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

All right. Good afternoon. Why don't we get started? My name is Jeff Johnson. I'm one of the senior medical technology analysts at Baird, and our next presentation this afternoon 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 from Schein, we're happy to have CEO, Fred Lowery; and Chief Financial Officer, Ron South. Fred, I'm going to give you kind of opening remarks here, if there's anything you want to say and -- or we can move right into Q&A.

Well, let me just start by saying thank you. Thanks for having us. We're excited to be here. I am 6 months into the role now. And I guess the good news is that I'm more excited about it 6 months in than I was coming in the door, and I'm more excited because I see more opportunity than I did coming in the door. And so I feel really great about that. I'm excited to talk to you about what's driving that. Very excited about where we are with value creation. I feel very committed and confident that we're going to deliver on our commitment there and excited about areas that we can grow the business faster. I want to talk a little bit about that today. And then the 3 priorities that I have, accelerating growth, simplifying the business and driving more operating rigor in the business. So looking forward to the conversation.

All right. Great. Well, let's jump right in. So I was thinking about it, I think this is my 23rd year at Baird. And so that would mean about 22 conferences with your predecessor with Stanley. Obviously, a big change at the company. Stanley has been there for many, many years, has been well loved throughout the entire industry. How have employees responded to the change? And just kind of what's going on inside the company at this point for the first -- change for the first time in 30-some-odd years?

Well, let me just say, nobody is standing. It's an impossible thing to be. But no, I would tell you that the feedback from our Team Schein members, which is what we call our employees, has been very positive. People have really leaned in. I hear people say things like, hey, this has been really a refreshing change. I hear people say, "Hey, we know that we need to change in order to be better, and we're excited about the opportunities ahead of us. And as you know, we have an amazing culture inside Henry Schein, where our Team Schein members are very focused on supporting our customers. They're mission-driven and they're focused on supporting each other, and they're excited for us to continue to improve in the future. So I feel good about so far how people have really leaned into the focus areas.

All right. Great. And I saw one of your channel partners in the room. I don't know if he's stuck around or not, but there's also been a change, obviously, or you've had to go out and meet all of your customers and your channel partners and manufacturing partners. Again, a change for the first time in a long time. How have those relationships begun to grow? We've always heard dental is kind of a special area, and it takes time to build relationships there. Where are we in those -- that relationship building?

Yes. I mean I've certainly been out with lots of customers and lots of our suppliers and other partners and working on building those relationships. But the good news is that's one of the things that really makes Henry Schein special is the deep trust that we've earned over the years with our customers. They really do trust us, and they absolutely want us to help them make their businesses better. And I'd say the same for our suppliers. I think our suppliers have -- we have deep trust with our suppliers. And as I think about it, people are excited about the access that we provide to customers. And as we continue to grow and take share in the market, our suppliers want to be a big part of that. So, so far, so good. I feel good about those relationships, and I'll continue to personally work on those relationships. But it's really our 26,000 team members who have developed those relationships over the years that matters.

All right. Great. And then I think when you came on board, Schein was in the early stages and you've kind of moved those efforts nicely along on an operating income improvement plan, $200 million of operating improvement expected -- operating income improvement expected over the next 2 to 3 years. One, your thought process on how you let some of that drop through to the bottom line versus how much you reinvest in the business? Obviously, in the past, there's a lot of discussion that through some of these plans, it didn't really drop through the bottom line. But your commitment to doing -- to letting it drop through, number one. And number two, how does that help you go on the core side of the business, reinvest and really drive this continual process improvement?

