Henry Schein, Inc. (HSIC) Q4 2018 Earnings Report, Transcript and Summary

Good morning, ladies and gentlemen, and welcome to the Henry Schein Fourth Quarter and Full Year 2018 Conference Call. [Operator Instructions]. As a reminder, this call is being recorded. I would now like to introduce your host for today's call, Carolynne Borders, Henry Schein's Vice President of Investor Relations. Please go ahead, Carolynne.

Thank you, Tiffany, and thanks to each of you for joining us to discuss Henry Schein's results for the 2018 fourth quarter and full year. With me on the call today are Stanley Bergman, Chairman of the Board and Chief Executive Officer of Henry Schein; and Steven Paladino, Executive Vice President and Chief Financial Officer. Before we begin, I would like to state that certain comments made during this call will include information that is forward-looking. As you know, risks and uncertainties involved in the company's business may affect the matters referred to in forward-looking statements. As a result, the company's performance may materially differ from those expressed in or indicated by such forward-looking statements. These forward-looking statements are qualified in their entirety by the cautionary statements contained in Henry Schein's filings with the Securities and Exchange Commission. In addition, all comments about the markets we serve, including end market growth rates and market share, are based upon the company's internal analysis and estimates. The contents of this conference call contains time-sensitive information that is accurate only as of the date of the live broadcast, February 20, 2019. Henry Schein undertakes no obligation to revise or update any forward-looking statements to reflect events or circumstances after the date of this call. [Operator Instructions]. With that, I would like to turn the call over to Stanley Bergman.

Thank you, Carolynne. Good morning, everyone. Thank you for joining us today. 2018 has been a historic and extremely busy year at Henry Schein as we further position the company to advance our 2018 to 2020 strategic plan. First, we announced the spin-off of our global Animal Health business, which is now complete. We believe that Covetrus represents a significant global technology-enabled provider of products and services for the companion animal health market. We expect customers as well as suppliers will benefit from the technology, practice management software and insights offered by Covetrus to help drive better clinical outcomes for pets patients. This past year, we also announced the formation of Henry Schein One, which advances practice efficiency and clinical effectiveness while carrying our dental practice management software with the new demand generation tools to help customers better communicate with patients and to drive increase traffic into the dental practice. This joint venture will not only, of course, be a way to advance our general sales with our dental customers but will provide organic growth and a terrific platform for inorganic and acquisition bolt-ons to make this business even more effective over the years to come. It's really quite profitable and expected to be even more profitable. Last, we began restructuring efforts, which Steven will discuss in further detail and which required a great deal of focus for most of the year and in particular, the last 6 months of the year. Together, these efforts are strategically positioning Henry Schein for continued success, and I want to offer special thanks to our Team Schein Members across the globe for the significant contributions to these important efforts. Let me add, although challenges in implementing all 3 of these initiatives, generally, the morale in the company is very good, and generally, these programs have been successfully implemented. The work involved in the spin-off was significant, likewise with Henry Schein One and also the restructuring program. As we begin the new year, we are most excited about the future of Henry Schein. We believe the long-term business opportunities remain attractive in the Global Dental and Medical office market as well as the ultimate care sites. This is where we're focused. We're focused on wellness and prevention, and we believe this is where health care needs to be heading and is indeed heading. And we believe we're in a very good start to continue to advance shareholder value. We also believe our long-standing strategy of organic and acquisition growth will enable us to continue to build upon our market share positions over time as we offer the broadest range of solutions in the markets we serve, including Medical and dental supply chain and specialty product and services solutions as well as dental technology through, of course, Henry Schein One. At this time, I'll ask Steven to review our financial results and guidance. And then I'll provide some additional commentary on our recent business performance and accomplishments. Steven, please.

