Danaher Corp

NYSE:DHR

Earnings Call Transcript 2018-Q1

[Operator]

Good morning. My name is Debbie, and I will be your conference facilitator. I would like to welcome everyone to Danaher Corporation’s First Quarter 2018 Earnings Results Conference Call.

[Operator Instructions] I will now turn the call over to Mr. Matt Gugino, Vice President of Investor Relations. Mr. Gugino, you may begin.

[Matt Gugino, Vice President of Investor Relations]

Thanks, Debbie. Good morning, everyone, and thanks for joining us on the call. With us today are Tom Joyce, our President and Chief Executive Officer; Dan Comas, our Executive Vice President and Chief Financial Officer.

I’d like to point out that our earnings release, a slide presentation supplementing today’s call, our first quarter Form 10-Q and the reconciliations and other information required by SEC Regulation G relating to any non-GAAP financial measures provided during the call are all available on the Investors section of our website, www.danaher.com, under the heading Quarterly Earnings. The audio portion of this call will be archived on the Investors section of our website later today under the heading Events & Presentations and will remain archived until our next quarterly call. A replay of this call will also be available until April 26, 2018.

During the presentation, we will describe certain of the more significant factors that impacted year-over-year performance. The supplemental materials describe additional factors that impacted year-over-year performance. Unless otherwise noted, all references in these remarks and supplemental materials to company-specific financial metrics relate to the continuing operations of the company in the first quarter of 2018 and all references to period-to-period increases or decreases in financial metrics are year-over-year.

We may also describe certain products and devices, which have applications submitted and pending for certain regulatory approvals. During the call, we will make forward-looking statements within the meaning of the federal securities laws, including statements regarding events or developments that we believe or anticipate will or may occur in the future. These forward-looking statements are subject to a number of risks and uncertainties, including those set forth in our SEC filings. And actual results might differ materially from any forward-looking statement that we make today.

These forward-looking statements speak only as of the date that they are made, and we do not assume any obligation to update any forward-looking statements, except as required by law.

With that, I’d like to turn the call over to Tom.

[Tom Joyce, President and Chief Executive Officer]

Thank you, Matt, and good morning, everyone. We’re off to a great start in 2018 with the first quarter coming in ahead of our initial expectations. We delivered our second consecutive quarter of 5.5% core revenue growth mid-teens earnings per share growth, healthy margin expansion and strong free cash flow.

This performance is a testament to the power of the Danaher Business System, consistent execution by the team and our focus on long-term value creation. We drove share gains at a number of our operating companies while continuing to invest in our businesses to enhance our long-term growth trajectory.

Our performance in the quarter, combined with significant opportunities across the portfolio and our solid balance sheet, positions us well for strong performance in 2018 and beyond.

Turning to our first quarter results. Sales increased 11.5% to $4.7 billion with the impact of currency translation increasing revenue by 5% and acquisitions adding 1%. Core revenue was up 5.5% with 4 of our 5 platforms delivering mid-single-digit or better core growth.

First quarter adjusted diluted net EPS was $0.99, representing 16.5% growth year-on-year. We generated $691 million of free cash flow, resulting in over 70% growth year-on-year, and a free cash flow to net income conversion ratio of 122%. Our outstanding cash flow generation sets us up well for additional capital deployment in 2018.

Geographically, high-growth markets revenue grew approximately 10% with China and India leading the way. In developed markets, we saw a mid-single-digit revenue growth in Europe and low single-digit growth in North America.

Our gross margin for the first quarter was 56.3%, an all-time high and up 80 basis points year-on-year while core operating margin expanded 140 basis points. Our margin performance was driven by a combination of higher core growth and good execution, particularly across our Life Sciences & Diagnostics platforms.

Now let’s take a more detailed look at our first quarter results across the portfolio. In Life Sciences, reported revenue was up 13% and core revenue grew 5.5%. Reported operating profit margin increased to 18.4% with both core and reported margins increasing over 200 basis points. This marks the seventh consecutive quarter of more than 100 basis points of core margin improvement as the team continues their outstanding DBS execution.

Beckman Life Sciences delivered double-digit core revenue growth with positive performance across all major product lines and regions. You’ve heard us talk about Beckman’s improved innovation cadence over the last few years, which has helped drive consistent mid-single-digit or better core growth. The combination of the team’s new product development and commercial execution has also enhanced margin performance.

Today, both gross and operating profit margins are more than 500 basis points higher than 3 years ago. We believe that innovation defines our future. And Beckman is a tremendous example of this Danaher core value.

At Leica Microsystems, low single-digit core revenue growth was led by Western Europe and China. From a product line perspective, we saw good momentum in confocal, driven by demand for the recently launched SP8 DIVE microscope. The SP8 DIVE enables more advanced imaging of complex biological processes in live tissue samples, which is key for driving breakthrough discoveries in cancer and other life-threatening diseases. Core revenue at SCIEX increased at a high single-digit rate with particular strength in Western Europe and China.

SCIEX maintained strong instrument win rates inclusive of the x500R series, which is primarily used for food, environmental and forensic applications. Our separation consumables businesses, Phenomenex and Agela, also performed well, achieving nearly double-digit core revenue growth during the quarter.

