuts that could sacrifice your ability to grow with the market once the market improves in implants. Having said that, you can still find opportunities to run the companies more efficiently and when we see that we are doing so. I would say in terms of what falls on to the bottom line, and I think this always gets to be kind of a tricky question because you can identify $100 million of savings. But is that $100 million going to immediately fall to the bottom line? I would say, yes. you might also have to reinvest in certain aspects of the business. Quite frankly, those are areas of the business that we probably needed to invest in regardless if we had taken that $100 million of savings or not. So are we reinvesting the $100 million? Or is that just investment that we made and we got a net benefit by also taking out $100 million. At the end of the day, taking out $100 million of cost improves your operating income by $100 million, net of the other things that -- other areas of the business that where you need to invest regardless of you made those cuts or not.

Okay. Let's talk about capital allocation. I think you have about $400 million left in your share repurchase authorization program. You said you bought back stock in the second quarter. Just given the stock reaction after Q2 results, how are you thinking about share repurchases today?

I think that typically, prior to, say, I would say, leading up to around 2024, we were doing typically around $300 million to $400 million of share repurchases in a year. If you look at what we've done in the first 6 months of 2025, we obviously have bumped that up a little bit. We do see at the stock at these levels, we see this as opportunistic. And our accretion models show it's a very good use of capital for us. The Board has given us some authorization -- some additional authorization over the course of the last year or so. And so we continue to -- as we look at the accretion model and we look at the use of capital, we see share repurchases as a very effective use right now.

Okay. And then just maybe talk about your M&A pipeline and your acquisition strategy more broadly. I mean, I know M&A is in the DNA of the company, but would just love to hear your thoughts about the pipeline.