Henry Schein Inc

NASDAQ:HSIC

Earnings Call Transcript 2018-Q1

[Operator]

Good morning, ladies and gentlemen, and welcome to the Henry Schein First Quarter 2018 Conference Call. At this time, all participants are in a listen-only mode. Later, we will conduct a Q&A, question-and-answer session and instructions will follow at that time. As a reminder, this call is being recorded.

I would now like to introduce your host for today's call, Carolynne Borders, Henry Schein's Vice President of Investor Relations. Please go ahead, Carolynne.

[Carolynne Borders, Henry Schein, Inc.]

Thank you, Cyressa, and thanks to each of you for joining us to discuss Henry Schein's results for the 2018 first quarter. With me on the call today are Stanley Bergman, Chairman of the Board and Chief Executive Officer of Henry Schein; and Steven Paladino, Executive Vice President and Chief Financial Officer.

Before we begin, I would like to state that certain comments made during this call will include information that is forward looking. As you know, risks and uncertainties involved in the company's business may affect the matters referred to in forward-looking statements. As a result, the company's performance may materially differ from those expressed in or indicated by such forward-looking statements. These forward-looking statements are qualified in their entirety by the cautionary statements contained in Henry Schein's filings with the Securities and Exchange Commission.

In addition, all comments about the markets we serve, including end market growth rates and market share, are based upon the company's internal analysis and estimates. The content of this conference call contains time sensitive information that is accurate only as of the date of the live broadcast, May 8, 2018. Henry Schein undertakes no obligation to revise or update any forward-looking statements to reflect events or circumstances after the date of this call. Please limit yourself to a single question and a follow-up during Q&A to allow as many listeners as possible to ask a question within the one hour we have allotted for the call.

With that I would like to turn the call over to Stanley Bergman.

[Stanley M. Bergman, Henry Schein, Inc.]

Thank you, Carolynne. Good morning, everyone and thank you for joining us. The start of 2018 has been a tremendously busy and really such an exciting time for Henry Schein and our business continues to perform well with solid sales results.

We recently announced two very important transactions that refine our strategic plan to position the company for long-term growth and support the evolution of the business. We expect these actions will build shareholder value for years to come. These are two transformational transactions that we really believe will have lasting impact, positive lasting impact on the company's future.

The first was the announcement on April 3 regarding Henry Schein's dental technology joint venture named Henry Schein One created to deliver integrated dental technology to help the proficient improved practice management and marketing as well as patient communication. This transaction is expected to close later this quarter and we are very excited about the added benefits we can deliver to our customers who seek to build workflow efficiency and bring patients to their practices for treatment generating growth opportunities for our business.

The second important transaction we announced is an agreement to spin off Henry Schein's Animal Health businesses as a separate public company which will then merge with Vets First Choice to create Vets First Corp. This combined company will be a new global leader in animal health. This transaction brings together the power of data analytics, digital communications, practice management software and supply chain expertise into a multi-channel platform.

Vets First Choice will serve as an end-to-end solution to drive improved financial and health outcomes for the over 80,000 animal health practitioners – practices, shall we say, worldwide, and will offer veterinarians new services and solutions to deliver high quality care to their patients and enhance the economics of their practices. Ultimately, we believe this will help clinicians achieve better outcomes for their pet patients, compete more effectively and improve practice efficiency.

We believe the spin-off and the merger will unlock shareholder value for both Vets First Corp and Henry Schein by positioning each company for above market growth allowing for streamlined focus and enhanced capital allocation. For Vets First Corp, we expect synergies driven largely by accelerated revenues from the adoption of the Vets First Choice platform across the Henry Schein health customer base.

More specifically, Henry Schein Animal Health and Vets First Choice expect synergies to grow annually. So that's in year three, synergies for the combined businesses will be in excess of $100 million in operating income. Of course for Henry Schein, this transaction will enable us to drive new opportunities for growth as we increase our focus on helping dentists, dental laboratories, and physicians operate more efficient practices, so practitioners can deliver quality clinical care and advanced wellness and prevention.

We will continue to provide innovative solutions through our high touch value added solutions model for our Dental and Medical customers across the globe. The correlation between good oral care and good health care in general lends itself to the focus on both our Dental and Medical customer bases as we advance a one-Schein strategy across the entire human spectrum of health care.

In line with this, we expect to deliver EPS growth for the remaining consolidated business once the transaction closes later in the year and we expect this to be in the high-single digit to low-double digit range. We are excited about the significant opportunities Henry Schein's Dental and Medical businesses will generate as we implement our 2018 to 2020 strategic plan.

Building upon our long history of successful reinvention, the company will continue to expand our offering of innovative solutions for our Dental and Medical customers. Really very, very exciting times. These two transformational transactions one, helping to advance Henry Schein Dental and Medical strategy, and the other to advance our Animal Health strategy in a spin-off company that will merge with a leading solutions company to create really exciting opportunities for the Animal Health business as well.

So I'll now hand the call over to Steven to review our financial results, and then I'll provide some additional commentary on our recent business performance and accomplishments. So Steven, please.

[Steven Paladino, Henry Schein, Inc.]

Okay. Thank you, Stanley, and good morning to all. As I begin, I'd like to point out that I will be discussing our results as reported on a GAAP basis and also on a non-GAAP basis. Our Q1 2018 non-GAAP results exclude restructuring costs as well as specific transaction cost related to our recently announced Animal Health spin off and merger with Vets First Choice.

We believe the non-GAAP financial measures provide investors with useful supplemental information about the financial performance of our business, enable the comparison of financial results between periods where certain items may vary independent of business performance, and allow for greater transparency with respect to key metrics used by management in operating our business.

These non-GAAP financial measures are presented solely for informational and comparative purposes and should not be regarded as a replacement for the corresponding GAAP measures. You can find a reconciliation in Exhibit B that was issued in this morning's earnings release and in the Investor Relations section of our website.

