IDEXX Laboratories, Inc.

Good morning and welcome to the IDEXX Laboratories second quarter 2021 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 forward-looking 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, IDEXX.com. During this call, we will be discussing certain financial measures not prepared in accordance with generally accepted accounting principles or GAAP. A reconciliation of these non-GAAP financial measures to the most directly comparable GAAP measures is provided in our earnings release, which may also be found by visiting the investor relations section of our website. In reviewing our second quarter 2021 results, please note all references to growth, organic growth, and comparable growth refer to growth compared to the equivalent period in 2020 unless otherwise noted. During the question and answer session, if you have a question, please press star then one on your touchtone phone. To allow broad participation in the Q&A, we ask that each participant limit their question to one with one follow-up as necessary. We appreciate you may have additional questions, so please feel free to get back in the queue, and if time permits, we'll take your additional questions. I would now like to turn the call over to Brian McKeon.

Good morning, everyone. I'm pleased to take you through our second quarter results and to provide an update on our full year financial outlook for 2021. In terms of highlights, IDEX delivered another quarter of outstanding financial results supported by continued strong global momentum in our companion animal business. Revenue increased 30% as reported and 25% organically, supported by 26% organic growth in CAG diagnostic recurring revenues, reflecting continued high gains across U.S. and international regions. As we work through comparisons to prior year COVID impacts, we'll be highlighting select two-year average annual revenue growth metrics to calibrate our business trends. In the second quarter, average annual two-year organic growth for CAG-diagnostic recurring revenues was 16%, in line with the strong two-year growth trends in Q4 and Q1. Operating profit increased 30% on a comparable basis in the second quarter, reflecting benefits from high revenue growth and moderate operating margin gains. as we begin to lap the tight cost controls introduced during the initial stages of the pandemic in 2020. High operating profit gains enabled delivery of $2.34 in earnings per share, an increase of 33% on a comparable basis. Continued strong momentum in our CAG business has us on track to deliver high revenue and profit gains in 2021. We're raising our full-year revenue growth outlook ranged by $55 million at midpoint, to $3,170,000,000 to $3,205,000,000. This reflects an outlook for reported revenue growth of 17% to 18.5%, including favorable impacts from FX changes and benefits from our recent acquisitions. Our updated FOIA outlook is for 14.5% to 16% overall organic revenue growth and 16% to 17.5% growth in CAG diagnostic recurring revenues. These organic growth ranges are 1% to 1.5% higher than our last outlook, reflecting expectations for sustained strong performance in our CAG business globally. Our full-year financial outlook reflects a targeted 175 to 225 basis point improvement in operating margins on a comparable basis, of 25 basis points from our last outlook, as we advance increased investments in our CAG innovation and commercial capabilities. We're increasing our EPS outlook to $8.20 to $8.36 per share of 25 cents per share at midpoint, reflecting 25% to 27% full-year comparable EPS growth. We'll discuss our updated 2021 financial outlook later in my comments. Let's begin with a review of our second quarter results and recent sector trends. Second quarter organic revenue growth of 25% was driven by 27% CAG revenue gains and 27% growth in our water business, benefiting from the lapping of prior year pandemic impacts. As noted, CAG diagnostic recurring revenues increased 26% organically, reflecting 24% growth in the U.S. and 30% growth in international regions. On a two-year basis, average annual CAG diagnostic recurring revenue growth was 16% overall, reflecting 16% gains in the U.S. and 18% growth in international. Strong CAG results were also supported by 78% organic growth in CAG diagnostic instrument revenues compared to constrained prior year levels. Q2 growth in U.S. CAG diagnostic recurring revenues was aided by high year-on-year gains in U.S. clinical visits, benefiting in part from comparisons to lower visit levels in April and May of 2020. U.S. clinical visit growth was 13% overall in Q2, with strong gains across non-wellness and wellness visit categories. On an average two-year basis, same-store clinical visit growth increased at a 4.8% annual rate, down modestly from strong Q1 results. The IDEXX U.S. CAG Diagnostic Recurring Revenue Growth Premium to U.S. clinical visits was approximately 1,100 basis points in the second quarter, up moderately, and on track with our four-year outlook. Expanding pet healthcare services, including continued