Seeking Alpha
We cover over 5K calls/quarter
Profile| Send Message|
( followers)  

Sirona Dental Systems, Inc. (NASDAQ:SIRO)

F3Q2011 Earnings Call

August 5, 2011 8:30 am ET

Executives

John Sweeney – VP, IR

Jost Fischer – Chairman, President and CEO

Simone Blank – EVP and CFO

Analysts

Glen Santangelo – Credit Suisse

Robert Jones – Goldman Sachs

Brandon Couillard – Jefferies & Company

Elliot Feldman – Barclays Capital

John Kreger – William Blair

Ethan Roth – WJB Capital

Jonathan Block – SunTrust

Scott Green – Bank of America/Merrill Lynch

Jeff Johnson – Robert Baird

Tycho Peterson – JPMorgan

Operator

Good day ladies and gentlemen and welcome to the third quarter 2011 Sirona Dental earnings conference call. At this time, all participants are in a listen-only mode. We will be conducting a question-and-answer session after the prepared remarks. (Operator Instructions)

And as a reminder this conference call is being recorded for replay purposes.

I would now like to hand the call off to Mr. John Sweeney, Vice President of Investor Relations for Sirona. You may proceed sir.

John Sweeney

Thank you. Good morning, everyone. Welcome to our third quarter fiscal 2011 conference call. I’d like to remind you that an earnings slide deck presentation relating to the call is available on our website at www.sirona.com.

Before we begin, please take a moment to read the forward-looking statements on slide 2 of our earnings slide presentation. During today’s call we will make certain predictive statements that reflect our current views about our future performance and financial results. Those statements and certain assumptions and expectations of future events are subject to risks and uncertainties our most recent Form 10-K gives some of our most important risk factors that could cause actual results to differ from our predictions.

And with that, I will now turn the call, the program over to Jost Fischer, Chairman and CEO of Sirona Dental Systems.

Jost Fischer

Thanks John. It is my pleasure to welcome all of you to our third quarter 2011 conference call. Joining me today are Jeffery Slovin, President and Simone Blank, Executive Vice President and CFO. I’m very pleased to report another quarter of strong revenue and profit growth for the company. We had record revenues in the quarter benefiting from our innovative product line, robust order levels at the International Dental Show and Sirona’s ongoing initiatives to build out its global sales and service infrastructure.

Revenues increased 34% to $245 million, driven by Sirona’s best-in-class products and our full pipeline of innovative new offerings. Robust order levels out of the International Dental Show in Cologne in March of this year. As previously communicated, this was the best IDS show ever and we are delighted with the response. And last the expansion of our sales and service infrastructure around the world affording us the ability to address the many exciting global opportunities, which exist.

We have been effective in building out our global footprint in various markets but our work is not yet done. Given the underlying momentum in our business we have accelerated investments in markets where we see opportunity for faster penetration and continued market share gains. These investments are paying dividend.

Looking at our business by segment, the Imaging segment saw the highest growth up 37.6% or 29.6% constant currency with particularly strong demand for our ORTHOPHOS 2D and 3D panoramic unit. Treatment Centers also increased 37.6% up 22.1% constant currency benefiting from strong order intake at the IDS and robust order levels in non-European international markets.

CAD CAM increased 31.5% up 23.8% constant currency, with strong growth in Germany and other international markets. U.S. CAD CAM revenues benefited from shipments made in anticipation of the (Inaudible) upgrade program. Instrument increased 26% up 12.3% constant currency.

Gross profit increased 34.7% to $126.8 million. We are having a very successful year in Germany bolstered by an excellent performance at the IDS and our trade up program for CAD CAM earlier in the year. Additionally, sales in this market are benefiting from a positive economic environment so taking it all together we are performing at a very high level in Germany.

Moving on, our solid performance is a direct result of our unrelented [ph] commitment to research and development which has enabled Sirona to create products that have changed the face of dental treatment. Our investments both in innovation and expanding our international sales and service infrastructure are money well spend and explain why we have been growing as an above market rate and continue to take market share. We are pleased that our strong momentum had continued into the fourth quarter and we are increasing our guidance for fiscal 2011 today.

Now, I will turn the call over to Simone who will review our third quarter financials and update you on our guidance.

Simone Blank

Thank you, Jost. In the third quarter, our revenues increased $62.3 million to a record level of $244.7 million, up 34.1% or 24% on a constant currency basis. This robust revenue growth was driven by continued strong performance in international markets, which increased 45.6% of 29.5% constant currency with particularly strong growth in Germany, Asia Pacific and the Middle East.

In the United States, revenues increased 11.8%. Operating income plus amortization increased 33.5% to $60.4 million, driven by our strong sales performance. Moving on to a review of our business segments, revenues in our CAD CAM segment increased 31.5% to $83.2 million, up 23.8% on a constant currency basis. CAD CAM revenues benefited from robust growth in international markets and in particular a very solid result in Germany with a large number of orders coming from the IDS.

In the U.S., our third quarter results were bolstered by shipments of the CEREC AC unit made in anticipation of this year’s trading program. In other international markets the CAD CAM segment continues to benefit from the investments we made in expanding our sales and service infrastructure around the world. CAD CAM segment margins were 67.4%, down from 71% in the prior year with the margin compression due to the fluctuations in the dollar euro exchange rates and a high level of orders for our CEREC AC connect promotion at the IDS in March of this year.