Okay. Thank you, Stanley, and good morning to all. As we begin, I'd like to point out that I will be discussing our results on an as-reported basis and GAAP basis and also on a non-GAAP basis. Our Q4 2018 and Q4 2017 non-GAAP results exclude certain items that are detailed in Exhibit B of today's press release, which is available in the Investor Relations section of our website. We believe the non-GAAP financial measures provide investors with useful information about the financial performance of our business, enable the comparison of financial results between periods where certain items may vary independently of business performance and allow for greater transparency with respect to key metrics used by management in operating our business. These non-GAAP financial measures are presented solely for informational and comparative purposes and should not be regarded as a replacement for corresponding GAAP measures. For a detailed reconciliation, see Exhibit B in this morning's earnings release. Also, to facilitate comparisons against past results, we are providing unaudited financial information for the years 2016, 2017 and 2018 and for each quarter of 2018 on a continuing operations basis, so excluding the Animal Health business. This can be found on exhibit C and D of today's press release. If you turn to our results for the quarter, net sales for the quarter ended December 29, 2018, were $3.4 billion, reflecting a 1.7% increase compared with the fourth quarter of 2017 with internally generated sales growth in local currencies of 2.1%. When also excluding the impact of certain products switching from direct sales to agency sales, our normalized internal sales growth in local currencies was 2.6%. You can see the details of our sales growth that are contained in Exhibit A of today's earnings news release. On a GAAP basis, operating margin for the fourth quarter of 2018 was 5.3% and contracted by 195 basis points compared with the fourth quarter of 2017. However, on a non-GAAP basis, which excludes the restructuring costs, transaction costs related to the Animal Health spin-off, our operating margin was only down 30 basis points on a year-over-year basis. Full year 2018, excluding the same factors as noted above as well as certain onetime litigation expenses in both periods, our operating margin was down 17 basis points compared to 2017. Again, you can see a reconciliation with GAAP operating income to non-GAAP operating income in the supplemental info page on the Investor Relations page of our website. As we have previously mentioned, we are focused on increasing sales of higher-margin products and services to drive gross margin improvements across all of our businesses and the continuing effort to reduce cost as part of our restructuring initiatives. Turning to taxes. Our reported GAAP effective tax rate for the fourth quarter of 2018 was 19.2%. This compares to a GAAP effective tax rate of 19.4% in the fourth quarter of 2017. However, on a non-GAAP basis, the effective tax rate was 23.5% and compares with the prior year non-GAAP tax rate of 27.7%. On a full year basis, the effective tax rate was 22.4% on a GAAP basis, and that compares to GAAP effective tax rate of 44.1%. But again, on a non-GAAP basis for the full year, the effective tax rate was 23.8% and compares to 26.8% in 2017. Again, you can see a reconciliation of GAAP and non-GAAP tax rates in the supplemental information page on the IR section of our website. For 2019, we estimate our effective tax rate will be in the range of 24% to 25%, and that's also on a non-GAAP basis. Moving on. Net income attributable to Henry Schein for Q4 of 2018 was $133 million or $0.87 per diluted share. And this compares with the prior year GAAP net loss of $8.5 million or $0.06 per share. Non-GAAP net income for the fourth quarter of 2018 was $171.6 million or $1.12 per diluted share. And this compares with the non-GAAP net income of $152.1 million or $0.97 per diluted share for the fourth quarter of 2017. This represents growth of 12.9% and 15.5%, respectively. To provide some additional detail on our results, we note that the amortization from acquired intangible assets was $30.4 million pretax or $0.15 per diluted share for Q4 of the current year. That compares to $28.3 million pretax or $0.13 per diluted share for Q4 last year. On a full year basis, the amortization from acquired intangible's was $122 million pretax or $0.60 per diluted share for 2018, and that compares to $112.4 million pretax or $0.52 per diluted share for 2017. I'll also note that in the current quarter, Q4 of 2018, foreign currency exchange negatively impacted our EPS by $0.02. Let me now provide some detail on our sales results for the quarter. Dental sales were $1.7 billion, which is a decrease of 0.2% compared with the prior year with internal growth in local currencies of 1.5%. North American internal growth in local currencies was 0.6% and included 2.5% growth in sales of dental consumable merchandise where we believe there was some softness in the end market, most notably in the November and December periods. But we do believe we continue to gain market share in the North American dental consumable merchandise market. Our dental equipment sales and service revenue decreased by 3.5% year-over-year. It's important to point out, though, that this was against a very difficult prior year comparison where we experienced adjusted internal sales growth in local currencies above 19%. We also believe dental practices we're focused on some year-end optimization of some practice cash structures rather than on tax advantages associated with capital purchases. And we believe this could have negatively impacted Q4 sales as well. Turning to international. Our international dental sales growth in local currencies was 2.8% and included 3.4% growth in sales of dental consumable merchandise. And our dental equipment sales and service revenue increased by 1.3% versus the same period last year. I'll note that the biannual international dental tradeshow or IBS takes place in Cologne, Germany in mid-March. And this -- generally, the timing of this often impacts lower international equipment sales in Q1 that typically pick up in Q2 and beyond. Animal Health sales were $877.6 million in the fourth quarter, a decline of 1.4% with internally generated sales in local currencies down 0.6%. These results included 1.9% sales decline in North America. However, normalizing for the impact of the manufacture switching from direct to agency sales, our North American sales growth was 2.1%. International Animal Health internal sales growth in local currencies was 0.8%. Our Medical sales were $684.8 million in the fourth quarter, an increase of 7.5% with internally generated sales growth in local currencies also at the 7.5%. And acquisition growth was small, up 0.1%., and that was offset by foreign exchange of the same amount, 0.1%. That 7.5% internal growth in local currencies included 7.7% growth in North America and 2.1% growth internationally. We are pleased with our overall Medical sales results, which continue