solid increases in the utilization of diagnostics, supported a 16% same-store increase in overall veterinary clinic revenues in Q2. Diagnostic revenue for practice increased 15% on a one-year basis and 12% on an average two-year basis in Q2. Looking ahead to the second half of 2021, as noted in our last call, we expect to see lower levels of one-year growth in U.S. clinical visits and CAG diagnostic revenue gains as we lap the significant step-up in demand we saw in the second half of 2020. These dynamics are factored into our revenue guidance, which projects sustained strong tier growth in CAG diagnostic recurring revenues and H2. IDAX innovation and commercial initiatives continue to build on positive healthcare demand trends, driving high Q2 organic revenue gains across our major testing modalities globally. IDAX global reference lab revenues increased 25% organically in Q2, reflecting 20% plus organic gains in the U.S., and approximately 30% growth in international regions. Our international reference lab gains continue to benefit from strong growth in Europe, supported by our new German core lab capability, our expanded commercial presence, and growth in IDEXX 360 program agreements. Global reference lab gains continue to be driven by high same-store volume growth with strong gains across testing categories. IDEXX VetLab consumable revenues increased 26% on an organic basis in the second quarter, also reflecting continued 20% plus growth in the U.S. and approximately 30% organic gains in international. Gains continue to be supported by increases in testing utilization across regions, high customer retention levels, and expansion of our global premium instrument install base. CAG instrument placements increased significantly in Q2 compared to constrained prior year levels, Total premium placements reached 3,756 units, up over 400 units from strong Q1 results, and double the placement levels seen last year. The quality of CAG instrument placements remains excellent, reflected in 308 catalyst placements at new and competitive accounts in North America, up 87% year-on-year, and 938 new and competitive placements in international regions, up 75%. We also benefited from 571 second catalyst placements driven by continued strong demand from high-volume customers. These new placements and high customer retention levels supported a 14% year-on-year growth in our global catalyst install base. We achieved 1,119 premium hematology placements, including hundreds of ProSite 1 installs, as we advanced our global rollout schedule. This supported 11% growth in our global premium hematology install base compared to Q2 of 2020. We also placed 662 set of views, including strong placement levels in international regions under IDEXX 360 agreements, which supported a year-on-year global increase in our premium urine sediment install base by 24%. We're looking forward to building on this momentum as we gain increased direct access at veterinary clinics globally and supports strong demand for diagnostic testing. Rapid assay revenues also expanded at a strong 28% organic growth rate in Q2, reflecting 20% plus gains in the U.S., supported by high demand for wellness testing, and accelerated 30% plus growth in international geographies. Of note, core vector-borne disease retention rates for U.S. rapid assay reached 97% in the quarter, aligned with sustained high IDEXX retention rates across our major modalities. High CAG diagnostic revenue growth remains primarily volume driven across our modalities with consistent overall net price gains of 2% to 3%. In other areas of our CAG business, our veterinary software and diagnostic imaging revenues increased 26% organically and 33% as reported, including initial benefits from our recent EasyVet acquisition. We saw high growth in diagnostic imaging system placements, driven by a favorable customer response to our entry-level ImageView DR30 platform with approximately 80% of placements at competitive accounts. We also continue to see 20% plus growth in recurring digital service revenues, including expansion of Webpack subscriptions aligned with our expanding cloud-based capability. In our veterinary software services business, we posted double-digit organic revenue gains driven by growth in Cornerstone and EO placements and strong growth in recurring services. As Jay will discuss, we expanded our cloud-based software capability through our recently announced acquisition of EasyVet, which closed in June. We estimate EasyVet will contribute approximately $15 million to four-year 2021 revenues, which is factored into our updated outlook. Turning to our other business segments, water business revenues increased 27% organically in Q2, compared to 16% declines in last year's second quarter, driven by early pandemic-related impacts. We continue to see a solid recovery in demand for water testing as economies reopen, including recovery in non-compliance related testing volumes that have been more constrained during the pandemic. Livestock poultry and dairy revenue decreased 