Turning now to our results. Net sales for the quarter ended March 31, 2018 were $3.2 billion, reflecting a 10.2% increase compared with the first quarter of 2017. Internally generated sales growth in local currencies was 3.8%. When also excluding the impact of certain products shifting between agency sales and direct sales, our normalized sales growth was 4.9%. You could also note the sales growth details that are contained in Exhibit A of our earnings news release.

Our operating margin for the first quarter of 2018 was 6.4% contracted by 23 basis points compared with the first quarter of 2017. And that reflects a few different factors. The first relates to the inclusion of restructuring costs as well as the transaction costs related to the spin-off of our Animal Health business. These two items combined negatively impacted our operating margin by 23 basis points.

The second relates to the impact of the previously announced one-time cash bonus for certain designated staff members which negatively impacted our operating margin by 10 basis points. Third, acquisitions completed during the past 12 months and the related expenses as well as the impact of sales switching between agency and direct sales combined to negatively impact the operating margin by 8 basis points.

If you want to exclude the net impact of these three items, our operating margin expanded by approximately 18 basis points on a year-over-year basis. I'm pleased to note that we reported lower year-over-year expenses as a percentage of sales as we continue to realize operating efficiencies from restructuring efforts. We will continue our commitment to improve efficiencies across the businesses that we expect will drive long-term earnings growth.

If you look at our reported GAAP and non-GAAP effective tax rate for the first quarter of 2018, it was 24.7% which compares to 20.7% in the first quarter of 2017. This increase was due to the lower benefit from stock-based compensation related to ASU 2016-09 as we mentioned would be the case during our Q4 earnings call. We believe our full year tax rate will be in the 24% range going forward.

Moving on, net income attributable to Henry Schein, Inc. was $140.2 million or $0.91 per diluted share on a GAAP basis, representing a decline of 0.4% and an increase of 3.4%, respectively, compared to the first quarter of 2017.

Note that these results include the impact of approximately $0.02 related to the one-time cash bonus for certain designated staff members.

Excluding the restructuring and transaction costs related to the spinoff and merger of Animal Health, adjusted non-GAAP net income attributable to Henry Schein, Inc. for the first quarter of 2018 was $145.9 million or $0.95 per diluted share. This represents growth of 3.6% and 8.0%, respectively, compared with the first quarter of 2017.

I'd like to provide some additional color on our results. Amortization from acquired intangible assets was $31.3 million pre-tax or $0.15 per diluted share for Q1 2018. Also, foreign currency exchange had a positive impact on diluted EPS for the quarter of approximately $0.03.

Let me now provide some detail on our sales results for the quarter. I would note that the timing of Good Friday in Q1 resulted in one less selling day in several major countries internationally. I'll discuss that change in more detail in a moment. It's important to note that last year Good Friday was in Q2, so this is a timing impact which will reverse next quarter.

Our Dental sales for the first quarter of 2018 increased 10.2% to $1.5 billion, with internal growth in local currencies of 2.9%. North American internal growth in local currencies was 3.1% and included 2.7% growth in sales of dental consumable merchandise. The impact on dental consumable merchandise sales growth related to Good Friday was relatively immaterial at approximately 15 basis points for the quarter.

Our North American dental equipment sales and service internal revenue grew by 4.4% in local currencies and that follows a strong result in the fourth quarter of 2017 when we reported sales growth of 18.1%.

International Dental internal growth in local currencies was 2.6% and included 2.4% growth in dental consumable merchandise. The impact from the timing of Good Friday on international dental consumable merchandise sales growth was approximately 1%. Also, our growth in dental equipment sales and service revenue was 3.1%.

Animal Health sales were $919.8 million for the first quarter, an increase of 13.1% with internally generated sales growth in local currencies of 3.6%. The 3.6% internal growth in local currencies included 3.7% growth in North America. However, when normalizing for the impact of a manufacturer switching from direct to an agency sales agreement, sales growth was a robust 11.6%. We believe this double-digit normalized sales growth for the quarter reflects a healthy end market and our commitment to offering a wide range of products and value-added solutions.

International Animal Health sales growth in local currencies was 3.4% and was also negatively impacted by approximately 1% due to the timing of Good Friday. I would note that the growth of 3.4% was also against a tough comparison last year where we reported internal sales growth of 8.9%.

Our Medical sales were $640.4 million in the first quarter, an increase of 6.9% with internally generated sales growth in local currencies of 6.4%. The 6.4% included 6.7% growth in North America and a 3.1% decline internationally. We are very pleased with our overall Medical sales results, which again was primarily driven by solid organic growth from existing large customers. Organic growth also benefited from increased patient traffic due to a strong flu season.

If we look at Technology and Value-Added sales, they were $112.4 million in the first quarter, an increase of 6.1% with internally generated sales growth in local currencies of 2.9%. In North America, Technology and Value-Added Services had internal sales growth of 1.7% in local currencies, or 2.2%, when normalized for certain products switching between agency sales and direct sales. Growth was primarily impacted by lower unit sales in the quarter.

In international markets, local internal sales growth of 9.3% was strong across the board highlighted by double-digit growth in both financial services and veterinary software revenue.

I'd like to mention that our stock repurchase program, we did not purchase any common stock in Q1 as a result of a blackout period related to the spin-off and merger of our Animal Health business. I'd also like to point out that we are still committed to a balanced capital allocation approach to building shareholder value including stock repurchases which we expect to resume during the year. At the close of the quarter, we had about $200 million authorized for future repurchases of our common stock.

Looking at some highlights of our balance sheet and cash flow, the operating cash flow for the quarter was negative $70.9 million, which compares to negative $52.6 million in the first quarter of last year. It's important to note that our first quarter cash flow is typically negative due to seasonality in working capital during the quarter. We continue to believe we will have strong operating cash flow for the year.

