Envista Holdings Corp

NYSE:NVST

Earnings Call Transcript 2021-Q3

[Operator]

My name is Catherine and I will be your conference call facilitator this afternoon. At this time, I would like to welcome everyone to Envista Holdings Corporation's third quarter 2021 earnings results conference call. All lines have been placed on mute to prevent any background noise. After the speakers' remarks, there will be a question-and-answer session. [Operator Instructions].

I will now turn the call over to Mr. Stephen Keller, Vice President of Investor Relations of Envista Holdings. Mr. Keller, you may begin your conference call.

[Stephen Keller, Vice President of Investor Relations]

Hello and thanks for joining us on the call. With us today are Amir Aghdaei, our President and Chief Executive Officer and Howard Yu, our Chief Financial Officer. I want to point out that our earnings release, the slide presentation supplementing today's call 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.envistaco.com.

The audio portion of this call will be archived on the Investors section of our website later today under the heading Events and Presentations. It will remain archived until our next quarterly call.

As announced on September 7, 2021, we reached an agreement to sell our KaVo Treatment Unit and Instrument business. For the current quarter, the results of this business are reflected as discontinued operations in our financial statements as required by Generally Accepting Accounting Principles. Additionally, the financial statements included in our third quarter 10-Q and to be included in our 10-K for the fiscal 2021 will reflect the KaVo Treatment Unit and Instrument business as discontinued operations as required by GAAP. All references in these remarks and accompanying presentation to earnings, revenues and other company-specific financial metrics relate only to the continuing operation of Envista's business except for cash flow measures.

During the presentation, we will describe some 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 relates to the third quarter of 2021 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 that have applications submitted and pending certain regulatory approvals or are available only in certain markets.

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, anticipate 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 may differ materially from any forward-looking statements 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 would like to turn the call over to Amir.

[Amir Aghdaei, President, Chief Executive Officer]

Thank you Stephen and welcome everyone to Envista's third quarter 2021 earnings call. I want to begin by thanking our employees for delivering another outstanding quarter. Every day, our employees partner with dental professionals to improve lives and expand access to oral care. The dedication and passion of our employees is what will drive our long term success.

In the third quarter, our continuing operations delivered core revenue growth of 10.2% compared to the third quarter of 2020. We grew significantly above pre-pandemic levels and continue to benefit from the repositioning of our portfolio, our improved commercial execution and our long term investments in innovation. Our Q3 adjusted EBITDA margin was 19.6%. Taking a longer view, our year-to-date adjusted EBITDA margin is 20%, reflecting the underlying profitability of our business.

Before I turn it over to Howard to discuss our third quarter results in more detail, I want to provide more color on our progress towards our long term priorities of accelerating growth, expanding our operating margin and transforming our portfolio. Since our September 2019 IPO, we are focused on accelerating our growth through organic investment in innovation and commercial execution. We continue to make meaningful progress across our businesses.

With a uniquely differentiated portfolio, our orthodontic business continues to deliver strong results. We are the only company who offers clinicians a full range of orthodontic treatment options enabling them to provide better, more personalized treatment plans to more patients.

Our clear aligner business continues to grow rapidly with sales expanding over 130% versus the third quarter of 2020. We are expanding our geographic footprint, increasing our active user base and further penetrating DSOs. The Envista business system provides the tools and processes to deliver this rapid growth while ensuring an unparalleled customer experience. So far in 2021, we have reduced the time from initial scan to case shipment by 40% and continue to improve our customer onboarding experience. Since launching Spark in 2018, we are on track to start a total of 100,000 new cases by end of the year and further we are well on our way to achieving $100 million run rate in early 2022.

Our premium implant business continues to accelerate, delivering double digit core growth versus the third quarter 2020. Our innovative TiUltra and Xeal surfaces continue to perform well and are driving our growth with 30% of our implants sold globally now featuring our new best-in-class surfaces. Our commercial execution is further driving share gain in global premium implant segment. We are focused on supporting our customers in Q3, providing over 300 training and education opportunities reaching over 7,000 clinicians globally.

Our imaging business performed exceptionally well in the quarter, delivering core growth of over 20%. Dental professionals remain confident in the outlook for their practices and remain focused on investing for the long term. Our imaging offerings combined with our DTX Studio clinic software solution provides our customers with a seamless imaging workflow and integrated digital experience. This September, we were honored to win Cellerant's best-class award for our DTX solution. This is an example of how we are transforming the dental industry into the next phase of technology, expanding access for patients and delivering a seamless and productive workflow for clinicians.

The Envista Business System and our focus on continuous improvement is a foundation that delivers both our short and long term profitability. Our team leverages our EBS toolkit to reduce structural cost, consolidate our footprint, improve productivity and drive operational improvements. Across our businesses, gross margins improved 230 basis points in the third quarter versus Q3 2020. This is despite some of the inflationary headwinds we have seen in shipping costs as well as in petroleum-based supplies and chemicals. To-date, our daily management and focus on execution allowed us to mitigate many of the significant supply chain disruption that the world is increasingly experiencing.