to be driven primarily by solid growth in existing large customers as well as, to a lesser extent, new customer additions. And this was despite the fact that there was a below average influenza season that led to fewer position office businesses and related test. This was probably the mildest flu vaccine -- or flu season that we've seen in the number of years. Technology and Value-Added Services sales were $139.1 million in the fourth quarter, an increase of 21.4% with internally generated sales growth in local currencies of 0.5%. In North America, Technology and Value-Added Services internal sales growth in local currencies was flat versus the prior year, reflecting lower sales from technology support and financing services revenue associated with the decline in dental equipment sales in North America. International markets, the internal sales growth for technology was 2.8%. And we expect to see an acceleration over time in our technology sales driven by Henry Schein One as practices leverage those key tools, including the availability of integrated practice management software systems with the Internet brands offering to enhance practice efficiency and patient communications. Related to stock repurchases, we continue to repurchase common stock in the open market in the fourth quarter. We bought back 997,000 shares at an average price of $86.14. Remember, that's on a pre spin-off basis, that $86 share price. And that was approximately $86 million. The impact of these repurchases on the fourth quarter EPS was immaterial. Also, I'll remind people that on December 13 of 2018, we announced our Board of Directors authorized the repurchase of up to $400 million of shares of our common stock. That's an additional increase. And at fiscal year-end, we had that $400 million authorized and available for future stock repurchases. If we look at some of the highlights of cash flow for the quarter, our operating cash flow for the 4Q was very strong at $294 million compared with $238 million in the fourth quarter of last year. For the year, the operating cash flow was $685 million versus $545 million in 2017. Also, we'll look at our capital expenditures for the year was about $90.6 million, and that results in free cash flow of $594 million for the year. I'll also remind people that as part of the spin-off, we will see the $1.1 billion tax free cash proceeds that were distributed to us at the closing of the Animal Health transaction, which was during the first quarter of 2019. That was initially used to pay down corporate debt. Also, early in the year, we repurchased a minority interest associated with the Animal Health business in the U.S. Animal Health business in the amount of approximately $365 million. Our Animal Health subsidiary subsequently engaged in a primary issuance of shares to third parties with cash consideration, which was also distributed to us in connection with the spin-off transaction. We expect to continue our long-standing capital allocation, which is focused on 2 key initiatives, strategic acquisitions as well as share repurchases. Looking ahead to future M&A. We expect to continue to pursue our 2018 and 2020 strategic plan by continuing to grow our Dental and Medical businesses, both in North America as well as internationally. Also, to enhance our value-added solutions, investing in building scale and expanding into higher-margin products. This is expected to include adding higher-margin dental technologies to the Henry Schein One platform aimed at improving practice efficiency and creating patient demand for our customers. We also expect to continue to invest in dental specialty solutions for implants, bone regeneration, endodontic, orthodontic products, which will complement the growth profile of our traditional Dental business. In addition, we plan to invest as opportunities arrive in the Medical market such as what we just recently announced in the North American Rescue business, which Stan will discuss shortly. As part of our previously disclosed restructuring initiative, we recorded a pretax charge in Q4 of 2018 of $35.4 million or $0.17 per diluted share. The charge for the full year of restructuring activities was $62.9 million on a pretax basis or $0.31 per diluted share. These restructuring charges primarily includes severance pay as well as facility closing costs and outside professional and consulting fees that were directly related to the restructuring plan. We plan on extending this restructuring initiative into the first half of 2019 as we continue to look for more opportunities to save costs; as we continue to look to migrate stranded cost, which are modestly this year but we still want the opportunity to mitigate those stranded cost over time that are related to the Animal Health spin-off; as well as advance our technology investments, including reinvestment in our CRM, ERP and web interface development. Okay. Turning to guidance. We are introducing financial guidance today for 2019. At this time, we are not able to provide estimates for the continued costs associated with restructuring as well as Animal Health spin-off that occurred earlier in 2019. Therefore, we are -- 2019. Therefore, we are not providing GAAP guidance. We will only be provided non-GAAP guidance excluding those 2 items. On a non-GAAP basis for 2019, diluted EPS attributable to Henry Schein is expected to be $3.38 to $3.46, and that reflects growth of 7% to 9% compared with the 2018 non-GAAP diluted EPS from continuing operations of $3.17. Again, if you look at our press release, you'll see that $3.17 is provided as a non-audited additional financial information for Henry Schein on a continuing operations basis. The company's Animal Health business was [indiscernible] to shareholders on February 7, 2019. And that business will be classified as a discontinued operation in Q1 2019 as well as for all current and prior year prior -- periods that are presented post Q1 2019. Note that we currently expect a year-over-year non-GAAP EPS growth in the first quarter of 2019 to be in the low single digits with an acceleration for the remainder of the year. Our guidance for 2019 non-GAAP diluted EPS attributable to Henry Schein again is for continuing operations and includes a completed or previously announced acquisitions but does not include the impact of potential future acquisitions as well as it does not include the impact of those non-GAAP adjustments. The guidance also assumes foreign exchange rates are generally consistent with current levels, and that the end markets remain stable to current market conditions that we are seeing. So we remain confident in our goal of achieving long-term organic sales growth of 1 to 2 percentage points above the underlying market growth rates. We also remain confident that non-GAAP diluted EPS growth will continue to be in the high single to low double-digit percentages for Henry Schein, Inc. on a long-term basis. And that's all including stock repurchases as well as contributions from acquisitions. So with that financial summary, I will now turn the call back over to Stanley.