Imaging segment revenues increased 37.6% to $85 million, up 29.6% on a constant currency basis. We continue to see particularly strong interest in our ORTHOPHOS product line with a high level of sales of our XD 2D products and continuing robust demand for our XD 2D, 3D units. In the third quarter, we had more orders for panoramic systems than we could manufacture. We are pleased to see the momentum continuing into the fourth quarter. Imaging segment gross profit margin was 58.3%, down 210 basis points compared to the prior year period. This margin compression was driven by dollar euro exchange rate fluctuations and product mix.

Treatment Center segment revenues were $48.2 million, up 37.6% or up 22.1% constant currency. Treatment Centers benefited from strong sales in Germany post IDS and strong demand for our economy product line in non-European international markets. Treatment Center margins declined 200 basis points to 39% the result of a high level of sales of our economy product.

Instrument revenues of $28 million were up 26% compared to prior year and up 12.3% on a constant currency basis. Sales were particularly strong in Europe. Instrument segment gross profit margin was 47.3%, up 330 basis points compared to prior year due to the higher volume and positive product mix.

Moving on to a review of the P&L, cost of sales was $117.9 million for the quarter, an increase of $29.6 million or up 33.6%. Gross profit margin was 51.8%, up from 51.6% in the prior year. Cost of sales included deal related amortization and depreciation expense of $12.9 million versus $13.4 million in the third quarter of 2010.

SG&A expense was $68.5 million up $13.5 million. The increase in SG&A was due to the following factors. The weaker U.S. dollar compared to the euro accounted for about half of the increase, expenses necessary to support our strong sales growth in the quarter and continued investment in building out our sales and service infrastructure, to capitalize on opportunities to gain share, to build up our capabilities in (Inaudible) markets and to take full advantage of opportunities resulting from our product launches at the IDS.

R&D was $14.4 million up $2.7 million compared to prior year. On higher investments with the increase driven by foreign exchange and the timing of new product launches. Between March 30 and the end of June we experienced a slight strengthening of the euro related to the dollar from 142 to 145.

Foreign currency gain amounts to $3.4 million in the third quarter. When you took out the $1.2 million non-cash gain on the revaluation of the Patterson exclusivity payment and the $1.6 million gain the revaluation of short-term intra group loan, we are left with a gain due to the currency revaluation of short-term assets of $0.6 million. Offsetting that gain was the $1.1 million loss on currency derivatives also due to the strengthening of the euro versus the dollar.

Net interest expense was $1 million compared to $0.9 million last year. The income tax position for the third quarter of fiscal 2011 was $10.4 million and the estimated effective tax rate for 2011 is 22%. Net income was $36.3 million an increase of $19.8 million compared to the prior year. The third quarter 2011 diluted debt EPS was $0.63 compared to $0.29 in the prior year.

On a non-GAAP basis that is excluding deal related amortization and depreciation, the currency revaluation of the Patterson exclusivity fee and short-term intra group loan and the release of accrued restructuring expenses in the prior year non-GAAP earnings per share was $0.78 compared to $0.66 in the prior year.

In the first nine months of the year, we had operating cash flow of $105.4 million, down from $136 million in the prior year. Operating cash flow was impacted by increased investment in working capital the result of our strong revenue growth and the expansion of our sales and service infrastructure around the world. This expanding requires an incremental investment in working capital investments such as display units and units for training process.

Additionally, we have made the decision to increase security stock levels for selective raw materials. A precautionary matter we took in case the situation in Japan had a larger impact on the global supply chain. Having said that, I note that our DSOs and DSIs at June 30, 2011 were well within and even towards the lower end of their respective historical range.

Capital expenditure was $37.1 million in the first nine months of the year up from $16.7 million in the prior year. The primary contributor to this increase was the construction of the Center of Innovation in Bensheim.

Investing cash flows included a $20.8 million cash outflow for the purchase of a development stage technology company. This acquisition did not contribute any revenues in the quarter but this result in $0.5 million of additional SG&A and $0.7 million of incremental R&D expenses in the third quarter of 2011.

At June 30 2011 the company had the Company had cash and cash equivalents of $331.2 million and total debt of $389.3 million resulting in net debt of $58.1 million. This compares to net debt of $119 million at September 30, 2010.

Now moving on to guidance, we are very pleased with our business performed in the first nine months of the year. Given our strong business momentum and robust order levels we are increasing our guidance for fiscal 2011. On the full year basis we now anticipate constant currency revenue growth in the range of 15% to 17% up from our previous guidance of 13% to 16%. For fiscal 2011, we expect segment gross profit margins to be on par with fiscal 2010. The total gross profit margin is expected to be higher than prior year due to the step down in amortization expense in fiscal 2011.

SG&A as a percentage of sales is expected to be lower than fiscal 2010. R&D is anticipated to be towards the lower end of our long-term expected range of 67% of sales but still at record levels on an absolute basis. We estimate our effective tax rate for fiscal 2011 to be 22%. Based on all of these sectors we now forecast operating income excluding amortization estimated as $55 million and the one-time charge of $6.6 million to be in the range of $218 million to $223 million compared to previous guidance of $214 million to $221 million.