Since the start of the pandemic, we have taken aggressive actions to transform our business. We took over $100 million in structural cost by delayering our organization and consolidating our operating footprint. We invested significantly in our long term growth by utilizing our EBS tools across our portfolio to drive commercial execution and we continue to build sustainable competitive advantage through innovation.

With the announced sale of our KaVo Treatment Unit and Instrument businesses, we also made material progress toward our long term goal of reorienting our portfolio to higher growth and higher margin segments. The divestiture shifts our portfolio from a 50-50 split between our two segments to a 60-40 mix in favor of the faster growth and higher-margin specialty products and technologies segment. As a business, we are now more focused on high value and higher margin consumables, imaging and digital workflow solutions with over 60% of our business now sold directly to clinicians.

By exiting the treatment unit and instrument business, we expect to increase our core growth trajectory by 50 to 100 basis points, while expanding our long term operating margins by 30 to 50 basis points. We plan to use the net proceeds from the sale to accelerate our portfolio transformation through an aggressive but disciplined approach to capital deployment. We utilized our EBS driven standard M&A and market work to manage a robust pipeline of inorganic partnership and investment opportunities and we are actively cultivating new opportunities.

I will now turn the call over to Howard to go through our third quarter financials and segment performance in more detail.

[Howard Yu, Senior Vice President, Chief Financial Officer]

Thanks Amir. Before we begin, I would like to remind you that our third quarter results are based on continuing operations, reflecting the pending sale of our KaVo Treatment Unit and Instrument business. Accordingly, the quarterly results of the KaVo Treatment Unit and Instrument Business are now reported as discontinued operations.

Given this complexity, before diving into the results of our continuing operations, I would like to take a moment to level set and just confirm that our businesses are performing very well. Results for both continuing operations and discontinuing operations exceeded our expectations in the quarter. We are ahead of our guidance and based on our performance, we have the confidence to raise our full year guidance while continuing to invest for the long term.

Now moving to the results in the quarter. Third quarter sales increased 11% to $607.3 million. Reported sales were positively impacted 1.1% due to foreign currency exchange rates and negatively impacted 0.3% related to other discontinued products. Our core sales growth was 10.2% compared to the third quarter of 2020.

As Amir discussed, our year-over-year growth reflects solid demand across the dental market and consistent execution across our portfolio. Geographically, North America and Western Europe's core sales growth was 8.2% and 9.1%, respectively, as business conditions continued to improve compared to the third quarter of 2020.

Our emerging markets, including China, grew over 15% in the quarter. In China, we continue to see solid growth in both our strategically important implant business as well as our orthodontic solutions.

Outside of China, our other emerging markets are clearly rebounding from pandemic lows. We expect to see the continued strengthening of demand in these markets as vaccinations continue to roll out and economies continue to reopen.

Overall, we remain optimistic about demand for the balance of 2021. Barring any major pandemic-related disruptions to either patient volume or the overall supply chain, we believe that volumes will remain above pre-pandemic levels for the balance of 2021 and into 2022.

Our third quarter gross margins from continuing operations was 58.7%, increasing by 230 basis points compared to the prior year due to higher volume, favorable product mix and productivity initiatives across our portfolio. The adjusted EBITDA margin of 19.6%, which was 80 basis points lower than Q3 of 2020. As expected, in Q3 we continued to invest in our long term innovation while increasing spending on travel and in-person customer-facing activities with the continued easing of pandemic-related lockdowns.

Our adjusted EBITDA was negatively impacted by approximately $3 million in stranded costs related to the expected sale of the KaVo Treatment Unit and Instrument business. We expect to begin addressing our approximately $10 million of annualized stranded costs in Q4. Our third quarter adjusted EPS was $0.45 from continuing operations compared to $0.40 from the prior year.

Our specialty products and technologies segment core revenue increased by 13.3% compared to the third quarter of 2020, driven by strong growth in premium implants and continued growth from Spark. Compared to the third quarter of 2019, our specialty products and technologies segment core growth was 11.7%. Our improving business execution in premium implant led to double digit core growth versus 2020.

We saw solid growth across most geographies and believe we are gaining share in the premium segment. Our specialty products and technologies segment adjusted operating profit margin at 23.3% was 180 basis points higher than our third quarter 2020 results. Our improved profitability was primarily driven by solid growth, favorable product mix and structural cost savings offset by increased spending on travel and customer-facing activities as well as long term investments in innovation.

Our third quarter equipment and consumables segment core sales from continuing operations increased 6% compared to 2020. Strong demand and solid execution in our imaging business drove the results in this segment with core growth of over 20% compared to the third quarter of 2020. As expected, sales of our infection prevention solutions declined from peak pandemic demand. Despite the lower Q3 sales, inventory sellout trends reported by our distributors indicate that we are gaining market share in our core dental and medical markets.

Additionally, CaviWipes 2.0 has been well received in the market and should help us capture additional share. Overall, we continue to see enhanced safety protocols driving higher demand long term and expect this business to grow mid single digits in the future.