Thank you, Steven. Before I review highlights from the fourth quarter, I would like to review several highlights of 2018. We achieved net sales of $13.2 billion, which is up 5.9% from the prior year. Internal sales in local currencies increased by 3.4%. GAAP diluted EPS increased by 35.8% versus 2017 non-GAAP results. And non-GAAP diluted earnings per share growth was 14.7% versus 2017 non-GAAP results. We are, of course, pleased with our operating cash flow of $684.7 million, which increased by $139.2 million versus 2017. We did not repurchase shares during the period of time before we announced the spin-off of our Animal Health business. Following the announcement in April, we spent $200 million to repurchase approximately 2.5 million shares of our common stock in 2018, reflecting our confidence in the strength of our business and our commitment to continuing to deliver shareholder value. In addition, 2018 -- during the year 2018, we completed 5 major -- majority-owned strategic transactions excluding Animal Health transactions, just Dental and Medical, as we continue to expand our geographic presence and enhance our product offering. Together, these acquisitions have trading 12 months' revenue at the time of purchase of approximately $132 million. We also announced the formation of Henry Schein One, which had pro forma 2017 sales of approximately $400 million. Our acquisitions in 2018 expanded our digital dentistry solutions for implants and orthodontics. And in Medical, we announced an agreement to acquire a leading provider of mission-critical medical products for the defense and Public Safety markets, North American Rescue. Going forward, we have significant opportunities to allocate capital towards advancing our 2018 to 2020 strategic plan, which is centered around 3 concepts, 3 major goals. Just on the distribution side, the goal of expansion of our core dental and Medical businesses as we continue to build scale and expand into new geographies. Supplementing that with number two, value-added services, advancing our solutions, services and support for our customers. Of course, a key component of that is Henry Schein One, but there are other initiatives and other programs that we will be advancing. And the third component is partnering with a broad set of manufacturers as well as building Henry Schein brand equity with key goal of expanding product margins. So for the fourth quarter of 2018, let me start with a review of our Dental business. Steven mentioned that the fourth quarter dental sales in North America were impacted by a soft end market in November and December. Also, our global sales of -- in the CAD/CAM category declined by approximately 7%. As Steve noted, we faced a difficult comparison in North America dental equipment for the fourth quarter 2017. Remember, it was the first full quarter that we have access to Dentsply Sirona Dental equipment line in the U.S., which we believe contributed to a difficult comparison in the fourth quarter and specifically around CAD/CAM. We're on the early stages of adoption of digital solutions for dental practices and dental laboratories, including CAD/CAM products. At market, though, it's estimated still less than 20% penetrated in the U.S. Without question, the dental market will continue to adopt digital technology as digital devices drive practice efficiency and productivity. Growth in this market over the coming years is expected to be healthy. In terms of sales, North American traditional equipment grew by 3.8% in local currencies during the fourth quarter. This was off of solid sales growth in the fourth quarter of 2017. We believe this market will continue to grow as well. We believe investors should not be overly focused on quarterly growth rates, which may ebb and flow from quarter-to-quarter. We believe the end markets for dental consumables, digital equipment and traditional equipment have all grown. We remain optimistic that long-term growth prospects remain attractive, and we expect that we will continue our trend of building upon our market share positions. As you may recall, in late September, we announced investments in three implant companies: Intra-Lock, Medentis Medical and Pro-Cam Implants with combined annual sales of approximately $45 million. The implant, orthodontic and endodontic markets represent particularly attractive growth segments where we can leverage our deep relationships with both specialty practitioners and GPs. Our investments in these companies speak to our commitment to adding high-margin digital treatment solutions that are advancing dentistry through technology and innovation. Before we move on, let me comment on the agreement we recently signed to acquire a majority stake in Yu Han Hong Chen [ph], one of the largest independent dental distributors in China. The company has annual sales of approximately $40 million. China is an important market for dental services as the dental clinics, the private sector dental clinics, continue to experience rapid growth. In 2018, had approximately $60 million of dental sales in China, and expect us to grow significantly in 2019 and beyond as we continue to invest in growing our presence in developing markets. We believe there is significant opportunity to deliver our unique combination of solutions, service and support to the China region as well as other emerging markets. Now let's move on to Animal Health business. We are pleased to have closed on the spin-off of our global Animal Health business, which is now part of Covetrus. The company has an impressive board made up of 11 leaders in the industry. We are pleased that Phil Laskawy, the independently leader at -- for Henry Schein for many years, is the lead Director of Covetrus. Steven Paladino, our CFO, also serves on the Covetrus board, among the many distinguished colleagues. I'd like to take this opportunity to thank all of the former members of the Animal Health team. For many years, the Team Schein Members devoted to the Animal Health part of Henry Schein were very productive for the company. It creates a tremendous shareholder value, and the commitment over so many years of this team is most appreciated. The team has a strong passion and dedication to the Animal Health community and, therefore, the combination of Henry Schein Animal Health and Vets First Choice capabilities position this team and Covetrus as a company for a bright future. Now let's take a look at the Medical business. We are pleased with the robust growth in our Medical sales for the quarter at 7.5%. The North American Medical market continues to experience a rapid evolution as health care providers pursue the best way to deliver services at lower cost and with better outcomes, of course. We are benefiting from the shift in care from higher cost acute settings the lower cost subacute care sites such as physician offices, urgent care sites and ambulatory care centers that we serve. Our track record is serving large group networks with supply chain, education, technology and support services continues to be a solid competitive advantage. Our Medical business is thriving in this environment as we service these large entities. In January, we announced the signing of a definitive agreement to acquire approximately 93% of North American Rescue or NAR, as it is referred to in the marketplace, which is a leading provider of survivable and quality care Medical products to defense and Public Safety markets. NAR has an extensive line of proprietary product brands. The company has 105 employees and generate record sales for the 12 months ended October 2018 of approximately $184 million. We believe NAR will help expand our Medical group geographic footprint, customer base and product offering as well as margins in both the U.S. and as we advance NAR business across the globe. Let's move on to our Technology and Value-Added Services business. Henry Schein One has just completed its first two quarters as a combined platform and is now positioned to start offering unique software bundle solutions for improved communications between the practice and the patient while, of course, driving efficiency and good clinical outcomes in the practice as well. Henry Schein One is helping to advance practice efficiency and to build strong relationships between dental practices and patients. It is also creating new avenues for growth for practices with differentiated demand creation tools. We're offering our customers a host of new tools to engage with their patients while simultaneously increasing the recurring revenue. We also have the opportunity with this exciting platform to expand our dental software ability across the globe, particularly as we pair these tools with the growing practice management software presence abroad. We are pleased to announce that Dentrix Enterprise solutions, along with Cerner solutions, was selected for the contract with the Department of Veterinary Affairs as part of the project to modernize health care solutions for the military. Recently, Henry Schein One rolled out several key platform updates for patient engagement, patient financing and clinical decision support solutions. We also launched our OmniCore all-in-one dental office Medical solution, which includes hardware and dental office maintenance. Looking ahead, we are working on new product launches to attract new patients, so our customers as well as live check solutions aimed at improving conversation rates as patients search online for dentists. Henry Schein One has a lot of projects underway, and we serve as a platform for future technology acquisitions to expand our value-added solutions in other geographies and to target general practitioners as well as specialty practitioners, including the previously announced unconsolidated investment in Robo 2, a leading provider of Practice Management's software solutions for orthodontists in the United States and Canada. Before we open the call to questions, I would like to address some concerns that we've received from the investment community about growth and operating margin. I really think it's important to reiterate thoughts that we have conveyed for some time. First, we recognize that we have always have been and will continue to operate in a price competitive markets. The markets we have -- and have always been price competitive. Our strategy of delivering value-added solutions for our customers that help clinicians manage their practices efficiently is critical. This helps our customers operate more successful practices, both from the clinical point of view and an economic point of view. We also recognize that practices are changing. Consolidation will continue as we believe at different rates in dental and medical. I would like to point out our success in continuing to bring value to our large customers and to navigate consolidation in the medical market where today, the majority of smaller practices are owned by larger group networks. We continue to deliver consistent attractive sales and profit in this business. We believe our medical and dental customers continue to choose Henry Schein because we are partnered with practitioners and effectively serve as an extension to their practices. Our price levels fairly reflect the value we provide. It's a careful balance that we work on daily. We do not expect this to change materially over time even as our customers continue to consolidate. Rather, we expect practitioners will continue to compensate us for the value we provide. Second, we have discussed the priority of adding more high-margin products to our portfolio. The recent implant acquisitions in dental and agreements acquired in North American Rescue and Medical are excellent examples. We will also continue the invest in building scale in distribution in all our key markets as we positioned the company to grow in these important markets. Our capital structure and strong balance sheet position us well to continue to add more of these businesses in the future. Finally, we believe in our success in effectively managing gross margins and cost. And this has been a long-term history of ours, aided by our recent restructuring efforts, will help us achieve our long-term operating margin expansion goals. With that, operator, we will open the call to questions.