The $6.6 million non-cash expense represents a cash payment by certain shareholders of Luxco to Jost Fischer and myself in connection with our Luxco participation. This payment will be funded entirely by certain shareholders of Luxco and no company cash will be utilized.

Pursuant to GAAP, Sirona is required to record this payment as a non-cash charge to operating expenses. Well the total of strong constant currency revenue growth, operating income growth plus our deleveraging and lower interest cost all adds up to a very attractive EPS gross profile. As always I suggest our investors evaluate our business on an annual basis as our quarterly progression can vary significantly.

I will now turn the call back to you Jost.

Jost Fischer

Thank you, Simone. Before we get questions I would like to underscore the importance of innovation for Sirona and how those innovations not only drive currency growth but how they have positioned us to compete effectively in the future. Slide 16 highlights some but not all of the new products that we launched at the IDS in March of this year. First off is our ORTHOPHOS XG trading. Our third quarter results benefited from robust sales of this product. In addition, this product introduction is stimulating sales of our 2D panoramic offerings .

Dentists, looking for the 2D panoramic unit is a value proposition of our upgradable 2D system offers. And more and more dentists are choosing to purchase our products. Dentists looking for both 2D and 3D panoramic imaging capability view our products as best in class. The system gives the practitioner a large 8x8 centimeter field of view a scan big now to capture the entire jaw. Of course dentists still have traditional 2D panoramic imaging capability with our system. The XG 3D taken together with our GALILEOS product solidifies our position as the worldwide leader in 3D dental imaging.

Next is CEREC 4.0, a significant step forward for our CAD CAM segment and a key driver for our upgrade programs. CEREC software is entirely redesigned and the new software to CEREC users new capabilities and speeds up the process. In addition, CEREC 4.0 enables dentists to design and manufacture multiple restoration simultaneously as many as 32 restorations at any one time. CEREC 4.0 also give Sirona a modular approach to design new feature. This lays the ground work for many new types of applications including In-office Surgical Guides, virtual articulation and also daunting [ph] software.

Most of the products that you see on this slide will impact our business from next fiscal year onwards. TENEO our new virtual high-end treatment centre will start shipping at the end of the fourth quarter. GALILEOS Face Scan offering MC XL, Model Milling In-office Surgical Guides, Up Key Guides and our new Krypton Metal Blocks all of these exciting innovations will impact our sales in fiscal 2012 and beyond.

In addition, many of our existing key products are still in the early stages of the market penetration. Moving on we continue to benefit from the expansion of our global sales and service infrastructure. This involves investing in various countries around the world and putting in place the infrastructure necessary to support and enhance the efforts of our distributors.

Because of these investments Sirona has benefited from repeatedly strong performance in many international markets. As an example, look at what we have achieved in Japan and Australia in the past few years. We have successfully built out our sales and service infrastructure in Japan. Just six years ago, we had only three employees in this market. Since then we have build up our team to 175 employees and we have grown the business substantially. Despite the recent tragedy in this country Sirona is performing well and we are pleased to report a record performance in the third quarter of fiscal 2011.

Another region where we have benefited from our expanded sales and service infrastructure is Australia and New Zealand. We started building a business here in 2004 and are now the clear leader in dental technologies in the market. Australia and New Zealand have grown strongly since its establishment and we are well positioned to experience continued growth.

Today Sirona is fully a global company doing business in over 135 countries and with offices all over the world. Our performance highlights that investments we made over the past few years in building out our international sales and service infrastructures are paying dividends. As we move through the fourth quarter of the year we will continue to execute on our successful strategy supported by our global sales and service infrastructure, best-in-class distribution partners, solid financial backbone and our employees who we believe are unparallel in the industry.

With that Simone, Jeffery and I will now address your questions. Operator, please proceed.

Question-and-Answer Session

Operator

(Operator Instruction). And our first question comes from the line of Glen Santangelo from Credit Suisse. You may proceed.

Glen Santangelo – Credit Suisse

Yeah thanks a lot guys. Jost, I just wanted to follow up with some comments you kind of made earlier in your presentation you sort of suggested that sales are continuing to benefit from a positive economic environment obviously I think some of the data out there has been a little bit more mixed obviously and so I was just kind of curious could you give us a little bit of a break down may be in the U.S. versus may be the rest of the world kind of what you are seeing so far in the fourth quarter. Are you seeing it spread across all the different geographies or some, some geographies doing better than others?

Jost Fischer

Good morning, Glen. Thank you for your question. Talking about the economy in general obviously look at newspapers economic indicators there are concerns for the economy both in the U.S. and in some European countries. However, look at our results we just reported a great quarter more orders than we could fulfill revenues up 34%.

Obviously, there is more to our story than just the economy. We believe innovation can beat the cycle as we evident in 2009. Also we continue to benefit from our, from expanding our global sales and service infrastructures out there internationally and we are taking market share. When you go into the more detailed situation Germany was Uber [ph] start it was very, very strong on the hue of our idea. So don’t expect us to continue this level of growth rate in Germany as we’ve seen. But still the economy there is very robust.