We expect that the capital from the spin-off and merger, when available later this year, will be between $1 billion and $1.25 billion in cash on a tax-free basis and will be used for general corporate purposes including share repurchases, paying down debt and M&A activities. Note also that as part of the spin-off and merger transaction and prior to its completion, we expect to buy out the minority interest in our U.S. Animal Health business for approximately $365 million.

Turning to the restructuring, during last quarter's earnings call, we noted that we plan to undertake a restructuring effort in 2018. We have begun some initial activities which are reflected in our first quarter results. However, we are still in the planning phase and therefore, we expect to provide more specific information on the magnitude of this restructuring program later this year.

At a high level we are looking at opportunities to augment our technology solutions to generate innovative customer solutions and services as well as improved efficiencies across the business, particularly with redundant activities resulting from prior acquisition activity. We may consolidate certain warehouses where there is an overlap; however, there's a great deal of analysis that is required before we can provide specific details on the estimated cost as well as the estimated benefits related to the restructuring.

Periodically we look to reduce cost particularly following a number of acquisitions as in the past, and accomplishing this through a coordinated effort is the most efficient means to realize cost optimization.

I'll conclude my remarks by noting that excluding costs related to restructuring and spin-off and merger of the Henry Schein Animal Health business, today we are affirming our prior 2018 diluted EPS guidance. At the same time, we are not able to provide estimates for the impact of the restructuring costs or spin-off and merger costs on a full year 2018 basis.

So diluted EPS attributable to Henry Schein Inc. is expected to be $4.03 to $4.14 for 2018. That is reflecting a growth of 12% to 15% on a non-GAAP basis compared with the 2017 non-GAAP basis of diluted EPS of $3.60.

Our guidance includes the impact of approximately $0.02 related to the previously announced onetime cash bonus for certain designated staff members, but does exclude the cost related to restructuring as well as the spin-off and merger costs related to our Henry Schein Animal Health business.

Our guidance assumes that end markets remain stable and are consistent with current market conditions. And guidance for 2018 is for continuing operations as well as any completed or previously announced acquisitions but does not include the impact of any potential future acquisitions.

We also would expect to update our full year guidance for the remaining business once the spin-off and merger of the Animal Health business closes. This guidance also assumes foreign exchange rates are consistent with current levels.

Lastly, we believe there are no material impacts to our 2018 results due to the new revenue and sales pronouncement and the adoption of ASU 2014-09 revenue from contracts with customers.

With that I'd like to turn the call back over to Stanley.

[Stanley M. Bergman, Henry Schein, Inc.]

Thank you, Steven. Let's review some business highlights for the first quarter 2018. We are most pleased with the financial results for the quarter and actually in all of our business units.

Our track record of delivering solid organic sales growth demonstrates not only healthy end markets, but also our ability to execute on our goal of continued gains in market share across the board and in all of our businesses. In fact, on a normalized basis, our quarterly organic growth rate has ranged from 4% to 6% for the past three years. We believe this execution is directly tied in to our high touch value added solutions business model.

In our Dental business, North American dental consumable merchandise internal sales growth in local currencies continue to be solid up 2.7% year-over-year. Keep in mind this growth was negatively impacted by approximately 15 basis points due to the timing of Good Friday.

The end market has been relatively stable now for almost two years with no material deterioration that we can detect. Henry Schein has done well and continued to gain market share.

As mentioned, our international dental consumable merchandise sales growth of 2.4% was negatively impacted by approximately 1%, 100 basis point due to the timing of Good Friday. While our current guidance assumes stable end market conditions, we are optimistic that favorable macroeconomic factors including low unemployment and solid consumer confidence will lead to improving unit growth over time in North America. Ensuring that we are well positioned to take advantage of this anticipated growth is key, and we believe we have the right strategy and the right set of products, solutions, support, and actually the right priorities to continue to execute on our plans to grow our market share and accordingly, our profits.

We reported solid dental equipment internal growth in local currencies of 4.4%. As Steven mentioned in the fourth quarter of 2017, we had strong sales growth in dental equipment of over 18%. We reiterate that that's the 18% that in our last conference call could not be assumed to continue at that rate. Having said that, we believe that our 4.4% growth was quite solid for the first quarter.

We believe the equipment market in North America is healthy and we expect dentists to continue to invest in their best practices turning to Henry Schein for a wide range of solutions from our broad manufacturing partners. This is particularly true as practices increasingly look to us to help them adopt technology aimed at driving workflow efficiencies so that, of course, in the end they can see more patients. More efficiency in the practice results and lower cost, but also, more importantly, better quality of care.

And so the whole technological movement in workflow in the dental marketplace is an area we've been focusing on for several years now and is helping us continue to grow nicely as we gain market share. Of course also, these are fast growing categories. Our new relationship with Dentsply Sirona in the U.S. continues to be positive, but also, let me remind investors we also had solid sales with several of our other dental equipment suppliers.

In quarter one, we recorded mid-single-digit growth in traditional equipment sales and double digit growth in sales and CAD/CAM solutions. So two of the three major categories did well for us in the first quarter and that was on the heels of a really tremendous fourth quarter of 2017.

Let's turn to Europe for a minute. Regarding Europe and Germany in particular, we believe pricing transparency pressures have stabilized. We expect to continue to enhance the Value-Added Solutions we operate in overseas markets, which help to create closer relationships, more bonded relationships between Henry Schein and our customers.

Keep in mind that not all Value-Added Solutions can be rolled out in Europe immediately. In fact, we have many of these value-added services firmly embedded in most parts of Europe, but our goal in Germany is to continue to advance, in particular, Germany, our Value-Added Solutions. Some of these require investment and careful planning and may take several quarters, and in some cases a year or two to fully implement.

