DENTSPLY INTERNATIONAL, INCORPORATED
Moderator: Gary Kunkle
July 27, 2005
7:30 am CT
Operator: Good morning my name is (Lowanna) and I will be your
conference facilitator today. At this time I'd like
to welcome everyone to the Second Quarter Earnings
Release 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 period. If you would like to ask a
question during this time, simply press star and the
number 1 on your telephone keypad.
If you would like to withdraw your question, press
the pound key. Thank you. Mr. Kunkle you may begin
your conference.
Gary Kunkle: Thank you Lowanna and good morning and thank you all
for joining the Dentsply Second Quarter conference
call. My name is Gary Kunkle and I am the Chairman
and Chief Executive Officer.
Also with me today are Tom Whiting, our President and
Chief Operating Officer, and Bill Jellison, Senior
Vice President and Chief Financial Officer.
I'll begin today's call with some overview comments
regarding our second quarter results and the overall
business. And then before I turn the call over to
Bill, I'll conclude with some remarks regarding our
outlook for the balance of the year. Bill will then
take you through a more detailed review of the P&L
and balance sheets. And finally, we'll all be
pleased to answer any questions that you may have.
Before we get started -- it's important to note that
this conference call may include forward-looking
statements involving risks and uncertainties. This
should be considered in conjunction with the risk
factors and uncertainties described in the Company's
most recent annual report on Form 10-K and its
subsequent periodic reports on Form 10-Q filed with
the Securities and Exchange Commission.
This conference in its entirety will be part of an
8-K filing and will be available on our Web site.
By now each of you should have received a copy of the
Second Quarter Earnings announcement that we released
yesterday after the market closed. Our reported
sales during the second quarter were $444.8 million.
This represented an increase of 4.8% as reported and
7.4% if you exclude the precious metal content.
The 7.4 percent sales gain broke out as follows for
the quarter: base business was up 3.9%, foreign
exchange was up 2.2% and acquisitions contributed
1.3%.
Looking at it on a geographic basis, the United
States was up 4.7%, Europe was up 1.8% and the
balance of the world was up 6%. While the dental
reimbursement issues in Germany continue to have an
impact on our European and overall performance, we
were really pleased to see the improving trend since
we last reported to you.
As you may recall from our recent conference calls,
beginning in January '05, Germany replaced their
percentage pay reimbursements with a fixed
reimbursement for dental work. This new
reimbursement scheme also now provides for
reimbursement of dental implant procedures and
prosthetic procedures using all ceramic materials.
This is a very positive change, as these categories
were not reimbursable before.
The new reimbursement, however, is proving to be
somewhat different from what was originally
expected. Communications going into the program
implied that the actual amount of the reimbursement
under the new program would remain the same as the
prior percentage reimbursements for the same
procedure.
The significant difference, however, which was not
communicated, is that the new program establishes a
reimbursement based on a standard of care and not the
actual procedure.
Let me give you an example. Last year a patient was
reimbursed approximately 50% for a single crown
procedure whether the restorations were done with a
precious metal or a non-precious metal. Thus a
precious metal procedure costing approximately 500
Euros would have been reimbursed at 250 Euros, while
the non-precious metal procedure would have had a
cost of approximately 350 Euros and have a
reimbursement of 175.
Under the new scheme the non-precious metal procedure
is considered the standard of care for single
crowns. Therefore, the fixed reimbursements would be
175, the amount previously given for non-precious
metal crowns. This is the amount of reimbursement
whether you use a precious metal or non-precious
metal in the procedure.
This caused an initial confusion in the market place,
but it is gaining a better understanding. It also
has generated a number of complaints. This is
leading politicians to push for further reform that
would provide more equity between the new program and
the former reimbursement.
On a more positive note, now that the administrative
startup problems are resolved, we are experiencing
double-digit growth in both Cercon products and our
dental implant products in Germany. Both of these
categories are positively influenced now that they're
being included in the new reimbursement program.
The year-to-date internal growth in Europe is
negative 5.3%. If you exclude the businesses that
are being affected by the German reimbursement, the
balance of Europe has a year-to-date internal growth
of plus 7.5%.
We are very pleased with our performance in our
non-German markets in Europe, and quite frankly, we
give our German organization great credit for their
contributions and results in what we consider a very
challenging environment in Germany.