Yes. So I think it's really important. I love the way you phrased it, is operating income improvement of a couple of hundred million dollars over a few years. And we see that as net improvement, so dropping through the bottom line. But what's important, as you look at it, it's not a one-and-done thing for us. This is -- these are areas where we're building new capabilities into the company that we're going to benefit from beyond just the $200 million. And I'll give you a couple of examples. On the gross profit side, one of the areas we're focused on is improving our pricing process. So we've added capabilities from a pricing standpoint, both in people, in process, in tools and systems. And so we're going to benefit from that, and we are benefiting from that now, but we're going to benefit from that in the future, both so that we can raise price in a more targeted and proactive way, but also lower price where it makes sense, where we want to gain share. And so that's an example of a capability that we've built. And on the cost side, as we mentioned -- have mentioned earlier, we're outsourcing -- one of the activities we're outsourcing some of our back-office functions, and we're in the middle of doing that now. We started with 2 functions, finance and customer service, and we're working our way through that. And over time, we'll add other functions to it. But we started with a lift and shift where we are gaining the labor arbitrage. But over time, we're going to standardize those processes that we owe multiple processes. And then after we standardize, we'll build technology on top of that to streamline and lower the cost. So we're going to continue to see the benefit from that beyond this $200 million. So think of us as really building the company to be able to scale without adding a whole lot of extra cost. So that's really the opportunity set there.

And I think on your last quarterly call, and it might have even been the last 2 quarterly calls, you've kind of alluded to -- it's not necessarily in guidance, and obviously, you haven't guided to '27, but to double-digit EPS growth. Is that a commitment that you feel comfortable making to your investors and to the Street over the next year or 2? Or am I overreading some of your comments?

No, I think you're reading it exactly right. I think what we said is that we're going to deliver this $200 million. We're going to accelerate the growth in our business, and we're going to grow double digit. That's EPS.

Yes, exactly. You're comfortable with that. Good. All right. Maybe if we can shift over to the end markets. I think there's been maybe some mixed signals over the last few quarters. Maybe walk us through your view of the world on dental trends in the U.S. versus Europe versus the rest of the world.

Yes. I mean we think the dental market in the U.S. is steady. I mean there's no new news from our last discussion in our earnings call on the market. We're outpacing the market growth, of course, so we're taking share there. We think the dental market in Europe is growing nicely for us as well, and we don't see any significant changes to that market either. Early in the year, we saw the European market kind of outpace the U.S. market. And I think about specialty in particular, and maybe even more specifically the implant business, we see faster-growing market in Europe versus the U.S., but we actually are participating well in the U.S. market, and we're excited about the value end of that market. We see more growth in the value end in the U.S. market coming. So that's how we think about the global.

And you're building a value -- sorry, I didn't even know -- you're building a little bit more or putting a little more effort behind the value business here in the U.S. following the S.I.N or the S.I.N. transaction...

We are. So we became the majority owner of the S.I.N. value implant business back in Q1. And so that is going well, small base, but it allowed us to really orchestrate our strategy between our premium brand in the U.S. and our value brand. And so that's on track and going well.

Okay. And -- on the other specialty side of the business, on the orthodontics business, I haven't heard you talk a whole lot about that. I think I saw LinkedIn, you were over at the Smilers plant maybe recently or something like that. I might be wrong on that. But I guess my question is, what is your commitment to the clear aligner space? It's a more and more competitive space. It hasn't necessarily grown a ton. And outside of the top 2 or 3 there, it's pretty hard to make a profit or turn a profit in the clear aligner business, at least subscale, it is. So how are you thinking about the clear aligner business going forward?

Yes. Just specifically on clear aligners and just obviously, orthodontics in general, it's a small part of our business. So it's not something that we're going to -- we spend a lot of time talking about. However, the business is performing pretty well. But it's a very small base, and it's really not -- I would say it's not material to the overall business. And specifically on the aligners piece, we have a really strong regional position in our business in France, and we're happy with the growth of that business.

All right. All right. Ron, I'm going to ask you a couple of questions. Just on the consumables side of the business, I think you've grown a little over 4% in the first half of the year on the North American dental consumables side. You put up a 6.5% number in the second quarter. I think it was at least a couple of points above what I thought was even aspirationally possible. What's going right in that consumables business in a market that every way I dissect it, I feel like consumable volumes are probably flattish. How do you get to 6.5% growth? And what's the sustainability of at least a good solid above-market growth rate?