[Operator Instructions]. Your first question comes from the line of Jeff Johnson with Baird.

Can you hear me okay?

Yes, we can.

So I just wanted to focus on guidance here for a second and kind of even your 2018 base number of $3.17. So Steve, I think we're all trying to circle around 3 different factors. There's stranded costs that are impacting. There's the TSA agreements with Covetrus that should help at least in 2019. And then there was the cash infusion from Covetrus, the $1.1 billion. So in that $3.17 number, I guess, my question is are there any impacts of any of those 3 factors? And then how are you thinking those 3 factors combined to impact then the 7% to 9% growth guidance for 2019?

Okay. So the 2018 numbers, there are no real impact related to stranded cost because nothing is stranded during 2018. And there is no impact to TSAs and reimbursement in 2018. And last, since we didn't get the cash until first week of February 2019, the impact of the $1.1 billion is also not included in 2018. Let's address those issues in 2019 because I understand there is a little bit of confusion on that. First, on the cash infusion, it's 11 months worth of impact, but it's important to note a couple of things on our interest rate line. One is that we had temporary credit lines in place in anticipation of getting that billion dollar-plus cash infusion. Those temporary credit lines have low interest rates because they were floating in low interest rate credit lines. We'll also have assumed that there will be some rate increases in 2019. Who knows if that's going to happen or not, but for conservatism, we did assume in our guidance that there would be some rate increases in 2019 that will increase our overall interest expense. Turning to stranded cost. We do expect to have a modest amount in 2019 of stranded cost. We expect that to be in the several million dollar range. That could change a little bit, but that's the expectation now that's built into our guidance. We also expect that when you look at the cost in 2018, it does not include certain variable cost that will increase in providing those services to Covetrus. So the 2019 expenses will be higher because there'll be more variable expenses that will be chargeable to Covetrus to perform their services. And the last thing maybe I'll point out is we're still expecting -- you see in Q4 that foreign exchange, currency translation negatively impacted our quarter by $0.02 per share. It's just for the quarter. So we're expecting to have a little bit of continued headwind in foreign exchange built into our guidance. And then the last thing I'll mention, sorry for such a long-winded answer, is that we saw in Q4 a soft market in a couple of markets. And we are also assuming that market conditions remain consistent. So we're assuming that, well, let me say the opposite. We are not assuming that market conditions improve. Now we're hopeful that, that can also be a conservative assumption. But right now, we think that's the best way of building our guidance, assuming the market conditions remain consistent with what we've seen in recent history.

That's helpful, Steve. And just my very quick follow-up. On the amended 8-K that you filed on Friday and the restated pro forma numbers for 2018 year-to-date have come down in that filing, was that -- did those numbers come down because of stranded cost? Or did those numbers come down because you just allocated or reallocated and decided that there were more cost remaining on the business that forced you to do that or that required you to do the restatement of the 8-K?

Yes. So it was the latter. It was not because of stranded cost. It was because when we filed the initial 8-K, and it's a very complication -- complicated separation of cost between continued and discontinued operations, and we made estimates for what pertains to continued versus discontinued operations. And as we continue to refine those numbers, we realized that those estimates were not as accurate as we would've liked. And therefore, we filed that 8-K last week to adjust for that.