2% organically in Q2. Growth results were constrained by the lapping of high priority demand in key areas such as African swine fever testing. Revenue growth was also impacted by relatively lower herd health screening levels, reflecting reduced exports including effects from restrictions on live animal imports into China. We're planning on reduced LPD revenues year-on-year in the second half of 2021 as we continue to lap the benefits from high prior demand for our ASF programs and manage through expected pressure on our China LPD business from rebuilding swine birds, low pork prices, and changing government requirements related to livestock infectious disease programs. Turning to the Turning to the P&L, we had another quarter of strong profit gains in Q2, driven primarily by benefits from high year-on-year CAG diagnostic recurring revenue gains. We're now starting to work through comparisons to control cost levels in the prior year that were implemented as part of our pandemic contingency management efforts. Despite these dynamics, our strong revenue growth supported a solid 110 basis point expansion of our operating margins on a comparable basis, helping to drive an increase in operating profits of 34% as reported than 30% on a comparable basis. Gross profit increased 29% in Q2, driven by high revenue gains. Gross margins decreased modestly on a comparable basis, reflecting mixed impacts from higher instrument revenue and moderated lab gross margin gains as we lap tightly controlled prior year cost levels in key areas such as lab operations. Gross margin gains continue to benefit from strong CAG diagnostic recurring revenue growth, including positive impacts from moderate price gains. We're planning for constrained gross margin gains over the balance of this year as we continue to lap tightly controlled prior year spending levels and see impacts from increases in reference lab staffing and capacity aligned with supporting high revenue growth. Operating expenses in Q2 increased 24% as reported and 20% on a comparable basis. In Q2 of 2020, we advanced approximately 25 million of cost reductions related to plan levels, including temporary reductions in salary and benefits, and also saw significant cost reductions in other areas such as employee healthcare costs or goals. The higher operating expense cost growth in Q2 reflects lapping these dynamics as well as the advancement of investments in our global commercial and innovation capability aligned with our accelerated revenue growth profile. We anticipate operating expense growth will be higher than revenue growth in the second half of 2021 as these investments and the integration of the EasyVet acquisition advance. We also expect to see relative increases in costs such as employee health care claims and travel as pandemic-related restrictions are eased. Q2 EPS was $2.34 per share, including benefits of $6 million or $0.07 per share related to share-based compensation activity. On a comparable basis, Q2 EPS increased 33%. Foreign exchange added $8 million to operating profits and $0.07 to EPS in Q2, net of $3 million in hedge losses. Free cash flow was $211 million in the quarter and $316 million for the first half of 2021. On a trailing 12-month basis, our net income to free cash flow conversion rate was 95%, including benefits from delayed capital spending and extension of tax payments last year. We're increasing our outlook for four-year 2021 capital spending to $150 million to $160 million to reflect additional investments to support manufacturing and distribution growth capacity, including approximately $20 million in real estate purchases. With this higher level of projected spending, we're updating our free cash flow conversion outlook for the full year to approximately 80% of net income. Our balance sheet remains in a very strong position. We ended the quarter with debt to EBITDA leverage ratios of 0.9 times gross and 0.7 times net of cash with $232 million in cash and no borrowings on our $1 billion revolving credit facility. We allocated $188 million in capital to repurchase 341,000 shares in the quarter. Turning to our 2021 four-year outlook, we're increasing our projected revenue range for overall revenue to $3,170,000,000 to $3,205,000,000. At midpoint, this reflects approximately $30,000,000 in organic operational improvement, approximately $10,000,000 benefit from updated FX assumptions, and approximately $15,000,000 in increased full-year revenue benefit from acquisitions. Our updated revenue outlook is 17 to 18.5% as reported, including approximately 2% of full-year growth benefit from FX and approximately 0.5% benefit from acquisitions. Our updated overall organic revenue growth outlook of 14.5% to 16% reflects an estimated organic growth range of 16% to 17.5% for CAG diagnostic recurring revenue. The high end of our CAG diagnostic recurring revenue growth outlook range reflects two-year average annual growth rates in line with strong H-1 performance levels. As noted, on a one-year growth basis, we expect to see moderation in H-2 