Equipment and consumables adjusted operating profit margin was 20.8% from continuing operations in the third quarter of 2021 versus 20.8% in 2020. Solid margin improvement in imaging and restorative solutions was offset by the slowdown in infection prevention. Further, we experienced some inflation related to chemical commodities that impacted our infection prevention business. As Amir noted, with the pending sale of KaVo Treatment Unit and Instrument Business, our equipment and consumables business will be faster growth and higher margin business over the long term.

For the third quarter, we generated free cash flow of $82.3 million and ended the quarter with over $600 million in cash excluding the expected proceeds from the KaVo Treatment Unit and Instrument Business sale. Our balance sheet is very strong and we have ample liquidity to pursue inorganic growth opportunities as they become available. Looking forward to full year 2021, we are raising our guidance and are now expecting to deliver revenue from continuing operations between $2.475 billion and $2.5 billion. We further expect to deliver adjusted EBITDA between $480 million and $495 million. This includes a negative impact of approximately $10 million of full year stranded costs associated with the sale of KaVo Treatment Unit and Instrument Business.

As mentioned, we expect to begin addressing these costs in Q4 and work to reduce the impact as we move through 2022. While it is too early to provide guidance for 2022, we remain committed to our long term target of delivering mid single digit growth, increasing our operating margins by 50 to 75 basis points annually while funding our long term growth initiatives.

I will turn the call over to Amir for some closing comments.

[Amir Aghdaei, President, Chief Executive Officer]

Thanks Howard. We are very pleased with our third quarter results and remain optimistic about the future of the dental industry. Since our IPO, we have focused on accelerating our organic growth, improving our operating margins and transforming our business. We moved decisively to reshape our portfolio by exiting and divesting lower growth, lower-margin businesses where we were less differentiated. We invested in innovation across our portfolio including the Spark, TiUltra, Damon Ultima and CaviWipes 2.0 and improved our commercial execution.

Finally, we significantly improved our operating margins by reducing structural costs and improving productivity. As a result, we transformed our portfolio from a broad mix of equipment, consumable and specialty products to a focused dental company, providing highly differentiated consumables and specialty dental products underpinned by strong digital workflow solutions. We are now focused on the fastest growing, most attractive segments of the dental industry and continue to work with our clinical partners to streamline their operations and improve patient care. We are actively partnering with dental service organizations as they improve access to oral care. We are positioned as a partner of choice for this fast growing customer segment.

Moving forward, our goal is to be a leader in orthodontics, providing a differentiated and integrated suite of treatment options, including bracket and wires and clear aligners. We will further accelerate our growth in implant by leveraging our premium implant franchise to provide full solutions across the implant workflow, including regenerative and prosthetic offerings. We will continue to grow and broaden access to our highly profitable and differentiated consumables business. Finally, we will leverage our strength in imaging and diagnostics to build digitally integrated workflows from diagnostics to treatment planning to execution for our clinical partners.

We see significant opportunities to invest organically and inorganically and we have the financial flexibility and management focus to further accelerate our growth trajectory via portfolio transformation. The progress we made this quarter is a direct reflection of our continuous improvement culture and our commitment to our customers in the dental industry. Our purpose is to partner with dental professionals and improve patients' lives by personalizing, digitizing and democratizing dental care. We look forward to our continued growth journey in 2021 and beyond.

[Stephen Keller, Vice President of Investor Relations]

Thanks Amir. That concludes our formal comments. We are now ready for questions.

[Operator]

[Operator Instructions] We will take our first question from Elizabeth Anderson with Evercore. Please go ahead.

[Elizabeth Anderson, Evercore]

Hi guys. Congrats on the nice quarter. Thanks for the question. Despite the much tougher comps in the quarter, you saw obviously very nice growth in both specialty and on equipment and consumables. Can you go into more detail about what you were seeing maybe from a patient volume perspective in some of the sub-segments, notably maybe like ortho and implants on the specialty side? Thanks.

[Amir Aghdaei, President, Chief Executive Officer]

Yes. Thank you Elizabeth. Broadly speaking, patient volume has improved and is above pre-pandemic levels in the developed markets in China. If you look at our business, almost 90% of our business is in Western Europe, North America and in China. While there remain pockets of weakness based on localized outbreaks and shutdowns, overall, things are trending positively.

Our emerging markets outside China are starting to see an uptick from pandemic loads. We remain very optimistic, but are mindful that there remains some risk about new variants as well as a slow vaccination rollout in certain areas.

Answering your question about what we see on premium implant as well as clear aligners. Both of these segments are so underpenetrated and we think there is significant runway. What we saw in the third quarter was continued double digit sequential growth for Spark, driven by active doctors' usage as well as new case submission growth. We continue to show and demonstrate to Spark. People see the value of it. They understand the differentiation between what we offer versus competitors and they really acknowledge the level of support as well as the technical capabilities that we are offering in this space.

Our premium implant business continued to make progress. As we mentioned, a double digit growth in Q3. And we are optimistic about the work that we have done in the past couple of years to see that trend to continue worldwide.

[Elizabeth Anderson, Evercore]

That's super helpful. And sorry, just to clarify, you said double digit sequential growth in Spark. Did I hear you correctly?

[Amir Aghdaei, President, Chief Executive Officer]

Yes. Absolutely.