That said, we expect to make continual progress in our introduction of these services. We have a well established proven model for our Value-Added Solutions platform, so we know what the customers require and how to build out this portfolio of solutions. So very, very pleased with the performance in North America and in the international businesses. And particularly I think we showed good results in sales in Europe and believe that we will continue to do well in the European markets.

Before we move on to Animal Health, I would like to draw your attention to an important announcement we made at the American Association of Orthodontists meeting this past week where we introduced our new SLX Clear Aligner solution entering the rapidly growing market for orthodontic aligners.

Our Sagittal First/Motion 3D system uses a unique combination approach. It addresses bite correction first with a Motion 3D system before aligners are introduced to the treatment process. As a result, we expect that the patient will require fewer number of aligners than if using an existing solution. The SLX system can also be used as a standalone Clear Aligner solution.

The SLX system is competitively priced and we believe it will offer significant workflow efficiencies that will save time for both clinicians and patients. Our product will cover the full range of minor, moderate and comprehensive treatment. We're very, very excited to add this important solution to our portfolio of dental specialty solutions, and I'm very, very pleased to report we received a terrific reception at the Association of American Orthodontists meeting this past week – weekend actually.

The SLX system really is very, very exciting for Henry Schein as it rounds out our orthodontic product offering which in turn rounds out our dental specialty solutions where we're doing well with oral surgery in the implants, bone regeneration space, the endodontic area and now with a full range of orthodontic products.

So let's talk about Animal Health. As Steven mentioned, Animal Health internal growth in North America reflects a manufactured change for direct sales to an agency basis. On a normalized basis, we have delivered double-digit internal growth, extremely pleased with the progress our Animal Health team has made in North America this past quarter. We're excited about the opportunities for our Animal Health business where we combine it with Vets First Choice as a pure play independent company once, of course, this transaction closes later this year.

Again, international Animal Health sales grew about 3.4%, negatively impacted by approximately 100 basis points, 1%, due to the timing of Good Friday. Our North American Medical business delivered solid sales in the quarter of internal growth in particular. There were no acquisitions so it's all internal growth in local currencies. And it was in the high-single digit region, range reflecting increased patient traffic to our physician office customers and our execution on serving large group practices.

We are recognized and awarded for meeting the needs of the large group enterprises through our strong supply chain and management capabilities while remaining committed to our end customer, the general practitioner, providing the products and support they need to deliver quality clinical care.

So in our Technology and Value-Added Services business, we're excited about the opportunities both in North America and potentially, over time, in our international markets with our Henry Schein One platform of solutions. And I'll remind you, the transaction hasn't closed yet, but the opportunities are terrific.

We expect to significantly enhance our Value-Added Solutions portfolio of products as we build upon our technical integration capabilities to deliver a new platform of enhance dental software and services that work seamlessly together to share data and streamline digital workflow.

With that in mind, operator, we're ready to address any questions.

[Operator]

. Your first question comes from the line of Jeff Johnson.

[Jeff D. Johnson, Robert W. Baird & Co., Inc.]

Thank you. Good morning guys. Can you hear me okay?

[Stanley M. Bergman, Henry Schein, Inc.]

Yes we can.

[Jeff D. Johnson, Robert W. Baird & Co., Inc.]

All right great. So Stanley, I know you mentioned kind of dental end markets in your prepared comments, but I'd love to hear kind of just overall thoughts on how market has progressed maybe over the last six to nine months or so and how you see it playing out over the balance of this year, especially in North America.

But Steve, I also have a question on the Heartland headwind from the last four quarters. In the first quarter last year it was smaller than the other three quarters. So I'm wondering if there was any timing issues where some of those headwinds might have bled over into the first quarter of this year, or is that 2.7% number a clean number, at least from a Heartland perspective?

[Stanley M. Bergman, Henry Schein, Inc.]

So Jeff, on the market growth, I think we're still of the view that the market is stable, leaning positive with – on consumables, but that there's good traction on the specialty side.

We think the implant market is growing much faster. And we are very pleased now to enter the fastest growing part of the orthodontic business, the aligner area. We have a pretty unique offering there. A combo product or a product that could be purchased just as an aligner. And the endodontic business continues – that market continues to grow also at a bit of a faster rate.

So you take the consumable market basically stable, leaning positive with specialty growing and of course the equipment market, both in the U.S. in North America and Europe is growing very, very nicely as we advance digitalization into the dentists' office.

[Steven Paladino, Henry Schein, Inc.]

Yeah, and I'll just comment on the second part of your question, Jeff. Yes, there was a little bit of negative impact related to Heartland in Q1 but it was immaterial. It was less than 10 basis points.

[Jeff D. Johnson, Robert W. Baird & Co., Inc.]

All right that's helpful. Thank you. And I guess for my follow-up, just wondering on the equipment side, I know on the DEXIS practice management software, you're working to kind of integrate some new intraoral opportunities there. When do you expect that to be complete and ready to go? And does that at all have an impact then on how we should think about your equipment growth in the back half of this year? Thanks.

[Stanley M. Bergman, Henry Schein, Inc.]

I don't think this will have a material impact. I think the integration will occur in the months ahead. But, I do not believe that that will have a significant impact.

We are integrating so many different equipment systems into the Henry Schein practice management electronic, medical records system. And there's – opportunities abound all over; not only with DEXIS and Danaher but also with of course Sirona, Dentsply Sirona where things are going well on the integration side. And I might add with Planmeca as well and, of course, 3shape.

[Operator]

Your next question comes from the line of Robert Jones of Goldman Sachs.

[Robert Patrick Jones, Goldman Sachs & Co. LLC]

Great, thanks for the questions. Stanley, there's been a lot of focus on equipment just given all the moving pieces in the market. Your North American equipment number was quite a bit lower than we saw last quarter and fell a little bit short of what we were thinking. I know you offered some comments in your prepared remarks of what performed well within the quarter in your mind. But I was hoping maybe you could just delve a little bit deeper into the North American equipment number for the quarter. And maybe specifically, how did the Sirona portfolio contribute relative to your expectations?