Yes. Something we talked about in the Q2 earnings release was that 6.5% growth rate was really probably about half of it was the contribution from volume, about half was contribution from price. But on the volume side, that means we're taking market share. And there's a number of things, I think, that are contributing to that. There's -- we see better growth in our private label merchandise. I think we said that we had about 2x growth rate in private label versus our third-party brands. Also, as DSOs continue to slightly outpace the growth of the overall market and our position with our DSO customers, we get the benefit of some market share gains there as well. And on the pricing side, I think it's -- there's a number of things. You're seeing a little bit of dynamics perhaps with PPE with some stabilization on the pricing there. But also, I think some early benefits from the value creation initiative we have around gross profit. that where we're getting a little more -- a little smarter on the pricing, a little more scientific approach on the pricing is giving us some help on some early dividends from that initiative.

So out of...

I'll just add, if I could jump in. I think there's 2 other things that where we're seeing some momentum. One, if you go back to the second half of last year, where we did some promotions and we really engaged some of our, what I would call more episodic customers who are not buying from us regularly. We actually have retained a lot of that business. And that's helping us from a share gain standpoint. And I think the last one is just we've been successful, just kind of a net positive in having more reps join us from other companies, and we're seeing that help us from a growth standpoint also.

Yes. No. And there are some competitors of yours out there that continue to struggle, continue to lose some reps, maybe a business that is in play right now. How much is that helping you? I mean, as I think about, let's say, you settle in at 4-ish percent consumables growth, can price stay a point or 2 and then these other exogenous factors help you by a point or 2 and then the market is 1 or 2. Is that a way to think about a sustainability of 3 to 4 or something like that? I don't even know if my numbers add up as I say that, but it seems like all 3 of those factors are helping.

Yes. I don't want to give any future guidance.

Yes, yes, yes. No, no, you can separate that...

But I do think you've got the right levers. I mean the only other lever I would add is that our exclusive products are actually doing really well also. We've mentioned Curadot before, and we have that product exclusively, and we think that is also a lever for growth in the future.

Yes, for sure. I mean some of the Curadot numbers I've heard, absolutely seems to be adding to your growth. I hope it can continue to build. And that is an exclusive. Is there any chance that could go away from being an exclusive?

I don't want to disclose any contractual things, but we feel really good about our relationship, and we think that's going to be in a exclusive relationship with some period of time.

Okay. And I made a comment about 1 smaller distributor that might be in play I'm sure you won't confirm or deny. We've heard maybe that Schein has passed on that business. I guess the way I would phrase the question is, in the past, it seemed like Stanley would buy a lot of things, including smaller distributors, just to take -- capture more customers or to -- for whatever reason. And it sounds like you guys have maybe passed on that deal. What's your strategy? Or how do you view your M&A strategy may be different than past management? .

Yes. So let me just be clear. You're right. I'm not going to comment on specific M&A. But as I think about M&A, definitely will be a part of our growth algorithm in the future. But relative to the past, I think you'll see us be more disciplined in our M&A approach. And what I mean by that is that we're going to focus on things that are highly strategic. And by highly strategic, I mean, assets that will help us continue to be the value creation platform for our customers. So things that are additive in that regard. And then secondly, things that are going to help us from an organic growth standpoint. And then finally, we absolutely are going to focus on things that drive really good returns for our shareholders as were measured by ROIC. So I think that's the way to think about our strategy in the future.

All right. Fair enough. Ron, just going back to your comments on the consumables, the 2Q number there at 6.5%, almost half of that price. So call it, just north of [ 3. ] How much of that was pass-through of your manufacturing partners raising price versus some of this, whether it's dynamic pricing you're doing, some of the other smarter pricing you've referred to just your own internal efforts on pricing that doesn't have necessarily to do with your acquisition price from your partners? .