In the U.S. we continue to see signs of stabilization for us things are getting a little better and the reports from our distributors do support that. We were up 8% in the U.S. last year, year-to-date about 5.1%. So overall I think the U.S. in a good position for us and will be a good market going forward despite economic concerns.

Glen Santangelo – Credit Suisse

I appreciate those comments. I guess that’s what I was kind of driving at I sure want to figure out if you are really suggesting that you are continuing to see signs of stabilization in the market or if it’s really more that, just Sirona is taking market share away from the competitors but it potentially sounds like a combination of the two is that a fair summary of what you said.

Jost Fischer

Absolutely, absolutely.

Glen Santangelo – Credit Suisse

Okay and then maybe if I could just ask Simone a follow-up. As I look at the balance sheet the company is obviously generating a lot of cash and the leverage is approaching zero pretty quickly here as you probably be, have zero debt, net debt I should say in the next quarter or two. What sort of the outlook for the cash flow as you think about it, I know you don’t want to comment too specifically on fiscal ’12. But longer term just could you give us a sense for how you are thinking about potential capital deployment as I look out over the next year or two given the condition of the balance sheet today.

Simone Blank

Sure, I mean in general as we all know Sirona is a good free cash flow generating business and has been in the past and as you just said we’ve de-levered our balance sheet materially down to 0.2 times debt-to-EBITA. Our primary focus continues to be to invest in our business we just did a technology company acquisition and short-term we are focused on the November refinancing and we will continue to evaluate other options but this is our short-term goal.

Glen Santangelo – Credit Suisse

Okay and do you have any, have any preliminary thoughts about share repurchase versus dividends and kind of what your thoughts are along those two lines?

Simone Blank

No we are evaluating as I said short-term we are focused on the November refinancing and looking to continue to invest in our business.

Glen Santangelo – Credit Suisse

Okay thank you.

Simone Blank

Okay.

Jost Fischer

Thank you, Glen.

Operator

Our next question comes from the line of Robert Jones with Goldman Sachs. Sir you may proceed.

Robert Jones – Goldman Sachs

Great thanks, thanks for the question. It’s obviously some great momentum here so far this year and understanding that you will give more formal guidance next quarter for fiscal ‘12. But I was wondering if you could just kind of share some preliminary thoughts around the momentum you are seeing as we move from ’11 into 2012.

Jost Fischer

Yeah Bob, good morning. Starting with a very good year that we are having and anticipate to have in the fourth quarter as we just raised our guidance, I want to point at our very successful IDS that we just had and most of those products that we have launched here that I was going after in my prepared remarks will only start impacting our top line next year and beyond that’s a little bit of an idea what to expect. And an additional comment out here our pipeline is as full as it’s ever been. So we believe we are well positioned to continue to compete and grow into 2012. Innovation is the hallmark of Sirona, and innovation can beat the cycle, innovation has proven to be a good growth driver for Sirona as going forward and as I said, I think we are well set up and positioned for next year.

Robert Jones – Goldman Sachs

So, I mean, I’ll push the limit to a little bit, are we still thinking of double digit top line growth in fiscal ‘12 coming off of a really strong fiscal ‘11?

Jost Fischer

Simone will educate you about our guidance in our November earnings call for 2012.

Robert Jones – Goldman Sachs

Fair enough, I thought I would try. Simone, just one quick one actually on the 4Q implied guidance, looks like quite a right wide range given on revenue and EBIT given here it was just one quarter left. I was wondering if maybe you could just share some of the drivers that can push us to the upper end or lower end of those ranges? Thanks.

Simone Blank

We are very happy with how our business is performing and as you said we just increased our guidance. So we are looking at a constant currency growth rate for revenue between 6% and 14% and on the operating income and amortization between 8% and 21% if we do the math. I mean, as always this is impacted by progression in various markets, we have our sales and service impacts but it’s impacted by many factors, so it’s can go either way but the momentum continues, we are very pleased with the performance and we are looking forward to update you in our next earnings call.

Robert Jones – Goldman Sachs

Great, thanks for taking the questions.

Jost Fischer

Alright, thank you Bob.

Operator

Our next question comes from the line of Brandon Couillard from Jefferies & Company. Sir, you may proceed.

Brandon Couillard – Jefferies & Company

Hi, good morning and thanks for taking the question. Jost, can you elaborate on the technology acquisition you did in the period, seems like a fairly hefty amount for technology capability. In which product category will this benefit? And as a corollary should we anticipate any additional bolt-on type of acquisition activities in the coming period?

Jost Fischer

Brandon, good morning. Yes, we are pretty happy with what we would be able to do; this is a development stage company in the technology area. We will not have revenues here for some time, as we continue to elaborate here. It’s a good technology that will fit very well within the Sirona family. Some facts here, it did increase our SG&A by $0.5 million in the quarter and our R&D by $0.7 million in the quarter, so that’s the situation here.

Brandon Couillard – Jefferies & Company

Thanks and could you comment on the new CEREC user demand trends in the U.S. in the period? And can you remind us when exactly the 4.0 software upgrade kicks in, in the U.S. and then just overall with CAD CAM positive in the U.S. in the period?