Turning to Pall. The team delivered mid-single-digit core revenue growth, led by strength in both our Life Sciences and industrial businesses. In particular, biopharma had another good quarter, led by double-digit growth in the single-use product category. We’re seeing steady order trends across our biopharma business and we expect performance to accelerate as we move through the year.

Pall’s process and industrial business achieved its second consecutive quarter of growth, driven by a strong order book. Microelectronics performed well yet again as the team’s terrific commercial execution and recent product launches contributed to ongoing share gains and another quarter of double-digit core revenue growth.

Just last week, we closed our acquisition of Integrated DNA Technologies, or IDT, for a purchase price of approximately $2 billion. IDT manufactures high-quality custom DNA and RNA oligos used in a variety of genomics applications, including biopharmaceutical research and development and clinical diagnostics. IDT’s products and solutions help scientists better streamline their workflows and advance their research as they work to cure some of the world’s most challenging diseases. As a leading player in the fast-growing genomics reagent segment, IDT has generated double-digit core revenue growth and has an attractive margin profile. The business will be a stand-alone operating company in our Life Science segment. And we’re excited for the IDT team to join Danaher.

Moving to Diagnostics. Reported revenue increased 14.5% and core revenue increased 9.5%. Reported operating profit margin increased to 16.3% with both core and reported margins up 470 basis points. This improvement is largely attributable to higher sales volumes and cost savings derived from productivity initiatives implemented last year.

At Beckman Coulter, low single-digit core revenue growth was led by the high-growth markets, particularly China. Across our product lines, we saw growth in immunoassay, urinalysis and clinical chemistry. The Beckman team strengthened their product offering with the recent addition of the Access Sensitive Estradiol assay, which rounds out our comprehensive reproductive health test menu.

This new estradiol assay provides a unique combination of high sensitivity and broad measuring range, which reduces the need for costly repeat testing. This launch follows the recent FDA clearance of Beckman’s Automated AMH assay in the U.S. And these new additions establish our reproductive health portfolio as one of the most comprehensive menus in the industry.

Radiometer grew at a mid-single-digit rate with strength in China, driving double-digit gains in high-growth markets. Both our blood gas and AQT product lines continued to perform well. Leica Biosystems delivered high single-digit core revenue growth during the quarter. The momentum was broad-based both in terms of geography and across all major product lines.

Recently launched new instruments in advanced staining and core histology have gained traction and have been key contributors to Leica’s performance. In the spirit of continuous improvement, the Leica Biosystems team has focused recent DBS initiatives on new product development and launch excellence. We’ve reduced our time to market for new products by almost 50% and introduced 3 times as many new products in the last 12 months as we did in the prior year.

The effective use of DBS growth tools enables Leica Biosystems to accelerate the development of differentiated workflow solutions, helping improve quality and turnaround time for our anatomical pathology customers. At Cepheid, the team delivered another tremendous quarter with more than 40% core revenue growth as all major regions and product lines performed very well.

Cepheid’s fantastic results during the first quarter were driven by a combination of good commercial execution, test menu expansion and what has been a particularly challenging flu season. One example of Cepheid’s test menu expansion is the recent FDA clearance of the CLIA-waived Xpert Xpress Flu test.

With this CLIA waiver, Cepheid can provide easy-to-use molecular testing in different care settings that are more easily accessible to patients, like a physician office lab or a local clinic. By bringing critical testing closer to the patient, Cepheid provides a more convenient and comfortable patient experience without compromising testing accuracy. We could not be happier with the progress that the Cepheid team is making. And they continue to exceed our initial expectations 18 months post acquisition.

Turning now to our Dental segment. Reported revenue increased 2.5% and core revenue was down 3%. Dental’s operating profit margin declined to 7.6% largely due to lower sales volume, continued investment spend and productivity initiatives across the platform. By product line, positive performance in our specialty consumables businesses, including mid-single-digit core revenue growth at Nobel, was more than offset by anticipated declines in equipment and traditional consumables.

As we’ve mentioned over the past few quarters, we continue to see a negative impact from the realignment of certain distributor and manufacturer relationships, resulting in inventory adjustments in the distribution channel.

Additionally, given the strength across our other businesses, we took proactive measures in the first quarter to address some of these challenges. We believe the negative impact of these dynamics will moderate as we move through 2018.

In the meantime, we’re investing in new product development across our Dental portfolio. At the Chicago Midwinter Dental trade show in February, we featured several innovative products around our digital offering, including the KaVo X Pro intraoral scanner, which provides market-leading speed and accuracy with a comfortable, easy-to-use design. By expanding our digital product line, we’re able to provide our Dental customers with the integrated solutions they need across their entire workflow, from patient diagnosis to treatment. Moving to our Environmental & Applied Solutions segment. Reported revenue grew 12.5% with core revenue up 4.5%. Core operating margin increased by 15 basis points and reported operating margin declined 60 basis points to 22.1%.

In Product Identification, core revenue increased at a mid-single-digit rate. We saw a high single-digit core growth in our marking and coding businesses with broad-based strength across all major product lines and geographies. Low single-digit core growth in our packaging and color solutions was driven largely by North America and Western Europe. 2017 was an exceptional year for Videojet in terms of new product development, and we’re certainly seeing the positive results from those product launches beginning to materialize.

