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spk00: Good morning and welcome to the IDEXX Laboratory's third quarter 2020 earnings conference call. As a reminder, today's conference is being recorded. Participating in the call this morning are Jay Mazelski, President and Chief Executive Officer, Brian McKeon, Chief Financial Officer, and John Ravis, Senior Director, Investor Relations. IDEXX would like to preface the discussion today with a caution regarding foreign booking statements. Listeners are reminded that our discussion during the call will include forward-looking statements that are subject to risks and uncertainties that could cause actual results to differ materially from those discussed today. Additional information regarding these risks and uncertainties is available under the forward-looking statements notice in our press release issued this morning, as well as in our periodic filings with the Securities and Exchange Commission, which can be obtained from the SEC or by visiting the investor relations section of our website, IDEX.com. During this call, we will be discussing certain financial measures not prepared in accordance with generally accepted accounting principles or gap. A reconciliation of these non-gap financial measures to the most directly comparable gap measures is provided in our earnings release, which may also be found by visiting the investor relations section of our website. In reviewing our third quarter 2020 results, please note all references to growth, organic growth, constant currency growth, and comparable constant currency growth refer to growth compared to the equivalent period in 2019 unless otherwise noted. To allow broad participation in the Q&A, we ask that each participant limit his or her questions to one with one follow-up as necessary. We appreciate you may have additional questions. Please feel free to get back into the queue, and if time permits, we will take your additional questions. I would now like to turn the call over to Brian McKeon.
spk02: Good morning, everyone. IDEXX delivered excellent financial results in the third quarter, reflecting continued strong gains in our CAG business globally. In terms of highlights, revenue increased 19% as reported and 18% organically, supported by 21% organic growth in CAG Diagnostics recurring revenues. CAG Diagnostics recurring revenue growth was high throughout Q3, building on the strong global trends we saw in our CAG business in Q2. For Q3 year-to-date, CAG Diagnostics organic recurring revenue growth increased 12.8%, reflecting the extraordinary global resilience of demand for companion animal health care. Flow-through benefits from high recurring revenue growth drove a 470 basis point improvement in comparable constant currency operating margins in the quarter, enabling delivery of $1.69 in earnings per share, an increase of 47% on a comparable constant currency basis. In Q3, we recorded a $27.5 million or $0.24 per share accrual related to an ongoing litigation matter. Our comparable constant currency operating margin improvement metrics and comparable constant currency EPS growth rates exclude impacts from this charge. For Q3 year-to-date, we delivered EPS of $4.70, up 28% on a comparable constant currency basis, supported by 10% overall organic revenue growth. We continue to be encouraged by robust CAG market trends, and we're planning for strong revenue growth and profit growth in our business moving forward aligned with our long-term goals. However, given ongoing potential dynamics and uncertainty related to the pandemic, we will not be providing specific financial guidance for 2020 and 2021 at this time. As we've done in recent quarters, we'll focus our review on the trends we're seeing in our markets and how we intend to manage our business effectively in this context. Let's begin with a review of our third quarter revenue results and recent market trends. Third quarter organic revenue growth of 18% was driven by 21% organic gains in CAG diagnostics recurring revenues, reflecting 22% organic growth in the U.S. and 19% organic growth in international markets. Strong organic growth was also supported by 18% gains in our LPD business, driven by continued strong growth in Asian markets, as well as by approximately 1% of growth benefit from our OptiHuman COVID-19 PCR test initiative. Overall gains were moderated by constraints on new IDEXX VetLab and diagnostic imaging instrument placements and moderate organic declines in water revenues, though trends on these fronts improved solidly compared to the second quarter. As noted, CAG diagnostic recurring revenue gains sustained at high levels through the third quarter reflected in approximately 24% organic growth in July and growth of approximately 20% combined in August and September. CAG growth dynamics remained healthy across regions in Q3, led by very strong gains in the U.S., and high organic growth in other key markets, such as Canada and Australia, aided by fulfillment of pent-up wellness demand. Revenue growth in Europe and other key Asian markets was also strong in the quarter, reinforcing the broad global recovery in our CAG business. For the year to date, CAG diagnostics recurring revenue growth has increased 13% in the U.S. and 12% overall in international markets. High CAG diagnostics recurring revenue gains continue to be aided by solid growth in clinical visits, as demonstrated in our same-store U.S. weekly tracking data published in our earnings snapshot available on our website. Overall clinical growth sustained at 6% in Q3, supported by continued solid 3% growth in non-wellness visits and 11% growth in wellness visits, including benefits from pent-up demand, which we estimate contributed 2% to 3% to overall clinical visit gains in the quarter. As Jay will discuss, a factor supporting clinical visit gains is an increase in first-time clinical patient visits, which we estimate added approximately 1% to overall clinical visit growth and 2% to wellness visit growth in the quarter. A continued focus on healthcare services supported an 11% same-store increase in overall veterinary clinic revenues in Q3, well ahead of 1% growth in overall visits to veterinary clinics in the quarter. IDAC's growth has been even stronger than these positive market trends, particularly in our core U.S. market, where Q3 CAG-diagnostic recurring revenue gains exceeded 20%. A key metric we follow for the U.S. market is the premium of CAG recurring revenue growth to overall clinical visit growth. In recent years, this metric has increased steadily from a 7.5 percent growth premium in 2016 to a 9 percent premium in 2019, reflecting enhanced commercial capability, program initiatives, and technology we've been advancing to support the development of diagnostic testing. In 2020, we've seen an acceleration of this trend. Year-to-date, the CAG diagnostic growth premium to clinical visits has expanded to 12%, supported by a further acceleration in growth in Q3. These trends reflect an increased focus on services overall at the clinic level, which helped drive growth in average diagnostics revenue per visit to 6% for year-to-date, compared to approximately 4% growth in recent years. These are encouraging trends that we're monitoring closely, and Jay will discuss in more detail. which point to a strong ongoing market growth dynamic for our CAG business. This positive market backdrop supported high Q3 organic gains, revenue gains across our major testing modalities. By modality, IDAC's global reference revenues increased 24% organically in Q3, led by more than 20% growth in the U.S. and mid-teen