[Elizabeth Anderson, Evercore]

Okay. Perfect. And then as far as 4Q, I know there is obviously some puts and takes with taking the numbers out, the KaVo numbers out of the results. Can you talk about what your core underlying assumptions are for the 4Q revenue guidance in terms of visits, any other types of things, embed anything about N1 or anything like that that you would call out?

[Howard Yu, Senior Vice President, Chief Financial Officer]

Yes. I would say, Elizabeth, this is Howard. Thanks for the question. I think that we feel quite good about where we are at, performance-wise year-to-date. And I think that we anticipate things to continue here in the fourth quarter as it relates to pre-pandemic demand and the like as it relates to customers and dental office visits. There are a couple of, I would say, uncertainties as it relates to Q4.

I think given some of the disruptions from COVID, we are seeing slightly different seasonal patterns, particularly in our imaging business. And so we had, in Q3 our imaging business grew nearly 25% and while we think that we will have some strong growth here in the fourth quarter that over-performance is likely to moderate a little bit there. And so that's one thing to keep in mind.

I also think that as it relates to the number of days, we have a bunch of clinicians that have had really good year. And I think they are looking forward to taking some time off. And so we are hearing from the field as well that there's some pent-up vacation demand. And so we need to just be thoughtful about that.

And then as it relates to maybe the margin side, we expect continued ramp up for us on the customer-facing commercial activities and we are mindful a little bit, as Amir had talked about too, around the inflation and some of those things that might come into play. I mean whether it's transitory or longer term, certainly we are seeing a little bit of impact of that as well. And so that speaks to some of the margins as we anticipate for Q4.

[Elizabeth Anderson, Evercore]

That's very helpful. Thank you.

[Howard Yu, Senior Vice President, Chief Financial Officer]

Sure.

[Operator]

The next question comes from Jeff Johnson with Baird. Please go ahead.

[Jeff Johnson, Baird]

Thank you. Good afternoon guys. How are you? Howard, I was hoping on the guidance. Unless I am missing it somewhere, I don't see kind of a crosswalk from what your guidance would have been excluding the divestiture prior to this update tonight. It would just be helpful, I think, to level set us all. You say you are raising the guidance. But if we could just kind of see what your guidance would have been last quarter without the divested products in there?

[Howard Yu, Senior Vice President, Chief Financial Officer]

Yes. Maybe the easiest way, Jeff, to think about this is, we provided guidance historically that we would say our topline revenue, we anticipated somewhere between $2.8 billion and $2.9 billion. That was all up. So if we think about continuing operations and the discontinuing operations,

I would say the way to think about it now is, in light of our Q3 performance, we would be taking up that entire number up to the very high end of that guide. And so instead of the $2.8 billion to $2.9 billion, we would be closer to the $2.9 billion because of the overage and the better performance that we see both in continuing ops as well as the discontinuing ops coming in a bit stronger.

As it relates to the bottomline or the adjusted EBITDA guidance, we have historically provided high teens is what we said. And in light of the performance that we have had year-to-date and particularly in the third quarter, we would take that up to the very high teens. And so that may be helpful as it relates to being able to see apples and apples comparison from what we have historically provided.

[Jeff Johnson, Baird]

Yes. No, that's exactly what I was looking for. Thank you. And then, Amir, I am trying to piece together kind of comments you have made over the last couple of few quarters on the implant business, especially the premium implant business. And with the double digit growth in premium this quarter, it seems to me as if that Nobel Biocare business has kind of strengthened each quarter on a year-over-year basis, even on a two-year basis. However, we want to kind of normalize for the noise of COVID last quarter or last year and I guess even into this year. But just talk about your Nobel Biocare premium business, if you would? And kind of what you have been seeing those trends kind of over the last few quarters? Have they been strengthening each and every quarter? That would be helpful Thank you.

[Amir Aghdaei, President, Chief Executive Officer]

Yes. Thanks Jeff. In third quarter, premium implant grew double digit versus 2020, Q3 2020. 12.1% was a number, the exact number. And we grew high single digits when you compare it to 2019. So compared to 2019 Q3, we grew 8.4%. So if you look at it, almost every quarter, we have seen an uptick on the premium implant performing a lot better than what we did pre-pandemic and the recovery that we have seen post-pandemic has continued.

And you take a step back. So what have we done differently in here and why do we feel comfortable moving forward? Primarily, it has been because of the strong commercial execution. As you recall, we talked about some changes that we made in Europe. We did that in 2018 and beginning of 2019. We start seeing that transition to take place. We did the same thing in the U.S. And in the past three quarters, we continue to see every quarter better performance in North America than what we had before.

And just to add to that, October, we have seen that trend to continue. We are pretty optimistic with the core and existing portfolio and some of the new innovation that we have put in place, the new surfaces are doing extremely well. And with the upcoming N1, we think the commercial execution plus innovation will really put this business in high single digit and over time, get us to a double digit growth which is what we aim to do in the coming quarters and coming years.

So commercial execution is the foundation of what we have seen in here and that trend to continue. And customers are beginning to respond to it and see the customer experience that they expected from the Nobel coming back. And we are really pleased with what the team has been able to do.