from very high year-on-year growth rates seen in the first half of this year as we work through the acceleration in comparison to the acceleration growth that we saw in the second half of 2020, including fulfillment of pent-up demand in last year's third quarter. Other elements of our revenue growth outlook include expectations for lower year-on-year LPD revenues in the second half and for a reduction in human COVID testing revenues year-on-year as we lap the benefits of our prior year initiatives and plan for lower human PCR testing levels. In terms of key financial metrics, we're increasing our reported operating margin outlook for 2021 to 28.6% to 29.1%. reflecting increased expectations for 175 to 225 basis points of full-year comparable operating margin improvement. Our EPS outlook incorporates updated projections for foreign exchange, which we now estimate will provide 17 cents of positive full-year EPS benefit net of established hedge positions. Our full-year outlook also includes an updated estimate of 25 cents per share of tax benefit related to share-based compensation activity six cents per share higher than our prior projections. We provided details on our updated estimates of the tables in our press release and earnings snapshot. That concludes our financial review. I'll now turn the call over to Jay for his comments.

Thanks, Brian, and good morning. Today we're pleased to report another quarter of strong results, supported by continued favorable trends in our core CAG business and excellent execution by the IDEXX team. As noted, we delivered 25% organic revenue growth in the second quarter, supported by high organic CAG diagnostics return revenue growth. There were strong gains across all CAG business segments and testing modalities, representing a continuation of the accelerated growth trends we've seen since the second half of 2020. Strong sector growth and outstanding execution by the IDEX team gives us confidence to raise our 2021 financial outlook. as we continue to invest towards their significant long-term growth opportunity. Today, I'll provide a brief update on the trends we're seeing in key regions in our companion animal sector and discuss the status of our initiatives to strengthen our international commercial capabilities. I'll also share an update on our ProSite One launch and growing software portfolio, including the EasyVet acquisition, which will better position us to capitalize on favorable tailwinds, further enhance practice productivity, and raise the standard of patient care. Let me start with an update on sector trends. Global sector trends remain favorable in the second quarter, reflected, for example, in sustained high U.S. clinical visit levels that support continued strong increases in veterinary service revenues, including diagnostics. As Brian noted, U.S. clinical visits increased 13 percent in the quarter and 4.8 percent on a two-year average annual basis, with continued strong gains across wellness and non-wellness categories. This growth was supported by a growing pet population and veterinarians' focus on medical services, which has sustained even as pandemic restrictions have eased. These solid trends were seen across all global regions in Q2. Our strong commercial execution is building on this momentum, reflected in IDEC's CAG Diagnostics organic recurring revenue growth of 26% on a one-year basis and 16% on a two-year average annual basis. Within the clinic, veterinarians and their teams continue to rise to the challenge of increased demand, working hard to keep up with industry growth while also delivering excellent patient care to ever more engaged pet parents. IDEX is well positioned to provide them the tools and services necessary to meet these demands, supporting 15% diagnostics revenue growth per practice and even faster growth for IDEX revenues. Overall, we feel very positive about the strong sector background. our strategy to bring testing and information management innovations to the practice, and our team's level of execution, which is reflected in our raised full-year revenue outlook. In terms of execution, our commercial team continues to deliver exceptional results despite continued constrained clinic access. Instrument placement showed increased momentum in the second quarter with over 3,750 total premium placements, up solidly from a strong Q1. helping to drive 14% growth in our premium worldwide installed base for the quarter. This included double-digit growth in premium chemistry, hematology, and urinalysis installed bases, as well as continued excellent growth in new and competitive accounts. Veterinary customers are extremely busy due to high visit volumes, and they're investing in IDEX instruments, diagnostics, and tools to support practice growth, patient care, and staff productivity. Our digital cytology solution is an excellent example of this point, an innovative service that extends the capability and reach of the practice. By providing cytology testing results in the U.S. with a report authored by expert pathologists in