Your next question comes from the line of Nathan Rich with Goldman Sachs.

Maybe just sticking on guidance. You talked about EPS growth of 7% to 9% from continuing operations. That, I guess, is at the lower end of the longer-term target of high single to low double digits. So Steve, can you maybe just talk about what's unique to this year that's causing growth to be at the lower end of that range? And maybe within that, could you also comment specifically on your expectations for margins. They look like pro forma margin were roughly flat. I'll just be curious what you're expecting for 2019.

Sure. Some of the things I said on the earlier questions, I'll repeat. There is an impact of stranded cost in 2019. We are anticipating some foreign exchange headwind. Maybe another thing I'll mention is -- that talked about on the prepared comments. If you look at the flu season this year, it was the mildest flu season in many years. And while that did not impact our sales of the influenza vaccine, it did impact and we're seeing that continue in Q1. We're seeing that patient traffic for when patients have flu-like symptoms and they go to their doctor and there's the rapid in-office flu test that's used, those who flu test product sales are down in Q1 because again, such a mild season in the patient traffic. So using other products that you normally use when you have a patient flow is also down. It's a temporary thing because the flu season really is the winter months and it ends after Q1. But we are assuming softness related to that. It's a very unusual season, and we just have to build in the reality of that as part of our guidance.

Okay. And just really quickly on margins. Just your expectations. There are a number of moving pieces just with the restructuring savings. Do you expect -- in some of the stranded cost like you said. So just curious how we should be thinking about margins for the year.

Yes. Look, our long-term goal is to get back to operating margin expansion. I think that we may not get there in 2019 because of stranded cost and some of the other factors that we just discussed. But we do believe longer term, we can get there. So again, 2019 is a little bit of a transitional year with all the spin-off activities that we have to take into consideration.

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

Stan, you mentioned a few minutes ago that the product is the third of your 3 main goals longer term. Can you just elaborate on that? How do you determine what products you want to own versus you want to partner for? And if we think about your sales, what percentage would you like to get into some sort of kind of a preferred formulary type of structure? And any additional details would be really helpful.

It's a very, very good question. I'm glad you asked it. Look, the 3 legs of Henry Schein's strategy for 2018 and '20, the first is to continue to advance our distribution businesses. I can go into details, but that's not related to your question. The second is to continue to invest and expand our presence with value-added services. There are 2 kinds of services. Some are given free or virtually free to customers who give us consumables and equipment business. And others such as the programs of Henry Schein One are charged for. So there, obviously, we want to expand on that platform and we'll connect with suppliers and different partners that are interested in working with us to help us expanding that platform, the profitability of that platform and the connectivity to our customers so that we can be totally interoperable in a unique way. But I think your question is more directed to the third category, it's what we call internally brand equity. The cornerstone of that, of course, is our specialty businesses. We're particularly interested in advancing our oral surgery business that involves implants and bone regeneration materials and using that to be a one-stop shop for all products in oral surgeon or GP in the oral surgery field is -- are using. We are doing quite well in that field. We are gaining market share. We have made some good investments, and we expect to continue to make good investments in that field. The second area will be in the endodontic space. Similar goal. We, of course, will distribute all brand, but we also have our own brands from brushlets to edge and I'm sure others will be added over time. This is a high-margin business for us and presents us with a good opportunity. We will continue to collaborate with those branded manufacturers that will want to collaborate with us where other brands are offered to the Henry Schein channel. And the third is the orthodontic space where we will continue to invest. Again, we're making good progress. We have some good proprietary products in that field, and specifically related to our SLX Clear Aligner system and the whole system around that. And we believe that over time, that will continue to do well. We are receiving very good feedback from our KOLs and from customers in that regard. So the goal is specifically in those areas where we are not really competing with our manufacturers who work with us for distribution. We do not see ourselves being a manufacturer of equipment. And so for example, and so we will focus on areas where we believe the margins are great where we can provide good value to our customers and can combine our own brands with a complete offering of other products to present a one-stop shop.

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

Steve, this one might be for you. I'm sorry, Stanley as well. But I just want to make on the trends if I circle back. And so on the North American trend that you called out that weakened a little bit in November and December, I mean, here we are almost at the end of February. Any color that you can give on how those trended in January and February as well? And then I guess, a quick add-on to that same question will just be also any difference that you saw in general consumables versus specialty? Because I do think specialty has been more resilient in the past. And then I just got a quick follow-up.

Sure. So let me answer the second part of your question first. Specialty sales were stronger than core GP sales. In fact, for us, we saw our implant business growth in the 7% range, organic growth in the 7% range, which was strong a number for us. And we also saw another specialties and some nice growth in excess of the recorded growth. What we saw specifically in the U.S. and North American market was that the softness really continued in January, but we did see a really nice pickup so far in February. So we're a little bit optimistic with that pickup because February so far has been very strong, and it's only, call it, 2 weeks into the February months. So that's the color I can provide, and that's both on consumables and equipment. Softness in January continued but a nice turnaround in February for an acceleration of that growth.

Like me just add one other factor. And it's not directly related to Steven's answer per se and maybe your question. But the profitability of Henry Schein One and the profitability of our specialty businesses are significantly higher than distribution business. So although the impact of top line our growth in these businesses may not be that material or not be obvious, the bottom line increase is quite important. And in fact, even if we don't have much growth and we expect to have a lot of growth, the profitability increase in these businesses is very, very good. So the opportunity to have growth in operating margin and bottom line profitability or operating income profitability from Henry Schein One and the specialty businesses is, of course, therefore, disproportionate to the sales growth of the distribution businesses.