[Jeff Johnson, Baird]

Thank you.

[Operator]

The next question comes from Jon Block with Stifel. Your line is open.

[Jon Block, Stifel]

Hi guys. Good evening. I know you didn't give official 2022 guidance, but I think you did talk about 50 to 75 bips of OM expansion. And I guess this is sort of just a clarity question. Is that inclusive, the 50 to 75 bips, is that inclusive of the $10 million in stranded costs that I think you called out that you will try to start working through in 4Q, but I am guessing there's going to be a stub into 2022. So does it reflect that? And maybe just as a tack on from overall acquisitions and divestitures. Just broadly speaking, do you guys feel the portfolio is where you want it to be in terms of pruning? You have discussed your desire to flex M&A. But are there any other product lines that you guys feel are non-core to the entity that might still be out there? Thanks and then I will ask a follow-up.

[Howard Yu, Senior Vice President, Chief Financial Officer]

Sure. No problem. Jon, thanks for the questions. Yes, I mean I think as it relates to expectations on 2022, I mean we are not providing formal guidance, but I think we do feel comfortable with that 50 to 75 basis point improvement overall. We have a team that has done well in terms of being able to reduce structural costs. And so as part of these stranded costs, we are going to start attacking those here in the fourth quarter. And we think that we will see that, the progress, throughout 2022. And that does get us up to 20% adjusted EBITDA margin in 2022. And so we feel good about that.

Let me go ahead and hand it over to Amir for the second piece there.

[Amir Aghdaei, President, Chief Executive Officer]

Yes. So that 50 to 75 basis point is assuming that we are going to deal with that $10 million stranded cost and this is on top of that. As far as what the portfolio looks like, Jon, as you know last year we exited about 5% of our portfolio, basically recognized that it wasn't differentiated, wasn't meeting the expectation, had no impact on the margin. So we did that. With the exit of the KaVo Treatment Unit and Instrument, we now have created a portfolio that it is focused on three segments:

In orthodontic segment, as you well know, that business is growing very rapidly, combination of bracket and wire as well as clear aligners really give us a competitive advantage, put us in a position that we are clearly differentiated. We feel very good about our portfolio, our execution, our operational capabilities. And we think that we have plenty of runway in performing double digit, continue to be major player, number one, on the pretty high end of that, which is on the professional segment of the orthodontics.

Our implant business has come together nicely. We have made significant investment there. We are adding to the portfolio organically, inorganically on prosthetic as well as on digital as well as on regenerative. We think that segment of the business is in a very good place and continue to operate.

Our traditional consumable is really high margin and differentiated. And by broadening access to that segment, I think we have an opportunity to set that up and continue to take share and we have been taking share. We have a very good view of what is taking place on the sellout in various geographies. We have been taking share on a restorative and endo business and we have set our CaviWipes to come out of this situation in a much better position as we go forward. And we are really proud of what the imaging team has done in the past several quarters, improving quality, improving access, really put in differentiating ourselves over time.

So you look at the portfolio, well positioned in these segments and we think it's differentiated. Obviously, we are going to continue to look at our business mix. We are going to continue to optimize our portfolio in order to be differentiated. Our goal is now that we have reached a mid single digit growth and about a 20% EBITDA, we want to further improve our growth trajectory to mid single digit plus and high single digit over time. But what we have today plus some of the opportunity firepower that we have in our hands, I think that goal is very achievable as we walk through 2022 and continue to make progress.

[Jon Block, Stifel]

Fair enough. And maybe just a tighter follow-up. There just seems to be some debate among some of the dental companies that have already reported on the current trends. And I think you guys talked above pre-pandemic in most of the areas. Did that persist into October? And I hate to be a little bit myopic there. But just when we think about that dental market, September into October and we think about a global player like yourself, broadly speaking, did that trend line and the strength that you seem to be calling out, did that continue throughout the month of October? Thanks guys.

[Amir Aghdaei, President, Chief Executive Officer]

Yes. Absolutely, Jon. We haven't seen anything that causes us to be concerned about the trend. October, now that it's behind us, a continuation of what we saw in Q3 momentum is there and feel fairly confident about what the guidance that Howard provided, we think that we can execute and deliver as we go forward. We talk to our DSO partners continuously. They are not seeing anything that gives them an indication that there is a change in the horizon.

[Jon Block, Stifel]

Perfect. Thanks for your time.

[Amir Aghdaei, President, Chief Executive Officer]

Of course.

[Operator]

The next question comes from Tycho Peterson with JPMorgan. You line is open.

[Casey Woodring, JPMorgan]

Hi guys. This is Casey, on for Tycho. Just wondering around, you called it out in the prepared remarks there are supply chain headwind from the equipment business. Can you quantify any kind of headwinds baked into the margin guidance? And anything you are seeing on that side?

[Howard Yu, Senior Vice President, Chief Financial Officer]

Yes. So Casey, I think that up to year-to-date, we have seen very modest impact associated with it. I mean as we talked about, it's around petroleum based products and chemicals and some chips as well. And so the team has done an incredible job to-date being able to countermeasure those types of risks.