Jost Fischer

Absolutely, so our 4.0 software will kick in here at the end of the quarter, we will install that in our customer base in the August, September, October timeframe here. When this is certainly also a driver for our new customer sales because it’s going to be easier to use, faster to execute for new users. When we look at our U.S. performance it was pretty good on the strong quarter of last year in CAD CAM, this was partly due to some shipments of product in anticipation of our trade-in program, which is ongoing during this quarter. And we are pretty pleased with the results to-date. While the first upgrades programs usually are the most productive or larger ones, we expect that this current trade-in program will have good results as it looks from our point of view. And when you look at - to put this into perspective most of our CAD CAM sales went into new user sales here in the markets.

Brandon Couillard – Jefferies & Company

Thanks and then lastly, Simone can you quantify the magnitude of the FX impact on gross margins in the third quarter, should we expect a similar phenomenon in the fourth? And then just to make sure I’m clear, the new operating income guidance excludes the $6.5 million charge in the fourth quarter?

Simone Blank

Yes, to your question. And to your first question, the gross profit margin in the third quarter was impacted by FX, last year we had about 1.28 dollar euro exchange rates, this quarter 1.44. So, more than half of the margin compression on the segment basis was due to that variation. And if we look out to the fourth quarter, if the dollar exchange rate stays where it currently is we could see a similar development because the dollar was much stronger last year around the same time and that’s what we could expect. But longer term there’s no change in our margin profile or anything.

Brandon Couillard – Jefferies & Company

Great, thank you.

Simone Blank

Thanks.

Jost Fischer

Thank you, Brandon.

Operator

Our next question comes from the line of Elliott Feldman of Barclays Capital. Sir, you may proceed.

Elliot Feldman – Barclays Capital

Hey guys, good morning. Elliott filling in for Larry Marsh [ph], just a couple of quick questions if I could Imaging clearly showed some really solid results here. You know is there anything maybe shed some color on the price environment in this market I know it’s a very competitive market, I know the past couple of quarter you have elude to a relatively stable environment. Just want to know (Inaudible) and you saw a difference in what’s going on, when you look at 3D products versus some of the older products from pricing standpoint?

Jost Fischer

Good morning, Elliott. Yeah, from a price point of view there is no change in our pricing, it’s stable, it has been competitive, it is competitive, so that market is one of the most competitive ones here. Our pricing strategy takes into account our best-in-class product and the value we create for our dentist, I think clearly. Innovative products get a premium out there in the market and we are experiencing that. On the other hand market situations are always have to be taken into account specifically but I would note our margins are good in this arena.

Elliot Feldman – Barclays Capital

Thanks. And just lastly, I know you already talked about the CAD CAM segment being consistently double digit namely 13% or 15% or so over a longer period of time. And now (Inaudible) behind us, I know against FY ‘12 too much. Before that, is there any reason in that we shouldn’t think that’s what the still the case going forward in this market and the potential extension for the products illusion here over the next couple of years or so?

Jost Fischer

Yeah, nothing has changed from our long-term view of our CAD CAM specifically on CEREC. This is a double digit growing category it has been and that’s the side that we see.

Elliot Feldman – Barclays Capital

Okay, great. Thanks.

Jost Fischer

Thank you.

Operator

Our next question comes from the line of John Kreger of William Blair. Sir, you may proceed.

John Kreger – William Blair

Thanks very much. Yes, I think you mentioned a few times the strong momentum from the third quarter was carrying into the fourth quarter. Can you just elaborate a bit on that? Are there particular regions or particular categories where you’ve got a bit of backlog to fulfill on the quarter?

Jost Fischer

Yes. Good morning, John. As we just touched on Imaging is pretty strong and we have more orders then we could have fulfilled in Q3 and that momentum is continuing in our fourth quarter. When you look at regions, the international markets are strong for us and as I named Japan just finished a record quarter and that momentum is continuing. Australia, New Zealand is having a good traction, Germany is good, so from that point if you, I highlighted the most important one.

But do not forget John, as innovation is the hallmark of Sirona, the acceptance of our new product that is driving our growth and that’s also due for our Q4. We will start shipping (Inaudible) our Treatment Center towards the end of the quarter, not much impact but there will be more in 2012. But you see, we are getting our products on stream and that will drive growth.

John Kreger – William Blair

That’s great, thanks very much. A following question around the CAD CAM category. It sounds like you said most of the sales this past quarter were to new users which is great. How is the feedback been so far on the (Inaudible) upgrade? Do you think it is a big enough improvement over the prior versions to drive some trade-ins among existing customers as well?

Jost Fischer

John, you cannot imagine how much work we’ve put into this new software platform. That will define success going forward. And to give you some details as we look at that is, a) it goes into the market only towards the end of our fiscal year here starting right now, but the benefits are here for new users. It is easier to use even more intuitive out there and faster. So that’s the three points for new users. For existing customers, of course the speed that we offer to existing customers is something very immaturely. It speeds up the process, it goes faster and then we add.

The ability to work on multiple restorations simultaneously is a big step forward for high-productive dentist. And of course, the additional features that we have out there make things a lot easier, a lot finer. But for us, also we shouldn’t forget with the third party involved here, new users existing users, but for us, we will benefit from the modularity that we put it in there. Going forward, we can introduce new applications. Just for example for virtual articulation for ortho and other we are able to do that a lot easier, faster. We don’t have to rewrite the software. That is faster time to market, a lot more to come, versatility, all of these things John, that will impact CAD CAM specifically CEREC 2012 and beyond. So we are excited about 4.0 and its opportunity here.