[Stanley M. Bergman, Henry Schein, Inc.]

Yes. So, we actually thought we did better than expectations because we had a 18% growth rate in the fourth quarter which was – it's massive. And in the call, last quarter call for the fourth quarter of 2017 did caution that that kind of expectation cannot continue maybe periodically. And we thought we moderated expectations. So I think we did quite well. On the traditional equipment, we did very well. In fact, I think, our growth was around 6%; on CAD/CAM was about 20%. But on the digital products, where we really sold a lot of digital imaging, we didn't have such a great quarter. But if you take into account the volume that we sold in the fourth quarter of last year, you will understand it.

So as we usually comment whenever anybody asks about equipment, I don't think you can look at any one equipment quarter and make any conclusions. I think you have to look at an annual. At least put together a few quarters and you can project. But we are very pleased with our equipment growth in the U.S. and I believe our pipeline is looking pretty good. And we're working very well with our manufacturer community. It's a very, very exciting time for Henry Schein in the equipment field, specifically as we go back to Jeff's previous question, as we integrate our digital equipment, our CAD/CAM equipment with our practice management, electronic records system. And I believe that when we look at the opportunities that Henry Schein One will present given our merger with Internet Brands on the Dental side, the equipment market looks very, very exciting.

[Robert Patrick Jones, Goldman Sachs & Co. LLC]

Great. No, I appreciate that Stanley. And I guess, Steve, just a quick follow-up. You've discussed having a goal of improving inventory turns. But again this quarter we did see inventory build. Can you maybe just help us understand the dynamics at play on the inventory side? Is this still Sirona related or is it something different than that?

[Steven Paladino, Henry Schein, Inc.]

Well, it's a combination. A little bit of Dentsply Sirona related, but we are working through that inventory which we should do later this year. But there was also opportunities for forward buy-ins that we took advantage of. So we still believe that the goal of reducing inventory and increasing inventory turns is achievable. We are working on it. But if there's opportunities that have a good return on investment and we have to grow the inventory a little bit from time to time, we'll also take advantage of that.

Just want to back up on the first question just to add some color. Our equipment backlog also grew from the beginning of the quarter to the end of the quarter. So I think that's helpful in understanding that the pipeline is still strong on equipment.

[Robert Patrick Jones, Goldman Sachs & Co. LLC]

Got it. Thanks so much.

[Steven Paladino, Henry Schein, Inc.]

Okay.

[Operator]

Your next question comes from the line of John Kreger of William Blair.

[John C. Kreger, William Blair & Co. LLC]

Hi. Thanks very much. Stan, given last week's announcements in the Clear Aligner space and the extra capital you'll have after the Animal Health spend, has your thinking changed at all about wanting to own brands? And should we think about that as becoming a larger part of the strategy going forward?

[Stanley M. Bergman, Henry Schein, Inc.]

Good question, John. Yes, I think in specialty areas we will continue to grow our own brand. In areas where we feel we can't get necessarily the full support that we need, we will continue to advance our brands. But let me assure you that Henry Schein is a national brand company and we will remain totally focused on national brands where we can obtain adequate support. Sometimes we can't get the support we need specifically in the areas of competitive, for example, DSO space, where we promote our Henry Schein brand and related control brands.

But at the end of the day, we are very committed to advancing our specialty businesses throughout the world. We have a relatively small market share. These businesses, the ones we own have done very, very well for us. We have great management in the oral surgery space, the orthodontic space, the endodontic space, of course, related to prosthodontists. And we – as well, you can add that in as part of the orthodontics – as part of the oral surgery space.

We are very, very excited of what we can do there, of course not only in the implants in the various sectors of the implants; the more higher priced premium brands, the mid brands, the lower price, the clone type areas we were focused on that. Bone regeneration has done very well for us.

The products bought around the specialist has been very important. So, yes, we are committed to advancing our own brands in the specialty area in particular. But also where we cannot get the support we need to be competitive, we will do what we need to do. But I think the national brands will support us. These suppliers, the CEOs of these companies have provided us with confidence that we will remain competitive in every market and in all classes of trade. And so – but in the specialty area, it's an area that we will continue to invest in manufacturing and go directly to the source if need be for our own control brands. And then the private brand is an area we will compete with heavily on our own – through our own private brand if we can't gain the market support that we need.

[John C. Kreger, William Blair & Co. LLC]

Great. Thank you. And maybe one just quick follow-up. Can you give us an update on the corporate account business across your three key categories? And should we be thinking of that as a headwind or a tailwind for bottom-line growth in the coming year?

[Stanley M. Bergman, Henry Schein, Inc.]

No, I think it's a positive contributor to our growth. We continue to grow our market share in Dental on the large accounts, the mid-size accounts, and, of course, the small ones. But, I think, we're working very well in that space, both on the consumable equipment side, but also on the practice management software side where I think our cloud-based system, Ascend, is very, very competitive, not only in the U.S. but globally. And so the whole space I think is a great opportunity for us to grow sales.

And yes margins. We will of course continue to drive efficiencies. Part of the restructuring is to drive that. But also, I believe our own brands will help us and we are now seeing a lot more support from the manufacturers in ensuring that we remain competitive. So I'm not saying they won't do it with others, but our market position is good. We're investing in technology to help these customers. And I would say it's a real good opportunity for growth going forward.

Again, both the very large accounts and the mid-size accounts and that's in – by the way of course in Dental. But it's a significant part of our growth in Medical now for years where our brand is becoming more and more associated with the ability to provide excellent supply chain and value-added services for these large group practices, for IDNs and also in the Animal Health space where we are by far the leader and continue to grow. So yes, this is all good business for us. And we of course always have to be more efficient. And at the same time, we got to make sure we add the right products and gain the right support.