organic gains in international markets. Relatively higher U.S. gains are aligned with higher levels of wellness testing, which has benefited recently from fulfillment of pent-up testing demand. IDEXX VetLab consumable revenues increased 22 percent on an organic basis, reflecting similar high levels of strong growth in U.S. and international markets. Gains were supported by solid increases in testing utilization across regions, improved very high customer retention levels, and continued expansion of our global premium install base. CAG instrument placements recovered solidly in Q3 as sales access to veterinary clinics gradually increased and clinics look ahead to supporting strong growth in diagnostic testing. While improving from recent trends, overall placements continue to be constrained to a degree by restricted sales access to some clinics as well as near-term clinic work focus on supporting high demand for their services. These factors contributed to a $3 million, or 10%, year-on-year decline in reported CAG instrument revenue for the quarter. The quality of CAG instrument placements remained high, reflected in 303 catalyst placements at new and competitive counts in North America and 860 new and competitive placements in international markets. We also benefited from 372 second catalyst placements driven by momentum with North American customers. These new placements and high customer retention levels supported a 15% year-on-year growth in our global catalyst install base. We also achieved 978 premium hematology placements and 495 set-of-you placements, bringing our global set-of-you install base to over 10,000 instruments of 22% year-on-year. Rapid assay revenue increased 20% organically in Q3, driven by high growth in the U.S., supported by pent-up demand for wellness testing. Q3 year-to-date rapid assay organic revenue growth was 6%, driven by continued solid volume gains for 40X and specialty testing. Overall, CAG diagnostic revenue growth remains primarily volume-driven, with consistent net price gains of 2% to 3%. In other areas of our CAG business, our veterinary software and diagnostic imaging revenues increased 4% organically overall. Double-digit gains in recurring service revenues and strong increases in new software system placements, supported by the fulfillment of outstanding backlog orders, were moderated by lower diagnostic imaging system placements compared to strong prior year levels. Turning to our other business segments, water revenues declined 4% organically in Q3, impacted by pressures on non-compliance related testing, which represents about 20% of water revenues. As noted in our Q2 earnings call, the vast majority of our water testing volumes are compliance related, or mandated by government regulations, and these volumes have sustained as an essential service. We expect uneven demand related to non-compliance testing to persist as we continue to work through pandemic-related impacts. Livestock, poultry, and dairy revenue increased 18% organically in Q3, driven by strong growth in our Asia Pacific region. LPD results continue to benefit from strong demand for diagnostic testing programs for African swine fever, and improvement in core swine testing volumes in China, supported by large producer efforts to rebuild swine herds. We're also seeing continued solid growth for poultry testing globally. These gains more than offset lower herd health screening levels compared to strong prior year results. We expect to see moderation in our LPD growth rate moving forward as we begin to lap the benefits of our prior year expansion of our African swine fever testing programs. Turning to the P&L, profit results were very strong in Q3, benefiting from high CAG diagnostic recurring revenue gains and favorable product mix, as well as continued benefits from proactive cost management. These actions supported a 70 basis point improvement in reported operating margins, or gains of 470 basis points on a comparable constant currency basis, driving an increase in operating profits of 23% on a reported basis and 43% on a comparable constant currency basis. As noted earlier, we recorded a $27.5 million or $0.24 per share charge related to an ongoing litigation matter, which was recorded in G&A and is excluded from our comparable growth metrics. EPS was $1.69 per share, including benefits of $16 million or $0.18 per share, related to share-based compensation activity, bringing year-to-date share compensation-related benefits to a much higher than expected $27 million, or $0.31 per share. As noted, on a comparable constant currency basis, Q3 EPS increased 47%, adjusting for these benefits and the impact of the litigation. Gross profit increased 23% in Q3. Gross margins increased approximately 200 basis points on a on a constant currency basis, reflecting solid productivity improvement in our lab operations, supported by over 20% organic revenue growth, as well as favorable net mixed benefits from strong consumable sales and lower instrument revenues, and benefits from moderate net price gains. Foreign exchange hedge impacts, which are recorded in gross profit, reflected a $1 million loss in Q3 and $3 million of gains year-to-date. Recent FX rates would indicate a modest favorable year-on-year revenue growth rate of impact for Q4 and 2021 with profit benefits mitigated by previously established hedged positions. Operating expenses in Q3 increased 22% on a reported basis and 9% on a comparable constant currency basis, excluding impacts from the litigation accrual. Q3 operating expenses included a $10 million investment related to the funding of the newly established donor advised fund, the IDAX Foundation, which Jay will discuss in his comments. As noted in our last call, aligned with the strong recovery in global CAG demand, we're advancing targeted new hiring and prioritized investments in support of our long-term growth strategy, including augmentation of our international commercial capability. We also expect incremental R&D costs in Q4 as we advance final steps ahead of the ProSite 1 launch and expect employee health care and dental cost claims to increase as individuals seek previously deferred health care. Overall, we anticipate sustaining a relatively higher rate of OPEX growth moving forward as we support our solid growth trends. In terms of cash flow, we've generated $336 million in positive free cash flow year-to-date. On a trailing 12-month basis, our net income to free cash flow conversion rate was 90% or 96% adjusted for our investments in our Westbrook Headquarters expansion and German lab relocation, which are now complete. Our balance sheet is in a very strong position, aided by the exceptional financial performance we saw in P3 and the steps we took to enhance our liquidity and flexibility earlier in the year. We ended the quarter with leverage ratios of 1.2 times gross and 1 times net of cash, with $176 million in cash and no borrowings on our $1 billion revolving credit facility. We did not allocate capital to share repurchases in the quarter. Given our strong business results and positive cash generation and our confidence in the strength of the CAG market recovery, we will be looking at reinitiating share repurchases in the future aligned with maintaining a prudent capital structure. Overall, we're very pleased with the strong momentum and high level of operational execution demonstrated in our business in Q3. IDEX continues to show that we have a great business model in an amazing market with tremendous resilience and long-term growth potential. I'll now turn the call over to Jay for his comments.