John Kreger – William Blair

Great, thanks very much.

Jost Fischer

Thank you, John.

Operator

Our next question comes from the line of Ethan Roth of WJB Capital. Sir you may proceed.

Ethan Roth – WJB Capital

Hi guys, congrats. Terrific quarter here and thanks for taking my questions. First one is just on the ORTHOPHOS 3D product. I know you guys have had some really strong demand internally. The product was just recently launched I think the end of last quarter in the U.S. Can you just provide some commentary on how that launch is going so far and what demand looks like here?

Jost Fischer

Thank you, Ethan. As I stated, we have more orders than we could have fulfilled or manufacture in Q3 and that tells you about the success of our ORTHOPHOS line 2D as well as XG 3D or 3D offering. Both of them benefit from each other. The 2D product because it is upgradeable at any one time, which will present additional opportunity for sales when doctors wish to upgrade in the coming years and the 2D and 3D, which is a new category specifically appealing to general practitioners out there in that. This is a small category for Sirona at this point in time when you look at our total Imaging products, but it is growing very fast and we are very excited about this opportunity.

Ethan Roth – WJB Capital

Okay, thanks. And then just on the acquisition, you guys talked about an increase in spending it was about a little over $1 million dollars this quarter. How should we think about that going forward in fourth quarter and then also next year?

Simone Blank

Yeah, I will take that question. As this is a development company, you would see that impacting our R&D expense line going forward until the product is ready and then will impact the whole P&L. But it is not that material.

Ethan Roth – WJB Capital

So should we be modeling a step-up from here or pretty flat?

Simone Blank

We’ve just, Jost just told you that in this quarter it was about $0.7 million in R&D, so I would calculate a similar amount going forward fourth quarter.

Ethan Roth – WJB Capital

Okay, thanks very much.

Jost Fischer

Thank you, Ethan.

Operator

Our next question comes from the line of Jonathan Block of SunTrust. Sir, you may proceed.

Jonathan Block – SunTrust

Thanks guys, and good morning. Maybe the first question Simone on the SG&A, you talked about a lot of the initiatives you have had in building out infrastructure in some emerging markets, which seems to be, had been very successful on the top line. Can you give us any sort of a feel or guidance where you are in that process? And what you’ve done that and still derive some leverage along the way over the past two or three years. What inning are you in, in the emerging markets and can we see the leverage slightly pickup going forward? Thank you.

Simone Blank

Yes, we’ve done a lot already as you can see and our results demonstrate that and we will continue to invest in opportunities as we move to the next years and that will be an ongoing process. But having said that, if you look at our SG&A as a percentage of sales we expect to be lower than last year, this year and I gave guidance before that. We are looking at around 30% for this year, and I think we all expect some more leverage as we move through the next years on the SG&A.

Jost Fischer

But Jonathan, with this success we grow, I think that’s the measurement that we take. We grow our sales and if we see there is more opportunity we invest more.

Jonathan Block – SunTrust

Great, and then moving over to Redcam [ph], maybe a two part questions, Redcam, Bluecam, you have the upgrade of 2D Patterson of the upgrade promotion in the quarter, you saw some shipment. Is there any way to quantify of the gross margin impact within CAD CAM? You mentioned FX was a component, but what amount was attributable to the upgrade, and then the other part of the question would be just a general feel of what percent of your install base out there is still in the Redcam. We’ve done some work which shows around 40%, but any guidance would be great. Thank you.

Simone Blank

Yeah, I mean if you look at the growth profit margin then as explained more than half of it was foreign currency fluctuation driven and if you look at the remainder then half of the remainder approximately was related to this great promotion at the IDS (Inaudible), and then there are some smaller other factors that obviously influence this.

Jonathan Block – SunTrust

Okay and I am sorry. Can I kind of get from you the percent of your installed base still on Redcam?

Jost Fischer

Yeah, I would think it is about half.

Jonathan Block – SunTrust

Okay one last one if I can just throw in there. You talk about the 2D and 3D, the upgradeable and you are seeing the demand for the 2D component today because people are thinking forward when they want to go ahead and upgrade their practice to 3D. Can you speak to just the margin structure? I mean I am assuming essentially in a lot of ways the hardware the guarantee is going out today, at a slightly lower margin. When they go ahead and hit the switch and upgrade to 3D, and I know there is a small hardware part to that. But how do the margins play out? I mean just how much greater are the gross margins from what would largely be the software component on the 3D. Thanks guys.

Jost Fischer

First of all, I have to say Jonathan our margins are good in imaging, and from that point of view, we are pretty happy with where we stand in that process. The upgrade process will offer additional opportunities for us going forward and there is no change in the margin from a general point of view using the upgrade.

Jonathan Block – SunTrust

Great, thank you guys.

Jost Fischer

Thank you, Jonathan.

Operator

Our next question comes from the line of Scott Green of Bank of America/Merrill Lynch. Sir you may proceed.