Okay, fantastic. And just as a follow-up question is it sort of built on maybe Nathan's from earlier. But just longer term, Steven, the up margin goal for the company, you talked about why it may be flat. This year, you've got some stranded costs, you've got some FX headwinds. But when we look at longer term, you used to talk about 20 bps of O&M expansion for the legacy co. Do you see you that as sort of recapture 20 bps longer term? Does it even work beyond that as Stanley, to your point, you made some acquisitions and bolt-ons in some of these higher-margin business such as specialty Henry Schein One, et cetera?

Sure, John. You're correct. We do feel confident longer term to get back to operating margin expansion. Again, this is a little bit of a transition year, 2019, because of the spin-off and other activities. That does not assume any major shift in sales next to higher margin. We're still targeting that longer-term margin expansion of 20 bps. But if the shift is greater through acquisitions, that could accelerate 20 bps to a higher number. So we still feel like that's a model that we can continue to achieve. We just have to get through 2019 in this transitional year.

And of course, our guidance to add on, Steve, does not include any acquisitions. We cannot, of course, commit to any acquisitions until the paper is signed. But we will be investing quite heavily in these 2 legs of higher margin. One is Henry Schein One. It's a tremendous platform and a great way to add additional services, additional geographies to the Henry Schein One platform. Lots of opportunity there for margin expansion. And likewise, in the specialty areas where we can remain excited and think that we have opportunity to continue to grow market share in a market that is quite healthy.

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

I guess, Steve, you gave us some nice color on the softness that you saw in the dental market in North America and kind of how it's balanced here in February. But were you ever able to pinpoint what caused the softness? I mean, is it really just kind of a resetting also, what market growth is for the market?

It's difficult to answer with precision. We did see the large corporate accounts grow faster than the independent customers. We didn't see anything specific geographically or regionally. And obviously, it was related to patient traffic and utilization. So again, we're trying to continue to do analytics on that, but it's difficult to understand with precision. So again, reflected in our guidance is a continued slightly softer market expectations that will continue. Again, we still feel we can grow. Assuming we achieve our guidance of high single digits, 7% to 9% growth in this environment, and the opportunity for that accelerate over time with acquisitions, other activities and maybe even a little bit of help from the end markets. And we feel that, that's something that will continue to deliver shareholder value for our shareholders.

That's helpful. And then Stan, when we think about your growth strategy, and you guys give some color on higher-margin equipment in digital areas that you want to get into, can you talk geographically about the emerging markets? You mentioned China as a big opportunity. Kind of will you build that organically? Or do you think an acquisition is more of the right way to go about building in the emerging markets?

It's a very good question, Kevin. Of course, the emerging markets are growing rapidly off a smaller base. The answer is slightly different per country. China now, we've been there for almost a decade and feel very comfortable now that we have the right infrastructure, financial and regulatory and legal to advance. We have a $60 million business. We will close shortly on another $14 million, and we will continue to grow organically. It's a great platform, by the way, to advance our implant businesses, which is doing quite well with us in China. So it's going to be, in China, a combination of organic growth and expanding the platform so that we have good distribution throughout China. Brazil, for example, which is now a nice business for us, we put together the #1 and #2 player. They went through last year the integration process. And I expect that we will continue to have good growth and profitability in Brazil. I expect that there will also be some acquisition opportunities and specifically in the specialty areas as well. We have a small operation in South Africa, which is an opportunity to expand north. Although it's not a huge market, it's a growing market. And in other parts of Asia, for example, Thailand, you may ask why we went to Thailand. We just found a good company. Those opportunities advance our business in the Southeast Asian region and specifically, we think in the digital area, where we have some good capability and combined with our oral surgery program. So I can talk about other countries as well, but those are the key areas that we're focused on today. And see, these are good markets growing. We see good opportunity to take our products that we have and know-how that we have and take advantage of markets that are healthy and growing.

Your next question comes from the line of David Larson with SVB Leerink.

Can you talk about Henry Schein One product? And you keep mentioning demand generation tools and being able to drive traffic to the dental offices. I think you also mentioned there is $400 million of sales. What exactly are those tools? And how permeated is the solution into like your dental base? Can you reach all of your dental clients now or not? And sort of how do you expect that penetration to progress over time?

Sure. So I'll give a little bit of color. One of the things that I would invite people, we have had some people, some investors go out to our technology center in Salt Lake City and the people would like to get a demo and -- of the technology and the software that drives this, we can set something up. But quickly in summary, we have a number of terrific products now with the creation of Henry Schein One that drive patient communications that are effectively smart communications to be able to go to patients and communicate with them and get them back into a dental office for treatment plans that have not been performed or to get them back in the office because they've been away for too long. We believe that the average dental office might have close to a year's worth of billings for treatment plants that were diagnosed when patients have not returned. We could also include in there, we have some certain products with Henry Schein One that can help with either patient financing as well as some insurance programs that could help those patients if it's partly a financial issue to get those services performed. So it's really detailed and smart patient communications to bring those customers, those patients back into the dental office. We've seen success. It's a service, it's a monthly service that dental practices will buy monthly and effectively outsource the patient communications to us. And it's been very effective. We also have recording that shows them the effectiveness of what we're doing. And I would say that if you ask any dental practice what the top 3 concerns are, patient traffic and demand is probably in those top 3. So this really addresses something very important to the dental practice and really addresses the value of Henry Schein that we're more than just, again, a rigid supply of products from point A to point B. Yes, we do that better than anyone else and we're very efficient at that. But we provide so many other services, and this is just one of those. So hopefully, that helps with a little bit of color. Again, if everyone likes to get detailed demos of those products, we can try to set something up. Maybe we can even do something remote where people can call into a webinar of sorts.