spk04: Thank you, Brian, and good morning. IDEX delivered exceptional performance in Q3, driven by sustained, strong underlying market trends in our global CAG business. High CAG diagnostics recurring revenue gains were supported in part by pent-up demand for healthcare services. as well as a continued overall shift towards a provision of more veterinary services. These services are often enabled by a higher use and intensity of diagnostics. Delivering excellent patient care is the key value proposition of veterinarians, and to treat, they must first diagnose. Proprietary IDEXX diagnostics plays an important role in this paradigm. We've continued to see a clear V-shaped recovery in companion animal health care. And these trends point toward a potential sustained level of accelerated growth for diagnostics testing. Let me start with a brief update on our market trends, including observations on how our customers are adapting and review the exceptional execution of our commercial organization in engaging and supporting them. As Brian noted, we've seen solid growth in same-store clinical visits in key markets like the U.S., as well as sustained strong recovery in clinic demand across our international markets. A factor supporting these results has been pent-up demand for pet healthcare, evidenced by 11% growth in wellness visits in Q3. We've begun to see some moderation in these very high growth levels, while non-wellness visits, which we estimate account for approximately 60% of overall clinical visits, and approximately 70% or more of related diagnostic revenues continue to expand at a healthy 3% rate. Many pet owners, just like a significant number of IDEXX employees, continue to work from home and are spending significantly more time with their pets. We're likely more attuned to their well-being, resulting in higher practice visits. These trends further reinforce the strong global recovery and health of our markets. As we work through the market recovery, Additional factors are emerging, which have supported very high growth levels in CAG diagnostics recurring revenues. Veterinary clinics appear to be increasing their standard of care at an accelerated pace. Evidence of this can be seen in the average percentage of US clinical visits that use diagnostics. This averaged approximately 45% in Q3 of 2019. While in Q3 of 2020, this metric was approximately 200 basis points higher. To put this higher step up in context, an average 50 basis point per year increase was more typical in recent years. Not only do more visits include diagnostics, but the intensity, as measured by revenue, has also increased. Growth in average diagnostics revenue per visit in the U.S. has increased to approximately 6% year-to-date, compared to 4% growth in recent years. Pandemic workflow procedures like curbside drop-off and the desire to take a more comprehensive healthcare approach may be supporting these promising trends. Diagnostic revenue growth per practice continues to expand as a result of these factors. U.S. companion animal diagnostics revenue growth per practice increased 10.5% in 2020 compared to approximately 7.5% over the last five years. This is despite a slowing of clinical visits due to the pandemic to 1% year to date compared to a five-year average of 3%. Our expanded commercial presence and focus on supporting the vet practice with innovative technology and insight for practice development continues to drive these favorable dynamics at a steadily improving rate. While we may see some moderation in these trends moving forward, These healthy dynamics reinforce a potential long-term positive backdrop for diagnostics market growth. Increases in the use of diagnostics speak to the willingness of pet owners to prioritize care for the health and well-being of their family members, even during times of economic uncertainty. It also reinforces the increasing role of services in the vet clinic business model. reflected in an accelerated shift in diagnostics as a percentage of practice revenues. U.S. diagnostic revenues as a percentage of total practice revenue reached 16.3% in Q3, approximately 100 basis points above prior year levels, and compared to an average 25 basis point increase in recent years. For vet clinics, diagnostic services are one of the most profitable areas in the practice. And these trends can help mitigate the impacts of accelerated migration of product sales to online channels. An additional emerging factor that appears to be supporting higher service and diagnostics growth is an increase in first-time clinical patients. Anecdotally, we've all seen and heard about increased interest in adopting puppies and kittens during the pandemic. Well, this is a difficult area to measure. we are seeing a meaningful increase in first-time clinical visits in our market tracking data. Year-on-year growth in first-time clinical visits measured through our U.S. practice intelligence database has increased an average of 8% year-to-date, with accelerated growth since April, compared to approximately 2% year-on-year growth in recent years. As Brian noted, we estimate that incremental new patient growth added approximately 1% to clinical visit growth in Q3 overall. In our own business, we've seen a meaningful step up in the number of US hospitals running progesterone tests and average run levels, reinforcing a potential increase in breeding activity. While it's early to project the potential impact from these trends, evidence is emerging that there's an accelerated increase in growth in the US pet population. While we recognize the potential for future business disruption related to the pandemic, these very encouraging trends are reinforcing our confidence in the long-term potential for our CAG business. Our commercial organization is at the center of enabling this market development. So next, I will highlight key developments in our commercial agenda. Our commercial execution in Q3 was excellent. We saw solid continued recovery in instrument placements in North America and in international regions, with 3,173 premium instrument placements globally in a quarter, including 1,700 catalyst placements, with close to 70% in new and competitive accounts. Access to practices continue to improve through Q3, with in-person visits by our customer account managers now at approximately 50% in-person in the U.S. and approximately 60% in Q3 on average in Europe. While underlying market demand for diagnostics has remained strong, we expect that sales professionals' access to veterinary clinics will likely continue to be pressured as social distancing policies and measures to combat the spread of COVID-19 remain dynamic and continue to impact veterinary care. As highlighted during Investor Day, a key multi-year strategy is to scale our commercial footprint on a rolling basis in targeted international markets. These expansion efforts reflect a tremendous opportunity as two-thirds of the potential total addressable market over time will be outside the U.S. Leveraging the commercial playbook of best practices we developed through multiple expansions in the U.S., our international expansion roadmap is tracking a plan. In Q3, we successfully