New technologies, like the continuous inkjet 1860 printer, which offers broad onboard predictive analytics and remote service connectivity, have gained great early traction and are contributing to Videojet’s consistent growth. Finally, turning to Water Quality. Core revenue was up mid-single digits with the strength of performance broad-based across our water treatment and analytical instrumentation businesses. Hach grew at a mid-single-digit rate with our core municipal and industrial end markets continuing to perform well, particularly in North America, Latin America and China.

Hach achieved more than 20% core revenue growth in China during the quarter with the team’s enhanced commercial execution helping to position the business well for the Chinese EPA’s active project pipeline. With the help of DBS tools like funnel management and transformative marketing, we’ve increased our win rate for municipal projects focused on protecting and monitoring water resources across the country. At ChemTreat, low single-digit core revenue growth was driven by solid performance in Latin America and certain other high-growth markets. By end market, growth in mining and power was partially offset by softer results in chemical and oil and gas. Lastly, Trojan’s core growth was up high single digits as the team sustained a strong customer win rate and market share gains.

Bookings and revenue growth benefited from momentum in the North American and Chinese municipal markets. Trojan’s performance is supported by a combination of outstanding execution and recent new product introductions, which expand Trojan’s capabilities and further enhance their competitive advantage. So to wrap up, we are extremely pleased with our first quarter results and continue to generate momentum as we strive to build a better and stronger Danaher. Our performance was a testament to the team’s execution and unending drive towards continuous improvement, helping us deliver 5.5% core revenue growth, mid-teens EPS growth, 140 basis points of core margin improvement and an over 70% increase in free cash flow.

We’re also pleased to welcome IDT into our Life Science platform, giving us greater exposure to the highly attractive, fast-growing genomics consumables segment. Even with this acquisition, our balance sheet remains strong and positions us well for additional capital deployment as we move through 2018. So as we look ahead, we believe the strength of our portfolio, combined with the power of the Danaher Business System provide us with the foundation to achieve long-term shareholder value creation. We are initiating second quarter adjusted diluted net EPS guidance between $1.07 and $1.10 which assumes core revenue growth of approximately 4%. We are raising our full year adjusted diluted net EPS guidance to a range of $4.38 to $4.45 versus our previous range of $4.25 to $4.35.

[Matt Gugino, Vice President of Investor Relations]

Thanks, Tom. That concludes our formal comments. Debbie, we’re now ready for questions.

[Operator]

Thank you [Operator Instructions] We’ll take our first question today from Tycho Peterson with JPMorgan.

[Tycho Peterson, JPMorgan]

Hey Good morning, good quarter. Just to kick it off, I hate to start with Dental, but that was certainly softer than we’ve been expecting against the flat comps. So can you, Tom, maybe just talk a little bit about where are we in the distributor destocking cycle? And then should we still be expecting a recovery to kind of low single-digit growth in the back half of the year?

[Tom Joyce, President and Chief Executive Officer]

Sure. Thanks, Tycho. Tycho, I think as you know and certainly others know, our North American Dental business largely goes through distribution partners. And we have outstanding relationships with these partners, where they provide a whole array of services and training and support associated with their value proposition. And we partner with these distributors to deal with challenges as time goes on. And when you have a combination of a modest end market environment as we’ve had and recent shifts in these exclusive distribution and manufacturer relationships, these tend to create these inventory challenges.

Now these are two different unique factors. But we team with the distribution channel and work with them to adjust inventory levels where and when we can. And in turn, they work with us to drive growth programs to stimulate end user demand. And so really what you saw here in the quarter was a proactive effort on our part to work with the channel to make these adjustments, and in turn, also work with them in supporting them on these growth programs. So all that being said, you end up with a – obviously a print that is a tough print, particularly here in North America. But that being said, we think there are a lot of things that are frankly pointing in the right direction relative to improvement in the Dental performance going forward.

Our high-growth market, this business remains very solid with China continuing to grow double digits in the first quarter. The specialty consumables business remains good, Nobel up mid-single digits. It was one of our better quarters in Europe in some time, where there’s less channel noise. Kerr was up mid-single digits there. And sellout has begun to stabilize, in fact, has stabilized for KaVo Kerr, including the second straight positive quarter for Kerr in North America on the sellout side.

So I think there’s a number of things that we would point to that would suggest tough print here in certainly associated with that KaVo Kerr business in North America in the quarter. But a lot of reasons to believe that we’ve sort of flattened out on a bottom here and we’re going to see some improvement in performance going forward. So hopefully that gives you a little bit of a context both in terms of what happened in the quarter, but also why we’re positive on things beginning to improve.

[Tycho Peterson, JPMorgan]

That’s helpful. And then a follow-up on Diagnostics, two questions here. One on Cepheid, are you able to kind of comment on how much was flu versus normalized growth in the quarter? And then as we think about Beckman, you’re still on kind of low single-digit core growth here. You highlighted some of the new assays. Obviously, there’s some new competitive platforms that have been brought to market. Can you maybe just talk about how you feel about the competitive positioning of the Beckman instrument side? And are you investing enough there at the moment?