Moving on to the United States, we are pleased with
the continued strong growth in the U.S. of 4.7%
overall. This is following a first quarter internal
growth of the U.S. of 7%. We had exceptionally
strong sales in our chairside businesses. Those are
the products sold to dental offices. This was led by
double-digit growth in orthodontics, implants, and
anesthetics, which was really driven by Oraqix.
The strong performance of our chairside products was
offset by weak sales in labs. Within the U.S. lab
business, Cercon products are also growing at a
double-digit rate, but the balance of our lab
products are not performing well. We believe much of
this is impacted by lab work moving offshore to lower
labor cost areas in the world. We have analyzed this
and we've come up with a two-part strategy, if you
will, to address this issue.
First of all, we're promoting Cercon as an
all-ceramic, more-aesthetic, low- labor solution.
This is really being driven by the new software we
introduced last quarter for Cercon that provides a
better, more efficient utilization of the Cercon
block and really makes it an economically competitive
alternative to both precious metal and non-precious
metal procedures.
Secondly, as many of you do know, we have
considerable lab technology and resources all over
the world and we are currently finalizing a strategy
for our U.S. lab operations to work in conjunction
with our other global lab subsidiaries to provide a
competitive alternative to the offshore option that
many U.S. labs are choosing today. The strategy, at
this point, is a work-in-progress, but we expect to
have it finalized and implemented by year-end.
Looking at the rest of the world, the balance of the
world grew internally by approximately 6%. This was
led by continuing strong growth in Asia, 20% for the
quarter bringing their year-to-date growth to 18%.
Middle East and Africa also grew in double-digits and
Japan grew at 8% internally and we find this very
encouraging in Japan, given that their dental market
is flat.
Just some comments on acquisitions. During the
second quarter we announced two additional
acquisitions -- Glenroe Technologies and Raintree
Essix, both orthodontic companies. Combined, they
will add $14 to $16 million in annual revenue.
We remain very active in the market pursuing other
acquisition targets, and while I can't be specific,
we continue to be encouraged by what we see and with
the few exceptions, fair valuations.
Some other items of interest, with respect to our
anesthetic pharmaceutical plant in Chicago, we had
previously announced that we received approval from
the MHRA, which is the regulatory authority for the
UK, Australia and New Zealand. We have begun
shipping to these countries.
The FDA is currently in our facilities conducting
their audit. We are pleased that we're finally
getting this review under way so that we can get this
facility up to a higher utilization by adding
production for the U.S. market.
But given the lateness of this review, however, we
are in discussions with our current suppliers to
extend the supply agreement with them to ensure that
we have products available.
We also anticipate that this delay will postpone any
manufacturing of products for the U.S. in our Chicago
facility until 2006. As a result, we will have
additional unforecasted costs of approximately $4
million for the unabsorbed overhead in 2005.
Moving on to our new product, Oraqix. We continue to
be very pleased with the market acceptance of this
product. As you recall it is our new non-injectable
dental anesthetic for scaling and root planing.
Sales in the United States are ahead of forecast and
have a high reorder rate. We recently received
approval for sale in Denmark, Spain and Finland and
began selling activities this month. We expect
approvals in Ireland and England this quarter with an
expected launch in the fourth quarter.
I mentioned several products during the first quarter
conference call that continue to perform well. Those
are BioPure, which is our new irrigant that is used
to disinfect the canal in a root canal procedure,
thus, really dramatically reducing the probability of
complications, or failure resulting from bacterial
contamination. Also, Calamus, which is a very
unique, simple, and user-friendly obturation delivery
system, which is also used in root canals. The
filling materials that is being put into the canal
during the procedure is in cartridges that are
designed for single-patient use, which really makes
it more convenient, disposable and provides for
quick, easy clean-up following the procedure.
Those are two innovative products added to the very
extensive and very successful portfolio that we have
of endodontic products.
We're also very pleased with the sales performance of
Xeno IV, which is our first single component
self-etching adhesive and Smartlite PS), which was an
addition to our Smartlite LED Curing Light product
line.
During the second quarter we introduced Interactive
Mystique. This is the world's first low friction
translucent ceramic bracket. It has a clear
interactive clip called (Neoclip), which can be
rapidly placed and removed from Mystique, which is
our ceramic bracket. It engages the wire very
similarly to self-ligation, which is known for its
benefits of reducing appointment time and improving
oral hygiene. It was very well received at the
recent orthodontic meeting in San Francisco and we
began shipping in June.
There were also numerous product line extensions that
we introduced around the world during the second
quarter and we have a number of other new products
scheduled for market introduction during the balance
of 2005.