under two hours at any time during the day or week, 365 days a year, veterinarians are able to provide a higher standard of care to their patients, improve staff and clinical productivity, and drive appropriate testing and practice revenues. Validating this medical value proposition, We saw strong customer interest and orders for a digital psychology solution in Q2. We also continue to advance key programs like IDEXX Preventive Care that help clinics raise the standard of care aligned with higher levels of pet owner engagement. In Q2, we executed 150 new preventive care enrollments as we continue to advance towards our goal of 10,000 engaged customers in the US by 2024. In terms of customer access, we continue to operate in a hybrid model, with access still limited but improving in both the U.S. and international regions. In the U.S., approximately 60% of customer visits were in person in Q2, whereas it was approximately 50% in Europe. This hasn't impacted our ability to deliver outstanding results, as both new innovations and our excellent relationships we have with customers have driven significant growth across all regions. The deep customer relationships with our sales professionals have only been reinforced and strengthened by the best-in-class support we provided to customers throughout the pandemic. Of note, we're particularly pleased with our high levels of execution in regions like Europe, where we are expanding the successful go-to-market approaches we've applied in the U.S. This was reflected in 400 Catalyst placements in new and competitive accounts outside of North America, with half of these placements under IDEXX 360 agreements. The expansion to the IDEXX 360 program is also supporting sustained strong gains in lab revenues in Europe, accelerating new account acquisition, and helping to inspire faster customer growth at IDEXX 360 customers. A key focus of our strategy in this context is on developing the long-term international revenue opportunity through an expansion of our direct commercial presence. We've completed the commercial expansions first announced in Q3 of last year. which were focused on three countries, Germany, France, and South Korea. By almost doubling our commercial footprint in these countries, we have appreciably increased the frequency and intensity of our calling activities with existing customers and competitive accounts. Our experience is that when we do this, our customers grow faster as they adopt our innovations, and so do we. Three additional countries have been targeted as the next stage for expansion over the remainder of 2021 and into 2022. We're excited to share with you our broader commercial approach at the upcoming Investor Day. Our expanding global commercial capability will support the adoption of key innovations like ProSciOne. Following our first U.S. shipment in late March, ProSciOne's international launch began in June with installations and pre-sale customers in France, Germany, U.K., and in Southern Europe. Many of our international geographies are hematology-focused, meaning customers prioritize CBC for patient health assessment. Not surprisingly, we've seen an extremely positive reaction to the Procite-1 introduction in international regions. Customers applaud its simplicity and small footprint, while still delivering the excellent accuracy, usability, and reliability profile veterinarians and their staff prize so highly. Additionally, we expect a multiplier impact from Procite-1, as chemistry and hematology testing go hand in hand. with the additional potential to inspire reference lab and rapid assay business when placed as part of the IDEXX 360 program. Speaking of rapid assay, we're very pleased with the strong momentum we continue to drive in this business globally. We achieved 20% plus organic growth in the U.S. in Q2, while raising customer retention levels to 97% supported by innovations like SnapPro. We now have over 80% of Snap 40X customer volume engaged on this platform. which enhances insight and supports practice workflow. SNAP Pro is also helping to achieve accelerated growth in international regions. In Europe, after installing a clinic's first SNAP Pro, we see a significant expansion in testing volumes. We look forward to building on the strong momentum supported by continued IDEXX innovation. We're also excited with the progress we're advancing in our cloud-based software capability. We had another excellent quarter of new software installations with Cornerstone and Neo placements growing 21%, while cloud-based offerings continue to represent the majority of PIMS placements. As we continue to expand our installed base, we also continue to drive expansion of profitable recurring services, such as credit card processing, which grew at strong double-digit rates organically. Software solutions have taken on significant importance to the effective management of the veterinary practice. Practices have never been busier, In IDEXX integrated, easy to use software solutions support patient care and workflow, staff productivity, and