That said, we realize that as we go into Q4 that there continues to be more shortages and more concerns about this broadly. And so we have put in a little bit of a buffer in that as well. And to be clear, I mean, we have made some investments as it relates to our inventory balances to have enough buffer stock so that we can meet customer demands and not extend lead times and the like to our customers.

And so we have been doing what we can to ensure that we mitigate those risks. The reality is, as we go into Q4 like everyone else in the world, we are certainly experiencing some of these pressures. And so we have contemplated that a little bit here in the guide as well.

[Casey Woodring, JPMorgan]

Got you. And then just following up on the premium implant question from earlier. A couple of your competitors have launched products in this space recently. Just wanted to get your take on your updated thoughts around the competitive environment, especially as you prepare to launch N1 in the U.S.? Any kind of incremental thoughts there?

[Amir Aghdaei, President, Chief Executive Officer]

Yes. Happy to answer that. We have done a tremendous amount of work to look at. If you look at the strong growth that we are seeing on premium implant to launch, as I answered before to Jeff's question, was purely because of commercial execution. But also, we have launched some incredible products, specifically on the surfaces. We were lagging to some degree and we have been able to close that gap very quickly. And those products are very well received. We are responding very well, 30% of the implant now, they have these new surfaces. We feel really good about the portfolio as it stands today.

N1 has continued to make progress in Europe. We are working with the FDA going through the approval process. We are expecting to hear by end of the year the response in here. And we think the N1 along with surface innovation, along with commercial execution, that is going to set us up to be in higher than market growth in 2022. That's what we expect to get into 2022.

When you look at the market, what the trend look like, our intention is to perform better than the market. And we are seeing that trend to continue, as we mentioned, in October. And we are hoping that the team is in a place to be able to embrace the new product categories and continue to execute on commercial applications that we have put in place.

[Operator]

We will go ahead to the next question from Michael Cherny with Bank of America. Your line is open.

[Michael Cherny, Bank of America]

Good afternoon. I want to go back to an earlier question, just to make sure I heard everything correctly and get all the moving pieces regarding the implied 4Q guidance. I get some of the comments that you made, Howard, about the imaging comp and some other pieces. That being said, I am still surprised in terms of the midpoint of your implied guidance, that's roughly flat with your new recast 2Q number. I don't recall on any normal year that being the case. So when you think through that, I guess, how do you risk weight that pressure in the dynamics that has those numbers basically at parity again at the midpoint of your implied guidance?

[Howard Yu, Senior Vice President, Chief Financial Officer]

Yes. So Michael, we feel good about where we are at, the year-to-date performance. I think that effectively, we are just taking us up to the very, very high end of our guidance as a collective including both the continuing and discontinued ops. Bear in mind that we do put in a little bit of consideration here. We have three fewer days in the quarter here as well. And so that's something to be mindful of.

And then as I have indicated earlier, I mean we know that there's going to be significant amounts of likely pent-up vacation demand here in the end of the year, particularly in Europe. I mean, we are hearing that from our commercial teams. And so we factored that in a little bit here as well. And also keep in mind that we do have growth in Q4 of last year as well. So there's some comps there. Sequentially, we are growing our top line. It's an increase from Q3. And so collectively, we feel good about it.

[Michael Cherny, Bank of America]

Got it. And then turning back to Spark and nice sequential performance again. As you think about the next three years of growth or however long, medium term you want to think about, what are the biggest opportunities in terms of continuing to further penetrate the market and take share? Is it more about product quality, more about orthodontic relationship, more about marketing spend? How should we think, now that you are getting toward that critical mass at $100 million run rate, how do you think about the ability to take the next leap beyond what you have already captured?

[Amir Aghdaei, President, Chief Executive Officer]

Yes. Happy to answer that. So we go back, say, we launched this in 2018 in Australia and New Zealand and we brought it in the U.S. We are well on our way to do 100,000 cases by the end of this year. But if we break it down to pieces. So how did we get to this place?

Step one was basically on-core customers. These are Damon customers that they have great relationships with and they were using clear aligners and they were looking for alternatives with the same company, same level of service, same relationship that they have in the past. So we started in that space and we started in North America, outside Australia and New Zealand.

We have expanded that sphere lot larger, a lot bigger. And why they selected the product was due to three factors, product quality and price performance. So when they put it side by side of Spark versus what is available in the market, they feel really good about making that switch or starting using it.

Second was about customer service and relationship and support that we are providing. We have given them the same level of service and support that they have experienced for decades through Ormco and Damon systems.

Last but not least, it's about the trajectory, the trend of what we are doing. A lot of new innovation that we are putting in place in the Spark. And what they are seeing, what they are telling us, I had anticipated, I wanted it and now I am seeing that's coming out. Case after case after case, we are putting more and more product innovation capabilities with dual system, different material, better software. So that's a starting point.

What have we done since then? We have gone to different geographies in Europe, picking up very quickly, very fast. We have gone to DSOs. Now DSOs are becoming a major factor on growth for us. Next, we are registering the product and getting approval in every geography that we are in. Keep in mind, 70% of our current bracket and wire business is outside United States, gives us an opportunity to really extend that. Next after that, there are some general practitioners that they are really becoming really competent on providing orthodontics support. And these are the ones that we are kind of teaching, coaching, helping them to bring to this new domain and giving them alternatives that Spark can provide the best level of support to them.