[John C. Kreger, William Blair & Co. LLC]

Great. Thank you.

[Operator]

Your next question comes from the line of David Larsen of Leerink.

[David Larsen, Leerink Partners LLC]

Hi. Congratulations on a good quarter. Can you talk a bit about any pricing pressure that you may be seeing in North America (44:54) DSOs or the online vendors? And it seems like you overcame that this quarter. Like, maybe just talk a bit about that dynamic if you can please. Thank you.

[Stanley M. Bergman, Henry Schein, Inc.]

Yes. Thanks for that question. First of all, I don't remember, and I've said this in the past, a year where we haven't had pricing pressure at Henry Schein. Yes, we have pricing pressure; always had. I would say little bit more with the smaller accounts. But because of course there's more transparency on pricing, dentists compare prices between each other and study clubs, et cetera. But I remain very optimistic and we are showing good results because we are getting support from manufacturers of branded products. And indeed, our private brand is extremely competitive. So we don't lose so much business over price.

As it relates to the IDNs, there is, of course, a focus as professionals run, especially large IDNs, and we need to ensure that we get the appropriate support from our branded manufacturers and when that's not available, our private brand, our corporate brand which is very, very good. So I think you take that plus a growing appreciation of the value-added services we provide, and we do have unique services in that market. We didn't develop the software only for Dental, the support software. But it's software that we use in our Medical business as well. And so we have unique capabilities.

And I think we're being – those capabilities are appreciated. But we're constantly under price pressure and have been for decades and we need to ensure that we become more and more efficient. Of course, years ago, we would be happy to take orders manually from a corporate account. Today, we expect that all to be received by computer. So, we've made lots of strides in the digitalization of those accounts and we will continue to increase efficiency through various forms of system improvement amongst these large accounts.

And these businesses are now growing to being led on the purchasing side by supply chain people who appreciate our capabilities. But if you take all of that and you wrap it around our practice management software capabilities, we remain very, very optimistic about this marketplace and we'll continue to invest in it.

[David Larsen, Leerink Partners LLC]

All right. And then just one quick follow-up. Did I hear you correctly, the CAD/CAM growth rate in the quarter was 20%?

[Stanley M. Bergman, Henry Schein, Inc.]

Yes.

[David Larsen, Leerink Partners LLC]

Okay. Thank you.

[Operator]

The next question comes from the line of Ross Muken of Evercore ISI.

[Elizabeth Anderson, Evercore Group LLC]

Hi. This is Elizabeth Anderson in for Ross. One of the things I was wondering about was the new tech JV. I know you stated that you're thinking that has about $400 million in revenues, but how – can you help us think about how much of that is sort of incremental versus the contributions from revenues that you guys already have?

[Steven Paladino, Henry Schein, Inc.]

Sure.

[Stanley M. Bergman, Henry Schein, Inc.]

Yeah. Let maybe Steven should answer that. Go ahead, Steven. Sorry.

[Steven Paladino, Henry Schein, Inc.]

Okay. Yeah. Elizabeth, of the $400 million, approximately $300 million was our existing business and approximately $100 million will be incremental revenue because of the joint venture with Internet Brands. And we will report the additional $100 million as acquisition revenue going forward when the deal closes. Again the deal is expected to close end of June, maybe early July, in that timeframe.

[Elizabeth Anderson, Evercore Group LLC]

Okay. Thank you. That's really helpful.

[Operator]

Your next question comes from the line of Kevin Ellich of Craig-Hallum.

[Kevin Ellich, Craig-Hallum Capital Group LLC]

Good morning. Thanks for taking the questions. Stan, just wanted to go back to the Medical business, solid growth relative to our expectations. I guess first off, did flu contribute much to the volume and the growth you saw there? And I guess what sorts of other trends outside of the IDN pressure you're seeing can you call out?

[Stanley M. Bergman, Henry Schein, Inc.]

Yeah. Steven may have specifics on exactly the impact of flu. Obviously it did have an impact. I would say some on the flu vaccine but also on the tests. But there are always puts and takes in this business. I'm not sure if flu drove it significantly. We are just gaining market share in this space because of our capabilities to service IDNs, and IDNs are of course, owning practices outside of the four walls of the hospital. But I would say even in the hospital where they have separate sections for ambulatory care, we are doing quite well in that space.

But then there's these group practices, many of them multi-specialty group practices, that are not necessarily owned by IDNs but they have to compete with IDN owned practices. And generally our supply chain capabilities are very, very good; unique in that space. And we give them the reports they need. We give them the service they need and the capabilities of searching the appropriate GPO contract to use. Our private brand is highly competitive in the space. So I would say generally the business has been solid for several years now and we're very enthusiastic about this business.

There are obviously parts of that business where we are uniquely capable and that's where you have a practice, specifically a specialty practice that uses a lot of consumables, and that's where we do very, very well. The dermatologists and the aesthetics surgeons and those – and of course the internists, and so we are growing very well in certain categories. But actually the direct impact of flu was there, but I'm not sure how material it was. Steven?

[Steven Paladino, Henry Schein, Inc.]

Yeah, yes. Yeah, flu was not a significant contributor at all. And we sell the bulk of our flu vaccine in Q3 and Q4. We sold less than $2 million of flu vaccine this year. It's up slightly over last year but still very insignificant as it impacts our growth.

We did have strong growth across the board though in both med-surg products, diagnostic products, equipment, pharma. So really it wasn't related to flu. It was related to all of the other products that we typically sell.

[Kevin Ellich, Craig-Hallum Capital Group LLC]

Got you. And then Steve, one quick one for you too. In Animal Health I know it's less of an interest now since you're spinning it out. But the buy sell, the agency switch it seems like that's something that's affected you guys every quarter. When are we going to see that annualize?

[Steven Paladino, Henry Schein, Inc.]

Well, this latest change just started either late Q4 or at the beginning of Q1. So that won't annualize until the year end of 2018. But there were some new changes that just recently occurred that's driving it now.