launched programmatic efforts to essentially double our commercial footprint in two important European markets over the coming months. We expect to continue to make great progress on these initiatives through the remainder of the year, with all talent hired, trained, and onboarded by the first half of 2021. These efforts complement the strong commercial momentum resulting from investments made over the past several years in Europe. For example, our newly opened and now our largest reference lab in the world in Chord, Westheim, Germany, is fully functional in providing differentiated menu, and excellent service levels across Europe. Additionally, hematology is a very important modality internationally, and the announcement of ProSite 1 has been enthusiastically received by customers. Finally, customers across Europe have embraced our IDEXX 360 program, which was configured to the unique needs of key markets in the region, with over 50% of premium instruments placed in the quarter using IDEXX 360, a new high. The combination of innovations like ProSite 1, Coren Westheim and IDEXX 360, coupled with an expanded commercial footprint in select countries, are key elements of our growth strategy. Growing enrollment and engagement in the IDEXX Preventive Care Program is a key focus for our commercial and corporate accounts team in the second half of the year. Program results recovered in Q3 with strong adoption of the IDEXX Preventive Care Program, with approximately 230 new enrollees in a quarter. supported by sustained high wellness visits traffic. This brings our total enrolled practice level to over 4500. Enrollments in the program approached pre-COVID levels in the latter part of the quarter, which is evidence that customers continue to embrace the IDEXX preventive care approach and consider it a foundational element of their care offering as they look to uncover more with IDEXX proprietary diagnostics. Another prioritized area of ongoing focus is supporting customers with integrated solutions that support practice productivity and best medicine. A great example of this is our new hematology analyzer, ProSite1, recently launched for presale. Both our commercial teams, which were trained last month, and customers are very excited by the performance, usability, and cost profile of the analyzer. We are making solid progress with field trials. with approximately 20 units at customer sites and more to follow over the next month. Customer use feedback in a live environment is part of our time-tested approach to ensure that we only ship when the solution is ready to support patient care in the most demanding and varied practice environments. We plan to begin shipping in Q1 with a gradual build in placements over the balance of the year. Expanding our premium installed base is a long-term objective for IDEXX. with approximately 200,000 opportunities for placements globally, including almost 100,000 hematology placements, encompassing competitive, greenfield, and upgrades for current customers with legacy analyzers. ProSite 1 enables us to access a much broader part of the marketplace, as it's packed with the latest technology and simplicity, facilitating efficiency at the practice and trusted reference lab quality results. It also has affordable economics, including paper-run billing and inventory replenishment. From a clinical perspective, chemistry and hematology complement each other to provide a forward clinical patient profile. Coupled with our Catalyst One chemistry platform with a growing menu of eight new tests in eight years, ProSite One is yet another proof point of our commitment to bring comprehensive reference lab quality blood analysis to the point of care through solutions that are both suited to small and large practices globally. And with our comprehensive program, IDEXX 360, we make access to advanced diagnostics easy and hassle-free for customers with no upfront equipment costs. We have, over the last year, expanded IDEXX 360 to offer programs with flexible early year commitments for new practice formations. This has been extremely well received by these practices. and enables us to grow with them from their earliest days. We also continue to see positive customer experience and adoption of our innovations and product initiatives introduced at VMX in January. A great case in point is our digital cytology service offering. Our first customer satisfaction survey scores were best in class. Customers are delighted with the under two hours, 24 by 7 results promise we consistently deliver on. Moreover, we make reference lab services ordering and results viewing easy and convenient for our customers with our VetConnect Plus diagnostic results portal, and more recently with IDEC's reference lab data on IVLS. IVLS was formerly used by customers just with our point of care in-clinic suite, but now approximately 2,700 customers are already taking advantage of this new IVLS functionality for reference lab results too. As noted on our last earnings call, our CityView Advanced Bacteria Detection Kit started to ship in April, and over half our North American customers have used the Advanced Bacteria Kit to date. Detecting bacteria in urine is a key driver of clinical value, and we are confident that this enhanced capability will drive even greater appreciation of our CityView platform. Our IDEXX Urinalysis Anywhere strategy further differentiates us by offering customer solutions that are unique providing customer flexibility to test at the practice or our lab with seamless order integration and unified pricing. Our customers' value, our holistic customer-centric approach like your analysis anywhere. And we see that appreciation reflected in very high customer retention rates. Moving on to our veterinary software services and diagnostic imaging businesses. We saw strong new software system placements in Q3. supported by the hard work of our commercial organization and the healthy pipeline they built earlier in the year, with 35% growth year-over-year in new PIMS placements globally, including on-premise and cloud systems. Although diagnostic imaging new system placements decreased year-over-year, as access to veterinary practices was pressured by COVID-19, our customers are excited about the ImageView DR30, our new digital imaging system we announced in August. The DR30, along with our other imaging products, offers the most advanced digital imaging technology in the market with software capabilities that provides streamlined workflow and efficiency at the practice. The continued growth of our software and digital imaging systems install base and subscription customers for cloud solutions are driving strong double-digit growth in our recurring service revenues. As we advance our commercial capabilities, We're also advancing our commitment to the positive impact we make in the communities we serve. Today I'm excited to share that we have established an IDEXX Foundation, a donor advised charitable fund with a contribution of $10 million to support activities aligned with our purpose to enhance the health and well-being of pets, people, and livestock. As part of IDEXX's overall corporate responsibility efforts, IDAX has