[Tom Joyce, President and Chief Executive Officer]

Sure. So on Cepheid, obviously a huge quarter for Cepheid at 40% growth. The flu impact was an important driver there. If you netted for flu, you’re probably still talking about mid-teens growth at Cepheid during the quarter. I think what’s also important to recognize though, Tycho, about our performance at Cepheid in the quarter is, starting with flu, again that was not only a function of the seasonality, but we believe based on new customer penetration, adoption of molecular, particularly in different care settings that we took share associated with flu. And so that bodes well for continued growth over the years. Secondly, we saw growth geographically as well as across a number of different product lines. I would point certainly to sexual health as being one of those particular areas.

We saw growth not only in core labs and central labs at hospitals, but we saw that in some of the more decentralized care settings as well. So I think a number of factors there that contribute to a continuing very positive outlook. Around Cepheid’s performance in terms of commercial execution and new test execution. The new test that I talked about in terms of the CLIA-waived test associated with the Xpert Xpress Flu, also again a contributor, but a number of other assays coming through the pipeline that I think bode well for continued good performance at Cepheid. Turning to Beckman, I think there’s a number of good things going on there. I mentioned in my comments earlier about growth in clinical chemistry, immunoassay and urinalysis, another good quarter of high single-digit or better growth in high-growth markets.

China, India, Latin America all showing good performance, specifically around IA and urinalysis, high single-digit or better the last three years. So in those market segments where you get better underlying growth rates from a market standpoint, we are performing well. Positive growth in clinical chemistry, which I think builds on the 2017 momentum, which was the first year of growth since, I think, 2014. And competitively, I think I would probably point most specifically to hematology, which is where we’ve been most challenged, again a smaller – the smallest portion of the business against – at least relative to IA and clinical chemistry. And that’s where we’ve had some real competitive challenges. I think there’s a lot of good news going on there. We’ve launched the DxH 500 as well as the DxH 520.

Those are two new hematology instruments. And particularly important is the new form factor associated with those, not only good performance but smaller footprint, which makes a big difference to our end users. And then finally, we’ve got a new DxH 900 coming out with some unique capabilities associated with sepsis diagnoses. And I think a combination of those things over the next, I would say, year or two as those become seeded in the market will improve our competitive position. And that area has been the most significant area of competitive challenge for us in the last – well, really probably since we acquired the business.

[Tycho Peterson, JPMorgan]

Okay, thank you.

[Tom Joyce, President and Chief Executive Officer]

Thanks Tycho.

[Operator]

We’ll go next to Ross Muken with Evercore ISI.

[Ross Muken, Evercore ISI]

Hi, good morning guys and congrats.

[Tom Joyce, President and Chief Executive Officer]

Good morning, Ross.

[Ross Muken, Evercore ISI]

So on the high-growth market side, it seems pretty broad-based. It sounds like a lot of the businesses had pretty good results in China. It also feels like Cepheid’s opportunity, particularly into HGM, is maybe one of the largest you’ve had for a deal for some time. So help us tease out kind of the underlying versus kind of what you’re getting maybe incrementally from some of these recent acquisitions that were more domestic or Europe-based, where you’re seeing pretty good sell-through into markets that you obviously have a much better channel into.

[Tom Joyce, President and Chief Executive Officer]

Yes. Ross, it was a good quarter broadly across the geographies. I mentioned some of this. But just a quick recap that the U.S. was a low single-digit market but pretty good and pretty consistent performance across our businesses. Europe was a bright spot with mid-single-digit growth in Europe and good performance across a number of businesses. And then to your question around the high-growth markets, China was double digits for the fifth quarter in a row and pretty broad-based with all five platforms double digits or better in terms of – into the teens and beyond.

India was also a double-digit market and it has been very good for us. We’ve seen improvement in some markets that had some challenges over the last couple of years, Russia has shown improvement. Eastern Europe is better. Latin America, not bad, we’ve seen some improvement in Brazil with some weakness in Mexico. That really leaves out the Middle East, which is still a pretty soft market. I didn’t touch on Japan, which is roughly low single digits but no big changes. As it relates to newly acquired businesses, Cepheid, big opportunity in China. We’ve 3x-ed the sales force, admittedly starting from a small base. So those multiples will continue going forward throughout this year.

That will be a big growth in our sales force there. We’re limited in terms of test registrations right now in China for Cepheid. So driving incremental tests through registration will allow us to fully take advantage of those incremental sales forces as they come online. So I think there’s been good opportunity there. We’ve seen good performance at Pall, going back an acquisition now, in terms of geographic expansion and Phenomenex as well.

If you go all the way back to the Nobel acquisition, they had some real weaknesses in a number of markets, not just in the high-growth markets. And by expanding the sales force in a number of places and using the tools of DBS from a growth perspective, that’s been a big help in terms of getting Nobel’s growth going from about flat when we acquired it to now mid-single digits. So I think you can think about a number of our acquisitions as being underpenetrated in a number of markets. And that has been a source of growth for several of them. I’ll conclude – sorry for the long-winded answer here. But IDT just very briefly, new acquisition.

IDT is a very U.S.-centric business, a great business. But probably 3/4, 75% of the balance of sale is U.S.-based or North American-based. So again, another opportunity to leverage our footprint and the large footprint that we have in our Life Science platform to try and expand the reach of a great commercial front end that we have at IDT.