[Kevin Ellich, Craig-Hallum Capital Group LLC]

Thank you.

[Steven Paladino, Henry Schein, Inc.]

Okay.

[Operator]

Your next question comes from the line of Jon Block of Stifel.

[Jonathan David Block, Stifel, Nicolaus & Co., Inc.]

Great. Thanks guys. Good morning. First one, just certainly solid progress in a short period of time with the international consumables. You mentioned your value added services already taking hold. Maybe if you can talk about those initiatives. And do you already feel in a better competitive position going forward when we think about insulating yourself from some of the pricing pressure that you guys alluded to in the past? And then I've got a quick follow-up. Thanks.

[Stanley M. Bergman, Henry Schein, Inc.]

Yeah. So it was a very specific issue in one quarter. First of all the value added services are doing well but in Germany, we do not have practice management. And in Germany I would say our team focuses heavily on equipment. And so it was not focused so much on consumables.

But I think in the last four, five months – so I'll say Europe has been fine; Australia, New Zealand with the value-added services. And we have now – focusing the German team more on consumables and I think that is kicking in and working quite well. So I think there's quite a bit of stability there in our European business.

We're also in one particular quarter, the one where there was so much discussion on this, there was almost a perfect storm. We had this challenge in Germany because we're heavily, heavily focused in equipment in that quarter.

Last year was a heavy equipment year in general in Germany. IDS fourth quarter. So – and then we had an anomaly in France. But overall I would say our international business is quite stable and the German matter that we experienced the past couple of quarters I would say is resolved, but the team is really focused on growing consumables. In addition, of course, to continuing with our terrific brand and market share in equipment.

[Jonathan David Block, Stifel, Nicolaus & Co., Inc.]

Okay. Thank you. And just a follow-up would be in equipment. Certainly the 20% CAD/CAM number is solid, but that is with X-ray in North America versus not there a year ago. So if you can elaborate, Stanley, on the demand for DI only. We've seen it in our checks for some time, quite honestly, and seems like it continues to pick up momentum in North America. Curious your thoughts and also if you're seeing that play out in the international markets as well. Thanks for your time, guys.

[Stanley M. Bergman, Henry Schein, Inc.]

Yeah. I don't have in front of me, maybe Steven does, specifics on DI growth. But I think that's – DI continues to do well in the U.S. and globally. But I think in the U.S., clearly we're selling more complete systems. And our strategy still is, by the way, to go into dentists that are not ready to invest in a full system and explain to them the value of at least having a scanner, as it is more efficient, clinically better. It's much more pleasant for the patient. And I think we'll continue to focus on that.

I don't have the specifics on the quarter per se, but the scanner – the move towards scanner is growing globally. And I think our suppliers are understanding this and they're understanding that yes, the full system can be very, very important. But there's also a market for the scanners. And this philosophy is I think a global phenomenon. So I don't – and maybe, Steven, you have specifics.

[Steven Paladino, Henry Schein, Inc.]

Yeah, I can give some color on that. So the digital impressioning scanner did grow year-over-year but the real accelerated growth did come from new CAD/CAM unit sales, complete systems. And that was really the big driver of the 20% number that Stanley quoted.

[Operator]

Your next question comes from the line of Steven Valiquette of Barclays.

[Steve J. Valiquette, Barclays Capital, Inc.]

Hey, thanks. Good morning, Stan and Steve. Thanks for taking the question. Just a quick follow-up on some of the inventory destocking. Obviously a few different manufacturers were talking about that having some impact on their 1Q results. And I guess just based on your inventory numbers, I guess, I'm just curious to your thoughts whether you think that this is maybe happening away from Henry Schein and maybe it's just more prevalent at other distributors. Or maybe you're looking at it – I mean, again, I'm not asking you to talk about any individual companies obviously, but could you look at it and say, yes, it makes sense to us that manufacturer X is saying they're seeing destocking. Then maybe you're taking down one manufacturer and not another. But just curious to get your just more general high level thoughts around this because it seems like it is – we keep hearing about this from the large dental manufacturers about destocking. Thanks.

[Stanley M. Bergman, Henry Schein, Inc.]

Maybe, Steven, you can give specifics on destocking.

[Steven Paladino, Henry Schein, Inc.]

Yes. So it's so hard for us to give you exact details because even within manufacturers, there's certain product lines that we could be more or less efficient on. We don't drive the entire market, obviously. So we try to stay away from commenting on specific manufacturers on what's going on with destocking. So, I don't really have specifics, Steve, to be honest with you because we don't look at our inventory levels by that. We look at product categories rather than by manufacturer. And I really can't provide more commentary on what the manufacturers are saying. I assume it to be true, but I can't really tell you from our vantage point.

[Steve J. Valiquette, Barclays Capital, Inc.]

Okay, that's fair. Can I sneak in one other quick one just on – you mentioned some market share gains in Dental as part of your growth in 1Q 2018. That's obviously positive. Just curious if you think you're primarily capitalizing on various let's call it disruption situations in the marketplace, perhaps at other dental distributors. Or are you winning maybe now for other reasons? Just curious on what you think is happening on your share gains within Dental. Thanks.

[Stanley M. Bergman, Henry Schein, Inc.]

Steven?

[Steven Paladino, Henry Schein, Inc.]

Yes. So, look, the market is growing somewhere slightly north of 1% on consumables in North America. We did almost triple that, 2.5 times that. Look, it can't hurt that we are seeing some other competitors having some disruption, but we don't think that's a big part of it. We think really our growth is coming from continuing to take the approach of being that high value, high touch with a lot of value-added solutions. As you know, we did not really hire a significant amount of competitive reps, although we did hire some. So I think it's really our model. And we don't think it's coming from any one particular competitor. We think it's really coming from the overall market.