A combination of all of that. That's why we feel really comfortable at meeting that $100 million goal that we had put for ourselves. We think that beginning of next year, early stages, we are going to hit that mark on a run rate. And this trend is going to just continue. There is no ceiling for us. We haven't put any deadline or goal to say, we have to get to that point. We have the capacity now. We have the team. The marketing spend is there. Product road map is there. We think that we can be a really key player in this space and a differentiated solution provider in ortho as a whole and continue to be a factor on the growth of Envista for years to come.

[Michael Cherny, Bank of America]

Thank you.

[Amir Aghdaei, President, Chief Executive Officer]

Of course.

[Operator]

We take the next question from John Kreger with William Blair. Your line is open.

[John Kreger, William Blair]

Hi. Thanks very much. Amir, maybe just to follow on, on Michael's question. That global rollout for Spark, that sounds interesting. Is that a 2022 project? Or is that something we should think about over the next three or four years?

[Amir Aghdaei, President, Chief Executive Officer]

It has already started, John. We are in China. We are in Australia and New Zealand, as you know. We are in Europe. And the registration is taking place step by step from geography to geography. And a lot of that has to do with the local requirements. Some places, the registration takes a lot faster than others, but we are layering that in and we think in 2022, we are going to see the outcome of some of this expansion. And as we step into 2023, we are hoping that we can provide best support and that level of capability to everywhere that we are currently present with our Ormco business. So we started that beginning of 2021 and we are rolling it as we go forward.

[John Kreger, William Blair]

Sounds good. Thank you. A quick follow-up question now on the implant business and N1. Are you at the point where you have got sort of unfettered access to the clinicians in Europe to do the demonstrations and the teaching that you want? Or is that still being constrained to some degree by the pandemic?

[Amir Aghdaei, President, Chief Executive Officer]

It's still a little bit of constraint, but a lot better than what we saw in like Q1 and Q2 of this year. So the way we are going about it, John, is very similar to what we did with the Spark. We get a cohort of five to 10. We bring them in. We have a training, a couple of days of training. We will let them place an N1 implant and we stay with them for the first three, four, five to make sure that not only them, but the staff is in a really good place and they can use it. We ramp them up. Then we sign the next cohort.

Going forward in this process, similar to what we did with Spark, I think it starts in this format of phased approach and then that kind of expands rapidly. Some of the things that we have seen in Spark, we don't have to do that as much as we did a year ago because those, think about it as a hub and spoke. Those people that they are really capable, the best-in-class, now they are teaching their network.

We had an event in Europe recently that hundreds of people show up and majority of teaching and training took place, some of the Damon, some for Spark, key opinion leaders, expert in that area. What we expect with N1 to happen is after we go through this phased approach, hopefully after we get that approval, a similar process would take place.

We would do the first group, second group through this phased approach and then it depends on individuals that they have really credibility, they have the followership that they are going to expand that very quickly through their network, through the referral. And that's how we are going to see that momentum to take place over time. We are really locked into the best-in-class orthodontists in U.S. and Europe. The same format works for us on the premium implant. And depending on this partnership to really help expand N1 for years to come.

[John Kreger, William Blair]

Sounds good. Thank you.

[Operator]

We will take our next question from Nathan Rich with Goldman Sachs. Your line is open.

[Nathan Rich, Goldman Sachs]

Hi. Good afternoon. Thanks for the questions. Amir, it sounds like the company has a pretty broad lens with respect to looking at opportunities for M&A. It would be great to get your perspective on just how you are maybe thinking about kind of bolstering sort of the key pillars in specialty like implants and orthodontics versus maybe building out product categories or geographies where you may not have as large of a presence today but see an opportunity to get bigger?

[Amir Aghdaei, President, Chief Executive Officer]

Yes. Thank you, Nathan. One of the things that we brought with us as part of Danaher capabilities was this cadence of cultivation and market work. It is not a one-time, one-shot. This is where EBS come in place. Howard, myself and the team, we have a monthly review of our entire funnel. And this is almost my year seven in dental. And I have been doing that on an ongoing basis every month. So we have a really large funnel of cultivation, working with these companies, trying to make sure that we understand the market, the capabilities but also the cultural match between what we want to do versus the target that we are after.

But now taking a step back, we are looking at investing in a specialty consumable and integrated workflow. What that means is, we want to invest wherever there is an opportunity to improve the workflow that improves acceptance rate. So think about DSOs in the United States and other geography, somehow they have 25% to 30% to 35% acceptance. So they do four times, three times more diagnostics than actually their performed procedures. Anything that we can do in here to improve confidence, to visualize it, to make sure that they do a better job on diagnostics to help them through the digital imaging diagnostic capabilities that that acceptance rate to go up. There is better patient care. There's better productivity. And they can see the monetization aspect of it.