invested for decades in organizations and initiatives aligned with our purpose and guiding principles. The IDAX Foundation will complement our ongoing local partnerships while also broadening our geographic reach and social impact. The IDAX Foundation's priorities will be on long-term outcomes-focused investments in areas such as supporting education in the veterinary and STEM fields, including diversity, equity, and inclusion in animal health care. We're excited about this important step in support of our purpose and mission. The health and safety of our workforce and their families and our communities also continues to be a top priority for us. The majority of IDEX employees continue to work remotely, and as travel remains limited, employees leverage virtual technology to stay connected and engaged from their home offices. Our on-site teams continue to execute at very high levels to support exceptional market demands. while maintaining important health and safety procedures. Overall, we're excited about the strong continued market performance and resilience in animal health, and more specifically, in our category. We're positioning ourselves to support continued strong growth aligned with our long-term potential and financial goals. This means continued investment in innovative solutions that solve the most challenging problems faced by veterinarians. and the expanded commercial capability to bring these innovations to new and existing customers and markets. While the resilience of our industry, and IDEX's business in particular, is extraordinary, the situation remains dynamic. We will continue to monitor closely the pandemic's impact on consumers and pet owners and react appropriately. Lastly, I would like to take the opportunity to thank both our employees and customers for their resilience and perseverance during economic uncertainties, and new challenging workplace and employee safety requirements. I'm extremely proud of what we've accomplished together in the last two quarters and look forward to the journey still before us. And that concludes my opening remarks. We now have time for some questions.
spk07: Thank you. We'll now begin the question and answer session. If you have a question, press star then 1 on your touchtone phone. If you wish to be removed from the queue, please press the pound sign or the hash key. If you're using a speakerphone, you may need to pick up the handset first before pressing the numbers. Once again, if you have a question, press star then 1 on your touchtone phone. And our first question is from Ryan Daniels from William Blair.
spk10: Yeah, guys, thanks for taking the questions and thanks for all the detailed information. I'm curious if you can speak a little bit to the international growth outlook and your investments there. It's a somewhat interesting dichotomy because you're seeing a lot of strength in the industry and OUS, and it sounds like you're making a significant expansion, but there's also an ongoing uptick in COVID cases and more lockdowns. So I'm curious how you're balancing the growth in your field, Salesforce in particular, contrasting that against what could be potential more market hiccups going forward. Thanks.
spk04: Yeah, thanks, Ryan. I'll take that, and Brian may add some additional color. You know, we see the international opportunity as very significant, about two-thirds of the potential addressable market. And we know our international customers, pet owners, love their pets as much as we do. So it's really a question of helping to develop the marketplace. We see a lot of parallels to what we've done in the U.S., to market creation overseas. So that speaks to the investments we've made in terms of field footprint, which brings diagnostic subject matter experts, a reference lab, which builds out the lab network and provide the type of service levels our European customers, in this case, expect. A number of investments in information management solutions, as well as products like Catalyst One and now ProSight One, that fit those markets really well from a footprint and price standpoint. So we saw very nice growth in international, 29% recurring revenue on an organic basis. You know, we have seen some renewal, second wave, third wave of cases in parts of the US, but also parts of Europe. We think, you know, our customers will work through that, we'll work through that with them that can provide, you know, potentially some short-term But overall, you know, these investments are really pointed towards the long-term potential growth of the marketplace. Brian, did you want to add to that?
spk02: I think that I think, Brian, is the key point is we're really encouraged by the resilience of the markets globally. I think it reinforces there's, you know, sustaining long-term growth potential and, you know, underlying health in the business. We do anticipate there could be some bumps in front of us just in terms of the the management of the pandemic, but we're very focused on ensuring we continue to invest towards long-term market development, and that includes adding commercial resources that can support that. So we're trying to be balanced on that front. I think we're demonstrating that we can deliver good financial performance as we invest, and we're intending to lean into the positive growth trends that we've been seeing specifically since the second quarter.
spk10: Great. That's helpful. And then one more follow-up, I guess. You mentioned this, I think, Jay, during your comments. We have seen some flow of product sales and pharmaceuticals to online and curbside pickup, and that could be a behavior change that sustains for a long period and drains some form of revenue from your client base. So I'm curious if you view that as a big tailwind for diagnostics, given that's something that is high profit that really can't leave the clinic. Are you hearing from your sales teams or from vets that they're viewing this more as a kind of sustainable long-term revenue stream that they're going to focus on more going forward given potential structural changes.
spk04: Thanks. Keep in mind, that's a trend that's been going on for a while, the pivot to online sales, both pharmaceutical, probably more so on the specialty diet front. If anything, COVID may have accelerated that, and we have seen veterinarians, even pre-COVID, talk about The fact that they are pivoting to focus more on delivering veterinary services and to treat, you obviously have to diagnose. So we do think it's an area of the practice that's not tradable. It's not going to migrate outside the practice just by its very nature. So we do see that as a positive trend that had already existed and it may accelerate over time, but not necessarily unique to the COVID environment.
spk07: Our next question is from Erin Wright from Credit Suisse.
spk03: Great, thanks. Kind of a follow-up to that, how you play into telemedicine and virtual care, but also on the preventative care side, can you give us an update on the traction there and how you can rope that into kind of the telemedicine and virtual care landscape and how you can really play into that trend because it's kind of counterintuitive how that impacts IDEC.