In the general enterprise systems that we offer, for small practices, midsize practices, large practices, U.S. government, for example, military, the PA, these are all customized solutions that are very, very effective in managing the practice per se but helping with clinical outcomes.

Okay. And then just in terms of like traffic volume to dental offices, do you think the nature of the stock market and the S&P 500 has anything to do with that? Like if people see the market pulling in and late in the year, they're less inclined to have services performed, and if the market comes back and they see the value of their savings rising and they're more inclined to use sort of their savings to have services? Any correlation there in your mind or not? What do you think?

There are so many discussions internally with our salespeople about customers. Everybody has a view. There are people that say that when Christmas and new year sales had caused lost days of activity. There are people and talk about the weather. There are people that do talk about the impact of the stock markets on the consumer and on the enthusiasm of the dentists invest in the practice. I think these things all have short-term impact. But I think in the end, we have to look at how the business performs over any year, 1, 2, 3 years. And I think we are as well positioned as we've ever been to continue to grow EPS. I think the number of 7% to 9% is on the low end, specifically because 2019 is a transition year. There's so much going on. I think we need to be a little cautious, including where is the world economy heading, where is foreign exchange going. But I think once things settle down in 2020 going forward, I think the goals that we set for ourselves at nine to low single digits -- high single digits to low double digits, 9%, 11%, 12% is something that we're comfortable with. I think we're investing in the right areas. We are returning cash that we have into investment. We heavily invest in the first year with expenses because you have a lot of you have a lot of acquisition cost, and some types of businesses, you have to write-down inventory. You have to take amortization charges. So overall, we take this into account. I think our three-pronged strategy is very, very exciting. We have a great theme in place in each one of our businesses really to execute, really to advance organic growth and, of course, ready to deploy capital on an internal competitive basis because we will go to where the returns are the best.

We have time for one last question coming from the line of Steven Valiquette of Barclays.

Just really two quick clarification questions here. First, when you mentioned that for 2019 that the guidance assumes that the market trends will be in line with recent history, I just want to confirm whether or not you're referring to the softer trends in November or December in particular. And really without getting at it, if we think about just 2019 overall versus 2018 overall dental market, are you assuming similar trend year-over-year or down year-over-year? I just want to sort of clarify your exact comment around that.

Sure. So I would say it's a little bit down compared to full year 2018. It does reflect the most recent history of a little softness in Q4 that continued into January. Again, so hard to tell how -- whether that's an anomaly or whether that's going to stick around for a couple of few quarters. So we're trying to be a little bit conservative to assume that.

Okay, great. And the other one quickly. You mentioned that the $1.1 billion dividend was used initially to pay down some debt. I don't know how current that 8-K was a few weeks ago, but could you give a number how much debt you paid down so far in calendar '19?

Yes. We used the entire $1.1 billion to pay down in short-term debt that was floating rate debt. It's not in the 8-K because the 8-K only covers 2018. So the proceeds weren't received until early February of 2019. So it's not in the 8-K.

So you basically used all of it at this point in 1Q '19 to pay down debt? Okay, great.

Yes. Okay, good.

So I think we need to end the call because we committed to an hour and we've gone over an hour. Sorry for the length of the initial introduction. But of course, we had to put things into perspective. Let me just close, and I really -- a lot of my remarks were included in the response to the second or the last question -- the second to the last question. We're very excited about the future of Henry Schein. We're in the right spot. Wellness and prevention is important and managing health care costs, managing the wellness of the world population. And so I think we are well positioned, and I think our focus on the human side of wellness and prevention is going to pay off nicely for our investors long term. We continue on our path of success. It's been many years, [indiscernible] as a private company and 24th year as a public company. We have great themes. We've got good disciplines within the business. And the Medical and dental customers understand us. Our brand is good. We will continue to provide innovative solutions. We do work on this. We dream about this, think about every day, every hour. And the team is really focused on, as I said, wellness and prevention and enabling our customers across the globe to focus and delivering quality clinical care while actually running a good business. Steven and Carolynne are heading to Chicago this afternoon for the midwinter dental tradeshow, which is one of our biggest dental conventions in North America. Unfortunately, I'm not joining them this year as I recently had a back surgery. It was most successful, but my doctor has advised me not to travel by plane for a month. Rest assured I'm going to be working very hard. And I will be at the IDS. There's a meeting in Chicago and Cologne next month. So I'm in good shape health-wise, and you're in good hands with Steven and Carolynne. Please feel free to visit our booth. I'd be happy to also arrange for a tour of certain software systems and other interesting areas of the Henry Schein story. Again, Steven and Carolynne are ready to answer any questions. If you have further questions specifically, try Carolynne Borders or hit up Investor Relations at 631-390-8105. And of course, if you want to get Steven, too, he's available. I look forward to reporting back to you our first quarter results. Be back in May and very, very excited, as I said, about the future of Henry Schein. Our team is enthusiastic. We've got good plans. And last year was a historical year. We made significant movements, and the team is excited about continuing in the direction as we describe. So thank you for your interest.

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