[Ross Muken, Evercore ISI]

Tom, you stole the follow-up question I was going to ask you on IDT into non-U. S. But maybe just quickly, can you just give us a feel on that one on IDT? That’s a very unique business, custom oligos, fantastic market share. It’s probably the best in the world at what it does by far. How does that sort of fit into kind of your portfolio? It’s kind of a unique business. And sort of what else are you going to be doing, I guess, around molecular biology, sequencing, PCR, synthetic biology, all the areas they kind of play into that maybe aren’t areas we’ve traditionally thought of you being a leader in?

[Tom Joyce, President and Chief Executive Officer]

Sure. Thanks, Ross. It fits in, in such a number of different ways, starting with how attractive the market is in which IDT plays and the leadership position that it commands in that very attractive market. Just for context, the genomics reagent market is about a $3 billion market growing double digits with some great secular growth drivers around. And you mentioned a couple of these, next-gen sequencing, gene editing, qPCR, not to mention sort of basic oligos. And of course, over time, we’ll see the growth in synthetic biology.

And so into this great market, you have this leading player, IDT, generally a founder-built – a founder-led business over a number of years, building a leadership position around quality, turnaround time, all of which then leads to tremendous brand identity. Their Net Promoter Scores, Ross, were as probably as high as any Net Promoter Scores I’ve seen in a newly acquired business in a long, long time.

And all that sort of then combines to deliver this terrific mid-teens kind of growth rate over the last several years and really strong gross margins at north of 60%. And so when you step back from this, IDT really brings to our Life Science platform a position in high-value consumables with a tremendous commercial front end that has delivered consistent performance over a long period of time. We think there’s opportunities for us to add incremental value here.

We talked certainly about expanding geographically being one. But there’s also opportunities for DBS to play a role here, both in terms of operational improvements, and in addition to that, on the growth side. So we think it fits extraordinarily well with a number of the growth areas in Life Sciences and really fills what otherwise you would have said would have been a bit of a void in terms of addressing the high-growth consumables positions in those high-growth segments.

[Ross Muken, Evercore ISI]

Great. And maybe just one quick clarification, I wasn’t sure if I missed it. Did you update the full year organic guide?

[Tom Joyce, President and Chief Executive Officer]

Well, we certainly aren’t talking about the 3.5% that we had in the prior guide, Ross. We did say that we expected roughly 4% core growth here in the second quarter. We’re not even four months into the year here. And so I think as we get a little bit deeper here into the second quarter, we’ll get a look at what we think is going to happen in the back half of the year. But we feel very good about the momentum we’re building and feel very good about where we are going here into the second quarter.

[Ross Muken, Evercore ISI]

Thanks, Tom.

[Operator]

We’ll go next to Scott Davis with Melius Research.

[Scott Davis, Melius Research]

Hi good morning. Some good information. So I’m going to go a little bit over to the industrial side. And would you characterize Pall Industrial as kind of accelerating, stable or some other description? It wasn’t totally clear in the remarks.

[Tom Joyce, President and Chief Executive Officer]

I think there’s a number of areas of improvements there, Scott. I think one of the areas that I highlighted was microelectronics. That’s been a bright spot within Pall’s more industrial and process-oriented business for quite a while now. And we see that sustaining itself behind really good execution and some new products as well. But I think beyond that, what we’ve really seen is some improvements in commercial execution and some improvements in new product development that are combining to intersect with what I think are some improving market dynamics. You may recall, our timing wasn’t exactly brilliant in terms of the industrial slowdown that took place not long after the Pall acquisition closed. And so that segment of the business struggled a bit, not only from its historically poor execution, but that market dynamic, I think we have seen improvement in both that bodes well for contributing – a continuing contribution to Pall’s improving growth rate.

[Scott Davis, Melius Research]

I mean, if you go back and you look at your original Pall assumptions and your deal model, I mean, are we catching up to the deal model despite the cyclical downdraft? Or are we…

[Dan Comas]

Yes, I think we’re tracking well to the deal model. We’re a little behind on revenue because of the industrial side. We’re back to kind of close to the low to mid-single-digit growth at the industrial side. But we’re well ahead on the cost side. So overall, we’re very pleased on how we’re tracking versus our expectations. Particularly now that we’ve had a couple of quarters of mid-single-digit growth on the industrial side, the growth equation’s playing out well. And clearly, we’re far ahead on the margin side.

[Scott Davis, Melius Research]

Right. And everything looked great, except Dental, obviously again. And every company has something that’s not going right, right? But this has been a business that’s not been going right for a while. Is there an end of your patience? Is there kind of a tipping point, I would say, where you’d say, " Hey, maybe this is just in the hands – better in the hands of someone else"?

[Tom Joyce, President and Chief Executive Officer]

Yes. Scott, my patience or tolerance for a business that is in a challenged position is largely a function of whether or not we have the right kind of vision for areas for improvement and whether we’re making progress moving down that path towards that vision. And I think in a number of areas, we’ve shown really good progress in terms of both the cost side, where we’ve rationalized a platform that had not been rationalized for a long, long time, consolidating operating companies from 10 to 4, consolidating sites, manufacturing sites and back offices by over 1/3 and then investing for new product innovation and starting to get some growth associated with those. So I think we’re making good progress. And that allows us to have a bit of patience for that. Now that being said, it is always a topic in our boardroom as to the overall portfolio of Danaher.