[Operator]

We have time for one last question coming from the line of Stephen Hagan of RBC.

[Stephen Hagan, RBC Capital Markets LLC]

Hi. Good morning. Just kind of going back to the shift in Animal Health from direct to agency sales, there's a very substantial move this quarter. Can you talk about what drove this change, and any overall trends you're seeing for direct versus agency sales?

[Stanley M. Bergman, Henry Schein, Inc.]

Yes. I will just answer the last part of your question and say we don't see a movement to direct sales. Our suppliers are all telling us that they wish to continue to do business with us. They're very excited about the merger between Vets First Choice and Henry Schein Animal Health. Uniformly I might add that without exception. But the demand (01:01:06), maybe Steven, you can address.

[Steven Paladino, Henry Schein, Inc.]

Sure. Talked about this a little bit on an earlier question. We have seen one significant manufacturer that has gone from traditional sales to agency sales. It's BI, Boehringer, that made that switch. It's something that we can't control, quite frankly. It's for the whole industry. That's the way they announced it at the beginning of this year or late last year. For us from a profitability point of view, it doesn't make a significant difference on whether it's agency or not. We do prefer non-agency because we really like to also be closer to our customer. But this is what it is, so we're happy to continue to sell them through an agency basis.

[Stephen Hagan, RBC Capital Markets LLC]

And then just a quick follow-up. The purchase of the non-controlling interest this quarter, was that related to the Animal Health spin-off? Or was that for a separate change?

[Steven Paladino, Henry Schein, Inc.]

Well, first of all, it didn't happen yet. We expect it to happen probably in Q2. I would say it's indirectly related to the spin-off. I don't know if it's completely directly related, but it is somewhat related. Either way for us, we feel good about completing the purchase. We had a good relationship with the partner for many, many years. And I think we both created tremendous value. And now that that chapter is ending, we're still comfortable going forward and spinning off our Animal Health business. It'll be helpful to Vets First Corp because when you're doing integrations, it's a little bit more difficult when you have minority partners. Not that it can't be done, but it's a little bit more difficult. So I think it's helpful to the new spin co that that no longer will be a minority shareholder.

[Stephen Hagan, RBC Capital Markets LLC]

All right. Thank you.

[Stanley M. Bergman, Henry Schein, Inc.]

Yes. So, thank you. Sorry. Operator?

[Operator]

Now back to (01:03:21) for closing remarks.

[Stanley M. Bergman, Henry Schein, Inc.]

Okay. Thank you, operator, and thank you all for your interest. Looking back at where we've come in the last year or two and where we're heading, it does takes me back really to the general philosophy of Henry Schein. I wasn't there at the founding, but over the past eight decades Henry Schein has been in a state of reinvention as we consistently challenge ourselves to, at the end of the day, better service our customers and remain extremely relevant. And, of course, we're very close to our customers, understand their needs. Bringing our customers value-added solutions and helping them thrive is the cornerstone of our success.

And of course, if they thrive, they'll thrive for two reasons. One is they're running a more efficient business and at the same time, providing great quality of care. Sometimes this reinvention involves small incremental changes. And at other times, it involves significant changes to our business. The formation of Henry Schein One and the spin-off and merger of our Animal Health business both fall in the latter category. These are significant moves and will really position us very well in Dental.

And in combination with Medical, because there's a growing connection between the two and we really think we're well positioned there to continue to grow. While independently, the Animal Health businesses, the Henry Schein and the Vets First Choice animal business will do very well. The connection between the two is not as relevant today as it was years ago when essentially it was – the Animal Health business was a supply chain business. But it's growing to become a service business, phenomenal installed base of practice management systems, both in North America and abroad. Vets First Choice has a solution that if you combine it with our platform is unique. Of course, data is critical and we believe we will be able to help manufacturers obtain compliance with veterinarian prescriptions issued.

So you put those two together, the software and the Vets First Choice, you have a very powerful combination. And you combine that with the supply chain, either selling to the veterinarian or fulfilling on behalf of the veterinarian and you have the world's most unique supply chain, software, value-added services business. What these two transactions have in common is increasingly important. The role of technology with our customers. Our customers are in the digital era like all of us. And it's technology that is the biggest question on their mind. What technology should they use and how should they use it? And we are now ideally – we've always been positioned through our software businesses of helping, but we're now in a very, very unique position.

For years, advances in technology were largely manifested in the equipment and software products we sold. But today, not only in Animal Health, but of course in Dental integrated technology is critical to practice operations. I might add in the Medical world too, including how customers attract and retain patients. How they communicate to their patients and manage their online reputation. This is all the stuff that we are focused on, both in Dental and in Animal Health and to some extent on the Medical side. It is also supporting patient compliance.

Again, Dental and Animal Health which will have this enormous impact on health care outcomes. And if we can impact that, as we are sure we will, it'll be good for our business. And better outcomes validates our commitment to be a health care solutions network and powered by our people and technology.

So we told you about our 2018, 2019 and 2020 strategic plan which we believe will be, in the end, as successful as the preceding three year strategic plans which have been very successful for decades. And we believe the Henry Schein intellectual capital will continue to be providing creative solutions for our customers to succeed in generating income for their practice while providing quality of care. And we believe we're well positioned to continue to add and increase shareholder value.

So very, very pleased with – of course, the last strategic plan, the three years, ending in 2017, the first quarter of 2018 and the down payments we've made in executing our 2018, 2019 and 2020 strategic plan which I think will once again transform the company and advance our solutions capabilities to our customers while increasing shareholder value.

So thank you for joining us today. Again, if you have any questions, please feel free to contact Carolynne Borders at Investor Relations, 631-390-8105. 631-390-8105. And I look forward to speaking again at the end of the second quarter with our results and that will take place in August. So thank you for the interest, and look forward to a discussion in August again. Thank you.

[Operator]

This concludes today's conference call. You may now disconnect.