We plan on introducing in excess of 20 new products
in 2005 and that number excludes line extensions.
Just some closing comments. Before I turn the call
over to Bill, I would like to make some closing
remarks. We continue to be encouraged by the
improvements in Germany and we are very pleased with
our performance in other markets around the world.
We expect the rate of growth to continue to improve
throughout the year as the German market stabilizes.
With respect to profits, I have already mentioned
that we'll experience additional expenses associated
with the Chicago anesthetic plant.
We would also incur additional expenses associated
with tax consultation that's related to our repayment
strategy and some other tax-related opportunities,
which Bill will discuss in more detail.
These costs in total will be between $6 and $7
million. However, we expect to absorb these
additional costs and are maintaining our guidance of
$2.59 to $2.63 earnings per share for 2005.
That really concludes all of my remarks. So I will
now turn the call over to Bill Jellison to take you
through the P&L and balance sheet.
Bill Jellison: Thanks Gary. Good morning everyone. As Gary
mentioned, net sales for the quarter of 2005
increased by 4.8% in total and increased by 7.4%
excluding precious metals. The sales increase, ex
precious metals, for the quarter included a 2.2%
increase from foreign exchange translation and 1.3%
increase from acquisitions.
The geographic mix of sales, ex pm, in its second
quarter of 2005, showed little change from last
year's percent.
The U.S. represented 42.9% of sales compared to 43.5%
in the second quarter of last year.
Europe was 36.9% this year compared to 37.2% in the
same period last year. And the rest of the world was
20.2% of sales compared to 19.2% in the same period
last year.
Germany continued to run lower than last year in the
second quarter. However, was improved during the
second quarter compared to drastically lower levels
in the first quarter.
We expect continued improvements for Germany in the
second half. With the German market projected to be
down for the year, due to dental claim and
reimbursement level changes implemented at the
beginning of 2005.
Gross margins for the second quarter were 56.7% ex
precious metals, which were virtually flat compared
to the second quarter of 2004.
Margin rates were positively impacted by new
products, manufacturing improvements, and improved
leverage in many of our businesses. However, these
positives were offset in the quarter by lower
precious metal sales and the unleveraged start-up
costs of our new anesthetic facility.
Rates are expected to only improve slightly by the
end of 2005 due to the negative impact of the
precious metal product mix, primarily the result of
the soft German dental market and the higher
unleveraged start-up cost for the anesthetic
facility.
SG&A expenses were $146.4 million or 36.5% of sales,
ex precious metals, this quarter versus 35.8% in the
prior year's second quarter. The higher expense
level in the second quarter primarily resulted from
non-capitalized costs relating to the anesthetic
plant in Chicago, cost related to the IDS or the
International Dental Show, which occurs every two
years in the second quarter, and foreign exchange
movement.
Expenses are still projected to be lower as a percent
of sales for the entire year.
Operational margins for the second quarter were 18.2%
compared to 18.3% in the same period last year.
While operating margins based on sales excluding
precious metals were 20.2% compared to 20.8% in the
second quarter of 2004.
Operating margins are expected to run higher than
last year by the time we get into the fourth quarter
as a result of both the improved product mix and
operational leverage.
Net interest and other expenses in the quarter was
$.7 million, which is an improvement of $4.5 million
compared to last year's second quarter. Net interest
expenses improved by $2.3 million in the quarter due
to both lower borrowing levels and the net investment
hedges utilizing the Japanese Yen and the Swiss Franc
that we put into place in the first quarter of this
year.
Other income expense improved by about $2.2 million,
primarily resulting from a foreign exchange
transaction gain in the period compared to a slight
transaction loss last year.
The corporate tax rate in the second quarter was 28%
compared to 32% in the second quarter of 2004. The
current quarter's operational tax rate is 30.3% or
30.5% year-to-date.
We also had a favorable tax rate impact for the
period from the settlement of tax audits, which had a
2 cents per diluted share favorable impact in the
period.
In light of this 2 cents per share pickup, and to
better evaluate our repatriation options and
opportunities under the American Jobs Creation Act,
the genesis of internal Revenue Code Section 965.
We've begun a global tax project using external
consultants. While this project will be an increase
to our SG&A cost over the next two quarters, we
expect it will help minimize our overall tax exposure
on any current year and/or for future year
repatriations.