And you know our track record, Scott, as well as anybody that we are continually evaluating businesses, individual operating companies and even platforms in terms of their long-term potential and whether they’re in the right hands, to use your term. And that is not just a topic that we discuss from time to time. It’s always on the table. And so we’ll continue to evaluate that, continue to evaluate our progress and continue to evaluate the overall dental market and how to position our Dental business for the highest return to shareholders.

[Scott Davis, Melius Research]

Great. Well good luck guys and we’re in for year some keep it up.

[Tom Joyce, President and Chief Executive Officer]

Thanks Scott.

[Operator]

We’ll go next to Doug Schenkel with Cowen.

[Doug Schenkel, Cowen]

Good morning. My first question is on EPS guidance. You increased full year guidance for EPS at the midpoint by about $0.12. Q1 contributed about $0.08 to this. You should add a few cents of accretion for the IDT acquisition. So it doesn’t look like full year EPS guidance for the base business was meaningfully increased for the balance of 2018. It certainly sounds like most businesses are at least holding serve with solid momentum. So is updated EPS guidance a function of conservatism? Is there some incremental investment that’s now planned? Or is there some other dynamic at play that we should be contemplating?

[Dan Comas]

Doug, I guess the way that I would look at it is we raised the midpoint by $0.12. We beat the first quarter versus consensus by about $0.05 or $0.06. So there’s maybe $0.06 or $0.07 coming from a combination of general confidence with the order book and margins, currency, inclusion – obviously, inclusion of IDT. But we also recognize that if this positive environment continues, that will allow us some additional degrees of freedom here to potentially, as you point out, to accelerate some of our growth investments.

[Doug Schenkel, Cowen]

Thank you for that. And then I just wanted to dig in a bit more on Diagnostics, specifically Beckman Coulter in North America. It looks like Beckman Diagnostics' revenue had modest declines in North America and developed markets. Could you provide a bit more detail on what the key drivers there were and if these declines are expected to continue for the balance of 2018?

And relatedly, are you seeing pricing renewal or win rates being impacted by PAMA? And I guess, as long as I’m going along these lines, did flu negatively impact Beckman volumes in any ancillary businesses? Thank you.

[Tom Joyce, President and Chief Executive Officer]

Thanks, Doug. First, in terms of North America, North America has historically been, going all the way back to when we acquired Beckman, the most challenging market for us. That business was in decline in North America when we acquired the business. We track the – our retention of customers and our win rates very closely in each one of the markets. And we’ve been very encouraged by the progress that we’ve made in North America associated with retention and with new customer win rates.

Our strength has typically come from our core businesses around immunoassay and clinical chemistry with the addition of Iris in urinalysis, an acquisition we did following Beckman, as well as the microbiology business, we’ve strengthened our offering in North America now. As I mentioned relative to, I think, Tycho’s question earlier, the challenge has really been around hematology.

And that’s where our retention and our win rates have been the most challenged. And that’s where we’ve put a great deal of energy and investment associated with new product development to better position ourselves for improved competitiveness in North America. So that’s the way I’d probably characterize it. I think you’re on the right track in terms of that particular geography being one of our biggest opportunities for improvement. And I think we’re making progress there.

Relative to PAMA, Doug, we’ve seen very little impact of PAMA to this point. Certainly, we’ve had some dialogue about PAMA with a number of key customers. I think they understand well the impact that PAMA has, at least associated with a fairly narrow segment of our business. Remember, I guess, for others on the call, PAMA impacts only U.S. businesses, U.S. Diagnostic businesses. Only 40% of our Diagnostic business at Beckman is in the U.S.

And of that business in the U.S., 75% of it is in the hospital. And PAMA, the cuts in reimbursement associated with PAMA, are associated with generally outpatient testing. And so the impact has been fairly modest at this point. We expect those – the dialogue around PAMA to continue this year associated with the contract renewals. But we think we understand what that modest impact might look like and are managing to that accordingly.

And then in terms of the flu impact across the overall market, we didn’t see the higher level of spend associated with flu, Doug, as having any negative impact on the rest of our sell in to our end users. So in general, we saw that flu as largely incremental, driven by obviously the challenging nature of the season itself but also associated with our good execution associated with new customer penetration and new test menu.

[Operator]

[Operator Instructions] We’ll go next to Julian Mitchell with Barclays.

[Julian Mitchell, Barclays]

Thank you, very much. So I guess my first question would really be on the Environmental & Applied Solutions business, which I don’t think has been really touched on so far. Really it’s around the core margins. That performance year-on-year at least has been fairly sluggish in the past two quarters.

I think you talked about higher investment spend back in January. But I also noticed that pricing was a big tailwind in Q1. But you only saw a, I think, a 15 bps core margin expansion. So I wondered if you could give an update on the investments in that segment, but also whether there’s some price-cost dynamic that’s crimping margins as well.