spk04: Sure. In terms of the telemedicine, as part of revised workflows that practice has adopted early on, so this goes back to sort of the April-May timeframe, with patient curbside drop-off and pickup and restricted access, a lot of practices look to telemedicine solutions. It's primarily more a software solution than something you'd see on the human side with Teladoc. And our solutions integrate with the telemedicine offerings on the marketplace. And, you know, we have seen a lot of interest in it, whether or not that sustains, you know, post COVID remains to be seen. We think, you know, we think ultimately it's a positive for our business. And especially if it brings like more cats into the practice and initial diagnoses of cats that may require a physical visit to the practice. In terms of preventive care, As I mentioned in my remarks, we saw towards the tail end of the quarter more or less pre-COVID levels of enrollment. So we were 230 or so for the quarter, which is slightly less than pre-COVID. But again, there was a movement towards the end of the quarter to more normal levels. And that's to be expected. These type of programs require a fair amount of in-clinic access from both an onboarding and repeated training standpoint across the entire staff. But there's tremendous interest in the programs that piggyback on the tremendous interest in wellness in general. I think tying together your question and Ryan's question, it really does speak to the service orientation that we see amongst veterinarians and obviously wellness and preventive care is a big piece of that.
spk03: Okay, great. And then on the capital equipment side, when will that come back? How much is it attributable to willingness to spend on capital equipment in this environment versus product cycle dynamics, and have you seen any aggressive promotional activity or any changes in the competitive environment on that front? Thanks.
spk04: I'll make a couple, provide a couple comments on that, and Brian may add some additional flavor. You know, we did see a fairly dramatic recovery from Q2 levels, you know, that capital equipment placements is both a function of of clinic access, and that has remained, you know, somewhat restricted. We're at 50% in the U.S., 60% overall in-person visits internationally. But it's also a function, as Brian indicated in his remarks, of just the practices are busy. And, you know, when you think about placing an in-clinic suite, it requires training and some workflow modifications, integration into their local networks. They have to hit the pause button for some period of time in which to be able to do that. And when they're working pretty much full days without a lot of gaps in their schedules, that can be challenging in itself. But we do expect continued recovery throughout the year. It's really just a function of COVID-19 and the environment and its impact on practice access.
spk02: Yeah, I think what we've learned Today, through the pandemic, Aaron, we don't see caution for capital outlies as being something that's indicated by the sales force as being a challenge or changing competitive dynamics, anything like that. In fact, our retention levels are at record high levels. They actually improved. And we feel very positive about the dialogues we're having. I think to Jay's point, it's more about access and just how busy the vets are We would highlight that as you look at the case increases, the area that I think we anticipate relatively more impact is in things like instrument placements because that can be a prioritization of what vets are spending their time. The good news is the underlying demand in the market has consistently been so strong in this recovery that puts the industry in a good position where they can grow at a healthy rate. We could see ongoing deferrals on this front if we're working through, again, kind of lockdown or enhanced social distancing procedures that add to some of the restrictions we've seen. But good improvement, as Jay noted, from Q2 to Q3. Encouraging.
spk03: Okay, great. That's helpful. Thank you.
spk07: Our next question is from Michael Reiskin from Bank of America.
spk08: Hey, thanks, guys. Jay, quick one to start, just to follow up on something that came up earlier. I just want to be clear. Have you seen any moderation whatsoever in some of the European markets, specifically like France, Germany, UK, where we've seen a little bit more of an uptick? I'm just trying to delineate. you know, any trends you could be seeing in visits, the impact from, you know, on the one hand, an increase in COVID cases, but on the other hand, an increase in government lockdowns. I think what we've seen previously is sort of that first wave in 2Q was it really was the lockdowns that drove it. And if we look at the U.S. data, but by region, it doesn't really seem like there's an impact so far. But I just want to be clear, if you've noticed anything in some of the parts of the world where, you know, the second wave is a little bit more advanced.
spk02: Go ahead. Yeah, Mike, maybe just as context, I know you've seen the, just as context, the U.S. data is, you know, we do report on that and that the visits were sustained kind of solidly into Q4 and the non-wellness is sustaining well, so even with some of the moderation we'd expect in the pent-up wells demand, that's held up well. You know, Jay can talk to this, but I would say in international markets, you don't have the same level of kind of wellness benefit, if you will, you know, in terms of just how they provide care. And what we saw in markets in Europe and in Asia was very strong recovery, kind of some benefits from some pent-up demand, and kind of gravitation more towards kind of pre-COVID-type volume growth rates late in Q3. And so I think it's early to look at, you know, how new lockdowns might impact the business that, you know, clearly – That had been a factor, you know, back in March and April. I think the markets have learned to adapt here to continue to provide services. As mentioned earlier, I think, you know, we would anticipate this could cause some constraints on areas like instrument placements. And, you know, there's always a chance selectively this could impact, you know, some underlying demand or prioritization of services. But I think it's early for us to make any projections on that front.
spk04: Yeah, let me just build on a couple of those points. You know, our international markets are more biased towards in-clinic testing as well as non-wellness or sick patient testing, which is less impacted by, you know, COVID-related social distancing policies. So to Brian's point, we believe we've seen a return to more or less pre-COVID levels internationally, but the mix and flavor is a little bit different. than what we've seen in the US. And with non-wellness testing, the percentage of diagnostics usage is also higher. It's close to 80% or so from a split standpoint between non-wellness and wellness. So hopefully that gives you some flavor on potential impacts.