Income from continuing operations in the second
quarter of 2005 was $57.9 million or 71 cents per
diluted share. That's an 18.3% increase in diluted
earnings per share over the second quarter of 2004
and without the 2 cents favorable tax impact in the
period, diluted earnings per share would have still
increased 15% in the period.
Operating cash flow was $40 million in the second
quarter of 2005 compared to $62 million in the same
period last year.
Both receivables and inventories ended higher than
anticipated in the period. However, tighter controls
and divisional commitments should improve both of
those categories by year-end. An increase in
inventory base is required to support the anesthetic
products during the new plant transition. However,
many other inventory areas should improve resulting
in inventory base closer to 90 to 92 by year-end.
Receivable days stood at 55 days at the end of the
second quarter compared to 56 days at the end of the
first quarter and the record low level of 47 days
achieved at year-end. Improvements are also expected
in this area during the second half resulting in AR
days closer to 50 by year-end.
Capital expenditures were $12 million in the second
quarter yielding free cash flow or operating cash
flow less cap ex of about $28 million.
Appreciation and amortization for the quarter were
$14 million, as dividends were $5 million again this
quarter.
At the end of the second quarter of 2005, we had $366
million in cash and short-term investments compared
to $506 million at the end of 2004. Long-term debt
was $658 million at the end of the quarter compared
to $780 million at the end of 2004. In addition, we
have $69 million of short-term debt and a derivative
asset value of $27 million at the end of the quarter.
Dentsply repurchased $73 million of stock for
approximately 1.3 million shares at an average price
of $55.51 in the second quarter of 2005. Our total
repurchases in 2005 now stand at $103 million or 1.8
million shares at an average price of $55.80. Based
on the Company's current authorization to make up to
3 million shares of treasury stock, we still have
approximately 1 million shares available for
repurchase.
Finally, as Gary noted, we remain comfortable with a
diluted EPS range of $2.59 to $2.63 for 2005,
including the expenses associated with our global tax
project and the additional expenses associated with
the Chicago anesthetic plant, as well as the second
quarter's two cents per share tax benefit.
This guidance does not include the effect of any
potential future decision to repatriate foreign
earnings and for purposes consistent with the
American Jobs Creation Act of 2004.
That concludes our prepared remarks and we'd be glad
to answer any questions that any of you may have at
this time.
Operator: At this time I must remind everyone if you want to
ask a questions, please press star then the number 1
on your telephone keypad.
We'll pause for just a moment to compile the Q&A
roster.
Your first question comes from Michael Gaugler,
Boenning & Scattergood.
Michael Gaugler: Good morning everyone.
Men: Good morning Michael.
Michael Gaugler: Just two quick questions. One with regard to
the repatriation of cash. I was wondering, you know,
about how much you guys have sitting overseas and
what the range is that you're looking at?
Bill Jellison: We currently have approximately $350 million that
is sitting overseas, but we're actually looking in a
range of up to $500 million on the repatriation.
Michael Gaugler: And just the second question, what are you
seeing on the acquisition front?
Gary Kunkle: Well, we're still very active Michael. Obviously I
can't be specific with it. As I have said on
previous calls, a lot of what we're looking at are
both private and public, and when you get into the
private ones, decisions come into play that go beyond
valuations. When does the family want to exit the
business and who in the family wants to stay with the
business? So there are issues that are affecting the
timing more than the actual decision to divest the
business.
That is about all I can offer you without getting a
little more specific. I guess the other thing I can
offer is we're looking at acquisitions primarily in
the United States and Europe.
Michael Gaugler: All right gentlemen. Thank you.
Gary Kunkle: Yes.
Operator: Your next question comes from Derek Leckow,
Barrington Research.
Derek Leckow: Thank you. Good morning everyone.
Men: Good morning Derek.
Derek Leckow: It's a question on the guidance for the next
couple of quarters here. It looks like we're going
to have to adjust our models to these expenses -- the
tax expense and the Chicago plant delay. Could you
help me with that a little bit? Where would we
allocate those expenses, and to which quarters?
Bill Jellison: I think really for both of those categories that
you could probably equally split them up between both
the third quarter and the fourth quarter.
Derek Leckow: Okay. And primarily it looks like on gross
margins for the Chicago plant and then the tax
expenses would be out of SG&A?
Gary Kunkle: Correct. Some of the - some will be expensed on the
Chicago plant. Most of it will be gross profit.
Derek Leckow: Gross profit. Okay. And then I wonder if you
could talk about your long-term debt plans. You've
got $658 million out there.