[Tom Joyce, President and Chief Executive Officer]

Julian, thanks for that question. And by the way, I know the follow-up questions are not the problem. It’s my long answers that are probably the problem, so sorry for that. We have really strong margins across EAS, generally. It’s a 22% margin platform in the most recent period. And the margins were down a bit in the quarter. There was acquisition impact that probably had about 75 basis points associated with some recent deals over at water, like AppliTek and Kipp & Zonen, that come in at lower margins.

The core operating margins were up, up modestly and probably in the area of 15 to – 15 basis points or so. And so we did, during the course, given the strength of other businesses in the quarter, accelerate some restructuring in the platform in a couple of areas. And we did make some incremental investments in Q1, including R&D as a percent of sales that stepped up about 50 points.

So if you set aside those items, the core operating margin would have been up closer to 50 basis points. There was actually a pricing contribution there as well. We – given that we’re in a bit more of an inflationary environment today, we do have a number of our businesses being what I think is very thoughtful about – about using price, again where it’s well justified and where we’ve got strength to deal with it at the end user level.

A couple of examples of that would be clearly at Videojet, where we’re seeing price readthrough, and at ChemTreat as well. Obviously, ChemTreat being a little bit more oriented to chemical pricing associated with their consumables, I think we’re on a firm foundation of going out and getting price there as it’s well justified. So those are a few of the moving parts associated with what obviously, at a print level, were some down margins.

[Julian Mitchell, Barclays]

Very helpful thanks. And my follow-up would just be when we’re looking at the second quarter guidance on core growth, what sort of leveling out or abatement of the core sales decline does that assume happens within Dental and whether that’s more pronounced on the equipment side or traditional consumables in terms of that improvement of the year-on-year trend from Q1?

[Tom Joyce, President and Chief Executive Officer]

We’re looking at Dental as being roughly flattish in the second quarter. And that would reflect continued good performance of our specialty consumables businesses, like Nobel, that I mentioned, grew mid-single digits in the quarter, and the consumable and equipment side of KaVo Kerr being down marginally.

[Julian Mitchell, Barclays]

Thank you.

[Tom Joyce, President and Chief Executive Officer]

Thanks, Julian

[Operator]

We’ll go next to Steve Beuchaw with Morgan Stanley.

[Tom Joyce, President and Chief Executive Officer]

Good morning, Steve

[Steve Beuchaw, Morgan Stanley]

Hi, thanks for the time. And good morning here. I just wanted to try to unpack a couple of things that have come up on the call. The first was, in your prepared remarks, Tom, you made mention of an expectation within the context of Pall and bioprocess and single-use for an acceleration over the balance of the year. It’s consistent with what you’ve been calling for, I think, dating back to December in the Analyst Day. But I wonder if you can give us just a little bit more insight into how you’ve seen that evolve here through the first several months of the year.

[Tom Joyce, President and Chief Executive Officer]

Steve, we’ve seen order rates continue to improve across bioprocessing. You probably remember well, we saw those order rates soften in 2017, certainly through the middle to latter part of the year. They have continued to improve both across the more general filtration, let’s call it filtration side of bioprocessing but also specifically around single-use. Single-use has been pretty strong and pretty consistently strong. But we’ve seen that continue to grow as we see incremental customers adopting the single-use technologies as they get into smaller batch sizes associated with large-molecule drugs. So overall, we feel pretty positive about the continued performance at Pall on that side of the business.

[Steve Beuchaw, Morgan Stanley]

And then just to circle back to Dental to make sure that we understand the trends to the extent that we can, excluding the impact of some of these near-term transition points. Can you give us a sense for maybe with a little bit more specificity where the sellout was in the quarter? I want to say it was in the 3, 3.5 neighborhood for 4Q. Are we still in that ballpark? And then as it relates to the impact of inventory, are we thinking about inventory this year as being a bigger headwind than we were before? Or is it just more accelerated into the front part of the year as you guys have worked with your distribution partners there? Thanks so much.

[Tom Joyce, President and Chief Executive Officer]

Thanks, Steve. First, on that last point, no, I would not say inventory is a bigger challenge there. I’d say it’s probably modestly lesser of a challenge. Yes, we did accelerate some of what we otherwise would have been working with the channel to reduce over the full year and move that into the first quarter, given the strength that we had in a number of our other businesses. So I think we feel pretty good about that. These inventory management challenges with the distribution channel are – they’re just – they’re part of doing business in a market where essentially distributors play a key value-added role across a large segment of the overall market.

And so we understand that it’s a partnership, and we work on these things together. As we work to help them manage inventories effectively, they work with us to help drive sellout. And the more effectively we drive sellout, obviously that takes care of some of that inventory challenge that wouldn’t otherwise come out of our top line. So hopefully, we see the benefits of all that come together as the rest of the year progresses, and we expect that we will. Relative to sellout, I mentioned that we saw some improvement in consumables sellout. And I think to get any deeper than that into an individual product category, you could probably come back to Matt later on in the day, and we could probably take you through some of the individual categories on the consumables side in terms of whether it was in endo or restoratives, et cetera.

[Steve Beuchaw, Morgan Stanley]

Thanks so much, Tom.

[Tom Joyce, President and Chief Executive Officer]

Thanks, Steve.

[Operator]

We’ll go next to Derik De Bruin with Bank of America.

[Tom Joyce, President and Chief Executive Officer]

Good morning, Derik.