spk08: Yeah, that is really helpful. Thanks. And you're right, you know, looking at the snapshot you guys post on the website, you know, trying to parse into it as much as you can, it does seem like the West region and the Midwest has held in really well. And that's where the some of the second waves in the US have been. So that does indicate that it's a little bit more stable. A quick follow-up for me, Brian, for you on some of the spending and investments going forward. You touched on this earlier, obviously very strong free cash flow year-to-date. You talked about starting to ramp things up again. Could you go into a little bit more detail, go forward, beyond some of the international investments and the R&D you talked about in 4Q with ProSight? What else are you targeting? How sustained is it going to be? Is it going to be some catch-up spend maybe you pulled back earlier in the year, or is this going to be a new higher level that's more sustained go forward? And then also on the capital deployment front, if there's any changes there beyond your comments on the share buybacks.
spk02: Yeah. At a high level, we're transitioning from a period early on where we tried to be really cautious on investments with a lot of unknowns in front of us with business growth and like many companies, you know, froze hiring and pull back on compensation and try to ensure we're in a good place. And we are now, you know, going through a period where we have a higher level of confidence under the underlying market growth. We are getting ready for 2021 and thinking about how we're going to manage our business going forward. And we're starting to advance new hiring and positions that we had frozen and things that we wanted to to move forward with. We're adding staffing in our labs to try to keep up with 20% plus volume growth. And, you know, I think this is more indicative of us having a higher level of confidence in kind of the underlying market demand and how COVID may impact our business and ensuring that we're prepared for that going forward. We are doing some catch-up on areas, I can tell you, on incentive compensation accruals and things like that, that we were We were quite conservative early in the year, and we're in a better place to support that now. And we reinstated salary reductions and reinstated 401K reductions and things like that. So there's some of that going on. But I think the bigger picture here is we're looking at a market in our business that's growing at very healthy rates, and we want to ensure that we're investing towards that and supporting that and have confidence that we can do that well while delivering financial performance that's aligned with our long-term goals.
spk08: Great. Thank you so much.
spk07: Our next question is from John Block from Stiefel.
spk06: Thanks for the time, guys. Good morning. Maybe first question, I'll just start with ProSite 1 and, you know, the year one or essentially the 2021 contribution. And I don't expect details, but if you can help us think it through or, you know, conceptualize what that contribution might be. And I'll throw two things at you. You know, I think said of you, was over 2000 units ish in the first 12 months. And if I look at your snapshot, you know, your hematology base is over 30,000. And so if you were to turn 10% of that base, that's 3000 units. Is that a good ballpark to think about that? This should somewhat replicate a set of you type launch. Should it be greater because set of you was arguably pioneering, you know, you're in sentiment in clinic, you know, Jay, maybe if you can just talk to that and the dynamics, that'd be very helpful.
spk04: I think about ProSci 1 more from the standpoint, just as a benchmark analog, more from the standpoint of Catalyst 1 as a reasonable benchmark for pace of the placement build. Keep in mind, Catalyst 1 had a longer pre-sale period than ProSci 1, so you've got to take that into consideration. To your point, hematology is a more established marketplace. There's certainly, I think, a a lot of interest for it, but the way we're rolling it out is first in North America and then follow quickly thereafter internationally, where there's a really nice, I think, two-thirds plus of the opportunity is there, so you would have to take that into consideration. The other thing is, you know, prosite, one, we believe it will have a very high attach rate with chemistry, so our focus is really on being able to place sweets of chemistry, hematology, and potentially urinalysis versus just taking ProSite1 and, let's say, upgrading a laser site account or just a single competitive hematology account. Brian, did you want to add anything to that?
spk02: No, I think that's, you know, all the right kind of background. I think we, as Jay noted, will be rolling this out gradually through the year, you know, so some of this will depend on how the the exact timing of how that phases, and I think the Catalyst One launch is a reasonable benchmark, but we'll provide more insight on that as we get closer to the year-on-year end call. We'll give some more indications of how we're feeling about that outlook.
spk06: Okay, got it. Very helpful. Thanks, guys. And the second one I'll pivot, you know, Brian, I'm long overdue for a margin question, so I'll throw one your way, but I know you're not guiding, but if we can just talk about margin expansion next year, just puts and takes. And where I'm going with this is your 50 to 100 BIP goal. I don't think you ever backed off that goal, even in years when you significantly outperformed. And I just want to check in on how we should be thinking about this next year. In other words, in 2020, clearly margins are benefiting from some of the temporary salary reductions that you had in place, they're benefiting notably from a mixed shift perspective, right, as the equipment's been down and the recurring has just ripped. And so do you sort of stick to that 50 to 100-bit thought next year? Or as we get into 2021, do we have to sort of normalize for some of the variables that I just threw out at you when we think about the rate of expansion into next year? Thanks.
spk02: We're shooting for the same long-term goals, John. So it's, you know, that 50 to 100 is, you know, that's, we think, a very reasonable estimate. We think we can deliver that in this kind of a business. You know, clearly you adjust for certain things, like the litigation or cruel things that are one time in nature that we try to highlight, right? But, you know, we're not providing specific guidance, but we have the same long-term goals. And as you know, when we're executing well in our growth and we have, you know, high CAG diagnostic recurring growth. It puts us in a really good position to deliver against that goals and support investment in the business. So more to follow on that, but same, same goals for the business.
spk06: Got it.
spk02: Fair enough.
spk06: Thanks guys.
spk07: Our next question is from Nathan and Rich from Goldman Sachs.
spk09: Good morning. Uh, thanks for the questions. Um, Jay, maybe just start, um, You've highlighted a number of favorable trends impacting the growth in the Cag Diagnostics business. As we think about a little bit longer term about how that could translate into what you guys see into 2021 and beyond, looking at the growth you saw this quarter, I think there were some factors like pent-up demand and growth from new patients that you guys quantified that, you know, maybe subsides longer term, but it seems like the CAG diagnostics growth, even excluding, you know, three to 4% from, you know, those maybe shorter term dynamics would still have been in the mid to high teens. So I guess what I'm asking is, do you feel like based on the positive trends that you're seeing in the business, that that type of CAG diagnostics recurring growth would be sustainable longer term?