Scott Green – Bank of America/Merrill Lynch

Hi, thanks for the questions. So first, we still think about the dynamic of around 75% of IDS sales hitting the current period, another 25% in the fourth quarter or would it be different this year?

Simone Blank

I mean, as we have seen we had a very strong quarter here in the third quarter and clearly the IDS was one of the last contributors to that development and so as we have indicated before, the majority of the IDS sales hit the third quarter and to a lesser extent of course.

Scott Green – Bank of America/Merrill Lynch

Okay, can you just remind us in terms of the timing of when you’ve been actually shipping the ORTHOPHOS 2D and 3D units at full power internationally? When did that start and then in the U.S. what kind of capacity are you at, at this point?

Jost Fischer

We started shipping the 2D and 3D units in the second quarter just before IDS and we began with full swing in the May-June timeframe, so just during this quarter and everything has run-in smoothly so far.

Scott Green – Bank of America/Merrill Lynch

Alright, and then I remember back in 2007 when you had just launched Galileos you actually told us how many units you sold at the launch, and I was hoping you would be willing to share with us how many 2D and 3D units you sold in this period.

Jost Fischer

Nice try Jonathan, but we do not give that level of details and that was a onetime 2007 event that we did back.

Scott Green – Bank of America/Merrill Lynch

Okay, could you tell us, you talked about the growth rates for Galileos in the period, did you see any decline in the Galileos growth rate if dentists are preferring to buy the 2D, 3D Orthophos instead of the compact or did it not materially impact Galileos sales?

Jost Fischer

No, we look at our 3D category as a growing category. We are market leader in here that shows in our numbers and we are pretty happy with where we are and from that point of view, it is going to be a great category going forward as it is a great category to-date.

Scott Green – Bank of America/Merrill Lynch

Alright, and you talked about pipeline being as full as it has ever been. I usually think about the odd numbered years being associated with the bigger product launches because of IDS, so thinking about 2012, do we think the 2012 as benefiting primarily from the new product launches that you just brought out at IDS or did your commentary about the pipeline suggest there could some more product introductions next year even in a non-IDS year?

Jost Fischer

Well, innovation is the hallmark of Sirona and we do not stop inventing, we do not stop working on those things. And as I outlined earlier, most of the products we launch at IDS will hit our top line in 2012 and beyond, and second to this, our existing products, most of them are still early in their cycle, look at Galileos, look at 2D, 3D are out there. But having said that, we don’t stop innovating and our pipeline is full as I said. No specifics here at this point in time.

Scott Green – Bank of America/Merrill Lynch

Okay, thank you.

Jost Fischer

Thank you Jonathan.

Operator

(Operator Instructions) Our next question comes from the line of Jeff Johnson from Robert Baird. Sir you may proceed.

Jeff Johnson – Robert Baird

Good morning guys. Most of my questions have been asked already, but let me ask one more on Orthophos, just on the 2D, 3D side, around the 3D side. Where are you capacity-wise I guess to maybe support a US upgrade program. Obviously you have big installed base on the 2D side, some big potential there, if you would offer an upgrade program on the 3D side. Is capacity at the extent of this point I guess that we could consider maybe a calendar fourth quarter type of went there or where are you thinking timing-wise?

Jost Fischer

Good morning Jeff. From our point of view, we had more orders than we could fulfill absolutely. We are doing a lot to alleviate and our growth numbers in Q3 already showed you that we have done a lot already, but when we look at this market currently, we offer a 3D ready product which enables the doctors to purchase a 2D system which then is upgradeable. But right now, we are focusing on new user sales on the 2D, 3D side too, but going forward, we will have that opportunity to upgrade. So certainly not Q4 but likely 2012 and beyond, I mean that’s the multiyear opportunity that we are going to explore.

Jeff Johnson – Robert Baird

Great, alright that’s helpful. Thank you. And then in Germany your comments are helpful there especially with still with the backlog of orders going into the fourth quarter here but you are living there I guess on a daily basis. How do we think about the appetite for purchases where we stand today, not just the tailwinds that might still be kind of residual from IDS? Obviously you see some manufacturing numbers and some other macro data, even in Germany softening up over the last, I will call it two months or so, especially over the last month, what do you see I guess, Jost just in daily life over there right now as far as appetites for consumption on some of the bigger capital equipment size of things?

Jost Fischer

Yeah, I think we see a positive outlook here because dentists who are investing in high technology that provides a return to them, and from that point of view the macro environment certainly is, there are concerns about that, but as I said there is more our story than just the economy, so innovation as I said high technology that provides a return on the investments expanding our global sales and service structure is one, and also Jeff, we are taking market share. That all contributes to the attractive profile of Sirona in these times here.

Jeff Johnson – Robert Baird

Alright, great, one last I guess bigger picture question then maybe a model or two question for Simone. In Australia Jost, I heard you referenced that several times and the strength there. You are also running I think some pretty sizable discounts and promotional activity in Australia at this point over the last quarter and extending now into the fiscal fourth quarter, so I am just trying to kind of piece together, look at the academy of those two things, if things are going so well there what’s driving maybe the uptake on the promotional side there, at least some of the data we’ve seen?

Jost Fischer

Well, promotional is just part of our ongoing business. Do not forget Australian dollar has transcended significantly, so from the margin point of view, that doesn’t impact us at all out here. But we are pretty happy with our market share, with our growth with the situation we have in Australia and New Zealand.