[Derik De Bruin, Bank of America]

Good morning, thanks for squeezing me in. So I’m surprised no one has asked the China trade and tariff question yet, so I will do that one at this point. Obviously, I mean, I assume some of your conservatism in the organic revenue growth, sort of maintaining it where it is at the 3.5%, 4% level now is sort of driven by some concerns over the geopolitical outlook and tariffs and trade and fiscal policy. Could you sort of walk through sort of what your current thoughts on that, sort of your analysis on what could be impacted in the sort that we go to a hotter trade war?

[Tom Joyce, President and Chief Executive Officer]

Sure. Well, I’m sure I speak for a lot of businesses, far beyond our businesses today, to say that the narrative around tariffs and trade, and even – I’d even go so far as even to go to the interest rates today, altogether make for a bucket of uncertainty associated with the balance of this year. And so I think we can only hope that, that narrative kind of settles to a point where the execution side is not disruptive. Specific to tariffs, where I think you started the question, we – based on what we know right now, which is pretty limited, right, there’s a lot of uncertainty still about what actually gets implemented and the timing of what gets implemented.

But that being said, if you just took the narrative that’s been put out to this point, our exposure would be very modest. We have a tremendous business in China. We do about $2 billion of revenue in China. But we have a fairly modest exposure to any of the product categories, let alone specific codes, that would be reflected in any of these onerous tariffs that might be inbound into China.

On the opposite side, in terms of what we export from China and into the U.S., that’s an even more modest number. Of course, our business being so highly skewed towards consumables, high gross margins, low materials content, particularly low content in some of the more basic materials, like steel and aluminum, altogether would suggest a fairly modest impact. But we will continue to monitor it closely. We know these things can change literally in a day. And we’ll stay very close to it.

[Dan Comas]

And Derik, I mean, obviously if it sort of got ugly, which it could, I think as Tom alluded to, given sort of high gross margin consumables that don’t have a lot of material content typically, we have a lot less exposure than other companies. And because of the nature of those products, I think we could be more nimble in moving production around if we had to, to sort of deal with some of that. You also made, I think, in the introductory comment made some comments that we’re holding to 3.5% to 4%. I think to be clear, if we were giving guidance for the full year, we would not be talking about 3.5%. I just want to make sure to provide that clarification.

[Derik De Bruin, Bank of America]

Okay. Great that’s helpful appreciated.

[Tom Joyce, President and Chief Executive Officer]

Thanks, Derik.

[Operator]

We’ll go next to Erin Wright with Credit Suisse.

[Tom Joyce, President and Chief Executive Officer]

Good morning, Erin.

[Erin Wright, Credit Suisse]

Thanks, good morning. In Dental, what do you think the long-term growth rate is, I guess, for the U.S. geographic segment in Dental? And do you think that this could be a GDP-plus kind of grower longer term? I guess, how are you characterizing kind of the current underlying demand trends? And when do you think that could potentially turn, or visibility thereon? Thanks.

[Tom Joyce, President and Chief Executive Officer]

Erin, I think the long-term growth rate to think about specific to the U.S. is probably a 2% to 3% growth rate if you’re talking about the core traditional consumables and equipment business. So that doesn’t make it a GDP-plus, it makes it more like a GDP kind of business. That being said, the specialty consumables side, for example, like our implant business at Nobel and its value businesses that are associated with it, like Implant Direct and ABT, those combine to participate in much more of a mid-single-digit market and in certain geographies, a high single-digit market.

Again, if you go back to traditional consumables and equipment that’s – that’s that low single-digit kind of growth rate in the U.S., those same product lines are growing double digits in China. And so I think when you look at the overall Dental platform, while the U.S. business – the U.S. market in those more traditional categories may be an uninspiring one, I think the broader categories in some of the broader geographies really make for a much more attractive global market.

[Erin Wright, Credit Suisse]

Okay, great. That’s helpful. And then following IDT, can you speak to kind of the capital deployment focus near term and longer term here, capacity for potential acquisitions as well? Thanks.

[Dan Comas]

Sure, Erin. I mean, clearly given how we got out of the gate from a free cash flow perspective it really puts us in a good position. It’s not unreasonable to think by the time we get to June, we’ll have funded 80% of the IDT purchase price. So I think despite the IDT acquisition, we’re back to what we’re saying 4, 5 months ago, which is we’re quite comfortable spending our free cash flow plus going forward here. And we’re excited about some of the things out there. And we continue to be very active. So this is not like a Pall or a Cepheid-type situation, where there was a pause because of the size of the deals. Obviously, IDT is a little stronger; two, our free cash flow is better. We’re right back at it, looking at sizable opportunities.

[Tom Joyce, President and Chief Executive Officer]

Thanks, Erin.

[Erin Wright, Credit Suisse]

Okay, thank you.

[Operator]

Ladies and gentlemen, this concludes our question-and-answer session. I’ll now turn the call back to Matt Gugino for closing remarks.

[Matt Gugino, Vice President of Investor Relations]

Thanks, Debbie, and thanks, everyone, for joining us. We’re around all day for questions.

[Operator]

Ladies and gentlemen, thank you for your participation. This concludes today’s conference. You may now disconnect.