Bill could you just take us through the components of
that and then talk about some maturities and what
options you might have or any plans to reduce your
debt levels going forward, or do you think you're at
a comfortable level today?
Bill Jellison: Well, from an overall funding perspective, I say
one, we're very comfortable in our overall at debt
cap level, a mandate of 35% to 40%. So we'd expect
to actually be more leveraged in total than we
currently our today, which is what we got into before
when you talk about the amount of cash flow that we
generate, the level of acquisitions. Based on our
overall debt cap basis, that should imply that we
should be doing either additional acquisitions or
additional stock buy-back and utilizing some of those
funds that we ultimately have available. As it
relates to the specific debt that we've got out
there, as I mentioned, we're looking to bring back up
to $500 million of cash from the repatriation side,
$350 million of that is true cash that is sitting
overseas. We probably leverage up our overseas
entities just a little bit associated with that as
well, which would allow us then to pay down some
additional that year.
Once we finalize on that specific amount and the
strategy of that, I would expect that we will lay out
a more formal refinancing plan associated with our
overall Euro bond offering, which expires at the end
of next year and really our overall tax position.
But right now with the revolving credit agreement
that we've got in place, even without the
repatriation, we should be in good shape.
Derek Leckow: And can you give us some idea for the average
interest rate you are expecting for 2006?
Bill Jellison: You want to tell me where the interest rates are
going on both sides? What I guess I can tell you
that if you look at how our interest rate dollars
are, in our second quarter year, you should expect us
to kind of run at that same type of level or slightly
below in the next couple of quarters. That will
obviously continue to be a substantial improvement
off the interest expense levels that we had last year.
That despite the level of increased stock repurchase
that was done. As I mentioned early on, we've done a
couple of different net investment hedge positions,
in essence, allowing us to place the debt that we do
have in some of the lower interest rate environments
like Japan, like the Swiss Franc. With obviously
some still sitting on the Euro end, as well.
That positioning was meant to make sure that it took
us out of the higher volatility within the U.S.
rate. Because obviously most of our debt now is
denominated in foreign currency, which allows us to
match or hedge on our investments in those locations
as well too. So you should expect this to continue
to stay quite a bit below our overall U.S. rates.
Derek Leckow: That's great. Looks like you guys are really
keeping up the pace on the share repurchases,
offsetting on the impact of options and so forth. Do
you anticipate making any changes to your
compensation plan regarding the effective options?
Gary Kunkle: Not at this point Derek. We have a very low percent
of our population that is actually eligible for
options. I think it is under 2%.
Derek Leckow: Okay. And just Gary could you talk a little bit
about the research that you are doing on the
pharmaceutical and biotechnology side. Any new
potential technologies that you've seen that might
have applications for new products in the near term?
Gary Kunkle: Yes. Actually there are. For competitive reasons I
can't get into the specifics, but we do have two
projects that are going on within the pharmaceutical
group. Of course, we have the other projects, which
we've talked about before, that are within Georgia
Tech.
All of those -- all of those projects at George Tech
are on target, and all of them have moved to the next
stage. So those that were in proof of principal,
have in fact, been successful.
And, of course, the other two technologies that we
acquired were Satif and Doxa, and both of those are
in product development. You won't see a product from
them this year. But one of the two (static
interrupts)
Derek Leckow: Sorry, I missed the last part there because of the
static. You said the Doxa products.
Gary Kunkle: One of the two being Doxa, or Satif may very well be
a product launched in 2006.
Derek Leckow: 2006, okay. And what is the current budget for
this pharmaceutical research, in total?
Gary Kunkle: I don't have it broken out by division.
Derek Leckow: Okay. Can you give us an overall number or just a
general idea range?
Gary Kunkle: It is approximately $50 million in expense.
Derek Leckow: Okay.
Gary Kunkle: Of course we have a lot of other research that falls
into costs of goods, which is generally licensing
agreements and technologies that we've acquired.
Derek Leckow: So it is $50 million in total not just for the
pharmaceutical fees?
Gary Kunkle: Correct.
Derek Leckow: Okay. All right. Thanks a lot guys. Appreciate
it.
Gary Kunkle/Bill Jellison: You bet.
Operator: Thank you. At this time there are no further
questions.
Gary Kunkle: Okay. Well thank you all for joining the conference
call this morning, and thank you for your continued
interest in our Company.
Operator: Thank you. This concludes today's Second Quarter
Earnings Release conference call. You may now
disconnect.
END