So where is that coming from on imaging and software that we can do and then continue to invest places that we are under-indexed. Value implant, regenerative are the two areas that we can see significant opportunity for us to make investment as well as exactly what, Nathan, you said on geography. In some geographies, it's a lot easier for us to partner, to acquire in order to bolster our presence in those geographies rather than going about it organically.

We are pretty bullish about what we have in our funnel and we think we can start executing this very rapidly throughout the rest of 2021 and in 2022 and for years to come. We want this to be an important pillar of our growth as we go forward. We don't want it to be a one-time, one-shot. We want to have an organic business that is growing mid single digit plus high single digit and we want acquisitions to be another element that increase performance and growth as well as our margin on top of what we are committed.

[Nathan Rich, Goldman Sachs]

Thanks for that. And maybe two quick follow-ups for Howard. Could you maybe talk about just the magnitude of inflation that you are seeing in commodities and freight costs that you referenced? And do you feel that you are able to pass those cost increases through? And then would you be able to give us the KaVo revenue in 4Q last year? I think that could maybe help especially given the equipment tends to be a more seasonal business that can maybe help give a clearer picture of the fourth quarter guidance?

[Howard Yu, Senior Vice President, Chief Financial Officer]

Yes. So let me go ahead and answer that first one here for you. Yes, we are seeing some inflationary pressures. I would say that the most significant is around shipping costs. And so to the point as to, are we able to pass along some of those things, we have actually instituted surcharges for freight. And so that's something that we have done. And for the first time this year, we have really had some pretty significant pricing that we have been able to pass through.

I think in the quarter, we have had in excess of $4 million of pricing that we have been able to capture. That represents, I think, about 65 basis points and for the year, pricing represents about 35 to 37 basis points as well. And so we are pleased about being able to pass some of those things along.

As it relates to your KaVo question specific to Q4, that business, I think, was about $110 million business, thereabout.

[Nathan Rich, Goldman Sachs]

$110 million in Q4 last year.

[Howard Yu, Senior Vice President, Chief Financial Officer]

That's right.

[Nathan Rich, Goldman Sachs]

Okay. Great. Thank you very much.

[Operator]

We will go now to Jason Bednar with Piper Sandler. Your line is open.

[Korinne Wolfmeyer, Piper Sandler]

Hi. This is Korinne, [on for Jason. Thanks for taking the question. So first one from us. Once, approval in the U.S. for N1 comes, can you touch on your plans to ramp and scale here? And how are you thinking about sales reps and balancing their time that's focused on N1 versus the continued momentum that exists for the current business.

[Amir Aghdaei, President, Chief Executive Officer]

Yes. Happy to answer that. So we have been investing significantly. I am going to talk about investment that we made in 2020, even starting in 2019, 2020, 2021. We built a tremendous amount of capital capabilities, manufacturing and operational capabilities. Most of that investment went to Spark and N1 in order to make sure that we have the capacity to be able to ramp this up pretty quickly. So we don't have any operational issues at all.

Now coming back to sales reps. The customer base that is going to use N1 is exactly the same customer base that uses current Nobel premium products. So that's the starting point. And the reps, for example, what we are seeing in Europe is now they are offering customers both options. And those that they see N1, they are transforming and transitioning their business step by step. And the reason for doing that, ease of use. A lot easier to implement, put it in place. It's a differentiated protocol that is driving adoption. The training that we put in place and the prosthetic option that we are offering give N1 a competitive advantage. So the same reps, same compensation model, but those that they are using, they are able to place more implant because of this ease of use. As an outcome, if I am a rep and I can sell more of them, I am more incented to be able to do N1 to make that transition.

So there is no change in their time and we are not looking for anybody else to sell this product. We have technical training and capability experts that they are helping pioneering this adoption. So they go through the training program. They stay in the sales rep. They stay with the customers in order to get them up to speed and get them going very quickly. And we are using, that's the comment I made about the phased approach. After we get the first five, the 10, we sign up another 10, we go through that process and then continue to move on forward. And then it depends on expert to teach it to other people over time.

[Korinne Wolfmeyer, Piper Sandler]

Great. Thank you. And then just turning to Spark. Can you speak to the case mix you are seeing between adults and teens? Are you starting to see it skew a little bit more toward teens and more pickup in that younger age group? Or any insight on that you can provide yet?

[Amir Aghdaei, President, Chief Executive Officer]

So the traditional Damon systems, so I answered that, the traditional Damon system has been really tilted toward young adults and teens and a lot more complicated cases. The Spark, today a good portion of it is with adults. But our traditional customers are orthodontists that have been using Ormco to begin with. Now they are beginning to offer both, clear aligners as well as bracket and wire and they are using it. Now they have option to use one versus the other or a combination of both. But today, if we can take a percentage of the clear aligner or Spark that are sold, a good part of it is coming from adults, coming to those offices and getting Spark as a solution.

[Korinne Wolfmeyer, Piper Sandler]

Thank you.

[Stephen Keller, Vice President of Investor Relations]

Thank you very much. I think we are out of time. We really appreciate everyone's questions. We are obviously here to answer anything, any questions as they come up past through the rest of the week. So please reach out. But thank you very much for your time. See you next quarter.

[Operator]

This concludes today's program. Thank you for your participation. You may disconnect at any time.