communications amongst the care team and with the client. Moreover, IDEXX diagnostic solutions are seamlessly integrated into both our and third-party solutions, enabling practices to capture and invoice for the full range of activities that vendors deliver. We know that IDEXX customers who use all of our solutions have a higher customer experience and tend to test more and grow faster. Related to the growing importance of practice software solutions, cloud-based technologies have the potential to make important contributions to the overall software experience of the veterinary clinic. For example, practice owners are freed from the challenges of supporting on-premise IT solutions that include frequent hardware updates. Moreover, providers of cloud-based solutions like IDEX can provide frequent, seamless updates in an environment that offers security advantages. Our software capabilities were augmented in Q2 with the acquisition of EasyVet, a fast-growing, innovative practice information management system that is native cloud-based, used by advanced general practices as well as specialty, emergency, and large corporate groups worldwide. This acquisition complements our PIMS portfolio by providing additional options to practices with more complex needs and enterprise functionality. Customers appreciate EasyVet software for its easy use and rich features. In fact, EasyVet is the number one rated full feature practice management solution with 94% customer satisfaction, according to Capterra, an industry standard business software customer review site. Bringing EasyVet into the IDEX family also grows our cloud development talent, enabling us to capitalize on the evolving nature of the veterinary clinic software product. With that, I'd like to welcome the EasyVet team to IDEX. We look forward to working together with you to continue to develop best-in-class software products. We're also excited about the progress we're driving in our diagnostic imaging business. We saw very strong growth in digital imaging placements in Q2 and strong growth in our backlog, reflecting a continued appreciation of our focus on providing a full range of premier low-dose imaging solutions. Growth in these placements also supports the expansion of recurring services, including cloud-based services like Webpacks. Our Webpack subscriptions grew at high Teams rates, with much faster growth in premium and unlimited subscription tiers, reflecting the high value and diagnostic insight clinicians derive from IDEX software solutions. Overall, we're very pleased with our business momentum and optimistic as we continue to respond to the reopening of economies globally. In terms of IDEX's specific plans, We're excited to advance plans to bring more IDEXers back to the office safely and in ways that ensure business continuity. We anticipate maintaining a more hybrid working environment and appreciate our employees' flexibility in adapting to new ways of working while continuing to deliver high growth, provide top-notch customer service, and support our world-class product portfolio. Before I wrap up my remarks, I'd like to publicly welcome a new leader to IDEX, as Dr. Martin Smith will be joining my leadership team in August as Executive Vice President and Chief Technology Officer. Martin brings 30-plus years of experience in life sciences industry, most recently as Chief Technology Officer at Sativa and Paul Corporation, both subsidiaries of Danaher. He has a strong track record of driving R&D strategy in concert with enterprise strategic initiatives, commercial efforts. and we look forward to Martin leading our world-class R&D organization. Welcome, Martin. With that, I'd like to add that I'm extremely proud of the way the entire IDEX team is executing, as we are on track for another strong year in 2021, with financial performance aligned with our long-term goals. Our growth and performance reflect a consistent business strategy focused on opportunity development within our core businesses, and our employees continue to execute against this strategy daily. I look forward to sharing more on our strategy and long-term potential at our upcoming investor day on Thursday, August 12th. The event remains virtual due to the evolving nature of COVID-19, and we invite you to register on the investor relations section of our website. Participating will be members of my senior management team, including Brian McKean, Executive Vice President and CFO, Dr. Tina Hunt, Executive Vice President and General Manager for Point of Care Diagnostics and Worldwide Operations, Mike Lane, Executive Vice President and GM for Reference Laboratories and Information Management. Jim Palowacek, Executive Vice President and Chief Commercial Officer. Kerry Bennett, Senior Vice President of Corporate Strategy and Advanced Analytics. And Michael Schreck, Senior Vice President of Veterinary Software and Services. The event will last approximately three hours and will conclude with a Q&A session. That concludes my opening remarks. We now have time for questions.