Jeff Johnson – Robert Baird

Alright, that’s helpful. And then Simone, couple of just modeling questions here. One, just on effects, I know you guys constant currency growth but the Euro kind of hanging out at above 41 or so, I just don’t know what your internal thoughts are on mix of business, but is it fair to think the top line benefits in fourth quarter, probably somewhere in the upper single digit range, maybe not quite as strong as this quarter, but at least close to that in the fourth quarter?

Simone Blank

Yeah, we see it in the like mid single digit range a little bit.

Jeff Johnson – Robert Baird

Yes okay, that’s helpful. And then last question, really on this quarter I understand what you are saying about the incremental investments on the emerging market side and Jost your comment on kind of investing some of the upside as you see it as it comes through, but there has to be bit of a timing mismatch there and I was just a bit surprised that the incremental margin wasn’t a bit stronger off 24% constant currency growth this quarter. I guess just a little clarity here, little held on why a 24%, we didn’t see them better leverage on the fixed cost side and some of those things that could have driven even higher operating profit in the quarter.

Simone Blank

No, I think we have seen leverage on fixed cost. If you look at the SG&A percentage of sales this quarter it is below today’s average, it’s around 28% and we said that we expect to be lower for year, lower than last year; however, having said that if you invest into certain markets, you always have a mix. This investment is more mature and you get the full leverage and where the investment just starts and why you don’t get the full leverage yet, so there’s always a little bit of a mix, but we are pleased with the performance and we look at what we’re investing, what we’re doing and what the results are that these investments are yielding.

Jeff Johnson – Robert Baird

Alright, that’s all I’ve got. Thank guys.

Simone Blank

Thank you.

Jost Fischer

Thank you Jeff.

Operator

Our last question comes from Tycho Peterson of JP Morgan. Sir you may proceed.

Tycho Peterson – JPMorgan

Good morning. It’s (Inaudible) for Tycho. I have two questions on the imaging segment. I guess first one, either capacity constraint in the segment even though it has been growing quite rapidly here for several course. How do you think about the manufacturing capacity you have versus any potential need to expand it?

Jost Fischer

Yeah, first of all I thank you for recognizing that we’ve been having substantial growth with the orders we had. So we have done a lot. I am very proud of our team that has been able to grow capacity substantially and we keep on investing here and we have a lot of things working to remove those things. There will be a couple quarters that will be alright, but we are doing a lot here and we have already done most of the way.

Tycho Peterson – JPMorgan

Okay thanks. And then I guess also on the margin specifically the growth margins within imaging. Could you help us understand how much of the decline was due to effects versus mix in your products? Thank you.

Simone Blank

Yes, more than half of the decline was due to effects in this quarter, and then the rest was driven by mix and we said that last quarter before because we had such a strong growth and to a very large extend also in the 2D Orthophos area that impacted our gross profit margin.

Tycho Peterson – JPMorgan

Thank you very much.

Simone Blank

Thank you.

Jost Fischer

Alright thank you.

Operator

That was out last question, I would now turn the call back over Mr. Fischer for closing remarks.

Jost Fischer

Thank you for joining us today. I look forward to updating you on our next quarterly conference call in November. Thank you very much and have a nice day.

Operator

Thank you for your participation in today’s conference call. This concludes the presentation. You may now disconnect and everyone have a wonderful day.

Copyright policy: All transcripts on this site are the copyright of Seeking Alpha. However, we view them as an important resource for bloggers and journalists, and are excited to contribute to the democratization of financial information on the Internet. (Until now investors have had to pay thousands of dollars in subscription fees for transcripts.) So our reproduction policy is as follows: You may quote up to 400 words of any transcript on the condition that you attribute the transcript to Seeking Alpha and either link to the original transcript or to www.SeekingAlpha.com. All other use is prohibited.

THE INFORMATION CONTAINED HERE IS A TEXTUAL REPRESENTATION OF THE APPLICABLE COMPANY'S CONFERENCE CALL, CONFERENCE PRESENTATION OR OTHER AUDIO PRESENTATION, AND WHILE EFFORTS ARE MADE TO PROVIDE AN ACCURATE TRANSCRIPTION, THERE MAY BE MATERIAL ERRORS, OMISSIONS, OR INACCURACIES IN THE REPORTING OF THE SUBSTANCE OF THE AUDIO PRESENTATIONS. IN NO WAY DOES SEEKING ALPHA ASSUME ANY RESPONSIBILITY FOR ANY INVESTMENT OR OTHER DECISIONS MADE BASED UPON THE INFORMATION PROVIDED ON THIS WEB SITE OR IN ANY TRANSCRIPT. USERS ARE ADVISED TO REVIEW THE APPLICABLE COMPANY'S AUDIO PRESENTATION ITSELF AND THE APPLICABLE COMPANY'S SEC FILINGS BEFORE MAKING ANY INVESTMENT OR OTHER DECISIONS.

If you have any additional questions about our online transcripts, please contact us at: transcripts@seekingalpha.com. Thank you!

Source: Sirona Dental Systems CEO Discusses F3Q2011 Results - Earnings Call Transcript
This Transcript
All Transcripts