spk04: Yes, I'll give you just maybe some additional flavor on that. So just setting aside the pent-up demand piece, because I think from a wellness standpoint, I think a lot of that worked through in Q3. So the two or three maybe rather longer-term trends we're tracking from a sustainability standpoint is the new clinical patient visits, and we think that that is something that obviously if there's a lot of new puppies and kittens to the marketplace, that they're going to need care as they age. So that's certainly a positive. And we want more data and see how that develops over time. And then I spoke to use and intensity of diagnostics. And that's tied up in this whole pivot to service. Use in terms of more visits include diagnostics and intensity. When they use diagnostics, it's at a higher average dollar Some of that is in our control in terms of our commercial approach and innovations and being able to provide to veterinarians the tools that allow them to cover more. So that's certainly something that we've invested in even pre-COVID, and I think we're seeing the fruits of it, and it may be on top of an accelerated pivot to services that we see on the part of veterinarians. So certainly those are positives. for the business. I think we just need more time to see how they play out and at what level.
spk09: Okay, great. And then if I could follow up on John's questions on margin, maybe looking at the CAG segment specifically, gross margin was stronger than we had expected. I think the drivers that you called out with reference lab productivity, obviously favorable mix, and then the price gains, Do you feel like that's sustainable, you know, over the next several quarters? And on reference labs specifically, you kind of mentioned adding staffing. Does that create any sort of maybe drag relative to what we've seen over the past one or two quarters for the CAG segment?
spk02: You know, a big driver in Q3 was lab productivity when we had 20 plus percent, you know, kind of growth and controls on costs and we're not projecting sustained 24% kind of growth through levels. And in the lab business, we're encouraged by the trends. So, you know, that is, we think that we'll continue to be able to get lab productivity and we do need to add staffing. But when, you know, that's more of a moderator than it is something that's a headwind, if you will. So I think we're We do think we're in a good position to continue to get positive gross margin gains when you have high CAG recurring growth, and we're just highlighting that we're adding some investments back in the business and trying to position ourselves going forward. So it's more of something that will moderate the gains. And just to reinforce, our goals are annually 50 to 100 BIPs of improvement, and we want to deliver good performance, but also ensure that we continue to invest towards long-term market development. So that's what we're working on as we're heading into next year.
spk09: Thanks for the questions.
spk07: We have a question from David Westenberg from Guggenheim Securities.
spk05: Hi. Thanks for taking the question, and congrats on a great quarter. So when we're looking at the macro data, I think we're seeing a gap over the last two quarters between practice revenue and practice volumes. I tend to think about maybe diagnostics as being a benefit of volumes and maybe the reason for the increase in revenue on a per-visit basis or year-over-year basis. So am I thinking about that the right way, that you actually would be on volume and then you're actually just the cause of the practice increasing in revenue? And the reason why I kind of ask is if we look to next year, and we think about how to model the company and our expectations, should we be thinking about this major factor above volume, or should we be thinking about this as this lower factor above revenue in the practice growth?
spk04: Well, yeah, so let me try to address that on a couple different levels. The practice revenue growth has been obviously very strong. Over the over the year we saw we saw 10 and a half 11% you know most most recently so that's obviously our diagnostics growth has been. You know faster than than that and that and we've always believed that diagnostics enables and drives services within the within the practice. And you know your question as the you know longer term you know sustainability feeds into the discussion that we had previously around the pivot to services. veterinarians interested in obviously meeting demand for new clinical patient visits as well as being able to focus on what they do best, which is caring for patients. But I think there's a positive backdrop for all the reasons cited, and we'll see how that plays out.
spk02: Hey, David, let me give you some metrics that maybe can help with this a little bit, which is Over the last five years, so if you break down the revenue per practice, diagnostics revenue growth per practice growth that Jay referred in the call, it was about a 7.5% increase on average over the last five years. Roughly 3% of that was from visit growth. 0.5% contribution came from frequency, so that's the percentage of visits that include diagnostics. And about 4% of that, which we mentioned, was growth in diagnostics revenue per visit. So year-to-date, what we're seeing is 1% from clinical visit growth, a 3.5% contribution from frequency increases, and a 6% increase from revenue increases. And so we're learning about this, but to answer your question, it is both volume, which would be the frequency dynamic, and the revenue piece. And that is the central question, kind of like what's going on here? Is this sustainable? Do we see this expanding over time? Clearly, the clinical visit dynamics we're coming to understand, you know, in terms of it's healthy overall, and perhaps there's some benefit from new patients that can sustain, but I think this underlying trend of diagnostic frequency and utilization, which has been a long-term trend for us, expanding it, the question is, you know, are some of the things going on through the pandemic, some of the learnings, the changing in how service is being delivered, could that set the stage for some accelerated growth? So, early to predict it, we're encouraged by it, and It's certainly consistent with what we've been trying to do in the market. So it's something that we look to build upon.
spk05: I appreciate that. That will help with the model. Thank you.
spk02: I think we're out of time, unfortunately, so we're going to – Yeah, so I want to thank everybody for calling in.
spk04: I know we have some employees who are also on the call, and I just want to express my gratitude for their extraordinary performance during these obviously challenging times. We run the company – in a way that takes a long-term view of the opportunities ahead of us while still delivering the day. And I couldn't be more appreciative of the IDEX team and the purpose which animates our work. And so with that, we'll conclude the call. Thank you.
spk07: Thank you, ladies and gentlemen. That concludes today's call. Thank you for participating. You may now disconnect.
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